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BOARD OF GOVERNORS

OF THE FEDERAL

Date
To

RESERVE

SYSTEM

November 25, 19k7

Chairman Ecclos
Woodlief Thomas

MESSAGE:

This i s a r e v i s e d copy.

Copies

are b e i n g h e l d pending a u t h o r i t y t o
\

release*

Q

Message d e l i v e r e d b y
F.R.

468

Digitized vfor FRASER
Re .
1/47


November 25 # 19k7
PROPOSAL FOR A SPECIAL RESERVE REQUIREMENT AGAINST
THE DEMAND AND TIME DEPOSITS OF BANKS
I n order t o p r o v i d e a more e f f e c t i v e means o f r e s t r a i n i n g

infla-

t i o n a r y expansion o f bank c r e d i t , the Board o f Governors o f the Federal
Reserve System proposes t h a t the Congress pass l e g i s l a t i o n g r a n t i n g the
System's Federal Open Market Committee temporary a u t h o r i t y t o impose
g r a d u a l l y as c o n d i t i o n s may warrant a requirement t h a t a l l commercial banks
h o l d a s p e c i a l r e s e r v e . This reserve should be i n a d d i t i o n t o reserves
r e q u i r e d under e x i s t i n g laws and an average amount o f o p e r a t i n g funds
c u s t o m a r i l y h e l d by the banks, and c o n s i s t o f cash o r cash i t e m s ,

inter-

bank balances, balances w i t h t h e Federal Reserve Banks, and Treasury b i l l s ,
c e r t i f i c a t e s , or n o t e s .

L e g i s l a t i o n should p r o v i d e t h a t t h i s a u t h o r i t y be

granted f o r a t h r e e - y e a r p e r i o d #

The Federal Open Market Committee should

have a u t h o r i t y t o vary t h e requirement i n accordance w i t h t h e needs pf the
s i t u a t i o n and w i t h i n the l i m i t s o f a maximum f i x e d by l a w .
Need f o r the proposed measure,—This s p e c i a l requirement i s
necessary t o enable the Federal Reserve System t o l i m i t the a b i l i t y o f
banks t o o b t a i n a d d i t i o n a l reserves by s e l l i n g p a r t o f the l a r g e holdings
o f Government s e c u r i t i e s and t o reduce o r o f f s e t t h e i n f l a t i o n a r y e f f e c t s
o f increased bank reserves r e s u l t i n g from t h a t source o r from g o l d o r
currency movements•
L i m i t a t i o n s on bank reserves are needed t o r e s t r a i n banks i n
meeting excessive demands f o r bank c r e d i t .

A t the present h i g h l e v e l o f

employment and o u t p u t , f u r t h e r expansion o f the t o t a l volume o f bank c r e d i t
i s i n f l a t i o n a r y because i t would add t o e x p e n d i t u r e s , which are a l r e a d y i n
excess o f t h * p r o d u c t i v e c a p a c i t y o f t h i s c o u n t r y ^ e x i s t i n g
s t r u c t u r e and l a b o r f o r c e .




industrial

- 2 -

I n order

t o meet p r i v a t e c r e d i t demands, banks have been s e l l i n g

Government s e c u r i t i e s i n the m a r k e t •

The F e d e r a l Reserve System, w h i c h

p r o v i d e s t h e u l t i m a t e market f o r Government s e c u r i t i e s , has had t o purchase
such s e c u r i t i e s #

I n m a i n t a i n i n g o r d e r l y and s t a b l e market c o n d i t i o n s the

F e d e r a l Reserve System must be prepared a t a l l times t o purchase t h e
Government s e c u r i t i e s n o t absorbed by o t h e r i n v e s t o r s .

Whenever t h o Federal

Reserve purchases Government s e c u r i t i e s , a d d i t i o n a l bank reserves are thus
c r e a t e d and these i n t u r n supply the b a s i s f o r an expansion i n bank c r e d i t
o f many times t h e i r amount.
I n t h i s s i t u a t i o n , the F e d e r a l Reserve System has no e f f e c t i v e
powers t o p r e v e n t an i n c r e a s e i n bank reserves e i t h e r t h r o u g h g o l d a c q u i s i t i o n s o r t h r o u g h bank sales o f s e c u r i t i e s •

Use o f t h e customary weapon o f

open market o p e r a t i o n s would i n v o l v e the s a l e i n t h e market o f t h e Reserve
System 1 s h o l d i n g s o f Government s e c u r i t i e s and, t h e r e f o r e , i s n o t a f e a s i b l e
means o f o f f s e t t i n g increases i n bank r e s e r v e s •

Under p r e s e n t

conditions,

such o p e r a t i o n s a r e i m p r a c t i c a l because o f t h e i r p o s s i b l e d i s r u p t i v e
upon t h e Government s e c u r i t i e s market*

effects

O r d e r l y and r e l a t i v e l y s t a b l e con-

d i t i o n s i n t h i s market are e s s e n t i a l t o M a i n t a i n t h e p u b l i c 1 s c o n f i d e n c e
i n Government c r e d i t *

F u r t h e r m o r e , avoidance o f any undue i n c r e a s e i n the

i n t e r e s t c o s t on the Government's huge p u b l i c debt i s d e s i r a b l e as a m a t t e r
o f n a t i o n a l p o l i c y and g e n e r a l p u b l i c

interest.

