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EUGENEMEYER SUBJECT FILEt O f f / * ’* ' C o * x a r t > 0 / i f O £ w e £ /2 r _ G~r/ch < dUt / ? 3 3 * J E .A . Y FEDERAL RESERVE BOARD W ASH IN G TO N A D D R E S S O F F IC IA L C O R R E S P O N D E N C E T O T H E FEDERAL RESERVE B O ARD O ctob er D ear G overn or I on am th e s e n d in ^ cu rren t m ig h t th e c o r r e c tio n s I you sa w very th e o f been th e fr o m b u s in e s s s itu a tio n , w h ich in te r e s t. in I th in k it redu ced about C ity you I th o u g h t w ill by F ederal reserve b r in g s needed i banks. Bank banks, out th e h ow ever, as excu se n otes o f th e w h ic h p o in t th a t c o lla te r a l 2 5 0 ,0 0 0 ,0 0 0 reserve M eyer c o p ie s reserve rem em b er, g o ld , E ugene hope p h o to s ta tic F ederal We m u s t F ed era l R eserve N ew Y o r k tw o o f a d d itio n a l o f I G a r fie ld in k . e n c lo s e F ederal G overn or c /o m em ora n d u m b e fo r e . am ount . a reserves o f 1932 . you of fo r c ib ly . am ount have fin d a ls o on f M eyer: you ch art 15 h e ld by in th e c o u ld r e d u c in g th e v a u lts F o rm No. 131 O ffice Correspondence To. FEDERAL RESERVE BOARD Mr. Goldenweiser Date. October 15, 1932 Subjects. Current business situation Figures on domestic cotton consumption came in yesterday and showed a larger increase than I had anticipated . The figure fo r September was 4 9 2 , 30 000 bales, an increase of -S6- per cent in the daily average. . . This i s con siderably more than the usual increase of 8 per cent and the seasonally ad justed index advanced from 82 in August to 99 in September. highest figure since January 1930. This is the As a re su lt of th is advance, in addition to increases in the seasonally adjusted indexes for s t e e l, coal, meatpacking, and s ilk — o ffs e t only in very small part by further reductions in automobiles and lumber— the B oards adjusted index^or'September w ill show an increase from 60 to at le a s t 64, and there i s a strong p o s s ib ility that the wool and shoe fig u r e s, not available u n til the 20th, w ill bring the index to 65. low to date was 58 fo r July. The The September le v e l of 64 was t ke came a s that of April The sa lie n t feature of the current situ ation , as I see i t , is the high le v e l attained by the industries producing nondurable goods and in the case of many o f these it is lik e ly that future months w ill show no further in crease. The high le v e l of a c t iv ity in t e x t ile s is partly the r e s u lt o f the extreme low production in the A pril to June period, and when inventories are replenished i t seems lik e ly that unless support in the way of ultimate con sumption by producers of other commodities is received, output of t e x t ile s w ill decline. The accompanying charts show that iSocksYin the hands of manu facturers were reduced further in September and are at extremely low le v e ls . U n filled orders were reduced s lig h tly but are, nevertheless, at the le v e l of - 2 - early 193©’. Sales were in about the same vo lume^aspro due t i on, follow ing a month in which sales were more than double production. Employment In New York and Pennsylvania there were large increases in factory em ployment from August to September and the figu res fo r the United S ta tes, available th is morning, show increases of 4j- per cent fo r factory employment and 5 per cent for payrolls^v^tis" indicated in the State reports, the te x tile ~ — OL.S. )j group>/showed the la rg est increases— 14 per cent in employment and 23 per cent in p a yrolls. There were smaller increases in many other lin e s , but I have not analyzed these to see in which cases the increases were larger than usual at th is season. The automobile industry reported a decline of 13 per cent in working forces, and of 32 per cent in p a y ro lls. Altogether the report is about what *?expected , in view of the State reports previously received; in creases reported in Pennsylvania and New York were much larger than for the United S tates, but th is reflected the great importance of te x tile and clo th ing trades in these S ta tes. COTTON CLOTH - STOCKS & UNFILLED ORDERS Hi/Hons of yards ( Saturday nearest end of/non ^J Stocks Unf/Z/ed Orders NO. 3 1 1 4 . 12 BY 2 0 DIVISIONS PER INCH. 120 BY 140 DIVISIONS. CODEX BOOK COMPANY. INC. NORWOOD. MASSACHUSETTS COTTON CLOTH - PRODUCTION & SALES ( P e r USeeA J Wth m s o f Y a rd s \ 1 o no 100 90 80 70 60 so 40 30 20 /o o IO I have had a report on th is morning*s meeting from Professor W illiam s. The meetirgwas in the o ffic e of the Secretary of S ta te , and there were present Secretaries of State and of the Treasury, Mr. C astle, Mr. Bundy, and Mr. F e is, in addition to Messrs. Williams and Day. I t was stated that the American position is clea rly that a return to the gold standard i s desirable and that methods of accomplishing th is r e su lt should be studied. The American experts should make i t a point to find out as much as possible about what is in the minds of the European experts on th is su b ject. There was a mention of s ilv e r , with the understanding that s ilv e r could never become a part of the monetary standard, but that some con sideration to the return of s ilv e r coinage on the scale and of the fin e ness that prevailed before the war might be considered. Study might also be given to the silv e r p olicy pursued by the Indian Government. Mention was made of the Strong-Sprague testimony before the Indian Currency Com mission in 1926. Professor Williams reports that there was some discussion of in te r a llie d debts, as w ell as governmental and private debts in general, and that he was impressed by the degree of recognition o f the importance of debt reduction on the part of the representatives of the Government. Of course, i t was understood that the subject of debt reduction was not to be on the agenda of the international conference. who talked on that su b ject. I think i t was Mr. M ills *> +■ Governor Meyer, - #2 A fter th is conference the experts called on the President. The one thought that Professor Williams carried away from that conference was that the President said that a means ought to be found to prevent fin a n cia l runs on a country. Secretary M ills asked the experts to come to th is afternoon. This meeting lasted only a few minutes, as the experts were catching an afternoon tr a in . his o ffic e at 2:3 0 -f- October 19, 1932 Attached hereto are statements showing the number of applications of individuals, partnerships and corporations for loans not granted by the Federal reserve hanks to October 1 and to October 8 , respectively, includ ing a tabulation of the reasons for not granting the loans applied for. It will be noted that of shown in the second statement, 210 k82 258 applications refused to October g, as were because of unsatisfactory security; paper not eligible; g,loans placed with other banks; 3 , present credit deemed adequate; 3* denial of credit "fey other banks not shown. Direct loans to individuals, partnerships and corporations granted by the Federal reserve banks to October 17 are as follows: Federal Reserve. Bank ,of te_Iorfe Amawalk Nursery Co. Dorman Brothers Foster and Stewart Co. Friedman & Sons, Keckwear Co., Inc. Joseph E. Meyer Brothers Miller-Cummings Co., Inc. Morris TJhite Hfg. Co. Hew Jersey Flour Mills Co. Scaramelli & Co., Inc. S. Shuff Sons, Inc. $1 5,000 5,000 Astoria, H . Y . 50,000 Hew York, H . I . 85,000 Hew Toi k , H . T . 12,500 Hew York, H. Y. 125,000 H e w Yolk, H . Y . 19,000 Hew York, H.Y. 50,000 Clifton, JT. J. 80,000 H e w Yolk, H.Y. ^ 10,000 Hew Yoik, H . Y . Federal Reserve Bank of Philadelphia , J. F. Apple & Co., Inc. J. B. Henkeln (Henkeln & McCoy) Lancaster, Pa. Philadelphia, Pa. 3,^27 ■3, S Z - J Federal Reserve Bank of Atlanta Continental Turpentine & Rosin Corp, Richcttcd Hosiery Company Mississippi Cotton Seed Products Co. koo Laurel, Miss. Rossville, Ga. Jackson, Miss. 19,750 50,000 4g,000 * / / ■? Hr. Morrill - tB J>rlc*l/n G s a a iu * i , C. ITll Co. •rlcnlyn. klaa. St. ClOlid, mna. UlnaAd-oil*, Hina. Cm XlcMlo ojm Co. 190.9*7 *7.580 7,yO * . rolaod tfoUowi&r U of ft Xotter dated October 1 fro* the Chtdnaa ft of the Beef* of 2 irestore of the federal intrvt Bank of Chloaieo la roffftfd to dootmdft la the Qilct# district* U t l l « lifltliMlt Amt-.ii'> for or celt which eastst he i«tlKfl«4 throng hMAdtad 0 r ottior ehttaaelt, M exceptlea atgr ho food or lexat, t n t tht* ’Motion it ttaaMht to to la a fair ttjr to tftlait taken oar* of. The worst oondl ties to ho aentended with it the aiprieol tnrtl one, pert leal art/ with r a t i o n to aaturlau- farm n»rtffftC«o* tow price* for t> rm product* la m a y iftotonoe* m eks It ahooliiteX? lispoiilbit for the farwere to moot these otll«fttiomo. The problem it reiy serious* particularly to la Iow«» where tho ftimer* through aa*« meetings* resolution », *ad ttrlkoo ore aparoaohla- ft tie to of rerolt. ft«oelmtto*o ere beta.-' pasted lu sor* carat! so piotootlng ft^ai&et aojroao bidding for fane loads tola# told nahor foreclosure* Fvoteot i n alto b*ia# sade ft^sAaot oxborfeltaat taxes ^ad la teat eases & apntorisR on tho pegrmat of taftoo and #»rtd*MKO charges hat beta p repo tod. APPLICATIONS OF INDIVIDUALS, PARTN^SHIPS AND CORPORATIONS PDR LOANS NOT GRANTS Bt TH* F3DSRAL RRSSHVN BASIS - TO CCT03SR 1, 1932 i ttu m b a r K eek | e n d in g O c t. fo rk C le v e la n d 2 2 k 2 R ic h m o n d A tla n ta C h ic a g o L o u is K ansas U2 102 87 30 2 2 13 17 9 8 23 U6l — C ity D a lla s San 7 9* hi 7 2 M in n e a p o lis F r a n c is c o Total p re s e n t p la c e d to O c t. 3 2 2 P h ila d e lp h ia S t. I ! Loans T o ta l — B o s to n New 1 R easons o th e r 1 . w ith hanks - 2 ' c r e d it - 1 — __ — — — 6 3 1 1 1 - # A p p r o x im a te ; DIVISION O f O C T O B ffll B A N K O P E R A T IO N S 19 . 1 9 3 2 . n o t Io a n n » P ap er P ap er 1 U A fas_---- n o t i 76 17 26 1 15 6 30 55 12 7 )* Uo 6 23 6 11 6 3 1 « . 203 2U6 a m o u n ts s o m e tim e s 7 n o t s ta te d . D e n ia l o f c r e d it n o t A own s e c u re d 3 U p c s a tis fa c to r ily e lig ib le . 3 _ — g rs n tj n g n o t deem ed a d e q u a te __ „ fo r ~ — ~ — — " — “ — Amount of lo a n s declined! $1 9 . 2 ^ 2,890,U 00 851,bOO 2 6 ,0 0 0 857.295 1,6 7 0 ,8 2 8 1 .0 8 8 .7 5 0 2 5 9 .8 0 0 3 1 7 2 .0 0 0 L 1 .1 7 2 :: 1U 3.250 68 ,2 0 0 8 .0 8 8.5 35 APPLICATIONS OF INDIVIDUALS. PARTNERSHIPS AND CORPORATIONS FOR LOANS SOT GRANT® BT THZ FEDERAL RESERVE BANNS - TO OCTOBER g. 1932 #ADproxlaate; amounts somotlma* not stated* DIVISION OF SANA OPERATIONS OCTOBER 19, 1932. To Governor tleyer From W. R. Burgess Y? You may be in terested in the attached charts, I think you have seen the second one, but the f i r s t one i s new. The figures are monthly averages so they do not show the la t e s t weekly movements. A comparison of th is diagram with those fo r preceding depressions indicates that things are working out about as would be expected, and shows the importance of the excess reserves. Federal Reserve Bank of New York Repor*s Department O ct >r ,193A. Z38$ PER CENT +50 +25 PRICES 160 1930 1931 1932 1933 Sequence of Events in the Current Period of Depreeeion P E R C E N T P E R C E N T PER C E N T P E R C E N T +50 +25 P E R C E N T +50 R E S E R V E P O S I T I O N _ OF N . Y . C I T Y B A N K S 0 —( B E F O R E B O R R O W I N G - / F R O M F. R. BANK) / 0 \/ H E S E R V E POSITIONOF N. Y. CIT' I B A N K S -25 — - -50 -100 B I L L I O N S OF S 3.5 -150 BILLIONS 3.0 y 23 2.0- V /' 45 .• 'D E P O S I T S OF N. Y. C I T Y B A N K S 4.0 3.5 1.5 h PRICE BOND 100 . 60 PER +20 / PR IC E S 1 70 50 PER +20 _______________ y 90 ^ 7 1 / ST O C K NO R M* <L PRU PRICES CEN T _ OF S 5.0 • +10 / 0 -10 B U SIN ESS ACTIVITY -20 PER P E R C E N T 140r 250 200 150 W HOL ESALE 1910- 1914.100 1914 1915 P RICES 1916 100 — W H O L E S A L E 50 1910- 1914-100 1920 1921 Sequence o f Events in Previous Periods o f Depression 1922 i X-7278—a C 0 IT F I D E IT T I A L October 21, 1932. TO Federal Reserve Board FROM Mr. Wyatt, General Counsel. SUBJECT: Questions of law and p o licy arisin g in the administration of Section 8 of the Clayton A ct. It i s contemplated th at, during their meeting in Washington commencing on November 14, 1932, the Board w ill discuss with the Federal Reserve Agents the p o licy and procedure which govern in grant ing permits under the provisions of the Clayton Act re la tin g to in ter locking bank d irecto ra tes; and i t i s the purpose of this memorandum and the attached memorandum by Mr. Chase to review th is subject in the lig h t of questions which have arisen during the past year or two, in order to furnish a convenient and h elp fu l b asis for discussion. HISTORY OF THE LEGISLATION. It is believed that i t would be conducive to a more thorough understanding of the subject i f the h isto ry and purpose of the Clayton Act as a whole are reviewed b r ie f ly before entering upon a discussion of the sp e c ific problems confronting the Board. The Sherman Anti-Trust Act dealt generally with monopolies and re stra in ts of trade and was construed o r ig in a lly by the Supreme Court of the United States as making unlawful a l l contracts, combinations, e t c ., which restrained trade. Later d ecision s, however, established what i s known as the ”rule of reason*, which was to the e ffe c t that only those contracts, combinations, e t c ., were unlawful which operated to the prejudice of the public in te re st by obstructing and restraining trade unduly and unreasonably. Under both in te rp retatio n s, the Sherman Act dealt only with the p a st, i . e . , i t attempted to prevent contracts and combinations in -2 - X -7278-a restraint of trade “by penalizing those 7/hich actually had restrained . trade, As a resu lt of the adoption o f the rule of reason by the Supreme Court in interpreting the Sherman Act, there was much public a g ita tio n ; and, in an e ffo r t to abolish the rule o f reason, Congress enacted the Clayton Act, supplementing the Sherman Act and other e x istin g laws relatin g to monopolies and combinations in restrain t of trade. The Clayton Act sought to prevent restra in ts o f trade in their incipiency by prohibiting certain types o f agreements, relationships and transactions which may resu lt in a substantial lessening of compe t it io n . The Clayton Act, therefore, unlike the Sherman Act, looks to the future and deals with re su lts which may arise from the contracts, rela tionships and transactions with which i t deals rather than with resu lts which have been accomplished. This is an important d istin ctio n which must be borne in mind con stan tly in administering and applying the provisions o f the Clayton Act. Following the panic o f 1907, there was also an extended in v e sti gation o f the so -c a lle d ’•Money Trust” . This investigation was made by a special committee o f Congress known as the Pujo Committee, which recommended a number o f d iffe re n t le g is la tiv e measures to prevent a r e str ic tio n o f credit and the s t i f l i n g of competition between banks. One of the committee’ s recommendations was that interlocking directorates between banks be r e str ic te d ; and i t was in response to this ? X-7278-a -3— recommendation that there was inserted in Section 8 of the Clayton Act a provision forbidding all interlocking directorates between banks of certain classes. As originally enacted on October 15, 1914, therefore, Section 8 of the Clayton Act forbade all interlocking directorates between banks of certain classes; and there was no authority anywhere to permit interlock ing directorates between banks within the prohibited classes. The Kern Amendment of May 15, 1916, made an exception to Section 8 of the Clayton Act, authorizing the Federal Reserve Board, in its dis cretion, to permit interlocking directorates between not more than three banks in the prohibited classes, if such banks were not in substantial competition. ■ . .. . .... .. The other provisions of the Clayton Act had dealt with transac tions which may result in a substantial lessening of competition, and it is obvious that the Kern Amendment was based upon the same policy, the theory being that, if certain banks were not in substantial competition, then no substantial lessening of competition could result from an interlocking directorate between them. It was found that the Kern Amendment operated illogically and in some cases unjustly. Thus, it sometimes happened that a person would serve for years as a director of three banks which were not within the provisions of the Clayton Act because of their size. One of the banks would grow until its resources exceeded $5,000,000, thus bringing the interlocking directorate within the prohibitions of the Clayton Act and making it unlawful for the director to continue to serve all three banks without first obtaining the Board’s permission. When the director applied X-7278-a -4~ for the Board’s permission, it w o l d he found that, notwithstanding the interlocking directorate, the hanks were then in substantial com petition. The 3oard would have to deny the permit and the director would have to resign either as a director of the $5,000,000 hank or as a director of hoth of the other hanks. Ke was thus penalized for having permitted the hanks to compete. In order to (rare this situation and to prevent this and similar injustices, the Federal Reserve Board recommended that the Kern Amendment he further amended so as to authorize the Board to permit interlocking directorates between not more than three banks in the prohibited classes if, in the Board’s judgment, such interlocking directorates ’’will not result in a restriction of credit or 1essening of competition ”'between the hanks involved. Congress, however, amended the Clayton Act so as to authorize the Board to permit interlocking directorates between not more than three hanks in the prohibited classes, 11if in its judgment it is not incompatible with the public interest.” As pointed out by Mr. Chase in the attached memorandum, Congress probably had in mind only such interlocking directorates as might result in a restriction of credit or a lessening of competition when it used the phrase ’’incompatible with the public interest”; but the language has a much broader meaning and can be applied to any interlocking directorate which may for any reason what soever be incompatible with the public interest. 5^ X-7273-a I/iAJOH QUESTIONS ARISING- LETTER TEE A i m D I M T . This gives rise to the question whether, in passing upon applications for permits under the Kern .Amendment, as amended, the Board should, (a) consider only the question whether the proposed interlocking directorates may result in a restriction of credit or a substantial lessening of competition, or (b) should consider also whether they will be incompatible with the public interest for any other reason. Regardless of whether the Board must consider the second question, there also arises a question whether, as a matter of policy, it would be advisable for the Board to exercise the power conferred upon it by the amendment in such a way as to promote the public interest generally— for example, by limiting the sphere of influence of bank directors whose services in this capacity may be harmful to the banks, because of either their malfeasance or their nonfeasance. It could be argued that the language of the law is so clear that there is no justification for referring to its legislative history and that, therefore, in passing upon applications for permits under the Clayton Act, the Board must take into consideration every factor having any bearing upon the question whether the proposed interlocking directorate would be compatible with the public interest. On the other hand, it could be argued that the language is so general that the Board is justified in considering the legislative history in detemining the scope of its duty in the premises; that the Clayton Act deals only with the relationships between two or more banks; and that, in the light of the history of the Clayton Act, the Board is not required to ~6< X-7273-a consider anything except the question whether the interlocking directorate may result in a restriction of credit or a substantial lessening of compe tition between the banks involved. Even if the 3oard decides that it is not required to consider any thing except the question whether the proposed interlocking directorate will result in a restriction of credit or a substantial lessening of competition between the banks involved, however, there would seem to be nothing to preclude the Board from considering other questions. 'The question whether it is incompatible with the public interest to permit an interlocking direc torate is left to the Board’s judgment; and the Board is not required to issue permits but is merely authorized to do so. The courts are very re luctant to review actions taken by administrative officers under statutes vesting them with judgment or discretion and, when they review such actions, they do not overrule the administrative authority unless it appears that there was no reasonable foundation for the action taken and that it neces sarily must have been based upon prejudice, whim or caprice. Even if it should appear unlikely that an interlocking directorate between two banks would result in a restriction of credit or a substantial lessening of compe tition, therefore, the courts would not be likely to hold that the Board exceeded its authority in refusing such a permit, if the Board should base its action upon some other ground having a reasonable relation to the public interest. • A DIRECTOR1S QUALIFICATIONS AND BECOKD. sThile it cannot be said in the light of its legislative history that the Clayton Act imposes a positive duty upon the Board to consider any question other than whether interlocking directorates probably would result in a restriction of credit or a substantial lessening of competition, yet it -7 X-7278-a * ., > ‘ • : , i would seem that the Board has ample authority, if it desires to do so, to refuse to grant permits for interlocking directorates when for any other reason the granting of such permits would, in the Board’s judgment, he in compatible with the public interest.. The question arises, therefore, whether, as a matter of policy, the Board should consider only the question whether interlocking directors probably will result in a restriction of credit or a substantial lessening of competition or whether the Board should consider other questions affecting the public interest and especially the possibility of limiting the influence of individual directors whose activities have been positively harmful to the banks which they have served previously, Where it appears that a director has had a bad influence upon a bank, that he has been guilty of abusing his position as a director, that he has grossly neglected his duties as a director, or that for any other reason he is an undesirable bank director, the Board cannot, under existing law, prevent him from serving a single member bank; but, through the exercise of the powers conferred upon it by Section 8 of the Clayton Act, the Board can limit the sphere of influence of such a director by withholding its permis sion for him to serve more than one bank within the classes affected by that Act, • It is well known that the principal cause of bank failures is bad or careless management; the Board has formally approved a section of the Glass Bill which would authorize it to remove bank officers and directors who have been guilty of repeated violations of law or continued bad management; and the question arises whether the Board should not take such factors into con sideration in passing upon applications for its permission to serve two or more banks within the classes affected by the Clayton Act, -8 - X-7273-a There are many cases in which the courts have held hank directors liable in their individual capacities for losses sustained by their banks as a result of the directors* misconduct or negligence; and in some of these cases the courts have criticized the directors severely. Suppose that, in such a case, the defendant should show the court that, with full knowledge of the course of conduct upon which the suit is founded, the Federal Reserve Board had issued a permit authorizing him to serve as a director of the bank in question and also two other banks. Or, suppose that it has been clearly established that a particular individual completely dominated the affairs of a certain bank and that his mismanagement and wrongdoing resulted in the bank*s ruin. Suppose that such a director should subsequently apply to the Board for permission to serve three banks which obviously are not in substantial competition. Would it be good policy for the Board to grant such a director its affirmative permission to serve the three banks? On the other hand, if the Board decides to consider questions of this kind in its administration of the Clayton Act, problems will arise as to how far the Board should go in investigating the records of applicants, how far afield such investigations will lead the Board, and how large a burden of responsibility the Board must assume in this connection? Three possible alternatives are suggested: 1, The Board could consider in this connection only such inform ation as is contained in records of which it has actual or constructive notice— i.e., information in the records of the Board, the Federal Reserve Agents and the Federal reserve banks; or 2. The Board could supplement information already in such records < • -9- X-7278-a "by requiring the applicant (and possibly the Federal Reserve Agent and the Chief National Bank Examiner) to answer a series of questions de signed to disclose the character of the director’s influence as such and whether his record as a director is good or bad; or 3* The Board could cause an independent and searching investi gation to be made regarding the character, qualifications and record of each person who applies to it for a permit under the Clayton Act. . If the Board decides to go into this phase of the subject, it will be necessary to consider which of these three course of action or what other course of action it will pursue. TEE QUESTION 0? COMPETITION. •Applications involving banks which clearly are not in substantial competition usually present no difficulties, because it can safely be assumed that an interlocking directorate between them will not result in a substantial lessening of competition; and such applications clearly should be granted, unless it is incompatible with the public interest for some other reason. When the Board receives an application for a permit to serve two banks which clearly are in substantial competition, however, a number of administrative questions arise. If such banks have no common directors, it could be argued that the mere fact that they are in substantial competition is not alone sufficient evidence that a single interlocking directorate between them probably will result in a substantial lessening of competition and that, therefore, the application should not be denied unless there is some other evidence tending to show that a substantial lessening of competition probably will result. . -10- X-7278~a If this view is adopted, however, then the question will arise whether, under similar circumstances, the Board should grant permits for a second, a third, a fourth, a fifth, interlocking directorate, and so on. In other words,-how many interlocking directorates Between such hanks should the Board permit? Should it permit a third of the directors of the one hank to he directors of the other? or half of them? or threefourths of them? or all of them? It could hardly he denied that to permit ail of the directors of one hank to serve also as directors of a competing bank probably would result in a substantial lessening of competition; and it would seem exceedingly difficult to establish anything hut an arbitrary rule as to the number of common directors which should be permitted between such banks.. In this connection, it must be remembered that the Clayton Act establishes a basic rule that no interlocking directorates shall be permitted between banks in the prohibited classes and that, when a dir ector applies to the Federal Reserve Board for permission to serve two or three banks in the prohibited classes, he is asking the Board to take action which will bring him within one of the exceptions to the Clayton Act. He is asking the Board to make a special exception in his case; and, in order to grant his request, the Board must find that it is not incompatible with the public interest to do so. In these circumstances,, it would seem that, if the banks are in substantial competition, the Federal Reserve Board, for its own protection, ought to have in its records some affirmative evidence that such an inter locking directorate will not result in a substantial lessening of competition; -11- X-7278~a ana it would seen logical to place the "burden of furnishing such information upon the applicant who is asking the Board to grant him a special privilege. It would also seem that the evidence justifying the Board’s action should "be something more than a mere expression of opinion by the applicant or the Federal Be serve Agent. In other words, the fact that the banks are in substantial competi tion could be considered as creating a presumption that an interlocking uirectorate oetween them will tend to lessen competition; and the burden coula oe placed on the applicant to furnish some affirmative ground for granting the permit. it ":ould seem entirely reasonable, therefore, to adopt the policy oi refusing to grant any new permits for interlocking directorates between banks which are in substantial competition, unless the applicant is able to show the Board that there are exceptional circumstances which afford some affirmative basis for such action. It would be difficult, if not impossible, for the applicant to show affirmatively that his service as a director of both banks will not result in a substantial lessening of competition (unless he can show that they are not in substantial competition); but a justification for the granting of the permit could often be furnished in the form of some affirmative reason why it would be in the public interest for him to serve both banks. Thus, the Board might feel justified in granting the application if it could be shown that one of the banks has been in serious difficulties; that the applicant and his friends are willing to put large sums of money in the bank to save it, if the applicant can become a director of such -12- X-7273-a "bank in order to protect their interests as well as the interests of the public. Likewise, the Board might feel justified in granting a permit for an interlocking directorate "between competing "banks, if it should appear that the applicant has contributed materially to the good management of one of the "banks and that the management of the other bank would be materially strengthened by obtaining his services as a director. Another reason for placing upon the applicant the burden of show ing some affirmative reason why his application should be granted is that normally there is no one who will object to the granting of such appli cations. The information submitted by the applicant naturally is sub mitted in such a way as to make out the strongest possible case for him consistent with honesty and truthfulness, and he cannot reasonabljr be expected to point out reasons why his application should not be granted. Experience has shown that Federal Reserve Agents seldom recommend that Clayton Act applications be refused and seldom produce facts not contained in the applications and accompanying exhibits which tend to show that they should not be granted. It is exceedingly difficult, if not impossible, for the Federal Reserve Board to discover and produce such information, MISCELLANEOUS QUESTIONS. Other questions arising from time to time in the administration of the Clayton Act may be indicated very briefly as follows: 1. Whether additional permits for interlocking directorates should be granted when the banks involved are already closely knit with numerous other banks in the same city by a spider web of interlocking directorates -13- X-7278-a 2. lfThether it is in the public interest for the Board to facil itate the organization of a chain or group of hanks by permitting the parent bank to have interlocking directorates with the other banks in the group or chain. 3. VThether under any circumstances it is proper to permit inter locking directorates between a rapidly expanding branch banking system and independent unit banks located in cities in which the parent bank has branches. REVOCATION OF EXISTING- PERMITS. Section 8 of the Clayton Act, as amended, also authorizes the Eederal Reserve Board to revoke any permit for an interlocking directorate issued thereunder "whenever it finds, after reasonable notice and an opportunity to be heard, that the uublic interest requires its revocation". 'The question arises, therefore, whether the Board has a duty to review existing permits from time to time and, if so, on what grounds existing permits should be revoked. Since the purpose of the Clayton Act, as amended, is not to penalize competition between banks but to preserve and foster such compe tition, it would seem obvious that: 1* A permit for an interlocking directorate should not be revoked merely because competition between the banks has increased since the permit was issued; and 2, A permit should be revoked if it appears that the existence of the interlocking directorate has reduced competition between the banks or has prevented the growth of competition between them. -14- X-7278-a If the Board decides that, in granting Clayton Act permits, it will go into the question whether the influence of the applicant on the hanks involved might he detrimental, it would also he proper to consider the same questions in determining whether or not to revoke existing permits; and all of the problems suggested above should he considered in this connection. It would seem that the possession of the power to revoke existing permits whenever in its judgment the public interest so requires imposes a duty upon the Federal Reserve Board to exercise this power in such a way as to promote the public interest. Therefore, it would seem that all existing Clayton Act permits should be reviewed at reasonable intervals with view of determining whether they should be revoked. In deciding whether to revoke existing permits, however, the Board could properly take into consideration the question whether it would be in the public interest to do so in the light of all circumstances existing at the time, including the unsettled banking situation; and it would not seem necessary to review existing permits unless and until the Board is prepared to revoke them and thereby disrupt existing relationships, in cases where the facts seem to warrant such action. REcammoATiau. I respectfully recommend that copies of this memorandum and of the attached memorandum by Mr. Chase be sent to all Federal Reserve Agents for their information in advance of their conference with the Board and also that I be authorized to send copies to Counsel for all of the Federal reserve banks, in order that they may be prepared to discuss the subject with the Federal Reserve Agents. -15- X-7278-a I discussed the subject orally with Counsel for the Federal re serve banks during their recent conference here; but I think it would be helpful for them to have copies of these memoranda. Respectfully, WW;mw Walter Wyatt, General Counsel CONFIDENTIAL X-7278~b Oct. 3, 1932. Toi Federal Reserve Board Subject; Administration of Section From: Mr. Chase, Assistant Counsel. 8 of the Clayton Act. In this memorandum are considered various questions arising in con nection with the administering of section 8 of the Clayton Act, as amended (U.S.Code, Title 15, section 19). The questions arise with regard to the scope of the Board1s authority under the standard prescribed by that section, namely, compatibility with the public interest. As originally enacted, section 8 of the Clayton Act absolutely pro hibited interlocking directorates between banks of certain classes. • The provi sion of that section dealing with banks was amended, first, by the Kern amend ment in 1916 which authorized the Board to grant permits to serve not more than three banks provided such banks were not iii substantial competition. Since the forbidding of interlocking directorates in all cases where competition existed sometimes actually stifled competition and produced other unsought results, the provision was again amended in 1928 so as to authorize the Board to grant such permits if in its judgment such action "is not incompatible with the public interest". The three principal questions to be considered in this memorandum are; (1) In dealing with the question of competition, if substantial compe tition is found to exist between the banks, should the Board deny the applica tion in all cases unless the applicant is able to show a valid reason why it should be granted, -or should the Board adopt a policy of granting each applica tion unless it feels that there is more than a remote possibility that a sub stantial lessening of competition will result? (2) Is the question of competition in its various aspects the only question to be considered by the Board in passing upon an application? -2- X-7278-13 (o) If that is not the only question, what other matters should he considered? There are no court decisions which answer these questions specifical ly, and it will therefore he necessary to examine, first, certain decisions of the Supreme Court relating to the general purpose of the Clayton Act, second, the legislative history of the particular provision of section 8, and, lastly, certain legal principles and matters of policy involved in the third question stated above. I. SUPREME COURT DECISIONS RELATING- TO THE GENERAL PURPOSE OE THE CLAYTON ACT. The Clayton Act was enacted with the purpose of changing and supple menting the existing statute dealing generally with monopolies and restraints of trade, the Sherman Act. The Sherman Act at first had been interpreted by the United States Supreme Court as making unlawful all contracts, combinations, etc., which restrained trade. Later decisions, however, (see particularly Standard Oil Co. v. United States. 221 U.S. 1; 31 S.Ct., 502, 516-518) estab lished what is known as the "rule of reason", which was that only those con tracts, combinations, etc., were unlawful which operated to the prejudice of the "public interest" by obstructing and restraining trade unduly and unreasonably. After considerable political agitation, and after the decision of the Standard Oil case, the Clayton Act was enacted. Two leading cases were sub sequently decided by the Supreme Court involving the meaning of the phrase "substantially lessen competition" as used in the basic sections of the Clayton Act dealing with subjects other than banks. The first, Standard Fashion Company v. Magrane-Houston Co.. 258 U.S. 346, 42 S.Ct. 360 held that: 1. Although much was said in the briefs concerning the reports of committees, "the words of the Act are plain and their meaning is apparent ■3~ X-7278-b without the necessity of resorting to the * * * often unsatisfactory aid of such reports." 