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October 24, 1939 CONFIDENTIAL MEMORANDUM FOR: M r . Despres FROM: A l f r e d Sherrard RE: CRITERIA OF PRICE CONTROL Summary I n c e r t a i n q u a r t e r s , v o l u n t a r y c o o p e r a t i o n between i n d u s t r y and Government, c e n t e r i n g around the t r a d e a s s o c i a t i o n , has been suggested as an a p p r o p r i a t e method o f r e g u l a t i n g p r i c e s . P r i c e c o n t r o l should be designed w i t h s e v e r a l ends i n v i e w . The most important o f these a r e : 1 . To c o n t r o l s p e c u l a t i v e accumulation o f i n v e n t o r y . This r e q u i r e s mere s t a b i l i z a t i o n o f p r i c e s , regardless o f t h e i r l e v e l • I t might t h e r e f o r e be achieved by the v o l u n t a r y cooperation o f i n d u s t r y , since t h e advantages o f p r e d i c t a b i l i t y are perhaps s u f f i c i e n t t o induce compliance w i t h a s t a b i l i z e d p r i c e — e s p e c i a l l y i f i t were r e l a t i v e l y h i g h * 2 . To encourage l o n g - r u n investment and employment. The revenue r e s u l t i n g from p r i c e r i s e s must be absorbed t o some e x t e n t i n unproduct i v e balances—such as d e p r e c i a t i o n or a m o r t i z a t i o n accounts, corporate surpluses, or p r i v a t e s a v i n g s . Thus from t h i s p o i n t o f view t h e purpose o f c o n t r o l would be t o keep p r i c e s as low as p o s s i b l e w i t h o u t d i s c o u r a g i n g d e s i r a b l e c a p i t a l e x p e n d i t u r e s . The t r a d e a s s o c i a t i o n i s an i n adequate instrument f o r a c h i e v i n g t h i s end, since t h e mombors o f any i n d u s t r y are l i k e l y t o p r o f i t by h i g h p r i c e s f o r t h e i r own p r o d u c t s • The r e p r e s e n t a t i v e s o f any p a r t i c u l a r i n d u s t r y cannot be expected t o submerge i t s i n t e r e s t i n those o f t h e economy as a w h o l e . 3 . To prevent d i s t o r t i o n o f the i n d u s t r i a l s t r u c t u r e . Many i n d u s t r i e s may be extremely prosperous d u r i n g wartime even though t h e i r prospects f o r t h e longer f u t u r e aro f a r l e s s sanguine. I f t h e y are allowed t o expand now, tho r e s u l t w i l l be unwanted c a p a c i t y and stranded workers a f t e r t h e w a r . Furthermore, d e s i r a b l e a c t i v i t y i n housing and o t h e r consumer goods f i e l d s may w e l l be checked by t h e v e r y f o r c e s t h a t cause undesirable expansion i n other d i r e c t i o n s . P r i c e c o n t r o l alone cannot copo w i t h t h i s problem, since some p r i c e advances should probably bo encouraged i n the war-goods i n d u s t r i e s as a means o f r a t i o n i n g . Excess p r o f i t s t a x a t i o n and perhaps even export c o n t r o l should supplement p r i c e p o l i c y i n t h i s connection. I n d i r e c t pressure through such agencies as t h e FTC, t h e A n t i T r u s t D i v i s i o n , and perhaps even the TNEC i s probably the most e f f e c t i v e immediate approach t o the p r i c e c o n t r o l problem* I f a r e a l war boom should develop, d i r e c t Government p r i c e r e g u l a t i o n might be necessary, but i t should be avoided as long as p o s s i b l e because o f the a d m i n i s t r a t i v e d i f f i c u l t i e s i n v o l v e d • Meanwhile t h e Government should a v o i d e s t a b l i s h i n g any mechanism t h a t i t cannot c o n t r o l • I n p a r t i c u l a r , i t should a v o i d even the appearance o f s a n c t i o n i n g p r i c e s