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THE UNDER SECRETARY OF THE TREASURY WASH I NGTON February 15, Dear Marriner: For your information I am enclosing herewith a copy of a memorandum prepared by George Haas which outlines two new savings bonds and a modification of the existing savings bond. This will be discussed at our preliminary meeting on Monday, which I have asked Fiser to attend. Very truly yours, Honorable Marriner S. Eccles, Chairman., Board of Governors of the Federal Reserve System, Washington, D. C. Secretary Morgenthau Mr. Haag Subject: Proposed lew Forms of United States Savings Bonds *• T3ae Problem of Bem&ad Obligations From the point of view of the Treasury probably the principal problem raised bj United States savings bonds is that these securities say be redeemed at any tine at the option of the holders. Thus, the Treasury face® the possibility of demands for redemption on a large scale. The magnitude of this problem, of course, will fgror as the volum* of B&Ylags bonds outstanding increaser. Demands for redemption may arise either in consequence *f rising interest r&tes which lead, Investors to t t f more fte remunerative investments, or of increased expenditures for consumption by the holders. The risk of demands ocoaaioned by rising interest rates can be mitigated, but it cannot be avoided entirely. The principal means of reducing this rlsl Is to make the yields ©n savings bonds loir during the earlier portion of tneir term relative to their yield if held to maturity. Th« return so withheld during the earlier period is then automatically added to that still to be received la the later period. This a&kei the bond & more aad ao?e attractive instrument to hold ae It approaches maturity, and so discourages redemption. This hae been done to a moderate degree under the present savings bond plan. Thus, the yield to maturity of United States savings beads is 2*90 percent, while the yield if the bonds are held only five year® Is but 2.28 percent, and the yield for the remaining five years if held to maturity is 3»52 percent. It would be possible, however, to increase the encouragement given to the holders to retain their bondg for the full ten-year period by withholding a larger portion of the ultimate yield than Is now the ease, until the latter portion of the ten-year term* All of the plans described In the second section of this memorandum employ this principle to a greater degree than does the present plan. Secretary Morgenthau - 2 the risk of premature redemption due to rising interest rates would attain laportanoe if the level of interest rates In the bond market ^fcould rie<? above the yield for the remainder of their period to maturity of * eoneid.tra.ble portion of the outsU.rv3.iag parings bonds, fhe x*oid«re of ths&e saving* bondr would tfcsa hare & pecuniary incentive for (switching from them into ®&rket obligations prised to yield & higher return. As this condition has never existed sinee the issuance of savings bonds <sostmenae6 in 1935* the redtsptioa exporitnoc of the present bonds le a iioor niide to vh&t aigfet be axpeoted under higher iatsrast Although the existence of outst&adiag deaaad th# TreAevry to the risk of large-scale redcaptions if interest rates rig*, it should be noted that there would be ooapens&tlng dieAd'vmntftgee attached to the issuance of tern securities designA^ to attract funds from tiie s&xe sources. Sueh seeurltlee wouia fall to a substantial dieoouat if interest r&tee i»orea»ed. The Liberty bonds whieh were issued during the World War writ aeetirities of the latter t|pe. fhese bonds fell o©imia«rat»ly belov par shortly after the end of the War, oamslns? great popular aisnatigfaotloa. (th« k~l/k Stoond Liberty bonds, for exampleff fell to a low of BB on May 20, 1920.) for redemption for the imrpose #f iaoreasing »ontxpeaditures might ooour elthtr la periods of deand unesiiloyaient or ia periods of full employment. In periods of unesplfsysaent, ther© would be no objection to satisfying suoh demands freely and raising the accessary fuRd« from other sources, including the sale of