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X-3392 RECOMMENDATIONS O F THE FEDERAL ADVISORY COUNCIL TO THE FEDERAL RESERVE BOARD, April 28, 1922. TOPIC 1. Should Federal Reserve Banks adopt w i t h respect to their own transactions the policy recently adopted by the United States Treasury of p a y i n g out g o l d a n d g o l d c e r t i f i c a t e s w i t h o u t r e s e r v a t i o n ! RECOMMENDATION: T h e C o u n c i l i s of t h e o p i n i o n t h a t t h e r e i s n o n e c e s - s i t y f o r t h e F e d e r a l R e s e r v e B a n k s p a y i n g out g o l d o r g o l d c e r t i f i c a t e s without reservation in their transactions with member banks. If, h o w e v e r , g o l d i s c a l l e d f o r by a m e m b e r b a n k it s h o u l d b e p r o v i d e d w i t h o u t a n y question. W e b e l i e v e it t o b e s o u n d p o l i c y f o r t h e F e d e r a l R e s e r v e B a n k s t o b e t h e d e p o s i t o r i e s of t h e g o l d of t h e c o u n t r y . T h e c o n c e n t r a t i o n of t h e g o l d i n t h e b a n k s a n d t h e i s s u e of F e d e r a l R e s e r v e n o t e s a s t h e p r i n c i p a l m e d i u m of c i r c u l a t i o n t h r o u g h o u t t h e c o u n t r y i s n o t to b e c o n s i d e r e d a w a r measure. It i s o n e of t h e f u n d a m e n t a l p r i n c i p l e s of m o n e t a r y r e f o r m t h a t t h e g o l d of t h e c o u n t r y s h o u l d b e m o b i l i z e d i n t h e F e d e r a l R e s e r v e B a n k s . W a r c o n d i t i o n s a r e so b e c l o u d e d at t h e m o m e n t t h a t it i s i m p o s s i b l e to f o r e c a s t w h a t p r o p e r u s e m a y b e m a d e of o u r g o l d p o w e r . Self interest would d i c t a t e t h a t w e s h o u l d d o n o t h i n g w h i c h w o u l d i n t e r f e r e w i t h o u r a b i l i t y at the p r o p e r m o m e n t to r e n d e r our m a x i m u m a s s i s t a n c e in r e s t o r i n g the e q u i l i b r i u m of t h e w o r l d . I n t h e e v e n t of n e e d t h e c o u n t r y i s i n a m u c h s t r o n g e r p o s i t i o n if t h e g o l d i s m o b i l i z e d i n t h e v a u l t s of t h e F e d e r a l R e s e r v e B a n k s t h a n if it i s s c a t t e r e d a s a c i r c u l a t i n g m e d i u m i n t h e h a n d s of t h e p e o p l e . T h e a r g u m e n t h a s b e e n m a d e i n f a v o r of t h e p a y m e n t of g o l d o r g o l d c e r t i f i - , c a t e s by F e d e r a l R e s e r v e B a n k s at t h i s t i m e t h a t it w o u l d r e d u c e t h e h i g h -2- X-3392 r e s e r v e s of t h e F e d e r a l R e s e r v e B a n k s , w h i c h h i g h r e s e r v e s h a v e b e e n t h e s u b j e c t of u n j u s t c r i t i c i s m , a n d t h a t i t w o u l d a l s o c r e a t e a s e c o n d a r y g o l d r e s e r v e i n t h e h a n d s of t h e p e o p l e . T h e C o u n c i l i s of t h e o p i n i o n t h a t b o t h of t h e s e a r g u m e n t s a r e of c o m p a r a t i v e l y s l i g h t i m p o r t a n c e i n t h e f a c e of c o n d i t i o n s a s w e s e e t h e m . T h e C o u n c i l i s g l a d t o l e a r n t h a t s i n c e t h e S e c r e t a r y of t h e T r e a s u r y ' s l e t t e r of M a r c h 6 t h w a s s u b m i t t e d , a f u l l e x c h a n g e of v i e w s has taken place between the Treasury, the Board and the Federal Reserve Banks, from w h i c h a full u n d e r s t a n d i n g h a s r e s u l t e d c o n c e r n i n g the most important points raised in the Secretary's letter. The Council notes w i t h g r e a t s a t i s f a c t i o n f r o m t h e S e c r e t a r y ' s l e t t e r of A p r i l 2 5 t h t h a t a l l p a r t i e s n o w a g r e e t h a t u n d e r t h e p r o v