L i k e w i s e , h i g h e r F e d e r a l Reserve d i s c o u n t r a t e s would have

little

o£ no e f f e c t , because t h e banks themselves have no occasion t o borrow funds
t o m a i n t a i n r e s e r v e p o s i t i o n s a s * l o n g as t h e y can s e l l Government s e c u r i t i e s
f o r t h i s purpose«




- 2 -

Under the proposed a u t h o r i t y , banks could be l i m i t e d i n t h e i r
a b i l i t y t o expand c r e d i t on the basis o f new reserves r e s u l t i n g from g o l d
or currency movements, from sales o f t h e i r own h o l d i n g s o f Government s e c u r i t i e s , or f r o m Federal Reserve support o f the p r i c e s o f l o n g - t e r m Government
securities.

I n a d d i t i o n , i t would d i v o r c e the Government s e c u r i t i e s market

from p r i v a t e c r e d i t and permit the Federal Reserve System t o use more efr
f e c t i v e l y d i s c o u n t r a t e s and open market operations t o a f f e c t p r i m a r i l y
c o n d i t i o n s i n the p r i v a t e c r e d i t markfet.

Thus, the a u t h o r i t y would make

i t p o s s i b l e t o l i m i t the volume and r a i s e the cost o f p r i v a t e c r e d i t w i t h o u t
n e c e s s a r i l y i n c r e a s i n g the i n t e r e s t cost t o the Government on a l a r g e p a r t
o f the v a s t p u b l i c debt o u t s t a n d i n g .
Features o f the s p e c i a l reserve p l a n , — S a l i e n t f e a t u r e s o f the
proposed temporary a u t h o r i t y may be b r i e f l y summarized as f o l l o w s :
(1)

The power t o impose and t o v a r y the s p e c i a l reserve
requirement would bo vested i n the Federal Open
Market Committee and would be l i m i t e d by law t o a
temporary p e r i o d o f t h r e e y e a r s .

(2)

The requirement would apply t o a l l banks r e c e i v i n g
demand d e p o s i t s , i n c l u d i n g member banks o f the
Federal Re$erve System and nonmember banks—insured
and noninsurea. I t would n o t a p p l y , however, t o
banks t h a t do e x c l u s i v e l y a savings b u s i n e s s .

(3)

The s p e c i a l reserve requirement would apply t o b o t h
demand and time deposits and would be s u b j e c t t o a
maximum l i m i t f i x e d by s t a t u t e t A maximum o f 25
per cent o f gross demand deposits and a maximum o f
10 per cent o f time deposits w i l l probably be adequate f o r the temporary p e r i o d covered by the
proposed s t a t u t e .

(ll.)

E l i g i b l e s p e c i a l reserve assets would includes
(a) The excess o f s p e c i f i e d cash assets over an
allowance f o r e x i s t i n g reserve requirements
and an average o f customary o p e r a t i n g funds
o f the banks; and
(b) O b l i g a t i o n s o f the United States i n the form o f
Treasury b i l l s , c e r t i f i c a t e s , and notes ( w i t h
o r i g i n a l m a t u r i t i e s o f 2 years or l e s s ) .







Cash assets e l i g i b l e f o r meeting the s p e c i a l reserve
requirement would i n c l u d e ;
(a) Balances w i t h Reserve Banks*
(b) Coin and currency*
( c ) Cash items i n process of C o l l e c t i o n *
(d) Balances due f r o m i n excess o f balances
due t o banks i n U« S«
Only t h e excess o f the sum o f these items over a s p e c i f i e d
amount o f customary o p e r a t i n g funds, i n c l u d i n g the
e x i s t i n g s t a t u t o r y allowance f o r r e q u i r e d r e s e r v e s ,
would be a v a i l a b l e f o r i n c l u s i o n i n the s p e c i a l r e s e r v e .
The allowance f o r e x i s t i n g r e q u i r e d reserves and customary
o p e r a t i n g funds would be f i x e d by s t a t u t e a t 20 per
cent o f gross demand deposits plus 6 per cent o f time
depos i t s .
The requirement would be i n t r o d u c e d g r a d u a l l y as c r e d i t
c o n d i t i o n s w a r r a n t * The a u t h o r i z i n g s t a t u t e could p r o v i d e t h a t , a f t e r a s p e c i a l reserve has been e s t a b l i s h e d
o f 10 per cent a g a i n s t gross demand d e p o s i t s and 4 per
cent a g a i n s t time d e p o s i t s , f u r t h e r changes would not
exceed 5 P e r cent o f gross demand d e p o s i t s and 2 per
cent o f time deposits a t one t i m e . Ample n o t i c e should
be g i v e n b e f o r e the e f f e c t i v e date o f such changes t o
a l l o w banks adequate time t o make adjustments.
The f o l l o w i n g c o n s i d e r a t i o n s should determine the t i m i n g
o f the i n t r o d u c t i o n o f , or changes i n , the s p e c i a l reserve
requirement:
(a) The volume and ownership of special, reserve
assets and o f o t h e r assets r e a d i l y con~
v e r t i b l e i n t o e l i g i b l e assets;
(b) Past and prospective g o l d movements, currency
f l u c t u a t i o n s , or o t h e r f a c t o r s causing changes
i n the volume o f bank reserves;
( c ) Conditions i n the Government s e c u r i t i e s market;
(d) The general c r e d i t s i t u a t i o n .
S p e c i a l reserves and requirements would be computed on a
d a i l y average basis f o r monthly periods* or f o r o t h e r
periods by classes o f banks as the Open Market Committee
might p r e s c r i b e .
The p e n a l t y a g a i n s t average d e f i c i e n c i e s i n the requirement
would be o n e - h a l f per cent per month, payable t o the
United S t a t e s .
The Federal Open Market Committee would be a u t h o r i s e d t o
issue r e g u l a t i o n s governing the a d m i n i s t r a t i o n o f the
requirement* t o r e q u i r e necessary r e p o r t s , and t o delegate
a d m i n i s t r a t i o n w i t h respect t o nonmember banks t o o t h e r
a p p r o p r i a t e Federal or State banking agencies.