securities to banks. In periods? of full eaployment, on the other hand, it would be best to redeem suoh securities, at far as possible, from tax r*Y#nuen. to the extent th^t this should not be possible, it w@til£ be ns®«i§£a?y to r#?fmna them into higher rate sold to r*»l k wl6espread demand for redemption of United states savings bon^M, vhrther for oonsu&ptiom purposes or because of increased interert rat*s, vould undoubtedly impost a burden on the Treasury, Ai already pointed out, tern securities, twih ms Liberty bon^B, if outstanding under slallar olrouftst&noe3v would suffer substantial tepreolation laftajpltelTalue, thereby throwing a corresponding burdea on their holders* frhe real Gueption, therefore, In merely whether the burden should be borne by tfee f*e**«ry or by the individual holder a of ta« boads, Oft balance, it would appear mare sooially dsslratile that the Treasury should bear the burden than the individual holders. Secretary Jiorgenthau • 3 The refunding of (k»vernm«nt securities through the treasury would undoubtedly prove Xeg§ demoralising than widespread aarket liquidation, gueh as ooourred after the World War. 21. Thrgc Proposed Mew Series of *falto& $*at«e savings Bands At the present tiae it would appear to tee p&rtioularly desirable to encourage holding of United States savings bonds for the full ten-year period, and at the same time to plaoe at large a proportion as possible of future increases in the public debt in the hands of bona fide savers. To attain the flrnt of then® objectives*, it is recommended that t new series of furring« bond© be issued similar to the present bonds, with a maturity yield of 2.90 percent# but with reduced intermediate yields, the Halt oa Individual purchases of suefc bonds to be f3,000 in &ny one calendar year. In order to attract a large volume of savings vlthout increasing unnecessarily the interest charge on the public debt, it li reoommendtd that there also be issued two new series of bonds with both maturity and intermediate yields lover than those on the bonds proposed above, the limit on individual puroh&ses to be substantially greater than the (10,000 permitted for the present series. These two bonds would be alike, exoept that one would be of the appreciation type, while the other wouldfrAfrya ourrcnt interest return. It is belleprtA that by thus offering two types of investment security a broader market would be tapped than by the offering of an appreciation bond alone. Seeurities of these three typist &re deserlbet below: (a) Bonda vlth reciuQed Intermediate yleldc. The present plan of issuance of United States savings oonde is compared with that proposed in this subsection in Table I ana In C f r & . I and II. It will be seen that un€®r the proposed plaa heia a larger part'of the totr-1 appreciation in value in withheld until th# final years of the* period. In consequence, under the proposed plan the Inore&se in yi#l« with the period held lags behind that of outstanding United States savings bonds under the present plan, as is shown in Chatrt I, but these yields are, nevertheless, higher than those' currently available oa ©arkut Issues of treasury bonds for every regular seraiannu&l redemption date. The size of the bonus offered under the pTQp&ne^L plan for holding savings bonds until final Maturity is indicated In S h t II. This ohart shows the yields if held to maturity Secretary Morgenthau « k froa any intermediate date* Under the present plan providing a 2.90 percent aver-all field, this figure reaches a maximum of only ^ 3 1 percent at the end of the fourteenth semiannual period, and thereafter falls back gradually to %.0§ percent at the end of the nineteenth semiannual period. In the proposed plan, on the other hand, this figure rises continuously throughout the whole life of the bond to a level slightly over 10.50 percent at the enA of the nineteenth semiannual period. There would sees to be speolai Justification for thus reducing the return on savings bonds if not held until final maturity. The disparity between the rate of return on savings bonds and that on open market