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Chapter 16. Structure of CentralChapter 16. Structure of Central

Banks & the Federal ReserveBanks & the Federal ReserveSystemSystem

Chapter 16. Structure of CentralChapter 16. Structure of Central

Banks & the Federal ReserveBanks & the Federal ReserveSystemSystem

Origins

Structure

Comparison to ECB

Origins

Structure

Comparison to ECB

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OriginsOriginsOriginsOrigins

the Fed

Federal Reserve Act 1913

response to panic of 1907

obstacles

fear of centralized power

solution

decentralized structure

the Fed

Federal Reserve Act 1913

response to panic of 1907

obstacles

fear of centralized power

solution

decentralized structure

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StructureStructureStructureStructure

3 main parts:

Federal Reserve Banks

Board of Governors

FOMC

3 main parts:

Federal Reserve Banks

Board of Governors

FOMC

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Federal Reserve BanksFederal Reserve BanksFederal Reserve BanksFederal Reserve Banks

12 regional banks

serve the member banks in that

district-- all national banks

-- option for state banks

-- 33% of commercial banks

12 regional banks

serve the member banks in that

district-- all national banks

-- option for state banks

-- 33% of commercial banks

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who controls district banks? member banks are part owners

-- 6% dividends

-- part of Board of directors other officers chosen by Board of

Governors

who controls district banks? member banks are part owners

-- 6% dividends

-- part of Board of directors other officers chosen by Board of

Governors

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functions

clear checks provide/destroy currency

research regional economy

-- Beige Book

economic education

monetary policy

approval of mergers, purchases

FRBNY is most important district bank

functions

clear checks provide/destroy currency

research regional economy

-- Beige Book

economic education

monetary policy

approval of mergers, purchases

FRBNY is most important district bank

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1980 DIDMCA1980 DIDMCA1980 DIDMCA1980 DIDMCA

all depository institutions

keep reserves on deposit at

district bank have access to discount loans

all depository institutions

keep reserves on deposit at

district bank have access to discount loans

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Board of GovernorsBoard of GovernorsBoard of GovernorsBoard of Governors

7 governors

14-yr. terms (nonrenewable)

1 chair

-- 4-year renewable term

-- Alan Greenspan (1987-2006)

-- Ben Bernanke (2006-

7 governors

14-yr. terms (nonrenewable)

1 chair

-- 4-year renewable term

-- Alan Greenspan (1987-2006)

-- Ben Bernanke (2006-

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Board helps set monetary policy

on FOMC

sets reserve requirement

approves district discount loanrates

Board staff economists

economic research

collect data

Board helps set monetary policy

on FOMC

sets reserve requirement

approves district discount loanrates

Board staff economists

economic research

collect data

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Board enforces regulations

permissible activities for banks

Consumer protections

stock margin requirements

final say in bank mergers

Board enforces regulations

permissible activities for banks

Consumer protections

stock margin requirements

final say in bank mergers

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FOMCFOMCFOMCFOMC

Federal Open Market Committee

12 members

7 governors

FRBNY President

4 other district bank presidents

rotate

Federal Open Market Committee

12 members

7 governors

FRBNY President

4 other district bank presidents

rotate

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meet every 6 weeks

assess condition of economy

vote on monetary policy

-- announce decision later that day

(since 1996)

meet every 6 weeks

assess condition of economy

vote on monetary policy

-- announce decision later that day

(since 1996)

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FOMC & monetary policy voting on federal funds rate target

voting on open market operations

-- buying & selling of Treasurydebt by the Fed

FOMC & monetary policy voting on federal funds rate target

voting on open market operations

-- buying & selling of Treasurydebt by the Fed

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Fed structure & realityFed structure & realityFed structure & realityFed structure & reality

appears decentralized

but power concentrated w/

Board of governors

Chair

appears decentralized

but power concentrated w/

Board of governors

Chair

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Fed IndependenceFed IndependenceFed IndependenceFed Independence

Fed has much more independence in

decisions than other federal

agencies Fed governors do NOT serve at

pleasure of the President

Fed decisions not subject toapproval of President or Congress

Fed has much more independence in

decisions than other federal

agencies Fed governors do NOT serve at

pleasure of the President

Fed decisions not subject toapproval of President or Congress

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sources of independencesources of independencesources of independencesources of independence

structure

Board of governors have long,

nonrenewable terms popularity of chairman w/ financial

sector

structure

Board of governors have long,

nonrenewable terms popularity of chairman w/ financial

sector

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financing

Fed is self-financing

-- Treasury debt

-- discount loans-- other services

Does not depend on Congress for

funding

financing

Fed is self-financing

-- Treasury debt

-- discount loans-- other services

Does not depend on Congress for

funding

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Fed independence is notFed independence is not

complete!complete!

Fed independence is notFed independence is not

complete!complete! Congress has ultimate power to limit

or eliminate Fed

chairman testifies before Congressevery 6 months

Congress has ultimate power to limit

or eliminate Fed

chairman testifies before Congressevery 6 months

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Is independence good?Is independence good?Is independence good?Is independence good?

common in industrialized countries

but it is undemocratic

common in industrialized countries

but it is undemocratic

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ProsProsProsPros

political goals often conflict witheconomic goals

short term vs. long term goals

Congress: re-election

Fed: free to pursue unpopular

policies in short-run

-- price stability may require

slower economic growth

political goals often conflict witheconomic goals

short term vs. long term goals

Congress: re-election

Fed: free to pursue unpopular

policies in short-run

-- price stability may require

slower economic growth

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example: 1981example: 1981--82 recession82 recessionexample: 1981example: 1981--82 recession82 recession

Fed chair Paul Volcker slowed down

economy to control inflation

Volcker Recession: 81-82 results of low inflation:

2 long expansions in 1980s, 1990s

Fed chair Paul Volcker slowed down

economy to control inflation

Volcker Recession: 81-82 results of low inflation:

2 long expansions in 1980s, 1990s

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ConsConsConsCons

Fed not accountable for mistakes

stuck with bad governors

independence is no guarantee ofsuccess

Fed did not prevent bank failures

of Great Depression

inflation of 1970s

Fed not accountable for mistakes

stuck with bad governors

independence is no guarantee ofsuccess

Fed did not prevent bank failures

of Great Depression

inflation of 1970s

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independent Fed does not

coordinate policy with Congress

monetary vs. fiscal policy

independent Fed does not

coordinate policy with Congress

monetary vs. fiscal policy

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ECB: a comparisonECB: a comparisonECB: a comparisonECB: a comparison

European Central Bank

1999

Central bank for monetary policyof 12 euro countries

A larger economy than U.S.

European Central Bank

1999

Central bank for monetary policyof 12 euro countries

A larger economy than U.S.

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ECB structureECB structureECB structureECB structure

Executive board

like Board of Gov

National Central Banks (NCB)

Like Federal Reserve Banks

Governing Council

Like FOMC

Executive board

like Board of Gov

National Central Banks (NCB)

Like Federal Reserve Banks

Governing Council

Like FOMC

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Key differencesKey differencesKey differencesKey differences

ECB does NOT regulate financialinstitutions

ECB gets budget from NCB

No voting on the Governing Council

VERY independent

Countries cannot change ECBdecisions

ECB does NOT regulate financialinstitutions

ECB gets budget from NCB

No voting on the Governing Council

VERY independent

Countries cannot change ECBdecisions