Chapter 4 Notes - Chapter 04 The Federal Reserve System Monetary Policy and Interest Rates 6th edition Chapter Four The Federal Reserve System Monetary

Chapter 4 Notes - Chapter 04 The Federal Reserve System...

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Chapter 04 - The Federal Reserve System, Monetary Policy, and Interest Rates 6 th edition Chapter Four The Federal Reserve System, Monetary Policy, and Interest Rates I. Chapter in Perspective This chapter presents an overview of the Federal Reserve System, including a brief look at its history and structure. The major functions performed by the Fed are covered and the balance sheet of the Fed is examined. The chapter provides the reader with a non- technical explanation of the effects of monetary policy on interest rates and the economy. The deposit growth multiplier concept is introduced and a simple ‘transmission mechanism’ depicting the effects of a change in Fed policy on the economy is presented. Different monetary targets such as borrowed and non-borrowed reserves and interest rate targets are also discussed. Intervention into foreign exchange markets is also briefly covered. The new edition also discusses the Fed’s rescue programs employed during the financial crisis. II. Teaching Notes 1. Major Duties and Responsibilities of the Federal Reserve System: Chapter Overview The Federal Reserve was created in 1913 in response to a series of U.S. financial panics which culminated in a particularly severe panic in 1907. The Fed was created to serve as a lender of last resort, as a bank regulator and as a monitor of the money supply. Current objectives of the Fed include stimulating sustainable non-inflationary economic growth while keeping employment high . Not everyone agrees with the dual mandate of the Fed. Monetarists feel that the Fed’s purpose should be to limit inflation. The Fed also assists in facilitating the nation’s payment systems. The Fed operates the Fed Wire which facilitates trading of bank reserves and an Automated Clearing House (ACH), which is a similar payments mechanism for debit and credit transactions. 1 The Fed is largely independent of Congress and the President, at least in the short run. The Humphrey- Hawkins Act of 1978 however requires the Fed to present their monetary policy goals and an assessment of how well they are meeting their goals to Congress twice a year. The four major functions of the Fed today include: a) conducting monetary policy, b) supervising and regulating depository institutions, 3) maintaining the stability of the financial system and 4) providing payment and other financial services to many institutions, including governments. 2. Structure of the Federal Reserve System 1 The Clearing House Interbank Payments System (CHIPS) provides yet another payment mechanism. CHIPS is a private sector electronic network operated by about 100 U.S. and foreign banks to facilitate correspondent services and international transactions. 4-1
Chapter 04 - The Federal Reserve System, Monetary Policy, and Interest Rates 6 th edition a. Organization of the Federal Reserve System There are 12 Federal Reserve Banks (FRBs) located throughout the country. The structure was originally intended to disperse power along regional lines throughout the country. To

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