Why do central banks play an important role

As you pointed out, the U. Ultimately, we believe this process leads to the efficient allocation of resources—they are directed to where they are most highly valued. The United States is fortunate to have a relatively well functioning and stable economic and financial system.

However, when rare market disturbances or financial shocks occur, this stability may no longer be taken for granted and the importance of a central bank that can respond to the situation becomes very apparent. How would that affect you and your family, especially if you needed to purchase food or other necessities right away? How would businesses respond if they were unable to access their funds to pay for supplies or to receive payments from their customers? Now imagine what would happen if such an event affected a significant part of the U.

The Fed acted within its three primary functions:. In short, the Fed ensured the economy had ample liquidity to keep the economic system moving and to minimize financial disturbances created by the disrupted operations of some New York banks and closure of the transportation system for clearing checks across the country. Financial markets were fully functional when they reopened on September 17, after a four-day closure, yielding the largest trading volume ever on the New York Stock Exchange in a single day—this could not have been achieved without the liquidity provided by the Federal Reserve.

How the Fed used its central bank functions to stabilize the financial system and the economy during and after the events of September 11 is an important concept to both the Fed and its constituents—so important, in fact, that the Federal Reserve Bank of San Francisco developed an instructional video on this topic entitled, Open and Operating: The Federal Reserve Responds to September Open and Operating features interviews with Federal Reserve executives who provide first-hand accounts of the events of that day, and explores what the Fed did to ensure that cash was available to consumers who needed it and checks were processed even though no planes were allowed to fly.

Lastly, it traces and explains the monetary policy decisions the FOMC made in response to the events of September In the meantime, kudos for asking this question—we hope this shows the important role a central bank can play in stabilizing the financial system, and ultimately the economy, in an extreme event!

They are considered to be reliable at the time of writing, may not necessarily be all inclusive and are not guaranteed as to accuracy. They may be subject to change without reference or notification to you. It should be noted that the value of investments and the income from them may fluctuate in accordance with market conditions and investors may not get back the full amount invested.

Past performance and yield are not a reliable indicator of current and future results. There is no guarantee that any forecast made will come to pass. Registered in England No.

The views expressed represent the opinions of J. Morgan only and are not necessarily the views and opinions of Brooks Macdonald. All data and graphics in this article have been reproduced with the permission of J. Morgan and are not to be copied or reproduced in any manner for any other purpose. View next course: Equities test View next course: What is an equity?

View next course: Equity Income Investing. View next course: Bond test View next course: What is a bond? View next course: Bond fund styles View next course: Bond risks View next course: Features of a bond. View next course: Bond yields test View next course: Government Bonds View next course: How are government bond yields affected by monetary policy?

View next course: Investment grade bonds View next course: High yield bonds View next course: Bond yields: risk and reward. View next course: Central banks test View next course: What is the role of central banks? View next course: What are the main aspects of monetary policy? View next course: Fiscal Policy vs. Monetary Policy View next course: What is forward guidance? View next course: What is the Dot Plot? View next course: How does monetary policy affect investors? View next course: Quantitative Easing and Quantitative Tightening.

View next course: Decumulation test View next course: What is Inflation? Past performance is not a reliable indicator of future results. Investment may not be suitable for everybody and potential investors should take their own independent advice.

Brooks Macdonald is a trading name of Brooks Macdonald Group plc used by various companies in the Brooks Macdonald group of companies. Brooks Macdonald Group plc is registered in England No The price of investments and the income from them can go down as well as up and neither is guaranteed. This would make it cheaper for businesses and individuals to borrow money. If the central bank wanted to curb or slow the pace of economic activity?

It could do so by raising its official policy rate. It could achieve this through buying securities in the open market. On the other hand, perhaps they had the goal of removing money from the system in order to slow the pace of economic growth. The central bank could sell securities in exchange for cash that would effectively be removed from circulation.

The third tool that central banks will typically have at their disposal? Banks are required to hold a certain ratio of their customer deposits in reserve. By lowering reserve requirements, central banks can stimulate demand by allowing commercial banks to lend out a greater proportion of their deposits.

Meanwhile, if it wanted to take money out of circulation, it could do so by raising its official reserve requirements. Central banks regularly assess the level of activity taking place in the economy.

They will then use the above tools to affect their desired monetary policies. As explained in the above example, if the pace of economic growth was less than desired, a central bank may choose to buy securities through open market operations in order to stimulate demand. By making money less expensive to borrow, central banks end up encouraging spending — effectively boosting the economy.