Question

1- After reviewing and understanding the functions of the Federal Reserve, would you agree that many countries have a very similar set up as to the control of the money supply of that country? How are the Bank of Japan, Bank of England and The US Federal Reserve similar?

2- What are the various ways in which the central bank “FED” on behalf of the government intervenes to resolve an economic crisis? What are the advantages and disadvantages of this interference? What is your opinion regarding the quantitative easing conducting now in by the FED in The United States upon Covid 19?

Answer 1

ANSWER1.

YES, After reviewing and understanding the functions of the Federal Reserve, we agree that many countries have a very similar set up as to the control of the money supply of that country.

The organization responsible for conducting monetary policy and ensuring that a nation’s financial system operates smoothly is called the central bank. Most nations have central banks or currency boards. Some prominent central banks around the world include the European Central Bank, the Bank of Japan, and the Bank of England. In the United States, the central bank is called the Federal Reserve—often abbreviated as just “the Fed.”

The Federal Reserve, like most central banks(European Central Bank, the Bank of Japan, and the Bank of England), is designed to perform three important functions:

1. To conduct monetary policy
2. To promote stability of the financial system
3. To provide banking services to commercial banks and other depository institutions, and to provide banking services to the federal government.

The first two functions are sufficiently important that we will discuss them in their own modules; the third function we will discuss here.

The Federal Reserve provides many of the same services to banks as banks provide to their customers. For example, all commercial banks have an account at the Fed where they deposit reserves. Similarly, banks can obtain loans from the Fed through the “discount window” facility, which will be discussed in more detail later. The Fed is also responsible for check processing. When you write a check, for example, to buy groceries, the grocery store deposits the check in its bank account. Then, the physical check (or an image of that actual check) is returned to your bank, after which funds are transferred from your bank account to the account of the grocery store. The Fed is responsible for each of these actions.

On a more mundane level, the Federal Reserve ensures that enough currency and coins are circulating through the financial system to meet public demands. For example, each year the Fed increases the amount of currency available in banks around the Christmas shopping season and reduces it again in January.

Finally, the Fed is responsible for assuring that banks are in compliance with a wide variety of consumer protection laws. For example, banks are forbidden from discriminating on the basis of age, race, sex, or marital status. Banks are also required to disclose publicly information about the loans they make for buying houses and how those loans are distributed geographically, as well as by sex and race of the loan applicants.

ANSWER2

the important role that central banks must play in the management and resolution of crises, as part of their responsibility to contribute to the stability of the financial system as a whole. But central banks should not be overburdened and cannot do it alone. Governments. should also play an important role in crisis resolution, management, and prevention. Governments have a responsibility to address structural, regulatory, and other weaknesses in the real economy that might otherwise contribute to the gestation of future crises.

Frameworks to Manage and Resolve Crises

1. The principal lesson to be drawn from the economic and financial crisis that erupted in 2007 is that serious economic and financial crises can happen, even in low inflation advanced market economies. Thus, all countries must prepare by putting in place frameworks both to manage and to resolve crises. Central banks need to be cognizant of the lessons of economic history, and be ready to explore various analytical frameworks that would help anticipate the emergence of such crises. This would also contribute to preventing crises.

2. Central banks have a crucial role to play in crisis management and, in particular, in ensuring the stability and smooth functioning of the financial system. Preparations beforehand, in association with other government bodies, are of crucial importance in ensuring the crisis does not spin out of control. Central banks must also have flexibility and, where necessary, be strengthened in their flexibility and powers to act to deal with unexpected and rapidly changing circumstances. This includes not only the traditional instrument of Lender of Last Resort, but also the powers to deploy unconventional monetary instruments like those used in recent years.

3. However, the ultimate resolution of crises that have their roots in excessive credit creation and debt accumulation often can only be accomplished through arms of government other than the central bank. Preparations made beforehand, such as legislation concerning bankruptcies, are crucial.

4. Supportive actions by central banks can be useful, but there are serious risks involved if governments, parliaments, public authorities, and the private sector assume central bank policies can substitute for the structural and other policies they should take themselves.

