The Bank of England is wor th a mention because it was the first modern central bank. It was established in 1694 but it is only in the nineteenth centur y that its operations star ted to differ greatly from central banks in continental Europe such as the Bank of France and the German Reichsbank. The latter both had branch networks and made loans directly to businesses. They accounted for a substantial propor tion of the banking business in each country.
The Bank of England was different because it had no direct lending to companies. It influenced credit conditions indirectly through its actions in tr ying to control, or at least have an impact on, the behavior of commercial banks. It did this primarily by adjusting the rate at which it would lend to commercial banks.
The Bank of England was established to act on behalf of the government. In the post Second World War period this meant that politicians effectively made many of its decisions. By way of contrast the German Bundesbank and US Fed both enjoyed a high degree of independence from political interference.
Political control meant that the Bank of England was usually required to increase money supply in the run-up to a general election by the party in power. This was intended to give the economy a short-term boost and the electorate the “feel-good” factor. Such an increase in money supply, without a corresponding increase in the real productive capacity of the economy, usually fed through to higher inflation, a depreciation (or devaluation) of the currency and a subsequent tightening of money supply. This gave rise to a period characterized by what became known as “stop-go” economics.
Around the turn of the century the Bank of England was given effective operational independence, being free to set sterling base interest rates and manage supply as it saw fit to keep inflation within a target range defined by Parliament. It also lost its responsibilities as a bank super visor to a newly established, unitar y financial ser vices regulator, the Financial Ser vices Authority (FSA).
Posts Tagged ‘crisis’
The Bank of England
Monday, October 12th, 2009The US Federal Reserve
Monday, September 28th, 2009The US Federal reserve, usually referred to as the Fed, acts as both the central bank and one of the key regulators of the commercial banking system. The main board is based in Washington but there are also 12 regional reserve banks operating in what are referred to as Federal reserve Districts.
The main board has seven members drawn from the reserve banks in the Federal reserve Districts. The US President appoints these members with the appointments being ratified by the Senate. The members serve 14-year terms. This appointment system means that political interference is very limited and that the Fed has effective day-to-day political independence. Inevitably the board does work closely with whoever is the current incumbent of the position of secretary of the Treasur y even though they do not always see eye to eye.
The board is responsible for setting bank reserve requirements. It also shares responsibility with the regional reserve banks for establishing discount rate policy. Combined with open market operations these provide the principal tools for managing US monetary policy. It should be obvious that as the US Federal reserve is the world’s most powerful national central bank its monetary policies can have wide reaching effects in other countries, particularly those with currencies linked to the US$. The Federal Open-Market Committee (FOMC) meets on a regular basis, normally about once every six weeks, to establish a target Federal Funds rate and hence monetary policy necessary to achieve it. The Federal Funds rate is the rate that banks with surplus reserve deposits with a Federal reserve Bank charge on overnight funds to banks with a shortfall.
The Fed is able to influence the actual Federal Funds rate through open market operations by buying or selling Treasur y bills and notes in the market. Minutes of the meetings are published as are the voting records of the individual members in terms of their bias towards interest rate and monetary policy. In this context hawks favor tightening monetary policy and a bias towards higher rates and doves the opposite. The minutes and statement from the chairman are closely watched for signals on likely future Fed monetary and interest rate policies as they may have a significant impact on equity and bond markets not only in the US but around the world. The Fed is very careful of language and does not actually issue a formal bias statement but rather a “balance of risks” statement. Most people inter pret the latter as a statement of bias in any case.
The chairman of the Fed is also authorized by the FOMC to act if necessary between meetings. Such occasions are relatively rare, it is difficult to see when an emergency tightening of money supply would be necessary. There have only been three instances in recent memory when the Fed has pumped short-term liquidity into the market. One of those was flagged well in advance in the case of the Y2K switchover. The other two followed the collapse of the Long Term Credit Management group, a highly leveraged US hedge fund, which failed in dramatic style in 1998 largely due to positions it took in Russian instruments, and the reopening of US financial markets after the events of September 11th 2001.
Supply and the entrepreneur
Sunday, September 6th, 2009Entrepreneurs organize the production of new products. In doing so, they take on significant risk in deciding what to produce and how to produce it. Their success or failure depends upon how much consumers eventually value the products they develop relative to other products that could have been produced with the resources. Entrepreneurs figure out which projects are likely to be profitable and then try to persuade a corporation, a banker, or individual investors to invest the resources needed to give their new idea a chance. Studies indicate, however, that only about 55 to 65 percent of the new products introduced are still on the market five years later. Being an entrepreneur means you have to risk failing.
To prosper, entrepreneurs must convert and rearrange resources in a manner that will increase their value. A person who purchases 100 acres of raw land, puts in a street and a sewage-disposal system, divides the plot into 1-acre lots, and sells them for 50 percent more than the opportunity cost of all resources used is clearly an entrepreneur. This entrepreneur profits because the value of the resources has increased. Sometimes entrepreneurial activity is less complex, though. For example, a 15-year-old who purchases a power mower and sells lawn services to his neighbors is also an entrepreneur seeking to profit by increasing the value of his resources-time and equipment.