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€/fnnual
TZeport
V J

1997

Board of Governors of the Federal Reserve System



This publication is available from the Board of Governors of the Federal Reserve System,
Publications Services, Mail Stop 127, Washington, DC 20551. It is also available at the
Board's World Wide Web site, at http://www.bog.frb.fed.us/




Letter of Transmitted

BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM

Washington, D.C., May 28, 1998

THE SPEAKER OF
THE HOUSE OF REPRESENTATIVES

Pursuant to the requirements of section 10 of the Federal Reserve Act,
I am pleased to submit the eighty-fourth annual report of the Board of Governors
of the Federal Reserve System.
This report covers operations of the Board during calendar year 1997.

Sincerely,




Contents
Part 1

3

Monetary Policy and
the U.S. Economy in 1997

OVERVIEW: MONETARY POLICY AND THE ECONOMY IN 1997

7
7
10
12
14
16
18

U.S. ECONOMIC AND FINANCIAL DEVELOPMENTS IN 1997
The household sector
The business sector
The government sector
The labor market
Prices
Credit, money, interest rates, and equity prices

25
26
28
30
31

INTERNATIONAL DEVELOPMENTS IN 1997
Foreign economies
U.S. international transactions
Foreign exchange developments
Foreign exchange operations

33 MONETARY POLICY REPORTS TO THE CONGRESS
33 Report on February 26, 1997
53 Report on July 22, 1997

Part 2

Records, Operations,
and Organization

81
81
81
82
83

RECORD OF POLICY ACTIONS OF THE BOARD OF GOVERNORS
Regulation B (Equal Credit Opportunity)
Regulation C (Home Mortgage Disclosure)
Regulation D (Reserve Requirements of Depository Institutions)
Regulation D, Regulation I (Issue and Cancellation of Capital Stock
of Federal Reserve Banks), and Rules Regarding Delegation of Authority
83 Regulation E (Electronic Fund Transfers)




RECORD OF POLICY ACTIONS OF THE BOARD OF GOVERNORS—Continued
84 Regulation G (Securities Credit by Persons other than Banks, Brokers, or Dealers),
Regulation T (Credit by Brokers and Dealers), Regulation U (Credit by Banks
for the Purpose of Purchasing or Carrying Margin Stocks), and Regulation X
(Borrowers of Securities Credit)
84 Regulation H (Membership of State Banking Institutions in the Federal
Reserve System)
84 Regulation H and Regulation K (International Banking Operations)
85 Regulation H and Regulation Y (Bank Holding Companies and
Change in Bank Control)
85 Regulation J (Collection of Checks and Other Items by Federal Reserve Banks and
Funds Transfers through Fedwire)
86 Regulation M (Consumer Leasing)
86 Regulation O (Loans to Executive Officers, Directors, and Principal Shareholders
of Member Banks)
87 Regulation Q (Prohibition against Payment of Interest on Demand Deposits)
87 Regulation Y
88 Regulation Z (Truth in Lending)
88 Regulation CC (Availability of Funds and Collection of Checks)
88 Rules Regarding Delegation of Authority
88 Rules Regarding Availability of Information
89 Policy Statements and Other Actions
89 1997 Discount Rates
93
93
95
95
97
98
98
114
123
132
142
151
159
168

MINUTES OF FEDERAL OPEN MARKET COMMITTEE MEETINGS
Authorization for Domestic Open Market Operations
Domestic Policy Directive
Authorization for Foreign Currency Operations
Foreign Currency Directive
Procedural Instructions with Respect to Foreign Currency Operations
Meeting held on February 4-5, 1997
Meeting held on March 25, 1997
Meeting held on May 20, 1997
Meeting held on July 1-2, 1997
Meeting held on August 19, 1997
Meeting held on September 30, 1997
Meeting held on November 12, 1997
Meeting held on December 16, 1997




177
178
179
180
183
185
186
188
189
191
192
195
197
200
200
203
203

CONSUMER AND COMMUNITY AFFAIRS
Leasing education and regulatory changes
TILA and RESPA rules
Other regulatory matters
HMD A data and lending patterns
Fair lending
Community development
Economic effects of the Electronic Fund Transfer Act
Compliance examinations
Community Reinvestment Act
Agency reports on compliance with consumer regulations
Applications
Consumer complaints
Consumer policies
Consumer Advisory Council
Testimony and legislative recommendations
Recommendations of other agencies

205
205
206
207

LITIGATION
Bank Holding Company Act—Review of Board actions
Litigation under the Financial Institutions Supervisory Act
Other actions

211
211
211
211
212
213

LEGISLATION ENACTED
Riegle-Neal Amendments Act
Treasury appropriation for fiscal year 1998
Depository Institutions Disaster Relief Act
50 States Commemorative Coin Program Act
Sale of the Culpeper facility of the Federal Reserve Bank of Richmond

215

BANKING SUPERVISION AND REGULATION

216
222
224
229
230
232
234
239

Scope of responsibilities for supervision and regulation
International activities
Supervisory policy
Information technology
Staff training
Federal Financial Institutions Examination Council
Regulation of the U.S. banking structure
Enforcement of other laws and regulations




240
240

BANKING SUPERVISION AND REGULATION—Continued
Loans to executive officers
Federal Reserve membership

241
241
246

REGULATORY SIMPLIFICATION
Comprehensive reviews
Other regulatory proposals

247
247
249
254
254
258
259
259
260
261
261
262

FEDERAL RESERVE BANKS
Major initiatives
Developments in Federal Reserve priced services
Developments in currency and coin
Developments in fiscal agency and government depository services
Information technology
Financial examinations of Federal Reserve Banks
Income and expenses
Holdings of securities and loans
Volume of operations
Federal Reserve Bank premises
Pro forma financial statements for Federal Reserve priced services

267

BOARD OF GOVERNORS FINANCIAL STATEMENTS

275
276

STATISTICAL TABLES
1. Detailed statement of condition of all Federal Reserve Banks combined,
December 31, 1997 and 1996
2. Statement of condition of each Federal Reserve Bank,
December 31, 1997 and 1996
3. Federal Reserve open market transactions, 1997
4. Federal Reserve Bank holdings of U.S. Treasury and federal agency securities,
December 31, 1995-97
5. Number and annual salaries of officers and employees of Federal Reserve Banks,
December 31, 1997
6. Income and expenses of Federal Reserve Banks, 1997
7. Income and expenses of Federal Reserve Banks, 1914-97
8. Acquisition costs and net book value of premises of Federal Reserve
Banks and Branches, December 31, 1997
9. Operations in principal departments of Federal Reserve Banks, 1994-97
10. Federal Reserve Bank interest rates on loans to depository institutions,
December 31, 1997
11. Reserve requirements of depository institutions, December 31, 1997

278
282
284
285
286
290
294
295
296
297




298
299
300
306
307

STATISTICAL TABLES—Continued
12. Initial margin requirements under Regulations T, U, G, and X
13. Principal assets and liabilities and number of insured commercial banks
in the United States, by class of bank, June 30, 1997 and 1996
14. Reserves of depository institutions, Federal Reserve Bank credit,
and related items—year-end 1918-97 and month-end 1997
15. Banking offices, and banks affiliated with bank holding companies
in the United States, December 31, 1996 and 1997
16. Mergers, consolidations, and acquisitions of assets or assumptions
of liabilities approved by the Board of Governors, 1997

325
326
328
329
330
331
332
334
334

FEDERAL RESERVE DIRECTORIES AND MEETINGS
Board of Governors of the Federal Reserve System
Federal Open Market Committee
Federal Advisory Council
Consumer Advisory Council
Thrift Institutions Advisory Council
Officers of Federal Reserve Banks and Branches
Conferences of chairmen, presidents, and first vice presidents
Directors

355

MAPS OF THE FEDERAL RESERVE SYSTEM

359

INDEX




Parti
Monetary Policy and
the U.S. Economy in 1997




Overview: Monetary Policy and the
Economy in 1997
The U.S. economy turned in another
excellent performance in 1997. Growth
was strong, the unemployment rate
declined to its lowest level in nearly a
quarter-century, and inflation slowed
further. Impressive gains were also
made in other important respects: The
federal budget moved toward balance
much more quickly than almost anyone
had anticipated; capital investment, a
critical ingredient for long-run growth,
rose sharply further; and labor productivity, the ultimate key to rising living
standards, displayed notable vigor.
Among the influences that brought
about this favorable performance were
the sound fiscal and monetary policies
that have been pursued in recent years.
Budgetary restraint at the federal level
has raised national saving, easing the
competition for funds in capital markets
and thereby encouraging greater private
investment. Monetary policy, for its
part, has sought to foster an environment of subdued inflation and sustainable growth. The experience of recent
years has provided additional evidence
that the less households and businesses
need to cope with a rising price level, or
worry about the sharp fluctuations in
employment and production that usually
accompany inflationary instability, the
more long-term investment, innovation,
and enterprise are enhanced.
NOTE. The discussion here and in the next
chapter is adapted from Monetary Policy Report to
the Congress pursuant to the Full Employment
and Balanced Growth Act of 1978 (Board of Governors, February 1998).



The circumstances that prevailed
through most of 1997 required that the
Federal Reserve remain especially attentive to the risk of a pickup in inflation.
Labor markets were already tight when
the year began, and nominal wages had
started to rise faster than previously.
Persistent strength in demand over the
year led to economic growth in excess
of the expansion of the economy's
potential, intensifying the pressures on
labor supplies. In earlier business expansions, such developments had usually
produced an adverse turn in the inflation
trend that, more often than not, was
accompanied by a worsening of economic performance on a variety of
fronts, culminating in recession.
Robust growth of spending early in
the year heightened concerns among
members of the Federal Open Market
Committee (FOMC) that growing
strains on productive resources might
touch off a faster rate of cost and price
rise that could eventually undermine
the expansion. Financial market participants seemed to share these concerns:
Intermediate- and long-term interest
rates began moving up in December
1996, effectively anticipating Federal
Reserve action. When the FOMC firmed
policy slightly at its March 1997 meeting by raising the intended federal funds
rate from 5 XA percent to 5 Vi percent, the
market response was small.
The economy slowed a bit during the
second and third quarters, and inflation
moderated further. In addition, the
progress being made by the federal government in reducing the size of the defi-

84th Annual Report, 1997
cit was becoming more apparent. As a
consequence, by the end of September,
longer-term interest rates fell 3A percentage point from their peaks in mid-April,
leaving them about lA percentage point
below their levels at the end of 1996.
The decline in interest rates, together
with continued reports of brisk growth
in corporate profits, sparked steep
increases in equity prices between April
and September.
Even with a more moderate pace of
growth, labor markets continued to
tighten, generating concern among
FOMC members over this period that
rising costs might trigger a rise in inflation. Consequently, at its meetings from
May through November, the Committee
adopted directives for the conduct of
policy that assigned greater likelihood
to the possibility of a tightening of policy than to the possibility of an easing
of policy. Even though the Committee
kept the nominal federal funds rate
unchanged, it saw the rise in the real
funds rate resulting from declining inflation expectations, together with an
increase in the exchange value of the
dollar, as providing some measure of
Selected Interest Rates
Percent
Thirty-year
Treasury

1996

1997

NOTE. Small tick marks refer to dates in 1996 and
1997 on which the Federal Open Market Committee held
scheduled meetings. Dashed lines indicate dates of meetings at which the Committee announced a monetary policy action: January 31, 1996, and March 25, 1997. The
data are daily.




additional restraint against the possible
emergence of greater inflation pressures.
In the latter part of the year, developments in other parts of the world began
to alter the perceived risks attending the
U.S. economic outlook. Foreign economies generally had seemed to be on a
strengthening growth path at midyear.
But over the remainder of the summer
and during the autumn, severe financial
strains surfaced in a number of economies in Asia, weakening somewhat the
outlook for growth abroad and thus the
prospects for U.S. exports. The problems these economies encountered generally resulted in severe downward pressures on the foreign exchange values of
their currencies; in some cases, steep
depreciations occurred despite substantial upward movement of interest rates.
Asset values in parts of Asia, notably
equity and real estate prices, also
declined appreciably, leading to losses
by financial institutions that had either
invested in those assets or lent against
them; nonfinancial firms began to
encounter problems servicing their obligations. In many instances the debts of
nonfinancial and financial firms were
denominated in dollars and unhedged.
Concerted international efforts to bring
economic and financial stability to the
region were under way as the year drew
to a close. Meanwhile, economic activity in Japan stagnated, and the weaknesses in the Japanese financial system
became more apparent.
The difficulties in Asia contributed to
additional declines of lA to V2 percentage point in the yields on intermediateand long-term Treasury securities in
the United States between mid-autumn
and the end of the year. The decreases
were due in part to an international
flight to the safe haven of dollar assets,
but they also reflected expectations that
these difficulties would exert a moderating influence on the growth of aggre-

Overview
gate demand and inflation in the United
States. In light of the ongoing difficulties in Asia and the possible effects on
the United States, the FOMC not only
left interest rates unchanged in December but shifted its instructions to the
Manager of the System Open Market
Account to symmetry between ease and
tightening in the near term. The inflation
risk from a tight labor market and accelerating wages seemed to be roughly balanced over the near term by the effects
of a number of other factors, including
the economic weakness in Asia, a slump
in the prices of oil and other commodities in the latter part of 1997, and the
restraint on import prices from the substantial appreciation of the dollar against
most other currencies over the preceding few quarters.
•




U.S. Economic and Financial Developments
in 1997
The year 1997 was an exceptionally
good one for the U.S. economy. Real
GDP increased VA percent over the four
quarters of the year. Household and
business expenditures continued to rise
rapidly, owing in part to supportive
financial conditions, including a strong
stock market, ample availability of
credit, and, from April onward, declining intermediate- and long-term interest
rates. In the aggregate, private domestic
spending on consumption and investment rose 5 percent on an inflationadjusted basis. The strength of spending, along with a further sizable
appreciation of the foreign exchange
value of the U.S. dollar, brought a surge
of imports, the largest in many years.
The growth of exports, while lagging
that of imports, also was substantial
despite the appreciation of the dollar
and the emergence after midyear of
severe financial difficulties in several
foreign economies, particularly among
the advanced developing countries in
Asia.
Change in Real GDP
Percent, Q4 to Q4

1991

1993

1995

1997

NOTE. The data are derived from chained (1992) dollars and come from the Department of Commerce.




Meanwhile, inflation slowed from the
already reduced rates of the previous
few years. Although wages and total
hourly compensation accelerated in the
tight labor market, the inflationary
impulse from that source was more than
offset by other factors, including rising
competition from imports, the price
restraint from increased manufacturing
capacity, and a sizable gain in labor
productivity.

The Household Sector
Consumption Spending, Income,
and Saving
Bolstered by increases in income and
wealth, personal consumption expenditures rose more than VA percent in
1997. Expenditures were strong for a
wide variety of durable goods. Real outlays on home computers continued to
soar, rising even faster than they had
over the previous few years. Strength
was also reported in purchases of home
goods, and consumer expenditures on
motor vehicles more than reversed the
small declines of the previous two years.
At the same time, real expenditures on
services scored the largest gain of the
past several years, rising 4 percent.
Real disposable personal income—
after-tax income adjusted for inflation—
increased about VA percent over 1997, a
rise that was exceeded on only one occasion in the previous decade. Income was
boosted by sizable gains in wages and
salaries and by another year of large
increases in dividends.

8

84th Annual Report, 1997

Measured in terms of annual averages, the personal saving rate fell further
in 1997. The yearly average of 3.9 percent was almost xh percentage point
below the 1996 average and nearly a full
percentage point below the 1995 average. It also was the lowest annual reading in several decades. Various surveys
of households indicated that consumers
had become more optimistic about prospects for the economy, and their optimism may have led them to spend more
freely from current income. Support for
additional spending came from the
further rise in the stock market, as the
capital gains accruing to households
increased the chances of their meeting
longer-run net worth objectives even as
they consumed a larger proportion of
current income.