i s i o n s of t h e F e d e r a l R e s e r v e Act,the f i n a l r e s p o n s i b i l i t y w i t h r e s p e c t t o t h e i r c o n d u c t of b u s i n e s s a n d w i t h r e g a r d t o t h e i r g e n e r a l m e t h o d s of m a k i n g p a y m e n t s m u s t r e s t w i t h t h e Federal R e s e r v e Banks, a c t i n g u n d e r the d i r e c t i o n and supervis i o n of t h e F e d e r a l R e s e r v e B o a r d . This, however, does not prevent that w h e n Federal Reserve Banks act as redemption agencies for the Treasury, t a k i n g t h e p l a c e of s u b t r e a s u r i e s , t h e y m a y b e r e q u e s t e d t o m a k e p a y m e n t s i n g o l d or g o l d c e r t i f i c a t e s i n r e d e m p t i o n of t h e G o v e r n m e n t ' s o b l i g a t i o n s . M o r e o v e r , a s a l r e a d y s t a t e d , t h e g e n e r a l p o l i c y s h o u l d b e a d o p t e d by t h e m n e v e r t o r e f u s e t o m a k e p a y m e n t s i n g o l d i n t h e d i s c h a r g e of t h e i r o w n obligations w h e n e v e r a payee m a k e s a particular request for such gold payment. T h e F e d e r a l R e s e r v e A c t p r o v i d e d f o r t h e g r a d u a l e l i m i n a t i o n of s u b - t r e a s u r i e s a n d f o r t h e u n d e r t a k i n g of f i s c a l a g e n c y f u n c t i o n s b y t h e Federal Reserve Banks. T h i s o b v i o u s l y b r i n g s a b o u t t h e n e c e s s i t y of f 530 * X-3392 -34 e v i s i n g w a y s a n d m e a n s of d o i n g j u s t i c e t o t h e r e q u i r e m e n t s of t h e T r e a s u r y w i t h o u t a f f e c t i n g t h e a u t o n o m y of t h e F e d e r a l R e s e r v e S y s t e m and c r e a t i n g the d a n g e r s and d e f e c t s w h i c h m a y r e s u l t f r o m a d i v i s i o n of a u t h o r i t y a n d c o n t r o l . It w a s w i t h t h e s e c o n d i t i o n s i n v i e w t h a t t h e F e d e r a l R e s e r v e A c t m a d e t h e S e c r e t a r y of t h e T r e a s u r y a n e x o f f i c i o m e m b e r a n d C h a i r m a n of t h e B o a r d , so t h a t t h r o u g h t h e B o a r d a s a j o i n t i n s t r u m e n t , w i t h the Secretary's cooperation and in full understanding w i t h him, p o l i c i e s a n d p l a n s of a c t i o n c o u l d b e d e v i s e d w h i c h w o u l d b e s t s e r v e t h e i n t e r e s t s of b o t h t h e T r e a s u r y a n d t h e F e d e r a l R e s e r v e S y s t e m , and w h i c h w o u l d t h e n be carried into effect t h r o u g h t h e joint instrum e n t a l i t y of t h e F e d e r a l R e s e r v e B o a r d . The Council is glad to note t h a t t h e S e c r e t a r y ' s l e t t e r of A p r i l 2 $ t h a u g u r s w e l l f o r a f r u i t f u l cooperation on these lines. TOPIC 2. I n o r d e r t o m a k e s o m e h e a d w a y i n t h e m a t t e r of r e t i r i n g n a t i o n a l b a n k n o t e c i r c u l a t i o n , w o u l d it b e a d v i s a b l e f o r t h e F e d e r a l * R e s e r v e B a n k s t o a d o p t t h e p o l i c y of f o r w a r d i n g a l l n a t i o n a l b a n k n o t e s received by them, w h e t h e r for d e p o s i t or redemption, t o the T r e a s u r e r o f t h e U n i t e d S t a t e s f o r r e d e m p t i o n , t h u s m a k i n g it m u c h m o r e d i f f i c u l t f o r n a t i o n a l b a n k s t o m a i n t a i n t h e i r ^ c i r c u l a t i o n and tending to make the profit disappear, in w h i c h event the premium on circulation bonds would correspondingly tend to disappear; and the Federal Reserve B a n k s might then be in a b e t t e r p o s i t i o n to acquire t h e c i r c u l a t i o n b o n d s a n d g r a d u a l l y a c c o m p l i s h t h e r e t i r e m e n t of