Central Banks in the U.S. Economy: Central Banks in the U.S. Economy: A Look at Money and IssuesA Look at Money and Issues

Econ Ed SpecialistsEcon Ed SpecialistsFederal Reserve SystemFederal Reserve System

In the modern economy, what is In the modern economy, what is a “central bank”?a “central bank”?

A bank for governmentA bank for government Payment facilitatorPayment facilitator Supervisor/regulatorSupervisor/regulator Monetary policyMonetary policy

The bank for governmentThe bank for government

Collect & disperse fundsCollect & disperse funds Act as agent Act as agent

• BorrowingBorrowing• InterventionIntervention

““Lender of Last Resort”Lender of Last Resort”

Payment facilitatorPayment facilitator

IssuerIssuer and guardian of and guardian of currency and coincurrency and coin• We are not the mint.We are not the mint.• We are not the Bureau We are not the Bureau

of Engraving & Printingof Engraving & Printing Processor of checksProcessor of checks Processor of electronic Processor of electronic

paymentspayments

Supervisor/regulatorSupervisor/regulator

Protect/monitor Protect/monitor banking/payment banking/payment systemsystem

Maintain standardsMaintain standards Audit financial Audit financial

institutions & holding institutions & holding companiescompanies

Monetary policyMonetary policy

Conduct monetary policyConduct monetary policy• Set and change the quantity Set and change the quantity

of money of money • Set and change the price of Set and change the price of

moneymoney Maintain pegs to other Maintain pegs to other

currenciescurrencies• Maintain one currency’s Maintain one currency’s

value relative to another value relative to another currencycurrency

• Currency boardsCurrency boards

The Role of MoneyThe Role of Money

Functionality IssuesFunctionality Issues Medium of ExchangeMedium of Exchange Store of ValueStore of Value Measure of ValueMeasure of Value

The Money EquationThe Money Equation M*V=Q*P or (P*T)M*V=Q*P or (P*T)

The History of Central BankingThe History of Central Banking

The “central bank” debateThe “central bank” debate The “hard money” debateThe “hard money” debate The Great Depression and The Great Depression and

other eventsother events The “dual banking system” The “dual banking system”

debatedebate

The “central bank” debateThe “central bank” debate

First Bank of the First Bank of the United States United States

Second Bank of the Second Bank of the United StatesUnited States

““No Bank of the No Bank of the United States”United States”

The Federal Reserve The Federal Reserve SystemSystem

First Bank of the United StatesFirst Bank of the United States

Modeled after Bank of Modeled after Bank of EnglandEngland

Private institutionPrivate institution Some stock owned by Some stock owned by

foreign entitiesforeign entities Some stock (20%) owned Some stock (20%) owned

by U.S. governmentby U.S. government Stock owned by insidersStock owned by insiders

Charter allowed to expireCharter allowed to expire

Second Bank of the United StatesSecond Bank of the United States

Foreign investorsForeign investors Loans to private sectorLoans to private sector Provided currency and Provided currency and

credit to western credit to western territoriesterritories

After Jackson withdraws After Jackson withdraws fundsfunds Tries to foreclose loansTries to foreclose loans Tightens money supplyTightens money supply

Allowed to expireAllowed to expire

““No Bank of the United States”No Bank of the United States”

Taxes state bank Taxes state bank notes out of existencenotes out of existence

““Locks up” moneyLocks up” money Shortage of coinsShortage of coins

Independent TreasuryIndependent Treasury GreenbacksGreenbacks Experiments in Experiments in

bimetallismbimetallism

Federal Reserve SystemFederal Reserve System

Independent within Independent within governmentgovernment

Balances private and Balances private and governmentgovernment

Insulation from political Insulation from political pressurepressure

What do we learn from “central What do we learn from “central bank” debate?bank” debate?

