Since its inception on December 23, 1913, the Federal Reserve’s goal to “provide the

nation with a safer, more flexible, and more stable monetary and financial system.” Has had
extremely mixed results. From the constraint of the Money Supply during The Great Depression,
to the intense stagflation of the 1970s (where the peak inflation rose to 10 percent), the Federal
Reserve might very well represent the ultimate example of governmental mismanagement that
seems to seep out of every pour of our US institutions. However, we have also had periods of
great Federal Reserve management. For example, the reigning in of the Money Supply post the
catastrophic inflation of the stagflation period during the 1980s led to a relatively stable period of
inflation and expansion throughout the rest of the decade. So, as we scour through the history of
the Federal Reserve, it is important that we preface that things aren’t so “black and white” where
the Federal Reserve is either all good or all evil. There are no angels, there are no demons, just
people and people flub it sometimes.

Before we can actually go into the history of Monetary Policy, we need to define its
primary function and its inner mechanisms. Most of monetary theory follows along something
called the quantity theory of money which, in its most simplistic form, states that the Money
Supply in an economy has a very direct effect on inflation in the economy. To quote perhaps the
most popular economist of the latter half of the 20th century, Milton Friedman, “Inflation is
always and everywhere a monetary phenomenon.” In fact, one of the hallmarks of Friedman’s
Macro Economic theory was the importance of Monetary Policy and its effects on the national
and global economies. But why is this true? One of the ways I explain inflation to my less
economically inclined friends is to give them a basic example of supply and demand. If I had a
diamond, and it was the only diamond in the entire world, the intrinsic worth of the diamond,
given that there is at least some demand for the product, is worth much more than if there was a
million diamonds in the world. When you have more of some thing (increased supply) then the
value of that good is less. This pivotal economic law also governs money as well, inflation
occurs when the supply of money outmatches the demand for that money. Sometimes it can be
hard to consider that money is just like any other good like bread or computers but just as people
buy and sell those goods, people also sell currencies in something called the foreign exchange
market.