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December 15, 1949Mr. frank w. Mcculloch,
Administrative ^ssibturit to
Senator Paul Douglas,
Capitol Hill,
Washington, D. C.

Dear Jr. Mcculloch:
Tnis is the letter to Senator Douglas,
aoout wnich I talKed to you on the telepnone yesterday, December l/»th.
I would have no oojection to the letter
being made available to Dr. bh^idler, ii' Senator
Douglas so desires, but of course to be used only
as background material lor trie reason© i outlined
to you yesterday. 1 am anclooing d. copy oi tne
letter in coi^e tnis is done.

sincerely yours,

M. o. Eccles,

Mr. frank tt. Mcculloch,
Administrative assistant to
Senator Paul Douglas,
capitol Hill,
Washington, D. C.

BOaRD OF GOVERNORS OF THE FEDZtihL RESERVE SYSTEM
December X, 19U9+

Dear Senator Douglas:
In connection with my testimony presented on November 22 before
your Committee, I indicated that I had not attempted to inciude in my
statement some important matters which may be helpful to the Committee.
You granted me the priviiege of fiiing a supplementary statement shouid
that appear desirable.
In the course of my testimony you asked if it wouid serve a
usefuX purpose if Congress were to instruct the Treasury further as to the
poXicies to be foXXowed in debt management where they are dependent upon
the monetary policies of the Federal Reserve System, You aXso stated that
you would appreciate it if you could get some suggested standards of an
instruction that might be given to the Treasury by Congress with reference
to Treasury relations with the Federal Reserve,
Since presenting my testimony I have given a great deaX of
thought to this subject. In reading over the record of my remarks, it was
apparent to me that 1 had not responded as fully as I could have to some
of your q^esti^^ j^r^ore^ I should like to take advantage of the priviXe^l^^ ml^Sg^ttt^Ieme2rfafy statement.
A very fundamental dilemma confronts the Federal Reserve System
in the discharge of the responsibilities placed on it by Congress. The
System has by statute the task of influencing the supply, avaiXabiXity,
and cost of money and credit. In peacetime, the objective is to do this
in such a way that monetary and credit policy will make the maximum possible contribution to sustained progress toward goals of high employment
and rising standards of living. Federal Reserve System powers for carrying out this responsibility are at present basically adequate, but the
System has not, in fact, been free to use its powers under circumstances
when a restrictive monetary policy was highly essential in the public
interest. It has been precluded from doing so in the earlier postwar
period in part because of the large volume of Government securities held
by banks, insurance companies and others who did not view them as permanent
investments. Reasons for supporting the market under these conditions I
have already presented before your Committee,
This policy of rigid support of Government securities should not
be continued indefinitely. The circumstances that made it necessary are no
longer compelling, but the Federal Reserve would not be able to change
these policies as long as it felt bound to support debt-management decisions made by the Treasury, unless these were in conformity with the same
objectives that guide the Federal Reserve, The Treasury, however, is not




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responsible to Congress for monetary and credit policy and has had for a
long time general easy-money bias tinder almost any and all circumstances.
As long as the Federal Reserve policy must be based upon this criterion,
it could not pursue a restrictive money policy to combat inflationary
pressures.
Decisions regarding management of the public debt set the framework within which monetary and credit action can be taken. As the size of
the debt grew through the period of deficit finance in the 'thirties and
particularly over the war period, Treasury needs came to overshadow and
finally to dominate completely Federal Reserve monetary and credit policy.
When the Treasury announces the issue of securities at a very low rate
pattern during a period of credit expansion, as it did last Wednesday, the
Federal Reserve is forced to defend these terms unless the System is prepared to let the financing fail, which it could not very well do. To
maintain a very low rate pattern when there is a strong demand for credit,
the System cannot avoid supplying Federal Reserve credit at the will of the
market.
Under these conditions it can hardly be said that the Federal
Reserve System retains any effective influence in its own right over the
supply of money in the country or over the availability and cost of credit,
although these are the major duties for which the System has statutory
responsibility. Nor can it be said that the discount rate and open market
operations of the System are determined by Federal Reserve authorities,
except in form. They are predetermined by debt-management decisions made
by the Treasury. This will be true as long as the System is not in a position to pursue an independent policy but must support in the market any
program of financing adopted by the Treasury even though the program may
be inconsistent with the monetary and credit policies the System considers
appropriate in the public interest.
The Federal Reserve System was established by Congress primarily
for the purpose of determining and carrying out credit and monetary policy
in the interest of economic stability and is responsible to Congress for
that task. There is a seven-man Board of Governors, appointed for 14-year
terms with approval of the Senate. The Board is assisted by an experienced
and highly qualified staff of experts. There are twelve presidents of the
Federal Reserve Banks, each with a staff of specialists, and each Federal
Reserve Bank has a Board of Directors composed of leading citizens in its
district drawn from professional, business, farming, banking, and other
activities. There is also the Federal Advisory Council, composed of a
leading banker from each of the twelve districts, established by Congress
to advise the Board. All of these supply information and advice and many
participate in formulation of monetary policies appropriate to the needs
of the economy.
Under present circumstances the talents and efforts of these men
are largely wasted. Views of the Federal Reserve Board and Open Market
Committee regarding debt-rmanagement policies are seldom sought by the