Central banks can impact an Central banks can impact an economyeconomy• For bad, or for goodFor bad, or for good• Lack of a central bank can create Lack of a central bank can create

problemsproblems Central bank structure mattersCentral bank structure matters

• Government can abuse central bank Government can abuse central bank powerspowers

• Private sector can abuse central bank Private sector can abuse central bank powerspowers

The “hard money” debateThe “hard money” debate

The “continental” The “continental” experienceexperience

The gold standardThe gold standard Bi-metallism and “the Bi-metallism and “the

cross of gold”cross of gold” The need for “flexible The need for “flexible

currency”currency”

The Business Cycle in The Business Cycle in American HistoryAmerican History

InflationsInflations DeflationsDeflations Bank panicsBank panics

DeflationsDeflations

Specie circularSpecie circular Various bank panicsVarious bank panics Most of the “progressive Most of the “progressive

era”era” Free silver vs. goldFree silver vs. gold

InflationsInflations

Continental currencyContinental currency Shay’s rebellionShay’s rebellion Wildcat banks & wildcat notesWildcat banks & wildcat notes Various gold strikesVarious gold strikes Greenbacks during the Civil WarGreenbacks during the Civil War

Inflation or deflationInflation or deflation Depends on who’s winningDepends on who’s winning

Free silver vs. goldFree silver vs. gold 1960s and 70s - Listening to Keynes1960s and 70s - Listening to Keynes

The “Great Depression” and The “Great Depression” and other eventsother events

The deflations and panics The deflations and panics of the 19th centuryof the 19th century

The Panic of 1907The Panic of 1907 The Great DepressionThe Great Depression The inflation of the 1970sThe inflation of the 1970s Money mattersMoney matters

Bank PanicsBank Panics

18191819 18371837 18571857 18731873 18931893 19071907 Great DepressionGreat Depression S&L CrisisS&L Crisis

Panic of 1819Panic of 1819

Second Bank of U.S. Second Bank of U.S. refuses to allow refuses to allow overspeculationoverspeculation

““Hard” moneyHard” money

Panic of 1837Panic of 1837

Specie circularSpecie circular British bank collapse British bank collapse

calls foreign loanscalls foreign loans Collapse of pet banksCollapse of pet banks

Panic of 1857Panic of 1857

Too much gold Too much gold (1849 California (1849 California strike) leads to strike) leads to inflationinflation

Too much grain Too much grain planted due to planted due to Crimean WarCrimean War

Too much land Too much land speculation due to speculation due to railroad expansionrailroad expansion

Panic of 1873Panic of 1873

Overspeculation all overOverspeculation all over MiningMining ManufacturingManufacturing RailroadsRailroads GrainGrain

European loans called due to collapse European loans called due to collapse in Viennain Vienna

Hard money wins over easy, currency Hard money wins over easy, currency shrinksshrinks

Panic of 1893Panic of 1893

““Free silver” Free silver” brought on by bi-brought on by bi-metallism destroys metallism destroys overseas creditoverseas credit

Silver increases Silver increases above 16-1above 16-1 Drains the TreasuryDrains the Treasury What happens when What happens when

market forces don’t market forces don’t play by “da rules”play by “da rules”

Panic of 1893 (continued)Panic of 1893 (continued)

Alaskan gold strikes Alaskan gold strikes create further inflation create further inflation with increase in gold with increase in gold supply supply Trivia: Actual silver/gold Trivia: Actual silver/gold

ratio was 32-1 when ratio was 32-1 when Bryan spoke of “cross of Bryan spoke of “cross of gold” in 1892gold” in 1892

Money and the Money and the The The Wizard of OzWizard of Oz

Panic of 1907Panic of 1907

Problem of inelasticityProblem of inelasticity J.P. Morgan to the J.P. Morgan to the

“rescue”“rescue”

The Great DepressionThe Great Depression

The state of economic The state of economic knowledgeknowledge

Debate within the FedDebate within the Fed Real bills vs. gold standard Real bills vs. gold standard

and the discount rateand the discount rate Availability of credit leads Availability of credit leads

to Fed’s mistaketo Fed’s mistake

The “dual banking system” The “dual banking system” debatedebate

Who has the power to charter banks?Who has the power to charter banks? Who has the power to regulate banks?Who has the power to regulate banks? What is the effect on competition?What is the effect on competition?