2. "The Clayton Act sought to reach the agreements embraced within its sphere in their incipiency. and in the section under consideration to determine their legality by specific tests of its own. * * * ». In other words, under sections 2 and 3 of the Clayton Act it is not necessary to show that the acts have actually resulted in a restraint of competition: it forbids acts which "may” lessen competition, thus reaching the evil in its incipiency. 5. The use of the words "may" and "substantially" shows that the statute was intended to reach not all the acts described but only those which would "'probably lessen competition or create an actual tendency to monopoly. That it was not intended to reach every remote lessening of competition is shown in the requirement that such lessening must be substantial." The second case, United Shoe Machinery Corn, v. United States. 258 U.S. 451; 42 S. Ct. 363, illustrates point 2, above. It involved a group of transactions which had previously been held not to violate the Sherman Act. They were held to be in violation of the Clayton Act (or rather, certain facts which were immaterial in the Sherman Act case were held to amount to a violation of the Clayton Act). The Court held that the first decision did not make the question res .judicata under the Clayton Act, saying: "Under the Sherman Act, as interpreted by this court before the passage of the Clayton Act contracts were prohibited which unduly restrained the natural flow of interstate commerce, or which materially interrupt the free exercise of competition in the channels of interstate trade. In the second section monopolization or attempts to monopolize in terstate trade were condemned. The Clayton Act (section 3) prohibits contracts of sale, or leases made upon the condition, agreement, or understanding that the purchaser of lessee — 4~ X-7278-b shall not deal in or use the goods of a com petitor of the seller or lessor where the effect of such lease, sale, or contract, or such condition, agreement, or understanding ’may* he to substantially lessen competition or tend to create monopoly. The cause of ac tion is therefore not the same.” To summarize; 1. The phrase "the public interest” was used by the Supreme Court in the leading Standard Oil Case in describing the purpose of the Sherman Act, and in laying down the "rule of reason” for interpreting the prohibitions contained in that Act. 2. The Clayton Act was enacted to amend the existing law as interpreted by the courts. It sought to prevent the evils in question by reaching them in their incipiency, and provides a standard of its own to be applied to the specific acts with which it deals. The standard is: THhether the acts are such that they "may” "substantially” lessen competition, or tend to create a monopoly, — which means, in the words of the Supreme Court, such as will "probably11 lessen competition "substantially”; that is, by amending the law, Congress did not intend to make unlawful acts which only had a r.emote and possible tendency to lessen competition, 3.. The two Acts, as interpreted by the Supreme Court, both obey the legal maxim that the law will not concern itself with matters of trifling importance, — the Sherman Act, by not condemning contracts unless they restrain commerce unreasonably to the detriment of the public interest; the Clayton Act., -5- X-7278-b by forbidding certain actions only when they probably will result in a substantial lessening of competition, the test in Section 8 of the latter Act being compatibility with the "public interest". LEGISLATIVE HISTORY The first part of the legislative history of the present provision is completely summarized in-the Annual Reports of the Federal Reserve Board. 1921 Report, pp. 87-89: "As originally enacted section 8 of the act approved October 15, 1914, known as the Clayton Antitrust Act, aosolutely prohibited interlocking directorates between certain classes of banks. The act of May 15, 1916, known as the Kern amendment, modified the provi sions of that section so as to allow a person who first obtains the permission of the Federal Reserve Board to serve not more than three banks in the prohibited classes, if such banks are not in substantial competition. " * * * "When the work done in connection with the review of the interlocking directorates revealed to the Board how many instances there were in which a strict enforcement of the terms of section 8 of the Clayton Act would operate in equitably, the Board decided to consider the question of a further amendment to the Clayton Act to carry out more effectually the intention of Congress to promote and encourage competition. The matter was referred to the Board’s committee on the Clayton Act, which, after making a careful study of the problem, with the assistance of counsel, rendered a report in which it recommended an amend ment which would authorize the Federal Reserve to permit a person to serve not more than three competing banks, when the Board is satisfied that such interlocking director ates will not result in a restriction of credit or lessen ing of competition between the banks involved, the Board, however, to continue to have full power to revoke such permits at any time. * * * The Board adopted the recom mendations of its committee on the Clayton Act and a bill amending the Clayton Act in this manner was drafted and submitted to the Senate and House Committees on Banking and Currency." (H.R. 4826). The recommendation that the Kern amendment be further amended was renewed in every annual report up to and including the Report for 1926. The '6~ X-7278-b recommendation was omitted from the 1927 Report perhaps for the reason that an amendment was then actually in the process of "being enacted. 1923 Report, p. 52; "* * *The Board directed its 12 Federal reserve agents to make a comprehensive review * *. This investigation disclosed that in a few cases "banks with common directors have "become substantial competitors since the time when permits for such directorates were granted, either through the natural growth of competitive business or through the acquisition of competitive business incident to a con solidation,”. and the Board accordingly renewed the recommendation contained in its 1921 Report. In the interval between the Report for 1923 and the Report for 1924 a bill was introduced in the Senate known as S. 3299 which contained the phrase "lessening of competition”. A bill was introduced in the House by Representative McFadden known as H.R. .9344 which contained the phrase which hau subsequently been enacted, "not incompatible with the public interest". It does not appear from the Board’s files that the Board suggested to any member of Congress the broader language of the latter bill, but the Board approved the language, as is shown by its Report for 1924. In discussing these two pending bills, the Board said: 1924 Report, p. 29; "In its present form section 8 of the Clayton Act in operation often defeats the purpose for which it was en acted; it discriminates against national banks, and in many cases its enforcement results in unnecessary hardship to individuals and to the disadvantage of the banking and credit situation in certain communities. The board has repeatedly recommended the enactment of an amendment to the Clayton Act to overcome these defects. * * * The fundamental purpose both bills, however, was to give the board more latitude the matter of permitting interlocking directorates and thus enable it to administer the Clayton Act more effectively and of in -7- X-7278-b more nearly in harmony with the apparent purpose and intent of Congress in regulating interlocking directorates. The Senate "bill was introduced at the "board1s request and the House "bill with the "board1s approval." 1928 Re-port: After the enactment of the present provision, the Eoard made note of the fact in its Annual Report, "but did not undertake to answer the question discussed herein. It said, p. 37: * Under the amendment the "board is authorized to grant such permits if in the judgment of the "board the issuance of such a permit is not incompatible with the public interest, and such permits may be granted even though no member bank of the Federal reserve system is involved." . The letters and memoranda sent by the Board to various members of Congress in connection with the various bills referred to above relate only to the question of competition in its various aspects, and as indicated in the 1924 Report of the Board, its approval of the language of H.R. 9344, which was the language ultimately enacted into law, was based on those considerations. In view of the length of time which elapsed between the original enactment of the Clayton Act, ~ - and even between the enactment of the Kern amendment, - - and the subsequent enactment of the present provision, there is little logical justification for assuming that the thoughts of the members of Congress which were not actually put into legislation persisted unaltered until the time of the enactment of the present provision in 1928. Little help can therefore be expected from the debates and other parts of the legis lative history of the earlier provisions. Three reports of committees -B- X~7278~b concerning tills containing the language which was finally enacted into law in 1928 should, however, furnish as reliable a guide as committee reports are apt to furnish in any case. The Senate Committee inserted an amendment containing the phrase "not incompatible with the public interest11 in H.R. 2 (a bill containing numerous amendments to the Federal banking laws, which, after enactment with changes, became known as the McFadden Act of Feb. 25, 1927) and this amendment was passed by the Senate but rejected by the House. Two bills were introduced in the 60th Congress containing similar provisions, H.R. 9098 and S. 3007. The bill which was ultimately enacted on March 9, 1928, was known as-H.R. 6491. Hone of the bills which contained the language which has since been enacted, except the proposed Senate amendment to H.R. 2 (which was rejected by the House) and H.R, 6491, was ever made the subject of a report by a committee of Congress. The report on H.R, 2 (Senate Report 473, 69th Cong.) contains; the following (at p. 13): it* * *gy the passage of the Kern amendment Congress recognized the fact that it is not objectionable -per se for the same person to serve as director of a limited number of banks. Interlocking directorates become objectionable when by reason of the common domination of several banking institutions competition is unduly restricted and concentration of the control of credit results. Presumably Congress intended to vest a dis cretion in the board to determine, within the limits prescribed by it, when it became incompatible with the public interest for the same director to serve on the boards of two or three banking institutions. The test applied, however, namely, the degree of competition ex isting as between such institutions, has -proven im practicable and unworkable.» * * * "This amendment retains the limit on the number of banks that may have common directors, but vests in the board a discretion to determine when interlocking dir ectorates within the limits imposed by Congress are inconsistent with the purpose of the Clayton Act. This is 9 X-7278~b a question which must he determined, by consideration of all the facts in a given case and which can not be determined by the application of any formula.” The Senate report on H. R. 6491 (Sen. Rep. 439, 70th Cong., 1 st S e ss.) contains no original comment but merely quotes in f u l l the report of the House committee. The latter report is explicit. The House report on H. R. 6491, (House Rep. 487, 70th Cong. 1st Sess.) the language and substance of which is derived largely from letters and memoranda from the offices of the Board, begins with a brief statement of the original provision and of the Kern amendment. The report then states that the experience of the Board lias been "that the Kern Amendment in its present form does not work out in the way in which it was intended". Illustrations are given. Competition lias grown up between banks in spite of common directorates, showing that they had not prevented the existence of competition. In some cases requiring a director to resign might precipitate a crisis in the af— . fairs of the bank by undermining public confidence in it. The report then sums up the situation as follows: "To sum up briefly, the Kern amendment was designed to permit limited interlocking directorates, but only in cases where the public interest would not be prejudiced, as by the lessening of conpetition be tween banks or the restriction of credit. * * * It is not -particularly important whether banks which wish common directors are or are not in substantial competition — that has little to do with the ques tion — but it is important what effect the interlock ing directorates will, have on the banking and credit situation in the community. Consequently the tost for permitting interlocking directorates should be X-7378-b « 10 - whether or not such directorates will in juriously affect the public interest by discouraging interbank competition or re stricting credit or otherwise, and not the present test as to the existence of substantial competition.” * * * * * * * * * * * ”The above discussion should demonstrate clearly that the Kern amendment in its present form operates in an illogical way and often defeats the very pur pose for which it was enacted. It follows that*the law should be further amended in such a way as to enable the Federal Reserve Board to administer it more effectively and more nearly in harmony with the apparent purpose and intent of Congress in regulating interlocking directorates.” The debate in Congress was very meagre. In the House, Mr. MdFadden1s statement explaining the bill is merely a summary of the Committeers report. In response to questions from the floor, he explained that conpetition was the "principal” factor to be con sidered by the Board, but did not name any other factors,Roc, Vol. 69, p. 2335).. (Cong. Mr. Goldsborough and Mr. LaG-uardia op posed the bill on the ground that interlocking directorates should be forbidden absolutely.. ly no debate. An extract from In the Senate there was virtual-* a letter from the Board was read, saying that the amendment "will enable us to function more in ac cordance with the original intent of the law.” The conclusion which I reach upon the first two questions are, therefore - - 11 - 1(a) X-7278~b The Board nmst, as a matter of law, deny an appli cation if in its judgment the granting of it would probably result in a substantial lessening of competition between the banks in volved, (b) The Board is "authorized” to grant an application if in its judgment no substantial lessening of competition will probably result, and provided no other reason exists which in its judgment would make the granting of the application incompatible with the public interest. 2. Section 8, as amended, provides that the Board is "authorized" to issue a permit if in its "judgment" it would not be incompatible with the "public interest". The words "competition" and "monopoly" are not used in this provision. It follows, therefore, that although Congress had in mind only the question of competition, or restriction of credit, the language of the act clearly vests the Board with discretion to deny an application if in its judgment it would be incompatible with the public interest to grant it; and the Board is vested with a wide discretion in deciding upon the matter. Moreover, under well-established legal principles, the courts will not disturb an exercise of discretion thus vested by statute 'unless the discretion has been plainly abused and exceeded. X-7278- . - 12 ~ However, the fact that the Board, is "authorized" to grant the permit in its discretion, also means that the permit must not "be denied arbitrarily or capriciously, III. MATTERS OTHER THAI! COMPETITION. In the event that the Board should decide to consider matters other than competition, a number of questions are raised: Should the Board grant a permit, even if the hanks are not in competition, if it knows that the applicant — extreme case as an illustration — taking the has ruined a hank by his un~ laTTful acts? Should it, on the other hand, attempt to improve the quality of directors generally, by exercising its limited right to deny an application involving more than one bank within the prohibited classes, — in spite of the fact that its decision, even when adverse, can only affect the number of banks which the aPP^^can^ can serve without being able to prevent him from serv ing any bank, even though it is a member of the Federal Reserve System? Should it undertake to pass upon the qualifications of directors although it is not in a position to make an informed decision in a great many cases? X-7278-b - 13 - Prom what sources and in what manner would the Board seek information with regard to his qualifications : (a) Should the Board grant the permit unless there is information in its files or those of the Federal Beserve Agent which indicates that it would he incompatible with the public interest to grant the permit: (b) Should the Board require the applicant to answer a series of questions regarding his experience, training and other qualifications, his attendance at directors* meetings, etc; or (c) Should the Board cause a special investigation to be made of the applicant*s qualifications and record as a bank director or officer. These are questions of policy which are not within tne scope of this memorandum. It will be assumed, however, for the purpose of discussion, that the Board may avoid the extremes indicated above, and take a middle ground, denying an applica tion, regardless of conpetition, when information readily avail able to it indicates that the applicant has some positive dis qualification. - 14 - X-7278-b In order to ascertain the facts with regard to such matters, the Federal Seserve .Agent could "be requested to give his comments at the time of forwarding the application to the Board, and, in addition, such means could be adopted as the Board may determine for ascertaining whether the reports of examination and similar sources of information either show definitely an objection to the applicant along the lines referred to or give an indication sufficient to make further inquiries advisable. In that event, it would seem that the questions to be considered, aside from competition, should include: 1. Whether the applicant is dishonest or incompetent, - the character of the management of the banks with which he is associated and the extent of his responsibility therefor, be ing considered pertinent to this inquiry. 2. Whether the applicant discharges the duties a,nd responsibilities of his office by attending directors’ meet ings, etc., — the geographical location of the banks being one of the factors considered in this connection. 3. Whether he abuses his borrowing privilege, — or, more specifically, whether the examiner has criticized loans to the applicant, his family or his interests, as be ing excessive, or for any other reason. •t - 15 - . x-7273-b The questions outlined above are necessarily general in character since it would not be possible to predict except in a general way what facts might be developed which would make the granting of the application undesirable from the standpoint of the public interest in the less restricted meaning of that phrase. Matters such as dishonesty, incompetence and knowingly directing the bank’s affairs in violation of statutory provisions, require no illustration or description. The abuse of the borrowing privilege may, of course, be indirect and consist of excessive borrowing not only by the director but by members of his family and his or their interests. The character of the bank’s investments may be found to be highly speculative, and the applicant be found to be responsible therefor. The undesirability of a director who serves merely as a figure-head also requires no extended comment. The point is aptly summarized by the Supreme Court of the United States in the case of Martin v. Webb, 110 U. S. 7, 3 S. Ct. 428, 433: ”* * Directors cannot, in justice to those who deal with the bank, shut their eyes to what is going on around them. It is their duty to use ordinary diligence in as certaining the condition of its business, and to exercise reasonable control and supervision of its officers. They have something more to do than, from time to time, to elect the officers of the bank, and to make declarations of dividends. That which they ought, by proper diligence, to have known as to the general course of business in the bank, they may be presumed to have known in any contest between the corporation and those who are justified by the circumstances in dealing with its officers upon the basis of that course of business.1’ As was stated by the Supreme Court in another case, however, 4 - 16 ~ X-7278-b (Briggs v. Spaulding, 141 U* S. 132, 11 S» Ct. Rep. 924) it is not possiole to define with precision the degree of care and attention which a director should give to the affairs of the hank. depend upon all the facts of the particular case. That must The Court con cluded, however: n* * Without reviewing the various decisions on the subject, wo hold that directors must exercise ordinary care and prudence in the administration of the affairs of a hank, and that this includes something more than iciating as figure-heads. They are entitled under the law to commit the hanking business, as defined, to their duly-authorized officers, hut this does not absolve them from the duty of reasonable supervision, nor ought they to be permitted to be shielded from liability because of want of knowledge of wrong-doing, if that ignorance is the result of gross inattention; but in this case we do not think these defendants fairly liable for not preventing loss by putting the bank into liquidation within 90 days after they became directors, and it is really to that the case becomes reduced at last." In Bowerman v. Planner, 250 U. S. 504, 39 S. Ct. 549, a decree against Bowerman as director for losses sustained by the bank as the result of unlawful and negligent management of its affairs was affirmed. Bowerman lived 200 miles from the bank and had not attended a single meeting of the board. n* * He was a man of such importance and reputation that the use of his name must have contributed to securing the confidence of the community and of depositors for the bank, it would be a reproach to the law to permit his rosid-GUce at a distance from the location of the bank, a condi tion which existed from the time he first assumed the office of director, to serve as an excuse for his utter abdication of his common—law responsibility for the conduct of its affairs and for the flagrant violation of his oath of office when it resulted in loss to others.” Respectfully submitted, G. Howland Chase, Assistant Counsel. GHC;mw F o r m N o . 131 $7 O ffice Correspondence FEDERAL *AL A RESERVE e BOARD Date Subject:. Attached is a copy of a statement on inflation. October 21, 1932 October 2 1 , 1932 i When Europeans speak o f in fla tio n in th is country they base their statements on memories o f currency in fla tio n which occurred throughout Europe during the war and post-war period* on two fundamental conditionst This kind o f in fla tio n r e sts (1) the use o f currency by the public fo r a considerable proportion o f i t s payments, and (2) long-continued in a b ility o f the Government to meet expenses through taxa tion , and a consequent issuance o f paper money in unlimited amount eith er d ir e c tly by the Govern ment or by the central bank on the basis o f d ire c t borrowing from i t by the Government* These conditions do not e x is t in th is country*, Currency in the United States i s d is t in c tly a minor element in the to ta l volume o f payments* Prob ably no more than one-twentieth o f a l l payments are made by the use of cash* The volume o f currency in the country flu ctu ates in normal times e n tir e ly in response to the demand o f the public fo r cash to be used in r e t a i l trade and fo r payroll purposes* Since the autumn o f 1930 a considerably amount o f cash has a lso been withdrawn fo r hoarding* The only way through which the in f la tionary process could get under way i s through r e t a il purchases, and before that took place there would have to be a fundamental change in the habits pf the people* h a b it. People w ill not carry more cash in th eir pockets than i s th eir Storekeepers w ill deposit with banks the cash they do not currently require, and the banks w ill turn in cash in excess o f t i l l money requirements to the reserve banks and thus r e tir e i t * The f i r s t condition fo r currency in f la t io n , therefore, the cash-using habit of the people, i s absent in th is country* Page 2 In the second place, there has been no attempt by the Government to issue currency fo r the purpose o f meeting a d e fic it# In f a c t , cur rency has been issued by the reserve banks in response to applications from commercial banks, which in t ?rn have merely transmitted to the re serve banks thedtaanda o f th eir customers fo r cash either fo r trade purposes or fo r hoarding* Currency issues by national banks under the recent extension o f the ■ i circulation p riv ileg e to a large volume o f Government bonds have amounted to something over $100,000,000 o f notes, but these new issues have merely displaced other kinds o f currency in circu lation and have not increased the to ta l* The t o ta l volume o f currency, in f a c t , has been declining rapidly since the p rivilege was granted to the national banks, la rg ely in response to improvement in banking conditions, increased confidence in banks, and the consequent return flow o f currency from hoards. The Gov- emment i t s e l f has issued no currency over and above the amounts which ’ ‘ __ _ __ \ have been constant for many years, and the Federal reserve banks have j issued Federal reserve notes only in response to the demands already d is cussed* •. • The passage o f the Glass-Ste&g&ll A ct, which fo r one year permitted the use o f Government secu rities as c o lla te r a l for Federal reserve n otes, has no doubt appeared to foreigners as a means by which currency can be issued fo r the purpose o f meeting Government d e fic its * power does e x ist* Theoretically th is The Government could s e l l se cu ritie s to the reserve banks and the reserve banks could pay fo r them with Federal reserve notes so long as they had 40 per cent in gold as reserves. But in the f i r s t place, as outlined above, currency i s not the means used In th is country to make large payments and the Treasury pays i t s b i l l s by check and not in cash* And in the second place, as a matter of f a c t , the federal i e - serve banks have not issued any additional notes since the passage o f the G lass-Ste& gall A ct, except during the period when currency mas being de manded fo r hoarding purposes* The G lass-S teag all A ct, whatever i t s theo r e t ic a l im plications may be, has in practice been a means by which the Federal reserve banks were able to transfer assets to the federal reserve agent and thereby release gold which thus became availab le lo r other pur poses* The record i s conclusive that there i s no currency in fla tio n in th is country* Currency expanded to meet demands fo r hoarding and has contracted since confidence in the banks has been restored* During a currency in f la tion currency remains in circu lation and does not go into boards* An invari able ch aracteristic o f currency in fla t io n , in i& ct, i s a rapid turnover of currency* In th is country the turnover of currency has been extraordinarily slow as the r e s u lt o f business in a c tiv ity and hoarding. In fla tio n in the United S ta te s, when i t occurs, i s cred it in fla tio n and i s characterised by a rapid growth of bank cred it and a rapid turnover o f th is credit* There certain ly has been no evidence of such a development dur ing the past year. Bank cred it declined rapidly from the autumn o f 1930 to mid-summer o f 1932 and has shown only a moderate advance since that time* The turnover of cred it has declined r a d ic a lly from 1929* In that year turnover a t reporting member banks was at the rate o f 4-5 times per year, and in Jie f i r s t nine months o f 1932 i t was a t the rate of 19 times per year* obviously been no cred it in fla tio n * There has Page A Perhaps apprehensions about in fla tio n are based on the open-market operations of the Federal reserve banks. I t i s true that a purchase o f a b illio n d o lla rs o f Government se cu ritie s by the Federal reserve banks might have been highly in fla tio n a ry in other circumstances, because i t would have placed at the disposal of member banks a b illio n o f reserves on the basis o f which they could have erected an additional cre d it structure o f ten to fifte e n b illio n d o lla r s . But in ex istin g circumstances the purchases by the reserve banks have been absorbed by gold exports and currency hoarding, so that they have merely enabled the banks to meet these drains without accelerating the liquidation of their own c r e d it. In addi tio n , the purchases have enabled the banks to pay o f f a considerable volume of th eir indebtedness to the reserve banks. Member bank reserve balances, which are the foundation o f cred it expansion in th is country, were at a low point at the beginning of Ju ly, 1932, showing clea rly that security pur chases by the reserve banks had not up to that time enlarged the credit base. Since then there have been few se cu ritie s bought, but member bank balances have increased through gold imports and through return flow o f currency. At the present time member banks have $400,000,000 o f excess reserves which could become a basis o f cred it in fla t io n . But i f such in fla tio n de veloped the Federal reserve banks are in a position quickly to reduce the cred it base by the sale o f Government s e c u r itie s . This r e fle c t s an impor tant difference between d ire ct borrowing by the Government from the central bank and purchases by the bank o f Government secu rities previously issued in the open market. The reserve banks are in a position to s e l l th eir Gov ernment s e c u r itie s , whereas central banks which make loans to the Government are not in a position t# liq u id a te those loans when they so d e sir e . Some observers have seen danger o f In fla tio n in the a c t iv it ie s o f the Reconstruction Finance Corporation* The corporation, however, does not create new funds and, therefore, does not expand the cred it base. It simply d i r e c t ^ funds into channels where they would be most serviceab le. To be sure i t has been financed by the Treasury, but that in i t s e l f does not change the situ a tio n , as the Treasury had to obtain i t s funds through tiie flo ta tio n o f s e c u r itie s . One f in a l observation. . In fla tio n does not sta r t in a depression. It makes i t s appearance when a boom i s under way and i t s danger l i e s in the fa c t that i t contributes to the ra p id ity o f expansion and to the volume of speculative ' To summarize, th erefo re, currency in fla tio n does not develop in th is country because o f the minor place that currency occupies in the aggregate o f our payments. The volume of currency has fluctuated in response to economic conditions and to the changes in the demand fo r hoarding. No cur rency has been forced on the people and under our currency machinery cannot be so forced. The provision authorizing the reserve banks to use Government se c u ritie s as c o lla te r a l fo r Federal reserve notes i s a technical device freeing the system^s gold above the 4.0 per cent requirement, and not a device by which to finance a Treasury d e f ic it through the issue o f currency. Neither i s there evidence o f cred it in fla t io n , as bank cred it has expanded l i t t l e in volume and continues to have a low rate of turnover. Open-market operations o f the reserve banks u n til three months ago merely helped the banks to meet gold and currency drains without accelerating the rate o f cred it liq u id a tio n . Daring the la s t three months excess reserves have been b u ilt up by increases Page 6 in gold stock and return flow of currency* In fla tio n on the basis of these reserves would be p o ssib le , but the reserve banks are in a position to absorb the exeess reserves at any time through the sale o f secu rities* And f i n a ll y , in fla tio n does not begin at the trough o f a depression, but develops during a boom which becomes accelerated as a resu lt* October 21, 1932 Vhen Europeans speak o f in f la t i o n in t h is country they base th e ir statements on memories o f currency in f la t i o n which occurred throughout Europe during the war and post-w ar p eriod . on two fundamental c o n d itio n s: (l) This kind o f i n f la t i o n r e s t s the use o f currency by the p ublic fo r a considerable proportion o f i t s payments, and (2) long-continued i n a b i l i t y o f the Government to meet expenses through ta x a tio n , and a consequent issuance o f paper money in unlim ited amount e ith e r d ir e c t l y by the Govern- i ment or by the c en tra l bank on the b a sis o f d ir e c t borrowing from i t by the Government. These cond itions do not e x i s t in th is country. Currency in the United S ta te s i s d i s t i n c t l y a minor element in the total, volume o f payments. Prob a b ly no more than one-tw entieth o f a l l payments are made by the use o f cash. The volume o f currency in the country flu c tu a te s in normal tim es e n t ir e ly in response to the demand o f the p u blic fo r cash to be used in r e t a i l trade and f o r p a y ro ll purposes. Since the autumn o f 1930 a considerable amount o f cash has a ls o been withdrawn fo r hoarding. The only way through which the i n f l a tio n a ry process could g e t under way i s through r e t a i l purchases, and before th a t took place there would have to be a fundamental change in the h a b its o f the p eop le. h a b it . People w i l l n ot carry more cash in th e ir pockets than i s th e ir Storekeepers w i l l d ep o sit with banks the cash they do not cu rre n tly r e q u ir e , and the banks w i l l turn in cash in excess o f t i l l money requirements to the reserve banks and thus r e t ir e i t . The f i r s t con d ition fo r currency i n f l a t i o n , th e r e fo r e , the cash-using h a b it o f the p eo p le, i s absent in t h is country. F o rm N o. 131 (Office •ondence To G o v e r n o r From M r . G '. 