e s t a b l i s h e d by producers i n t h e i r own i n t e r e s t . Par b e t t e r , i n t h e absence o f d i r e c t r e g u l a t i o n , t o a l l o w business men t o bear the onus before consumers and t h e general p u b l i c f o r the p r i c e advances t h a t t h e y announce* October 23, 1939 (Revised October 24) CONFIDENTIAL MEMORANDUM FOR: M r . Dospres FROM: A l f r e d Sherrard RE: CRITERIA OF PRICE CONTROL Since t h e outbreak o f "war i n Europe, suggestions f o r t h e v o l u n t a r y c o o p e r a t i o n o f i n d u s t r y and Government f o r t h e c o n t r o l o f p r i c e s have aga.in become p r e v a l e n t • Most o f these schemes, as i n NRA days, give a c e n t r a l place t o t h e t r a d e associations* r e l y i n g upon them l a r g e l y f o r enforcement as w e l l as f o r the f o r m u l a t i o n o f standards• Such a method of r e g u l a t i o n , entered i n t o w i t h o u t c l e a r l y understood o b j e c t i v e s , might w e l l have h i g h l y dangerous consequences• P r i c e c o n t r o l under present c o n d i t i o n s should be designed t o serve several purposes# The most obvious aims are discussed below, but others could no doubt be added• 1• To c o n t r o l s p e c u l a t i v e accumulation o f i n v e n t o r y • Inventory accumulation i s a form o f c a p i t a l expenditure and, as such, a s t i m u l a n t t o business * The i n c e n t i v e t o amass stocks o f commodities i s not h i g h p r i c e s , however, but the e x p e c t a t i o n o f r i s i n g p r i c e s • When t h i s e x p e c t a t i o n no longer e x i s t s , speculators w i l l s e l l i n order t o r e a l i z e t h e i r paper p r o f i t s • Such sales may even reverse tho t r e n d , c r e a t i n g an a n t i c i p a t i o n o f f a l l i n g p r i c e s and thus l o a d i n g t o f u r t h e r s a l e s • B u s i ness a c t i v i t y based upon i n v e n t o r y accumulation i s n e c e s s a r i l y p r e c a r i o u s , since an upward t r e n d o f p r i c e s cannot continue f o r e v e r • Employment, b e i n g dependent upon p r o d u c t i o n ; t h e r e f o r e f l u c t u a t e s v i o l e n t l y d u r i n g an i n v e n t o r y boom and c o l l a p s e • This aspect o f t h e p r i c e c o n t r o l problem might be r a t h e r successf u l l y handled t h r o u g h t h e v o l u n t a r y cooperation o f i n d u s t r y , since a mere s t a b i l i z a t i o n o f p r i c e s — a t any l e v e l — w o u l d be s u f f i c i e n t • The advantages o f p r e d i c t a b i l i t y might be s u f f i c i e n t t o i n s u r e compliance w i t h a s t a b i l i z e d p r i c e — e s p e c i a l l y i f i t were r e l a t i v e l y h i g h * Furthermore, i f p r i c e s are t o advance, a s i n g l e sharp r i s e , w i t h no f u r t h e r movement a n t i c i p a t e d , i s p r e f e r a b l e , from t h e p o i n t o f view o f i n v e n t o r y s p e c u l a t i o n , t o a s c r i e s of minor advances. This c o n d i t i o n might a l s o be achieved through t r a d e a s s o c i a t i o n a c t i v i t y encouraged by the Government, and should be welcome t o most business men* 2* To encourage l o n g - r u n investment and employment* As p r i c e s i n general r i s e , the volume o f goods and s e r v i c e s , and t h e r e f o r e t h e volume o f employment, represented by any g i v e n r a t e of consumer spendi n g and c a p i t a l goods purchases decreases* Thus i f employment i s t o be maintained, the r a t e o f expenditure—by consumers and producers together—must be increased* To the e x t e n t t h a t p r i c e