Full text of William McChesney Martin, Jr., Papers : Reports : 1949-1951, Box 15, Folder 4

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Series IV, Subseries A
Box 15/Folder 4


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Federal Reserve Bank of St. Louis

Reports, 1949-1951

Statement of Allan Sproul
President of the Federal 'Reserve Bank of New York
"Before the Senate 'Talking "and Currency Committee
May 11,
You have asked me to testify on Joint Resolution 8? to extend the
authority of the Board of Governors of the Federal Reserve System to exercise
consumer credit controls until June 30, 19S>1, and on S, 1775 to provide supplemental reserve requirements for all insured commercial banks* I am in
favor of the first of these proposals and, with qualifications, in favor of
the second,
The question of whether control of consumer installment credit
should be extended is part of a much broader question, namely, what you expect
of credit control, as a whole, in terms of its contribution to economic stability at high levels of production and employment, I take it as established
American policy that a principal means of Government intervention in the
economic processes of the country is the administration of broad credit powers
by the Federal Reserve System, By this means a pervasive influence may be
brought to bear on our economy, without intrusion upon specific transactions
between individuals, which is likely to be the consequence of more detailed
physical controls, and which could spell the end of democratic capitalism
as we have known it,
When the Federal Reserve System was established thirty five years
ago, it was generally believed that this influence could best Ice brought to
bear through overall quantitative credit controls. Such controls exercised
, by reason of our powers to lend or withhold reserve funds, to or from the
banks of the country, and to raise or lower the price of our accommodation
were the principal instruments of credit administration. They still are,
0

although we now use open market operations in Government securities and,


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-2-

at times, changes in reserve requirements, more largely than discounts and
rediscounts, to make our policies effective*
Experience has taught us, however, that such quantitative credit
controls need to be supplemented by qualitative credit controls in certain
areas. A specific example is the experience of the decade of the twenties*
We then found that even a vigorous use of general instruments of credit control might not prevent excessive expansion of credit in particular areas,
and that this expansion might be dangerous to the whole economy* That experience led to those provisions of the Securities and Exchange Act, which
gave the Board of Governors of the Federal Reserve System power to regulate
margin requirements on security loans* I do not think you would want to revoke that power* At the present moment, I believe we can all be thankful
that there has not been unrestrained speculation in securities during the
post war years, and that we do not face the possibility of the liquidation
of several billion dollars of credit in that area, at a time when deflationary tendencies are already in the ascendant*
Another specific example is in the field of consumer installment
0

credit, with which you are now concerned. Here I must draw more on theory
than on practice, because I do not think the war years were a fair test,
and because the experience of the past year, since the power of the Federal
Reserve System to control consumer installment credit was revived, is too
brief to be entirely convincing,
I think it is generally admitted, however, that instability in our
national economy may well be increased by our ability and propensity to purchase consumer durable goods on credit* In times of maximum production and


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-3high employment, such as 19U8* an unrestrained expansion of consumer installment credit can and will accentuate inflationary tendencies.

It cannot in-

crease production, but it can contribute to a spiral of price and wage increases. And in a period such as we are now going through, a swollen volume
of consumer installment credit, which had to be liquidated, might well accentuate deflationary tendencies. With some slackening of business and some reduction of employment, the diversion of a large volume of current income to
the repayment of old debts, could dangerously reduce currently available
consumer purchasing power.

I do not wish to be understood as condemning

consumer installment credit, it is a necessary part of our financial machinery.
But it operates in an area where special restraint may be necessary.

In a

sense, it is marginal credit in a particularly volatile part of our economy,
and some measure of control over it is desirable.
Fortunately, it seems to me, that control can be exercised in a way
which is consistent with our economic and governmental system, and which is
administratively practical.

The terms of the control can be made clear

enough and precise enough to do the job, without interfering too much as between buyer and seller, and without treapassing upon individual determinations
I

as to who is to get credit and who isn't. The concern of such regulation is
the aggregate volume of credit in use in this field, as related to the general
state of our economy, not the credit worthiness of the individual buyer or
borrower nor the trade practices of the individual seller or creditor.
I have cited two specific examples of the need for qualitative credit
controls to supplement our quantitative control powers.

There is a further

general argument for these powers, which may be more persuasive than either
of the other two, at least to those who rebel against all special controls.

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Our general control powers have been- greatly weakened in recent years, by
the emergence of a tremendous public debt, and the obstacle which that has
placed in the way of a vigorous use of our general control powers,

I am not

going to argue here the case for our support of the Government security market,
I think that support has had the approval of the Congress and the country.
Otherwise you would have done something about it* But it has interfered
seriously, during the recent past, with the use of the discount rate, open
market operations, and even changes in reserve requirements — which are the
ordinary means of quantitative credit control - and it may do so again. If
the scope of action open to the Federal Reserve System is to be narrowed by
public debt considerations, and if effective credit policy is to be possible,
we siiall need to have the help of those supplemental instruments of control
which are administratively feasible, and not repugnant to our economic system.
I believe the control of consumer installment credit, in the terms
of this legislation, is such an instrument. I would prefer, in principle,
that the authority granted to the Federal Reserve System to control such
credit be made permanent.

I recognize, however, that mine may not be the

generally accepted view, and I can see advantages in a congressional review
of such a new administrative power, at a prescribed time.

The limit of two

years which you have fixed is, I should say, the minimum to permit administrative development, without the handicap of undesirable reaction, by those
controlled, to the possibility of early expiration of the authority.
Viihai I come to S. 1775» relating to reserve requirements, I must
repeat what I said about this legislation when it was being considered last
year.

I am not so clear about it as I am about extension of our powers to


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-5control consumer installment credit. Personally, I believe that as a means
of combatting short run or cyclical inflationary or deflationary pressures,
increases or decreases in reserve requirements are, at best, pretty clumsy
for effective and equitable use.

At worst, or so long as the Federal Reserve

System continues to bear responsibility for support of the Government security
market at something like fixed prices, changes in reserve requirements are
pretty futile as an anti-inflationary weapon, and not much better as an antideflationary weapon.
On balance, I come out in favor of the continuance of the present
authority with respect to supplementing reserve requirements for three reasons.

First, 1 believe that if the power is a clumsy one for the Federal

Reserve System to use, it is an even clumsier power for the Congress to use.
In other words, I do not think a reduction in present reserve requirements
should be brought about by Congressional refusal to extend this authority.
It should be brought about, when appropriate, by administrative action.
If such action should be taken before June 30th, of course, this argument
would fall.
My second reason is that there are occasions when an increase in
reserve requirements may be an appropriate method of combatting a long term
trend as distinguished from short term or cyclical fluctuations. Such a
long term trend might be a renewed large inflow of gold to this country,
such as occurred during the thirties when excess reserves of the banks were
driven up to several billion dollars. You may remember that, in January

1941,

in order to try to meet this situation, the Board of Governors of the Federal
Reserve System, the Federal Advisory Council, and the Presidents of the
Federal Reserve Banks, jointly urged that statutory reserve requirements for


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-6demand deposits be increased to 26 per cent (central reserve cities), 20 per
cent (reserve cities) and 14 per cent (country banks) and 6 per cent for time
deposits; and that they further urged that the Federal Open Market Committee
be empowered to increase reserve requirements to not more than double these
percentages. Admittedly the situation which existed then does not exist now the member banks do not have several billion dollars of excess reserves, and
we do have large holdings of Government securities in the System portfolio
which could be sold to offset a gold inflow. But it is not inconceivable
that, at some future time, some similar need might arise.
Finally, I have a more fundamental bias toward the continuance of
this authority.

I again repeat something I said at your hearings last August.

"There may well be reasons, taking the long view, for an
increase in the reserve requirements of the commercial
banks of the country, and of the limits within which those
requirements can be varied by the Federal Reserve System.
I am inclined to believe that this could be a progressive
step in our monetary-banking organization, especially if
there should continue to be a persistent and substantial
inflow of gold. With a modern central banking system
operating in a highly developed deposit banking system,
and with a decreasing reliance upon gold, much of the
need for low reserve requirements and consequent economizing in the provision of money by commercial banks has
disappeared. In these circumstances there may well be a
balance of advantage in higher reserve requirements, as a
means of reducing the dangerous expansibility and, at times,
destructive contractability of a money supply based on low
reserve ratios of commercial banks. There may be too great
an element of leverage in our present system to be left at
the disposal of 14,000 banks."
This is a long term improvement, not a short term device, however. It suggests
a general overhauling of the present antiquated system of assessing reserves,
not an immediate credit control program.
My suggestion, therefore, would be that you continue the present
powers of the Federal Reserve System, as contemplated in S. 1775? leaving it to


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-7administrative action to bring about whatever reductions in reserve requirements the present business and credit situation seems to require. Such a
course can do no present harm, as I see it, may have some future usefulness,
and should fit into the longer range consideration of the problem of reserve
requirements, which I have advocated. The latter, 1 urge most strongly. I
think it is high time that we shifted the basis of reserve classification
from type of city to type of deposit. This is particularly so, if we are
now going to bring within the apparatus of nationally fixed reserve requirements, thousands of insured nonmember banks. It would be too bad to perpetuate for long, with them, a reserve classification which was outdated at
least as soon as the Federal Reserve System was established thirty five years

ago.
When 1 make this statement, I assume that you are going to include
nonmember insured banks in this legislation if you adopt it. It should be
made applicable to such banks, not merely to members of the Federal Reserve
System, if it is to be capable of having its maximum effect, if it is to be
fair to the banks which are members of the System, and if it is to protect
the System against unwarranted withdrawals from its voluntary membership.
Whenever action is taken under this authority, you may be sure that it is in
terms of the national situation and national needs. That means that all insured banks should feel its restraints, when restraint is necessary, and
should have the encouragement of its relaxation, when relaxation is in order.
That means that whatever temporary sacrifices of earnings and profits its
use may entail, should be borne by all of the banks, and by the whole national community, which are the beneficiaries of the action taken.

If the

insured nonmember banks are now to be permitted to continue to avoid this


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-8-

I

I
small share in national credit policy, 1 would let the legislation lapse,
and await the outcome of the more fundamental study of reserve requirements
which I have suggested.


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STATEMENT OF CHAIRMAN THOMAS B. McCABE
OF THE
BOARD OF GOVERNORS
OF THE FEDERAL RESERVE SYSTEM

Before ike


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Senate Banking

and Currency
in

S. J. Res. 87,

support

extending until

regulate

consumer

Committee,

May 11, 1949

of,

June 30, 1951,

authority

to

instalment credit

"and"
S. 1775,
carry

providing authority

to require all insured Lanks to

supplemental reserve requirements of

on

demand and 1 1/2 per cent

4 Jjfjf

on time deposits.

I S S U E D BY THE

BOARD OF GOVERNORS
OF THE FEDERAL RESERVE SYSTEM
WASHINGTON

per cent

STATEMENT OF CHAIRMAN THOMAS B. McCABE OF THE
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
BEFORE THE
SENATE BANKING AND CURRENCY COMMITTEE, MAY 11, 1949
Mr. Chairman and Members of the Committee:
I deeply appreciate the opportunity to appear
before you today on behalf of the Board of Governors of the Federal Reserve System. We share a
great responsibility. You as the representatives of
the people have laid down the broad monetary
and banking policies of the nation. We as your
instrumentality are charged with the administration of these policies in such a way as to contribute
to the maintenance of a high level of employment,
stable values, and a rising standard of living. That
is the goal set by the Employment Act of 1946.
It is the basic guide for Federal Reserve System
policy.
We are emerging from eight years of mounting
inflationary pressures. During these eight years
the public's total holdings of liquid assets nearly
quadrupled. The physical volume of production,
as nearly as it can be measured, expanded by only
about half again as much as the prewar maximum.
It was this great disparity between demand and
supply which drove consumers' prices up to 75 per
cent above prewar. When I testified before the
Joint Committee on the Economic Report in midFebruary I said, "Some easing of inflationary pressures has been indicated recently by marked declines in prices of various commodities, principally
those that have risen most sharply," and I called
attention to the fact that "over-all consumers' incomes and holdings of liquid assets, nevertheless,
have continued at high levels and are fairly widely
distributed." That is still the case today.
Last August when inflationary pressures were
still mounting, you granted us certain supplementary powers to help cope with the situation.
After Congress acted at the special session, the
Board of Governors put to use the authorities
which it had received. Regulation W was reissued establishing down payments and terms on
consumer instalment credit more lenient than
those that prevailed when the power lapsed the
preceding November, but sufficient to exercise a


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wholesome restraint on the rapid growth of this
volatile credit. At the same time, the Board increased reserve requirements of all member banks
by two per cent on demand deposits and by 1%
per cent on time deposits.
Later in the year the economic situation turned.
In the interim, however, the Treasury and Federal Reserve System underwent one more severe
test of their resolve to maintain stability in the
market for Government securities. From September 1 to November 1 bonds in the amount of 3%
billion dollars were purchased to carry out this
policy of stability.
In retrospect, I am certain that our action in
support of the Government securities market was
the right one. That program was a gigantic operation. In the two years 1947 and 1948, the System's total transactions in Government securities
amounted to almost 80 billion dollars. Despite
this huge volume of activity, the net change in
our total portfolio was relatively small. I am convinced that we could not have abandoned our support position during this period without damaging
repercussions on our entire financial mechanism
as well as seriously adverse effects on the economy
generally.
Since the peak of inflation in November, there
has been a significant readjustment in the economic
situation. You are familiar with the general features of this readjustment, but I should like to
review them briefly.
With the passing of the inflationary crest we
acted promptly to relax credit restraints. Four
major steps were taken:
1. On March 2, the Board announced a relaxation of the consumer instalment credit regulation.
2. On March 28, the Board reduced margin requirements from 75 to 50 per cent.
3. On April 22, the Board further relaxed Regulation W, making the maximum maturity 24 instead of 21 months across the board, reducing the
down payments on all articles of furniture, appliances, etc., covered by the regulation from 15

STATEMENT BEFORE SENATE BANKING AND CURRENCY COMMITTEE
to 10 per cent, while retaining the one-third down
payment on automobiles. All articles costing less
than $100 were exempted. Previous exemptions
had applied to articles costing less than $50.
4. On April 28, the Board reduced reserve requirements for all member banks, the effect being
to release approximately 1 % billion dollars of
required reserves.
It has been of great help to us to have the benefit
of close cooperation with this Committee, and
with the Banking and Currency Committee of
the House.
Before coming to decisions on all matters of
policy, the Reserve Board has the inestimable advantage of being able to communicate with and
obtain factual information, as well as opinions,
from the twelve Federal Reserve Banks and their
twenty-four branches throughout the country, on
whose boards are more than 250 directors, drawn
not only from banking but from the widely diversified industrial, commercial, agricultural, and
professional pursuits of the nation. The directors,
the officers, and staffs of the Reserve Banks and
the Board, the Federal Advisory Council, and the
member banks comprise the Reserve System which,
as I have often said, is like a vast pyramid, whose
breadth and strength is in its base. The Board
has constantly available current information, drawn
from this great System to supplement the vast
mass of factual and statistical data gathered through
other governmental sources. Moreover, the System
sponsors special studies as occasion demands. In
addition, we are always at pains to consult with
representative businessmen, the small as well as
the larger ones, with trade associations and, in
fact, with all who are affected by System operations.
We try to weigh carefully their views and to distinguish broad national considerations from those
reflecting narrower interests. I mention these
myriad sources of information to emphasize that
we do not function in a vacuum.
We do not wish to exaggerate the role which
monetary and credit policy has played in the period
from which we are now emerging. It is fair to
say, however, that in the last year of upsurge especially, it exerted some restraining influence. We
think we may fairly say that we used the powers
which Congress entrusted to us flexibly, and that
we have made an earnest effort to take into account
every relevant fact and circumstance, including


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the hardships or inconveniences imposed on those
subject to regulations and requirements.
We can all take satisfaction from the fact that
the many banks of the country are on a more secure
foundation now than ever before in our history.
The bankers themselves, as a result of their voluntary efforts to restrict loans in the face of strong
inflationary pressures, deserve a great deal of the
credit for this condition. At the same time, we
must recognize that our existing banking strength
is in part the product of national economic and
financial developments since the mid-thirties. Today our commercial banks, with about 50 per cent
of their total loans and investments in Government securities largely acquired as a result of
war finance, enjoy an exceptional unprecedented
liquidity. Their capital accounts, while not yet
at a desired level in relation to deposit growth
since prewar years, are over 50 per cent greater
than before the war, representing in large part
a steady plowing back of earnings.
Not only do our many unit banks possess unusual strength, but the Federal Reserve System, as
a result of the Banking Act of 1935, is in far
better position than ever before to assist member
banks, and through them all banks. Its greater
experience enhances its ability to meet the credit
needs of a time when surpluses rather than scarcities
prevail and private enterprise requires encouragements rather than restraints.
In his Economic Report to the Congress last
January the President pointed out that the monetary authorities should at all times be in a position
to carry out their traditional function of exerting
effective restraint upon excessive credit expansion
in an inflationary period and conversely of easing
credit conditions in a time of deflationary pressures.
He asked that Congress provide continuing authority to the Board to require banks to hold supplemental reserves up to the limit we had requested
in August, 10 per cent against demand deposits
and 4 per cent against time deposits. He stated
that this authority should not be confined to member banks, but should be applicable to all insured
banks. The President asked that the authority
for the regulation of consumer instalment credit
be continued in order to exert a stabilizing influence on the economy. The President made these
requests after a most careful and exhaustive survey
of the situation with the Board and the requests
had the unanimous approval of the Board.

12]

STATEMENT BEFORE SENATE BANKING AND CURRENCY COMMITTEE
That report was prepared and submitted nearly
four months ago, four months in which inflationary
pressures have abruptly abated and the economic
situation generally has changed in many respects.
In view of these developments I come here today
with somewhat changed recommendations. We
now feel that we will have adequate powers for
the period immediately ahead if the Congress will
extend the two temporarily granted authorities
voted by the special session last August and make
the authority to increase reserve requirements applicable to all insured commercial banks.
Elbow room is essential to an institution such
as the Federal Reserve System performing central
banking functions. Congress has made the System
responsible for the maintenance of sound credit
conditions in this country in the interest of highlevel economic stability. To carry out that responsibility we must always be in a position to
operate flexibly, counteracting trends as they set
in, either toward inflation or deflation. We must
take into account how much latitude exists to move
in either direction from the position that seems
correct for the near future. Viewed in this perspective, the present powers of the Federal Reserve
System are ample for our needs during a downward trend. Our powers in the other direction,
however, are limited. So long as we have the
huge Federal debt to support we cannot count on
use either of the discount rate or operations in
the open market to exert the same degree of influence that they did before the war. To an extent
hitherto not contemplated, we are forced to place
greater reliance on reserve requirements as a defense against inflationary trends. We are at the
moment, however, very close to the limits of that
power.
We come before you, therefore, to ask you to
maintain what we regard as the minimum operating leeway that is needed in view of our responsibilities. We do not plan to use those powers now.
In fact, reserve requirements may be further reduced if present trends continue. But we do want
the powers in case an emergency situation should
arise. The basic concept underlying the Federal
Reserve System is that it should have at all times
residual power to deal flexibly with changing situations, not that it should come to Congress whenever an emergency exists. Looking backward at
the situation, I feel it would have been better for
the economy if we had been in a position earlier


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to restrain consumer instalment credit expansion
and to increase reserve requirements.
You understand, I am sure, that the ability of
the Federal Reserve System to influence credit
developments is always subject to limitations, even
when our residual authorities give us much greater
elbow room than we have at present. In large part
these limitations arise out of the complex organization of finance in a highly developed country such
as ours. In part they reflect the many different
types of financial activities that are carried on
within the Government itself.
As members of this Committee realize, the existence of our huge public debt and the need to assure
orderly conditions in the Government bond market
have greatly complicated the problems faced by
the System in adapting policies to adjust the supply
of money and credit to the needs of a stable, highemployment economy. At the present time our
commercial banks hold about 60 billion dollars
of marketable Government debt securities. Nonbank public investors hold an additional 70 billion.
Whenever any security which is a part of this
130 billion is bought by the Federal Reserve there
is an increase in bank reserves, and the reserve so
created then becomes the potential basis of a multiple credit expansion.
Of course, the Federal Reserve is not always involved. There may be a balance of buyers and
sellers in the market and orderly conditions may
exist without Federal Reserve participation. But
if there are more sellers than buyers at any time,
the Federal Reserve must enter the market. It
thereby makes reserves available to the banking
system regardless of whether such reserves are
needed for the stability of the economy. If the
money supply (deposits plus currency) is already
ample in relation to the goods and services for
which it can be exchanged, the further increase
through bank credit expansion on the basis of the
new bank reserves serves mainly to exert inflationary
pressures. The initiative in all such operations
rests with the market and not with the Federal
Reserve. Thus the System cannot always control
the availability of bank reserves. It should accordingly be equipped to vary the required amount
of reserves so as to neutralize the indirect effects
of its Government security transactions.
I come now to our most controversial request.
The nature of the problem compels us to plead
that the authority in respect to supplemental re-

STATEMENT BEFORE SENATE BANKING AND CURRENCY COMMITTEE
serves be made applicable to all insured commercial
banks, rather than only to members of the Federal Reserve System. Failure to include all such
banks will seriously impair the effectiveness of
national monetary policy in a critical period. It
will work to the detriment of our whole banking
structure at a time when the situation calls for
consistency and uniformity in national monetary
policy. No category of commercial banking should
be exempt to that call.
We are not suggesting that the nonmember insured commercial banks carry the same reserves as
the member banks. In normal periods they would
be unaffected by this legislation. We are proposing
only that to the extent supplemental or increased
reserves may be required under the provisions of
this act the percentage amounts would be the same
for both member and nonmember insured commercial banks. Under our proposal this would mean
at the very maximum an increase over existing State
requirements of no more than 4 per cent on demand deposits and 1 l / 2 per cent on time deposits.
With a huge public debt it would be wholly unrealistic to have no means of steadying or supporting the market. We have that means in the Federal
Open Market Committee. Without it no one could
be sure of a ready market or of the rates that might
prevail.
The vital point to bear in mind is that this function and operation is a protection for all banks of
the country—not merely member banks. All commercial banks have in their portfolios relatively
large amounts of Government securities. Every
bank, member or nonmember, can have confidence
in its ability to find a market if necessary for those
securities without exposure to the risks that would
prevail if there were no residual purchaser. It
should be emphasized as strongly as possible that
nonmember banks have benefited and profited from
all of these operations and actions, yet they have
not had to bear their proportionate share of the
burden. That is why we say it is only fair and
equitable to ask all insured banks to shoulder their
proportionate share of a load which is imposed for
the benefit of the entire banking community and
for the country.
As I have sometimes put it, to be a member in
the Federal Reserve System is like being a contributing member to a local volunteer fire company.
So long as enough neighbors contribute, the protection will be adequate. In case of a conflagration,


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however, noncontributors also receive help. This
is inequitable, but it is humane and necessary to
prevent spreading of the danger to the whole community. Nevertheless in the existence and majority support of the institution there is great
security for all.
We are not asking that nonmember insured
commercial banks be required to become members
or to become subject to all of the other requirements and obligations which member banks have
to meet. Membership of State banks in the Federal
Reserve System is voluntary and our membership
will be endangered if the competitive relationship
is too glaring.
We are aware, as you are, that there is strong
opposition to the proposal to include nonmember
insured banks under the supplemental reserve authority. It will be said that it is simply the attempt
of another Government agency to grasp for more
power; that it trespasses upon States' rights; and
that it is a step toward ultimate destruction of the
dual banking system.
I can only assure you that the Board does not
seek power for the sake of power; in fact, we would
prefer, as a matter of personal choice and convenience, to have less formidable responsibilities.
At best, the administration of regulatory powers is
a headache. Certainly we would be remiss if we
failed to explain to the best of our ability the
situation as we see it and the way in which we
feel the responsibilities entailed can best be met.
I do not feel there is a relevant objection on the
score of States' rights. Insured banks are all
under the aegis of Federal legislation and for many
years member and nonmember banks alike have
been subject to Federal law providing for stock
market margin requirements.
The dual banking system, which I have long
upheld and will continue to support vigorously, is
not jeopardized by this proposal. It is specifically
drawn to leave with the State bank supervisory
officials full discretion and authority to apply and
enforce. It seems to me the test must be national
needs and not groundless fears that State chartering and supervision are theatened. Clearly they
are not. Moreover, we contend that what we
propose will fortify and strengthen the dual banking system by arming all banking in this country
against a danger that would undermine private
banking.
A few States have cooperated to the fullest extent

[4]

STATEMENT BEFORE SENATE BANKING AND CURRENCY COMMITTEE
possible under their laws to parallel or approach the
reserve requirements of the System. It would be
desirable, of course, if there were greater uniformity and effectiveness under State reserve requirements, combined with a disposition by all
State authorities to pursue policies of parallel
action. We cannot safely hope, however, for
separate and parallel action by most of the States.
In addition to authority with respect to bank reserves, we request you to continue authority to
regulate consumer instalment credit.
As you know, this type of credit is associated
particularly with the sale of what are known as
consumer durable goods, including automobiles,
refrigerators, radio and television sets, washing
machines, furniture, and similar articles which
have become so much a part of our American
standard of living that very large sections of our
economy depend on their production and sale.
Because the prospective buyer of these articles can
exercise so much latitude in both the selection and
time of his purchase, sales are subject to wide
fluctuation. The credit related directly or indirectly to their ownership is consequently extremely
volatile.
The development of consumer instalment financing has come largely during the period since World
War I. By the mid-twenties, consumer instalment
credit outstandings probably did not exceed a billion
and a quarter dollars. Today the figure is nearly
8.5 billion. Since the mid-twenties fluctuations in
credit volume have been wide, swelling consumer
spending power in expansion periods and reducing
it during contractions. Because instalment credit
has become so important a factor in the main distribution of durable goods, its wide swings have
contributed to instability in the production and
marketing of these goods. We are fully cognizant
of the usefulness of these credits to the durable
goods industries, to consumers, and to the entire
economy, and we earnestly desire to see this usefulness continued and extended. We are naturally
apprehensive, however, lest this credit grow too
fast under the pressure of unsound credit practices
and terms and thus at some point contribute to
serious instability of markets and purchasing power.
We believe that a further period of trial under more
normal conditions for the regulation of this credit
can well serve the public interest.
Appropriate regulation of instalment credit can
be especially helpful during times when more pur-


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Federal Reserve Bank of St. Louis

chasing power serves only to bid up prices. In
periods when production and demand approach
a balance, such regulation can be relaxed considerably. This the Board has done twice recently in
respect to its present authority, and the Board will
have no hesitancy in suspending any part or all
of the regulation should conditions make such
action desirable. The important thing is that the
power be at hand to exercise restraint when necessary to maintain sound credit conditions.
Regulation W is of course not in itself the answer
to the problem of instability which our high standard of living presents. The problem is far more
fundamental. But we are convinced that proper
regulation of this volatile type of credit, in conjunction with other credit restraints, constitutes a
substantial contribution to stability.
In summary, then, we are suggesting extension
of the authorities which you delegated to us last
summer but with the application of the reserve
requirement authority equally to the nonmember insured banks as well as to the member banks. We
are suggesting the extension of these authorities
in the hope that the Congress will in the meantime survey the entire framework and functioning
of our financial system and of the role of banking
and Government therein. It is evident from the
resolutions which members of this Committee
have sponsored to create a National Monetary Commission that you are well aware of the need for a
thorough and painstaking study of this whole complicated and difficult subject. We hope that you
will press ahead to authorize such a review and
reappraisal in all its ramifications of the function
of the entire banking system and its role in contributing to national economic stability through
the financing of individuals, business enterprise,
and Government.
We in the Federal Reserve System are naturally
concerned over the areas of controversy that surround the System's functioning and responsibilities
as a central banking, monetary, regulatory, and
supervisory authority. We trust that Congress will
review its delegation of authority and responsibility to the System to be sure that they are commensurate with each other and with the objectives
established by Congress. Such a review would include consideration: (1) of the System's openmarket powers and their relation to Federal financing and the administration of the public debt;
(2) of the use of selective credit controls such as

5]

STATEMENT BEFORE SENATE BANKING AND CURRENCY COMMITTEE
those over security loans and consumer instalment
loans and of the proper sphere for the application
of such types of control; (3) of the distribution of
regulatory and supervisory power among the various Government agencies; (4) of the need for some
mechanism of policy coordination on the domestic
financial front as we have available through the
N.A.C. on the international financial front; (5) of
the objectives of central banking and supervisory
policies; and (6) of the relation of the Federal
Reserve System as a central banking organization
to the banks of the nation, both member and
nonmember.
In any such review the role and function of reserves will inevitably receive prominent consideration. As you know, the System has been conducting extensive studies of this subject and believes
that a more scientific formula for establishing reserves can be determined by the Congress. I feel
confident that solutions to these problems can be
found without impairment of our long established
institutions, or encroachment upon either State or
national prerogatives. Indeed, it is imperative to
find solutions that avoid, on the one hand, extremes of centralization which would threaten the
dual banking system, or, on the other hand, jeopardize the effectiveness of national policy by disunity, discrimination, and divided counsels.
I hope the Committee will include in its review
of our financial system an inquiry into the adequacy of our supply of equity capital. I do not
need to remind members of this Committee of the
fundamental, vital importance of this subject. This
nation grew great and strong on the enterprise of
its citizens. It used to be possible for a man with
a good idea to get capital together, start a business,
and market that idea. It is still possible, but it is


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Federal Reserve Bank of St. Louis

becoming much more difficult to do so, and I tell
you, as a businessman, that when our alert and up
and coming young men of ideas are unable to get
the venture capital to start and grow, then the
American way of life is on its way out.
In conclusion, I would like to give the Committee
my ideas on the present business situation. Naturally I am optimistic about the future of American
business, and although many of my business friends
are pessimistic about the present situation, I feel
strongly that we are in a healthy readjustment
period. There must of necessity have been a transition from inflationary prices to more normal ones
and a transition from the concept of mass production to one of merchandised production. I feel
strongly that we have let our merchandising skills
get rusty in the past eight years. The pressure was
on production. First we were engaged in all-out
production of the materials and machines of war.
Then came these past three lush years when pent-up
demand beat on the doors of our factories for
almost every type of consumer article. There was
no need to exercise merchandising skills. The more
urgent deferred demands of consumers have now
been satisfied and most goods are in plentiful supply. When sales are a little disappointing, as compared to the abnormal years, there seems to be an
inclination to look for excuses rather than get down
to fundamentals of product price and quality, and
consumer services. It is primarily by that constant
improvement in quality, accompanied by lower
prices, that our competitive system has functioned
so phenomenally in improving the American standard of living. I, for one, am glad to see the return
of the competitive conditions which are so vital a
factor in our enterprise system.

