Which of the following is not one of the responsibilities of the Federal Reserve? This is a question we received from another young client of ours who is interested in learning more about the Federal Reserve and specifically what they are supposed to do.
With interest rate hikes all the buzz as of late, this is probably a great time to throw in our two cents on the Fed. Very few people know why they were created and that their role has significantly expanded with every financial crisis that occurs.
They were founded with the mandate to provide liquidity to the system when a capital injection was required or necessary. However, they have a few more mandates than that (privately). Here we go…answering the question “which of the following is not one of the responsibilities of the Federal Reserve?”
The Federal Reserve
The Federal Reserve is currently chaired by Janet Yellen and was established on December 23, 1913, during the passing of the Federal Reserve Act. At that time, the Fed’s mandate was to provide liquidity to the markets and the greater economy when the markets and economy needed it. This liquidity or capital injection came in the form of a loan from the Fed to either institutions, banks, or the Federal Government itself. This ability to create money and loan it to the Federal Government gave the Fed ultimate power as it was instantly in control of the money supply of the United States.
Early on it was apparent the Fed has three goals:
- Maximize Unemployment
- Stabilize Prices
- Moderate Interest Rates
Again, this was not what they were intended to do. And with every crash or period of financial instability, the Fed garners more and more power. After the crashes of 1987, 2000, and 2009, the Fed now has even more mandated which include:
- Supervising and regulating banks
- Providing financial services to depository
- Set the rate of inflation by expanding or detracting credit
Which of the Following is Not One of the Responsibilities of the Federal Reserve?
As we mentioned when we began this short post, the Feds original mandate was only to provide liquidity and a backstop during times of financial instability. There are obviously a lot of things that they currently do that were not intended to be their responsibility.
Here are some things the Fed does that is not their responsibility:
- Regulate interest rates
- Control the money supply of the United States
- Supervise other banks
- Provide financial services
- Set inflation targets via monetary policy
- Never let the market go down more than 20%
The Fed and Interest Rate Policy
Obviously, all of the buzz about the Fed has to do with their ability to set interest rates. But very few people know exactly what this means. They DO NOT set interest rates and actually have very little impact on interest rates.
The Federal Funds rate is nothing more that the interest rate the Fed makes the institutions that are by law obliged to hold funds at the Fed pay. Again, this is an overnight loan. It has very little to do with a 30 Year Bond for example that has a lot more to do the economic outlook 30 years down the road.
What makes the Fed Funds rate important is the ability for those depositors to lend out money. If a bank can lend out money freely with a Federal Funds rate of 2%, that provides credit to the financial system and the bank is able to loan that money to other businesses, etc. However, if that bank is not able to lend money with a Fed funds rate of 4%, that would cause a slow down in the system as those businesses that were getting loans before to fund their day to day operations are not longer receiving the same amount of liquidity.
Which of the following is not one of the responsibilities of the federal reserve? Rather than rifling off another list we can close with this. Everything that the Fed does that is not just providing liquidity during financial instability is not the responsibility of the Fed.