Exploring Economics - 4e - Chapter 29.pdf

(945 KB) Pobierz
95469_29_Ch29_p821-864.qxd 5/1/07 10:27 AM Page 821
CHAPTER
29
T HE F EDERAL R ESERVE S YSTEM
AND M ONETARY P OLICY
29.1
The Federal Reserve System
29.5
Expansionary and Contractionary
Monetary Policy
29.2
The Equation of Exchange
29.6
Problems in Implementing Monetary
and Fiscal Policy
29.3
Implementing Monetary Policy:
Tools of the Fed
29.4
Money, Interest Rates, and Aggregate
Demand
T
he chairperson of the Federal Reserve System
is one of the most important policymakers in
the country. The importance of the Federal
Reserve System and monetary policy cannot
be overestimated. In this chapter, we will see how
deliberate changes in the money supply can affect
aggregate demand and lead to short-run changes
in the output of goods and services as well as the
price level. That is, monetary policy can be an
effective tool for helping to achieve and maintain
price stability, full employment, and economic
growth. We will also see that monetary-policy
tools, just like fiscal-policy tools, have problems of
implementation.
1264460026.262.png 1264460026.273.png
95469_29_Ch29_p821-864.qxd 5/1/07 10:27 AM Page 822
822
Monetary and Fiscal Policy
MODULE 7
SECTION
29.1 The Federal Reserve System
What are the functions of a central bank?
Who controls the Federal Reserve System?
How is the Fed tied to Congress and the
executive branch?
THE FUNCTIONS OF A CENTRAL BANK
In most countries of the world, the job of manipulat-
ing the supply of money belongs to the “central
bank.” A central bank performs many functions.
First, the central bank is a “banker’s bank.” It is the
bank where commercial banks maintain their own
cash deposits—their reserves. Second, the central
bank performs a number of service functions for com-
mercial banks, such as transferring funds and checks
between various commercial banks in the banking
system. Third, the central bank typically serves as the
primary bank for the central government, handling,
for example, its payroll accounts. Fourth, the central
bank buys and sells foreign currencies and generally
assists in the completion of financial transactions
with other countries. Fifth, it serves as the “lender of
last resort,” helping banking institutions in financial
distress. Sixth, the central bank is concerned with the
stability of the banking system and the money supply,
which, as we have already seen, results from the loan
decisions of banks. The central bank can and does
impose regulations on private commercial banks; it
thereby regulates the size of the money supply and
influences the level of economic activity. The central
bank also implements monetary policy, which, along
with fiscal policy, forms the basis of efforts to direct
the economy to perform in accordance with macro-
economic goals.
LOCATION OF THE FEDERAL
RESERVE SYSTEM
In most countries, the central bank is a single bank;
for example, the central bank of Great Britain, the
Bank of England, is a single institution located in
London. In the United States, however, the central
bank is 12 institutions, closely tied together and col-
lectively called the Federal Reserve System. The
Federal Reserve System, or Fed, as it is nicknamed,
comprises separate banks in Boston, New York,
Philadelphia, Richmond, Atlanta, Dallas, Cleveland,
Chicago, St. Louis, Minneapolis–St. Paul, Kansas
City, and San Francisco. As Exhibit 1 shows, these
banks and their branches are spread all over the coun-
try, but they are most heavily concentrated in the east-
ern states.
Each of the 12 banks has branches in key cities in
its district. For example, the Federal Reserve Bank of
Cleveland serves the fourth Federal Reserve district
and has branches in Pittsburgh, Cincinnati, and
Columbus. Each Federal Reserve Bank has its own
board of directors and, to a limited extent, can set its
own policies. Effectively, however, the 12 banks act in
unison on major policy issues, with control of major
policy decisions resting with the Board of Governors
and the Federal Open Market Committee, headquar-
tered in Washington, D.C. The Chairman of the
Federal Reserve Board of Governors (currently Ben
Bernanke) is generally regarded as one of the most
important and powerful economic policymakers in
the country.
