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COPY OF jiRTiCLE PREPARED BY MiiimiNEii S. ECCLES, CHAii^J, BOARD OF GOVERNORS ^ OF THE FEDERAL- RESERVE SYSTEM FOR THE iifRIL, 1937, ISSUE OF fortune Magazine CONTROLLING BOOMS M P DEPRESSIONS A statement o f the various important economic problems involved, and progress toward t h e i r solutions i n terms of governmental p o l i c i e s which r e l a t e to the functioning of the economic system. BY MARRINER S. ECCLES Chairman, Board o f Governors, Federal Reserve System The time to prepare f o r floods and droughts i s when there are no floods and droughts. S i m i l a r l y , the time to prepare f o r economic disasters i s when things are going smoothly. No one w i l l deny t h a t ; but the r e - grettable f a c t i s that we have made v i r t u a l l y no preparation for economic disasters i n the past. As a consequence, when the c r i s i s came we have had t o re3y upon h a s t i l y improvised measures t h a t were necessarily defective i n t h e i r magnitude, operation, ana timing. not be permitted to occur again. I f e e l strongly t h a t t h i s must The very continuance of our i n d i v i d u a l i s t i c p r o f i t system i n economic l i f e and of our democracy i n p o l i t i c a l l i f e depends on measures being taken i n time to lessen the booms and the depressions from which we have suffered i n the past. Since the pioneer period of our national l i f e i s over and there are no longer unlimited and untouched lands and resources to which men can turn %?hen things go wrong, the problem o f maintaining a stable and r i s i n g l e v e l of prosperity for our people i s one t h a t requires the moat searching study and the most farsighted preparation. Recovery i s now under way, but i £ i t were permitted to become a runaway boom i t would be followed by another disastrous crash. There are forces within our economic system which, unless checked and counteracted by positive a c t i o n , foster booms and slumps. I t i s ny conviction t h a t there are steps that can be taken by the government, as w e l l as by p r i v a t e enterprise, - 2 t h a t would greatly reduce the fluctuations of business and would make for a more stable and a more continuously prosperous economic l i f e . The problem The problem of c o n t r o l l i n g booms and depressions i s a major part o f any country's economic problem a t i t s broadest. The problem i s to pro- vide for the nation the largest possible r e a l income, i n terms o f goods and services, and to have t h i s income so d i s t r i b u t e d between current consumption and investment as to provide f o r a continuous flow of goods from farm and mine and factory to consumers. Stated i n another way, the problem i s to provide continuously f o r the people of our country as high a standard of l i v i n g as can be derived from our resources. We usually think of our i n - d i v i d u a l economic welfare i n terms of our money income. This customary a t t i t u d e should not make us forget the truism t h a t f o r the economy as a whole the end of production i s consumption, and t h a t the economic welfare of the nation a t large i s determined by how much we produce and how t h a t production i s d i s t r i b u t e d . The importance of t h i s truism i s t h a t i t supplies a t e s t which a l l economic p o l i c i e s , programs, schemes, and devices must meet. I t i s apparent t h a t the problem of achieving the greatest possible per capita production i s p a r t l y a question of u t i l i z i n g our human and n a t u r a l resources as f u l l y and continuously as possible and p a r t l y a question of u t i l i z i n g them as e f f i c i e n t l y as possible. Although these two aspects of the major problem overlap, i t i s h e l p f u l for the sake of straight thinking to make a d i s t i n c t i o n between them. The problem of preventing booms and de- pressions has to do mainly with the question of u t i l i z i n g our resources as f u l l y and continuously as possible. - a American businessmen have devoted an enormous amount of a t t e n t i o n to the problem of increasing e f f i c i e n c y or output per worker. has won the envy and admiration of the world. Their success They have, however, devoted r e l a t i v e l y l i t t l e a t t e n t i o n t o the problem of u t i l i z i n g our manpower as f u l l y as possible. can do about it#* They f e l t , doubtless, that there i s l i t t l e an i n d i v i d u a l Recurrent depressions were accepted with f a t a l i s t i c r e s i g - nation as a necessary e v i l i n a system t h a t on the whole worked f a i r l y w e l l . The depression of 1921 was severe but i t was easily explainable as an a f t e r math of the War boom and i t was comparatively s h o r t - l i v e d . The recession of 1924 was much milder and that o f 1927 was barely perceptible. With the im- provement of our i n d u s t r i a l technique, the greater understanding o f our economic system, and the strengthened f i n a n c i a l structure under the Federal Reserve System, i t was not an uncommon b e l i e f i n the nineteen twenties that booms and depressions were a t h i n g of the past, and t h a t henceforth such fluctuations i n business a c t i v i t y as would s t i l l occur would be of a minor character and perhaps salutary i n weeding out unhealthy undertakings. The developments of 1929-33 brought about a r a d i c a l change i n our sttitude. We found that' a l l our technical a b i l i t y and f i n a n c i a l acumen were o f l i t t l e a v a i l i n the face of s t e a d i l y shrinking demands f o r goods. The most e f f i