The S&L crisisThe S&L crisis

Inflation does in the thriftsInflation does in the thrifts The state of economic knowledgeThe state of economic knowledge

Key legislation and agreementsKey legislation and agreements

Charter – First Bank of the United States (1791)Charter – First Bank of the United States (1791) Charter – Second Bank of the United States (1816)Charter – Second Bank of the United States (1816) National Banking Act (1863)National Banking Act (1863) Federal Reserve Act (1913)Federal Reserve Act (1913) Glass-Steagal Act (1933)Glass-Steagal Act (1933) Banking Act (1935)Banking Act (1935) Fed Treasury Accord (1951)Fed Treasury Accord (1951) Humphrey-Hawkins Act (1978)Humphrey-Hawkins Act (1978) Depository Institution Deregulation and Monetary Control Act Depository Institution Deregulation and Monetary Control Act

(1980)(1980) Riegle Neal Interstate Banking (1994)Riegle Neal Interstate Banking (1994) Gramm-Leach-Bliley Act (1999)Gramm-Leach-Bliley Act (1999)

Key legislation and agreementsKey legislation and agreements

Charter – First Bank of the United States (1791)Charter – First Bank of the United States (1791)Charter – Second Bank of the United States (1816)Charter – Second Bank of the United States (1816)

Both helped develop structure by providing important lessonsBoth helped develop structure by providing important lessonsDual nature of the FedDual nature of the FedFinancingFinancing

Key legislation and agreementsKey legislation and agreements

National Banking Act (1863)National Banking Act (1863)Helps establish national currencyHelps establish national currencyNational banking centers established National banking centers established

Key legislation and agreementsKey legislation and agreements

Federal Reserve Act (1913)Federal Reserve Act (1913)Applied lessons learned Applied lessons learned Decentralized central bankDecentralized central bankDid not clearly establish authority within the SystemDid not clearly establish authority within the System

Key legislation and agreementsKey legislation and agreements

Glass Steagal Act (1933)Glass Steagal Act (1933)Separates commercial and investment bankingSeparates commercial and investment banking

Banking Act (1935)Banking Act (1935)Establishes Board of Governors as central authority for the Establishes Board of Governors as central authority for the Federal ReserveFederal Reserve

Institutionalizes Federal Open Market CommitteeInstitutionalizes Federal Open Market Committee

Key legislation and agreementsKey legislation and agreements

Fed – Treasury Accord (1951)Fed – Treasury Accord (1951)Removes Treasury representative/oversightRemoves Treasury representative/oversightReestablishes Fed independenceReestablishes Fed independenceRemoves interest rates as primary concernRemoves interest rates as primary concern

Key legislation and agreementsKey legislation and agreements

Humphrey Hawkins Act (1978)Humphrey Hawkins Act (1978)Puts employment formally in the policy picturePuts employment formally in the policy picture

Requires bi-annual testimony by Fed chairRequires bi-annual testimony by Fed chair (Expired but still adhered to)(Expired but still adhered to)

Key legislation and agreementsKey legislation and agreements

Depository Institution Deregulation and Monetary Depository Institution Deregulation and Monetary Control Act (1980)Control Act (1980)

Broadened banking Broadened banking Extended Fed reachExtended Fed reach

ServicesServicesReservesReservesDiscount WindowDiscount Window

Key legislation and agreementsKey legislation and agreements

Gramm-Leach-Bliley Act (1999)Gramm-Leach-Bliley Act (1999)Fed established as “umbrella regulator”Fed established as “umbrella regulator”Rescinds Glass-SteagalRescinds Glass-Steagal

Putting it all in perspective…Putting it all in perspective…

History provides us withHistory provides us with Lessons to be learned and appliedLessons to be learned and applied

StructureStructure Policy applicationPolicy application

Events to avoidEvents to avoid Stock market correctionsStock market corrections InflationsInflations Bank panicsBank panics