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How the banking industry led to the creation of the U.S. Federal Reserve

Updated on July 12, 2019
Zerubabel Dinsa profile image

Writes on central banking, he covers a wide range of topics on finance.

Today, central banks are among the most influential global financial institutions on the planet. They're the ones responsible for conducting monetary policy. In the United States; for example, the U.S. Federal Reserve has the capacity to influence the rate of interest on the market, the amount of credit available and the whole money supply in the U.S. financial system. So it's quite significant in that sense. It's decisions affect both aggregate economic output and the rate of inflation in the country.

In order for us to understand the role of central banking in the United States, we're taking a closer look as to how the role of central banking itself, has evolved overtime. Which takes us back to the late eighteenth century. We should note, that it's the introduction of commercial banking in the U.S. that's later led to the establishment of a central bank in the first place.

In its early days, one major controversy surrounding the banking industry, was whether the federal government or indeed the individual states themselves should reserve the right to charter U.S. banks. So some advocated for more centralized control of the banking industry. While others were wary of centralized banking.

Those in favour of more centralized control included federalists like Alexander Hamilton, who was also the first Secretary of the U.S. Treasury. The federalists supported the federal chartering of U.S. banks.

So in 1782, the modern architecture of commercial banking in the United States began with the chartering of a bank in the U.S. state of Philadelphia, also known as the Bank of North America. It's success really opened the door for the whole American banking industry.

But major controversies still loomed around about who should really reserve the right to charter U.S banks. There were those in favour of more centralized banking and those opposing the whole idea. So in 1791, their prolonged discussions led to the establishment of the first central bank in the United States.

But there were some concerns still lingering, many were skeptical to say the least.

So the fear of centralized power in the American political sphere at the time, was really characterized by a growing sense of resistance towards the establishment of a central bank. Which was mainly the result of increasing public distrust in big moneyed interests. Many thought, that having a central bank, was indeed the most prominent symbol of centralized banking.

Among those skeptical, were agricultural interests.

Farmers in particular were quite suspicious of centralized power in the banking industry. So most advocated for the state chartering of U.S. banks. Their distrust of big moneyed interest in the United States, led advocates to boycott the Bank of the United States. This was somewhat popular at the time. So in 1811, it's chartering was simply not renewed. It was quite stark in that sense.

In essence, it basically led to the demise of the first central bank, whose function was to monitor the banking system in the country.

Following this dramatic news, states were allowed to charter their own banks for sometime. But their efforts were met with a certain sense of mismanagement on their part, which later revived the need for a central bank anyway.

So the U.S. government was then tasked of having to raise the funds meant to establish another central bank. It needed to do so, especially during the war of 1812, so the U.S. congress was quite supportive of the whole idea.

In 1816, a central bank was chartered by congress.

This time, the Second Bank of the United States. Whose sole purpose was to serve the interests of the American people. But many still remained skeptical. In 1836, amidst the rise of Andrew Jackson, a strong advocate of state's rights, the Bank of the United States was made to lapse. It was quite odd in that way.

This basically led to a period of no central bank. Which really was quite striking news at the time. So the U.S. went through a period of its own ups and downs for sometime. In any case, there was a great need for a central bank in the United States and the banking industry would soon come to see the light of day. There was a great deal of good news to that end

In 1913, the Federal Reserve Act, established the Federal Reserve System of the United States. The U.S. central bank of our time.

Today, the Federal Reserve is perhaps one of the most influential financial institutions on the planet. It's a very big deal. It's actions have the capacity to influence global financial markets. So it's very significant.

The Federal Reserve practically conducts the banking supervision in the United States.

It's a public institution. One with two main objectives. Sustaining the current state of stable prices in the United States & keeping the rate of low unemployment in the job market. Which it does in such an elegant fashion. Since then, the U.S. Federal Reserve has championed the American economic success story.

This content is accurate and true to the best of the author’s knowledge and is not meant to substitute for formal and individualized advice from a qualified professional.

© 2019 Zerubabel Dinsa


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