- 5 -

Operation o f the proposal*—Establishment o f the s p e c i a l reserve
requirement would accomplish two p r i n c i p a l purposes:

( l ) i t would reduce

the amount o f Government s e c u r i t i e s t h a t banks would be w i l l i n g t o s e l l t o
Obtain a d d i t i o n a l r e s e r v e s ; and (2) i t would decrease the r a t i o o f m u l t i p l e
c r e d i t expansion on the b a s i s o f a g i v e n amount o f reserves•

These r e s u l t s

could be accomplished w i t h o u t reducing the volume o f earning assets o f banks*
The s p e c i a l reserve requirement would n o t deprive banks of any
earning assets b u t would reduce the a v a i l a b l e amount o f h i g h l y l i q u i d and
r e a d i l y saleable assets which banks b o l d as secondary reserves t o meet
losses o f deposits and new c r e d i t demands*

Because o f the r e d u c t i o n i n

a v a i l a b l e secondary reserves, banks would then be less w i l l i n g t p s e l l
Government s e c u r i t i e s h e l d i n excess o f the requirement i n order to. acquire
h i g h e r - y i e l d i n g l o a n or investment assets*

Thus, an e f f e c t o f the s p e c i a l

reserve requirement would be t o reduce the c r e a t i o n o f new reserves and
expansion o f bank c r e d i t through m o n e t i z a t i o n o f the p u b l i c debt*
Other instruments o f Federal Reserve p o l i c y could be so used
as t o f a c i l i t a t e adjustment t o the new requirement and subsequently wpuld
be employed t o apply such a d d i t i o n a l r e s t r i c t i o n s o r such easing as the
general c r e d i t s i t u a t i o n might r e q u i r e *

One o f the purposes o f the p r o -

posed new requirement i s t o make p o s s i b l e the more e f f e c t i v e use o f the
exis.ting instruments i n o f f s e t t i n g changes i n bank r e s e r v e s — p a r t i c u l a r l y
open market operations and discount r a t e s - ^ w i t h p u t s e r i o u s l y u p s e t t i n g the
Government s e c u r i t i e s market and unduly r a i s i n g the i n t e r e s t cost on the
p u b l i c debt*




- 6 -

The F e d e r a l Open Market Committee, w h i c h w o u l d have a u t h o r i t y
t o a p p l y and v a r y t h e r e q u i r e m e n t , i s composed o f a l l seven members o f
t h e Board o f Governors o f t h e F e d e r a l Reserve System and f i v e
t i v e s o f t h e F e d e r a l Reserve Banks.

The Committee f s p r e s e n t

representaauthority

covers t h e System's Government s e c u r i t y and o t h e r open market o p e r a t i o n s .
The use o f t h e proposed s p e c i a l r e s e r v e r e q u i r e m e n t w o u l d be c l o s e l y
r e l a t e d t o these o p e r a t i o n s .
R e d u c t i o n i n t h e r a t i o o f m u l t i p l e c r e d i t e x p a n s i o n on t h e b a s i s
o f any a d d i t i o n t o t h e s u p p l y o f r e s e r v e s w o u l d be an e s p e c i a l l y
e f f e c t of the special reserve requirement.

important

How g r e a t a r e d u c t i o n w o u l d r e -

s u l t f r o m t h e p r e s e n t r a t i o o f s i x o r more t o one w o u l d depend on t h e
percentage r e q u i r e m e n t e s t a b l i s h e d .

The r a t i o m i g h t be l o w e r e d t o about

two and o n e - h a l f t o one i f t h e maximum s p e c i a l r e s e r v e r e q u i r e m e n t s h o u l d
be a u t h o r i z e d .
The mere e x i s t e n c e o f power t o impose a s p e c i a l r e s e r v e

require-

ment w o u l d i t s e l f e x e r t a s t r o n g r e s t r a i n i n g i n f l u e n c e on bank c r e d i t
expansion.

Banks w o u l d need t o g u i d e t h e i r p o l i c i e s w i t h an eye t o t h e

possible i m p o s i t i o n o f the requirement.

The e x t e n t o f use o f t h e

special

r e s e r v e r e q u i r e m e n t w o u l d n e c e s s a r i l y depend on developments i n t h e g e n e r a l
credit

situation.
R e s t r a i n t on f u r t h e r bank c r e d i t e x p a n s i o n by t h e proposed

r e q u i r e m e n t , supplemented as t h e s i t u a t i o n may w a r r a n t by o t h e r

credit

c o n t r o l measures, w o u l d n o t p r e v e n t t h e accommodation by banks o f t h e
economy's e s s e n t i a l c r e d i t needs.

