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November 17, 1921.

My dear Professor King:

When I received and read youp-IOng letter of November 13, frankly, my
ealizing that I had imposed upon you a task of writing

conscience emote me hard in

It was indeed most kind of you not only to read the

such a long letter by han

\your letter certainly deserves an

statement, but to commelt upon it so full

extended reply, but iyorder that it may be r
receive and hold it

ably complete /I must ask you to

contehte in confidence.

First, p ease bear in mind that the scalp*

was a very long


was limited by the time allow

necessity for de ling specifically with nit

trolling at that timeiil but




so important.

in the Treasur

especially the post-war per*od.

with the utmos

ecessity for loyaL

other was naturally impoeed upon me b

policies of that year, with


in New York, which m

for me to deal with cer ain parts

whom I had been associate

by the Commission and the


ow wo ld not

dangeroue financ

a very

my statement, which necessarily

rs whiCh had been critici ed by Mr.


Williams and others, an4 also


hich were cone of them was

e it necessary


to those with

artment during ..he war period, and

I refer specifically to tI

year 1919. and the

hich I was very much out of sy,Mpathy during the greater

part of the time.

It seemed to me that n

argument as to the Tre Bury's policies of the

year 1919 was permitted by me so long as Secretary Glast and Mr. Leffingwell were
available to the Commission, and especially, as I explained to the Commission, when
I had occupied the position specified

of the Treasury rather

than a



the Federal Reserve Act of being the agent

Professor King

November 17, 1921.

With this preliminary comment, which is necessary to an understanding of

Omy personal position, let me add that almost every question raised by

your letter,

4, in order to be accurately answered, requires consideration of the circumstances and

of public opinion at the time, and of what is practicably possible contrasted with
what is theoretically perfect.
Should the government have taxed more and borrowed less?
that is Yes, had it been possible.

The answer to

My thoughts in regard to the policy of taxs-

tion during the war were, I may say, almost entirely controlled by the influence
of Professor Adams' book "Public Debts," and his admirable chapter upon Secretary
Chase's policy in financing the Civil War.


If you will, however, refresh your

to the state of mind of the public, the temper of Congress, the difficulty

of getting legislation of the character required through Congress, I think you will
agree that while more might have been done, what was done was extraordinary when
one oc,ntracts the failurelof the Civil War period, and the equally disastrous -failures

of the European belligerent nations.

Over and over again the policy of high taxes

was urged upon Congress by Secretary McAdoo, and was energetically supported by the
managers of the Federal Reserve System.
the year

The program for taxation recommended for

1918-1919 contemplated revenues of $8 billions from taxes.

The approach-

ing conclusion of the war resulted in a modification of the program to $6 billions,
as was finally adopted.

My own view as to whether the people did save all the expense of the war while
the war was going on is slightly different from what is implied by your question.
did furnish all of the services and they did produce


all of the materials required for

the war during the war period.

That is certainly true; but what they did not do was
to reduce their own consumption so that what was consumed by the war was not-treated-



future payments, as would have been the case had taxation covered exA



but after all, could taxation have covered the entire expendPiure?

Theoretically, I admit that it could, and cited the example of warfare in feudal

Professor King


days to illustrate the point.


November 17, 1921.

But on the other hand, what is theoretically possible

and what is practicably possible are two very different things, and I doubt whether


taxation to the extent required would have been politically and socially possible.
This can be only a bare expression of opinion.

This, in a measure, answers your next question as to the limitation of
the supply of circulating medium.

Leaving out the

influence of

additions to our

gold and the inflationary effect of gold imports, I personally believe that more
could have been done after the war ended toward limiting expansion and inflation
than was done.

Very little,if anything, more could have been done during the

period of our belligerency, and under the existing state
entry we were really powerless to do anything.


the law prior to our

The figures prepared at the bank

indicate that the greatest expansion took place before we declared war; the least
expansion during our participation in the war; and a considerably greater expansion
ibuk kuttuter, 4107 '1411.17
subsequent to the conclusion of the warI\ The first two periods were the most

difficult to deal with.

