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P olU l— t® flnaao® Ifci n f . O th® 4 a ; i f W Fearl ■arb®r, th® Mard
b
®> ^ o w n c ri anroune®4( ihel tin M « r » l i M t m tyetme we® pr«ptrW t®
M «rt it# l i f l M i i t t m H a iiB itln U g ®andltl®as is the O tr v a M it
•eeurlty market that were M i l i f t i t o r ; free the ataadpolnt of th® Oovara■Mrt'i rH ftlT M B li* Burtag Ihi w the > U t y il& ij t f the fr m mury
®ad the F ilir t i I m r f i m t® i M ilit e W tin flMB®U| ®f ab® hag®
®®a— ar y l a i f i M i U i n y tlll®
u i t® I® •• at ® at«ady ®ai li®
latereat ®®«t M i v ilh i® l i t t l e U f t o U t i i ry ®ff®«t ® pe®iUl«* The
®
Fedora 1 I® a ® m ®app»rtad Administration P®ll®y ia fi®ld® ®«%®il® of th®
reepoaalbilitle® ®f the Federal (M «nr»* Th®«® included n r l® M direct
®®atr®I®, ®u®h i® yrl®® oolllag®, all®e*tion ®f p r t k <U ® it t a l ration­
ing, ® ad ®1«® tte g®a®ra l poli®> of paying a® am a® pec alb le ®f the
eh
coat ®f th® war frta taxation.
Th® Federal fta®«rf® an® ti® Tr«a®ury join tly sought 1® redu®®
Inflationary trend a by directing their pellelea t oward aelling th® largest
practicable amount of new government •®®urltl®« to investors other th®a
ss— srclal bank® and th® &*®«rn dank® aad taward inducing theae nonbank
lnve®t®rs to hold their aocurltl®®* It w r®®®gnia#d th®t i t would be
a®
both impoealbl® and uad®®lrabl® t® place a l l ®f th® lnereaaed dabt with
nonbank lnveotore, beeauee s«m® 1®®r«®>® ia boak holdingt ia® n®cosss ry
ia order to provide th® pabll® with th® larger a®eaat of d®po®it® na>d®d
in an expanding and abnormal aar eeemeay. With thi® ®x®eptlen, however,
the poliey «ae to place a l l of the ln«r«a«®d d®bt with n®nbaak lave ator*,
fhia pel ley r«®ult®d in channeling ®«arr®at income aad idle funda of noav
bank investor® frea the pur®ha®® of soar®® g®oa® and aerrioe® to inveitaent in Government scourit i®« • It als® retarded the laereaoe in bank
dopeelts and thereby limited the emoemt of fuada that war® la r®adily
apendabX® fora for purohaclng good® aad ®®rri®®® either durlag the war or
afterward* Thi® policy w
a® implemented by eight war lean dr ivea and by
payroll tavinga plan®.
Th® Federal Reaerve durinf the war dlr®®tod It® opea market
operation® torard atab lllslag within a relatively aarrow rang® th® prl®o®
and yield* oa marketable Government aeeurltle®. This poliay w r s coa
a®
meadod t® th® Treasury by the Federal Reserve, and the reeeammadetioa
wa® a®oepted by the Treasury* Th® purpoo® of th® poll®? w to ®void
a®
flnan®iag th® war oa a rlolng level of interest rate®, whleh had been
the exper lone® la th® f ir s t World War* Yields were stabilised la aoeordan®® with a pattern of rata® on outetaadlag aarketabl® Oovarnmant laauoa
having varleua maturitlea • Thi® pattora reared between $ / t per e®nt oa
three-month Treasury bill® and 2 l /2 per cent on long-term Treasury bonds*