'l e v e r o l d e n w L / e i s e ] ^ ~ / ^ FEDERAL RESERVE BOARD Dafe October 2 1 , 1932 Subject: ! / ) > O PO Attached i s a d r a ft o f a statement on i n f l a t i o n . OCT 211932 2— 8 4 9 5 October 21, 1932 Vlien Europeans speak o f in fla t i o n in th is country they base th e ir statements on memories o f currency in f la t i o n which occurred throughout Europe during the war and post-w ar p eriod . on two fundamental c o n d itio n s: This kind o f i n f la t i o n r e s t s (1) the use o f currency by the p u blic fo r a considerable proportion o f i t s payments, and (2) long-continued in a b i l i t y o f the Government to meet expenses through ta x a tio n , and a consequent issuance o f paper money in unlim ited amount e ith e r d ir e c t l y by the Govern- i ment or by the cen tra l bank on the b a sis o f d ir e c t borrowing from i t by the Government• These cond itions do not e x is t in t h is country. Currency in the United S ta te s i s d i s t i n c t l y a minor element in the t o t a l volume o f payments. Prob a b ly no more than one-tw entieth o f a l l payments are made by the use o f cash. The volume o f currency in the country flu c tu a te s in normal times e n t ir e ly in response to the demand o f the p u blic fo r cash to be used in r e t a i l trade and f o r p a y ro ll purposes. Since the autumn o f 1930 a considerable amount o f cash has a ls o been withdrawn f o r hoarding. The only way through which the i n f l a tio n a ry process could g et under way i s through r e t a i l purchases, and before th a t took place there would have to be a fundamental change in the h a b its o f the p eop le. h a b it. People w i l l n ot carry more cash in th e ir pockets than i s th e ir Storekeepers w i l l d e p o sit with banks the cash they do not cu rre n tly r e q u ir e , and the banks w i l l turn in cash in excess o f t i l l money requirements to the reserve banks and thus r e t ir e i t . The f i r s t con d ition fo r currency i n f l a t i o n , th e r e fo r e , the cash-using h a b it o f the p e o p le , i s absent in t h is country. Page 2 In the second p la c e , there has been no attempt by the Government to issu e currency fo r the purpose o f meeting a d e f i c i t . In f a c t , cur rency has been issued by the reserve banks in response to a p p lica tio n s from commercial banks, which in turn have merely transm itted to the re serve banks the demands o f th e ir customers fo r cash e ith e r fo r trade purposes or fo r hoarding. Currency issu e s by n a tio n a l banks under the recen t extension o f the c ir c u la tio n p r iv ile g e to a la rg e volume o f Government bonds have amounted to something over £ 1 0 0 ,0 0 0 ,0 0 0 o f n o te s, but these new issu e s have merely d isp laced other kinds o f currency in c ir c u la tio n and have not increased the t o t a l . The t o t a l volume o f currency, in f a c t , has been d e clin in g ra p id ly since the p r iv ile g e was granted to the n a tio n a l bapks, la r g e ly in response to improvement in banking c o n d itio n s, increased confidence in banks, and the consequent return flow o f currency from hoards. The Gov ernment i t s e l f has issued no currency over and above the amounts which have been constant fo r many y e a r s, and the Federal reserve banks have issu ed Federal reserve notes only in response to the demands already d is cussed. The passage o f the G la s s -S te a g a ll A c t, which fo r one year perm itted the use o f Government s e c u r itie s as c o lla t e r a l fo r Federal reserve n o te s , has no doubt appeared to fo re ig n e rs as a means by which currency can be issu ed fo r the purpose o f meeting Government d e f i c i t s . power does e x i s t . T h e o re tic a lly t h is The Government could s e l l s e c u r it ie s to the reserve banks and the reserve banks could pay fo r them with Federal reserve notes so long as they had 4.0 per cent in gold as r e se r v e s. But in the f i r s t % Page 3 p la c e , as ou tlined above, currency i s not the means used in t h is country to make la rg e payments and the Treasury pays i t s b i l l s by check and not in cash. And in the second p la c e , as a matter o f f a c t , the Federal re serve banks.have not issu ed any a d d itio n a l notes since the passage o f the G la s s -S te a g a ll A c t, except during the period when currency was being de manded fo r hoarding purposes. The G la s s -S te a g a ll A c t, whatever i t s theo r e t i c a l im p lication s may be, has in p ra c tic e been a means by which the Federal reserve banks were able tcf tr a n s fe r a sse ts to the Federal reserve agent and thereby r e le a se gold which thus became a v a ila b le fo r other pur p o se s. The record i s con clu sive th a t there i s no currency i n f la t i o n in t h is country. Currency expanded to meet demands fo r hoarding and has contracted sin ce confidence in the banks has been r e sto r e d . During a currency i n f l a t io n currency remains in c ir c u la tio n and does n o t go in to hoards. ab le c h a r a c te r is tic o f currency i n f l a t i o n , in f a c t , currency. An in v a r i i s a rapid turnover o f In t h is country the turnover o f currency has been e x tr a o rd in a rily slow as the r e s u l t o f business i n a c t iv i t y and hoarding. I n fla t io n in the United S t a t e s , when i t occu rs, i s c r e d it i n f la t i o n and i s characterized by a rapid growth o f bank c r e d it and a rapid turnover o f t h is c r e d it . There c e r ta in ly has been no evidence o f such a development dur ing the p ast y e a r . Bank c r e d it d eclin ed r a p id ly from the autumn o f 1 9 3 0 to mid-summer o f 1 9 3 2 and has shovm only a moderate advance sin ce th a t tim e. The turnover o f c r e d it has declined r a d ic a lly from 1 9 2 9 • In th a t year turnover a t rep o rtin g member banks was a t the ra te o f 4-5 tim es per y e a r , and in the f i r s t nine months o f 1 9 3 2 i t was a t the ra te o f 1 9 times per y e a r. o bviou sly been no c r e d it i n f l a t i o n . There has • Page A Perhaps apprehensions about in fla t i o n are based on the open-market operations o f the Federal reserve banks. I t i s true th at a purchase of a b i l l i o n d o lla r s o f Government s e c u r itie s by the Federal reserve banks might have been h ig h ly in fla tio n a r y in other circum stances, because i t would have placed a t the d isp o sa l o f member banks a b i l l i o n o f reserves on the b a sis o f which they could have erected an a d d itio n a l c r e d it stru ctu re o f ten to f i f t e e n b i l l i o n d o l l a r s . But in e x is tin g circumstances the purchases by the reserve banks have been absorbed by gold exports and currency hoarding, so th at they have merely enabled the banks to meet these drains without a c c e le r a tin g the liq u id a tio n o f th e ir own c r e d it . In addi t io n , the purchases have enabled the banks to pay o f f a considerable volume of th e ir indebtedness to the reserve banks. Member bank reserve b alan ces, which are the foundation o f c r e d it expansion in t h is country, were a t a low p oin t a t the beginning o f J u ly , 1932, showing c le a r ly th at se c u r ity pur chases by the reserve banks had not up to th a t time enlarged the c r e d it ba se. Since then there have been few s e c u r itie s bought, but member bank balances have increased through gold imports and through return flow o f currency. At the present time member banks have ^ 4 0 0 ,0 0 0 ,0 0 0 o f excess reserves which could become a b a sis o f c r e d it i n f l a t i o n . But i f such in f la t i o n de veloped the Federal reserve banks are in a p o s itio n qu ick ly to reduce the c r e d it base by the sa le o f Government s e c u r i t i e s . This r e f l e c t s an impor ta n t d iffe r e n c e between d ir e c t borrowing by the Government from the ce n tra l bank and purchases by the bank o f Government s e c u r itie s p rev io u sly issued in the open market. The reserve banks are in a p o sitio n to s e l l th e ir Gov ernment s e c u r it ie s , whereas c en tra l banks which make loans to the Government are not in a p o sitio n to liq u id a te those loans when they so d e s ir e . Page 5 Some observers have seen danger o f in fla t i o n in the a c t i v i t i e s o f the Reconstruction F in :n ee Corporation. The corp oration , however, does not create new funds and, th e r e fo r e , does not expand the c r e d it base. It simply d ir e c tfij funds in to .channels where they would be most s e r v ic e a b le . To be sure i t has been financed by the Treasury, but th at in i t s e l f does not change the s itu a tio n , as the Treasury had to obtain i t s funds through the f lo t a t i o n ox s e c u r it ie s . One f i n a l ob servation . I n fla t io n does not s t a r t in a d ep ression . It makes i t s appearance when a boom i s under way and i t s danger l i e s in the f a c t th at i t con tribu tes to the r a p id it y o f expansion and to the volume o f sp e cu la tiv e a c t i v i t y .. To summarize, th e r e fo r e , currency i n f la t i o n does not develop in t h is country because o f the minor place th a t currency occupies in the aggregate o f our payments. The volume o f currency has flu c tu a ted in response to economic conditions and to the changes in the demand fo r hoarding. No cur rency has been forced on the people and under our currency machinery cannot be so fo r c e d . The p ro v isio n au thorizing the reserve banks to use Government s e c u r it ie s as c o lla t e r a l fo r Federal reserve notes i s a te c h n ic a l device fr e e in g the systemTs gold above the 4-0 per cent requirem ent, and not a d evice by which to finance a Treasury d e f i c i t through the issu e o f currency. N either i s there evidence o f c r e d it i n f l a t i o n , as bank c r e d it lias expanded l i t t l e volume and continues to have a low r a te o f turnover. in Open-market operations o f the reserve banks u n t il three months ago merely helped the banks to meet gold and currency d rains without a c c e le r a tin g the ra te o f c r e d it liq u id a t io n . During the l a s t three months excess reserves have been b u i l t up by in crea ses in gold stock and return flow o f currency. I n fla t io n on the b a s is o f these reserves would be p o s s ib le , but the reserve banks are in a p o sitio n to absorb the excess reserves at any time through the sa le o f s e c u r i t i e s . And f i n a l l y , in f la t i o n does not begin a t the trough o f a d ep ression , but develops during a boom which becomes accelerated as a r e s u l t . MMBER BANK RESERVE REQUIREMENTS An Examination o f the C riticism s made "by Dr. Benjamin Anderson on the Report o f the Committee on Bank Reserves October 1932 October 1932 % MEMBER BANK RESERVE REQUIREMENTS An Examination of the Criticisms made by Dr. Benjamin Anderson on the Report of the Committee on Bank Reserves In November 1931> the Federal Reserve Board released for publica tion a series of recommendations looking toward thoroughgoing revision in the legal reserve requirements of member banks. These recommenda tions were formulated by a committee composed of officials of the feder al reserve banks and the Federal Reserve Board, known as the Committee on Bank Reserves of the Federal Reserve System, and were adopted by that committee after a searching investigation into the functioning of pres ent reserve requirements and the relation of these requirements to the overexpansion of credit in the securities markets which facilitated the stock market boom that culminated in 1929- At the time these recom mendations were released to the public in the late fall of 1931 * the Federal Reserve Board took no position on the advisability of the re serve requirements proposed. Subsequently, however, the Federal Reserve Board unanimously recommended to the Banking and Currency Committee of the Senate that the proposals advanced by the Federal Reserve System Committee on Bank Reserves be enacted into lav? with certain minor modi fications. Summary of Committee recommendations The recommendations of the Committee on Bank Reserves are sum marized in its report as follows: "In the opinion of the Committee, our present system of legal requirements for member bank reserves has never functioned effectively since its inception in 19lH. It has not operated to relate the expansion of member bank credit to the needs of trade and indus try, nor has it adequately reflected changes in the volume and activity of member bank credit. Further more, the Committee also finds that present require ments for reserves are inequitable and unfair as be tween individual member banks and groups of member banks and do not adequately take into account genuine differences in the character of banking in which a member bank may be engaged. "The Committee takes the position that it is no longer the primary function of legal reserve require ments to assure or preserve the liquidity of the indi vidual member bank. The maintenance of liquidity is necessarily the responsibility of bank management and is achieved by the individual bank when an adequate proportion of its portfolio consists of assets that can be readily converted into cash. Since the estab lishment of the Federal reserve system, the liquidity of an individual bank is more adequately safeguarded by the presence of the Federal reserve banks, which were organized for the purpose, among others, of in creasing the liquidity of member banks by providing for the rediscount of their eligible paper, than by , the possession of legal reserves. The two main functions of legal requirements for member bank re serves under our present banking structure are, first, to operate in the direction of sound credit conditions by exerting an influence on changes in the volume of bank credit, and, secondly, to provide the Federal re serve banks with sufficient resources to enable them to pursue an effective banking and credit policy. Since the volume of member bank credit needed to meet the legitimate needs of trade and industry depends on the rate at which credit is being used as well as on its aggregate amount, it is essential for the exercise of a sound control that legal requirements differen tiate in operation between highly active deposits and deposits of a less active character. Requirements for reserves should also be equitable in their inci dence, simple in administration, and, so far as pos sible, not susceptible of abuse. "Similar principles underlie the present reserve law, which in requiring lower reserves against time deposits than against demand deposits, and lower re serves against the demand deposits of country banks than against the demand deposits of reserve and central reserve city banks may have been expected to impose higher reserves on more active deposits than on less active deposits. Notwithstanding the fact, however, that existing requirements would appear to be so ar ranged as to maize reserve requirements vary with the volume and activity of deposits, experience shows that since 191^- and especially since 1922 the proportion of primary reserves held by member banks has steadily de clined in relation to the volume of member bank de posits and to their activity. "This outcome lias been the result of defects in the definition of reserves, in the method of determin ing liabilities against which reserves must be carried, and in the classification of banks and of deposits for reserve purposes. The exclusion of vault cash from required reserves of member banks in 1917 bas been fol lowed by a reduction in the vault cash holdings of some city banks to a minimum; the rule that amounts due from ban]:s may be deducted only from amounts due to banks has tended to decrease reserves in times of business activity and to increase reserves in times of depres sion, and the establishment of a low reserve against time deposits in I91U lias facilitated the growth of bank credit without a corresponding growth in reserves, -iven ii these particular defects in the present system of reserves had not existed, however, the rapid increase in the turnover 01 demand deposits which has occurred in recent years would still have tended to prevent reserve requirements from increasing in proportion to the growth in the effective use of credit by the customers of mem ber banks. "Before deciding to recommend fundamental changes looking toward the establishment of a new basis for calculating required reserves, the Committee made every efiort to irame provisions designed to correct the existing situation through modifications in the classilication of cities for reserve purposes and in the classi^ication of deposits subject to reserve, including a more stringent definition of time deposits. As these proposals were studied, however, it became more and more evident tnat they would not be effective and that an en tirely new approach to the reserve problem was necessary. "The Committee proposes, consequently, to abolish completely the classification of deposits into time and demand deposits, and the classification of member banks according to their location, into central reserve city oanks, reserve city banks, and country banks. Instead, the Committee recommends that all member banks and all deposits be treated alike for reserve purposes, and that tne formula used in calculating reserve requirements take into account directly, instead of indirectly as in the existing law, the activity as well as the volume of the deposits held by each individual member bank, with out regard to the location of the bank or the terms of withdrawal on which the deposits are technically held. To accomplish this, the Committee proposes that each member bank be required to hold a reserve equivalent to (a) 5 Per cent of its total net deposits, plus (b) 50 per cent of the average daily withdrawals actually made from all of its deposit accounts. These withdrawals, which are shown by debit entries on the books of member banks, are the only real test of the activity of a de posit account and furnish the only basis by which that activity can be equitably and effectively reflected in requirements for reserves. Under this proposal, there fore, each deposit will carry a total reserve based on its activity as well as on its amount, l . totally in active deposit will carry a total reserve of only 5 per cent, while a deposit balance which is checked out on the average once a week will carry a total reserve equivalent to 12 per cent of its amount. For the aver age member Dank the total reserve under the proposed formula will be equivalent to about 8 per cent of its deposits. To prevent this formula from imposing too great a burden in extreme cases, the recommendations of the Committee also provide that in no case shall the aggregate reserve required of a bank exceed 15 per cent of its gross deposits. "The Committee proposes to include in legal re serves, in addition to the funds which member banks have on deposit with their Federal reserve banks, their vault cash, with certain limitations, as both classes of funds contribute to the strength of the re serve banks and have a direct effect on the reserve system's control of changes in member bank credit. It proposes also to place country member banks on a parity with city banks with respect to deductions from deposit accounts by permitting banks in calculating net deposits subject to reserve to deduct balances due from member banks and items in process of collection from total de posits instead of from balances due to banks alone, as is the practice at present. "The Committee feels that the existing volume of reserves is sufficient at the present time to provide the reserve banks with the funds they require to per form their functions. Its proposals, consequently, do not contemplate a change in the total amount of reserves. They are intended rather to change the nature of fluctu ations in the volume of reserves and to iron out in equitable features in their distribution among the mem ber banks." * -5 - Reception of plan Dr. Benjamin Anderson, economist of the Chase National Bank of New York City, has characterized the plan in tlie Chase Economic Bulletin for May 1932 as a thoroughly unsound and dangerous proposal, and has stated that it rests "on an unsound and arbitrary theory, and a very inadequate examination of the facts," and "that it is a dangerous and radical inno vation." To support these charges Dr. Anderson formulated nine specific indictments of the plan proposed by the Committee on Bard: Reserves, and in addition advanced his own plan for curing defects in member ban]-: re serve requirements. The Anderson plan for member bank reserves According to the plan advocated by Dr. Anderson for correcting 1 existing abuses in the functioning of member bank reserve requirements, each individual member bank would be permitted to maintain indefinitely a volume of time deposits equal to its existing time deposits and to hold a 3 per cent reserve against these deposits. All future increases in its deposits, however, would carry a demand deposit reserve of 7, 10, or 13 per cent according to the classification of the bank as a country, reserve city, or central reserve city member ban::. Should a memoer bank's time deposits decline in the future, the level to which they decreased would constitute a new maximum of the volume of time de posits on which it could claim a 3 per cent reserve. Tne chief advantage of this suggestion is that it would prevent further weakening in tne reserve position of member banks arising out Oi tne classification as time deposits, of deposits which are * -6- essentially demand in character. It would be unsound, however, since it would use deposits as of an arbitrary date to determine the amount i of reserves required. It would give some banks a low reserve on a large proportion of their deposits and other banks a high reserve on most of their deposits without reference to their actual future com position. At the same time, it would not correct in any way the pres ent reserve advantages of those banks which have been most actively concerned with the abuses which have developed in connection with time deposits. In fact, those banks which are benefitting competitively today as a result of a false classification of deposits for reserve purposes would retain these competitive advantages indefinitely under the Anderson proposal. In advancing this proposal, Dr. Anderson accepts the view of the Committee on Bank deserves which associates the overexpansion of bank credit prior to 1929 with the progressive decline in the ratio of re serves to bank credit outstanding. His proposal for correcting the situation confines itself, however, solely to that phase of the prob lem which is related to the overexpansion of time deposits and does not toucn in any way the decline in vault cash reserves which followed the 1917 amendment to the Federal Reserve Act, which eliminated member bank vault cash from required reserves. Following the enactment of tnis amendment, member banks have progressively decreased their hold ings of vault cash. This decrease, the Committee on Bank Reserves showed, was fully as important in the overexpansion of bank credit prior to I929 as the overexpansion which may be Attributed to the 3 * -7- per cent reserve against time deposits. It was particularly marked, moreover, at the larger metropolitan hanks which can obtain additional currency supplies quickly because they are located close to the Federal reserve banks, and thus tended to establish serious inequalities in the relative proportion of aggregate reserves carried by different individ ual banks. Nor does the Anderson plan correct in any way the other major defects in the existing system of reserves which were outlined in the report of the Committee on Bank Reserves, namely, the technical problem of defining what deposits are subject to reserve and what de ductions may be permitted in arriving at the volume of net deposits subject to reserve requirements. The Committee showed that the pres ent definitions of the items had operated not only against sound credit conditions by tending to increase required reserves when business is inactive and to decrease reserves in times of increasing business activity, but also to the advantage of the large city correspondent banks which competed actively for the balances of other banks. In snort, the merit in the Anderson proposal arises solely out of the fact that it would prevent future overexpansion of bank credit aris ing out of a false classification of time deposits. In accomplishing this end, however, it would preserve all the competitive advantages which individual member banks have achieved in the past by permitting deposits of a demand character to be classified as time deposits. It would not correct the tendency for effective reserves to be further reduced by further economies in vault cash nor would it eliminate the tendency for reserve requirements insofar as they are affected by the definition of net deposits subject to reserve, to fluctuate in an opposite direction to that required for the maintenance of sound credit conditions. Finally, it would not disturb in any way those conditions which since 191^ have gradually had the effect of creating an inequit able distribution in the volume of reserves carried in favor of the large metropolitan city banks and against the smaller outlying banks located at a considerable distance from the reserve banks. HIKE SPECIFIC CRITICISMS OF FLAN PROPOSED BY THE COMMITTEE ON BANK RESERVES I Effect of Committee's proposal nrior to 1Q28 In commenting on the plan proposed by the Committee on Bank Re serves under which all member banks would be required to carry reserves in cash or with the Federal reserve banks equivalent to their net deposits and 50 5 Per cent of per cent of their average daily debits to de posit accounts, Dr. Anderson makes the following criticism: "It is clear that the proposal would have imposed little restraint until 1928, by which time the vast ex pansion of net deposits was practically completed, and the substitution of real estate mortgages and stock market assets for commercial assets in the portfolio of banks was practically completed. Thus the plan would facilitate rather than retard bank expansion, up to the point where a dangerous boom was already under way." In making this criticism, Dr. Anderson was misled by the fact that the chart published in the report of the Committee on Bank Reserves, which compared present requirements with those recommended by the Com mittee, showed that required reserves under the Committee's plan would have been higher than present requirements since 1928 and lower than present requirements prior to that time. From this fact, Dr. Anderson drew two erroneous conclusions: (l) that the Committee's plan would \ -9- not have exercised restraint prior to 1928, and, (2) that it would have facilitated hank credit expansion prior to that time. The fact is that in formulating its recommendations the Committee sought to impose require ments which at the time they were adopted would neither increase nox de crease greatly the existing.aggregate volume of member bank reserves. This is on the same theory of letting bygones be bygones as that adopted by Dr. Anderson when he proposed that each bank be permitted to carry a 3 per cent reserve on its existing time deposits and that the higher re serve requirement be applied only to future increases in time deposits. Under conditions prevailing in 1931 a smooth transition was achieved in the Committee's plan by recommending a reserve of 5 Per cent of total net deposits and 50 per cent of average daily debits to deposit ac counts. Under conditions prevailing in 192*+, on the other hand, it would have been necessary, in order to carry out this same principle, to recommend higher rates, say, 6 per cent of total net deposits and 60 per cent of average daily debits to deposit accounts, since between 192^ and 1931 the various defects in our present system of reserve re quirements have in the aggregate permitted a material reduction in the ratio of member bank reserves to member bank liabilities. In view of this reduction, any comprehensive plan for the reform of reserve re quirements which carried out this principle and did not, as in Dr. Anderson's plan, permit individual member banks to retain competitive advantages which arose out of loopholes in present reserve requirements, would be bound to show lower requirements on the basis of I92U figures than actual requirements at that time. In other words, if the proposed requirements were such that they would increase more rapidly between 1 9 2 *+ and 1931 than present requirements and if they were applied with percentages that would bring about no material change in 1931 at the time of transition, the percentages recommended would of necessity show a smaller volume of reserves on the basis of requirements. 1 9 2 *+ figures than present For the very same reason, however, had the proposed plan been adopted in 1 9 2 *+ with percentages which would have involved no change in the aggregate volume of required reserves in that year, total reserves under that plan would have increased more rapidly thereafter than re serves under present requirements. The extent of this increase is indicated on the attached chart where the plan of reserve requirements proposed by the Committee on Bank . . 1/ Reserves is compared with that proposed by Dr. Anderson. It is assumed in this comparison that both plans were placed in operation on a parity in January 1 9 2 *+, and both lines on the chart, consequently, are drawn in relatives with January 1 9 2 *+ equal to 100. This chart shows that required reserves under the Anderson plan would have increased more rapidly than under the plan proposed by the Committee on Bank Reserves during 1 9 2 *+ only, when there was a business recession and restraint was not needed, but that in 1925 , 1926, and 1927> the Committee’s proposal would have acted just as effectively to check overexpansion of credit as that pro posed by Dr. Anderson. In I9 2 8 and 1929> during the worst phases of the boom, the Anderson proposal would have exerted no additional pressure 1/ In this computation of Dr. Anderson’s plan, funds deposited with member banks as time deposits in January 192*+ are permitted to retain a 3 per cent reserve but all additional time deposits are required to main tain the same reserve as demand deposits. \ CHART I -1 1 - G R O W T H OF RESERVES FOLLOWING 1924com parison OF COMMITTEE PLAN FOR MEMBER BANK RESERVES BASED ON ACTIVITY OF DEPOSITS WITH ANDERSON PLAN BASED ON THE ELIMINATION OF ADDITIONAL TIME DEPOSITS AFTER BASE YEAR \ -12- while that of the Committee on Bank Reserves would, have applied increas ing pressure on the credit situation until the boom was checked. II Irregularity vs. activity as the true basis of reserves The second criticism of Dr. Anderson attacks a major premise under lying the Committee's recommendations, namely, that the activity of a deposit account as well as its volume should be taken into consideration in determining the amount of reserve which it should carry, as follows: "Activity of accounts is not a sound criterion for bank reserves; irregularity is much more significant. The country bank with a large time deposit from a cor poration in another city may be subject to a constant menace, even though the deposit remains inactive for months or years. A city bank with high daily activ ity, with well understood accounts of customers who regularly balance their books at the end of the day, and whose income and outgo match within a few hundred dollars on a daily volume which may run into millions, does not need to keep a large reserve against this turnover. Inactive deposits of state, county and other public money have again and again made difficulties for small banks. Furthermore, when activity waxes and wanes, both as to incoming and outgoing funds, keeping a close balance between them, it imposes no justifica tion for increased reserves. The true theory of re serves relates them to (a) liquidity of other assets, and (b) irregularity in net demand liabilities, and (c) to variability in customers' borrowing demands. It may be added that activity of deposits is usually a concomitant of liquidity of assets. To the extent that assets other than reserves are liquid, a bank needs less reserves." In this criticism of the Committee's recommendations, Dr. Anderson has failed to distinguish between primary and secondary reserves. In the paragraph cited, Dr. Anderson states admirably and concisely the principles that should govern a bank in determining the volume of its secondary reserves, i.e. the volume of funds it has invested in assets that may be readily converted into cash to meet withdrawals. This \ - 13 volume mast be determined by each bank on the basis of an analysis of its accounts in terms of their irregularity, i.e. their likelihood of with drawal, and is naturally affected by the liquidity of its other assets. Secondary reserves, however, are not primary reserves and failure to dis tinguish properly between the two may become a menace to the preservation of sound credit conditions. Secondary reserves are invested funds and place no limit on the po tential capacity of bank credit as a whole to expand indefinitely. It is the function ox primary reserves, on the other hand, to safeguard the credit structure against such overexpansion of its liabilities. Primary reserves consist of cash or balances with the Federal reserve banks, both of which are closely related to gold in that they are covered to a con siderable percentage of their face value by gold. If primary reserves are maintained in proportion to the volume and use of credit instruments that are substitutes for cash, they limit the tendency of banks to over expand these instruments in periods of boom conditions and tend to ease credit in periods of depression. Confusion between these two types of reserves inevitably leads to banking disorders. A banking system which held no primary reserves but invested all its assets in secondary reserves instead would not thereby assure its ability to meet withdrawals on demand, since this very pro cess would remove all reserve limitations on the potential capacity of credit to expand and would tend to inflate the credit structure to the point where even the soundest secondary reserves would become unliquid when attempts were made to realize upon them. . Conversely, primary reserves alone cannot perform the function of secondary reserves in the maintenance of "bank liquidity or in assuring the ability of a bank to meet withdrawals arising out of irregularity in its deposits. In the first place, primary reserves are not sufficiently large to perform this function. They constitute considerably less than ten per cent of the liabilities of our banks, the greater number of which normally experience much larger fluctuations than this in their accounts. No plan for primary reserves which established requirements sufficient to protect a bank against irregularity of withdrawals could be seriously pro posed if the amount of primary reserves involved in such a proposal were once computed. Dr. Anderson, himself, in company with other students of the problem, has condemned the reserve provision in the original Glass bill, which added $ 6 6 0 ,0 0 0 , 0 0 0 to the primary reserves of member banks in the course of the next five years, on the ground that it would force far too great a. liquidation of member bank credit. A primary reserve require ment, however, which protected individual banks against irregularity in their deposits, and which enabled them to meet the constant shifting of deposits from bank to bank that accompanies the normal processes of trade and industry, would involve an increase in primary reserves by a far greater amount than $ 6 6 0 ,0 0 0 ,0 0 0 , and would exert an influence toward liquidation of far greater magnitude. In the second place, the attempt to substitute primary for secondary reserves has always had serious repercussions when it has been tried in this country. Prior to the establishment of the Federal reserve system, national banks outside the central reserve cities were required to hold a certain proportion of their reserves in cash, i.e. as primary reserves, while, for the remainder of their requirements, they were permitted to \ -15utilize either cash or secondary reserves in the form of balances with their city correspondent banks. Y/hen, in times of strained credit con ditions, these banks exercised their legal right to hold the whole of their legally required reserves in cash, the ensuing drain of cash from correspondent banks to interior banks tended always to create a money panic. Irregularity of deposits constitutes a major factor in the deter mination of a bank's policy with regard to secondary reserves, but is not, and cannot be made, a determining factor with regard to primary re serves. To adppt the principle that legal requirements for primary re serves should be based upon irregularity of withdrawals would not only involve drastic credit liquidation because of the huge amount of primary reserves required. It would at the same time unduly favor large banking units and ultimately open the door for a wider and more far-reaching de cline in the future ratio of primary reserves to credit in use than that which accompanied and facilitated the disastrous boom which culminated in 1929* This would come about, because irregularity of deposit accounts reflects in part the unit size of business organizations. It is not possible for the isolated small industrial organization to achieve the same regularity in its accounts as the huge vertical combine which ex ercises control over the fabrication process from the extraction of its raw materials to their final sale to the consumer. Similarly, the small independent unit bank experiences greater irregularity in net withdraw als or outpayments than large unit banks or the huge consolidated branch banking system in which a large proportion of checks drawn are paid over to other customers of the same institution and involve no net outpayment V -i 6 - of funds by the bank. Theoretically, if a single bank with its branches conducted the banking business of the entire country, there would be no net bank withdrawals arising out of internal trade. While such a condi tion is conceivable only in theory, nevertheless, there has taken place in recent years a marked trend toward the integration and consolidation of both industrial and banking units in this country and this trend may continue to characterize the future. Should Dr. Anderson's principle of irregularity be adopted as the basis for determining legal requirements for bank reserves, it would favor large institutions as compared with small and a continuation of the present trend toward banking integration would in and of itself act as a generative force toward a tremendous credit inflation since a decrease in irregularity arising out of integra tion of corporate units would constitute an apparently valid reason for a reduction in primary, reserve requirements. To adopt the principle of irregularity, furthermore, would, as Dr. Anderson implies, justify higher required reserves against savings de posits which though inactive may occasionally be withdrawn in substantial amounts, than against highly active accounts which maintain a stable net balance, no matter how large the volume of business transacted through such accounts might be. This would divorce variations in reserve even further from variations in business conditions. It would even lead to the conclusion that no reserves should be required against brokers' bal ances, for brokers* accounts typify probably as well as any those deposit balances described by Dr. Anderson as accounts of customers "who regularly balance their books'at the end of the day, and whose income and outgo match within a few hundred dollars on a daily volume which may run into \ 17- millions." Finally, irregularity cannot be objectively determined. There is no workable formula by which variations in the regularity of deposits can be legislated into corresponding and adequate variations in reserves. Irregularity as a criterion for reserves, therefore, relates to sound banking procedure with respect to secondary reserves but cannot be used as a guiding principle in the formulation of legal requirements for primary reserves. Dr. Anderson’s own plan for reserve requirements, namely, that each member bank should maintain existing reserves on its existing depos its but that future increases in all deposits, both demand and time, should carry a primary reserve equivalent to 1 3 , 10, or 7 P er cent accord ing to its location in member banks classified as central reserve city banks, reserve city banks, or country banks does not contain any specific proposal that applies the principle that "the true theory of reserves re lates them to (a) liquidity of other assets, (b) irregularity in net de mand liabilities, and (c) variability in customers’ borrowing demands." Ill Reserve requirements in relation to credit policy In his third criticism, Dr. Anderson admits there may be some merit in the Committee’s proposal, but objects that reserve requirements cannot be relied upon to replace discount and open-rnarket operations in restrain ing a boom. ' "It is sometimes, not always, true that reserve requirements based on activity would constitute a brake in the final stages of a period of speculation. But the traditional method of increasing discount rates and selling securities would be a safer brake, and one that could be applied much earlier. The reserve requirement plan would not be subject to the use of judgment, and might easily be too drastic. It might, on the other hand, be inadequate, through the markets finding ways to reduce turnover." > -18- This paragraph reads into the report of the Committee on 3ank Re serves implications which are not there. The Committee advanced no pro posals for abolishing or limiting the freedom of action of the reserve banks with respect either to discount rate changes or to open-market operations. The Committee did point out that present reserve require ments frequently work to neutralize the effectiveness of discount and open-market operations. It also took the position that a correct system of reserve requirements should act in the same direction as an effective open-market and discount rate policy. There is nothing in the Commit tee’s recommendations to imply, however, that the Committee regarded its plan as a substitute for changes in discount rates or for open-market operations. IV Effect of Committee plan during a panic The fourth criticism of Dr. Anderson’s relates to the effect of the Committee’s plan on bank reserves during the culminating period of a boom and the commencement of a business decline: ” ........ activity of deposits usually reaches its very peak in a panic. When speculation has once collapsed, it becomes definitely dangerous that re serve requirements should be suddenly and sharply raised in a period of panic and liquidation. The chart on page 1 9 of the Federal reserve memorandum shows that its requirements would have been highest in the midst of the panic of 1 9 2 9 , when every effort was being made by the Federal reserve system to re lax the tension.” It is true that the activity of deposits increased very sharply to peal: levels during the initial stages of the decline in 1929 and that this activity would have tended to increase reserve requirements under \ -19the Committee's plan at that time. Dr. Anderson neglects to state, how ever, that the same chart to which he refers shows that hanl; reserves under present requirements also increased sharply, due to the sudden de positing with hanks of a huge volume of funds which load previously been loaned by others than banks in the call loan market. This increase in deposits as well as the increase in activity was an import factor in the increase in reserves under the Committee plan shown on the chart and the same increase would have occurred under the plan of reserve requirements which he, himself, advocates. (See Chart I) The increase under the Com mittee's plan during this period would have differed in only one important respect from present requirements or from requirements under the Anderson plan. Under present requirements and under the Anderson plan, the in crease in reserve requirements during the market break at the end of October 19?3 came suddenly, almost overnight, and the Federal Reserve Bank of Her ’fork was forced to buy open-market securities hurriedly in order to prevent tension in the money market. Had the Committee's plan for member bank reserves been in operation, however, the increase in re quirements due to increased activity would have been averaged over the following eight weeks, and part, at least, of these same open-market operations could have been planned for in advance. One of the merits of the Committee's plan is that it would permit the Federal reserve system to prepare itself to offset the effect of sudden and drastic shifts in credit conditions such as those which occurred during the autumn of 1929 • V Effect of Committee's -proposal at year-end settlements Dr. Anderson next criticizes the effect of the Committee's plan on year-end settlements: \ -20- "The new plan, furthermore, would increase the tension in the money market at the year-end settlement periods. The curve on page 19 of the Federal reserve memorandum shows how reserve requirements under the new plan rise more sharply at the year-end than under the existing law, and how the new plan would prolong the tension hy carrying it over into the new year.” In making this criticism, Dr. Anderson misreads the chart to which he refers and neglects to take into account the importance of seasonal changes in currency demand at the year-end. The following table compares the increase in member bank reserves between November and December of each year under present requirements and under the Committee's plan, as shown by the figures from which the chart to which he refers was prepared. It indicates that the year-end increase in reserves shown on the chart was usually smaller under the Committee plan than under the present plan. ESTIMATED CHANGES IN MEMBER BANK RESERVES (INCLUDING VAULT CASH) BETWEEN NOVEMBER AND DECEMBER 192 U-I93 O (Millions of dollars) 1921; 1925 1926 1927 1928 1929 1930 1 Under present requirements + 6l + 33 + 37 + 82 + 75 - 89 + 63 Under the Committee plan + 57 + 13 + ^3 + 06 + 86 -2 5 7 - 26 Tension in the money market, however, during December reflects only in minor part the effect of year-end settlements, the major factor being the high seasonal level of currency demand which accompanies the holiday season. Currency normally goes out from the banks into circulation in huge volume from Thanksgiving to Christmas, and brings heavy pressure on / \ -21the money market in the process. Between Christmas and New Year’s Day some r of this currency returns hut is offset in its effect upon the money market by a sharp increase in hank reserves due to year-end settlements, window dressing for the year-end call of the Comptroller, etc. During January the whole situation changes; open-market money rates decline and tension is fol lowed by seasonal slack in the money market as currency returns from circu lation and the year-end pressure on bank reserves is relieved. The Committee on Bank Reserves consciously and definitely took this succession of factors into consideration in framing the technical phases of its recommendations. By recommending that the reserve against activity of deposit accounts be calculated on the basis of average daily debits during 1 the preceding eight weeks, it provided a plan in which the high activity of deposit accounts during December would not be reflected wholly in December requirements for bank reserves, when currency pressure was also high, but would be passed on in part into January when the return flow of currency from circulation normally creates a short period of “sloppy” money condi tions. The fact, therefore, that member bank reserve requirements would be somewhat higher in January than in December under the Committee plan does not mean, as Dr. Anderson states, that the year-end tension would be prolonged into January. Instead, it means that the Committee devised a plan by which some of the effect of the year-end pressure from bank re serves would be removed from December when the banks are also under pres sure to provide currency for circulation, and shifted to January when the return of currency is more than ample to offset its effects. VI Effect of Committee plan on agricultural banks during marketing season In his sixth criticism, Dr. Anderson analyzes the effect of the \ -22- Commit tee's proposal on agricultural banks during the period of agricultur al marketing: “More important are the longer settlement periods in agricultural regions. Banks there show little activ ity through the greater part of the year, with sudden spurts when crops are being sold and farmers are paying their debts. This period ought not to be complicated by a sharp increase in reserve requirements. The fact that the Federal reserve plan proposes to base reserve re quirements on an eight weeks’ average of activity might soften the difficulties regarding year-end settlements and very short and sharp periods of panic security li quidation, but not those of slower commercial crises, or of agricultural settlement periods. These periods often run for four months, and sometimes five months." The implication of this paragraph that agricultural banks would find it difficult to meet increased reserve requirements during the summer and fall marketing season is quite contrary to the facts. Reserve requirements of typically agricultural banks would not fluctuate greatly because of activity under the Committee plan for the reason that the activity of country bank deposits is relatively low. To the extent that turnover in creases required reserves would also increase, of course, but the total re serves required of these banks would fluctuate more with changes in their deposits than with changes in activity. The period in which most agricultural banks are under greatest pres sure is that which precedes the marketing season. It is during the spring that farmers are drawing down their cash and borrowing most heavily in order to purchase seed, fertilizer, and meet other expenses incidental to the production of crops. These demands put the agricultural banks under pressure at that time and cause them to liquidate secondary reserves and to borrow both at city correspondents and at the Federal reserve banks. \ - 23During this period deposits decline and activity is low, and reserves -under the Committee plan would he reduced. When crops are harvested and the mar keting season arrives this pressure usually changes to one of increasing ease because farmers use the cash received from marketing their crops to pay off their loans and build up their deposits. The agricultural bank in turn uses these funds to retire its own borrowing and to increase its secondary reserves in the open market. In short, the period of crop mar keting is customarily the period when an agricultural bank is in a favored position to hold increased reserves. VII Effect of Committee plan on general credit conditions in 1919-1920 Dr. Anderson next criticizes the manner in which the Committee plan of bank reserves would have operated in 1919 aa& 19 2 0 , as follows: "Had the figures for 1919-20 been studied, I do not believe that the proposal would have been made. These figures show that velocity of bank deposits for the whole country outside New York City stood virtually as high in the seven-month crisis and liquidation period, June to De cember 19 2 0 , as they stood in the boom period preceding, August 1919 to May 1920, and well above the velocity of the more tranquil period that preceded the boom. The ve locity index, obtained by dividing individual debits by deposits of reporting member banks, was as follows: February-April 1919» 191; August 1919~May 1920, 217; June 1920-December 1920, 213. Similar results are obtained by dividing clearings by deposits, the figures showing: February-April 1 9 1 9 , 1 7 O; August 1919-May 1920, 195; June 1920-December 1920, IS9 . Had the Federal reserve 'veloc ity1 plan been in operation in the crisis, 1920 , the dif ficulties of the banks outside New York City would have been greater than they actually were." It is true that the activity of deposits at reporting member banks outside New York City decreased only slightly on the average during the months June-December 1920, as compared with the months August 1919-May 1920. It is equally true, however, that average net demand plus time de posits of these same banks for the same periods did not decrease at all. In fact, they increased by five per cent. It follows that required re serves under the Committee plan which takes into account the activity as well as the volume of deposits, would have been reduced somewhat after May 1920 because the activity of deposits decreased, while required reserves under the Anderson plan, which takes into account only the volume of de posits, would have been increased. In the following table, total reserves (including vault cash) of reporting member banks outside New York City are compared during 1919 aud 1920 by semiannual periods, in terms of relatives with January-June 1919 equal to 100.- RESERVES INCLUDING VAULT CASH OF REPORTING MEMBER BANKS OUTSIDE NEW YORK CITY (Relatives for semiannual periods with January-June 1919 - 100) Present ulan Anderson nlan Committee nlan 1919 January-June 100 100 100 July-Dee ember 10 S 110 114 1920 January-June July-December 115 ll4 120 120 / 124 123 Of the* three plans for reserves compared on this table, the one which is advocated by Dr. Anderson, himself, is the only one which would have failed completely to reduce reserve requirements at banks in leading cities outside New York after the culmination of the boom in 1 9 2 0 . Requirements under the present plan and under the Committee plan, on the other hand, both showed a slight reduction during this period, reflecting in the case of the present plan a reduction in demand deposits which was partly offset \ - 25- by a growth of time deposits, and in the case of the Committee plan, a reduction in the velocity of deposits, which was partly offset by a growth 2/ in the volume of deposits. In the accompanying chart fluctuations in re serves for this group of banks under the Committee plan are compared with fluctuations under the Anderson plan for the three years 19 19 , 1920, and 1921. The chart shows clearly how much more effective the Committee plan would have been both in tightening credit conditions during the boom in 19 19 . an& also in easing conditions during the depression and liquidation of 1921 . VIII Effect of Committee plan on individual cities— 1919-1920 '•When individual cities and regions are studied, many are to be found where velocity during the crisis period was far higher than velocity during the preced ing period of boom. "Comparing National bank deposits with debits to individual accounts, we find this to be true for Fort •Worth, Texas, for Indianapolis, for Cedar Rapids, Iowa, for Wichita, Kansas, and for San Francisco. In all five of these cities, which are representative of a large number of others, reserve requirements would have been higher in the seven months of crisis and li quidation than in the preceding boom period." 2/ These figures are based on estimates of reserves required under the three plans. For these estimates, figures of net demand deposits, time deposits, U. S. Government deposits and vault cash are directly available from published figures for reporting member banks outside New York City. Average daily debits to individual account are esti mated as equal to 33.73? of total reported debits outside New York City during that period, and debits to bank account of this group of banks as equal to 85 $ of debits to individual account. In the com putation of reserves under the Anderson plan, funds deposited on time with member banks in January 1919 are permitted to retain a 3 per cent reserve but all additional time deposits are given the same reserve as demand deposits. \ 26- CHART II R E P O R T IN G M E M B E R B A N K S O U T S ID E N E W Y O R K 1919-1921 C O M PA R ISO N OF COM MITTEE PLAN FO R M E M B ER BANK R E S E R V E S ■ B A SED ON A C T IV IT Y OF D EPO SITS WITH ANDERSON PLAN BASED ON THE ELIMINATION OF ADDITIONAL T IM E DEPOSITS AFTER BASE YEAR Relatives- January 1919 =100 PerCent P er C ent 140 140 - 130 *\ 120 ________________/ / / / / / i / / / i / i / 4 130 Committee Plan Aw v \ Anderson Plan 110 _________________ w 7 / / / 100 i / / '> \ 120 i\ i \ 1 \ a 110 V" N X S L s 100 90 90 - 60 80 1919 1920 1921 \ -27"INDICES Ox? VELOCITY OF BANK DEPOSITS IN CERTAIN CITIES San Fort Cedar W ichita Fran Worth Rapids cisco Pre-boom, March-May 1919 Boom, September 1 9 1 9 -^ e^ruary 1920 C r is is , June-December 1920 100 1 0 7 .6 1 2 3 .5 100 12 6 .3 I 0 I .5 100 100 97-S IO 5 .0 9 3 .5 1 0 1 .7 Indian a p o lis 100 1 0 3 .2 1 0 3 .2 11 — While reserves in some l o c a l i t i e s might have increased under the Com m ittee p la n , i t i s extremely doubtful whether the f i v e c i t i e s c ite d by Dr. Anderson would have f a l l e n into th is category. Dr. Anderson computed h is in d ices o f v e lo c it y f o r these f i v e c i t i e s by comparing the d ep o sits of a l l n a tio n al banks with d eb its fo r a l l c le a r in g house banks w ithin each c i t y , thus introducing a strong p o s s i b i l i t y o f error in the event that r e la t iv e changes in d ep o sits of n atio n al banks did not r e f l e c t changes in the de p o s it s o f a l l c le a r in g house banks. In the case o f In d ia n a p o lis, W ich ita, and Port Worth, there were 27 n a tio n al banks in these c i t i e s in 19 1 9 > ° f which four were not members of the Clearing House, according to Rand McNally. tio n a l banks in these c i t i e s , Clearing House. In 1920 there were 32 na o f which a l l but one were members of the At the same tim e, the number of non-national banks that were members o f the c le a rin g house in these c i t i e s increased from 11 in 1919 to IS in 1920. The comparison in th ese c i t i e s i s fu rth er com plicated by the fa c t that they are a l l important liv e s t o c k centers and the t o t a l d e b its which they report upon which Dr. Anderson has based h is c a lc u la tio n s include d eb its from stockyard banks which, as the Committee in d icated in i t s re p o rt, are extremely high in r e la tio n to d e p o sits. The high r a te o f turnover a t these banks, however, would not n e c e s s a r ily be r e fle c t e d in a corresponding increase in reserves under the Committee plan since the re serve requirement of these hanks might be limited by the provision recom mended by the Committee fixing 15 per cent of gross deposits as the maxi mum reserve required of any individual bank, or by the provision subse quently recommended by the Federal Reserve Board which would permit member banks to ignore turnover on extremely active accounts provided they main tained a reserve of 50 per cent against the net balance in such accounts. In the case of San Francisco, the comparison is vitiated for the same reason. During 1920, furthermore, the Mercantile national Bank was merged with the Mercantile Trust Company, which at the same time was joined by the Savings Union Bank and Trust, a merger which had a tendency to decrease national bank deposits and to increase clearing house debits. In the case of Cedar Rapids, Iowa, there may have been a real increase in deposit activity during 1920. In this city there were no shifts in na tional banks or in banks having clearing house membership to account for a very sharp increase in the volume of debits. The increase, however, is much more puzzling than is indicated by Dr. Anderson. Debits in Cedar Rapids averaged around $20,000,000 a month during the first five months of 1 9 1 9 » then suddenly doubled to around $^0,000,000 a month, and continued to fluctuate seasonally and cyclically around this inflated level in the midst of the depression through all of 1921. During the first half of 19 2 2 , they returned to their previous level of around $20,000,000 a month and have moved in harmony with that level since that time. It is probable, consequently, that there is some special and particular reason which ac counts for the sudden doubling of debits from their expected volume in Cedar Rapids from June 1919 to December 1921, and that this increase was \ -29no 0 , as is implied in the quotation, a typical aftermath of the boom. It is one of the distinctive advantages of the Committee plan that it is highly responsive to business conditions. It is responsive more over in a selective sense, increasing or decreasing only in those local ities where the volume or activity of deposits is increasing or decreasing, and within those localities fluctuating at those banks whose customers are involved in the activity. While the ebb and flow of economic activity be tween boom and depression exhibits considerable similarity throughout the industrialized world, it is by no means uniform. It is a matter of common observation, for example, that during the present depression France for a long time appeared little affected, while during the depression of 1920 1921 certain important parts of South America were affected much later than the United States. It is highly probable that this same diversity might be found in some degree within the United States, that some areas might be found in which business continued to expand for a time after the peak of the boom had passed in the country as a whole, and that in these areas the activity or volume of deposits at that time were such as to re quire increased reserves under the Committee plan. It is one of the merits of the plan that it would act in this manner, for business and financial commitments in such a community, undertaken at a time when the rest of the world is heading into a depression, are particularly suscept ible to disaster. IX Effect of Committee plan in Florida "The Report of the Federal Reserve Committee on Bank Reserves (page IS) refers to the Florida real estate boom as occasioning increase in velocity of 30deposits, in illustration of their contention that re serves based on velocity would operate as a brake on speculation. They give no figures. The fact is that the Florida figures offer a most powerful argument against their plan. The figures for Florida are as follows: "HIDE: o f v e l o c i t y o f BANK DEPOSITS IN FLORIDA Deposits (000.000) Debits (1920-1924 = 100) Index of velocity 1922 December 29 201.5 106 52 .6 1923 April 3 June 30 September l4 December 31 2 3 5 .3 230.8 216 .0 2 ^3 .8 110 lOo 89 122 46.2 ^5 .9 41.2 50.0 March 31 June 30 286.6 2 7 3 .8 ll6 111 4o .5 4o .5 1925 April IS June 30 September 28 December 31 472.2 530.2 682.4 788.8 176 197 226 293 37.3 37.2 33.1 37.1 1926 April 10 June 30 December 31 70 U .2 566.8 486.8 242 215 210 34.4 37.9 4 3 .1 1927 March 23 June 30 October 10 December 31 ^ 56.3 425.4 3S3.3 3 3 5 .9 198 159 l4i 160 43.4 3 7 .^ 3 6 .8 4 1 .5 132k "The Florida boom was active in 19 2 3 . It reached dangerous heights in the latter part of 1924, and fan tastic heights in 1 9 2 5 * The frenzied buying of real estate suddenly ceased in the late autumn of 1 9 2 5 . The winter of 1925 -I926 and the whole of I926 -I927 were a period of prostration and liquidation. "The velocity of bank depopits, however, declined sharply from 1923 on through the whole of the boom. The point is that, while debits to deposits grew, de posits grew more rapidly than debits. The Florida banks during the boom, therefore, would have seen \ -31their required reserve percentages come down, and money would have been easier during the boom than it was. Ve locity does not rise in the figures above until the period December I92 S to March 1927* something more than a year after the crash had come, at which time the sur viving banks were under a cruel pressure and ought not to have been subject to any more." To state that the Florida boom 11suddenly ceased in the late autumn of 1925 " and that "the winter of 1925-26 was a period of prostration and li quidation" over-simplifies a rather complex situation. The Florida boom was not concentrated in a single market such as the New York Stock Exchange where turning points can be located to the day, but extended over various parts of Florida and responded to some extent to varying local conditions. A more accurate statement would be that the pace of the boom began to slacken in the late fall of 1925 and that the episode on the whole was in process of liquidation by the spring of 192 b. The full impact of Dr. An derson's criticism, however, does not center around this point but around the figures which he presents as indicative of the velocity of deposits at Florida banks during these years. To obtain this index of velocity, Dr. Anderson has divided an index of Florida debits compiled from debits reported by three cities only— Jack sonville, Pensacola, and Tampa— and representative of conditions, therefore, in these three cities alone, by deposits of banks, not in these three cities but in banks throughout the whole of Florida including both member and non member banks. The result is a series of figures having no statistical validity whatever since deposits for the State of Florida, as a whole in creased at a much more rapid rate up to 1926 than deposits in these three cities alone and declined thereafter at a much more rapid rate than deposits -32- in these cities. It happens that the actual velocity of deposits for these three cities over the period cited can he computed with less probability of er ror than usual since practically all of the banks in these cities which report debits are member banks for which comparable deposit figures are available. In October 1 9 3 1 , in fact, a special study made by the Commit tee on Bank Reserves showed that member banks accounted for all of the debits reported in Pensacola, for Jacksonville, and for $6,2 97*3 Per cent of the debits reported in per cent of the debits reported in Tampa. If it is assumed that these banks accounted for the same proportion of total debits reported in earlier years, the turnover of individual deposits for the three cities can be computed for several dates during each year. The following table compares the actual turnover of individual bank deposits in these cities with the index computed by Dr. Anderson. \ -333/ ' INDEX OE VELOCITY FOR JACKSONVILLE, TAMPA, AND PENSACOLA COMBINED (Relative average of U dates 1923 = 100) Date As computed by Dr. Anderson (converted to average 1923 _____ basis) 1 9 2 3 A p r il 3 Ju n e 30 Septem ber l b December 31 101 100 90 109 As computed on basis of actual figures Percentage of error in Dr. Anderson* s figures after base period 106 . . . 100 92 . . . . . . 103 . . . 192U March 31 June 3 0 88 88 106 97 - 17 - 9 1925 A p ril 6 June 30 81 81 72 81 112 113 122 119 - 28 - 28 - kl - 32 75 S3 94 106 - 29 - l6 - 9 Septem ber 28 December 31 , 1926 A p r il 2 June 30 December 31 99 103 This comparison shows (l) that the velocity of deposits in these three Florida cities did increase greatly with the boom, (2) that velocity reached its peak with the peak of the boom at the end of 19 2 5 » and (3 ) that velocity declined throughout 1926 as the boom subsided. that the error in Dr. Anderson's computation grew to critical period in the comparison. bo It shows also per cent at the It is true that the Committee formula would not have caught all of this increase in velocity up to the autumn of 1925 nor all of the decrease thereafter, since debits first grew and subl sequently declined so rapidly that average daily debits over an eight-week 3./ In these computations individual deposits as of call dates are divided into average daily individual debits for the four weeks preceding and the four weeks following the call date. period did not adequately reflect the daily volume of debits at the end of the period. The Committee formula would have reflected a considerable part of this change, however. These velocity figures continue to illustrate the advantages of the Committee plan when they are studied individually, by cities. The varjung degree to which these cities were affected by the Florida boom is indicated roughly by the accompanying chart which compares changes in the velocity of deposits in each of these cities with changes in the dollar volume of building permits issued. The lower part of the chart indicates that of the three cities, Pensacola had only a small volume of building activity throughout the period, that Tampa was the center of the largest increase in building activity, and that the peak in building activity in Tampa fell in the latter part of 1925> whereas in Jacksonville building continued very high well into 1926. The upper part of the chart shows that these same developments were reflected in the activity of deposits, that the velocity of deposits was very much higher in Tampa where the boom was most pro nounced than in Jacksonville or Pensacola, that velocity increased in Tampa through 1925 while building activity was increasing, and declined subsequently witn the passing of the peak in building, that velocity fell less in 1926 in Jacksonville where building activity remained high than in Tampa where building activity declined, and that Pensacola, the city least affected by the boom, was the only city in which velocity decreased throughout the period. The different rates of turnover in the three cities also indicate the desirability of talcing velocity into account. Under the Anderson plan all new deposits in Tampa, where velocity was highest, would carry a 7 per cent reserve, whereas such deposits in Jacksonville where CHART I I I T H R E E F L O R I D A CITIES TIMES PER YEAR DEPOSIT VELOCITY 40 Tampa \ 30 \ V / ' Jacksonville -------------| ---- — x“— -a- * 20 ” * -- - Pensacola 10 0 DOLLAR VOLUME PER QUARTER 10000 BUILDING PERMITS Tampa 8000 Jacksonville l i I L, l ___ j i l i__-i 6000 4000 2000 Pensacola r r 1923 192A- 1925 1926 0 -36velocity was materially lower would carry a 10 per cent reserve. Under the Committee plan average deposits in each city would carry a reserve cor responding to the average velocity in that city, and individual deposits of different customers in each hank would carry a reserve that corresponded with the velocity of the deposits. Although Dr. Anderson's conclusion that the activity of deposits de creased sharply in Florida during the hoom and increased thereafter was based upon erroneous calculations, there is no theoretical reason why this development might not have occurred. On the basis of past records, changes in the velocity of deposits have regularly corresponded with changes in business conditions, but it is not inconceivable from a theoretical point of view that a situation might arise in which credit expansion was extremely excessive and had as one result an increase in deposits that was more rapid than the increase in debits. Daring a depression following such a boom, deposits might decrease more rapidly than debits and there might therefore be an increase in the velocity of deposits. In the event that this should happen in the future at a time when the Committee plan of bank reserves were in operation, it would not, as Dr. Anderson suggests, place banks under "cruel pressure" at a "period of prostration and liquidation." The figures which he cites for Florida, unrepresentative as they are of the actual facts, may be used as representative of this hypothetical situation. In this table of figures both debits and deposits increased rapidly up to December 1925 and decreased rapidly thereafter. Reserves based upon deposits and debits under the Committee plan, consequently, as well as under the Anderson plan, or the present plan, would have increased up to December 1925 and have de creased thereafter during the slump which followed the boom. An increase \ -37 in v e l o c i t y a t tn a t tim e , h ad i t o c c u rre d , would n o t have p u t th e banks u n d e r " c r u e l p re s s u re " b u t m erely have p re v e n te d r e q u ir e d r e s e r v e s from de c re a s in g a s r a p id ly a s r e s e r v e s b ased on d e p o s its a lo n e . Conclusion Discussions of the Committee plan since its publication have revealed some confusion over the extent to which credit conditions should reflect an automatic influence such as reserve requirements as compared with policy expressing influences reflected in discount and open-market operations of ohe reserve banks. The fact is that credit conditions under modern bank ing organizations do reflect, and must reflect, both types of influence. Without reserve requirements, imposed either by law or custom, policy-ex pressing influences such as changes in open-market operations and in dis count, rates would have little or no effect upon credit conditions, for in the final analysis the efficacy of these operations depends on the extent to which they affect either the volume of reserves which member banks hold, or the cost which member banks must incur when they borrow such reserves from the reserve banks. If, under these circumstances, there were no re serve requirements, customary or legal, and member banks were indifferent to tne volume of reserves which tney held, the influence of open-market operations and discount rates would be correspondingly impaired. Reserve requirements, consequently, constitute a necessary part of the machinery that makes open-market and discount operations effective. Tney are, lurthermore, necessarily objective and automatic in their opera tion. They form part of the fixed legal background or framework of our credit institutions in which the volume of reserves required fluctuates in accordance with changes in the items upon which they are based. Under a formula which bases required, reserves solely on the volume of deposits, for example, without regard to whether they are active demand deposits or inactive time deposits, total required reserves would automatically have remained high in the Middle West following May 1920, largely because such reductions as occurred in demand deposits at that time were offset to a considerable extent by increases in time deposits. This fact, that reserve requirements in their very nature must be automatic in their effect, constitutes the main reason why the items upon which they are based should reflect insofar as possible basic elements in the credit and business situation, for otherwise reserve requirements will fail to support credit policies, as they should, and might even work in direct opposition to policy, as has been the case on many occasions under existing reserve requirements. The Committee plan meets this test by recom mending that reserve requirements be based on (l) the volume of deposits, which measure the total volume of funds involved, and (2) the total volume of debits, which measure the actual dollar use made of these funds. By de fining its requirements definitely in terms of these two basic elements, the Committee plan automatically takes into consideration the distinction between time deposits and demand deposits, and also between demand deposits in different classes of cities, which form the basis of differences in re serve requirements under the existing system of reserves. ^ o rm N o. 181 /*\ff 1 Urrice l^orrcspondence To Mr> Parry F ro m . __ Mr. Terborgh ________ FEDERAL RESERVE B 0A R D Subject: ___ ___ _____ November 9.1932 The Corporate Bond Market in Two Depressions _________ 2— 8495 How does the present market for corporate bonds compare with the market during the depression of 1920-21? Strange as it may seem, none of the exist ing bond price or yield averages affords an ansvfer to so obvious a question. With few exceptions, bond market series covering both depressions are limited to high-grade issues which constitute only a minor part of the total outstand ings. Those series which include a representation of lower-grade obligations have defects and limitations too serious to permit their use as an index of the condition of the bond market as a whole.l/ In view of this statistical hiatus, 1 have made an original investigation of bond prices at the present time in relation to prices at the bottom of the bond market in 1920-21. I have distributed, by price ranges, all of the rail, utility, and industrial bonds for which sale or bid prices were quoted in the Bank and Quotation Record as of December 31, 1920 and September 30, 1932. The former date is fairly representative of the bond market for the year July, 3920-June, 1921, during which period the market made what was substantially a flat bottom. The latter date is satisfactorily representative of the market at the present writing (November 8). The following table shows the number of bonds tabulated and the median price in each case. Rai:Ls Price Number December 31, 1920 September 30, 1932 961 899 $74.91 72.07 Utiliities Number Price 807 1,556 $73.46 80.04 Industrials Price Number 236 593 $87.04 58.56 The median prices indicate some astonishing reversals of position since the end of 1920. Industrial bonds, which at that time were much the strongest of the three classes, have by now sunk to the bottom. Utilities, weakest in 1920, are decisively at the top. Rails have held the middle position in both cases. The median price of industrials is drastically lower than in 1920, that of utilities is definitely higher, and that of rails is slightly lower. T/ The Dow-Jones bond price averages include no second-grade issues other than "rails. Moody1s averages of bond yields by ratings exclude a large but indeter minable volume of outstanding bonds poorer in quality than the lowest rating (Baa) for which averages are computed; moreover, the substitutions which have to be made in a degenerating bond market in order to maintain the quality of the rating groups gives the averages computed from such groups of bonds a move ment unrepresentative of movement of bonds in general. The New York Stock Exchange averages of listed bond prices go back only to 1925 for some classifications and to 1929 for others. The Standard Statistics yield averages by ratings date from 1924. 2 If we inquire into the reasons for the shifts in the market positions of the three types of bonds, we must invoke two general considerations: (1) the condition of each class of bonds at the beginning of the two depressions, (2) the duration and gravity of the depressions. The prosperity which preceded the crash of 1920 was confined almost wholly to industrial concerns, the rails and utilities having suffered acutely from the rapid rise in prices and costs. In consequence, the investment stand ing of rail and utility bonds had been seriously undermined before the depres sion began, while industrial issues were, relatively, in good demand. The de pression was of too short a duration to reverse the situation. Before the shrinkage in industrial earnings had gone far enough seriously to undermine confidence in industrial bonds conditions began to mend. Before the beginning of the current depression all three types of bonds had built a good record and seemed to have good prospects. Had the depression lasted no longer than that of 1920-21 all three would probably have performed excellently throughout. They did in fact gain in unison for an entire year after the slump started. After that the shrinkage in earnings began to record itself in softening bond prices. Industrials as a class began to slip in the autumn of 1930. Rails held fairly well until the summer of 1931. Utilities were the last to be affected, due to their demonstrated capacity to sustain their earnings better than other types. The disintegration of confidence, due to the attrition of a long and severe business slump has given the bond market a character quite different from that of the market of 1920-21. Then yields were high even on riskless issues, higher apparently, than at any time since 1878.1^/ The spreads be tween yields on gilt-edged and lower grade issues underwent only a very moderate widening during the depression.2/ The bond market seemed to be af fected far more by a lack of capital than by a loss of confidence. Now the reverse is the case. Riskless issues have maintained far lower yields than in 1920-21, but low grade issues have deteriorated in a manner for which the previous depression affords no precedent. This contrast is displayed clearly in the accompanying diagrams, which show the distribution of prices of tabulated bonds on September 30, 1932 and on December 31, 1920. In all cases the percentage of bond prices falling in the lower brackets is higher now than in the earlier period, even though— as in the case of the utility bonds— the median price for the whole group may be higher. The proportion of the industrials now in the low brackets is startling. In all cases the percentage of bonds selling for $100 or over is higher at present than in 1920-21. This difference is especially notable in the case of the utilities. T/ This is by reference to Macauley's index of yields on high-grade railroad Tsonds. 2/ As shown by Moody's series. 3 New bond issues in the two depressions The charts present a comparison between the present bond market and that of the year between the middle of 19E0 and the middle of 1921. If I had used the bond market of last June, before the recent recovery, the picture would be far more striking than it is, but I have chosen the present level because of the significance which the comparison with 1920-21 may have in relation to the question of the possibility of new bond issues in a market such as we have now to reckon with. One of the astonishing things about the situation in 1920-21 is the vol ume of new bond issues which were floated during the year in which the market was describing a flat bottom at the approximate level of December 31, 1920. During the last half of 1920 and the first half of 1921 new offerings of cor porate bonds (refundings- excluded) totaled $1,600,000,000, divided as follows: rails $150,000,000; utilities $330,000,000; industrials $1,120,000,000. The total for all corporations, and for each class except railroads, greatly ex ceeded that of the twelve months preceding the depression. These bonds were put out in the face of a tight market, at offering yields which seem in retro spect to be prohibitive. Approximate median offering yields for the year's issues (refundings included) were as follows: Rails 6.8 per cent, utilities 8.0 per cent, industrials (including real estate) 8.0 per cent. These yields show what business will pay when it really wants to borrow and c annot get money for less. Unlike the depression of 1920-21, we had in the current depression an easy bond market in all departments for a full year after the slump started. For rails and utilities the market was good for nearly two years. This gave an opportunity for heavy flotations at favorable rates. By the time the mar ket became bad enough to require offering yields anything like as high as those of 1920-21 borrowings had fairly well "caught up." The same loss of confidence which affected the bond market affected also the desire to borrow, except for indispensable refunding operations. The result was that after the middle of 1931 new flotations almost disappeared "without a struggle.” Only 11 railroad bond or note issues came out in the twelve months fol lowing June, 1931, and of these only 2 bore an offering yield in excess of 5^ per cent. The situation was similar in other lines. Of 13 industrial of ferings in this period only 3 yielded over 6-J per cent. Of 58 real estate issues only 3 yielded over 6^ per cent. Of 97 utility offerings only 32 carried a yield of over 6J- per cent. During the entire year only 179 cor porate bond and note issues came on the market, and of these, only 9 bore offering yields of more than 7g per cent. Contrast with this the median yields of 8 per cent for industrial and utility offerings, and 6.8 per cent for rail offerings, during the twelve months following June, 1920. l/ 17 The volume of bonds offered (excluding refundings) in the twelve months beginning July, 1931, was only $600,000,000, contrasting with the $1,600, 000,000 put out in the twelve months beginning July, 1920, at the foregoing high median yields. 