Introduction
Federal Reserve is the institution credited with setting U.S monetary policies. Numerous economists are found in this institution and they constantly analyze economic progress of the nation as well as other figures throughout the globe. Every decision of congress lies on the advice given by the congressional office. Economies of various countries rely on fiat money systems; an example is the U.S where the Federal Reserve acts as the monetary supply regulator. It operates like a central bank and is charged with the responsibility of controlling the flow of money in the market or economy and also governs the system of banking in the U.S. Its responsibilities are similar to those of the bank of England, Europe and Japan among others (Mankiw, 2007, pp. 684-705). This paper will attempt to study the Federal Reserve System, monetary system, policies and their effects on the country’s economy and employment.
Money
Money can be defined as anything commonly accepted as payment for services offered or goods sold. It also refers to anything commonly accepted as repayment for debts. Money has many functions but the main ones include their use as a medium of exchange; this means it can be used as the intermediate in any trade for goods and services. Money has other functions such as being a store of value; meaning it has to represents a stable value to be saved over time and regain its value when retrieved. Inflation is a factor that tries to weaken this function. Money also functions as a Unit of account; this conveys its property as divisible without value loss and must be a numerical measure of other currencies or commodities. It acts as a standard of delayed payment; a conventional way of repaying debts. Money system in most governments is founded on fiat system, that is, it does not have inherent use value like the other commodities. Its declaration as the legal tender in any government gives it its value and therefore, has to be generally accepted within the frontier of a nation (Mankiw, 2007, pp. 684-705).
Central bank and how it manages the monetary system
Central bank is an institution charged with the task of governing systems of banking as well as controlling the flow of money in the market. It also operates as the bank of banks; lend to banks which are short financially, they do this to stabilize the banking system. Their other main task is to control the amount of money flowing in the market; that is, money supply. In the U.S monetary system is managed by monetary policies which are constituted by the Federal Open Market committee (FOMC). This committee assembles regularly after 6 weeks, to discus policy changes on money supply. Essentially, when there is high inflation rate in the market, the central bank withdraws money from the market through the banks and releases money to the market when there is less money circulating. The U.S central Bank or the Federal Reserve controls the circulation of money by buying and selling of bonds. These are usually done at the Federal Reserve’s New York trading desk. When there is low inflation and very little circulation of money in the economy, the FOMC makes dollars which are used to buy bonds from the public; this increases money supply in the market consequently, when there is high inflation meaning a lot of money in circulation, FOMC reduces the supply of money by selling bonds to the public. This is derived from the principle of economics which states that when a government prints so much money, prices shoot leading to high inflation, while if there is very little money in supply, the prices fall, and hence low inflation. Since there is short-run link between unemployment and inflation, the Federal Reserve’s policies impacts on both unemployment and inflation (Mankiw, 2007, pp. 684-705).
Direction of recent monetary policy by the Federal Reserve
Monetary policies can be defined as the directions taken by the central bank in controlling the flow, cost and credit of money to enhance its economic goals. The most recent direction was to keep monitoring the market due to expectations of stable inflation and return to price stability. However policies would be changed as warranted by the market (Board of Governors of the Federal Reserve System, 2010 p. 1).
Policy action that the Federal Reserve has taken to confirm that direction
FOMC meeting in April decided to maintain the federal rate at 0%-0.25% and also closed all except one of the liquidity facilities that were created during the economic crisis (Board of Governors of the Federal Reserve System, 2010 p. 1).
Effects of monetary policies on the economy’s production and employment
The short-run link between unemployment and inflation depicts that Federal Reserve’s policies impacts on both unemployment and inflation. When there is a lot of money in supply, prices tend to shoot; short term effects on unemployment can be astonishing, and starts by hitting the low income earners, since it does not directly translate into increased pay (Board of Governors of the Federal Reserve System, 2010 p. 1).
Conclusion
Federal Reserve plays a big role in the development of the U.S economy, just as other central banks in various countries. This is because the countries operate fiat systems of monetary management. It controls the monetary policy which guides the supply of money in the market and also governs the banking system. In effect, by controlling the monetary policy tools, the Federal Reserves controls inflation, which in turn impacts on short term employments and hence the country’s economy (Mankiw, 2007, pp. 684-705).
References
Board of Governors of the Federal Reserve System. (2010). Monetary policy. Web.
Mankiw, N. G. (2007). Principles of Economics (4th ed.).