(With Speeial BoferoBoe to the Saltod State*)
Prepared by '• **• Beraateia

X.
The raeent ooatroreray betwaaa the 0,3, Treasury and the Federal Reaerve System hoe called attentive t9 the problea of credit polioy in a
period of gvoot lafl*tli»afy pvoogiifo*
fht foaoral Hoooivo %«to« la oonoorood to »oo that tho soney supply
1» not furtbor *xpand»4. It w<mld 4o ^»i« oy stopping tho jwobafto* of
wNJnritl*» by tho Federal Rf»«orr» Bank* la order to support tha
pr ^railing utruoturo of §ovoi>Mo«t oooerlty prlooo. S**a a polioy would
prio«a of govoranttat noourltloo noidi docliiwi, ^10 ylolda would
f and now lusaea of gov»rn»a«t soouritloo would haf« to boor highar
interest i*«too« But tlio Fodorol Eooorwo Sy«to« would aot liawo aouuaulated
ad ntiooal bonds and tho Boaoy supply would not, on that aooottnt, hara

Tho Treasury taicoa tho viow that tho oomo^Boaooo of MOB * polioy
would bo to ratio latovoftt ratoa withoutv la foot* contributing to a
tloa of th* iaflatloa probloa, fho point Is noda that fractional oaaagoa
la latoroat ratoo oaaaot roduoo ^»lvato lawoata»nt« Oft tho other band, tho
ultiiMto ooat to tha Troaaury la iatorowt ohargoa la aald to bo large and
tho aood to flaaaoa tha higher Interest payment* would load to a larger
budgetary ^floit« thla la itaolf may add to tho Inflationary


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Federal Reserve Bank of St. Louis

- aThia paper diaenaaee the relation between iatereat rates, the supply
of loan funds, aad this voluae of iavestaentf aad It considers? the need to
prevent the growth of exoessivo liquidity which may affftot the
enYironseat of tip f\iture»

The essanee of Inflation IM a ijoami for foods and ftorvtoo* for
invootmmt OJM! goyoraaoiit purples which oxo»»o* tho oiipply at tho
^vol of prlooo *ai aiatribatlon of »on«y litooKOs* fbo purpooo
of anti-inflntion noojmyoo 1* to olixinato th« •xoonii doH»ad irlth«mt raising

an*ly»l», it will bo aasmwd that goranuamt daamnd for 4«f»naa and clfllion
pareoooo OJM oooa oot dirootly »t tho propor l«ral and that tfeo reatriotion
of dona»! for oonamrnticw ia boing l»!«ood in Dther way* than through tfeo
intermit i»«to, flio ppobla«t than, ia whether « oteanfo la iatoroot rato» oan
bolp to radttoo tho daamnd for imraatwmt and im ttoia wagr rodooo tb« onrrottt
Inflationary p<oaawpo«
flhon « busiaoop nan ia oonftidtertttf wbathor to undartaka oortala invest•oat la fii»d canital aia aooiaioa aaot ba aa4o by weighing aovorol oloaoato.
io asiat oeaoidor lh» proapootiva raooipta which dapond oa Toltaaa of aalaa
and tho priooj and than ho aunt ooaroara thaoo rooaipta «lth tha proapactira
«jt-of-poak*t «xp«n»e» rfttring tho usaful lifa of tho iavaataont* Froa thia
ho datormiaaa th« groM iim»»taent yield, tho axoa*« of proapoettve reoelpta
over proopoetiva oxpoaooa other than thoae inrolired ia tho iaveataoat itself.
If this groa* lafootaoat yield onooo&i the grooa Inrtatment oootf idiioh la
defined aa iatoroot plu» depvooiatioaf the inveotaeat ia profitable.


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Federal Reserve Bank of St. Louis

latyrally allowance naat be aade for naeartaiiJtios, and thia w**g# that
aaa* critical axaeaa of prospective groaa imreateent yield 0v*r gr«** iavaatMaot aoat (varying frew tint to tt»e} iai Rftoaeaary before
will ^ latartafeMU
A rlM la th* rmt« of interest lner»*s«« th« groaa luv«atB0nt
althan^l IMC ttea !• MMtiJMM aa«M»d. F^p thl» r«*«oa9 th» operaUon
of th» lnt«r«i»t r»t» la rwtriotin^ marginal inreatwint in probably orrar
wry gf«ftt *yt»pt for HOMI tw»ry long-lln»d p^jaets, Obvlmi»lyf tha la*
fluent* tf ^t ittt«f*mt r«tt oa lavMtaaat ia v»»y aafth dl«tal»h»4 la a
ptrltd *f pro»pt«ti^ Inflation wlsan tha outlook for a larga aalaa veltwa
at felgh srlwMi 1« «*paeially bright.

(Int*mt ftad d^preeUticmT^
Iat«reat B»t*

(FsrO^nt)
I

I

J4

Fl*t-t»«r

tkia-T««r

Twenty-Y«sr

a*22

11.13
11*72
12.33
12.95
13.59

6.12
6.72
7.36
e.02
&.*&

tif*

21.S4

22U6

23.10

23.74

Lll*

tlf*

Iwa If Intaraat rataa ara get a aajor fneter in 4atar«laiag tlia avarf lafaataagt ovar a parl^9 tliay may ba v*ay lapattaal la latlia iia ^latrl^mtloa of lavaataaat ttaNitt tlia parlod. 8arlaf
dacid^l that a giwa lataataaat will yia!4 aeva tfeaa lt« ooatt tha bualaaaa
aaa wlaliaa to aaxlalaa tha axoaaa of yield owr aoat. If tha Intaraat rata
la higher aow tiiaa It la axpaata* to oa» aay two year* from aowt thaa a


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Federal Reserve Bank of St. Louis

4*
may to Induced to pat off a proposed ixrvaataa&t until tha rata
ha* fallon. Thna, for axampla, if funds for * given lovaataaat oaa to
m at 3 por oast but aay to horroaod two yaara from now at 2-1/2
, the arcragata saving by putting off tha iavaataaat for two yaara
would to tha dif faranea totaoaa tlia prasant v&lua of a I par oaat and a
par oant «aourlty, both sailing to yiald a-1/2 por oaat* For a acvjraar
f

^iia la a largo aunf ••onatlnc to aaarlr ^ por ooatf avaa for a

»*ourlty it amounts to 4*4 PHP oaat, Taa ralationshlp totaaaa
tam aai long-tar* rataa aai tto poaaitoUitj of intaria aaf*rt-tam f iaaaeiag
•hlla waltiaf for tha long rata to full oaa aodorato thi« affaot*

faolo t.

Hallo thi» rolatloBuhlp of praaoat to yroapoatlva iatoraat rataa oaa
owttsarily to a potarful faotor in datarnlalaf tfaa tlaiag of lavaataaat,
thara ara two raaaoa* «^r i* wo«ld Kara ao atfaifloaat affoot aadar |goaaat
ooa4itloaat ovaa it tliara ware aawrmnoi ^»t tha iataraat rata «U1 to
lovar %ao year* froa MM*

fto firat &• that idth tha axpaetad inflatioa of

daaaad. tto orofIta proapoota for tha aaxt two yoari ara ao groat a* to offsat tha axtra ooat of i por oaat in?@&va4 la ftaaaoiaf »Vyaar infaataaat
aov at tat hl^iar rata ratbar than lator at tha loaar rata. Tha naoad ia
that wl^h iha axpaatod riaa la vafaat aatoriala^ ato.f tht ooat of aoquiriag


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Federal Reserve Bank of St. Louis

lnr««t*ent good* la o%pootod to bo 00 imoh higher 1» th* futuro «» to MOT*
than offaot any aavlaf la Intoroat oo*ta. fao oonolu»ion, thoroforo, la
that • riao in latoroat rmtoo oanaot bo oxpoatod to curb to aay algalfleant
oxtottt tho ri*anfid for long-period Invoataoat ttadar fsroaoat inflationary coaQA wA'^^^^P

vHnB ]^»^^WJ^^w*W^

lor OOA m rloo la th« lotoroflt nto bo oitpootod to curb to aagr oxtont
tho dofMUMi for Invwtwcnt 1« Aoeuwulating lavontorloo* Tiio domondi for InToatorioo to rolotod to tho rrtra faelltty they proviso la production or (in
tho oo»o of flaisho^ goodo) la *oloo« Far aoro laporUnt, howerer, la dotoralalaf whothor lavontorlos will bo Icopt obaoraolljr largo or 9iaoll 1» tho oxpoottttloa M to oooo of availability of goods and tho proopootivo IOTO! of
prlooo* Vtillo a rloo la tl» rato of lotoroat oould itador oortala condition*
affoot tho doAoad for lavoatorloB, It la noat unlikoly to tavo l^la offoot is
a porlod of ppo«|iootl^o shortagoo aad rlalag prlooa*
So f** an aoaoaraa tho doaaad for lufootaoat under proaoat ooadltloaa9
It 1* difficult to aoo how It can bo oartailod ty a hifiior rato of intoraat.
It la po«alblof howov»r» that tho aupply of loom fttada would bo ourtailod by
a riso In tho rato of latoroat on gn^maoat boada aad that tola would
tall Inraataont btaauao of a laok of flaaaoo*
3.

Tao big aiairooa of fi»da to flaaaoo invoatooat aro tho aadistrlbiitod
oaralafa of biiaiaoaa {laol«di»f liquid roaorvoa aooturalatod la tala nay) borrowing froa tho public, aad baak loai»,
tha aaouat of rotalaod oaralafa availablo for laroitaoat oaaaot bo
affootod by a rlao to latoroat ratoa. That wat bo dotoralaod prlaarlly by


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Federal Reserve Bank of St. Louis

*i*
profit*, tax**, wad policy on tho distribution of *arnlnfft, Son*
of tho pa»t tor* boaa hold «s r*e*rw*a IB tb* for* «*f gor*n»oiit boad*. COBaalvaaly, at a lovor parla* thara algat bo aaaa InaHnatloa to dolay la soillag aaah bond* to flnanoo additional lataataaat. fhi* la not 113c*lyt however,
to bo a retraining laHiaoaao oa the tuio of liquid ro*orv»* for lawvatnoftt at
a*W^

>o*r»* vwwr a JI<HV*

-d^a*^M,A^<OV

J*%M^hJ^

A

% M^feJMh^^*

rrioup i WMUUMKI *amug* WUJL proooiuy aa jroawor

«kA<^*4 **Jt

^hA ^ «i a* vtA 48

* ^"^^a^ M at^

^4 ^ ^

m^tA^jikVkl ^ W.A,

*w^K^A^A^

thaa tofvatavat froa *uah rotalnod earning*t If opportun!tl*ii for lawaataamt
aro llalUd \y dlr*ot oontrola, amilablllty of roal r**ouro**t «to,
*BO boaa marlMit will not n*o*a*arily baaoaa a la** **ti«factory aouro*
of flaaaat for lavoataoat b*aaa*t of a rl»* la tho ylold oa g*woraa*at **enrltl**» It wlllf of oouraoy a* aaaaaaary far th* ylold oa industrial boada
to riaa with th* ylold oa §aw*raaaat aooarltio** ?h* rlao aayf how*T*rf ba
laa* oa indttatrial bond* t&aa oa fowon»*Bt*« Th*r* has booa a »t*ady redaction la tho appvad botvaaa fowariM*a^i and h!#i grado Induatrlal bond**
loforo th* vart tha diffaroaoa la ylold va* botvaaa *8 and ,9 par oaat* It
la aov bwtvaaa *l aai *35 par o*nt« Iftth th* proapftat of owaa hl«h*r *arning* la taduntry, the aproad aay bo fttrthar narrowod. Tb* baaie cm*ati^n la
w«otb*r tli* absorption af voro goworawent bond* by til* aarkot (l***9 oth*r
thaa ooaaorolal bank*) will r**«lt la *on* r«ducUoa of fonda aaaa availabla
for aacplring nov flotation* of other l*na**«
Sappo**> for oxaapl*> that bank* (and Imrarane* ooapaaloa) oall fOYom*»
aoat boodi and that taa Fodoral Roaarwa Btriw withdraw support at th* proaaat
lowol of bond prlooa, tho bond* *old Jay th* baaki will bo purohaxd by th*
public (tho vagaltado of th* tranaaotlon* la aogl*otod for th* aoaoat). Hawlag r*doo«d tholy liquidity, th* paroha*or* of bnai* will pro*vj*ably abaorb
loaa of aov Industrial l**oa*t although th* roduotloa aay b* quit* avail.


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Federal Reserve Bank of St. Louis

Thara ia, howrer, another factor to bo oonaidorod and that is tho attltada
of Issuing houftoa,

Tho aannor la which mm aowltioa aro leaned aakoa

laauing hotwaa vary a*«itaat about bringing out at* iaaaaa on a falling aarkot or tho threat of a falling nwrkot. For thia r*aaony taoro aay bo •
tondoaey to told off now i**uM until tho boai aarkot appoars to luom booa
atateiliiod, not only in tbi goaoral IOTO! of yioldi» oa gopajfuaoado but in
tha dlff«r«itiala batmen govormottta and industrials at «ay hl^har lovol
of yialda. faJUi unoartalnty will bo lo»a algpiif leant for now i»*tioa of

th« lovol of bank rooorva* aad rooorvo ro^irataoatoy tha aalo of
brr
Iff llkalv
aa ovtMBaloa
teoiaooa jav^^paaan^p
loana.v ^*a*
If banka
"^f liaaVa
^F^^^W^^^W^ -**•*'
MI tw *^*^^*^ to
^P^F aoooaAidnf
^w^» ^«^»^»^^"w^^ ^»»»
^v«9B»^^^^^^ ^»^^^v «tf
iw ^P^^^^^BW^^'^W^P
^F^^PP^*^*
1

PVPlQMMpIwi flMfl wftalJT 4UP9 tNNN*MMNl BJT VMI |WOi*C> wIMI SB* SJMOMMHNI Ul

arepply of loon funds will bo dotoradnod bf tho ano«nt th«j soil lo«« any
radNtetion la ta* ab«^>rptlon of nov orlvata l*aoaa by tl» awrkot, wiiioa ia not
>aaajaa< to bo largo* Th* hoaltetien la bringing out now la««o» of industrial
bonda ia ^roounod to bo a taarporary phanoacnoB mlthojgh not of nagliglblo lw»
povtaaioo on *N«t aeooent. Tho or pans ion of loon funda wiH not bo ai^nifioantiy ra4neodty tnoroforo, by a riao in tn« yialda of govorm»ntaf if bank*
d«oi1« to aoll gofamaoat bonda oron if tho market aboorbo taoa*
Hat of foot of withdrawal of FodtanO, ioaoyya mpport and tho ooaoo^ttont
riao in latoroat ratoa will, htmev«*r, pronpant a largor innroaao ia tho umpply
of loam fUnda.

fban taa Fodoral laaorva Sanfca bmy tho bond* soli by tha

baaka (or iaiitranoo ooapaaioa) tho roaonraa of tho coawarcial bankn nr» in*
aroaood* Aa tho baaka ante boainoaa Ioan9f tb*»ir oarooaa roaorvoa dloelino,
but their aotual rosorvoa aro not depleted oxoopt an tho loan* giva riao to


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Federal Reserve Bank of St. Louis

-in doaond for cash. Thus, with the purchase of bonds by tho Fodoral Rosorvo
Banks tho bankiaf systoa in abl* to o*psa«l loan* HBOO BOPS than with the sslo
of an equal mount to the public. this »ay net be appa?oiit in tho statls~
tloal sorlos of bond saloo aad baslnoos loam by banks boeauso other faster*
(o.g.t tho flow of toH and ohojofoo la forolpt 4«posit* at ^o Fodoral

Booorf« Holding* of

20.7
22.9
24*1
24.6
22.7

Baak Holding* of
74.7
69.2

&U7*

31.1

40.2
U«l
45.3
54.0*

fho offoot «m tho «r«ilabl* «ttpply of loaac oauood ^r M^or ylold* on

that tho aaawiiiuial benkii ooH govofMOftt boedUi, dteoplto tholr hlghor yloldo,
but that tfeo Podoral R»««rr» BMVt do not buy tho** booda, tho mapply of
loan fu»d» fir lutntotiit will no^ortholoa* lnoroo»ot bat thoy wUl laoroaso
by *<MMwhat loo* thaa tto a»>mt of boad» sold by tho bank*, fbo prlAolpol
offoot will bo to ]jy4i tho liHwro«»o 1» tho sMpoly of loaaablo fundo and thio
wUl roiult fro» tho motion of tho i?»dor«l EOOOTPO Banks IB aot acqolrlnf
«Wo ftliii»iw»l bond*, ftth a ftvoa 4agr»o of liquidity (oaah holding! of
tho pabllo)f m rloo In Interest mto» is aot llleoly to bo wry
on tho «HQ9ply of loan funds wndurr prosont oondltlons.


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Federal Reserve Bank of St. Louis

•» V 4i

If m riee IB yield* on foveraaent bonds la to b« effective In
la* *• taWfflfft IB *»» supply of loanable funds it Boat be by inducing
aeroial beake aot to soil their holdings in order to inorcaae their business

4.
la general, with eoae minor interruptions and oao aajor Interruption,
lial bank* sold 0*S« gmraraaaat s«<raritte« steadily ia the poatwar
period ia order to aeoure funds to expand business loans. 3uob a
aeat of bank portfolios was obviously a part of the prooeas of
aaaata ia difforeat foraa whieh individuals, business firaa and banks had to
waOjortaka aa a ooaaejcHvaaae of toe large) inoresao ia private wealth
tratod ia the fora of fovwraaoat securities) whieh took plaee during the
*:ith the higher retwra froa loans to business firaa aad iadiTiduala than
froa gowerBBaat securities, tao banka allowed tao proportioa of their total
assets held ia the fora of securities to deoliae as taw fJeaand far loaaa ia»
oreased. Smppaas that Bwdiua»tenif taxable foveraaant boada, eligible for
nurohaao by oowmeroial aaaka wore BOW allowed to decline oa aalas by bank*
until the yiold roae by 1/2 par oeat. Ifoald bank aalea awoliaa sharply or
erea atop with the BOW prlee? taia aaoatioa i» extreaely difflomlt to
answer9 for data are aearoe and the eavirorusent ia uncertain.
OH the faoa of itt the erporieaee of 1944*1950 would load to tao riew
that taste will not be deterred froa selling bonds by a riao ia yield oa tat
order of 1/2 oar oeat. Between January 1950 aai Koveabor 1950, ooBaareial
bank holdiaga of ysvimasint aeourltlos deollaad by 14*5 billioa while the
yield oa aeditai tara gwtraaaut b@ada roao froa 1.29 to 1,62 par oeat. In


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Federal Reserve Bank of St. Louis

faet, tho yiald OB nodlnn-terw feo»d» of «*t typo hold by baako IMS boon
rl*iag otoodlly slue* 1946, «xeo??t f or tho ana iwjor iBtwruptloe b«t»««n
at^tap It4i «afi tec^t 1%9, without i»p^li« t*» «to«<^r tet gr«A*a »duetl-m of b«ak pcrtfolloe.

|^ta

SOU****

hlfltT*

||f|4

1%7 Jan.
Apr,
Jaly
MU

74U
72.0
70.6
70.5

1*27
1.24.
1.26
1.J7

190 J«a.
ipp«

^Oy
O.t.

69.2
66.1

65.3
63.3

1.46
1OS

1949 iMt
Ajar.
J*2?
0»t.

63.0
6a.9
64.5
t?.7

1.50
1.40
1.23
1.2f

1950 J«B.
Apr*
July
Out.

60*2
65.6
65.0
62.5

1.29
1.39
1.41
1.62

I0i
1.63

|||«

|

Chart

T*» •uplanaUon of this behavior In * willi^Mss on th» part «f tte
banks to Mil ^Bvarawat «oo«rttlo« nh«naT»r tboro am prof itabla buainwa
loane to bo moo and to buy gciftiiiatat ooo&ritlo* whom oaoh loan* «ro *ot
available, tlioy har» not booa dotorro^ In thl« alooot prodlotablo prooaaa


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Federal Reserve Bank of St. Louis

- 11 by aa avorago yiald that haa riaea (la tha postwar parish) fro* loaa than
1*1 par ooat to 1.65 par cant. Tho prooeaa baa rua through auaoaaslra
to taa baaka. a idaa> la vialda. toaoorarr auaaart tar tha
^J

^
^
^
^

^mV^V^^V- •

^W

•* ^*^r^

m^m

^ -^

^mr^^^m M

^r^^^^^r^PIP ^WIBi ^

^^^*JP,J'r^r** ^ ^^W

^WIW^

/ita^p and a fXtrthap rla« la jialda aa aalaa fftaam* laeroaaaa, tha Ariring force ia tba sala of goyamaaat aaeuritiaa by tfea

iataroat. la thla proocas, tha baaka haw aot hl^arto baoa datarrad froa
aalliaf aaouritias oa a falliag aartet* tlw oapttnl loaa on a l«r»«r
maturity, if tha yiaW should go frm 1*1/2 por oaat ia only 1*45 and oa a
6-yaar maturity oaly 2.80. faia ia a aoa tint aould bo aada gooi withia a
period by a ao^laat dtfferaatlal batwaaa rataa oa loaaa and tba ylald
boada* faam ia ao dottbty osf oouraay that rataa oa loaaa to
bnaiaoaa risa witb tbe yia!4 oa gofaraaaat boada.
faa first !*praa*loa» tbar^ara, »omld aaoa to bo ^at baaka will act
bo iaduood to rafraia froa aolliaf ««vaf«K«at boada by aa iaoraaso of I/a
por ooat ia tha yiald. Ilia attitude would bo difforaat if thora wara a
goaoral viaw aaoiig baakars that 1^o low pri«a of fovoraaoat bonds is taapo
ra*y and that a hifbar prioo will bo roatorad ia t«o or throo yaora aad that
tha goaojai for btuiiaooa loaaa will tara doim la t«o or throo yaara. Tha
fi*at oirottaataaoi »oold indmoa baaka to b«y aooaritiaa ia tha aopo of

baaka haaitato to *all aoottritioa oa a bad aarfcat ia ordor to axpaai buaiaaas
loaaa for a liaitod pariod. faa *idaal* behavior for a bank unitr thaaa
ottaataaooa would bo to hold aoeuritiaa but to raisa tha rato of intamat oa
loaaa to
I/ If thara war® aaimraaoa that tha prieo of baak oligiblo boada aoold riao by
I par ooat ia two yaarat baaka would raojaito a alniapgi iaoroaao of 1*1/2
por oaat par aanaa ia tha diffarential batwooe boad yields and loans to
buaiaooa*

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Federal Reserve Bank of St. Louis

- 12-

Claarly, thoso «fo not oireuvstanoea is whieh bank* e*» fool that if
tho yiold oa guiaiaaaat boado rlooa aow, it will fall agoia ia tao twirl two
or tavoo yoant or that tho iaaaait for bu«iao«o IOHBB will decline ia tao
next t«o or thnt« yoar** ilcYortholoaa, it i* not certain, doapito their
pottoru of behavior ia tao rooo&t paot, that bankn will to oa oalliag
itioa to t*ioo tho faada to aafeo loaao. fao banks, liko otaor aoldoro of
woailta, dUtribato thoir a»«oto aaoag varlami t^P«» of vooltli wiife a vio«
not aaly to oaraiafo bat to liquidity. Before tho war, tho aaonat of
itioo (fOvotiawBto aad aaaioipolo) ia bonk portfolio* wax about 00310! to tao
aaonat of loaao• ?ho ratio io aov about 4f3* An tlio ratio caproaolioo tbo
prowar ratio of Itl, tao baaka aay »• 3bo«o oanor to ooatiaao to ooll aoouri*
tioa i» ardor to aalEo loani»9 «voa if tb» yioldte oa goforaaoat ooooritioo aro
aot higher. Aad ao thor approaoh thia ratio of lilt baako aay bo aoro aoaoi*

and oxpaa&iag loaaat thaa tliay bttf* hi^iarto boon ia tbo poatwar yoara.

If tlw baaka aro aot dotorrod froa aolliag goYoraaoat boada by a rioo
ia ri«3J»» **** ^ioa ia aoMowd by tho witadrawol of fodaral Roaorra iapyai't
froa tao bond aartetf

fboro 1m ^o foot that tao loadiaf iaaaoi^r of tbo

baako will bo loaa if tlm boaao aro porohaaod by taa pablio taaa if taagr ara
worohaitod Isy tiio Fodoral Roaorfa Baaka* But ovsa thia aajr not rodaoo wory
such tho voltiao of inv«»t»e»t ia a oouiitry whoro oa*b holding* aro large ia
ia t»» lant 19JOf*. Apart froa tiii* ponitiw bat liidtod offoot ia roproooat tovootaoatt tlio aajor baaio for a foiaral Boaarfo poliey
dirootod toward pvovoatlag aa taoroaoo ia tho aoaoy aupply ia tao ralatioooaia of iajfaaooil liquidity aew to tho iaflatioa probloao of tat BOOT futara.


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Federal Reserve Bank of St. Louis

-13 5.
•oaotary poltey cannot bo eoaoornad alsply with tho taaodlato affects
without regard to tho owrlronBont that 1* being araatod now and In which tho
pirobloaa of the futuro will ha*» to bo not* tho Federal Roaorto authoritie*
appoar propel/ to bo concerned with th» growlag liquidity of tho country.
Ifoft with tho aoat offoctlwo prico aai *af* oomtrola, tha •natfamot growth
is liquidity 1* a »oa*oo to rUblltty. Tho grmrth of th» MBOjr mpply «ith
o flxod rmto of imtoi*O8t nill inditoo a bid<iia§ ap IB tho pplooo of othor
•ooots (ro*I ost«tot «tack») ttntll at their higher priooo thoy aro «>qumlly
attraotli^ with tho holding of ooch and fHfOTiiMMit toenrltloa. Tho profits,
oroa book profit*, on *uoh oaoital Moot* offoot tho prirato woalth of the
publio attd tho attltudo of tho pabllo toward «pattdlng and Mnrtag out of
wmt ! •§»»«•» tl^r aro ill Induiaaunt to bid itp th» ro«oui*oe» uead in
tioo and lufootaoat whoa diyoot ooatrola oad othor yootralato «ro Imtoir

It U l^iooslblo to ar«tto that tho tlaltod itotoo oma bo ladlfforont to
tho 9*to «t whloh tho aonoy wrpply la froviaf*

Tho offoot of tho wonay rap-

ply on InTUtion la sot aatoMitle or tiwaleoa, aa la aomtlaaa «n»po»od> bat
It iwivOT-tfcoloaa tma a paaltirn rolo* Tho eouotry My ** ptfparod to aooopt
a slowly and atoadlly p*ovlBg ratio of aooay oi^i&y to laooao and prlvato
w«alth. But If tho ratio gmwa too rapidly, it will la tlwo b» brought to
tha lawal appfoprlato to tho lovol of laiawo and prlwato waalth by a aharp rlao
la Inooaw nauttd ^r aftd aaoowpaalad by a oooaaBptlaa and lawoataoBt booa«
doffoo of iaflatloB tha Saltod Statoa will hawo thla yoar and aast yoar way
dopoai la amall part oa Istoroat aai orodlt polloy* Tho dagi'oo of laflatloa


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Federal Reserve Bank of St. Louis

-uthe United States will hate three year* fro* now nay depend in rout* larger
part ea the interest end credit policy of today.
4 polity of permitting steady growth in the money supply a*y be juatifiable when the proepeeta mm fairly dear that the donand for ooneunptioj*
and inveatoent will not ffclly ewploy the productive reaouroea of tho country.
That was the oaae in the 1930««. the proapeet today ia for a period of mnoertain duration during whieh 4ef enee needa will ho ao great aa to require
a«o* diwinutioa in the aaount of output arailahle for oonau«ptianand investaeiat. Aad evem if the period of preparation for dofoaao ie brought to an end
by a ioaoyol aetUeaest, the oxporieneo of l<&&*4$ iadioatea ^at thia will
ho follow** by a period of abaoroal eouauaption and inroetment dewand that
will bring renewed preaanre on the niMiB^r,
There in MI nooi to exaggerate the role of the woney empply in the
Aiaerieaa «oonoay. It to probably not srdlinarlly a oauaal faotor of groat
oliftifioo^oo in the inflation ppoaimre. »»t the high defree of lio^ddity
pendta the oanaal foroee to aanlfeat the«««lYes In Inoreaaed eonauaption
and inroatiient ewes when the nonoy smpply dee* not roapond to thoae Inflationary foroe*. That ia aurely a large part of the explanation of the
bidding vp of prioea and ooata during 1950,

the riae in priooo and ooats

hae redttoed • COM what the liquidity and the eenaoitgr of the public to oaBtliwit
tho pwaem* of oxoona dioanJ, It nay be poaaiblot if lii|uidity oan bo kept
t

to r«eaptare in part the Uniting effect of the nonoy autsply on the

fear of taponilng aherta^a or rising


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«. 15 The poetponewmt of certain types of Investswnt end ooa*aao* expenditure dttfiag tho period of def eaea production will In any ea«o result la an
aottaralatloa of potential demand that will begin to oxproaa itself when the
preaaat restraints era roaovod* ?h* offoot of thia accumulated dooaad will
bo aoro concentrated and the roowltlag riae la price* waeh rreater If liquidity l» b^Alt up in the latorvoalaf ywaart. Tho etperienen of the 3alto4
Statoa la 194^, »ao** how rapidly prloe* «an rl«o la suoli oa enyiroo»ent,
•Ton whoa amroat output 1» l«yfo «&d 0r<Ua&fily miff Iciest to «*ti*fy tho
fw4T ooaoiiaptioa and luimUioat at m vwry hlife lot*! of laooao« fl»
jet^P^ ^e^^^e^^ IB^^OK^b^^^k^en ^^e^^tt^MeV^^be) ^k^e A em <oVaV^k ^^.^^^ ^^M^^K ^»^^-^M^ M~W^t^M^ ^IW^h ^O> ^^^M^^
o»
«omf MuofWOJi owvBmyov m wae jMOvWOJF ^oojni PHOWO «BA* ®»*>n

prleo control« oaxaot provoat the oroepiae up of pHoog and ooote
la oa oavlyoaaoat of oaoooa liqxildity,
fao mttltudo that little can b* aoeowmltjihoa la tho Oaltoa Statoo to
restrain inflation through credit policy is partly a ooavoqaonoe of oapfcaol*
oa preaeat inflation praoloiia with laaje^iaato regard for f^itoro inflation
profeloao. Aad it la partly a ooaoooaoaoo of tho foot that tho credit polloioa
of the past have Rade It more 41ffioult to mo oredlt polley now to deal with
the immediate inflntion ppobloao« Tho difflcaltlea of awaJLlag with tho
ppoaoat iaflation prohleaa throofh credit ooatrol arlao froa the conjunctur*
of wl^aafvoaJ oxp^otatloaa of rlitiag priees aad ooota and « high dogroo of
llquidi^r* taior auoh cmditions, latoroot ratoa oaaaot prerent anooaai^a
lavootaottt aad the availability of bank credit la not essential to tho finaneing of a sudden iaoroaso la inveatffioat Caad aoaauaetloa) * iiit these expeotatloaa aood aot laat and tho dogyoo of li^ldlty ooa ho graditally redttoed»
fao policies to Bilniidw Inflation to tho preaoat aad la tho future are being
forattlatod and credit control oaa do aaoh to wafca thoao policies effective.


