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We are facing grave situation about which I am greatly concerned. I have asked you to come in to discuss this crisis with you. It is vitally important that the financing of the defense mobilization program be assured by a stable Federal Securities market. C BMi Shortly after the invasion of South Korea, I discussed this matter with Tom McCabe and was assured that the Federal Reserve would support the Treasury refinancing program which I had approved f#r September and October. with On several occasions since then I have talked/him about this matter and have been assured of support for the Z%% long-term rate structure. The most recent date on which I was advised that the Treasury would receive such support for both refunding and new money issues was just two weeks ago. It is with considerable surprise, therefore, that I have been readingof criticism by Federal Reserve Officials of the Treasury announcement of the defense mobilization financing program. . In view of critical time*, I am requesting full support of your group for the Treasury program as announced. I will not discuss details as they are well known to you. I know that I can rely on you for this support as you have been able to renderthis service t# your Government s# ably in the past. No on commercial c r e d it evidence o f a n t i-in f la t io n a r y e f f e c t s / o f in te r e s t ra te changes in past y e a r. U n certain ty v ery u n s e ttlin g . CHRONOLOGY OF EVENTS RELATING TO THE GOVERNMENT SECURITY MARKET 1. June 25 — 2. June 26 — The Republic of Korea is invaded. Secretary Snyder conveys to the Open Market Committee through the Fiscal Assistant Secretary his feeling that "Everything possible should be done to maintain a basic ally strong position in the Government bond market during the present period of international disturbance." 3 . June 27 to July 17 — Federal Reserve ignores the Secretary and continues to sell long bonds in the market. In 13 trading days, the Federal Reserve sells over $300 million of long-term bonds. 4. July 12 -- McCabe writes the Secretary that, instead of stability, continued pressure should be placed on the Government security market in order to reduce bank credit. 5. July 17 — Secretary replies to McCabe, calling again for stability in the Government bond market and explaining his reasons therefor at some length. (Copy attached.) 6 . July 17 to August 10 — Federal Reserve continues to put pressure on Government security market, selling $600 million of long term bonds in 18 trading days. 7 . August 10 — McCabe and Rouse meet with the Secretary. McCabe expounds on problem of preventing inflation. Talks about higher discount and short-term interest rates, and further pres sure on the long-term market. Secretary reiterates the necessity for stability in the Government security market during international crisis. McCabe requests another con ference to discuss the matter with the Secretary further, and this is set for August 18. 8. August 10 through August 18 — Federal Reserve continues pressure on long term bond market, selling $1^5 million of long bonds in 7 trading days. 9 . August 18 — McCabe and Sproul tell the Secretary that the discount rate is to be raised by l/h of 1 percent and rates in the short term market are to be tightened generally; and they hope that the Secretary by his action on the refunding will sup port their decision. Following the meeting, the Secretary announces the September-October refunding, as approved by the President, and advises the Federal Reserve thereof. McCabe checks proposed discount rate increase with the President, who tells him that he doesn't want Government security rates raised. vaV 251 ,i«S? m AIIUNAL « r; A«CKiV£S AND 5J*\ ? ,£ i-.LOUftOS W SERVICE" - 2 - 10. August 21 - F ederal Reserve r a is e s in t e r e s t ra te s in the e n tir e sh o rt term Government s e c u r ity market. B ill io n s o f d o lla r s o f Government s e c u r itie s go to a discount in the f i r s t h a lf hour o f tra d in g. 11. August 2^ - S ecretary informs Presiden t o f the s itu a tio n in the market. P resid en t ta lk e d to McCabe about i t and sent him a l e t t e r c a l lin g fo r the maintenance o f confidence in the c r e d it o f the United S ta te s and s t a b i l i t y in the Government s e c u r ity market. McCabe returned the l e t t e r to the P re sid e n t, assuring him, however, th a t h is request would be ca r r ie d out. 12 . October 2 - McCabe and Sproul meet w ith the S e creta ry and ad vise him th a t th ey are going to r a is e short-term r a te s fu r th e r . (The one-year rate had alread y been r a ised from a 1 -1 / 4 percent to a 1-3 /8 percent b a s is .) This i s confirmed by l e t t e r on October 16 . This l e t t e r assures the S e c re ta ry , however, th a t "th ese a ctio n s w i l l not a f f e c t the maintenance o f the 2 - l/ 2 percent ra te fo r the outstanding lo n g est term Government bonds. ” 13 . October 17 F ederal Reserve s ta r ts to r a is e y ie ld s on short-term Treasury is su e s fu r th e r . One-year ra te r is e s to n early 1 - 1 / 2 percent w ith in a few days. 1^. October 26 Meeting a t the White House between the P re sid e n t, S ecretary Snyder, and Chairman McCabe. McCabe f i n a l l y agrees to prevent short-term r a te s from going up fu rth e r and, “ fo r the p resen t ,n to m aintain the one-year rate a t 1 - 1 / 2 p ercen t. This i s confirmed by l e t t e r on October 30. 