The last period could have been dealt with in my opinion

by a different policy had the Treasury and Congress been willing to adopt it.
My belief is (and of course I am expressing but my personal opinion) that
the risk should have been assumed of a high rate policy commencing in March of 1919.
What the consequences would h9-ve---been can only be surmise.

We would have prevented

a considerable part of the advance in prices, which in fact had considerably declined between January and April in 1919.

The arguments of the Treasury against

that policy were principally two: One was that the declimin the values of Liberty
bonds, as the result of t

higher interest level, would cause a demand



for refunding the entire war debt, which was regarded as an impossible operation
and one necessitating gross injustice to those who subscribed at par and sold at

a discount, and an unwarranted profit to those who had not subscribed at par but
who had purchased at a discount.

You will recall that the Treasury was borrowing

constantly increasing amounts until September 1919.

The second argument was that

Professor King

November 17, -1921.

,v /we were faced with an imminent and sudden reduction in our export trade, with the


0poseibility of goods piling up at home and causing heavy price declines anyway.


Possibly, writing with more frankness than I should, I might say that neither of

these arguments h( impressed me.

I did not expect our export trade to decline,

but rather to continue for a considerable period, and I was always willing to take
the risk of Congress running away with the situation by passing some big refunding

I do not think that they would have done it; but again that is just personal


Commenting upon your question in regard to control of prices.

That is,

I believe, one of the most difficult and puzzling matters of policy with which the
Federal Reserve System deals.

ment on that point, but


I realize not only the imperfections of my statego further and say that I realize my limitations in

dealing with so important a subject; but shall try and express to you just how I
feel the attitude of the Federal reserve banks should be toward prices in general.

There are a great variety of considerations which enter into the rate
policy of the Federal reserve banks;

The state of reserves, whether gold is being

imported or exported; whether the country is in a speculative or in an apathetic
state of mind; whether prices are advancing or declining; whether there appears to
be over-production or under-production; whether the general level of interest rates
is much above or much below the discount rates at the reserve banks; &c. &c.


it comes to the question of prices, it seems to me that we should consider movements
of prices in their relation to our discount rates, to our volume of discounts, to

market rates for credit, c., as being a reflection of our policy, rather than a
primary cause of action.

It is difficult to express by dictation, but what I have

in mind is that it is the movement or trend rather than the absolute figures of
the moment, which should determine our policies.

If our discounts are expanding,

if our rates are getting below- the market, if prices are advancing, if the

speculative temper has developed, then rates should be advanced.

Not only all of

these considerations together, but possibly only one or two would be justification

Professor King


.or advancing rates.

November 17, 1921.

The converse of that is true to some extent as to possibly

/all of the factors that I have named, excepting declining prices.





necessarily be our policy to promptly reduce discount rates just because prices
decline; in fact, a declining of prices is likely to reach considerable proportions
before actual liquidation of the volume of credit takes place,

assuming, of course,

that we escape, as we should, a panicky, perpendicular liquidation with a large
volume of distress sales of securities and goods.

On the whole, I think the

policy of the Federal Reserve System will be safer and less liable to political
attack if the attention of the country is focused more upon the state of our
reserves, the volume of our loans, and the cost of credit, than it will be if we
frankly assume to direct our policy toward regulating prices.

This is a country

of a great variety of economic interests; when cotton is prosperous, cattle may be
prostrated; when manufacturing is prosperous, agriculture may be in difficulties.
There would always be one class or another to demand that we regulate their prices.
In fact, this has been frankly stated to me at the Capitol by those who are thinking
sectionally rather than nationally.

So, admitting, if you please, the effect of

our policy, its reflection in the price level, will it not be safer in the long run
to direct our policy toward regulating the volume of credit (certainly in public
discussions of the question) rather than to direct our policy to the direct regulation of prices.


This argument may seem to you a bit specious, but I can assure

you that it is practicable, with my experience 4141"-the temper of Congress


the past ten months.

As to the world reaching a state of production beyond the power of consumption.

I should say that the answer to that is more


than actual.