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Federal Reserve Bank of St. Louis

I.
Cteo aido of asti-lnflatiai pdid? la to doatroy tho axpoetatioaa of
fttftadlly rifiiag prieaa aad aoata. This la iatoodod to b* aooeapliahad
through prioa and vago ooatrola. Thoro ia oa anwarrantod attitude of afcap~
tittiaa rogardiag tha affieaoy of srooh a policy. To tha *jrt«nt that thla
skaptiaiff* i* IMUMM! on faar that tha ad»lniatrati«» of tha eontpoia will
iiva my t« pp*»a«r»t it Mgr or «iy »ot prow justified.

To tha ajxtoat that

thia skaptioiam U baaed sa tha faaliag tfeat prico and vafo ooutrole eaaaet
work, it i» wholly «flju*ttfiad.

3nob controls ara aeo&onieally nound, thay

oan bo raad« to work, and thoy hafa boon roaaonably offaotivo* 4 study of tho
ooowMdo aapeota of prioo ooatrolf aith apaolal rafaranoa to tba Onitad
States, ia bolflf praparod*
Claarly tHo offaotivoaosa of pfioo ooatrola will bo groatly aabaaoad if
^bay OJPO oupfMMftod l$r ot«or polioiaa that yodttoo too JVOOOWPO of anooaa do^
mand. Thore iaf ta naaaralf a taidonoy to avor-oitioato th« fBPoaomroo that
will aaorga in tha ao*t faw yaaro* Tha tt^roaaa 1« output at ooaotaat parleaa
win probably bo uroator t?»n ia eoaaotOy pu^diatw!. With tlio projootod ana
pragraay tiia radaotiom ia tho afffrogata supply of ooamaor goodo (oxolnding
roaidoatial eoi»trwtio») ia 1951 aad 1952* oo«parod with 1950, aay bo quita
aaall* Coetrola m oo»ott«otioft and <m tha allooatlon of oertaia natariala
will teaop do»a iwootaoat. With new taxoo aad tha high aargiaal ralatiooahip
of inoriaiaat of all taxoo to luoraiaanta of inooao, tho budgat pwltion will
bo ralatiraly atroag•

Iaitit»tioBal aad paraoaal aajfiaga (with tha liadtod

•upply of durablo •••owur gooda) will iaoroaao and will boooao awailablo for
iBTiwta»Bt a ia ioiojiaaomt secoirltlaa.


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Federal Reserve Bank of St. Louis

In brtof f oottumle eo&dltioas In th« lioxt two or threo yeor» art not
likely to eoafrent the United State* with an inoperable inflsUcet probleu.
•** theee tojrtitioa* *aa create m *«ry dif f ioult inflation probloa fur the
future,

fo tho oxtftBt that the probl^ro arl««« out of the «e0u*ulati«* of

neod* for inv««tiwnt and conrtaptlon, it cannot bo aatlroly aroidod. To
tho «xto«t that tJio proKLo* arla*a out of tho accumulation of frtaftto wealth
la 1 tquld foifi. It ORB bo inurtly arold«d through tho flacal and c^dit
policlw of todoy. Licpildltgr oaa bo feopt dova by a pollapr thot wmld
«lal»iio and preferably ovoid any looroaao la F*d«rol Rooono HoJdlnjO cf
govori»o«t oooiiritloo* At pre*»«tf this would inrolve lottlfif tho prte«s
of goranuMBt »«<jurltlo» go dowa oador tfto PPO-OJWPO of 00X00 Iqr oooBorolAl
boako aad othoro. Tao F«d«rol Reoorvo B«ak» would, of ecmroo^ aodoroto th»
«erk*t to a«jmr« ooatlauity and a proper r^lationiihip Momif Tarlouo i»«ti«o*
tho contijwatlon of unoartainty as to fut»r« polloy laoroaooo tho diff iottl^T ojf ooiatalalflg tho praooa'1 jlold on jfovonaaoBt boado without
tiol *ttpport ff«« tho foiotol ioo^fvo Boako* A oonoidorablo onooat of
itioo i« prcAably now boiag ooU vita «m iatontioa of parohaalag ofoia whoa
{MHUMMi ^nff chPOfpwl» fti oao iwgr of> oaothar, thi0 itiooi'iatiiliif abould bo
•
eadod. faoro i» a good 4ool of roojioa to bollow that tho goTtraaoat bead
aavfcot «U1 boooao otrimgay la tho aoar fotaro* 2f thlo iriow io nictoly bold
by baaka, iaowaaoo ooapmioo and lorgo iavootorof tboa a withdrawal of
fodorol Ro««rfo ampport aovt but witfc ao.«uroaoo that an ordorljr MiiEot will
bo aaiatoiaod at a lower level of prioet, aoy ancourag* baako aad other ias ti tutioDftl iirfMtoro to maintain aad ovoa to add to thoir holdiago of


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Federal Reserve Bank of St. Louis

• It«
1* a strong feeling, at leant aaoag *os* MfM&t* of th* public,
that adequate neasures are not being taken to deal with the inflation proble» unless the growth la me*? supply 1» halted, There la a sound basis for
this view* The Treasury has been represented as »«r» concerrwd with kaaplng
dovn int«r«st oost« than with dealing with Inflation* and tfc* Trsaanry has
b*«n r*pra»«nt«d as trying to aalotala unchanged a pattern of Interest rates
that was established for widely different oonditioos. 4s a natter of fact,
there has been store resiliency la treasury Interest rate polioy than 10
generally i^GOfftlsed, as Uie following tables and chart* will show* But
this Is the tins to adapt Interest rate policy to the needs of the next few
years* And this need nat Involve a share ehaage la the structure of inter*
est rates or the Interest oost of the public debt*

.382

i.a6
2.25

i.ou
1.52
2.44

i«i%

i.ii?

1.35
2.31

1.45
2.32

SOBS popular disottesions of the oontrofersy between the Treasury and
the Federal Reserve have left the l»^es»lon that the Treasory has been
ad«aant in refusing to eeasidsr any ohange in the pattern of interest fates
despite the far-roughing ohaafes la eeonasde outlook and eoonoaie policy


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Federal Reserve Bank of St. Louis

- 19durlng tho past year. Thin extret* utateaent i* not IB accord with the
fact*. To a wary significant ax teat the rate* en gowaranant securities
hawe responded to aarket condition*. Ilthla tile paat year, the average
yield oa freaatiry bill* haa gone up fren 1,10 per seat in January 1950 to
1*37 per cent in December 1950| on 5-year Treasury itotea the issue rat*
haa gone froa 1-1/2 par cent in February 1950 to 1*3/4 P*r eent la Deoewber
1950.

fhaa, the Traanury itaelf haa bean offering higher rates on ita new

borrowing. The yield in the market oa «edi*»-ter» bonde Cthree*year} haa
baea alloiwd to go fron 1,27 par eamt ia January 1990 to 1.65 par cent ia
Deceaber 1950f aad oa loag-tern booda fron 2,20 par cent ia January 1950 to
2,38 par coat ia Deoeaber 1950.
Aad yetf despite thia reapon*ivene«« of go^eraaoat aocaritar yields to
aarteet conditions ia 1950f the average coMpited iataroat rate oa the public
debt was lower in Horeaher 1950 than ia July 1949.

%ilo oa ahort-tem

eeouritiea, the yield ia Peaembor 1910 waa ulightly abore, the yield oa loaftarn bonds van alightly bele* th« levele of October 1948.

Althcwgli aont far-

ther rise la yielda, at loaat to a level slightly abofo that of October 1948,
should be part of a credit policy adapted to the mete of the next fan years,
it ie by no neaaa the *hol* or eren the major part af «uoh a policy, lor
•hould it bo aaattMd that within a wall-adapted credit policy* tho rlao la
yiolda or in tho intaraat coat of tho public debt noat be largo. Above all,
there ia no rmmm to bo unduly paaainiatio on what oaa now bo acoonpliahad
through credit policy to present the building up of exoaaa liquidity.
One phaee r.f « n«« credit policy would bo a moderate rise in yiolda OB
outstanding ao«tritie«. An understanding should bo eatablliihod between tho


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Federal Reserve Bank of St. Louis

- 20 -

Treasury aad the Reserve Board to assure an orderly market at oil tines and
to profile support for leveimeat securities at oritioel levels, even if
this should neaa see* enlargement in Reserve Baal; portfolios* The essential
aopoot of a credit policy related to the interest rate is not so much the
absolute level of yields as the relation of present to eipostod future yields.
A rise la present yields is not an alterable step* there oaa be aad way bo a
fall to yields two or three years froa now. the market should bo aado aware
of this* At the soae tie*, Modifications would bo made to encourage the hold*
ing of government securities by the public aad the banks* Aaoaf such modifications night be the following»
(a) A new 25-to 35-year bom! nith a a~3/4 per oeat coupon rate, especially designed for insurance soapsniss;
Cb) Aa administrative rsgulatiea making bends within 12 years of
maturity eligible for purchase by beaks during 1951f
Co) Readjustment of Reserve Baak portfolios to enable the public aad
the banks to shift to types of oooarity that will induce the* to aaintain
their holdings.
Bhile soae rise ia yields aad aa adjustment in the yield pattern should
bo used for holding doom liquidity, there is no reason to confine the prograa
to yield iaoawUvos* The federal lescrve needs further authority to increase
reserve roajttiii'oaeato ia one fora or another with a proviso permitting inoreaoatal holdings of goveraaoat securities to be used as part of the supplementary reserve. There will bo difficulty ia devising aa effective plea be*
causo of the great differences between individual baaks; bat there is no doubt
that with good will aa equitable plan oaa bo devised.


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Federal Reserve Bank of St. Louis

The objective of credit policy should INI to hold down liquidity. This
a*ana * definite attempt to avoid inereaaiag Federal Reeerve credit except,
perhape, to tfa« extent o»o«»s«ry to off»«t * reduction in U»S. fold holdlnf*
and an in«r«m«e la for«ipi balance* at the Federal Beaerfe Banks* Sueh *
poll ay IB an eaeentlml part of an anti-inflation prograa for the present and,
even sore, f*r the near future* An Imaginative eredlt program would rouae
public aupfportf and the environment for staking eredit policy effective is
aore favorable than In eometinea etumMMMNi*


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Federal Reserve Bank of St. Louis

Subject:

Inflation and Interest Rates on Government Securities

I do not believe it is useful to discuss the problem of interest
rates except in terms of the two major problems facing us under present
conditions.

On the one hand, we must make available to the Government

the £roods and services needed to carry out our mobilization program, and
these goods and services •will reduce the amount available for civilian
purposes. At the same time, we are endeavoring to avoid an inflationary
rise in prices and wages for reasons which it is unnecessary to elaborate.
.;ie Treasury is directly concerned with both of these two great
problems.

We must find the funds which the Government requires to finance

its greatly expanded needs for men, materials, equipment and all the manifold activities connected with the defense program.

This is our financing

problem, which we must deal with through taxes and through appropriate
issues of government securities.

The Treasury is equally concerned with the

second front, th?t of controlling the inflationary pressures in the economy
created by the defense program,.

To this end the Treasury has submitted to

the Congress programs for increases of taxes which, when adopted, will
effectively contribute to reducing the inflationary pressure, as well as
finding the necessary funds.

are equally concerned, in our borrowing

operations with both aspects of the problems before us. Tre must borrow the
funds which we need, and we wish to do so with the minimum of inflationary
results from our borrowing.
Broadly speaking, we face the inflationary situation before us
primarily because


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of growing

shortages of civilian goods. The public

— 2 -

knows that we are going to have these shortages, and there is always a
tendency for prices to rise and for inflationary movements to get under "way
•whenever it is anticipated that a government must undertake a large scale
defense program.

Inflationary pressure is inevitable and has always been

present in such a situation. We have to do our best to deal with and
control those inflationary pressures.
Inflation means over-spending. It means that everyone is trying to
acquire more goods or services than he can acquire at present prices.

It

is this tendency to over-spend which brings about inflation. Hence, it is
basically necessary to find ways and means of avoiding or preventing this
over-spending.
How is this over-spending made possible?
spring?

From what sources does it

Broadly speaking, it can come in three ways. First, people can

stop saving the normal proportion of their current income and try to spend
this amount. Second, they can go further, aid draw upon their past savings
in the form of bank deposits, savings bonds, and similar holdings.

Third,

they can borrow against their credit or against capital assets, or sell
their capital assets.
In the United States our people were saying at an annual rate of
approximately ^l- billions per annum in the first quarter of 1950. If
more than
they stopped this saving and spent that money, this could add/|;2 billion
a month to the spending throughout the country and put an inflationary
pressure on prices if additional goods were not being produced to meet the
increased rate of expenditure.


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In fact, the supply of goods was tending

r
- 3to be restricted as the government -went forward with its defense program.
In the second place, there was outstanding at the time of Korea, a very
large volume of liquid savings in the hands of the public, amounting to
about i-200 billion. Drawing upon these savings may be made at any time
and constitutes a continuous potential inflationary pressure of very
large magnitude. In fact, during the third quarter of 1950 the rate of
personal consumption expenditure by the public grew to £198 billion per
annum, as compared, with &182 billion per annum in the first quarter of the
year. The rate of savings, by comparison, fell off from $15 billion in the
first quarter to ^6 billion in the third quarter, despite the higher incomes resulting from the inflationary rises in wages, farm prices and other
incomes during the period.
The third source of funds for over-spending is borrowing or realization of capital assets.

Most typical, perhaps, of the two classes are

loans from banks and sales of securities on security exchanges.

A great

deal of attention has been given to the effect on the inflationary picture
of the upward trend in bank loans. These loans in fact rose by about
v

billion in the third quarter of the year.

There can be little or

no question that the full purchasing power provided by many of these loans
has contributed to over-spending,

uat is important to remember is t hat

this is only one source from which funds have been obtained for over-spending*
It is not the largest or the most significant source.

It would be difficult

to prove that expenditures which have been made during this period would
have been impossible if these loans had not been made.

Nevertheless it

is certainly true that there might have been a slightly smaller amount


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.

-h-

of what I have called over-spending if there had been no expansion in
bank loans during this period.

Personally, I believe that even if there

had been an absolute freeze on the total outstanding loans of every bank
in this country during recent months, so that there could have been no
-10AjB>JEtikj

net expansion in bank loans by the banks, that -we would^.cvve seen a heavier
rate of drawing on private savings, some greater liquidation of securities
and other capital assets, so that there might have been only a very limited
and perhaps hardly noticeable diminution of the upward pressure of wages and
.
prices caused by over-spending*
I do not say the above in order to imply that the bank loan problem
should not be dealt with, even though I am convinced the present situation
•would not be appreciably different even if it had been dealt with very
drastically.

Although it may be a relatively small element in the entire

picture of the inflationary pressures, it clearly requires attention,
,>t I do wish to emphasize is that it must not be given disproportionate
attention in terms of all the efforts which we must make to deal with the
inflationary problem.
Those efforts take two general forms, which tend to be called the
direct and indirect anti-inflationary programs.
exemplified by price and wage ceilings,

The direct approach is

By Imposing these ceilings, we

are trying to s tabilize incomes and. we are trying to decrease the speculative
pressures resulting from anticipation of future increases in prices. We
are trying to maintain the general level of the cost of living, so that our
workers will be satisfied that their real incomes are stabilized.

These

are the direct controls and they are very important because they touch
directly at the foundations of an inflationary movement.


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The real basis

.
- 5for nearly every inflationary movement is anticipation of higher prices
and higher incomes.

Our efforts have to be directed toward dealing -with

that basic factor. The direct measures are also of great help

in preventing

the tendency for the movements of prices and "wages to interact on each other
in a sort of upward spiral, one following the other and no tendency to
settledreadjustment being apparent*
We must remember that all these measures are taken against the backgruund
of a situation in -which many items are going to be in short supply, and have
to be in short supply if we are to carry out our defense effort satisfactorily,
We do not want any more shortages than necessary.

But we do want the

necessary shortages, because they mean we are getting the job done0

We must

not, however, let these necessary shortages become distorted into widespread
and general inflationary pressures, with people vainly attempting to get the
goods which are not going to be there by continually bidding-up prices and
then asking for higher wages, when they find that prices have gone up.
One of the important series of direct controls consists of the restrictions which have been imposed on consumer credit and on real estate credit.
These have a direct impact in dampening down over-spending in these two
important areas, and help to release goods, labor, materials, and other
resources for the production of more necessary items.

They have been, in

a sense, forerunners of the commodity allocation arrangements which we are
having to introduce, and they assist in the enforcement of those allocation
programs.
In addition to these direct controls, we have undertaken to act against
the inflationary menace by the so-called indirect controls,. These are
measures which do not deal specifically with particular prices, incomes,


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»

- 6or categories of credit, but apply more generally to the objective of reducing over-spending. They are of three general types:

first, we increase

taxes to reduce the amount that people can spend out of current income;
O'

second, we intensify our efforts to ask them to make contribution to our
national survival by saving and lending their money to the government at
reasonable rates5 third, we try to reduce reserves of the banking system,
so that it will have less potential power to expand credit.
I am sure you will agree that we have vigorously and conscientiously
pursued the policy of increasing our taxes.

The inflation which we have

had to date has not been due to any significant budget deficit, and in fact
we have been taking in more money than we have been paying out thus far*
But we do not have in prospect a continuation of this happy situation.

We

will have to increase our taxes x so as to pay as we go to the utmost extent* But, unfortunately, we would have to go much further than this to
avoid any possibility of over-spending. We would have to tax our people
heavily enough to meet all the expenses of our defense effort, and also to
take away most of their saving, if we relied solely on the tax measures*
Instead of this, we are endeavoring in every possible way to supplement
our tax policy with a vigorous effort to ask people to save and provide
their savings to the government.

Let us be quite frank. The success of

our anti-inflationary measures in general contribute to the success of
our saving campaign, and our savings campaign contributes to the successof our anti-inflationary program in general.
everything works together.

In a situation like the present

The better we do in any direction, the better

we shall do in all directions, and vice versa. It is a gigantic campaign
like a military campaign, in which every part of the operation must contribute


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- 7its share to the campaign.

And likewise, the better everyone does, the

easier it is for everyone in the campaign.
It is in the third sector of the anti-inflationary campaign that we
have run into difficulties.

There is a conflict bet-ween the objective of

reducing the potential power of the banking system to extend credit and
the objective of maintaining a stable market for government securities
w

•which form such an important part of our financial structure at the present
time.

There is some difference of opinion as to how this conflict should

be resolvedo

The difficulty arises because the banking system now holds a

large volume of government securities purchased at par or better, which
are the assets which it holds against the deposits of the public.

The

savings of the public, in effect, are invested in these government bonds
indirectly through the balking system.

The banks have not hesitated to

sell these government securities to the Reserve System and make additional
loans on the basis of the reserves thus established*, One way of dealing
with this problem of expanding loans by the banks would be, it is argued,
to allow the price of government bonds to fall so that banks would not sell
them to make loans of inflationary character.

That is to say, if the

Federal Reserve System should no longer be prepared to buy the bonds at or
above par, the banks would not sell them to the Reserve System because they
would take a loss, and hence would be reluctant to establish the reserves
necessary to make the additional loans. Against this point of view, it is
the Treasury opinion that there are other ways of limiting the expansion of
loans by the banking system, and that this particular method has the
serious disadvantage of hampering the efforts of our government to raise
the necessary funds through tapping the savings of the public.


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It hampers

this operation in two nays.

First, it increases the cost to the Treasury

of borrowing money, and makes the Treasury pay to the banks and other
financial institutions larger amounts in the form of interest on the
public debt, thus adding to the overall expenditures of the government
and the over-all deficit to be financed by appropriations and taxes.
Secondly, by disturbing the confidence of depositors, insurance policy
holders, and other savers, it may accelerate a flight from government
securities into commodities and other forms of wealth.
The Treasury believes that, at this critical juncture, the overall
fiscal advantages of maintaining the level of interest rates is more
important to the country, than the limited contribution which would be made
to the bank loan problem by allowing interest rates to rise fractionally and
the prices of government to fall.

5

There are a number of rea^ns why we do

not feel that, under prevailing circumstances, a rise in bank loans would
be effectively prevented by unsettling the government bond market,, The
banks today c an replenish their cash reserves and go on making loans,
without needing to sell any long-term government securities to the Federal
Reserve System.

They have in their portfolios short term bills and notes

some of which mature every day, week or month.

To make new loans all that

is necessary is that they fail to renew some of the maturing short term
securities which they now hold.

It is for this reason that we do not be-

lieve that banks will forego opportunities to make profitable loans even
if their long term government securities are made unmarketable except at
a loss.

The fact that in recent months they have preferred to sell long-term

government securities rather than let the short-term holdings run down as


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a means of replenishing their reserves, I believe is to a substantial
extent due to the desire to reduce their portfolios because of the threat
that prices of these securities might be allowed to decline.
It -would not, in my opinion, have been easy to stop the loans that
the banks have been during the past few months by any of the indirect
measures "which affect primarily the prices and the interest rates on government securities. I strongly suspect, as I have indicated before, that
nothing short of a definite ceiling on the loans permitted to any bank, in
the form of a quota for total loans fixed by the Federal Reserve Board -would
really have achieved the result of preventing an expansion in bank loans
during recent months.
While I remain rather skeptical as to the effect of indirect measures
in holding domi the level of bank loans -when the bank's customers are
vigorously demanding credit, there are other -ways of applying indirect
pressure to the level of bank loans -without at the same time incurring the
risks of unsettling the government security market or adding to the cost of
the defense effort and the size of the budget. These might take several
forms; a general increase in reserve requirements, the addition of special
emergency reserve requirements during the emergency period, and an extension
of selective controls on credit in the form of directives to the banking
system.

Though I do not place any -ways near as great emphasis on the

significance of bank credit in the total inflationary picture as some
others do9 I fully agree that no objection should be made to any attempt
to deal 'with this aspect of the inflationary problem unless it involves
dangers to other objectives -we have before us.


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Consequently, I -would

- 10 -

support the adoption of legislation authorizing the Board of Governors
of the Federal Reserve System to increase reserve requirements above
present levels. I would also endorse the proposals -which the Board of
Governors haS made at previous dates, as a special emergency period device only, the requirement of a special reserve, over and above regular
reserves, to be held in the form of eligible securities of a short time
character.

I believe this should be a special emergency measure rather

than a permanent authority.
In the third place, I would be glad to see the powers of the Federal
Reserve System extended to enable-them to provide limits as to the amount
of business inventories as well as consumer credit, which may be financed
for a given borrower, I would also be glad to see them given powers to
direct the banking system to refuse credits for particular types of
activities. In fact, I am prepared to accede to any request of the Federal
Reserve System for powers to control bank loans directly, so long as these
powers are not exercised in such a way as to make more difficult the problem
this country faces in financing this gigantic effort of national survival
and maintaining a steady and confident market for the billions of government
securities whichjL must eventually be placed with the public and with the
financial system, at rates which are reasonable but which do not add
unnecessarily to the heavy burden of expenditures which we must write into
our forthcoming budgets.


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Subject: Credit Control and Debt Management

The crux of the credit control problem in this inflationary period
is to find some means of holding down the total volume of commercial bank
and related credit to the desired volume.
Credit control is the direct responsibility of the Federal Reserve
System. Some members of the Board of Governors, at.least, now propose to
tackle the problem of controlling the volume in large part through the
use of the device of allowing the yield on both short-terra and long-term
government issues to increase and thereby decrease the incentive for
commercial banks to shift from governments to commercial loans. The use
of the device is technically possible because the Federal Reserve is today
in a position through its open market operations to determine the price
and yield on the entire government issue.
In times of stable economic activity the Federal Reserve policy might
be able to exert an important deterrent effect on the expansion of bank
credit. The inherent weakness of the approach today rests on the fact
that, under existing circumstances, the type of yield increases which would
seriously impede the sale of government securities or notes by commercial
banks are probably so great as to be impracticable,

f

J-he type of fractional

increases that would be feasible without running a serious risk of dealing
a severe blow to public confidence in the United Ststes credit—and the
type which the System apparently has in mind—are not likely to deter the
commercial banks from extending further loans as long as the general
business situation remans so favorable*


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- 2-

Unless it can.be shown conclusively that the withdrawal of the peg
in the long-term rate will contribute more in the way of checking the
monetary inflation than it will cost in the form of an extra debt burden
and unstabilizing effect on the public credit, there would seem to be a
public policy presumption in favor of the use of alternative methods of
bringing the volume of commercial credit under control,
The most obvious, direct, and perhaps the most effective way would
be to freeze the volume of outstanding loans at existing levels and allow
increase in the volume only upon specific approval of the Federal Reserve
System, or the State Banking Commissions in the case of State banks e A
combination of direct quantitative credit control, together with an intensified use of various selective credit control devices such as Regula- a

tion W, would unquestionably be more salutary in checking the use in the
volume of commercial credit than any practicable combination of open-market
and rediscount operations.
The same result of checking a rise in the volume of commercial credit
could be achieved indirectly by freezing the entire present commercial
bank holdings of Government securities (thus making further increase in cash
reserves entirely dependent upon new cash inflows) and requiring a 100 per
cent reserve against all new deposits.

If the banks were obliged to main-

tain their government holdings at existing levels and had to establish a
100 percent reserve of cash or government securities against new deposits
the volume of bank credit would be effectively frozen.
The above solution is obviously so extreme as to be outside the
realm of practicable possibility short of the gravest national emergency*
There are, however, variants of the technique of completely freezing
commercial bank holdings of government securities that are worthy of careful

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_ 3 consideration as alternatives to fractional increases in yields brought
about through Federal Reserve open market operations.

The simplest is the

device of a special reserve requirement thet would require the commercial
banks to hold, over and above their regular reserves, a specified percentage of special reserves in the form of short-term government securities
or additional cash reserves at their option.

The percentage could obviously

be set at a figure that would require the commercial banks to maintain shortterm Government holdings at existing levels, or even increase the level, for
an indefinite period,
The special reserve requirement would force the banks to sell longterm governments to the Federal Reserve System rather than to sell shortterms or allow the short-terms to mn out in order to acquire new reserves.
While it is clear that this action would not seriously interfere with the
power of the banks to establish new reserves at their option, it would
:.
equally clear that it would be at least as, and probably much more, effective
than a deliberate increase in the yield on short-term government issues,
The direct alternative to the Federal Reserve approach of partially
freezing the long-term government holdings of commercial banks by permitting
a yield increase is an increase in general reserve requirement which would
compel the banks to dispose of some government issues to the System in
order to establish new reserves.

If the assumption is correct that the

Federal Reserve System would not propose interest rate yields to increase
to the point where the deterrent effect on the banks would be decisive,
a modest increase in reserve requirements would have the same partial
immobilizing effect.


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-kThe choice of approach in the field of controlling the volume of
commercial bank lending -would seem, in the last analysis, to revolve around
the government estimate of the overall situation -which mil confront this
country during the next decade,

A fairly persuasive argument can be made

for the use of the orthodox, indirect approach of fractional interest rate
and rediscount rate adjustments if one is convinced that this country is
nearing a new period of stable economic activity and budgetary balance.
If, on the other hand, one is convinced that the outlook for the next
decade is that of continuing budgetary deficits and an upward price trend,
it -would appear to be more appropriate to peg the yield on both short-term
and long-term government issues and deal -with the problem of the volume of
credit by a combination of direct restrictions on the volume of loai s outstanding and measures which -will effectively freeze the entire government
portfolio, now and subsequently acquired, of the commercial banking system.
Any appraisal of future policy in the credit control field should
bear in mind the fact that, once the banking system acquired large holdings
of governments it automatically rendered itself largely immune to any
indirect pressure from the central- banking system and largely free to expand
the volume of commercial credit at -will.

If United States public policy re-

quires that the present po-wer of the banking system to expand commercial
credit at its own volition be curtailed or abrogated, it -would appear
essential that the problem be attacked at its source.

There appears to be

no prospect in the foreseeable future that commercial bank holdings of
governments -will fall belo-w present levels.


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It -would not appear wise

-5lightly to give up the objective of keeping the debt service charge
down and the price of governments stable merely to permit the Reserve
System to experiment with an indirect -weapon which, within the limits
that it can prudently be used, now appears completely outmoded as an
effective deterrent to credit expansion.

LMP:bb


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FEDERAL RESERVE OPEN MARKET OPERATIONS, INCREASED RESERVE REQUIREMENTS, DIRECT
LOAN CEILINGS AND BANK LOAN EXPANSION

The Federal Reserve proposals are designed, fundamentally, to bring about
a curtailment of further commercial bank loan expansion via the indirect rout©
of limiting the commerci&.l banks' powers to expand their reserves through
sales of Government securities to the System.

In evaluating the merits of the

proposals, therefore, we should try to reach a judgment on the following
questions:
(a)

Just how important a contributing; factor to the post-Korean inflation

has commercial bank loan expansion been?
(b)

Under existing circumstances will the methods proposed by the Reserve

System effectively deter further commercial bank loan expansion?
(c) Are there alternative methods available to the System which will be
equally, or more, effective in bringing to a halt the commercial bank loan
expansion?
(d) Are any of the alternative methods less injurious to the public
debt management requirements than the Federal Reserve interest rate proposals?
There would seem to be no doubt that bank loan expansion has been a major
contributing factor to the recent monetary inflation.
loans have risen by
billion.

This

billion, from

6%-

billion to

&$

'''

/>" percent expansion in the level of bank credit outstanding

compares with the
period.

^jp/*

Since last July, bank

percent rise in the general price level, over the seme

In view of these basic statistics, which are readily available and

already generally known to the interested portions of the general public, the
financial committees and Congress, I think that it would be a mistake to


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-2*

attempt to minimize publicly the inflationary impact of the recent bank loan
expansion.

If any issue in thie field is really open to debate, it is the

issue of whether or not the recent bank loan expansion has now largely run
its course and will soon come to a halt as a result of the impact of the various
price and allocation controls and commodity shortages,

A convincing

affirmative

answer to this question, would at least enable Treasury spokesment to maintain
that there was no need for adopting the Federal Reserve proposals because the
problem with which they were concerned had resolved itself.

If, however, a

convincing case cannot be made for the proposition that the bank loan expansion
phase is now nearly at an end, I think the Treasury should accept the premise
that bank loan expansion is a significant contributing factor to the current
inflation and that some agreed program will have to be adopted to bring bank
credit under more effective control•

This would narrow the issue to the choice

of methods to be used and there would seem to be a presumption in favor of
those methods, other things being equal, that would have the least injurious
fiscal consequences.
Whether or not fractional interest rate adjustments, such as those apparently contemplated by the Federal Reserve, would effectively deter further
commercial bank loan expansion, turns on the intensity of the various demands
for bank loans.

If it is true, as some maintain, that the demand is already

at its peak and that the various price and allocation controls and commodity
shortages will tend to check sharply future demands within the next several
months, there is good reason to believe that the Federal Reserve proposals
would be quite effective at this juncture.

