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Federal Reserve

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The Federal Reserve System (also known as the Federal Reserve or simply "The Fed") is the central bank of the United States. It was created by the United States Congress and enacted on December 23, 1913, when President Woodrow Wilson signed the Owen-Glass Act into law.

Federal Reserve headquarters, Eccles Building, Washington, DC.

The Federal Reserve System is composed of a central Board of Governors in Washington, D.C. and twelve regional Federal Reserve Banks located in major cities throughout the nation. Alan Greenspan currently serves as the Chairman of the Board of Governors of Federal Reserve.

Roles and Responsibilities

The main tasks of the Fed are:

  • Supervise and Regulate banks
  • Implement Monetary Policy
  • Maintain a strong payments system
  • Issue/Purchase U.S. Treasury Bonds

Other tasks include:

  • Economic education
  • Community outreach
  • Economic research

== Organization of the Federal Reserve ==

 
Federal Reserve headquarters, Eccles Building, Washington, DC.

The Federal Reserve is comprised of a board of governors. The 7 members of the board are appointed by the President and confirmed by the Senate. The members are elected for a term of 14 years with no re-appointment possible, but they can complete another governor's term and then serve their own. The Federal Open Market Committee (FOMC) comprises the 7 members of the board of governors and 5 representatives from the Federal Reserve Banks. The representative from the District banks always include the 2nd District (New York). The remaining banks rotate on two and three year intervals.

Alan Greenspan is the current chairman.

The current members of the Board of Governors are:

Interest rates

 
The effective federal funds rate charted over fifty years

The Fed implements monetary policy largely by steering the federal funds rate, also called the overnight rate, using open market operations. This is the interest rate that banks charge each other for overnight loans to each other. This in turn influences the prime rate which is usually about 3 percentage points higher than the federal funds rate. This prime rate is the rate that most banks price their loans at for their best customers.

Lower interest rates stimulate economic activity by lowering the cost of borrowing, making it easier for consumers and businesses to buy and build. Higher interest rates slow the economy by increasing the cost of borrowing. (See monetary policy for a fuller explanation.)

The Fed usually adjusts the federal funds rate by 0.25 or 0.50 percentage points at a time. From early 2001 to mid 2003 the Fed lowered its interest rates 13 times, from 6.25 to 1.00 percent, to fight recession. In November 2002, rates were cut to 1.75, and many interest rates went below the inflation rate. On June 25, 2003, the federal funds rate was lowered to 1.00 percent, its lowest nominal rate since July, 1958, when the overnight rate averaged 0.68 percent. Starting at the end of June, 2004, the Fed started to raise the target interest rate in response to concerns about the potential for increased inflation from a too-active economy. As of October, 2004, the rate is at 1.75 percent following a series of small increments.

Who Owns the Federal Reserve?

The Federal Reserve claims that nobody owns it – that it is an “independent entity within the government.” The Federal Reserve is subject to laws such as the Freedom of Information Act and the Privacy Act which cover Federal agencies but not private corporations; yet Congress gave the Federal Reserve the autonomy to carry out its responsibilities insulated from political pressure. Each of the Fed's three parts – the Board of Governors, the regional Reserve banks and the Federal Open Market Committee – operates independently of the federal government to carry out the Fed's core responsibilities. Once a member of the Board of Governors is appointed, he or she can be as independent as a U.S. Supreme Court judge, though the term is shorter.

As the nation's central bank, the Federal Reserve derives its authority from the U.S. Congress. It is considered an independent central bank because its decisions do not have to be ratified by the President or anyone else in the executive or legislative branch of government, it does not receive funding appropriated by the Congress, and the terms of the members of the Board of Governors span multiple presidential and congressional terms. The Fed's financial independence arises because it is hugely profitable due to its ownership of government bonds. It returns billions of dollars to the government each year. However, the Federal Reserve is subject to oversight by the Congress, which periodically reviews its activities and can alter its responsibilities by statute. Also, the Federal Reserve must work within the framework of the overall objectives of economic and financial policy established by the government.

