Central banks

In the area of central banks, we would like to look at two institutions more closely. One would be the ECB, and the other the FED. These two representatives of the central banks play a special role, as they are particularly important for trading. But the other central banks play an important role as well.

ECB – European Central Bank

The European Central Bank, of which the headquarter is in Frankfurt, was founded with the introduction of the Euro in 1998. It is the joint monetary authority of the participating Member States of the European Union.

Structure of the ECB

Under the Maastricht Treaty Article 106 [Composition of the ESCB; Unincorporated body], the ECB consists of the ECB in the literal sense and of the national banks of the individual member states of the European Monetary Union (EMU). The national banks of the member states are represented by the respective president of the respective institution. Every member has the same voting rights for decisions made in the ECB Council. The ECB Council is the decision-making body of the European Central Bank. In the event of a tie, the vote of the president of the ECB is final.

The board of directors of the ECB is elected and appointed by the ECB Council. It consists of the president, the vice president and four other members. The current president of the ECB is Mario Draghi. The vice president is Vitor Constancio. The tasks of the board of directors are:

  • Preparation of meetings of the ECB
  • Implementation of the decisions of the ECB Council
  • Implementation of monetary policy measures
  • Managing the ongoing operations of the ECB

Particularly important is Article 107 of the Maastricht Treaty [Independent authority of the ECB], which states that the ECB is independent of political authorities. Because of this, the ECB has an enormous amount of power and can pursue its objectives without the influence of political objectives.

Tasks of the ECB

The tasks include supervision of banking and price stability in the Euro zone, which was transferred from the former national German Central Bank. The tasks of the European Central Bank were first regulated by the Maastricht Treaty of 1992.

Article 105 [Objectives and tasks of the ESCB]

  • Price stability:

    Price stability in the Euro zone is the most important and key task of the ECB.

  • Supporting the economic policy of the community:

    The intention is to support the economic policy of the community for the harmonious and balanced development of economic life, provided that this does not affect the objective of price stability.

  • Liquid funds:

    A further task is to provide the economy with sufficient funds to support the economic activities of the actors in an optimal manner.

  • Trouble-free monetary transactions:

    The ECB is to facilitate and promote the trouble-free and smooth functioning of monetary transactions.

  • Management of monetary reserves:

    The central bank has monetary reserves to have instruments for the monetary policy. These consist of reserves in various currencies (US Dollars, Japanese Yen, Chinese Renminbi), gold and special drawing rights. A special drawing right is an artificial currency, which was introduced by the IMF and can be used as an international currency. In the management of monetary reserves, the primary objective is to ensure liquidity, next comes security and ultimately profitability.

  • Performing foreign exchange transactions:

    The ECB is to conduct foreign exchange transactions in accordance with Article 9 [Agreements with third parties; Monetary agreements]. International agreements with countries outside the EU are reached here. The community can thereby represent a coherent position regarding these countries.

FED – Federal Reserve System

The Federal Reserve System is the central bank system of the United States of America. In the Federal Reserve Act of 1913, the responsibility of the monetary policy was handed over to the FED.

Structure of the FED

The FED consists of the following entities:

  • Federal Open Market Committee (FOMC)

    The FOMC has 12 members: 7 members of the board of governors, the president of the FED, who is also the president of a regional Federal Reserve Bank, and 4 of the remaining reserve bank presidents. Their tasks include the open market policy (purchase and sale of securities by the FED) and the foreign exchange market policy.

  • Board of governors

    The board of governors is the central bank management and is comparable to the board of directors of the ECB. It has 7 members, who are determined by the President of the USA and confirmed by the Senate. The task of the board of governors is to define the minimum reserve policy, adjust the discount rate, supervise the 12 regional Federal Reserve Banks, and maintain contacts and relations with the central banks of other nations.

  • Twelve regional Federal Reserve Banks

    The regional Federal Reserve Banks are under private ownership. The shares are allocated to the private banks, which have to be members of the FED. This is the case from a certain size. These banks have the task of implementing the monetary and credit policies of the board of governors.

Tasks of the FED

The tasks of the FED include, among other things, defining of monetary and credit policies, the supervision of banks, the supervision of the quantity of money, the maintenance of a functioning payment system, as well as the monthly announcement of the interest rate on the US Dollar. Thus, the FED is the equivalent of the European Central Bank.

Importance of central banks for trading

Since central banks have large amounts of capital, they have a decisive influence on the monetary and economic policy of a state. For this reason, prices vary considerably upon announcing crucial news. Especially on the foreign exchange markets, the central banks are the most important players. With regard to the importance of a central bank on the markets – the greater the economic space it covers, the more important it is.

Traders usually try to gain an advantage by attempting to find setups that have a particularly high probability of the trade ending in a profit. The problem on the foreign exchange market is that central banks can suddenly make the markets unpredictable when implementing means to achieve their goals. For example, a bank may use its currency reserves when its own currency is crashing, in order to stabilise said currency. Based on this, it is sensible to stay at a certain point before important decisions, rather than speculating whether the courses will move in the right direction.

Central banks
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