What role does the Federal Reserve play in the economy?

The Federal Reserve plays a crucial role in the economy primarily through conducting monetary policy and regulating banks. Monetary policy involves the management of the money supply and interest rates, which helps to influence economic activity, inflation, and employment levels. By adjusting those parameters, the Federal Reserve can either stimulate economic growth during recessions or cool down an overheating economy to maintain price stability.

Additionally, the Federal Reserve regulates banks to ensure the stability and safety of the banking system, protecting depositors and promoting trust in financial institutions. It oversees bank operations to prevent failures and manage risk, thereby helping to maintain a stable financial environment that supports overall economic health.

The other roles mentioned in the options, such as regulating government spending or setting tax policies, fall largely under the purview of fiscal policy, which is the responsibility of the government rather than the Federal Reserve. Controlling inflation through fiscal means also relates to government action rather than the central bank's monetary policy. Therefore, the correct connection to the Federal Reserve's function in the economy is through its dual role in conducting monetary policy and regulating banks.