What Exactly is the Role of The Federal Reserve?

All eyes will be on Fed Chair Jerome Powell at the central bank's headquarters in D.C. this afternoon, where he’s expected to announce an interest rate increase to try and curb historic levels of inflation.

But what gives the Federal Reserve the power to determine how fast prices can increase? And what are the main goals the central bank is trying to achieve?

🇺🇸 Background: In 1907, the US experienced a financial crisis that saw the NYSE fall nearly 50% from a recent peak during an ongoing period of recession. The resulting run on banks and trust companies forced many banks and businesses to declare bankruptcy.

The crisis might have deepened were it not for the efforts of banker J.P. Morgan, who pledged large sums of his own money and convinced other bankers to do the same to alleviate the situation.

• The fact that the US owed its economic survival to a private banker eventually led Congress to approve the 1913 Federal Reserve Act.

🏦 Conflicts of interest… The act created an independent central bank responsible for managing the country’s money supply, and ordered it to maximize employment and keep inflation low. 

They accomplish this by controlling interest rates:

• When the Fed lowers interest rates, it makes corporate credit easier to obtain, encouraging businesses to expand and create jobs, which lowers unemployment. But it also increases inflation.
• When the Fed raises interest rates, it slows down inflation – but it also slows down the rest of the economy, leading to increased unemployment and higher chance of a recession.

❓ The big question: What will happen today? 

Under current Chair Jerome Powell, interest rates were cut to essentially zero at the onset of the Covid pandemic and have remained there ever since. Last year saw historic one-year jumps in GDP and inflation, while the unemployment rate fell from 6.7% to 3.9%.