national bank notes. - 4 RECOMMEND/TION: X-3392 ' T h e C o u n c i l i s of t h e o p i n i o n t h a t t h e F e d e r a l R e s e r v e B a n k s should not adopt a p o l i c y w h i c h w o u l d tend to f o r c e the retirement of c i r c u l a t i o n n o t e s of n a t i o n a l b a n k s by m a k i n g t h e i r i s s u e u n p r o f i t a b l e . ADDITIONAL RECOMMEND/TIONS: R E C O M M E N D A T I O N 3 "• I n answer to inquiry from the Federal R e s e r v e Board t h e F e d e r a l A d v i s o r y C o u n c i l w o u l d s t a t e i t i s of t h e o p i n i o n t h a t n o F e d e r a l R e s e r v e ^ B a n k s h o u l d b e p e r m i t t e d to r e f u s e t o a c c e p t n a t i o n a l b a n k n o t e s f o r d e p o s i t , a s w e b e l i e v e t h a t so l o n g a s n a t i o r a l b a n k n o t e s a r e o u t standing they should remain on a parity w i t h the other c i r c u l a t i n g m e d i a and it is t h e r e f o r e e s s e n t i a l that n o d i s c r i m i n a t i o n a g a i n s t t h e m be m a d e by Federal Reserve Banks. R E C O M M E N D A T I O N 4: The Council r e c o m m e n d s that t h e F e d e r a l R e s e r v e B o a r d p e r m i t Federal R e s e r v e Banks to p u r c h a s e in the open market, trade accepta n c e s b e a r i n g t h e e n d o r s e m e n t of a t h i r d n a m e i n t h e s a m e m a n n e r a s i s r e q u i r e d b y t h e ' B o a r d i n t h e p u r c h a s e of b a n k e r s a c c e p t a n c e s u n d e r S e c t i o n 1 4 of t h e F e d e r a l R e s e r v e A c t . RECOMMENDATION 5: The F e d e r a l Reserve Board h a s b e e n asked to amend R e g u l a t i o n D, S e r i e s of 1 9 2 0 , so a s t o s a n c t i o n t h e m e t h o d s of t r e a t i n g as time or savings deposits, d e p o s i t s w h i c h i n p r a c t i c e a r e p a y a b l e on demand. T h e C o u n c i l e x p r e s s e s i t s e l f a s o p p o s e d t o a n y m o d i f i c a t i o n of this Regulation w h i c h might tend to serve as a subterfuge in order to secure lower reserve requirements. RECOMMENDATION 6: I n v i e w of t h e v e r y l a r g e s u r p l u s e a r n e d b y t h e F e d e r a l R e s e r v e B a n k s i n t h e p a s t s e v e r a l y e a r s , t h e C o u n c i l , w h i l e not p a s s i n g u p o n t h e l e g a l a s p e c t of t h e q u e s t i o n , b u t s o l e l y f r o m t h e s t a n d p o i n t of e q u i t y a n d s o u n d b a n k i n g p o l i c y , i s of t h e o p i n i o n t h a t it w o u l d b e p r o p e r a t t h i s t i m e f o r t h e F e d e r a l R e s e r v e B a n k s t o c o n t i n u e p a y m e n t of d i v i d e n d s f r o m s u r p l u s , e v e n t h o u g h not c u r r e n t l y e a r n e d , p a r t i c u l a r l y a s t h e m a x i m u m rate is 6 $ p e r annum and such d i v i d e n d s are c u m u l a t i v e . • /"•» •f J v R E C O M M E N D A T I O N 7; X-3392 T h e C o u n c i l a p p r o v e s the p r i n c i p l e i n v o l v e d in Senate B i l l 3255, p r o v i d i n g for the extension of charters of n a t i o n a l banks. R E C O M M E N D A T I O N 8: T h e C o u n c i l s u g g e s t s to the F e d e r a l R e s e r v e B o a r d the i m p o r t a n c e of p u r s u i n g a c a m p a i g n of e d u c a t i o n of the p u b l i c r e g a r d i n g the f u n c t i o n s a n d o p e r a t i o n s of t h e F e d e r a l R e s e r v e S y s t e m . R E C O M M E N D A T I O N 9: The C o u n c i l has r e a d w i t h i n t e r e s t the l e t t e r of the S e c r e t a r y o f t h e T r e a s u r y to t h e G o v e r n o r o f t h e F e d e r a l R e s e r v e B o a r d d a t e d A p r i l 25, 1922, relative to investments of Federal R e s e r v e Banks, in w h i c h the S e c r e t a r y