Editing Federal Reserve (section)

== Purpose ==
The primary declared motivation for creating the Federal Reserve System was to address [[bank run|banking panics]].<ref name="initial">''Federal Reserve Act'', Section 12, 12 U.S.C. § 261 (1913).</ref> Other purposes are stated in the [[Federal Reserve Act]], such as "to furnish an elastic currency, to afford means of rediscounting [[commercial paper]], to establish a more effective supervision of banking in the United States, and for other purposes".<ref>{{Cite web |date=May 14, 2003 |title=Federal Reserve Act |url=http://www.federalreserve.gov/GeneralInfo/fract |archive-url=https://web.archive.org/web/20080517044141/http://www.federalreserve.gov/GeneralInfo/fract |archive-date=May 17, 2008 |publisher=Board of Governors of the Federal Reserve System}}</ref> Before the founding of the Federal Reserve System, the United States underwent several financial crises. A particularly severe crisis in 1907 led Congress to enact the Federal Reserve Act in 1913. Today the Federal Reserve System has responsibilities in addition to stabilizing the financial system.<ref name="BoG 2006 pp=1">{{Harvnb|BoG|2006 | pp=1}}</ref>

Current functions of the Federal Reserve System include:<ref name="mission"/><ref name="BoG 2006 pp=1"/>
* To address the problem of [[bank run|banking panics]]
* To serve as the [[central bank]] for the United States
* To strike a balance between private interests of banks and the centralized responsibility of government
** To supervise and regulate banking institutions
** To protect the credit rights of consumers
* To conduct [[monetary policy]] by influencing [[market interest rate]]s to achieve the sometimes-conflicting goals of
** maximum employment
** stable prices, interpreted as an [[inflation]] rate of 2 percent per year on average<ref name="goals of MP"/>
** moderate long-term interest rates
* To maintain the stability of the financial system and contain [[systemic risk]] in financial markets
* To provide financial services to depository institutions, the U.S. government, and foreign official institutions, including playing a major role in operating the nation's payments system
** To facilitate the exchange of payments among regions
** To respond to local liquidity needs
* To strengthen U.S. standing in the world economy
[[File:Unemployment vs Inflation vs Inverted yield curve.webp|thumb|650px|center|[[Unemployment in the United States|Unemployment]] vs [[United States Consumer Price Index|Inflation]] vs [[Inverted yield curve]]
{{legend-line|#AA4643 solid 3px|Unemployment rate}}
{{legend-line|#89A54E solid 3px|Inflation [[United States Consumer Price Index|CPI]] }}
{{legend-line|#4572A7 solid 3px|10 year [[United States Treasury security|bond]] minus 2 year bond [[Inverted yield curve]] }}
]]

=== Addressing the problem of bank panics ===
{{Further|Bank run|Fractional-reserve banking}}

Banking institutions in the United States are required to hold reserves{{Nsmdns}}amounts of currency and deposits in other banks{{Nsmdns}}equal to only a fraction of the amount of the bank's deposit liabilities owed to customers. This practice is called [[fractional-reserve banking]]. As a result, banks usually invest the majority of the funds received from depositors. On rare occasions, too many of the bank's customers will withdraw their savings and the bank will need help from another institution to continue operating; this is called a [[bank run]]. Bank runs can lead to a multitude of social and economic problems. The Federal Reserve System was designed as an attempt to prevent or minimize the occurrence of bank runs, and possibly act as a [[lender of last resort]] when a bank run does occur. Many economists, following [[List of Nobel Memorial Prize laureates in Economics|Nobel]] laureate [[Milton Friedman]], believe that the Federal Reserve inappropriately refused to lend money to small banks during the bank runs of 1929; Friedman argued that this contributed to the [[Great Depression]].<ref name="Federal Reserve Board">{{Cite web |last=Bernanke, Ben |date=October 24, 2003 |title=Remarks by Governor Ben S. Bernanke: At the Federal Reserve Bank of Dallas Conference on the Legacy of Milton and Rose Friedman's ''Free to Choose'', Dallas, Texas |url=http://www.federalreserve.gov/boardDocs/Speeches/2003/20031024/default.htm |format=text}}; FRB Speech: [http://www.federalreserve.gov/boarddocs/speeches/2002/20021108/default.htm FederalReserve.gov: Remarks by Governor Ben S. Bernanke, Conference to Honor Milton Friedman, University of Chicago, Nov. 8, 2002]; {{Cite book |last1=Milton Friedman |url=https://books.google.com/books?id=-lCArZfazBkC&q=%22Regarding%20the%20Great%20Depression%20You're%20right%20We%20did%20it%22 |title=The Great Contraction, 1929–1933 |last2=Anna Jacobson Schwartz |publisher=[[Princeton University Press]] |year=2008 |isbn=978-0-691-13794-0 |edition=New |page=247 |chapter=B. Bernanke's speech to M. Friedman}}</ref>