4 The bond market is now at a level corresponding roughly to its average for the year July, 1931-June, 1932, during which the record just cited was made. Would the present level permit a fair volume of flotations if there were a real demand for long-term money such as existed throughout the 1920 21 depression? If the issuers of bonds were willing to come across with yields comparable with those offered in 1920-21 could they find takers? It seems to me that no categorical answer to the question can be made. It appears likely that in view of the deterioration in the standing of in dustrial bonds as compared with the previous depression, issues of a qual ity comparable to the bulk of the offerings then sold could not find a mar ket now even at the yields then offered. On the other hand, it should be possible for a sizable volume of utility bonds to be placed at yields of fered in 1920-21, The case of the rails is probably intermediate between the other two. The striking thing about the year following June, 1931, is the apparent absence of any attempt to sell high-yield bonds. This may have been due (1) to a refusal of underwriters to handle such issues, (2) to a comparative lack of any desire to incur obligations at high cost. Unfortunately, I have not the data to permit an evaluation of the relative importance of the two influences. It seems probable that underwriters get much more cautious in a market that is weak through loss of confidence than in a market that is merely ’’tight” for all grades of bonds alike, as in 1920-21, It seems prob able, likewise, that there is at the present time little desire to borrow at high cost, even if it could be done. My own inclination is to accord to the second factor the leading role.l/ l/ The fact that in the year beginning July, "1931, practically all the of ferings yielding over 6j per cent were issued by utilities seems to support this view, though, of course, it is subject to other interpretation. IONS PER CENT PE.R CENT 30 Tffig3o m m DISTRIBUTION RAILROAD BOND PRICES PERCENTAGES OF December PER CENT PERCENT 30 PRICES DISTRIBUTION OF UTILITY PERCENTAGES OF THE T O T A L ) D e ce m b er ber 30, Under $10 QOI 10-20 20-30 30-40 40-50 50-60 60*70 70-80 80-90 and over 90-100 $100 51A T T l ~IT~ i1 i t f I i I Ii i t t ■ h ; | f--f tmtt CONFIDENTLAL To: Governor Meyer From: Mr. Goldenweiser November 12, 1 9 3 2 Subject: Section 3 of G lass-Steagall Act Authority to pledge United States Government secu rities as c o lla te r a l for Federal reserve notes under the terms of Section 3 of the G lass-Steagall Act expires on March 3 , 1933. If the tine lim it is to be extended or removed, the system should make a recommendation to Congress soon a fte r i t convenes. As a means of c la r ify in g graphically the e ffe c ts of the G lass-Steagall Act, a chart i s presented which shows to ta l reserves of the Federal reserve banns, the amount of gold required as reserves against deposits and against federal reserve notes, and the excess reserves. It also shows the amount of these excess reserves that prior to the passage of the G lass-Steagall Act was immooilized as c o lla te r a l against Federal reserve notes. By permitting the reserve banks to pledge Government se cu ritie s as c o lla te r a l against notes, the G lass-Steagall Act made the d istin ctio n between excess reserves and free gold meaningless. R E S E R V E S OF F E D E R A L R E S E R V E BANKS C L A S S STEAGALL A C T T mi lli ons of d o l l a r s AOOO!----------- MILLIONS OFDOLLARS 4000 3500 3500 3000 3000 F R E E :G O L D 2500 2500 R m m w M E S 2000 2000 : ADDITIONAL GOLD/////, NEEDED AS COLLATERAL % 22 1500 1500 1000 1000 R E Q U IR E D 1929 RESERVES 1931 1930 The enLire aree ' 1 ’ * ; sents total reserves ' e ~• ■ banks; the doutle-Vate'; -re*' > re serves required •.'-air. st ;« r notes -nd ce; s1‘ ; •'• ei: ;.e-: over it—additional ••1i ree -r for FeJ" r il yeserv• r ‘ ; ■ area—free sold, t ‘ Is, - a1 • AS need O': *• • >• . • 19 32 ..........»e; ' r *.s colleter".. . ••• • • • t.f the ftlssster " ’ 1 :1. : : r . ••! v ' ISi’f , ■a’. •utLcrizei for one veer 1 ■’ so f i'JH-*l : *' <*-s ';OV**rt.. *»rt " oo ur i*■ i 1r • r ^ 1 ** »*• ' * **•. inrt y.. > r- 1 r-r rv«> r,the distinction V»tv.. r. • >e:.' r ■serves and free ' ' -st its s'. r. ifie- noe. 3. Pledging of Government secu rities under the G lass-Steagall Act began on May 5 &frd on that date amounted to $ 5 6 ,0 0 0 ,0 0 0 , The maximum amount of $ 6 8 2 ,— 000,000 was pledged on July 6 and since that time the amount has decreased by aoout $250,000,000 to $^-2 5 ,0 0 0 ,0 0 0 , This decrease has been the resu lt of the same factors that, have increased the excess reserves of member banks, namely, the inflow of gold, the decrease in currency, and the issue of national bank notes. It is not impossible that, i f the present movement in these items con tinues and becomes accelerated a fte r the turn of the year, the necessity for pledging Government se cu ritie s may disappear by the time the authority to do so expires. This is not lik e ly , however0 In any case, i t is not desirable for tne Federal reserve system to be deprived of the f l e x i b i l i t y in carrying out i t s credit p o lic ie s , which is conferred by th is authority. November CONFIDENTIAL 12, 1932 R.& S .' Cr. 1 BANKING AI'ID CREDIT SITUATION Growth, of excess reserves since la st summer Considerable improvement in the fin a n cia l situation since the middle of July is clea rly indicated. The figure which epitomizes these developments and presents the background for a discussion of credit conditions and credit p o li cies at the present time is the figure of excess reserves of member banks, which on November 9 stood at $1+50,000,000, and showed an increase of $ 2 0 0 ,0 0 0 ,— 000 since the middle of July, That date marks a d e fin ite turn in fin an cial conditions. Since that time the monetary gold stock of the country has increased by $ 3 2 0 , 0 0 0 , 0 0 0 , both tnrough imports and through releases from earmark, During the same period money in circu la tio n decreased by $ 85,000,000 at a time when seasonally i t would have been expected to increase by about $ l6 o ,0 0 0 ,0 0 0 , Broadly speaking, th is amount of about $250,000,000 represents a return from hoarding. In addition, about $ 1 5 0 , 0 0 0 ,0 0 0 of national bank notes nave been issued under the provisions of the law which increased the classes of bonds having the circu lation p r iv ile g e . A ll of these developments placed additional reserve funds at the disposal of membei banks. About $230,000,000 of these funds was used to reduce further the indebtedness of member banks to the reserve banks, about $100,000,000 to meet an increase in reserve requirements resu ltin g from a growth of member Dank deposits, and about $200,000,000 remained as additional excess reserves. Tiie course of gold movements, money in circu la tio n , member bank balances, and reserve bank credit fo r a series of years is shown on the follow ing chart. Decline in hoarding Hoarding was at i t s maximum in m id-July, Since that time a d e fin ite de crease in hank suspensions throughout the country has been r e fle cte d in re lease of currency from hoards both by the public and the banks. Up to the f i r s t of October the return flow was p a rticu la rly rapid, amounting to about $ 2 5 0 ,0 0 0 ,0 0 0 , Since that time there has been comparatively l i t t l e change. The charts show estimates of demand for currency in excess of usual sea sonal requirements in each Federal reserve d is t r ic t since October of 1 9 3 0 . Tnese figu res are not an accurate measure of hoarding, s t r ic t ly speaking, since, on the one hand, they make no allowance for reduced use of cash fo r business purposes during the depression, nor, on the other hand, fo r larger demand as a resu lt of the tax on checks and the imposition of service charges on small accounts, or fo r additions to circu la tio n in lo c a lit ie s where there are no longer any banking f a c i l i t i e s . CHANGES IN DEMAND FOR CURRENCY ADJUSTED BY FEDERAL RESERVE DISTRICTS 1933 The charts indicate th at, while the greater part of the nonseasonal in crease in currency outstanding during the summer was in Chicago, almost a l l of the d is t r ic ts experienced some added demand. Since mid-July the decline, a fte r allowance for seasonal fa c to rs, has "been largest in Chicago and New York— where the volume of hoarded currency was la rg e st. nad some return of currency, except San Francisco A ll d is t r ic ts have where recent banking d if~ f i c u l t i e s have occasioned witndrawals, and certain agricu ltu ral d is t r ic t s — Minneapolis, Kansas C ity, and Dallas in particu lar— in which there has been l i t t l e net change in c ircu la tio n . Decrease in member bank indebtedness The decrease of member bank indebtedness since the middle of July has * 5. "brought the to ta l for a l l member banks down to $ 3 1 1 , 0 0 0 , 0 0 0 , a figure not fa r above the le v e l prevailing before the outward movement of gold began la st au tumn, The cnart snows the course of discounts by Federal reserve d is t r ic t s — and brings out tne fact that the decline has been general throughout the country. FEDERAL RESERVE BANK DISCOUNTS-BY DISTRICTS A figu re that has a hearing on the volume o f member hank indebtedness is the extent of borrowing from the Reconstruction Finance Corporation, which at the end of September, the la te s t availab le date, amounted for member banks to $ 2 ^ 5 ,0 0 0 ,0 0 0 . Indebtedness to the corporation, however, d iffe r s from indebt edness to the reserve banks in two respects. F ir s t, i t does not represent the same degree o f pressure on the member bank, even though the rate paid is higher; and, secondly, taking the banks in the aggregate, debt to the corporation can be paid o f f by a transfer of deposits and does not require reserve funds, as does a repayment to the reserve banks. Prospects of demands to the end of the year On the basis of e x istin g information, i t would seem lik e ly that between now and Christmas there may be a seasonal demand for currency for holiday pur poses of about $ 2 5 0 ,0 0 0 ,0 0 0 , compared with $300,000. ' 00 in ordinary years. To what extent th is amount is lik e ly to be met by further return flow from hoard ing, i t is impossible to estim ate. During the past month there has been prac t i c a l l y no change in the amount o f hoarded money. It is also impossible to estimate how much longer gold imports sh a ll con tinue at their recent volume. The increase o f $ 3 5 0,000,000 in the gold sto c k of the country, which has taken place since June, is larger than can be ac counted fo r by ordinary remittances due th is country on trade balance or or dinary in v is ib le items in the balance of payments, aid undoubtedly r e fle c t s in some part extraordinary movements such as cap ital investments and the fact that minimum foreign balances were reduced below working requirements during the outflow of gold in the f i r s t h a lf o f the year. I f the recent large rate of gold inflow should continue fo r the immediate future, however, and amount to between $ 5 0 , 0 0 0 ,0 0 0 and $100,000,000 between now and the end of the year, 7. a considerable part of the holiday demand for currency would be met by this movement, as well as by additional issues of national bank notes. The drain on member bank reserve balances in this case would not be large, probably not in excess of $100,000,000, which, in their present position, they would be able to meet without creating any tightness in credit conditions. After the first of the year, when the seasonal return flow of currency begins, the volume of member bank excess reserves is likely to increase at a rapid rate. Open~market operations since 1929 Reserve bank holdings of United States Government securities have been increasing since the autumn of 1929 , when the speculative boom came to an end. The chart shows United States security holdings of the Federal reserve banks from 1929 to date, distinguishing between securities held by the individual reserve banks and those held in the system investment account. Holdings of > 9. the individual reserve banks, after an increase of $100,000,000 during the stock market panic in 1929 » have remained relatively constant, while the sys tem’s holdings increased by $ 1 ,7 0 0 ,0 0 0 ,0 0 0 . This increase continued until August of this year; since that time the investment account has been ht a con stant level. The table below shows changes in the important factors in the credit situa tion between the end of September, 1929 and the middle of July, 19 32 , and since that time. It brings out the fact that during the period of 33 months prior to July 20 of this year the reserve banks had bought $ 1 .6 8 4 ,0 0 0 ,0 0 0 of United States Government securities. The funds released ty these purchases were Banking Developments, 1929-1932 (In millions of dollars) Sept-. 2 5 , 1929 to Changes in— July 20, 197>2 Reserve bank holdings of United States Government securities.... Discounts for member banks........ Gold stock....................... Money in circulation............. Reserve balances................. +1,684 . -4o6 -423 +991 -32 s July 20, 1932 to Nov. 9, 1 Q12 +15 -227 C-C. 1 +318 -84 +306 largely absorbed, however, by increases of almost a billion dollars in money in circulation and by over four hundred millions of gold exports. Neverthe less, member banks, as the result of the system’s security purchases and a de crease in their reserve requirements, reflecting a decline in their deposit liabilities, were able to reduce their discounts by over $400,000,000 and to accumulate by mid-July of this year about $250,000*000 of excess reserves. During this long period, therefore, open-market purchases by the reserve banks enabled the member banks to meet an external drain on their gold reserves, an internal drain of currency for hoarding, and at the same time to reduce their 10. indebtedness, and to increase their reserves. Since the middle of July Federal reserve hank holdings of United States Government securities have continued at a practically constant level, hut other factors, already mentioned, have been adding to members’ reserves, with the consequence that member bank indebtedness has declined further and their excess reserves have advanced to a level of $^5 0 ,0 0 0 ,000 . Money rates Increased ease in the credit situation, as indicated both by the low vol ume of member bank discounts and by the increase in their excess reserves, has been reflected in easier money rates in the s h o r t - t e r m open money market, the course of which for a period of years is shown on the chart. PERCENT The rate on short- CUSTOMERS RATES AND SELECTED OPEN MARKET RATES PERCENT 7 7 1933 : / 11. time Governments lias become nominal and the rate on acceptances and open-market commercial paper has fallen to a low level. Rates to customers, however, out side of New York have shown relatively little decline since the beginning of the year. They advanced sharply at the time of the gold export movement last autumn and have remained at a fairly high level since that time. This rela tively high level of money rates reflects the fact that the monetary ease has not been distributed throughout the country, nor to all classes of borrowers. In the bond market prices are well above the low levels of the summer, but except for governmental issues there have been few flotations of new se curities c he far a condition of great ease in the short-term markets has not worked its way into the long-term markets for industrial issues. Member bank credit The fact that excess reserve*#and credit ease have not been distributed throughout the country and have not resulted in material expansion of member bank credit is reflected in the course of member bank loans and investments, which is shown in the two 1allowing charts. They indicate that the decline in total loans and investments, which was rapid from the early part of 1931 to /X, ik. the middle of 19 32 , came to a stop at that time. Since then the level has been fairly well maintained at banks outside of New York, while at the New York banks there has been in the last three months a considerable increase. This increase in New York practically comprises the entire increase for the system, and, as is shown by the second chart, consists almost entirely of an increase in United States Government securities. Other securities have re mained at a fairly constant level, while loans have continued to decline, al though not at as rapid a rate as earlier in the year, For all reporting member banks, the increase in total loans and invest ments between July 20 and November 2 amounted to $700,000,000. At the same time, the United States Government deposits of these banks increased by $1+5 0 , 000 ,000 , indicating that all but $250 ,000,000 of the net increase in loans and investments, which took the form of increased holdings of United States Gov ernment securities, is still represented by deposit credits to the account of the United States Government on the books of these banks. The increase of $ 72 5 ,000,000 in net demand deposits and $1 7 5 ,000,000 in time deposits during the same period reflects in part the disbursement of Treasury funds, in part, a growth in inter-bank balances, and in part the deposit of currency and gold at the member banks. Correspondent balances at reporting member banks have grown steadily since the end of February and are now back to the levels prevailing in August, 1931, before the withdrawals that accompanied and followed the credit crisis of last autumn. Interior banks as a whole, therefore, are again in possession of a large volume of liquid assets in the form of balances due from banks, although their total volume of liquid open-market assets, including also call loans, open-market commercial paper, and short-term securities, is still small as 15. compared with other years. The recent growth in correspondent balances re flects the disbursements of the Treasury and of the Reconstruction Finance Cor poration which made available to interior banks reserve funds accruing to the central money markets from Federal reserve bank purchases of United States se curities and from deposits of currency and gold. cent issues of national bank notes. It also reflects in part re Interior banks have not used these funds to increase their customers’ loans nor to any great extent to increase their Government open-market loans and investments, other than investments in United States/se curities, but have deposited them with correspondent banks in the money centers. This accounts for the concentration of the increase in excess reserves of the member banks at member banks in those centers. As is indicated by the chart, the accumulation of excess reserves has been chiefly in New York City, though EXCESS RESERVES OF M E M B E R BANKS (Wednesday Figures) M illions of Do l l a r s 600 M illions of Do l l a r s 600 500 500 400 400 300 300 200 200 100 100 0 Feb Mar. Apr. May June July 1932 Aug. Sept Oct Nov 0 4' i6. "banks in Chicago also show some increase in excess reserves. Excess reserves outside of the two financial centers are approximately at the level that is usually maintained hy country hanks. Business activity The domestic business situation has shown some improvement since last sum mer. Output of manufacturing and mining industries has increased, as is indi cated by a rise in the Board's seasonally adjusted index of industrial produc tion from a, low point of 58 in July to 6b in September, In October there ap pears to have been no further increase in activity, which was maintained at the September level. Traffic on the railroads increased more than seasonally this autumn, while changes in building activity have been largely of a seasonal character since early spring. The improvement in manufacturing output and factory employment has been concentrated largely in the light industries, such as textiles, clothing, shoes, and some 01 the food products. Both production and employment in these indus tries increased substantially betv/een the early summer and September. In the heavy industries, on the other hand, such as steel, machinery, automobiles, etc., there was no improvement in August and only slight improvement in Septem ber and October. ^arm income this fall is smaller than last season by a considerable amount, reflecting lower prices than a year ago for agricultural products, especially livestock and dairy products, and in addition smaller crops of cotton, winter wheat, and tobacco. Wholesale prices in the United States, after declining steadily until the middle of June, advanced during the following three months by about 3 per cent. * ^ 17. Since early September, however, they have declined again to approximately the low level of June. The price of cotton, reacting after the end of August, re mains above the lowest levels of the year, but cattle and hogs have recently been selling again at the low prices prevailing in early summer, and the price of wheat at Chicago, after recovery in July and August, declined in November to the lowest levels ever recorded. Prices of other commodities in general have maintained their advance since mid-summer rather better than agricultural prod ucts. This is true of certain textiles, some of the metals, particularly lead, tin, and zinc, and products which we import from abroad, such as silh, sugar, and rubber. Recent business developments are described further in the Review of the Month in the forthcoming November issue of the Federal Reserve Bulletin. November l4, 1932 To: M r, G o ld e n w e is e r Prom: Mr, Rhodes and Mr. Thompson CONFIDENTIAL NATIONAL BANK NOTE ISSUES UNDER THE NEW AUTHORITY From June 30 to November 9> 1932* issues of new national bank notes have amounted to approximately $150,000,000. Practically all of these notes were issued subsequent to the enactment on July 22 of the Federal Home Loan Bank Bill which contained a provision liberalizing the national bank note-issue privilege. At the time of the passage of the Bill the unused note issue power of the national banks amounted to about $900,000,000. Less than 30 per cent of the potential issuing power was possessed by the so-called country banks; onethird was possessed by banks in New York City and Chicago, and the remainder— about UO per cent— by banks in reserve cities. The potential issuing power of different classes of banks on June 3 0 , 1 9 3 2 , is shown in the following table: Unused Issuing Power of National Banks. by Classes of Banks. June 3 0 , 19^2 (In thousands of dollars) 1 Class of bank All national banks Paid-in capital t / -n______ x ---D. C., 2 / Probably 1/ Includes Unused issuing •power 2 / Amount Per cent 1,568,933 652,16s 915,815 100 336,429 537,686 694,86s 32,901 177,267 Ul+2,000 303,528 360,419 252,86s 33 39 28 Central reserve city banks Reserve city banks Country banks 3 / —' Liability for national bank notes 1/ k .......... , — -------- — ---vj . vauiuo ui .m oxctiiojlu xxum wasningoon, estimated at $20,000,000. overstates unused issuing power by $20,000,000— see note l / 5 national banks in Alaska and Hawaii. hxj 2. By Federal reserve districts, the privilege to issue additional notes was concentrated chiefly in the national banks of four Federal reserve dis tricts— New York, Boston, Chicago, and San Francisco, which together had the authority to issue 69 per cent of the potential increase in notes. Table A shows by Federal reserve districts the unused note issuing power of national banks as of June 30 an& November 9» 1932 and the total issues of new national bank notes during the period. Issues by Size of Banks During the period from June 3 0 , 1932 to September 3 0 , 1932, for which detailed statistics are available, a total of U06 banks in the continental United States made use of the national bank note issue privilege to issue $1^0,500,000 of new national bank notes. Of this amount, $22,000,000 was issued by 79 large banks, and $ 9 ,500,000 was taken by 23 U small banks. The distribution of the note issues during the third quarter of the year by size of banks is summarized in the following table: Issues of New National Bank Notes to National Banks Jfrom June jSO, 1932 to September 3 0 , 1932 By Size of Bank Paid-in Capital (In thousands of dollars) 25 7b 201 501 - 75 - 200 - 5 OO and over All banks* Number of banks Amount of notes issued Thousands Per cent of dollars of total 103 131 S9 ___ 1 1 2,035 7,^89 12,735 81.984 2 7 12 U02 10 ^,2U3 100 79 * Not included in these totals are ^ banks that tc>ok $ 260,000 . 1 suspended on September 3 0 , 1932 and submioted no report; 3 were organized subsequent to June 30, 1932. J * 3 Uses of Note Issues The issue of notes by national banks, in addition to affording them a profit, may be used by these banks to reduce their borrowings, to meet cus tomers* demands for cash, to replenish or increase their reserves, and to build up their correspondent balances. Of the banks making use of the privilege, twenty per cent used the notes to reduce their borrowings either directly or indirectly. used them to improve their cash positions. Forty per cent These banks were enabled by the issue of notes to avoid or reduce additional borrowing. The remaining forty per cent of the banks, taking nearly half of the issues, were not in debt, had excess reserves or ample balances with correspondents, and were not under pressure from loss of deposits during this period. With some conspicuous exceptions in the Philadelphia, Atlanta, Chicago, Kansas City, and San Fran cisco districts, the larger banks that took large issues of notes were not under pressure. Table B summarizes by Federal reserve districts the effect of the note issues on the banks. Reduction of Indebtedness On June 30, 1932 the banks that made use of the note issue privilege were borrowing $ 15 *+,000,000 from Federal reserve banks and elsewhere or ap proximately 18 per cent of the total borrowings of all member banks of the Federal reserve system. On September 3 0 , 1932, these national banks had re duced their borrowings to $101,000,000 a decline of $53,000,000, ' Of this reduction in indebtedness, $^9,000,000 was in the accounts of eight oanks, including two large banks in the San Francisco district which reduced their indebtedness by $3^,000,000. K The amount of borrowings on June 30, 1932 and September 3 0 , 1932 of the U 02 banks issuing national bank notes is shown in the following table: Borrowings of All Banks Issuing National Bank Notes June JO - September 30% 1932 (In thousands of dollars) •June 30 Total borrowings Prom Federal reserve bank From Reconstruction Finance Corporation From National Credit Association From others Agreements to repurchase U, S. Covernment securities September 30 Change 1 5 ^ .3 5 7 1 0 1 ,25^ -53,103 S0.0S1 3°>289 12, & 3 52,391 29 i6S7 392 6,^66 - 27,690 - 6,602 139 - 6 ,3 7 7 2^,615 1 2 ,3 1 6 -12,299 4 TABLF A I M s e d Note Issuing Poorer of National Banks, by Federal Reserve Districts June 3 0 , 19^2 and November 19^2 (Amounts in thousands of dollars) . District Paid-in capital June ^0. 1932 Liability Unused for issuing national power 2/ bank notes l/ Boston New York Philadelphia Cleveland 1 ^0 ,1 5 0 419,630 124,062 1 1 2 ,63 s 4 3 ,6 1 6 91,329 65,241 74 ,66 7 96 ,534 3 2 8 ,30 1 58,821 37,971 Richmond Atlanta Chicago St, Louis 70 ,so6 75.285 170,395 54,594 4 5 ,21 s 4 5 ,50 s 74,452 26,934 Minneapolis Kansas City Dallas San Francisco 57,210 8 1,2 33 76,692 182,863 . Total 1 1 ,565,558 -----------------(. New notes issued June 30 to Nov. 9 2 ,76 5 November Q. IQs? Unused issuing nower 2 / 5 / Amount Per cent of total 7,455 7,005 9 3,76 9 3 1 0 ,8 9 7 5 1,3 6 6 30,966 12 1+0 7 2^,988 29,777 95,933 27,660 4,645 6,978 23,132 4,335 20,3U3 22,799 72,801 23,325 3 3 9 3 26,299 30,932 *+5.239 72,855 3 0 ,9 1 1 50,295 3 1 ,4 5 3 10^,008 5,558 1 4 ,3 7 6 4 ,6 5 3 49,556 25,353 35,919 26,800 5*+,*+52 3 l 6^ 8,906 916,652 1^7,862 76 s , 790 100 17,4o4 1+ 7 3o®f n°t ,in?1A^® n0tes in 05m vaults or in transit from Washington, D. C., es timated at $20,000,000, ’ g / Probably overstates unused issuing poser by about $20,000,000 — see note l/ 1/ hames no allowance for new banks organized, for bank suspensions, or for “ ' changes in paid-in capital since June 30, 1932 * Note:- Does not include 5 national banks in Alaska and Hawaii. -/ TABLE B New Issues of National Bank Notes, June 30, 19^2 to September 30, 1932 Federal Reserve Districts Classified According to Effect of Issue on Banks District Boston New York Philadelphia Cleveland Number of banks Bor- Reserve ____ Lin row and cash All ings position Total Borrow other ings re eased reduced duced 5 19 Ik 8 6 lk 19 15 15 11 11 Richmond Atlanta Chicago St. Louis 8 ••. 9 6 7 19 Minneapolis Kansas City Dallas San Francisco 1 k •M 5 il Total 82 21 9 8 18 15 19 Ug U8 ^3 265 1.875 977 1.399 50 25 705 ••• 5.^22 297 2U *3 242 2U 27 25 Amount of thousands Reserve and cash position eased 1,015 2,189 3.471 991 issues of dollars) All other Total s6o 10,784 1.739 2,841 i4,84s 3,078 ! 855 1,469 5.643 135 2,947 664 2,265 8 15 4 23 11 12 19 32 17!826 2,058 163 157 402 29.033 27,550 4,871 1,170 6,661 89 4,742 2,263 11,410 2,l4o 6,187 5,231 3.224 4.5^7 17,726 3.379 2.379 9.855 3,UJ 31,294 47,660 104,243 (Report adopted by Federal Reserve Agents during their Conference, Nov. 14-16, 1932*) L~10 PERMITS FOR INTERLOCKING DIRECTORATES UNDER G UYTON ACT With reference to the question suggested by the Federal Reserve Board with regard to the policy and procedure in granting permits under the pro visions of the Clayton Act relating to interlocking directorates, your committee has to report as follows; We understand that under the present operation of the Kern amendment to the Clayton Act, as amended,- the question of approval of permits for inter locking directorates in banks is subject to two major considerations. The first is the factor of lessening competition or restricting credit, and the second is the question of public interest involved. We consider, therefore, that the Federal Reserve Board may properly weigh against the question of competition the factor of public interest in volved, and this we believe to be recognized in the present regulations of the Federal Reserve Board. We are of the opinion that the final determination by the Federal Re serve Board must necessarily be on the evidence presented in each individual case rather than by general rule. One. To this end we respectfully suggest; That Section IV, sub-section (d)3 of Regulation HL M be amended to read as follows; ,fPurpose for which services are sought, nature of proposed influence and activity, relationships, competency, and any other facts having a bearing uj)on the interest of the public in such banks as affected by their having the same directors, officers, or employees.M Two. In order to comply with this suggested amendment to Regulation "L”, it is recommended that, as a matter of procedure, the applicant for a permit and the banks which he is serving and proposing to serve, be required to furnish in writing such information and reasons as they may, in support -2~ Ir-10 o f their contention that the granting of the permit w ill not he against the public in te r e st, and thereupon the application follow the usual course o f review and recommendation by the Federal Reserve Agent before submission to the Federal Reserve Board. "i O ffice Correspondence FEDERAL RESERVE BOARD Date_lfo vember^X 7, 1932 _ To______ I Miy ly a tt______ __________ Subject __ Attitude From ______t__ MrT S e itz _____________________ --------garding National Bank Notes.____ . re 2—8495 nf Mr. frig rp-. hr In accordance with your request, I have examined the remarks which were made by Mr, Carter G-lass at the time the origin al Feder al Reserve Act was under consideration in Congress to ascertain what his attitude was with reference to national bank currency. In this connection, I have also examined the report which the House Committee on Banking and Currency made on this measure, since Mr. Glass was also Chairman o f that Committee and in that capacity submitted the report to the House, While the statements contained in the report necessarily represent the o f f i c i a l views of the Committee, they also undoubtedly incorporate to a large degree the personal views o f Mr, Glass* From the remarks o f Mr, Glass and, p a rticu la rly , from ' the statements contained in the report o f the House Banking and Currency Committee, I think i t is shown pretty c le a rly that, b r ie fly stated, Mr, Glass was o f the opinion that national bank notes were in e la stic and "absolutely unresponsive to the Nation’ s business needs", since they were based upon and secured by a bonded indebtedness of the United S tates, and that, therefore, they should be gradually re tire d and replaced by a system o f currency Which would be issued by the Government i t s e l f and which would be readily and e la s t ic a lly responsive to business requirements. Pertinent excerpts from these remarks and statements are as follow s: 2 SXCSRPTS PROM HSMARKS MADE PERSONALLY BY MR, GLASS, Congressional Record, Vol. 50, Part 5, "I think i t is pretty generally agreed that there i s a •pressing necessity fo r currency le g is la tio n in th is country. * * * "For more than a quarter o f a century there have been strong symptoms o f an intense d iss a tis fa c tio n with the pre va ilin g national banking and currency system; and th is s p ir it o f discontent has been accentuated as, from time to time, the u tte r inadequacy o f the system has been made manifest in periods o f fin an cial p e r il. While the e x istin g system has operated s a tis fa c to r ily under ordinary business conditions, and while the administration o f the system for the 50 years o f i t s history furnishes a high tribute to the in te g rity and e ffic ie n c y o f those concerned in i t s operation and oversight, i t s very best frien d is bound to admit that in time o f stress and storm it has broken down u tte r ly * * * The curren cy based upon the N a tio n s debt ’ — to the Nation’ s business needs. ★ •■The la s t national platform of the Democratic Party com m itted us to *a systematic revision of the banking laws o f the cou n try,’ and the Democratic President o f the United States who was elected on that platform appeared at the Speaker’ s desk o f th is House more than two months ago and urged Congress not to wait u n til 'th e demands o f the country sh a ll have become reproaches,’ The President recommended the lin e s upon which we should proceed, saying; "We must have a currency, not r ig id as now, but read ily, e la s t ic a lly responsive to sound c r e d it, the expanding and contracting cre d its o f evexyday transactions, the normal ebb and flow o f personal and corporate dealings, * * * " (p . 4643). C (0 ,1 1 (3 ) "I should be in clin ed to estimate that through - 3 - "the elim ination o f bond security and the substitution of the new plan o f issue there should be no good reason why the note loans made by banks in agricultural regions should run to a higher figure than perhaps 6 or 7 per cent as against the charge o f 12 to 15 per cent that may now be found in many of the small towns o f the West and South dur ing the height o f the season, (p . 4648) toy / ? / 3 ) * * * * "Retirement o f the national-bank circ u la tio n , fr e quently redundant and never e la s t ic , is regarded as one o f the e sse n tia ls o f currency reform. During the 12 years that I have served as a member o f the Ranking and Currency Com m ittee the universal testimony of banker and business man, text writer and p o lit ic a l economist has favored th is a lte r ation in the e x istin g system. A ll p o lit ic a l p arties are pledged to this reform, notably the Democratic Party, which has repeatedly declared fo r i t . In i t s platform o f 1896 i t declared: "Congress alone has the power to coin and issue money, and President Jackson declared that this power could not be dele gated to corporations or individuals. We therefore denounce the issuance o f notes intended to circu la te as money by nation a l banks as in derogation of the Constitution, and we demand that a l l paper which is made a lega l tender fo r public and private debts, or which is receivable for dues to the United States, sh a ll be issued by the Government of the United States and sh all be redeemable in coin. "Again, in 1900, the Democratic platform on the same subject declared that "A permanent national—bank currency, secured by Government bonds, must have a permanent debt to rest upon, and i f the bank currency is to increase the debt must also increase. Bie Republican currency scheme i s therefore a scheme for fastening upon the taxpayers a perpetual and growing debt. We are opposed to this private corporation paper circulated as money but without leg a l-te n d e r quali t ie s and demand the retirement of the national-bank notes as fa s t as Government paper or s ilv e r c e r tific a te s can be substituted fo r then. -4- MThis measure provides for the gradual retirement o f national bank circu lation over a period o f 20 years and the reversion of the right of note issue to the G-overn- "The gentleman seems ignorant o f the fa c t that the national-bank notes which Federal reserve notes w ill gradual ly displace are redeemable in ’ gold or lawful money. ' " (p.4939-) Congressional Record, V ol. 51, Part 2 . ti* * * ^ colleague awhile ago propounded a question to the Member from Oklahoma asking the la tte r to point to the pro v ision o f the Senate amendment providing for the retirement o f the bond-secured national-bank currency. There is no such provision. The Senate amendment provides fo r an interminable perpetuation of the bond-secured currency. We have com plained for 50 years o f the in f le x ib ilit y of th is currency. Bankers, business men, textbook w riters, currency experts, uniformly and concurrently agree that we ought u ltim ately to r e tir e , without disturbance or shock, this bond-secured currency; and yet the Senate amendment extends i t s existence interminably. Not only th a t, but i t requires the regional reserve banks to purchase a given amount of United States 2 per cent bonds annually, against which, whether currency be needed for business purposes or not, notes sh all be issued. No banking discretion remains. We may have a redundancy o f currency; there may not be one p a rtic le o f business neces sity fo r the issuance o f more, but rather a need o f r e t ir e ment. Yet under th is Senate amendment banks are required to i s s u e ." (p . 