We do know that people influenced by fear, propaganda, or for some one or another
reason, at times are driven to practice unusual economies,
tinuespand a great surplus of goods accumulates.
of mind rather than an economic condition.

while production con-

It is a reflection of a state

I believe, generally, that the world

Professor King
just about capable of consuming all that it is

November 17, 1921.


of producing, so long

as one admite that the state of society is such as to support itconstantly elevating
standard of living.

In fact, as to that whole line of inquiry in your letter, I

attach much more importance to the influence of the state of mind of the people,
than I do to the theoretical


in a theoretically perectly organized

state, where the influence of fear, or the influence of the anticipation of future
events, so strongly controls what people du.


Expressing it differently, I think,aal of the losses and suffering in the
past two years could have been escaped if two things


possible of accomplishment:

One, if the volume of credit and the level of prices could xe reasonably maintained

at that established in the spring of 1919; and second, if the minds of the people of
the country could have escaped the influence of what was happening in other countries,
where less fortunate conditions led to the breakdown in Japan in the East, and somewhat later in Europe.

I have answered your inquiry as to the rate policy of 1919, excepting as
to the suggestion that rates might have been raised to any heights necessary on all
forms of borrowing, excepting those secured by government collateral.

There, I

think practical experience has completely demonstrated not only to us in New York,
but to the managers of the other reserve banks, that these differential rates are
wholly wrong and ineffective.

Had we established a 7% rate on commercial borrowings,

and maintained a 4% rate upon loans secured by government bonds and notes, in the
spring of 1919, within two or three months all of our loans would have been secured
by government bonds at the 4% rate; and the converse would have been true bad we
made a 7% rate on government loans and a 4% rate on commercial loans.
simply borrow in the cheapest form in which they can.

The banks

The only differential in

rate, which our experience indicates is justified, is that applyircfof the period.
for which the loan is granted.

The enormous volume of the government's borrowings

would have afforded ample means


all that they wished at the low rate.

all of the banks of the country to have borrowed
To escape the 1919 expansion, it would have


Professor King
Jen necessary to have advanced all rates.

November 17, 1921.

That is a matter which I believe the


410Treasury never understood until the spring or fall of 1920.

The object of my statement in differentiating speculation from business
enterprise was to remove from the minds of the members of the Commission what I
believe was a very erroneous impression of the policy of the bank in New York.

Please bear in mind that having been deprived of the opportunity of controlling
the expansion of credit by the employment of higher discount rates, it was necessary

to do the best that we could do by direct control.

The best example that I could

give to the Commission was the control which we exercised over the stock market

Of course, I admit that all business contains in a greater or leaser

degree some element of spSculation, but having found ourselves unable to effect
a complete, democratic and universal control by interest rates, we had to take hold

of each department of enterprise by the best means we could devise, and in the case
of the stock exchange we did it in the way described in my statement.

It was a

poor plan at best, and I hope never to be called upon to attempt it Again.
I Agree with you that if expansion could have been prevented in 1219, our
policy in 1920 could have been reversed, probably with salutury effects.
It is difficult in a letter of reasonable length to answer your inquiry
about my optimism as to prices being brought to a new stabilized level.
Some time
t51-- 01P
I hope we can discuss this
-y' attempt to describe _tbsit. Xa very spotty development.

What I think you may safely imply from my statement is that with the

policies of the Treasury no longer controlling, it is at last possible for us to
be a greater influence in stabilizing prices and promoting, generally, more stable
business and price conditions, than was possible during any of the periods that I
described in my statement.

Without going too far in the implication, your question

might have been framed that I was unduly optimistic in expressing an intention to
endeavor to accomplish a better stabilization of prices and conditions.

It is not

an attitude, however, which I would care to emphasize publicly, as I believe it is
filled with possibilities of danger to the Federal Reserve System.


Professor King

November 17, 1921.

This I fear is a very inadequate reply to your rather searching questions,
hich I hope some day to answer verbally.

In conclusion; as to the future, I be-

. lieve that you and the good men of your profession live in an atmosphere which deprives you of the opportunity of forming judgment on two important aspects of our
work: One is what I might describe as the practical manipulation of rates, and the
effect of it.