==== Check clearing system ====
Because some banks refused to [[Clearing (finance)|clear]] checks from certain other banks during times of economic uncertainty, a check-clearing system was created in the Federal Reserve System. It is briefly described in ''The Federal Reserve System{{Nsmdns}}Purposes and Functions'' as follows:<ref>{{Harvnb|BoG|2005 | pp=83}}</ref>

{{Blockquote|By creating the Federal Reserve System, Congress intended to eliminate the severe financial crises that had periodically swept the nation, especially the sort of financial panic that occurred in 1907. During that episode, payments were disrupted throughout the country because many banks and clearinghouses refused to clear checks drawn on certain other banks, a practice that contributed to the failure of otherwise solvent banks. To address these problems, Congress gave the Federal Reserve System the authority to establish a nationwide check-clearing system. The System, then, was to provide not only an elastic currency{{Nsmdns}}that is, a currency that would expand or shrink in amount as economic conditions warranted{{Nsmdns}}but also an efficient and equitable check-collection system.}}

==== Lender of last resort ====
In the United States, the Federal Reserve serves as the [[lender of last resort]] to those institutions that cannot obtain credit elsewhere and the collapse of which would have serious implications for the economy. It took over this role from the private sector "clearing houses" which operated during the [[History of central banking in the United States#1837–1862: "Free Banking" Era|Free Banking Era]]; whether public or private, the availability of liquidity was intended to prevent bank runs.<ref>{{Cite web |url=https://www.minneapolisfed.org/glossary.cfm?js=0#l |title=Lender of last resort |publisher=[[Federal Reserve Bank of Minneapolis]] |access-date=May 21, 2010 |archive-date=January 25, 2010 |archive-url=https://web.archive.org/web/20100125071643/http://www.minneapolisfed.org/glossary.cfm?js=0#l |url-status=dead }}; {{Cite SSRN |title=Lender of Last Resort: The Concept in History |last=Humphrey |first=Thomas M. |date=January 1, 1989 |ssrn=2125371}}</ref>

==== Fluctuations ====
Through its [[discount window]] and credit operations, Reserve Banks provide liquidity to banks to meet short-term needs stemming from seasonal fluctuations in deposits or unexpected withdrawals. Longer-term liquidity may also be provided in exceptional circumstances. The rate the Fed charges banks for these loans is called the discount rate (officially the primary credit rate).

By making these loans, the Fed serves as a buffer against unexpected day-to-day fluctuations in reserve demand and supply. This contributes to the effective functioning of the banking system, alleviates pressure in the reserves market and reduces the extent of unexpected movements in the interest rates.<ref name="dfeverydayecon"/> For example, on September 16, 2008, the Federal Reserve Board authorized an $85&nbsp;billion loan to stave off the bankruptcy of international insurance giant [[American International Group]] (AIG).<ref name="Federal Reserve-AIG Press Release-2008-09-16">{{Cite web |date=September 16, 2008 |title=Press Release: Federal Reserve Board, with full support of the Treasury Department, authorizes the Federal Reserve Bank of New York to lend up to $85 billion to the American International Group (AIG) |url=http://www.federalreserve.gov/newsevents/press/other/20080916a.htm |access-date=August 29, 2011 |publisher=Board of Governors of the Federal Reserve}}; {{Cite news |last1=Andrews |first1=Edmund L. |last2=de la Merced |first2=Michael J. |last3=Walsh |first3=Mary Williams |date=September 16, 2008 |title=Fed's $85 Billion Loan Rescues Insurer |work=The New York Times |url=https://www.nytimes.com/2008/09/17/business/17insure.html |access-date=September 17, 2008}}</ref>

=== Central bank ===
{{Further|Central bank}}
[[File:Onedolar2009series.jpg|right|thumb|Obverse of a Federal Reserve [[United States one-dollar bill|$1 note]] issued in 2009]]