15 . November 17 - McCabe g iv e s Secretary the F ederal Reserve views on DecemberJanuary fin a n c in g , proposing a f i v e - y e a r , 1 - 3 A percent note. S ecretary agrees to go along w ith McCabe so long as the fin a n cin g can be donex w ith in the p a tte r n o f 1 - 1 / 2 percent on one-year s e c u r itie s and 2 -1 / 2 percent on long bonds. 16 . November 2k - F ederal Reserve allow s market to go o f f sh arply as r e s u lt o f November 22 announcement o f December-January fin a n c in g . U n se ttle s market psychology fu r th e r by dropping p r ic e on V ic to r y Loan issu e 2/32 during the day. 17. December 1 • Secretary Snyder sees the P resid en t and t e l l s him about developments in the market. The P resid en t c a l l s McCabe and d iscu sses the matter w ith him. -3 18. December 19 - McCabe ad vises the S ecretary th a t the Board had fu r th e r measures fo r c r e d it co n tro l in mind, s p e c i f i c a l l y , r a is in g reserve requirements and in cre a sin g margin requirements on s e c u r i t ie s . The S ecretary t e l l s McCabe he doesn’ t th in k these moves w i l l do much toward c o n tr o llin g c r e d it and makes i t c le a r to McCabe th a t he wants s t a b i l i t y in in t e r e s t r a te s . McCabe assures the S e cretary th a t he does not have fu r th e r in t e r e s t ra te changes on Government s e c u r itie s in mind. 19 . December 26 - F ederal Reserve reduces the p r ic e o f the V ic to r y Loan issu e from IOO-23/32 to 100-22/32. This u n s e ttle s the market and causes much conversation as to whether the Government r e a lly proposes to maintain the 2- l /2 percent r a te . 20. December 28 - McCabe ad vises the S ecretary th a t the F ederal Reserve has taken a c tio n to r a is e reserve requirements; t e l l s the S e cretary fu rth e r th a t the F ed eral Reserve proposes to reduce the buying p r ic e on V ic to r y Loan 2 - l/ 2 s , allo w in g them to go down l/3 2 a day. He mentions a f lo o r o f 100-8/32 and then su ggests a range o f between 100-4/32 and 100- 8/32 fo r t h is is s u e . The S ecretary t e l l s McCabe he wants s t a b i l i t y maintained in the long-term market. 2 1. January 3 — The S ecretary meets w ith McCabe and Sproul, who o u tlin e a program which would in vo lve a complete r e o r ie n ta tio n o f debt management p o lic y . They propose a program o f higher in t e r e s t r a te s , p a r t ic u la r ly in the long-term area. They a ls o want higher in t e r e s t ra te s on savings bonds. 22. January 17 - J o in t conference between the P re sid e n t, the S e creta ry , and McCabe to d iscu ss the defense fin a n cin g program, a t which time i t i s agreed th a t market s t a b i l i t y i s e s s e n t ia l and t h a t, th e re fo re , the 2 - l/ 2 percent ra te on long-term Government bonds s h a ll be maintained, and th a t refunding and new money is s u e s w i l l be financed w ith in the p a tte r n o f th a t r a te . 23. January 18 - S e c r e ta r y 1s speech before the New York Board o f Trade announcing a p o lic y o f market s t a b i l i t y and s t a t in g th a t during the defense p eriod refunding and new-money issu es w i l l be financed w ith in the p a tte rn o f the 2- l /2 percent r a te . 2^. January 22 - Sproul makes a speech b efore the New York S ta te Bankers A ss o c ia tio n , a tta c k in g S e cretary Snyder’ s statem ent on defense fin a n cin g and market s t a b i l i t y p o lic y . 25 . January 25 - E c cle s t e s t i f i e s before the J o in t Committee on the Economic Report and str o n g ly c r i t i c i z e s Treasury fin a n cin g p o lic y . 26. January 29 - Federal Reserve reduces the buying p r ic e on V ic to r y Loan 2 -l/ 2 s to 100-21/32. In order to assure market s t a b i l i t y , S ecretary au thorizes the F ed eral Reserve, as f i s c a l agen ts, to purchase t h is issu e fo r the account o f the P o s ta l Savings System a t 100-22/32 — the p r ic e th a t had e x is te d up to 2:00 p.m. on t h i s day. 27. January 30 - F ederal Reserve f a i l s to cooperate w ith Treasury a c tio n . Terminates qpen-market purchases o f V ic to r y Loan 2 -l/ 2 s and buys $33 m illio n o f t h is issu e fo r P o s ta l Savings account. Throughout the e n tir e p erio d , the Federal Reserve continuou sly c ir c u la te d rumors about imminent in creases in short-term in t e r e s t r a te s and in reserve requirem ents. I t encouraged t a lk about the n e c e s s ity f o r a “ supported" bond market. This type o f behavior kept the market in a constant s t a t e o f confusion and unsettlem ent as to where the F ederal Reserve was going to take the Government bond market. I t was p a r t i c u la r ly u n s e ttlin g , sin ce i t came on top o f co n tin u al s a le s o f long-term Government bonds from the Open Market Account, which amounted to n early $2- l /2 b i l l i o n between the beginning o f the year and the end o f August. A l l o f t h is le d to the b e l i e f th a t the Treasury would be is s u in g a higher r a t e , long-term issu e in the near fu tu r e . July 17, I95O Dear Tom: Thank you very much for your letter of July 12, expressing your thoughts and those of the Executive