Residential Investment
Real residential investment increased
about 5V2 percent during 1997. Outlays
for the construction of new singlefamily structures rose moderately, and
spending on the construction of multifamily units continued to recover from
the extreme lows that were reached earlier in the decade. Real outlays for home
improvements and brokers' commissions, categories that have a combined
weight of more than 35 percent in total
residential investment, moved up substantially from the final quarter of 1996
to the final quarter of 1997. Spending on
mobile homes, a small part of the total,
also advanced.
The indicators of single-family housing activity were almost uniformly
strong during the year. Sales of houses
surged, driven by declines in mortgage
interest rates and the increasingly favorable economic circumstances of households. Annual sales of new singlefamily houses were up 6 percent from
the number sold in the preceding year,



and sales of existing homes increased
about 3 percent. House prices moved
up more quickly than prices in general.
Responding to the strong demand, starts
of new single-family units remained at a
high level, only a touch below that of
1996; the annual total for single-family
units exceeded 1 million units for a sixth
consecutive year, putting the current
expansion in single-family housing construction nearly on a par with that of
the 1980s in terms of longevity and
strength.
Starts of multifamily units increased
in 1997 for the fourth year in a row and
were about double the record low of
1993. The increased construction of
these units was supported by a firming
of rents, abundant supplies of credit, and
declines in vacancy rates in some markets. The national vacancy rate came
down only slightly, however, and it has
reversed only a portion of the sharp
run-up that took place in the 1980s.
The home-ownership rate—the number of households that own their dwellings divided by the total number of
households—moved up further in 1997,
to about 653/4 percent, a historical high.
The rate fell in the 1980s but has risen
almost 2 percentage points in this
decade.

Household Finance
Household net worth grew more than
$3V2 trillion during 1997, ending the
year at its highest multiple relative to
disposable personal income on record.
Most of the increase was the result of
upward revaluations of household assets
rather than additional saving. In particular, capital gains on corporate equities
accounted for about three-fourths of the
increase. Flows of household assets into
mutual funds, pensions, and other vehicles for holding equities indirectly were

U.S. Economic and Financial Developments
exceeded by outflows from directly held
equities.
Household borrowing not backed by
real estate, including credit card balances, auto loans, and other consumer
credit, increased 4J/2 percent in 1997.
These obligations grew at double-digit
rates in 1994 and 1995 but slowed fairly
steadily thereafter. Mortgage borrowing,
which has experienced relatively muted
swings in growth during the current
expansion, increased 1XA percent in
1997, a gain that was only a bit less than
the rise in 1996. Within the mortgage
category, however, home equity loans
advanced sharply, reflecting in part the
increased use of these loans in refinancing and consolidating credit card and
other consumer obligations.
An element in the slowing of consumer credit growth may have been
assessments by some households that
they were reaching the limits of their
capacity for carrying debt and by some
lenders that they needed to selectively
tighten their standards for granting new
loans. In the mid-1990s, the percentage
of household income required to meet
debt obligations rose to the upper end of
its historical range, in large part because
of a sharp rise in credit card debt.
Between 1994 and 1996 personal bankruptcies grew at an annual rate of more
Household Net Worth

Percent

than 20 percent, to some extent because
of households' rising debt burden; a
change in the federal bankruptcy law
and a secular trend toward associating
less social stigma with bankruptcy also
may have contributed. Over the same
period, delinquency and charge-off
rates on consumer loans increased
significantly.
In 1997, however, because the growth
of household debt only moderately outpaced that of income at the same time
that interest rates were drifting lower,
the household debt-service burden did
not change. Reflecting, in part, the stability of the aggregate household debt
burden, delinquency rates for many
segments of consumer credit plateaued,
although charge-off rates generally continued to rise somewhat. Personal bankruptcies advanced again in 1997 but
slowed considerably in the second half
of the year.
Some of the apparent flattening of
household debt-repayment problems
may also have resulted from efforts by
lenders to stem the growth of losses on
consumer loans. In both 1996 and 1997,
a large percentage of the respondents to
the Federal Reserve's quarterly Senior
Loan Officer Opinion Survey on Bank
Lending Practices reported tightened
standards on consumer loans. However,
Household Debt-Service Burden
Percent

17

1 1

1 1

1980 1985 1990

1982

_L _L _L
L L L

1965 1970 1975

1997

NOTE. AS a percentage of disposable personal income;
four-quarter moving average.




1985

1988

1991

1994

1997

NOTE. AS a percentage of disposable personal income.
Debt service is the sum of estimated required interest and
principal payments on consumer and household-sector
mortgage debt. The data are quarterly.

10

84th Annual Report, 1997

the percentages reporting tightening fell
a bit in the latter part of that period,
suggesting that many banks felt that they
had altered their standards sufficiently.
Although banks pulled back a bit
from consumer lending in 1997, most
households had little trouble obtaining
credit. Bank restraint most commonly
took the form of lower credit limits or
higher finance charges on outstanding
balances; credit card solicitations continued at a record pace.

The Business Sector
Investment Expenditures
Adjusted for inflation, business outlays
for fixed investment rose 9 percent over
1997 after gaining about 12 percent over
1996. Spending continued to be spurred
by rapid growth of the economy, favorable financial conditions, attractive purchase prices for new equipment, and
optimism about the future. Business outlays for equipment, which account for
more than three-fourths of total business fixed investment, moved up about
13 percent over 1997, making it the
fourth year of the last five in which the
annual gains have exceeded 10 percent.
As in previous years of the expansion,
the most striking gains were posted for
computers, the power of which continued to advance rapidly at the same time
prices continued to decline. Spending
also moved up briskly for many other
types of equipment, including communications equipment, commercial aircraft,
industrial machinery, and construction
machinery.
Real outlays for nonresidential construction, the remaining portion of business fixed investment, declined slightly
in 1997 after moving up in each of
the four previous years. Construction of
office buildings continued to increase in
1997, but sluggishness was reported in



the expenditure data for other commercial buildings and industrial buildings.
Other indicators of market conditions
pointed to underlying firmness in nonresidential construction. Vacancy rates
declined, for example, and rents seemed
to be picking up. In some regions of the
country, more builders were putting up
new office buildings on "spec"—that
is, undertaking new construction before
occupants had been lined up. The new
projects were apparently being spurred
to some degree by the ready availability
of financing.
Business inventory investment picked
up considerably in 1997. The level of
inventories held by nonfarm businesses
rose more than 5 percent in real terms
over the course of the year after increasing roughly 2 percent in 1996. Accumulation was especially rapid in the commercial aircraft industry, in which
production was being ramped up in
response to a huge backlog of orders for
new jet aircraft. With the rate of inventory growth outpacing the growth of
final sales in 1997, the stock-to-sales
ratio for the nonfarm sector ticked up
slightly after declining slightly in the
preceding year. Nonetheless, businesses
in general did not appear to be uncomfortable with the levels of stocks they
were carrying at year-end.
Corporate Profits and
Business Finance
Despite a fourth-quarter downturn, the
annual economic profits of corporate
businesses—that is, book profits after
inventory valuation and capital consumption adjustments—increased about
9!/2 in 1997 after gaining 13V4 percent
in 1996. Profits from the foreign operations of these corporations rose only
moderately in 1997, but the profits from
domestic operations, by far the larger
share of the total, posted further strong

U.S. Economic and Financial Developments
gains—about 16 percent for financial
corporations and more than 9 percent
for nonfinancial corporations, in terms
of annual totals. For the year, the profits
of nonfinancial corporations from
domestic operations amounted to about
13V2 percent of the nominal domestic
output of those corporations, up from
73/4 percent in 1982 and the highest
annual share since the late 1960s. The
elevated profit share reflected both a
high level of cash flow before interest
costs, which was also at a multiyear
peak relative to output, and the declines
in interest costs that have taken place in
the 1990s. In their profit announcements
for the fourth quarter, few corporations
reported that they had experienced much
fallout from the events in Asia, but
many warned that profits in the first half
of 1998 could be significantly affected.
Despite the rapid growth of profits,
the financing gap for nonfinancial
corporations—capital expenditures less
internal cash flow—widened over the
year, reflecting the strong expansion
of spending on capital equipment and
inventories. Furthermore, on net, firms
continued to retire a large volume
of equity, adding further to borrowing
needs, as substantial gross issuance was
swamped by stock repurchases and
Corporate Profits before Taxes
Percent

15
12
9

I I I I I I I I I 1 1 1 I 1 1 I I I I I
1977

1981

1985

1989

1993

1997

NOTE. Profits of nonfinancial corporations from
domestic operations, with inventory valuation and capital
consumption adjustments, as a percentage of the gross
domestic product of the nonfinancial corporate sector.




11

merger-related retirements. Given these
financing requirements, the growth of
nonfinancial corporate debt picked up to
8 percent in 1997.
With the debt of nonfinancial corporations advancing briskly, the ratio of their
interest payments to cash flow was about
unchanged in 1997 after several years of
decline that had left the ratio at quite a
low level. Consequently, measures of
debt-repayment difficulties also were
very favorable: The default rate on corporate bonds remained extremely low,
and the number of upgrades of debt
about equaled the number of downgrades. Similarly, only small percentages of business loans at banks were
delinquent or charged off. The rate of
business bankruptcies increased a bit but
was still fairly low.
Businesses continued to find credit
amply supplied at advantageous terms
in 1997. The spreads between yields on
investment-grade bonds and yields on
Treasury securities of similar maturities
remained narrow, varying only a little
during the year. The spreads between
yields on below-investment-grade bonds
and those on Treasury securities fell during the year, touching new lows before
widening a bit in the fall; the widening
occurred in large part because these
securities benefited less from the flight
to U.S. assets in response to events in
Asia than did securities of the Treasury.
Banks also appeared eager to lend to
businesses. Large percentages of respondents to the Federal Reserve surveys,
citing stiff competition as the reason,
said they had eased terms on business
loans—particularly the spreads between
loan rates and banks' cost of funds.
Much smaller percentages reported having eased standards on these loans. The
high ratios of stock prices to earnings
indicate that equity finance was also
quite cheap in 1997. Nevertheless, the
market for initial public offerings of

12

84th Annual Report, 1997

equity was cooler than in 1996: New
issues were priced below the expected
range more often than above it, and
first-day trading returns were smaller on
average.
The pickup in business borrowing
was widespread across funding sources.
Outstanding commercial paper, which
had declined a bit in 1996, posted strong
growth in 1997, as did bank business
loans. Gross issuance of bonds was
extremely high, particularly bonds rated
below investment grade. Such lowerrated bonds made up nearly half of all
issuance, a new record. Although sales
of new investment-grade bonds slowed
a bit in the fall, corporations were apparently waiting out the market volatility
at that time. The financing of income
properties—residential apartments and
commercial buildings—expanded further in 1997; banks, real estate investment trusts, and commercial-mortgagebacked securities were the most
significant sources of funds.
The Government Sector
Federal Expenditures,
Receipts, and Finance
Nominal outlays in the unified budget
increased about 2Vi percent in fiscal
year 1997 after moving up 3 percent in
fiscal 1996. Fiscal 1997 was the sixth
consecutive year in which the growth of
spending was less than the growth
of nominal GDP. During that period,
spending as a percentage of nominal
GDP fell from about 22 Vi percent to just
over 20 percent. The set of factors that
combined to bring about this result
includes implementation of fiscal policies aimed at reducing the deficit, which
has helped slow the growth of discretionary spending and spending on some
social and health services programs, and



the strength of the economy, which has
reduced outlays for income support.
In nominal terms, small to moderate
increases were recorded in most major
expenditure categories in fiscal 1997.
Net interest outlays, which have been
accounting for about 15 percent of total
unified outlays in recent years, rose only
a small amount in 1997, as did nominal
outlays for defense and for income security. Expenditures on Medicaid rose
moderately for a second year after having grown very rapidly for many years;
spending in this category has been
restrained of late by the strong economy,
the low rate of inflation in the medical
area, and policy changes in the Medicaid program. Policy shifts and the
strong economy also cut into outlays for
food stamps, which fell about 10 percent
in fiscal 1997. By contrast, spending on
Medicare continued to rise at about three
times the rate of total federal outlays.
Growth of outlays for social security
also exceeded the rate of rise of total
expenditures.
Real federal outlays for consumption
and gross investment, the part of federal
spending that is counted in GDP,
declined slightly, on net, from the fourth
quarter of 1996 to the fourth quarter of
1997. Real outlays for defense, which
account for about two-thirds of the
spending for consumption and investFederal Receipts and Expenditures
Percent
Total expenditures

I I 1 I I 1 I I I I I I 1 I 1 I
1981

1985

1989

1993

1997

NOTE. AS a percentage of nominal GDP. Data on
receipts and expenditures are from the unified budget;
years are fiscal years.

US. Economic and Financial Developments
ment, edged lower, as did nondefense outlays. Because of much larger
declines in most other recent years, the
level of real defense outlays at the end
of 1997 was down about 23 percent
from its level at the end of the 1980s;
total real outlays for consumption and
investment dropped nearly 15 percent
over that period.
Federal receipts rose faster than nominal GDP in fiscal 1997 for a fifth consecutive year; receipts were 193/4 percent of GDP, up from 173/4 percent in
fiscal 1992. The ratio tends to rise during business expansions, mainly because
of cyclical increases in the share of profits in nominal GDP. In recent years, the
ratio has also been boosted by the tax
increases included in the Omnibus Reconciliation Act of 1993, by a rise in the
share of income going to high-income
taxpayers, and by receipts from surging
capital gains realizations, which raise
the numerator of the ratio but not the
denominator because capital gains realizations are not part of GDP. In fiscal
1997, combined receipts from individual
income taxes and social insurance taxes,
which account for about 80 percent of
total receipts, moved up about 9Vi percent, even more than in fiscal 1996.
Receipts from taxes on corporate profits
were up about 6 percent after increasing
about 9Vi percent in fiscal 1996. The
total rise in receipts in fiscal 1997,
coupled with the subdued rate of increase in nominal outlays, resulted in a
budget deficit of $22 billion, down from
$107 billion in the preceding fiscal year.
With the budget moving close to balance, federal borrowing slowed sharply
in 1997. The Treasury responded to the
smaller-than-expected borrowing need
by selling fewer bills so as to keep its
auctions of coupon securities predictable and of sufficient volume to maintain the liquidity of the secondary markets. The result was an unusually large



13

net redemption of bills, which at times
pushed yields on short-term bills down
relative to yields on other Treasury
securities and on short-term private
obligations.
The year saw the first issuance by the
Treasury of inflation-indexed securities.
The Treasury sold indexed ten-year
notes in January and April, and five-year
notes in July and October; a sale of
indexed thirty-year bonds was scheduled for April 1998. At Treasury auctions, investor interest in the securities
was substantial, with the ratios of
received bids to accepted bids resembling those for nominal securities. As
expected, most of the securities were
quickly acquired by final investors, and
the trading volume as a share of the
outstanding amount was much smaller
than for nominal securities.
An important macroeconomic implication of the reduced federal deficit was
that the federal government ceased to
be a negative influence on the level of
national saving. The improvement in the
federal government's saving position in
recent years has more than accounted
for a rise in the total gross saving of
households, businesses, and governments, from about I4l/z percent of gross
national product earlier in the decade,
when federal government saving was at
a cyclical low and highly negative, to
more than 17 percent in 1997. This rise
in domestic saving, along with increased
borrowing from abroad, has financed the
rise in domestic investment during this
expansion. Still higher rates of saving
and investment were the norm two or
three decades ago, when the personal
saving rate was a good bit above its
level in recent years.
State and Local Governments
The real outlays of state and local governments for consumption and invest-

14

84th Annual Report, 1997

ment moved up 2 percent over the four
quarters of 1997, a rise similar to the
average rate of increase since the start
of the 1990s. Investment expenditures,
which have grown about 2x/i percent
a year in this decade, rose at less than
half that pace in 1997. However, real
consumption expenditures increased
2XA percent, a touch above the average
thus far in the decade. Compensation
of government employees, which
accounts for about three-fifths of real
consumption and investment expenditures, rose about VA percent in 1997
and has increased at an annual rate of
only about 1 lA percent since the end of
the 1980s.
The efforts of state and local governments to hold down their labor expenses
were also evident in other data. The
employment cost index for nominal
hourly compensation of workers
employed by state and local governments increased 2lA percent in 1997, a
little less than in 1996 and the smallest
annual increase in the seventeen-year
history of the series. The increase in
the average hourly wage of state and
local government employees was about
23/4 percent, roughly the same as the
gain in 1996. The average hourly cost of
the benefit packages provided to state
and local government employees rose
only 1 lA percent, a percentage point less
than the 1996 increase.
With costs contained and receipts
continuing to rise as the economy has
grown, financial pressures that were evident among state and local governments
earlier in the expansion have diminished. The increased breathing room in
the budgets of recent years is apparent
in the consolidated current account of
these governments: Surpluses in that
account, excluding those that are earmarked for social insurance funds, had
dipped to a low of about 1 lA percent of
nominal receipts in 1991, but they have



been larger than 3 percent of receipts in
each of the past three years.
State and local debt expanded about
5Vi percent in 1997 after changing little
in 1996 and declining in the two preceding years. In those earlier years, municipal debt outstanding had been held down
by the retirement of bonds that were
"advance refunded" in the early 1990s.
In such operations, funds that had earlier
been raised and set aside were used to
refund debt as it became callable. By the
end of 1996, however, the stock of such
debt had apparently been largely worked
down.

