The Federal Reserve System: Structure and Functions – Free Essay Examples

The Federal Reserve System: Structure and Functions

Abstract

The Federal Reserve System, or The Fed in short, essentially fulfills the role of the U.S. central bank. The Federal Reserve has a well-developed, multilevel structure and possesses several vital functions, crucial for the U.S. economy. The Fed’s decisions have a significant impact on stock markets, financial institutions, and interest rates. Therefore, it would be helpful to obtain the framework knowledge of its structural elements and primary functions.

Federal Reserve: The Structure

When describing the Federal Reserve’s structure, it seems logical to refer to the System itself. According to the Federal Reserve, the U.S. central bank consists of three main elements: the Board of Governors, Federal Reserve Banks, and the Federal Open Market Committee (FOMC) (Federal Reserve System, 2016). A more detailed breakdown of each Federal Reserve’s vital structural elements is provided in the further subsections.

The Board of Governors

The Board of Governors serves as the governing body of the whole Federal Reserve. The Board is headed by seven “governors,” specifically nominated by the President of the United States and approved by the U.S. Senate. Each Board member serves a staggered 14-year term, with new members appointed every two years (Amadeo, 2021c). The exception of that rule is the Board’s Chair and Vice-Chair, who are allowed to serve only 4-year terms. Overall, the Board’s primary responsibility lies in overseeing the 12 Reserve Banks’ activities, providing general guidance, and conducting customer-focused supervision.

Federal Reserve Banks

12 Reserve Banks and their 24 Branches act as the Federal Reserve’s operating force. They are responsible for supervising state member banks, ensuring the financial system’s liquidity, providing critical financial services, and examining financial institutions (Federal Reserve System, 2016). Each Reserve Bank operates within a particular geographic area of the United States (Federal Reserve System, 2016). The economic data they gather is used by the Board and FOMC in shaping the monetary or other policies.

Federal Open Market Committee

FOMC conducts monetary policy for the Federal Reserve to maintain maximum employment, stable prices, and reasonable interest rates. The Committee consists of 12 voting members: the Chair, the Vice-Chair, six Board of Governors members, and four Reserve Banks directors (Amadeo, 2021b). The FOMC meets eight times a year to define the federal funds rate, which influences the entire U.S. economy (Federal Reserve System, 2016). The Committee also holds the authority over the operations on the foreign exchange markets.

Federal Reserve: The Primary Functions

The Federal Reserve System defines five essential functions which provide the effective operation of the U.S. economy and the general well-being of the U.S. citizens. According to the Federal Reserve, these functions are the following:

  • Conducting monetary policy: the U.S. Congress set three mandated goals for the monetary policy: maximum employment, stability of prices, and moderate long-term interest rates (Federal Reserve System, 2016). To achieve them, the Federal Reserve implements traditional and non-traditional types of monetary policies. The combination of these policies allows to adjust the economy when necessary;
  • Promoting financial system stability: the Federal Reserve focuses on creating and maintaining a stable financial system (Federal Reserve System, 2016). In a system like that, financial institutions and markets can provide the citizens with all necessary resources, products, and services;
  • Supervising and regulating financial institutions and activities: these activities are complementary; the Federal Reserve creates a ruleset within which the financial institutions must operate, and monitors, that they follow the established rules (Federal Reserve System, 2016);
  • Fostering payment and settlement system safety and efficiency: an efficient economy is unthinkable without reliable payment methods. The Federal Reserve supervises all forms of financial transactions, purchases of goods and services, and money movement at all levels of the U.S. economy (Federal Reserve System, 2016);
  • Promoting consumer protection and community development: the Federal Reserve seeks to promote a fair and transparent approach to financial services provision. To achieve that goal, the Federal Reserve facilitates various customer protection, fair housing, fair lending, and community reinvestment initiatives (Federal Reserve System, 2016).

Overall, the Federal Reserve implements a broad complex of measures within its five primary functions. It has a selection of powerful tools at its disposal, such as federal funds rates and reserve requirements for banks (Amadeo, 2021c). As a result, the Fed can affect financial institutions, the stock market, employment, and interest rates. The particular impact of the Federal Reserve’s policies may vary, depending on what outcome is desirable in a given situation.