c i e n t machine-tool manufacturer i n the world could, for example, do nothing i f he had no orders on which to work. The f i r s t aspect o f the problem of securing n a t i o n a l g n o m i c wel^-being was suddently thrust upon us i n the form of widespread i n d u s t r i a l stagnation and unemployment, t o t a l l y unprepared to grapple with i t . Our f i r s t impulse was t o apply the homely precepts applicable to our i n d i v i d u a l problems. we were, however, There was t a l k of the - 4 importance of l i v i n g within our means and of the importance of balancing the federal budget by c u r t a i l i n g expenditures • There was t a l k o f the necessity of getting back to the old v i r t u e s of t h r i f t , economy, and hard work. I t was not appreciated t h a t i n the face o f shrinking money incomes and expenditures any course of action t h a t l e d t o a further curtailment of community expenditures, whether i t was increased saving or reduced government expenditures, merely i n t e n s i f i e d our d i f f i c u l t i e s and l e d to less u t i l i z a t i o n of our human and physical resources. The f a c t of the matter i s t h a t , as many of us were forced by the l o g i c of events to r e a l i s e , the econojuics of the system as a whole d i f f e r s profoundly from the economics o f the i n d i v i d u a l ; t h a t what i s economically wise behavior on the part o f a Single i n d i v i d u a l may on occasion be s u i c i d a l i f engaged i n ty a l l individuals c o l l e c t i v e l y ; t h a t the income of the nation i s but the counterpart of the expenditures of the nation. I f we a l l r e s t r i c t our expenditures $ t h i s means r e s t r i c t i n g our incomes, which i n turn i s followed by a f u r t h e r r e s t r i c t i o n i n expenditures. As an aid i n grasping t h i s concept of a t o t a l community mangy flow of payments and receipts, the collection and publication of n a t i o n a l income figures by the Department o f Commerce,-initiated i n response to a Senate resolution introduced b^ Senator La F o l l e t t e , have proved of inestimable value. I n these annual compilations i t becomes immediately apparent t h a t the suns disbursed fcy industry and public bodies to wage earners, c r e d i t o r s , and, i n the case of industry, to owners, are also the incomes received by individuals i n the form of wages, i n t e r e s t 9 and dividends. From t h i s i t is but a b r i e f step to the r e a l i z a t i o n t h a t , with allowance f o r physical capacity and price movements, money flows have t h e i r counterpart i n goods flows. - 5 The problem of preventing booms and depressions, t h e r e f o r e , is the problem of ensuring a flow o f public and p r i v a t e disbursements j u s t s u f f i c i e n t to c a l l f o r t h a sustained and well-balanced flow of goods and services. An excessive volume o f expenditures r e s u l t s i n widespread over- time work, i n e f f i c i e n c y , and r a p i d price advances—an unstable and undesirable condition i n e v i t a b l y followed by r e a c t i o n . An inadequate flow, on the other hand, r e s u l t s i n the n o n u t i l i z a t i o n of our human and physical resources and hence a lowered standard o f l i v i n g . Why compensatory action i s necessary Having stated the problem i n these terms, the. question immediately arises: are there n a t u r a l forces which, alobe and unaided, are s u f f i c i e n t l y powerful to bring about the r i g h t volume of public and private disbursements? I f n o t , what instrumentalities may be u t i l i s e d and what policies might be adopted to ensure t h a t an adequate volume be maintained over a period of years? The chances are exceedingly remote t h a t unplanned and uncoordinated expenditures of industry and of a l l public bodiesr w i l l be adequate, and no more than adequate, to provide f o r the R e l a t i v e l y f u l l u t i l i s a t i o n of our labor force over a long period of time. The number of things t h a t can disturb the proper balance, i f i t should ever be a t t a i n e d , i s legion. Some of these are adverse developments abroad, widespread s t r i k e s , overexpansion and collapse i n important f i e l d s , excessivo c r e d i t and monetary expansion or contraction, widening gaps between the e f f e c t i v e demand f o r consumers1 goods and t h e i r supply, between current savings and the opportunities for t h e i r p r o f i t a b l e investment. The more the problem i s studied the more one becomes convinced ~ 6 - thfct the balance i s extremely d e l i c a t e and that departures from i t fean be caused by a host o f factors} factors t h a t are not remote p o s s i b i l i t i e s but have existed i n the past, e x i s t now, and, so f a r as we can f o r e t e l l , will e x i s t i n the f u t u r e . Those who believe i n nature taking i t s course argue t h a t there are forces that tend to restore the flow of income when i t i s disturbed, A r a p i d decline i n one industry, i t i s thought, by* lowering wages and i n t e r e s t rates and hence reducing costs, tends to stimulate expansion i n other i n dustries. rates. A decline i n security speculation likewise tends to lower i n t e r e s t A f a l l i n prices i s believed to stimulate demand. And so on. The answer to t h i s argument i s that i t i s t r u e as f a r as i t goes, but i t does not go f a r enough, i t assumes a condition of stable n a t i o n a l income, and t h i s i s precisely the condition that i s absent during a general downswing. VJhen business as a whole i s receding, a decline i n one industry, with i t s