The Labor Market
Employment, Productivity,
and Labor Supply
More than 3 million jobs were added
to nonfarm payrolls in 1997—a gain
of nearly 23A percent, measured from
December to December. Patterns of hiring mirrored the broadly based gains
in output and spending. Manufacturing, construction, trade, transportation,
finance, and services all exhibited appreciable strength. In manufacturing, the
1997 rise in the job count followed two
years of little change; in the other sectors the 1997 gains came on top of substantial increases in other recent years.
Especially rapid increases were posted
in some of the services industries,
including computer services, management services, education, and recreation.
Employment at suppliers of personnel, a
category that includes the agencies that
supply help on a temporary basis, also
increased appreciably in 1997, but the
gains in this category fell considerably
short of those seen in most previous
years of the expansion. Help-supply
firms reported that shortages of workers were limiting the pace of their
expansion.

U.S. Economic and Financial Developments
Labor productivity has risen rapidly
over the past two years. The 1996 gain
in output per hour in the nonfarm business sector was about \3A percent, and
the 1997 increase was larger still—a bit
more than 2 percent, according to the
estimates as of March 1998. Although
the average rate of productivity increase
since the end of the 1980s has been only
a little above 1 percent a year, the data
for the past two years provide indications that sustained high levels of investment in new technologies may finally be
translating into a stronger trend.
The civilian unemployment rate fell
more than Vi percentage point from
the fourth quarter of 1996 to the fourth
quarter of 1997, to an average of just
under 43/4 percent. For most of the year,
the rate was somewhat below the lowest
rate during the expansion of the 1980s.
A variety of survey data indicated that
firms were having increased difficulty
filling jobs.
Labor Market Conditions

15

After moving up a step in 1996, the
labor force participation rate continued
to edge higher in 1997. Without the
increment to labor supply from
increased participation over these two
years, the unemployment rate would
have fallen to an even lower level.
Changes in the welfare system may have
contributed to the small rise in participation in 1997; however, the extent of the
contribution is unclear because of the
difficulties of disentangling it from the
normal tendency of participation to rise
when the labor market is tight. Even
though one-third of the adult population
remained outside the labor force in
1997, the vast majority of those individuals likely were in pursuits that
tended to preclude their workforce participation, such as retirement, schooling,
or housework. The percentage of the
working age population interested in
work but not actively seeking it moved
down further, to 2VA percent in the
fourth quarter, a record low in the history of a series that began in 1970.

Millions of jobs, Dec. to Dec.

Wages and Hourly Compensation

Net change in payroll employment
Total nonfarm

1

1

1

1

1

I
Percent

Civilian unemployment rate

1991

1993

1995

1997

NOTE. The data are from the Department of Labor.
The break in the unemployment rate data at January 1994
marks the introduction of a redesigned survey; data from
that point on are not directly comparable with those of
earlier periods.




The employment cost index for hourly
compensation in private industry
increased 3.4 percent from December
1996 to December 1997. This rise
exceeded that of the preceding year by
0.3 percentage point and that of 1995 by
0.8 percentage point. Although the
patterns of change in hourly pay varied
considerably by industry and occupation
from 1995 to 1997, the overall step-up
seems to have been prompted, in large
part, by the tightening of labor markets.
The implementation of a higher minimum wage also appears to have been a
factor in some industries and occupations, although its impact is difficult to
assess precisely.
The wage and salary component of
hourly compensation rose faster in 1997

16

84th Annual Report, 1997

than in any previous year of the expansion. Annual increases in the employment cost index for wages and salaries
in private industry amounted to 2.8 percent in both 1994 and 1995, but the
increases in 1996 and 1997 were
3.4 percent and 3.9 percent respectively.
Wages and salaries in the serviceproducing industries accelerated nearly
a full percentage point in 1997, pushed
up, especially, by sharp pay increases
in the finance, insurance, and real
estate sector, in which commissions and
bonuses were boosted by high levels of
mortgage refinancing and trading activity. By contrast, hourly wages in the
goods-producing industries slowed a
couple of tenths of a percentage point in
1997; the annual gains in these industries have been around 3 percent, on
average, in each of the past six years.
Although the costs of the fringe benefits that companies provide to their
employees also picked up in 1997, the
2.3 percent increase was not large by
historical standards. As in other recent
years, benefit costs in 1997 were
restrained by a variety of influences.
Most notably, the price of health care
continued to rise at a subdued pace, and
the ongoing strength of the economy
limited the need for payments by firms
to state unemployment trust funds. Even
though some firms reported seeing
renewed sharp increases in health care
costs during the year, the employment
cost data suggest that most firms were
still keeping those costs under fairly
tight control.
With nominal hourly compensation in
almost all industries moving ahead at a
pace faster than inflation, workers' pay
generally increased in real terms—and
the real gains were substantial in many
occupations. Indeed, the employment
cost index does not capture some of the
forms of compensation that employers
have been using to attract and retain



workers—stock options and signing
bonuses, for example.
Prices
Indications of a slowing of inflation in
1997 were widespread in the various
measures of aggregate price change. The
consumer price index, which rose more
than 3 percent over the four quarters of
1996, increased slightly less than 2 percent over the four quarters of 1997 as
energy prices turned down and increases
in food prices slowed. The CPI
excluding food and energy—a widely
used gauge of the underlying trend of
inflation—rose only 2lA percent in 1997
after increasing 3 percent in 1995 and
2Vi percent in 1996. The CPI for commodities other than food and energy rose
about Vi percent over the four quarters
of 1997 after moving up slightly
more than 1 percent over 1996. Price
increases for non-energy services, which
have a much larger weight than commodities in the CPI excluding food and
Change in Prices
Percent, Q4 to Q4
Consumer

in

Consumer excluding food and energy

11 111 J 11 11

MIL

1995
1997
1991
1993
NOTE. Consumer price index for all urban consumers.
Based on data from the Department of Labor.

U.S. Economic and Financial Developments
Change in Prices
Percent
1996

1997

Fixed-weight
Consumer price index
Excluding food and energy

3.2
2.6

1.9
2.2

Chain-type
Personal consumption expenditures .
Excluding food and energy
Gross domestic purchases
Gross domestic product

2.7
2.3
2.3
2.3

1.5
1.5
1.3
1.8

Price measure

NOTE. Changes are based on quarterly averages and
are measured to the fourth quarter of the year indicated
from the fourth quarter of the preceding year.

energy, also slowed a little in 1997; the
3 percent rise was about lA percentage
point less than the increase during 1996.
Only small portions of the slowdowns
from 1996 to 1997 in the total CPI and
in the CPI excluding food and energy
were the result of technical changes
implemented by the Bureau of Labor
Statistics.1
Other aggregate price measures also
decelerated in 1997. The chain-type
price index for gross domestic
purchases—the broadest measure of
prices paid by U.S. households, businesses, and governments—increased
slightly more than \lA percent in 1997
after moving up 2lA percent in 1996.
The chain-type price index for gross
domestic product—a measure of price
change for the goods and services
produced in this country (rather than
1. In recent years, the Bureau of Labor Statistics has introduced a number of technical changes
in its procedures for compiling the CPI, with the
aim of obtaining a more accurate measure of price
change. Typically, the changes have had only
small effects on the results for any particular year,
but their cumulative effects are somewhat larger
and have tended to hold down the reported
increases relative to what would have been
reported with no changes in procedures. Apart
from the procedural changes, the reported rate of
rise from 1998 forward will also be affected by
an updating of the CPI market basket, an action
that the BLS undertakes approximately every ten
years.



17

the goods and services purchased)—
increased 13A percent after rising
2lA percent in 1996. The smaller 1997
rise in the price index for aggregate
purchases relative to that for aggregate
production was mainly a reflection of
declines in the prices of imports. Both
the price measure for production and the
price measure for purchases were influenced importantly by falling computer
prices; the CPI was less influenced by
these prices, as it gave small weight to
computers through 1997. (It has started
weighting them more heavily in 1998.)
In real terms, imports of goods and
services account for approximately
15 percent of the total purchases of
households, businesses, and governments located in the United States.
However, that figure probably understates the degree of restraint that falling
import prices have imposed on inflation
in recent years, because the lower prices
for imports also make domestic producers of competing products less likely to
raise prices. Prices have also been
restrained by large additions to manufacturing capacity in this country,
amounting to more than 5 percent a year
over the past three years; this capacity
growth has helped to stave off the bottlenecks that have so often developed in
the advanced stages of other postwar
business expansions. A gain in manufacturing production of more than 6 percent in 1997 was accompanied by only a
moderate increase in the factory operating rate, which at year-end remained
well below the highs reached in other
recent expansions and the peak for this
expansion, which was recorded at the
start of 1995.
Reflecting the ample domestic supply
and the effects of competition from
goods produced abroad, the producer
price index for finished goods declined
about 3A percent from the fourth quarter
of 1996 to the fourth quarter of 1997;

18

84th Annual Report, 1997

excluding food and energy, it rose only
fractionally. Prices of domestically produced intermediate materials (other than
food and energy) also rose only slightly,
on net. The prices of raw industrial commodities, many of which are traded
in international markets, declined over
the year; the weakness of prices in these
markets was especially pronounced in
late 1997, when the crises in Asia were
worsening.
After moving up more than 4 percent
in 1996, the consumer price index for
food increased only VA percent in 1997.
Impetus for the large increase in 1996
had come from a surge in the price
of grain, which peaked around the
middle of that year; thereafter, grain
prices dropped back considerably. An
echo of the up-and-down price pattern
for grain appeared at retail in the form
of sharp price increases for meats, poultry, and dairy products in 1996 followed
by small to moderate declines for most
of those products in 1997. Moderate
price increases were posted at retail for
most other food categories over the year.
The CPI for energy traced out an even
larger swing than the price of food: A
jump of IV2 percent over the four quarters of 1996 was followed by a decline
of about 1 percent over the four quarters
of 1997. As is usually the case in this
sector, the key to the changes in consumer energy prices was the price of
crude oil, which in 1997 more than
reversed the run-up of the preceding
year.
Surveys in which respondents are
asked to state their expectations of
future rates of price increase showed
inflation expectations coming down a
bit further in 1997. A lowering of inflation expectations has long been viewed
as an essential ingredient in the pursuit
of price stability, and the data of recent
years have pointed to ongoing progress
in that regard.



Credit, Money, Interest Rates,
and Equity Prices
Credit and Depository
Intermediation
The debt of the domestic nonfinancial
sectors grew about 5 percent in 1997, in
the middle of the range established by
the FOMC and about the same as in
1996, when it grew 5]A percent. The
slight deceleration was attributable to
the federal component, which, because
of the reduced budget deficit, rose
less than 1 percent after having risen
33/4 percent in 1996. Nonfederal debt
grew 6V2 percent, a bit more than in
1996, as the step-ups in borrowing by
businesses and by state and local governments more than offset the deceleration of household debt.
Depository institutions increased their
share of credit flows in 1997, with credit
on their books expanding 63A percent,
up appreciably from growth in 1996.
The growth of bank credit, adjusted to
remove the effects of mark-to-market
accounting rules, picked up to an
8V2 percent pace, the largest rise in ten
years; and banks' share of domestic nonfinancial debt outstanding climbed to
its highest level since 1988. Holdings
of securities—which constitute about
one-fourth of bank credit—expanded at
Total Domestic Nonfinancial

Debt
Trillions of dollars
Actual

1

T

-—'
i

1

1996

1 , ,

7%

***

15.5
15.0

3%

14.5

Range

1

1

1

1

j

I

I

t

1

1997

NOTE. The range was adopted by the FOMC for the
period from 1996:Q4 to 1997:Q4.

U.S. Economic and Financial Developments
a brisk pace in 1997 after declining
in 1995 and remaining flat in 1996.
Loans—which make up the remainder
of bank credit—advanced a bit more
quickly in 1997 than in 1996, though
more slowly than in 1995.
The increase in bank loans occurred
despite a net decline in consumer loans
on banks' books resulting both from
sharply slower growth in loans originated by banks and from continued
securitization of those loans. Real estate
loans at banks, by contrast, posted solid
growth, boosted by a pickup in home
mortgages, rapid growth in home equity
loans, which in part were substituting
for consumer loans, an acceleration in
commercial real estate lending, and the
acquisition of thrift institutions by
banks. Commercial and industrial loans
also expanded considerably in 1997,
reflecting both the general rise in the
demand by businesses for funds and an
increase in banks' share of the nonmortgage business credit market as they
competed vigorously for business loans.
The rapid growth of banks' assets was
facilitated by their continued high profitability and abundance of capital; at the
end of the fourth quarter, 98 percent
of bank assets were at well-capitalized
institutions. Problems with the repayment performance of consumer loans—
which, while not deteriorating further,
remained elevated by historical
standards—hurt some banks; however,
overall loan delinquency and charge-off
rates stayed quite low, and measures of
banks' profitability held at the elevated
levels they have occupied for several
years. Profits at a few large bank holding companies were reduced in the
fourth quarter by trading losses resulting
from the events in Asia. Nonetheless,
the profits of the industry as a whole
remained robust.
The profits and capital levels of thrift
institutions, like those of banks, were



19

high in 1997, and thrifts also were
aggressive lenders. The outstanding
amount of credit extended by thrifts
grew about l/i percent, but the sluggishness was due entirely to the acquisitions
of thrifts by commercial banks; among
thrifts not acquired during the year, asset
growth was similar to that of banks.
The Monetary Aggregates
Boosted in part by the need of depository institutions to fund substantial
growth in their credit, M3 shot up
in 1997, expanding S3A percent; this
growth was well above the 2 percent to
6 percent annual range established by
the FOMC and intended to suggest the
rate of growth over the long run that
would be consistent with price stability.
M3 was also boosted by a shift in
sources of funding—mostly at U.S.
branches and agencies of foreign
banks—from borrowings from related
offices abroad, which are not included in
M3, to large time deposits issued in the
United States, which are. Also contributing to the strength in M3 was the rapid
growth of institution-only money funds,
a result of gains by such funds in providing corporate cash management services. Corporations that manage their
own cash often keep their funds in shortterm assets that are not included in M3.
Although the growth of M2 did not
match that of M3, it did increase at a
brisk 5Vi percent rate in 1997. As the
Committee had anticipated, the growth
of this aggregate was somewhat above
the upper bound of its 1 percent to 5 percent annual range, which, like that of
M3, had been chosen to be consistent
with expected M2 growth under conditions of price stability. Because shortterm interest rates responded only
slightly to System tightening in March,
the opportunity cost of holding M2—the
interest earnings forgone by owning M2

20

84th Annual Report, 1997

assets rather than money market instruments such as Treasury bills—was about
unchanged over the year. As M2 grew at
about the same rate as nominal GDP, its
velocity was also essentially unchanged.
The ups and downs of M2 growth in
1997 tended to mirror those of the
growth of nominal output. M2 expanded
more slowly in the second quarter than
in the first, consistent with the cooling
of nominal GDP growth and almost
unchanged opportunity costs. In the second half of the year, M2 growth picked
up, roughly pacing the growth of nominal GDP. In the fall, M2 may also have
been boosted a little by volatility in
equity markets, which may have led
some households to seek the relative
safety of M2 assets.
For several decades before 1990, M2
velocity responded positively to changes
in its opportunity costs and otherwise
showed little net movement over time.
This pattern was disturbed in the early
1990s in part by households' apparent
decision to shift funds out of loweryielding M2 deposits into higheryielding stock and bond mutual funds,
which raised M2 velocity even as opportunity costs were declining. The movements in the velocity of M2 from 1994
into 1997 appear to have again been
explained by changes in opportunity
Stock of M3

M2 Velocity and M2 Opportunity Cost
Ratio scale

Percentage points, ratio scale

M2 velocity
1.9 1.8 1.7

-.