Commercial banks keep reserves with the central
bank. Roughly 4,000 U.S. banks are members of the
Federal Reserve System. While this is less than half
the number of total banks, the member banks hold
roughly 75 percent of U.S. bank deposits. Furthermore,
all banks must meet the Fed’s requirements, whether
they are members or not.
1264460026.284.png 1264460026.295.png 1264460026.001.png 1264460026.012.png 1264460026.023.png 1264460026.034.png 1264460026.045.png 1264460026.056.png 1264460026.067.png 1264460026.078.png 1264460026.089.png 1264460026.100.png 1264460026.110.png 1264460026.121.png 1264460026.132.png 1264460026.143.png 1264460026.154.png 1264460026.165.png 1264460026.176.png 1264460026.187.png 1264460026.198.png 1264460026.209.png 1264460026.220.png 1264460026.231.png 1264460026.234.png 1264460026.235.png 1264460026.236.png 1264460026.237.png 1264460026.238.png 1264460026.239.png 1264460026.240.png 1264460026.241.png 1264460026.242.png 1264460026.243.png 1264460026.244.png 1264460026.245.png 1264460026.246.png 1264460026.247.png 1264460026.248.png 1264460026.249.png 1264460026.250.png 1264460026.251.png 1264460026.252.png 1264460026.253.png 1264460026.254.png 1264460026.255.png 1264460026.256.png 1264460026.257.png 1264460026.258.png 1264460026.259.png 1264460026.260.png 1264460026.261.png 1264460026.263.png 1264460026.264.png 1264460026.265.png 1264460026.266.png 1264460026.267.png 1264460026.268.png 1264460026.269.png 1264460026.270.png 1264460026.271.png 1264460026.272.png 1264460026.274.png 1264460026.275.png 1264460026.276.png 1264460026.277.png 1264460026.278.png 1264460026.279.png 1264460026.280.png 1264460026.281.png 1264460026.282.png 1264460026.283.png 1264460026.285.png 1264460026.286.png 1264460026.287.png 1264460026.288.png 1264460026.289.png 1264460026.290.png 1264460026.291.png 1264460026.292.png 1264460026.293.png 1264460026.294.png 1264460026.296.png 1264460026.297.png 1264460026.298.png 1264460026.299.png 1264460026.300.png 1264460026.301.png 1264460026.302.png 1264460026.303.png 1264460026.304.png 1264460026.305.png 1264460026.002.png 1264460026.003.png 1264460026.004.png 1264460026.005.png 1264460026.006.png 1264460026.007.png 1264460026.008.png 1264460026.009.png 1264460026.010.png 1264460026.011.png 1264460026.013.png 1264460026.014.png 1264460026.015.png 1264460026.016.png 1264460026.017.png 1264460026.018.png 1264460026.019.png 1264460026.020.png 1264460026.021.png 1264460026.022.png 1264460026.024.png 1264460026.025.png 1264460026.026.png 1264460026.027.png 1264460026.028.png 1264460026.029.png 1264460026.030.png 1264460026.031.png 1264460026.032.png 1264460026.033.png 1264460026.035.png 1264460026.036.png 1264460026.037.png
95469_29_Ch29_p821-864.qxd 5/1/07 10:27 AM Page 823
823
The Federal Reserve System and Monetary Policy
CHAPTER 29
SECTION 29.1
E XHIBIT 1
Boundaries of Federal Reserve Districts and Their Branch Territories
1
Minneapolis
Boston
2
9
New York
Chicago
Cleveland
3
Philadelphia
7
4
12
WASHINGTON
San Francisco
10
Kansas City
Richmond
St. Louis
5
8
Atlanta
6
Dallas
11
NOTE: Both Hawaii and Alaska
are in the Twelfth District.
