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December «1, 1940. TO - The President FROM - Chairman Eccles Attached is a joint stata^ent adopted unanimously after several months of discussion l^r the Federal Advisor:/ Council, the Presidents of the twelve Federal Reserve Banks, and the Board of Governors for presentation to Congress, Altogether, thirty men are comprised in these three 2rouPs» aE-$ the statement is something of an achievement in bringing them, together in e constructive approach to problems in the monetary field. It is a substitute for a highly critical-statement which the Cowicil had adopted and wished to make public*—In its present form it is not critical and should be helpful in allaying some of the 'widespread and increasing fear of monetary inflation. It should also be reassuring to the public because it indicates the will on the part of those charged with public responsibility to prevent inflationary developments so far as that can be done by monetary action, provided, of course, that Congress grants adequate powers to the monetary authorities. It indicates further that the much publicized danger of Monetary inflation is not iismeciiate, and that price inflation due to bottlenecks should be dealt r?ith by direct action and araoreadequate tax system, rather than by monetary raeans, I have furnished a copy to the oeereWry of the Treaouif and advised him that I am sending this copy to you so that you may be infors?«d of its contents prior to its transmission to the Congress. Attachment. RELEASED FOR PUBLICATION /iFTERNOOfl PAPERS J A M l 1941 SPECIAL REPORT TO THE CONGRESS the Board of Governors of the Federal Reserve System, the Presidents of the Federal Reserve Banks, and the Federal Advisory Council For the first time since the creation of the Federal Reserve System, the Board of Governors, the Presidents of the twelve Federal Reserve Banks, and the moiabers of the Federal Advisory Council representing the twelve Federal Reserve Districts present a joint report to the Congress. This step is taken in order to draw attention to the need of proper preparedness in our monetary organization at a time when the country is engaged in a great defense program that requires the coordinated effort of the entire Nation. Defense is not exclusively a military undertaking, but involves economic and financial effectiveness as well. The volume of plnysical production is now greater than ever before and under the stimulus of the defense program is certain to rise to still higher levels. Vast expenditures of the military program and their financing create additional problems in the monetary field which make it necessary to review our existing monetary machinery and to place ourselves in a position to take measures, when necessary, to forestall the development of inflationary tendencies attributable to defects in the machinery of credit control. These tendencies, if unchecked, would produce a rise of prices, would retard the national effort for defense and greatly increase its cost, and would aggravate the situation which may result when tne needs of defense, now a stimulus, later absorb -2less of our economic productivity. While inflation cannot be controlled by monetary measures alone, the present extraordinary situation demands that adequate means be provided to combat the dangers of overexpansion of bank credit due to monetary causes. The volume of demand deposits and currency is fifty per cent greater than in any other period in our history. Excess reserves are huge and are increasing. They provide a base for more than doubling the existing supply of bank credit. Since the early part of 1934- fourteen billion dollars of gold, the principal cause of excess reserves, has flowed into the country, and the stream of incoming gold is continuing. The necessarily large defense program of the Government will have still further expansive effects. Government securities have become the chief asset of the banking system, and purchases ty banks have created additional deposits. Because of the excess reserves, interest rates have fallen to unprecedentedly low levels. Some of them are well below the reasonable requirements of an easy money policy, and are raising serious, long-term problems for the future well-being of our charitable and educational institutions, for the holders of insurance policies and savings bank accounts, and for the national economy as a whole. The E'ederal Reserve System finds itself in the position of being unable effectively to discharge all of its responsibilities. While the Congress has not deprived the System of responsibilities or of powers, but in fact has granted it new powers, nevertheless, due to extraordinary world conditions, its authority is nov/ inadequate to cope with the present and potential excess reserve problem. The Federal Reserve £3ystem, therefore, submits for the consideration of the Congress the following fivepoint program: 1. Congress should provide means for absorbing a large part of existing excess reserves, which amount to seven billion dollars, as well as such additions to these reserves as may occur. Specifically, it is recommended that Congress (a) Increase the statutory reserve requirements for demand deposits in banks in central reserve cities to 2.6%; for demand deposits in banks in reserve cities to 20$; for demand deposits in country banks to 1U%; and for time deposits in all banks to 6%* (b) Empower the Federal Open Market Committee to make further increases of reserve requirements sufficient to absorb excess reserves, subject to the limitation that reserve requirements shall not be increased to more than double the respective percentages specified in paragraph (a). (The power to change reserve requirements, now vested in the Board of Governors, and the control of open market operations, now vested in the Federal Open Market Committee, should be placed in the same body,) (c) Authorize the Federal Open Market Committee to change reserve requirements for central reserve city banks, or for reserve city banks, or for country banks, or for any combination of these three classes. (d) Make reserve requirements applicable to all banks receiving demand deposits regardless of whether or not they are members of the Federal Reserve System. (e) Exempt reserves required under paragraphs (a), (b) and (d) from the assessments of the Federal Deposit Insurance Corporation. 2. Various sources of potential increases in excess reserves should be removed. These include: the power to issue three billions•of greenbacks; further monetization of foreign silver; the power to issue silver certificates against the seigniorage, now amounting to one and a half billion dollars on previous purchases of silver. In view of the completely changed international situation during the past year, the power further to devalue the dollar in terms of gold is no longer necessary or desirable and should be permitted to lapse. If it should be necessary to use the stabilization fund in any manner which would affect excess reserves of banks of this country, it would be advisable if it were done only after consultation with the Federal Open Market Committee whose responsibility it would be to fix reserve requirements. 3. Without interfering with any assistance that this Government may wish to extend to friendly nations, means should be found to prevent further growth in excess reserves and in deposits arising from future gold acquisitions. Such acquisitions should be insulated from the credit system and, once insulated, it would be advisable if they were not restored to the credit system except after consultation with the Federal Open Market Committee. A* The financing of both the ordinary requirements of Government and the extraordinary needs of the defense program should be accomplished "by drawing upon the existing large volume of deposits rather than lay creating additional deposits through bank purchases of Government securities. We are in accord with the view that the general debt limit should be raised; that the special limitations on defense financing should be removed; and that the Treasury should be authorized to issue any type of -5securities (including fully taxable securities) which would be especially suitable for investors other than commercial banks. This is clearly desirable for monetary as well as fiscal reasons. 5. As the national income increases a larger and larger portion of the defense expenses should be met ty tax revenues rather than ty borrowing. Whatever the point may be at which the budget should be balanced, there cannot be any question that whenever the country approaches a condition of full utilization of its economic capacity, with appropriate consideration of both employment and production, the budget should be balanced. This will be essential if monetary responsibility is to be discharged effectively. In making these five recommendations, the Federal Reserve System has addressed itself primarily to the monetary aspects of the situation. These monetary measures are necessary, but there are protective steps, equally or more important, that should be taken in other fields, such as prevention of industrial and labor bottlenecks, and pursuance of a tax policy appropriate to the defense program and to our monetary and fiscal needs. It is vital to the success of these measures that there be unity of policy and full coordination of action by the various Governmental bodies, A monetary system divided against itself cannot stand securely. In the period that lies ahead a secure monetary system is essential to the success of the defense program and constitutes an indispensable bulwark of the Nation.
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