1979

1985

1991

1997

NOTE. The velocity of M2 is the ratio of nominal gross
domestic product to the stock of M2. The opportunity
cost of M2 is a two-quarter moving average of the threemonth Treasury bill rate less the weighted average return
on assets included in M2.

costs, along with some residual upward
drift. This drift suggests that some
households may still have been in the
process of shifting their portfolios
toward non-M2 assets. There was no
uptrend in velocity over the second half
of 1997, perhaps because of the declining yields on intermediate- and longterm debt and the greater volatility and
lower average returns of stock mutual
funds. However, given the aberrant
behavior of velocity during the 1990s
in general, considerable uncertainty
remains about the relationship between
the velocity and opportunity cost of M2
in the future.
Stock of M2

Trillions of dollars

Trillions of dollars
Actual

5.4
4.0

Actual
5.2

3.8
5.0
i

1996

1997

NOTE. The range was adopted by the FOMC for the
period from 1996:Q4 to 1997:Q4. '




1996

i

i

i

i

1997

NOTE. The range was adopted by the FOMC for the
period from 1996:Q4 to 1997:Q4.

U.S. Economic and Financial Developments

21

Annual Rate of Change in Reserves, Money Stock, and Debt Aggregates
Percent

1997
Item

1994

1995

1996
Year

Ql

-6.3
-6.4
-7.3
60
.

-8.3 -14.3
-7.2 -16.0
-8.4 -15.0
37
.
53
.

Q2

Q3

Q4

Depository institution reserves'
Total
Nonborrowed plus extended credit
Required
Monetary base 2

-1.2
-1.4
-1.1
84
.

Concepts of money3
Ml
Currency
Demand deposits
Other checkable deposits

2 5 -1.6 -4.5 -1.2 -1.4 ^.5
.
.
3
.
8
10.1
54
.
57
.
69
.
64
.
7 0 87
.
.
75
.
.
6
14
.
2 9 -2.0
.
. -4.9
6
. -3.7
0
-1.8 -10.6 -22.8 -12.2 -16.0 -20.1 -10.1 -4.7

-4.9 -11.6
-4.9 -11.6
-5.2 -11.9
40
.
38
.

-1.8 -1.3
-3.4
.
7
-2.4 -4.1
6 3 81
.
.

M2
Non-Mi components
Savings (including MMDAs)
Small denomination time deposits
Retail money market mutual funds . . .

.
6
-.2
-4.2
24
.
76
.

39
.
66
.
-3.3
15.3
18.5

46
.
87
.
12.0
18
.
14.5

56
.
82
.
99
.
19
.
15.8

51
.
77
.
93
.
18
.
14.7

44
.
79
.
96
.
24
.
13.5

5 4 68
.
.
73 90
.
.
7 1 12.2
.
.
7
26
.
16.1 15.6

M3
Non-M2 components
Large-denomination time deposits
Institution-only money market mutual
funds
Repurchase agreements
Eurodollars

17
.
67
.
73
.

61
.
15.4
15.9

69
.
15.7
16.4

88
.
20.0
18.1

80
.
18.0
18.4

77
.
18.9
20.9

8 1 10.2
.
16.8 20.8
16.1 12.7

-4.1
13.5
21.5

24.7
58
.
11.4

20.9
45
.
21.7

21.0
17.0
30.4

18.4
61
.
35.8

18.1
68
.
32.2

19.6
13.5
18.6

22.0
38.3
23.4

49
.
57
.
46
.

54
.
44
.
58
.

53
.
37
.
58
.

49
.
.
6
65
.

44
.
18
.
54
.

50
.
.
4
66
.

42
.
-6
.
59
.

58
.
.
9
74
.

Domestic nonfinancial sector debt
Federal
Nonfederal

NOTE. Changes for quarters are calculated from the
average amounts outstanding in each quarter. Changes for
years are measured from Q4 to Q4. Based on seasonally
adjusted data.
1. Data on reserves and the monetary base incorporate
adjustments for discontinuities associated with regulatory
changes in reserve requirements.
2. The monetary base consists of total reserves; plus
the currency component of the money stock; plus, for all
quarterly reporters, and for all weekly reporters without
required reserve balances, the excess of current vault cash
over the amount applied to satisfy current reserve requirements. For further details, see the Federal Reserve's H.3
Statistical Release.
3. Ml consists of currency in circulation excluding
vault cash; travelers checks of nonbank issuers; demand
deposits at all commercial banks other than those due to
depository institutions, the U.S. government, and foreign
banks and official institutions, less cash items in the
process of collection and Federal Reserve float; and other
checkable deposits, which consist of negotiable orders
of withdrawal and automatic transfer service accounts at
depository institutions, credit union share draft accounts,
and demand deposits at thrift institutions.




M2 is Ml plus savings deposits (including money
market deposit accounts); small-denomination time
deposits (including retail repurchase agreements), from
which have been subtracted all individual retirement
accounts (IRAs) and Keogh accounts at commercial
banks and thrift institutions; and balances in taxable and
tax-exempt retail money market mutual funds (money
funds with minimum initial investments of less than
$50,000), excluding IRAs and Keogh accounts.
M3 is M2 plus large-denomination time deposits at all
depository institutions other than those due to money
stock issuers; balances in institution-only money market
mutual funds (money funds with minimum initial investments of $50,000 or more); wholesale RP liabilities (overnight and term) issued by all depository institutions, net
of money fund holdings; and Eurodollars (overnight and
term) held by U.S. residents at all banking offices in
Canada and the United Kingdom and at foreign branches
of U.S. banks worldwide, net of money fund holdings.
For further details, see the Federal Reserve's H.6 Statistical Release.

22

84th Annual Report, 1997

Ml fell VA percent in 1997. As has
been true for the past four years, the
growth of this aggregate was depressed
by the adoption by banks of retail sweep
programs, whereby balances in transactions accounts, which are subject to
reserve requirements, are "swept" into
savings accounts, which are not. Sweep
programs benefit depositories by reducing their required reserves, which earn
no interest. At the same time, they do
not restrict depositors' access to their
funds for transactions purposes, because
the funds are swept back into transactions accounts when needed. The initiation of programs that sweep funds out of
NOW accounts—in 1997 the most common form of retail sweep programs—
appears to be slowing, but sweeps of
household demand deposits have picked
up, and the estimated total amount by
which sweep account balances increased
in 1997 was similar to that in 1996.
Adjusted for the initial reduction in
transactions accounts resulting from the
introduction of new sweep programs,
Ml expanded 6 percent in 1997, a little
above its sweep-adjusted growth in
1996.
The drop in transactions accounts
caused required reserves to fall 1XA percent in 1997. Despite this decline, the
monetary base grew 6 percent, boosted
by a hefty advance in currency. Currency again benefited from foreign
demand, as overseas shipments continued at the elevated levels seen in recent
years. Moreover, domestic demand for
currency expanded sharply in response
to the strong domestic spending.
The Federal Reserve has been concerned that as the steady decline in
required reserves of recent years is
extended, the federal funds rate may
become significantly more volatile.
Required reserves are fairly predictable
and must be maintained on only a twoweek average basis. As a result, the



unavoidable daily mismatches between
reserves made available through open
market operations and desired reserves
typically have been fairly small, and
their effect on the federal funds rate has
been muted. However, banks also hold
reserve balances at the Federal Reserve
to avoid overdrafts after making payments for themselves and their customers. This component of the demand for
reserves is difficult to predict, varies
considerably from day to day, and must
be fully satisfied each day. As required
reserves have declined, the demand for
balances at the Federal Reserve has
become increasingly dominated by these
more changeable daily payment-related
needs. Nonetheless, federal funds volatility did not increase noticeably in
1997. In part this was because the Federal Reserve intervened more frequently
than in the past with open market operations of overnight maturity in order to
better match the supply of and demand
for reserves each day. In addition, banks
made greater use of the discount window, increasing the supply of reserves
when the market was excessively tight.
Significant further declines in reserve
balances, however, do risk increased
federal funds rate volatility, potentially
complicating the money market operations of the Federal Reserve and of the
private sector. One possible solution to
this problem is to pay banks interest on
their required reserve balances, reducing
their incentive to avoid holding such
balances.

Interest Rates and Equity Prices
Interest rates on intermediate- and longterm Treasury securities moved lower,
on balance, in 1997. Yields rose early in
the year as market participants became
concerned that strength in aggregate
demand would further tighten resource

U.S. Economic and Financial Developments

23

utilization margins and increase inflation unless the Federal Reserve took
countervailing action. Over the late
spring and summer, however, as growth
moderated some and inflation remained
subdued, these concerns abated significantly, and longer-term interest rates
declined. Further reductions came in the
latter part of the year as economic problems mounted in Asia. On balance,
between the end of 1996 and the end
of 1997, the yields on ten-year and
thirty-year Treasury bonds fell about
70 basis points. At year-end, rates were
approaching their levels of the late
1960s and early 1970s, when the
buildup of inflation expectations was in
its early stages.
Survey measures of expectations for
longer-horizon inflation generally did
move lower in 1997, but by less than the
drop in nominal yields. As a result, estimates of the real longer-term interest
rate calculated by subtracting these measures of expected inflation from nominal
yields indicate a slight decline in real
rates over the year. In contrast, yields on
the inflation-indexed ten-year Treasury
note rose about a quarter percentage
point between mid-March (when market
participants seem to have become more
comfortable with the new security) and
the end of the year. The market for the

indexed securities is sufficiently small
that their yields can fluctuate temporarily as a result of moderate shifts in
supply or demand. Indeed, much of the
rise in the indexed yield came late in
the year, when, in an uncertain global
economic environment,
investors'
heightened desire for liquidity may have
made nominal securities relatively more
attractive.
With real longer-term interest rates
remaining low and corporate profits
growing strongly, equities had another
good year in 1997, and major stock
indexes rose 20 percent to 30 percent.
Although stocks rose early in the year,
they fell with the upturn in interest rates
in February. As interest rates subsequently declined and earnings reports
remained quite upbeat, the markets
again advanced, with most broad
indexes of stock prices reaching new
highs in the spring. Advances were
much more modest, on balance, over
the second half of the year. Valuations
seemed already to have incorporated
very robust earnings growth, and in
October, deepening difficulties in Asia
evidently led investors to lower their
expectations for the earnings of some
U.S. firms, particularly high-technology
firms and money center banks. Through
the remainder of the fourth quarter,

Selected Treasury Rates

Major Stock Price Indexes

Percent

Index, December 1996 = 100

120

100

NASDAQ
80
1965 1970

1975

1980

1985

1990

1995

NOTE. The twenty-year Treasury bond rate is shown
until the first issuance of the thirty-year Treasury bond, in
February 1977. The data are quarterly.




i - t i t i i i t i f i l i i i t t t i i t i i

1996
NOTE. The data are monthly.

1997

24

84th Annual Report, 1997

stock prices remained volatile but displayed little trend.
Despite the strong performance of
earnings in 1997 and the slower rise of
stock prices in the second half of the
year, valuations seemed to reflect a combination of expectations of quite rapid
future earnings growth and a historically
small risk premium on equities. The gap
between the market's forward-looking
earnings-price ratio and the real interest
rate, measured by the ten-year Treasury
rate less a survey measure of inflation
expectations, was at the smallest sustained level in 1997 in the eighteen-year
period for which these data are available. Declines in this gap generally
imply either that expected real earnings
growth has increased or that the risk
premium over the real rate investors use
when valuing those earnings has fallen,
or both. Survey estimates of stock analysts' expectations of long-term nominal
earnings growth were, in fact, the highest observed in the fifteen years for
which these data are available. Because
inflation has trended down over the past
fifteen years, the implicit forecast of the
growth in real earnings departs even
further from past forecasts. However,
even with this forecast of real earnings
growth, the level of equity valuation
suggested that investors were also
requiring a lower risk premium on equities than has generally been the case in
the past, a hypothesis supported by the
low risk premiums evident in corporate
bond yields in 1997.
•




25

International Developments in 1997
In 1997 economic growth accelerated in
the major foreign industrial countries,
with the exception of Japan, where
growth slowed sharply under fiscal
tightening imposed in an atmosphere
of already depressed confidence in the
economy and distress in the banking
system. Unemployment remained near
its record high level in Japan and stayed
high or rose in continental Europe
despite a pickup in economic growth.
Budget deficits declined in several European countries, partly under the influence of measures inspired by the Maastricht Treaty objective for 1997,1 and
the budget moved into surplus in Canada. Improving budget balances and
steady or falling inflation—which in
1997 was less than 2 percent on average
in the foreign G-10 countries—helped
move long-term interest rates significantly lower abroad.2
Economic growth in most Asian
developing countries slowed in 1997,
with widespread financial turmoil in the
area depressing activity in the latter part
of the year. The pace of economic activity also generally moderated in Latin
America, except in Mexico and Venezuela, where growth was more robust. Output expanded slightly in Russia after
declining for six straight years; most of
the other republics of the former Soviet
1. According to the Maastricht Treaty, only
those countries that had a general government
deficit of 3 percent of gross domestic product or
less in 1997 may participate in the European
Monetary Union upon its scheduled commencement at the start of 1999.
2. The G-10 (Group of Ten) countries are
Belgium, Canada, France, Germany, Italy, Japan,
the Netherlands, Sweden, Switzerland, the United
Kingdom, and the United States.



Union also showed signs of growth. The
countries of central and eastern Europe
continued to experience generally moderate growth. Economic activity in
Africa expanded, but more slowly than
during the spurt of the previous year,
and activity in the Middle East, which
had been snowing signs of acceleration,
stagnated again in 1997.
The U.S. trade deficit in goods and
services in 1997, at $114 billion, was
little different from that in the preceding year. Both exports and imports
expanded vigorously, especially during
the first half of the year. Exports slowed
later in the year, even before the effects
of deteriorating economic and financial
conditions in Asia began to be felt.
The current account deficit widened
in 1997, to $166 billion from $148 billion in 1996, as a result of rising net
payments on the large, negative U.S.
investment position. A record net accumulation of assets in the United States
by private foreigners exceeded the level
of net capital inflows needed to balance
the current account deficit in 1997. Foreign official assets in the United States
also increased, but only slightly, in sharp
contrast to the massive inflows of the
previous two years.
The exchange value of the dollar rose
over 1997 in terms of all major foreign
currencies except the U.K. pound. The
dollar moved up sharply against the currencies of most continental European
countries and Japan, where economic
activity was moderate or even slow relative to that in the United States. The
dollar also appreciated dramatically in
terms of the currencies of several major
Asian countries, particularly in the
second half of the year, when these

26

84th Annual Report, 1997

economies were disrupted by financial
turmoil.

Foreign Economies
In Germany and France, economic
growth was slow early in 1997 but
picked up as the year progressed.
Growth continued to be led by net
exports, although domestic demand did
accelerate in both countries from its
sluggish pace in 1996. In Italy, by contrast, net exports were depressed by the
lingering effects of the lira's appreciation relative to the dollar and other
major currencies in 1996, somewhat
dampening otherwise solid growth. The
stronger lira had reflected, in part,
improved prospects for Italy's inclusion
in the first round of European Monetary
Union.
The shortfall of actual output from
estimated potential narrowed slightly
in the major countries of continental
Europe, but the improvement had little
effect on stubborn unemployment.
Reductions in employment subsidies in
the eastern states of Germany raised the
unemployment rate there. In Italy, where
a sizable output gap remained, the slack
in the economy contributed to a significant decline in inflation for a second
straight year; prices rose about 11/2 percent, the smallest increase since the
late 1960s. Inflation in Germany and
France was also below 2 percent.
Efforts to curtail spending in order to
reduce the general government budget
deficit achieved notable success in Italy.
Germany and France also undertook
several measures to narrow their deficits, including spending cuts and temporary tax increases. These moves were
motivated by the desire of the major
countries to participate in European
Monetary Union from its commencement, scheduled for January 1999.



