The US Federal Reserve Explained: How the Fed Works

The Federal Reserve System, informally called the Fed, is the central bank of the United States of America. The Federal Reserve is responsible for stabilizing the financial system, regulating banking practices, supplying financial services to various depository institutions, adjusting interest rates to control inflation, maximizing employment, managing the money supply, and protecting consumers. The 63rd United States Congress passed the Federal Reserve Act, and President Woodrow Wilson signed it into law on December 23, 1913. The Federal Reserve Act created the Federal Reserve System, the central banking system of the US government. The birth of the Federal Reserve System was a response to the Panic of 1907—a three-week financial crisis where the New York Stock Exchange plummeted 50 percent from its peak the prior year. In the many years since the Federal Reserve's initial inception, Congress has expanded the Fed’s duties and authority to respond to the changing times and other financial crises. To secure the safety and integrity of the United States' banks and financial systems, the Federal Reserve has five core functions: 1. __Targeting interest rates__: One of the Fed's most important jobs is setting the Federal Funds Rate, the target interest rate that commercial banks use when borrowing and lending money to each other overnight. The Federal Funds Rate also has an enormous impact on the US economy since it affects short-term interest rates on credit cards, home loans, and car loans and heavily influences financial markets. The Fed analyzes current economic conditions to determine a Federal Funds Rate that will lead to economic growth. 2. __Fostering the stability of the financial system__: The Fed actively monitors financial institutions to analyze current economic trends and minimize the risk of a widespread financial disaster. 3. __Managing the money supply__: The Federal Open Market Committee (FOMC) is the division of the Fed that develops the nation's monetary policy and manages the money supply. As part of its duties, the Fed establishes a set amount of money that its member banks are required to store in its vaults at the end of each day to prevent a bank run. This amount of money is called the reserve requirement. 4. __Overseeing the Federal Reserve banking system__: Twelve regional Federal Reserve banks around the country help regulate the commercial banks located within their Federal Reserve districts. The Fed also operates and oversees Fedwire—the national electronic payments system that the US Treasury relies on for selling government securities and various other financial services. 5. __Protecting consumers__: The Fed researches consumer financial trends and helps ensure that banks follow consumer protection laws. The Federal Reserve System is run by a seven-member board of governors based out of Washington, D.C., and regulated by appointed regional banks and various committees and councils. - __Board of directors__: The President of the United States appoints the board of governors of the Federal Reserve System, who then must be confirmed by the US Senate. Board members each serve staggered 14-year terms. - __Federal Reserve banks__: The Fed consists of 12 regional Federal Reserve banks, each located in its own Federal Reserve district and controlled by its board of directors. These 12 regional banks help supervise and regulate all the commercial banks in their region. The commercial banks can help elect some of their regional Federal Reserve bank's board members. The Fed's 12 regional banks are in Atlanta, Boston, Chicago, Cleveland, Dallas, Kansas City, Minneapolis, New York, Philadelphia, Richmond, St. Louis, and San Francisco. - __The Federal Open Market Committee__: The Federal Open Market Committee (FOMC) is a 12-member committee made up of the Federal Reserve Bank of New York president, the seven board of governors, and four additional elected members. The FOMC oversees the open market and develops the nation's monetary policy by adjusting interest rates to promote stable prices and control inflation. - __Advisory councils__: In addition to the FOMC, the Fed has three advisory councils—the federal, consumer, and thrift institution advisory councils—who advise the board of directors on various matters. Get the [MasterClass Annual Membership](https://www.masterclass.com) for exclusive access to video lessons taught by business luminaries, including Bob Iger, Chris Voss, Robin Roberts, Sara Blakely, Daniel Pink, Howard Schultz, Anna Wintour, and more. The United States Federal Reserve plays a crucial role in the financial lives of all Americans.