We have started a vast and complicated organization, with mixed

powers and influences, with very little experience to go by and that of an unusual
and extraordinary character, and now that we have achieved a position of greater
freedom we must cautiously feel our way along and see what are the practical results
of the policies adopted from time to time.

They are the problems which I would

describe as the operating problems as distinguished from the theories.

But another

and more important influence is that which relates to the protection and permanence
of the System.

There is the densest ignorance in Congress, and generally throughout

the country, as to what the Federal Reserve System can do and what it can not do,
of its purposes and its policies.

Selfishness, ignorance andintolerance,prejudiced

criticism, with attacks of demagogs, political ambitions, and all sorts of influences,

awitirtrarealply-s-v- and

Orill\al.11..".y9 be in the background of our affairs until the

Federal Reserve System has a great tradition behind it and is held in public esteem
as being sacred from attack.

We must always have in mind that Congress has the

power to sweep us out of existence or to change us from what we now are to something
that would be monstrous and dangerous.

From this you must not gather that I am

influenced in the slightest degree by political considerations; they have no part
in our policies.

But I am, and always will be, influenced by the possibilities of

real dangers to the System, and those I can assure you during the past twelve months

have been greater than any of our University men have realized.

My attitude to the

Commission before which I appeared was to leave our critics alone, and to endeavor
to lay before the Commission as sound and well supported information as we had at
our command on the subjects in which they were interested, and endeavor to get as
favorable report as possible.

This explains much that is missing from the

Professor King


November 17, 1921.

statement, anti in general much of my attitude in dealing with the question of the

relations between the Treasury and the Federal Reserve System.
One influence which has been strongly in my own mind during the past few

months in adopting a policy of lower rates, has been the need for opening our
markets to foreign credits.

I cannot go into the detail of this situation in thi

letter, but I think I should say to you frankly that there is gradually looming up
ahead of us a new danger, and one with which we must reckon.

This country cannot

afford to absorb the world's entire gold production, to gather in most of the gold

which now serves as bank reserves in Europe, and lock it away withoutAperforming
any function.

If the Government of the United States determines to start the

collection of interest upon loans made to the Allied governments, we will undoubte dgold stock.
le mill see increasing pressure for
ly see further great additions to our bank's international currencies, and all sor ts

of batten schemes.

Such men as Professor Cassel, Senator -Hitchcock, Mr. F. A.

Vanderlip, and many others

that I could name, are coming forward with

the restoration of stable conditions; in other words, for the accomplishment of th

I am only suggesting to your mind What I fear will be the next form

of attack upon the Federal Reserve System.

There is no danger of abuse of our

facilities at the present level of discount rates, and there is the possibility of

our facilitating the world's recovery in a sound way, and we have the power and
intention, when the need arises, to advance our rates.

Please overlook this very hastily dictated letter, and give me the pleasure
of a call at the bank some day when we may have lunch and discuss these matters
more intimately.
Yours sincerely,

Professor Willford I. King,

7 S. 23rd St.,
Flushing, N. Y.


January 30,

My dear Professor King:

You must have wondered why you have
you were kind

enough to write me on

received no

and only to-day have

returned to

I did dictate a reply on November

November 13.

17, but a few days afterwards I was obliged to go

the office.

reply to the letter which


the hospital

In the

for an operation,

meantime, having been prohibit-

ed from all work I was unable to read over the letter which I had dictated and send

it to you, and now

it ie somewhat out of

It will be so



much more satisfactory if we could have a talk of sufficient

cover all the ground dealt with in your letter.


feel so pleased that

you should have taken the trouble to write me so fully, and in longhand, that I

not want you

feel that your kindness is not


One point only I



must refer to in this letter.

It bears upon


question which your letter raises.

during the

war, or the


immediately subsequent to


Armistice, the

managers of

itself, should

have found what they believed to be just ground for disagreement with

the Federal

reserve banks, or the


Reserve Board

the policy of the Secretary of the Treasury, and should have positively declined to
develop a policy reasonably
happened to the



Reserve System?

