Monetary Policy
Monetary PolicyIn exploring monetary policy in the United States, it is essential to define what is
meant by monetary policy. Monetary policy can be defined as the policy decisions and actions by the Federal Reserve System (Fed) that affect the banking system and money supply. This may seem vague, but by decisions and actions, we mean the goals, tools, and targets of the Fed.
In the following paper, I will look at monetary policy, "under a microscope." The Fed itself will be looked at, regarding the components of the unique system. Then, the goals of monetary policy will be explained, followed by the tools used to achieve these goals. Next, the instruments used to attain the goals and tools will be explored. Finally, I will look at monetary policy in the United States since 1970, to see the pattern that the Fed has used.
FEDERAL RESERVE SYSTEM
Founded in 1913 by an act of Congress, the Fed is the central bank of the United States. The Fed is a complicated institution with many responsibilities, including the regulation and supervision of over 10,000 commercial banks. The organization of the Fed is included in the Appendix to this paper.
The Board of Governors is the most important group within the Fed. The Board consists of seven members, each appointed for 14 years by the President of the United States. The chair of the Fed, also appointed by the President, has a term of 4 years, and is sometimes said to be the second most powerful man in the country. The Fed is an inde-pendent agency, and thus does not take orders from either the President or Congress.
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The US is divided into 12 Federal Reserve districts, each having its own Federal Reserve bank. (These districts can also be seen in the Appendix.) The district banks are like branch offices of the Fed, carrying out the rules, regulations, and functions of the Fed. The banks report to the Board of Governors on local economic conditions.
The US monetary policy is formally set by the Federal Open Market Committee (FOMC). The FOMC consists of the seven members of the Board of Governors, the president of the NY Federal Reserve Bank, and, on a rotating basis, four of the presidents of the other eleven banks. The FOMC sets goals regarding the money supply and interest rates, and it directs the Open Market Desk in the NY Federal Reserve Bank to buy or sell government securities. (These open market operations will be discussed at length, later on in the paper.) (2, page 268)
As noted before, the Fed is the central bank of the US Central banks are known as "banker's" banks, because only banks can do business with them. Although the Fed's crucial role is to control the money supply; it...
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