You probably don’t think too much about your money outside of how to make it or how it should be spent. It buys milk, cars, and DirectTV. You take home that check every Friday that perpetuates the cycle. Unbeknownst to most of us, however, is how the United States Federal Government controls how much money is in the economy, how much it’s worth, and to an extent, how it’s used.
The Federal Reserve Act of 1913, a response to the banking crisis of 1907, created an unnatural beast of an entity. The public/private divide is usually quite straightforward. McDonalds is a private business, the Department of Homeland Security is a public agency (even if it hires private contractors). The Federal Reserve Bank (commonly called “The Fed”), however is a quasi-government agency. Asking someone in Washington to explain the Fed is like asking a priest explain the Holy Trinity–only politicians can’t blame their paradox on an omnipotent deity.
This pseudo-public, half-private bank has two purposes, according to its commission. 1: It’s supposed to regulate banks; and 2: It controls the amount of money in the economy. (You can read more articles on learngoldcoins.com about inflation to learn why these are important functions.) There is a board of seven “governors” who run the federal reserve, appointed to long terms in an attempt to insulate them from political pressures. There are, then, twelve regional banks (e.g. “The Federal Reserve Bank of Dallas”). Regional banks handle most of the Fed’s regulatory rigamarole. Controlling the money supply, though, is a little more tricky.
The Federal Open Market Commission (FOMC) is a sub-component of The Fed in charge of the monetary base, or amount of cash in the economy. It’s comprised of the seven governors, as well as five of the regional bank presidents, who rotate through terms on the FOMC. Because America uses no gold standard, “money” is a totally arbitrary concept, and these twelve bigwigs call the shots. They have three basic tools for manipulating how large the monetary base (MB):
Bonds: This is a pretty simple concept, no sweat. If the FOMC decides to sell more bond notes to the public, investors give the New York Fed money, they give investors paper. That means less cash is in the public. If they buy bonds back, they’re handing out money, taking in paper.
Interest Rates: These get all the fun news coverage. If the Fed charges high interest rates on loans to banks, banks will take less of that money the government has printed. The reciprocal is also true–if rates drop banks think those loans are hunky dory all over again.
Reserve Minimums: Banks loan most of their money out to people who want it, that allows the bankers and depositors to make money. However, there are required minimum assets a bank must hold. If that baseline number increases, banks have less money to lend, and the MB shrinks. If it decreases, banks loan more, and the MB increases.
In a nutshell, that’s all, folks. There’s plenty more to learn, however, especially if you want to see how you can hedge against these arbitrary decisions by investing in gold, or learn how inflation works and how gold can protect you against its threat.
Tags: central banks, federal reserve, history