accompanying reduction o f wage, dividend, and other disbursements, f a r from stimulating other i n d u s t r i e s , may provoke or accelerate a decline i n them. S i m i l a r l y , i n depressions, when incomes are f a l l i n g , a reduction i n prices may f a i l to stimulate demand. This i s p a r t i c u l a r l y l i k e l y to happen i f a further continued f a l l i n prices i s generally expected. Thus a departure from s t a b i l i t y , although i t may set i n motion corrective forces, also unfortunately produces i n t e n s i f y i n g and aggravating forces • Our recent experience i s grim witness to the f a c t t h a t these l a t t e r forces may f a r outweigh the corrective forces f o r an impossibly long period. Before the s e l f - generating forces of d e f l a t i o n i n the l a s t depression were exhausted or were o f f s e t ty positive government a c t i o n , the national income had been cut i n - 7 - h a l f and a s i x t h of our population was being supported out of public funds* Now t h a t we are on the upswing, the self-generating forces of r e v i v a l might' carry us i n t o another boom unless we are prepared to take corrective action i n time There i s a r e a l dangeri to my mind—and I say t h i s not as a prophet of e v i l but as an advocate of s t a b i l i t y — t h a t the business and f i n a n c i a l community may again be l u l l e d i n t o a false sense of security by the steady r e v i v a l end by recent banking and security reforms* I do not mean to imply t h a t we are experiencing a f a l s e Or a r t i f i c i a l recovery j n e i t h e r do I wish to underrate the usefulness pf new powers of government with respect to the regulation of security issues, speculation, and banking. Nevertheless, i t is only prudent to recognize that too much reliance may be placed upon the remedial and corrective l e g i s l a t i o n of recent years» There are too many factors t h a t can disturb the balance which have not been touched ty l e g i s l a t i o n or which are not amenable to i t . Of t h i s I am convinced: unless we prepare ourselves now by developing the necessary machinery we s h a l l continue t o experience excessive f l u c t u a t i o n s i n business a c t i v i t y i n the f u t u r e . To be forewarned i s to be forearmed. being ignored. Problems are neve* solved t y Let me state q u i t e f r a n k l y , t h e r e f o r e , some o f the p o s s i b i l i - t i e s t h a t appear to me to be confronting us a t the present time. ( f The most desirable course for business to pursue would be the continuance o f a steady and orderly recovery movement, characterized by a steady increase i n employment and production, and accompanied ty l i t t l e , i f any, advance i n p r i c e s . Such a movement would l a s t longer than a more rapid upswing. And, a t the end of the upward movement, our Chances of transforming i t i n t o a period of stable prosperity would be i n f i n i t e l y b e t t e r . * - 8 From 1954 to 1936 the upward movement was i n f a c t orderly i n nature, being characterized ty a steady increase i n employment and production. Govern- ment a c t i v i t y and expenditures were a main motivating factor i n the movement. Viith the widespread existence o f u n u t i l i z e d p l a n t capacity and l a b o r , i n creased i n demand f o r i n d u s t r i a l products 'were e a s i l y met by increases i n supply without increasing p r i c e s . Sometime i n 1956 and early 193?, with the increase i n tax revenues and the decline i n government borrowings, I believe t h a t increased p r i v a t e expenditures i n the production of durable goods became the factor of major importance; recovery became self-generating and proceeded under i t s own momentum. This t r a n s i t i o n i s s i g n i f i c a n t not only from the point of view of the success of the government spending program as a recovery iaeasure, but also as marking the beginning o f a new period with new problems. The f a c t t h a t durable-goods production i s beginning to appear i n substantial volume i s an indication t h a t a major p a r t of our excess capacity of such goods has been taken up. have developed. Shortages of equipment and of c e r t a i n types of s k i l l e d labor Speaking i n very general terms, the t r a n s i t i o n i s being made from a buyers' market to a s e l l e r s 1 market. ^ W e a r e , jy^SStfSff8^ faced with the paradox of d e f i c i e n t plant and labor i n various f i e l d s a t a time when there are s t i l l w e l l over 8,000,000 unemployed. We need not expect the reemployment of a l l these people. Even i n good times there i s a more or less i r r e d u c i b l e minimum of unemployment, due t o seasonal f a c t o r s , l o c a l i s e d recessions, labor turnover, and sickness. I t i s variously estimated t h a t the unemployment due to these factors amounted to some two m i l l i o n i n 1929, or about 5 per cent o f the g a i n f u l l y employed. r 9 - With an increased population, with older people c o n s t i t u t i n g a l a r g e r proportion of the population, we may perhaps anticipate t h a t t h i s f i g u r e w i l l be nearer three m i l l i o n i n the f u t u r e . Although t h i s reduces substantially the present apparent slack i n the labor market, there i s an o f f s e t t i n g factor i n the annual new additions to the number of workers. Estimating t h i s f i g u r e a t 600,000 a year, i t appears t h a t the number of a v a i l a b l e workers w i l l be increased by nearly two m i l l i o n i n the next three y e a r s . The employment of over 7,000,000 people a t current or higher wage rates w