advances represent increased d i r e c t c o s t s — i n p a r t i c u l a r , higher wages or lower p r o d u c t i v i t y per w o r k e r — t h e y proba b l y load t o some expansion o f consumer e x p e n d i t u r e * To t h e e x t e n t , however, t h a t t h e y are absorbed by increased d e p r e c i a t i o n or a m o r t i z a t i o n charges or r e t a i n e d earnings, t h e r e i s no such o f f s e t t i n g c o n t r i b u t i o n t o incomes* I f increased earnings are d i s t r i b u t e d as d i v i d e n d s , t h e e f f e c t s w i l l be i n t e r m e d i a t e ; t h e r e w i l l be some stimulus t o consumption, but a l a r g o p a r t of t h e increased earnings w i l l remain unspent* (Higher p r i c e s may a l s o , o f course, be explained by increased raw m a t e r i a l c o s t s * Raw m a t e r i a l c o s t s , however, may i n t u r n be analyzed i n t o wages, charges t o v a r i o u s d e p r e c i a t i o n and a m o r t i z a t i o n accounts, i n t e r e s t payments, and p r o f i t * I n other words, the revenue d e r i v e d from highor p r i c e s m u s t v i e w i n g the economy as a w h o l e — f i n d i t s way i n t o one o f theso c a t e g o r i e s and thus produce some combination o f the r e s u l t s discussod above*) I n any case, consumer expenditure cannot expand s u f f i c i e n t l y t o m a i n t a i n employment as p r i c e s r i s e * Thus increased c a p i t a l o u t l a y s — e i t h e r p r i v a t e or public—become necessary* U n t i l the c a p a c i t y o f e x i s t i n g equipment i s s t r a i n e d , a s u f f i c i e n t volume o f p r i v a t e expendi t u r e on c a p i t a l goods i s u n l i k e l y * The obstacles t o l a r g e - s c a l e p u b l i c investment are formidable enough t o suggest, t h e r e f o r e , the d e s i r a b i l i t y o f vigorous p r i c e c o n t r o l * The purpose o f c o n t r o l , f r o m t h i s p o i n t o f v i e w , would bo t o keep p r i c e s as low as p o s s i b l e ?ri.thout d i s c o u r a g i n g d e s i r a b l e p r i v a t e i n v e s t ment* (The c r i t e r i o n o f d e s i r a b l e investment w i l l be discussed i n the next s e c t i o n * ) For such a purpose, the t r a d e a s s o c i a t i o n i s c l e a r l y an inadequate i n s t r u m e n t * To be sure, t h e members o f any i n d u s t r y may b e n e f i t by low p r i c e s i n a l l other i n d u s t r i e s , b u t t h e y b e n e f i t even more by h i g h p r i c e s f o r t h e i r own p r o d u c t . Nobody whose r e s p o n s i b i l i t y i s p r i m a r i l y t o one i n d u s t r y can i n j u s t i c e bo expected t o submerge i t s i n t e r e s t i n t h a t o f t h e economy as a whole* P r i c e r e g u l a t i o n f o r the n a t i o n a l w e l f a r e can be achieved o n l y by an agency w i t h n a t i o n a l respons i b i l i t y and w i t h no o b l i g a t i o n s — pecuniary or e m o t i o n a l — t o any p a r t i c u l a r f i r m or i n d u s t r y * -3- 3 . To provent d i s t o r t i o n o f the i n d u s t r i a l s t r u c t u r e . I n t h o present wartime s i t u a t i o n , many i n d u s t r i e s may bo extremely prosperous • even though t h e i r prospects f o r the longer f u t u r e are f a r from sanguine• Should those i n d u s t r i e s be allowod t o expand i n response t o an'ephemeral demand, grave problems of postwar readjustment w i l l be c r e a t e d . Not o n l y w i l l excess c a p a c i t y e x i s t — i n i t s e l f a waste o f r e s o u r c e s - - b u t l a b o r w i l l be t r a n s f e r r e d t o regions and occupations i n which t h