The Federal Reserve System is the central bank of the United States. Often known as the Fed, it was created in 1913 and operates independently, although its governors are appointed by the president and it is subject to Congressional oversight.  Through its power to change interest rates and purchase vast amounts of financial assets, the Fed has exercised more influence over economic growth and the level of employment in recent decades than any other government entity. It used all its traditional tools and many new ones to prop up the financial system after the Wall Street meltdown of 2008 and gave the economy unprecedented forms of support during the recession and weak recovery that followed.  Since Wall Street began to wobble in 2007, the Fed has been engaged in an enormous effort to stimulate growth. The central bank has held short-term interest rates near zero since December 2008. To further reduce long-term rates, it has amassed more than $2 trillion in government debt and mortgage-backed securities.  The economic impact of the announcement is likely to be relatively modest. Investors already expected the Fed to keep rates near zero into 2014.  In December 2011, President Obama announced two nominations to fill the two vacant seats on the Federal Reserve’s board of governors.  One of the nominees, Jeremy C. Stein, a Harvard professor who worked briefly for the Obama administration in early 2009, has particular expertise in the workings of financial markets. The other, Jerome H. Powell, worked for almost a decade as a partner at the Carlyle Group, a private equity fund. Mr. Powell also served as Treasury under secretary for finance in the administration of President George H. W. Bush.  Mr. Obama had been forced to withdraw the nomination of an earlier candidate, the Nobel Prize laureate Peter Diamond, because Senate Republicans would not allow a vote.  In normal times, the Fed, as it is universally known, would pump up a sagging economy by using interest rate cuts to in effect make money cheaper, or slow a boom down by ratcheting rates up — a process described by one Fed chairman as taking the punch bowl away just as the party’s getting going. That approach was credited with helping to moderate recessions.  Since the financial crisis began brewing in 2007, the Fed has been moving into uncharted waters, aggressively intervening in deals to prop up or sell of failing institutions, making loans available to banks in new ways and buying vast amounts of assets to help keep the global economy afloat.  As the financial system moved to the brink of collapse in late 2008 and early 2009, the Fed made up a whole new rule book, not only slashing interest rates virtually to zero, but pumping well over a trillion dollars into the economy through purchases of securities and the creation of new lending platforms. Most economists credit those actions, known as quantitative easing, along with the stimulus bill and the federal bank bailout, with preventing a global depression. But they also made the Fed the focus of unusual scrutiny and criticism, with critics pointing to its failure to head off the real estate bubble and others denouncing what they saw as unwarranted giveaways.  Despite its naysayers, the Fed emerged as a big winner in the bill Congress passed in July 2010 to revamp the nation’s financial regulatory system. Despite widespread agreement, even within the Fed, that its regulatory record leading up to the 2008 credit crisis was poor, it was given oversight of large financial institutions that are not banks, and a proposal to strip it of its oversight of the nation’s small banks was dropped. The bill also puts a new consumer protection agency under its wing.  While the Fed generally won praise for its swift action at the depth of the 2008 crisis, in the run up it had consistently underestimated the depth of the financial system’s problems, and since then it has consistently overestimated the strength of the recovery, as did many other economists.  In the spring of 2010, Fed officials suggested that continued weakness in the labor market would lead them to leave interest rates at very low levels for an extended period. But they also brought to an end the single largest intervention to prop up the American economy, its $1.25 trillion program to buy mortgage-backed securities.  Yet by summer, a string of weak economic numbers altered the sentiment within the central bank. In September, the Fed’s policy making committee hinted strongly that it might resume buying vast amounts of government debt to spur the recovery. The day after the November elections, it announced that it would buy $600 billion in government debt, calling the recovery “disappointingly slow.”  The effort, nicknamed QEII, drew fire from conservatives worried about inflation and countries around the globe, who saw it driving up the price of their exports by weakening the dollar. Six months later, a broad range of economists described the results of the asset purchases as disappointing. Stock prices have climbed. Corporations have rarely been able to borrow money more cheaply. Mortgage loans have seldom been available at such low interest rates. But companies are hiring few new workers, and people are buying few new homes. Almost 25 million Americans cannot find full-time work, a number that is rising again after declining modestly.  After the asset buying program came to an end in June 2011, the leaders of the central bank showed little appetite for another intervention.  The political backlash against the current round of asset purchases is one reason for the Fed’s timidity. Some at the central bank also see evidence of diminishing returns from additional spending. And the Fed has made clear that it its primary focus is on the pace of inflation, in part because the central bank regards slow, steady price increases as a prerequisite for sustainable job creation.  