Economic growth remained robust in
the United Kingdom through most of
the year, largely because the service sector expanded at a rapid pace; growth
in manufacturing was weak. By midyear, output likely exceeded the level
regarded as sustainable. The official
unemployment rate fell sharply to 5 percent, its lowest point in nearly two
decades. Some of the decline was
related to changes in the system of
unemployment benefits. An appreciation in sterling relative to other major
currencies reduced import prices,
Changes in GDP, Demand, and Prices
Percent, from previous year
Gross domestic product

j

1

1

1

1

1

Total domestic demand

Consumer price index

1991

1994

1997

NOTE. Data for the foreign G-10 countries are from
national sources. The data are weighted by the countries'
1987-89 GDP as valued after adjusting for differences in
the purchasing power of their currencies; GDP and
domestic demand are in constant prices.
Data for the United States are from the Departments of
Commerce and Labor. GDP and domestic demand are
derived from chained (1992) dollars.
For GDP and domestic demand, the data are quarterly;
for consumer prices, the data are monthly.

International Developments
but underlying retail price inflation
remained somewhat above the official
target of 2!/2 percent, as retailers
appeared to increase their profit margins
in the face of strong demand. In these
circumstances, the Monetary Policy
Committee of the newly independent
Bank of England began to tighten monetary conditions.
In Canada, both consumption and
business investment moved significantly
higher in 1997, spurred by the monetary easing of the previous year. These
expenditures overcame a sharp drop in
net exports to narrow the output gap
substantially and push the unemployment rate below 9 percent. With some
slack left in the economy, however,
inflation fell from the midpoint of the
Bank of Canada's target range of 1 percent to 3 percent to just below the bottom of the range. Nonetheless, shortterm interest rates were raised sharply in
the second half of the year, largely in
response to the depreciation of the Canadian dollar. With Canada a major commodity exporter, the currency was hurt
by the expectation that global demand
for commodities would be adversely
affected by developments in Asia. The
achievement of a budget surplus in Canada reflected sharp spending reductions
over the past four years as well as a
surge in tax receipts from a booming
economy and a rising stock market.
Japan's economic activity picked up
early in the year in anticipation of the
April 1 increase in the consumption tax
but fell in the second quarter after the
tax came into effect. Economic and
financial performance later in the year
was impeded by concerns that problems
in other Asian economies would spill
over, adversely affecting trade and bank
solvency. As a result of these difficulties, domestic demand declined during
1997, with consumption and investment
particularly weak. The only positive



27

force on growth was exerted by exports,
spurred by the lagged effect of the
yen's depreciation over the past two
years. Japan's weak economy produced
a widening output gap, and unemployment remained near its postwar high
of 31/2 percent. Inflation rose—from zero
in 1996 to 2 percent in 1997—but
only because of the consumption tax
increase.
Economic growth elsewhere in Asia
slowed in 1997, largely because of
financial turmoil in the region in the
second half of the year. Thailand was
the first to be affected, but severe disruptions in financial markets soon spread
to other countries, notably Indonesia
and South Korea. These developments
appeared to be triggered by a crisis of
confidence in the medium-term prospects for these economies given a cluster of factors: substantial external deficits in some of the economies, exchange
rates that generally appeared to be overvalued, weak financial systems, and
government policy responses to the initial disruptions that were widely viewed
as inadequate. Pressures persisted despite the provision of financial assistance to several countries under programs supported by the International
Monetary Fund, and the need for structural reforms became apparent.
Exchange Value of Selected Asian
Currencies versus the Dollar
December 1996= 100
Hong Kong dollar
••*—

\

-

^«

100

Korean won \
80
Thai

b a h t ^
\

t

t

i

t

i

t

t

i

i

(

60

t

1997
NOTE. Dollars per unit of foreign currency. The data
are monthly.

28

84th Annual Report, 1997

South Korea and the major economies of Southeast Asia—Thailand, Malaysia, Indonesia, and the Philippines—
all experienced abrupt and deep
currency depreciation, a collapse in
equity prices, and a sharp increase in
interest rates. As a result, activity subsided throughout the region and actually
declined in the fourth quarter in several
of these countries. For 1997 as a whole,
only Thailand's economy contracted,
but growth rates were down sharply in
the other countries. Weaker growth and
depreciated currencies in the affected
countries caused their external balances
to start swinging sharply toward surplus late in the year. The sharp currency
depreciations also boosted inflation
rates.
The spread of financial turmoil also
affected China and the economies of
Hong Kong and Taiwan, although not as
virulently as elsewhere. The peg of the
Hong Kong currency to the U.S. dollar
was maintained, and the Chinese
authorities did not change the value
of the yuan. In Taiwan, the authorities
allowed the currency to depreciate
somewhat early in the crisis after briefly
attempting to defend the peg to the dollar. Growth rates in these economies
slowed only moderately on balance from
the rapid pace of the previous year. In
China, surging exports contributed to
the largest trade surplus in the country's
history.
Growth generally moderated in Latin
America, except in Venezuela, where
a strong recovery from the downturn
of the previous year began. Late in the
year, many Latin American economies
experienced spillover effects from the
financial crisis in Asia. Hardest hit was
Brazil, where interest rates had to be
raised sharply to defend the crawling
currency peg, leading to an abrupt slowing of activity in the final quarter of
the year. Overall, conditions in Mexico



remained relatively favorable: Growth,
though easing from the very rapid pace
of the preceding year, continued to be
robust, inflation declined further, and the
trade balance remained in surplus.

U.S. International Transactions
The vigorous growth of the U.S. economy in 1997 spurred another year of
strong expansion in real imports of
goods and services. A surge in imports
early in the year subsided only slightly
in later months, resulting in an inflow
about 14 percent greater than in 1996;
imports had also expanded briskly in the
earlier year, at a rate of about 12 perU.S. International Trade
Billions of dollars, SAAR
k

Balances

/\

n

J/\^\

V

Goods and services

N^

60
fs/S

^~

120

\

Current account N/**"^

180

A,

1

1
1
1
1 1
1
Ratio scale, billions of chained (1992) dollars
Trade in goods and services

y

1050

^i0^^/^

Imports

850

Exports
650

_L J_
Ratio scale, 1992 = 100
GDP price index (chain-type)
^ Total merchandise
exports

1991

1993

1995

1997

NOTE. The data are from the Department of Commerce; they are quarterly and seasonally adjusted. Data
for trade are at annual rates.

International Developments

29

U.S. International Transactions
Billions of dollars, seasonally adjusted
Quarter
Year
Transaction

1996

1997

1996

1997 P

Q4

Ql

Q2

Q3

Q4

Goods and services, net
Exports
Merchandise
Services
Imports
Merchandise
Services
Investment income, net
Direct investment, net
Portfolio investment, net
Unilateral transfers, private and government, net

-in
849
612
237
960
803
157
3
67
-64
-40

-114
932
678
253
1,045
877
168
-14
68
-82
-39

-26
220
158
62
246
206
40
1
19
-18
-12

-29
224
162
62
253
212
41
_2
17
-19
-9

-26
235
171
63
260
218
42
-3
18
-21

-30
235
170
64
265
222
42
-4
17
-21
-9

-29
238
175
64
267
224
43
-5
16
-21
-12

Current account balance

-148

-166

-37

-40

-38

-43

-46

Private capital flows, net (outflows, -)
Bank-related capital, net (outflows, - )
U.S. net purchases (-) of foreign securities
Foreign net purchases (+) of U.S. securities
Treasury securities
Corporate and other non-Treasury bonds
Corporate stocks
Direct investment flows, net (outflows, -)
U.S. direct investment abroad
Foreign direct investment in United States
Foreign holdings of U.S. currency
Other corporate capital flows, net

67
-88
-108
289
156
121
13
-11
-88
77
17
-32

246
-9
-79
352
163
122
67
-12
-119
108
25
-32

-28
-30
100
68
31
1
-13
-31
18
8
-29

21
-45
-15
87
48
29
10
4
-27
31
3
-14

58
*
-22
97
45
30
22
-10
-37
27
5
-12

51
-21
-39
97
36
37
23
3
-23
26
7
4

117
56
-4
72
34
27
12
-8
-33
25
10
-10

122

18

33

29

-5

7

-1

Foreign official assets in United States (increase, +)
U.S. official reserve assets, net (increase, -)
U.S. government foreign credits and other claims, net
Total discrepancy
Seasonal adjustment discrepancy
Statistical discrepancy

22 • -27
-1

-5

-29
-8
-21

-40
3
-43

-1
-47
0
-47

-97
0
_97

-3
3
_6

-14
7
-21

-14
-1
-13

NOTE. Components may not sum to totals because of
rounding.
*In absolute value, greater than zero and less than
$500 million.

p Preliminary.
SOURCE. Department of Commerce, Bureau of Economic Analysis.

cent. Also encouraging imports was
another round of falling prices for goods
other than oil, importantly influenced by
the strong dollar. The most pronounced
increases in imports were in capital
goods, consumer goods, and automotive
products.
Exports also exhibited strong growth
in 1997, particularly during the first half
of the year. Real exports of goods and
services rose 10 percent after increasing
9 percent the preceding year. Exports
accelerated despite the appreciation of
the dollar because of the pickup in

economic activity in many U.S. trading
partners. Growth of U.S. exports to Latin
America and Canada was particularly
strong, and exports to western Europe
also increased at a healthy pace.
With imports expanding at a somewhat faster pace than exports, the
already sizable U.S. trade deficit widened a bit further in 1997, from
$111 billion to $114 billion. Because
payments of investment income by U.S.
residents to foreigners exceeded the
reverse flow, the current account deficit
increased by a larger amount. That




30

84th Annual Report, 1997

payments of investment income exceeded receipts—for the first time in
this century—reflects the large deterioration in the country's net international
investment position that has accompanied persistent current account deficits
over the past decade and a half.
Both foreign ownership of assets in
the United States and U.S. ownership
of assets abroad increased substantially
in 1997, as they have for several years.
Worldwide, asset holders have become
increasingly willing to expand their
portfolios across borders. The gathering
financial storm in Asia led, particularly
in the last quarter of the year, to significant and opposite net shifts in the
holdings of assets in the United States
by foreign authorities and private
foreigners.
Foreign official assets in the United
States rose somewhat in the first nine
months of 1997 but declined sharply
late in the year; the net inflow for the
year was only $18 billion, compared
with $122 billion the year before. The
net outflow in the fourth quarter was
concentrated among Asian countries and
a few developing countries elsewhere
that were experiencing exchange-market
pressures.
The increase in 1997 in the holdings
of U.S. securities by private foreigners
surpassed previous annual increases. Net
purchases of U.S. stocks by private
foreigners were particularly strong, a
record $67 billion. Net purchases of U.S.
Treasury securities by private foreign
parties remained robust; more than
$30 billion net were purchased in October alone, when developments in Asia
increased the attractiveness of holdings
in the United States. (Later in the year,
some Asian investors liquidated their
holdings to obtain needed funds.) Net
purchases of U.S. corporate and other
bonds also stayed high. In addition to
these inflows, foreign direct investment



in the United States amounted to a
record $108 billion, largely the consequence of an ongoing trend of mergers
and acquisitions between U.S. and foreign companies.
U.S. direct investment abroad reached
a record high of $119 billion in 1997.
U.S. net purchases of foreign securities
were $76 billion in the first three quarters of 1997, a little below the pace for
1996, but net purchases in this category
fell sharply in the fourth quarter, probably reflecting wider perception of
increased risk as a result of the financial
market turmoil in Asia. Banks in the
United States reported a large increase
in net claims on foreigners in the first
quarter, but much of this outflow was
reversed later in the year.
Recorded net outflows of capital
exceeded the current account deficit by
a substantial margin in 1997 for the
second year running. This negative statistical discrepancy indicates that net
payments in the current account or net
outflows in the capital account have
gone unrecorded. Although the U.S.
international accounts rarely sum to zero
in practice, the size of the discrepancy
and its shift from a positive to a negative
number recently are puzzling.

Foreign Exchange Developments
The dollar gained I3l/z percent to
15 percent against the mark and other
continental European currencies tightly
linked to the mark (measured as the
change between the average for December 1996 and that for December 1997).
This increase was consistent with strong
U.S. economic growth and more moderate growth in continental Europe. Uncertainties related to the prospective formation of European Monetary Union
may also have played a role. The mark
appreciated somewhat in terms of the
dollar during the late summer and fall as

International Developments
the Bundesbank raised interest rates.
When conditions in Germany subsequently made it seem less likely that the
Bundesbank would tighten further, the
mark weakened again.
The dollar moved little in terms of the
U.K. pound. Sterling was boosted relative to other European currencies by
a strong economy and the Bank of
England's moves to tighten monetary
policy. Versus the Canadian dollar, the
U.S. currency firmed nearly 5 percent,
chiefly toward the end of the year. The
Asian financial crisis dampened prospects for worldwide economic growth,
putting downward pressure on prices
for primary commodities, an important
part of Canada's economy. Its currency
declined even in the face of significant
monetary policy tightening by the Bank
of Canada.
Versus the yen, the dollar rose nearly
14 percent on balance. Early in the year,
concerns about the resilience of Japan's
banking system in the face of proposed
financial deregulation weakened the yen.
The scheduled increase in taxes on consumption in April also undermined prospects for sustained economic growth.
When domestic demand initially seemed
to weather the tax increase and net
exports also burgeoned, the yen appreExchange Value of the Dollar
versus Selected G-10 Currencies
December 1996= 100

German mark
115

105

Canadian dollar
I

l

l

l

I

l

l

l

I

I

I

1997
NOTE. Foreign currency units per dollar. The data are
monthly.




31

ciated briefly, but later evidence that
growth had stalled after the tax increase
undermined the currency again. Downward pressure intensified when Japan's
weakened financial system and sluggish
economy were exposed to further stress
from economic and financial collapse in
several key Asian countries.
The dollar appreciated substantially
in terms of the currencies of most East
Asian economies during the second half
of 1997. Because a large portion of the
external debt of these countries was
denominated in foreign currencies and
had short maturities, the devaluations
greatly hobbled the ability of borrowers
to roll over their liabilities. The Mexican
peso, which had firmed vis-a-vis the dollar earlier in the year, also came under
pressure as investors feared that difficulties in Asia would spread to Latin
America. On balance, the dollar appreciated 3!/2 percent in terms of the peso in
1997.

Foreign Exchange Operations
U.S. authorities did not intervene in
foreign exchange markets in 1997.
Reported net sales of dollars by major
foreign central banks were $10 billion
in 1997, in contrast to net purchases of
$46 billion in 1996.
At the end of the year, the Federal
Reserve held the equivalent of $17,046
million, valued at current exchange
rates, in marks and yen. With the dollar' s appreciation versus both currencies
in 1997, the cumulative gains on System foreign currency holdings declined
$2,593 million, to $358 million. In the
absence of transactions in foreign currencies, the System did not realize any
gains or losses.
•

33

Monetary Policy Reports to the Congress
In this chapter are reports submitted
to the Congress on February 26 and
July 22, 1991\ pursuant to the Full
Employment and Balanced Growth Act
of 1978.

