By Daniella Hebert - The Ursuline School
What is the Federal Reserve? What does it do? More importantly, what does it matter to me? You’ve probably heard about the Federal Reserve in the news or recognize the name from the money you used to buy your coffee this morning, but truly understanding how the system works can help you to better understand our economy.
1. The Federal Reserve is not actually a government agency.
The Federal Reserve is the central bank of the United States, but is made up of 12 regional banks that are privately owned. The belief that the Fed is a part of the federal government is a common misconception, especially because of its close ties to the U.S. Treasury, the President’s power to appoint board members, and Congress’ power to amend the Federal Reserve Act at any time.
Why isn’t the Federal Reserve a part of our government? Ideally, it would seem easier to have our national bank under federal control, but the separation into 12 Districts has a reason. As stated on the Federal Reserve Education website, “...it stood as a classic example of compromise—a decentralized central bank that balanced the competing interests of private banks and populist sentiment.”
Basically, the Federal Reserve combines the need for a national bank and the desire for privately owned banks, in order to prevent the government from making decisions about the economy simply for political advantages.
2. Who runs the Fed?
Janet Yellen. It used to be run by Ben Bernanke who managed the Fed during the last financial crisis. He probably is taking a long nap.
3. The Fed is essentially the “bank for banks” and the “bank for the government.”
The Federal Reserve acts as a “banker’s bank” by serving large financial institutions the way that banks serve people. The Fed also lends money to other member banks when needed and protects our nation’s payments system by handling the transfer of money between banks.
The Federal Reserve System acts as the “government’s bank” by handling the government’s outgoing payments and money gained through taxes. The Treasury essentially has a checking account with the Federal Reserve, also allowing the Fed to sell and redeem government securities.
4. The Fed doesn’t print our currency.
Even though “United States Federal Reserve System” is one of the first things you see when you look at any U.S. dollar (ironically also known as a “Federal Reserve Note”), this logo can be misleading because the Fed is not responsible for actually printing money. Printing currency is the job of the U.S. Treasury Department, which is in fact a part of the national government. The Federal Reserve is in charge of managing the supply of this printed money by distributing it to financial institutions and removing damaged currency from circulation.
5. The Federal Reserve is responsible for Monetary Policy
The Federal Reserve attempts to regulate the growth of our economy and reduce inflation by either lowering or raising interest rates when needed. This is known as Monetary Policy.
If the economy is growing rapidly, the Fed will sometimes choose to raise interest rates, in turn making it more expensive to borrow money and helping to prevent inflation. If the economy is slowing or experiencing a recession, the Fed will often lower interest rates to make it cheaper to borrow money and encourage spending. Whether or not the Fed is planning to raise interest rates is often spoken about in the news, as an increased price for borrowing money affects almost all Americans to some degree.
For example, an increase in rates affects things like the savings rate on your bank account. Any money you have in the bank could earn even more valuable over time!