The a d d i t i o n a l r e s e r v e

requirement,

however, w o u l d impose on banks a g r e a t e r r e s p o n s i b i l i t y f o r m e e t i n g




-

7 -

e s s e n t i a l c r e d i t demands o u t o f e x i s t i n g l o a n a b l e f u n d s *

t o expand l o a n s ,

banks w o u l d need t o s e l l s e c u r i t i e s o f types tbet m i g h t be bought by o t h e r
i n v e s t o r s , r a t h e r t h a n s h o r t - t e r m Government s e c u r i t i e s w h i c h under p r e s e n t
c o n d i t i o n s a r e purchased p r i n c i p a l l y b y t h e Reserve Banks*

The major e f f e c t

o f an a c t i v e program t o r e s t r a i n bank c r e d i t e x p a n s i o n , f o r w h i c h t h e sugg e s t e d r e s e r v e r e q u i r e m e n t i s needed, w o u l d be t o reduce m a t e r i a l l y

the

ready a v a i l a b i l i t y o f bank c r e d i t t o p r i v a t e b o r r o w e r s a t low i n t e r e s t
rates•
Advantages o f t h e p r o p o s a l . — T h e proposed measure has many i m p o r t a n t
advantages o f a l t e r n a t i v e means o f c u r b i n g c r e d i t e x p a n s i o n .
f u r t h e r bank c r e d i t e x p a n s i o n m i g h t be a t t e m p t e d by a l l o w i n g

R e s t r a i n t on
short-term

i n t e r e s t r a t e s on b o t h p u b l i c and p r i v a t e c r e d i t t o r i s e s u b s t a n t i a l l y ,

thus

i n c r e a s i n g t h e c o s t o f b o r r o w i n g and t h e r e b y s e e k i n g t o d e t e r b o r r o w i n g .
Such a p o l i c y , however, w o u l d g r e a t l y i n c r e a s e t h e c o s t t o t h e Government
o f c a r r y i n g t h e p u b l i c debt and have d i s r u p t i v e e f f e c t s on t h e Government
s e c u r i t i e s market*

Under t h e proposed a u t h o r i t y ,

i n t e r e s t on p r i v a t e

c r e d i t c o u l d be r a i s e d w i t h o u t i n c r e a s i n g r a t e s on Government

securities.

I n o t h e r w o r d s , any p e n a l t y r a t e s w o u l d be p a i d by those who are

currently

r e s p o n s i b l e f o r i n f l a t i o n a r y b o r r o w i n g and who m i g h t be d e t e r r e d by t h e
h i g h e r r a t e s and n o t by t h e Government, w h i c h i s r e d u c i n g

indebtedness.

I f i n f l a t i o n a r y e x p a n s i o n o f t o t a l bank c r e d i t t o p r i v a t e b o r rowers i s t o be r e s t r i c t e d , t h e r e s t r a i n t must be p l a c e d p r i m a r i l y on t h e
lender*

Under p r e s e n t c o n d i t i o n s , even such a s u b s t a n t i a l r i s e i n s h o r t -

t e r m i n t e r e s t r a t e s as one o r two percentage p o i n t s w o u l d n o t d e t e r many
b o r r o w e r s , and m i g h t encourage f u r t h e r l e n d i n g because o f t h e




additional

- 8 -

p r o f i t inducement t o t h e l e n d e r *

Under t h e proposed measure, t h e

restraint

i s p l a c e d p r i m a r i l y upon t h e l e n d e r w h i c h i n t h i s case i s t h e b a n k i n g system*
The p r o p o s a l w o u l d t h u s have t h e e f f e c t o f r e t a r d i n g f u r t h e r bank c r e d i t
e x p a n s i o n b y l i m i t i n g t h e a b i l i t y o f t h e banks t o make c r e d i t

available.

From t h e s t a n d p o i n t o f i t s e f f e c t on t h e e a r n i n g p o s i t i o n o f
b a n k s , t h e p l a n i s s u p e r i o r t o an i n c r e a s e i n p r i m a r y r e s e r v e r e q u i r e m e n t s ,
because i t w o u l d enable banks t o r e t a i n e a r n i n g a s s e t s t h a t w o u l d have t o
be s o l d t o meet an i n c r e a s e i n p r i m a r y r e s e r v e r e q u i r e m e n t s *

A t t h e same

t i m e i t w o u l d p e r m i t an i n c r e a s e i n i n t e r e s t r a t e s on p r i v a t e d e b t and
w o u l d make p o s s i b l e an i n c r e a s e i n e a r n i n g s a t banks where i n t e r e s t
on loans a r e e s p e c i a l l y low*

This c o u l d be accomplished w i t h o u t

t h e i n t e r e s t c o s t on t h e p u b l i c d e b t *

rates

increasing

The c o n t i n u e d p r o f i t a b i l i t y o f bank

o p e r a t i o n s i s e s s e n t i a l i f t h e banks a r e t o meet t h e i r i n c r e a s i n g c o s t s
and b u i l d up adequate r e s e r v e s w h i l e s e r v i n g t h e i r communities

constructively*

The s p e c i f i c f o r m o f t h e proposed s p e c i a l r e s e r v e r e q u i r e m e n t ,
as more f u l l y d e s c r i b e d i n t h e n e x t s e c t i o n , i s designed t o f i t t h e

sort

o f banking system t h a t e x i s t s i n t h i s c o u n t r y w i t h o u t a l t e r a t i o n s i n

its

s t r u c t u r e o r d r a s t i c changes i n i t s customary methods o f o p e r a t i o n *

Banka

t h a t are n o t members o f t h e F e d e r a l Reserve System w o u l d have t o be
included*

L i m i t a t i o n s o f t h e r e q u i r e m e n t t o member banks o n l y w o u l d

s e r i o u s l y weaken t h e F e d e r a l Reserve System by g i v i n g a g r e a t advantage
t o nonmembership and t h e r e f o r e w o u l d make t h e measure i n e f f e c t i v e , as w e l l
as i n e q u i t a b l e .