THE FED’S RELATIONSHIP TO
THE FEDERAL GOVERNMENT
The Federal Reserve System was created in 1913
because the U.S. banking system had so little stability
and no central direction. Technically, the Fed is privately
owned by the banks that “belong” to it. Banks are not
required to belong to the Fed; however, since the pas-
sage of new legislation in 1980, virtually no difference
exists between the requirements for member and non-
member banks.
The private ownership of the Fed is essentially
meaningless, because the Federal Reserve Board of
Governors, which controls major policy decisions, is
appointed by the president of the United States, not
by the stockholders. The owners of the Fed have rel-
atively little control over its operations and receive
only small fixed dividends on their modest financial
stake in the system. Again, the feature of private own-
ership but public control was a compromise made to
appease commercial banks opposed to direct public
(government) regulation.
SECTION 29.1
E XHIBIT 2
Central Bank
Independence and
Inflation, 1960–1992
20
Portugal
16
12
Greece
Spain
France
Ireland
Italy
8
Australia
New
Zealand
Austria Canada
Britain
Japan
Britain
Denmark
United
States
4
Netherlands
Switzerland
Germany
Belgium
0
2
4
6
8
10
12
14
Index of Central-Bank Independence*
zero = least independent
*Calculated by V Grilli, D Masciandaro & G Tabellini
There is often a strong positive correlation between
a country’s average annual inflation rate and the
degree of independence of its central bank.
THE FED’S TIES TO THE EXECUTIVE BRANCH
An important aspect of the Fed’s operation is that,
historically, it has enjoyed a considerable amount of
independence from both the executive and legislative
SOURCE: “Monetary Metamorphosis,” The Economist, September 23,
1999.
1264460026.038.png 1264460026.039.png 1264460026.040.png 1264460026.041.png 1264460026.042.png 1264460026.043.png 1264460026.044.png 1264460026.046.png 1264460026.047.png 1264460026.048.png 1264460026.049.png 1264460026.050.png 1264460026.051.png 1264460026.052.png 1264460026.053.png 1264460026.054.png 1264460026.055.png 1264460026.057.png 1264460026.058.png 1264460026.059.png 1264460026.060.png 1264460026.061.png 1264460026.062.png 1264460026.063.png 1264460026.064.png 1264460026.065.png 1264460026.066.png 1264460026.068.png 1264460026.069.png 1264460026.070.png 1264460026.071.png 1264460026.072.png 1264460026.073.png 1264460026.074.png 1264460026.075.png 1264460026.076.png 1264460026.077.png 1264460026.079.png 1264460026.080.png 1264460026.081.png 1264460026.082.png 1264460026.083.png 1264460026.084.png 1264460026.085.png 1264460026.086.png 1264460026.087.png 1264460026.088.png 1264460026.090.png 1264460026.091.png 1264460026.092.png 1264460026.093.png 1264460026.094.png 1264460026.095.png 1264460026.096.png 1264460026.097.png 1264460026.098.png 1264460026.099.png 1264460026.101.png 1264460026.102.png 1264460026.103.png 1264460026.104.png 1264460026.105.png
95469_29_Ch29_p821-864.qxd 5/1/07 10:27 AM Page 824
824
Monetary and Fiscal Policy
MODULE 7
branches of government. In fact, central banks with
greater degrees of independence appear to have a lower
annual inflation rate, see Exhibit 2 (see page 823).
True, the president appoints the seven members of the
Board of Governors, subject to Senate approval; but
the term of appointment is 14 years. No member of
the Federal Reserve Board will face reappointment
from the president who initially made the appoint-
ment, because presidential tenure is limited to two
four-year terms. Moreover, the terms of board mem-
bers are staggered, so a new appointment is made
only every two years. It is practically impossible for a
single president to appoint a majority of the members
of the board; and even were it possible, members have
little fear of losing their jobs as a result of presidential
wrath. The chair of the Federal Reserve Board is a
member of the Board of Governors and serves a four-
year term. The chair is truly the chief executive officer
of the system and effectively runs it, with considerable
help from the presidents of the 12 regional banks.