In its role as the [[central bank]] of the United States, the Fed serves as a banker's bank and as the government's bank. As the banker's bank, it helps to assure the safety and efficiency of the payments system. As the government's bank or fiscal agent, the Fed processes a variety of financial transactions involving trillions of dollars. Just as an individual might keep an account at a bank, the [[U.S. Treasury]] keeps a checking account with the Federal Reserve, through which incoming federal tax deposits and outgoing government payments are handled. As part of this service relationship, the Fed sells and redeems [[Treasury security|U.S. government securities]] such as savings bonds and Treasury bills, notes and bonds. It also issues the nation's [[Coins of the United States dollar|coin]] and [[Federal Reserve note|paper currency]]. The U.S. Treasury, through its [[Bureau of the Mint]] and [[Bureau of Engraving and Printing]], actually produces the nation's cash supply and, in effect, sells the paper currency to the Federal Reserve Banks at manufacturing cost, and the coins at face value. The Federal Reserve Banks then distribute it to other financial institutions in various ways.<ref name="Fed_currency">{{Cite web |date=June 2008 |title=How Currency Gets into Circulation |url=http://www.newyorkfed.org/aboutthefed/fedpoint/fed01.html |access-date=August 29, 2011 |publisher=Federal Reserve Bank of New York}}</ref> During the [[Fiscal Year]] 2020, the Bureau of Engraving and Printing delivered 57.95&nbsp;billion notes at an average cost of 7.4 cents per note.<ref>{{Cite web |title=Annual Production Reports {{!}} Engraving & Printing |url=https://www.bep.gov/currency/production-figures/annual-production-reports |access-date=January 6, 2023 |website=www.bep.gov}}</ref><ref>{{Cite web |last=Board of Governors of the Federal Reserve System |date=2021 |title=2021 Currency Budget |url=https://www.federalreserve.gov/foia/files/2021currency.pdf |publisher=federalreserve.gov}}</ref>

==== Federal funds ====
{{Main|Federal funds}}

Federal funds are the reserve balances (also called [[Federal Reserve Deposits]]) that private banks keep at their local Federal Reserve Bank.<ref>{{Cite web |date=August 2007 |title=Federal Funds |url=http://www.newyorkfed.org/aboutthefed/fedpoint/fed15.html |access-date=August 29, 2011 |publisher=Federal Reserve Bank of New York }}; {{Cite web |year=1993 |editor-last=Cook |editor-first=Timothy Q. |editor2-last=Laroche |editor2-first=Robert K. |title=Instruments of the Money Market |url=http://www.richmondfed.org/publications/research/special_reports/instruments_of_the_money_market/pdf/full_publication.pdf |access-date=August 29, 2011 |publisher=Federal Reserve Bank of Richmond |archive-date=March 25, 2009 |archive-url=https://web.archive.org/web/20090325045301/http://www.richmondfed.org/publications/research/special_reports/instruments_of_the_money_market/pdf/full_publication.pdf |url-status=dead }}</ref> These balances are the namesake reserves of the Federal Reserve System. The purpose of keeping funds at a Federal Reserve Bank is to have a mechanism for private banks to lend funds to one another. This market for funds plays an important role in the Federal Reserve System as it is the basis for its monetary policy work. Monetary policy is put into effect partly by influencing how much interest the private banks charge each other for the lending of these funds.

Federal reserve accounts contain federal reserve credit, which can be converted into [[federal reserve note]]s. Private banks maintain their [[bank reserves]] in federal reserve accounts.

=== Bank regulation ===
The Federal Reserve regulates private banks. The system was designed out of a compromise between the competing philosophies of privatization and government regulation. In 2006 [[Donald L. Kohn]], vice chairman of the board of governors, summarized the history of this compromise:<ref>{{Cite web |date=November 3, 2006 |title=Speech – Kohn, The Evolving Role of the Federal Reserve Banks |url=http://www.federalreserve.gov/newsevents/speech/kohn20061103a.htm |access-date=August 29, 2011 |publisher=Federalreserve.gov}}</ref>

{{Blockquote|Agrarian and progressive interests, led by William Jennings Bryan, favored a central bank under public, rather than banker, control. However, the vast majority of the nation's bankers, concerned about government intervention in the banking business, opposed a central bank structure directed by political appointees.

