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BOARD OF GOVERNORS
OF THE

FEDERAL RESERVE SYSTEM
^
'"Office Correspondence

Tn

Chairman Eooles

Date.
Subject:

Treasury Finance

R. A. Mus grave

Developments Since your Departure
(1) At the Executive Committee Meeting of May 2, the Committee
repeated its previous proposal for bill retirement of 600 million dollars
during I l y and also recommended retirement of 200 million dollars of bills
va
maturing June 5» The recommendation for May retirement has since been
carried out; the recommendation for the June 5 retirement was changed in
accordance with our discussion last Wednesday.
At the same meeting Mr. Sproul reported on his preceding discussions
with Mr. Wiggins. In respect to the Committee's three point program submitted before your departure, Mr. Viiggins indicated that the first two points
(interest charge on Federal Reserve notes and direct exchange of maturing
Jbderal Reserve held bills) were acceptable, but that the Treasury wanted to
think about procedural aspects regarding the discontinuation of the buying
rate.
(2) The same day lor. Sproul and the Board members of the Executive
Committee lunched with Mr. Wiggins. I understand that Mr. Sproul reported
to you in a memorandum on this discussion. Also, Mr. Wiggins1 proposals are
discussed in my memorandum to you dated May 13. (Copy attached)
Very briefly, Mr. Wiggins argued (a) that action on bills if possible should be gradual; (b) that the program should be handled, if possible,
so as to avoid any direct announcement oig discontinuation of the buying rate;
and (c) that changes in bill policy now should be adapted to facilitate handling of the certificate problem later. With respect to the certificate problem, his main concern appears to be that with an increase in rates, the
price of outstanding certificates might fall below par and that this might
destroy confidence in the public debt.
No specific solution was proposed by sir. Wiggins but he wondered
whether the need for announcing discontinuation of the buying rate might be
avoided by issuance of a 6-months or 9-^onths bill which would replace the
3-months bill and which would not be subject to option. Also he wondered
whether replacing bills end certificates with a 9-sionths discount security
might not solve the problem of avoiding a decline in price below par if
and "when the certificate rate should be raised.
Mr. Wiggins requested the Committee to connient on these suggestions
but* as far as I know, no formal reply was made.




- 2 -

Our reaction to the two points is as follows: (a) The issuance
of a 6-months bill would not avoid the need for announcing discontinuation
of the option because it would have to be made clear at the time of issue
that such 6-months bills would not become subject to option after three
months; (b) Issuance of a 9-Eionths discount security would solve the problem of preventing a decline in certificate prices below par in case the
certificate rate is unfrozen* However, this would be so only after all
certificates have been refunded and this would take time# Mr* Rouse argues
that the market would feel very hesitant to accept a discount security in
place of the present certificate and that, therefore,'this approach is objectionable; Dave Kennedy, on the other hand, feels that the market would
be pleased to have a discount security and that this approach would be feasible! (c) As to the principle that "certificate prices must not fall below
parnf little can be said in its favor* If temporarily the price of very short
certificates was permitted to go to a slight discount, this certainly would
not reflect on the determination of authorities to maintain bond prices above
par. Also, the effect of a slight rise in the certificate rate to 1 l/S or
even 1 1 l . would not be such as to lower the price of outstanding bonds and
/f
notes below par* The principle of!!not below part! as applied to certificates
seems to be a red herring* However, Mr* "Wiggins places great emphasis on
it.
Ity impression is that there is no strong Treasury opposition to
action on bills as such but that they wish to view the matter in relation
to the certificate problem and that there is considerable opposition to
raising the certificate rate.
(3) I understand from Mr. Rouse that he has had repeated discussions
with Treasury people on the restricted long-term issue and that the Treasury
(including Mr* V/iggins) appeared to favor it up to a point, when some objection arose. This was discussed in my memorandum of May 26. (Copy attached).
However, chances for fairly prompt action on a restricted tap issue, sold on
a limited quota basis should seem fairly good. My impression is that institutional investors would be pleased to take it after they realize that
no marketable issue xdll be available* Also, a limited amount of, say, 1 billion
should be sufficient to meet the main pressure*
Financing Outlook
The attached Table I shows the Treasury financing picture as we
now see it* The expenditure figures are on the optimistic side since we
have assumed a 2*5 billion dollar reduction in the budget figure for fiscal
19U8» The receipt figures allow for inoome tax reduction as provided for
in the Senate bill* If the bill does not become law, receipts in the second
half of calendar 19^7 will " e 1*3 billion higher and receipts in the first
b
half of I9I48 Yd 11 be 2*2 billion higher.
It is evident from our figures that the retirement program is about
over. Assuming retirement of 1 billion dollars of certificates maturing on

