The US Federal Reserve - Essay Example

The article argues that even as the Federal Reserve has been in existence since 1913, it wasn't until the 1970s that it assumed as great control of the American financial system as it has today.

The Federal Reserve was created in 1913 by Woodrow Wilson. In the late 19th and early 20th centuries, credit was controlled entirely by private banks. Farmers in the mid-western regions grew increasingly upset by this fact, as they complained that oftentimes the banks would alter their credit options at times when the farmers were vulnerable. The Federal Reserve was created as a compromise, with the banks still controlling credit, but the government determining the supply of funds. While the intervening years have seen significant reforms in the way the Federal Reserve operates, its underlining function has remained the same. Private banks can borrow from the reserve at a discounted rate, they then loan this money to borrowers at the federal funds rate or interest rate. As the Federal Reserve raises rates, so must the banks raise the rates of loans. This system is designed to ensure fair and equitable lending throughout the country. The current chairman of the Federal Reserve, who was recently reappointed in January of 2010, and Alan Greenspan and Paul Volcker preceded him. (Johnson, Web)

When the recession hit the Federal Reserve began the process of lowering interest rates to increase consumer spending. At this point, the Fed has virtually lowered the interest rate to 0%. In addition to lowering the interest rate, the Fed has engaged in several unorthodox methods to revive the sputtering economy. “Those techniques include buying vast amounts of longer-term Treasury bonds, mortgage-backed securities issued by government-sponsored companies like Fannie Mae and Freddie Mac, and commercial debt issued by private companies and consumer lenders.” (NY Times, Web) In addition to these techniques, the reserve helped in JPMorgan's merger with Bear Stearns.

While the Federal Reserve has traditionally been an extremely secretive government entity, recent times have seen an increasing level of public interest and visibility. Chairmen Ben Bernake was featured on a recent episode of 60 Minutes and he has become more well-known than perhaps any previous reserve chairman. This is attributed to the unheralded power the reserve has gained in the wake of the financial crisis, which has brought with it increasing levels of scrutiny from government factions. Lately, Republicans have cast the Federal Reserve as an extension of the liberal 'big government' agenda, and have called for a reduction of its power. Indeed, Ron Paul famously called for the abolishment of the reserve and was successful in passing a bill to audit the entity. Conversely, Democrats accuse the Fed of caving into the demands of big business and handing out bailouts without enough oversight and purpose. Currently, Democrats are moving to include all regulatory reforms under the reserve, while Republicans continue to call for a gradual scaleback. (NYT, Web)

The Fed's most recent actions have been taking slightly raise interest rates. Due to the recession, this is the first time rates have been raised in over a year and should serve as a signal to banks that the extraordinarily cheap supply of funds is coming to an end. At this point, the Fed must attempt to regain some of the capital it gave away during the recession, and will gradually increase rates over the upcoming two years. Read More