r e q u e s t e d the c o n s i d e r a t i o n of t h e s u b j e c t b y t h e F e d e r a l Advisory Council. The C o u n c i l congratulates tne c o u n t r y u p o n enjoying a f i n a n c i a l a d m i n i s t r a t i o n w h i c h takes t h e e n l i g h t e n e d p o i n t of v i e w that the F e d e r a l R e s e r v e S y s t e m s h o u l d n o t be u s e d for the p u r p o s e of c a r r y i n g the G o v e r n m e n t ' s obligations. M a n y c o u n t r i e s i n E u r o p e w o u l d n a v e b e e n s a v e d f r o m s o m e of their m o s t s e r i o u s f i n a n c i a l d i f f i c u l t i e s , if e q u a l w i s d o m h a d g o v e r n e d their policies. The C o u n c i l is a l s o i n s y m p a t h y w i t h the p o i n t of v i e w e x p r e s s e d b y the S e c r e t a r y of the T r e a s u r y that the F e d e r a l R e s e r v e B a n k s s n o u l d a v o i d e x c e s s i v e i n v e s t m e n t s i n G o v e r n m e n t securities, even of a short maturity. The C o u n c i l is f u l l y i n a c c o r d w i t h the v i e w s i m p l i e d that the F e d e r a l R e s e r v e B a n k s should b y preference seek investments in the fields of such bills of exchange as t h e y can purchase i n the open market. T h e C o u n c i l is of the view, h o w e v e r , that the p a r t i c u l a r c i r c u m s t a n c e s prevailing at present must be borne in mind, especially the present h i g h p e r c e n t a g e of r e s e r v e s of tne System. - b ~ X-3392 M o r e o v e r , i f t h e F e d e r a l R e s e r v e B a n k s should, e n t i r e l y l i q u i d a t e t h e i r holdings of Government obligations, they would thereby lose all p o w e r of i n f l u e n c e on the banking situation of the country, in c a s e excessive ease of m o n e y should develop, threatening a new era of inflation. I n s u c h t i m e s , i t is o f t h e u t m o s t i m p o r t a n c e t h a t t h e F e d e r a l R e s e r v e S y s t e m s h o u l d b e a b l e to dispose of its h o l d i n g s , t h e r e b y t h r o w i n g the b u r d e n o n the m e m b e r bunks a n d taus exercising a r e s t r a i n i n g influence. The f l o a t i n g s u p p l y of bills at p r e s e n t is e x t r e m e l y l i m i t e d . A g g r e s s i v e b u y i n g of a c c e p t a n c e s w o u l d , n o d o u b t , t e n d f u r t h e r to r e d u c e t h e r a t e a t w n i c h t h e s e a c c e p t a n c e s c o u l d b e b o u g h t , a n d it m i g h t d e s t r o y to a c e r t a i n extent at least the distribution of acceptances a m o n g a l a r g e p a r t of b u y e r s - t n e s o - c a l l e d a c c e p t a n c e m a r k e t - w n i c h has been built u p w i t h no little effort. W h i l e the Council believes at the same time that the Federal . Reserve S y s t e m w o u l d be w e l l advised in making efforts to increase its h o l d i n g s of a c c e p t a n c e s , t h e r e is n o d o u b t t h a t the F e d e r a l R e s e r v e Banks as a whole c a n not avoid at this time, f o r the reasons above explained, investing v e r y substantial amounts either in Government Bonds, Certificates of Indebtedness, or warrants. Of these three, n o doubt, the short term Treasury Certificates are the m o s t suitable as investments for the Federal Reserve Banks. Bearing i n m i n d that t h e c a p i t a l a n d s u r p l u s o f the c o m b i n e d F e d e r a l R e s e r v e B a n k s a m o u n t -?