Report on February 26, 1997
Monetary Policy and the
Economic Outlook
The economy performed impressively
this past year, and the members of the
Board of Governors and the Reserve
Bank presidents anticipate that 1997
will bring further appreciable economic
expansion with relatively low inflation.
In 1996, solid advances in the real expenditures of households and businesses led
to sizable gains in output. Employment
rose briskly, and the unemployment
rate edged down to its lowest level of
the current expansion. Consumer price
inflation increased owing to the likely
temporary effects of firmness in food
and energy markets, but some broader
price measures showed inflation holding
steady or even declining. With the economy strengthening, intermediate- and
long-term interest rates rose on net, but
credit continued to be amply available
to businesses and most households, and
equity prices soared.
Several factors helped to restrain
price increases this past year in the face
of high levels of resource utilization.
With workers still concerned to some
degree about job security, acceleration
in hourly compensation was not so
pronounced as in comparable periods in
the past; wage increases picked up rela


tively moderately, and further success in
controlling health care costs helped to
temper the rise in benefits. Moreover,
significant declines in the prices of U.S.
imports, owing to low inflation abroad
and appreciation of the dollar on foreign exchange markets, tended to hold
down domestic prices. Damped inflation
expectations probably contributed as
well to the favorable price performance:
A lengthening run of years during which
inflation has been in a more moderate
range, together with an understanding
of the Federal Reserve's commitment to
maintaining progress toward price stability, may have discouraged aggressive
pricing behavior. Business firms continued to rely on cost control and gains
in productivity, rather than on price
increases, as the primary channels for
achieving profit growth.
Still, the Federal Open Market Committee (FOMC) recognized the danger
that pressures emanating from the tight
labor market might trigger an acceleration of prices, which could eventually undermine the ongoing economic
expansion. Consequently, although conditions last year were not deemed to
warrant immediate policy action, the
Committee's policy directives starting
in mid-1996 reflected a perception that
the most likely direction of any policy
action would be toward greater restraint
in the provision of reserves to the banking system. Forestalling a disruptive
buildup of inflationary pressures in the
near term and moving toward price
stability over time remain central to the
System's mission of promoting maximum sustainable growth of employment
and production.

34

84th Annual Report, 1997

Monetary Policy, Financial
Markets, and the Economy in 1996

cated its view that near-term economic
developments were more likely to lead
to a tightening of policy than to an easThe FOMC eased the stance of mone- ing. Labor markets continued to be taut
tary policy twice around the beginning over the balance of the year, and this
of last year—in December 1995 and bias toward restraint was included in
in January—lowering the federal funds directives adopted at all of the Commitrate Vi percentage point in total, to tee's remaining meetings in 1996.
5XA percent. These actions were taken to
After having peaked during midoffset the effect on the level of the real summer, interest rates moved down on
federal funds rate of declines in inflation balance through the fall, as expansion of
and inflation expectations in the second consumer spending and economic activhalf of 1995 and thereby to help ensure ity in general appeared to be moderating
the resumption of moderate economic and markets saw less likelihood of a
growth after the marked slowdown and need for Federal Reserve firming action.
inventory correction in late 1995. By the Equity prices fell back for a time during
spring, economic growth had become the summer, reversing some of the submore vigorous than either the Commit- stantial increase registered over the first
tee or financial markets had foreseen. In half of the year, but by autumn they had
response, intermediate-and longer-term reached new highs. Interest rates and
interest rates as of mid-May were up dollar exchange rates turned back up
around a full percentage point from the late in the year when signs of rapid
two-year lows reached early in the year. growth and more intense use of the
In combination with some softening of economy's resources re-emerged. Since
economic activity abroad and declines year-end, interest rates have changed
in interest rates in major foreign indus- little, on net. The foreign exchange
trial countries, these developments con- value of the dollar has posted furtributed to a further appreciation of the ther gains, in part reflecting greaterdollar, building on the rise that had than-expected weakness in Europe and
started in mid-1995. The Committee renewed pessimism about economic and
anticipated that the increase in the financial prospects in Japan. Equity
cost of credit, along with the higher prices have registered new highs
exchange value of the dollar, would be since the start of the year. As of midsufficient to foster a downshift in eco- February, intermediate- and long-term
nomic expansion to a more sustainable interest rates were up about Vi to 3A perpace and contain price pressures; thus, it centage point, on balance, since early
left its policy stance unchanged at its 1996, and the value of the dollar was up
spring meetings.
around 9 percent against an average of
other Group of Ten currencies.
By early summer, however, the continued momentum in demand and presFor the nonfinancial business sector,
sures on labor resources that were being the effect of the higher intermediatereflected in faster growth in wages were and long-term interest rates on the overseen as posing a threat of increased all cost of funds last year was offset to
inflation. Core inflation remained mod- some degree by an easing of lending
erate, but in light of the heightened risk terms at banks and a narrowing of yield
that it would turn upward, the Commit- spreads on corporate bonds over Treatee in its early July directive to the Man- suries, as well as by declines in the cost
ager of the Open Market Account indi- of capital in the equity market. Encour


Monetary Policy Reports, February
aged, perhaps, by the prospects of sustained economic expansion and low
inflation, banks, market lenders, and
equity investors displayed a strong appetite for business obligations and seemed
willing to require less compensation for
the possible risks entailed. Some households, by contrast, faced a tightening of
standards and terms with respect to
credit card debt and some other types
of consumer debt last year, as banks
reacted to a rising volume of delinquencies and charge-offs on these instruments. However, credit availability
under home equity lines increased, particularly from finance companies but
also from banks. Overall debt growth
slowed slightly but remained near the
midpoint of its 3 percent to 7 percent
monitoring range. The growth rates of
M2 and M3 edged up last year and, as
was anticipated in the monetary policy
reports to the Congress last February
and July, both aggregates ended 1996
near or above the upper end of their
growth ranges. Again last year, the
growth of M2 relative to nominal
income and interest rates was generally
in line with historical relationships, in
contrast to its behavior during the early
years of the decade.

Economic Projections for 1997
With the economy free of serious imbalances, prospects appear favorable for
further growth of activity and expansion
of job opportunities in the coming year,
although resource constraints seem
likely to keep the pace of growth below
that of 1996. The central tendency of
the growth forecasts of gross domestic product put forth by the members
of the Board of Governors and the
Reserve Bank presidents is from 2 percent to 2lA percent, measured as the
change in real output between the final
quarter of 1996 and the final quarter
of 1997. Output growth of this magnitude is expected to result in little
change in the civilian unemployment
rate, which is projected to be between
5lA percent and 51//2 percent in the
fourth quarter of this year. These forecasts of GDP growth and unemployment are similar to those of the Administration. The central tendency of the
policymakers' forecasts of the consumer price index for 1997 spans the
relatively narrow interval of 23/4 percent to 3 percent, with the lower bound
near the inflation forecast of the
Administration.

Economic Projections tor 1997
Percent
Federal Reserve governors
and Reserve Bank presidents
Indicator

Administration
Range

Central
tendency

Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP 2
Consumer price index3

414-514
2-2 »/2
23/4-3'/2

41/2-43/4
2-2'/ 4
23/4-3

4.6
2.0
2.6

Average level,
fourth quarter
Civilian unemployment rate

5'/4-5'/2

5'/4-5'/2

5.4

1. Change from average for fourth quarter of preceding year to average for fourth quarter of year indicated.
2. Chain-weighted.




35

3. All urban consumers.

36

84th Annual Report, 1997

Consumer spending, which accounts
for about two-thirds of total GDP,
should be supported in coming quarters
by further gains in income and the substantial increase in household net worth
that has occurred over the past two
years; debt problems, although rising of
late, do not seem to be so widespread
as to threaten the ongoing expansion
of household expenditures in the aggregate. In the business sector, balance
sheets are strong, profits have been
rising, and efforts to bolster efficiency
through the use of technologically
advanced equipment are continuing at
an intense pace. In the commercial real
estate market, the supply-demand balance has shifted in many locales to a
point at which interest in office building
projects has picked up noticeably. These
conditions, together with the ready
access to a wide variety of sources of
finance that businesses currently are
enjoying, should keep investment
spending on an upward trajectory. Foreign demand for U.S. products should
continue to rise with growth of the
world economy, even in the wake of the
significant appreciation of the dollar
since the first half of 1995; however,
imports also seem likely to remain on a
clear upward trend, given the prospects
for continued expansion of the U.S.
economy. Government expenditures for
consumption and investment probably
will follow recent trends, with further
cutbacks in real outlays at the federal
level and moderate increases in the
combined purchases of state and local
governments.
Although the risk of increased inflation pressures is significant, especially
in view of the tightness of the labor
market and the strength in activity that
has been evident recently, Federal
Reserve policymakers expect this year's
rise in the consumer price index to be
somewhat smaller than that of 1996.



The major reason for expecting a
smaller CPI increase this year is a more
favorable outlook for food and energy
prices. Prices of farm products have
dropped back from the highs of last
summer, and, barring further weather
problems, this year's rise in food prices
at retail should be considerably smaller
than that of 1996. Oil prices have
recently declined and seem likely to ease
further in coming months as world
production and consumption come back
into better balance; this price relief is
important not only because of the direct
effects on the price of gasoline and other
consumer energy items but also because
petroleum is a major element in the cost
of producing and distributing many
other goods. By contrast to the favorable
outlook for food and energy prices,
some risk exists that core inflation could
turn up during the coming year. The
minimum wage will be moving up
further in 1997, compounding whatever
cost pressures might be in train as a
result of labor market tightness, and the
degree to which businesses can continue
to absorb stepped-up increases in labor
costs without raising prices more rapidly is not certain.
As noted in the July 1996 monetary
policy report, the CPI forecasts of the
governors and Reserve Bank presidents
incorporate allowances for the technical
improvements to this index that have
been made by the Bureau of Labor Statistics. These technical changes are estimated to have trimmed the reported rate
of CPI inflation slightly in each of the
past two years, and additional changes
will be affecting the rise in the index
in 1997. In view of the remaining difficulties of accurately measuring price
change in a highly complex and rapidly
changing economy, alternative price
indexes will continue to be given substantial weight, along with the CPI, in
monitoring progress toward the long-

Monetary Policy Reports, February
run goal of price stability. Some of the
broad measures of inflation derived from
the GDP accounts slowed in 1996; the
Committee is concerned that, even if the
CPI decelerates as expected in 1997,
other indexes—with different scope and
weights—may pick up in reflection of
the pressures on productive resources.
Money and Debt Ranges for 1997
Again in 1997, the Committee has set
ranges for M2 and M3 that would
encompass monetary growth expected
to be consistent with approximate price
stability and a sustainable rate of real
economic growth, assuming that the
behavior of velocity is in line with
historical norms. These ranges are
unchanged from those for 1996: 1 percent to 5 percent for M2 and 2 percent to
6 percent for M3.
As has been the case for several years,
the 1997 ranges for M2 and M3 were set
against a backdrop of uncertainty about
the stability and predictability of their
velocities. A long-run pattern of reasonably stable velocity behavior broke
down in the early 1990s when the public's holdings of monetary assets were
depressed by several factors: the contraction of the thrift industry; a tightening of credit supplies and deleveraging by businesses and households;
an extremely wide spread between
short- and intermediate-term interest

Ranges for Growth of Monetary
and Debt Aggregates
Percent
Aggregate
M2
M3
Debt

1995

1996

1997

1-5
2-6
3-7

1-5
2-6
3-7

1-5
2-6
3-7

NOTE. Change from average for fourth quarter of
preceding year to average for fourth quarter of year
indicated.




37

rates that heightened the attractiveness
of capital market instruments relative to
bank deposits; and the expanding availability and growing acceptance of stock
and bond mutual funds as household
investments.
With the waning of all but the last of
these influences, movements in velocity
have become more predictable over the
past couple of years. This recent evidence of stability, however, covers only
a relatively brief period, and its durability remains uncertain. In these circumstances, the Committee has opted to
continue treating the ranges as benchmarks for the trends of money growth
consistent with price stability rather than
as short-run targets for policy. Meanwhile, the actual behavior of the monetary measures will be monitored for such
information as it may convey about
underlying economic developments.
The central tendency of the Committee 's expectations for nominal GDP
growth in 1997 is slightly below that
registered in 1996. Thus, if velocity
behaves as it did last year, M2 and M3
might decelerate a bit but even so would
again expand around the upper ends
of their growth ranges. Debt of the
nonfinancial sectors is anticipated to
increase this year at around the pace of
last year, remaining near the midpoint of
its unchanged 3 to 7 percent range.

Economic and Financial
Developments in 1996 and
Early 1997
The economy turned in a remarkably
favorable performance this past year.
Preliminary estimates indicate that real
GDP rose more than 3 percent over
the four quarters of 1996, one of the
larger gains of the past several years
and appreciably more than the FOMC
was expecting a year ago. Although
intermediate- and long-term interest

38

84th Annual Report, 1997

rates moved up, credit remained readily
available to most borrowers, and equity
prices rose substantially. Expansion of
the debt of nonfinancial sectors continued at about the 5 percent rate it has
maintained over the past several years,
and growth of the stock of money
picked up a little to its most rapid pace
this decade. These financial developments provided support for strong
advances in the real expenditures of
households and businesses, and the
growth of exports held up well in the
face of an appreciating dollar. Tightness
of the labor market led to a moderate
pickup in wage increases in 1996. However, acceleration of prices was confined
largely to the food and energy sectors;
prices for other consumer products
decelerated, as did prices paid by
businesses for capital goods and materials. Economic data for early 1997
show the unemployment rate holding in
a low range with the inflation trend still
subdued.

Economic Developments
The Household Sector
After having risen less than 2 percent in
1995, real personal consumption expenditures moved up 23/4 percent in 1996.
Although debt problems arose with
greater frequency this past year, households benefited from healthy increases
in real income and another year of sizable gains in wealth. Consumers were
relatively optimistic about prospects for
the economy at the start of 1996, and
they became more so as the year
progressed.
Real outlays for consumer durables
rose more than 5 percent in 1996 after a
gain of only WA percent during 1995.
As has been true for many years, real
expenditures on computers and elec


tronic equipment outpaced the growth
of other household outlays by a
wide margin in 1996. Sizable increases
were also reported for most other types
of consumer durables. However, real
expenditures on vehicles changed little
on net over the year, as gains achieved
during the first half were reversed after
midyear. Late in 1996, sales of light
vehicles may have been constrained to
some degree by supply shortages that
arose during strikes in the United States
and Canada; early in 1997, vehicle sales
strengthened. Consumer purchases of
nondurables rose P/4 percent in 1996
after having increased 1 percent during 1995. Spending for services rose
2Vi percent last year, about the same as
the average gain in previous years of the
expansion.
After-tax personal income increased
5 percent in nominal terms over the four
quarters of last year. Wages and salaries
rose briskly, and the income of farm
proprietors surged. Other types of
income generally exhibited moderate
gains. Given the low level of price inflation, the rise in nominal income translated into another significant advance in
real disposable income—about 23/4 percent over the year.
As in 1995, strong cross-currents continued to shape individual households'
willingness—and ability—to spend
from current income. Huge increases
in stock market wealth provided some
households the wherewithal to boost
spending at a pace considerably faster
than the growth of disposable income.
But a number of households were likely
held back by the need to divert income
to the servicing of debt, and according
to some survey evidence, households
have become more concerned about saving for retirement. Responding to these
influences, the annual average of the
personal saving rate was up slightly
from that of 1995; however, it remained

Monetary Policy Reports, February
relatively low compared with its longerrun average.
Residential investment expenditures
posted a gain of 4 percent in real terms
over the four quarters of 1996, more
than reversing a small decline in the
previous year. Demand for single-family
housing was especially strong. Although
interest rates on longer-term fixed-rate
mortgage loans moved up considerably
in 1996, a substantial number of homebuyers sidestepped at least the initial
costs by using adjustable-rate loans that
were available at lower rates. The effects
of the rate increases on the single-family
market were cushioned by other influences as well, most notably the growth
of employment and income. Even for
fixed-rate loans, mortgage financing
costs held at a level that, by historical
standards, was low relative to household
incomes. All told, sales of new homes
surged to the highest annual total of
the current expansion, and sales of
existing homes established a historical
high. New construction of single-family
dwellings also rose but not so dramatically as sales, as builders apparently
chose to work off some of their inventories of unsold units, which had
climbed in 1995. Mild sluggishness in
starts toward the end of 1996—which
was probably exacerbated by poor
weather in December—was followed by
more upbeat indicators of new construction in January of this year.
Construction of multifamily units
maintained a path of recovery from the
extreme lows of the early 1990s, moving up about 13 percent in terms of
annual totals. The number of multifamily units started—about 315,000—was
double the number started in 1993, when
construction of these units was at a
low. However, compared with previous peaks, the 1996 total was less
impressive—starts were twice as high
in some years of the 1970s and 1980s.



