Definition
The Federal Reserve of the United States, commonly known as the Fed, is the organization responsible for monitoring and maintaining the United States currency supply. Established by Congress in 1913, the Fed is composed of a Washington D.C.-based Board of Governors, twelve large regional banks, and a number of smaller affiliated institutions.
The Federal Reserve of the United States has a number of methods for influencing the American money supply. Chief among these is the power of the Fed to increase or decrease the amount of currency in circulation. The Fed can purchase or sell government securities to its primary traders, which brings additional Federal Reserve Notes into circulation or removes excess paper money from the supply. The Fed also works with the U.S. Mint to print additional paper money, or to destroy unneeded currency.
Another of the Fed’s financial powers is its ability to influence the short-term interest rate. The Fed does this by changing the default rate at which it loans money to fellow banks. Since the Fed’s default rate is one of the major factors in determining the nationwide prime interest rate, the Fed’s actions can indirectly increase or decrease the yield from interest-accruing assets. This in turn plays a role in determining investor behavior, and the trends of the market as a whole.
In more detail, the rate that the Fed lends money to depository institutions is called the Discount Rate. That is set above the ”nominal rate” which is the rate that the depository institutions lend money to each other to meet reserve requirements at the Fed. The nominal rate is what is commonly known as the Federal Funds Rate. It is set by open market operations.
Since the money supply is a factor in determining the overall trade balance between currency markets, foreign exchange traders who work with US currency tend to keep a close eye on the actions of the Federal Reserve.
Janet Yellen is the current Chairman of the Federal Reserve System.
