The Federal Open Market Committee and U.S. Monetary Policy
By Tillie Allison | October 17, 2019
The Federal Reserve System performs five functions designed to promote effective operations of the U.S. economy and to serve the public interest. One of those functions is to set the nation’s monetary policy, in which the Federal Open Market Committee plays an integral role.
What is the Federal Open Market Committee?
The Federal Open Market Committee (FOMC) is responsible for setting monetary policy for open market operations in the United States. The FOMC was established in 1913 and is part of the Federal Reserve Banking System. It was founded in response to a series of disastrous financial panics. Specifically, the Panic of 1907 that led to the creation of the Federal Reserve and a central banking system. The FOMC is a 12-person committee made up of two distinct constituents.
- Regional Fed Presidents: Each of the 12 Regional Federal Reserves elects a president from the local banking community. On a rotating basis, 4 of these regional presidents serve on this committee. The NY Fed President is always on the committee and does not rotate like the other four Presidents.
- Board of Governors (BOG): These seven members are political appointees who serve staggered 14-year terms. They are appointed by the President of the U.S. and confirmed by the Senate This method assures that no one President “stacks the deck” with just their appointees. The U.S. President also appoints the Chairperson and Vice Chairperson of this committee, who serve renewable four year terms. The Chairperson and Vice Chairperson of the Board are elected from among the members and confirmed by the Senate.
What Does the Federal Open Market Committee Do?
The task of setting U.S. monetary policy is divided between two parties. The duty of setting monetary policy for the discount rate and reserve requirements falls to The Board of Governors of the Federal Reserve System, while the Federal Open Market Committee (FOMC) is responsible for setting monetary policy for open market operations.
Setting monetary policy on open market operations is the Federal Reserve’s main tool for influencing overall monetary and credit conditions. The FOMC uses its policy to influence open market operations by the buying and selling of government securities. This is done in order to target the federal funds rate and trigger a chain of events. (The federal funds rate is the interest rate that banks charge other banks for lending them money from reserve balances overnight.) Changes in the federal funds rate impacts short-term interest rates and the availability of money and credit. It also impacts economic variables including employment, production and the price of goods and services.
How Do FOMC Decisions Influence the U.S. Economy?
The Federal Open Market Committee is considered the most important organization impacting the stock market, in part because interest rate changes can have an immediate and a long term impact on the stock market and economy. Low interest rate environments can stimulate the economy, often resulting in the stock market rising over time. High interest rate environments can increase debt and negatively impact the economy, usually resulting in the stock market declining over time. These interest rate cycles, caused by the actions of the FOMC, are directly related to the economic cycles and stock market cycles.
The Federal Open Market Committee has eight regular scheduled meetings per year to review economic and financial conditions, monetary policy and assess risk. The minutes of the regularly scheduled FOMC meetings are released three weeks after the date of the policy decision. There is no knowing in advance how the market will react to any given interest rate change.
You can learn more about the Federal Open Market Committee and review current FOMC members on their official government web page.
About the Author
After graduating from the Online Trading Academy in 2006, Tillie Allison began to apply the rule-based core strategy to trade the financial markets. Tillie also gained trading experience working the trade desk at a futures firm. She is a passionate trader/instructor and teaches students how to identify low risk/high reward trades trading the rule-based core strategy.
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