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Updated January 13, 2022
Introduction to Financial Services: The Federal Reserve
Structure of the Federal Reserve
banks regulated by the Fed buy stock in the Fed to become
The Federal Reserve Act of 1913 (12 U.S.C. 221 et seq.)
member banks. Membership is mandatory for federally
created the Federal Reserve (Fed) as the nation’s central
chartered banks but optional for state-chartered banks. The
bank. The Fed is composed of 12 regional Federal Reserve
stock pays dividends of 6% for banks with less than $10
banks overseen by a Board of Governors in Washington,
billion in assets and the lower of 6% or the 10-year
DC. Figure 1 illustrates the city in which each bank is
Treasury yield for banks with more than $10 billion in
headquartered and the area of each bank’s jurisdiction.
assets. Member banks choose two-thirds of the boards at the
regional Fed banks.
The board is composed of seven governors nominated by
the President and confirmed by the Senate. The President
Responsibilities of the Federal Reserve
selects (and the Senate confirms) a chair and two vice
The Fed’s responsibilities fall into four main categories:
chairs from among the governors, one of whom is
monetary policy, lender of last resort, regulation of certain
responsible for supervision. The governors serve
banks and other financial firms, and provision and oversight
nonrenewable 14-year terms, but the chair and vice chairs
of certain payment systems.
serve renewable four-year terms. Jerome Powell has been
nominated for a second term as chair beginning in 2022.
Monetary Policy. The Fed’s primary monetary policy
Board members are chosen without regard to political
instrument is the federal funds rate (the overnight bank
affiliation. Regional bank presidents are chosen by their
lending rate). The Fed influences interest rates to affect
boards with the approval of the Board of Governors.
interest-sensitive spending on capital investment, consumer
durables, and housing. Interest rates also indirectly
Figure 1. Federal Reserve Districts
influence the value of the dollar and, therefore, spending on
exports and imports. The Fed reduces rates to stimulate
economic activity and raises rates to slow activity.
Monetary policy is considered a blunt instrument that
cannot be targeted to affect specific regions, certain
industries, or the income distribution.
Formerly, the Fed targeted the federal funds rate primarily
through open market operations—the purchase and sale of
U.S. Treasury securities, mainly from primary dealers (who
specialize in trading government securities), in the
secondary market. Often, these transactions were made on a
temporary basis using repurchase agreements, known as
repos. Since the 2007-2009 financial crisis, the Fed has
Source: Federal Reserve.
primarily used a new method for targeting interest rates that
relies on banks maintaining large reserves at the Fed and
In general, policy is formulated by the board and carried out
paying banks interest on those reserves. The Fed sets that
by the regional banks. Monetary policy decisions, however,
interest rate to influence the federal funds rate. In addition,
are made by the Federal Open Market Committee (FOMC),
monetary policy can involve foreign exchange operations,
which is composed of the seven governors, the president of
although these are rare. Open market and foreign exchange
the New York Fed, and four other regional bank presidents.
operations are conducted by the New York Fed per the
Representation for these four seats rotates among the other
FOMC’s directives. The Fed influences growth in the
11 regional banks. The FOMC meets at least every six
money supply through its control over bank reserves and
weeks to review the stance of monetary policy.
currency in circulation.
The Fed’s budget is not subject to congressional
During the financial crisis, the Fed reduced the federal
appropriations or authorizations. The Fed is funded by fees
funds rate to zero and conducted large-scale asset purchases
and the income generated by securities it owns. Its income
of Treasury- and mortgage-backed securities from 2008 to
exceeds its expenses, and it remits most of its net income to
2014—known as quantitative easing (QE)—that increased
the Treasury, where it is used to reduce the federal debt.
the size of its balance sheet. Following a period when rates
rose and the balance sheet shrunk, the Fed began to cut
The Fed’s capital consists of stock and a surplus. The
rates and expand its balance sheet again in 2019. At the
surplus is capped at $6.825 billion by law. (Congress
onset of the pandemic, the Fed swiftly lowered interest rates
reduced the Fed’s financial surplus as a budgetary “pay for”
to zero and increased its use of QE and repos to boost
in P.L. 114-94, P.L. 115-123, and P.L. 115-174.) Private
https://crsreports.congress.gov
Introduction to Financial Services: The Federal Reserve
liquidity. This caused the balance sheet to double in 18
regularly conduct other hearings on the Fed (12 U.S.C.
months, which has boosted Fed remittances to the Treasury.
225b and 247b).