But the economy remained weak. Gross domestic product expanded by only 0.7 percent in the first half of the year, roughly the rate of population growth, meaning that Americans experienced no increase in average wealth. More than 25 million people were unable to find full-time jobs in August 2011. Most of them could not find work of any kind. And concerns about the economic health of Europe and the political health of Washington have depressed measures of consumer confidence to the lowest levels since the depths of the 2008 crisis, endangering prospects for faster growth in the coming months.  In response, the Fed announced in August that it intended to hold short-term interest rates near zero until at least the middle of 2013, and in September announced the plan to swap $400 billion in short term assets for longer terms ones, in the hope of lowering long term interest rates.  How the Federal Reserve Works  President Woodrow Wilson signed the Federal Reserve Act on Dec. 23, 1913, creating a seven-member board of governors, including the Fed chairman, and 12 regional banks — a structure collectively known as the Federal Reserve System. The governors are appointed by the president and approved by Congress; the regional bank presidents are selected by leaders of their communities, particularly bankers.  Private banks controlled the flow of credit and thus interest rates in the late 19th and early 20th centuries, and farmers, the backbone of the populist movement, complained that the big Eastern banks often starved them of credit at critical moments. Populists called for direct access to credit, without the banks as intermediaries. That did not happen.  The Federal Reserve System was a compromise. The banks would remain the lenders to the public, but the Fed would control the supply of funds on which the banks depended to make loans. Injecting more money into the banking system put downward pressure on interest rates, while its opposite, restricting the supply of potential credit, pushed up rates. The regional banks were intended to help make the flow of credit even across the country.  Through various refinements over the years, this “open market” operation, as it was called, has been at the heart of the Fed’s power. The interest rate that results is called the federal funds rate. In turn, the interest that banks and other lenders charge for mortgages and for various forms of commercial and consumer credit fluctuate with the federal funds rate. As a supplement, to assure an even flow of available credit, commercial banks in various parts of the country can borrow directly from the Fed at the nearest regional bank, using the so-called discount window. The discount rate is linked to the federal funds rate.  The federal funds rate is set by the Fed’s Open Market Committee, composed of the chairman, the six other governors, and five of the 12 regional bank presidents, on a rotating basis. The committee meets at Fed headquarters in Washington every six weeks or so.  The Fed’s chairman, currently Mr. Bernanke and before him Alan Greenspan and Paul A. Volcker, dominates Open Market operations. Their main thrust has been to limit inflation, even at the risk of a recession — although they have cut rates when the nation seemed in danger of one.  With the American housing market on the verge of collapse, the Fed used its standard tool of intervention. The central bank began an aggressive series of interest rate cuts beginning in August 2007. The cuts were intended to counteract the tightening credit market and spur growth. The Fed has since lowered interest rates to nearly zero. Analysts expect the central bank to leave the target rate unchanged at the range of 0 to 0.25 percent.  When such cuts lose their impact, central banks turn to what economists call “quantitative easing’' — unorthodox methods of pumping money into an economy and working to lower interest rates that central bankers do not usually control. Their effect is the same as printing money in vast quantities, but without ever turning on the printing presses.  In November 2008, Mr. Bernanke, who has avoided the “quantitative easing’' term, outlined a range of unorthodox new tools that the central bank can use to keep stimulating the economy once the federal funds rate effectively reaches zero. Those techniques include buying vast amounts of longer-term Treasury bonds, mortgage-backed securities issued by government-sponsored companies like Fannie Mae and Freddie Mac and commercial debt issued by private companies and consumer lenders.  The Federal Reserve introduced a slew of lending programs in its effort to revive corporate and consumer lending. It had a hand in JPMorgan Chase’s takeover of Bear Stearns, and the government bailouts of Freddie Mac, Fannie Mae and American International Group.  Since September 2008, the Fed’s balance sheet has ballooned from about $900 billion to more than $2 trillion as the central bank has created new money and lent it out through all its new programs. As soon as the Fed completes its plans to buy up mortgage-backed debt and consumer debt, the balance sheet will be up to about $3 trillion.  Fed policy makers have traditionally made their decisions about interest rates behind closed doors, communicating those decisions primarily through brief, cryptic statements that analysts busily decode in the days that follow.  But that kind of distance has become impossible in the two years since the American economy plunged into its worst financial crisis since the Great Depression. These days, Mr. Bernanke and the Fed have been bailing out financial institutions, printing money in unheard-of volumes and stepping in to fill the lending gap left by the crippled capital markets.  The Fed has never wielded as much power as it does right now, but the very expansion of its mission has exposed it to more second-guessing and more challenges to its political independence than ever before.  Republican lawmakers now portray the Fed as the embodiment of heavy-handed big government, and have called for scaling back the central bank’s regulatory powers. But liberal Democrats have accused the Federal Reserve of caving in to demands by banks for huge bailouts, for failing to protect consumers against dangerous financial products and for being too secretive about its emergency rescue programs.  