Federal Reserve's Monetary Policy refers to the United States of America central banking system of America with its start back in 1913. The federal reserve act was enactment brought it into action due to the desire of the government to control the monetary system centrally with the aim of alleviating financial crises. The united states of America created a monetary policy of finance which had three goals in the Federal Reserve Act: maximize job opportunities, ensuring stability in prices and to moderate long-term interest rates. The roles of maximizing employment and ensuring stable market prices have always been seen as the Federal Reserve's dual mandate. These two roles have expanded in the past years and now include supervision and regulation of banks, having a stable financial system, and to be of financial service to all depository institutions, the government of the United States of America and the official foreign institutions. The federal reserve has a role of conducting research on the country's economy and making a provision of several publications, for example, publishing the Beige book and the Fred database. There are a lot of changes made in the federal reserve monetary policy that have a significant impact on the economy of the United States of America (Broz, 2015). In this paper, we look at these changes and the effect they bring in the marketplace. We will also look generally at the federal reserve monetary policy as a whole.
One of The federal reserve system's roles, as we have seen from above, is to ensure that there is the maximization of employment. The central reserve system has the mandate to aim at achieving the maximization of jobs and providing stable inflation that rotates around the current set target which is 2%. The federal reserve system monitors the natural rate of work which is also commonly referred to as NAIRU. NAIRU stands for the Non-Accelerating Inflation Rate of Employment. When the level of unemployment becomes higher than NAIRU, then it means that there are a lot of individuals who are seeking employment opportunities but fewer employer openings. At these levels, the employers will offer low wages, and it may lead to lower wages and price inflation.
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In scenarios where unemployment is lower than the rate of employment, it means that there are a lot of opportunities for employment, but fewer people are will to seek these jobs. It will result in employees raising their wages to attract employees, and as a result, the levels of inflation rises. The federal reserve system of the united states of America has the work of monitoring the interest rates to meet its objectives. The federal reserve system makes a comparison of its projections with the natural rate of unemployment. When the federal reserve system realizes that the projected level of unemployment is higher than the speed of natural employment, they will cut down these rates or make sure it does not rise anymore, but when this projected level is lower, then they will raise the interest rates
. Two tools are involved in monetary policy that is the traditional and non-traditional tool. Currently, in the United States of America, there is a recession that is deep and severe compared to what happened to the economy in the 1970s and 1980s. The federal reserve system has to pull aggressive and innovative measures that differ from approaches that were previously used in the past. All these are aimed at unwinding financial system returns to regular rates. To push the economy to more sustainable growth and ensure the stability of prices the federal system of the United States of America has to employ exceptional strategies.
In the past, the Federal Reserve system used three main tools of monetary policy. These tools aimed at influencing the number of reserves found in private banks. One of these tools was the Open Market operations. Open market operations were evident in the buying and selling of the United States of America Treasury and Fed agency securities. This was the primary tool used by the federal reserve system in the implementation of its federal monetary policies. However, the objectives of the Federal Reserve system of the United States of America has been varying over the years. In the 1980s there was a gradual shift in focus towards the attainment of a specified level of the federal funds rate. The federal funds rate refers to the rates which commercial banks charge each other for overnight loans of federal funds. The process of gradually focusing shift was in completion by the end of the decade.
The other two tools included discount rates and reserve requirements. The discount rate refers to the interest rates that commercial banks and other depository institutions are charged on loans acquired from their regional federal reserve banks lending facility. The reserve requirements are the total funds that a depository institution is required to hold in reserve against specified deposit liabilities.
Non-traditional policies can be categorized into three different groups. Under the federal reserve, the system has the discount lending window whereby the Federal Reserve banks have the ability to make to make short-term loans to depository institutions against suitable collateral. The government of the United States of America through the federation reserve system advocates on steps to encourage the use of the discount window as a basis for liquidity. The steps involved are inclusive of reduction of the discount rate and enlargement of the terms of the loans. These tools are used by the central bank or other monetary authority that falls out of line with the traditional tools. The occasions used in this are for the circumstances of deep economic crises, and under such circumstances, the conventional methods have always failed to be ineffective.