I t w o u l d assure e q u i t a b l e t r e a t m e n t o f i n d i v i d u a l banks and

groups o f banks w i t h o u t r e q u i r i n g t h a t a ^ l banks become s u b j e c t t o a s i n g l e
authority*




- 9 -

The r e q u i r e m e n t w o u l d a l s o make use o f t h e p r a c t i c e o f
d e p o s i t s w i t h o u t i n t e r f e r i n g w i t h t h e system o f c o r r e s p o n d e n t

interbank

relations.

I t w o u l d r e q u i r e banks t o h o l d a l a r g e p o r t i o n o f t h e Government

securities

t h a t t h e y were encouraged and p e r m i t t e d t o buy t o a i d i n war f i n a n c e and
a l l o w them t o meet a l l e s s e n t i a l c r e d i t needs o f t h e economy.

still

I t would

assure t h e maintenance o f a h i g h degree o f l i q u i d i t y and s a f e t y i n t h e
b a n k i n g system d u r i n g a p e r i o d o f r a p i d and u n c e r t a i n economic change.
The Board b e l i e v e s t h a t t h e proposed p l a n i s t h e o n l y p r a c t i c a l
method o f d e a l i n g w i t h t h e p r e s e n t monetary and c r e d i t s i t u a t i o n because
i t assures t h a t t h e p r e s s u r e s w i l l be e x e r t e d a t t h e p l a c e s where r e s t r a i n t
on bank c r e d i t expansion can b® e f f e c t i v e .

A t t h e same t i m e t h e p l a n

w i l l p r o t e c t t h e i n t e r e s t s o f t h e Government, t h e g e n e r a l p u b l i c , and t h e
b a n k i n g system.
Formula f o r computing1 t h e s p e c i a l r e s e r v e
i

i in 1 11 i'
1

ii

requirement.—The

j II 11 i i 11 <

ii'

i

a s s e t s t h a t w o u l d be counted as s p e c i a l r e s e r v e s i n c l u d e c e r t a i n s p e c i f i e d
nonearning o r cash a s s e t s , as w e l l as Treasury b i l l s ,

certificates

of

i n d e b t e d n e s s , and n o t e s h a v i n g o r i g i n a l m a t u r i t i e s n o t exceeding two y e a r s .
The e l i g i b l e cash a s s e t s i n c l u d e balances w i t h t h e F e d e r a l Reserve Banks,
c o i n and c u r r e n c y , cash items i n process o f c o l l e c t i o n , and balances due
f r o m , i n excess o f balances due t o , o t h e r banks i n t h e U n i t e d S t a t e s .
Only t h e excess o f t h e sum o f t h e s e items o v e r an a l l o w a n c e f o r

existing

r e q u i r e d r e s e r v e s and o p e r a t i n g f u n d s c u s t o m a r i l y h e l d by banks w o u l d be
counted i n t h e s p e c i a l r e s e r v e .

I n o r d e r t o assure u n i f o r m i t y among

banks, such a l l o w a n c e s h o u l d be f i x e d by s t a t u t e a t 20 p e r c e n t o f gross
demand d e p o s i t s and 6 p e r cent o f t i m o d e p o s i t s *




- 10 -

To accomplish t h e purposes o f t h e s p e c i a l r e s e r v e a u t h o r i t y ,

it

i s d e s i r a b l e t h a t t h e f o r m u l a i n c l u d e some m a r g i n o f cash a s s e t s as w e l l
as t h e s p e c i f i e d s h o r t - t e r m Government s e c u r i t i e s *

Confining the

eligible

s p e c i a l r e s e r v e a s s e t s t o Government s e c u r i t i e s w o u l d cause d i f f i c u l t i e s
t o banks o b t a i n i n g new f u n d s and n o t h o l d i n g adequate amounts o f
required securities*

the

A f o r m u l a l i m i t e d t o t h e s e e a r n i n g a s s e t s would a l s o

be no more e f f e c t i v e i n r e s t r i c t i n g f u r t h e r i n f l a t i o n a r y c r e d i t

expansion*

O n l y T r e a s u r y b i l l s , c e r t i f i c a t e s . , and s h o r t - t e r m n o t e s are
proposed f o r i n c l u s i o n i n t h e s p e c i a l r e s e r v e and o t h e r Government s e c u r i - *
t i e s are e l i m i n a t e d f o r a number o f r e a s o n s .

The volume o f b i l l s ,

certi-

f i c a t e s , and n o t e s can be more e a s i l y l i m i t e d t o r e l a t i v e l y s t a b l e amounts.
To i n c l u d e a l l Government s e c u r i t i e s w o u l d make necessary t h e
o f a v e r y h i g h r e s e r v e r e q u i r e m e n t f o r i t t o be e f f e c t i v e *

imposition

Inclusion of

Government bonds w i t h i n one o r two y e a r s o f m a t u r i t y o r c a l l d a t e s w o u l d
cause sudden s u b s t a n t i a l i n c r e a s e s and decreases i n t h e amount o f
reserve assets*

eligible

I t i s a p p r o p r i a t e f o r banks h o l d i n g d e p o s i t s s u b j e c t

to

w i t h d r a w a l t o m a i n t a i n a h i g h degree o f l i q u i d i t y , p r o v i d e d b y s h o r t - t e r m
assets*

