The Fed. Maybe you’ve heard of it? Maybe you’ve heard they’re doing some stuff with interest rates that will have an effect on the economy at large. Maybe you’ve heard they’re doing some stuff that will affect you directly. Maybe you have heard of the Fed, but don’t know what it is and what all the terms that are often bandied about actually mean.
And maybe you’ve even seen a tweet or two directed at Fed Chair Jay Powell and have wondered what’s going on and why there are so many terms and acronyms when it comes to the Fed.
You’re not alone.
The Fed can seem hard to wrap your head around. It works on complicated financial matters and often makes complicated policy decisions that might seem tough to understand if you’re not a CPA or have a deep background in macroeconomics.
Like a lot of government institutions, it can seem like they’re talking a different language with acronyms and terms that can be hard to decipher if you haven’t spent a lifetime in the Fed or some other government agency. Don’t worry—this cheat sheet will break it down for you.
What the Fed is, Where it Came From, and What it Does
• Conducts national monetary policy. The Fed is charged with promoting maximum employment and stable prices. They also influence long-term interest rates when the economy might seem to be stalling or growing.
• Promotes economic stability. One of the main reasons the Fed was established was to help stabilize the economy. They do this by trying to minimize risks and monitoring the economy at home and overseas.
• The Fed also monitors financial institutions like banks to help promote their safety and soundness and the way they affect the financial system at large.
• The Fed helps make sure payments between banks settle efficiently and safely. They provide services to banks and the government to accomplish this goal.
• Consumer protection and community development also fall under the Fed’s responsibilities. The fed examines consumer trends and issues and administers consumer laws and regulations.
Even though it’s called a central bank, the Federal Reserve System is actually made up of 12 decentralized reserve districts that operate independently with supervision. Confusing, right? These districts were drawn in 1913 (the year the Fed was created) based on trade regions at the time.
On December 23, 1913, President Woodrow Wilson signed the Federal Reserve Act to create the central bank we now know as the Fed. The need for a central bank was driven by episodes of bank failures, panics, and credit concerns. The hope was that the Fed would help build a more stable financial system.
The Fed tries to do this through their five basic functions, but there’s one thing they do that seems to get a lot of press: influencing the direction of interest rates. Which is a good place to start when it comes to terms related to the Fed.
Fed Terms and Acronyms
FOMC – The Federal Open Market Committee is the monetary policymaking body of the Fed. It’s made up of 12 members—the seven members of the board of governors and five of the 12 reserve bank presidents.
The FOMC meets eight times a year and conducts monetary policy to work toward the goals of reaching the highest level of employment and stable prices.
Board of Governors
The Board of Governors guides the Fed. It is made up of seven members who each serve a 14-year term. The members are nominated by the president and confirmed by the Senate.
The terms of members are staggered, with a new appointment every two years, in an attempt to give the board more independence. This means that no president or congressional party can appoint every member to the board.
Chairman of the Fed
The chairman of the Fed acts as the public face of the entire Federal Reserve Bank. This person is responsible for carrying out any mandates of the Fed, as well as provide leadership for the system, and act as chair of the Federal Open Market Committee (FOMC).
Some duties of the chairman include testifying before congress twice a year in regards to monetary policy and meeting regularly with the Secretary of the Treasury. The chairman is picked from the seven members of the Board of Governors and are appointed to four-year terms. The current Chairman of the Federal Reserve is Jerome Powell.
The Federal Advisory Council is made up of 12 representatives from the banking industry. The council acts as an advisor to the Board of Governors on matters within the Board’s jurisdiction.
The Community Advisory Council was formed by the Federal Reserve Board in 2015 to offer perspectives on the needs of consumers and communities, with a focus on the concerns of lower income populations.
The CAC meets semi-annually with the Board of Governors, and the selection process is done through public nomination. The 15 CAC members serve staggered three-year terms.
You might be familiar with the interest rate of your credit card, student loans, or car loan. When connecting the Fed and interest rates, you might want to think a little bigger. The fed tries to influence interest rates nationwide as part of its mission to help the country maintain full employment (estimated to be about 4% to 5% unemployment).
Lower interest rates can make capital easier to secure, spurring growth. Higher interest rates can work as a check against inflation. The Fed tries to influence interest rates through affecting the discount rate and indirectly affecting the federal funds rate.
The Discount Rate
The Fed requires its member banks to keep a certain amount of cash on hand. The Fed lets these banks borrow money and offers them a discount. The Fed raises the discount rate in order for all interest rates to rise.
This process is known as contractionary monetary policy, and it’s used by central banks in order to fight inflation. The money supply is reduced and instances of lending decrease, therefore slowing economic growth.
Federal Funds Rate
The federal funds rate is the interest rate that banks use when charging other banks for lending them money from their reserve balances. This process happens on an overnight basis, and can get pretty complicated. But the fed can influence how much money banks have on hand to lend, which should help move interest rates toward a target rate.
The interest rate on excess reserves (IOER rate) acts as a tool for the Fed to conduct monetary policy. The Federal Reserve adjusts the IOER rate during monetary policy normalization, in order to bring the federal funds rate into the target range that the FOMC sets.
The prime rate is the rate commercial banks would charge creditworthy customers. It usually correlates with the federal funds rate. This rate might have an effect on lenders as it can influence the interest rates that banks charge on mortgages, car loans, and personal loans.
An FOIA request is a request from the public for information from the government. FOIA stands for the Freedom of Information Act that was passed in 1967 as a way to help citizens stay informed.
Federal agencies are required to disclose information requested in an FOIA request as long as it doesn’t fall under one of nine exemptions . The Fed maintains public and private records. Public records are available at the FOMC reading room, while private records are secured through an FOIA request.
The Fed and You
The Fed can seem like a nebulous government body making decisions that seem complicated and opaque. But the Fed works every day on policy and monetary approaches that might affect your daily life, especially if you’ve got loans or are thinking about big purchases like a house or a car.
Hopefully having a grip on some of the common Fed terms will give you a better understanding of how this vital piece of the country’s financial system operates.
External Websites: The information and analysis provided through hyperlinks to third-party websites, while believed to be accurate, cannot be guaranteed by SoFi. Links are provided for informational purposes and should not be viewed as an endorsement.
The information provided is not meant to provide investment or financial advice. Investment decisions should be based on an individual’s specific financial needs, goals and risk profile. SoFi can’t guarantee future financial performance. Advisory services offered through SoFi Wealth, LLC. SoFi Securities, LLC, member FINRA / SIPC . The umbrella term “SoFi Invest” refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). Individual customer accounts may be subject to the terms applicable to one or more of the platforms below.