i l l mean a higher n a t i o n a l income and increased demands f o r consumer goods. The production o f more consumer goods w i l l , i n t u r n , require more c a p i t a l f a c i l i t i e s . The shortages i n plant capacities and s k i l l e d labor t h a t are now appearing may, t h e r e f o r e , be expected to become more acute before they are lessened. Although there are special reasons i n i n d i v i d u a l cases, the broad explanation of the position confronting us i s to be found i n the long continuance end severity of the depression. For seven years we added l i t t l e to our c a p i t a l equipment or t d our supply o f housing accommodations. During t h i s period, however, population had been increasing, the pattern of the community demand f o r goods had undergone some change, new products were introduced, and there was l i t t l e a c t u a l physical embodiment i n plant of technic a l improvements t h a t had been worked out i n the depression. Assuming a f u r t h e r increase i n consumer demand, there w i l l be a grave deficiency o f c a p i t a l goods and housing. I t i s estimated t h a t i n the f i e l d of housing alone an annual output three times t h a t of 1936 villi be required f o r f i v e years to make up f o r c u r t a i l e d construction during the depression and t o accommodate needs currently accruing. This i s the r e a l significance of the question of accumulated shortages about which we heard so much i n the de~ - 10 pression* I t i s only with the r i s e i n incomes" and buying power t h a t the shortages lead to an active demand and to a c t u a l investment. Accumulated shortages, i n other words, are o f major significance i n the l a t e r and not the e a r l i e r stages o f the current movement. The bearing of the question on our main theme i s apparent. It raises serious problems both i n connection w i t h the maintenance of an orderly upward movement without a m a t e r i a l r i s e i n p r i c e s , and the subsequent l e v e l ing out of t h i s movement to a period of stable prosperity. After practical plant capacity has been reached, a further small increase i n demand for goods results i n a multiple demand f o r machinery and equipment to make those goods. I n order to increase the annual output of consumer goods by an additional f i v e b i l l i o n d o l l a r s , f o r example, a c a p i t a l investment of more than, and i n some cases several times t h i s amount may have to be made. S i m i l a r l y , a small i n - crease i n f r e i g h t t r a f f i c , under the same conditions o f f u l l u t i l i z a t i o n o f existing f a c i l i t i e s , w i l l necessitate a large sudden spurt of expenditures f o r the construction of new a d d i t i o n a l track and r o l l i n g stock.' This, in* t u r n , w i l l be r e f l e c t e d i n increased a c t i v i t y i n the s t e e l and other m a t e r i a l producing i n d u s t r i e s . »Khen the additional demand f o r f r e i g h t f a c i l i t i e s has been s a t i s f i e d , however, a sharp decline i n the production of f u r t h e r new f a c i l i t i e s may be expected to ensue, with corresponding repercussions upon the s t e e l and other durable-goods industries. Too sharp an i n t e n s i f i c a t i o n of production thus tends to end i n subsequent relapse. A f u r t h e r danger i s t h a t the demand f o r goods may increase too rapidly to allow s u f f i c i e n t time for the addition t o plant capacity. Partly i n self-defense and p a r t l y because of a semi-monopolistic p o s i t i o n , business- - 11 mm abruptly raise p r i c e s . S k i l l e d trades may c a p i t a l i z e on t h e i r strategic position ty demanding higher wages and shorter hours. Difficulty i n securing goods on the one hand and p r i c e r i s e s on the other may lead t o duplication of orders and speculative inventory buying. This would magnify the apparent s h o r t a g e s . ^ L a t e r , when the output e f durable goods (including housing) has expanded t o meet normal growth requirements plus the accumulated deficiencies r e s u l t i n g from the depression, the necessity w i l l a r i s e f o r making the t r a n s i t i o n to production t o meet normal growth requirements alone. Should the accumulated deficiencies be made up i n several important industries a t about *ihe same time, the problem of maintaining a steady flow of purchasing power may become serious. Yvhether the course o f business a c t i v i t y w i l l a c t u a l l y be along the l i n e s sketched above, i s of course impossible to say. as a p o s s i b i l i t y / f o r which we should be prepared. I mention i t merely Other f a c t o r s , such as widespread t i e - u p s due to labor d i f f i c u l t i e s , or developments abroad, may completely a l t e r the p i c t u r e . The point i s t h a t the prospects f o r an un- planned and "natural" period o f stable prosperity are d e f i n i t e l y unpromising. Stable prosperity can be a t t a i n e d only i f we are aware of the problem, i f we are w i l l i n g to tackle i t vigorously, and i f we can develop a broad p o s i t i v e program designed to be corrective of economic d i s t o r t i o n and unbalance. Suggested types o f action I am convinced t h a t the solution of the problem o f securing greater economic s t a b i l i t y cannot be solved by any single instrument. I f e e l t h a t the problem i s so broad and has so many r a m i f i c a t i o n s , and the effectiveness of - 12 any one instrument or l i n e o f attack i s so l i m i t e d , t h a t we must r e l y on the coordinated use of a v a r i e t y o f instruments, chief among them being our i> monetary, f i s c a l , foreign-exchange, l a b o r , and price p o l i c i e s . 