If, on the other hand, appearances

on this score are deceptive and the demand for new bank loans for non-defense
purposes should continue very strong over the next year, it seems quite likely


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Federal Reserve Bank of St. Louis

-3-

that the Federal Reserve measures would be of only limited effectiveness.
Commercial banks today have $ / £

billion of short-term government

issues and they could finance a multi-billion additional bank loan expansion
in the next 12 months merely by letting a billion odd of these issues run out
this year.
In view of the uncertainty about the present real demand situation for
commercial bank loans for both defense and non-defense purposes, I think that
we should try to arrive at an agreement to adopt that method which is most
adaptable to changing needs.

If, for example, it should turn out that defense

program requirements make a further expansion in the level of bank loans
desirable it would have been a serious mistake to have imposed too rigid a
ceiling on bank loans.

If, on the other hand, it later turns out that we are

underestimating the demand for non-defense loans, it would have proved advisable
to have taken relatively drastic steps in this interim period.
The Federal Reserve approach is, I think, clearly one that falls in a
half-way category by the tests of effectiveness and adaptability to changing
circumstances.

In all likelihood it would have some deterrent effect under

almost any conditions, and it would, be quite effective in the next few months
if the expansionist pressures of the past few months are now nearly at an end.
On the other hand it would probably be relatively useless over the next few
months if there is a continued strong new demand for commercial loans.
If it can be s own that there are other ways of getting at the problem
of unwanted bank-loan expansion which will be at least as effective and
flexible as the fractional interest rate adjustment method but without the
same adverse fiscal consequences, then I think that serious consideration


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Federal Reserve Bank of St. Louis

-4-

should be given by the U. S. Government to the adoption of one of the alternative
methods in preference to the Federal Reserve proposals•
There are at least two alternative methods for bringing the level of bank
lending under control.
(a)

They are:

Increased reserve requirements, either general or supplementary

special reserves set at, or somewhere below, the level which would freeze the

$Jr

commercial banks holdings of government securities a*e existing levels.
(b)

Direct loan ceilings, with some or all new loans requiring approval

by Federal Reserve district loan committees.
Both methods could clearly be drawn up in a fashion that would be much
more effective in dealing with the loan problem than any feasible central bank
open-market technique.

The direct loan ceiling technique deals directly with

the loan problem while the reserve requirement approach deals with the problem
at the next most direct level, the ability of the banking system to create new
reserves.
The question then is:

can either of the methods be implemented in

practice so as to provide the type of flexibility and effectiveness which the
present uncertain loan demand situation calls for.
In theory, a loan ceiling technique can be made as flexible as one likes
by having some administrative machinery such as Federal Reserve district loan
committees with the authority to raise the ceiling and approve new loans.
The real difficulty of the direct loan ceiling technique, in ray judgment, lies
in its implementation.

The Federal Reserve district loan committees would

find themselves from the outset faced with an exceedingly different administrative
problem unless they confined their activities simply to approval of requests of


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Federal Reserve Bank of St. Louis

•
-5-

individual banks in their districts to raise their loan ceiling in order to
be able to make new defense loans.

This type of flexible loan ceiling would

probably soon become substantially self-defeating inasmuch as any bank could
get an increase in its own ceiling more or less at will by submitting its
new defense loans to the Committee for approval above the ceilings.

On the

other hand, an absolutely inflexible loan ceiling would appear to be out of the
question in a period of steadily expanding defense requirements.

It might,

however, be possible to 7,rork out some compromise between the above extremes
which did not go so far as to require the district loan committees to approve
all new loan applications.
Some form of increased reserve requirements would be the more orthodox
alternative method for dealing with the bank loan problem that is the direct,
consequence of the present ability of U. S. commercial ba .ks to increase
their reserves at will through sale of governments to the Federal Reserve
System.

Today member banks hold

.6 o <rJd

against demand deposit liabilities of

billion of government securities

$z

billion.

Their government

holdings would be frozen at present levels and their ability to increase
reserves cancelled out if an emergency supplementary special reserve requirement of

feQ

percent holdings of short or long-term government securities

against demand deposit liabilities were imposed.

This would compare with the

Belgian supplementary reserve requirements, introduced in 1946, of 50 t© 65
percent of deposit liabilities.

The necessary degree of flexibility could be

obtained by obtaining legislative authority to introduce special reserve
requirement up to, say,

4, 5"

special reserve requirements of


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Federal Reserve Bank of St. Louis

percent of demand deposit liabilities.
^S~

percent appeared too extreme, it

If

-6-

might be possible to limit the percentage to the figure necessary to freeze
the short-term government holdings of the banks, or approximately

>J

percent,

This would not, however, prevent commercial banks from increasing their
reserves through the sale of their long-term government holdin.es to the Reserve
System, hence would be relatively ineffective in bringing bank, loan expansion
to a halt.
The great advantage of the increased reserve requirement over the direct
loan ceiling approach lies in its administrative simplicity.

Its drawback is

the fact that it would require new legislative authority, a matter of months
even if Congressional support could be attained at this session of Congress.
For this reason, the practical choice would seem to lie between the use of
some form of direct loan ceiling or the Federal Reserve open-market technique
if the intent is to deal with the loan problem immediately.
From the Treasury viewpoint a direct loan ceiling would have obvious
advantages over the Federal Reserve approach since it would not involve any
lifting of the peg on government securities.

The question is therefore

whether or not a loan ceiling that is administratively feasible can be worked
out promptly under existing legislative authority.

There seems to be, as

I understand it, little question that legislative authority does exist for
establishing a direct loan ceiling.

If it is felt that the present loan

expansion problem can be met adequately by the device of a loan ceiling on
everything but new defense loans, the administrative task would be quite
simple.

Federal District loan committees could quickly be established to
*
approve increases in the loan ceilings of individual banks to take care of
new defense loan requirements.


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If, on the other hand, a loan ceiling somewhat

-7-

more rigid than this, yet not an absolute ceiling, were called for, the
administrative licensing problems posed thereby would be very great, and I
think it is open to question whether or not public support could be long
maintained behind such an approach.
As compared with the introduction of a direct loan ceiling, the Federal
Reserve proposals have the advantage, at this juncture, of being easy to
apply.

Furthermore, therejis, I think, a general tendency to exaggerate the

probable effectiveness of the Federal Reserve proposals.

As long as this is

the case, those urging alternative courses of action, such as the direct loan
ceiling, are called upon to make a stronger case for their approach than is
perhaps really necessary.

In view of these considerations, it seems to me

to be quite difficult to oppose the Federal Reserve proposals effectively
with anything short of a fundamental solution to the bank reserve problem.
The fundamental solution, in my judgment, is to deprive the commercial
banks through legislative action of their power to expand reserves without the
approval of the Federal Reserve System.

In practice, I feel this can only be

achieved through some appropriate form of special reserve requirements.

If

it is the judgment of the responsible authorities that it is premature to
undertake this fundamental step at this time, I can see little hope in obtaining agreement to any alternative half-way measure such as direct loan ceilings*


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February 6, 1951
The following are the figures on holdings of all U. S0 government
securities by the Federal Reserve Banks at the dates indicated, in millions of dollars: (End of the Month except June 21)
May
June 21
June
July
August
September
October
November
December

17,339
17,678
18,331
17,969
18,356
19,572
19,252
19,693
20,778

Following are some comparative figures comparing the assets and
liabilities of all banks in the U. S. with certain other figures:
June 30

November 29

Difference

All banks in U« S» (excluding
Federal Reserve Banks)
Deposits

163,770

168,UOO

A, 630

Loans

5l,999

59,660

/7,66l

Uo Se Government Securities

77,320

72,700

-ii,620

Gash Assets

3U,099

36,100

/2,001

The figures after June 30 are preliminary and are partly estimated,
since all banks do not report at such frequent intervals, On the. basis
of these estimated figures, the developments may be summarized as follows :
The banks extended loans in the amount of $7*6 billion during this
five months period. They also added $2 billion to their cash assets.
To offset these movements, they sold government securities in the
amount of $U.6 billion and added $lu6 billion to their deposits0


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- 2During the five months period, the Federal Reserve System acquired
government securities in the amount of $1,362 million. Member bank
reserve balances rose during the five months period by |829 million.
During this period the banks were able to add about f>5 billion to
their total assets and their total liabilities. Of the increase in
assets about $2 billion took the form of cash and about $3 billion of
earning assets» The net change in earning assets reflected an increase
of loans in the amount of $7.6 billion partially offset by sales of
government securities in the amount of tU,6 billion.
The cash basis on which the banks expanded their assets was provided in part by an increase in reserve bank credit in all forms of
",935 million, of which $1,362 million represented net purchases of
government securities. The total reserves of the banking system with
the Federal Reserve System, however, increased only 1829 millionc
This difference is largely due to two other factors. Grold reserve
decreased fl,19U million and currency in circulation increased by
$14.39 million. The remaining difference is accounted for by a decline
in Treasury deposits and in non-member deposits (principally foreign
bank accounts with the Federal Reserve).
The net effect of all these factors on the credit basis provided
to the banking system by the monetary system may therefore be summarized
as follows:
The Federal Reserve System extended enough credit to the banks to
offset the outflow of gold, the increase in money in circulation, and
the decline in Treasury and foreign bank accounts taken together«, In
addition it provided $800 million of new reserves to the banking system*
Most of the increase in Federal Reserve credit took the form of purchases
of government securities.
On the basis of these additional reserves, and some other additions
to cash assets of non-member banks, the banking system as a whole
increased its assets as indicated earlier, by about $>£ billion. The
indications are that the banks sold government securities to non-bank
holders in the amount of about $3*3 billion, while selling about $l«i[
billion in government securities to the Federal Reserve Banks*


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From
OFFICIAL VERBATIM TRANSCRIPT
OF

HEARINGS BEFORE JOINT COMMITTEE
ON THE ECONOMIC REPORT
Friday, February 2, 195>1

The Chairman. Dr« Clark, do you care to make a statement on the
attitude of the Council of Economic Advisers with respect to this
general subject?
STATEMENT 0? JOHN D. CLARK,, MEMBER, COUNCIL OF ECONOMIC
ADVISERS
Mr. Clark. Mr. Chairman, may I stand rather than use the microphone?
The Chairman*

It will be quite agreeable.

Mr. Clark* Then I will be sure to keep this inside of 10 minutes.
The diversity of view of monetary policy which has been exhibited
in recent discussion here today is not surprising.

We are dealing with

the problem now in an environment which has never before been experienced.
The policies, theories, developed in a period when, as Dr. Seltzer
said, business loans constituted the bulk of investments of the banks.
Today it exists in a situation where the banks hold billions of dollars
of Government securities which, whatever price manipulation may take
place, will always be liquid and can be turned into cash upon a moment's
notice.
It exists in a period when great institutional lenders likewise
hold billions of dollars of these liquid assets and when business itself
is a source of credit far beyond any situation that existed before*

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Federal Reserve Bank of St. Louis

- 2-

So that business does not have to go to banks in order to get
loans before they can initiate a project even though later in the
course of the project they many want to resort to banks for part of
the fundso
These are new situations which have very greatly upset the assumptions upon which monetary policy has been developed in the past century
and a quarter0 ¥e also have the new situation of an enormous public
debt which,, because it has been handled successfully ^ seems now to be
looked upon by many people as a tame domestic animal which does not
hold within it the seeds of violent disturbance to thb economy, and
therefore we do not have to do much about it«
That is not the character of the national debt* If it is not
handled prudently ^ if we take such action that some important offering
of Government securities is a flop on the market^ we will soon learn
that the Government credit can be destroyed by imprudent debt management,
These are the two new situations which have to be considered then
in considering monetary policy today<> And obviously we have an
opportunity to come to different conclusions about proper monetary
policyo Certainly the lessons of the past have very little to guide
us in determining what we are to do in a situation which is so greatly
different from that of other years*
The breadth of this diversity of view is illustrated T?y a couple
of statements which have been brought to the attention of the Committee*
One I am not certain that you have hade It is a statement issued this
week by some of the most important members of the faculty of Chicago
s*

University^ the department of economics0
I do not know whether that has been received by members of the

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Committee«

Since we received it I suppose all of you did«

The Chairmano
Mr« Clarko

I have not seen it«

To show how strongly these various respectable

authorities support the most ligorous view of monetary policy^ I want
to read just a few lines?
"The price rise of the last six months could almost certainly
have been largely or wholly avoided by effective monetary action*11
Approaching the subject from that standpoint they come to this
conclusion of what the policy should be todays
"The Federal Reserve System should at once announce that it will
conduct its operations with an eye single to their effects on the
supply of money and credit and on the level of priceso"
They exclude all idea of monetary policy being related to the
problems of debt management in this period when debt certainly is goir^
to be a matter of daily concern*

"It should at once begin to sell

Government securities to whatever amount is necessary to bring about a
contraction in the currently swollen credit base5 and it should persevere in this policy to the point that the inflation is checked^ even
*

though one of its incidental effects is a rise in the interest rates
on Government securities«,"
Last week you heard Mr s Eccles state a very simple theory of
monetary policy based upon the idea of the direct relation between the
volume of money—including currency and bank deposits and savings
deposits—and prices*.
As I understood him^ his view was that you could influence prices
in either direction by changing the volume of money0

That seems to be

the view expressed by the Chicago economists o The simple fact is that

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}.

**-

prices in July^ August and the first part of September had their most
rapid price advance when there was almost no change in the volume of
money9 and had slowed down and there was relatively little price advance
from the middle of September until the end of November when there was a
very rapid increase in bank loans and in the volume of money outstanding,
The very reverse of the situation implied by these theories*
In 1939 the Federal Reserve Board made a very frank statement to
the American people of the monetary theories held by the boardo I will
read a single short sentence which occurred in that report and which
was repeated in the report more than once?
"The board finds it impossible to believe that prices can be controlled by changes in the volume and cost of money<,"
Before you suggest that that was at a time when we were interested
in bringing about price increases^ and that the very general and
universal terms used by the Board at that time must be interpreted as
applying only to efforts to come out of a deflationary condition, let
me hurry to tell you that the illustration they used^ out of experience^
to justify this conclusion^ was the events from 1926 to 1929 which as
you may recall was not a deflationary period.
The "hairmanc Was that a Board statement?
Mrc Clark* Yes5 sir«
The Chairman* Not the statement of any individual members?
Mr<> ClarkB That was a Board statement; published in the Federal
Reserve Bulletin in April 1939o The Federal Reserve position today
is not so easily determined0

They had not made an equally candid

statement of the theories behind their operations*
Never let the people know what they are going to do until after
 they have
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done it» If we can operate on the direct statements of the

Board — and I have tried to do so-=»I will say this? They still hold
to the view expressed in 1939 that you can not control prices by
bringing about changes in the volume of money or in the cost of money,
the cost of credit o They first moved into the theory of restricting
availability of bank credit > which has been mentioned here today, by
finding methods which will induce banks to hold their Government
securities—^you see it is a new problem they are dealing with, one they
did not have in 1939 to any large degree— induce banks to hold their
Government securities by giving them a better yield thereon, a policy
which Professor Musgrave in his report to you— which has been published
speaks of as buying off the banks from using their credit machinery to
endanger the public we If aree
The difficulty, of courses with that is, as has been pointed out
by some of these gentlemen today, that every bank in America has plenty
of Government securities which it can dispose of in the market without
being much concerned about these changes in yields * The banks hold a
large proportion of short-terms which are not very much affected by the
moderate changes in yields which you can bring about «
The Reserve Board has not apparently a much more sophisticated
theory of controlling bank credit under this provision of bank holdings
of enormous Government liquid securities »

It is perhaps that they will

be able to dissaude the banker from disposing of his Government
securities if he has to take a book loss thereon«
I can not quote anything officially from the Board itself on that,
but this is the explanation given by 'Mr* Louis Brown, a director of
the Federal Reserve Bank of New York, when he undertook to explain the
recent policy maneuvers of the Federal Reserve System.

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-6 •
By using open market operations to bring about an increase in
the yield—which means a decline in the market price—of the Government securities, including short-terms, the banker will be persuaded
not to sell some Governments if he has to add to his reserve in order
to make some business loan which is offered to him«
The suggestion has been made that barkers do not think that way
and do not act that way. But quite irrespective of that, I do not think
that the banks of the country can possibly be put in that squeeze* The
little bank that supports me when the Government is not paying me is not
entirely typical in that respect, but it is not such a bad example. It
is one that I happen to know about. Every Monday or Tuesday morning^,
•whatever the date is5 we subscribe for $200^000 of bills which mature
in 13 weeksc

$200^000 happens to be just 10 percent of our required

reserve.
So every Monday or Tuesday morning we have $200,000 of bills
maturing. All we have to do in any week to increase our reserve by
10 percent is simply not to subscribe for new bills that weeko And
in three weeks we can increase our reserve by 30 percent. We are
going to continue to use these short-term securities in our total debt
structure. They are available to the banks to dispose of.
You could not possibly drop prices on the financial markets low
enough—unless you are ready to completely destroy the debt structureso that any banker is going to be under any particular difficulty of
meeting requests that he make attractive loans0 We are caught in this
trap and we can not get out of it, by these methods.
The bard ers do have liquid assets which they are able to turn into
reserves and you can not stop them by market manipulations <>

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The view

(
1

7
l

of the Council upon this tough problem has been presented under two
of the three groups of circumstances with which your committee has been
concerned during the last year* Last February Mr<> Keyserling and I5
as the surviving members of the Council of Economic Advisers,, in
response to your request for a report upon a number of questions^ including monetary policy^ furnished you our views which you have published in the hearings on the 195>0 economic report of the President,
In November we again made a report in response to the request of
the staff that we contribute to this very valuable staff report that
has been published within the last few days* The first time we were
dealing with problems of monetary policy in a period of peacetime
inflation,. We told the committee that our approach to the problem is
not and can not be limited to the monetary aspect^ that under the
Employment Act of 19l|6 our approach has to be much broader to consider
the total problem of stabilization and not merely the monetary problem,
and that we are continually concerned with the problem of economic
growth5 that we look upon the cost of capital as being no different
from any other cost of productionj that it is always desirable to have
costs of production^ including the cost of capital held at as low a
point as social policy will permit or will bring about«
Therefore* we were not in favor of monetary policies that were
directed to increasing the cost of capital and thereby limiting
economic expansione But in a period of inflation, under ordinary
peacetime conditions, a period which is bound to come to an end either
through effective policies being applied to it or through the crash
which otherwise is the normal result of inflation, that in such a
temporary period we think that it is entirely permissable to tighten

credit0
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Federal Reserve Bank of St. Louis

(

/^

»8 •
And for that reason we had, ever since the Federal Reserve
Board presented the proposal in 19hiy we have vigorously supported
the plan for a special reserve , to be held at the option of the
bank in short-term Government securities«
In November the committee was considering the situation that now
was dominated by the needs of the defense program following the attack
in Korea* A very long term program^, so far as we can tello And the
one change that we then made, and for that reason made, in our recommendation was to tell you that under the conditions that we were in
following the Korean attack we looked upon the continued expansion
of the economy as being far more important than it would have been in
another period of inflation<,
For that reason we were not in favor of tightening credit, although
we did believe that it was still true that the Federal Reserve Board
always should have among the tools in its armory of anti-inflationary
policy, the right to establish the special reserve requirement under
conditions that would make them proper*
Now we are in the third situation,, The Chinese attack has aggravated
the problem of preparedness and accelerated the defense program so that
we immediately shifted from the original position we had taken that it
was not necessary to have wage and price controls, that now we thought
it was necessary to have wage and price controls* And a second change
which that new condition makes in my mind is that if new business
loans,, the extension of bank credit*, are creating a dangerous situation,
there is nc sense in trying to attack the danger by the use of the
awkward, indirect, and indiscriminate control of credit, but that we
should do with respect to credit what we are doing with respect to other

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Federal Reserve Bank of St. Louis

sectors of the economy^ and that is to apply direct control of the
volume of credit.
And when it is suggested^ as Mr* Eccles argues with mes that the
problems of direct control of the volume of loans which banks may make
is an administrative impossibility^ I have to say that we certainly
are wasting our time in talking about such things as controlling prices
of 1^,000^000 business institutions and fixing the wages of 60^000,000
workers if the problems of controlling lii^OOO banks^ the institutions
more subject to control than any others in our nation^ is too big a
job for us to handle» That is a personal view*, The Council has not
had occasion to pass upon ito
I say if it is necessary to act* Last week5 when the committee
had an executive hearing^ I stated my view that there is probably no
great problem in this matter of bank credit^ that the situation has
already been carried into a pattern which will not only stop the increase in bank credit but will very soon create a plethora of funds
seeking investment*
Two days after I made that forecast to you the president of a
building and loan association, in an address at one of their conventions,
besought them not to establish limits upon deposits which they would
accept* And the problem arose because these institutions already are
finding it impossible to find outlets for savings and for new investment funds*
If you looked at the schedule that Don woodward gave you at your
hearing the first of the week you may have noticed that he came to the
conclusion that in 1951<s without any changes in prices,, the inability
of consumers to find goods to buy would mean that consumers5 savings

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Federal Reserve Bank of St. Louis

- 10 would be in excess of |25 billion this yearc V7hat are they going to
do with the money? It will not be put into houses« That is a kind
of a saving or a method of saving. What are they going to do with
the funds? What will be done with the funds of these corporations who
are going to begin to establish reserves for these higher taxes that
the President has proposed today5 and which will not be payable until
the beginning of next winter?
They will not let those funds idle in the banks»

I am sticking

by my forecast9 Kr« Chairman, that by the middle of the year you are not
only not going L.O have any problem of expansion of bank credit., but you
are going to have such a drive upon the Government security markets by
those seeking that as the only outlet available for their fundsy that
it will be absolutely impossible through any open market operations to
prevent interest rates from going down.


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<
OUTLINE OF
T E S T I M O N Y

,..

E U R O P E A N

E X P E R I E N C E

tie problem facing the United States at this point, namely, the
-vJ&U?

reconcilement of A debt management requirements and__jbhc
ff£f3Jti*»

*

rp*f

fr*. «" *^y

/> v*^j5.iMr»-m —^

f— ~—--a*—^ — — ^—.....------------— .—p»«-»^~—~~—

.....

r

requirements'iasssflatess!* the use x>f •'traditional ojisrtrumenus ^i rronetary controT
A
^
is a problem that has been faced by every European country is an acute form
since the end of World War II,
The problem arises from the fact that the large volume of public debt

held by the commercial banking system give^ it a substantial independent
A
capacity to expand reserves at will through sales of the government securities
to the central bank.

The task posed to the monetary authorities has been to

find some means to prevent this "iflOHfiMzajj^ri" of the public debt other than
"*1 ..... "*

through

**Tnr'* 'JL'*«Ca **»WS»a$H.?re63«*,r'-.--

\^-t,^**(>^*i»-«.i-«»''f*1

C^ k ' e& A * *f*___jj^jg 4, -*—d-L** $_ ?_£*_ "^ ^^^__ffl_J^.^ ^i!L^
drastia increases in tnT°^elds orTTn^^Ye^
A

s»

•?ide variety of methods have been used to deal with this problem.
Some countries have tried the indirect approach, chiefly the use of
price and. investment controls in order to make it difficult for both banks
and individuals to find prof it able (for/uses^ the funds they could readily
acquire through encashment of government securities.
Other countries have adopted a more direct approach, and. have adopted
various types of supplementary reserve requirements, -which, by freezing a
portion of the short or long-term government or both of commercial banks,
have made it difficult for the banks to expand their reserves at will.
The usual form chosen has been to require banks to increase their
percentage holdings of cash pnd/or government securities against their
deposit liabilities. Belgium, France, Sweden, ?nC Italy all have used this


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Federal Reserve Bank of St. Louis

<
- 2device deliberately as a means of making it more difficult for the banks
to increase their loanable funds by selling securities to the central bank.
In some cases the permission to count government securities as legal reserves applies to the standard reserve and in other cases it applies to a
special additional requirement.
^ related device that has been used in France and Italy is a differential
reserve requirement "which requires commercial banks to hold much higher reserves against increases in deposits.

This device, rather than a blanket in-

crease in reserve requirements, had to be adopted because i
thew c ash and acceptable assets position^at the time
the requirement was introduced.
In several instances direct steps have been taken to curtail the amount
of their reserves that the commercial banks could use for private lending.
The United Kingdom has utilized the device of the Treasury deposit receipt
for this purpose since 19^0 (?). under this system, the Treasury determines
every week the total sum (if any) which the banks are called upon to invest
ot r v**** f* rt*

in this non-negotiable, non-transferable instrument.

The effect of this is that
/^
of a variable (-weekly- ad jus ted.) supplementary reserve requirement. In France,
*ne Bank of France has supplemented its control over bank reserves exercised
UrwfK

via stringent reserve requirements fep indivio\ial ceilings on the volume of

~

rediscounts it will undertake for given banks.
J^t^O-V

<* x^W'WU^W CJLA^A^g-

*

A "wide variety of qualrCative measures have been JBiU

Qualitative

credit controls have been applied in the United Kingdom, France, and the
Netherlands.


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Federal Reserve Bank of St. Louis

m»Ji

In France the Netherlands the extreme device of subjecting

c
- 3-

loans above a minimum size to the specific approval of the central bank
•was tried for a while but not too successfully. The United Kingdom has
/\
made effective use, however, of the Capital Issues Committee, established
during the war, in the post-v/ar period both in the field of new securities
floatation and bank loans.

The criteria laid down for this Committee in

the securities field are used by the commercial banks as a guide to Approval
of new business loans, and. all bank loans in excess of i50,000 must be
approved by the Committee.
Finally, central banks have not hesitated to resort to moral suasion,
wherever feasible.

This has been a very effective weapon in the United

Kingdom, in view of the standing of the Bank of England, and lias made possible

^ r& u. «

the use of a much more flexible approach than is possible in countries where
A

the central bank carries less weight.
^everal important lessons to this country may be drawn from the European
po s t-w ar expe rienc e :
In the first place, that experience makes it abundantly clear that
one can deal with inflationary pressures far more difficult than any confront!
this .country today by a variety of measures which deal directly with the
problem that frees the United States, namely, the ease of monetization of the
large volume of bank-held United. States government securities, and without
resort to deliberate increases in the yield on government securities
iiSS*C*fp withdrawal of central bank supporting open-market operations.
^/Individual country experience summarized, as per attached, at this
point./


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Federal Reserve Bank of St. Louis

United Kingdom

m
The United Kingdom has placed its principal reliance on the Treasury
A

deposit receipt as the means of keeping the reserve position of the
commercial banking system under control.

This weapon was used effectively,

it should be noted, during a period in which the Government was pursuing
a deliberate cheaper money policy (19W "to 19^7)* and there was no threat
in that period to the power of the Treasury and the Bank to keep the reserves under control through sale of long-term governments to the Bank by
the commercial banks. ,xTn fthrr } 11[fi r irlr mbtm1tf~}rrr-T\nimrti-*:hrrmrrmrj--ifanir^

M^^gv

/

w^jiy


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Federal Reserve Bank of St. Louis

r

- .:ICE
In the fall of l9acv^Ke^nTriTTonpry problem in France was tackled
vigorously on both the fiscal and monetary fronts.

On the fiscal side,

increased taxes and ceilings on government expenditures were adopted. On
the monetary side, drastic quantitative credit controls were imposed. A
supplementary reserve requirement was established.

Each bank was required

to continue to hold the volume of Government securities it held ori October 1,
19i|8 and to invest 20 percent of any increase in deposits in Governments*)
j.^i.3 requirement largely prevented the commercial banks from selling their
Governments to acquire new reserves.

In addition, rediscount ceilings

were established at the Bank of France for each commercial bank at a level
only slightly higher than that prevailing on October 1.

This action

reinforced the supplementary reserve requirement by closing an avenue which
French banks have traditionally been very ready to use as a means of reestablishing their reserves.


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Federal Reserve Bank of St. Louis

C

<'
Selgium

Belgium has relied on monetary policy more heavily than almost any
other European country as a means of regulating the level of economic
activity via a very rigid control over the volume of bank credit.

This

control WrtS achieved early in 19^6 by the introduction of a supplementary
reserves requirement system under vmich the commercial banks are required
to maintain, in addition to _

percent cash reserves, a reserve of

Government securities equal to from 50 to 65 percent (depending on the size
of the bank) of Their deposit liabilities.

This requirement has severely

/^fc-A^^IX

inhibited the ability of the banks to sell Governments to the central bank.

It has !te*% r
I

t*.

' *fl* .. ^ercial paper at the National Bank
by wrirn Vhr 1 — Wi - " u 1 J

j

•-•i--' 1 credit and, as a result,

.area the rediscount policy of the Bank an effective method of credit
fr
control.

In recent months the National Bank has applied individual re-

discount ceilings and. thus further tightened its control over bank credit.


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Federal Reserve Bank of St. Louis

C•
The Netherlands

In sharp contrast with Belgium, the Netherlands relied on price
controls, rationing and subsidies to de&l with the inflationary pressures
arising from the high level of investment in the post-war period and placed
almost no reliance on traditional monetary and credit controls until late in
1950.

r

-L'he only measure of credit control used until that time was a

qualitative measure requiring that all bank credits exceeding f?0,000 guilders
required the approval of the central bank.

In

19^0, however, a cash

reserve requirement system -for the commercial banks was instituted for the
first time in Dutch history.

The Netherlands Bank raised its rediscount rate

from 2 1/2 to 3 percent, the first change since 191; 1.


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Italy

Italy, which experienced inflationary pressures during and after
1JU &£v*.
the "war that threatened to i et out of hand end resulted, in a price level
A
in mid-191; 7 60 times the prewar level and. twice that of mid-19li7>
drastic credit control measures in October 19li7 which rather promptly brought
the situation under control.

All banks were required to set aside an amount

equal to 20 percent of their deposits in excess of 10 times their capital or
an amount equal to 15 percent of their total deposits, whichever was smaller,
These amounts were either to be invested in government or government- guaranteed
securities for deposit at the Bank of Italy, or to be held in an interestbearing blocked account at the Bank of Italy or the Treasury. Furthermore,
hO percent of any increase in a bank's deposits after October 1 was to be
set aside in a similar fashion until the bank's total reserves reached 'd%
percent of its total deposits.
raised from h to 5 1/2 percent.

At the same time the rediscount rate was
These new reserve requirements meant that

hereafter the banks had to rediscount at the Bank of Italy in order to increase their lending operations.

So

They were v<ny reluctant to do th

a general shortage of funds was- felt during the months following the adoption
of the credit restrictions,


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*"?

Sweden

In Sweden,- the Government undertook to deal with the renewed inflationary pressures arising in early 1950 and intensified after Korea
by the adoption in October of a reserve requirement system that effectively
tied down assets that might otherwise have been used for further credit expansion:
(a) Cash and supplementary reserve assets (primarily Government
securities) are set for the five large Swedish banks at 10 percent of
total liabilities exclusive of savinrs deposits, and contingent liabilities.
(b) Forty percent of these reserves must be held in casju (till
money and sight deposits with the Riksbank) and 25 percent of this ItO percent
must be held on deposit with the-. Hiksbank,
The authorities hold the power to increase reserve requirements up to
25 percent of liabilities and to vary the proportion of these reserves to
be held in cash.

