The Structure of the Federal Reserve

Board of Governors

Federal Reserve

Bank

Member Banks

Federal Open Market Committee

(FOMC)Advisory Councils

The structure of the federal reserve

The Federal Reserve System

• Created in 1913Board of Governors•Made up of 7 individuals• Appointed by the President for one 14-yr term•Must be approved by the Senate• One members term expires every 2 years• Chairman Janet Yellen

Do all banks belong?

• No• To join, banks must purchase stock in its

Federal Reserve district bank

How does the fed it operate?

•Main function is to control money supply

Reserve Requirement

• A set percentage of deposits a bank must keep on reserve• Anywhere between 3 – 14%• Controlling the money supply:

• Increase supply decrease RR (reserve requirement)• Decrease supply increase RR

Discount Rate

• The interest rate the Fed charges member banks to borrow•When the prime rate or discount rate

changes, all interest rates will change• Controlling the money supply:

• Increase supply decrease DR (discount rate)• Decrease supply increase DR

Federal Open Market Operations (fomo)

• Buying and selling securities• The Fed is the nation’s owner of securities• Controlling the money supply:

• Increase supply buy securities• Decrease supply sell securities

The Federal Reserve constantly monitors ______________. It will increase or decrease the money supply by increasing or decreasing the interest rates. The ________________ reacts to decisions by the ____________________.

INFLATION

FEDERAL RESERVESTOCK MARKET

Fractional Reserve Banking

www.classzone.com

THE BUSINESS OF BANKS

The Role of Banks

• Banks are a business with the same profit making goals of any other business. • They make a profit by providing services

Role of banks

1. They provide safety and interest income for depositors

2. A source of loans for people in business3. How does a bank make a profit?

a. By charging higher rates of interest to borrowers then they pay to

depositors b. Credit cards

Bank assets and liabilitiesAn asset is something

you own

a. Loansb. Bondsc. Real estated. Cash reserves

Liabilities are something you owe.

a. Checking and saving account deposits

b. Loans from the Federal Reserve

c. Money owed to stockholders

Federal Deposit Insurance Corp.

Why created?1. Stop runs on banks

How much?2. $250,000

Competition for banks

1. Tax shelters, 401K plans, Roth IRA’s2. The Stock Market3. Credit Unions

MODERN BANKING

Common loans banks make

Mortgage•Real estate•Lender & borrower •Monthly •Lender

Credit Cards

•Issued by banks to users•Pays; lends•Repaying

BANKING DEREGULATION

Bank Mergers

• Larger banks acquired smaller ones• Small ones joined forces to enter different

geographic locations

BENEFITS

Increased competition which keeps interest

rates low.

Increase in the number of bank branches.

CONS

More banks to choose from.

Big banks show less interest in individual

customers.

Financial Services Act 1999

•Allowed banks to sell stocks, bonds, and insurance •Didn’t really work out

Technology & Banking

ATM’s• Allows you to make transactions without

seeing a bank officerDebit Cards•Withdraws money right from your accountStored-value cards• AKA gift cards

TAX BASES & STRUCTURES

Most Common Tax Bases

• Individual income tax•Corporate income tax•Sales tax•Property tax

Individual Income Tax

• Tax based on an individual’s income from all sources

Corporate Income Tax

• Tax based on a corporation’s profits

Sales Tax

• Tax based on the value of goods or services at the time of sale.

http://www.tax.ny.gov/pdf/publications/sales/pub718.pdf

http://www.earthodyssey.com/sales_tax.html

Property Tax

• Tax based on the value of an individual’s or business’s assets, generally real estate.

TAX STRUCTURES

Proportional Tax

• Takes the same % of income from all taxpayers regardless of how much they make• “FLAT TAX”

Progressive Tax

•Places a higher % rate of taxation on higher-income earners • The Federal Income tax

Regressive Tax

• Takes a larger % of income from people with lower incomes

SALES PROPERTY

Why tax incentives?

• The gov’t may encourage behavior that it believes is good for the economy and for society

http://thehotellafayette.com/

What is a sin tax?

