Many people are surprised to hear thatCentral bankof the United States, theFederal Reserve(“Fed” for short), operate largely independently of the federal government. But the Fed is also a quasi-governmental agency with a board of directors selected by the president and approved by Congress. The combined public and private structure of the Federal Reserve remains highly controversial, especially in the wake of the crisisthe financial crisis of 2007-2008.
The Fed's role as the central bank of the United States and its influential position highlight the questionwhether central banks should be independent or notof the government's political bias.
Key learning points
- Central bank independence refers to whether the regulator of monetary policy is completely separated from the domain of government.
- Those who favor independence recognize the influence of politics in promoting monetary policies that may promote re-election in the short term but cause lasting economic damage in the long run.
- Critics of independence say the central bank and government should be closely coordinated in their economic policies.
- These critics also argue that central banks should have a high degree of regulatory oversight.
- In reality, central banks, including the Fed, have a good degree of independence, but are still somewhat dependent on the government.
Bold as a quasi-government
The independence of the US central bank has always been a controversial topic. In the early days of the republic, the founders ultimately chose not to have a central monetary authority. althoughAlexander Hamiltonhad succeeded for years in establishing the Bank of the United States, but ultimately failed. It was only overFederal Reserve-wet van 1913who founded the current central bank.
Before the Fed, recessions and financial panics were common because investors and savers could not be assured of the stability and solvency of the banking system. In fact, private financiers like J.P. Morgan saved the American banking system in 1895 when there was no longer a central banklender of last resort. The Federal Reserve Act aimed to bring stability to the financial sector and centralize monetary policy under a single authority.
The Federal Reserve's monetary decisions are supposed to be separate from the government, and policy actions are not allowed to be ratified by the president or anyone else in the executive branch. The Fed receives no direct funding from Congress and its membersBoard of Directors, who are appointed, serve fourteen years each.These conditions do not coincide with the president's conditions, creating further independence.
However, the Federal Reserve is subject to some congressional oversight designed to ensure that it achieves the economic goals of maximum employment and stable prices.In addition, the chairman of the Fed must submit a report every six monthsmonetary policyto Congress.
The Federal Reserve does not receive funding through the Congressional budget process. The Fed's revenue comes primarily from interest on government bonds acquired through open market operations. After paying the fees, the Federal Reserve transfers the rest of its revenue to the U.S. Treasury.
Why be independent?
The main justification for an independent Federal Reserve is that it is necessary to protect the system from short-term political pressure. Without some degree of autonomy, the Fed could be influenced by election-oriented politicians. For example, pressure may be exerted to implement excessive policiesexpansionary monetary policyto reduce unemployment in the short run, which may later lead to high inflation and fail to control unemployment in the long run.
Proponents of central bank independence even argue that political pressure is too great to allow monetary policy and macroeconomic decision-making to be disrupted. In particular, politicians have short-term re-election objectives, typically favoring inflationary policies that give the illusion of boosting wages and employment at the expense of long-term growth. In addition, inflation can undermine the purchasing power of the currency and harm creditors and savers.
Advocates of autonomy thus argue that an independent Fed can better achieve long-term economic goals. Independence can also make it easier to implement policies that are politically unpopular but serve a greater public interest. Another argument is that the central bank should be filled with economists and other experts, rather than with politicians or people under political influence.
The United States Congress has established full employment and stable prices as the Federal Reserve's primary macroeconomic objectives in conducting monetary policy.
Arguments against independence
Critics argue that it is unconstitutional for Congress to grant monetary power to an independent quasi-governmental agency. Under the Constitution, Congress has the power to coin money and regulate its value.In 1913, Congress delegated this power to the Fed through himFederal Reserve-wet van 1913.However, some argue that such delegation is fundamentally unconstitutional. Opponents of Fed independence also suggest that it is undemocratic to have an unelected agency unaccountable to the American public dictating monetary policy.
Another argument against independence is that it promotes poor coordination between the fiscal policies of Congress – including taxes and spending – and the monetary policies of the central banks. For example, if the government cuts taxes (loose fiscal policy) but the central bank raises interest rates (tight monetary policy), this can create a mismatch that undermines the efforts of both.
How is the Federal Reserve independent?
The Fed is independent in the sense that monetary policy and related decisions are made autonomously and are not subject to the approval of the federal government. However, governors are appointed by the president and must be confirmed by Congress. In addition, there is some oversight by Congress, and the Fed must work within the framework of the government's overall economic and budget objectives.
Who does the Federal Reserve lend to?
As a central bank, the Federal Reserve lends money to commercial banks that are part of the U.S. banking industry. This is done to solve temporary problems they may encounter in obtaining financing or meeting reserve requirements, and the loans have a very short term. To minimize the risk that the Federal Reserve will suffer losses from lending, borrowers must provide collateral such as loans and securities. Since 1913, when the Federal Reserve was founded, it has never lost a cent on its discount loans to banks.
Where are the twelve regional federal banks?
The Federal Reserve System (FRS) consists of twelve regional divisions. The system has 12 regional onesFederal banksis gevestigd in Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St. Louis, MO St. Louis, Missouri. St.Louis, Missouri. St. Louis Louis, Minneapolis, Kansas City, Dallas and San Francisco.
In short
The Federal Reserve serves a unique role: it operates independently of the federal government, but is still subject to some oversight. The agency is managed by a board of directors whose members are selected by the President and approved by Congress. However, the Fed is also independent in the sense that it conducts monetary policy and related decision-making independently. Because of its quasi-governmental status, the Fed has faced criticism from some who argue that it is unconstitutional to entrust monetary policy to an unelected agency that is not accountable to the public. On the other hand, many argue that the Fed's independence is essential to its ability to prioritize long-term monetary policy over short-term policy.