• 2Individual iaouec with aaturitlco between ihoee tae terainal point* had
yields U at v# r« graduated b i t m n 3/fe and 2 l /Z por oent on the basis
of a ?moral pattern. The policy of stabilisin g prieee and yields m
inploser, tod by open aarkot purehaee* and aaloa of Ooweroaent seeuritlee
by tho Federal Foeerwe.
Tho s ta b ility that vaa aaintalned in tho Covtrnaaot seeurlty
warkot fa cilita ted Treaaury financing by assuring lntostors that, since
tho aarkot oalue of thoir holding a o f Oowsresssat aoouritlaa aeuld not doolioo as aov leeuee wara offered, thoy had »e thing to gala by dolaying
purehaeee la tho hopo of obtaining higher rat os at a la tor tla a . This
sta b ility also assured ths Troaoury o f a loo la tor os t ooot on tho dobt
and of a satis factory aarkot in vhish to a o ll ths unprecedented amount
of aoouritloo that i t looaod In flnanoing tho oar* Tho Fodoral Ktaarva,
by freely purohaalng aoouritloo at atablo prieee and yields, also p ro ­
vided eeauerelal banks with res or vac aa reserwee vora noodod to steet
wartime aonetary deaanda*
During tho oourso o f oar flnanoing, tho Fodoral Posarto m
ade
several rooosasstdatIona that were deelgned to rotard tho expaneion o f
bank oro4it without increasing tho intoroat oost of tho dobt to tho Troaoury*
Tho fodoral Feeerve proposed a leaf-term non-nogot lablo eeoority which
would haws booii ineligible for purehaee by Bmaosrolal banks* T o aaourity
h
would h t o oarrlod ratos graduated an a sliding soalo up to 2 l/ Z p ar cort,
a
doptadkg on tho period hold* This foaturo would haw prowontod short*
s

torn aoeoy fro* boing invested in leag-tera aoouritloo at higher ratos,
a practice which later developed on a largo eeale aa lnwostors beeaao
eottwinood that tho Fodoral Hooom would aalntala ratos oa Governm
ent
aoouritloo for tho duratier of tho war* Ths Treasury later lesuod in
lieu of this proposal, long-tera Marketable Issues whleli wore reetrietod
for a period of years against purelatee by ooosMrolal banka. To provide
an inveetaeat outlet for teaporarlly idle corporate ftndc at loo ratoo
to tho Troaoury, the Fodoral fteservo frepoeed a ehert-tera nee-negotiable
seooritv. This seeurlty aloe oarrlod froAteted ratoe depending on the
period hold, whieh would eaooarago holding to oaturlt/, To aoeeaplleh
aost of tho objeetivee of tho propoeod soeurlty, the Troaoury later ieeuod
tax eawlags uetee.
The Federal Reserve reooaaoadod that tho rate m tlreo-aonth
Treasury b ills bo inoreaood frea }/b to 1/2 per eort. Tho purpeee e f
this reeonaoadatien was to aaJhe three aoa th b ills aero attractive to
e tn e r e is l banks and to ssr ysratleas and thereby to widen the d letrlbatloo o f b ills * 2t had beooae owidont that banks and aiaVant inverters
weald not hold any largo saoaat o f b ill* a t )/b per ooot whoa they eeuld
parehoss oertlfleatee at 7/fe per oeat* I t uaa tho b e lie f o f tho Federal
■ossrvo that the Treasury would ho able to leoao a larger aasaat o f b ills
ftt l / l than at 3/fc per oeat aad ooaeofoea t ly would ho ahlo to reduee ths