'


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n

'

' '

'

+

r^t-i^Lr — —"^ -4

Not one of the above-mentioned countries, the United Kingdom, France,
Belgium, the Netherlands, Italy, and Sweden, therefore, attempted to prevent
the monetization of the government securities holdings of their commercial
banks by having the respective central b?nk withdraw its support of the
A
government bond market over any extended period. In the United Kingdom
the long-term government rate declined from jj percent in 19U5 to 2 1/2
percent in 19^7 and has since been allowed to return to the "wartime 3% level,
in France the average yield on governments increased from _
to _

percent in 195l«

percent in 19ll5 and
the average rate -was _
1951*

The corresponding figures for Belgium are
percent in January 195l<>

percent in in 19^5 and _

In Italy the average rate moved from _

percent in January 1951*
19ii5 until _

percent in

In the Netherlands
percent in January

psrcent in 19^5 to

_

In Sweden the rate was pegged at 3 percent from

1950, and has since moved tc _

percent in January

1951.
In the second place, the varying degree of success of different
countries with essentially similar measures makes it clear that the particular
techniques adopted by any country must be related to the basic characteristics
of the financial institutions.
The United Kingdom, for example, was able to use qualitative bank
credit measures very effectively .because of the commercial b,nnks unhesitating
t** m*/*
acceptance of the advice of theJBank of England Tine re as the theoretically more
A

complete qualitative control measures in France and the Netherlands were no
ways near as effective.

The supplementary reserve requirements measures

introduced in France, Belgium, Italy end Sweden were quite effective, whereas


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in the Netherlands it was not until _

1950 that the authorities

were able to introduce a cash reserve system for the commercial banks for
the first time.

The United Kingdom -was able to deal with the reserve posi-

tion of the commercial banks directly by placing with them non-neogtiable
non-transferable treasury short-term notes, -whereas Belgium had to get at
the problem by establishing general supplementary reserve requirements at so
high a level that the commercial banks had to rediscount commercial paper
at the central bank to obtain ne~w reserves.

Conclusion

The Treasury Department believes that European experience, to the
extent that it is applicable to the substantially different circumstances in
the United States, lends strong support to the vie?; that it is more appropriate
to deal with the serious problem of the continuing "monetization" of the public
debt by direct increases in reserve requirements than by the indirect route of
open-market operations^ etc.


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HgBfflif Sm3 *IID mEUTIQH

1* Inflationary Faetora ia &eeeat Months
II* are all aware that there has been substantial Inflationary
pressure in the United States economy ainc* Korea. Most analysts
would agree that the major reason for tliis inflationary pressure haa
been the fear that ahortagea would Intensify prices. Under «uch eonditiona, consumers and businessmen have expedited their purchases,
they looked ahead to aee what they seeded in the future, and they
decided to hurry forward with their plans for expanding their businesses, buying houses, buying automobiles, and other durable goods,
the experience of the last war ia fresh in everyone's mind, ana consequently there has been a particularly strong desire to acquire good a
which were scare* during the last war*
This acceleration ia the rats of spending haa been financed in
considerable Measure by a redueed rate of saving on the part of the
public. In the first quarter of 1®£®, personal savings were estimated
by the Department of Commerce at an annual rate of 415 billion per
annum. By the third quarter of this year, savings had dropped to an
animal rate of $6 billion per annum, despite the fact that the total
money income of the community had become substantially greater aa the
result of higher ineomes, associated with the higher prices and the
larger volume of output. Personal expenditures on consumption increased
from aa annual rate of $182 billion ia tee first quarter of the year to
118$ billion ia the second quarter, and then rose to %1?8 billion in
the third quarter of the year (all figures seasonally adjusted), la
other words, about fit billion more was spent la the laird quarter than
la the first quarter, aad the Increase over the aeeond quarter of 1$5Q
was about the
At the aame time, there was a alight increase la private domestic
investment, the adjusted annual rate rose from §1*1.7 billion in the
first quarter of the year to $4i6.9 billion in the second quarter aad
to iitS.it billion la the third quarter, la tee third quarter of the year
there was a significant rise IA eatpenditurea oa producers* durable equip*
neat, offset by a sharp fall la business Inventories.
These figures tend to show where the emphasis ia the inflationary
picture waa during the third quarter of 195Q. It was oa personal consumption expenditures, altliough there was also some increase ia producers
durable equipment. In other words, the statistica bear out ths practical
experience of everyone who lived in toe United States during thia period.
That is, we had an inflationary situation bee&uee people tried sharply
to increase their expenditure oa normal consumption goods aad redueed
their savings.


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-2-

2* Bank Credit and Inflation
How did bank credit center into the inflationary picture?
tit hart ecea that aw comaanity as a whole was still saving at
the rat* of $6 billion per aaniai in the third quarter, though It was
not saving nearly so much as previously. For the cofsaemity aa a whole,
BO question of credit arises. It simply decided to save less and to
speed ware, the role of bank credit in the total picture has beea to
facilitate expenditures by *ce* consumers and by soae producers. If
credit had not been available, the rate of expenditure wight have beea
reduced, because sows people would not liave bees able to buy, not having
available cash savings*
Generally speaking, credit is * passive rather than aa active
factor ifi an inflationary situation. It is th* borrower, or would be
borrower, who makes the priaary judgaeat that he should increase his
rate of spending aad gives the iapetaa to the inflationary nove. Moreover, the effect of credit restrictions is largely insignificant la
trying to reduce the spending of people or corporations which posses*
ample reserves of savings. This is particularly significant because
of the very large voluite of liquid savings of the public amounting to
about 1200 billion. No control of credit can significantly affect the
of these aemwulated savings for current expenditures.
4s «s have indicated, gross private donestie investment was pro•eeding in the third Barter of this year at an annual rate of about
Ui8 billion, or about 116 billion per Quarter, seasonally adjusted.
Of this total about $5-1/2 billion was new construction and about a
little over |6 billion went into producers durable oquipsent. 4 substantial part of this latter amount stay have beea financed by the banks,
through extending leans, and the reminder either thro«^ other financial
institutions or through vho funds of the organisation or person Making
the baste investment, rhere is no question that the increase in the
rat* of expenditure in this field, as in the Held of consuaer durable
goods, tended to imsh prices up. There is also no question that the
noa~availabiUty of beak credit aight have interfered with sow expansion
prograsm in construction and la durable equipment* Ho one csa tell how
much the curtailment in this kind of an iavestnsat would have beea just
ss no oae can tell how much consumers* expenditures would have been reduced if no conaweer credit had beea available, iut it is reasonable
to ass*** that there would have beea a somewhat lesser volume of spending
by sons greducere sad by sens consumers, this would have had sons
moderating influence, though not to bo exaggerated, on the inflation
pressure.
Thus it is perhaps not appropriate to regard credit, and particularly bank loans, as an aggressive "engine of inflation,* Esther credit


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is mere like the standby unit of aa electrical generating plant. Mas*
there is a great demand for current, Hie standby plant is brought into
operation to meet that demand*
3* Th> Bearing of Interest Eates
It is the expansion of bask leading for commercial and industrial
purposes which has given rise to questioning of the present level of
interest rates* this supplement to normal sources of funds for investment is charged with a primary responsibility for inflationary problems*
the heart of the interest rate controversy then becomes a discussion of the contribution which could have been made to reducing
these investment expenditures by charglag a somewhat higher price for
loans from the banks* la other words, mew wany borrowers would have
given up their expenditure programs if the banks had charged them ens
percent more for the funds? A moment1 s reflection would lead one to
doubt that a substantial postponement would have in fact resulted* It
may be seen that the fearsomeness of the credit situation in its relation to the inflation problem begins to be more questionable.
fheagh the level of interest rates is, in a situation like the
present, a minimum factor in the inflationary system, it is still worth
careful consideration* Anything which we can do effectively to deal
with tat inflationary problem is worth attention, unless it carries
with It unsatisfactory aad undesirabl* consequences,
It is here that the intricacy of monetary theory becomes difficult
for the practical man to follow and tend© to enter a confused area*
the next link in this intricate theoretical chain Is that ban&s must
be made more short of funds, so that they will charge higher rates and
fern down mere borrowers* This, however, Is hard to do as long as banks
hold substantial amounts of short, medium and long-term government
securities which they can sell to the Federal fcasrvm System to replenish their reserves. So long as this is the case, they do not feel
the pinch as their loans and deposits expand, they merely sell some
long-term securities to the Federal Reserve, or allow some of their
short-term holdings of governments to mature without replacing them.
The theory goes on to suggest that perhaps, if we could la sane way
bring down the price of government securities, the banks would feel the
pinch of short cash unough to really tighten up oa their lending*
this is at best a rather weak hope, as can readily be seen* the
bank will readily raise Its interest charge to the public if the rate
of government securities is somewhat hitter, since the rate oa governments is a kind of a minimum which ess always be earned aad against
which other earning assets are Judged* t*t the amount of reserves
by the banking system to expand loans at the recent rate of 13 or
billion a quarter is net large* Under present reserve requirements,

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probably not wore than |1 billion a quarter would b* needed to add to
reserves* fids can be done very easily by allowing short-term goveranent paper to mature and receiving payment in cash. It is true that
* rise in the long-term rat* of interest would create an Inhibition
against selling existing holdings of these securities, because a capital
loss would have to be taken* Bet it is highly questionable whether the
banks would find it difficult to increase their cash reserves by the
mall aoount necessary to maintain an active leading policy under present
Moreover, in the hope of doing what coulc be done by the instrument
of credit controls to daups* the Inflationary pressures, controls have
been placed oa the type of credit most closely related to the inflationary
elements in tfae econo^, nai»ly, mo-chases of durable goods by consuner*.
credit has bean directly restricted. Since the power to restrict
r credit is now available, it «ay be prestueed that controls have
been extended as far as is considered desirable in this field « they have
aaAjttbtedly contributed to restricting to* expenditures of that section
of the population which does aot have ample savings of its own* Us have
also applied restrictions on real estate credit. Both type a of credit
controls haw been directed not so ameh toward increasing interest rates
as ia the direction of requiring higher down payment*. The s#ate procedure
has been followed in security loans, wher* the amount to be1 lent on margin
or collateral has been restricted* All of tines* "selective * controls ai*
to require a buyer of goods, securities or real estate to have more funds
of Ms own to pat into his venture. If anything their effect aay be to
lower rather than rats* interest rates, sine* they operate to r*duc* the
effective dewattd for loans from the hanking system.
iu

limited "ffecta f rota Rising Interest Hates

Sa jfmch then for the examination of the role of credit, and particularly bank credit other than coasuwer and real estate credit in the eres^nt
isflfttionary situation. Fnm tilt above review, it nomld appear tiiat the
role of bank credit has been limited significantly in the recent Inflationary period and that the relationship of a decrease 1m prices of
government securities to the general availability of credit ana the willingne*s of the banks to lend is vague, sombtful and
5. Objections to .dsing Interest
us meat tmrn to the other side of the picture. However Halted
a contribution to control of inflation night b* nade by raising ths
interest rates on go Vermont securities h»M by the banking system, w*
should examine it thoroughly to see if it can produce any useful result.
M* should evaluate the disadvantages as well as the advantages which
night be involved. What are these disadvantages? First, a higher level
of interest rat*s for government securities weans a heavier charge on the
public treasury and a larger badgst for the government, fhis is not a


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-$•light natter when 99m is entering & period which nay involve substantial
expansion In the public debt, before w* have passed though the current
emergency, le aust ask, are we really getting anything worth this additional expenditure? W9 think that it is vary doubtful, under prevailing
circumstances, that the process of raising interest rates fractionally
would reduce bank loan* by a* much a« the additional coat which would
b* added to the faderal budgat through the increase in interest rates.
If this is tha ease, tha ris® is ratea might vary well prove Inflationary
rather than the reverse, tinea public expenditure on interest char gas,
just as public expenditure oa military goods* toads to expand monetary
Thoro is anoth«r area of coacorn. Oao of the aajor objectives of
our antt-inflationary progran Is to iafluoaeo people not to si&sd but
to saw and invest their «on«y ia gorernment securities* In faet, as
an idoal, all of the savings of the public should be channeled into
loans to the government or loans fit* peroosos approved by the governjwent, as directly contributing to the defense program. If m allow the
price of fov*ras*»itt securities to @D down steadilyt w« aay hasten the
public search for alternative uses for savings which would previously
havo boon invested la government securities. Ko oae likes to pit money
into assets which are obviously depreciating la value. These alternative uses of funds are in most cases lilesly to bo Inflationary, they
tend, directly or indirectly, to add either to personal expenditures
or to provide funds available for private iavostneat* Thus, even if a
slight reduction in bank loans should result fro* rising interest rates
oa government securities, the beneficial affect of this reduction nay
be aore than offset by an increased anwilliagnoss of the general public
to invest ia government securities. 1% seeeio probable that aa unsettles*at of the long-tens goverament Market will have precisely this result.
If the peg ia long-term government bonds is abandoned, the uncertainty
ia Hie outlook for govarmsaat securities will bo brought hoa* to every
potential purchaser. Since other fixed interest securities tend to aov*
with goveraaents ho aust look for sane other type of investment* Most
proba&ly he aoves into the sarket for stocks, coaaoditios, real estate
or seaething of that kinu. fhis aoans that hs providoa aore funds which
utake it easier for private
At the same time things have b»*m made harder for the government.
In addition to paying more interest, it is having more difficulty selling its securities. Since it must raise the money, if it has difficulty
selling its securities It aust dispose of them directly to the banking
system. This, of course, Is directly contrary to the avowed objectives
of tightening the reserve position of the banks. It may be stated that
any action widen forces t&e government to finance itself to a greater
extent directly from the beaks tends to create additional bank reserves
and hence ease any pressure on the hanking system which may then be
existing.


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In a period in which the government is aot borrowing appreciably
on balance, minor interest rate adjustments in government issues may
have a alight do torrent effect on bank landing. But in the Tears to
com tho government will bo raising larger amounts of BOW money. If
thoro la an uncertain market for long*tore securities both among nonbank investors and banks, the government will bo forced to raise its
funds by placing ita securities with the Federal He serve System, ami
substantially increasing bank reserves, If this takes place, it will
naturally be necessary to deal with the problem of baak loading,
should it arise, in sow* other fashion* In fact, the extension of
allocatione and otter direct controls «ay limit the significance of
baak loans, as in the last war, and concern with the expansion of bank
loans may prove of passing interest.
In «\w, the Interest rate controversy is an argument over difficult technical problem* involving the management of public debt and
tho management of bank reserve** there is little reason, on the basis
of experience, to believe that any minor increase 1m interest rates
during the next few months will appreciably decrease the availability
of bank credit, which today ia itself la a minor and supplementary
factor rather than a major cause of inflationary pressure*
Nevertheless, it would be worth testing this intricate chain to
see whether the hair of the tail can wag the dog, or at least move the
dog slightly, if there were no offsetting disadvantages. There are,
however, two significant disadvantages* The first is a very simple,
direct and obvious one* the mousy to finance the experiment will be
a direct charge OB our budgets of considerable magnitude which is only
worth considering unless we really believe the experiment is worth it.
On owr pert, we do not believe it will contribute anything like the
cost*
seconc disadvantage is, we believe, not quantitatively neasurable, at least with any exactitude* It is the effects of rising Interest
rates, and particularly of an uncertainty as to future rates of interest,
on tme »arket for public securities* fhis tends to divert savings into
expenditures for the financing of private investment, rather them the
finaaeiaf of the public deficits In our defense expenditures. Secondly,
when the goverm&ni is borrowing actively and in large amounts, It tends
to fores the government to sell its securities to the Federal JMeserve
iystem, thus expanding bank reserves and cancelling or negating efforts
to tighten bank reserves.
In view of these two disadvantages, we do not believe the experiment should be carried say further. First, credit controls do not
affect expenditures carried out from the current income or savings of
individuals and corporations* Second, credit to finance consumers*


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'* •

- 7-

durable goods, security purchases, and housing has boon controlled
directly by reducing the availability of this credit rather than
Increasing tho price* Ibsse "selective* controls are effective,
direct and flexible and can bo expanded or contracted to permit
tho desired amounts of financing for conimer credit 4uad credit for
new botMlng* fhoro ro^aaiss to bo coatrolled by fluctuation in
interest ratea or othorviso> loaoa for b\i»ir««s, eooMarclal aad
agricultural enterprises. When no aak eurseliro* \&nt many atich
borrowers would bav* booa disposed to postoone their projects or
would have been refused by their banks, if interest rates wore one
percent higher, wo still further roduoe the signJLfleant area of eon*
tro*ersy. ffee "engine of iaflation* becomes inoeed a vary oaallt if
aot neglicLble, factor. In fact, If no pursiao o«r analogy further
and say tiiat tlw credit syste» Is a standby plaat to aa electrical
generating systex, a cti*nge In the interest rate Might bo regarded as
a rather small change Is the speed of the standby plant. Hov is
laf this sfieod going to help obtain the objeett** of diverting the u
of electricity froit ordinary commotion to special uses? that is
really nhat no Have to do wltli tho country's income—divirt as largo
a portion as necessary to the special needs of defense.


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This article is protected by copyright and has been removed.
Author:

Lionel D. Edie & Company

Article Title:

Political Developments: The Inflation Question

Journal Title:

Confidential Monthly Analysis

Date:

January 30, 1951

Pages:

1-3


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This article is protected by copyright and has been removed.
Author:

Lionel D. Edie & Company

Article Title:

General Business

Journal Title:

Confidential Monthly Analysis

Date:

March 21, 1951

Pages:

1-3


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FOR RELEASE AT 12 NOON MONDAY FEBRUARY 12, 1951

An Address given before the 55th Annual Meeting of Group Two of the
Pennsylvania Bankers Association
held at the Bellevue-Stratford Hotel, Philadelphia, Pennsylvania
By Aubrey G. Lanston, President of Aubrey G. Lanston & Co. Inc.
On February 12, 1951
THE TREASURY-FEDERAL RESERVE DISPUTE
I would like to talk to you this morning about the differing convictions of the Treasury and the Federal Reserve, because these involve questions
of policy that are of great importance to our economy and, therefore, to you
as bankers. Public opinion is being brought to bear on the impasse that exists,
and it is being marshalled through statements that oversimplify the points at
issue. It would be unfortunate, as we see it, if too many people accepted the
thought that, if the Federal Reserve were freed of its compulsion to buy
Treasury securities at fixed prices, the Federal could necessarily exercise a
deflationary influence. Nor should we accept the generality that preys upon
our love for tradition, namely, that the Federal Reserve was created as a supreme
court of finance and that it would be a sacrilege if it were interfered with
in any way.
Let me tell you at the outset where we stand on these matters. We
believe it is most desirable that the Federal become more free than it has "been in
the past decade to follow a restrictive credit policy at times when this is
needed. We agree with those who say that Treasury domination of Federal Reserve
credit policy is dangerous. We do not go along, however, with the sophomoric
contention that the Federal Reserve should be omnipotent or that it should be
free to assume an attitude that might be described as "the Treasury be damned".
There is much appeal in the thought advanced by Mr* Russell Leffingwell that
the Treasury and the Federal Reserve be equal partners. On such a plane each
can act to restrain the other or to goad the other as the case may be.
The question of domination or partnership is important largely as a
matter of who holds the final say. The real problem involves many technical
phases of debt and credit management and the need for a continuing understanding
of investor psychology. Perhaps the outstanding problem in the technical field
is whether 2 1/2$ Treasury bonds need be supported forever at par or better.
We have long been of the firm belief that par support should not be a permanent
practice. At the same time we are equally firm in our belief that we cannot
depart from such a practice overnight, particularly in an atmosphere of contention between the Federal Reserve and the Treasury. We also believe that if the
two partners in money and debt management are so far apart in their convictions
that agreement can be reached only by literally hitting one of the two of them
over the head, the public cannot be blamed if it loses confidence in both, and
in the dollar, and in Treasury securities.
We are inclined to place a great deal of weight on the importance of
the state of mind of the investor and on the degree in which this must be considered in the management of both debt and credit.


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- 2The open-market operation is the principal instrument with which the
Federal may affect the amount, availability, and cost of money. We know quite
well how readily the Federal can expand the amount and can increase the availability of credit by the purchase of securities in the market.
We believe that some misconception exists as to the ability of the
Federal to contract credit by the sale of Treasury securities. Success in this
regard depends upon the Treasury^ cash position. If the Treasury is operating
with a substantial cash surplus, the Federal can contract reserve credit by
selling securities in the market or by redeeming obligations as they mature,.
If the Treasury does not have a cash surplus, attempts by the Federal
to sell in the market cannot contract credit against the will of the market and
may only expand the amount of credit in use.
At the present time the Treasury faces a deficit, and the prospect of
the Treasury attaining a surplus seems remote. Therefore, in future open-market
operations the Federal will be unable to contract credit to any appreciable
extent by sales of Treasury securities on balance,
ppFlje.ps this is why we are confronted with the demand that the Federal
Reserve be restored to the independence conceived for it thirty-seven years ago.
Such independence would permit of an attempt to reduce the inflation problem
by denying credit to the market, with the obvious result that a sharp upward
trend in interest rates would follow. In the meanwhile the Federal Reserve
creates, on occasion, a situation where there is no market for Treasury securities.
This brings us to the second phase of open-market operation, namely, the
techniques employed by the Federal that would produce a trend toward higher
interest rates. One can be certain that if the Federal were free to precipitate,
directly or indirectly, a sharp upward trend in interest rates and if it were
determined to use this mechanism to the necessary extent, it could stop the
present inflation spiral. But once this had been accomplished, or during the
process, another series of chain reactions would be started, such that the
resultant inflation potential would cause our present problem to be dwarfed by
comparison.
The February National City Bank letter offered a comment that was of
great interest to us in this connection. It was directed primarily to the defense
effort, but it applies equally to those phases of credit and debt management that
have precipitated the Federal-Treasury dispute. The National City Bank noted
that during most of the time since Korea, people have been uncertain as to the
extent of the requirements of defense and what was expected of them. The Bank
went on to say that little authentic information had been available on the size
of the defense program, and it admitted that, although such uncertainties may
have been unavoidable, the lack of a firm basis for calculations left the way
open for uninformed opinions, speculation, and extreme statements both public
and private. The comment closed with the following quotation, "Undoubtedly there
has been 'inflation by publicity1, which has fostered a contagious state of
alarm and scare buying".
We believe that the drawn-out public discussion over the clash between
a fixed interest rate and credit control, a discussion in which Federal Reserve
officials have taken a long lead, has contributed importantly to the expansion
of bank credit.

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- 3How much weight should be given by the Federal to the impact of its
credit policies on holders of Treasury securities such as businesses and
individuals? For an idea we might turn to an estimate of the so-called inflationary gap that was recently made try a noted Federal Reserve economist. He
said that the gap during the next year could be as much as $20 billion and will
stem from a contraction of $10 billion in the goods available for civilian purchase and an increase of a like amount in consumer and business income. He
cautions that the estimate is premised on (1) no further price or wage increases,
(2) no substantial credit expansion, (3) no further tax increases, and (4) a
consideration of particular potency to our discussion — namely, no large use
of available liquid assets. He then points out that individuals and businesses
hold $176 billion of bank deposits and currency and $90 billion of Treasury
securities, a large part of which are redeemable on demand or have short maturities. The total is $266 billion. The ouestion, therefore, is whether attempts
by the Federal to reduce the size of the inflation gap will suggest that some
portion of the $90 billion of these Treasury securities be sold or whether such
investors thereby will be encouraged to increase their holdings.
The Federal Reserve, as a special guardian of the purchasing power of
the dollar, also must keep in mind that some $100 billion of Treasury securities
rest in the portfolios of commercial banks, savings banks, insurance companies,
and the like, and that such investors hold additional billions of other marketable securities, the value of which would be affected, along with their
Treasury securities, should a sharply increasing trend in interest rates occur.
Managers of these portfolios, such as yourselves, are concerned with
the decreasing purchasing power of the dollar, but you also take into consideration in the management of your portfolio the dollar prices that your security
investments command in the market. Many of the decisions that you make with
respect to the purchase, sale, or retention of these securities are based upon
changes in market values. Collectively these decisions of yours, influenced
as they must be try the Federal Reserve's policies, will bear importantly on
whether individuals and businesses prefer to acquire additional securities or
are inspired to bring their liquid assets into play in a manner that will
heighten our inflation.
Thus, the Federal is quite correct in saying that it must protect the
purchasing power of the dollar, but the Treasury is also on sound ground when
it says that investor confidence in Treasury securities should not be impaired
by unexpected sharp fluctuations in the dollar prices of its securities. These
two statements are the crux of the dispute.
Now let us digress for a moment in order to examine the weight that
should be given to the Board1s contention that it has a responsibility for credit
that it is not able to discharge. There is nothing new about this. The Federal
Reserve was charged just as fully in this connection nine years ago as it is
today. Yet nine years ago, as a consequence of the war emergency, the Federal
agreed to underwrite a pattern of rates for Treasury wartime financing. The
Federal had no option, because the Treasury faced an unprecedented deficit, the
money had to be raised, and there was nothing else to do.
Since the Treasury again faces a deficit, is there any better way to
resolve matters than to bring about an agreement between the Treasury and the
Federal in the technical area of interest rates and support techniques?


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-4 *
Nine years ago when the Federal accepted the responsibility of protecting the prices of Treasury securities, the Secretary of the Treasury would
have accepted a support price that was fractionally below par. When I say this
1 am not making an assumption. The choice of par, as a precise figure, was ma.de
by the Federal, and with the passage of time most Treasury security investors
have come to believe that whenever "the cards were down", neither the Treasury
nor the Federal would elect to drop the support price of the 2 1/2$ bonds below
that figure.
Indeed, you will recall that by the time we had to face up to the
inflationary problems of 1947 and 1948 a leading official, of the Federal proclaimed that failure to support Treasury £ 1/2% bonds at par would lead to a
catastrophic condition. We repeat that we firmly believe that we need to get
away from par support, and we believe that a program should have been and could
have been worked out long before this, A period of national emergency and of
bitter dispute betwt^en the Treasury and the Federal, however, is not a propitious
moment to engage in drastic changes or to withdraw support.
Furthermore, if the reasons for supporting outstanding Treasury bonds
were compelling in 194-3, how do wo justify ignoring similar reasons today?
The Federal has lived with its conscience for nine years. Why must
it suddenly choose a war emergency and a period when the Treasury faces a deficit
of unknown size to suggest that it be free to act independently?
Indeed the differences between the type of inflation that we face today
and that with which we were confronted in 1947 and 1948 should leave the Federal
Reserve with less rather than more reason to have precipitated these questions.
During 1947 and 1948 the inflationary problem arose primarily from activity in
the private economy, at a time when the Treasury had a substantial cash surplus.
The present inflation has been enlarged by the prospect of controls, of shortages,
and of an undefined but large defense program.
Some portion of the plant and equipment expansion necessary to the
defense program is yet to be met. The money needed from outside sources must
come largely from either the insurance companies or the commercial banks. At
the present time great emphasis is being placed on the expansion of bank credit.
Few seem to realize that under existing conditions loans granted by banks are
less inflationary than the extension of an equal amount of credit by insurance
companies.
Now, the Treasury security and other bond markets have remained relatively calm throughout this drawn-out Federal Reserve-Treasury dispute and its
accompanying publicity. This calm is the result of a general confidence that
the Treasury long-term rate of 2 1/2% will stand, and so will par support for
outstanding long-term bonds. In other words the rank and file of investors do
not believe that the Federal will be or will feel free, in the final analysis, to
unstabilize the Treasury security market by decreasing the support prices or ty
withdrawing support.
My first question, therefore, is as follows: If against the contentious
background of recent months, the Federal reduced its support price for Victory
2 l/2s to 100 and, at the same time, became a more-than-usually reluctant buyer
of short-term Treasury securities, would investors continue to be calm or would
their confidence be somewhat shaken?

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.. 5 —

Second, would, a drop in the support price of 2 1/2% bonds to 100 or an
increasing denial of a market to some holders of Treasury securities produce
an increased volume of precautionary sales?
Third, if the Federal Reserve were to drop the support price to 99 1/2
or 99, how confident would institutional investors be that such support prices
would hold?
If the Federal breaks par in support of Treasury bonds, will this be
deemed, by investors, to be evidence that it has adopted a program of retreat
to successively lower prices depending upon the volume of bonds offered to it?
If, to make its credit less readily available, the Federal decided to
let the market decline to whatever point was necessary to dry up selling, how
far would prices have to decline? Does anyone know? Can we afford to act on
optimistic guesses?
Now let's go to the other side of these things. Let us assume that,
to reduce the availability of credit, the Federal Reserve drops its support
prices sufficiently low that it ultimately dries up any substantial selling.
How many institutional investors would become buyers of Treasury securities?
We are asked to believe that more Treasury securities can be placed if
the interest rate offered on them is made more "attractive". When bond prices
decline interest rates become more attractive, but I have never seen a bond
market that was undergoing a major decline that could be characterized as a
confident one. If the bond market is caused to decline sharply while institutional investors are net sellers on balance, where are the additional buyers
of these bonds going to come from?
We believe that the important consideration is not whether interest
rates become more "attractive" or whether a higher level of rates is brought
&bout. It is the trend of rates that is important. As bankers, you may agree
that there is a tendency to feel more "laaned-up" when the outlook is for higher
rates of interest than is the case if the outlook is for lower ones. The same
thing is true with respect to bond buyers. A given rate is unattractive if the
trend of the market is down, bub the same rate can appear attractive if the
price trend is stable or rising.
Please do not misunderstand. We are not an advocate of low interest
rates. We would have much preferred a Treasury decision calling for a long-term
2 3/4$ bond or a long-term 2 1/2% bond at a discount to yield 2.70£ or 2.75$.
Both of these would have been possible without disturbing the stability of
outstanding bonds if the Treasury and the Federal had evidenced an ability to
resolve their differences.
We have been told that market conditions have clearly shown that the
Treasury has insisted upon interest rates that are "too low". In justification,
our attention is called to the natural forces of supply and demand as they
appear in the market and to the amount of Treasury securities that the Federal
has been forced to acquire. The market for Treasury securities during the past
year has been made almost entirely by the Federal Reserve, and the market has
looked, most of the time, the way the Federal open-market operations caused it
to look.


