Introduction to Finance

W H E R E W E A R E G O I N G . . .
The last two chapters in Part 1 address the role of policy makers in the fi nancial system and 
how international trade and fi nance infl uence the U.S. fi nancial system. In Chapter 5 you will 
have the opportunity to review economic objectives that direct policy-making activities. We 

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4.1 U.S. Central Bank Response to the Financial Crisis and Great Recession
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then briefl y review fi scal policy and how it is administered through taxation and expenditure 
plans. This is followed by a discussion of the policy instruments employed by the U.S. 
Treasury and how the Treasury carries out its debt management activities. You will then see 
how the money supply is changed by the banking system, as well as develop an understand-
ing of the factors that aff ect bank reserves. The monetary base and the money multiplier also 
will be described and discussed. Chapter 6 focuses on how currency exchange rates are 
determined and how international trade is fi nanced.
H O W T H I S C H A P T E R A P P L I E S TO M E . . .
Actions taken by the Fed impact your ability to borrow money and the cost of, or interest 
rate on, that money. When the Fed is taking an easy monetary stance, money becomes 
more easily available, which in turn leads to a lower cost. Such an action, in turn, will 
likely result in lower interest rates on your credit card, your new automobile loan, and 
possibly your interest rate on a new mortgage loan. Actions by the Fed also infl uence eco-
nomic activity and the type and kind of job opportunities that may be available to you. For 
example, a tightening of monetary policy in an eff ort to control infl ation may lead to an 
economic slowdown.
While many individuals know that the Federal Reserve System is the central bank of the 
United States, what the Fed does and how it operates are less clear. Stephen H. Axilrod 
comments,
There must be almost as many images of the Fed as an institution and of the 
wellsprings of its actions as there are viewers. Mine, born of a particular 
experience, is a generally benign one. It is of an unbiased, honest, straightforward 
institution that quite seriously and carefully carries out its congressionally given 
mandates. . . . It is of course through the window of monetary policy that the 
public chiefl y sees and judges the Fed.
1
This chapter focuses on understanding the structure and functions of the Fed. Chapter 5 describes 
how the Fed administers monetary policy in cooperation with fi scal policy and Treasury 
operations to carry out the nation’s economic objectives.