1. Monetary P o l i c y . I n view of the severity of the preceding de- f l a t i o n , the monetary a u t h o r i t i e s f i r s t pursued an a c t i v e easy-money policy by purchasing a large volume o f U. S. Government o b l i g a t i o n s , l a t e r by perm i t t i n g incoming gold to increase the deposits and excess reserves of member banks, which i n turn enabled them to take up substantial amounts of government s e c u r i t i e s and i n the process create f u r t h e r new deposits. The volume of demand deposits and of cash outside banks has expanded some |>12,000,000,000, or 60 per cent over the f i g u r e f o r June 30, 1933. ffilth a r a t e of turnover equal to t h a t of 1929 the present volume of money i s s u f f i c i e n t to support a national income of more than $90,000,000,000 a t present p r i c e l e v e l s . PJhen the recovery movement appeared t o need l i t t l e further support and a volume of money adequate to meet the needs of a complete recovery had been b u i l t up, action was taken to set a l i m i t on tile r a t e of expansion of money • This took the form of two successive increases i n reserve requirements, e f f e c t i v e i n August, 1936, and March to May, 1937, which, py absorbing some $3,000,000,000 of the excess reserves of member banks, removed a large p a r t of the basis f o r further expansion. I t i s probable t h a t most of the remaining #500,000,000 of excess reserves w i l l be absorbed i n other ?/ays i n the course of the y e a r . Normally banks have a n e g l i g i b l e amount of excess reserves. When we r e t u r n to t h i s normal s i t u a t i o n , c r e d i t control measures w i l l - be f e l t more quickly and are l i k e l y to be more e f f e c t i v e . - 160 - The Federal Reserve a u t h o r i t i e s , with the cooperation o f the Secretary of the Treasury, have power to control and l i m i t the expansion o f reserves, bank loans and. investments, and deposit currency. Under the Securities Exchange Act of 1934 tlie Board o f Governors of the Federal Reserve System also has new powers to prescribe margin requirements "for the purpose of preventing the excessive use o f c r e d i t f o r the purchase or carrying of securities." This i s an important instrument of control to prevent a stock speculation based upon the extension of bank c r e d i t . ( I n 1929, i t w i l l be r e c a l l e d , the c r e d i t extended to the market ty banks t o brokers and I y others to brokers was about now.) 000,000,000 as compared to less than £1,000,000,000 The s i g i i f i c a n c e o f t h i s , as I see i t , l i e s i n the upper l i m i t imposes on the possible extent of business and price advances. it So f a r as I know, there has never been a prolonged i n f l a t i o n a i y period that has not been accompanied and fed by an expansion of the means of payment. Monetary Con- t r o l i s thus an indispensable instrument i n c o n t r o l l i n g booms and depressions. This single instrument, however* has i t s l i m i t a t i o n s . Although upper and lower l i m i t s to business a c t i v i t y and price movements may be set by e f f e c t i v e monetary control, the distance between theae l i m i t s appears to be wide enough to permit fluctuations of such magnitude as to keep us f a r from our goal of stable prosperity. Hence, I regard i t as v i t a l l y important that monetary control be supplemented by other methods and measures. 2. Fiscal Policy. F i s c a l policy may be directed not only toward moderating and o f f s e t t i n g a decline i n general business a c t i v i t y but also toward moderating the r a t e of expansion. Just as an excess of f e d e r a l ex- penditures over tax collections tends to increase incomes, enables banks to - 14 expend t h e i r investments, and, i n no fay as i t results i n the creation o f new deposits, produces new buying power, so, contrariwise, an excess o f tax collections over expenditures tends to r e s t r a i n the growth of spending and to o f f s e t the expansion of private bank c r e d i t . Hence a f u l l acceptance of the compensatory f i s c a l policy implies a willingness to run counter to p r i vate business behavior not only on the downsv/ing but also on the upswing. 4 1 have advocated heavy government expenditures during the' depression and I advocate debt retirement now that recovery i s d e f i n i t e l y under way. Both # a t t i t u d e s are part and parcel of the same principle of compensatory a c t i o n . The changed business picture c a l l s for a d i f f e r e n t p o l i c y . But both p o l i c i e s are designed to achieve tho same end, the end of moderating and o f f s e t t i n g the e f f e c t s of fluctuations i n the volume of private business e n t e r p r i s e * ^ $ I have never belieVed and I do not believe now t h a t the budget should be balanced and the debt r e t i r e d a t the expense of thbse who are job*less and s t i l l i n want, but that when an adequate volume of money has been created and private enterprise i s r a p i d l y expanding, as a t present, a balance should be brought about through increased taxation i f the y i e l d from e x i s t i n g t a x a t i o n , including s o c i a l - s e c u r i t y taxes, and from l i q u i d a t i o n o f assets held by the government, proves to be i n s u f f i c i e n t to produce the balance and permit retirement of the — public debt as private debt —expends. p f — — \ Another reason f o r a reduction i n the government debt i n prosperous times i s to make conditions more favorable