This short video describes the use of the interest rate on bank reserves as a tool of monetary policy.
Target for the Federal Funds Rate
Buying and Selling of Treasury Securities
Changes due to the Financial Crisis
Federal Reserve Increased the Size of its Balance Sheet
Changes in the Supply of Reserves
Interest Rate on Reserves influences the Federal Funds Rate
Upper and Lower Target Ranges of the Federal Funds Rate
To achieve its dual mandate to promote maximum employment and price stability, the Federal Reserve conducts monetary policy by influencing market interest rates. However, the means by which the Federal Reserve influences interest rates have changed over time.
Let’s FRED that.
For decades, the Federal Reserve's Federal Open Market Committee (FOMC) would adjust monetary policy to match economic conditions by raising or lowering its target for the federal funds rate.
Prior to September 2008, the federal funds rate was influenced by buying and selling relatively small quantities of Treasury securities in the open market.
The Financial Crisis and resulting recession, known as the Great Recession, changed all that.
The Federal Reserve increased the size of its balance sheet to provide liquidity to Banks and, by doing so, dramatically increased the amount of reserves in the banking system.
With such a large quantity of reserves in the banking system, the Federal Reserve can no longer effectively influence the federal funds rate by small changes in the supply of reserves.
Instead, the Fed uses the Interest Rate on Reserves to influence the Federal Funds Rate and steer it within its upper and lower target range limits.
To build the graphs and learn more about each topic, visit fred.stlouisfed.org.