e r e w i l l l a t e r be no j o b s * Under present circumstances t h i s d i f f i c u l t y i s accentuated because t h o v e r y i n d u s t r i e s most l i k e l y t o p r o f i t from an expansion o f exports would p r o f i t f u r t h e r from t h e i r own cap i t a l e x p e n d i t u r e s . S t e e l , f o r example, i s used f o r c o n s t r u c t i n g s t e e l m i l l s ; t o t h e e x t e n t , t h e r e f o r e , t h a t p r o j e c t s f o r i n c r e a s i n g m i l l c a p a c i t y are undertaken, the e x i s t i n g c a p a c i t y i s f u r t h e r s t r a i n e d and t h e impetus t o oxpand i s r e i n f o r c e d . The negative aspect o f undue development i n some f i e l d s i s t h e i n h i b i t i o n o f d e s i r a b l e a c t i v i t y i n o t h e r s . As t h e p r i c e s o f b u i l d i n g m a t e r i a l s r i s e , f o r example, i n response t o orders f o r p l a n t expansion i n the heavy i n d u s t r i e s , p r i v a t e housing a c t i v i t y w i l l be r e t a r d e d . This would be u n f o r t u n a t e n o t o n l y because b e t t e r l i v i n g q u a r t e r s are u r g e n t l y wanted; i t would a l s o cause the unemployment o f many b u i l d i n g workers, e s p e c i a l l y i n t h e smaller towns and i n a g r i c u l t u r a l areas, who would be unable t o t r a n s f e r t o i n d u s t r i a l c o n s t r u c t i o n . A s i m i l a r s i t u a t i o n might be expected i n most consumer goods f i e l d s . This problem i s r a t h e r more complex t h a n those p r e v i o u s l y examined, and i t s remedy cannot be s t a t e d so s i m p l y . The most obvious suggestion i s t h a t p r i c e s o f heavy i n d u s t r i a l products should be kept down, so t h a t t h e p r o f i t s t h a t would s t i m u l a t e and p a r t i a l l y f i n a n c e p l a n t expansion might bo c u r t a i l e d . I f , however, demand a t present p r i c e s i s more t h a n s u f f i c i e n t t o absorb the maximum output o f e x i s t i n g equipment, some r a t i o n i n g device must bo found unless c a p a c i t y i s t o be i n c r e a s e d . P r i c e advances are by f a r t h e simplest method o f r a t i o n i n g , e s p e c i a l l y under c o n d i t i o n s i n w h i c h t h e r e i s no d e s i r e t o d i s c r i m i n a t e among customers. R a t i o n i n g o f e x p o r t s might bo defended as a d e s i r a b l e d i s c r i m i n a t i o n i n f a v o r o f domestic purchasers. S i m i l a r l y , p r i c e increases on products l a r g e l y exported—implements o f war, f o r example, i f t h e present embargo i s repealed—might w e l l bo encouraged.) This apparent c o n t r a d i c t i o n i n aims suggests t h a t p r i c e r e g u l a t i o n must not be considered i n i s o l a t i o n , but as p a r t o f a l a r g e r p o l i c y designed t o minimize the i l l e f f e c t s of t h e European war upon our economy. I n cases where p r i c e advances are allowed or encouraged, some o t h e r device—such as an excess p r o f i t s tax-«*should be used t o -4- prevent i n d u s t r i a l d i s t o r t i o n and t h e a b s o r p t i o n o f income i n t o unp r o d u c t i v e balances. Conversely, i f p r i c e s are t o be kept low i n the face o f r i s i n g demand, another method o f a l l o c a t i n g o u t p u t among customers—possibly some form o f export c o n t r o l - - m i g h t be needed. E q u i t y and expediency are sure t o c o n f l i c t a t times i f c o n t r o l i s a p p l i e d a t o n l y one l e v e l o f the business s t r u c t u r e , but t h e y may u s u a l l y be r e c o n