for i t s increase i n bad times. On f i s c a l grounds i t i s desirable that the federal debt be reduced to as low a point as possible so t h a t there w i l l be no hesitation i n increasing i t when the need arises. As the upward movement continues, t h e r e f o r e , provision should be made f o r retirement of the public debt. • - 15 I n view of the probable r e s o r t to increased government spending when the necessity again a r i s e s , i t appears imperative t h a t a careful study of our recent experience be made. We have accumulated a good deal of ex- perience on the r e l a t i v e f l e x i b i l i t y and effectiveness of various types of projects which should prove invaluable i n aiding us to prepare for the f u t u r e . The f e a s i b i l i t y of maintaining a perpetual inventory o f desirable projects might be investigated. Some progress i s already being made along t h i s l i n e . As a means of maintaining purchasing power i t would appear desirable to investigate the f e a s i b i l i t y of t y i n g I h a f l e x i b l e public-works program w i t h the unemployment-insurance program. Although the subject i s complex and many d i f f i c u l t i e s would have to be overcome, the importance of coordinating the various compensating a c t i v i t i e s of the government appears to warrant serious consideration of t h i s proposal. I t would- be a p i t y i f the next downturn caught us as unprepared as we were i n the l a s t depression and we had to s u f f e r the delays and mistakes attendant upon a h a s t i l y improvised program o f public works and work r e l i e f . 3. Foreign Exchange P o l i c y . A serious t h r e a t to securing and maintaining a greater measure of business s t a b i l i t y a t home i s the possible emergence o f adverse developments abroad. One lesson we have learned i n r e - cent years i s t h a t , a t a time when the world i s as badly out of balance as i t i s today, we must not permit ourselves to be t i e d t o a r i g i d l y automatic gold standard t h a t makes us helpless against the impact of forces from abroad. At a time when incomes, prices, exchange r a t e s , or confidence abroad are dec l i n i n g r a p i d l y , r a i s i n g the price of gold i n terms o f d o l l a r s or other action on the foreign exchange value of the d o l l a r would r e l i e v e the s i t u a t i o n . - 16 Contrariwise, lowering the price of gold, or a r e l a t i v e f a l l i n other currencies, might o f f e r a possible ta^ans of checking excessive expansion a t home* I n any case i t appears desirable t h a t we should r e t a i n a large measure o f executive-discretion i n the exercise o f powers through which we can a f f e c t the value of the d o l l a r r e l a t i v e to other currencies. One factor i n t h i s connection t h a t was probably h e l p f u l i n the years 1934-35 may, i f i t continues to operate, r e s u l t i n d i f f i c u l t i e s i n the future. I r e f e r t o the inflow of gold on foreign c a p i t a l account. Although, owing to the cooperation of the Treasury, such inflowing gold i s no longer permitted to r e s u l t i n an addition to the reserves of member banks i t does r e s u l t , so long as the government borrows from bank fuiids to buy the gold, i n a corresponding unnecessary and undesirable expansion i n deposits. More- over, the addition to foreign balances e i t h e r through the appreciation of e x i s t i n g holdings or from future inflows i s a p o t e n t i a l t h r e a t to the s t a b i l i t y o f our security markets, since foreigners, l i k e Americans, buy on the upswing and s e l l on the downswing. accentuate a rapid f a l l . They i n t e n s i f y a speculative r i s e of prices and I t i s also t o be considered t h a t the existence o f large foreign holdings i n our markets constitutes a t h r e a t to our n e u t r a l i t y status and to domestic s t a b i l i t y i n the event o f a war abroad. One of the most d i f f i c u l t problems o f financing a war, t h a t of securing purchasing power abroad, would be solved by the foreign governments concerned sequast«ri30tg the property of t h e i r nationals i n our markets as they have done b e f o r e . The process of converting t h i s property i n t o cash and spending i t would disturb both our commodity and security markets and would give r i s e to groups opposing a policy of s t r i c t n e u t r a l i t y . - 17 I n view of the prospects f o r a continued recovery here and the continuing p o l i t i c a l uncertainties abroad, future inflows of foreign c a p i t a l may very w e l l be i n substantial volume. Since such inflows complicate the problem o f achieving and maintaining prosperous s t a b i l i t y , constitute a source o f embarrassment to many countries from which the c a p i t a l i s flowing, and, i n the present circiimstanees, have nothing to do with foreign trade or the i n t e r n a t i o n a l d i v i s i o n of labor, there appears to be a clear case f o r adopting measures designed t o deter the growth of foreign c a p i t a l holdings i n our markets. 