• Taxes imposed on products or activities considered to be unhealthful or damaging to society

Withholding

•Money taken from a worker’s pay before the worker receives it•Also called the payroll tax

Ability-to-pay Principle

•People with higher incomes not only pay more in total taxes but also pay a higher percentage of their income in taxes

THE FEDERAL BUDGET

DISCRETIOARY SPENDING

MANDATORY SPENDING

INTEREST ON DEBT

WHAT ARE THE SPENDING CATEGORIES FOR THE FEDERAL BUDGET?

Mandatory Spending

Spending that is automatically budgeted without government action & is based on existing laws

Ex. Medicare, medicaid, social security, food stamps.

Discretionary Spending

The President must make his request and Congress must approve each year.

Ex. International affairs, military, education programs,

Interest on debt

The cost of the government borrowing money expenditures exceed revenues in a one year period

Deficit – expenditures exceeding revenues

Debt – cumulative value of all previous deficits

National Debt

What is national debt?• The total amount of money that the

government owes

Deficit Spending- A government spends more than it collects in revenue

$17,526,904,035,122.81

The estimated population of the United States is 317,357,309; so each citizen’s

share of this debt is $55,102.18!

The National Debt has continued to increase an average of $2.54 billion per day since

Sept. 30, 2012!

http://www.usdebtclock.org/

How is money raised for deficit spending?• Treasury Bills – mature in less than 1 year• Treasury Notes – mature in 2-10 years• Treasury Bonds – mature in 30 years• Trust Funds – S.S., medicare, medicaid• Interest paid on all w/ higher interest rates on

those with longer maturity dates

In 1981 national debt was _______% of GDP (______% privately owned)

In 2006 national debt was _______% of GDP (less than _______% privately owned)

In 2012 national debt was _______% of GDP

3380

6860

70

Effects of Debt

POSITIVE• When government spends to stimulate the

economy

NEGATIVE• Gov’t competes w/ the private sector for

investments• With more debt, the gov’t is just repaying

interest

What is fiscal policy?

Fiscal policy is the way governments adjust levels of

_______________ and ________________ in order

to ____________ and ________________ a nation’s

economy.

SPENDING TAX RATESMONITORINFLUENCE

What is monetary policy?

Monetary policy is the way which a

_______________________ influences a nation’s

money supply.

CENTRAL BANK

Fiscal & monetary policies are used to help guide a country to meet its:

MONEY SUPPLY

Business Cycle

Historically…Initially, the US government started with a _________________________

approach to business. However, after the

______________________________________, it was clear that the economy

needed some guidance.

LAISSEZ FAIRE

GREAT DEPRESSION

http://cache.gawkerassets.com/assets/images/8/2011/11/add1ce9116d1320399c40975b92de5c3.jpg ; 11/22/2011.

So..After WWII, the government decided they needed to take a

_________________________ in the economy to regulate:

•UNEMPLOYMENT•BUSINESS CYCLES•INFLATION•COST OF MONEY

PROACTIVE ROLE

www.members.fortunecity.com ; 11/22/2011.

LIMITATIONS OF FISCAL POLICY:1. It follows economic conditions and passing legislation takes

time.2. It should follow the business cycle to balance out peaks and

troughs, but it is tough to predict.3. Rational Expectation Theory-people and businesses expect

fiscal policy to have certain outcomes. When they react to protect their interests, they may limit the effectiveness of the policy.

4. Political issues. (Council of Economic Advisers-advises president on fiscal policy, but they do not always follow because of political pressure.)