I n c l u s i o n o f l o n g e r - t e r m h i g h e r - r a t e s e c u r i t i e s would n o t

stop

banks f r o m s h i f t i n g t h e i r l o w e r - r a t e i s s u e s t o t h e F e d e r a l and p u r c h a s i n g
the higher-rate

bonds

i n t h e market*

o u t s i d e t h e b a n k i n g system*

More o f t h e l a t t e r are s t i l l

held

L i m i t a t i o n of the requirement t o the

e s p e c i a l l y s h o r t - t e r m i s s u e s w o u l d improve t h e market demand f o r

these

i s s u e s and h e l p t o m a i n t a i n a l o w e r r a t e on s h o r t - t e r m Government b o r r o w ing without lowering long-term interest rates*

F i n a l l y , banks w o u l d have

t o s e l l t h e i r h i g h e r - r a t e i s s u e s i n o r d e r t o expand l o a n s and t h i s w o u l d
be more o f a discouragement t o l e n d i n g t h a n s a l e o f s h o r t - t e r m l o w - r a t e
issues*




An e q u i t a b l e f o r m u l a s h o u l d a l l o w f o r t h e g r e a t v a r i a t i o n s among
groups o f banks w i t h r e s p e c t t o b a s i c r e s e r v e r e q u i r e m e n t s and w i t h r e s p e c t
t o h o l d i n g s o f d i f f e r e n t t y p e s o f cash a s s e t s , w i t h o u t i n t e r f e r i n g u n d u l y
w i t h t h e s e r e q u i r e m e n t s and p r a c t i c e s *

Reserve r e q u i r e m e n t s f o r nonmember

banks n o t o n l y d i f f e r f r o m t h o s e f o r member banks b u t a l s o v a r y f r o m S t a t e
t o State»

Lfember banks may h o l d excoss r e s e r v e s w i t h F e d e r a l Reserve

Banks and a l s o b a l a n c e s w i t h c o r r e s p o n d o n t b a n k s *

Nonmember banks h o l d

b o t h r e q u i r e d and secondary r e s e r v e s i n t h e f o r m o f b a l a n c e s w i t h c o r r e spondent banks and would no doubt p r e f e r t o c o n t i n u e h o l d i n g much o f

their

r e s e r v e s i n t h i s f o r m , even though p e r m i t t e d t o h o l d d e p o s i t s w i t h Reserve
Banks*
The f o r m u l a proposed f o r t h e c o m p u t a t i o n o f cash a s s e t s e l i g i b l e
f o r s a t i s f y i n g the s p e c i a l reserve requirement takes these f a c t o r s

into

c o n s i d e r a t i o n and t h e r e f o r e makes use o f , w i t h o u t i n t e r f e r i n g w i t h ,
c o r r e s p o n d e n t bank r e l a t i o n s , b o t h f o r member and nonmember banks*

the

s p e c i a l r e s e r v e r e q u i r e m e n t w o u l d be i n a d d i t i o n t o a f i g u r e w h i c h t a k e s
account o f t h e r e s e r v e r e q u i r e m e n t s under e x i s t i n g l a w and average o p e r a t i n g
f u n d s c u s t o m a r i l y h e l d b y t h e banks*

F o r purposes o f

administrative

s i m p l i c i t y , t h e proposed f o r m u l a w o u l d be u n i f o r m f o r a l l banks*
A v a i l a b i l i t y o f s p e c i a l r e s e r v e a s s e t s * ~ T h e f o r m u l a and i t s
a p p l i c a t i o n t o c e r t a i n b r o a d groups o f i n s u r e d banks, u s i n g aggregate
f i g u r e s as o f June 3 0 , 19U7, i s i l l u s t r a t e d i n T a b l e 1 a t t a c h e d *
The t a b l e shows t h a t each m a j o r group o f banks have mora t h a n
enough s p e c i a l r e s e r v e a s s e t s a v a i l a b l e t o meet a r e q u i r e m e n t

established

a t 10 p e r c e n t a g a i n s t g r o s s demand d e p o s i t s and U p e r c e n t a g a i n s t t i m e
deposits*




A t t h e s t a t u t o r y maximum suggested f o r t h e r e q u i r e m e n t — n a m e l y

- 12 25 p e r cent a g a i n s t demand d e p o s i t s and 10 p e r c e n t a g a i n s t t i m e d e p o s i t s —
t h e d i f f e r e n t g r o u p s show d e f i c i e n c i e s i n h o l d i n g s o f e l i g i b l e a s s e t s o f
v a r y i n g p e r c e n t a g e amounts.
The v a r i a t i o n i n t h e p e r c e n t a g e s o f d e f i c i e n c y o r excess a t t h e
s e l e c t e d l e v e l s i s s t i l l w i d e r , o f c o u r s e , when s t u d i e d b y groups o f batiks
a c c o r d i n g t o F e d e r a l Reserve D i s t r i c t s ,

as i n T a b l e 2 , w h i c h shows h o l d i n g s

o f s p e c i a l r e s e r v e a s s e t s and s h o r t - t e r m Government bonds as p e r c e n t a g e s
o f g r o s s demand d e p o s i t s .

A l l o f t h e s e groups w o u l d be a b l e t o meet t h e

l o w e r l e v e l o f r e q u i r e m e n t s shown*
even g r e a t e r

Data b y i n d i v i d u a l banks would show

differences.

I n considering the d e f i c i e n c i e s i n e l i g i b l e special reserve
a s s e t s t h a t banks m i g h t c o n f r o n t a t c e r t a i n r e q u i r e m e n t l e v e l s , i t

must

be remembered t h a t b a n k s , as Table 2 shows, h o l d s u b s t a n t i a l amounts
o f s h o r t - t e r m Government bonds t h a t may be e v e n t u a l l y r e f u n d e d b y t h e
T r e a s u r y i n t o e l i g i b l e a s s e t s o r t h a t c o u l d be c o n v e r t e d t h r o u g h t h e market
i n t o such a s s e t s .

