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246 X-9492 OF THE FEDEP~L RESERVE BANKS UPON THE FEDERAL OPh'N MARKET COMMITTEE REPRESh~TATIVES The Board of Governors of the Federal Reserve System has been asked by certain officers and directors of Federal Reserve banks for an informal exuression of its views as to whether under section 12A of the Federal·· Reserve Act (providing that the Federal Open Market Committee "shall consist of the memb~rs of the Board of Governors of the Ft'3deral Reserve System and five representatives of the Federal Reserve banks, to be selected as hereinafter providedn) representatives of the Federal Reserve banks may be selected outside of the executive personnel of the Federal Rdsorve banks to serve on the Open Market Committee. A comprehensive review of the historical development of the Committee and of all available sources reflecting the legislative intent when the section was enacted and the purposes sought to be achieved clearly demonstrates that selection of representatives by the Fed~r~l Reserve bankd from the ranks of banking, industry or commerce would constitute a flagrant violation of what Congress intended. • Realization of thG importance and effect of open-market operations upon the national credit structure resulted in a gradual development of methods of control or coordination of activities culminating in the "Open Market Committee" created by section 12A of tho Federal Reserve Act as revised effective March 1, 1956. This development is best reflected by a chronological listing of the various committees and bodies created for such purpose as follows: 1. "Committee of Governors on Centralized Execution of Purchases and Sales of Government Securities" This committee was composed of five governors of Federal Reserve banks and functioned from May 1922 to April 7, 1925. 2. "Open Markot Investment Committee" - This committee 'ms creuted on April 7, 1923 ns n result of resolution passed by the Federal Res,;rvc~ Board on Mnrch 22, 1923 from which time open-market operations were not engaged in by the Fedoral Reserve bunks except with the approval of the Federal Reserve Board. It was composed of five governors of Federal Reserve banks and functioned until March 51, 1950. 3. "Open Market Policy Conference" - This col4mittee was created as the result of conferences by 247 -2- representotivos of with thu Board for policies and p:tans It was composod of eral ReserV(; b:mks of the Banking Act X-9492 the 12 Federal Reserve banl<:s th0 pur!)ose of recommending rogo.rding open-market operations. tho twelve governors of the Fedo.nd functioned until tlw passage of 1953. 4. "Federal OpL:n Mo.rket Commi tte0 11 - This committee w2s cTented on Jmw 16, 1955, by the Banking Act of 1955 ~md was composed of the twelve governors of the FedGral Rosorve banks. 5. "Federal 0Den Market Committee" -As provided in section 12A of the Federal Reserve Act as now in force, creating a committ~)e consisting of "The Board of Gov2rnors of the F•.'lderal Reserve System and five representatives of the Federal Resorvo banks". At no time throughout the history of the Federal Reserve System have open-mn.rket operations been conducted by other than executive officials of the i:'odernl Reserve banks, their actions being subject to approval of the l"edoral Reserve Board, all such executives as well as Boord members being full-time officials who were required by 8Stablishcd practice or by lu.w to discontinue all activo participation in outside bu:Jiness. The issue as to whether representotives of prlvate enterprise should serve upon a public body created for the purpose of discharging such responsibilities in tho public interest seems to have been met and SJttled in tha orit:;inal enact':.)nt of the Fedurn.l R)scrvo Act when banker representation was forcefully argued and as forcefully denied both by ConGress and by the President. Senator Glass, in his authoriktive book on the Federal Reserve System, entitled 11 An Adventure in Constructive Finance 11 , described how a committee of bankers visited President Wilson and sought to persuade hii'I to e1gree to bankGr representation on the Fedoral Reserve Board. Senator Glass wroto: 1J'ihon th:_:y had ..mdGd thC:ir argumcn ts Mr. Wilson, turning more particularly to Forgan and Wu.dc, said quietly: 'Will one of you gcntlomon tdl mo in what civilized countrtJ of tho 0arth thoro are important govcrnm~nt boards of control 11 248 +5- '"on which private in tere~ ts are represented? ' There was painful silence for the longest sL•gl~;; moment I ever spent; and before it was broker. Mr. Wilson further inq1.~"\.red: 'Which of you gentlemen thinks the railroads sh.:mld select members of the Interstate Commerce Commission?' There could be no convincing reply to ei 1.~her qucotion, so the discussion turned to other points of tho currency bill; and, notwithstanding a desperate effort was made in the Senate to e;ivo the banks minority representation on the reserve board, the proposition did not prevail." At the time of revision of Suction 12A by the Banking Act of 1955, the issue was whether the primary initiative and responsibility for op~n-markat operations should be fixed exclusively in the Board of Governors of the Federal Reserve System as then baing set up, or left in a committee consisting exclusively of the then Governors of the Federal Reserve Banks, or committed to a combination of both, and at no stage in the development of the legislation was it contemplated by any of those actively i~terested therein, irrespective of differing viewpoints, that the responsibility should be shifted to or shared with those outside of the official executives of tho banks and members of the Board. The bill, as introduced and passed in the House (H.R. 7617), definitely fixed such res:,Jonsibility tn the Federal Reserve Board. In Congressman Steagall's report upon the bill tho following was stated: "Under the present law, open-market policies are forrnul::1ted by the Federal Open Market Committee, whicb consists of the governors of the 12 Federal Reserve banks." After explaining that the proposed bill would place the primary responsibility in the Board, his report cor~tinued: "The pnrti..