Although many news programs discuss the Fed and its chairman, Alan Greenspan, and while many people know that the Fed somehow affects interest rates and that interest rates affect the economy, fdw understand thd relationship between the Fed and the American economy. This research considers some of the key points surrounding the Federal Reserve, its effects on the American economy, and the role of the chairman.
The Fed conducts monetary policy by setting the rates that member banks charge each other; this, in turn, provides a baseline for the interest rates that banks charge their customers since they must charge more than they pay for funds in order to realize a profit. That explains the mechanics of how the Fed conducts monetary policy. The issue of monetary policy extends well beyond that, however. The Fed is mandated by Congress to keep interest rates stable and unemployment low. This is predicated on the idea that an economy at so-called "full employment" is operating at its most efficient from an economic standpoint (Blinder, 1996).
However, the mechanism that the Fed has available to it, changing interest rates, does not have immediate results in the economy. When the Fed raises or lowers interest rates, it takes a little while for the effect to be felt throughout the economy. The exact amount of time is not clear, although one analyst puts the effect at a minimum of one year for employment and two years for wider economic effects (Walsh, 2001). Because of this, the Fed has, of late and under the leadership of Alan Greenspan, taken to signaling the direction--if not the magnitude--of upcoming changes so that the financial markets and the economy as a whole can react to the predicted changes.
It is often assumed that the Fed is a government agency; technically, it is not. Its leaders are appointed by presidents, its mandate is from Congress and its actions are felt by the citizenry as a whole. Busin
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