c



- 3June 1 and no additional bill retirement during June, the balance at the end
of the fiscal year will be about 2.5 billion including 1 billion of free
gold, 900 million of war loan deposits and 600 million of cash deposits with
the Federal Reserve.
We expect budget deficits in July and August and some surplus in
September, Assuming that 500 million dollars of certificates are retired
on July 1 and allowing for only voluntary cash redemptions on August and
September maturities, the balance by the end of September will be 1.8 billion.
Also, we estimate that there will be a budget deficit during the last three
months of the year* Allowing for changes in nonmarketable debt and again
assuming some voluntary cash redemptions of maturing issues, it will be necessary during this quarter to raise approximately 1.5 billion dollars in the
market if the Treasury balance is not to fall below 1.7 Mllion dollars.
(Since tELs includes 1 billion dollars of free gold, it is about as low as
the balance can fall unless the gold is monetized). The outlook for the first
quarter of 19k8 is better, as a surplus of about ij. billion is anticipated.
For the first half of the calendar year 19^48 redemptions of about 3 billion
(including about 1.5 billion voluntary cash redemption will be possible.
Thus, there will be no cash retirements but probably new financing
in the second half of this calendar year. Ao the same time there will be
h*h billion of note maturities on September 15* (See Table II). Also, there
will be 700 million dollars of bond maturities each on October 15 and December
15« This raises the question whether we want to continue to refund maturing
notes and bonds into certificates as lias been done since the beginning of
19^4-5 > or whether we want to bring out some new medium or longer term issue.
It is evident that refunding policies will have to depend closely on what
is done along the other lines, for instance*
(1) If a nonmarketable restricted issue is brought out, more cash
will be available to retire some of the bank held maturing debt and some of
the pressure on the long rate will be relieved.
(2) If the certificate rate is permitted to rise, the need for replacing the maturing longer term issues held by banks in order to maintain
their earnings will be less serious than it if the certificate rate remains
unchanged.
Llarket Developments
The Federal Reserve Bank of New York, since the beginning of April
has sold for Treasury and System Account J4JL8 million dollars of bonds in the
open market, comprising 255 million of restricted bonds and 163 million of
bank eligible bonds. (See our memorandum of May 20, copy attached). This
sales program has been a factor in holding down prices but nevertheless some
price advance has been resumed. (Table III) At the beginning of the program
of sales for Treasury Account, the market was very sensitive to a small show
of bonds, as it had been made cautious by the cash redemption of bills out
of war loan balances and by the Treasury-Jbderal Reserve discussions on
changes in credit policy. Since April 30, sales for Treasury Account have




-kincreased greatly in momentum. The effectiveness of the sales program has
been lessened, however, but "without the additional supply of bonds, prices
would have risen substantially.
Moderate outright purchases by savings banks and shifting out of
eligible issues sufficed to exert a strong pressure on prices of restricted
2 l/2 per cent bonds because of the complete absence of a market supply*
There is, however, a growing underlying demand based on bark shifting and
there is reason to expect that the price rise may be accentuated in the near
future. Banks under pressureof reduced earnings have begun to carry out their
buying program, they are beginning to feel that v i t an impending recession
rlh
no rise in short rates vail be effected in the next six months and that bond
prices will not fall significantly even if a slight rise in short rates should
be permitted.
The supply of bonds from System Account is strictly limited and
there is no way of determining how much additional long-tern bonds will be
made available for sale by the Treasury. (Total holdings of 2 l/2. per cent
bonds in trust accounts anount to 5 billion dollars.)
War loan deposits are rapidly approaching a minimum working level
so that war loan calls which exerted the main pressure on reserves are nearing
their end. In short, indications are that bank shifting into longer term
securities which has not been arery strong factor since spring of 19U6 now
gives indication to become of real importance*
Conclusions
. 1» Consideration of the financing outlook, especially in conjunction
with the growing pressure in the market, make a strong case for vetoing the
tax bill,
2» The market has probably by now discounted the effects of unfreesing the bill rate, if unaccompanied by action on certificates.
3» The argument that bill action must necessarily preceed action
on certificates has some merit but is frequently over-done.
I . Therefore, if no early certificate action is anticipated, there
j.
is no excessive hurry about completing discontinuation of the option account.
That is, we might consider the Treasury approach of doing away with the option
more gradually.

