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What is the Federal Reserve System?

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  • Written By: Mike Howells
  • Edited By: Michelle Arevalo
  • Last Modified Date: 25 August 2016
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The Federal Reserve System, often referred to as the Fed, is an entity unique to the United States, and serves as its central bank. It is charged with monitoring, regulating, and administering the nation's currency, monetary policy, and credit. It was conceived as an independent organization, is run by a board of governors, and headed by a single chairman. In addition to a central location in Washington, D.C., the Federal Reserve System is comprised of many private member banks, as well as twelve Federal Reserve Banks located around the country, and all contribute to the Fed's overarching goal of maintaining a stable system of financing in America.

Unlike the central banks of virtually every other country in the world, the Federal Reserve System is unique in that it does not print the United States' own currency, that task is carried out by the Treasury Department. As an independent entity, the Federal Reserve System is not subject to direct control by the elected officials in the United States Government, and though its top-level employees are appointed by politicians, they are intended to operate outside the political system. The government, however, receives all profits made by the Fed, after salaries and other expenses, such as dividends to its private member banks, are paid out.

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The Fed, as it is currently organized, was established in 1913, though the roots of a central banking system in the United States date back to its founding fathers. Alexander Hamilton, the first Secretary of the Treasury, was a strong proponent of a centralized bank, though early iterations were not given enough authority to enforce national monetary policy, and so failed. It was not until the emergence of a strong national economy in the 20th century that the need for a federal reserve system reached a tipping point.

Since its inception as a limited governing body, the Federal Reserve System has progressively gained more authority in shaping the fiscal policies of the United States. Given the supremacy of the US Dollar (USD) in international economics, the actions of the Fed are closely scrutinized and often the subject of much criticism and controversy. Economic volatility is often blamed on the actions or inaction of the Fed, and the results of quarterly meetings of its Board of Governors often profoundly affect global stock markets.

In addition to the indirect impact of its internal decisions, the Federal Reserve System has tools to directly affect the American financial system. It buys and sells US Treasury and agency securities in what is known as open market operations; it can set the amount interest rates are discounted on loans that commercial banks take out themselves; and also can adjust the amount of money that banks are actually required to keep in their vaults, which is known as reserve requirement. The Fed and its chairman may choose to wield any of these tools in the effort to maintain a stable fiscal environment in the US.

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