The chair of the Fed is truly the chief executive officer of the
system. The Fed chair is required by law to testify to Congress
twice a year. In addition to the chair, all seven members are
appointed by the president and confirmed by the Senate to sit
on the Board of Governors. Governors are appointed for
14-year terms, staggered every two years, in an attempt to
insulate them from political pressure.
FED OPERATIONS
Many of the key policy decisions of the Federal
Reserve are actually made by its Federal Open
Market Committee (FOMC), which consists of the
seven members of the Board of Governors; the pres-
ident of the New York Federal Reserve Bank; and
four other presidents of Federal Reserve Banks, who
serve on the committee on a rotating basis. The
FOMC makes most of the key decisions influencing
the direction and size of changes in the money
supply; and their regular, closed meetings are
accordingly considered important by the business
community, news media, and government.
SECTION * CHECK
1. Of the six major functions of a central bank, the most important is its role in regulating the money
supply.
2. The Federal Reserve System consists of 12 Federal Reserve banks. Although these banks are independent
institutions, they act largely in unison on major policy decisions.
3. The Federal Reserve Board of Governors and the Federal Open Market Committee are the prime decision
makers for U.S. monetary policy.
4. The president of the United States appoints members of the Federal Reserve Board of Governors to a
14-year term, with only one appointment made every two years. The president also selects the Chair of
the Federal Reserve Board, who serves a four-year term. The only other government intervention in the
Fed can come from legislation passed in Congress.
1. What are the six primary functions of a central bank?
2. What is the FOMC, and what does it do?
3. How is the Fed tied to the executive branch? How is it insulated from executive branch pressure to influence
monetary policy?
1264460026.106.png 1264460026.107.png
 
1264460026.108.png
95469_29_Ch29_p821-864.qxd 5/1/07 10:27 AM Page 825
825
The Federal Reserve System and Monetary Policy
CHAPTER 29
SECTION
29.2 The Equation of Exchange
What is the equation of exchange?
What is the velocity of money?
How is the equation of exchange useful?
As we discussed in the previous section, perhaps the
most important function of the Federal Reserve is its
ability to regulate the money supply. To fully under-
stand the significant role that the Federal Reserve
plays in the economy, we will first examine the role of
money in the national economy.
given year. Does this sound familiar? It should, because
it is the definition of nominal gross domestic product
(GDP). Thus, for our purposes, we may consider the
average level of prices ( P ) times the physical quantity of
final goods and services in a given time period ( Q ) to
be equal to nominal GDP. We could say, then, that
MV
Nominal GDP
THE EQUATION OF EXCHANGE
The role that money plays in determining equilibrium
GDP, the level of prices, and real output of goods and
services has attracted the attention of economists for
generations. In the early
part of this century,
economists noted a
useful relationship that
helps our understanding
of the role of money in
the national economy,
called the equation of
exchange. The equa-
tion of exchange can be
written as follows:
or
V
Nominal GDP/ M
It is, in fact, the definition of velocity: The total output
of goods in a year divided by the amount of money is
the same thing as the average number of times a dollar
is used in final goods transactions in a year.
That actual magnitude of V will depend on the
definition of money that is used. For simplicity, let us
use some hypothetical numbers to derive the velocity
of money:
equation of
exchange
the money supply (M) times veloc-
ity (V) of circulation equals the
price level (P) times quantity of
goods and services produced in a
given period (Q)
V
Nominal GDP/M1
$10,000 billion /$1,000 billion
10
Using a broader definition of money, M2, the velocity
of money equals
M
V
P
Q
V
Nominal GDP/M2
where M is the money supply, however defined (usually
M1 or M2); V is the velocity of money; P is the aver-
age level of prices of final goods and services; and Q
is the physical quantity of final goods and services
produced in a given period (usually one year).
