The financial system is founded on trust, that scholars indicate changes periodically as financial panic develops. Luckily, main panics are rather rare but based on the Great Financial Recession and other financial crises, when they happen, they can detrimentally affect economic activities. During Great Depression, the Federal Reserve System teamed together with the US government to reduce problems brought about by the crisis. Although the crisis hurt the US economy, the situation would have been worse had Fed failed to use its lender of last resort powers to handle the declining functions of the US monetary and credit systems. Therefore, this essay offers a summary of The Federal Reserve and Panic Prevention: The Roles of Financial Regulation and Lender of Last Resort and describes roles played by Federal Reserve to regulate finances during the financial and economic crisis.
The Great Depression was one of the major challenges to the world economy. During this period, the US federal bank was grappling with the challenge of mitigating discount window and shadow banking. The Reconstruction Finance Corporation played an essential role during this period. In particular, it assisted financial institutions to discover another source of backup liquidity to enable them to evade the discount window. Therefore, Federal Reserve System acted as the lender of the last resort with more than $1 trillion loans during the peak of the crisis. On the same note, the Fed used Term Auction Facility (TAF) to realize the secret system of financial improvement.
The Great Depression pilled liquidity pressures on non-financial institutions that were using various instruments and markets to offer loans to borrowers. Therefore, to assist enhance the resiliency of this sector, Fed introduced new regulations including final legislation on risk retention in the security delivered by non-banks. In addition, it adopted numerous provisions such as clearing requirements for over the counter margin requirements for unapproved swaps. The article indicates that during Great Depression, the Federal Reserve gave out loans to non-financial organizations whose default detrimentally damaged financial system and economic state of the US. However, since bailing troubled financial institutions were difficult, Fed in collaboration with the US government implemented an act that barred Federal Reserve from offering financial assistance to troubled institutions
Principally, following the financial and economic crisis, the Federal Reserve worked closely with other supervisory agencies to implement measures aimed at reducing chances that lender of last resort loans would be required. In particular, it ensured that financial institutions were better capitalized and regulatory requirements were made stricter. Further, critical financial institutions were subjected to more capital requirements. Capital planning and supervisory stress testing ensured that capital control became forward-looking. These measures ensured that large financial institutions maintained buffers of high-quality liquid assets that were enough to cater for cash outflows during the entire period.
In conclusion, the Federal Reserve collectively had a significant lender of last resort powers during the financial and economic crisis to meet the impending contingencies. It maintained the capacity to offer liquidity to markets during financial crises such as the Great Depression. In fact, several years after the Great Depression and other economic and financial challenges, Fed performed its lender of last resort duty through loans. Principally, the broadly oriented facilities that Fed managed during the crisis could be adopted under the current regulations as they can still negative effects of a meltdown on the economy and financial markets. Although the Federal Reserve can no longer offer financial assistance to troubled non-financial institutions, the expanded resolution powers of FDIC's should enable the agency to deal with challenges at these institutions with the potentially minimal risk of disrupting other financial systems.
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