Q

What does the Fed do?

A

Essentially, it exerts control on how much cash flows through the economy.

The Fed, more formally known as the Federal Reserve, is the US’s central bank, and like all countries’ central banks, exerts control on how much cash flows through the economy. How does it do such a thing? By setting interest rates. Every six weeks, the twelve members of the Federal Open Market Committee convene to decide whether to raise, lower, or leave unchanged what’s called the Federal Funds Target Rate, a number that dictates the interest that banks will charge to lend money to one another.

The Fed won’t change the rate if all within the economy is operating smoothly. The Fed will lower it if the economy is slow, since lowering interest rates makes money cheaper for everyone to borrow, thus releasing a torrent of cash into every crevice of the economy. If, however, the economy is operating too well, and money is too prevalent and available, a condition called inflation will occur, and the dollar will become less valuable; inflation unchecked could lead to the dreaded $100 Snickers bar. At the first sign of inflation, the Fed will raise interest rates, making money more expensive to borrow, thus slowing the flow of money through the economy.

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