Th fed-how it manages the economy and the federal open market committe - Essay Example

The fed-how it manages the economy and the federal open market committee The Fed or Federal Reserve acts as the central bank of the USA after the passing of Federal Reserve Act in December 23, 1913. It is composed of seven member Board of Governors that direct the monetary policy, a Federal Open Market Committee (FOMC) composed of 12 members that determines the Fed funds rate (the rate where the prevailing interest rates are based upon). It has twelve regional banks across the USA that oversees commercial banks and implements the Fed’s monetary policy (Federalreserve. Gov). The Fed controls the three tools of monetary policy--open market operations, the discount rate, and reserve requirements.

The fed uses its monetary policy to influence the availability and cost of money and credit to help promote national economic goals (Federalreserve. Gov). Among these functions the FOMC is responsible for the open market operations (buying and selling of government bonds to the market) function of the Fed. With the use of this tool through FOMC, the Fed manages the economy by balancing the balancing the interest rate according to the economic objective of the government.In simple language, FOMC can help expand the economy by reducing the cost of money to business by lowering the interest rates that would encourage them to expand their business operation which would in turn have a ripple effect of job creation, increased domestic spending and higher tax collection.

During an overheated expansion of the economy, monetary policy can also be used to manage its ill effect which is usually inflation (too much money circulating in the economy). This can be done by raising the interest rates or cost of borrowing which would constrict the money supply and therefore arrest inflation. This function “mops out” excessive liquidity in the market to abate the effect of an “overheated” economy by raising interest rates which would otherwise led to an “overheated economy”.

During a crisis such as the recent financial crisis that begun late of 2008, monetary policy was used to increase money supply by lowering the interest rates to push for an expansionary economy and abate the effect of the crisis. In the 2008 crisis, the Fed pegged “short-term interest rates to near zero” and bought “huge amounts of long-term Treasury debt and mortgages to push down long-term rates” (Wessel). The objective of adopting this monetary policy through FOMC was (1) signal that the Fed would keep short-term rates low for a long time, (2) drive long-term consumer and business borrowing rates lower than they would otherwise be, encouraging spending, (3) chase investors from lower-yield, safe securities into equities and other risky assets, boosting stock prices and making households richer and firms more willing to invest and (4) push the dollar lower, giving exports a lift (Wessel).

The adoption of this policy saved jobs and homes that were about to be lost and foreclosed and prevented the economy from sliding into a depression. Without this policy and the FOMC that implemented it, the US economy might have slid into depression and still reeling from its negative effects.Works CitedFederalreserve.gov. Federal Open Market Committee. May 30, 2012. http://www.federalreserve.gov/monetarypolicy/fomc.htm [accessed June 08, 2012]Wessel, David. “Have the Feds Efforts Helped?

”  June 7, 2012,. http://online.wsj.com/article/SB10001424052702303296604577450360972881958.html?mod=googlenews_wsj [accessed June 08, 2012]