obligations is greater for intermediate periods than for the full ten years, furthermoref it may be argued that intermediate redemption should be considered as a special privilege, which should be accorded to the holders of the bonds only at some sacrifice below the standard rate of return to maturity. If such a reduction of Intermediate redemption values should make savings bonds somewhat less attractive to persons who contemplate holding them only for temporary investment, this would seem to be a positive advantage. It is also proposed that purchases by any individual during a given year be limited to $3,000. Subscriptions to this scries would be limited to natural p9r*en*t as is the case under the present plan. This reduction from the present limit of |lOf0OO would not materially impair the availability of the bonds to the lower income classes. It might be pertinent to observe in this connection that the maximum amount of Postal Savings deposits permitted to be held by any one person at any one time is only |a,500. Thus, it would be possible witfTTT limit of #3,000 per year for an individual to acquire aggregate holdings of savings bonds (at maturity value) twelve times as great as the maximum Festal savings deposits. The low limit on annual purchases should in some degree reenforee the tendency of reduced intermediate yields to mitigate the problem of demand obligations referred to above. This limit would tend to make the bonds relatively more at* tractive to those persons of moderate means whose investment policies do not tend to change in response to variations in the market rate of interest. These persons would be less likely to switch out of savings bonds into other Issues in the event of a future rise of interest rates than would those with larger total means. (b) Bomds with reduced yield to maturity. It is proposed that, in addition to the beads Just discussed, an issue of savings bonds bearing a maturity yield of 2.00 percent be offered. Secretary Morgenthau - § The proposed » l M is compared with the tresentp & M In fable II and in Qiarts III nad IV. This plan is based on the underlying thought that the cumulative return for the period held should be eoue.1 to Q.2O percent for each year held, working out to an even 2,00 peroent yield if held! for the full ten-year p«ri©&. This ideal hag had to be departed from slightly, due to round* ing. thus, the leeue prloe ae worked out is I&2.Q0 and the yield, if helci to maturity, is 1.99 peroent. Under this plan, it may be seen, the yield during period held riees such more slowly la the early part of the period than it does ua&er the present plan (Chart III), and that in consequents the yield during the remainder of the ten-year period, if held to maturity, bull&e up more rapidly (Chart XV)* The proposal to introduoe this type of saving® bond and th# type with a current return described in (o) below, in ad* dltlon to aodifyinc the schedule of redemption values of mr~ infs bonds issued under the present plan aocor&s with the sound nerchandlsing principle of offering eaoh type of investor the seourity beet suited to his own individual needs, to far ae this ©&n be done without sacrifice of the interest of the Treasury. It also stakes it possible la some &*gr*t to separate the flsoal aspects of the *avlngp boni sohesse from its other aspects, and thus to obtain a large volume of savings from individual saver® with # J i i s i of fiseal diseconomy. tnsua The bonds reoom^ended in this eubseetion, with both reduoed inter®€diat@ and maturity yielde, would provide an iaveitaent outlet for those who will rery largely be barred froa the regular series hy the 3,000 lialt. These persons constitute, for the »ost part, a group with relatively large individual resources whose principal investment need is a security e&rrying no risk of market depreolation. These are not the personsttbesethrift it wae thought, to encourage by the Issuance of savings bonds:. It is unlikely that their purchases ^rould be materially diminished by a reduction la the maturity yield. It should be possible by the issuance of the two