-

5

-

lnufeBM of hih«rr-rato scourit loo, and thereby would r*duo« th«
lcU T M t COSt Of ths rfobt.
Subsequently the 'oderal T:s»orve rcoonrendo^ that both the
3/% for oont b ills and tho 7/C per cent sertifleat.es bo refunded is to
3/I4 por oeet b i l l * . Tho principal purpoco of this roocie*ecndetlon «es
to reduee tho profit that oould bo mde by purchasing cortifioetes ot
por end •oiling then o* thoir field s declined* This twv security olso would
probably hoto reduced tho interest coot of tho debt.
Tho Federal Keserve rooomot^od 00 e a rly as !Jow«>or I9UI that
securities o ffe r e d fo r oow*eroiol bonk cubsoriptior- should how* e a tu r itio s
not exceeding 10 yeerc* Ihio reeoaaendatlen » m accepted by tho Treasury
in October 19^*2# with tho rooult that tho interest eost o f tho debt was
reduced con sid era b ly . For 0 tin e tho Treasury continued to issu s 2 per
ooot bondo in tho drives* ond lorgo amounts o f thoss bonds subsequently
woro purchased by eeaacroial banks* In viow of this foot* tho Fedor*1
Reserve reeossacnded that tho Treasury discontinue the Issuance o f 2 per
cent bonds. As a rooult tho yields on outstanding Issuoo in t h is range
of Maturities deelined sharply* In the Seventh *ar Loan, tho Treasury
Issued 1 \ f i per ooot bonds, which redueed further tho interest 00st o f
the debt, and in the Tiotory Loaa tho only securities that soewcrcial
banks generally oould purchase wore l / t per oont o ertifio e t e s . Thece
ohsnges also were rooonaended by the Federal Beoorve*
x pans ion of hank credit* Although the wertiae nature of open market
operationsfacilitated Treasury finanelng, it in effect traneferred
fToa the Federal Reocrve to tho holders of Oevenuaoat securities tho
power to determine tho aaount of reserves that is supplied to oosswor*
oial banks ond consequently to deteraiae the level of bank credit* As
leaf os the Federal Reserve is so— 1tied to preventing ths 'rices of
Oeweraneat seeuritieo frow declining, the federal Beeerve mist purchase
a l l Government seeorltles that are offered at or neer tho current level
of prices and yields. This provides a rsady source of funds both to oomacrcial banks and to nonbank inveotero* It increases reserve balanseo
and thereby eaeeura^ee cowetercial banks to expand credit further.
The pattern of re tee that Is bow in onis ten oe le particularly
eoaduoive to the expansion o f bank credit* This arises froa the wide
spread between the yields on short-4 era seeurities and the yield# oa long*
tens heads* A pattern of re tee that io stabilised over sueh a wide range
affords aa induooneat to investors ts purchase only tho higher-yielding
loag-tora boado* l]r this aeons they obtain aet only the higher yield bat
alee a profit* n ils prefit aecru os because of the feet that iadividoal
issu es, aa tUsy approach aatu rity, deoliae in yield aad consequently inorease la prlee* Iaveotcrs are eaeeureged thereby to purchase aarkctabl*
scour it lea 0 to s a il thsn at a p refit alter holding then far a short t lM ,
_ ^
_
and to reseat ths sreeeea*___ ,




• k t

C M M T tU l I n i n

h i l l fh U B Ml lB V C M & if ta n d aooy I t A & f l

fr M H l«w M V jri«iH i|
i
t i n U m m to h i| k tr -ji* llla | ■ •i l l *
tana lM M ti. TT
aoy i m r t l l y pur^ M i tte — <1»ia- torai U w * f r « i m k »
b u ll U m t o r i «M M il Dm ahort-tom I i iu m U tha F ik v t l R i t v i «
m
f t i i # purohoooo by tho M t rt l Booorwo la v t M t tho i r t t f bonka* rooorwo
te U iM iM i m I U Ik t b tiV lif lyatow u a wholo t# « | u l
by
• m r t l I1 m « tho w rnrt punhM«4 by tho fr tw t l
i f lang u
thi yloXdo « a h a r V W » i« t.ir lt lM M o itt r i i « i I1M&m{ Vjr bonka far
t«ra I i m m i b N MHm pritii is 4 F
i M
ihm l l » jritU i an D i i h I m m i *
Tkli w ill aontinuo u n til th# jriolda 00 aodiu»-tar* iH u r it U i t e n doolinod
to t)M point whoro t M M v r t U l WbIei oo*j«idor tho apraod to bo u f t t t r M t ln .

