Structure and Mandate

The Federal Reserve System consists of twelve regional Federal Reserve Banks and a Board of Governors in Washington. The Board's seven members are appointed by the President and confirmed by the Senate to fourteen-year terms -- a design intended to insulate them from short-term political pressure. The Federal Open Market Committee (FOMC), which sets interest rate policy, consists of the seven governors plus five of the twelve regional bank presidents (New York's president is always a voting member; the other four rotate). The regional banks themselves are owned by member commercial banks, which hold stock and receive fixed 6% dividends.

This hybrid structure reflects the political compromises of 1913 and the institutional evolution since. The Federal Reserve Act charged the Fed with providing an "elastic currency" and a lender of last resort -- preventing the bank panics that had plagued the previous system. The Employment Act of 1946 added the general objective of high employment. The Full Employment and Balanced Growth Act of 1978 (the Humphrey-Hawkins Act) specified the dual mandate more precisely: the Fed is required to pursue "maximum employment" and "stable prices" simultaneously. How to balance these objectives when they conflict is left to the Fed's judgment.

The Federal Reserve's financing arrangement is unusual among government agencies: it does not depend on congressional appropriations. Its income derives from interest on its securities holdings, fees for services to banks, and interest on loans to financial institutions. After covering its operating expenses, it returns the remainder to the Treasury -- roughly $100 billion per year in recent years, though this varies considerably with balance sheet size and interest rates. This financial independence reinforces the institutional independence that the governance structure provides.

The Federal Reserve is not a creature of Congress in the usual sense. It was designed to be beyond ordinary democratic accountability -- protected from political pressure, but also protected from public scrutiny in ways that most democratic institutions are not.Adapted from William Greider, Secrets of the Temple (1987)

The Fed's independence has been both its greatest institutional strength and its most persistent political vulnerability. Proponents argue that monetary policy must be insulated from electoral pressures to maintain credibility: a central bank that might inflate the currency before elections to boost the incumbent's approval ratings will not be trusted to maintain price stability, and that lack of trust will itself generate inflation expectations that become self-fulfilling. The historical evidence on this point is mixed -- independent central banks have not systematically outperformed less independent ones on inflation -- but the argument has been widely accepted by economists and policymakers.

Critics note that independence from democratic accountability has not meant independence from financial industry influence. The revolving door between the Federal Reserve and the banking industry is well documented: former Fed chairs and governors routinely move to banks, asset management firms, and consulting practices. Regional bank presidents are selected by the banks that own the regional Reserve Banks, with Board approval. The formal governance structure ensures that no individual banker controls the Fed; it does not ensure that banking industry perspectives and priorities are absent from its deliberations.