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-6 Let me illustrate this by comparing two financings a year apart.
First, we will go back to November 1949. When the Treasury and the Federal
Reserve were discussing the terms to be set on the approaching refunding of
that period, the market "looked" as though a 1 1/8$ rate were no longer suitable.
The Treasury, nevertheless, decided to continue with a 1 1/8$ one-year rate.
It also offered a 1 3/8$ note with a 4 1/4 year term. This note quickly reached
a premium of 11/32 above 100. Why? Because investors took the financing decision
of the Treasury as an indication that the Federal had lost the fight to advance
the pattern toward higher yields. Both offerings were an outstanding success.
During the months following the Federal showed, by its handling of
the open market, that it had not given up the fight. Even when the Treasury,
in the spring of last year, acceded to somewhat higher interest rates for
shorter-term securities, the Federal appeared to be dissatisfied. At least,
that is the impression gained by close observers, an impression that was more
than fully justified by the open break that occurred in August of last year.
Let us now consider the latest refunding in which the offering^ consisted of a single issue of five-year 1 3/4$ notes. The terms set by the
Secretary of the Treasury wore those recommended ty the Federal Reserve, ones
that were later characterized by the Federal as appropriate and attractive.
Most market observers, and we believe the Treasury as well, were skeptical of
the appropriateness and the attractiveness of a five-year obligation for corporations, who were large holders of the maturing securities. But there are grounds
for believing that the Federal assured the Treasury that this refunding would
be a success.
What is the record? Only about 52$ of the public holdings of the
maturing securities were exchanged for the new issue and held throughout the
exchange period. The remaining 48$ of the public holdings were sold to the
Federal or redeemed for cash. This hardly could be construed as a successful
exchange from the point of view of the sound objectives of 0ebt management.
About 15$ of the public holdings were redeemed for cash. This compares with a 21$ cash redemption last September and October and with the more
normal cash redemptions of 5$ or less. The drain on the Treasury's balance
resulting from these two refundings was $3 1/2 billion.
The differences between the successful refunding of November 1949 and
the unsuccessful exchange offering made in November 1950 are twofold. In
the first place, it is a testimony to the deterioration in investor confidence
that has been brought about by the public wrangling over differences. Second,
it suggests that the Treasury is a better judge of the type of securities that
investors will buy than is the Federal.
This brings to mind something that has occurred to us with increasing
frequency over recent months. We have wondered whether the Governors of the
Board and the other members of the Open Market Committee could possibly be t^o far
removed from an intimate contact with the Treasury security market, that is,
from the changing states of mind, the preferences, and the reactions of those
whose activities create the supply and demand with which the Federal open-market
operation must contend. These are details of great importance when it becomes
necessary to refine the terms of Treasury offerings. We also have wondered
whether an adequate exchange of technical information takes place between the
Treasury and the Federal. We have wondered about these things, because if such

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«r f T
situations were to exist they would explain why 0o»e of the laisundersfcauadingfr
arise.
But let us get back to more tangible things. The apparent calmness
of institutional investors will be put to a full test when the ^reasury begins
to refund almost $40 billion of maturing or callable securities. The bulk of
these refundings covers a span hardly longer than four months and begins this
June.
Were the Treasury to experience the same percentage of cash redemptions that it suffered in the last refunding, it would have to pay out about
$6 billion. No wonder the Secretary of the Treasury believes a stable and
confident Treasury security market is a prerequisite to financial mobilization.
If, therefore, the Federal Reserve were to endeavor to make credit
unavailable tjy reducing support or by withdrawing it, what would be the attitude of holders of the maturing and callable Treasury securities?
Many have substantial forward commitments in mortgages and the like.
A larger number would be offered good loans at rates substantially higher than
those now prevailing. Some of these loans will be necessary to the defense
program.
Would investors accept the refunding offerings to be made by the
Treasury?
Or would they deem it prudent to redeem their securities in order to
meet their commitments or to make loans?
If, in the final analysis, the Treasury met with no greater success
in these financings than in those just past, would potential buyers of longterm Treasury bonds gain or lose in confidence?
And, wholly aside from the Treasury*s cash position, if it must meet
large-scale cash redemptions, from whom will it obtain the funds? From the
Federal Reserve Banks? Or from the commercial banks?
In either event it would appear that banks as a whole might be
forced to cope with some more or less unworkable plan such as a secondary
reserve requirement, a ceiling reserve plan, higher cash reserves, or they may
be told to accept Treasury certificates of deposit bearing interest at some
rate such as I/tifo, Yet none of these devices will insure an improvement in the
credit condition over what it can be if debt management is permitted to work
in our favor instead of against us.
This is not a question of interest costs. Surely many would prefer
higher rates, but the determining element in the equation is the maintenance
of investor confidence. This requires a stable and confident Treasury security
market and confidence among Treasury-security investors that they will not be
subjected to some abrupt manipulation of the market, by either the Federal
Reserve or the Treasury.
It seems to us important that the attitude of the institutional
investor toward the market for Treasury securities may determine the co^idence
that business corporations and individuals have in these same securities.

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To parlay the reduction in the value of the dollar by decreasing the dollar
price of Treasury securities abruptly may be the worst way to deal with
inflation.
In summation we suggest that the differences between the Federal
and the Treasury involve questions of policy that are most important to the
economy and to you. It is dangerous to accept over-simplifications, either
of principle or of the technical aspects of the points at issue. Federal
Reserve open-market operations designed to reduce the availability of credit
cannot do so on a quantitative basis except as the Treasury is armed with a
substantial cash surplus. The Treasury will soon be operating at a deficit.
A substantial cash surplus is hardly a possibility. To reduce the support
rendered to Treasury securities, against the present contentious background,
or without warning, would be most dangerous. The withdrawal of support
would be intolerable. Yet, we need to plan for its ultimate elimination.
Of greater importance than an increase in interest rates, is the trend of
rates. But, this is no time to attempt to control credit by starting a trend
to higher rates. To do so would multiply not reduce the inflation potential.
Neither the Federal nor the Treasury should be omnipotent or dominant. Each
should consider itself to be an equal partner charged with responsibilities
of equal weight.


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TREASURY DEPARTMENT
WASHINGTON, D.C

Information Service

IMMEDIATE R LEASE,
pril 9, 19
Secretary of the Treasury Snyder announced today
that he was gratified by the response to the
Treasury's offering of 2-3A percent Treasury Bonds
[nvestment Series B-1975-80, which were available
during the past two weeks in exchange for outstanding 2-1/2 percent Treasury Bonds of June 15 and
December 15, 196?-72. The exchange offering closed
at midnight last Friday, April 6,1951.
The Secretary said that subscriptions thus far
received and tabulated, which will be augmented
somewhat by mail subscriptions not yet tabulated
exceed $13,^50,000,000. This figure includes about
>5, 583,000,000 for Federal Reserve and Treasury
Investment Accounts.
Announcement of the total amount of subscriptions
received and their division among the several Federal
Reserve Districts will be made later in the week


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oOo

Information Service

WASHINGTON, D.C.

IMMEDIATE RELEASE,

2H253Sl2^25i2L2A—125ii

s-2648

Secretary of the Treasury Snyder announced
today that the subscription books for the current
offering of 2-3/4 percent Treasury Bonds, Investment
Series B-1975-80, in exchange for the 2-1/2 percent
Treasury Bonds of June 15 and December 1R, 10,67-72
will close at midnight Friday, April 6, 3.951.
Subscriptions addressed to a Federal Reserve
Bank or Branch or to the Treasury Department, and
placed in the mail before midnight of April 6 will
be considered as having been entered before the
close of the subscription books.
Announcement of the total amount of subscriptions
and their division among the several Federal Reserve
Districts will be made later. The Secretary said
that subscriptions received and tabulated by Federal
Reserve Banks as of Monday, April 2, (including about
$5,365,000,000 for Federal Reserve and Treasury
investment account) exceed $11,000,000,000. This
figure of course does not include subscriptions in
the mails.


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oOo

TREASURY DEPARTMENT
Information Service

WASHINGTON, D.C

RELEASE, MORNING NEWSPAPERS,
Monday, March 19, 19£U

S-2631

Secretary of the Treasury bnydor today released the official circular
governing the offering of 2-3/U yercent Treasury Bonds, Investment Series
B-1975-8G. Holders of 2-1/2 percent Treasury Bonds of June 13' and December 15', 1967-72 nay, at their option, exchange their bonds of either or both
series for the now 2-3/U percent Treasury bonds, in authorised denominations.
The anount of the offering will bo United to the amount of Treasury Bonds
of 1967-72 of either or both of the specified series tendered and accepted.
As announced by the Secretary on March U, 1: jl, the subscription books
will open on Monday, March 26, Tor a period of al^ut tv.-o v;ool:s, although
the Secretary reserves th. ri^ht to close the boolts at any tii.v^ vrithout
notice.
The Secretary also today released the offering circular governing the
1-1/2 percent five-year marketa^ le Treasury notes vtoich will be available
for exchange to owners of the ne ,T 2-3/U percent Treasury bonds, at their
option, during the life of the bonds. The first issue of the now notes will
be dated April 1, 1951, and will be available as soon as the 2-3/U percent
bonds arc issued.
Pursuant to the provisions of the Public Debt Act of 19Ul, as anended,
interest upon the bonds and notes now offered shall not have any exemption,
as such, under the Internal Revenue Code, or laws amendatory or supplementary
thereto. The full provisions relating to taxability are set forth in the
official circulars released today.
Subscriptions for the bonds vail be received at the Federal Reserve Banks
and Branches, and at the Treasury Department, Washington, and should be
accompanied by a like face amount of the 2-1/2 percent bonds to be exchanged.
Subject to th^ usual reservations, all subscriptions vail be allotted in
full.
The texts of the official circulars follow?


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UNITED STATES OF AMERICA
2-3/h PERCENT TEEASTJRY BC'JDS, INVESTMENT SERIES B-1975-30

K ontransf e rable
Dated and bearing interest from April 1,

Due April 1, 1980

REDEEMABLE AT THE OPTION OF THE- UNITED STATES AT PAR AND ACCRUED
INTEREST ON AND AFTER APRIL 1, 1975

Interest payr'ole April 1 and October 1

1951
Department Circular No. 883
Fiscal Service
Bureau of the Public Debt

TREASURY DEPART*.iENT,
Office of the Secretary,
Washington, March 26, 1951 <

I. EXCHANGE OFFERING OF 30NDS
1. The Secretary of the Treasury, pursuant to the authority of the
Second Liberty Bond Act, as amended, invites subscriptions, at par, from,
the people of the United States for bonds of the United States, designated
2-3/1; percent Treasury Bonds, ] ivestwr-it 5srj.es B-1975-30, in exchange for
2-1/2 percent Treasury Bonds of 1967-72, dated June 1, 194J>j due June 15,
1972, or 2-1/2 percent Treasury Bonds of 1967-72, dated November 15, I?ii5j
due December 15, 1972, in ag^rega'e amounts of '.''1,000, or multiples thereof,
The amount of the offering Tinder this circular vd.Il be limited to the
amount of Treasury Bonds of 1967-72 of either or both of the specified
series tendered and accepted.
2. Commercial banks will be permitted to exchange the 2-1/2 percent
Treasury Bonds of December 15, 1967-72, acquired by them on original issue
and bonds of either series held in trading accounts pursuant to Treasury
Department Circular No. 787, dated May 17, 19U6.
IE. DESCRIPTION AND TEI&.S OF BONDS
1. The bonds -will be date I April 1, 1951, and will bear interest from
that date at the rate of 2-3/14 percent per annum, payable semiannually by
check on October 1, 1951* and thereafter on April 1 and October 1 in each
year until the principal amount becomes payable. They will mature April 1,
1930, and will not be redeemable prior thereto except as follows:
(a) They may be redeemed at the option of the United States on
and after April 1, 1975> in -..Hole or in part, at par and accrued
interest, on any interest day or days, on L months' notice of redemption given in such manner as the Secretary of the Treasury
shall prescribe. In case of partial redemption the bonds to be
redeemed will be determined by such method as may be prescribed
by the Secretary of the Treasury. F'rom the date of redemption
designated in any such no4 ".ce, interest on the bonds called for
redemption sh:ill cease.

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- 2(b) They may be redeemed at the option of the duly constituted
representatives of a deceased owner's estate, at par and accrued
interest to the date of payment^/ if at the time of death they
constitute part of the decedent's estate and the Secretary of the
Treasury is authorized by the representatives to apply the entire
proceeds of redemption to the payr.ient of Federal estate taxes.
Bonds submitted for redemption hc-roar/ier .-imst be duly assigned to
"The Secretary of the Treasury for red.or.rot: on, the proceeds to be
paid to the Collector of Internal ?tevcn;;o at _
for credit
on Federal estate taxes due frui estate of ~
".
The bonds must be accompanied by Fw:.;r: PD 11 Q2'/ properly completed,
signed and sworn to, and by a certificate ,'f tho appointment of
the personal representatives, ur.Jer seal of the court, dated not
more than six months prior to the- submission of the bonds, which
shall show that at the date thereof the appointment was still in
force and effect. Upon payment of the bonds appropriate memorandum receipt Trill be forwarded to the representatives, which
will be followed in due course by formal receipt from the
Collector of Internal Revenue.
2 . Although the bonds are payable only' at maturity except as provided
in the preceding paragraph, they may, at the owner's option, as provided
in Department Circular No. 38ii, oe exchanged for 1-1/2 Percent five-year
marketable Treasury Notes to be dated April 1 and October 1 of each year
during the life of the boi;d. IS the bonds surrendered are in order for
exchange, the new notes will ordinarily be issued within ten calendar days
from the date of surrender to the Treasury Department or to a Federal Reserve Bank or Branch. The notes to be issued will bear the April 1 or
October 1 date next preceding the date of the exchange. Interest will be
afij acted to the date on which tho exchange is made, i artial exchange of
the bonds in multiples of ^1,000, and reissue of the remainder, will be
permitted.
3. The bonds will not bo acceptable to secure deposits of public
-moneys, but thoy rruy bo used as c ./-.lateral for loans and may be pledged
as security fcr the performance cf an obli ~atio:< or "or any other purpose.
In the event of a default on tho loan or in the performance of the obligation, the pledgee will have the right only to exchange the bonds for
1-1/2 percent five-year marketable Treasury notes. The bonds may not be
sold or discounted, and are not transferable in ordinary course, but they
"may be transferred (by way of reissue) (1) to successors in title,
...(2.) (in- the event of the death cf the owner) to legatees, next of kin,

I/ An exact half-year's interest is computed for each full half-year period
irrespective of the. actual number of clays in the half year. For a fractional
part of any half year,.computation is on the basis of the actual number of
days in such half year.
2/ Copies, of Form FD 1?32 may be obtained from any Federal Reserve Bank
"or from the Treasury Department, Washington, D. C.


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- 3and other persons entitled, in accordance with the provisions of Department Circular No, 300, and (3) to State supervisory authorities in pursuance of any pledge required under State law. A bond which has been
registered in the title of a State supervisory authority nay be reissued
in the name of the original owner upon assignment by such authority for
that purpose. The tern "successors" as used in this paragraph includes
but is not linited to succeeding organizations, succeeding trustees, and
persons entitled upon the termination of a trust or the dissolution of a
fund or organization. Judgnent creditors, trustees in bankruptcy, and
receivers of insolvents' estates will be entitled only to exchange the
bonds for 1-1/2 percent five-year marketable Treasury notes, r arsons
entitled to reissue under the provisions of this paragraph will succeed
to all the rights and privileges of the registered owners.
h. The income derived from the bonds shall be subject to all taxes
now or hereafter imposed under the Internal Revenue Code, or lavs amendatory or supplementary thereto. The bonds shall be subject to estate,
inheritance, gift or other excise taxos, whether Federal or State, but
shall be exempt from all taxation near; or hereafter imposed on the principal or interest thereof by r.ny Stata, or any of the possessions of the
United States, or by any local tracing authority,
£. The bonds vti.ll be issued 0*&y in registered forn, and in denominations of $1,000, $£,000, $1O,000, |3tOO,000, $1,000,000 and $10,000,003,
6. Except as otherwise specifically provided in this circular,
Treasury Bonds of Investment Series B-1975>-80 issued he-rounder vrill be
subject to the general regulations of the Treasury Department, now or
hereafter nrescribed, governing United States bonds. The regulations in
Department Circular No. 8l£, (which govern 2-1/2 percent Treasury Bonds
of Investment Series A-1965), will not govern Treasury Bonds of Investment
Series B-197b-80. All questions concerning bonds issued hereuncler and
transactions pertaining thereto should be submitted to a Federal Reserve
Bank or Branch or to the Treasury Department, Division of Loans and
Currency, Washington 2$, D, C.
III.

SUBSCRIPTION AND ALLOTMENT

1. Subscriptions will be received at the Federal Reserve Banks and
Branches and at the Treasury Department, Washington. Banking institutions
generally may submit subscriptions for account of customers, but only the
Federal Reserve Banks and the Treasury Department aro authorized to act
as official agencies.
2. The Secretary of the Treasury rosvrvc-s the right to reject any
subscription, in whole or in part, to allot less than the amount of bonds
applied for, and to close the books as to any or all subscriptions at any
time without notice j and any action he may take in these respocts shall be
final. Subject to these reservations, all subscriptions will bo allotted
in full. Allotment notices will be sent out promptly upon allotment.

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-uIV.

PAYMENT

1. payment for bonds allotted hereunder must be made on or before
Aprjl 1, 1951 > or on liter allotment, and nay be made only in Treasury
Bonds of l?67-72, due June 15, 1972, or Treasury Bonds of 1967-72, due
December 15, 1972, which vri.ll be accepted at par and should accompany the
subscription. Coupons dated June 15, 19^1, and all subsequent coupons,
must be attached to bearer bonds of cither scries v,rhen surrendered. If any
sucii coupons are m .ssing, the subscription must be accompanied by cash payment equal to the face amount of the n ssing coupons. Accrued interest
froin December 15, 1950, to April 1, 1951 (&7.3U39 per '£1,000) \dll be paid
to subscribers tendering coupon bonds follovring acceptance of the bonds.
In the caso of registered bonds of cither series tendered in payment,
checks in payment of accrued interest fron December 15, 1953, to April 1,
1951, Tri.ll be drawn in accordance vdth the ,-issignnc.nts on the bonds
surrendered.
V. A3SI1*:'-TT OF REGISTERED BO!C!S
1, Treasury Bonds of 1967-72, due June 15, 1972, or Treasury Bonds
of 1967-72, due December 15, 1972, in registered fon:i tendered in oa-nent
for bcnas offer.d here under should be assigned by the r^gister-^d payees
or assignees thereof in accordance \srith the general regulations of the
Treasury Departaent governing assi^nr.icrits for transfer or exchange, in one
of the fors:.s hereafter set forth, and thereafter she-old be presented and
surrendered with the subscription to a Federal Reserve Bank or Branch or
to the Treasury Department, Division of Loans and Currency, Washington,
D. C, If the new bonds are desired registered in the sar.ie name as the
bonds surrendered, the assignment should be to "The Secretary of the
Treasury for exchange for 2-3/li percent Treasury Bonds, Investment Series
B-1975-80", If the new bonds are desired registered in another nar.e, the
assignment should be to "The Secretary of the Treasury for exchange for
2-3/4 porcont Treasury Bonds, Investraent Series B-1975-30, in th3 narae
of
'
».
VI.

GEN3RAL PROVISIONS

1, As fiscal agents of the United States, Federal Reserve Banks are
authorized and requested to receive subscriptions, to Liakti allotments on
the basis and up to the amounts indicated by the o^crotarj" of the Treasury
to the Federal Reserve Banks cf the respective Districts, to issue allotno nt notices, to receive payment for bords allotted, to make delivery of
bonds on full-paid subscriptions allotted, and they nay issue inte-riia
receipts ponding delivery of the definitive bonds.
2 t The Secretary of the Treasury iviay at any tL.ie, or fron ti: e to
tiinc, or escribe supplwi.iental or a-^ndatv>iy rules and regulations governing the offering, which will be corni.iunicatad promptly to the Federal
Reserve Banks.


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E. H. FOLSY
Acting Secretary of the Treasury.

UNITED STATES C? AMERICA
1-1/2 PERCENT FIVE-mR TREASURY NOTES
Dated and "bearing interest from
April 1 and October 1 of each year

Due five years fron issue date

Interest payable April 1 and October 1

ISSTJ3D ONLY IK EXCHANGE FOR 2-3/1$ TREASURY 30?©S, IMSSITENT SERIES B-19?5~30

TT:.E,,SUI!Y DEPARTMENT,
Office of the. Secretary,
Washington, March 26,

1951
Deartment Circular No.
Fiscal Service
Bureau of the Public Debt
I.
1. Treasury
liberty Bond Act,
only to owners of
and other persons
partment Circular

CFflSRING OF NOTES

notes described herein arc issued pursuant to the Second
as amended, and a:ne offered by the Secretary of the Treasury
2-3/U percent Treasury Bends, Investment Series B-l??5>~30,
entitled thereto, in accordance v/ith the provisions of DeNo, 383, dated March 26, 19>U

2. The first issue of these notes mil be dated April 1, 1951. The last
issue vd.il bo dated October 1, 1979, or the April 1 or October 1 next preceding
the date on which the 2-3/U percent Treasury Bonds, Investment Sories B~19?£-60
cease to bear interest if called for redemption prior to r.iaturity.
II.

DESCRIPTION OF NOTES

1. The notes TO. 11 be issued each six months during trie life of the
2-3/lt percent Treasury Bonds, Inv^stncnt Series B-1975-80, in two series, to be
dated April 1 rind October 1 in each year. The nctes tu be dvbed. April 1 will
bear the series designcVtion 3A followed by the year of .aaturlty r;nd the notes
to be dated October 1 will bear the series designation £0 fallowed by the year
of mat \irity. The notes v/ill bear interest fro^i tb^i.r roopoctivc issuo dates
at tho rnte of 1-.1./2 porccint .>or anmi.:, ^ayalUe- s.;::'.ia in.'.ajly on April 1 and
October 1 in each y^ar until the prlricip.r:.! amount bucor.es payable. They vill
nature five years i'roi,, their respective issue dates, an- 1 will not be subject
to call for redemption prior to r.iaturity.
2. The income derived fro;, the notes shall be subject to all taxes, now
or hereafter iiupos-jd under the J.ntora-al Revenue Code, or laws amendatory or
supplenentary thereto. The notes shall be subject to estate, inheritance,
gift or other excise taxes, vrhether Federal or State, but shall be exempt
frca-i all taxation now or hereafter inposod on the principal or interest


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Federal Reserve Bank of St. Louis

*+ -

. 2-

thereof by any State, or any of the possessions of the United States, cr by
any local taxing authority,
3. The notes will be acceptable to secure deposits of public r-oneys.
They will net bo acceptable in payment of traces.
U. Bearer notes rath interest coupons attached vail be iscued in denanin-tions of £L,000, $£,000, $10,000, £LO3,OQQ and Jl,000,000. The notes vri.ll
not IJB issued in re>:isvered for/i.
5. The notes vrill be subject to the general regulations of the Treasury
Dopartaont^ now or hereafter rroLerxbec, governing United States :a:tes.
77 T

J*..?, -i. 9

T^C-TV.? rs\? ^rn^s
... Iv/W

-f -W-*

WV

•£* '

X

*»JW

1. The n.rbes offoroci herearder ,^11 bo ismitd in exch?.n^o for 2-3 A
percent Treasury Bonds, I/rv eminent Sorivs B-I97:—6"0, foir:..ov;lrtg -/r-Jsoatation
and surrender of tli& bc-nd^ duly ..cssifrivd f^r citchangQ. Zhe nov: notes will
ordinarily be issued m t h ' n ten calorvlar aays ir:r., the date of surrender of the
bonds to a Federal Reserve Bank or Branch or to the Treasury Department. Tlie
notes wi.ll bear the April 1 JT October 1 dale next preceding the date of the
exchange and interest vn 11 bu adjusted to the date on which tho n.'tes are issued
by the Federal Reserve Bink or Branch c..r the Treasury Departner. laterost
accrtred at 2-3/U percent on the bonds sarrencered frou the rBxt pr' s codi;ifj
April 1 or October 1 to the date of exchange -will be <«foditcd ani interest at
1-1/2 percent for t?ie 3a^ne period T?ill ba chared to the e7/ntr r^akinf^ the exchange and the difference will be paid to the o^mr at the ti.it- the exchange
is aaie.
IV.

A3SIGFISNT OF BOIS)S

1. Treasury Bonds, Invt-sttuent Series. 3-l?7>-80, tendered in exchange
for notes offered hereund^r should be nss;!gntd to "The Secretary "f the
Treasury f c r exchange for the current series or EA or EG Treasury rooos to
be delivered to
», in accordai'ice vdth the ;;--joera3. reflations of tlje Treasury Depaili cut governing assignr-;.ents f o r exchange-, and
thereafter siiould 'ix-.; prescribed and surrendered v/ith appropriate instructions
to a Federal Reserve Bank or Branch :,r to the Tre tsary Dopart-in^rrt, Division
•jf Loans and Cirrrency, Washaur^on 25 3 D. C. Ta,- bonds rjust bo dolivcrcd at
the expense ard risk of the ovmors.
1. Ao fiscal aoonts of the United State s, Fodeoal Roservo ?.?.nks are
authorized and. requested to accept applications fcr tha exchange of Trc.isury
Bonds, Investment Series JVl/75-30, for 1-1/2 percent five-year Treasury notes,
and follovdn,-* discharge of registration to issue trie new notes.
2. The Secretary of the Treasury may at any ti. .c, or fro- tiao to tiv.o,
prescribe suDolemental or au^ndatory rul^s and regulations r'ovoriii.n-t the exchange offering, v;hicli vri.ll be c-ximunicated prov.iptly to the Fodcral Reserve
Banks.
*


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Federal Reserve Bank of St. Louis

*

*

<•'

L—•

C^:-

•«?

E. H. FOIST
Acting Secretary of the Treasury.

( *
TREASURY D E P A R T M E N T
Information Service

WASHINGTON, D.C

IMMEDIATE RELEASE

s-2620
In response to nv-nerous inquiries,, the Secretary
of the Treasury announced today that the nev investment ?erie; of 2-3/4$ Treasury bonds which will be
offered March 26, 1951, in exchange for outstanding
2-1/2$ Treasury bends of June 15 and December 15,
1967-72, will be dated April 1, 1951, will mature
on April 1, 1980 and be callable on April 1, 1975.
The bonds will be non-marketable and non-transferable,
but will be exchangeable into marketable 5 year
1-1/2$ Treasury notes.

The notes offered in

exchange will be dated April 1 and October 1 of
each year with appropriate interest adjustments to
dates of exchange.

Interest on such bonds and

notes will be payable semi-annually on the 1st
days of April and October in each year.


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Federal Reserve Bank of St. Louis

«>0o

TREASURY DEPARTMENT
Information Service

WASHINGTON, D.C

RELEASE MORNING NEWSPAPERS,

Sunday, March 4, 1931.

S-2613

The Secretary of the Treasury announced today that there
will be offered for a limited period a new investment series of
long-term non-marketable Treasury bonds in exchange for outstanding 2-1/2$ Treasury bonds of June 15 and December 15, 1967-72,
the details of which will be announced on March 19.
The'new bonds will be issued in registered form only, with
appropriate maturity, and will bear interest at the rate of
2-3/4$ per annum payable semi-annually. They will not be transferable or redeemable prior to maturity; however, owners of such
non-marketable bonds will be given an option of exchanging them
prior to maturity for marketable Treasury notes bearing terms
to be announced in the official offering.
The new non-marketable 2-3/4$ Treasury bonds will be
acceptable at par and accrued interest in payment of Federal
estate and inheritance taxes due following the death of the owner.
They will not be acceptable in payment of Federal income taxes.
The offering of this new security is for the purpose of
encouraging long-term investors to retain their holdings of
Government securities, in order to minimize the monetization of
the public debt through liquidation of present holdings of the
Treasury bonds of 1967-72.
The Secretary stated that he planned to open the subscription books on Monday, March 26, and that the full terms of
the offering and the official circular would be made available
on March 19. The subscription books will remain open for a
period of about two weeks, although the Secretary will reserve
the right to close the books at any time without notice.
The Secretary indicated that a special offering of Series F
and G bonds, or an offering similar to the 2-1/2$ Treasury bonds,
Investment Series A-19&5, will probably be made available for
cash subscription at a later date when it appears that a need
therefor may exist.


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Federal Reserve Bank of St. Louis

oOo

JOINT ANNOUNCEMENT BY THE SECRETARY OF THE TREASURY
AND THE CHAIRMAN OF THE BOARD OF GOVERNORS, AIT? C? THE
FEDERAL OPEN MARKET COMMITTEE, OF THE FEDERAL RESERVE SYSTEM

RELEASE MORNING NEWSPAPERS,
4, 1951.

S-2614

The Treasury and the Federal Reserve System
have reached full accord with respect to debtmanagement and monetary policies to be pursued in
furthering their common purpose to assure the
successful financing, of the Government's requirements and, at the same time, to minimize monetization
of the public debt.


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Federal Reserve Bank of St. Louis

RELEASE SUNDAY MORNING NEWSPAPERS
MARCH U, 1951

Statement by Senator A. Willis Robertson (D, Va,).:
"A French proverb says patience is bitter but its fruits are
sweet.
"Some two weeks ago I asked extreme partisans of the Treasury
position and of the Federal Reserve Board position with respect to
the management of the national debt to be patient while representatives
of the two agencies were attempting to reconcile their differences.
At that time I predicted that an area;-of agreement could be reached
that would be geared to the general welfare,
"Naturally, I am very happy that such an agreement has been
reached, under which we may reasonably expect a refinancing of
a portion of the outstanding long term marketable bonds without
an undue inflationary effect, and under which the type of independence
which the Congress intended the Federal Reserve Board to enjoy will
not be destroyed,"


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Federal Reserve Bank of St. Louis

CONFIDENTIAL
Board of Governors
Harold F. Chapin

March £, 19J>1»
Government security market-10:15> a.nu

The New York Reserve Bank reports that the market
opened quiet and orderly, with the dealers apparently handling
the situation very well. The only price change noted was
the increase of 1/32 in the restricted June 1967-72»s.
Purchases of $1*6 million June 1967-72s and $1.7 million
December 1967-72's had been made which had not been
allocated to System or Treasury Account.

GOVERNMENT FINANCE SECTION, BOARD OF GOVERNORS


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Federal Reserve Bank of St. Louis

* 1950

Ur
,. : .-

<l

» .*

^^ ^

_ . _JL

«

A

Jfc - -

Labcflf

»• U» 8* CllfidLXJC* cd

JMi&m fitaMitoi of tabor
M^JM|J|


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Federal Reserve Bank of St. Louis

k^^^^^^,

. ..._..-'•-' 1: ' -

•• j'_

We are bringing up to date our tax etixtles in the light of the current

the revenuee of the Federal Qorermatnt.

QoTornatnt agencies - fi^ei^y, July 25th*
Kon-governiaent ageneiee * WedUseeday, July 26th*
houre - 9tOO &.M. to IsOO P.M. and 3sQO P.M. to 5iOO P.M.
at the Office of Id*. Oraha% A«»iatant Seeretary of the treacury,


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Federal Reserve Bank of St. Louis

As a part of its continuous study of the tax problem,
the Treasury has requested Mr. A.L.K. Wiggins, former Undersecretary and continuing Consultant, to focus attention on
the war-time aspects of raising revenue.