The non-traditional methods are mostly used during a recession whereby the central bank is allowed to can buy other securities in the open market which is not inclusive of government bonds. The process involved here is known as Quantitative easing and is often considered in cases where the short term interest rates are at zero and in other cases, they are near zero. The quantitative easing process aims at lowering interest rates to increase the money supply. During this period, financial institutions are flooded with capital to promote lending and liquidity. Printing of money is put on hold during such occasions.
The government of the United States of America can also buy long-term bonds and in the process sell off long-term debts, and in the process, they can influence the yield curve. The process involved here tries to support the housing markets that are mostly financed by long-term mortgage debt. For the government to succeed in increasing consumer confidence, it can signal its intention to lower interest rates for a lengthened period. Another tool that the government can use is trying to apply a negative interest rate policy. For this case, depositors end up paying institutions to hold their deposits instead of receiving interests for their deposits.
Problems associated with these non-traditional policies may lead to a negative impact on the economy of the United States of America. When the central bank makes the implementation of the Quantitative Easing process and elevates money supply, then we can expect inflation to occur. Such cases arise when goods available to the market are scarce, yet the money supply in the system is plenty (Wells, 2017). During such times, the implementation of a policy that aims at negative interest rates can be problematic. The problem arises where people with savings are forced to pay for their deposits. The non-traditional monetary policies played a significant role during the Great Recession period that was experienced in the United States of America between the years 2007 and 2009 and another world recession that followed suit as a result of the one in the united states. During the Great Recession, the FED had to put into effect aggressive policies to prevent more damage caused by the economic crisis. More money was injected into banks for emergency loans, and the Fed reduced a fundamental interest rate to nearly zero in the effort of boosting liquidity.
Another non-traditional tool that the federal reserve system use is the communication strategy. The federal reserve system did this in a Federal Open Market committee meeting. The FOMC put into use extended-period language and guidance. This meant that the FED was giving out suggestions to anticipated time frames for the length of interest rates or policy actions. All this aims at ensuring the market knows what the Fed has done and what it has planned for the future. The federal reserve system of the united states of America does this with the hope of instilling confidence and encouraging people so as they can borrow.
There is also an Operational twist which was after restructuring the portfolio. The Operation Twist was inclusive of purchase of long-term securities, but at the same time involved selling of the short-term securities ( Hetzel & Richardson, 2018) . During this period a mix of the assets was held. What was contained more was the long-term securities compared to short-term securities, and in the process, it led to the restructuring of the portfolio.
There advantages and disadvantages of using contractionary and expansionary monetary policies. In definition, the expansionary monetary policy aims to increase money supplied in the economy while the contractionary money policy aims at reducing total money in supply in the economy.
Contractionary monetary policy slows down rampant inflation that rises with a booming economy. The government can achieve this by slowing down its expenditures. The federal reserve system also raises money to make it difficult to borrow money. Slowing down inflation aims at cooling off the markets and in the process overall demand is brought down, and prices will also fall. The con here is that there is a reduction in production. The cause of this might be more expensive investment capital and a decrease in demand for products and services. When production goes down, it may take a lot of time to raise it again.
Another advantage is the stabilization of prices. Inflation leads to rising in prices which in turn negatively impacts the spending power of consumers. Fluctuations in prices trigger nervous and erratic spending. A monetary contraction will lead to the stability of the prices in the market as the rate of inflation slows. This will improve the confidence of the consumers and ensure stability in spending patterns.
A slowed population, an increase in interest rates, can result in increased unemployment. This happens because companies stop growing or grow at slow rates and hence they are likely to hire fewer employees. The unemployment rates might cost the government in its costs and social expenses. The government in such scenarios weighs the cost that they incur against the benefit they get from reducing inflation (Amaral, 2017). With a high unemployment rate, there will be a reduction in rates of demand for products and services and the process of economic contraction will be severe.