Federal Reserve’s Policies: The Effects

Given the universal nature of the Federal Reserve’s influence over the U.S economy, it is not surprising that its policies can potentially affect markets, institutions, and financial rates in multiple ways. The Federal Reserve’s mission lies in causing specific effects to adjust the national economy and achieve the goals set by Congress. The Federal Reserve’s actions have the potential to affect the following elements:

  • Financial markets: the Federal Reserve’s actions tend to cause immediate effects on stock markets. For instance, large companies with stable cash flows tend to win when the Fed lowers the rate (Hall, 2021);
  • Financial institutions: creating regulations for financial institutions such as banks is one of the Fed’s key functions. For instance, on March 15, 2020, the Federal Reserve set its reserve ratio requirement for all banks to zero (Amadeo, 2021a). After that, it became easier for the banks to lend out during the COVID-19 pandemic;
  • Interest rates: federal fund rate indirectly affects what customers pay to banks. For example, in March 2021, the Federal Reserve decided to keep the rate at zero. As a result, the customers can save money on refinancing auto loans or get a personal loan at a lower rate (Reinicke, 2021). Therefore, the results of FOMC meetings have a clear impact on U.S. citizens.

Federal Reserves: The Data Series

The Federal Reserve bodies conduct researches to evaluate the condition of the economy. Their results are used for shaping policies and are generally provided in the form of indexes. All index examples offered below have been taken from the Federal Reserve Economic Database (Federal Reserve Economic Data [FRED], 2021):

  • Consumer price index for all urban consumers: all items in U.S. city average (CPIAUCSL): shows a measure of the monthly change in the price for goods and services paid by urban consumers. This index is useful for monitoring inflation rates, which affect the price of goods;
  • Real gross domestic product: this index represents the gross domestic product (GDP) with an adjustment to the inflation rate. Therefore, it is useful for understanding the actual growth of the economy since nominal GDP can artificially rise due to inflation;
  • Industrial production: total index: a monthly index represents the total output of the U.S industrial facilities. This index is particularly helpful for seeing trends in the development of U.S.-based industries.
  • 10-Year treasury constant maturity rate: this index shows the theoretical value of the U.S. Treasury. This data is often used for adjusting the mortgage rates;
  • U.S. / Euro foreign exchange rate: this index shows the amount of U.S. dollars equal to 1 Euro. This data is especially useful for American companies involved in international trade with European partners;
  • Unemployment rate: a self-explanatory index shows the unemployment rate across the U.S. population. The Federal Reserve can use it as a sign for implementation of employment-related policies;
  • All employees, total nonfarm: this monthly index shows about 80% of total employees, contributing to the U.S. GDP. Therefore, it allows to see the monthly gain or loss in active workplaces, highlighting such trends as growth and recession in the economy;
  • Initial claims: a weekly-updated index that shows the number of claims filed after the separation from an employer. Combined with unemployment data, this index helps to create a picture of the current unemployment situation.

Even an ordinary Internet user can openly access these indexes and get a glimpse of understanding of the current situation in the U.S economy. For the professionals from the Federal Reserve, this data might be vital in developing correct economic policies under challenging circumstances, such as times of recession and mass unemployment. Their decisions affect hundreds of millions of people worldwide, so the Fed must rely on research data before taking any steps.

References

Amadeo, K. (2021a). Federal Reserve tools and how they work. The Balance. Web.

Amadeo, K. (2021b). FOMC: What it is, who is on it, and what it does. The Balance. Web.

Amadeo, K. (2021c). What is the Federal Reserve Board of Governors? The Balance. Web.

Hall, M. (2021). How do interest rates affect the stock market? Investopedia. Web.

Reinicke, C. (2021). Here’s how the Fed decision impacts your wallet. CNBC. Web.

The Federal Reserve System. (2016). The Federal Reserve System purposes & functions. Web.

Federal Reserve Economic Data. (2021). Web.

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UniPapers. (2022, July 29). The Federal Reserve System: Structure and Functions. Retrieved from https://unipapers.org/free-essay-examples/the-federal-reserve-system-structure-and-functions/

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"The Federal Reserve System: Structure and Functions." UniPapers, 29 July 2022, unipapers.org/free-essay-examples/the-federal-reserve-system-structure-and-functions/.

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UniPapers. "The Federal Reserve System: Structure and Functions." July 29, 2022. https://unipapers.org/free-essay-examples/the-federal-reserve-system-structure-and-functions/.

References

UniPapers. 2022. "The Federal Reserve System: Structure and Functions." July 29, 2022. https://unipapers.org/free-essay-examples/the-federal-reserve-system-structure-and-functions/.

Reference

UniPapers. (2022, July 29). The Federal Reserve System: Structure and Functions. https://unipapers.org/free-essay-examples/the-federal-reserve-system-structure-and-functions/

References

UniPapers. (2022) 'The Federal Reserve System: Structure and Functions'. 29 July.