Treasury before decisions are reached. The System, however, has made
suggestions on its own initiative to the Treasury in connection with
each financing, but very often these have not been accepted. Decisions
are apparently made by the Treasury largely on the basis of its general
desire to get money as cheaply as possible.
In a vrar period or a depression, there is reason for financing
a deficit through commercial bank credit — that is, by creating new money.
The Federal Reserve System has supported such financing at very low rates
by purchasing government securities in the market at such rates, thus pumping the needed reserves into the banking system. In the early postwar
period some support was desirable, especially for the 2-1/2 per cent longterm bonds, but it should not have been as inflexible as it was for shortterm rates.
The outlook at the present time is for an expanding economic activity with high employment. We also now anticipate a government cash deficit of over 6 billion dollars in the calendar year 195>0. it would be inexcusable to finance this deficit at very low rates of interest by creating
new money should inflationary pressures resurge. But if the Treasury, under
these conditions, insists on continuation of the present very low rates, the
Federal Reserve will have to pump new money out into the economy even though
it may be in the interest of economic stability to take the opposite action,
in making a cheap money market for the Treasury, we cannot avoid making it
for everybody. All monetary and credit restraints are gone under such conditions; the Federal Reserve becomes simply an engine of inflation.
With respect to the problem of how future monetary and credit
policies are to be established, it seems to me Congress must choose from the
following three general alternatives if the present dilemma confronting the
Federal Reserve System is to be resolved $
(1) Congress can permit the present arrangemeit to continue.
The Treasury would control in effect the open market and other
credit policy as it does now by establishing such rates and terms
on its securities as it pleases, with the requirement that the
Federal Reserve support them. It should be recognized that under
this course, limitations over the volume of bank credit available
both to private and public borrowers, and accordingly limitation
over the total volume of money in the country, would be largely
given up. Such credit and monetary restraint as might be required
from time to time to promote economic stability would be entirely
dependent upon the willingness of the Treasury to finance at higher
interest rates, and in the past the Treasury has been resistant to
doing this. If this alternative is followed, which is the present
arrangement, Congress should recognize that the responsibilities
for monetary and credit policies are with the Treasury and not with
the Federal Reserve System and that the principal purpose of the




Federal Reserve System is then to supply additional bank
reserves on the demand of any holder of Government securities at rates of interest in effect established by the
Treasury*
(2) The Congress could provide the Federal Reserve
System with a partial substitute for the open market and
discount powers which debt management decisions of the
Treasury have rendered and can continue to render largely
useless for purposes of credit restraint. Some measure of
control over the availability of credit under inflationary
circumstances could be regained if the System were given substantial additional authority over basic reserve requirements
of the entire commercial banKing system, hith such authority,
the System could, if necessary, immobilize new bank reserves
arising from a return of currency from circulation, gold inflows, and System purchases of securities from nonbank investors and thereby prevent the multiple expansion of the money
supply. In addition, the System would need authority to require banks to hold a special reserve in Government bills and
certificates. This would be necessary in case banks entered
upon an inflationary credit expansion through the sale of
Government securities to the Federal Reserve or in the event
it was necessary to assist the Government to finance large
deficits without creating additional bank reserves which serve
as a basis for multiple credit expansion.
(3) Congress, if it wishes credit and mcmetary policy to
be made by the Federal Reserve System in accordance with the
objectives of the Federal Reserve net and the Employment Act
of 1946, could direct the Treasury to consult with the System
in the formulation of its debt-management decisions in order
that these decisions may be compatible with the general framework of credit and monetary policy being followed by the System
in the interest of general economic stability. It is obvious,
of course, that Government financing needs must be met and the
responsibility of the Federal Reserve to insure successful
Treasury financing must continue to be fully recognized. But
Treasury financing can be carried out successfully within the
framework of a restrictive credit policy, provided the terms
of the securities offered are in accordance with that policy.
To sum up briefly my views, X believe that Congress should fix
clearly the responsibility for national monetary and credit policy, although
the Federal Reserve System was established as an agency of Congress for determination of monetary and credit policy, as it must function now it is responsible both to Congress and to the Treasury for that policy. These two
responsibilities are often conflicting, and both cannot be satisfactorily
discharged. The responsibilities and authority of the System need clarifica-




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tion and for that purpose one of three alternative actions might be taken
by Congress:
(1) Recognize in the statute that responsibility for monetary and credit policy is with the Treasury and recognize the
Federal Reserve for what it is today — an agent for advising
the Treasury and carrying out monetary and credit policy determined by the Treasury;
(k,) Give the Federal Reserve System such additional authority over bank reserve requirements as would adequately serve as
a partial substitute for discount and open market powers;
(3) Give the System a mandate to determine monetary and
credit policies on the basis of guide posts stated in terms of
the language of the Full Employment act of 1946, with the Treasury required to advise and consult with the Federal Reserve and
take into account the mandate of Congress in connection with its
debt-management decisions.
I recognize that monetary or credit policy by itself cannot assure
economic stability. It should be accompanied by a fiscal policy, as well
as a bank supervisory policy, in harmony with it,
I appreciate very much having the opportunity to express my views
on this matter.
Sincerely yours,
(Signed) M. S. Eccles
M. S. Eccles.

Honorable Paul H. Dduglas,
United States Senate,
Washington, D* C.