Download Central Banking

Pump Primer
• List the three creators of money in
the U.S.
“ECONOMICS for Christian Schools”
By Alan J. Carper
Bob Jones University Press. 1998
Unit IV: Economics of the Financial Market
“Central Banking”
Chpt. 11
Objectives:
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•
•
•
•
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List the three creators of money in the U.S.
Explain why the Federal Reserve System was organized
Describe the supervisory bodies of the Federal Reserve
Explain the necessity of the Federal Reserve
List and describe the functions of the Federal Reserve
Describe the effects that change the discount rate
Describe the effects of the open market operations has upon the
money supply
• Identify two reasons that the Fed attempts to control the supply of
money
• Explain the dangers of the Fed's actions to control the money
supply
BIBLICAL INTEGRATION
• Wisdom and understanding are to be
more valuable than money.
"How much better is it to get wisdom than
gold! and to get understanding rather to
be chosen than silver!“ Prov. 16:16
Central Banking
FDIC
Federal Reserve System
Federal Reserve Bank
FOMC
Central Banking
• What is a central bank?
A public authority that provides
banking services to banks and regulates
financial institutions and markets.
(“Who Is the FDIC?”)
Central Banking
• Why should you keep your money in a
bank?
• Safety
• Convenience
• Cost
• Security
• Financial Future
(“Who Is the FDIC?”)
Central Banking
•
Choosing An Account
1. Decide what type of account suits your
needs the best.
1. Checking
1. Student/College
2. Interest baring
2. Savings
1. Student/College
2. Money Market
(“Who Is the FDIC?”)
Central Banking
• Choosing A Bank?
– Services
– Fees
– Convenient
– Insured (FDIC)
(“Who Is the FDIC?”)
• Independent Agency
– Created: 1933
– Started: January 1, 1934
– Main Office: Washington, D.C.
• Preserves and Promotes Public
Confidence
– Insuring accounts up to $250,000
(thru 12/31/2013; 1/1/2014 returns to $100,000)
• Banks
• Thrift Institutions
(“Who Is the FDIC?”)
• Does not insure:
– Securities
– Mutual funds
– Stocks, or any other types of investments
that the bank or thrift institutions may offer.
(“Who Is the FDIC?”)
• Banks are chartered by:
– States (and/or)
– Federal Government
• State chartered banks still have the
choice of joining the Federal Reserve
System.
(“Who Is the FDIC?”)
• Managed by a five member Board of
Directors
– Appointed by the President
– Confirmed by the Senate
– No more than three from the same political
party
(“Who Is the FDIC?”)
FDIC Board of Directors
Sheila Blair, Chairman
Martin Gruenberg, Vice Chairman
Thomas Curry, Director
John Dugan, Comptroller of the Currency
John Bowman, Director of the Office of Thrift
Supervision
(“Board of Director…”)
THE FEDERAL RESERVE
SYSTEM
• The Fed’s Policy Tools
– The Fed uses three main policy tools:
• Required reserve ratios
• Discount rate
• Open market operations
(Bade 665)
Reserve Banking System
• “The money loaned out by real banks does
not sit in bank accounts—it gets spent almost
immediately by the borrowers.
• Only a small fraction of the amount deposited
in banks are kept on reserve, either in
electronic accounts at the Federal Reserve or
in vault cash.
• The result is that not everyone can get their
money out of the bank in cash on the same
day.”
(Hill)
Required Reserves
• “The Federal Reserve requires most
banks to hold a portion, up to 10
percent, of their deposits in reserve.
These are called required reserves.”
• Present rates:
– $0 to $10.7 million = 0%
– More than $10.7 million to $55.2 million = 3%
– More than $55.2 million = 10%
(Hill)
Discount Rate
– “The discount rate is the interest rate at
which the Fed stands ready to lend to
commercial banks.”
– “A change in the discount rate begins with
a proposal to the FOMC by at least one of
the 12 Federal Reserve banks.”
– “If the FOMC agrees that a change is
required, it proposes the change to Board of
Governors for its approval.”
(Bade 665)
Open Market Operations
“An open market operation is the purchase or
sale of government securities—U.S. Treasury bills
and bonds—by the New York Fed in the open
market.
When the New York Fed conducts an open market
operation, the New York Fed does not transact with
the federal government.”
(Bade 666)
Monetary Base
“The monetary base is the sum of coins,
Federal Reserve bills, and banks’ reserves
at the Fed.”
– “The monetary base is so called because it
acts like a base that supports the nation’s
money.”
– “The larger the monetary base, the greater
is the quantity of money that it can
support.”
(Bade 666)
How the Fed’s Policy Tools Work
– By selling securities in the open market,
the Fed can decrease the monetary base.
– All these actions lead to an increase in the
interest rate.
