We often talk about how difficult predicting can be, even for the financial industry experts. Today’s markets have many influencing variables from the traditional economic releases and transforming population dynamics to the more recent global influences. Perhaps one of the greatest modern day market influences are the world’s central banks.
The U.S. central bank is known as the Federal Reserve Bank or the Fed for short. It has been in existence a little over 100 years, deriving its authority from the Congress of the United States in 1913. In general, the Fed manages monetary policy, currency, money supply and interest rates. They are independent in a structure designed to keep separate from political intrusions or pressures; however, the Federal Reserve serves the government and its people and works very closely with the Department of Treasury. The Department of Treasury, established in 1789, serves to collect taxes, manage government revenues, promote growth, stability and ensure safety. It is important to understand that the Fed is a nonprofit entity. After all expenses are paid, Fed profits go to the Department of Treasury who uses these profits to fund government spending.
When the Fed purchases government debt, they don’t pay for it with cash. They replace the debt by crediting Federal Reserve member banks that hold Treasuries and that credit is treated as if it were cash. The member banks are subject to hold a certain reserve requirement which is a level the Fed can manipulate to increase or decrease money available to lend out. Excess reserves held by the member banks are available for business and consumer loans which theoretically promotes growth and spending to boost the economy. This process can also increase inflation.