The legislation that Congress ultimately adopted in 1913 reflected a hard-fought battle to balance these two competing views and created the hybrid public-private, centralized-decentralized structure that we have today.}}

The balance between private interests and government can also be seen in the structure of the system. Private banks elect members of the board of directors at their regional Federal Reserve Bank while the members of the board of governors are selected by the [[president of the United States]] and confirmed by the [[United States Senate|Senate]].

==== Government regulation and supervision ====
[[File:House Financial Services Committee hearing with Ben Bernanke.jpg|thumb|right|[[Ben Bernanke]] (lower right), former chairman of the Federal Reserve Board of Governors, at a [[House Financial Services Committee]] hearing on February 10, 2009. Members of the board frequently testify before congressional committees such as this one. The Senate equivalent of the House Financial Services Committee is the [[Senate Committee on Banking, Housing, and Urban Affairs]].]]

The Federal Banking Agency Audit Act, enacted in 1978 as Public Law 95-320 and 31 U.S.C. section 714 establish that the board of governors of the Federal Reserve System and the Federal Reserve banks may be audited by the [[Government Accountability Office]] (GAO).<ref>{{Cite web |title=Frequently Asked Questions Federal Reserve System |url=http://www.federalreserve.gov/generalinfo/faq/faqfrs.htm |archive-url=https://web.archive.org/web/20100217220435/http://www.federalreserve.gov/generalinfo/faq/faqfrs.htm |archive-date=February 17, 2010 |access-date=February 19, 2010 |quote=The Board of Governors, the Federal Reserve Banks, and the Federal Reserve System as a whole are all subject to several levels of audit and review. Under the Federal Banking Agency Audit Act, the Government Accountability Office (GAO) has conducted numerous reviews of Federal Reserve activities}}</ref>

The GAO has authority to audit check-processing, currency storage and shipments, and some regulatory and bank examination functions–though there are restrictions to what the GAO may audit. Under the Federal Banking Agency Audit Act, 31 U.S.C. section 714(b), audits of the Federal Reserve Board and Federal Reserve banks do not include (1) transactions for or with a foreign central bank or government or non-private international financing organization; (2) deliberations, decisions, or actions on monetary policy matters; (3) transactions made under the direction of the Federal Open Market Committee; or (4) a part of a discussion or communication among or between members of the board of governors and officers and employees of the Federal Reserve System related to items (1), (2), or (3). See Federal Reserve System Audits: Restrictions on GAO's Access (GAO/T-GGD-94-44), statement of Charles A. Bowsher.<ref>{{Cite web |date=July 26, 1996 |title=Federal Reserve System Current and Future Challenges Require System-wide Attention: Statement of Charles A. Bowsher |url=http://www.gao.gov/archive/1996/gg96159t.pdf |access-date=August 29, 2011 |publisher=United States General Accounting Office |archive-date=July 9, 2011 |archive-url=https://web.archive.org/web/20110709123554/http://www.gao.gov/archive/1996/gg96159t.pdf |url-status=dead }}</ref>

The board of governors in the Federal Reserve System has a number of supervisory and regulatory responsibilities in the U.S. banking system, but not complete responsibility. A general description of the types of regulation and supervision involved in the U.S. banking system is given by the Federal Reserve:<ref>{{Harvnb|BoG|2005 | pp=4–5}}</ref>

{{Blockquote|The Board also plays a major role in the supervision and regulation of the U.S. banking system. It has supervisory responsibilities for state-chartered banks<ref>See example: {{Cite web |date=March 31, 2009 |title=Advantages of Being/Becoming a State Chartered Bank |url=http://www.state.ar.us/bank/benefits_advantages.html |access-date=August 29, 2011 |publisher=Arkansas State Bank Department |df=mdy-all}}</ref> that are members of the Federal Reserve System, [[bank holding companies]] (companies that control banks), the foreign activities of member banks, the U.S. activities of foreign banks, and [[Edge Act]] and "agreement corporations" (limited-purpose institutions that engage in a foreign banking business). The Board and, under delegated authority, the Federal Reserve Banks, supervise approximately 900 state member banks and 5,000 bank holding companies. Other federal agencies also serve as the primary federal supervisors of commercial banks; the [[Office of the Comptroller of the Currency]] supervises national banks, and the [[Federal Deposit Insurance Corporation]] supervises [[State bank (United States)|state bank]]s that are not members of the Federal Reserve System.