1304) lo/ Congressional Record, Vol. 51, Part 17. •'The Senate ra d ic a lly altered the bond provision o f the House b i l l . The p iv otal point of banking and cur rency reform in this country around which controversy has -5- raged fo r a quarter o f a century has been the rig id and in e la stic nature o f a currency based on Government bonds* The demand o f the banker, the text w riter, the business man, and other currency experts has been for the abrogation o f the bond-secured currency system and the gradual substitution therefor o f a currency based on com mercial a ssets and immediately responsive to business re quirements, That has been the universal contention o f a l l persons who have a clear comprehension o f the question. I t has been the declared policy of the Democratic Party fo r years, the declaration having appeared in sp ecific terms in three of it s recent nation a l platform s. Neverthe le s s , the Senate in i t s wisdom rad ically altered that provi sion o f the House b i l l so as to make an appreciable r e tir e ment of the bond-secured currency u n lik e ly , i f not imposs ib le . The House conferees gained a measure o f advantage by so modifying the Senate amendment as to make probable the re tirement o f at least $300,000,000 of the bond-secured curren cy within a period o f 20 years, and the possible retirement o f $500,000,000 o f that currency, based upon a gold reserve and commercial a sse ts, expanding and contracting automatical ly with the business requirements of the country. * * * * "The House conferees so amended the Senate bond provision as to require the retirement over a period o f 20 years o f about $300,000,000 o f the bond-secured nation al-bank notes, whereas the Senate amendment did not provide fo r the retirement o f more than $ 1 2 5 ,0 0 0 ,0 0 0 ." (p p .5 6 2 -5 6 4 ). ^ .<1 ^ ^ ¥I^ y -6- BXCERPTS FROM REPORT 0? HOUSE COI/MITTEE ON BANKING A S P CURRMCY (Ho. 69, 1st Session) _ _ < ? One o f the e ssen tial features o f reform which "should be recognized and provided for in any new plan" i s the "* * * furnishing o f an e la s t ic currency by the aboli tion of the existin g bond-secured note issue in whole or in part, and the substitution o f a fr e e ly issued and adequately protected system o f bank notes * * * " ( p. 11)* * * * . * " In lie u o f the notes, now secured by national bonds and issued by the national banks, and, so far as necessary in addition to them, the committee recommends that there sh a ll be an issue o f * Pederal reserve Treasury notes,* * * * (p. 17) * * * * "There are several important reasons fo r the r e tir e ment o f bond-secured currency. The most obvious i s that bond-secured notes are not 1e la s t ic * . By th is i s meant that the necessity o f purchasing bonds to be deposited with a trustee fo r the protection o f note issues prevents banks from issuing these notes as fr e e ly and promptly as they otherwise would, while it also prevents them from re tir in g or contracting the notes as fr e e ly and promptly as would otherwise be the case. There is l i t t l e or no disagreement at present among students of the banking and currency problem in the United States that the r e tir e ment o f the bond-secured notes is e sse n tia lly necessary T f success is to be had in restoring: e la s t ic it y to the circu la tio n and in making the national banking system v re a lly responsive to the needs of business. For that reason every plan of currency or banking reform that has been put forward during the past 15 years has contained as an important fa cto r some provision fo r g e ttin g rid of the bond-secured notes. The basic criticism on the present system of /f / J *-7« notes already indicated is reenforced by the fa c t that the supply o f United States bonds available for use in protecting note issues is lik e ly to be lim ited, as was the case in the panic o f 1907* Thai the national banks were not able to enlarge th eir issues because o f th eir in a b ility to obtain further bonds, u n til they had been aided by the action i f the government in issuing additional bonds fo r the very purpose o f furnishing a backing for currency,notwithstanding that at that moment there was a very large surplus in the Treasury* Over and above th is consideration has been the fa ct that the form a lities and te c h n ic a litie s connected with the issue o f bank notes based upon bonds have been so great and trouble— some as to preclude the easy and prompt supplying o f currency, even when there were enough bonds in the market to furnish a l l the backing for notes that might be desired. This shows why, apart from the special and peculiar d if f ic u l t ie s that attend anything of the sort, the substitution o f bonds other than national fo r the national bonds now used w ill not help the situ a tio n . The only way to re lie v e the bad conditions that have developed in connection with national bank currency is» therefore, generally admitted to be the abandonment of the bond-secured plan and the introduction of something e lse in i t s p lace*" (p* 22*) * * * * * * * * "A fter reviewing a l l of the d ifferen t factors in the situ ation , the Banking and Currency Committee has, reached the conclusion that the issue o f national-bank notes now current should, fo r the reasons already surveyed, be r e tir e d despite the serious d i f f i c u l t i e s that have been s k e tc h e d /and that in their place a new issue of__notes put out oy the Government o f the United States _and c lo s e ly controlled by i t should be authorized. This issue of notes i t is proposed to e n title ‘ Federal reserve Treasury n o t e s .* (p. 2 4 .) * * * * * * * * "Whatever may be the ultimate earnings of the banks, however, the committee is convinced that the conversion of theTonds and the retirement of the present notes, followed by the is s ue o f new notes, ought to be e f f ected at alT"hazards and at any c o s t, as a Tondamentally desirable reform^ It b elieves that the uchange should be c a rried through, upon a frank, open and d ir e c t b a s is , and that no e f f o r t should be made to mask, as was done in the A ld rich B i l l , pro[X>sed by the Monetary Commission, the r e a l nature of the process or the burden and d is tr ib u tio n of i t s c o s t . “ (pp. 25, 2 6 .) 11 * * * * The d istrib u tion o f earnings upon the b asis of deposit balances would give to the Government a large share of the p r o fits in any case and when the__ present national-bank notes sh all have been replaced by Federal reserve notejj i t i s obvious that the function o f n o t e issue w ill result in a large volume of earnings which the Federal reserve banks could not enjoy were they to share th is power with other banking in s titu t i o n s .” (p. 3 9 .) * * * * * * * * * * * mSections 18 and 19 may best be treated together, as they jo in tly provide fo r the disposal _of exi s t i n g!national-bank notes and fo r the r efunding o f the bonds now held by the banks behind these note_s. The general views entertained oy the committee with respect to bank-note issues in general and the tr e a t ment of e x istin g national—bank notes in particular have been s u ffic ie n tly set forth At an e a r lie r point in th is report. It remains here to outline the exact steps that have been recommended to attain the desired end, and to indicate the probable cost and incidental problems connected with each step in the process. What has been done in the b i l l is as fo llo w s: " 1 . Provision has been made fo r paying at the end of 20 years the ex istin g outstanding 2 per cent bonds. This is a manifest matter of ju s t ic e . . ”2 . Meantime banks have been perm itted at th e ir d is c r e tio n to present on e-tw en tieth o f th e ir bond h old in gs each year fo r conversion in to 3 per cent bonds, and in the event they do not so present them the Secretary of the Treasury is authorized to r e a ssig n the quotas o f bonds not taken up to other banks which are authorized to in that case secure a co r responding amount o f a d d itio n a l con version s. ~9~ »3. During the 20 year period any bank may increase or decrease its circulation at pleasure, subject to the maximum limitation prescribed by law. ,,4* However, from the date of the passage of the act no national bank is to be required to hold any United States bonds as security for circulation if it chooses to retire such circulation- in other words, the compulsory bond-ourchase requirement of existing law is repealed.1* (p. 56*) R e s p e ctfu lly , S. E .n S e itz I attach a copy of a memorandum on currencies linked to sterling, which was prepared at Secretary Mills* request. N O V ' 1932 November 2 9 , 1932 Secretary Hills Currencies link®d to sterling, Kr. Goldenweiser ooura® o f s t e r lin g , etc* Currenoie® linked to ste rlin g * - A® a re su lt o f England*® suspension o f th® gold standard in September, 1931, a number o f other countries, which with England go to mak® up the so -c a lle d ste r lin g group, a lso departed from gold and th e ir currencies have since followed rather c lo s e ly the course of ste r lin g on the gold exchanges* In general the currencies o f these oountries are now maintained a t parity with the pound through exchange regula tions o f the government® and central banks, o r , in A u stra lia , through agreements among the members o f the banking community to s e ll exchange at a fixed rate* This linking to ste r lin g i s in some countries accomplished by law, and in others by a p o licy followed by the banking system. The following l i s t gives the th irteen more important members o f the ste r lin g group, those whose membership is a matter of law being c la s s ifie d separately from those whose membership is a matter o f banking polioy* Important Countries Nhose Currencies Are Linked to Sterling As a matter o f law New Zee land* ' B olivia B ritish India S tra its Settlements (B r itish Malaya) Irish free State Egypt As a matter o f banking p o licy Australia " Sweden Norway Denmark Finland Portugal Portuguese A frioa ♦New Zealand le g a lly departed from the s te r lin g standard on June 3 0 , 1932, but sinoe that time i t s currency has in fa c t continued to follow the oourse of sterlin g* The laws estab lish in g a ste rlin g standard in the S tr a its Settlem ents, Irish Free S t a t e ,' Egypt, and B ritish India were passed prior to England’ s departure from the gold standard, while the laws in New Zealand and B olivia have been passed since that time* #2 November 29, 1932 In deciding to link their currencies to sterling the.se countries were influenced by Hie fact that their export trade was chiefly with Great Britain and others of the sterling group. Had these countries attempted to maintain the gold standard, they would probably have suffered a decline in their export trade and consequently an adverse balance of payments. The re sulting drain upon their gold reserves would have in the end impaired their ability to maintain the gold standard. In short, these countries believed that they could maintain greater stability in their international position by linking themselves to Hie pound. It is not unlikely that at least most of the members of the sterling group will re/aain on a sterling standard un til England returns to gold# A number of other countries, not shown on the list because their cur rencies are not definitely linked to sterling either as a matter of law or as a matter of banking policy, have such close relations with England that they are affected in important ways by the course of sterling. Among these are certain South American countries in which British investments are on a large scale. CQTir_se„.of, .sterling exchange since Englanddeparture from gold. - The course of sterling exchange at New York since England’s departure from gold is shown by the accompanying chart. The chart brings out the fact that dur ing most of this period sterling has fluctuated over a considerable range. f STERLING EXCHANGE AT NEW YORK 1931 1932 f F o r m N o . 1 31 FEDERAL RESERVE BOARD Datft December 3. 1932 S u b je ct: 2—8495 I transmit herewith a memorandum prepared by Mr. Terborgh describing the currency difficulties of the 90*s with special reference to silver purchases. OF/ r SB? T«&rm N o .*131 FEDERAL RESERVE BOARD Office Correspondence To M r, purpose a ly s is of S ilv e r P urchase short A ct, The th e act chases years th is to It at in w h ich excess and 1885, com m od ity 1882 to 1885, slig h tly in g to e rica n lo w e r tw o A ct 1878, about of $ 3 0 ,0 0 0 ,0 0 0 p re d icte d w ou ld act was cou n try*s im p o rts by le v e l, th an T e le p h o n e and a th e b r ie f account passage background, I under of have th e in and th e th e an Sherm an p re fa ce d p reced in g it of it w ith S ilv e r in d ex es its y e a rly repeal to th e e co n o m ists tim e th e th e fa ile d g o ld g o ld c o n firm th e stock tre b le d in E xcept T reasury fo r a appeared 1879 to 1882 th e rest of th e of trad e a ctiv ity T e le g ra p h ) b u sin e ss was tim e , th e above o n ly of and was th e passage due The pur The in tw e lv e D u rin g la rg e ly 1884 w h olesa le d e clin in g from fin ish in g fa v o ra b le . (C le v e la n d 1890, silv e r m on th s p e rio d , severe th e size , few th e of prophecy. a m p le . from fo r of of stan dard. to Our b a l a n c e th e th e act su p p ly o ff b u sin e ss o f th e m oney at of tw o -th ird s by cou n try exports. steady 1878 co n tin u a tio n ris in g began. u n til of th e force over A ct th at m on etary a fte r fa ir ly th e in h o ld in g s d iffe re n t a p p ro x im a te ly P urchase put h e ld of S ilv e r ra te g o ld present e x p erien ce th e re a fte r p rice D if f i c u l t i e s 1 932 1878. fr e e ly th e to fo llo w in g By w ay cou n try*s th e of g o ld th e 1890. re p e a te d ly th e of o f is d e v e lo p m e n ts P urchase w as th is m em orandum th e under and p e rio d of of th a t average cou n try. of A ct S ilv e r an th is fin a n cia l E x p e rie n ce added of statem en t P urchase I, th e 29, N in e tie s T e r b o r g h ______ The o f S u b j e c t : ____ C u r r e n c y G o ld e n w e ise r From_____ M r . a D a t e ___N o v e m b e r Trust com pu ted d e p re ss io n A ccord and Am " n o r m a l'1 b e in g th at 1 8 8 4 -1 8 8 6 . The reasons fairly evident. fo r th e fa ilu re of even ts to co n firm th e fo re ca sts seem For one thing, the silver issues, amounting altogether to . $ > 3 7 0 ,0 0 0 ,0 0 0 , part o ffse t d id by a not sh rin k a g e n otes o u tsta n d in g . n otes com b in ed 000, per or an of to 1890 A second 1882 cou n try and seem fa ir ly danger silv e r th e to tw e lv e been as S ilv e r present export of our w h o le sa le co u n trie s (E n g la n d , F rance, ’’ r e l a t i v e in fla tio n ” under th e d is cu ss in g is su e of s ilv e r no S ilv e r th e P urchase e ffe cts currency, necessary to d ig re ss T reasury in re la tio n fo r to a of in th e th e b rie f its years, (e x ce p tin g 2 From th e for 1884 am ount reserves, and A ct of and th e p rice as th e of 1890 act o f 1890, form of le g a l-te n d e r and paper w h ich th e as th at th e from de th e T here le v e ls seem ed, S tates. a cce le ra te d T reasury general currency. not hand, le v e l U n ite d A ct of and oth er m uch G erm a n y). d id , had b een 1 8 8 8 ), On t h e in (J u ly , situ a tio n in fu lly e x p la n a tio n silv e r under 1 8 7 8 -1 8 9 0 b a la n ce com m od ity E uropean been ten th e g o ld . e ig h t have $ 2 3 0 ,0 0 0 , year. P urchase b a la n ce p reced in g to a in cre a se d trad e th e te s t, but c ircu la tio n . years bank in fa v ora b le or bank dem and. u n fa v o ra b le net An in and n a t i o n a l in and w ere bank co n s id e ra b ly m oney serve th ey n a tio n a l $ 8 ,0 0 0 ,0 0 0 th e fir s t our an p reven ted B efore o f (a ctu a lly not E x p e rie n ce is th at had th is it tru e year, p o p u la tio n th is th e may have is su e s by of of a of th e re fo re p ro d u ctio n . and su p p ly a m od erate le a d in g rate to had of in was o n ly d u rin g in currency of sin ce v o lu m e act k in d s was grow th had d u rin g a ll th at in cre a s e as 7 /a s 1885 of e ffe c t, th e silv e r $ 2 0 ,0 0 0 ,0 0 0 we clin in g , II. sin ce is in fir s t in cre a se repeal sig n s e x p a n siv e in th e circu la tio n th e It of ra p id h e lp e d of co n clu siv e . 1887 fo r currency such sin ce net steady needed in cre a se q u a n tity a fu ll $ 1 4 0 ,0 0 0 ,0 0 0 th an co n s id e ra tio n tim e lo w le s s average Bv th e rath er of o f p e rio d u n d e rg o in g a silv e r 1890) th e th e ir net average th e c u r r e n c y was new fo r th e was 1885) The average cent exert 2. th e n otes, situ a tio n * 3. The Treasury was committed, to the maintenance of gold and silver dol lars at par. To do this, it had to redeem in gold, on presentation, not only greenbacks and the notes issued under the act of 1890, but silver dol lars as well. Directly or indirectly, all Treasury currency constituted a potential demand for gold. Against this liability the Treasury had no segregated gold reserve; it attempted merely to maintain a part of its cur rent cash balance in gold. D e p le tio n in g d e fic its su b je ct, and how ever, b u ffe r in in g see sam e ury be lim ite d g o ld by or fe a r, of a co u ld not to w ere bonds fo r reserves, in to to be of g o ld sin ce banks d ra in s, banks. net To to th e h ow ever, augm ent th e ir m easures in s e c u rity o f th e of d efen se m easures can and be co n tra ctin g in th is exchange oth er currency. le g a l ten ders The le g a l The w ere op erat stock g o ld was exports th e th e Treasury th e banks T re a su ry was o u tsid e th e b a n k s, th e m s e lv e s, h o ld in g s have of to by part a w ere w i l l p rotected . banks th e th rou g h co n v e rtin g w ith had g o ld T reas and m ig h t p r o te ctio n . p o s itio n a g a in st by th at h o ld in g s th e a v a rio u s cre d it. w ay. of export Treasury cou n tered g o ld sources: exports, exten t g o ld T r e a s u r y w ou ld from oth ers. th e g o ld g o ld ) T reasury oth er g o ld d o m e stic I f , The tw o and in cre a s e d bank th e by fro m e x tra o rd in a ry d ire ct or re d u ctio n th ese (in clu d in g b o rro w in g . by cou n tered th e b a la n ce d e p le te d g o ld , rates by g o ld of cash reserves chose tak e cen tral o f e x iste d . ad equ ate d is co u n t it to e ss e n tia l la ck p o s sib le g o ld due good h o ld in g s b u ffe r currency th e to made fir s t th e ir o b lig e d be g o ld d ra in The in g th e th e n e ce s sity Treasury’ s "h o a rd in g " A g a in st A g a in st th e co u ld d om estic to of Loss le a d in g ten ders fir s t la w fu l of la y , g o ld by d e fe n siv e fo r g o ld e n ta ile d reserve no course, d ra in . m easures, g o ld of and L oss such th e th e ra is T reasury a v a ila b le s a le co n tra ctio n m oney; of as d e v ice s th e in of of second bank 4. ten d ed out o f to th e g o ld cre d it h o ld in g s th e at v icio u s th en th e th e c ir c le , once 1890 stock m ore had o f s ilv e r. in w ere 000. th e in g The a rate 1890. ow n, program . by reversed of o n ly of th e co n se rv a tiv e s s ilv e r in te re sts act to and P re sid e n ts and to secure repeal grow th was on at a in th e th is a s trik in g th e check th e in te r e s ts of th e S ilv e r new its cash cu rren cy under con trary not in to fa ct co n se q u e n tly , p a y in g p a y in g co n tra ctio n au gm en ted d id - of The a out th e S ilv e r year n otes in to th e attem pt in a curren cy, P urchase th e p a y a b le A ugust p e rio d dow nw ard fo r and of ro u g h ly $ 6 0 ,0 0 0 ,0 0 0 n otes seven o f by n otes bank $ 2 5 ,0 0 0 , a co m b in e d , years or rem ain ed n a tio n a l in cre a s e d bank g o ld $ 1 5 6 ,0 0 0 ,0 0 0 m ovem ent A ct m on etary in a ctu a lly th e year as in com pared im m e d ia te ly preced d e v e lo p m e n t. - E uropean a d o p tio n sta n d p o in t S e cre ta rie s 1890. n a tion a l year th en o p e ra tiv e rate co n fid e n ce . oth er of th e and A net p la in ly it s e lf, ten der D u rin g th e so $ 5 0 ,0 0 0 ,0 0 0 becam e a p p re h e n sio n h o ld of o u tsta n d in g s currency le g is la tiv e o f th e and is su e d a v o id currency. le g a l tim e, $ 8 ,0 0 0 ,0 0 0 w ith a it sa le s . T reasury fou n d co u ld T reasury it was th e act o f 1893. it s e lf a th e about form sam e th e currency, th e a d d in g o b v io u sly v ie w e d From was under 2, if T reasury bond w h ich It fo r fo r 1890, th e at Law t h a t g o ld th e 14, T reasury T h is E ffe ct our D u rin g o f in th at th e from co n tra ctio n g o ld of N ovem ber re su lt v olu m e w ith J u ly u n til is s u e d . out currency cou n try of as o n ly re p e a le d . out e ffe ct lo n g occur Such been so re a liz e d P urchase p a y in g P assed c ircu la tio n A ct. had o f co u ld excess p a y in g th e th e e ffe ct in S ilv e r act o n ly curren cy m eans rate In crease of oth er th is a reserves P urchase o f u n til or by S ilv e r purpose it con tract it was m uch m o r e of a fin a n cie rs , th e extravaga n t "easy T reasury, of P urchase Law expanded co m p ro m is e d em a n d in g of and m any m o n e y ." both silv e r deem ed 1878, and of R epeated had th is pu rchase necessary dem ands p a rtie s, of th e p le a s fa ile d new v i c t o r y 5 of th e s ilv e r peten t g o ld in te r e s ts observers stan dard lu ck , and th e be to fa ir ly of o f g o ld exports th e fiv e years th e tim e abroad. 1 8 8 6 -1 8 9 0 . ite m s cated by th e fa ct in n u tio n of in due in r e fle ctio n to of th e b a la n ce of co u ld w ere act, in was Com m a in ta in in g p a rtly h o ld re m a in in g th e abroad. E uropean a la rm on D u rin g th is a out m atter under fa v o ra b le . not th e of th e That abandoned th e re fo re , th e T h is th e p e rio d a g a in st th is ra d ica l d e p re ss io n part years com pared b a la n ce la te r in as th e d iffe re n ce in v is ib le in v e s tm e n t it seem ed caused a con in 1 8 9 1 -1 8 9 5 , w ith was of th e cou n try change th e $ 3 0 ,0 0 0 ,0 0 0 due to an p aym en ts is cle a rly excess $ 1 1 3 ,0 0 0 ,0 0 0 ite m s in clu s iv e , in recorded and in e a rly a of u n fa v o ra b le in d i com m od ity th e r e p a tria tio n was of fo re ig n in v e s to rs in th e 1891 and t h e au tu m n 1896, p e rio d . a of m ovem en ts, n in e tie s , exports e a rlie r p r in cip a lly ca p ita l in d im i A m erica n th ou gh p r in cip a lly fu tu re of a our stan dard. B etw een th e b e g in n in g lo s s of was about tio n w ith in ated rou g h ly w ith in g o ld 0 0 0 ,0 0 0 — and of $ 5 1 0 ,0 0 0 ,0 0 0 , th e h e ld part m on eta ry th at fo re ig n se c u ritie s of A ct it program - That in v is ib le sh ift th e $ 2 5 0 ,0 0 0 ,0 0 0 , th e T h is T reasury P urchase w h ich e x p e rim e n t. co n fid e n ce . to ta le d was fu rth e r th e b u sin e ss passage in im p o rts if s t ill of fo r on e v e n tu a lly sh ift over S ilv e r of The augur success depend co n fid e n ce net to fir s t e v id e n t. le s s Loss th e w ou ld subm erged sid e ra b le th at le n g th program w ou ld be under th a t au gm en ted h e ld seem ed th e U n ite d show ed a no of $ 2 7 0 ,0 0 0 ,0 0 0 . S tates, range of upw ard D u rin g in clu d in g th a t th is h e ld of p e rio d by $ 1 0 0 ,0 0 0 ,0 0 0 — b etw een tren d. Even if a part th e g o ld th e net in banks, c ircu la flu ctu $ 5 0 0 ,0 0 0 ,0 0 0 of th e export upw ard and $ 6 0 0 ,- flu ctu a 6 tio n s in th e apparent lo s s of th at g o ld That m o d ity to be to th is p rice 1890 and le v e ls in th is cou n try The p rice le v e ls in course even ts im p ort 17 It "som e is u r y ," known th a t m oney, c irc u la tio n in clu d in g h o ld in g s of usual part of in g s run fo cu s charts stock sm a ll to "h o a r d in g ,” l / in co m p a riso n it w ith is th e The show and th e re su lt - a tte n tio n course th e of 1913, and g o ld Be a b so lu te d is cu ss io n is traces arrangem ent of show n th e b a la n ce , seem s 1 2 1 ). both v icis s itu d e s 1 8 9 1 -1 8 9 6 com G erm any. The b a la n ce of is su e s p. d e clin e d 1896. th e p e rio d silv e r fo llo w in g th is Treasury’ s here to is in fla tio n ” th e F rance, The 1891 of C y cle s, le v e l E n g la n d , from for ’’ r e l a t i v e (B u sin ess d e ta il. of a a th e in course a lso th e is net th e of in g o ld ta b le . th e g o ld export m ovem en ts. oth er p orted th e as to p rice in 1 8 9 1 -1 8 9 6 Treasury. g o ld and to a cco m p a n y in g cou n try’s th an w h o le sa le of due study th e and th e M itch e ll’ s not 1896 th e a scrib e d co u n trie s. was by is q u a n tita tiv e ly g o ld p e rio d of was of ch ro n o lo g ica l b a la n ce fa cto r circu la tio n lo s s and d e ta il g o ld fo re ig n re la tiv e The som e th is in d ica te d tw een ly d o m e stic th e in lo w how m uch fig u re s was o f re la te by p u b lic. N a tio n a l fir s t On t h e in g o ld h o ld in g s th e 1894. but som e order h a lf oth er to a id banks of e ith e r o n ly (w h ich th e d u rin g was to banks 1892, hand, th e hoarded th en th e to ta l to part is not am ou n ts cou n ted known la st banks Treasury. n in e tie s , "h oarded” th e are th e as re p e a te d ly know n. h e ld 1893, le t m ore and th e ir as Re ’’ o u t s i d e reserves) have of as w e ll Treas and g o ld d u rin g g o ld h o ld 7 NET GOLD BALANCE (In OF T R E A S U R Y , m illio n s of 1891 ] " 1692 1893 January 142 120 108 F ebruary 150 122 M arch 148 A p ril End o f m on th J 1 8 9 1 -1 8 9 7 d o lla rs) | 1894 J 1895 1896 1897 66 45 50 145 103 107 87 124 149 126 107 106 91 129 152 142 120 97 100 91 125 153 M ay 133 114 95 79 99 108 144 June 118 114 95 65 108 102 141 J u ly 121 110 99 55 107 111 141 August 132 114 96 55 100 101 144 S eptem ber 133 119 94 59 93 . 124 148 O ctober 128 124 84 61 92 117 154 N ovem ber 129 124 83 105 79 132 157 D ecem ber 131 121 81 86 63 137 161 N ote. F ig u re s show n part of th e h e ld by T reasury are T reasury’ s in th ose reported "a v a ila b le tru st a g a in st as ’’ n e t g o ld cash b a la n c e ." g o ld ce rtific a te s in They in T r e a s u r y ," do not w h ich in clu d e circ u la tio n . is g o ld fi u • F ig u re s T reasury in show n h o ld in g s circu la tio n . for c irc u la tio n e x clu d e , g o ld in clu d e , h e ld and a g a in st th ose g o ld show n for ce rtifica te s 8. 1891 The ure act of 1890 occurred in London, a ctiv ity abroad. s e cu ritie s J u ly we lo s t 0 0 0 ,0 0 0 from no to The a fir s t T reasury except fo r currency to th e in g o ld th e th e in itia te d . w ay th e T reasury to an of 1891 our end a saw g o ld P ra ctica lly s u p p ly w ou ld banks, upon By passed T reasury d e fe n siv e bank, was on been net a ll w hen great B a rin g o f great s p e cu la tiv e p e rio d a heavy su p p ly . g o ld of th e s e llin g B etw een stock th e of A m erica n F ebruary fa llin g export f a i l from and $ 1 5 0 , g o ld was tak en once to a dangerous n a m e ly , an o ffe r New Y o r k . d ista n t fe r h a lf d ra in $ 1 1 8 ,0 0 0 ,0 0 0 . The to b rin g in g $ 7 0 ,0 0 0 ,0 0 0 , S u b trea su ry cost sca rce ly s e rio u s th e le v e l fe r and had reduced its fa lle n m easure ad opted, th rou gh th e paym ent p ick in g have up net of g o ld som e lo s s at S u b trea su ry at th e d om estic of g o ld system , p o in t at exchange to at w h ich o n ly a lit t le a crop fa ilu r e v irtu a lly th e b u sin e ss to tran s tran s in over th is $ 3 0 , 0 0 0 ,0 0 0 . A bum per us an in th e e x tra o rd in a rily m en ts of crop in th e th e second fir s t p a tria tio n six of au tu m n , fa v o ra b le h a lf o f m on th s, A m erica n th e th ou gh co u p le d trad e b a la n ce year. le s s se cu ritie s w ith 7vTe th an and reversed th e recovered about th e b a la n ce trad e h a lf abroad, g o ld of gave m ove th e lo s s w arran ted. Re co n tin u e d . 1892 A net every export m on th of except g o ld O ctober reappeared and e a rly N ovem ber. in th e year The t o t a l and lo s s co n tin u e d am oun ted to in $ 5 99 ,- W 000,000. By end o f J u ly th e T reasury 1891, had shrunk to g o ld reserve, $ 1 1 0 ,0 0 0 ,0 0 0 . w h ich The stood at d a y w as $ 1 3 0 ,0 0 0 ,0 0 0 saved by th e at th e au tu m n <9. flo w o f m oney fa c ilitie s to th e o ffe re d by p o in ts in a id of th is d e v ice th e lo s s in g o ld b a la n ce of w ith a w est. exchange th e The New Y o r k b a n k s T reasury fo r g o ld th e T r e a s u r y was g o ld due t o of p a id about fre e advantage fo r th e tra n sfe r of currency to th e T reasury at New Y o r k . in exports took a b le to d u rin g tra n sfe r th e year, to and th e to to th e d is ta n t By th e banks end of th e th e b u lk year $ 1 2 0 ,0 0 0 ,0 0 0 . 1893 The fir s t 0 0 0 ,0 0 0 . in part boom , to in of d e b a cle , of 1891 a "get g o ld out d iffe re n t from p a n ic a lin e su sp e n s io n th e of of saw to flo w to of of 1893, to th e fir s t was h a lf tra d itio n cou n try. O n ly th e g o ld p a ym en ts. th is to had and was stock of c o o p e ra tio n In in p rice s part w ere ca u tio u s about la rg e prosperous 1893 fe ll d e clin e . fix e d exchange was in of $ 6 0 , v o lu m e , to severe betw een th e a B a rin g as The of h e a v ily By A p ril th e paper fo r a m a k e sh ift o f th is th e it danger governm ent banks atm osphere on th e was b e low zone. m ade g o ld T reas A wave stren u ous w ith banks w h ich d id lit t le saved th e T reasury of u n e a sin e ss broke. It seem s p ro b a b le th at th e cris is was de th e e n jo y in g a fte r due g o o d .” m arkets. It exports cou n try paym en ts and om in ou sly by g o ld E uropeans, g e ttin g fin a n cia l net b u sin e ss th e p o s itio n th e g o ld cou n try began its co n fid e n ce . in w h ich sw ept parts year in d u cem en t w h ile g o ld m a in ta in th is sp rin g b a la n ce a p p re h e n sio n in sp ire In th e of th e su sp e n sio n stron g $ 1 0 0 ,0 0 0 ,0 0 0 to a and export Its e ffo rts in o f of co n tin u e d E urope. to The th e fe a r o ffe rin g ury. m on th s S e cu ritie s p re ssio n m id d le fiv e im m e d ia te ly p re cip ita te d by to th e 10. a n x ie ty w h ich over had fla tio n b u ilt any case. d is tru s t liq u id a tio n of our bankers. of th e fir s t I B efore was le g a l ten ders and th e sp e cie le g a l silv e r G o v e r n m e n t 's om in ou s n ish e d g o ld S tates co u ld Over several to n otes be th e th e l / no u n a n im ity is For repeal rency situ a tio n had (M a y , 1893) answ er On t h e oth er u n e a sin e ss sio n 2 / th e of th e P rio r in g house its g o ld New Y o r k hand, as to to g o ld by th e th a t sp e cu la tiv e been by rip e th e a ffe cte d of fo r boom de co n tin u o u s th e th e th an p sy ch o lo g y g o ld th e rig h t was in paym ent th e o ld is su e , g o ld th ere or over exports th e fo r a in th e m on th cle a r T a u s s ig 's do w ith th at o p in io n curren cy P urchase d e cla re s to o f th e is situ a tio n no of a th e " i f course in flu e n ce th at and fu r U n ite d w h ich net T h is im p o rt was in te n tio n th e of how to e x tre m e ly q u e stio n ou tcom e was buoyed of th is cur th is tim e s lig h t." th e th e to th e fa r up of m o v in g im p o rta n ce even ts was due s u fficie n tly in q u ire "beyon d its th e th e th e 1890, T h is of en of to th at lo n g e r heavy its we and use was to c o u n te r s ." A u gu st. A ct. its 1890, T reasury fu rn ish e d co n ce rn in g th at new The th ere tim e su p p lie s. A fte r w o rld n otes announced a u th o ritie s Sprague is had short in fo r redeem The G o v e r n m e n t 's was S ilv e r am ong T reasury or needed ow n it . banks They T h is recent d is p o sitio n th e and The it . th e to by stra in e d ; fo r no fin a n cia l r e s e r v e .2 / asked th e ir co n fid e n ce . to who been changed. proof of n e ce s sa rily had hence, general w ere not from g o ld , g o ld T reasury. T r e a s u r y w ou ld and th is th e situ a tio n g o ld banks th e g o ld , a ll d id W hat of a n y th in g th e of on curren cy d a ily of in sta n ce , d ire ctly th e A d m in istra tio n for T here of shaken en tered im m e d ia te ly fa cto r. fe ll in 1892, fo r crash The sp e a k in g rath er th e $ 4 0 ,0 0 0 ,0 0 0 fa cto rs. is Treasury. had anyone of who resou rces in exchanged F o llo w in g g o ld . g o ld d e clin e T a u ssig , fa il p la ce was in d ica te d 1893 fu rn ish e d a fte r in and m ay have by co n fid e n ce is su e s ten ders s ta b ility , o u tflo w it s e lf New Y o r k b a n k s , years had now th e w ith o u t e s p e cia lly la rg e d an on general b u sin ess abroad, fea tu re 1890 th e year: g o ld r e a d ily was h o ld of new fa ll T here from th ou gh p reced in g fro m th at d ra in th e m on etary qu ote of u su a lly export in our strik in g years. deed up o f h a lf "T h e one s itu a tio n ,l/ s e cu ritie s of is g o ld been in The th e general p rim e occa c r is is ." 1891, th e b a la n ce s su p p ly , banks, it in in T reasury g o ld p a id tu rn , had re g u la rly c e rtific a te s . a ll or m ost fu rn ish e d of le g a l se ttle d T h e re a fte r, such b a la n ce s ten d ers its u n fa v o ra b le b y way in in s te a d of le g a l of c le a r p ro te ctin g ten d ers. g o ld The c e r t if i c a t e s t o im p o r t e r s f o r cu sto m s p aym en ts t o t h e T r e a s u r y , and o b t a in e d g o ld b y d i r e c t re d e m p tio n o f le g a l te n d e r s a t th e T re a su ry in s te a d o f th ro u g h cle a rin g house b a la n ce s a g a in st it . t % 11. co n fid e n ce abroad to w here th e y w ere rency p rem iu m w h i c h e a rly in b a la n ce fore th e J u ly banks to siz e a b le a v a ila b le , a t A u gu st. in le a d a cco m p a n ie d The and b a rg a in ch ie f to p rice s . su sp e n s io n s re m a in in g A u gu st, resorted purchase and som e of ste rlin g of se cu ritie s A n oth er fa cto rs su sp e n sio n of in our m arkets, in flu e n ce was th e cu r by th e banks currency w ere a lo a n s paym en ts heavy fa v ora b le n e g o tia te d in trad e London be p a ym en ts. 1894 The th e re v iv a l repeal th at th e lo w e d cern a lso over The a th e A u gu st, im p o rts The g o ld th e end o f in exchange fo r g o ld . and th e g o ld w ere to th e in d e e d , T reasury th e au tu m n S Q ld year fa v o ra b le sold o f m on eta ry situ a tio n sh o rt-liv e d . in te n s ifie d of g o ld a th e th e It soon d e p re ss io n cla m o r. d e ficits The w h ich reserve. trad e about New Y o r k 1893 1894. was w ith The o n ly a net b a la n ce . In $ 5 5 ,0 0 0 ,0 0 0 . banks in w ere T reasury $ 5 0 ,0 0 0 ,0 0 0 r e lie f clo se d of th e January, The e x ce p tio n a lly was th e b a la n ce T reasury h o ld in g s our was over; heavy state in February th e a g a in not 1893 of A ct in fo llo w in g d e v e lo p e d w h ich f o l d e p re ss io n added to th e con L iq u id a tio n of A m erica n resum ed. in began was s u cce s s io n by co n fid e n ce P urchase p re ca rio u s g o ld | 6 6 ,0 0 0 ,0 0 0 S ilv e r o f was p u b lic. fo re ig n a g ita tio n crash in v e stm e n ts th e th e s ilv e r th e brought of o f A absorbed by co n tin u e d to situ a tio n was bond is su e tem porary. lo s s th e of so th e H eavy bond of banks d e clin e , acu te g o ld 1894 is su e and re a ch in g th at N ew Y o r k b a n k s $ 8 0 ,0 0 0 ,0 0 0 , sum m er second to th e of exports d e s p ite th e an T reasury $ 5 0 ,0 0 0 ,0 0 0 N ovem ber. 1895 By th e A lo a n of end o f January, $ 6 5 ,0 0 0 ,0 0 0 was th e T reasury arranged in g o ld February b a la n ce w ith a stood at b a n k e r 's $ 4 5 ,0 0 0 ,0 0 0 . sy n d ica te , * 12. by the terms of which a part of the proceeds were to be imported in gold from abroad and measures were to be taken to assist the Treasury to pro tect its gold stock. This procedure had been found necessary because the previous bond issues had been paid for in part by gold withdrawn from the Treasury for the purpose. The support of the syndicate propped up the Treasury gold balance un til late in the year, when the effects of continued gold exports ($70, 000,000 net for the year) proved too much. The balance slipped off badly in November and December. 