Federal Reserve System

The Federal Reserve System is the central bank of the United States, created by the Federal Reserve Act that Woodrow Wilson signed on 23 December 1913. Conservative opinion divides between reformers who would bind the Fed to rules and a price-stability mandate, and abolitionists who regard central banking itself as the engine of inflation and moral hazard.

Both camps start from the same premise: discretionary control over money is a standing temptation, and no institution holding it has resisted that temptation for long. The dollar has lost the great bulk of its 1913 purchasing power on the Fed’s watch — the fact around which every conservative critique is organized.

Key Takeaways

• The system comprises a Board of Governors in Washington, twelve regional Reserve Banks, and the Federal Open Market Committee, which sets monetary policy.
• Friedman and Schwartz assigned the Fed central responsibility for turning the 1929 downturn into the Great Depression by allowing the money stock to collapse by roughly a third.
• The 1978 dual mandate — stable prices and maximum employment — confers discretion conservatives would narrow to price stability alone.
• Crisis interventions after 2008 expanded the balance sheet from under $1 trillion to roughly $9 trillion by 2022, the year consumer-price inflation peaked at 9.1 per cent.

History And Context

Alexander Hamilton’s First Bank of the United States received its charter in 1791 and lost it in 1811; the Second Bank followed in 1816 until Andrew Jackson’s veto of its recharter in 1832 killed it. The National Banking Acts of 1863–64 created a uniform currency but no lender of last resort, and the Panic of 1907 was halted only by J. P. Morgan personally organizing private liquidity — a demonstration that convinced Congress the arrangement could not stand. Senator Nelson Aldrich’s secret meeting at Jekyll Island, Georgia, in November 1910 produced the draft plan, and after revision by Carter Glass, the Federal Reserve Act passed in December 1913. Woodrow Wilson signed it two days before Christmas; the twelve regional banks opened in November 1914.

Between 1929 and 1933 the American money stock fell by roughly a third while the young central bank stood by — the verdict Milton Friedman and Anna Schwartz delivered in A Monetary History of the United States.¹ The Banking Act of 1935 concentrated authority in Washington, and the Treasury–Fed Accord of 1951 restored policy independence after wartime subordination.² Richard Nixon closed the gold window on 15 August 1971, severing the dollar’s last commodity anchor. Paul Volcker, appointed chairman in August 1979, broke the great inflation with federal-funds rates near 20 per cent, at the cost of a severe recession. The Full Employment and Balanced Growth Act of 1978 codified the dual mandate; the 2008 crisis added quantitative easing and a balance sheet that reached about $9 trillion in 2022.

The Conservative Position

The conservative case begins with sound money as a moral and constitutional matter, not merely a technical one. Inflation is taxation without legislation: it transfers wealth from savers to debtors — the largest debtor being the government itself — without a single recorded vote. The remedy favoured by the monetarist mainstream is rules over discretion: Friedman proposed steady, announced growth of the money stock, and John Taylor’s 1993 rule gave the approach an interest-rate form that still anchors the reform debate. Rules make money predictable, and predictability, not cleverness, is what contract and thrift require.

A second count is moral hazard. The rescues of 2008 taught markets that sufficient scale immunizes failure, converting the lender of last resort into an underwriter of recklessness. A third is fiscal: large-scale purchases of government debt blur the line between monetary policy and deficit finance, an arrangement the Accord of 1951 was meant to end. The Austrian wing presses beyond reform to abolition — Hayek’s Denationalisation of Money (1976) proposed competing private currencies,³ and Ron Paul’s End the Fed (2009) carried the argument into mass politics. The mainstream conservative position stops short: preserve independence, narrow the mandate to price stability, shrink the balance sheet, and subject the institution to serious audit.

Differing Positions

The classic defence of central banking predates the Fed: Walter Bagehot’s Lombard Street (1873) argued that panics end only when a lender of last resort lends freely against good collateral at a penalty rate.⁴ Ben Bernanke’s Fed applied the lesson of the 1930s in 2008, and its defenders credit that response — and the March 2020 interventions — with preventing a second Great Depression. Against the rules camp, defenders of discretion answer that no formula written in advance anticipates every shock, and that judgment under uncertainty is precisely what the institution is for. Critics on the left invert the conservative complaint: the Fed does too little for employment and acts too readily for asset holders, and its independence insulates consequential choices from democratic accountability. That the same institution draws fire for opposite sins is, its defenders suggest, some evidence of balance.

References

1. Milton Friedman and Anna Jacobson Schwartz, A Monetary History of the United States, 1867–1960 (Princeton: Princeton University Press, 1963).
2. Allan H. Meltzer, A History of the Federal Reserve, Volume 1: 1913–1951 (Chicago: University of Chicago Press, 2003).
3. F. A. Hayek, Denationalisation of Money (London: Institute of Economic Affairs, 1976).
4. Walter Bagehot, Lombard Street: A Description of the Money Market (London: Henry S. King, 1873).