Commercial Banks and FOMC: Who Makes Monetary Policy?
November 09, 2015
Before the Federal Reserve was founded by the passage of the Federal Reserve Act of 1913, there was concern from politicians and bankers across the country that a central bank would yield only to the interests of the powerful northeast banks. To mitigate this fear, a compromise was reached creating 12 regional Fed branches across the country which would each help install and distribute a national currency and ensure that its regions unique economic concerns were taken into account in the formulation of monetary policy. Twenty years later, in the middle of the Great Depression, congress passed the Banking Act of 1933, creating the Federal Open Market Committee (FOMC) to centralize monetary policy making. Today, many people claim that private banks have unchecked influence on the Fed because they elect FOMC voting members. To understand this claim, it is necessary to understand how the regional branches of the Federal Reserve work and how voting power of regional member banks ties into to who has a say on FOMC. While this article does not argue if private banks and corporations should have the influence they do on monetary policy, it explains how Fed member banks play a direct role in electing 5 of the 12 voting members of FOMC.
(Image: Federal Reserve Regions. Source: Federal Reserve)
Regional Bank Structure
The regional Fed branches are in large part intended to serve their member banks by providing loans and money services. These member banks are required to hold stock in the Federal Reserve, which cannot be traded or sold, but does return a 6 percent annual dividend from Fed profits. (The Fed does not intend to be a profit making institution, but by virtue of its operations, it does profit). Each regional bank has a board of directors, comprised of 9 members. The members are designated as class A, B, or C. Class A members are elected by the member banks of the respective regional bank. They are typically bankers and may not participate in regulatory decisions or vote for the branches president. Class B members are also elected by the member banks, but are supposed to represent various non banking industries. Class A and B members elected by the banks must also be approved by the Fed Board of Governors in Washington. Class C members are directly elected by the Board of Governors in Washington. They are also supposed to represent the public and non banking industries. The 6 B and C members elect the president of the Regional Fed, who serves as a rotating voting member of FOMC.
FOMC and The Regional Presidents
FOMC consists of the 7 Governors of the Federal Reserve, who are nominated by the president and approved by the senate, and 5 presidents of the regional Fed, who are elected by the board of directors of their regional banks and approved by Board of Governors. The president of the New York Fed has a permanent seat on the FOMC, and 4 presidents from the other 11 banks serve on the FOMC on a rotating basis. Non voting branch presidents attend and participate in FOMC discussion, but do not vote on a final decision. When FOMC reaches a decision, the monetary policy is actually carried out at the individual branches. Open market sales and purchases are preformed by the New York Fed. For interest rates, FOMC sets a target interest rate, and the individual branches adjust the overnight rate at their discount window (where banks go for short term loans to finance their operations). The rate at each branch’s discount window is different by location and determined by the branch’s board of directors and approved by the Board of Governors.
(Image: FOMC Voting Structure. Source: Chicago Fed)
Corporate Influence on Monetary Policy
The Federal Reserve is one of the most misunderstood institutions in our nation. There are cries from the far left, the far right, and in between that corporate America dominates the Fed at the expense of the everyday person. These claims are rooted in a false impression of how the Fed works. The fact is that private banks do have a great influence on how monetary policy is decided and implemented. It is also true that there are checks on that influence, most importantly the need for assent by the Board of Governors of the Fed, whose members are nominated by the president and approved by the senate. It is also important to remember that stable inflation and low unemployment are good for both private banks and the everyday American. Fed bank presidents are often academics who spend their lives researching economic efficiency, and while they may come from different schools of thought, they all have in mind the best interests of our economy. In determining how corporate America directly influences FOMC, it is important to understand the Fed’s unique structure. When broken down level by level, the structure begins to make more sense and we find the roots of the arguments regarding private banking interests and the creation of monetary policy.
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