The ire at the central bank is sure to figure into the continuing debate over how to reform financial regulations. The Obama administration has proposed consolidating regulatory powers under the Fed, while some in Congress want to strip away its oversight authority.  Taking a step to normalize lending after holding interest rates to extraordinary lows for more than a year to prop up the financial system, the Federal Reserve on Feb. 19, 2010, raised the interest rate it charges on short-term loans to banks, to 0.75 percent from 0.50 percent.  The move was a clear sign to the markets, politicians in Washington and the country as a whole that the era of extraordinarily cheap money necessitated by the crisis was drawing to a close.  On March 31, the Fed announced the end of its giant program of purchasing mortgage-backed securities. The program was initially for $500 billion. The purchases began in January 2009, and in March, the Fed raised the goal to $1.25 trillion. The purchases were to end by Dec. 31, but in September, the Fed said the purchases would taper off more slowly, ending on March 31.  Over the next few months, the Fed performed a turnabout. A series of newly worrying economic indicators increased concern at the Fed about the pace of the recovery. Officials there shifted from the more optimistic assessment of the spring that economic growth was sufficiently strong to begin thinking about how to gradually return to normal monetary policy.  In June, the Open Market Committee downgraded its outlook and openly discussed the prospect of deflation — a declining spiral of demand, prices and wages — but cautioned that it was only likely to act if the situation took a serious turn for the worse. By August, the signs of a slowing recovery were strong enough to lead the committee to announce that it would use use the proceeds from its huge mortgage-bond portfolio to buy long-term Treasury securities, rather than letting the bonds mature. The effect of the step would be to keep the Fed’s giant balance sheet from shrinking.  The measure fell short of the additional stimulus that some economists were hoping for, in the form of new largescale asset purchases, the central bank left open the possibility that additional easing of monetary policy could take place in the fall if the recovery were to continue to weaken.  The Fed bought $1.25 trillion in mortgage-backed securities, and another $200 billion in debts owed by government-sponsored enterprises, primarily Fannie Mae and Freddie Mac, and completed the purchases in March. The Fed had planned to allow the size of that portfolio to shrink gradually over time as the debts matured or were prepaid. Instead, the Fed will reinvest the principal payments in longer-term Treasury securities. The central bank said it would continue to roll over its holdings of other Treasury securities as they mature.  By the fall the Fed’s governors had reached a consensus that a new round of purchases was needed to offset the drag on the economy caused by persistently high unemployment. Some economists worried that big asset purchases would sow the seeds of new inflation; others thought the $600 billion announced in November was not enough, or that pumping more money into the system might have a limited effect when neither businesses or consumers were in the mood for spending, no matter how available money becomes.  By April 2011, the critics who worried about inflation were still worrying, while those who warned of a limited impact could point to the pace of economic recovery, which had slowed after the program began. Mr. Bernanke and his supporters sayid in response that the purchases have improved economic conditions, all but erasing fears of deflation, a pattern of falling prices that can delay purchases and stall growth. Inflation, which is beneficial in moderation, climbed closer to healthy levels since the Fed started buying bonds.  In June, Mr. Bernanke said that disappointing recent data showed that growth remained slow and uneven, but he made no mention of the possibility that the Fed would intervene, noting instead that “a healthy economic future” required a plan to shrink the federal deficit. William C. Dudley, one of Mr. Bernanke’s top lieutenants, expanded on the same theme, saying that the government needed to balance its books, and that the nation needed to reduce its dependence on borrowing and consumption.  Mr. Bernanke made clear that recent data had shaken his confidence in the strength of the recovery, which continues to depend on extensive federal support. Mr. Bernanke has said he wants to see evidence of strong and sustained hiring by private firms before deciding that the economy can withstand the loss of that support.  The economy has expanded much more slowly this year than the Fed had predicted. Last month private employers added only 83,000 jobs, reducing the average so far this year to about 180,000 jobs a month — barely enough to cut into the numbers of the jobless.  Mr. Bernanke noted that after two years of economic recovery, the net decline in one important measure, aggregate hours worked, remained greater than the peak decline in the same measure during the deep recession in 1981-82.  The Fed has invested more than $2 trillion in a range of unprecedented programs, first to restore the financial system and then to encourage economic expansion. Mr. Bernanke has argued that the policies achieved worthwhile but limited objectives. Internal and external critics, however, describe the results as lackluster and warn that the policies could make it more difficult for the Fed to control inflation.  Those critics have taken a toll. So has internal debate about the efficacy of additional stimulus, which already seems to be yielding diminishing returns. So the Fed’s focus has turned to advocating for broader solutions to broader problems.
News about the Federal Reserve. Commentary and archival information about the Federal Reserve from The New York Times.