Federal Reserve and Monetary Policy Eco212

Topics: Monetary policy, Central bank, Federal Reserve System Pages: 3 (930 words) Published: August 16, 2010
Federal Reserve and Monetary Policy

The Federal Reserve System is the central banking system of the United States. One of the main duties of the Federal Reserve is to implement policies to manage the nation's monetary supply. Particularly, the recent economic recession has caused the Fed to react with the expansionary monetary policy. The current year effects of this policy have been documented by the Federal Reserve's Board of Governors within the Monetary Policy Report to the Congress. The report communicates what tools the Fed use stabilize the economy, outlines the direction of the economy when the policies are put into action, and explains the effects the policies have on the economy's production and employment.

To understand the Federal Reserve and the monetary system, one must first acknowledge the purpose and function of money. Money has three primary functions: medium of exchange, store of value, and unit of account. Money's most important function, medium of exchange, refers to facilitating transactions. Without money in one of its many forms, the nation would still rely on the barter system. While bartering works by trading one good or service for another good or service, it must create a coincidence of wants among both parties. The function of store of value indicates that money or other capital should hold its value over time. The third function, unit of account, provides a mutual measure of the value of goods and services for exchange. Knowing the monetary value of a good allows suppliers to compare how much to supply and purchaser to compare how much to buy.

The central bank manages the nation's monetary system with two main tools. The first tool is implementing changes to interest rates and money the Fed lends to banks. When the nterest rate is raised with contractionary monetary policy, money becomes more expensive. This discourages banks to lend money to business and consumers, thus regulating spending in the economy to control...
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