c

5. With lespect to the certificate rate: As an anti-inflation device, it is rather late in the day for letting the certificate rate rise.
As a measure of meeting bank earning needs and preventing shifting and further
monetization it may or may not be effective. The result will depend in part
on whether the rate will have to be re-frozen at a higher level (in which
case the effect will be^ slight) or whether scmo flexibility and thereby increased uncertainly (which will make longer issues less attractive) can be
maintained.




Tfilhat bothers m most about permitting the certificate to rise in
e
order to "offer the banks a bribe11, i s that the f i r s t bribe may well lead
to a second and so forth without accomplishing much. Some other approach
i s needed; or, at least, the banks must be told effectively that the game
can not develop into a spiral*
6. There i s a good case for bringing out a long bond on a restricted
basis. But to the extent that the main pressure comes from the banks this
will take care of only a small part of the problem*

c




STRIC1

CONFIDENTIAL

May 2 9 ,
ESTIMATED TREASURY CASH BALANCE

(In b i l l i o n s of d o l l a r s i / )
Fiscal year 19I4.7
i9li»
.friscai^^rs
191+7
Jan.- Apr.JulyJan.Deo«f2jj£ June '1+7 June July Aug. Sept. Oct. Nov. Dec. Mar• 1 June 19U7 I9I+8
Treasury cash balance, s t a r t of period
Net receipts
Expenditures 2 /
Surplus or d e f i c i t
Change in nonmarketable debt
Retirement of marketable debt I4/
Net change; General fund balance 5 /
Cash balance
Treasury cash balance, end of period 6 /

lfe •£
18 # 9
- •!*
• 2.7
-13*0
-10*7

3/+
-10.9
-

3a

3.1
2J+.0
22.6

5.6
7.7
.7
.6
2.5

3.5

2.5

4.7 2.k
5.1
- J±
+ .4
-1,0
-1.0
-1.0

2.5

3.6

-1.2
+ .9

- .5
- .8
- .8

1.7

1.7
2.3
2.6
- .3
+ .3
- .1
- .1
- .1
1*6

1.6
4.1

3.U

+ .7

- .5
+ .2
+ ,2
1.8

1.8
2.0

2.6

2.1* 1.7

2.1 3.U
2.7 2.3 3.5

12.2
8.2

- .7 - .2 - . 1 +4.0
+ . 1 + .1 - , 1
+ .u
+1.2;
- .5 -2.1;
+ . 8 - .2 - .7 +2.0
+ . 8 - .2
+2.0
2.6
3.7

M

3.7
8.0
9.1
-1.1

- .5
-1.6
-1.6
2.1

U+.O
1+2.5
1+1.5
+ 1.0
+ 8.3
-20.7
-lUk
-11.5
2.5

2.5

3^5
35.4
+1.1
•1.7
-3.2

- .U

- .1+
2.1

* Actual*
l/ Estimates are based on certain assumptions with regard to expenditures, tax legislation, and retirement policies;
(1) expenditures for fiscal 19!$ are assumed reduced by 2*5 billion dollars from the President*s Budget, (2) personal income tax rates are assumed reduced by 20 per cent beginning July 1, 1947*
2/ Including net expenditures in trust accounts•
3/ Including 1*7 billion dollars of securities held by the International Monetary Fund and 600 million by the
International Bank*
For the third quarter of I9I47, the reduction in marketable debt is assumed to equal ^00 million of cash retirement of July 1 certificates plus voluntary cash redemptions in August and September, notwithstanding full exchange
offerings for maturing issues. For the fourth quarter of 19lj7 the increase allows for some new financing which
will be offset by assumed cash retirements in the following quarter*
Treasury1 s surplus or deficit plus changes in debt may not necessarily add to changes in the cash balance
due largely to estimated or actual differences in timing of receipts and expenditures•

