The Federal Reserve - Essay Example

Fed, with its discretionary power, can also opt to purchase and sell stocks. However, as Fed is mandated is act like a "prudent person" and limit itself to less risky financial instruments, it will not engage in such operations. Accordingly, Fed is not allowed to enter into transactions that a prudent man will not undertake. It should be noted that stock markets like the NYSE are highly volatile and stocks are high-risk investments. Selling and buying stocks will expose Fed to the risk of losing all its investments with the failure and collapse of business organizations.

As the stock market is very much responsive to local and international trends and developments, Fed will lose its power to control the economy's money supply rendering monetary policies useless. In a case, the Fed is not able to reduce or increase the money supply through its policies, the state of the whole economy is at stake. It is important to note that Fed acts responsibly for the best of the economy. The purchase of foreign currency is not currently pursued by the Fed. First, holding foreign currency will not affect the financial performance of the economy.

Also, it should be noted that exchange rates, as the prices of securities are very volatile and are very responsive to various economic factors. Holding foreign currencies will expose the United States to political risks that these countries face. It will also hinder the profit-making motive of the institution. Fed occasionally engages in the purchase of gold. In so doing, it creates reserves by writing checks. In order to pay off this purchase, the Fed will need to give cash to the seller, thus increasing the amount of money in the economy.

However, as with securities, the value of gold is also volatile and this will probably hinder the Fed in making profits.