Financial Fact: Fundamentals About How the Fed Affects Your Money

By Kenneth Ling, CFA, MMBB’s Director of Investments

In This Article

• What is the Federal Reserve?
• How does the Federal Reserve affect interest rates?
• What are the Federal Reserve's main responsibilities?
• How does the Fed influence inflation and employment?
• What is the Federal Open Market Committee (FOMC)?
• How does the Fed support banks and financial stability?
• Why does the Federal Reserve matter to consumers?

If you’re not familiar with how the Federal Reserve affects the economy, it can seem like a group of policymakers making decisions that have little connection to your daily life. In reality, the Federal Reserve's actions can influence many of the financial decisions Americans make. Whether you're buying a home, using a credit card, saving for retirement, or noticing changes in grocery prices, the Fed plays an important role in shaping the financial environment around us.

Often called “the Fed,” the Federal Reserve is the central bank of the United States. It oversees the nation’s monetary system, including the money supply and interest rates. In 1913, Congress established the Fed after President Woodrow Wilson signed the “Federal Reserve Act” into law following a series of banking crises. The goal was to create a more stable and responsive financial system that could better withstand economic stress.¹

Since then, the primary goals of the Federal Reserve have been to maximize employment, stabilize prices, and moderate long-term interest rates. There are 12 regional Federal Reserve Banks, each led by a regional president, located in:

• Boston 
• New York 
• Philadelphia 
• Cleveland 
• Richmond 
• Atlanta 
• Chicago 
• St. Louis 
• Minneapolis 
• Kansas City 
• Dallas
• San Francisco²

To accomplish its goals, the Federal Reserve performs five primary functions that help the U.S. financial system operate smoothly.²

1. Setting Monetary Policy

One of the Federal Reserve's most important responsibilities is setting monetary policy. Put simply, this means using tools such as interest rates to influence borrowing, spending, and overall economic activity. The goal is to support a healthy economy by promoting maximum employment, stable prices, and moderate long-term interest rates.¹

When the Fed raises interest rates, borrowing generally becomes more expensive. Mortgage rates, auto loans, and credit card rates often rise as a result. At the same time, savings accounts and certificates of deposit (CDs) may offer higher returns, making saving more attractive. As borrowing becomes more expensive, consumers and businesses may spend less. Over time, slower demand can help reduce inflationary pressures and moderate price increases.

Conversely, when the Federal Reserve lowers interest rates, borrowing becomes less expensive for consumers and businesses. This can encourage spending, business investment, and hiring. However, these effects typically take time to work through the economy and are not guaranteed.

The Federal Open Market Committee (FOMC) the Fed's monetary policymaking body, typically meets eight times a year in Washington, D.C.  At these gatherings, the FOMC determines whether interest rates should be lowered, raised or maintained, among other monetary policy decisions.

 2. Helping Keep Banks Safe and Sound

The Federal Reserve supervises banks and certain other financial institutions to help ensure they operate safely and comply with federal laws and regulations. This oversight helps maintain confidence in the banking system and promotes financial stability.

The Fed also helps protect consumers by enforcing certain consumer protection laws, supervising banks for compliance, and responding to consumer complaints and inquiries through its consumer assistance programs.

3. Supporting Financial Stability

The Federal Reserve monitors risks that could threaten the broader financial system. Its goal is to identify potential vulnerabilities before they create larger economic problems. During times of market stress or financial uncertainty, the Fed works with other regulators and policymakers to help maintain confidence and support the stability of the financial system.

 4. Managing the Nation’s Payments System

In addition to monetary policy, the Federal Reserve provides financial services to banks, the U.S. Treasury Department, and other agencies. It distributes currency, and processes electronic payments and checks, which supports America’s payment system.

 5. Supporting Community Development

The central bank serves local communities by conducting research and working with local organizations, financial institutions, and leaders to encourage access to economic opportunity, affordable credit and financial services. Particular attention is often given to helping underserved and lower-income communities gain access to credit, financial resources, and economic opportunities.

Why It Matters

While the Federal Reserve may seem far removed from everyday life, its decisions can influence many of the financial choices Americans make, from borrowing and saving to investing and spending. Having a basic understanding of the Fed's role can make economic news easier to follow and help you make more informed financial decisions.

Sources:

1. Understanding the Federal Reserve: Structure and Functions
2. The Fed Explained - Who We Are

Kenneth Ling, CFA, serves as MMBB’s Director of Investments, bringing more than a decade of experience in investment research, strategic finance, financial planning, and organizational growth. A Chartered Financial Analyst (CFA) and U.S. Marine Corps veteran, Kenneth has held investment and finance leadership roles at UBS, Citi, JPMorgan Chase, FreshDirect, and other organizations before joining MMBB. He earned an MBA in Finance and Management from Washington University in St. Louis and a bachelor’s degree in industrial organizational psychology from Baruch College.

The information contained herein is for informational purposes only.  While MMBB made every attempt to ensure that the information is accurate, MMBB is not responsible for any errors or omissions or the results obtained from the use of this information.  MMBB is not liable for any success or failure that is directly or indirectly related to the use of the information contained herein.  The information contained herein does not constitute any financial, insurance, investment, legal, or tax advice.  In no event shall, MMBB and/or its fiduciaries, directors, officers, employees, or agents thereof be liable for any special, direct, indirect, consequential, or incidental damages or any damages whatsoever, whether in action of contract, negligence or tort, arising out of or in connection with the use of the information contained herein.

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