He will be assisted

in this work by Assistant Secretaries Grahajn and Martin and
it is proposed to examine as rapidly as possible the amount
of revenue that can be raised without unduly hampering business expansion or increasing inflationary pressures.
ur chasing power rationing $.nd spending
taxes as well as voluntary bo rr ow i ng ^gtfu^gjgg o o edr^ttr- c ompu 1 s o r y
lending will be analyzed. It is assumed for the purpose of
this study that total war, while a possibility, is not likely
in the near future and that the incidence of taxation must
not seriously impair business health or normal spending habits
The flow of investment, the flow of income, the flow of
savings and the flow of expenditures must be maintained in
parallel streams until they reach the point that their merger
in a common stream does not overflow its banks or unduly
accelerate its current.


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Federal Reserve Bank of St. Louis

2.

Rationing and price controls are essential in the
total war economy.

They can be avoided here if the

American people are sufficiently patriotic and intelligent
with respect to current habits and current standards of
living.

There is, of course, no more reason to draft men

than there is to draft dollars.

In a psychological and

political sense it is more important to draft dollars than
it is to draft men.

What is needed as never before is a

device to induce saving, or to act as an incentive for
saving.

If an incentive can be found which will induce

people to add to their savings, neither price controls nor
rationing will be required.


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Federal Reserve Bank of St. Louis


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Federal Reserve Bank of St. Louis

EXPORT-IMPORT BANK OF WASHINGTON
Date
TO»
ivy.

8/26A6

Sir I .T-N
Oaiss
- Mr.
/

Hez*ewith initial work re
"Tromotion of Imports". This
outline was prepared by
Dr. Pumphrey and any ideas you
may have, it might be worth-while
for you to discuss with him.

Wm. McC. Martin, Jr.
Chairman of the Board

REPORT ON CONVERSATIONS AT THE TECHNICAL LEVEL OF
TREASURY AND FEDERAL RESERVE SYSTEM REPRESENTATIVES

Participants:

First Meeting -

Treasury -

Mr. I/Via. McC. Martin, Jr.
Dr. George C. Haas
Mr. Edward F. Bartelt

Federal Reserve -

Mr. linfield W. Riefler
Mr. Woodlief Thomas
Mr. Robert Rouse (N.Y. Federal)

Tuesday, February 20, 1951, 1:00 p.m.,
beginning at luncheon in Mr. McCabe r s
office.
Adjourned at 2:45 p.m. to Federal Reserve Board
Room and continued until 4:30 p.m.

Reconvened -

Tuesday, February 20, 1951, 8:30 p.m.,
home of Mr. Riefler
Adjourned at 11:30 p.m.

Reconvened -

Wednesday, February 21, 1951, 2 : 30 p.m.,
Library of Federal Reserve Building
Adjourned at 6:15 p.m»

Reconvened -


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Federal Reserve Bank of St. Louis

Friday, February 23, 1951, 9:45 a.m.,
Library of Federal Reserve Building
Adjourned at 12:15 p.m.

It was clarly understood by all that these were explorations at the
technical level and not negotiations.
Lengthy discussion of the techniques of the Open Market Committee and
the necessity for better liason between the Federal Reserve and Treasury was
a part of the early discussion, and it was clear that both of us could be
better informed on the thinking of the other.
Inasmuch as the Federal Reserve group had a specific proposal, approved
by the Open Market Committee, in the letter of February 7 of Chairman McCabe
to the Secretary, most of the discussion attempted to clarify what was
intended in that letter.
The Federal Reserve group continuously asserted the unhappiness of the
Open Market Committee in monetization of the Federal Debt, particularly at
premium prices, and they made it clear it was the desire to drop the long-term
issues to par.
There was considerable discussion of the rigidities in the present market
and the fact that a large amount of selling was probably because of commitments
already made by insurance companies, savings banks, loan associations and the
banking system, and the consequent replenishing of reserves through sales to
the Federal Reserve in the open market of Government securities.
In pursuing the policy proposed in the February 7 letter, the Federal
intends to withdraw support from the short-term securities market and let it
adjust itself around the 1-3/4 percent discount rate now prevailing.

They

felt that when these adjustments were made, a groundwork would be laid in
the market which would act as a deterrent to lending and make it possible to
undertake in a more orderly fashion, although at somewhat higher rates, the
refinancings which the Treasury faces in the final six months of the Calendar
Year 1951.

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Federal Reserve Bank of St. Louis

-2Much of their argument revolves around the traditional abhorence of the
banks for borrov/ing from the Federal Reserve and an aggregate reduction of
needed reserves.

9

Under these conditions, the rate adjusts to the discount ••••***

rate.
Under considerable pressing by the Treasury group, they were willing to
explore with the Committee for a period of time running through December 1951,
the maintenance of the 1-3/4 percent discount rate to facilitate Treasury
planning of new money and refinancing at the new levels established as a result
of these adjustments.
There was long discussion, and much of it sympathetic to a proposal
advanced principally by Mr. Riefler that the Secretary announce an installment
retirement non-marketable

2-3/4 percent long-term bond (29-1/2 years) which

could be exchanged for the existing June and December 2-1/2's, the desire
being to lock these two issues up as much as possible and remove them as an
important market factor. A feature of this issue might be an alternative of
exchange for 1-1/2 percent, five-year notes for those who desired to cash them.
At the concluding session it was suggested by the Treasury group that
if the Secretary should accede to the federal Reserve proposal with respect
to the adjustment of the short-term rates and should decide to announce a
2-3/4 percent non-marketable long-term issue to be exchanged for the existing
long-term restricted issues, the Federal Reserve might consider maintaining
the current levels in the June and December issues until it was demonstrated
that they would continue to require support.

In that event, the Federal

Reserve and Treasury group would then reconsider the problem.
This was put forward, not as a counter proposal, but on an exploratory
basis and with an earnest plea on the part of Mr. Bartelt that we not attempt


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Federal Reserve Bank of St. Louis

-3-

to prejudge the market.

It was his hope that such an arrangement would

release pressure from the market and permit us to get a start on the refinancing program without impairing any further public confidence in the
markets.
It was suggested by the Federal that if the Treasury desired to test
the new exchange issue this way, they might consider an agreement that cost
of supporting the first 200 million purchased be shared equally by the
Treasury and the Federal Reserve, that the Treasury carry 75 percent of the
cost of the succeeding 400 million and that the Treasury carry the whole
amount if any purchases in excess of 600 million are requirede
There was a lot of talk about secrecy and the difficulty if such an
agreement leaked in any other way than through the published statements of
the Federal and the Treasury, and the belief on Mr. Bartelt's part that
knowledge that the Treasury and the Federal had gotten together would act as
a tonic in restoring confidence to the market.
There was general agreement throughout the discussions that the so-called
feud between the Treasury ana Federal was by far the most significant psychological factor in the current situation.
After extended discussion, it seemed to be generally agreed by all that
the Federal Reserve approach was essentially a "package one" and is not
susceptible, with any consistency, to very much compromise, unless there is
a drastic change in the existing market situation, which on the basis of our
talks appeared unlikely in the near future.

It is the Federal view that their

proposal would involve no serious disruption of the security market, and they
felt that the increased flexibility of the market would produce more confidence<


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Federal Reserve Bank of St. Louis

-4-

Their major point is an unwillingness on their part to continue monetization of debt.

They concede that maintenance of orderly markets will

entail some further monetization which they would hope to keep at a minimum.*,
There was general agreement that we were discussing degrees rather than
absolutes, and the Treasury was questioning the effectiveness of the operation,
and also questioning the Federal evaluation that the repercussions in the
market would not be serious•
Both sides agreed that monetization of debt must be stopped as far as
possible.

The Federal Reserve position was firm that this could not be done

without repercussions in the money market while the Treasury view has been
that it could be minimized through direct approaches which were preferable
to revisions in interest rates.

This was the philosophy back of the

Secretary's January 18 address. Upon exploration of that address it was
agreed, however, that there was nothing in the proposals discussed which ran
counter to that address. He did not discuss an exchange issue - but such an
issue at 2-3/4 percent if it were long-term, and non-marketable would not be
considered inconsistent with a 2-l/£ percent rate.
At the end of the meetings it was made clear again that these were only
exploratory talks. Accordingly, it was suggested that the matter now be
referred to a higher level where negotiations or counter proposals might
take place*


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Federal Reserve Bank of St. Louis

REPORT ON CONVERSATIONS AT THE TECHNICAL LEVEL OF
TREASURY AND FEDERAL RESERVE SYSTEM REPRESESTATIVES

Participants:

First Meeting -

Treasury -

Mr* Vim. MeC. Martin, Jr.
Dr. George C. Haas
Mr. Edward F. Bartelt

Federal Reserre -

•r. infielc .
Mr. Woodlief Thomas
Mr. Robert Rouse (N.Y. Federal)

Tuesday, February 20, 1951, liOO p.m.,

beginning at luncheon in Mr. McCabe's
office.
Adjourned at 2:45 p.a. to Federal Reserve Board
Room and continued until 4:30 p.m.
Reconvened -

Tuesday, February 20, 1951, 8:30 p.m.,
home of Mr. Riefler

Reconvened -

Wednesday, February 21, 1951, 2:30 p.m.,
Library of Federal Reserve Building
Adjourned at 6:15 p.m.

Reconvened -


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Federal Reserve Bank of St. Louis

Friday, February 23, 1951, 9:45 a.m.,
Library of Federal Reserve Building

Adjourned at 12:15 p.m.

It was elarly understood by all that these were explorations at the
technical level aad not negotiations.
Len/rthy discussion of the techniques of the Open Market Committee and
the necessity for better llason between the Federal Heserve and Treasury was
a part of the early discussionf and it was clear that both of as could be
better informed on the thinking of the other.
Inasmuch as the Federal Reserve froup had a specific proposal, approved
by the Open Uarket Committee, in the letter of February 7 of Chairman McCabe
to the Secretary, most of the discussion attempted to clarify what was
Intended in that letter*
The Federal Heserve group continuously asserted the unhapplness of the
Open Market Committee in monetisation of the Federal Debt, particularly at
premium prices, and they made it clear it was the desire to drop the long-term
issues to par*
There was considerable discussion of the rigidities in the present market
and the fact that a large amount of selling was probably because of commitments
already made by insurance companies, savings banks, loan associations and the
bmakinp system, and the consequent replenishing of reserves through sales to
the Federal Reserve in the open market of Government securities.
la pursuing the policy proposed in the February 7 letter, the Federal
intends to withdraw support from the srart-term securities n&arket and let it
adjust itself nround the 1-3/4 percent discount rate now prevailing.

They

felt that when these adjustments were made, a groundwork would be laid in
the market which would act as a deterrent to lending and make it possible to
undertake in a more orderly fashion, although at somewhat higher rates, the
refinancings which the Treasury faces in the final six months of the Calendar
Tear 19S1.

http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

Siueh of their argument revolves around the traditional abhorence of the
banks for borrovrinc from the federal Reserve and an aggregate reduction of
needed reserves*

Under these conditions* the rate adjusts to the discount

rate*
Umder eonsiderable pressing b; the Treasury group, they were willinr to
explore with the Committee for a period of time running through December 1951,
the maintenance of the 1-3/4 pereent discount rate to facilitate Treasury
planning of new money and refinancing at the new levels established as a result
of these adjustments*
There was long; discussion, and much of it sympathetic to a proposal
advanced principally by Mr* Riefler that the Secretary announce an installment
retirement non-marketable 2*3/4 percent long-term bond (29-1/2 years) which
could be exchanged for the existing June and December 2-1/2»s, the desire
beinr to lock these two Issues up as much as possible and remove them as an
important market factor.
exchange for 1-1/2

A feature of this issue ad^ht be an alternative of

peroent, five-yeur notes for those who desired to cash them*

At the concluding session it was su^ested by the Treasury group that
if the Secretary should accede to the federal Reserve proposal with respect
to the adjustment of the short-term rates and should decide to announce a
2*8/4 percent non-marketable lon^-term issue to be exchanged for the existing
lonr-term restricted issues, the Federal Heserve might consider nalntalnlag
the current levels in the June and December issues until it was demonstrated
that they would continue to require support*

In that event, the Federal

Reserve and Treasury froup would then reconsider the problem*
This was put forward, not as a counter proposal, fcut en an exploratory
basis and with an earnest plea on the part of Mr. Bartelt that w* not attempt

http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-sto prejudre the market*

It was his hope that such an arrangement would

release pressure from the market and permit us to get a start on the refinancing program without impairinr any further public oonfidenoe In the
•arkets*
It was sup^ested by the Federal that If the Treasury desired to test
the new exchange issue this way, they nl^ht consider an agreement that cost
of supporting the first 200 million purchased be shared equally by the
Treasury and the Federal Reserve, that the Treasury carry 75 percent of the
cost of the succeeding 400 million and that the Treasury carry the whole
amount if any purchases in excess of 600 million are required*
There was a lot of talk about secrecy and the difficulty if such an
agreement leaked in any ether way than through the published statements of
the Federal and the Treasury, and the belief on Ur* Bartelt»s part that
knowledge that ths Treasury and the Federal had frotten together would act as
a tonic in restoring confidence to the market*
There was general agreement throughout the discussions that the so-called
feud between the Treasury and Federal HAS by far the most significant psycholofioal factor in the current situation*
After extended discussion, it seemed to be generally agreed by all that
the Federal Feserve approach was essentially a "package one* and is not
susceptible, with any consistency, to very much compromise, unless there is
a drastic change in the existing market situation, which on the basis of our
talks appeared unlikely in the near future*

It is the Federal view that their

proposal would involve no serious disruption of the security market, and they
felt thftt the increased flexibility of the market would produce mere confidence.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-4-

Their major point is an unwillingness on their part to continue monetiiation of debt*

They concede that maintenance of orderly market* will

entail some further monetication which they would hope to keep at a minimum,
There was general agreement that we were discussing degrees rather than
absolutes, and the Treasury was questioning the effectiveness of the operation,
and also questioning the federal evaluation that the repercussions in the
aaarket would not be serious*
Both sides agreed that monetication of debt must be stopped as far at
possible*

The Federal Reserve position was firm that this could not be done

without repercussions in the money market while the Treasury view has been
that it could be minimized throurh direct approaches which were preferable
to revisions in interest rates.

This was the philosophy back of the

Secretary's January 18 address*

Upon exploration of that address it was

agreed, however, that there was nothing in the proposals discussed which ran
counter to that address*

He did not discuss an exchange issue - but such an

issue at 2-5/4 percent if it were long-term and non-aaarketable would not be
considered inconsistent with a 2-1/2 percent rate*
At the end of the meetin s it was rsade clear again that these were only
exploratory talks*

Accordiap-ly, it was su f tested th t the natter new be

referred to a higher level where negotiations or counter proposals mirht
take place*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

REPORT ON CONVERSATIONS AT THE TECHNICAL UTVEL OF
TREASURY AND FEDERAL RESERVE SYSTEM REPRESENTATIVES

Participants:

First Meetinf -

Treasury -

Mr* Y«'m. McC. Martin, Jr.
Dr. George C. Haas
Mr. Edward F. Bartelt

Federal Reserve -

Mr. Infield W. Riefler
Mr. Woodlief Thomas
Mr. Robert Rouse (N.Y. Federal)

Tuesday, February 20, 1951, 1:00 p.m.,
beginning at luncheon in Mr. McCabefs
office.
t
Adjourned at 2;45 p.m. to Federal Reserve Board
Room and continued until 4:30 p.m.

Reconvened

Tuesday, February 20, 1951, 8:30 p.m.,
home of Mr. Riefler
Adjourned at 11:30 p.m.

Reconvened -

Ufcdnesday, February 21, 1951, 2:30 p.m.,
Library of Federal Reserve Building
Adjourned at 6:15 p.m.

Reconvened -


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

Friday, February 23, 1951, 9:45 a.m.,
Library of Federal Reserve Building
Adjourned at 12:15 p.m.

It was olarly understood by all that these were explorations at the
technical level and not negotiations*
Lsarthy discussion of the techniques of the Open Market Committee and
the necessity for better liason between the Federal Beserve and Treasury was
* part of the early discussion, and it was clear that both of us could be
better informed on the thinking of the other.
Inasmuch as the Federal Reserve proup had a speeifio proposal, approved
by the Open Market Committee, in the letter of February 7 of Chairman McCabe
to the Secretary, most of the discussion attempted to clarify what was
intended in that letter*
The Federal Beserve group oontlauousiy asserted the unhappiness of the
Open Market Conaaittee in oonetitatlon of the Federal Debt, particularly at
premium prices, and they aside it clear it was the desire to drop the lonr-term
Issues to par*
There was considerable discussion of the rigidities in the present roarket
and the fact th«t a larre amount of selling was probably because of commitments
already oade by insurance companies, savings banks, loan associations and the
banking system, and the consequent replenishing of reserves through sales to
the Federal Reserve in the open market of Government securities*
In pursuing th« policy proposed in the February 7 letter, tho Federal
intends to withdraw support from the short-term securities xmrket and let it
adjust Itself

round the 1*9/4 percent discount rate now prevailing* They

felt that when these adjustment* were aade, a groundwork would be laid in
the market whieh would aet as a deterrent to lending and isake it possible to
undertake in a more orderly fashion, although at soaswhat higher rates, the
refinancinfs which the Treasury faees in the final six swaths of the Calendar
Tear 19S1.

http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

of their argument revolves around the traditional abhorenee of the
banks for borrowing from the Federal Reserve and an aggregate reduction of
aee4ed reserves*

QHder these conditions, the rate adjusts to the discount

rate*
Bmder considerable pressing by the Treasury group* they were willing to
explore with the Committee for a period of tine running through December 1961,
the Maintenance of the 1-5/4 percent discount rate to facilitate Treasury
planning of new money and refinancing at the new levels established as a result
of these adjustments*
there WAS long discussion, and much of it sympathetic to a proposal
advanced principally by Mr* Rlefler that the Secretary announce an Installment
retirement non-marketable 2-3/4 percent loaf-term bond (29-1/2 years) which
could be exehanfed for the existing June and December 2-1/2*s, the desire
beinf to lock these two issues up as much as possible and remove them as an
important zaarket factor*

A feature of this issue might be an alternative of

exchange for 1-1/2 percent, five-ye&r notes for those who desired to cash thea.
At the ooneludittf session it was su .eoted by the Treasury ?roup that
if the Secretary should accede to the Federal Reserve proposal with respect
to the adjustment of the short-term rates and should decide to announce a
2-3/4 percent non-aarketable lonr-term issue to be exehanfed for the existing
lonr-term restricted issues, the Federal peserve might consider mintainlag
the current levels In the June and December Issues until it was demonstrated
that they would continue to require support*

In that event, the Federal

Reserve and Treasury froup would then reconsider the problem.
This was put forward, not as a counter proposal* but en an exploratory
basis and with an earnest plea on the part of Mr. Bartelt that we not attempt


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-3-

to prejudge the market. It was hit hope that such an arrangement would
release pressure from the market and permit us to get a start on the refinancing profram without iopelrinr any further public oonfidenoe in the
market*-.
It was sufseated by the Federal that if the Treasury desired to test
the new exchange issue this way, they ssi <ht consider an agreement that cost
ef supporting the first 200 million purchased be shared equally by the
Treasury aad the Federal Reserve, that the Treasury carry 75 percent of the
eest ef the succeeding 400 million and that the Treasury carry the whole
amount if any purchases in excess ef 800 million are required*
There was a lot of talk about secrecy and the difficulty if such aa
apreeaent leaked in any other way than through the published statements ef
the federal and the Treasury, and the belief on Mr* Bartelt's part that
knowledge that the Treasury and the Federal had jrotten together would act as
a tonic in restoring confidence to the market.
There was general agreement throughout the discussions that the so-called
feud between the Treasury and federml was by far the moat significant paycholog-loal factor in the current situation*
After extended discussion, it seemed to be renerally agreed by all that
the Federal Reserve approach was essentially a * package one11 and is not
susceptible, with any consistency, to niry much eewprentlse, unless there is
a drastic change in the existing market situation, which on the basis of our
talks appeared unlikely in the asmr future*

It is the Federal view that their

proposal would involve no serious disruption of the security narkot, aad they
felt thftt the increased flexibility ef the market would produce mere confidence*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

Their major point is an unwillingness on their part to continue monetitatioa of debt*

They concede that uaintenanoe of orderly markets will

entail some further monatication which they would hope to keep at a odaimuau
There was general agreement that we were discussing degrees rather than
absolutes* and the Treasury was questioning the effectiveness of the operation,
and also questioning the 'ederal evaluation that the repercussions in the
market would not be serious*
Both sides agreed that monetisntion of debt must be stopped as far as
possible*

The Federal Reserve position was first that this could not be done

without repereussions in the money market while the Treasury view has been
th-1 it could be minimized through direct approaches which were preferable
te revisions in Interest rstes* This was the philosophy back of the
Secretary's January 18 address*

Upon exploration of that address it was

afreed, however, that there was nothing in the proposals discussed which ran
counter to that address*

He did not disouse an exchange issue * but such an

issue at 2*3/4 pereent if It were long-tern and non-aarketable would not bo
considered inconsistent with a 2-1/2 percent rate*
At the end of the aeetin s it was made elear again that these were only
exploratory talks* Accordingly, it was su: ested th t the natter now be
referred to a higher level where negotiations or counter proposals »irht
take place.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

REPORT OH CONVERSATIONS AT THE TECHNICAL LEVEL OF
TREASURY AND FEDERAL RESERVE SYSTEM REPRESEITATIVES

Participants:

First Meeting -

Treasury -

Mr. Tfim. McC. Martin, Jr.
Dr. George C. Haas
Mr. Edward F. Bartelt

Federal Reserve -

Mr. ^Infield W. Riefler
Mr. Woodlief Thomas
Mr. Robert Rouse (N.Y. Federal)

Tuesday, February 20, 1951, 1:00 p.m.,
beginning at luncheon in ?/r. McCabe's
office.
Adjourned at 2:45 p.m. to Federal Reserve Board
Room and continued until 4:30 p.m.

Reconvened -

Tuesday, February 20, 1951, 8:30 p.m.,
home of Mr. Riefler
Adjourned at 11:30 p.&.

Heconvened -

Wednesday, February 21, 1951, 2:30 p.m..
Library of Federal Reserve Building
Adjourned at 6:15 p.m.

Reconvened -


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

Friday, February 25, 1961, 9:45 a.m.,
Library of Federal Reserve Buildiaf
Adjourned at 12:15 p.m.

It was clarly understood by all that these IPS re explorations at the
technical level and not negotiations.
Lengthy discussion of the techniques of the Open Market Committee and
the neeessity for better liason between the Federal Reserve and Treasury was
a part of the early discussion* and it was olear that both of us oould be
better informed on the thinking of the other.
Inasmuch as the Federal Reserve group had a speelfio proposal, approved
by the Open Market Committee, in the letter of February 7 of Chairman MoCabe
to the Secretary, most of the discussion attempted to clarify what was
intended in that letter.
The Federal Reserve group continuously asserted the unhappiness of the
Open Market Committee in monetisation of the Federal Debt, particularly at
premium prices, and they made it clear it was the desire to drop the long-term
issues to par.
There was considerable discussion of the rigidities in the present market
and the fact that a larpe amount of selling was probably because of commitment*
already made by insurance companies, savings banks, loan associations and the
banking system, and the consequent replenishing of reserves through sales to
the Federal Reserve in the open market of Government securities*
In pursuing the policy proposed in the February 7 letter, the Federal
Intends to withdraw support from the short-term securities market and let it
adjust itself around the 1-3/4 percent discount rate now prevailing.

They

felt that when these adjustments were made, a groundwork would be laid in
the market which would act as a deterrent to lending and make it possible to
undertake in a more orderly fashion, although at somewhat higher rates, the
refinancings which the Treasury faees in the final six months of the Calendar
Year 1951.

http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

Much of their argument revolves around the traditional abhorence of the
bank! for borrowing from the Federal Reserve and an aggregate reduction of
needed reserves.

Under these conditions, the rate adjusts te the discount

rate*
Under considerable pressing by the Treasury group, they were willing to
explore with the Committee for a period of time running through December 1951,
the maintenance of the 1-5/4 percent discount rate to facilitate Treasury
planning of new money and refinancing at the new levels established as a result
of these adjustments.
The e was long discussion, and much of it sympathetic to a proposal
advanced principally by Mr. Riefler that the Secretary announce an installment
retirement non-aaarketable 2-3/4 percent long-term bond (29-1/2 years) which
could be exchanged for the existing June and December 2-1/2's, the desire
beinf to lock these two issues up as much as possible and remove them as an
important uaarket factor.
exchan e for 1-1/2

A feature of this issue might be an alternative of

percent, five-year notes for those who desired to cash them.

At the ooncludinf session it was su Bested by the Treasury froup that
if the Secretary should accede to the Federal Reserve proposal with respect
to the adjustment of the short-term rates and should decide to announce a
2-5/4 percent non-marketable lonf-term issue to be exchanged for the existing
lonp-term restricted issues, the Federal Peserve might consider maintaining
the current levels in the June and December issues until it was demonstrated
that they would continue to require support.

In that event, the Federal

Reserve and Treasury p.roup would then reconsider the problem.
This was put forward, not as a counter proposal, but en an exploratory
basis and with an earnest plea on the part of Mr. Bartelt that we not attempt


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-5te prejudge the market*

It was hi* hop* that such an arrangement would

release pressure from the market and permit us to get a start on the refinancing program without impairing any further public confidence in the
•arkets.
It was suggested by the Federal that if the Treasury desired to test
the new exchange issue this way, they mi^ht consider an agreement that cost
of supporting the first 200 million purchased be shared equally by the
Treasury and the Federal Reserve, that the Treasury carry 75 percent of the
cost of the succeeding 400 Billion and that the Treasury carry the whole
amount if any purchases in excess of 600 Million are required*
There was a lot of talk about secrecy and the difficulty if such an
agreement leaked in any other way than through the published statements of
the federal and the Treasury, and the belief on Mr* Bartelt's part that
knowledge that the Treasury and the Federal had gotten together would act as
a tonic in restoring confidence to the inarket*
There was general agreement throughout the discussions that the so-called
feud between the Treasury and Federal nas by far the most significant psycholog:! oal factor in the current situation*
After extended discussion, it seemed to be generally agreed by all that
the Federal Pcserve approach was essentially a "package one" and is not
susceptible, with any consistency, to very much oo rap roods*, unless there is
a drastic change in the existing market situation, which on the basis of our
talks appeared unlikely in the near future*

It is the Federal view that their

proposal would involve no serious disruption of the security market, and they
felt that the increased flexibility of the Market would produce more confidence*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

Their major point is an unwillingness on their part to continue monetication of debt. They concede that maintenance of orderly markets will
entail some further monetization which they would hope to keep at a minimum*
There was general agreement that we were discussing degrees rather than
absolutes, and the Treasury was questioning the effectiveness of the operation,
and also questioning the Federal evaluation that the repercussions in the
market would not be serious*
Both sides agreed that raonetization of debt must be stopped as far as
possible. The Federal Reserve position was firm that this could not be done
without repercussions in the money market while the Treasury view has been
that it could be minimized through direct approaches which were preferable
to revisions in interest rates. This was the philosophy back of the
Secretary*! January 18 address. Upon exploration of that address it was
agreed, however, that there was nothing in the proposals discussed which ran
counter to that address. He did not discuss an exchange issue - but such an
issue at 2-3/4 percent if it were long-term and non-marketable would not be
considered inconsistent with a 2-1/t percent rate.
At the end of the meetings it was taade clear again that these were only
exploratory talka. Accordingly, it was suggested that the matter now be
referred to a higher level where negotiations or counter proposals mirht
take place.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

February 26, 1951

MEETING IN CABINET ROOM
WHITE HOUSE
11:00 A.M.-12:00 M.

Present -

The
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.

President in the Chair
C. E. Y/ilson, Director, Office of Defense Mobilization
Leon Keyserling, Chairman, Council of Economic Advisers
John D. Clark, Council of Economic Advisers
Roy Blau, Council of Economic Advisers
Harry McDonald, Chairman, SEC
Thoms.s McCabe, Chairman, FRjJ
Allan Sproul, President, New York Federal Reserve
Edward Foley, Under Secretary of Treasury
Ifa. McC. Martin, Jr., Assistant Secretary of Treasury
Charles Murphy, Tyhite House Staff
David Bell, White House Staff

The President opened the meeting in the most pleasant and conciliatory
manner, and stated that he had been worried with this problem for some time
and wished to get this group together for the purpose of frank and open
discussion of the problems.

He said that the RFC (obviously mis-spoken as

he clearly intended the CEA) and the Treasury Staff had been working on some
ideas which seemed to him to make a lot of sense and so he wanted to take
the liberty of reading them to the group.
This he did, very clearly and with emphasis on certain points, such as
the importance of the public credit of the United States, which he said
several times was vital to Mr. ?dlsonfs work, and so important that unless it
were maintained the Russians would have achieved their purpose completely*
Mr. 7,1 Is on nodded agreement*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

After the President finished, he said that he wanted frank and open
discussion of the ideas in the mer.iorandum.
Mr. McDonald opened the discussion by passing around a memorandum on
the volume of new securities and indicating that Municipal financing in
particular had boomed.

The President thought this very interesting*

Mr. Clark spoke next.

He said the President's comments made good sense

to him and recalled historical situations, such as the one calling for the
creation of the Federal Reserve System and the Banking Act of 1933*

He felt

we mijprht have e. similar type of situation today and the powers required to
meet the current problem should be studied*

He thought the Treasury position

in the matter of interest rates sound and appropriate in the light of
mobilization efforts and the Federal pLeserve certainly ought not to drive
rates up by selling in the market and should work with the Treasury to keep
confidence in a stable orderly market and that later in the year after tax
receipts which were going to be large wherein more money for investment would

' V'
appear and the financing problem would be possible of solution at current
levels.
Mr. Sproul spoke next.

He stated there was no disagreement on maintain-

ing the credit of the government.

If the Federal Reserve had anything to

reproach itself on to date, it was the dilatory actions it had taken to
restrict bank reserves.

The System should have stopped net-buying

on the, scale it has been doing so long ago»

governments

This, he said, under current

conditions, was monetizing the debt in a way which strained the conscience of
the Open Market Committee with respect to their responsibilities*

He did not

think the actions contemplated by the Committee would impair confidence in


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-3-

the markets as most of these securities were marketable and held by experienced
investors who were used to the hazards of the market and expected it«

In fact,

he was of the opinion that elimination of existing artificialities and more
dependence on the market itself would generate confidence and improve the
outlook for the refinancing and new money issues which the Treasury would be
faced with later in the year*
Mr. McCabe spoke next.

He started off by stressing the element of time*

He was interested in the memorandum the President had read from, and he would
be particularly pleased to have the support of other agencies of the Government
for increased reserve requirements.
obtain any support for this.

Up to date, he had never been able to

However, he was concerned at the moment with

the necessity for making a decision on operations in the market for which the
Open Market Committee was pressing.
He then spoke of the fine work that had been done by Bill Martin and
Win Riefler in trying to see if there was an area of agreement that could
be worked out.

