The Federal Reserve System is the central bank of the United States. Congress created the Federal Reserve through a law passed in 1913, charging it with a responsibility to foster a sound banking system and a healthy economy. This remains, today, the broad mission of the Fed and its component parts: the 12 Federal Reserve Banks nationwide, each serving a specific region of the country; and the Board of Governors in Washington, D.C., established to oversee the Fed System. To understand the history, first, one must understand the issues that led to the Federal Reserve act of 1913.
Many problems plagued the nation's economic system as the 20th century began; some of them were obvious to almost everyone, others were understood only by a relatively few financial experts. One of the obvious flaws was that currency was incapable of expanding in size to meet the unpredictable needs of agriculture and trade. "Inelastic,"" they called it. This was obvious to people of the Northwest, because periodically they found that banks could not convert their deposits into cash, forcing them to resort to scrip or to barter. Harvest-season shortages of cash continually upset farmers, and at times, they had to pay "premium- to get currency.
"Pyramided reserves- was another flaw that even the lay observer could appreciate. A small, farm-community bank in North Dakota, for example, ordinarily kept only a part of its reserve funds as cash in its vaults, the remainder was deposited, in larger Twin Cities banks. Twin Cities banks, in turn, kept reserves in Chicago banks; and the Chicago banks, New York. Large demands for cash could quickly shift pressures for cash from the distant countryside through the financial centers and focus them on New York where the reserve funds of the nation tended to concentrate. This reserve arrangement worked well enough in good times, but it was a ready-made system for transmitting financial panic in times of low confidence "and it had so operated at least once a decade since the time of the Civil War.