Would the Federal Reserve Act have been

provisions of the Overman act have

with the Treasury's policy;

what would have

Would we have remained in existence?
materially modified by legislation?



Nould the direction of the

Federal reserve banks be under the direct control of the Secretary of the Treasury?
dould the members of the Federal Reserve Board have

new members appointed?

been removed

from office and

In fact, /hat would have happened no one can say.

But I


Professor King

January 30, 1922.

maintained at that time, and since have no reason to change my view, that the policy
of the Federal Reserve System could not be made practicably and effectively to
dominate the policy of the Secretary of the
years long gone by,


I eau


recall reading in

reference either by Palgrave or Bagehot to exactly similar

conditions as those Wech prevailed in the period dealt *ith, and in language which
1 cannot exactly recall, but somewhat as follows:

"Nhen war ariees,

the sineter hand of the Finance Minister reaches out to

the central bank."

So it may seem to be the case pith us.

this creature of Congress to do?

But even were it a sinEter hand, that was

Engage in propaganda to defeat Policies not only

sanctioned but made mandatory by Congress and by the various bond bills.

Frankly, I cannot see the force of the argument that "the
possibly wag the dog."

tail could

I recall bearding such a description as this applied to the

lelation of Austria to Germany

by Dr. Henry Van Dyke, vho

very aptly said that "while

the tail cannot gag the dog, this did not necessarily give

ground for a feeling of

contempt for the tail."

It must be recalled that
eld during the year


the period of our participation in the war,

1919, Treasury affairs

aed personality, and who I have

were run by two men of strong character

always believed exercised discretion, so far as

Congress permitted, with the highest minded purposes of doing the best that could
be done.

Then ve disagreed vith them,

is said so frankly.

ments, which naturally arose one time or

Nhen these dieagree-

another, came to an issue, the choices were

assent, compromise, or resiEtenoe. My on belief *as, and still Is, that of the
three courses resietence 46.6 the most dangerous and would have been the most futile.,
But in point

of fact, no serious differences arose

between the Secretary of the

Treasury and the reserve system management until the year 1919, and then they were
of a character most difficult to deal vith; and they vere in fact dealt with more
by lay of compromise than by either of the other courses.
my statement to the Commission, and I

of viem should

have been

as most anxious

exposed to the Commission by

Thie was suggested in

theft the Treasury's point
either Senator Glass or Mr.

Professcr King


January 30, lin?.

Time not permitting that, I oauld only introduce Mr. Leffingmell's


public statement, Dr. Miller's address, and Professor Snrague's admirable paper.

Cat I was unwilling to do, and am &till unwilling to do, is to turn upon my associates of that most difficult and trying time, and charge them with responsibility
for decisions which wa all should share together,

and especially, as in

the case of

one of our prinoipal critics, make charges of bad faith.
I have erittan you with somewhat more frankness than I have ever written
to anybody on this subject, and am led to do so

by the cordial and frank character

of your letter, which you took so much paths to write me.
please consider this letter as

You will'


quite confidential and persona]. for yourself.

would rather resign my position than start /104 to blame those with whom I was

associated during the war,

even though I disagreed

with them at that time and said


lilt you not at some early opportunity telephone
and then make

anappointment to lunch with me there,

in taking you through the


and I will find so much pleasure

and giving you in that way some idea of the

immense affair it has become.

with cordial regards, believe me,
Yours sincerely,

Professor 4illford
78 S. ?3rd St.,
Flushing, Pi.


I. King,

or write me at the bank,



February 14, 1922.

My dear Professor King:

Thank you for your note of the 12th
shall ask my secretary

just received.

to mnke an appointment with

you for some

day next week, as this week seems to be rather crowded with

My thought was to arrange, if poshible, for you to
reach the bank not

departments at

later than

11 o'clock, as certain of our

about that time are

the day's business.

at the peak of

the load of

After going through a few or the de-

partments of the bank we can have lunch in the building and

have a little discussion of

the subject of our recent corres-



Professor Wilrford I. King,
76 S. 23rd St.,
Flushing, M. Y.




Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102