5. While unconventional policies such as quantitative easing, off-balance-sheet commitments, and forward guidance have played an important role in the management of recent crises, deeper studies are still needed to ascertain their longer-term overall benefits and unintended consequences. In particular, the possibility that such unconventional policies might encourage excessive risk taking, and appropriate means to counter such risks, should be considered

WHAT IS THE FED DOING TO SUPPORT THE U.S. ECONOMY AND FINANCIAL MARKETS?

Near-Zero Interest Rates

• Federal funds rate: The Fed has cut its target for the federal funds rate, the rate banks pay to borrow from each other overnight, by a total of 1.5 percentage points since March 3, bringing it down to a range of 0 percent to 0.25 percent. The federal funds rate is a benchmark for other short-term rates, and also affects longer-term rates, so this move is aimed at lowering the cost of borrowing on mortgages, auto loans, home equity loans, and other loans, but it will also reduce the interest income that savers get.

Supporting Financial Market Functioning

• Securities purchases (QE): The Fed has resumed purchasing massive amounts of securities, a key tool employed during the Great Recession, when the Fed bought trillions of long-term securities. Treasury and mortgage-backed securities markets have become dysfunctional since the outbreak of COVID-19, and the Fed’s actions aim to restore smooth market functioning so that credit can continue to flow. On March 15, the Fed said that it would buy at least $500 billion in Treasury securities and $200 billion in government-guaranteed mortgage-backed securities over “the coming months.” Then on March 23, it made the purchases open-ended, saying it would buy securities “in the amounts needed to support smooth market functioning and effective transmission of monetary policy to broader financial conditions.” Market function subsequently improved, and the Fed tapered its purchases through April and May. On June 10, however, the Fed said it would stop tapering and would buy at least $80 billion a month in Treasuries and $40 billion in residential and commercial mortgage-backed securities until further notice. Between mid-March and mid-June, the Fed’s portfolio of securities held outright grew from $3.9 trillion to $6.1 trillion.

Encouraging Banks to Lend

• Direct lending to banks: The Fed lowered the rate that it charges banks for loans from its discount window by 1.5 percentage points, from 1.75 percent to 0.25 percent, lower than during the Great Recession. These loans are typically overnight—meaning that they are taken out at the end of one day and repaid the following morning—but the Fed has extended the terms to 90 days. Banks pledge a wide variety of collateral (securities, loans, etc.) to the Fed in exchange for cash, so the Fed is not taking on much risk in making these loans. The cash allows banks to keep functioning: depositors can continue to withdraw money, and the banks can make new loans. Banks are sometimes reluctant to borrow from the discount window because they fear that if word leaks out, markets and others will think they are in trouble. To counter this stigma, eight big banks agreed to borrow from the discount window.

Supporting Corporations and Small Businesses

• Direct lending to major corporate employers: In a significant step beyond its crisis-era programs, which focused mainly on financial market functioning, the Fed on March 23 established two new facilities to support highly rated U.S. corporations. The Primary Market Corporate Credit Facility (PMCCF) allows the Fed to lend directly to corporations by buying new bond issuances and providing loans. Borrowers may defer interest and principal payments for at least the first six months so that they have cash to pay employees and suppliers. But during this period, borrowers may not pay dividends or buy back stocks. And, under the new Secondary Market Corporate Credit Facility (SMCCF), the Fed may purchase existing corporate bonds as well as exchange-traded funds investing in investment-grade corporate bonds. These facilities will “allow companies access to credit so that they are better able to maintain business operations and capacity during the period of dislocations related to the pandemic,” the Fed said. Initially supporting $100 billion in new financing, the Fed announced on April 9 a massive expansion—the facilities will now backstop up to $750 billion of corporate debt. And, as with previous facilities, the Fed invoked Section 13(3) of the Federal Reserve Act and received permission from the U.S. Treasury, which provided $75 billion from its Exchange Stabilization Fund to cover potential losses.

Cushioning U.S. Money Markets from International Pressures

• International swap lines: Using another tool that was important during the Great Recession, the Fed is making U.S. dollars available to other central banks, so they can lend to banks that need them. The Fed gets foreign currencies in exchange, and charges interest on the swaps. The Fed has cut the rate it charges on those swaps with central banks in Canada, England, the Eurozone, Japan, and Switzerland, and extended the maturity of those swaps. It has also extended the swaps to the central banks of Australia, Brazil, Denmark, Korea, Mexico, New Zealand, Norway, Singapore, and Sweden.

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