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Structure of the Federal Reserve Board (America's Central Bank)


The structure of the Federal Reserve Bank is also unique among the world's central banks. It consists of the following:

■ A presidentially appointed Board of Governors with general responsibilities for oversight.

■ Twelve regional Federal Reserve banks that are private institutions nominally owned by their stockholders (commercial banks that are members of the Federal Reserve System).

■ The FOMC, a 12-member policymaking committee of the Federal Reserve. The 12 members consist of 7 governors appointed by the president and 5 regional reserve bank presidents.

The nation's monetary policy is decided at the monthly meetings of the FOMC. To understand how the FOMC operates, let us imagine that people in a community one day find themselves with more paper currency than they wish to hold — for example, when the main Christmas shopping season has ended. If the paper currency is physically convertible (for one ounce of silver, let us suppose), people will return the unwanted paper currency to the bank in exchange for silver, but the bank could head off this demand for silver by selling some of its own bonds to the public in exchange for its own paper currency. For example, if the community has 100 units of unwanted paper money, and if people intend to redeem the unwanted 100 units for silver at the bank, the bank could simply sell 100 units worth of bonds or other assets in exchange for 100 units of its own paper currency. This will soak up the unwanted paper and head off people's desire to redeem the 100 units for silver.

Thus, by conducting this type of open market operation — selling bonds (to take dollars out of circulation) when there is excess currency, and buying bonds (to put dollars in circulation) when there is too little — the bank can maintain the value of the paper currency at one ounce of silver without ever redeeming any paper currency for silver. In fact, this is essentially what all modern central banks do, and the fact that their currencies might be physically inconvertible is made irrelevant by the maintenance of financial convertibility. Please note that financial convertibility cannot be maintained unless the bank has sufficient assets to back the currency it has issued. This is not the case for many countries. For example, during the Asian foreign exchange currency crisis of 1997-1998 many of the Asian countries, such as Thailand and South Korea, experienced a sharp decline in their U.S. dollar and foreign currency reserves when they tried to support the value of their currencies by selling the dollars, the euros, and the British pounds to buy Thailand currency (the baht) — and create fictitious market demand.

The Federal Reserve banks are directed by nine-member boards of directors. Congress also stipulated a unique structure for those boards to ensure that the selection process does not favor bankers and allow them to become a majority on any given Federal Reserve Bank board. Congress, in doing so, wanted to ensure that the views, experience, and concerns of all economic interest groups would be expressed and heard during the development of monetary policy.

The nine-member board of directors of a Federal Reserve Bank is elected as follows:

■ Member commercial banks elect three members from the banking community and three members from agricultural, commercial, industrial, services, labor, and consumer communities.

■ The Federal Reserve Board of Governors appoints three directors on its own (it also appoints the Reserve banks' presidents).

For a detailed description of the operation of the Federal Reserve and the process used to adjust and manage interest rates, please read David H. Friedman's Essentials of Banking.[2]

The preceding discussion clearly indicates that interest rates, especially related to the U.S. dollar, are reflections of the way the Federal Reserve Board manages its monetary policy in response to many other factors.

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