4. Labor Developments. I t i s important t h a t the share o f the n a t i o n a l income going to labor should be increased, e i t h e r through decreased prices or increased wages, as r a p i d l y as earnings of business and industry w i l l permit without increasing the prices of t h e i r products. I t i s also obvious t h a t stoppages o f production, i f they should become widespread and occur i n key i n d u s t r i e s , would i n t e r / e r e with an orderly upward movement. Thus a d d i t i o n a l obstacles may be put i n the way of the movement of goods through existing bottlenecks, creating an incentive f o r price rises and speculative inventory buying. Problems of hours of labor should be c a r e f u l l y studied. Reduction of hours f o r the purpose of affording a reasonable amount of l e i s u r e has a l ways been advantageous both s o c i a l l y and economically. Reduction of hours f o r purposes of sharing the e x i s t i n g volume of work, however, raises many i n t r i c a t e problems o f r e l a t i v e costs, of increased shortages i n i n d i v i d u a l l i n e s , of losses i n t o t a l output and, therefore, i n n a t i o n a l income. There i s a danger that i t may moan sharing poverty rather than sharing wealth. - 18 The supply of work i s pot a f i x e d quantity any more than the people's demand f o r goods and services. Human wants are inexhaustible, and we c e r t a i n l y have enough wants, even of a reasonable and moderate k i n d , to keep a l l our workers f u l l y employed f o r as many hours as our present state of economic and social development deems to be a f u l l day's work. I f s u f f i c i e n t purchasing power i s provided there w i l l be a s u f f i c i e n t demand to employ a l l a v a i l a b l e workers. There are e x c e l l e n t prospects t h a t the increased disbursements of industry, p a r t i c u l a r l y i n the durable-goods industries, w i l l supply t h i s purchasing power. Some thought might be given to the a d v i s a b i l i t y of providing techn i c a l t r a i n i n g i n f i e l d s i n which serious shortages t h r e a t e n . This would not only f u r t h e r the objective of an orderly upward movement but would also r e s u l t i n increased t o t a l employment. Another ana very e f f e c t i v e means of lessening shortages of s k i l l e d labor would be for the f e d e r a l government and a l l other public bodies to defer the type o f work requiring such labor when shortages develop. Such a course would also have the advantage of creating a backlog of work for the s k i l l e d when p r i v a t e business turns down. * c( 5. The Movement of Prices. I have already pointed out the danger t h a t the possible shortages i n certain types of plant f a c i l i t i e s and s k i l l e d labor may r e s u l t i n undesirable price advances, duplication of orders, and speculative inventory buying. I t would obviously be very d i f f i c u l t to cope with such a s i t u a t i o n by the use of monetaiy instruments. for the most part nonselective. Such instruments are I n any case, as I have pointed out, the effectiveness of monetary control consists more i n s e t t i n g an upper l i m i t to expansion. Our problem hero i s with the emergence of harmful developments - 19 i n p a r t i c u l a r l i n e s before there i s any general need to impose an upper limit. S i m i l a r l y a compensatory f i s c a l policy i s a comprehensive and over- a l l type of instrument not capable of dealing with p a r t i c u l a r cases o f t h i s kind and lacks the f l e x i b i l i t y required to cope with short-term. swings i n a major c y c l i c a l movement. Both monetary and f i s c a l p o l i c i e s , however, and p a r t i c u l a r l y the l a t t e r , may be operated i n the d i r e c t i o n o f r e s t r a i n i n g the general upward movement so as to give more time for shortages to be met i n various f i e l d s i n which they occur. I n the case of excessive p r i c e rises on p a r t i c u l a r products i n important f i e l d s , something o f a d i r e c t nature might be done by e f f e c t i v e a n t i 4 t r u s t l e g i s l a t i o n and by reducing t a r i f f s under the f l e x i b l e t a r i f f powers. Reforms I have indicated some of the things t h a t might be done, or should be studied, with a view to moderating f l u c t u a t i o n s . I n conclusion I would r e f e r b r i e f l y to the long-term problem of providing a mere favorable background against which compensatory controls may operate. Of the many i n s t i t u t i o n a l factors that contributed to the i n t e n s i t y of the depression a few may be singled out for discussion. I t w i l l be agreed t y a l l t h a t our banking system proved to be one of the weakest l i n k s i n our econony. Nearly 8,000 banks f a i l e d . T o t a l deposits shrank by $14,500,000,000 and deposits subject to check by £>7,500,000,000. In, the banking l e g i s l a t i o n of 1933 and 1935 much was done to prevent a r e p e t i t i o n of t h i s disgraceful record. Greater r e s p o n s i b i l i t y and authority for the determination of n a t i o n a l monetary p o l i c i e s were conferred on a single public body; more ease of access to the lending f a c i l i t i e s of the Federal Reserve banks was provided; - 20 and the Insurance of deposits up t o $$,000 was i n s t i t u t e d . I n view, however, of the m u l t i p l i c i t y of banking systems and of chartering and examining a u t h o r i t i e s , the inadequacy and* i n many places, complete absence of banking f a b i l i t i e s i n country d i s t r i c t s , i t cannot be said t h a t a U the defects i n our system have been eradicated. A major task o f banking reforms s t i l l r e - mains t o be done. Another dangerous spot i n our system proved to be security speculation. The l e g i s l a t i o n o f recent years should do much to correct the past abuses, make f o r a more orderly market, and lessen g r e a t l y the danger o f widespread forced l i q u i d a t i o n i n the f u t u r e * S i m i l a r l y , we are i n a b e t t e r posi- t i o n now t o minimize the e f f e c t on the domestic econouy of adverse developments