Lender of Last Resort. Despite their name, Federal
Policy Issues
Reserve banks do not carry out any banking activities, with
Monetary Policy Normalization and Inflation. In 2021,
one limited exception: The Fed traditionally acts as lender
inflation rose to its highest level since the 1980s. This has
of last resort by making short-term, collateralized loans to
led to debate over how quickly the Fed should normalize
banks through its discount window. The Fed generally sets
monetary policy—raise interest rates and end its asset
the discount rate charged for these loans above market
purchases. In November 2021, the Fed began to taper its
rates. In normal market conditions, the Fed’s lending
asset purchases. It has kept interest rates at zero. Critics
operations are minimal. In crises, the Fed has emergency
believe that the Fed has put long-term price stability at risk
authority to extend its lender-of-last-resort function to
by normalizing too slowly as inflation has exceeded the
nonbank firms and markets. In response to the pandemic,
Fed’s target. The Fed has argued that the economy is still
the Fed announced an alphabet soup of emergency
too far below full employment to raise rates and inflation is
programs to stabilize the financial system and assist entities
only temporarily being pushed up by one-time, pandemic-
cut off from credit markets. The CARES Act (P.L. 116-
related factors, such as supply chain disruptions.
136) provided at least $454 billion to support some of these
programs, including the Main Street Lending Program and
Diversity. Some Members of Congress have expressed
the Municipal Liquidity Facility. The programs were much
concern over a lack of diversity at the Fed and in the
smaller than their announced size and expired in 2020.
banking sector and believe that the Fed could do more to
eliminate racial disparities. The Dodd-Frank Act (P.L. 111-
Regulation. The Fed regulates bank holding companies
203) created Offices of Minority and Women Inclusion for
(including the largest banks), some foreign banks, and some
the Federal Reserve System. H.R. 2543 would require the
state-chartered banks. The Fed’s regulatory responsibilities
Fed to exercise its duties to foster the elimination of (and
overlap with those of other bank regulators—the Consumer
testify on its efforts to eliminate) racial disparities. H.R.
Financial Protection Bureau (CFPB), the Federal Deposit
2516 would require the Fed (and other bank regulators) to
Insurance Corporation (FDIC), and the Office of the
include diversity in their supervisory ratings of banks.
Comptroller of the Currency (OCC). The Fed shares
responsibility for maintaining financial stability with the
Central Bank Digital Currency (CBDC). With the rise of
Financial Stability Oversight Council (FSOC) and its
private digital currencies, such as Bitcoin, some have called
members. (FSOC is a council of regulators, including the
for the Fed to create a “digital dollar” or CBDC. The Fed
Fed, headed by the Treasury Secretary.) The Fed
has not yet taken a position on the desirability of a CBDC.
participates in intergovernmental fora, such as the Financial
Critics question whether the costs of introducing a CBDC
Stability Board and the Basel Committee on Banking
would outweigh the benefits. Open questions remain about
Supervision, alongside other U.S. agencies.
who could hold CBDCs, what they could be used for, and
whether individuals would be able to store CBDCs in
Payment Systems. The Fed operates key payment systems,
personal accounts at the Fed.
including check clearing and interbank transfers, and
oversees some private-sector payment systems. The Fed is
Climate Change. In 2020, the Fed joined the Network for
planning to launch FedNow, a real-time payment system for
Greening the Financial System, a group of over 80 central
instantaneous payment settlement, in 2023. It also acts as
banks and regulators focused on climate-related risks. In
the federal government’s fiscal agent—federal receipts and
2021, the Fed created two internal committees related to
payments flow through Treasury’s accounts at the Fed.
climate risk and announced they were developing climate
scenario analysis to measure banks’ exposure to climate
Mandate and Congressional Oversight
risk. Some critics believe the Fed should be doing more to
Congress has delegated monetary policy to the Fed but
combat climate change. Other critics believe that climate
conducts oversight to ensure the Fed meets its statutory
change is outside of the Fed’s mission and the Fed lacks the
mandate of “maximum employment, stable prices, and
tools to effectively address it.
moderate long-term interest rates” (12 U.S.C. 225a). The
Fed has defined stable prices as a longer-run goal of 2%
CRS Resources
inflation. In 2020, the Fed pledged to allow inflation to run
CRS In Focus IF11751, Introduction to U.S. Economy:
slightly above 2% to make up for inflation previously
Monetary Policy, by Marc Labonte
falling short of 2%.
CRS Report R46411, The Federal Reserve’s Response to
The Fed is more independent from Congress and the
COVID-19: Policy Issues, by Marc Labonte
Administration than most agencies are. Economists have
justified the Fed’s independence on the grounds that
CRS Report R46890, Inflation in the Wake of COVID-19,
monetary policy decisions that are insulated from short-
by Marc Labonte and Lida R. Weinstock
term political pressures result in better economic outcomes.
There is an inherent trade-off between independence and
CRS Report R46850, Central Bank Digital Currencies:
accountability, however. The chair and vice chair for
Policy Issues, by Marc Labonte and Rebecca M. Nelson
supervision are statutorily required to testify semi-annually
before the committees of jurisdiction, and the committees
Marc Labonte, Specialist in Macroeconomic Policy
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Introduction to Financial Services: The Federal Reserve
IF10054
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