The term “monetary policy” describes the steps a central bank, such as the Federal Reserve, takes to affect the cost and availability of money and credit to support national economic goals. The authority for establishing monetary policy was delegated to the Federal Reserve by the Federal Reserve Act of 1913.
The discount rate, reserve requirements, and open market operations are the three instruments of monetary policy under the Federal Reserve’s jurisdiction. The Federal Open Market Committee (FOMC) handles open market transactions. On the other hand, the Board of Governors of the Federal Reserve System determines the discount rate and reserve requirements.
What is FOMC?
The Federal Open Market Committee (FOMC) oversees how the US central bank executed its monetary policy. Its goal as a branch of the Federal Reserve System is to support full employment while supplying you with stable prices and moderate interest rates throughout time.
The FOMC uses monetary policy to determine the availability of credit and money. Eight times a year, it makes its choices public during committee meetings and justifies them by discussing how the economy is doing, particularly with regard to inflation and unemployment.
The FOMC consists of 12 voting members. They are made up of the chairman and six additional governors appointed by Congress. The vice-chair and four other regional Federal Reserve Bank presidents are also represented. The regional presidents rotate through one-year terms on the FOMC, whereas the vice-chair post is permanent.
Each year, eight regularly scheduled meetings of the FOMC take place. The Committee examines the financial and economic situations, chooses the right monetary policy approach, and evaluates the risks to its long-term objectives of price stability and sustained economic growth during these meetings.
How Does The FOMC Work?
The reserve requirement, open market operations, discount rate, and interest on excess reserves are the four instruments of monetary policy that the FOMC coordinates with the Federal Reserve Board of Governors to oversee. At its eight times per year meetings, the FOMC establishes a target range for the fed funds rate. The Board determines the reserve requirement and discount rate.
The Fed’s long-term goal inflation rate is 2%.
The natural unemployment rate is no longer a specific goal for the FOMC. Before the 2020 recession, unemployment was historically low without causing inflation. Instead of depending on a target unemployment rate, the Fed considered a wide range of data.
Implementing a Monetary Policy
To reduce unemployment, the FOMC implements an expansionary monetary policy. Expanding the money supply and decreasing interest rates stimulate economic development and reduce unemployment.
If the economy grows too quickly, prices rise, and inflation occurs. In an effort to fight inflation, the FOMC pursues a contractionary monetary policy. It increases the value of money, slowing down the economy. Businesses cannot afford to boost prices without losing consumers in a slower economy. To attract clients, they might even have to decrease their rates. As such, inflation is under control.
FOMC Impact on Cryptocurrencies
After increasing rates in March and May, the Federal Reserve did so again on June 14-15. This year, higher rates will start to be seen on various investments, including stocks, cryptocurrencies, commodities, and many others. But what can investors expect going forward, and how long will the effect of the rising-rate environment last?
Although the Fed has increased interest rates twice this year, it was clear to the market that the central bank wasn’t kidding when it said it was about to tighten monetary policy. Cryptocurrencies and many of the riskiest stocks reached their peak in November 2021. Since January, the S&P 500 lost approximately 12%, the tech-heavy Nasdaq Composite lost over 23%, and the Dow Jones Industrials lost around 9%. Particularly riskier assets have performed even worse, and the falls don’t seem to be slowing down.
As markets adjust to the reality of increased interest rates, the worst impacted assets are those that have profited the most from ultra-low interest rates. These include high-octane growth firms with earnings well into the future and non-cash-flow generating assets like cryptocurrencies. For instance, since their 52-week high in late 2021, high-growth tech stocks like Cloudflare and Carvana have decreased by around 76% and 94%, respectively.
Takeaways
- The Federal Open Market Committee handles open market transactions.
- The FOMC consists of 12 voting members.
- They establish a target range for the fed funds rate in their eight yearly meetings.
- The FOMC’s long-term goal inflation rate is around 2%.
- High-interest rates impacted cryptocurrencies, stocks, and commodities significantly.