Committee of the federal Open Market Committee with respect to new financing and the cur rent situation in the Government "bond market. As I asked Mr. Bartelt to transmit to the Open Market Committee on June 26, I feel that everything possible should "be done to maintain a 'basically strong position in the Government "bond market during the present period of international disturb ance. The firmness with which the market has withstood the impact of the events of the past three weeks is certainly a testimonial to good management. It is also the "best possible evidence of the confidence which has been built up in our abil ity and determination to maintain a stable market for Federal securities. I know you will agree with me that it is of the utmost im portance at the present time, to maintain that confidence and, in addition, to do everything possible to strengthen it. This in volves, first of all, avoiding any course which would give rise to a belief that significant changes in the pattern of rates were under consideration. The operations of the Open Market Committee since the beginning of the crisis have been well adapted to this end.' As I have studied the situation, I have become convinced that present circumstances call for one further precaution which is, per haps, of even greater importance than maintaining a good balance in current market operations. In my view, we must take extreme care to avoid introducing any factor which would run the risk of pro ducing unsettlement in the broad market for Federal securities represented by investors throughout the lation. It is my belief, in particular, that no new financing program should be undertaken at the present time without maximum assurance that it will be well received and can be carried through to a successful conclusion. “ NATIONAL « ARCHIVES AND ^ 5 fitC O R D S & S E R V IC E " Z i a* Our future tasks, whatever they may "be, would be made very much more difficult by anything less than 100 percent success in a program for raising new money. In my judgment, we can not at tain the maximum assurance of success until the outlook with respect to both the international and the domestic situations has become considerably more clarified. At present, the defense needs which may have to be financed in the near future are not known. Our expectations as to revenues are also subject to considerable change as the situation develops. For these reasons, as you know, I recommended that the Congress postpone action on the tax bill now under consideration in the Senate Finance Committee. The same basic considerations lead to my strong belief that no new financing program whose reception is to any considerable extent unpredictable should be introduced into the market at the present time. There are, of course, occasions which call for quick and bold action. These occasions have occurred with respect to the Federal security market and they may occur again. But every appraisal of the present situation indicates that the maintenance of stability should take priority over all other market considerations. A stable and confident situation in the market for Federal securities is our first line of defense on the financial front, no matter what may be ahead of us# As you know, developments in the Government boud market have repercussions which fan out through the entire economy. Both the size and the wide distribution of the Federal debt are unprecedented in comparison with the situations which faced us at the start of other periods of crisis. Under these circumstances, we have an obli gation of the highest order not,only to maintain the finances of the Government in the soundest possible condition, but also to fulfill our responsibilities to the millions of Federal security holders throughout the Nation. There is one further consideration which confirms my view that the present situation calls in the highest degree for caution and prudence. During the present stage of the emergency, it is vital to make use of every opportunity for assuring our citizens that those at the head of their Government have a strong and steady hand on the helm. The response of the Nation to the Presidents courageous action in the Korean crisis was one of the greatest demonstrations of unity that we have ever had in this country. The Nation is now waiting to learn what domestic programs may be needed in order to utilize our full strength in the interests of national defense. When these - 3 - programs are "brought forward, it will take time for the public to assimilate them. In view of these facts, it is of the utmost impor tance that no action he taken at the present time which could be construed in any sense as anticipating proposals for defense which may later "be outlined by the President. In short, every circumstance ness and manifest strength in the measure of economic preparedness, I see it. And, as you will note, just as they have occurred to me, of my thinking as events unfold* at the present time calls for steadi Federal security market as a primary Shat is the net of the situation as I am sending my thoughts on to you in order to let you know the course Sincerely yours, (signed) JOHN W* SIY33EE Secretary of the Treasury Honorable Thomas B. McCabe Chairman, Board of (Jovernors of the Federal Heserve System Washington 25* D. C*
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