The twelve regional Federal Reserve Banks, which were established by the Congress as the operating arms of the nation's central banking system, are organized much like private corporations—possibly leading to some confusion about “ownership.” For example, the Reserve Banks issue shares of stock to member banks. However, owning Reserve Bank stock is quite different from owning stock in a private company. The Reserve Banks are not operated for profit, and ownership of a certain amount of stock is, by law, a condition of membership in the System. The stock may not be sold or traded or pledged as security for a loan; dividends are, by law, limited to 6 percent per year.[1]

The Federal Reserve System, frequently referred to as simply the Federal Reserve Bank, was created via the Federal Reserve Act of 1913 which "established a new central bank designed to add both flexibility and strength to the nation's financial system. The legislation provided for a system that included a number of regional Reserve Banks and a seven-member governing board. All national banks were required to join the system and other banks could join. The Reserve Banks opened for business in November 1914. Congress created Federal Reserve notes to provide the nation with an elastic supply of currency. The notes were to be issued to Reserve Banks for subsequent transmittal to banking institutions in accordance with the needs of the public.

Criticism

The Federal Reserve Bank is the focus of much criticism and even, at times, conspiracy theories. Some critics say that the name was intentionally chosen to deceive and fool the U.S. citizens into acceptance. Such critics claim that the Federal Reserve's real purposes are (1) to make a profit by "skimming" a small percent of the 10 trillion dollar U.S. economy; (2) to redistribute wealth through the sales and purchase of the U.S. national debt (currently about 7 trillion dollars); and (3) to fix currency exchange rates with other country central banks throughout the world to generate an additional $1 Billion dollars a day in profits.

Some of these critics say that the U.S. Congress was tricked by the world elite into creating the Federal Reserve System in 1913 for the purpose of money control through inflation (invisible taxation of the masses), extremely high and profitable interest rates, and outright taxation through the creation of liens and bonds paid for by U.S. citizens. These critics argue that, through unconstitutional changes in law, the words income (corporations) and wage (people's paychecks) were redefined. Taxation enforcement (Internal Revenue Service) could now force U.S. citizens to pay taxes, fees and fines under penalty of law, possible arrest and imprisonment.

The FED and Fractional Reserve Banking

So called "fractional reserve banking" is fraud and theft, and central banking is the method by which this fraud and theft are cartelized and institutionalized.

Originally, banks were a warehouse, a safe place to store valuables, especially gold and silver money. A fee was charged for the service, and warehouse receipts were issued as a claim ticket on the valuables stored. Because everyone knew that these receipts were "as good as gold", the receipts themselves began to be traded as money.

Bankers noticed that on any given day, only a small fraction of the warehouse receipts were redeemed in money, so the unscrupulous among them began printing counterfeit receipts, i.e. receipts that were not matched by an actual deposit of gold or silver. The bankers were then able to either spend the counterfeit receipts themselves, or loan them out and charge interest. Thus the total supply of money could be enlarged very easily, and was an obvious method to enrich the unscrupulous bankers. The cost of this enrichment was saddled on everyone else, who now found their existing money to be worth less and less as the overall supply of money grew greater and greater.

Bankers coined the term "fractional reserve banking" to legitimize the practice. The more counterfeit receipts that were printed and circulated, the more people would show up to redeem them in gold or silver, the more the actual reserves of the bank would be depleted until, at some point, the bank would be bankrupt and legitimate depositors would be left holding receipts that were irredeemable. A situation where depositors showed up to the bank in large groups to demand their money became known as a “bank run” or a “run on the bank”.

Now we will enlarge the scenario to include several competing banks. Each bank begins issuing its own warehouse receipts, now known as “paper money” or “fiat money”. Each bank has a strong incentive to create as much paper money as possible, because that is how the bank owner enriches himself. However, if bank #1 creates significantly more paper money than bank #2, then bank #2 will end up holding a large amount of bank #1’s paper money. Eventually it will wish to redeem this paper money for real gold or silver, thus bankrupting bank #1.