c i l e d by a f l e x i b l e p o l i c y a p p l i e d simultaneously a t several l e v e l s . D i r e c t governmental p r i c e r e g u l a t i o n i s probably too cumbersome t o be w o r t h i n t r o d u c i n g except a t a time o f a c t u a l economic c r i s i s . Perhaps the most e f f e c t i v e technique f o r h a n d l i n g t h e present s i t u a t i o n would be an i n t e n s i f i c a t i o n o f e f f o r t by a l r e a d y e x i s t i n g agencies. The heavy i n d u s t r i e s , which are the area o f most immediate concern, are s u f f i c i e n t l y r e p l e t e w i t h s k e l e t a l anomolics i n t h e i r bank v a u l t s t o be f a i r l y s u s c e p t i b l e , perhaps, t o a p r e s s u r o - b y - i n s i n u & t i o n a p p l i e d through the A n t i - T r u s t D i v i s i o n , t h e FTC, and conceivably t h e TNEC. The p o s i t i o n of tho Federal Government as an important purchaser o f many i n d u s t r i a l products might p r o v i d e leverage f o r s i m i l a r i n d i r e c t i n f l u e n c e . I f c o o r d i n a t i o n among the agoncics concerned w i t h p r i c e c o n t r o l soems nocessary, i t could be achioved moro e f f o c t i v o l y through an i n t e r departmental committee than through a grandiose new A u t h o r i t y u n f a m i l i a r w i t h t h e work t h a t has a l r e a d y boon done. I t must bo emphasized, however, t h a t no form of i n d i r e c t pressure would be s u f f i c i e n t t o combat p r i c e i n f l a t i o n i f a r e a l boom i n t h e war i n d u s t r i e s should o c c u r , Furthermoro, no close approach t o an i d e a l p r i c e p a t t e r n w i t h respect t o tho d e s i r a b l e l o n g - r u n a l l o c a t i o n o f resources can be expected t o r e s u l t from such a p o l i c y o f mere opportunism. D i r e c t p r i c e r e g u l a t i o n , nonetheless, presents such major a d m i n i s t r a t i v e d i f f i c u l t i e s , t h a t i t should bo i n t r o d u c e d o n l y when l e s s cumbersome methods appear completely inadequate. Meanwhile, however, tho Government should a v o i d e s t a b l i s h i n g any mechanism t h a t i t cannot c o n t r o l . I n p a r t i c u l a r , i t should a v o i d even tho appearance o f s a n c t i o n i n g p r i c o s e s t a b l i s h e d by producers i n t h e i r own i n t e r e s t . Far b e t t e r , i n t h o absence o f d i r e c t r e g u l a t i o n , t o a l l o w business men t o bear the onus before consumers and tho general p u b l i c f o r tho p r i c e advances t h a t t h e y announce. The i l l u s i o n o f s e l f - r e g u l a t i o n i s simply another form of the f a l l a c y t h a t a man i s the b e s t judge i n h i s own case. Confidential FOREIGN HOLDINGS OF GOLD, DOLLAR BALANCES, AND AMERICAN INVESTMENTS - END OP AUSUST, 1939 ( I n m i l l i o n s of d o l l a r s ) World (outside U.S. ) Gold Reserves Under earmark a t New York Other Total Dollar Balances Official Private GOLD, DOLLAR BALANCES, AND AMERICAN SECURITIES ( r e a d i l y negotiable) GOLD, DOLLAR BALANCES, AND AMERICAN INVESTMENTS (includes i n v e s t ments not r e a d i l y negotiable^ Annual Gold P r o d u c t i o n - 1938 Germany, Italy, and U.S.S.R. Smaller European Countries NonEuropean Neutrals Unil;ed Kingdom, Franoe, and B r i t i s h Empire Germany, I t a l y , & U.S.S.R. Smaller European Countries United British British Australia & Kingdom France Canada I n d i a A f r i c a New Zealand Germany I t a l y U.S.S.R. Belgium Netherlands Switzerland Sweden _ 1,131 10,608 11,739 252 5,488 5,740 1,372 1,372 831 2,765 3,596 48 983 1,031 