Question

Why FOMC is important?

What does FOMC do?

Can the Fed control over the federal funds rate and over bank reserves simultaneously?

Answer 1

The Federal Open Market Committee, or FOMC, is the body that determines monetary policy for the Fed. It is responsible for formulating a strategy aimed at fostering stable prices and economic development. To put it clearly, the FOMC manages the money supply of the country. The FOMC's voting members are the Board of Directors, the president of New York's Federal Reserve Bank and the presidents of four other Reserve Banks, who serve on a rotating basis. All the presidents of the Reserve Bank engage in discussions on FOMC reform. The chairman of the Board of Governors chairs the FOMC.

The Committee is managing interest rates by setting a target for the pace of fed funds. It is the rate for overnight loans known as fed funds that banks charge to each other. Banks are using these loans to ensure they are adequate to fulfill the Fed's reserve requirement. Banks are expected to hold this balance at their local Federal Balance bank or in cash in their vaults each night.

Though the FOMC sets a target for the rate of fed funds, the banks are actually setting the rate themselves. The Fed is exerting pressure on banks to comply with its free market operations. The Fed purchases securities from member banks, typically from Treasury notes. When the Fed decides to bring down the rate, it buys securities from banks. This contributes to their savings in return, offering the bank more fed funds than this wishes. Banks will lower the cost of fed funds to lend the extra money. Conversely, it replaces the bank's reserves with securities when the Fed needs rates to increase. This reduces the amount available for lending, causing the banks to increase the rates.

The Federal Reserve actually controls nothing but the interest rates that are most short-term. It does not even control the Federal Funds limit. It regulates the rate it is willing to lend money itself at, that's real. And there are Free Market Activities, too. Of which they all control interest rates. But they're not taking care of them.