He thought both Treasury and Federal Reserve were opposed

to monetization of debt and they ought to be able to get together on a
program.
He stressed the fact that life insurance companies and corporations
and other large non-banking investors had purchased the long-term restricteds
at par and now were in a position to cash them in at a handsome profit to
make good on their commitments, while purchasers of savings bonds could, only
cash in their securities at the face price and by sacrificing the interest to
maturity.
He wanted to emphasize to the President the clear purpose of the Open
Market Committee to maintain an orderly and stable market but to depend as


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

~«
far as possible on the judgment of the market itself.

The Federal Peserve had

a statutory responsibility given to it by Congress, and he felt that they must
act on their judgment in the matter and despite his best efforts, he had been
unable to arrive at an understanding with the Secretary of the Treasury, who
is now in the hospital.

He was very sorry the Secretary was in the hospital,

but thought that time was very important and they ought not to be asked to
delay indefinitely.

Mr. Foley had called him and suggested that they might

delay two weeks which, coming on top of a previous delay of two weeks, meant
roughly thirty days without any action.

He urged the President to appreciate

how sincere they were in Endeavoring to stop inflation and protect the
purchasing power of the dollar but how apprehensive they were about the way
things were developing,,
Mr. Foley spoke next*

He said he wanted to clarify a point Mr. McCa.be

had made with respect to the Secretary which was perhaps due to a misunderstanding.

It was possible the Secretary might be able to engage in negotiations

before two weeks were up but he had expressed to Mr. McCabe, whom he had tried
to get repeatedly over the weekend without success until late Sunday evening,
how anxious he was not to upset the Secretary unduly.

On Friday neither he

nor Mr. Martin had been able to see the Secretary as there was some evidence
that a possible hemorrhage might occur in the eye and the Doctors refused to
permit anyone to see him.

The constant visits for instructions which he

and Mr. Martin and others in the Treasury had been forced to make during the
past week had unquestionably retarded his recovery and in asking for two weeks
time of Mr. McCabe, he was merely making an estimate of what he thought would
be desirable without intending to close the door to negotiations more
immediately.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-5-

He then stated the Treasures fear that lowering the pegs in the longterm restricted issues would unsettle the market, bring an avalanche of
selling, and seriously impair public confidence in the issues.

He said the

debt was very large and that we were very apprehensive of creating any unnecessary danger which would make it difficult to refinance or obtain new
money.

He pointed out that the debt was now $257 million and a panic in the

market would be a catastrophe*
He stated that the conversations which had been conducted at the
technical levels appeared to be making some progress and there was a fine
spirit of cooperation and good will on both sides.

He hoped that these could

be continued and that ultimately they might be brought to a successful understanding which would benefit both the Treasury and the Federal.

He thought

it vital that everything possible be done to maintain stability in the market*
Mr. Keyserling spoke next.

He said he had listened carefulljr to what

had been said by his colleague Mr. Clark, Mr. Sproul, Mr. McCabe, and
Mr. Foley and without commenting on what had been said, he wanted the President
to know that he didn't think the problem was being faced.

He felt that it

was important to determine whether there was a forum or vehicle by which two
clearly opposing positions could be resolved by meri^ of good will.

He took

that to be the purpose of this meeting, and he thought it important that a
real effort be made to work out this specific problem.
The President then commented that he thought it was very important to
work it out and was very vital to Mr. Wilson's work, and he was very anxious
to get everybody together —

thatTs why he was asking for this frank discussion.

He was not trying to reach a decision today but hoped this would not work out
the way Wage Stabilization did where a fight had developed with everyone


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-6-

resigningo

He didn't want to take arbitrary action, but he had certain

powers and there came a point when he would have to exercise them*
Mr. Wilson spoke up —

said he didn't think it was necessary to delay

this matter too long, and he wondered if we couldn't contact the Secretary
of the Treasury about this particular matter promptly,

Mr. Poley inter-

jected that he was sure that could be.done, and he hoped that if Mr. Wilson
would undertake to get the ball in motion and get the task forces or subcommittees set up, he knew the Secretary would be most appreciative.
There seemed to be general agreement that this would be a good idea
and the meeting broke up a little after twelve with the President asking
that an effort be made to report to him as promptly as possible*


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Federal Reserve Bank of St. Louis

Tito. McC. Martin, Jr*

February 26, 1951

HEBflHO IN CABINET ROOM
WHITE HOUSE
llsOO A.M.-12»00 M.

Present -

The
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.

President in the Chair
C. E. Wilson, Director, Office of Defense Mobilization
Leon Keyserling, Chairman, Council of Economic /dvisers
John D. Clark, Council of Economic /dvisers
Roy Bleu, Council of Economic Adviser*
Harry McDonald, Chairman, SEC
Thofflfos MeCabe, Chairman, PR$
/IIan Sproul, president, Hew vOrk Federal Keserve
Edward ?oley, Under Secretary of Treasury
Ba. JlcC. Martin, Jr., Assistant Secretary of Treasury
Charles Murphy, White House Staff
David Bell, ^hite House Staff

The President opened the meeting in the most pleasant and conciliatory
manner, and stated that he had been worried with this problem for some tisie
and wished to get this p;roup together for the purpose of frank and open
discussion of the problems.

He said that the RFC (obviously mis-spoken as

he olesrly intended the CEA) and the Treasury Staff h&d been working on soae
ideas which seemed to him to awake a lot of sense and so he wanted to take
the liberty of reading them to tha group.
This he did, very clearly and with emphasis on certain points, such at
the importance of the public credit of the United States, which he said
several tijaes was vital to Mr. "ilson's work, end so important that unless it
were maintained the Russians would hsva achieved their purpose completely*
Mr. Wilsoa. nodded agreement*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

After the President finished, he said that he wanted frank and open
discussion of the ideas in the me:: or an dura.
Mr. McDonald opened the discussion by passing around a memorandum on
the volume of new securities and indicating thst Municipal financing in
particular had boomed. The President thought this very interesting.
Mr. Clark spoke next. He said the President's comments made good sense
to him and recalled historical situations, such as the one calling for the
creation of the Federal Reserve System and the banking Act of 1933.

He felt

we taifht have a similar type of situation today and the powers required to
meet the current problem should be studied*

He thought the Treasury position

in the matter of interest rates sound and appropriate in the lirht of
mobilization efforts and the Federal peserve certainly oujrht not to drive
rates up by selling in the market and should work with the Treasury to keep
confidence In a stable orderly market and that later in the year after tax
receipts which were going to be large wherein more money for investment would
appear and the financing problem would be possible of solution at current
levels.
Mr. Sproul spoke next. He stated there was no disagreement on maintaining the credit of the government. If the Federal Reserve had anything to
reproach itself on to date, it was the dilatory actions it had taken to
restrict bank reserves. The System should hfe-vt- stopped net-buying governments
on the scale it has been doing so long age*

This, he said, under current

conditions, was monetizing the debt in a way which strained the conscience of
the Open ?larket Committee with respect to their responsibilities*

He did not

think the actions contemplated by the Committee would impair confidence in


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-3-

the markets as most of these securities wore marketable and held by experienced
investors who were used to the hazards of the market and expeeted it*

In fact,

he was of the opinion that elimination of existing artificialities and more
dependence on the market itself would generate confidence and improve the
outlook for the refinancing; and new money issues which the Treasury would be
faced with later in the year.
Mr. McCabe spoke next*

He started off by stressing the element of time*

He was interested in the memorandum the President had read from, and he would
be particularly pleased to have the support of other agencies of the Government
for increased reserve requirements*

Up to date, he had never been able to

obtain any support for this* However, he was concerned at the moment with
the necessity for making a decision on operations in the market for which the
Open Market Committee was pressing.
He then spoke of the fine work that had been done by Bill Martin and
Mn Riefler in trying- to see if there was an area of agreement that could
be worked out.

He thought both Treasury and Federal Reserve were opposed

to monetination of debt and they ought to be able to ret together on a
program.
Be stressed the fact that life insurance companies and corporations
and oth<-r lar^e non-banking investors had purchased the lon?-term restricteds
at par and now were in a position to cash them in at a handsome profit te
make rood on their commitments, while purchasers of savings bonds could only
cash in their securities at the face price and by sacrificing the interest to
maturity.
He wanted to emphasize to the President the clear purpose of the Open
Harket Committee to maintain an orderly and stable market but to depend as


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-4-

far as possible on the judgment of the market itself*

The Federal Feserve had

a statutory responsibility jiven to it by Congress, and he felt that they must
act on their judgment in the matter and despite his best efforts, he had been
unable to arrive at an understanding with the Secretary of the Treasury, who
is now in the hospital.

He was very sorry the Secretary was in tine hospital,

but thoufht that tirae was very important and they ou.^ht not to be adked to
delay indefinitely.

Mr* Foley had called him and suggested that they jcip.ht

delay tiro week* which, coming on top of a previous delay of two weeks, meant
roughly thirty days without any action.

He urged the President to appreciate

how sincere they were in Endeavoring to stop inflation and protect the
purchasing power of the dollar but how apprehensive they were about the way
things were developing*
Mr. Foley spoke next*

He said he wanted to clarify a point tfr* MeCabe

had made with respect to the Secretary which was perhaps due to a misunderstanding.

It was possible the Secretary might be able to eng-age in negotiations

before two weeks were up but he had expressed to Mr* MeCabe, whom he had tried
to ret repeatedly over the weekend without success until late Sunday evening,
how anxious he was not to upset the Secretary unduly.

On Friday neither he

nor Mr. Martin had been able to see the Secretary as there was some evidence
that a possible hemorrhage might occur in the eye and the Doctors refused to
permit anyone to see him.

The constant visits for instructions which he

and Mr. Martin and others in the Treasury had been forced to make during the
past week had unquestionably retarded his recovery and in asking for two weeks
tiioe of Mr* !4cCabe, he was merely making an estimate of what he thought would
be desirable without intending to close th« door to negotiations more
lane di ate ly«


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-5-

He then stated the Treasury's fear that lowering: the pegs in the longterm restricted issues would unsettle the market, bring- an avalanche of
selling, and seriously impair public confidence in the issues.

He said the

debt was very large and that we were very apprehensive of creating any unnecessary danger which would a&ke it difficult to refinance or obtain new
money.

He pointed out that the debt was now §267 Billion and a panic in the

market would be a catastrophe*
He stated that the conversations which had been conducted at the
technical levels appeared to be making some progress and there was a fine
spirit of cooperation and /rood will on both sides.

He hoped that these could

be continued and that ultimately they might be brought to a successful understanding which would benefit both the Treasury and the Federal.

He thought

it vital that everything possible be done to maintain stability in the market*
Mr. Keyserling spoke next.

He said he had listened carefully to what

had been said by his colleague Mr. Clark, Mr. Sproul, Mr. McCabe, and
Mr. Foley and without commenting on what had been said, he wanted the President
to know that he didn f t think the problem was being faced. He felt that it
•
was important to determine whether there was a forum or vehicle by which two
clearly opposing positions could be resolved b> menV of good will.

He took

that to be the purpose of this meeting, and he thought it important that a
real effort be made to work out this specific problem*
The President then commented that he thought it was very important to
work it out and was very vital to Mr. Tilson's work, and he was very anxious
to ret everybody together — that's why he was asking for this frank discussion.
He was not trying to reach a decision today but hoped this would not work out
the way "?Sage Stabilisation did where a fight had developed with everyone


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

resigning*

He didn't want to take arbitrary action, but he had certain

powers and there came a point when he would haye to exercise them*
r

*r. ' i l s o

spoke up — s a i d he cllan't t h i n k it was necessary to delay

this matter too long*, and he wondered if we couldn't contact the Secretary
of the Treasury about this particular matter promptly.

Mr. Foley inter-

jected that he was sure that could be done, and he hoped that if Mr. Wilson
would undertake to get the ball in motion and £et the task forces or subconasittees set up, he knew the Secretary would be most appreciative.
There seemed to be general agreement that this would be a good idea
and the faceting broke up a little after twelve with the President asking
that an effort be made to report to him as promptly as possible*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

MoC. Martin, Jr.

February 26, 1951

MEETING IN CABIHKT ROOM
TOI7E HOUSE
lljOO A.M.-12sOO II.

Preheat -

The
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Ifir.

President is the Chair
C. E. Wilson, Director, Office of Defense Mobilization.
Leon Keyserling, Ch&iraan, Council of Economic /dvisers
John D. Clark, Council of Economic /dvisere
Roy Blau, Council of Eeonomic Advisers
Harry itcOonald, Chairman, SEC
Thomta McCabe, Chairsaan, PR0
/I Ian Sproul, President, Blew York Federal Reserve
Edward Poley, Under Secretary of Treasury

r.
:. "c". :&rtln, Jr., • - s s i s ^ n ' - e c re i-.fc r y of ""reasury
Mr. Charles Murphy, shite House Staff
llr. David Bell, ^hite House Staff

The President opened the meeting in the most pleasant end conciliatory
saanner, and stated thfet he had been worried with this problem for some time
and irlshed to get this proup torother for the purpose of frank and open
discussion of the problems. He said th&t the RFC (obviously ads-spoken as
he olesrly intended the CEA) and the treasury Staff had been working on soate
ideas which seemed to him to make a lot of sense and so he wanted to take
the liberty of reading them to the group.
This he did, very clearly and with emphasis on certain points, such as
the importance of the public credit of the United States, which he said
several tia»s was vital to Mr. -ilson's work, and so important that unless it
were maintained the Russians would have achieved their purpose completely*
Mr. Wilson nodded agreement.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

After the President finished, he said that he runted frank and open
discussion of the ideas in the memorandum.
Mr* McDonald opened the discussion by passing around a memorandum on
the Toluoa of new securities and indicating thst Municipal financing in
particular had boosed*

The President thought this very interesting*

Mr* Cl&rk spoke next.

He said the President's comments made good sense

to him and recalled historical situations, such as the one calling for the
creation of the Federal Reserve System and the Banking Act of 1953*

He felt

we nipht have a similar type of situation today and the powers required to
meet the current problem should be studied*

He thought the Treasury position

in the matter of Interest rates sound and appropriate in the light of
mobilisation efforts and the Federal peserve certainly ought not to drive
rates up by selling in the market and should work with the Treasury to keep
confidence in a stable orderly market and that later in the year after tax
receipts which were going to be large wherein more money for investment would
appear and the financing problem would be possible of solution at current
levels*
Mr. Sproul spoke next.

He stated th^re was no disagreement on maintain-

ing the credit of the government.

If the Federal lieserve had anything to

reproach itself on to date, it urns the dilatory actions it had taken to
restrict bank reserves*

The System should h*v& stopped net-buying governments

en the scale it has been doing so long ago*

This, he said, under current

conditions, was tsanetisinr the debt in a way which strained the conscience of
the Open ?4arket Committee with respect to their responsibilities*

He did not

think the actions contemplated lay the Committee would impair confidence in


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-3-

the markets as aoet of these securities were mrketable and held by experienced
inv€r^feors who were used to the hazards of the market and expiated it* In fact,
he was of the opinion that elimination of existing artificialities and more
dependence on the market itself would generate confidence and improve the
outlook for the refinancing and new money issues which the Treasury would be
faced with later in the year.
16*. Me r a be spoke next. He started off by stressing the element of time.
He was interested in the memorandum the President had read from* and he would
be particularly pleased to have the support of other agencies of the Government
for increased reserve requirsments. Up to date, he had never been able to
obtain any support for this. However, he was concerned at the moment with
the necessity for asvking a decision on operations in the market for which the
Open Harket Committee was pressing.
He then spoke of the fine work that h&d been done by Bill Martin and
Win Rlefler in trying to see if there was an area of agreement that could
be worked out. He thought both Treasury and Federal Reserve were opposed
to monetiration of debt and they ought to be able to ret together on a
program.
He stressed the fact that life insurance companies and corporations
and oth r l&rfe non-benkin- investors had purchased the Ions;-term restrlcteds
at par and now were in a position to cash them in at a handsome profit to
make food on their commitments, while purchasers of savings bonds could only
cash in their securities at the face price and by sacrificing: the interest to
maturity*
Re wanted to emphasize to the ^resident the clear purpose of the Open
Market Committee to maintain an orderly and stable market but to depend as


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-4-

far as possible on the judgment of the market itself.

The Federal reserve had

a statutory respossibility jiven to it by Congress, and he felt that they must
act on their judgment in the matter and despite his best efforts, he had been
unable to arrive at an understanding with the Secretary of the Treasury, who
is now in the hospital. He urns Tery sorry the Secretary was in the hospital,
but thought that tiiae was very important and they ou=i;ht sot to be adked to
delay indefinitely. Mr. Foley had called him and suggested that they might
delay two weeks which, coming on top of a previous delay of two weeks, meant
roughly thirty days without any action. He urged the President to appreciate
how sincere they were in endeavoring to stop inflation and protect the
purchasing power of the dollar but how apprehensive they were about the way
things were developing*
Mr. Foley spoke next* He said he wanted to clarify a point Mr. JacCabe
had made with respect to the Secretary which was perhaps due to a aisunderstandinf>

It was possible the Secretary sdght be able to engage im negotiations

before two weeks were up but he had expressed to Mr* McCabe, whoa he had tried
to get repeatedly over the weekend without success until late Sunday evening,
how anxious he was aot to upset the Secretary unduly. On Friday neither he
nor Mr* Martin had been able to see the Secretary as there was some evidence
that a possible hemorrhage sight occur in the eye and the Doctors refused to
permit anyone to see him. The constant visits for instructions which he
and Mr* Martin and others in the Treasury had been forced to aake during the
past week had unquestionably retarded his recovery and in asking for two weeks
tiiae of Mr. McCabe, he was merely making; an estioate of what he thought would
be desirable without intend!a to close th« door to negotiations more


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-5-

He then stated the Treasury's fear that lowering the peg* in the longtarn restricted issues would unsettle the market, bring an avalanche of
selling-, and seriously iapair public confidence in the issues.

He said the

debt was very large and that we were very apprehensive of creating any unnecessary danger which would sake it difficult to refinance or obtain new
money.

He pointed out that the debt was now |2S7 million and a panic In the

amrket would be a catastrophe*
He stated th&t the conversations which had been conducted at the
technical levels appeared to be laaking some progress and there was a fine
spirit of cooperation and good will on both sides.

He hoped that these could

be continued and that ultimately they might be brought to a successful understanding which would benefit both the Treasury and the Federal.

He thought

it vital that everything possible be done to aaintain stability in the market.
Mr* Keyserling spoke next.

He said he had listened carefully to what

had been said by his colleague Mr. Clark, Mr. SprouX, Mr. McCabe, and
Mr. Foley and without commenting on wh&t had be«n said, he wanted the President
to know th&t he didn't think the problem was being faced*

Be felt that it

mis important to determine whether there was a forum or vehicle by which two
clearly opposing positions could be resolved b\ ment of good will.

He took

that to be the purpose of this meeting, and he thought it important that a
real effort be made to work out this specific problem.
the President then commented that he thought it was very important to
work it out and was very vital to Mr. Alison's work, and he was very anxious
to get everybody together — that's why he was asking for this frank discussionBe was not trying to reach a decision today but hoped this would not work out
the way Ifage Stabilization did where a flf 5 ht had developed with everyone


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-6-

resigning;*

He didn't want to take arbitrary action, but he had certain

powers and there came a point when he would have to exercise then*
Mr. Wilson spoke up — said he didn't think it was necessary to delay
this ruatter too long, and he wondered if we couldn't contact the Secretary
of the Treasury about this particular natter promptly.

Mr* Foley inter-

jected that he WAS sure that could be done, and he hoped that if Mr. Wilson
would undertake to £et the bail in motion and ~et the task forces or subcooaittees set up* he knew the Secretary would be most appreciative.
There seemed to be general agreement that this would be a good idea
and the meeting broke up a little after twelve with the President asking:
that an effort be made to report to him as promptly as possible*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

K«C. Martin, Jr.

February 26, 1951

MEETING IN CABINET ROOM
WHITE HOUSE
11*00 A.H.-12jOO M.

Present -

The
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
ttr*
Mr.
Mr.
Mr.
Mr.

President in the Chair
C. E. Wilson, Director, Office of Defense Mobilisation
Leon Keyserling, Chairman, Council of Economic /dvisers
John D. Clark, Council of Economic /dvisers
Roy Blsu, Council of Economic Advisers
Harry McDonald, Chairman, SEC
Thomta MoCabe, Chairman, FR8
/IIan Sproul, President, New York Federal Reserve
Edward Foley, Under Secretary of Treasury
?m. McC. Martin, Jr., Assistant Secretary of Treasury
Charles Murphy, white House Staff
David Bell, *hite House Staff

The President opened the meeting in the raost pleasant and conciliatory
manner, and stated that he had been worried with this problem for some time
and wished to get this group together for the purpose of frank and open
discussion of the problems.

He said that the RFC (obviously mis-spoken as

he oleerly intended the CEA) and the Treasury Staff had been working on some
ideas which seemed to hiai to make a lot of sense and so he wanted to take
the liberty of reading them to the group.
This he did, very clearly and with emphasis on certain points, such as
the importance of the public credit of the United States, which he said
several times was vital to Mr. 'ilson's work, and so important that unless it
were maintained the Russians would have achieved their purpose completely*
Mr. Wilson nodded agreement*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-2-

After the President finished, he said that he wanted frank and open
discussion of the ideas in the memorandum.
Mr. McDonald opened the discussion by passing around a memorandum on
the volume of new securities and indicating thet Municipal financing in
particular had boomed. The President thought this very interesting*
Mr. Clark spoke next. He said the President's comments made good sense
to him and recalled historical situations, such as the one calling for the
creation of the Federal Reserve System and the Banking Act of 1933*

He felt

we mifht have a similar type of situation today and the powers required to
meet the current problem should be studied* He thought the Treasury position
in the matter of interest rates sound and appropriate in the lip-ht of
mobilization efforts and the Federal peserve certainly ought not to drive
rates up by selling in the market and should work with the Treasury to keep
confidence in a stable orderly market and that later in the year after tax
receipts which were goin?; to be large wherein more money for investment would
appear and the financing problem would be possible of solution at current
levels.
Mr. Sproul spoke next. He stated there was no disagreement on maintaining the credit of the government.

If the Federal Reserve had anything to

reproach itself on to date, it was the dilatory actions it had taken to
restrict bank reserves. The System should have stopped net-buying governments
on the scale it has been doing so long age* This, he said, under current
conditions, was monetizing the debt in a way which strained the conscience of
the Open l^arket Committee with respect to their responsibilities*

He did not

think the actions contemplated by the Committee would impair confidence in


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-3-

the markets as most of these securities were marketable and held by experienced
inveftors who were used to the hazards of the market and expeeted it*

In fact,

he was of the opinion that elimination of existing artificialities and more
dependence on the market itself would generate confidence and improve the
outlook for the refinancing and new money issues which the Treasury would be
faced with later in the year.
Mr* MeCabe spoke next*

He started off by stressing the element of time.

He was interested in the memorandum the President had read from, and he would
be particularly pleased to have the support of other agencies of the Government
for increased reserve requirements.
obtain any support for this.

Up to date, he had never been able to

However, he was concerned at the moment with

the necessity for making a decision on operations in the market for which the
Open Market Committee was pressing.
He then spoke of the fine work that had been done by Bill Martin and
Win Riefler in trying to see if there was an area of agreement that could
be worked out.

He thought both Treasury and Federal Reserve were opposed

to monetization of debt and they ought to be able to get together on a
program.
Re stressed the fact that life insurance companies and corporations
and other larfe non-banking investors had purchased the lon?;»tera restricteds
at par and now were in a position to cash them in at a handsome profit to
make rood on their commitments, while purchasers of savings bonds could only
cash in their securities at the face price and by sacrificing the interest to
zaaturity.
He wanted to emphasize to the President the clear purpose of the Open
Mftrket Committee to maintain an orderly and stable market but to depend as


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-4far as possible on th« judgment of the market itself. The Federal Feserve had

a statutory responsibility ^iven to it by Congress, and he felt that they must
act on their judgment in the matter and despite his best efforts, he had been
unable to arrive at an understanding with the Secretary of the Treasury, who
is now in the hospital. He was very sorry the Secretary was in the hospital,
but thourht that time was very important and they ought not to be adked to
delay indefinitely.

Mr. Foley had called him and suggested that they mi^ht

delay two weeks which, coming on top of a previous delay of two weeks, meant
roughly thirty days without aay action. He urged the President to appreciate
how sincere they were in Endeavoring to stop inflation and protect the
purchasing power of the dollar but how apprehensive they were about the way
things were developing.
Mr. Foley spoke next* He said he wanted to clarify a point Mr* McCabe
had made with respect to the Secretary which was perhaps due to a misunderstanding. It was possible the Secretary might be able to engage in negotiations
before two weeks were up but he had expressed to Mr. McCabe, whom he had tried
to get repeatedly over the weekend without success until late Sunday evening,
how anxious he was not to upset the Secretary unduly.

On Friday neither he

nor Mr. Martin had been able to see the Secretary as there was some evidence
that a possible hemorrhage mifht occur in the eye and the Doctors refused to
permit anyone to see him. The constant visits for instructions which he
and Mr* Martin and others in the Treasury had been forced to make during the
past week had unquestionably retarded his recovery and in asking for two weeks
time of Mr. McCabe, he was merely making an estimate of what he thought would
be desirable without intending to close the door to negotiations more
immediately.


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-5-

He then stated the Treasury's fear that lowering the peg* in the longterm restricted issues would unsettle the market, bring: an avalanche of
selling, and seriously impair public confidence in the issues.

He said the

debt was very large and that we were very apprehensive of creating any unnecessary danger which would make it difficult to refinance or obtain new
money.

He pointed out that the debt was now £257 million and a panic in the

market would be a catastrophe*
He stated that the conversations which had been conducted at the
technical levels appeared to be making some progress and there was a fine
spirit of cooperation and good will on both sides*

He hoped that these could

be continued and that ultimately they raipht be brought to a successful understanding which would benefit both the Treasury and the Federal.

He thought

it vital that everything possible be done to maintain stability in the market,
llr. Keyserling spoke next.

He said he had listened carefully to what

had been said by his colleague Mr. Clark, Mr. Sproul, Mr. McCabe, and
*

Mr. Foley and without commenting on what had been said, he wanted the President
to know that he didn't think the problem was being faced.

He felt that it

was important to determine whether there was a forum or vehicle by which two
clearly opposing positions could be resolved b> men^t of good will.

He took

that to be the purpose of this meeting, and he thought it important that a
real effort be made to work out this specific problem.
The President then commented that he thought it was very important to
work it out and was very vital to Mr. Wilson's work, and he was very anxious
to g«t everybody together — that's why he was asking for this frank discussion*
He was not trying to reach a decision today but hoped this would not work out
the way Wage Stabilization did where a fight had developed with everyone


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

-6-

resigninf*

He didn't want to take arbitrary action, but he had certain

powers and there came a point when he would have to exercise them.
Mr. Wilson spoke up — said he didn't think it was necessary to delay
this matter too lonp, end he wondered if we couldn't contact the Secretary
of the Treasury about this particular matter promptly*

Mr. Poley inter-

jected that he was sure that could be done, and he hoped that if Mr. Wilson
would undertake to get the ball in motion and ?:et the task forces or subcommittees set up, he knew the Secretary woulr? be most appreciative.
There seemed to be general agreement that this would be a goo^ idea
and the meeting; broke up a little after twelve with the President askinf
that an effort be made to report to him as promptly as possible*


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

ifrrtin, Jr,

APR 4 1950
Lines of Approach to Convertibility
There seem to be developing several possible approaches to the
objective of convertibility. Some of these are:
1. The expansion of the use of inconvertible sterling as widely
as possible, in the hope that it will then be easy at some stage
to make sterling convertible. This assumes that the British
can be persuaded that it is to their advantage to make the final
shift from inconvertible sterling to convertible sterling.
2. The improvement of the bargaining power of the non-sterling
countries and the sterling area countries against Britain, by
various means. This approach now appears to be favored by EGA
and given expression in its proposals for a EPU. However, there
is little indication that it is expected to carry so far as to
divert dollars to a greater extent to the European participants
on iiie continent at the expense of the U.K.
More fundamentally, there appears to be a good deal of uncertainty
as to whether the objective of convertibility is best approached by liberal
assistance to foreign countries which should make it possible for these
countries to accumulate reserves as a cushion against the dangers of
convertibility, or whether the objective is best approached by rather
limited dollar assistance which forces countries to become more competitive
with the dollar area. The second course makes more rapid progress towards
the fundamental economic adjustments which must be made to establish firm
underpinning of the current account balances in the international financial
picture. It is, however, productive of increased controls and vigorous
public planning as a result of the competitive scramble to earn dollars
and to avoid dollar payments.
On the other hand, the first approach, while easing the risks of
movement toward convertibility, tends to produce both in the minds of public
planners and the private sector, a tendency to drift along with an inconvertible system and to hope that dollar needs will continue to be met
by some form of U.S. assistance. It is also not certain that in fact a
great deal more relaxation of bilateral arrangements will accompany such
an approach, merely because it makes the risks of abandoning bilateralism
less pronounced. The advantages to themselves of bilateralism apparently
are becoming more and more clearly evident to such countries as the U.K.
It may be that the resolution of this dilemma could lie along the
following lines. To the extent possible, E.S. assistance might be diverted
from the stronger countries to the weaker countries but provided insofar


http://fraser.stlouisfed.org
Federal Reserve Bank of St. Louis

as possible in the form of transferable dollars. Under this arrangement,
the stronger countries would be under increasing pressure to compete to
earn dollars and thus to improve their fundamental economic position.
This tendency would be reinforced by their desire to earn some of the
large volume of free dollars which is now provided by U.S. imports from
Latin America and Canada. A beginning toward this approach could be made
through the Payments Union, which makes possible the setting up of a pool
of free dollars from the EGA appropriation. The stronger countries could
have their direct allocations reduced to provide the larger portion of
this pool, and could be required to earn what they obtain from the pool.
At the same time any program of assistance by the U.S. to Asia could assist
in this process, especially if it were possible to provide any transferable
dollars to Asia*
In general this approach suggests that it may be desirable first to
produce fully competitive and strong economies in the stronger countries
before trying to deal directly with the financial barriers to convertibility.
Once the countries have become really competitive with the dollar area, then
attention may be devoted to an improvement in their reserves which would
facilitate the assumption of convertible obligations if they could be
persuaded to do so. In general, therefore, the broad principle might be
enunciated that progress toward convertibility may best be furthered by
the U.S. through providing a maximum amount of transferable dollars to
the weaker countries, both through financial assistance and through imports,
while restricting to the minimum dictated by political considerations the
dollar assistance given directly to the stronger countries of the world.
It must be recognized, however, that this approach recognizes a
continued dependence of the weaker areas on U.S. assistance. It tends to
move away from the opposite concept that the weaker countries should begin
to earn their dollars from stronger countries such as the sterling area.
Perhaps, therefore, there could be a second stage of the program, comprising
a direct convertibility drive, which might follow the attainment of full
competitive status by the stronger countries.


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Federal Reserve Bank of St. Louis