(Bade 667)
How the Fed’s Policy Tools Work
– “By decreasing the required reserve ratio, the
Fed can permit the banks to hold a smaller
quantity of monetary base.
– By lowering the discount rate, the Fed can
make it less costly for the banks to borrow.
– By buying securities in the open market, the
Fed can increase the monetary base.
– All these action lead to a decrease in the
interest rate.”
(Bade 667)
• The Structure of the Federal Reserve
–The key elements in the structure of the
Federal Reserve are
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The Chairman of the Board of Governors
The Board of Governors
The Regional Federal Reserve Banks
The Federal Open Market Committee
(Bade 663)
Three Creators of Money
1. United States Treasury
2. Financial Institutions
3. Federal Reserve System
(Carper 141)
U. S. Treasury: (Division of the
Treasury Department)
• Mints and sells coins to the Federal
Reserve Banks
– Creates the coins for only a fraction of their
(Carter, 147)
face value!
Financial Institution
• Creates money by lending out
customer’s deposits to others.
(Carter, 147)
• Federal Reserve Bank
– Under Supervision of the Board of
Governors
• Located in Washington, D.C.
• Appointed by the president and
confirmed by the Senate
• Serve 14 yrs. terms
(www.federalreserve.gov)
Federal Reserve System: (Fed)
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Provides Resilient National Currency
Nation’s Financial Agent
Regulating Private Banking System
National Check-Clearing Mechanism
Banking Institution for the Nation’s Banks
(Carter, 147)
Operate the nation’s payments
system:
• The 12 Federal Reserve Banks provide:
– “banking services to depository institutions;
• they maintain reserve and clearing accounts to
provide various payment services, including
collecting checks, electronically transferring
funds, and storing, distributing, receiving, and
processing currency and coin.
– For the federal government:
• the Reserve Banks maintain the Treasury
Department’s transaction account,
• pay Treasury checks,
• process electronic payments,
• issue, transfer, and redeem U.S. government
securities.”
(Hill)
Federal Reserve Bank
• Income
– Interest earned on gov. securities
– Priced services to depository institutions
– NOT OPERATED FOR PROFIT!
• End of fiscal year money is turned over
to the U.S. Treasury Department.
(“Federal Reserve Board”)
The Federal Open Market
Committee [FOMC]
• “The Fed’s chief body for monetary
policymaking.
• The FOMC’s decisions ultimately affect
interest rates.
• The FOMC meets in Washington,
usually eight times a year.”
(Emery)
“The Board of Governors meets regularly, typically every
other Monday. The public is invited to attend meetings that
are open under the Government in the Sunshine Act.”
(Meet twice a month pursuant to title 5, section 552b,of the U.S.
Code)
(“Federal Reserve Board”)
There are 12 Federal Reserve banks, one for each
of 12 Federal Reserve districts.
• Each Federal Reserve Bank has nine board of
directors, three of whom are appointed by the
Board of Governors and six of whom are elected
by the commercial banks in the Federal Reserve
district.
• The Federal Reserve Bank of New York
implements some of the Fed’s most important
policy decisions
(Bade 664)
Each Federal
Reserve district
has its own
Federal
Reserve Bank.
The Board of Governors of the Federal Reserve System is
located in Washington, D.C.
(Bade 664)
Recap!
FDIC:
Five member – Board of Directors
Federal Reserve Bank:
Seven member – Board of Governors
Twelve Districts: (each)
Nine member Board of Directors
FOMC:
Twelve member committee:
– Fed Board of Governors (seven members)
– President of the Federal Reserve Bank of N.Y.
– Four other Federal Reserve Presidents (serving a one-year term)
Bank Failure
• When many depositors run into a bank
at the same time to get their money out,
we call that a bank run.
• When a bank run that begins at one
bank spreads to other banks and
causes people to generally distrust
banks, we call that a bank panic.”
(Hill)
Bank Failure
• “Throughout history, there have been
episodes where too many people tried
to take their money out of their banks at
the same time. During such episodes,
banks usually ran out of cash and
therefore couldn’t honor withdrawal
requests, and many banks went
bankrupt. When a bank goes bankrupt,
it’s called a bank failure.
(Hill)
Great Depression
• In A Monetary History of the United States, 1867-1960
(1963), Milton Friedman and Anna Schwartz attributed
much of the depression's severity to four banking crises,
or panics. They argued that the crisis of late 1930 and
early 1931, in particular, converted a mild recession into a
major depression as "a contagion of fear" initiated by crop
failures swept the country.
• Friedman and Schwartz reported the significant increase
in the failure rate (761 banks during November 1930 to
January 1931, compared with 744 during the first ten
months of 1930), led by New York City's Bank of the
United States, then the largest failure in American
history.”