5/ The

6 / Beginning with February I9I4.7, consisting of deposits with the Federal Reserve Banks and in wa.r loan deposits
""" as shown on Table I I , and 1*0 b i l l i o n of free gold of which 832 million gold transferred t o the cash balance
as a r e s u l t of payments t o the International Monetary Fund#




Table III
BID PRICES OF SELECTED ISSUES
OF TREASURY BONDS
(Dollar premitun above par of f 100)

Statement
week
ended

unrestrict ed, taxable
December
September
1952-5U
1956-59

Restricted

June
1959-62

December
I967-72

April 9

3.07

5.15

2.26

3.16

April 16

2.29

5.06

2.15

3.0U

April 30

2.30

5.08

2.19

3.08

May 27

3.02

5.10

2.25

3.10

c



T a b l e XTi
NET SALES OF TREASURY BONDS FOR
TREASURY AND SYSTEM ACCOUNTS
(In millions of dollars)
Period

Bank Eligible

Total

1*1.1

38.2

79.3

lay 1 - May 28

2lij..O

125.2

339.2

Total

255.1

163,1;

1+18.5

April 3 - April 30

C




Restricted

o

o
Detailed Table 12

STRIOTLY CONFIDENTIAL

DEB]: RETIREMENT FOR 1 9 4 7 AND J^JNUARY - JUNE 1948
PUBLICJ JJIARKE TABLE SECORI TIES OTHER THAN TREASURY BILL?5

May 2 3 , 1947

(in millions of dollars)
Total
Redeemed i?or cash
F. R.
outstand"Commercial F . R.
Nonbank
Nonbank
Banks investors
Total
ing
Banks investors
banks
196
—
105
91
401
1,140
3,330
1,007
1,635
303
1,51)8
350
4,954
354
386
1,157
547
3,133
452
153
991
i,9i4B
970
885
! 1,948
970
93
93
817
2,820
1,017
550
522+
1,499
425
88
1,000
279
633
243
1,759
2,775

Held b y

Issue
1947: J a n . 1 , 7/B% c e r t i f i c a t e s
Feb. 1, 7/8$ certificates
Mar. 1, 7/8$ certificates
Mar. 15, 1 1/1$ notes
Apr. 1, 7/8% certificates
June 1, 7/8% certificates

Commercial
banks

1,789
1,721
1,429
885
q86

773

Amount
exchanged

3,947
2,11*2
—

1.321
1,775

i

July 1, 7/8% certificates '
Aug. 1, 7/8$ certificates
Sept.1, 7/8% certificates
Sept.15, 1 1/2% notes
Sept. 15, 1 l/l$> notes
Oct. 1, 7/8% certificates
Oct. 15, k lAf° bonds
Nov. 1, 7/8% certificates
Dec. 1, 7/d% certificates
Dec. 15, 2% bonds

1,116
527
655
1,848
733

10

600

233

367
699
674
540

333

1948: Jan. 1, 7/6% certificates
1,512
1,21+0
Feb. 1, 7/6% certificates
Mar. 1, 7/8% certificates * 977
liar. 15, 2% bonds '
766
860
Mar, 15 2 3/1$ bonds
Apr. 1 , 7/8% c e r t i f i c a t e s * 462
June 1 , 7/8% c e r t i f i c a t e s • 494
June 1 5 , 1 3/^4% bonds
2,179
T o t a l : 191+7 - Jan.-June
7,583
July-Dec.
7,759
19i4S - Jan.-June •8,490
•

665
260
878
46
12
209
—

637
1,523
351
40
I
101

320
*155
25
3,786
2,61+6
<5,152

161

2,916
1,223
2,341
2,707
1,637
1,440
759
1,775
3,281
701

985
1,184

3,134
3,947

1,135

436
803

813
944
607
380
743
2,398

* 8H4.

309
262
* 539
*1,126
858
7,591
8,425
i * 6,077

;

1

2,142
1,115
1,223
1,321
*l,775
3,062
18,960
18,830
*17,719

Estimated.

Note:

Holdings of commercial banks a r e taken from Treasury Survey of Ownership of U# S» Government S e c u r i t i e s for
February 2 8 , 19^7* Holdings of Federal Reserve Banks a r e a s of k p r i l 3 0 , 19U7* Cash redemptions of commercial
banks a r e e s t i m a t e d .
GOVERNMENT FINANCE SECTION, BOiJRD OF GOVERNORS