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M. S. Eccles

13b —

4/28/44

PLAN FOR INDUSTRIAL LOANS W COMMERCIAL BANKS
GUARANTEED BÏ FEDERAL RESERVE BANKS

Extent of the Need
In the shift of production from war goods to civilian good3,
many business enterprises will find themselves in need of additional funds
to finance their operaticans. This need is imminent since the changing re­
quirements of the armed services are necessitating a growing volume of
cancellations and curtailments. The need will become much more extensive
when the volume of production for war declines at the time of armistice,
Whether on one front or both fronts, and the volume of civilian production
needs to be increased accordingly. While it can be expected that after
the settlement of war contracts American business as a whole will have a
greater volume of liquid assets than ever before, this condition will not
be uniform. Numerous enterprises will not be able to resume peacetime
operations without financial assistance, in many casés beyond that avail­
able from private sources upon terms which will meet the borrower's re­
quirements. Among such concerns will be those which have invested
heavily in plant facilities (and equipment in relation to their cash
position, those who propose to change the type of product previously
manufactured, and those that hr.ve had no war contracts and. have suffered
drastic curtailment during the war. Again, some contractors, in. order
to avail themselves of a favorable opportunity for purchasing Governmentowned facilities and inventory, may require a larger mount of credit
than -can be obtained upon tems customarily granted by banks. Such
situations may occur before settlement of cancelled contracts as well as
thereafter.
In these arid*other circumstances, some degree of financial
assistance from the Government will be necessary to encourage private
financing institutions to extend the type of credit indicated if the pro-»
duction of such businesses.is not to be curtailed or entirely lost. It
is important, therefore, that some governmental agency be given the
authority now to facilitate the extension of credit in the situations
indicated, during the period of cancellations of war contracts as well
as during the reconversion period and thereafter. It would be highly
preferable that the agency,so empowered should be permanent in character
and should have no incentive to compete with private lending institu­
tions. Agencies which are set up for the exclusive purpose of extending
Government credit have a tendency "to maintain the volume of their busi­
ness even after the need for such credit may have declined. Therefore,
to guard against competition with private financing institutions and to
insure the tapering off of operations of the agency whenever conditions
warrant, it is proposed to give this responsibility to the Federal Re­
serve System, which has permanent functions other than the loaning of
money and is interested in maintaining private banking and credit on a
sound basis*



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Limited Authority of Federal Reserve Banks under Present Law
Under section 13b of the Federal Reserve Act, the Federal Re­
serve Banks are authorized to make credit available to business enter­
prises, either directly when such credit is not otherwise available or
through participation with commercial banking institutions. Such loans,
however, may be made only for the purpose of providing working capital,
must have maturities not exceeding five yoars, and may be provided only
for established businesses. Because of such restrictive provisions of
the statute, the Federal Reserve Banks have not been able to make credit
available to many deserving business enterprises; nor would they be able
to assist to an important degree in financing such enterprises henceforth.
Authorization to Federal Reserve ftanks to Guarantee Loans
In order to remedy these defects in the present law and to meet
the need described above, it is proposed that, in lieu of the existing
authority of the Federal Reserve Banks to make loans to business and in­
dustry under the restrictions noted, these banks be authorized to guaran­
tee financing institutions against loss on loans made to business enter­
prises or to make commitments to purchase loans'so made. Such guarantees
and commitments by the Federal Reserve Banks would be available in proper
cases to any financing institution, whether or not a member bank of the
Federal Reserve System. The procedure followed in making such loans and
guarantees would be generally similar to that which has been used in fi­
nancing. war production under the V loan program. However, a Federal Re­
serve Bank would execute the guarantees as principal and not as fiscal
agent of the Government. A borrower would be expected to apply for such
a loan through his usual banking connection. The bank would in turn make
application to the Federal Reserve Bank of its district for the guarantee.
General regulations governing the poliçy and procedure relating to the
program would be issued by the Board of Governors of the Federal Reserve
System.
Qualifications of the Sv3tea for the Task
The twelve Federal Reserve Banks and their twenty-four branches
are in . position to extend this service economically and efficiently.
a
The officers and employees of the Federal Reserve Banks have gained wide
experience in administering the V loan program, in addition to that gained
since 1934 in making loans to business enterprises under the existing pro­
visions of the law. Financing institutions and borrowers alike are fa­
miliar with the services of the Federal Reserve Banks in this field. The
authority to guarantee loans to business enterprises, therefore, could be
put into effect without delay and the credits consummated expeditiously.
Moreover the Federal Reserve System has important responsibilities in the
credit field and in the supervision of banks and, since the loans in all
cases would be made by private banking institutions, the guaranteeing of
such loans by the Reserve Banks'would not be competitive with the private
banking system.




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Such,guarantees would be available for any types of loans made
by financing institutions to business and industry, to meet situations
of the various kinds referred to in the first part of this statement.
Such loans could be made on a short term or long term basis and to pro­
vide either working capital or facilities. They would assist both in the
financing of the resumption of peacetime operations and thereafter in
meeting the needs of deserving business enterprises which cannot be ad­
equately supplied by private credit agencies without some degree of
assistance.
It is contemplated that the guarantees by the Reserve Banks
under this authority would not exceed 90 per cent of the amount of the
credits, since any enterprise which has. reasonable prospects of success­
ful operation should be able to obtain financing in which its bank assumes
at least 10 per cent of the risk under the loan.
Fund for Meeting Losses
Being banks of issue, the Federal Reserve Banks could not be
expected to utilize any large proportion of their own funds in making
credit of this kind available without some protection against losses
which might be incurred. There is, however, a fund which can be made
available for use in meeting losses incurred by the Reserve Banks in
guaranteeing loans, without eny new appropriation by Congress.
The Secretary of the Treasury is authorized by existing law
to pay to the Federal Reserve Banks approximately $139*000,000 (the
amount which these banks were required by law in 1933 to subscribe for
stock of the Federal Deposit insurance Corporation) for the purpose of
enabling the Reserve Banks to make' loans to business and industry.
This amount has already been appropriated by Congress for this purpose.
Under this existing authority approximately $27,000,000 has been paid.
The proposal would require the payment of the remaining $112,000,000
of this appropriation to the Board of Governors and also would require
the Federal Reserve Banks to pay to the Board the approximately
$27,000,000 which they hav<= heretofore received from the Secretary of
the Treasury under the present authority. The entire amount thus paid
to the Board, would constitute a fund to be utilized to provide for
losses incurred by the Federal Reserve Banks in connection with loans to
business and industry. The Board would have authority to invest any part
of this^ fund not currently needed in obligations of the United States,
and any' income derived from such investments would be added to the fund
and thus become available tc meet losses on guaranteed loans. The stock
of the Federal Deposit Insurance Corporation heretofore subscribed for by
the Federal Reserve Banks would be transferred to the United States.
The use of this fund in this way, it is estimated, would permit
guarantees of loans in an aggregate amount outstanding at any one time of
at least one-half billion dollars.
4/28/44