-•ipc~tion of Federal REJserve banks governors in the delib.,;::rations leading to the adoption of open-market policies will be preserved. Open market oper~tions may be. initiated either by the committee of the governors or by the Board, but the ultimate responsibility i'or making a finn.l decision and the power for ~dopting and carrying out national policies will be concentrr~ted in a national body, as they properly should be in the public intere::;t." 249 -4- X-9492 The bill was anended in the Sennte to provide for the creation of a "Federal Open M.::,rket Commi ttec" consisting of the members of the Board of Governors of the Feder:.:,l Reserve System and five representativus of the Federal Ecscrvo banks to bo selected annually, but throughout the discussion it is evident that although the word "representatives" was used in place of "Presidents", to which the ti tlos of 11 t~nvArnors r: wero chango a by the Senate Committee, there was no intention of altering the original meaning and purpose to confine representation to members of the Board and executives of the banks. During the consideration of the Banking Act of 1935 by the Banking and Currency Committees in both the House and the Senate, many distinguished b.;mkers r:.ppeared before one or both of the Comrni ttees nnd expressed a unanimity of opinion that Governors of the Fedoral Reserve banks should be members of the Open Market Committee. The very fact t.hat they so testifiud is indicativtl of the fact tho.t the issue at stn.kc in tho pending legislation rn1s whether or not responsibility for this important function should be vested in the Governors of the Federal Reserve bnnks or in the Fodcr:::.l Reserve Boo.rd. It appears that theze witnesses never had in mind a selection of representatives of Fedcrr'l Reserve banks from other than Governors or other executive officers of tho Federal Reserve banks. The recommendation of the special committee of the American Bankers Association was "tr..at the Open Mo.rket Committee shall consist of the entirE;: Federal Reserve Board, (reduced to five members), o.nd four Governors of the Federal Reserve banks, solected by the Governors of the twelve Federal Reserve bcnks annuully." The rEJcommcndation of the Federal Advisory Council was that "The F0dcral Open M< .rkot Commi ttoo shall consist of the five members of tho Fcder~1l Reserve Board (reduced in membership) c.nd four Gover~ of the Federal Resurve b::.:.nks." 1 Tho Commission on Banking Law and Practice of tho Association of Reserve City Bankers in its "Summary of .Ll.rgumonts on Title II of the Br.~.nking Act of 1935 11 clcr,rly recognized that the only point of difference wns in whether tho power to determine the open market policy of the Federal Reserve Systwm ,·,ns to be in the F0deral Reserve Board or in a corr.unittcc, .::cs then constituted, of Governors of tho Federal Reserve banks. The Commi ttce on B1:mking Legislation of the Chamber of Commerce of the United Sta tGs, in an o.nalysis nnd report filed with the sub-committee ::>f tho SenB.to Committee on Br.J.nking and Currency, rcaommended "that open market policies should continue, as at prcsont, to be fornul::,ted by a cowmi tteo representing the t·welve Federal 250 X-9492 -5- Reserve banks." The Committee as then constituted the twelve Governors of the Federal Reserve banks. W<J.S composed of The legislative policy with rospect to outsiJG domination or influence in the administration of tho Foderal Reserve Act is illustrated by section 10 of the Act, wherein it is provided that tllc members of the Board shall devote their entire time to its business and that "No member of the Board of Governors of the Federal Rcs1;,rve System shall be an officer or director of any bank, banking institution, trust comprmy, or E'ederal Reserve bank or hold stock in any bank, banking institution, or trust company." It is hc.1.rdly conceivable tho.t Congress, in setting up o.n administratiire body to control <::nd supervise credit, should zealously strive to insure th:.;.t body's immunity from outside banking influence <.,nd then assign an importc.nt power over credit to a committee, five of whose 12 members could retain their private connections with outside buniness or banking. It is self-evident that in order to render efficient service on the Open Mo.rket Committee a member must be in constant touch with the operations of the Reserve banks and have a continuing knowledee of the condition of tho member banks, of tho trends in loans and deposits, of the fluctuations in interest rL~tes and of the money market o.nd credit situation gcmornlly. Regardless of his ability, an outsider, engrossod as he would be most of the time in his own affairs, could not establish and maintain that interest and knowledge necessary to discharge properly his duties as a member of the Committee. In~;:vitably his attitude would not in tho very nature of the ce<.se be truly represcmtGtive of the Federal Reserve banks. It is only human nature that a person engaged in nn enterprise for profit would be primarily concerned with the administrr:. ti:m of that enterprise. Frequently, it might become tho duty of such member to move in tho direction opposite from that which would be advunto.geous to his private interests. Whether or not members finding themselves in that poGition could subordinc,tc their private interests to the general public interest which tho Open Market Committee is int0ndcd to subsor\te, it would be unfair to place any member 0f thr;t Commi ttce in the onb<:crrassing position of being required to make such choices. Such a relation t0 the System would tend seriously to impair the ofncicncy and prestige of the directors and officers of the Reserve banks and produce o.t times confusion and ombt~rrr.:.ssment. \ Members of the Com1:1i ttco arc in a sense the trustees of the credit policy of tho nation and, like trustees, they should n:>t be in the attitude of purche.sing frc)m 0r selling. to themselves. Such trustees must be scrupulous to place themsc;lvcs bey'md reprouch &.nd above susp~c~,1n. The prestige, and indeed the preservation of the Foderr~l Reserve System, depend upon it.
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