Monetary Policy of the U.S. Federal Reserve Essay

Monetary Policy of the U.S. Federal Reserve - Essay Example This paper discusses the U.S. Federal Reserve's monetary policy. Most simple put the attempt by the Federal Reserve to establish balanced national income and help spur economic growth by controlling the size of the money supply is termed as monetary policy. It is implemented with the help of policy tools which usually consist of open market operations, discount rates, and reserve requirements. Open market operations are the strongest monetary policy tool consisting of the purchase and sale of treasury and federal agency securities. The federal open market committee normally specifies all short-term objectives related to open market operations. These objectives normally identify reserve targets or the desired federal funds rate. It is interesting to note that there have been diverse objectives over the years ranging from federal funds rate targets in the eighties to policy changes in the nineties. No matter what the short term objective the long term objective has always been price st ability and sustainable economic growth. Another integral monetary policy tool is the discount rate which most simply put is the interest rate being charged to depository institutions including commercial banks on loans they receive from their regional discount window (Federal Reserve Bank's lending facility). These loans include primary, secondary and seasonal credit each one with its own respective interest rate. The primary credit program consists of very short term loans to sound financial institutions. Those not eligible for primary credit are allowed to apply for secondary credit whereas seasonal credit is provided to those depository institutions that have fluctuating funding requirements. It should be noted that the discount rates on all three lines of credit vary with the rate on primary credit being the lowest followed by a higher rate on secondary credit whereas the seasonal credit discount rate is an average of selected discount rates. Reserve requirements are another monetary tool that which as the name signif ies are the number of reserve funds that a depository institution must hold as a safeguard against deposit liabilities. These reserves are held in the form of physical cash or deposits with Federal Reserve Banks with the board of governors having lone authority over any changes in the reserve requirements. The reserve requirements are not erratic and are determined using Federal Reserve Board Regulations.All of the above help the government implant its monetary policy and eventually result in a stronger economic power. Proper use of monetary policy can have extremely positive results which were visible during the first half of 2006 when the US economy showed speedy growth. Any change in the federal funds rate triggers a chain of events that affect other short-term interest rates, foreign exchange rates, long-term interest rates, the amount of money and credit, and, ultimately, a range of economic variables, including employment, output, and prices of goods and services.