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The Fed explained: Detailing the functions of the Federal Reserve

When asked about the role the Federal Reserve plays in the U.S. economy, many automatically think of setting interest rates or even the circulation of money. In reality, the Federal Reserve’s role is complex and multi-faceted.

The Federal Reserve System was established by Congress over a century ago to serve as the U.S. central bank. Today, it is composed of three key system entities: The Board of Governors of the Federal Reserve System, 12 Federal Reserve Banks and the Federal Open Market Committee. These entities work together to perform five general functions to promote effective operation of the U.S. economy and public interest:

  1. Conducting monetary policy: Monetary policy is the Fed’s actions, as a central bank, to achieve maximum employment and stable prices in the United States. The Fed conducts monetary policy through a variety of tools, including using interest rates and open market purchases and sales of securities, to manage financial conditions in the United States. This impacts overall financial conditions like longer-term interest rates, stock prices, exchange value of the dollar and the cost of many other assets. Ultimately, these financial conditions affect U.S. spending, investment, production, employment and inflation.
  2. Promoting financial stability: A financial system is “stable” when financial institutions and markets remain resilient, even under extreme economic pressures and volatility. Introduced after the 2007-09 market crisis, the Dodd-Frank Act requires that the Fed and other financial regulatory agencies study large, complex financial institutions for risks. This is known as a “macroprudential” approach to supervision and regulation, and ultimately helps safeguard financial markets and the broader economy.
  3. Supervising and regulating financial institutions and activities: In addition to its macroprudential role, the Fed also promotes the safety and soundness of individual financial institutions and their impact on the broader financial system. This includes establishing specific guidelines governing the formation, operations, activities and acquisitions of financial institutions. The Fed is the primary federal supervisor of state-chartered banks that have chosen to join the Federal Reserve System, while state banks that are not Federal Reserve System members are supervised by the Federal Deposit Insurance Corporation.
  4. Fostering payment and settlement system safety and efficiency: The Fed performs several key functions within the U.S. payment system to help keep cash, check and electronic transactions moving through the U.S. economy for consumers and businesses. The functions of the Fed in this space include providing services to depository institutions and the U.S. federal government, regulating certain aspects of the payment system and analyzing the system to identify and implement improvements. These services support U.S. financial markets and private-sector clearing, payment and settlement arrangements.
  5. Promoting consumer protection and community development: The Fed advances supervision, community reinvestment and research to better understand impacts of financial services policies and practices on consumers and communities. The Fed’s research in this space also helps inform policy decisions and their effect on businesses and consumers. Engaging with key stakeholders is another way to identify emerging issues and implement policies to advance community reinvestment and consumer protection.

Action Item:

Test your knowledge about the Fed’s history, monetary policies and more by taking one of the quizzes (Off-site) found on the Federal Reserve Education website.


The Fed Explained (Off-site)