Understanding the Federal Reserve, Part Three: Structure and Inner Workings

David Frost // Blog, How To Invest


March 8  

This is part three of a series on the Federal Reserve, specifically Federal Reserve System, its structure and innerworkings. Click here for part one. Click here for part two on the history.

The Federal Reserve has a complex structure made up of different levels of authority. From the Board of Governors to the boards which oversee each of the regional Federal Reserve Banks, every member plays an important role in overseeing and impacting monetary and fiscal policy in the U.S.

Board of Governors

The Board of Governors, sometimes referred to simply as the Federal Reserve Board, oversees the Fed itself and is located in Washington, D.C. The president of the U.S. appoints the seven members of the board, and the Senate must confirm them before they can take up their posts. Governors serve in their positions for 14 years. The terms are staggered so there will always be continuity in the board’s operations as monetary and fiscal policies are managed. The board’s chairman and vice chairman serve in those positions for four years, although they may be reappointed multiple times.

The Federal Reserve Board is tasked with guiding monetary policies, analyzing economic and financial indicators and studying various economic and financial issues. The board also supervises the financial services industry and oversees regulations designed to protect consumers. 

Regional Federal Reserve Banks

The Board of Governors also oversees the 12 regional Federal Reserve Banks by approving the appointments of their presidents and the members of their boards of directors. Most of the 12 regional banks also have at least one branch, which collectively make up the Federal Reserve System. There is a total of 24 Federal Reserve branches. 

The regional banks comprise the decentralized portion of the Federal Reserve System, while the Board of Governors is the centralized part of the system. Because the regional banks are decentralized, they are set up in a manner that makes them similar to private corporations, although they operate with public interest in mind.

Each of the Reserve Banks serves a different region of the country. The regional banks are located in Boston, Philadelphia, New York, Atlanta, Richmond, Cleveland, Chicago, Minneapolis, St. Louis, Kansas City, Dallas and San Francisco. The 24 branches are in 24 other cities spread throughout the 12 districts. 

Each of the Regional Reserve Banks and their branches are governed by a board of directors, which contains nine members and includes six representatives from commercial banks which belong to the Federal Reserve System. 

The Board of Governors appoints the remaining three of the nine members of the regional bank boards. The boards also include representatives from various businesses and industries within each district. Some regional and branch banks can also include nonprofit, consumer or labor representatives. Each of them is governed by a president, which is appointed by their board and approved by the Board of Governors. The members of each regional bank’s board are representative of the makeup of the district in which they serve.

Since each of the regional Federal Reserve Banks is set up in a way that’s similar to the structure of private corporations, they also have stocks like publicly traded corporations. Every member bank of the Federal Reserve must hold some shares of their respective Reserve Banks, and they all receive dividends on those shares. The dividends amount to 6% of the stock they purchased. However, unlike the shares of publicly traded corporations, member banks cannot trade or sell their shares of the Federal Reserve Banks. The profits of the regional Reserve Banks belong to the federal government. 

The regional banks were created to serve commercial banks, the U.S. Treasury and, to some extent indirectly, the general public. Reserve Banks store currency and coin and process checks and electronic payments. They also manage payments to the Treasury, sell government bonds and other Treasury securities, and assist with the Treasury’s own responsibilities for managing cash and investments.   

About 38% of the more than 8,000 commercial banks in the U.S. belong to the Federal Reserve System. All national banks are required to join the system, while state banks can join if they meet the requirements to do so. Member banks are required to keep 3% of their capital as stock in their regional Reserve Banks. 

Non-member banks do not technically belong to the Federal Reserve System, but they are required to follow the regulations set by the system, and they can access payment services through the system.

Federal Open Market Committee

The members of the Fed’s Board of Governors also serve on the Federal Open Market Committee (FOMC) and testify before Congress about economic conditions. The FOMC is the part of the Fed that manages monetary policy. It formulates policies designed to promote stability in prices and growth in the economy. It also manages the money supply in the U.S.

The members of the Fed’s Board of Governors cast votes as part of the FOMC, along with the president of New York’s Federal Reserve Bank and the presidents of four other regional Federal Reserve Banks. The presidents of the regional banks rotate as voting members of the FOMC, although all of the presidents of the 12 regional Federal Reserve Banks participate in discussions about policies at the FOMC. 

The committee usually meets eight times every year in Washington, D.C., and committee members talk about the nation’s economic outlook and policy options for managing that outlook. Input from the regional bank presidents is an important part of the process because it ensures that every part of the country is represented in the talks about economic and monetary policies. 

Advisory councils

Another key part of the Federal Reserve System is the three advisory councils. They are the Federal Advisory Council, the Consumer Advisory Council and the Thrift Institutions Advisory Council. All three advisory councils advise the Board of Governors on various matters of interest. The members of the advisory councils come from each of the 12 districts of the Federal Reserve, and they meet between two and four times every year. 

Each regional Reserve Bank has their own advisory committees, including committees for small businesses, agriculture, and thrift institutions.

About the Author

Trading and investing in markets is second nature to some, but a mystery to others. The goal is to provide a forum where everyday people aspiring to be part time or full time traders will learn how view markets differently and profit beyond their wildest dreams.

David Frost