The Federal Reserve System

(pages 407-413)

• The Federal Reserve System was established as the nation's central bank in 1913.

• The Fed is unique in that it is owned by private member banks rather than by the government.

• Today, the Fed regulates financial institutions, maintains the payments system, enforces consumer protection laws, provides services to the government, and conducts monetary policy.

• The Fed supervises its state member banks, and it has broad authority over bank holding companies, the international operations of all commercial banks, some mergers, check clearing, consumer truth-in-lending laws, and the maintenance of the nation's currency.

Section 2

Monetary Policy (pages 415-424)

• Modern banks operate on a fractional reserve system. Under this system excess reserves can be loaned out to other customers.

• Commercial banks charge interest on their loans and use the income to pay expenses, keeping the remainder as profit.

• The size of the money supply is determined by the reserve requirement and the reserves in the system. An increase in the reserve requirement will shrink the money supply. A decrease in the requirement will expand the money supply.

Monetary policy affects the size of the money supply, and therefore the level of interest rates.

The tools of monetary policy include: a change in the reserve requirement; open market operations, which involves the buying and selling of government bonds; and a change in the discount rate.

Two lesser tools include moral suasion and selective credit controls such as margin requirements.

Section 3



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