types of savings bonds described in this ami the preceding sub* section to encourage the investment of saali savings in &overam#nt securities and, at the same time, to plaoe as large » proportion as possible of future Increases in the Secretary Morgent xau - 6 public debt ia the hands of private investors without paying an unnecessary bonus In the fora of excessive Interest charges to attain tale end. In this eonneotion, it is suggested that the H a l t on annual subscriptions to this series be oonsiderably larger than the |109000 permitted under present savings bond regulations — possibly $50,000 a ymr. Subforlptioas would be accepted from all elaases of subscribers, except eesaaereial banks. The purpose of a limit is to prevent, as far as possible, switolling from market Issues of Government securi ties, aad to proteot the Treasury from tag effects of disparities in the attractlveaesB of savings bonds and other treasury securities such as are likely to arise when oae security is offered for continuous sale. Xt should, of course, be independent of that imposed upon purchases of the savings boads yielding 2.90 percent. (o) Bonds yl tii a our rent return. Xt is further proposed that & special type of savings bond be issued with the same ial yield to maturity as that Just discussed, but with a regular current interest payment. The proposed new type of savings bond would have an issue price of I9§.5O and would mature at the close of ten years at 1X00.00. Xt would pay a current return of 75 cents each semiannual period over its entire life, thus giving a uniform current return of 1.57 percent on the issue price. Xts re* demption value would decrease by §0 cents upon the payment cf each of the first six semiannual Interest payments cf 7*5 cents each, reaching a low of 92.50 at the cad of the sixth semi* annual period, ffce redemption value would thereafter lac yea se by 25 cents e&ch eeal&nnu&l period until it again reached the original issue price cf 195*50 at the cad cf the eighteenth semiannual period, at which sjaou$t it would remain until final redemption at $100.00. ?he computed yield fcr the entire period would be 3.00 percent, compounded seml&nnuiilXy. The $r®po**& plan la compared la Table XXX with the p vlousXy proposed plan without current return, but with approximately the same maturity yleia, ia the three respects cf (1) yield during period held, (2) yield during remainder cf ten-year period if held to maturity, and (3) yield if held one additional period, gfart; shews the yield during period held for each plan aad also compares each cf them with the present plan, and with the yields oa Treasury boads and notes on February 6, 19«&. Chart 11 compares the two plans with each other and with the present plan oa the basis of yield during remainder of ten-year period if held to maturity. Secretary Hergenthau - 7 fills type of savings bond Is recommended for the of meeting an important segment of Investor demand — demand for a security which combines proteotion from market depreciation and a regular income* This demand, it should be noted, is most Insistent ia the very sector of the market where savings Bonds could be placed with bent advantage — namely, with investors whose principal is sufficiently large to make Income a worthwhile consideration, out who are not so wealthy (nor so possessed of other sources of Income) that they can afford to forego income for ten years while awaiting an appreciation of principal. The reality of this demand Is well attested fey the Ingenuity which has been devoted by investment counsellors to the construction of purchase plans designed to make the present series of savings bonds yield a regular income• Four principles appeared paramount In devising a plan for savings bonds of the type here contemplated. The first V o of them appeared desirable in order to maximise the attraction of the security to the investor, and the last two seemed necessary In order to safeguard the Interests of the dovernment. These principles are as follows: (1) The current return of the bonds should be as large as possible consistent