Exactly what is the Federal Reserve?
If you have, spend, or send money in the United States, you may have the Federal Reserve to thank for it
The Federal Reserve is the United States’ own central bank. It was created under the December 1913 Federal Reserve Act signed into law by President Woodrow Wilson. The Act intended to provide a safer, more flexible, and more stable monetary and financial system.
‘The Fed’ as a system
The Fed refers to itself as a system composed of a central, independent government agency (the Board of Governors) located in Washington, D.C., and 12 regional Federal Reserve Banks throughout the United States. The third element of the system is the Federal Open Market Committee
Role of the Board of Governors
The President of the United States nominates members of the seven-person Board, the Board’s Chair, and the Board’s Vice-Chair. Those appointments are for staggered 14-year terms and are confirmed by the Senate.
Board members don’t regularly capture too much of the public’s imagination, but that changed with former Chair Alan Greenspan. Greenspan was a pop culture phenomenon. A Denver rock band was named The Alan Greenspan Project. Arlington Heights, Illinois named a street after him – Alan Greenspan Way. He was issued an honorary knighthood by Queen Elizabeth II and made a Freeman of the city of London. And check out Tom Wilson’s 2001 country song In God and Alan Greenspan We Trust:
Role of the Federal Reserve Banks
The Banks examine and supervise financial institutions, act as lenders of last resort, and provide United States payment system services. The presidents of the 12 Banks also sit on the Federal Open Market Committee. The banks gather data about business and local economic issues, which is factored into monetary policy decisions by the Federal Open Market Committee and the Board.
Role of the Federal Open Market Committee
The Committee consists of seven board members plus the presidents of the 12 regional Federal Reserve Banks. The committee directs open market operations that set United States monetary policy with three broad priorities; full employment, price stability, and moderate long-term interest rates. The committee’s functions affect the federal funds rate, which influences overall monetary and credit conditions, aggregate demand, and the entire economy.
The federal funds rate refers to the interest rate charged by banks when they lend their reserve balances to each other. When it changes, consumer interest rates vary.
It was created under the December 1913 Federal Reserve Act signed into law by President Woodrow Wilson. The Act intended to provide a safer, more flexible, and more stable monetary and financial system.
The Fed participates in the payment system to ensure that cash, check, and electronic transactions are completed reliably. It provides check collecting services on par. Before the Federal Reserve System was established, the United States’ check system was based on paper, and primarily for checks between banks and between businesses.
The system was slow and inefficient and often paid checks at less than full face value (nonpar banking). The Federal Reserve Act was amended in 1917 to try to resolve this. By 1980, nonpar banking had largely disappeared.
Those numbers on the bottom left corner of your paper checks? Those are bank routing numbers established by the Federal Reserve System. Paper check clearing is a big deal. In 2014, the Federal Reserve collected 6,000,000,000 (that’s billions) checks totaling more than $6,000,000,000,000 (that’s trillions).
Electronic check processing
In the 1990s, Reserve Banks began offering electronic check presentment services to banks. By the 2000s, up to 25% of checks handled by the Reserve Banks were processed electronically. The system was modernized by the 2003 Check Clearing for the 21st Century Act passed by Congress. The Act allowed banks to remove paper checks from the check collection system and to send digital images to banks electronically.
This process of check truncation has made the interbank check collection process almost entirely electronic and significantly more efficient — no more need to deliver paper checks around the country every day.
A deeper dive — Related reading from the 101:
The Federal Reserve plays a significant role in interest rates in the United States.
Large parts of bank regulation in the United States fall to the Federal Reserve.