Some regulations issued by the Board apply to the entire banking industry, whereas others apply only to member banks, that is, [[State bank (United States)|state bank]]s that have chosen to join the Federal Reserve System and national banks, which by law must be members of the System. The Board also issues regulations to carry out major federal laws governing [[Consumer protection|consumer credit protection]], such as the [[Truth in Lending Act|Truth in Lending]], [[Equal Credit Opportunity Act|Equal Credit Opportunity]], and [[Home Mortgage Disclosure Act]]s. Many of these consumer protection regulations apply to various lenders outside the banking industry as well as to banks.

Members of the Board of Governors are in continual contact with other policy makers in government. They frequently testify before [[congressional committee]]s on the economy, [[monetary policy]], [[Bank regulation|banking supervision and regulation]], [[Consumer protection|consumer credit protection]], [[financial market]]s, and other matters.

The Board has regular contact with members of the President's [[Council of Economic Advisers]] and other key economic officials. The Chair also meets from time to time with the [[President of the United States]] and has regular meetings with the [[Secretary of the Treasury]]. The Chair has formal responsibilities in the international arena as well.}}

===== Regulatory and oversight responsibilities =====
The board of directors of each Federal Reserve Bank District also has regulatory and supervisory responsibilities. If the board of directors of a district bank has judged that a member bank is performing or behaving poorly, it will report this to the board of governors. This policy is described in law:

{{Blockquote|Each Federal reserve bank shall keep itself informed of the general character and amount of the loans and investments of its member banks with a view to ascertaining whether undue use is being made of bank credit for the speculative carrying of or trading in securities, real estate, or commodities, or for any other purpose inconsistent with the maintenance of sound credit conditions; and, in determining whether to grant or refuse advances, rediscounts, or other credit accommodations, the Federal reserve bank shall give consideration to such information. The chairman of the Federal reserve bank shall report to the Board of Governors of the Federal Reserve System any such undue use of bank credit by any member bank, together with his recommendation. Whenever, in the judgment of the Board of Governors of the Federal Reserve System, any member bank is making such undue use of bank credit, the Board may, in its discretion, after reasonable notice and an opportunity for a hearing, suspend such bank from the use of the credit facilities of the Federal Reserve System and may terminate such suspension or may renew it from time to time.<ref>{{Cite web |date=June 22, 2010 |title=U.S. Code Title 12, Chapter 3, Subchapter 7, Section 301. Powers and duties of board of directors; suspension of member bank for undue use of bank credit |url=https://www.law.cornell.edu/uscode/text/12/301- |access-date=August 29, 2011 |publisher=Law.cornell.edu}}</ref>}}

=== National payments system ===
The Federal Reserve plays a role in the U.S. payments system. The twelve Federal Reserve Banks provide banking services to depository institutions and to the federal government. For depository institutions, they maintain accounts and provide various payment services, including collecting checks, electronically transferring funds, and distributing and receiving currency and coin. For the federal government, the Reserve Banks act as fiscal agents, paying Treasury checks; processing electronic payments; and issuing, transferring, and redeeming U.S. government securities.<ref>{{Harvnb|BoG|2005 | pp=83–85}}</ref>

In the [[Depository Institutions Deregulation and Monetary Control Act]] of 1980, Congress reaffirmed that the Federal Reserve should promote an efficient nationwide payments system. The act subjects all depository institutions, not just member commercial banks, to reserve requirements and grants them equal access to Reserve Bank payment services.
The Federal Reserve plays a role in the nation's retail and wholesale payments systems by providing financial services to depository institutions. Retail payments are generally for relatively small-dollar amounts and often involve a depository institution's retail clients{{Nsmdns}}individuals and smaller businesses. The Reserve Banks' retail services include distributing currency and coin, collecting checks, electronically transferring funds through [[FedACH]] (the Federal Reserve's [[automated clearing house]] system), and beginning in 2023, facilitating [[instant payment]]s using the [[FedNow]] service. By contrast, wholesale payments are generally for large-dollar amounts and often involve a depository institution's large corporate customers or counterparties, including other financial institutions. The Reserve Banks' wholesale services include electronically transferring funds through the [[Fedwire|Fedwire Funds Service]] and transferring securities issued by the U.S. government, its agencies, and certain other entities through the [[Fedwire Securities Service]].