39

Although market conditions for multifamily properties varied considerably
from city to city in 1996, the national
average vacancy rate for multifamily
rental units remained relatively high,
and demographic influences were probably less supportive of multifamily
housing than they were a decade or so
ago. Also, manufactured houses have
provided an increased number of families with an alternative to rental apartments in recent years.
The Business Sector
Business fixed investment recorded a
fifth consecutive year of strong expansion in 1996, rising about 9 percent
according to the initial estimate. As in
other recent years, investment was
driven by rising profits, favorable trends
in the cost of capital, and the ongoing
efforts of businesses to boost efficiency.
Although much of the investment spending was to replace depreciated equipment, the net addition to the aggregate
capital stock appears to have been substantial. The rate of rise in the stock has
picked up over the past two or three
years after subpar growth through the
latter half of the 1980s and first few
years of the 1990s; the resulting rise in
the level of capital per worker should
enhance labor productivity and potential
output.
Equipment outlays moved up almost
9V2 percent in real terms in 1996. Business purchases of office and computing
equipment once again rose much faster
than the outlays for other types of equipment. Computer purchases were propelled by many of the same forces that
have been at work in other recent
years—most particularly, the expansion
of networks and the availability of new
models of computers embodying substantially improved computing power
at highly attractive prices. Outlays for

40

84th Annual Report, 1997

communications equipment also rose
quite rapidly in 1996. Gains for other
types of equipment were generally more
modest.
Investment in nonresidential structures also rose substantially over the
four quarters of 1996, posting the largest
advance in several years. Business
spending on structures went through an
extended contraction in the latter part
of the 1980s and early 1990s, and until
recently the subsequent recovery has
been relatively slow. That the 1996 gain
in nonresidential investment would be
so large was not evident until late in the
year, when incoming data began to trace
out sizable increases in new construction for many types of buildings. Investment in office buildings scored an especially large gain over the year, amid
widespread reports of firming market
conditions and reduced vacancy rates,
and real outlays for other commercial
structures moved up for a fifth consecutive year. Financing appears to be in
ample supply for commercial construction, and according to reports from the
District Reserve Banks, speculative
office building projects—that is, those
without pre-committed tenants—are
becoming more common.
Inventory investment was relatively
subdued in 1996. The stock of nonfarm
business inventories rose less than 2 percent over the four quarters of the year,
the smallest increase since 1992. Businesses had been moving toward a
reduced rate of stockpiling over much of
1995, and the rate of accumulation came
almost to a halt in early 1996, when
stocks of motor vehicles plummeted in
conjunction with a strike at two plants
that manufacture auto parts. Thereafter,
inventory developments were relatively
uneventful. Stocks of vehicles changed
little on net over the final three quarters
of the year, and accumulation of inventories by other nonfarm businesses was



moderate on average. Stocks at year-end
generally appeared to be at comfortable
levels relative to recent trends in sales.
Business profits turned in another
strong performance in 1996. Economic
profits of all U.S. corporations rose at
an annual rate of more than 10 percent
from the final quarter of 1995 to the
third quarter of 1996. Profits earned by
foreign subsidiaries of U.S. corporations
fluctuated from quarter to quarter but
remained at high levels, and returns
from domestic operations rose substantially, for both financial and nonfinancial
firms. Domestic profits of nonfinancial
corporations amounted to 10.7 percent
of the nominal value of these firms'
output in the third quarter, the highest
reading of the current expansion.
The Government Sector
Real federal expenditures on consumption and gross investment—the part of
federal spending that is included in
GDP—rose about 2Vi percent, on net,
from the fourth quarter of 1995 to the
fourth quarter of 1996, but the rise was
mostly an artifact of late-1995 real purchases having been pushed to especially
low levels by government shutdowns.
The underlying trend of federal consumption and investment expenditures
probably is better represented by the
IVi percent annual rate of decline from
the fourth quarter of 1994 to the final
quarter of 1996. Reductions have been
apparent over the past two years both
in real defense purchases and in real
nondefense purchases.
Federal expenditures in the unified
budget increased about 3 percent in
nominal terms in fiscal 1996 after having increased VA percent in fiscal 1995.
Slower growth was recorded across
many budgetary categories this past
year, and outright declines were reported
in some. Combined expenditures on

Monetary Policy Reports, February
health, social insurance, and income
security—items that account for more
than half of all federal outlays—moved
up 4^2 percent, the smallest increase this
decade. Defense spending was down
about 2VA percent in nominal terms, and
net interest outlays rose much less rapidly than in fiscal 1995. Measured relative to the size of nominal GDP, total
outlays in the most recent fiscal year
were the smallest since 1979. Legislative restraint has led to cuts in a number
of discretionary programs in recent
years, and the expanding economy has
relieved pressure on those outlays that
tend to vary inversely with the strength
of activity.
Federal receipts increased about
IVi percent in fiscal 1996, the third year
in which growth of receipts outpaced
growth of nominal GDP by a significant
margin. Receipts from individual
income taxes climbed more than 11 percent in the most recent fiscal year, in
conjunction with healthy increases in
households' taxable earnings from capital and labor. Taxes on corporate profits
also continued to rise rapidly, more or
less in step with the growth of business
earnings. The rapid growth of receipts,
coupled with the restrained growth of
expenditures, brought the unified budget
deficit down to $107 billion in fiscal
1996 from almost $165 billion in fiscal
1995. The deficit as a share of nominal
GDP was 1.4 percent, the smallest in
more than twenty years.
The aggregate consumption and
investment expenditures of state and
local governments rose 2XA percent in
real terms over 1996. This gain was
about the same as those of the two previous years. Outlays for services, which
consist mainly of employee compensation and account for more than twothirds of all state and local purchases,
rose roughly VA percent in real terms
last year. Investment expenditures,



41

which make up the next biggest portion
of state and local purchases, rose about
4!/2 percent in real terms. In the aggregate, the budget picture for state and
local governments was relatively stable
in 1996, as the surplus of nominal
receipts over nominal current expenditures changed little from the positive
readings of other recent years.
The External Sector
The nominal trade deficit for goods and
services widened to $115 billion in 1996
from $105 billion the previous year. For
the first three quarters of the year, the
current account deficit totaled $165 billion at an annual rate, somewhat greater
than the $150 billion deficit recorded in
1995.
The quantity of imports of goods and
services rose strongly over the four
quarters of 1996—about 8V2 percent
according to the preliminary estimate—
after having expanded only AVA percent
the previous year. The pickup in U.S.
real output growth boosted the demand
for imported goods, as did the declines
in the prices of non-oil imports. Sizable
increases in import volume were widespread among most major merchandise
trade categories, with the notable exceptions of oil and semiconductors.
Very strong export growth in the
fourth quarter of 1996 raised the yearly
gain in the quantity of exports of goods
and services to IV2 percent. Growth in
the economies of our major trading partners was only moderate on average but
was somewhat faster than in 1995. As
a consequence, growth of exports was
similar to the 1995 rate despite the
appreciation of the dollar. Over the past
year, most of the rise in the value of
merchandise exports went to Canada
and Latin America. Exports to Western
Europe and Asia were only marginally
higher than they were a year earlier.

42

84th Annual Report, 1997

In most of the major industrial countries abroad, real economic activity
accelerated last year from a relatively
weak performance in 1995. In the
United Kingdom, real output growth
firmed through the year, as growth
in consumption spending rebounded
from its low 1995 rate. In Germany and
France, real GDP growth strengthened
but was still too low to prevent a further
rise in the unemployment rate in both
countries. In Italy, output growth slowed
as the rebound in the lira from its previous depreciation sharply reduced the
growth of exports and depressed investment spending. For most continental European countries, further fiscal
restraint is planned this year as governments hoping to participate in the third
stage of European Monetary Union
strive to meet the Maastricht Treaty's
1997 reference standard of a budget
deficit no larger than 3 percent of GDP.
In Japan, fiscal stimulus spurred economic expansion early last year; subsequently, slower private consumption,
reduced inventory accumulation, and
decreased
government
investment
spending reduced output growth. In contrast, Canada's real output growth rose
over 1996 as inventory adjustment was
completed during the first half of the
year and as exports strengthened.
Except in the United Kingdom, inflation pressures in the foreign industrial countries continued to decline or
remained subdued during 1996. Consumer prices in Japan were flat. Consumer price inflation fell sharply in Italy
and remained below 2 percent in Germany and France. In the United Kingdom, consumer prices excluding mortgage interest payments accelerated to an
annual rate of more than 3 percent.
The Mexican economy continued on
a course of recovery that returned GDP
to its pre-crisis level in the fourth
quarter of 1996. Increases in income and



a strengthening of the price-adjusted
value of the peso contributed to a reduction in the Mexican merchandise trade
surplus over 1996. Argentina and
Brazil also continued to recover from
recessions. In Chile, real GDP growth
moderated from the very high rate
recorded in 1995 to about 6 percent
in 1996. In Venezuela, windfall oil
revenues softened the decline in real
GDP in 1996 and improved the prospects for 1997.
In our major trading partners in Asia
other than Japan, real output growth
generally slowed from its 1995 pace,
despite a pickup in many countries
toward year-end in response to more
accommodative monetary policies and
a partial recovery in export markets. In
China, the slowdown of growth to about
10 percent last year from the 12 percent
to 14 percent annual rates experienced
during 1992-94 reflected a substantial
deceleration in investment spending,
owing to China's efforts to reduce inflation by tightening central bank credit to
state-owned enterprises and by restricting investment.
Consumer price inflation in Mexico
was about 28 percent in 1996, significantly lower than the 1995 inflation rate
of more than 50 percent. Venezuela's
inflation rate in 1996 exceeded 100 percent, but inflation in most other Latin
American countries was at levels well
under 10 percent. Inflation rates generally remained low in Asia.
The Labor Market
The number of jobs on nonfarm payrolls
rose more than 2V2 million from December 1995 to December 1996, an increase
of about 2lA percent. Employment gains
were substantial in each quarter last
year, and the labor market report for
January of this year showed a further
sizable expansion of payrolls.

Monetary Policy Reports, February
Employment in the private serviceproducing sector, in which nearly twothirds of all nonfarm workers are
employed, increased about 3 percent
during 1996. Moderate employment
gains were posted in retail trade, transportation, and finance, and sizable gains
in hiring continued in some other
service-producing industries, such as
data processing, computer services, and
engineering and management. Job
growth at suppliers of personnel—a
category that includes temporary help
agencies—was about 6V2 percent, a
touch faster than in 1995 but much
slower than it had been over 1992-94;
with the tightening of labor markets in
the past couple of years, longer-lasting
commitments in hiring may have come
back into greater favor among some
employers.
Employment changes among producers of goods were mixed in 1996.
In construction, employment climbed
about 51/2 percent, to a new high that
was almost 4 percent above the peak
of the last business expansion. In manufacturing, increases in factory jobs
through the latter part of 1996 were not
sufficient to reverse declines that had
taken place earlier in the year. On net,
last year's loss of factory jobs amounted
to about Vi percent, a shade less than
the average rate of decline since 1979,
the year in which manufacturing
employment peaked. Manufacturers
of durable goods boosted employment
slightly last year, but many producers
of nondurables implemented further
job cuts. As in many other recent
years, reductions in factory employment were accompanied by strong
gains in worker productivity. Consequently, increases in output were
sizable—the rise in the Federal
Reserve's index of manufacturing production cumulated to 4lA percent over
the year.



43

Growth of output per hour in the nonfarm business sector as a whole picked
up in 1996, rising about VA percent
over the year according to preliminary
data. However, coming after a threeyear period in which output per hour
changed little, this rise left the average rate of productivity growth in the
1990s a bit below that of the 1980s and
well below the average gains achieved
in the first three decades after World
War II. The sustained sluggishness
in measured productivity growth this
decade is difficult to explain, as it has
occurred during a period when high
levels of investment in new capital
and extensive restructuring of business
operations should have been boosting
the efficiency of workers. Of course,
measurement problems could be distorting the data. As a summary measure that
relates aggregate output to aggregate
input of labor, the nonfarm productivity
index is affected by whatever deficiencies might be present either in adding
up the nominal expenditures for goods
and services in the economy or adjusting those expenditures for price change.
A considerable amount of recent
research suggests that growth of output
and productivity is in fact understated,
but whether the degree of understatement has been increasing over time is
less clear.
In contrast to the experience of most
other recent years, this past year's rise
in employment was accompanied by a
sustained pickup in the labor force participation rate. The rise in participation
boosted the labor supply and helped to
relieve pressures on the labor market.
Nonetheless, hiring during 1996 was
sufficient to reduce the civilian unemployment rate from a December 1995
rate of 5.6 percent to a December 1996
rate of 5.3 percent. In January of
this year, the rate remained low, at
5.4 percent.

44

84th Annual Report, 1997

Tightness of the labor market appears
to have exerted some upward pressure
on the cost of labor in 1996, even as
some workers continued to express
anxiety about job security. The employment cost index (ECI) for the private
nonfarm sector of the economy showed
compensation per hour moving up
3.1 percent over the year. The index had
risen 2.6 percent in 1995. The step-up in
hourly pay increases was to some extent
the result of a hike in the minimum
wage that took place at the start of
October. More generally, however, businesses probably had to boost hourly
compensation either to attract workers
or to retain them at a time when alternative employment opportunities were perceived to be more widely available.
As in 1995, increases in hourly compensation in 1996 came more as wage
and salary increases than as increases
in fringe benefits. According to the ECI,
the rise in wage rates for workers in
the nonfarm sector amounted to nearly
3V2 percent this past year after a rise of
23/4 percent in 1995. By contrast, the
ECI measure of the hourly cost of benefits rose only 2 percent, slightly less
than it did in 1995 and much less than it
rose on average over the past decade.
Increases in the cost of benefits have
been held down in recent years by
reduced inflation for medical services
and by the actions that many firms have
taken to shift employees into managed
care arrangements and to require them
to assume a greater portion of the cost of
health insurance and other medical
benefits.
Prices
The consumer price index rose more
rapidly than in 1995, but the step-up
was concentrated in the food and energy
sectors—areas in which prices were
affected by supply limitations that



seemed likely to be of temporary duration. The CPI excluding food and
energy—often called the "core" CPI—
rose just a touch more than 2l/i percent
after having increased 3 percent during
1995. Both the total CPI and the core
CPI have been affected in the past two
years by technical improvements implemented by the Bureau of Labor Statistics that are aimed at obtaining more
accurate readings of price change; the
rise in the CPI in 1996 would have been
somewhat greater if procedures used
through 1994 had not been altered.
Other price indexes generally rose
less rapidly than the CPI. Like the
overall CPI, the chain-type price index
for personal consumption expenditures
(PCE) accelerated somewhat in 1996,
but its rate of rise, shown in the accompanying table, was significantly lower
than that of the CPI. The two measures
of consumer prices differ to some degree
in their weights and methods of aggregation. They also differ somewhat in their
selection of price data, with the PCE
measure relying on alternative data in
some areas in which the accuracy of
the CPI has been questioned. The chain
type price index for gross domestic
purchases, which takes account of the
Alternative Measures of Price Change
Percent
Price measure

1995

1996

Fixed-weight
Consumer price index
Excluding food and energy ...

2.7
3.0

3.2
2.6

Chain-type
Personal consumption
expenditures
Excluding food and energy . . .
Gross domestic purchases
Gross domestic product

2.1
2.3
2.3
2.5

2.5
2.0
2.2
2A

Deflator
Gross domestic product

2.5

1.8

NOTE. Changes are based on quarterly averages and
are measured to the fourth quarter of the year indicated
from the fourth quarter of the previous year.