1896 By the end of January the Treasury gold reserve was down to $50,000, 000. February saw another bond issue, this time for $100,000,000. proved to be the last for this purpose. It With the generous cooperation of the banks, whose gold holdings were allowed to remain relatively low, the Treasury was able to protect its position until the results of the national elections, coupled with heavy gold imports in September and October, re lieved the pressure on its reserve. For the year as a whole net gold im ports amounted to $46,000,000, reflecting chiefly an exceptionally heavy favorable balance of trade. DOMESTIC ALLOTMENT PLAN Analysis o f S. 4985, 72nd Congress, 1st session The object o f the domestic allotment plan is to give agricu l tural producers of export commodities the equivalent o f t a r i f f pro tectio n on that part of th eir production which is dom estically con sumed. As th is cannot be done by a t a r i f f imposed on imports into the country, an excise tax called a " t a r i f f adjustment charge" i s imposed on the domestic user (with certain minor exceptions) o f each commodity coming under the plan, and out of the proceeds an equivalent " t a r i f f b e n e fit" is paid to each agricu ltu ral producer who agrees to control h is production in accordance with the plan, on that proportion o f his to ta l production which corresponds to domestic consumption of the commodity. In general, therefore, farm commodities would continue to be sold in the world market at a world price under th is plan, but a fte r being sold a tax would be paid by processors on that portion which is dom estically consumed, the proceeds of the tax being d istr ib u t ed back to producers. Special provision is made against dumping abroad of any surplus resu ltin g from the operation of the plan. The plan i s not compulsory on producers and any producer not joining the plan may increase his production as he d esires. Sp ecific features of the general- plan are discussed by top ics below. Commodities affected The " t a r i f f adjustment charge" may under certain conditions be c o l lected from the domestic processor of any farm commodity on which a t a r i f f now e x ists and also on cotton, raw s ilk and rayon. The charge on raw s ilk and rayon would be applied only in event a sim ilar charge -2 - were placed on cotton and would have as i t s purpose the protection of the domestic manufacturer of cotton from competition of rayon and s ilk manu factu rers. D ifferent charges may be placed on d iffe re n t grades of the same general commodity. The plan also in stru cts the President to raise import duties on any manufactured imports which would have been subject to a t a r i f f adjustment charge i f domestically manufactured when such action is necessary to protect the domestic processor from increased competition because of the operation of the plan. Conditions under which plan may be invoked The plan could be invoked by the Federal Farm Board only on com modities which f u l f i l l e d the following conditions: A. The domestic price o f the commodity would have to be lower in re la tio n to i t s average price from 1910 to 1914 than was the Index oi Wholesale Commodity Prices computed by the Bureau of Labor S t a t is t ic s . B. This lower price would have to be ascribable to an excess o f domestic production over domestic consumption or to a volume of domestic production "otherwise unduly depressing the p r ic e ." The e ffe c t of the la s t provision on the l i s t of individual commodities to be included is not clea r. C. S ix ty per cent o f the domestic producers of the commodity, measured eith er in terms of number of producers or in terms of their average annual production, would have to sig n ify b^ vote, or otherwise indicate to the board, th eir w illingness to cooperate in carrying out the plan. No vote so taken would of i t s e l f impose any ob ligation on the producer. -3- ATnount of " t a r iff adjustment charge assessed" The charge assessed on the processor of any commodity to which the plan were applied would be determined as fo llo w s: A. I t could not exceed the import duty in e ffe c t upon that com modity at the time i t was assessed, or in the case of cotton, rayon or raw s ilk which carry no duty, 5 cents per pound. B. Within these lim ita tio n s i t should be as near as possible the amount necessary to make the average price to producers on that part of the product which is consumed domestically the same r e la tiv e to the aver age price of a l l commodities as prevailed on the average from 1910 to 1914. At the same time i t should not be so high as to raise the cost of the commodity to the domestic processor or manufacturer to a le v e l higher with re la tio n to other prices than prevailed on the average from 1910 to 1914. The Index o f Wholesale Commodity Prices compiled by the Bureau o f Labor S t a t is t ic s would be used as an indicator of changes in the average price of a l l commodities. Payment of t a r i f f adjustment charge by processor The t a r i f f adjustment charge would be paid by the manufacturer, pro cessor, or d istrib u to r, at the stage of manufacture, processing, or d is trib u tion at which, in the judgment o f the Federal Farm Board, i t could most conveniently be c o lle c te d . Provision is made in the b i l l fo r refund of the charge on goods destined fo r export. The board would have the power to reduce or eliminate the charge fo r portions o f the commodity when c o lle c tio n of the f u l l amount would prevent the "use of any commodity in the manufacture of any sp e cific low value product, and thereby reduce -4- consumption and increase the su rp lu s." No charge would be levied against coiranodities used fo r feeding liv esto ck or on any commodity processed or manufactured by producers "fo r consumption by th eir fa m ilie s, employees, or households, or by th e ir liv e s t o c k ." I t would be levied on a l l goods processed which came under the plan, imported commodities as w ell as those which were domestically produced. The sp ecific charge to be paid on any commodity would ordinarily be changed only at the end of each marketing year, such year to be determined by the board. Payment of t a r i f f benefit to producer The t a r i f f benefit would be paid to producers in proportion to their previous production i f they entered into and f u l f i l l e d an annual contract with the Federal Farm Board agreeing: A. Not to increase the acreage planted to the commodity benefitted, or, in the case of liv e sto c k , not to increase either the number fed or bred, the pounds of liv e sto ck sold , nor, i f required, the acreage of corn or other feed crops; and B. To reduce the acreage or pounds of liv esto ck sold , in any season by such amount up to 10 per cent as the board might sp ecify, and a lso , i f so required by the board, to put the land withheld from production into certain specified uses such as pasture, other grassland, summer fallow , crops fo r improving f e r t i l i t y or preventing erosion, e t c . , when in the opinion of the board such control o f land released from production were necessary to control other surpluses. In the case of liv e sto c k , the con tract might also r e s tr ic t acreage o f corn or other feed crops. -5Funds collected on silk and rayon would go into the Treasury as miscellaneous receipts and would not be paid out as t a r iff benefits. Administration of plan The general administration of the plan would be vested in the Fed eral Farm Board, but other agencies of government, both Federal and lo c a l, would also be called upon to share a ctiv e ly in the work. The main duties of each of these agencies are outlined below: A. Federal Farm Board 1. Take votes among affected producers (1) to ac quaint them with the advantages of the plan, (2) to ascertain the extent to which they would cooperate in carrying out the plan, (3) to secure other in formation necessary to carry out the plan, (4) to find out how many producers would sign contracts lim itin g production under the plan, and (5) to de termine the amount of reduction in production de sired by the producers. 2. Determine and impose the t a r i f f adjustment charges. 3. Determine the probable annual amount of any commodity upon which t a r i f f adjustment charges would be paid and a llo t th is amount among the s ta te s ; in the case of liv esto ck or liv esto ck •C products in proportion to the average production fo r sale during the past fiv e years; and in the case of crops in proportion to the average acreage planted during the past fiv e years, m ultiplied by the average yield per acre planted during the past twentyfiv e years. Enter into cooperative agreements with duly authorized State representatives fo r the formation of S tate, county, and lo ca l allotment committees. Repre sentation on these committees would be accorded so fa r as i s p ractical to producers, consumers, bankers, co operative marketing association s, and other dealers in commodities coming under the plan, and also to d i f f e r ent geographical regions. Enter into annual contracts with each producer joining the plan. These contracts would give to the producer the righ t to obtain t a r i f f b en efits in return for his agreement to lim it production. I f at the time the individual allotment were made the marketing year had advanced too far fo r a f u l l lim itation agreement the board would have power to modify the contracts to conform to th is situ a tio n . Producers accepting the plan would have the right to transfer or exchange a l lotments with other producers provided the to ta l a l lotment and to ta l acreage were not a ffe cte d . At the end of each marketing year determine and pay the t a r i f f ben efit to each producer f u l f i l l i n g -7- his contract. The to ta l paid any such producer could not exceed the sum of the adjustment charges on h is allotm ent. 7. E stab lish an arb itration committee to pass on appeals from allotm ents made to individual producers; the board would pass on county appeals d ir e c tly or e sta b lish an arb itration board fo r that purpose. The board would also be empowered to reallocate or transfer allotm ents when there had been a sale o f the land upon which such a l l o t ment was made or a change in tenancy, etc. 8. Reallocate allotm ents as between S ta te s, counties, e t c . , when in i t s opinion such rea llo ca tio n were neces sary to obtain a more equitable d istrib u tion of bene f i t s in vieY/ of readjustments in the geographical d is trib u tion of production, etc. Such re allocatio n would be made in the same manner as the origin al allotm ents, except that reductions in output already carried out by individual producers in accordance with the plan would be disregarded in making such reallotm ent. 9. Prescribe rules and regulations necessary to carry out various features of the plan. B. State allotment committees would be formed to a llo ca te the State allotment of any commodity as determined by the Federal Farm Board among counties; in the case o f liv esto ck on the basis of the average production -8- for sale during the past five years; and in the case of crops on the basis of average acreage planted during the past five years and the average yield per acre during the past ten years. They would also hear appeals from pro ducers on allotments made. C. County allotment committees would be formed 1. To determine the average production of producers during the past five years on the basis of information obtained (a) by questionnaire and inquiry among produc ers, (b) by publication of data so obtained and in vestigation of challenges of the accuracy thereof, and (c) by examination of elevator and gin records and other relevant data. 2. To allocate among producers the county allotment of any commodity certified to it by the State allotment committee. 3. To hold a copy of the contract entered into by producers with the Federal Farm Board. 4. To determine at the end of each marketing year which producers had fulfilled their contracts and were entitled to tariff adjustment benefits. 5. To pay such benefits upon receipt of funds from the Federal Farm Board through the State allotment com mittee. D. Local allotment committees would be formed to assist county com mittees in examining reports, hearing complaints, etc. • • -9- * E. U. S. Treasury 1. Cooperate with the Federal Farm Board in working out the procedure by which refunds would be made for tariff adjustment charges levied on goods processed or manufactured for export, and also to establish a system by which processors and manufacturers for ex port might avoid original payment of fee by posting a bond. 2. Establish conversion factors for determination of refunds, etc. F. Bureau of Internal Revenue 1. Collect and pay into the Treasury to the credit of the Federal Farm Board the tariff adjustment charges levied on domestic processors. G. Tariff Comission 1. Investigate and report to the President the amount of tariff duties which should be imposed on articles of foreign manufacture which compete with domestic articles subject to the tariff adjustment charge. Penalties Manufacturers or processors who failed to pay the tariff adjustment charge would be subject to a fine not to exceed $10,000 or imprisonment not to exceed two years, or both. Producers who failed to live up to their contract with the Federal Farm Board for control of production would lose their rights to tariff -1 0 - benefits under their contracts that year and for as many years thereafter as the board, on recommendation of the State and local allotment committees, might decide. 'aTrpenses of administration Expenses of the Federal Farm Board in administering the plan would be limited to 2-g- per cent of the receipts from tariff adjustment charges. Except for expert assistants all permanent employees of the Doard under the bill would be subject to Civil Service and the Classification Act of 1923. Ifembers of county and local allotment committees would serve with out compensation but would be paid travel and subsistence expenses not to exceed $5 per day. Authorization is made in the bill to pay members of State allotment committees #10 per day in addition to travel and subsist ence for time actually spent in the work of the committee. Should any part of the plan including the tariff adjustment charge be invalidated by a court decision, payments would still be made on con tracts outstanding with producers out of funds authorized in the bill. Minor stabilization operations Whenever it should appear that the collection of the tariff adjust ment charge from processors were likely to force increased quantities of the commodity into export, the Federal Farm Board would be authorized to enter the market and buy up the surplus, either diverting it to the pro duction of products of lower value or holding it for subsequent sale. In the following year, the contracts entered into by the board with producers of such commodities would be required to specify a reduction in acreage or A -11production sufficient to permit the disposal of the surplus without loss under average conditions. In no case could such holdings be retained by the board for more than two marketing years after purchase. Contracts as collateral Any producer would be allowed to borrow on his contract at a bank or credit corporation up to an amount not to exceed 90 per cent of his prob able tariff benefit for that year as estimated by the Federal Farm Board. The county allotment committee would have to be notified of such loans and the check for the benefit would be delivered to the producer through the creditor. No bank would be permitted to charge more than 6 per cent on such loans or to require any additional fee, and such loans would be elig ible for rediscount at the Federal reserve banks. Economics of plan The most questionable feature of the plan is the cumbersome admin istrative machinery which would be necessary. Whether contracts to limit production would be fulfilled or not would depend on the honesty of county committees whose decision on whether the contract had been fulfilled would be final unless the producer objected. There would be opportunity, there fore, for collusion between local producers and their local county com mittees. This would apply only to future limitation and not to the benefit paid, since the benefit would be based on a fixed allotment, and added out put achieved by increased acreage or by more intensive farming would sell at only the world price. The bill contains certain safeguards against large administrative costs; if the tariff adjustment charge were invali dated by a court decision, however, the loss to the Treasury that year -1 2 - might be large. The administrative power given to the Farm Board would be great and the possibilities of* discrimination numerous. The board would have the power, for example, to make effective a 5 cent tariff ad justment charge on cotton, which at the present time would almost double the price of cotton used by factories in the United States. Similarly, the price of wheat might be doubled if a 42 cent adjustment charge were imposed. sion. Such authority is larger than that given to the Tariff Commis Technically, it would be difficult for the board to avoid discrim ination in fixing tariff adjustment charges since they would have to de termine such interrelated matters as the proportion of the crop which would be domestically consumed, the effect of the charges on domestic consumption, and the effect of both of these factors in conjunction on world prices, which in themselves would reflect a wide variety of factors outside the United States. If, for example, meat consumers in this country should curtail consumption sharply as a result of advances in retail prices on account of the tariff adjustment, livestock prices at the farm might be lowered, offsetting in part at least the tariff benefit. If administrative difficulties did not prove insurmountable, this plan would appear to furnish a more feasible procedure for increasing farm income than the recent stabilization operations of the Farm Board. Both operations attempt to increase the income of certain groups of farmers at the expense of the consumer. The domestic allotment plan, however, has three distinct advantages over the stabilization operations hitherto attempted: (1) if it fails it does not saddle the loss on the Treasury (unless the failure is the result of a legal decision against -13the tariff adjustment charge); (2) it provides for export refunds to pro cessors so that American manufacturers are not excluded from the export market by reason of an increased domestic price for their raw materials, and (3) it provides a machinery for limiting production so that higher prices will not defeat themselves by increasing the domestic surplus. From a long run point of view, on the other hand, the plan has many features that are economically unsound. industry which is already overgrown. It would provide a subsidy for an This procedure may or may not be justified as relief in an emergency, but in the long run under some cir cumstances would operate to perpetuate an excessive potential productive capacity. It would also fail in the long run to control production since it applies only to the United States. In the case of cotton, for example, any higher world price which resulted from restriction of acreage in America under the plan would eventually stimulate production in Egypt, India, etc. This same difficulty was one of the important factors in eventually wrecking the Brazilian attempts to control the price of coffee. Brazil for a time controlled the world price of coffee, but could not pre vent the control from increasing the output of other countries. It would work against the most efficient use of our land resources. Acreage reduction would be as large proportionately on our best and most efficient land as on our poorest, with the result that land released from production would not consist in the main of marginal or submarginal land. It would also tend to perpetuate the present use of land and operate against those shifts of farm production from poorer land to land better adapted to new conditions which usually develop from decade to decade. Against those -14 - disadvantages, however, some weight should be given to the fact that it would tend to make the individual producer diversify his production by utilizing land released under the plan in the production of non-export commodities. It is possible, of course, that this might in turn create new surpluses. It would give present claimants on farm income a vested interest in a subsidy on part of their production. These vested interests, fur thermore, could be borrowed upon and transferred under certain conditions. Under these circumstances it might come about that operating producers would share less and less in the benefits of the plan. The right to cash in on the allotment, for example, might be sold or transferred in other ways to retired farmers or other non-producers, in which case the income of the actual producers would not be improved even though con sumers continued to pay a heavy subsidy. Finally, the choice of the period 1910 to 1914 as a base period seems highly questionable. The bill requires the Farm Board to raise within the limits of the tariff all individual agricultural prices that are now lower relative to other commodities than they were in that period up to that relative level. Prices of farm commodities not subject to tariff benefit, therefore, would be those which were higher than this relative level, and the net effect would be to establish a general level of agricultural prices that was higher relative to nonagricultural prices than the average level which prevailed from 1910 to 1914. To comprehend the real significance of this level it is only necessary to recall the fact that the period 1910-1914 was characterized by widespread urban -15- protest against the high cost of living. It is likely, consequently, that if the bill were successfully administered under present conditions of urban income, it would soon give rise to wide protests from urban wage earners. It makes no allowance whatever, furthermore, for the fact that the relative cost of production in the case of many agricultural commodities, notably wheat, has declined materially since the period 1910-1914. Since present prices of most agricultural commodities are extremely low on almost any basis of comparison with prices of other com modities, a strong argument can be made regarding the economic justifi cation of measures designed to lessen this discrepancy. There is no economic justification, however, for attempting to freeze permanently the price of an individual commodity at a fixed level with reference to other commodities, especially at a level prevailing twenty years earlier To do so ignores completely relative changes in efficiency, costs, geo graphical accessibility and the whole gamut of economic factors which on a stable general level of prices still require wide shifts in the prices of individual commodities. F o rm N o. 131 Office Correspondence To Governor Meyer._______ From __ Mr. Wyatt.___________ FEDERAL RESERVE BOARD Date December 7, 1932. S u b j e c t Questions of policy arising in the administration of Section 8 of the Clayton Act. •r o 2 — 8495 CONFIDENTIAL Dear Governor Meyer: For your convenience in connection with the consideration of the above subject as a special order of business at the Board meet ing on Friday, December 9, 1932, I am handing you herewith the follow ing documents: 1. Memorandum suggesting certain specific questions which should be decided in order to facilitate an orderly administra tion of the Clayton Act and suggesting for the Board*3 consid eration certain general principles which could be adopted for this purpose. 2. Copies of memoranda addressed to the Board under date of October 3 and 21 by Mr. Chase and the undersigned discussing the above subject. 3. Beport adopted by Federal Beserve Agents on this subject at their recent conference# 4. A memorandum by Mr. Chase regarding the problem of reviewing existing permits. 5# Section 8 of the Clayton Act as amended to date and the Board's Begulation regarding interlocking bank directorates# I believe it would be very helpful if you would read these documents in advance of the Board meeting on Friday• Papers attached COITFIDEiTTIAL Dec. 7, 1932 TO: The Federal Reserve Board EROI/I: Lir. Wyatt, General Counsel. SUBJECT: Questions of policy arising in the administration of Section 8 of the Clayton Act. I am advised "by Mr. Morrill that, at a meeting of the Execu tive Committee on December 2, 1932, it was decided to make the above subject a topic for discussion at a meeting of the Board to be held on December 9, 1932. It will be recalled that this subject was placed on the program for the recent Conference of Federal Reserve Agents; this of fice prepared two memoranda thereon dated October 3 and 21, 1932; and copies were furnished to all Federal Reserve Agents in advance of their conference. Q,UEST IPITS TO BE CONSIDERED. Eo rule of thumb or fixed formula can properly be adopted and regularly adhered to in the administration of the Clayton Act, since each case must necessarily depend upon its own facts; but, as indicated in the above memoranda, decisions by the Board on the fol lowing points would materially facilitate an orderly administration of the Clayton Act: 1. In passing upon applications for permission to serve two or more banks under the Clayton Act, will the Board: (a) Consider only the question whether interlock ing directorates may result in a restriction of credit or a substantial lessening of competition? or (b) Will the Board consider other questions affect- L-ll ~ 2 - ing the public interest and especially the question whether the applicant’s influence on such hank is likely to he detrimental or beneficial? 2. If the Board decides to consider only the possibility of a restriction of credit or a substantial lessening of competition, or if no other question is involved in the case, but it appears that the banks which the applicant desires to serve are in substantial competition, will the Board: (a) Grant the application in each case, unless it appears that there is more than a remote possibility that a substantial lessening of competition will result? or (b) Deny the application, unless tie applicant furnishes evidence sufficient to overcome the presump tion that an interlocking directorate between the banks will result in a lessening of competition or otherwise shews affirmatively a good reason why it would be in the public interest to grant his application? 3. If the Board decides to consider the question whether the applicant’s influence on the bank is likely to be detrimental or beneficial, will the Board: (a) Consider only such information as is contained in records of which it has actual or constructive notice — i.e., information in the records of the Board, the Fed- L— 1 1 - 3 - eral Reserve Agents and the Federal reserve hanks? or (h) Require the applicant, the Federal Reserve Agent and the Chief National Bank Examiner to answer a series of questions designed to disclose the prohahle cnaracter of the director*s influence and whether his record as a director is good or had? or (c) Cause an independent investigation to he made regarding the record of each person who applies to it for a permit under the Clayton Act? or (d) Adopt some other means for obtaining such information? 4. If the conditions are otherwise satisfactory, will the Board, as a general rule, refuse to grant additional permits for interlocking directorates when the hanks involved are already close ly knit with numerous other hanks in the same city hy a spider weh t . of interlocking directorates? 5. If the conditions are otherwise satisfactory, will the Board permit the parent hank of a chain or group of hanks to have interlocking directorates with the other hanks in the same group or chain? 6. Will the Board permit interlocking directorates between the parent bank of a branch banking system and independent unit banks located in cities in which the parent hank lias branches? 7* Will the Board undertake to review all outstanding permits for interlocking directorates under the Clayton Act period- L -ll - 4 - ically, in order to determine whether the public interest re quires their revocation? REPORT OP FEDERAL RESERVE AGENTS, ' During their recent conference, tie Federal Reserve Agents considered the memoranda which had been prepared "by this office and forwarded to them for their information, and they adopted the attached report. A careful analysis of this report fails to reveal any definite recommendation except that the Board’s regulation he amended so as to provide that, in passing upon applications under the Clayton Act, the Board will consider not only whether the banks involved are natural competitors and whether having the same officers, directors or employees will tend to lessen competition or restrict credit, hut also the following questions: ’’Purpose for which services are sought, nature of proposed influence and activity, relationships, competency, and any other facts having a hearing upon the interest of the public in such banks as affected by their having the same directors, officers, or employees.” G-EIJERAL PRIITCIPLES SUGGESTED FOR CONSIDERATION. I respectfully suggest that the Board consider the adoption of the following principles for its guidance in the administration of the Clayton Act: ■5- 1* L-ll In passing upon applications for permission to serve two or more banks under the provisions of the Clayton Act, the Board will consider not only the question whether such interlocking relationship niay result in a restriction of credit or a substantial lessening of competition, but also whether the applicants influence upon such banks is likely to be helpful or harmful to the banks. 2. HThere the banks involved are in substantial competition, this will be considered as raising a presumption that an interlocking relationship between them will result in a substantial lessening of competition; and the permit will not be granted unless the appli cant furnishes evidence sufficient to overcome this presumption or to show affirmatively why it would be in the public interest to make an exception in his case and peimit him to serve the banks in question. 3* If the banks are not in substantial competition, the Board will grant the application, unless it appears that the applicant’s influence upon the banks may be harmful to them or that it is other wise incompatible with the public interest for him to be permitted to serve such banks. 4. In determining whether or not the applicant’s influence is likely to be helpful or harmful to the banks involved, the Board will consider the following matters; (a) Hie condition and management of the banks with which he is already associated and the extent of his re sponsibility therefor; 1 -6— L-ll (b) Uhether the applicant discharges the duties and responsibilities of his office by attending directors* meetings or otherwise; (c) liThether the applicant has abused the credit facilities of the banks he is already serving - e. g #, whether the examiners have criticized loans to the applicant, his family or his interests as being excessive or unjustified for any other reason; and (d) Any other factors having a bearing upon the desira bility of the applicant as an officer, director or employee of two or more banks. 5* In order to pass upon these questions, the 3oard will require the Federal Reserve Agent to consult with the Chief National Bank Exam iner or tne State Banking authorities, to inspect the reports of exan>ination of tne banks which the applicant is already serving, to con sider any other information in the possession of the Federal reserve bank, to answer a series of questions on this subject, to express his opinion regarding the applicant, and to give a full statement of his reasons for such opinion, 6, Where the banks involved in an application are already closely knit with numerous other banks in the same city by a spider web of interlocking directorates, the 3oard will refuse to grant permits for additional interlocking directorates, unless it appears that the banks are not in substantial competition or that there is some other exceptional I reason why it would he in the public interest to grant the permit. 7* The 3oard will not deny interlocking directorates between members of the same chain or group of banks solely because they are members * f the same chain or group. 8. The Board will not pennit interlocking directorates be tween independent unit banks and a branch banking system or members of a chain or group of banks, unless it is clear that such banks are not in substantial competition or that there are exceptional circumstances which make it in the public interest to permit such interlocking di rectorates. 9. As soon as banking conditions are sufficiently settled to remove the danger that the revocation of existing permits and the resignation of directors from banks which they are now serving may be misunderstood by the public with harmful results to the banks in volved, the Board will adopt the practice of reviewing annually the outstanding Clayton Act permits, in order to determine whether the public interest requires their revocation either (a) immediately or (b) effective at the time of the next annual election of directors during the ensuing January. ATTACHED DOCPbOTTS. Bor the Board^s further information in this connection, there are attached hereto the following documents; 1. Copies of the two memoranda on the above subject ad dressee. to the Board by Hr, Chase and the undersigned under date of October 3, and 21, respectively. ~8~ 2, Ir-11 Copy of the report on this subject adopted by the recent Conference of Federal Reserve .Agents* 3, A memorandum by Mr. Chase regarding the problem of re viewing outstanding permits. 4, Copy of Soction 8 of the Clayton Act as amended and the Board’s Regulations regarding interlocking bank directorates under the Clayton Act. Respectfully, (S) Walter Wyatt General Counsel Papers attached Ip-1 2 December 7, 1932 TO: The Federal Reserve Board SUBJECT: The Problem of Reviewing Out- iiROM: Mr, Chase - Assistant Counsel standing Clayton Act permits. In connection with a possible review of the Clayton Act permits which have been granted by the Board the following information is sub mitted for the Board’s consideration. The records of this office show that over 6200 permits have been granted by the Board. It is not possible to tell from these records what permittees have ceased to avail themselves of the permission granted them,' since the Board is not usually advised of resignations, deaths, and other circumstances which terminate the permittee’s service. A review of the outstanding permits would involve the following steps, and possibly others, in connection with each permit granted by the Board: 1. To ascertain whether the permittee is still serving the banks, and in the same capacities, covered by the permit. 2* To ascertain whether the banks still come within the prohibi tions of the Act. 3. If the facts ascertained under the preceding paragraphs show tnat a permit is still necessary, a detailed investigation of the competi tive situation would be required, similar to the examination which is now made in connection with new applications to ascertain (a) whether the banks are in substantial competition, and (b) whether competition between banks involved has increased or decreased during the period when the applicant was serving them. 4. The investigation contemplated in the preceding paragraph should, of course, include current statements of the banks mvcivei, analyses and L-*l2 - 2 other current information shoeing the character of their business, the location of any branches and other facts which might affect their competitive situation with regard to other banks involved in the permit. 5. If it is found that the competition has decreased during this period, it would be necessary to males a further investigation to ascertain whether the existence of the permit had in any way contributed to the result. 6. To ascertain whether there are any other reasons why the puolic interest would be served, or would not be served, by revoking the outstanding permit. Ill this connection, it would be necessary to ascertain whether chere were any facts, aside from the question of competition between the institutions involved, which would affect the judgment of the Board in deciding whether it ,,,ould be in the public interest to revoke or continue the permit. 7. If, after ascertaining the above facts, the Board felt that the permit should be revoked, the applicant should then be afforded oppor tunity for a hearing by the Board to present any further evidence which might be relevant. PREVIOUS REVIEWS OF CLAYTON ACT PERMITS. Under date of November 19, 1919, (X-1728), the Board wrote to each Federal Reserve Agent requesting him to submit a list of all member banks in his district for which interlocking directorships had been authorized and which, owing to changed Ir -1 2 conditions, might be regarded as having since come into competition. In response to this letter, reports were received from the several agents listing directors and banks in their districts, but it was decided to postpone any action until the fall of 1920, Under date of November 22, 1920, the Board wrote a letter to each Federal Reserve .Agent requesting him to review all outstanding permits and report to the 3oard. !Ihe letter requested the Agent to maira a general survey, and to report Mall cases where such interlocking bank directorates have been permitted and where there is a possibility that substantial competition exists at the present time between the banks involved11. It stated that the argument had been made that in cases where banks are not large enough to exercise any control over the supply of credit in their communities they cannot be regarded as within the prohibitions oj. the Act, out that the Board did not agree with this view. It explained that the Board did not mean to imply by this letter that, where competition was found to exist, the permit would be revoked in every instance. In conclusion, it stated that (in most cases) the report made in response to the circular letter dated November 19, 1919 (X-1728) was in satisfactory form and that the same form could be followed. Accompanying this letter was a form letter of the same date, X-2067, containing a questionnaire to be followed in reporting on each case. In response to this letter full reports were received from the Agents, The matter was held under consideration, and in a circular letter dated December 21, 1922 (X-3603), the Board stated that it had decided not to revoke any permits in cases where competition had increased since the % % “4- L-12 gianting of the permit, for the reason that such cases do not appear to ■be a violation of the spirit and purpose of the Act. Thereafter the question was raised whether it was consistent for the Board in sucn cases to permit directors to continue to serve but to refuse all further applications involving the same banks. In a circular letter dated November 28, 1923 (X-3899), all Federal Reserve Agents were accordingly asked to make a comprehensive review of all the interlocking directorates in their respective districts so as to inform the Board whether the Act was being complied with, particularly with reference to cases where competition hacs. come into existence since the granting of the permit. The replies to this letter which were received from the Agents were reviewed in a memorandum of Counsel dated December 12, 1923, which stated that there were relatively few cases where competition had grown up since the granting of the permit! that, after a careful investigation, the Board had previously decided (X-3603) not to revoke outstanding per mits in cases where competition had grown up since they were granted, because that would be contrary to the spirit and purpose of the Act; that, on the other hand, such permits ought to be revoked where it appeared that they were resulting in the stifling of competition; and concluded by recommending that the policy expressed in X—3603 should be continued. This view was adopted by the Board. Respectfully, (S) C. Howland Chase, Assistant Counsel. FEDERAL RESERVE BOARD INTERLOCKING BANK DIRECTORATES UNDER THE CLAYTON ACT T SECTION 8 OF THE CLAYTON ACT AND REGULATION L This Regulation as printed herewith is in the form as amended May 14,1930 UNITED STATES GOVERNM ENT PRINTING OFFICE W A SH IN G T O N : 1930 REGULATION L, SERIES OF 1930 (Superseding Regulation L, Second Series of 1928) INTERLOCKING BANK DIRECTORATES UNDER THE CLAYTON ACT S E C T IO N I. D E F IN IT IO N S Within the meaning of this regulation— The term “ bank” shall include any bank, banking association, or trust company organized or operating under the laws of the United States or of any State thereof. The term “ national bank” shall be construed to apply not only to national banking associations but also to banks, banking associations, and trust companies organized or operating under the laws of the United States, including all banks and trust companies doing business in the District of Columbia, regardless of the sources of their charters. The term “ resources” shall be construed to mean an amount equal to the sum of the deposits, capital, surplus, and undivided profits. The term “ State bank” shall include any bank, banking associa tion, or trust company incorporated under State law. The term “ private banker” shall apply to any unincorporated individual engaging in one or more phases of the banking business as th at term is generally understood and to any member of an unincor porated firm engaging in such business. The term “ Edge corporation” shall mean any corporation organ ized under the provisions of section 25 (a) of the Federal reserve act, as amended. The term “ city of over 200,000 inhabitants” includes any city, incorporated town, or village of more than 200,000 inhabitants, as shown by the last preceding decennial census of the United States. Any bank located anywhere within the corporate limits of such city is located in a city of over 200,000 inhabitants within the meaning of the Clayton Act, even though it is located in a suburb or an outlying district at some distance from the principal part of the city. S E C T IO N II. P R O H IB IT IO N S OF CLAYTON ACT Under section 8 of the Clayton Antitrust Act— (1) No person who is a director or other officer or employee of a national bank having resources aggregating more than $5,000,000 can legally serve at the same time as director, officer, or employee of any other national bank, regardless of its location. 