(Friedman 308-311)
Great Depression
• They found the Federal Reserve guilty
of neglect for failing to deal with these
panics, a failure that was particularly
culpable because correct, "lender-oflast resort," actions would simply have
required "the policies outlined by the
System itself in the 1920s, or for that
matter by Bagehot in 1873"
(Friedman 407)
Output
• “This economic variable is a key
indicator and serves as a gauge of the
economy’s ability to provide products
and services to people. Over the long
run, the standard of living rises when
this indicator grows faster than the
population. One of the goals of the
Federal Reserve’s monetary policy is to
achieve maximum sustainable growth of
this economic variable.”
(Hill)
Establish and implement monetary
policy:
• Using the tools of monetary policy, the
Federal Reserve can affect the volume
of money and credit available in the
economy and the price of credit—
interest rates. In this way, the Federal
Reserve can influence the general level
of prices, employment, and output.
(Emery)
Monetary Policy
• “By making credit conditions tighter or
easier, monetary policy can help
dampen inflationary and recessionary
pressures that have historically led to
economic booms and busts. Although
monetary policy cannot prevent
business cycles from occurring, it can
help make them less severe.”
(Emery)
Changes to the Money Supply
• “The Fed tracks trends in many areas of
economic activity using economic
indicators to see if there are signals
pointing to recession or inflation, or
whether the risks of recession and
inflation are balanced.”
(Emery)
Over-stimulating the Market
• “Lowering the federal funds rate will
likely cause other short-term interest
rates to fall and will help stimulate
investment and the economy in the
short run. This effect would be helpful if
the economy were slowing but would be
harmful if it caused inflationary
pressures to build.”
(Emery)
Over-tightening
• “Raising the federal funds rate will slow
investment in the economy in the short
run. Raising the federal funds rate
would be appropriate if the economy
showed signs of overheating and
inflationary pressures were building.
• However, if the economy were already
slowing, a higher federal funds rate
would tend to weaken it.”
(Emery)
Inflation
• “This condition occurs when there is an increase in
the average level of prices of the products and
services we buy.
• Significant changes in the price level distort economic
incentives because those changes alter the
purchasing power of money.
• A 5 percent annual rate of increase in prices means
that the income you earn this year will buy 5 percent
less next year.
• One of the goals of the Federal Reserve’s monetary
policy is to achieve price stability—that is, no overall
tendency for the prices of goods and services to
generally rise or fall.”
(Hill)
Effects of Interest Rates
• “Higher interest rates mean that credit is
more expensive. When credit is more
expensive, businesses are less likely to invest
in additional capital needed to expand output
and consumers are less likely to purchase
homes and large items that require them to
borrow.
• When interest rates are low, credit is less
expensive and businesses are more likely to
invest in additional capital and expand output.
Likewise, consumers are more likely to buy
homes and other large items.”
(Hill)
FOMC
• Committee of Twelve:
– Fed Board of Governors (seven members)
– President of the Federal Reserve Bank of
N.Y.
– Four other Federal Reserve Presidents
(serving a one-year term)
“Regardless of their voting status, all Reserve
Bank presidents contribute to the FOMC’s
discussions and deliberations.”
(“Federal Reserve Board”)
Works Cited
“Board of Directors & Senior Executives” FDIC.gov 3 Jan 2006. 14 Mar 2006
Blade, Robin, and Michael Parkin. Foundations of Economics: Instructor’s
Manual. 2nd ed. Boston: Pearson Education, Inc., 2007.
Carper, Alan. Economics for Christian Schools.Greenville: Bob Jones Uniersity
Press, 1998.
Emery, Barbara. “Monetary Policy”. Federal Reserve Bank of Philadelphia. 18
Feb 2009<http://www.philadelphiafed.org/education/teachers/lessonplans/index.cfm?tab=3&CFID=1604898&CFTOKEN=97766325&jsessi
onid=383079bdcb242df693e17a7e4b313a554b54>
“Federal Reserve Board”. Federalreserve.gov. 1 March 2006. 14 March 2006.
<http://www.federalreserve.gov/general.htm >
Friedman, Milton and Anna Schwartz .A Monetary History of the United
States, 1867-1960 .Princeton University Press; 1963.
Hill, Andrew T. “What Does the Fred Do? Federal Reserve Bank of
Philadelphia. 18 Feb 2009.
<http://www.philadelphiafed.org/education/teachers/lessonplans/index.cfm?tab=3&CFID=1604898&CFTOKEN=97766325&jsessi
onid=383079bdcb242df693e17a7e4b313a554b54>
“Who is the FDIC?”. FDIC.gov. 28 Jul 2003. 11 March 2005.
<http://www.fdic.gov/about/learn/symbol/index.html>