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FOMC

Page history last edited by Brian D Butler 11 years, 4 months ago

FOMC

 

Open market operations. The buying and selling of U.S. Treasury and federal agency securities in the open market

 

Open market operations--purchases and sales of U.S. Treasury and federal agency securities--are the Federal Reserve's principal tool for implementing monetary policy. The short-term objective for open market operations is specified by the Federal Open Market Committee (FOMC). This objective can be a desired quantity of reserves or a desired price (the federal funds rate). The federal funds rate is the interest rate at which depository institutions lend balances at the Federal Reserve to other depository institutions overnight.

 

 

 

 

 

Definition:

 

The Federal Open Market Committee (FOMC), a component of the Federal Reserve System, is charged under U.S. law with overseeing open market operations in the United States, and is the principal tool of US national monetary policy. (Open market operations are the buying and selling of government securities.) The Committee sets monetary policy by specifying the short-term objective for those operations, which is currently a target level for the federal funds rate (the rate that commercial banks charge on overnight loans among themselves). The FOMC also directs operations undertaken by the Federal Reserve System in foreign exchange markets, although any intervention in foreign exchange markets is coordinated with the U.S. Treasury, which has responsibility for formulating U.S. policies regarding the exchange value of the dollar.

 

 

Open market operations are the means of implementing monetary policy by which a central bank controls its national money supply by buying and selling government securities, or other instruments. Monetary targets, such as interest rates or exchange rates, are used to guide this implementation.

 

Since most money is now in the form of electronic records, rather than paper records such as banknotes, open market operations are conducted simply by electronically increasing or decreasing ('crediting' or 'debiting') the amount of money that a bank has, e.g., in its reserve account at the central bank, in exchange for a bank selling or buying a financial instrument. Newly created money is used by the central bank to buy in the open market a financial asset, such as government bonds, foreign Currency, or gold. If the central bank sells these assets in the open market, the amount of money that the purchasing bank holds decreases, effectively destroying money.

 

The process does not literally require the immediate printing of new currency. A central bank account for a member bank can simply be increased electronically. However this will increase the central bank's requirement to print currency when the member bank demands banknotes, in exchange for a decrease in its electronic balance. Often, the percentage of the total money supply

comprised of physical banknotes is very small. In the United States less than 5% of common 'money' actually exists in the form of physical banknotes or coins. The rest exists as credits in computerized bank accounts.

 

 

 

 

What is monetary policy?

The term monetary policy refers to the actions undertaken by a central bank, such as the Federal Reserve, to influence the availability and cost of money and credit as a means of helping to promote national economic goals.

 

 

How does the Federal Reserve implement monetary policy?

The Federal Reserve implements monetary policy using three major tools:

  • Open market operations. The buying and selling of U.S. Treasury and federal agency securities in the open market
  • Discount window lending. Lending to depository institutions directly from their Federal Reserve Bank’s lending facility (the discount window), at rates set by the Reserve Banks and approved by the Board of Governors
  • Reserve requirements. Requirements regarding the amount of funds that depository institutions must hold in reserve against deposits made by their customers.

 

read more from the Feds website:  http://www.federalreserve.gov/generalinfo/faq/faqmpo.htm

 

 

 

FOMC details...

 

great details here:   Money creation and the Federal Reserve

 

Open-market operations

 

The Federal Reserve Board in Washington, together with the 12 Federal Reserve Banks, constitutes our American central bank. Every modern country has a central bank. Its primary mission is to control the nation’s money supply and credit condition. 

 

The Fed’s most useful tool is Open market operations. By selling our buying government securities in the open market, the Fed can lower or raise bank reserves. These so called open market operations are a central bank’s most important monetary policy instrument. The Federal Open Market Committee (FOMC).  In setting policy, the FOMC decides whether to pump more reserves into the banking system by buying government bonds or whether to tighten monetary policy by selling government securities.

 

 

 

 

 

 

Movements on the discount rate

 

When commercial banks are short of reserves, they are allowed to borrow form the Federal Reserve Banks. Their loans were included under the asset headings “Loans and acceptance”; these loans are called Borrowed Reserves.

 

When borrowed reserves are growing, the banks are borrowing from the Fed, thereby increasing total bank reserves (borrowed + unborrowed reserves)

 

Conversely, a drop in borrowed reserves promotes a contraction in total bank reserves.

 

In the early years, the Fed managed the money supply mainly by buying (or discounting) commercial paper brought to it by banks or companies. This proved unsatisfactory because the Fed was in a passive position.

 

Today, the discount window is used primarily to buffer the day to day fluctuations in member bank reserves, and actual borrowings are typically extremely small.

 

Discount rate

– is the interest rate charged on bank borrowings from the 12 regional Federal Reserve Banks.

 

Today, the discount rate is a relatively minor instrument of monetary policy. Sometimes, a change in the discount rate is used to signal markets of a major policy change. But mostly, the discount rate simply follows market interest rates to prevent banks from making windfall profits by borrowing at a low discount rate and lending at a higher rate on the open market.

 

 

Circular Trading:  (triangular trading)

The Federal Reserve Bank, the US Treasury and the large US commercial banks are in a process that is commonly defined as “circular trading” in most emerging market stock exchanges.Unless China’s policy makers understand this process clearly it would be hard for them to construct an appropriate policy response to the credit crisis of their own.

 

The Treasury issues Bonds, that are subscribed to by the public, and primary dealers in US Govt. Securities, such as Goldman Sachs, purchase these bonds on behalf of their customers in return for cash. The Federal Reserve then gives a credit to the Treasury in its account with the Fed, instead of remitting the cash received against the Treasury Bond purchases to the Treasury. The Fed then extends new credit to the banks, either against a new receivable or against a collateral security (bad loan) that the bank provides the Fed. Overall, the banks have exchanged either a bad loan, or a new liability to the Fed, for real cash in green dollars.

 

 

 

Links:

 

 Wikipedia Article

 Open Market operations Wikipedia

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Related:

 

federal funds rate

Fed discount rate

FOMC

LIBOR

 

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