Tho onl? athor limit to tho poaalblo oxponaion of bfc.k orodit ii (1) th#
anaunt of loora that aoamorolol boxika ora willing to noko and (2) tho aaount
of othor U M ti that oro ollcU lo for n aralol bonk* to purohoao oad that
ow
tho/ oro obXo and v illln f. to bid awoj fr M nankonk iewoatora or to purohooo
O iiSUO.
Q
Tho aatpanaion o f bonk orodit io ooonrrlng at o tlaw of inarooaiag
inflationary praaaoro. A largo 4warn & tmr good* on* aorwlaoa la booko* by
hugo purohoalog po»or in tho form o f liquid oaaota eoeweulotod lu r la j tho
wor0 oa vo 11 oa by tho high lawoX of ourrout inoona* Tho otot- is or00a in f
auppXy of funda la apilXlng owr into apooulotlon is lover-&rod« bond*,
oonaoo atooka t rool oat*to, ond aaoaoditioa, whiofc tho purohoaora oxpoot
w ill lnorooao in prloo.
Xf inf lot lo o la pom itto* to aontinuo unohoacod, i t w ill lood
to o oollopaa, wfclah wilX Joopordiao tho oohlovanact of tho long-run
objaotifo of no into it in* bi jh 1ora la of promotion ond oaployatfat* Tho
noat affoot Ira M ira ©f fight inf inflation ia throurh toxntion and budgotory
aurpluaaa* Tuxaa ahould bo naistaiaod ot o h i $ la r o l, 3oronsaont oxpondlturoo ahould bo kopl down, ond tho p«ihXio dobt al»uU ba roduood an
auah oa poaalblo. In addition oantrola ahould bo nalntolnad until tho
don£or of infXotlon hoa >«aaod» At tho «o*o tin o 9 non*tor; poliaiaa ahould
bo dir00tod toword prowontia^ any furthor oxpanaior of erodit* *hilo
monotar^ polieioa tokor. alooo oonr.ot •top inflotlonory tondonoioa, thoy
oon InfXuonoo important olomonta ir. tho altuotlon, ond thoy ahould bo
onong tho voopooa anployod*
Doollno in long-tam /la id a , Praaont poXlaiac raault not only in o donjroroua oxponaior. of barJi credit but alao In tnorooaoa in tho priooa of lonf*
t o n Honda and doolinoa in thoir yialda. Cor^oraiol bonka ruroho»a nodiuntora ban da from nonbonk irroatara, who in turn bid ogolnat oooh other for
lor.g-torn bonda not avmilobXo for bonk rurahaaa. This trord hoa boati 00eortuotod t ipco tho Tlotorv loon hy tho knowlodgo that tho Trooaury w ill
net nood to raiao any now funda for o oonaidoroblo porlod of tlna*
A furthor doollno l c Xang»tor« yiolda would tond to doorooao
aawinca anjd~t4 At^ao tho ^mrirlio to ^ r o ^ /^ o ^ a ifo r o ^ in ^ ontont on tha
aatarmiant^ftr ^ c t o o t i ^ ^ b r n o r l^ w ^ ^ ^ ^ ii '^ M S f c aa^in^a dopoalta,



•

5

-

ijaearaaee p tlU in 9 u 4 Um Ilka* Ia iH iltM It vwU l i r m i the « n li| f i f U w r fw m p iilM , MTU(t Wahi| tai cadeeed U r tllrtliM
whleh liTMt irUilyalljr ia la a fttm N aic. Tkan iaotitiatioae to ll Hn
N ili| i of th# public u i ya
rfira 1f a r tact oorrl ooo t k t arc a n w ltil
to the public.
A aubebantiel 4atli&c i s their c«raia<f ai|)it akc i t ■cctcii ry
ffcr the gaaaraaaer to n to iliic thaci or peeelbly c m to coololiao them
I
*
W do act wont to adept ooeialloa indirectly by permitting long-tore /U U o
o
to laollao to too lco o level* I f «• mot to e4ept ooeloliia# the people
should have o sheesc to dotarnica that **cotloo, aad they oheuld a«l bo
forced late it by the lilireot ocaaa of daollalac leaf-tent yielda. T e
h
C free a ahoald otudy thio prebloa carefully to detenalao whether ooao
ce
■adifloatlea of prcaest pelioioo ia aet deoirable*
Solution by aaotoaary aocao* further oapanelea o f boak heIdlego o f
GoTcnocet aeeurltlee oeuld bo atapped i f the federal Kooorvo would dioecatiaue buying a l l ceeuritioe af fared. I ce ba nk laroc tore eoaooquoatly
would net bo able* by aelllng Ocrcnicr t o e e ir ltle o , to obtain at w ill
acw depeelte for apondlo g , aad they al^ht find i t both aero d ifflc a lt
and acre eectly to ralae fundo by borrowing frca beaks ar by the iaauanoo
of new aocurltl oa. Thio policy, however, would probably roeult 1b ooao
rloe In ahert-tern interoat reto e. Thio la tura would iraraaoo both the
la ter cat coot cf the debt to the Trcaoury aad the already largo earnings
by aowaarelal banka ao aa taring and called loouec were refuaded*
The laportaxoc of in tor cot chargeo lo ahowa by the fact that,
ao a roeult or the aartuao capanaiao m %h*
*
»..» istoroot coal o f the
debt hao lncrcaood frca an amual rate o f a b illio n dollara to 5 b illio n *
The laportanoe of coaaaorclal bank carol era lo ohown by the fact that, aa
a roeult of oertiae purohaeeo of Soverrucant eeeuritlee, they have ware thaa
doubled and now equal 10*9 per oect of their capital aoeounta* Thi a lnercaac
hao occurred deeplte the faat that the Treeeury baa limited ce— T e la l bank
rurohaeec of the h igheot-rato boada that i t haa offered* Although neat of
theee eernlnga have boon vloely uocd to increaoe capital accounta rather
than to increaeo dividend payaoa to , i t lo queetionable whether capital
aeecunta of banka ahould bo b u ilt up at the expenae of the taxpayer*
Commercial barka did an exocllcnt Job la aiding the financing
of the war. They were an Important factor ia colling Oorcnaacat aooaritlc a t o r.onbaclr Snveatora. They handled a traaendouc voluao of ration
ooupona. They purohaaerf the Govomaont accurltloo that the Trcaoury
o ffe re d a>nd waa unable to aell to nojubank iaveetoro* The lntereat rate
on \Vovarnaent a eeu ritlea held by eomneroial banko ahould bo f o lr to coato e r c ia l banka itx i ahould five than a reoaonablo profit for the aarriceo
u