o r i g i n a t i n g abroad than we were i n l9£9-35. There i s one f a c t o r t h a t i s much less obvious and y e t i s , I bel i e v e , o f paramount importance i n explaining the severity of business f l u c tuations. Wide fluctuations i n the n a t i o n a l income appear to be associated with the wide fluctuations i n the expenditures on durable goods. these goods are durable, expenditures>on them can be postponed. Because When the pantry i s bare i t must be replenished a t once, but the obsolete kitchen range can always be made to do f o r another y e a r . I n a year of f i n a n c i a l d i f f i c u l t y the r a i l r o a d s can decide t o bey no locomotives, .although they cannot decide to operate t h e i r locomotives without f u e l * Thus the output of durable goods may undergo enormous f l u c t u a t i o n s . This f a c t becomes more s i g n i f i c a n t as a community becomes wealthier and saves and invests more o f i t s current income, since the great bulk o f investment i s , i n the l a s t analysis, associated with the creation of durable goods; new factories to produce new products, more e f f i c i e n t factories t o produce old products, b e t t e r homes, improved methods o f transportation and - a ~ communication. As long as there are opportunities f o r p r o f i t a b l e investment i n durable goods, upon which investors can spend as much as or s l i g h t l y more than the savers i n the community set aside out of t h e i r incomes, the monetary c i r c u l a t i o n i s not interrupted by t h i s process. The businessman building* an addition to his plant w i l l put back into the flow of the community's income as much as the savers took out of i t . As the community grows r i c h e r and i t s income increases, however, i t becomes easier and easier f o r i t to save. This i s not only because there are r e l a t i v e l y more well-to-do people who save a very large proportion of t h e i r incomes but also because the average man finds that his income i s growing so t h a t his margin of savings can be increased. I t may then become a question as to whether businessmen can f i n d enough opportunities f o r p r o f i t a b l e investment t o restore to the community1s income t h i s increasing volume of saving. I f they cannot f i n d such opportunities, a danger to prosperity a r i s e s , since the mcp^y saved may be kept i d l e or hoarded; or may flow I n t o harmful speculative channels, bidding up e x i s t i n g valtfes and thus i n t e r r u p t i n g the flow o f the copiunity's income and endangering the s t a b i l i t y o f employment, which i s dependent upon t h a t flow o f income. I n case such a s i t u a t i o n o f over-saving i n excess of available opportunities f o r investment should a r i s e , i t mi^at be met by two l i n e s o f attack. On the one hand we might seek t o ensure that more o f current income i s consumed and less i s saved and, on the other hand, we might seek t o make conditions more favorable f o r investment The most promising instrument available t o ensure t h a t a l a r g e proportion of income i s spent on consumption is—taxation* By providing t h a t the expenses of the government be financed - 22 l a r g e l y out o f taxes on the higher and intermediate income groups we diminish the t o t a l savings of the community and hence the t o t a l amount seeking investment and threatening to remain i d l e , thus obstructing the monetary flow. The recently enacted tax on undistributed corporate earnings may be eaqpected to increase the demand for the f i n a l products of industry. On the other hand, the present scale o f taxes and benefits i n connection with the old-age security program i s l i k e l y to r e s u l t i n a substantial diminution i n consumer buying power f o r a number of years. Turning to the other aspect of the problem, t h a t of providing favorable conditions for investment, the monetary a u t h o r i t i e s can help by maintaining r e l a t i v e l y low i n t e r e s t r a t e s . am here discussing a long-range problem. I t w i l l be borne i n mind that I Looking ahead for some years I see no reason to expect t h a t on the average long-term i n t e r e s t rates w i l l increase m a t e r i a l l y above prevailing l e v e l s . Conclusion Such, i n b r i e f o u t l i n e , i s the p o s i t i v e program I would o f f e r to meet the c y c l i c a l problem i n the next few years and to provide a more favorable background for the attainment of a greater measure of long-term stability. Although various aspects of the program may be open to question, there can be no question as to the gravity of the problem and the need of a program. The f a c t t h a t we are i n the midst o f a recovery does not for a moment mean t h a t we have solved the problem of economic s t a b i l i t y . The problem today i s as serious and as pressing as i t has ever been. I t can be solved only by knowledge, determination, and courage. I t i s my hope that the business and banking communities, which have so much a t stake, - 23 w i l l take a leading p a r t i n devising and supporting measures for i t s solution. The President, i n his inaugural address, recently emphasized the g r a v i t y of the problem. Let us, i n his words, "refuse to leave the problems of our common welfare to be solved by the winds of chance and the hurricanes of d i s a s t e r . " Let us "not admit t h a t we cannot f i n d a way to master economic epidemics j u s t as, a f t e r centuries of f a t a l i s t i c s u f f e r i n g , we found a way t o master epidemics of disease."
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