- X-3392 to a p p r o x i m a t e l y $ 3 0 0 , C O O > 0 0 0 , the C o u n c i l d o e s n o t f e e l t h a t t h e r e i s j u s t c a u s e to c r i t i c i s e the F e d e r a l R e s e r v e B a n k s f o r h a v i n g invested in Treasury Certificates and short term Government o b l i g e t i o n s u p to a n a m o u n t w h i c h i s n o t l a r g e l y i n e x c e s s of t h e i r c a p i t a l and s u r p l u s , and w h i c h , c o n s i d e r i n g the a m o u n t of t h e i r a s s e t s , c o n s t i t u t e s o n l y a s m a l l p a r t of t h e i r r e s o u r c e s . T h e C o u n c i l i s s t i l l of t h e o p i n i o n t h a t t h e F e d e r a l R e s e r v e B a n k s s h o u l d a v o i d i n v e s t i n g i n long t e r m G o v e r n m e n t "bonds. The C o u n c i l f u r t h e r u r g e s the F e d e r a l R e s e r v e B a n k s w h e n m a k i n g a n y p u r c h a s e s of s h o r t t e r m G o v e r n m e n t o b l i g a t i o n s , t h a t s u c h p u r c h a s e s should not interfere with Treasury operations. I n g i v i n g t h i s v i e w , t h e C o u n c i l i s i n n o w a y m o v e d "by a n y c o n s i d e r a t i o n of e a r n i n g s of t h e F e d e r a l R e s e r v e B a n k s , b u t s t a n d s e n t i r e l y b y t h e o p i n i o n e x p r e s s e d i n i t s r e s o l u t i o n of N o v e m b e r . 2 1 , 1921, as f o l l o w s : " T h e B o a r d b r o u g h t t o t h e a t t e n t i o n of t h e C o u n c i l t h e m a t t e r of t h e i n c r e a s e i n t h e r e s e r v e s of t h e F e d e r a l R e s e r v e B a n k s , a n d t h e a p p a r e n t a p p r o a c h of t h e t i m e w h e n , a s a r e s u l t o f t h e l i q u i d a t i o n of b o r r o w i n g s b y m e m b e r b a n k s , t h e F e d e r a l Reserve Banks will be seeking investment f o r their idle funds T h e B o p r d r e q u e s t e d the C o u n c i l ' s o p i n i o n as to the w i s d o m of t h e F e d e r a l R e s e r v e B a n k s ' i n v e s t i n g t h e s e f u n d s i n U n i t e d States Government bonds. "The C o u n c i l s t a t e d that it is n e t d i s t u r b e d b y the f a c t that the e a r n i n g s of the F e d e r a l R e s e r v e B a n k s are d e c r e a s i n g b e c a u s e of t h e a c c u m u l a t i o n of i d l e f u n d s . T h e F e d e r a l R e s e r v e B a n k s w e r e n o t c r e a t e d for p r o f i t and the C o u n c i l is m i n d f u l of t h e f a c t t h a t , a s p->st e x p e r i e n c e h a s s h o w n , t i m e s of t e m p o r a r y i d l e n e s s of f u n d s a r e b o u n d t o b e f o l l o w e d b y p e r i o d s of g r e a t e r d e m a n d s f o r m o n e y , b e t h e y s e a s o n a l o r e m e r g e n c y requirements. X-3352 " W h e n e v e r it m a y a p p e a r n e c e s s a r y f o r F e d e r a l R e s e r v e B a n k s to s e e k i n v e s t m e n t s i n t h e o p e n m a r k e t , the C o u n c i l w o u l d r e c o m m e n d that p r e f e r e n c e b e g i v e n to o b l i g a t i o n s such as: 1. Bankers Acceptances. 2 . U n i t e d S t a t e s C e r t i f i c a t e s of I n d e b t e d n e s s . 3« S u c h s h o r t t e r m S t a t e a n d M u n i c i p a l o b l i g a t i o n s as are p e r m i t t e d b y the F e d e r a l R e s e r v e A c t . " R E C O W E N D AT I O N 1 0 . T h e C o u n c i l n o t e s w i t h g r e a t s a t i s f a c t i o n the r e c e n t r u l i n g of t h e F e d e r a l R e s e r v e B o a r d i n r e l a t i o n t o b a n k e r s a c c e p t a n c e s , i n h a r m o n y w i t h R e c o m m e n d a t i o n N o . 11 of t h e F e d e r a l A d v i s o r y C o u n c i l , d a t e d M a y 1J, 1 9 2 1 . R E C O M M E N D A T I O N 11. Excessive borrowings. In the j u d g m e n t of C o u n c i l , t h e m o s t e f f e c t i v e w a y t o h a n d l e t h e s i t u a t i o n is b y t h e p e r s o n a l i n f l u e n c e of t h e G o v e r n o r of e a c h F e d e r a l R e s e r v e B a n k o n t h e m e m b e r b a n k s b o r r o w i n g to e x c e s s .
@FedFRASER