- 6 ~

that they reader. O the other heed, it ie neoeai^ry for the Traeeury
n
t© be fair to taxpayare and to pey to tho banking ayetem e reto of irtereat that w ill not give to benke unduly large pro f i t s .
Federal Reserve program. Sinoo present poliolea era resulting in a
daagereus expansion embank oredit and a dan gerous deeline in long-term
yield s, the Federal Reserve hereby subsiits a four-point program that
should go a lone »ay toward meeting this problssi and should do so without
inoroasicf the interest sost of the debt and without increasing further
the already large earnings by eea»erelal banks•
f i r s t , the Xreaeury should use soae of Its larjr,e oash balance
to reduee the pub li e debt* 71. a Treasury already haa announced that i t
w ill redeem fer oash ths bends and notas that have been called for paysent and nature on K
fiareh Vji as well as a b illio n dollara of the certificates
that sMture on Marsh 1. Continuation of this poliay w ill further reduee the
intereet oost e f the debt to the fraaeury* In addition, to tho extent that
the seeuritlee redeemed for rash are hsld by oocesereial banks, both bank
eredit and bank esurr.injre w ill be reduced.
Seeorid, the federal Reserve should dis continue the preferential
discount rate ef l/St per cent on Recorve dank ad'vancea co H at era led by
abort-tern Oeveraawnt secu rities• The preferential rate waa established
as a *ar swaeure et a tine when an increase in benk holdii.ee of Oovercssert
seeuritlee was nocoo scry and see* snoouragonsc t of bank borrowing to obtain
reserves or te adjust reserve peaitions waa desired* The establishment ef
the rate aaa a temporary seaeuro deoigpod te meet a apeeial aituatlon, and
i t wee f e lt at the time that the rate should be eliminated when the need
fer i t had paeeed • Bee that war financing haa been completed and the
Treaaury w ill net need to raiae new fund a fer a considerable period of
tistt, the conditions that prompted the establishment e f the preferential
rate ae longer emiat, and the eoatlnuanee of tho rate oan no longer be of
aerviee to the Treasury4 s finensing program. The elimination of the rate
weald have ae influence on the ooot of future Troaoury refunding, because
that m ill he determined by federal Reeerve support of the Government seeurlty
mstrket through open market operations*
/(
' The preferential rate net only haa paasod ite period o f uaefulneaa,
but eakee i t profitable fer banka te borrow at l /2 por oent to purehaee
higher*yielding Government aeeurltlee. The preferential rate alee eaeourw
agee banka te lend on seeuritlee at lear rates # thus giving substantial
p rofile te borrserere* The amgnltude e f the pea a lble eredit expansioc is
ee*erel times the amount ef tho benroalnge, beeauee the bank reeerveo created
by the additional Veeerve Beak credit provide tho baa la for a multiple expeeaiae la — ihar beak eredit* j )




- 7 T h ir d ,
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