5. Regional issues.

Top 10 U.S. Creditors• China $906.8 billion• Japan $877.4 billion• England $477.6 billion• Oil exporters (OPEC) $213.9 billion• Brazil $177.6 billion• Hong Kong $139.2 billion• Caribbean banking centers $133.7 billion• Russia $131.6 billion• Taiwan $131.2 billion• Canada $125.2 billion

The following are the top ten creditors to the USA as of March, 2009: (Amt. in Billions)

1. China 767.90 2 2. Japan 686.70 3 3. Caribbean Banking Centers 213.60 4 4. Oil Exporters 192.00 5 5. Russia 138.40 6 6. United Kingdom 128.20 7 7. Brazil 126.60 8 8. Luxembourg 106.10 9. Hong Kong 78.90 10. Taiwan 74.80

• http://prezi.com/nr12bzmz2j_t/untitled-prezi/

DEMAND-SIDE ECONOMICS:FISCAL POLICY TO STIMULATE AGGREGATE

DEMAND– KEYNESIAN ECONOMICS

What was Keynes first

revolutionary idea?

He defined AGGREGATE DEMAND as the sum of investment, consumer spending, government

spending, and net exports.

What did he propose the

British government do in 1929?

He proposed they spend money on public works projects to create jobs

and ease unemployment.

What made Keynes question classical

economics?

The 1920’s going into the Great Depression and the

cycle of demand falls, businesses produced less

leading to layoffs, consumers had less money which led to

falling demand…

Name two of his books:

A Treatise on Money (1930)

The General Theory of Employment, Interest, and

Money (1936)

Keynes advocated increased government spending and

decreased taxation to end recessions.

INCREASED GOVERNMENT

SPENDING

CREATES JOBS

INCREASES INCOME

Keynes advocated increased government spending and

decreased taxation to end recessions.

DECREASED TAXATION

CONSUMERS SPEND MORE

BUSINESSES INVEST MORE

John Maynard Keynes

What is aggrega

te

demand?

What are his

monetary policy

views?

He wrote The

Economic

Consequences

of Peace b/c…

What should a

gov’t do in a

recession?

Aggregate Demand

• The sum of all the demand in the economy

His Views

•Believed that monetary policy was essential to maintaining a healthy economy• Stabilize the economy by stabilizing

price levels by lowering interest rates

b/c …

•He resigned as the British Treasury’s Rep @ the Treaty of Versailles b/c he felt the war reparations Germany was being forced to pay were ridiculous

What to do in a recession?

• Increase gov’t spending to create jobs & give people income to buy goods • Lower taxes so people have more $ to

buy goods•Both would increase AD

WHO? WHY?HOW?WHAT?

Based on the Laffer Curve, developed by Arthur Laffer

States that a reduction in

taxes will stimulate the

economy through

increased consumer spending.

• Less taxes = more $ for consumers

• Consumers spend $ which increases demand for businesses

• More business = more jobs

• Workers can bargain for higher wages

• That leads to higher tax revenues

SUPPLY-SIDE FISCAL POLICY:Focuses on cutting the cost of production to encourage producers to supply more.

SUPPLY-SIDE ECONOMISTS FAVOR:•CUTTING TAXES ON INDIVIDUAL AND CORPORATE INCOME•CUTTING IN THE HIGHER TAX BRACKETS GIVES MORE MONEY

TO THOSE MOST LIKELY TO INVEST IN BUSINESS •SPENDING CUTS-THE LESS THE GOVERNMENT SPENDS

THE LESS TAXES NEED TO BE COLLECTED•DECREASE GOVERNMENT REGULATION BECAUSE THESE ADD

TO THE COSTS OF PRODUCTION

Explaining Laffer’s Theory

Illustrates how tax cuts affect tax revenues and economic growth.Tax revenues increase as tax rates increase to a certain point.

After that point, higher taxes actually lead to decrease tax revenue.WHY?

Too high of taxes could actually discourage people from working, investing, and spending.

PROVING LAFFER’S THEORY:Legislation passed in the 1980’s

CUT federal income tax rates substantially (top tax bracket from 70% to around

30%), however revenue collected from income tax

INCREASEDabout 13%.

DISPROVING LAFFER’S THEORY:1. With lower taxes people should

work more as some did. However, some found they brought home the

same amount of income from before the tax cuts by working less.

2. Lower tax rates should increase savings and investments, but

savings declined during the 1980’s. http://www.youtube.com/watch?v=pSOgxZ8lRUw

http://www.youtube.com/watch?v=ZH1Cms4zk7c