with the total return allowed over the whole tea-year period. (2) The current return should, if possible, begin at once and be level over the whole ten-year (3) The total return during the first few years should not greatly exceed that available on market securities or oa the concurrently offered appreciation series of savings bonds. This In U£se7*&&ry la or&*v that the securities should definitely not be attractive to investors contemplating holding them for a short time oaly. the -yield during remainder of ten-year period If held to maturity* should be built up as rapidly as possible la order to safeguard the Government agalast premature redemption of tht beads la the event of a rise in Interest rates. - i well. The proposed plan oonfonss to these criteria reasonably It offers: (1) 4 ourrent return of I.57 ptroent on tint lssu« prise, this Is over three-quartern of the total maturity yield of 2.00 ptr##nt. (2) The current return begins Immediately and is level over the entire period, (3) The "yield during period held** doeu not rise above 0,^3 peroent ustil after the eat of the third year, this ©oap&res with a yield of 0.5? peraent at the end of ths same period 0m the proposed appreciation series, ana with a return of about 0.^5 ptrteat (plus an uakaown amount of ^Fights11 valut) ©n Treasury fiotes @f thr«t y«ar» maturity. fh» ^yitld during rtsainder of t«n-y#&r period if held to a&turlty* builds up from 2.00 p«iw oent at iftsuaao© to 2.91 percent at the and of ttw% years, fhis safeguards the Treasury against a rise In interest rates of nearly 1 pureent during the nemt fire years. Tarloug advantages tarn only &e obtained bf some reduotion la redemption value during the first few yearn. fhe alternative is a sharp reduction in ©urrent return during the early years. The «eourity Is meant to appeal, however, primarily to Investors who want a generous inoome return on * 3,Qftg-tlae basis. If they have to withdraw prematurely, Sy 'will Weoelvt a fair return oa their ®oney for the period ll W h h invested, la proportion, however, as they are worried over the immediate redemption value, they are not bona fide longterm investors and their purchaseB of the bonds would prove more a souree of embarrassment than of profit to the treasury* It Is proposed that the limit on purohases hf a single subscriber of the 2.00 percent appreciation series be applied to this series also, the subscriber being permitted to distribute his pmrohases within that limit between the two series as he sees fit. there is no differenoe la the eoonosie effects of the purchase of the two series,, so there would appear to be no reason why the same classes of Investors should not be permitted to subscribe to eaoh series and to divide their subscriptions between the two series as they desire. Attachments Tauie I ; United States Savings Bonds Comparison of Present Plan with Plan for Reduced Intermediate Yields Number of semiannual periods held Red*»r"otion value Plan for reduced Present intermediate plan yields Tield during period held Plan for reduced Present intermediate plan yields Yield during remainder of 10-year period Plan for Present reduced plan intermediate yields 0 $75-00 $75.00 .00^ .004 2.90* 2.904 1 2 75-00 76.00 77-00 78.00 79-00 75.00 75.50 76.00 .00 .00 1.33 1.76 .67 3.05 3.07 .99 77-00 1.97 2.09 3.05 3.15 3.25 3-38 3.52 80.00 81.00 82.00 83.00 8^.00 78.00 79.00 80.00 81.00 82.00 2.16 2.21 2.2U 2.26 2.28 85.00 86.00 87.00 88.00 90.00 83.00 8U.00 85-00 86.00 87-50 2.29 2.2P 2.30 2.30 2.1+5 1.85 1.90 1.93 1.96 2.07 92.00 9^.00 96.00 98.00 100.00 89.00 91.00 93.00 95.00 100.00 2.57 2.67 2.76 2.15 2.29 2.U0 2.50 2.90 I 5 6 7 8 9 10 n l? 13 ii 15 16 17 18 19 20 76.50 2.8U 2.90 3.10 1.06 1.31 1.U9 1.62 1.72 1.79 Treasury Department, Division of Research and Statistics. Yields are nominal annual rates compounded semiannually. 3.13 3.17 3.21 3.27 3.^ 3.U2 3.52 3-58 3.66 3-75 3-87 U.01 3.6U U.18 3.81 U.02 U.Ui Ml U.70 5.09 U.26 5.U1 U.21 5.91 6.39 7.39 H.17 U.12 U.08 10.53 Table II United States Savings Bonds Comparison of Present Plan with Proposed 2 Percent Plan Number of semiannual Redemption value Yield during period held Yield during remainder of 10-year period 2 Percent $75-00 $82.00 1 2 A Present plan 0 ^\ 75-00 76.00 77.00 78.00 82.00 82.20 82.1*0 82.60 83.00 .00 1 • 33 1 .76 1 •97 2 .09 83. 