115332°—30 (1 ) 2 8 (2) No person who is a director in a State bank or trust com pany having resources aggregating more than $5,000,000 or who is a private banker having resources aggregating more than $5,000,000 can legally serve at the same time as director of any national bank, regardless of its location. (3) No person can legally be a director, officer, or employee of a national bank located in a city of more than 200,000 inhabit ants who is at the same time a private banker in the same city or a director, officer, or employee of any other bank (State or national) located in the same city, regardless of the size of such bank. The eligibility of a director, officer, or employee under the fore going provisions is determined by the average amount of deposits, capital, surplus, and undivided profits as shown in the official state ments of such bank, banking association, or trust company filed as provided by law during the fiscal year next preceding the date set for the annual election of directors, and when a director, officer, or employee has been elected or selected in accordance with the pro visions of the Clayton Act it is lawful for him to continue as such for one year thereafter under said election or employment. When any person elected or chosen as a director, officer, or employee of any bank is eligible at the time of his election or selec tion to act for such bank in such capacity his eligibility to act in such capacity is not affected by reason of any change in the affairs of such bank from whatsoever cause until the expiration of one year from the date of his election or employment. S E C T IO N III. E X C E P T IO N S The provisions of section 8 of the Clayton Act— (1) Do not apply to mutual savings banks not having a capital stock represented by shares. (2) Do not apply to joint-stock land banks organized under the provisions of the Federal farm loan act. (3) Do not apply to banking institutions which do no com mercial banking business. (4) Do not prohibit a person from being at the same time a director, officer, or employee of a national bank and not more than one other national bank, State bank, or trust company, where the entire capital stock of one is owned by the stock holders of the other. (5) Do not prohibit a person from being at the same time a class A director of a Federal reserve bank and also an officer or director, or both an officer and a director, in one member bank. (6) Do not prohibit a person who is serving as director, officer, or employee of a national bank, even though it has resources aggregating over $5,000,000, from serving at the same time as director, officer, or employee of any number of State banks and trust companies, provided such State institutions are not located in the same city of over 200,000 inhabitants as the national bank and do not have resources aggregating in the case of any one bank more than $5,000,000. (7) Do not prohibit a person from serving at the same time as director, officer, or employee of any number of national banks, provided no two of them are located in the same city of over 200,000 inhabitants and no one of them has resources aggregating over $5,000,000. (8) Do not prohibit a person who is not a director, officer, or employee of any national bank from serving at the same time as officer, director, or employee of any number of State banks or trust companies, regardless of their locations and resources. (9) Do not prohibit a person who is an officer or employee but not a director of a State bank from serving as director, officer, or employee of a national bank, even though either or both of such banks have resources aggregating over $5,000,000, provided both banks are not located in the same city of over 200,000 inhabitants. (10) Do not prohibit a person who is an officer or employee but not a director of a national bank from serving at the same time as director, officer, or employee of a State bank, even though either or both of such banks have resources aggregating over $5,000,000, provided both banks are not located in the same city of over 200,000 inhabitants. (11) Do not prohibit a private banker or an officer, director, or employee of any bank or a class A director of a Federal reserve bank from being at the same time an officer, director, or employee of not more than two other banks within the prohibitions of the Clayton Act, if there is in force a permit therefor issued by the Federal Reserve Board. Exceptions cumulative.—ffhe above exceptions are cumulative. S E C T IO N I V . P E R M I S S I O N O F T H E F E D E R A L RESER VE BOARD (a) In general. Section 8 of the Clayton Antitrust Act, as amended by the acts of May 15, 1916, May 26, 1920, and March 9, 1928, authorizes the hederal Reserve Board to permit any private banker or any officer, director, or employee of any bank, banking association, or trust company, or any class A director of a Federal reserve bank to serve as director, officer, or employee of not more than two other 5 4 banks, banking associations, or trust companies coming within the prohibitions of the Clayton Act, if in the judgment of the Federal Reserve Board it is not incompatible with the public interest. (6) When obtained.—Inasmuch as this exception to the prohibitions of the Clayton Act applies only when “ there is in force a permit therefor issued by the Federal Reserve Board,” it is a violation of the law to serve two or more banks in the prohibited classes before such a permit has been obtained. A permit should be obtained, therefore, before becoming an officer, director, or employee of more than one bank in the prohibited classes. I t may be procured before the person applying therefor has been elected as director or appointed an officer or employee of any bank in the prohibited classes. (c) Applications for permission.—A person wishing to obtain a permit from the Federal Reserve Board to serve banks coming within the prohibitions of the Clayton Act should— (1) Make formal application on F. R. B. Form 94, or, if a private banker, on F. R. B. Form 94d. Each of these forms is made a part of this regulation. (2) Obtain from each of the banks involved a statement on F. R. B. Form 94a, which is made a part of this regulation, showing the character of its business, together with a copy of its last published statement of condition, and, if a private banker, make a statement on F. R. B. Form 94e showing the character of his or his firm’s business. (3) Forward all these papers to the Federal reserve agent of his district, who will attach his recommendation on F. R. B. Form 94b, which is made a part of this regulation, and forward them in due course to the Federal Reserve Board. ((d) Compatibility with the public interest.—In determining whether the issuance of such a permit would be compatible with the public interest, the Federal Reserve Board will consider— (1) Whether the banks involved are natural competitors; (2) Whether their having the same directors, officers, or em ployees would tend to lessen competition or to restrict credit; and (3) Any other facts having a bearing upon the interest of the public in such banks as affected by their having the same directors, officers, or employees. ( e) Approval or disapproval.—As soon as an application is acted upon by the board, the applicant will be advised of the action taken. If the board approves the application, a formal permit to serve on the banks involved will be issued to the applicant. (J) Hearing.—If it appears to the board that it would be incompati ble with the public interest to grant such permit, the board will so notify the applicant and will afford him every opportunity to present any additional facts or arguments bearing on the subject before mak ing any final decision in the case. ( g) Effect of permits.—A permit once granted continues in force until revoked, and need not be renewed. (li) Revocation.—All permits, however, are subject to revocation whenever the Federal Reserve Board, after giving reasonable notice to the persons to whom they were issued and affording them an oppor tunity to be heard, finds that the public interest requires their revocation. S E C T IO N V. P E R M IT S UNDER S E C T IO N RESERVE 25 OF THE FEDERAL ACT With the approval of the Federal Reserve Board, any director, officer, or employee of a member bank which has invested in the stock of any corporation principally engaged in international or foreign banking or financial operations or banking in a dependency or insular possession of the United States, under the provisions of section 25 of the Federal reserve act, may serve as director, officer, or employee of any such foreign bank or financial corporation. Applications for approval.—The approval of the Federal Reserve Board for such interlocking directorates may be obtained through an informal application in the form of a letter addressed to the Federal Reserve Board either by the officer, director, or employee involved, or in his behalf by one of the banks which he is serving. Such application should be sent directly to the Federal Reserve Board. S E C T IO N V I . P E R M IT S T O S E R V E E D G E C O R P O R A T IO N S With the approval of the Federal Reserve Board— (1) Any officer, director, or employee of any member bank may serve at the same time as director, officer, or employee of any Edge corporation in whose capital stock the member bank shall have invested. (2) Any officer, director, or employee of any Edge corpora tion may serve at the same time as officer, director, or employee of any other corporation in whose capital stock such Edge cor poration shall have invested under the provisions of the Edge Act. Applications for approval.—Such approval may be obtained through an informal application in the form of a letter addressed to the Federal Reserve Board either by the director, officer, or employee involved, or in his behalf by one of the banks or corporations in volved. Such applications should be sent directly to the Federal Reserve Board. t 7 SECTION 8 OF THE CLAYTON ANTITRUST ACT, APPROVED OCTOBER 15, 1914, AS AMENDED BY THE ACTS OF MAY 15, 1916, MAY 26, 1920, MARCH 9, 1928, AND MARCH 2,19291 Sec .8. That from and after two years from the date of the approval of this Act no person shall at the same time be a director or other officer or employee of more than one bank, banking association, or trust company organized or operating under the laws of the United States, either of which has deposits, capital, surplus, and undivided profits aggregating more than $5,000,000; and no private banker or person who is a director in any bank or trust company organ ized and operating under the laws of a State, having deposits, capital, surplus, and undivided profits aggregating more than $5,000,000, shall be eligible to be a director in any bank or banking association organized or operating under the laws of the United States. The eligibility of a director, officer, or employee under the foregoing pro visions shall be determined by the average amount of deposits, capital, surplus, and undivided profits as shown in the official statements of such bank, banking association, or trust company filed as provided by law during the fiscal year next preceding the date set for the annual election of directors, and when a director, officer, or employee has been elected or selected in accordance with the provisions of this Act it shall be lawful for him to continue as such for one year there after under said election or employment. No bank, banking association, or trust company organized or oper ating under the laws of the United States, in any city or incorporated town or village of more than two hundred thousand inhabitants, as shown by the last preceding decennial census of the United States, shall have as a director or other officer or employee any private banker or any director or other officer or employee of any other bank, banking association, or trust company located in the same place* Provided, That nothing in this section shall apply to mutual savings banks not having a capital stock represented by shares, to joint-stock land banks organized under the provisions of the Federal Farm Loan Act, or to other banking institutions which do no commercial banking business: Providedjurther, That a director or other officer or employee of such bank, banking association, or trust company may be a direc tor or other officer or employee of not more than one other bank or J Amended by sec. 25 of the Federal reserve act as amended Sept. 7,1916, and by act approved Dec. 24 1919, amending the Federal reserve act, as to corporations engaged in foreign banking and financial operations. See secs. 25 and 25 (a) of Federal reserve act. uuanciai (6) trust company organized under the laws of the United States or any State where the entire capital stock of one is owned by stockholders in the other: And provided jurther, That nothing contained in this section shall forbid a director of class A of a Federal reserve bank, as defined in the Federal Reserve Act, from being an officer or director, or both an officer and director, in one member bank: And provided jurther, That nothing in this Act shall prohibit any private banker from being an officer, director, or employee of not more than two banks, banking associations, or trust companies, or prohibit any officer, director, or employee of any bank, banking association, or trust company, or any class A director of a Federal reserve bank, from being an officer, director, or employee of not more than two other banks, banking associations, or trust companies, whether organized under the laws of the United States or any State, if in any such case there is in force a perm it therefor issued by the Federal Reserve Board; and the Federal Reserve Board is authorized to issue such permit if in its judgment it is not incompatible with the public interest, and to revoke any such permit whenever it finds, after reasonable notice and opportunity to be heard, that the public interest requires its revocation. The consent of the Federal Reserve Board may be procured be fore the person applying therefor has been elected as a class A direc tor of a Federal reserve bank or as a director of any member bank. When any person elected or chosen as a director or officer or selected as an employee of any bank or other corporation subject to the provisions of this Act is eligible at the time of his election or selection to act for such bank or other corporation in such capacity his eligibility to act in such capacity shall not be affected and he shall not become or be deemed amenable to any of the provisions hereof by reason of any change in the affairs of such bank or other corpo ration from whatsoever cause, whether specifically, excepted by any of the provisions hereof or not, until the expiration of one year from the date of his election or employment. o F o r m N o . 181 I attach a carbon copy of nA Proposal for Mortgages Based on 'Capacity to Pay'” which was prepared for Mr. Magee by Mr. Riefler and Mr. Garfield. DEC W 1932 Payments in kind Mr. Magee Mr. Garfield Preliminary investigation of payments in kind at prices above market showed that relatively little of this exists at the moment, although re ports of barter are received from widely scattered localities. The seed loan plan was designed to relieve cotton farmers who had mortgaged their whole crop to obtain seed loans last spring. The arrangement was that if the farmer did not wish to pay his loan he could deliver cotton to approved warehouses or to cooperatives in an amount sufficient to cover his loan, figuring the cotton at 9 cents a pound (9^ cents in certain areas), and be allowed to do whatever he pleased with the rest of his crop. is, however, liable for the full amount of his loan. The farmer If the cotton sells for more than 9 cents (or 9g) a pound, the farmer gets the difference; if for less, he must pay the balance. The crop production loan office has agreed this year not to sell the cotton pledged before Inarch 1, 1933; after that the decision depends on the Secretary. At the present time about 378,000 bales are held under similar arrangements prevailing before and it ia anticipated that perhaps 600,000 bales of this year’s crop will be held under this arrangement. This is about 5 per cent of the crop. The International Harvester plan was essentially an extension of the practice whereby more is paid "in trade" than in cash. It applied only to a part of the payments on orders for large units of machinery. The company is reliably reported to be satisfied with the working of the plan. Deere Company also made similar arrangements. Universities have accepted commodities in payment of tuition in certain cases. The -2" Tne problem® involved in tax paymenta and in mortgage payment*, howaver, are aomewhat different mud these are diaouseed in the course of the accompanying raoiTioranduss relating to a propanol worked out by S5r. M e f l e r for mortgagee baaed on ’capacity to pay* r 'ins g e n o m l situation with re d a c t to f a m income, expenditures and indebtedness is diercueeed in a sup plementary wieEjorand m:-• There is aom© di souse Ion of the tax cituistion tn that m emor a n d m , and tiuere ia additional information on land tax delin quency in a release of the Jepertment of *t&riculturef whioi ic attached# Thank you for the saateriel on the .iomeatic allotment plan; our neittoraBduni on what waa t.;«n the current proposal went over before thet KGterial was received. TH G gcw I A PKOPOfAL FOR MOKTGAG3S BA£2L OK "CAPACITY TO PAY" Farm income has shown a largo decline in each of the three years since 1929, and the payment of fixed obligations of farmers has become in cre a sin g ly difficult* In addition to operating costs and tax tills, which ell farmers hove to pay, 40 per cent of the farmers here payments to make on mortgages. At the present time a large number of farmers ere not meeting these payments, as is shown by confidential figures from the P a m Loan Board. On October 31, payments on 40 per cent .of the Federal land Bank mortgages outstanding were delinquent or extended and these mortgages represented 47 per cent of the total in terms of dollar value, fines the end of 1929 the proportion ha* doubled each year— 6.5 per cent in 1929, 11.6 per cent in 1930, 26.1 per cent in 1951, and 47.4per cent at the end of October 1932. Special difficulties have resulted from: re newals of mortgages made by other agencies in past years for thort periods and without provision for amortization. These problems have been serious not only for the farmers with mortgagee on their f a m e , but also to their creditors and to the various divisions of the Government that depend on the collection of taxes. Adjustment to the immediate pressing problem of foreclosure has been made in certain instances by creditors who were will ing to compromise rather than to take over and operate farms, of the Federal Land to debtors. B anka me capital has been increased, partly to permit extensions Local taxes have been reduced. Freight rate reduction® pre sumably under consideration by the Coolidge cooatittee may eventually af ford some relief to outlying areas. Adjustments all along the line, how ever, have been slow relative to the decline in income, and there le wide spread demand for immediate relief, particularly from high taxes and -p - mortgage payments. A rise in prices of farm oomooditie* would facilitate the payment of mortgage obligations for the farmers, but prices are not rising* Possible increases to be achieved through the domestic allotment plan, diseuH&ed In a recent meriorandum, are In the future. In vie* of the current price situation, various proposal* are being urged to extend re lief to farm debtors through such devices ae moretorla, sealing down of obligations, and payments In kind* The "plan to relieve agriculture by the acceptance of payment in kind for obligations, debts and taxes" le a proposal to accept commodities at above their present market price in payment of obligations* Governments and mortgage holder* *ould be as^od to accept payment in non-perishable commodities at prices to be determined by the Department of Agriculture and then to hold the cosmodlties until better prices prevailed* holding operations, themselves, are expected to raise prices. These A rise In prices for these commodities as a consequence of the operation of this plan would depend on the success of a holding movement conducted by a large number of separate governmental and private units; when these hold er* begin to sell, this would tend to depress prices. This plan presents a problem for looal governments, which collect the bulk of the taxes, since they are obliged to make payment* in cash for various services ae well as for interest on outstanding Indebtedness, and since they have no other souroe of Income* TJhile they could borrow on non-porisheble prod ucts, they could do so only on the basis of market prices* The chief purpose of this proposal for payment In kind Is to prevent the loss of their farms by farmers whose income has b«cn sharply reduced. A modification of this plan through mortgage payments based on "capacity to pay" is described below* Thin plan would be applicable to all farcere that are unable to meet their mortgage obligation* in dollars, regardless of whether their products 'were perishable cr not, and would not involve the holding of stools of cocEodities by different governmental unite and othor creditors. Heed for relief on mortgage paygantg l&ilo the need of adjustment of mortgage paymente to reduce far» in comes is apparent everywhere, the problems of s debtors are much isore serious than those of others, and relief or adjustment should be in propor tion to the neod rather then u n i f o r m for all debtors, ~uch adjustments must be accepted by a wide variety of creditors who would be affected by any plan of adjustment; but creditors are showing s growing disposition to make adjustments wherever possible without loreclosuro, anti It -*ai be feasible to work the problem out through mutual agreements. ’’Capacity to pay' farm mortgages The "capacity to pay" farm mortgages are designed to provide current relief to the debtor with no lose in principal to the creditor and a miniaaim of loss of interest over the life of the mortgage as a whole. It is not suggested that all fai» mortgagee be refunded into theoe » ortgages. It is proposed to a p p ly only to those creditors on defaulted liana who have decided that it would involve less loss to arrange a comprasiee with the present owners than to take posse sc ion of the property. The plan would work as follows: A"capacity to pay" refunding farm mortgage would be substituted for the present mortgage at its full face value. The new mortgage would have A no definite due date, however, the contract regaining outstanding until paid off in full In accordance with the terms of the agreement. There would be no reduction in the principal of the loan, consequently, and insurance companies, 4* m o rtg a g e th e y * banks# *e r® The o f th e or o f h ie o th e r le a d in g ; th a t lo a n th e to w ith o f p ro d u c t** u n u su al w o u ld in o f lo s s p r ic e th e o f be on th e p r in c ip a l am ount d o lla r r e q u ir e d c o n d itio n s # o f a m o r t is a t io n le a d in g f lu c t u a t e y e a r a and f ix e d th a t bo th u s a p a y m e n t w o u ld c lim a t ic ia e r e a a e each w o u ld The a in t e r e s t v a lu e w o u ld w h ic h ta k e i f m a t u r it y * c ro p , th e d e b to r to b o th m a rk e t s p e c if ie d th e am ount e x c e p t u n d er m e a t# be f lu c t u a t e th e th e n o t have p a y m e n t c o v e r in g m a rk e t** p a y m e n t, w o u ld b o ld w o u ld som a w e a ld a g re e d to an n u al d e b to r c o tto n a s x it e a b le e tc *# w ith n o t a ; id fa ro changes th e an in h is asd th re e an n u al th e p a y in aoney m a rk e t c a p a c it y c r e d it o r p r o s p e r it y o f o r s o s m o d lt le s s ta k e exceed w heat v a lu e fa ru to o f r e q u ir e d w o u ld to p r ic e pay# r e c e iv e d e c lin e in p a y * y e a rs o f d e p r e s s io n * O a © * h a lf p r in c ip a l in te r n e t o f o f on on th e md th e th a t p ro d u c ts a v e ra g e o f le a s * p a rt o f p a r tic u la r o v er o f on w h e a t# Land B ank m o rtg a g e c e n t e q u iv a le n t th e fo r o r c e n tra l an p a id each h a lf w o u ld lo a n th a t w as be fa rm te n a #000 m o rtg a g e ) 75 th e s e b u s h e ls c a r r ie s o f In th e in an o f an has th e s e e a r lie r to in 300 f u ll w ays th e th e |60 w it;; o f a 5 ;* s y l o g w hen of o f o f c o tto n p e r on cent th e w h e a t# p r ic e s ' o f e x a m p le , (fo r in te r e s t ab o u t 50 th e o ld cen F e d e ra l in t e r e s t a v e ra g e c o rn # w e re b a s is in te n -y e a r o f am ount F o r e q u iv a le n t pound* a s a o u n tc y e a rs The on th e paym ent re c e n t y e a rs # c h a rg e bean re d u c e o u t s t a n d in g * fa rm e r# an n u al used c o n s id e r e d v a r io u s been o r The be an n u al paym ent o f has co m # c o n s e q u e n tly # a n n u a l d e liv e r y m a rk e ts # y e a ro , c o s a o d it ie a * w h ic h he c o m m o d itie s p e s t w o u ld s t ill d e te r m in e d th e f l y e a r o th e r c o u ld a m o r t is a t io n # of 120 th e p r ic e ® m a rk e ts In o f p a id a m o r t is a t io n p e r The be tr a l 1 m o u n t to a v e ra g e b u s h e ls th e o r h ig h and th e c o tto n he p a id 5* aa fc a o u n t e q u iv a le n t a a il/ lo w am ount o f I f th e p r ic e s h is t h is w c u ld be in s p e c if ie d c o rn , o r 300 o r a I f a n a -h a lf o f th e r e m a in in g th e e ffe c t th e c o m m o d ity th e re d u c e d o f t h is h a lf and d iffe r e n t chosen fa rm i t w o u ld c o n tra c t, p r ic e s w o u ld t ir e m e n t th e p r in c ip a l a g r ic u lt u r e w o u ld c ip a l o f p r o b a b ly be m ay does r e c e iv e th e lo a n a v e ra g e f e a s ib le The re a s o n w o u ld o u t fo r a c e r ta in fo r each re c e n t y e a rs to a v e iy be b e tte r th e re d u c e d o lla r w o u ld o f ffb n o r- such la r g e r p ay* m o rtg a g e , &&*» in th e lo w p re s e n t fo r to be soon a r e t ir e re d u c e d , b r ig h t , th a t in he u n d er f a ll, m o u ld som e o f th e in th e th e $ i f p e r io d as p la n and o th e r fa ra th e e x is t in g u n d er p a s t as be w o u ld th a t c r e d it o r o f be p r ic e s c o n tra c t. p la n s te n r is e fo r l« a ? - t im e a re th e o f a ls o re c e s c m ry p r o b a b ilit ie s h o w e v e r, p r ic e s in t e r e s t p r in c ip a l and p r in c ip a l, p ro p o s e d th e m o rtg a g e . in te r e s t, p a y m e n t w o u ld U a e , o f c o m m o d ity , th e I f an n u al th e o th e r o f cash b u s h e ls f o llo w s * as th e 75 th e Tna— m b th e to am ount o f u n d er b u t o r paym ent fu tu re th e in c r e a s e d be as lo n g e q u a l w h e a t, f u ll be avem g e th a n a s s ig n in g th e to p r in c ip a l a th e r e p a id o f $ 1 ,0 0 0 and in te r e s t a n o in t am ount o f as to o an b u s h e ls r e t ir e d w o u ld ^ c a p a c it y c o n s id e r e d lo n g e r n o t lo o k le s s a t o r th e w o u ld a pay 50 r c a a ta ta k e to c o n d itio n © be in to e a y , to a v e ra g e d in t e r e s t o f o f, used th e it o r in e q u iv a le n t re fu n d e d a m o u n t w e re m a t e r ia lly , o f w h e re a s been a n n u a lly c o tto n , w e re e x is t in g be c o m m o d itie s , m o rtg a g e i f s h o u ld m a rk e t* o f u n d er th e sam e) t h in , have r e q u ir e d pounds c o m b in a t io n th e th a n p & y a e n ts m o rtg a g e p r ic e u n d er le a d p ro d u c ts . d e b to r y e a rs , to re fu tu re th e c re d The p r in w o u ld c o m p r o m is e th a t t im e . o n e - h a lf o f each an n u al paym ent to r e t ir e m e n t the plan o f p r in c ip a l k * v a r ie d . cen t is and In o n e - h a lf th e s u f f ic ie n t p re s e n t to to paym ent o f F a rm a v e ra g e 5 Land p e r in te r e s t B ank c e n t is m o rtg a g e s on th e p a r tly an t e c h n ic a l annual p r in c ip a l and a n d /m ig h t paym ent o f a ls o to 6 p e r a m o r t is e -6 - the mortgage in about 30 v ^ r e . fixed in dollar amounts, When interest and principal ere both it is possible to sat this transaction up on a regular interest basis, most of the equal annual payments going to in terest in the earlier year® and most to retirement of principal in the later years. The sarce mortgege would fce fully retired in the sac:® num ber of years with the sere annual payment if one-fcalf of the annual pay ment were credited to the principal and one-half to interest; the only difference would bo that if the boofrB were net up that way the interest rate paid during the first years of the loan would appear to be very s m l 1 while in the later years of the loan it would appear to be very large. Under the proposed capacity to pay Kiortgage# the full amount o f the principal ia to be repaid and the compromise is to be confined to the payment of interest each year. In these circumstances, it would be simpler to credit one-half of the annual payment to principal and onehalf to interest; if conditions in the next twenty years should be the sa e, on the average, as in the post ten years, this would worfc out in about the earns manner in the end as an annual interest charge of 6 per cent on the face value of the mortgage, of whloh a progressively smaller part was absorbed by a 5 per cent interest charge on the principal and the r e m i n d e r waa credited to amortisation. The proposed method would have the advantage from the debtor’s point of view that in poor years, even though payments in dollar value would be small, there woul;; still be e reduction in the principal of his debt. CBAHGS3 IN TARA IN <3013, ttFKNDITtSSS, IiJDSBTSDHESS AND TAXES Decline in farm income Gross income of farms, including products consumed in farm households, is estimated by the Department of Agriculture at 5.2 billion dollars in 1932 which is less than 1/2 the amount re ceived in the years 1924 to 1929, when income ranged from llg 12 billion dollars. The course of incoxae in postwar years is shown below: GROSS IHBQfcE PROM PARA BSODOCTIGH (In billions of dollars) 1919 1920 1921 1922 1923 1924 1925 p 16.9 13.6 8.9 9.9 11.0 11.3 12.0 1926 1927 1928 1929 1930 1931 1932 11.5 11.6 11.7 12.0 9.4 7.0 p 5.2 preliminary The decline since 1929 has ranged from 44 per cent for producers of vegetables, fruit and nuts to 71 per cent for ootton growers, and the average reduction has been 56 per cent. Further details are shown in the accompanying table. -2 • G R O SS INCOME V B fM FARM PRO D U CTIO N B * GROUPS OF C O M M O D ITIE S (In millions of dollars) 1929 193Z 1/ i Change i (in per cent) 1,389 397 - 71 99 30 - 70 Grains 1,288 391 - 70 Cattle, bogs and eheep 2,807 1,122 - 60 11,950 5,240 - 36 Poultry and eggs 1,254 608 - 52 Dairy products 2,323 1,180 • 49 952 483 • 49 1,123 532 - 44 715 397 - 44 1 l Cotton and cottonseed Wool Total crops and livestock All other farm products Vegetables Fruits and nuts 1/ Ireliminary Department of .igriculture These figures are totals, and do not show the full extent of de clines for many procucts grouped under a single heading. Neither do they show the amount of reductions for individual farmers. The income of some cotton growers lias undoubtedly been reduced by much more than 71 per cent, while that of some fruit growers has declined by much less than 44 per cent. An additional factor in some cases has been the cu mulative effect of serious losses for several years in a row. iinother consideration is the fact that freight rates have not been adjusted, so that, with prices low in central markets, some farmers distant from central markets now receive prices very low in comparison with those received by farmers nearer central markets. It is apparent that reduc tion in income has been far more serious for some farmers than for others, and this fact should be considered in formulating plans for re lief. Reduction in expenditures There is ample evidence that farmers have reduced their living ex penses and cost of operating farms. Wage rates for hired labor have declined by about one-half and expenditures for labor are down more than that. Outlays on fertilizers, important chiefly in the Couth, have been cut sharply as a consequence of reduced purchases and some what lower prices. Machinery purchases and repairs on farm buildings have also been curtailed. Interest and taxes, however, amounting to between 700 and 800 million dollars each per year, have remained rela tively stable. In 1931 farm real estate taxes showed little decline on the whole, although in North Carolina, where the tate took over sor.e 4- of the obligation* of looal taxpayers with respect to roads and schools, farm taxes were reduced by about ?6 per cent. many local tax reduction* and, This year th*r« hare been although there hare been roase Increases, fair; taxes on the whole hmve probably decreased by 10 to 15 per cent* This amount, however, is Brail in coiap^riaon with reductions in fern in come. On about 40 per cent >f the farenr currant cash payments must also be iriade on mortgages. In the oases wh<*re the mortgage is large relative to the value of the fare*, current payments would prove difficult in &<oet years end particularly so in year© of low income. These instances are relatively swell in number, however, according to the Department of 4griculture. Fatimatea made by a large group of farmer** to that Depart ment, which in previous yeere have checSced closely with Census return*, show that the ratio of debt to value of farms at the beginning of this year was es follows* Ratio o f debt to value o f farm Per cent of mortgaged farms Per cent of a l l farms her cent Over 100 6 £ 76 - 100 11 4 6 0 - 7 5 21 9 2 5 - 5 0 68 15 1 - 2 5 25 10 •e 60 0 • -5- Probably farm values Here reported above the value indicated by income last year and considerably above actual returns this season so that these figures do not afford an adequate measure of the difficulty encountered by fanners in meeting their current payments this year. Delinquencies The eeriousnesa of the immediate situation is indicated by the volume of delinquencies and extensions on federal fan. loan mortgages, and by the recent increase in these items. The federal land banks hold about 12 per cent of the mortgages outstanding; in general they are long term loans, made on a conservative basis and amortized regularly, (de cent figures quoted below are given us by the Farm Loan fldance.) OVI At the end of 1929 delinquencies were reported -a* C.fc per cent of the net amount of such loans outstanding; during 1930 this in creased to 11.6, by the end of 1931 to 26.1 per cent, and by October 30, 1932, to 29.8 per cent for delinquencies alone and to 47.4 per cent for delinquencies plus extensions. The number of laid bank mortgages on which payments were delinquent or extended at the end of October was a somewhat smaller proportion of the total, indicating that the larger mortgages are most affected. The increase from £6 to 47 per cent for per cent in amount during the first 10 months of 1932 was almost wholly in ’’extensions,” provided for in the *ct passed last winter to increase the oapital of these banks. Demand for such a large volume of extensions indicates the seriousness of the general situation, except as the demand arose out of the idea that Congress had granted a moratorium. The grant ing of these extensions reflects a temporary adjustment on the part of the land banks which will prevent many foreclosures in the immediate future; such action by banka whose investments arc 'ill in mortgages waa made possible by the Congressional appropriation. The number of these mortgages in process of foreclosure on October SI was a relatively small proportion of delinquent and extended loans, a© shown in the fol lowing table: Nuiaber Loans outstanding delinquent or extended la process of foreclosure 401,311 159,335 4,559 There has teen, however, a large increase in the number of farms owned by the Federal land banice during the firct 10 months or tui* year, neal estate owned outright end sheriff certificates, etc., in recant yeare, have been reported aa follows: Number of farms owned 19E9 December 31 1930 December 31 1931 December 31 1932 October 31 6,641 8,532 12,529 17,814 tee rapid increase in holdings in 1»31 and the first 10 monthe of 1932 hoa occurred in spite of some increase in the number of farms dieposed of by the banka. Holders of faun mortgages The relative iaiportance of various groups of creditors in an> re adjustment of mortgage tones ia indicated roughly by the following table showing the distribution of holdings on January 1, 1928. -7- HQLJBiGS OF V M KOiaOAGXS OH J mXUaW 1, 1928, m p&mciFAL classes oi uaso m s Amount tin millions of dollars) Per cent of total Individuals 2,798 30 Life insurance companies 2,164 25 Federal land banks 1,146 12 Oonaaerciel banka 1,020 11 Mortgage companies 988 10 Joint stock land banks 667 7 Other agencies 68b 7 TOTAL 9,403 100 Froia tbe beginning of 1928 to the end of 1931, holdings by insur ance companies declined by about ISO luillion dollars, and those of Joint Stook Land Banks by 130 million. Outstanding loans of Federal Land Banks, after increasing by 42 million in 192G and lc5«29 showed a decline of 3b million in 1930 and 1931. The distribution by geographic areas and according to quality of loan would vary from that shown above. Also to be considered are the differences in tejs*a of various mortgages held by the different agencies, particularly with respect to the duration of the loan and to amortiza tion. A factor greatly complicating the situation in many eases is the conflict of interests among various creditors. The holder of a first mortgage might be Trilling to wait for payment but, in certain jurisdic tions, may be forced to foreclose by attempts of the holder of the second mortgage to satisfy the hie olaims. And in scans cases failure of operator to pay taxes creates difficulties for the creditors.
@FedFRASER