The velocity of money refers to the “turnover”
rate, or the intensity with which money is used.
Specifically, V represents the average number of times
a dollar is used in pur-
chasing final goods or
services in a one-year
period. Thus, if indi-
viduals are hoarding
their money, velocity
will be low; if individu-
als are writing lots of
checks on their checking accounts and spending cur-
rency as fast as they receive it, velocity will be high.
The expression P
$10,000 billion/$4,000 billion
2.5
The average dollar of money, then, turns over a few
times in the course of a year, with the precise number
depending on the definition of money.
USING THE EQUATION OF EXCHANGE
The equation of exchange is a useful tool when we try
to assess the impact on the aggregate economy of a
change in the supply of money ( M ). If M increases,
then one of the following must happen:
1.
velocity of money
the “turnover” rate, or the intensity
with which money is used
V must decline by the same magnitude, so that
M
V remains constant, leaving P
Q unchanged.
2. P must rise.
3. Q must rise.
4. P and Q must each rise somewhat, so that the
product of P and Q remains equal to MV.
In other words, if the money supply increases and the
velocity of money does not change by an offsetting
Q represents the dollar value
of all final goods and services sold in a country in a
1264460026.109.png 1264460026.111.png 1264460026.112.png 1264460026.113.png 1264460026.114.png 1264460026.115.png 1264460026.116.png 1264460026.117.png 1264460026.118.png 1264460026.119.png 1264460026.120.png 1264460026.122.png 1264460026.123.png 1264460026.124.png 1264460026.125.png 1264460026.126.png 1264460026.127.png 1264460026.128.png 1264460026.129.png 1264460026.130.png 1264460026.131.png 1264460026.133.png 1264460026.134.png 1264460026.135.png 1264460026.136.png 1264460026.137.png 1264460026.138.png 1264460026.139.png 1264460026.140.png 1264460026.141.png 1264460026.142.png 1264460026.144.png 1264460026.145.png 1264460026.146.png 1264460026.147.png 1264460026.148.png 1264460026.149.png 1264460026.150.png 1264460026.151.png 1264460026.152.png 1264460026.153.png 1264460026.155.png 1264460026.156.png 1264460026.157.png 1264460026.158.png 1264460026.159.png 1264460026.160.png 1264460026.161.png 1264460026.162.png 1264460026.163.png 1264460026.164.png 1264460026.166.png 1264460026.167.png 1264460026.168.png 1264460026.169.png 1264460026.170.png 1264460026.171.png 1264460026.172.png 1264460026.173.png 1264460026.174.png 1264460026.175.png 1264460026.177.png 1264460026.178.png 1264460026.179.png 1264460026.180.png 1264460026.181.png 1264460026.182.png 1264460026.183.png 1264460026.184.png 1264460026.185.png 1264460026.186.png 1264460026.188.png 1264460026.189.png 1264460026.190.png 1264460026.191.png 1264460026.192.png 1264460026.193.png 1264460026.194.png 1264460026.195.png 1264460026.196.png 1264460026.197.png 1264460026.199.png 1264460026.200.png 1264460026.201.png 1264460026.202.png 1264460026.203.png 1264460026.204.png 1264460026.205.png 1264460026.206.png 1264460026.207.png 1264460026.208.png 1264460026.210.png 1264460026.211.png 1264460026.212.png 1264460026.213.png 1264460026.214.png 1264460026.215.png 1264460026.216.png 1264460026.217.png 1264460026.218.png 1264460026.219.png 1264460026.221.png 1264460026.222.png 1264460026.223.png 1264460026.224.png 1264460026.225.png 1264460026.226.png 1264460026.227.png 1264460026.228.png 1264460026.229.png 1264460026.230.png 1264460026.232.png 1264460026.233.png

Plik z chomika:

Inne pliki z tego folderu:

Inne foldery tego chomika:

Zgłoś jeśli naruszono regulamin