I n a d d i t i o n t o 16 b i l l i o n d o l l a r s o f T r e a s u r y b i l l s ,

c e r t i f i c a t e s , and n o t e s , a l l commercial banks h o l d h b i l l i o n d o l l a r s o f
bonds due o r c a l l a b l e w i t h i n one y e a r and 27 b i l l i o n due w i t h i n one t o
f i v e y e a r s , and t h e s e a r e w i d e l y d i s t r i b u t e d among banks*

As t h e s e bonds

a r e r e t i r e d t h e y can be r e f u n d e d b y t h e T r e a s u r y t h r o u g h i s s u a n c e o f
s p e c i a l r e s e r v e e l i g i b l e a s s e t s , depending on t h e need o f t h e b a n k i n g
system and t h e demand f o r such a s s e t s .

The F e d e r a l Reserve System,

m o r e o v e r , h o l d s 20 b i l l i o n d o l l a r s o f T r e a s u r y b i l l s ,

certificates,

and

n o t e s , w h i c h banks c o u l d a c q u i r e b y s e l l i n g t o t h e System o t h e r Government
securities.

About 12 b i l l i o n d o l l a r s o f e l i g i b l e o b l i g a t i o n s are a l s o

h e l d b y nonbank i n v e s t o r s .




- 13 -

Another source o f e l i g i b l e a s s e t s i s t h e c u r r e n t end p r o s p e c t i v e
g o l d i n f l o w , and any o t h e r i n c r e a s e i n bank cash i n excess o f

required

r e s e r v e s and customary o p e r a t i n g funds w o u l d a l s o be e l i g i b l e t o a p p l y
against the s p e c i a l reserve•
I t i s c l e a r f r o m an a n a l y s i s o f t h e bank p o s i t i o n and t h e a v a i l a b l e r e s e r v e a s s e t s t h a t t h e b a n k i n g system w o u l d be a b l e t o meet any
r e q u i r e m e n t s w i t h i n t h e l i m i t s o f t h e p r o p o s a l w i t h o u t severe a d j u s t m e n t s
and w i t h o u t undue l i m i t a t i o n upon t h e i r a b i l i t y t o s u p p l y t h e
c r e d i t needs o f t h e economy.

A u t h o r i t y f o r t h e System t o v a r y t h e

ments w o u l d p e r m i t any a l t e r a t i o n s needed t o meet changing




essential
require-

situations.

TABLE 1
ILLUSTRATIVE COMPUTATION OF SPECIAL RbSERVE ASSETS, JUNE 30, 1947
i(Based on aggregate f i g u r e s i n m i l l i o n s o f d o l l a r s , by groups o f banks)

Assets

1 . Gross demand d e p o s i t s
2 . Time d e p o s i t s
3 . C o i n and c u r r e n c y
u . Cash items i n process o f c o l l e c t i o n
5 . Excess o f demand balances due f r o m
over demand d e p o s i t s due t o o t h e r
banks i n U* S . *
6 . Balances w i t h F e d e r a l Reserve Banks

Member banks
Nonmember
Central
Reserve Country i n s u r e d
reserve c i t y
banks
New XorkjChicago c i t y
22,683
1,459

5.037
87.1

31,983
11,269

27,659
li+,1+75

11,891
6,4+9

123
1,884

36
3U9

kio
2,623

780
84+

395
12U

973

6,271+

2,5146
4,628

2,765

4,166
6,173

1,357

9,36?

8,787

3,284

4,624

1,060

7,073

6,1+00

2,759

9 . Excfess cash a s s e t s * (7 - 8)
10. Treasury b i l l s , c e r t i f i c a t e s , and notes

1,549
2,015

298
606

2,29k
k.&7h

2,387
5,191

525
2,932

11. T o t a l s p e c i a l r e s e r v e a s s e t s * ( 9 * 10)

3,564

90k

7,168

7,578

3,1+57

+
+
5 + 6)
7 . Net cash a s s e t s * ( 3 4
8 . Deduct 20$ o f gross demand d e p o s i t s
p l u s 6/o o f t i m e d e p o s i t s

—

—

— tm

—

-

lS^TCpecial reserve r e q u i r e d a t given
percentages:
a . 10/o a g a i n s t demand and l y i a g a i n s t
time deposits
b . Maximum o f 2$% a g a i n s t demand and
10/o a g a i n s t t i m e d e p o s i t s
1 3 . D e f i c i e n c y o r excess o f s p e c i a l
reserve a s s e t s : *
a . "vfith 10/o a g a i n s t demand and
against time deposits
b . W i t h 25/o a g a i n s t demand and 10/o
against time deposits
1 k. Percentage d e f i c i e n c y o r excess o f
s p e c i a l r e s e r v e a s s e t s t o demand
deposits:
a . W i t h 10/i a g a i n s t demand and 4/®
against time deposits
b . W i t h 25/o a g a i n s t demand and 10$
against time deposits

2,327

539

3,3l+5

1,14+3

9,123

5,817

3,&+9

8,^62

3,608

•1,237

+365

-2,252

-14+3

-1,95k

•5.5

+7.2
-8.8

+2,014

+3,519
-784

-151

+11.0

+15.3

+16.9

-6.1

-2.8

-1.3

-

-9.9

• F i g u r e s shown f o r t h e s e items are c o n f u t e d on t h e b a s i s o f aggregates by groups
o f banks f o r t h e c o u n t r y as a w h o l e ; t o t a l s o f f i g u r e s computed s e p a r a t e l y f o r
^ I g l i v i d u a l banks o r f r o m aggregates by d i s t r i c t s would show somewhat d i f f e r e n t
f g p b u n t s o f a v a i l a b l e cash assets f o r some o f t h e g r o u p s .




