Federal Reserve & Monetary Policy: Glimpse of Its History

Source Link: https://analyzingalpha.com/federal-reserve-history

The Federal Reserve, the central banking system of the United States, was created as part of the Federal Reserve Act of 1913. Now, let’s look at its history and how it constantly improved to create a stable financial system in the US.

1775 – 1791: Continentals (The First Paper Money)

Between 1775 and 1791, the Continental Congress printed America’s first paper money called “Continentals.” This is to finance the American Revolution against the British crown. In the beginning, paper bills were issued for up to $2 million. However, it reached $200 million, which resulted in inflation.

The paper money then lost value; by 1785, people had lost trust in paper money. And in 1972. the paper continentals were then replaced under the Federal Reserve Act.

1791-1811: The Initial Attempt

In 1791, Congress established the First Bank of the United States in Philadelphia. In the following years, branches were opened in several states and cities in the US. The bank had a capitalization of $10 million, of which $2 million was owned by the Government, and the remaining $8 million was owned by private investors.

A 20-year charter bound the bank. It created a financial monopoly favoring only the big merchants and financiers. With the opposition of Thomas Jefferson, the bank’s charter renewal was refused. It expired in 1811.

1816 – 1836: The Failed Second Attempt

In 1816, America attempted to re-establish the Second Bank of the United States. Congress agreed to it and established the bank in January 1817 in Philadelphia. Like the first bank, it also had a 20-year charter. The bank opened 25 branches. It was doing good, but everything changed when Andrew Jackson was elected president in 1828. He opposed the idea of the bank, and when the charter expired in  1836, it was not renewed.

1836 – 1865: Free Banking Period

During these years, state-chartered banks and unchartered “free banks” gained momentum. They issued banknotes against their silver and gold deposits. Because of the issues with unstandardized banknotes, counterfeit notes were very easy to release. For five years, many of these banks failed.

1863: National Banking Act

The National Banking Act of 1863 was introduced, and it served as the federal charter and supervision system for the national banks. It regulates a uniform national currency and the bank’s minimum capital requirements.

The National Bank Act helped improve the nation’s economy but did not address the financial problems. Further, some state banks went bankrupt after implementing a 10% federal tax in 1865.

1907: Severe Financial Crisis

In 1907, there was a severe financial crisis in the United States. It is also called “The Panic of 1907”. This was caused by a build-up of excessive speculative investment driven by loose monetary policy. The crisis and panic stabilized after JP Morgan decided to rescue the economy.

1908 – 1912: Advent of a Decentralized Central Bank

The Aldrich-Vreeland Act was passed on May 30, 1908. This emergency currency law is in response o the bank panics of 1907 and future financial panics. It also resulted in the creation of the National Monetary Commission.

1913: The Birth of the Federal Reserve System

On December 23, 1913, the Federal Reserve Act was passed under President Woodrow Wilson. This law mandated each Reserve Bank to have a minimum capital of $4 million. Member banks had to subscribe to an amount equal to 6% of their capital and surplus in their bank reserves. The law also established a Reserve Bank Organization Committee (RBOC).

1914: Appointment of the First Federal Reserve Chairman

The first Federal Reserve Chairman was Charles S. Hamlin. He assumed office on August 10, 1914, to August 9, 1916. After he served as chairman, he remained a board member until February 1936.

1920: Start of Open Market Operations

The Federal Reserve started using open market operations as a monetary policy tool during the 1920s. When the recession hit in 1923, the Fed took an aggressive move to fight the crisis by buying large government securities.

1929 – 1933: Federal Reserve and the Great Depression

America witnessed the great depression in its history in 1929. The stock market crashed during this time. About 10,000 failed between 1930 to 1933. In March 1933, a bank holiday was declared by President Franklin Roosevelt.

1933: The Glass-Steagall Act

This is also known as the Banking Act of 1933. This law aimed to separate commercial and investment banking. The Act also required that the government securities be used as collateral for Federal Reserve notes.

1935: The Banking Act of 1935

The banking act is created to make the Federal Open Market Committee (FOMC) a separate legal entity. It also removed the Comptroller of the Currency and the Treasury Secretary from the Fed’s governors.

1951: The Treasury Accord

The Treasury Accord, also known as the Monetary Accord of 1951, covers the agreement between the Federal Reserve Board and the U.S. Secretary of the Treasury. The agreement reinstated the Fed’s independence, separating government debt management from monetary policy.

1956: The Bank Holding Company Act

In 1956, the Bank Holding Company Act was passed. The act mentioned that a bank holding company was the one that had a stake in 25% or more of the shares of two or more banks. The law also gives the Fed vast regulatory power over bank holding companies.

1978: Humphrey-Hawkins Act or the Dual Mandate

In 1978, the Humphrey-Hawkins Act, or the Full Employment and Balanced Growth Act of 1978, was passed. It required the Federal Reserve’s Chairman to appear twice annually on monetary policy goals and objectives before Congress.

1980 – 1999: Financial Modernization

This was the time when the Federal Reserve prepared for financial modernization. In 1980, the Monetary Control Act was passed. The law mandated the Fed to price its financial services competitively against private sector providers. The act also required the Fed to establish reserve requirements for all eligible banking institutions.

2001: Federal Reserve and 9/11

After the 9/11 attack, the Federal Reserve continued to operate and serve. After the attack, they also lowered the interest rates and disbursed over $45 billion to financial institutions to stabilize the U.S. economy.

2008: Federal Reserve and the Subprime Crisis

The Fed strongly responded to the subprime crisis. They implemented several programs for the financial institution and to improve the overall condition of the financial market.

2020: COVID and the Federal Reserve

The COVID-19 pandemic affected the US economy. The Federal Reserve stepped in, offering a $2.3 trillion package to employers, financial markets,  households, and state and local governments. Since March 2020, they also lowered their target for the federal funds rate by 1.5 percentage points.

2021: The Federal Regulators Initiate A.I. Study

On March 31, 2021, the Federal Regulatory issued a Request for Information and Comment (RFI) to understand how machine learning (ML)  and artificial intelligence (A.I.) are used in the financial services industry.

2021: Federal Reserve and the Digital Dollar

The Fed has been planning and contemplating the creation of the digital dollar. On September 22, 2021, the Fed confirmed that they are actively studying to launch a central bank digital currency. The digital dollar would be issued and backed by the Federal Reserve System.

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