2,000 2,000 252 2,748 3,000 218 216 445 2,460 132 1,137 1,269 5 21 26 265 605 876 43 697 740 54 540 594 28 288 316 50 306 356 2,055 1,060 # 630 365 530 135 310 455 2,820 200 160 1,420 # # f 85 265 980 25 30 420 120 80 730 1,680 1,185 # 425 70 760 390 # 245 2,440 1,575 # 5,260 2,995 # 17,464 8,429 Total American Investments Securities r e a d i l y negotiable Common stocks (market value) Preferred stocks (market value) Bonds (market value) Total (market v a l u e ) Investments not r e a d i l y negotiable (various bases of value) D i r e c t investments (book value) Other investments (various base8 of value) T o t a l (various bases of value) Grand T o t a l (various bases of value) United Kingdom, France, and B r i t i s h Empire 19t9o4 1,145 10#004 747* • 1,398 1,398 176 274 274 222 222 26 26 29 "29" s # # _ * t 10 11 TT 395 # # # 65 40 660 # # # * * # # # # # # 15 40 1$6 # # 4 — t - I 755 25 405 # # # # # # 125 165 55 170 # # * 670 195 920 80 575 * # # * # * # * # 1,650 615 1,650 270 1,075 # # # # # 5,446 2,191 3,324 3,506 1,074 277 40 204 6,116 17 2,386 205 4,244 - 3,586 3 1,649 165 _ 3 f 277 11 • 222 222 487 26 26 61 193 i§3 1,150 r^ser 1 40 - 11 204 1 220 411 "W 314 455 769 "35F" 4 100 4 155 80 204 Tsr 185 400 88 267 25 1,231 43 609 153 7 24 139 T8T 25 365 390 "355—T^T " W "W "W 18 332 "W 275 290 # 65 30 335 25 175 47$ 30 55 3?5 # # t 30 35 130 5 5 40 20 25 # 250 100 # 75 5 65 # 130 70 45 10 115 # 380 170 * # 120 15 180 # # 855 545 # 250 55 560 1,154 735 1,403 1,244 515 1,549 1,082 1,109 1,154 175 # # 735 1,783 1,414 515 - - - 6 • Includes #20 m i l l i o n s of B r i t i s h Empire production outside regions shown separately. Gold°reserves- Figures are f o r various report dates near tho end of August except that i n c e r t a i n instances where complete reports were not a v a i l a b l e f o r a recent date figures were estimated, notably i n case of United Kingdom, France, and U.S.S.R. Dollar balances: Figures reported f o r August 30 except t h a t holdings by oountries were p a r t l y estimated i n c e r t a i n cases, notably Sweden, Belgium, and Other Europe* Foreign investmentst Based upon Department of Commerce estimates, w i t h adjustment f o r recent ohanges. Gold production: 1938 figures p a r t l y estimated i n o e r t a i n oases, notably U.S.S.R. 5 374 TST f Small amounts not shown separately i n a v a i l a b l e sources* Stat Other Non-European Neutrals Ail Latin America Others 1,669 11 386 1,097 1,289 89 116 Form F.R. 131 BOARD OF OF GOVERNORS THE FEDERAL RESERVE SYSTEM Office Correspondence To Am Chairman Sccles Date ^ n b e r Subject: Emile Despres R e f e r r i n g t o my memorandum o f October 2I4. regarding Ben Cohen1 s r e q u e s t , communicated through David Ginzburg, I have been meaning t o t e l l you t h a t s h o r t l y t h e r e a f t e r Cohen spoke t o me d i r e c t l y about t h i s proposal. I t t u r n e d out t h a t t h e thought i n h i s mind c o i n c i d e d w i t h your views i n t h e m a t t e r . His suggestion was t h a t a few o f us who knew each other might f i n d i t h e l p f u l t o get t o g e t h e r on occasional evenings i n order t o discuss general questions o f c u r r e n t interest. He made i t c l e a r t h a t t h i s was merely an i n - f o r m a l suggestion which we might f o l l o w or not as we l i k e d , and t h a t i t was i n no sense an i n s t r u c t i o n or even a request from him. I t appears t h a t our o r i g i n a l doubts about t h i s were due t o t h e f a c t t h a t Cohen1 s suggestion was somewhat garbled i n t r a n s m i s s i o n . ^ 193?
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