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The Federal Reserve System: A Case Study

883 Words4 Pages

A central bank is a financial institution that focuses on private bank regulation, the creation of monetary policies, and at the same time provides other financial services such as government banking, electronic payment services, and check collection. In the United States, the Federal Reserve System plays the role of a central bank; monitoring inflation, promoting economic growth, and working towards preserving the purchasing power of the dollar. In this paper, we explore some of the monetary policy tools available to the Federal Reserve, the effects of expansionary activities on interest rates,
The Federal Reserve is an independent agency, meaning that it operates with little to none governmental intervention (Koba, 2015). Thus, giving the …show more content…

Within limits specified by law, the Board of Governors has sole authority over changes in reserve requirements. Depository institutions must hold reserves in the form of vault cash or deposits with Federal Reserve Banks (para. 1).
It’s also important to note that the Federal Reserve is also in charge of creating expansionary and contractionary monetary policies; the former aimed to stimulate economic growth and the latter to fight inflation. Reserve Requirements can increase and decrease the money supply so they are seen as expansionary and contractionary activities.
When the Federal Reserve decides to reduce the reserve requirements they are engaging in expansionary activities because it increases the money supply; letting banks loan more to businesses, individuals, and investors and decreasing the interest rates. On the contrary, when the Federal Reserve decides to increase the reserve requirements they reduce the money supply; leaving banks with less money to lend and increasing interest …show more content…

Louis, 2016). As we have already discussed, the Federal reserve can affect interest rates by manipulating the money supply; Open Market Operations are just another way to do that. By purchasing bonds from private banks, the Federal Reserve directly increases the amount of money a bank has available for lending to businesses and individuals, which in turn decrease interest rates and vice versa (Federal Reserve Bank of St. Louis, 2016). The federal Reserve can also influence the money supply by purchasing Trading Securities, with the added effect of higher security prices.
In lowering interest rates via expansionary policies, the Federal Reserve indirectly affect credit availability because if the interest rates are low then more people are willing to take loans for housing, transportation purchases, or investment.
Another thing the Federal Reserve can do to manipulate the economy is purchase foreign currency to devaluate the dollar; which can be beneficial to increase exports when the dollar is too strong compared to other currencies.
To answer to this week’s added question: If the Federal Reserve decided to purchase $10 billion worth of foreign currency in exchange for deposit accounts, the Federal Reserve would expand bank credit

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