However, contractionary monetary policy can again be counterproductive. When this policy is applied during recession periods, and it will accelerate it into depression. When interest rates rise money circulation will drop in the economy that is suppressed. Most businesses will now contract, and a lot of employees are laid off. The result will be low household income, fewer savings and reduced purchasing power.
In the past five years, the banking industry in the United States of America has given a lot of support the world's biggest economy which is diverse in banking culture and concentration of private credit. A financial intermediary refers to an entity that acts as a broker between two parties in a business transaction. These intermediaries offer a lot of benefits to the average consumer including liquidity and economies of scale involved in banking activities. Financial intermediaries play the role of acting as the backbone of the economic cycle because they greatly influence the determination of the price risk. In financial intermediary balance sheet capacity, there are fluctuations in the supply of credit that arise from it ( Salachas & Laopodis, 2015) . To determine short term interest rates variations in the monetary policies is of significant influence.
The current models of monetary policies that are put into practice in the central banks put emphasize on the significance of managing marketing expectations. The central bank will influence high rates and also mortgage, lending rates, and other factors that influence consumption and investment. The level of the federal reserve system funds is the crucial variable in determining short-term rates.
Today the federal reserve system has made a significant development concerning transparency. After the meetings of FOMC, some statements are issued that aims at setting the current target range of the federal funds rate and the report also tries to FED explain the monetary policy decision of the federal reserve system. Annually, the chair of the Fed holds a press conference mostly four times a year. This press is for explaining the decision and FOMC issues its Summary of Economic Projections.
After the enactment of the Dodd-Frank Act, the debate has always been there on whether any changes to the role and structure of the United States of America's Federal Reserve System have any implications. Major issues that are debatable here include the extent of discretion that the federal reserve system will have in conducting of their monetary policies. Some also debate on the sufficiency of these Federal Reserve in its operations.
In the recent past, the FED has elevated interest rates in the existence of a big balance sheet through the use of non-traditional policies. In the future, the federal reserve system anticipates that there will be an evolution of economic conditions that may result in a gradual increase for the federal reserve funds. The FED has a plan to maintain a stimulative monetary policy. The FED has explained this in terms of unemployment reaching a maximum rate which is consistent with the maximum employment ( Blanchard et al, 2016) . Raising the levels of interest at a slow rate might lead to inflation and result in financial instability for our institution. However, from another perspective, we can argue that raising the prices at a quicker level will lead to low inflation and hence choking off expansion.
In conclusion, we have seen that the federal reserve system monitors and have a significant influence on the levels of inflation and unemployment. Use of traditional monetary policies was put on hold especially during the Great Recession, and non-traditional methods were used. All these were aimed at unwinding the economic crisis that engulfed the economy. The federal reserve system of USA seems to prefer stimulative monetary policies for the time being, and the debate is on whether they should quickly raise rates or do so at a slow pace.
References
Amaral, P (2017) Monetary policy and inequality- Economic Commentary, - clevelandfed.org
Blanchard, O, Ostry, DJ, Ghosh, AR (2016)- Capital flows: expansionary or contractionary ? … - American Economics - aeaweb.org
Broz, JL (2015) The politics of rescuing the world's financial system : The Federal Reserve as a global lender of last resort- Korean Journal of International Studies - papers.ssrn.com
Hetzel, RL, Richardson, G (2018)- Banking and Monetary Policy in American Economic History from the Formation of the Federal Reserve -The Oxford Handbook of - Oxford University Press
Salachas, E, Laopodis, NT (2015)-Assessing Monetary Policies in the Euro Area, the UK and the US Evidence from the Pre-and Post-Crisis Period- Available at SSRN- papers.ssrn.com
Wells, DR (2017) The Federal Reserve System : A History- books.google.com