RATIOS OF AVAILABLE SPECIAL RESERVE ASSETS AND SHORT-TERM TREASURY BONDS
TO GROSS DEMAND DEPOSITS, ALL INSURED COMMERCIAL BANKS, JUNE 3 0 , 19^7
Per c e n t oi r gross demand d e p o s i t s
D e f i c i e n c y o r excess
T r e a s u r y bonds due
of special reserve
o r c a l lLab l e t /
assets i f r e TreasuryTotal
quirements a r e
bills,
Excess s p e c i a l
10% o f
certifi2595 o f
cash
.
demand
reserve
cates,
demand
assets?/
Within
Within
and
assets
and
and
1 year 1 - 5 years
2$ of
10?* o f
notes
time
time
deposits
deposits

0

Central reserve
c i t y member banks
New York
Chicago

6.8

27.8

12.0

5.9

15.7
17.9

- 8.8

«• 5 . 5
+ 7.2

5.7
1+.2

23.1+

10.3
9.3
6.7
8.0
12.9
Huh
20.6
10.3
8.8
16.8
13.3
22.9

7a
9ih
8.3
6.i+
l.h
8; 7
7.1
6.3
7.3
6.0
6.1
7.6

17;5
18.7
lk.9
liuU
20.3
23.2
27.7
16.6
16; 1
22i7
19.U
30.5

- 8,6
-11.8
-11.3
-111. 2
- 7.0
- 3.9
- 2.7
-10.2
-10.7
- 3.7
- 7.1
.9

+ 7.1
+ 6.5
+ luk
+ 3.0
+ 9-h
+12.3
+15.5
+
5-9
+ 5.1+
+12.2
+ 8.8
+17.9

5.1
3.5
1.5
7.1
2.5
3.5
5.9
5;i
3.7
it.8
2.2
6.1

I8.3
31^7
22.6
33.7
32.5
20.0
36.9
2^.2
28.0
19.1
18. U
31.3

15.2

7.2

22.U

-

6.1

+11.0

li.9

27.8

12.6
12.7
18.7
17.8
17.0
19.7
21.6
21.7
23.8
26.1
21.3
17.6

6.h
9.3
10.1
11.1
8.5
5.1
10.5
3.8
6.U
9.6
11.1
7.9

18.9
21.9
28.8
28.9
25.5
2 M
32.1
25^5
30.2
35.8
32.U
25.5

-11.1
-11.5

5.0
h.3
5.0

37.3
1*5.7

+
•
+
-

3.5
3.9
3;3
.6
3.2
.3
9.3
6.6
k-9

+ 6.9
+ 8.6
+15.5
+15.9
+13.8
+13.6
+19.5
+li|.0
+18.0
+25.2
+22.1
+13.3

k*3
3.9
5.9
h.0
7.3
3.2
2.9
6.9

la. 8
28.7
39.8
18.8
16.7
33.9

18.8

8.6

27.1+

-

2.8

+15.3

1+.7

3U.3

19.2

1.2

15.1
20.9

1.7

20.3
16.8

-15.8
-16.2

5.6
k.5

22; 0

1*8
.2

* 5.9
+ 3.6
+ 8.3
•13.5
+ 8.7
+20.7
+22.2
+18.9

Ul.5
39.9
35.6
37.6
29.5
22.9
39.8
22.5
32.5

8.9

- 9.9

Reserve c i t y
member banks
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
M l * Louis
apmeapolis
Kansas C i t y
Dallas
San F r a n c i s c o
Total
C o u n t r y member
banks
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
S t . Louis
Kinneapolis
Kansas C i t y
Dallas
San F r a n c i s c o
Total

,

1*0.2

31.8
25.0

•Nonaeaber i n s u r e d
^ j j p e r c i a l banks
^roston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
S t * Louis
Minneapolis
Kansas C i t y
JftkLlas
^ R n Francisco
Total

20. I*
25.2
29.0
25.0
59.6

28.0

16.5

19.6
2i+.7

6; 8
5;9
1+.7
3.9
7.3
10.^

.6

U*k

21.2
26.8

20.6
32iO
3^9
29/7
itf.5
35.3

-11.1
- 6.3
- 9^2
+ 3i8
+ 3.1
+ 2.7

+12.8

3.8
li.6
5.8
3.0
hi 6
2.2

+31.2
+2U.6
+16.5
+ 5.5

2.9
.9
7-7

20.5

20.1

+ .8
-16.6

29.1

-

+16.9

it. 2

31.0

27.0

-h 8 . 6

1.3

18.3

39.3

0/

T o t a l o f ( 1 ) balances w i t h F e d e r a l Reserve Banks, ( 2 ) excess o f demand b a l a n c e s
due f r o m over demand d e p o s i t s due t o banks i n U n i t e d S t a t e s , ( 3 ) c o i n and c u r r e n c y , and (J*) cash i t e m s i n process o f c o l l e c t i o n , l e s s ( 5 ) t h e sum o f 20 p e r
c e n t o f demand d e p o s i t s and 6 p e r c e n t o f t i m e d e p o s i t s .

b/

These r a t i o s are based on e s t i m a t e d h o l d i n g s o f sueh Treasury-bonds.




BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM,
DIVISION OF BANK OPERATIONS,
NOTEMBER 18, 19^7.