Transcript The Federal Reserve and Monetary Policy

The Federal Reserve & Monetary Policy
Essential Standards
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The student will explain the role and functions of
the Federal Reserve System.
The student will describe the organization of the
Federal Reserve System.
The student will define monetary policy.
The student will describe how the Federal Reserve
uses the tools of monetary policy to promote price
stability, full employment and economic
growth.
The student will explain how changes in monetary
policy can impact an individual’s spending and
savings choices.
The Federal Reserve Act of 1913
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Created the Federal
Reserve System…
Usually referred to as
“the Fed”.
It is composed of 12
regional banks…
Overseen by a board of
governors…
That lend money to
private banks— “The
Lender of Last Resort”.
All private national banks
are required to join the
Federal Reserve System.
Janet Yellen
Chair of the
Federal Reserve
The
Role
of the
Fed
• The Fed is the bank of the United States…
• It processes all government payments
(social security, IRS refunds, etc.)…
• It also makes interest payments on
government bonds…
• And is responsible for issuing currency.
The
Banking
System
The Fed provides “check clearing” services for
member banks…
► The process by which banks record whose
account gives up money…
► And whose account receives it.
► It also supervises all lending practices…
► And makes sure that customers receive
accurate information from lenders—terms,
conditions, interest, etc.
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Reserves
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Banks hold only a
fraction of their funds in
reserve…
The rest has been lent
to its customers.
The Fed ensures that
each bank keeps the
required amount in
reserve.
The amount the bank
must keep on hand is
called the…
Required Reserve Ratio
(RRR).
Monetary Policy and the Money Supply
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The most important role
of the Federal Reserve
is in controlling the
money supply—
The total amount of
currency held by
individuals, plus money
in bank accounts.
By controlling the
money supply, the Fed
influences…
The growth of the GDP.
The rate of inflation.
Which of the following is NOT
a power held by the Federal
Reserve?
A.) setting tax rates.
B.) controlling the RRR.
C.) conducting monetary policy.
D.) overseeing lending practices.
E.) paying interest on government loans.
Influencing
the Money
Supply
The Fed controls the amount of money in the economy
by three methods:
1. Altering the Reserve requirement:
—Reducing the RRR…
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Increases the money supply (bank loans are allowed to
lend more money)
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—Increasing the RRR…
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Reduces the money supply (bank loans are limited).
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Influencing
the Money
Supply
Open Market Operations…
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When the Fed buys government bonds/securities,
bond sellers receive money that enters the
economy…
…and the money supply…
—Increases.
…When the Fed sells bonds/securities, the money
supply…
—Decreases.
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Influencing the Money Supply
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Setting interest rates.
The discount rate—the
interest rate the Fed charges
on loans to other banks.
Lowering the discount rate
makes loans cheaper…
Banks respond by lowering
the Prime Rate—
The interest rate that banks
charge their customers.
When the discount rate is
lowered, the money supply…
INCREASES.
Which of the following would
lead to an INCREASE in the
money supply?
A.) an increase in the RRR.
B.) a reduction in tax rates.
C.) the Fed’s purchase of government securities.
D.) the construction of a highway.
E.) an increase in the discount rate.
Which of the following would
lead to a DECREASE in the money
supply?
A.) the Fed’s sale of government securities.
B.) a decrease in the RRR.
C.) a decrease in the discount rate.
D.) an increase in marginal tax rates.
E.) the construction of a new stadium.
Money Supply Philosophy: Tight Money
Tight Money Policy—usually
introduced in periods of
expansion and inflation.
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The Fed will DECREASE the
money supply, which will slow
down the economy.
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There are three methods:
1. The RRR…
increase it!
2. Government securities…
sell ‘em!
3. The discount rate…
increase it!
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Money Supply Philosophy: Easy Money
Easy money policy—is
usually introduced during
times of contraction or
recession…
 Is it designed to pump
money into the economy
to get it moving again.
 There are three methods:
1. The RRR…
lower it!
2. Government securities…
buy ‘em!
3. The discount rate…
lower it!
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In 2008, US GDP declined by
more than 2%. In response,
you might infer that the
Federal Reserve...
A.) instituted a period of tight money policy.
B.) called for an increase in marginal tax rates.
C.) raised the discount rate by 3%.
D.) instituted a period of easy money policy.
In 2014, US GDP grows by more than
18%. This causes rates of inflation that
exceed 7% and the Federal Reserve
responds by...
A.) raising the discount rate by eight points.
B.) buying back billions of dollars in government
securities.
C.) lowering the RRR by 3%
D.) instituting a period of easy money policy.