Federal Reserve System
and Monetary Policy
• The amount of _______
in an economy
MONEY
is important because it affects the level
of __________
in a country.
SPENDING
INFLATION
• Too much spending can cause ________
while too little spending can cause
UNEMPLOYMENT and declining levels of
____________
PRODUCTION
_________.
• In the United States, Congress has
assigned the responsibility for
controlling the money supply to the
_______
________
FEDERAL ________
RESERVE
SYSTEM
FED has
• The Federal Reserve System or “____”
functioned as the central bank of the United
States since ____.
1913
• It consists of a ___-member
Board of
7
Governors in Washington, D.C., plus ___
12
regional banks throughout the country. Our
Federal Reserve Bank is in Dallas.
Ben Bernanke,
Chairmen of
the Federal
Reserve
Federal Reserve
Bank of Dallas,
Houston Branch
How do we print money?
• The Federal Reserve System is designed
NON-POLITICAL as possible.
to be as ____________
• We achieve this by…
– The Governors serve staggered 14 year
terms
– The Fed does not rely on appropriations from
congress (that is money to run it)
– The governors’ terms end in January of even
numbered years, so one president does not
get to appoint many governors
A Central Bank
• As a central bank, the Fed manages the
MONEY _______
SUPPLY
______
by influencing the
lending activity of commercial banks and
other financial institutions.
• But the major part of its direct
influence comes about through its
relationship and dealings with
COMMERCIAL ______,
BANKS
_________
from which the
effects spill over to the financial
WHOLE
system as a ______.
• The deliberate actions of the Federal
Reserve System to EXPAND
______ or _______
CONTRACT
the money supply are called ________
MONETARY
POLICY
______.
They purpose of monetary
policy is to maintain the trend of
ECONOMIC _______,
OUTPUT
EMPLOYMENT and
_______
__________
_______
at desired levels. The Board
PRICES
of Governors and twelve heads of the
8 times
regional banks regularly meet ___
a year to decide on Federal Reserve
monetary policy.
Expansionary or Contractionary
• A policy of Fed designed to expand the
growth of money and credit in the economy is
EXPANSIONARY (or loose)
known as an _____________
monetary policy.
• A policy to restrict the growth of money and
credit in the economy is known as a
_______________
CONTRACTIONARY (or _____)
TIGHT monetary
policy.
MONEY can cause
• The creation of too much ______
_________,
INFLATION and the creation of too little
RECESSION
money can cause a ___________.
What is Inflation or Deflation?
• The Fed has three primary tools with
which to carry out monetary policy.
These are:
OPEN ________
MARKET __________,
OPERATIONS
– (1) _____
RESERVE ___________,
REQUIRMENT
– (2) ________
DISCOUNT _____.
RATE
– and (3) the _________
Open Market Operations
• Open market operations refer to the Fed’s buying
SECURITIES (like
and selling of U.S. government __________
savings bonds) in order to ____
ADD (+) or to
SUBTRACT (-) from the reserves of the nation’s
________
commercial banking system.
• Government securities, such as U.S. Treasury
_____,
BILLS ______,
NOTES and ______,
BONDS are issued by the
U.S. Treasury in return for money borrowed from
individuals and businesses in order to finance
government spending.
• If the Federal Reserve wants to put
BUYS some
money into the economy, it _____
of these government securities by
writing a check to itself. If for
$10,000 worth
instance, the Fed buys _______
of government with such a check, it
$10,000
creates the _______
used to pay them.
• The sellers are not $10,000 richer,
since they no longer own the securities,
but the money supply grows because
NEW ______
MONEY in
there is $10,000 of ____
the economy.
• If the Fed wants to purse a
CONTRACTIONARY
____________ monetary policy, it
______
SELLS some of the government
securities it owns.
• The money that is paid to the Federal
Reserve for these securities is
REMOVED
________
from the economy, so the
money supply _______.
SHRINKS
• Open Market Operations are the most
frequent used _____
TOOL of the monetary
policy
Reserve Requirement
• A second important tool of monetary
RESERVE
policy consists of ________
REQUIREMENTS for bank deposits. The
____________
Federal Reserve requires that banks
FRACTION of
keep as reserves a certain ________
the deposits they hold. These reserves
must be kept as balances at Federal
Reserve banks or as ______
the banks
CASH
VAULT
CASH
have on hand (i.e., ______
______).
Banks that fail to meet their reserves
are subject to monetary penalties.
LENT
These reserves cannot be _______
to
borrowers.
Reserve Requirements
• If the Fed wants to pursue a
CONTRACTIONARY monetary policy, it
_____________
can ______
reserve requirements,
RAISE
thereby restricting the amount of funds
bank can lend.
• If the Fed wants to pursue an
EXPANSIONARY
______________
monetary policy, it
LOWER
can ________
reserve requirements.
• Let’s say you deposit ______
$10,000 at your
local bank and the reserve requirement
on deposits is ____
percent. This
15
means that your bank would have to
$1,500
keep ______
on reserve at the Fed (.15
$1,500
x $10,000 = _______).
It could lend
the other $8,500
_____ to borrowers. If the
Fed were to ______
the reserve
LOWER
requirement to 10
___ percent, then the
bank could lend $500
____ more of your
$9,000
$10,000 deposit or a total of ______.
Such an expansion of lending causes the
money supply in the economy to
INCREASE
_________.
• However, if the Fed were to _______
RAISE
20
its reserve requirements to ___
percent, the bank could lend only $8000
_____
of your $10,000 deposit, thus curbing
the possible increase in the money
supply. Changes in reserve
requirements can be a very powerful
_____
TOOL of monetary policy but this tool
is used infrequently precisely because it
is so powerful. Most often, the Fed
desires to make GRADUAL
________ or minor
changes in policy, aims for which
changes in reserve requirement are
____ suitable.
NOT
Discount Rate
DISCOUNT
RATE , the third
• The __________
_____
tool of monetary policy, is the interest
rate the Federal Reserve charges
BANKS that borrow money.
______
• If a bank borrows from the Federal
Reserve, the reserves lent to the bank
CREATED
are _________
by the Fed.
INCREASES the amount of
• This process _________
money and credit in the economy.
• The Federal Reserve does not
automatically allow a bank to borrow
from it whenever the bank wants to.
REFUSE
The Fed can _______
such a loan.
LOW and the
• IF the discount rate is _____
Fed does not discourage banks form
borrowing form it, the Federal Reserve
EXPANSIONARY
will foster an ______________
monetary policy.
HIGH and the
• IF the discount rate is _____
Fed discourages banks from borrowing
from it, the Federal Reserve will foster
TIGHT
a ________
monetary policy.
• This discount rate is probably the least
3 principles of
strong of the ___
monetary policy, but the Federal
Reserve does use a change in it to
TIGHTENING
indicate an overall ____________
or
LOOSENING
_____________ of monetary policy