The problem, then, as bankers saw it, was to design a system where all competing banks could expand their money supplies in unison. As long as bank #1 has claims on bank #2 that are equal to the claims that bank #2 has against bank #1, then the claims simply cancel each other out. That way, with equal amounts of outstanding debt, theoretically all the bankers could enjoy an endless source of new and additional money, without ever having to redeem much of anything.

Many attempts at banking cartels were implemented, where supposedly competing bankers conspired with one another to print equal amounts of fiat money. These cartels were ultimately in vain, because of the ever-present incentive to break the cartel, print less paper money than the competing bank, and end up with the ability to withdraw real gold or silver from the competitors vault, possibly bankrupting them in the process.

The only way to orchestrate the expansion and contraction of credit and money on a large scale is to make it a matter of law. Private citizens must be forced to accept a single type of paper money in payment of debt, and paper money must be irredeemable for anything of real value. Central governments in all industrialized nations have now achieved just such a situation, in partnership with the large commercial banks. New money is created by the issuance of new debt, and injected into the banking system from a single central ___location, thus ensuring precisely the symmetrical, uniform expansion of the money supply long desired by the bankers.

The monopolistic power to create new money costlessly, “out of thin air”, is in fact the power to transfer real wealth away from consumers, and deposit it squarely in the hands of those with the money monopoly, i.e. the central government itself, the large commercial banks, and government contractors.

Explanation of Money Creation

1. The government prints up a piece of paper called a treasury bond. This is simply an IOU, a promise to pay the holder a specified sum of money on a particular date. In this example, let’s say the government issues $1,000,000 worth of bonds.

2. The Federal Reserve prints up a piece of paper called a check, in the amount of $1,000,000 and makes it payable to the government. There’s nothing of real value backing up this check at all.

3. The Fed and the government trade pieces of paper. The Fed now claims $1,000,000 in new assets, because it is assumed the government, with its power to tax, will make good on its debt. The government deposits the check in its own account. The check, drawn on the Federal Reserve, is considered to be good, because remember, the Fed has $1,000,000 in new assets.

4. The government hires employees and buys things with the $1,000,000, and it does so by writing government checks. These government checks are then deposited in commercial banks. For the sake of simplicity, assume it all goes into one commercial bank, which has a zero balance to begin with.

5. The commercial bank now claims $1,000,000 in new assets. The new assets are renamed. Instead of assets, they are now called reserves. According to the rules, this bank is allowed to lend out 90% of this new money (i.e. a 10% reserve ratio).

6. $900,000 is loaned out on Friday for someone to buy a house. This loan is in the form of a check. The home buyer signs the check and gives it to the seller, who deposits it right back into the bank on Monday.

7. The commercial bank now claims $900,000 in new assets. These assets are renamed reserves, and 90% of that, or $810,000 is loaned out. As soon as the $810,000 is deposited back into the bank, you guessed it, the cycle repeats and repeats until there is no more money to lend.

8. The total amount lent out to borrowers is $9,000,000. Add that to the $1,000,000 that it still has on deposit and the total is $10,000,000 of new money. 6% interest on $9,000,000 is $540,000 per year. Not bad considering the bank had $0.00 to begin with.

The “reserve requirements” are an illusion. In reality, the “fraction” in our fractional reserve banking system is not 10%, it is 0%.


Further reading

  • Greider, William (1987). Secrets of the Temple. Simon & Schuster. ISBN 0671675567; a book intended for lay readers explaining the structures, functions, and history of the Federal Reserve.
  • Epstein, Lita & Martin, Preston (2003). The Complete Idiot's Guide to the Federal Reserve. Alpha Books. ISBN 0028643232.
  • Meyer, Lawrence H (2004). A Term at the Fed : An Insider's View. HarperBusiness. ISBN 0060542705.



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