The Federal Reserve System from the Traditional Operating Framework to the New Normal

This chapter starts by showing that the organization (both governance and operations) of the Fed System is more centralized than that of the Eurosystem. It then discusses the strategy of the Fed, including the 2020 review. The main focus is on the Fed’s implementation framework, which used to be the interest rate steering with an active management of scarce liquidity until the 2007/2008 financial crisis. Once the interest rates hit the ZLB, the Fed introduced credit and quantitative easing policies, creating a large excess of liquidity and making the operational framework shift to a floor system (with two floors, due to the segmentation of the US money market between banks and non-banks). The normalization process, started in 2014, led to a framework where the policy stance is signaled by communicating a target range for the federal funds rate, and the open market operations are aimed at keeping the level of excess reserves sufficiently ample. This supply-driven two-floor system is still in place, after the exceptional measures adopted to address the pandemic crisis and a new round of normalization. The latter had some negative side effects on financial stability, which are discussed in the final section.