1*0 8**. 00 1 .00 3.52 3.61* 3.81 1+.02 •« 4 / * JA A pCrlOOS held 3 k 5 6 7 8 9 10 n 12 13 lU 15 16 17 18 19 20 79.00 plan Present plan 2 Percent plan plan 2.90^ 1.99* .00 3.05 3.07 3.10 3.13 3.17 2.10 2.19 2.29 2.1+0 2.50 3.21 3.27 3.3U 2.61 2.70 2.81 .21* ."*2 •36 85.1*0 86.20 2 .16 2 .21 2 .21* 2 .26 2 .28 85-00 86.00 87-00 88.00 90.00 87.20 88.20 SO. 20 90.1*0 91.80 2 .29 2 .29 2 .30 2 .30 2 M 1 .12 1 .22 1 .30 1 .1*0 1 •51 92.00 9U.00 96.00 98.00 100.00 93.20 9U.60 96.1*0 98.20 100.00 2 .57 2 .67 2 .76 2 .81+ 2 .90 1 .61 1 .69 1 .81 1 .91 1 •99 .69 •78 .90 Treasury Department, Division of Research and S t a t i s t i c s . Yields are nominal annual rates conro^rmded semiannually. 2 Percent .00* .00* 80.00 81.00 82.00 83.00 8U.00 8H. 60 Present plan 3.1*2 Mi 1*.26 1*.21 1+.12 U.08 <m 2.89 2.99 3.07 3.16 3.29 3.39 3.U5 3.^ 3.7U 3.70 3.67 o III United States Savinps Bonds Comparison of 2 Percent Plans with and without Current Return Number of semiannual Redempneriods tion held Value $S2.00 S2.00 S2.20 S2.40 S2.6O S3. 00 6 7 6 9 10 11 12 13 it 15 16 17 is 19 20 S3.40 64.00 34. bO 35.40 66.20 67.20 SS.20 69.20 90.40 91. SO 93.20 94.60 96.40 96.20 100.00 Plan with Current Return of cents each Semiannual Period Plan without Current Return Yield during: Period held Remainder of 10-yr period .00^ .00 .24 .69 • 7S .90 1.00 1.12 22 0 1.51 61 69 SI 91 1.99 One a d d ' l period OOfo 2.10 2.19 2.29 2.40 2.50 ,49 ^9 2.61 2.70 2. SI 2.69 2.99 2.00^ 96 I 93.50 93.00 ,44 92.50 92.75 93.00 93.25 93.50 2.6S 2.72 "2.77 2.S3 2.9! 2.16 2.16 93.75 2.99 3.11 3.25 3.45 3.7? 2.13 2.13 2.12 2.12 2.11 9 3. Si 3.73 3.67 ^4.00 9^.25 9^.50 9^.75 95-00 95.25 95.50 95.50 ion.00 Division of Research and Statistics. Yields are nominal annual rates compounded senlannually. .53 .53 .53 ,49 3.5 3.7 3.70 6 3.2Q $95.50 One a d d ' l period 2.0S 2.1S 2.26 2.40 2.53 3.39 3.% 3.07 Remainder of 10-yr oerlod 95.00 94.50 94.00 69 37 2.32 2.29 2.27 2.69 3.10 3.05 3.16 Yield during: Redemption Value ^ 3 4.S2 0.21 IO.99 2.15 2.14 2.14 2.11 2.10 1.57 10.99 „ CharT I UNITED 8TATE8 SAVINGS BONDS Yield During Period Held, Present Plan and Proposed Plan for Reduced Intermediate Yields and Yields of Treasury Bonds and Notes Y E A R S PER CENT 2.8 PLAN FOR REDUCED INTERMEDIATE Y I E L D S TREASURY BONDS FEBRUARY 6 . 1941 TREASURY NOTES FEBRUARY 6 , 1941 10 Y E A R S Otttct •( tht Stcrtur; «f th. Trattary I - 147 c II UNITED STATES SAVINGS BONDS Yield During Remainder of 10 Year Period If Held to Maturity, Present Plan and Proposed Plan for Reduced Intermediate Yields PLAN FOR REDUCED INTERMEDIATE YIELDS 4.0 3.5 3.5 3.0 3.0 0«ic« of td« Stcrttirj tf the Trw»urj Divi.l.r «rf ftMufch md Statistic* 10 I - 149 t II] UNITED STATES SAVINGS BONDS Yield During Period Held, Proposed 2% Plan Compared with Present Plan and Yields of Treasury Bonds and Notes I PER CENT 2.8 2.4 2.0 TREASURY BONDS FEBRUARY 6, 1941 TREASURY NOTES FEBRUARY 6. 1941 Y L A R S Office of the Secretary of the Treasury DWfem* of R«M*ch M 4 Statistics I - 125 r Vt Chart IV UNITED 8TATB8 SAVINGS BONDS Yield During Remainder of 10 Year Period If Held to Maturity, Present Plan and Proposed 2% Plan 2.4 2.4 2.0 2.0 0We« «f th. Uenttry $f t*»e T r M i u r j t > w r i > M 4 Stotittie* I - 148 Cnair t V UNITED STATES SAVINGS BONDS Yield During Period Held, Proposed 2% Plans Compared with Pr and Yields of Outstanding Treasury Bonds and Notes PRESENT PLAN 2% PLAN WITHOUT CURRENT 2% PLAN WITH CURRENT t Plan RETURN RETURN TREASURY BONDS FEBRUARY 6. 1941 TREASURY FEBRUARY NOTES 6, 194-1 YEARS Offict tf th* Secretary of the Treasury -131 Jri t VI UNITED STATES SAVINGS BONDS Yield During Remainder of 10-Year Period If Held to Maturity, Present Plan and Proposed 2% Plans 2% PLAN WITH CURRENT RETURN 3.0 2% PLAN WITHOUT CURRENT RETURN 2.5 2.5 2.0 2.0 YEARS Office of the Secretary of the Treasury 0iy».on of R«M«rch ind Stjtutio I -132