Monetary Policy Reports, February
prices paid by businesses and governments as well as those paid by consumers, moved up 2lA percent during
1996, about the same as the percentage
rise during 1995. By contrast, price measures associated with GDP decelerated
in 1996 to thirty-year lows of around
2 percent or less. Conceptually, the GDP
measures are indicative of price changes
for goods and services that are produced
domestically rather than price changes
for goods and services purchased
domestically—foreign trade accounting
for the difference.
The 1996 outcomes for all these measures reflected an economy in which
inflation pressures were muted. Sharp
declines in non-oil import prices during
the year lowered input costs for many
domestic firms and likely caused other
firms to restrain their product prices for
fear of losing market share to foreign
competitors. Also important, in all likelihood, were the favorable imprints that
several years of moderate and relatively stable rates of inflation have left
on inflation expectations. Despite the
uptick in hourly compensation and
adverse developments in the food and
energy sectors, survey data showed little
change in consumers' expectations of
inflation, and private forecasters' views
of the prospects for prices held steady.
Businesses commonly described the
situation as one in which competitive
pressures were intense and the "leverage" for raising prices simply was not
present.
Food and energy prices were the
exceptions. In the food sector, steep
increases in grain prices in 1995 and the
first few months of 1996 caused production adjustments among livestock farmers and substantial price increases for
some livestock products. Later in the
year, grain prices fell back, but livestock
production could not recover in time to
prevent significant price advances for



45

some retail foods. Consumer prices for
pork, poultry, and dairy products registered their largest increases in several
years. Retail beef prices also rose but
only moderately: Expansion of the cattle
herd in previous years had laid the
groundwork for a high flow of product
to consumers, and herd reductions that
occurred in 1996 augmented that flow.
Elsewhere in the food sector, acceleration was reported in the price index for
food away from home—a category that
has a weight of almost 40 percent in the
CPI for food; the rise in the minimum
wage appears to have been an important
factor in the acceleration. All told, the
1996 rise in CPI food prices amounted
to 4lA percent, the largest increase since
1990.
The energy sector was the other
major part of the economy in which
significant inflation pressures were evident this past year. Crude oil prices,
which had started firming in the latter
part of 1995, continued on an upward
course through much of 1996, rising
more than 30 percent in total. Stocks of
crude oil and petroleum products were
tight during the year, even after allowing for an apparent downward trend
in firms' desired inventories. Inventory
building was forestalled by production
disruptions at refineries, a string of
weather problems here and abroad that
boosted fuel requirements for heating
or cooling, and a reluctance of firms to
take on inventories that seemed likely to
fall in value once renewed supplies from
Iraq became available. Natural gas, too,
was in tight supply at times, and its
price surged. With retail prices of gasoline, fuel oil, and natural gas all moving
up substantially, the CPI for energy rose
about IVi percent over the four quarters
of 1996, the largest increase since the
Gulf War.
The CPI for goods other than food
and energy rose 1 percent during 1996,

46

84th Annual Report, 1997

one of the smallest increases of recent
decades. As in 1995, price increases for
new vehicles were moderate last year,
and prices of used cars turned down
after several years of sizable advances.
Prices of apparel and house furnishings
also fell; these prices, as well as the
prices of vehicles, may have been
heavily affected by the softness of
import prices. Moderate increases were
the rule among most other categories of
goods in the CPI. In the producer price
index, prices of capital equipment rose
less than Vi percent over 1996; computer prices continued to plunge, and the
prices of other types of equipment rose
moderately, on balance. Materials prices
were weak: Prices of intermediate
materials excluding food and energy
declined about 11A percent from the
fourth quarter of 1995 to the final quarter of 1996, and the producer price
index for crude materials excluding
food and energy dropped more than
6V2 percent over that period. Productive
capacity was adequate among domestic producers of materials, and supplies
of many materials were readily available at competitive prices on the world
market.
The CPI for non-energy services
increased VA percent in 1996. The
rise was somewhat smaller than the
increases of most other recent years.
Prices of medical services decelerated
for a sixth consecutive year, and
increases in the cost of shelter were held
down by another year of moderate
advances in residential rent and owners'
equivalent rent. Large increases were
evident only in scattered categories:
Airfares posted a large increase, and
educational costs, maintaining a longestablished trend, continued to rise
quite rapidly relative to prices in
general.



Financial Developments
Debt
Growth of the debt of nonfinancial
sectors slowed slightly last year, to
5lA percent. The growth of household
sector debt dropped from SlA percent
to IV2 percent, a deceleration accounted
for entirely by a sharp slowing of consumer credit. The expansion of business
borrowing was held below its 1995 pace
by an increase in internally generated
funds, but at 5VA percent, it was faster
than in any other year since 1989. Its
strength reflected robust spending,
extremely favorable credit conditions,
and financing needs associated with a
high level of mergers and acquisitions.
Federal government debt grew 33A percent, the lowest rate in more than two
decades. The debt outstanding of the
state and local sectors was unchanged.
The Household Sector.
Consumer
credit grew 8lA percent last year, just a
bit over half the pace of the preceding
two years. The sharp retrenchment
likely reflected the burdens associated
with a substantial accumulation of outstanding consumer debt over recent
years as well as some tightening of lending terms and standards by commercial
banks, particularly with respect to credit
cards.
The slowing in consumer credit
growth also was associated with a shift
toward increased use of home equity
loans. These loans were marketed
vigorously, particularly by finance companies, in part as a vehicle for consolidating credit card and other outstanding consumer debt. Some of the
growth in home equity loans reflected
moves by finance companies and
banks into the "subprime" market—

Monetary Policy Reports, February
lending either to higher-risk customers
or on terms entailing unusually high
loan-to-value ratios, or both. The push
to expand home equity lending last year
offset to some degree the effect of
tighter lending standards and terms on
credit cards and other forms of consumer credit.
The shift toward home equity loans,
along with a strong housing market, led
to a pickup in mortgage debt growth last
year to a rate of 7 x/i percent, the largest
advance since 1990. Mortgage borrowing for home purchases was restrained
surprisingly little by the increase in
interest rates over the first half of the
year. As noted previously, many borrowers were able to put off, at least for a
time, much of the impact of the increase
in rates by shifting to adjustable-rate
mortgages, the rates on which rose much
less last year than those on fixed-rate
mortgages.
Although the growth of household
sector debt fell off a bit from the pace of
recent years, it still exceeded that of
disposable income. With loan rates up
on average for mortgages and down only
a little on consumer loans, debt-service
burdens continued to rise last year, and
some households experienced difficulties servicing certain kinds of debt.
Delinquency rates on banks' consumer
loans, particularly credit card loans,
posted a second year of considerable
increase, although they remained below
levels in the early 1990s. At finance
companies that are subsidiaries of automakers, auto loan delinquency rates rose
to very high levels; but this rise apparently resulted in large part from a business strategy to compete in the vehicle
market by easing lending standards.
Auto loan delinquency rates at commercial banks also rose but remained well
within historical ranges. Delinquency



47

rates on residential mortgages remained
low.
In the segment of the finance company market that deals in subprime auto
loans, some problems emerged last
month. A small firm in this market
defaulted on its commercial paper after
it restated earlier earnings at lower
levels, and another firm filed for bankruptcy. Although the share prices of
these and other firms primarily engaged
in sub-prime lending declined along
with their earnings outlook, this sector
constitutes a very small part of the overall auto loan market, and the implications for the availability of credit to the
household sector overall appear slight.
Charge-off rates on consumer loans
rose at banks in 1996 to around the peak
levels of the last recession in 1990-91.
According to Federal Reserve surveys
of senior loan officers, banks had anticipated some deterioration in the quality
of their consumer loan portfolios last
year, but they were surprised by its
extent. These surveys also showed
that banks considered the rate of
charge-offs last year to be high relative to the level of delinquencies and
that the credit-scoring models most
banks use to evaluate consumer lending decisions have tended to be too
optimistic. An important reason for the
high level of charge-offs and the apparent shortcomings of the credit-scoring
models was a 30 percent increase
in personal bankruptcies. This surge
stemmed in part from changes in the
bankruptcy code that became effective
at the beginning of last year against a
backdrop of an apparently reduced
stigma associated with this method of
dealing with financial problems. Banks
responded to the deterioration in their
consumer loan portfolios by tightening standards and terms, especially

48

84th Annual Report, 1997

on credit cards. In contrast, banks eased
terms and conditions on home equity
loans.
Despite the rise in delinquencies
on consumer debt, household balance
sheets appear healthy overall, as growth
of household assets over the past two
years has more than kept pace with the
growth of debt. Although year-end balance sheet figures are not yet complete,
the net worth of households appears to
have risen approximately $5 trillion
from the end of 1994 to the end of 1996,
an amount that is equal to almost a full
year's personal disposable income.
Roughly two-thirds of that gain has been
accounted for by the surge in the prices
of corporate shares, which has lifted
the value of a wide range of household
investments, not only directly held
stocks but also assets held in other forms
such as pension plans. The ratio of
household net worth to personal disposable income continued to climb this past
year, moving to its highest level in
recent decades.
The Business Sector. Although many
interest rates rose last year, businesses
continued to find credit readily available
and at favorable terms. This accommodation likely resulted in part from the
strong financial condition of this sector,
reflected in minimal delinquency rates
on bank loans to businesses and very
low default rates on corporate bonds,
including those of low-rated issuers.
With securitization of household debt
instruments proceeding apace and with
high levels of capital, banks appeared
to have ample room on their balance
sheets for business loans. This situation
encouraged the development of a highly
competitive lending environment in
which banks further eased a variety of
credit terms, such as covenants and
markups over base rates. In capital markets, interest rate spreads of private debt



instruments over Treasuries narrowed,
particularly in the case of high-yield
bonds. Surveys by the National Federation of Independent Business revealed a
rising tendency of small businesses to
borrow over 1996, with credit availability reported to be in a range more favorable than at any time in the current
economic expansion.
On a gross basis, a pickup in bond
issuance by nonfinancial firms last
year was accounted for mainly by
speculative-grade offerings, likely in
part a reaction to the improved pricing. In the fourth quarter, however,
investment-grade issuance was substantial, responding to the decline in
interest rates that began in late summer.
Commercial paper declined in the final
months of the year, primarily because of
paydowns from bond proceeds, but bank
lending to businesses was strong, owing
in some part to robust merger activity.
Despite a marked increase in gross stock
issuance—with strong gains both for
initial public offerings and for seasoned offerings—equity continued to be
retired on net last year, as merger activity remained brisk and businesses used
ample cash resources to repurchase their
outstanding shares.
The Government Sector. The growth
of federal debt was held down in 1996
by legislative constraints on spending
and by the boost to tax receipts from
both the stronger economy and a booming stock market. Two years of contraction of state and local government
debt ended last year. The declines
had occurred as issues that were prerefunded earlier in the decade, when
interest rates were unusually favorable,
matured or became eligible to be called.
Pre-refunded debt continued to be called
last year, albeit at a reduced pace, but
this decline was just offset by gross
issuance, which picked up.

Monetary Policy Reports, February
Depository Intermediation. The expansion of depository credit slowed
last year, entirely reflecting a slower
advance in bank credit. Growth at thrift
institutions picked up, benefiting from
strong demand for residential mortgages
and improved capital positions. Growth
of commercial bank loans moderated,
as loans to businesses and, especially,
consumers decelerated from elevated
rates of growth in 1995. Bank portfolio
expansion also appears to have been
damped somewhat by a faster pace of
asset securitization, likely spurred by
receptive capital markets. For example,
real estate loan growth at banks was a
subdued 4 percent last year, despite a
robust housing market and a pickup in
commercial real estate. At the same
time, outstanding securities backed by
mortgage pools expanded at a $179 billion annual rate in the first three quarters
of last year, well above the pace of
1995. Commercial banks are a major
source of securitized mortgages. The
outstanding amount of consumer credit
that had been securitized by banks also
rose at a brisk pace last year, although
not so rapidly as in 1995. As a result of
the slowing of bank credit, the share of
last year's advance in nonfederal debt
that ended up on the books of depositories fell to about 38 percent, down
from around 44 percent in the preceding
two years.
The balance sheets and operating
results of depositories remained strong
in 1996. Bank profits through the third
quarter were at historically high levels
for the fourth consecutive year, reflecting the maintenance of relatively wide
interest rate margins, further loan
growth, and substantial fee income
related to sales of mutual funds as well
as to securitization and other offbalance-sheet activities. As of the third
quarter, almost 99 percent of commercial bank assets were held at banks



49

classified as "well capitalized." Underlying thrift profits were also stronger
last year. However, profits at thrift institutions and at banks with deposits
insured by the Savings Association
Insurance Fund (SAIF) were held down
temporarily by a special assessment on
deposits to recapitalize SAIF. (Some
bank deposits are SAIF-insured because
of mergers with thrift institutions or
acquisitions of them.)
The Monetary Aggregates
Despite the slowing of depository
credit, growth of the broader monetary
aggregates strengthened last year: M3
expanded 7 percent, up 1 percentage
Growth of Money and Debt
Percent

Ml

M2

M3

Domestic
nonfinancial
debt

8.7
9.0

9.6
12.4

9.5
10.2

1982
1983
1984

7.5
5.4
2.5 2
8.8
10.3
5.4

8.8
11.8
8.1

9.7
9.5
10.8

9.9
11.9
14.5

1985
1986
1987
1988
1989

12.0
15.5
6.3
4.3
.5

8.6
9.1
4.2
5.7
5.2

7.7
9.0
5.8
6.3
4.0

14.2
13.2
10.0
9.0
7.9

1990
1991
1992
1993
1994
1995
1996

4.1
7.9
14.4
10.6
2.5
-1.6
-4.6

4.1
3.1
1.8
1.3
.6
4.0
4.6

1.8
1.2
.6
1.1
1.7
6.2
6.9

6.9
4.6
4.7
5.1
5.2
5.5
5.3

Quarterly
(annual rate) 3
1996:Q1
Q2
Q3
Q4

-3.5
-1.4
-6.5
-7.4

5.3
4.5
3.4
5.0

6.6
6.3
5.4
8.5

5.0
5.7
5.3
4.9

Period

Annual'
1980
1981

1. From average for fourth quarter of preceding year to
average for fourth quarter of year indicated.
2. Adjusted for shifts to NOW accounts in 1981.
3. From average for preceding quarter to average for
quarter indicated.

50

84th Annual Report, 1997

point from 1995 and also 1 percentage
point above the upper end of its 2 percent to 6 percent annual range. M2
grew 4V2 percent, up Vi percentage point
and in the upper portion of its 1 percent to 5 percent range. As noted above,
the ranges for monetary growth last
year had been chosen to be consistent
with approximate price stability and
a sustainable rate of real economic
growth, rather than as indicators of
the range of money growth rates likely
to prevail under expected economic
conditions.
The acceleration of M3 was caused
partly by a shift in the way banks
financed their credit—specifically, substituting issuance of large time deposits
for borrowings from offices abroad.
Both foreign and domestically chartered
banks paid down net borrowing from
foreign head offices and branches last
year. For domestic banks, this paydown
may have been related to the reduction
to zero of insurance assessments on
deposits, beginning with the last quarter
of 1995. In addition, the greater growth
of M3 relative to that of M2 reflected
the need to fund particularly strong loan
growth at U.S. branches and agencies of
foreign banks, which do not offer the
retail accounts that dominate deposits
inM2.
Growth of both M2 and M3 was
supported again last year by continuing robust advances in money market
mutual funds (MMMFs). Because the
yields on these funds are based on the
average return earned on their assets,
they lag changes in yields on new market instruments; thus, the funds tend to
attract additional inflows when market
rates are falling. Accordingly, MMMFs
advanced most rapidly in the early part
of last year, when the monetary easings
of December and January pulled down
short-term rates, and also later in the
year, when short-term rates were again



declining. However, these instruments
expanded briskly even in the third quarter, when short-term rates were rising,
suggesting that part of the attractiveness
of MMMFs is the convenience they
offer those investors engaged in moving
funds in and out of stock and bond
mutual funds, which expanded at a
record pace last year. In addition,
institution-only funds seem to be having
considerable success in marketing cash
management programs that capture
excess cash of corporations and municipalities. Likely reflecting the attractiveness of money market and capital
market mutual funds last year, deposits
in M2 actually showed little growth
in 1996. Retail deposit growth also
may have been damped by a lack of
aggressive pricing of deposits on the
part of banks, as demand for their loans
slipped and they apparently found it
cheaper to finance a larger share of loan
originations through securitizations and
large time deposits.
The behavior of M2 relative to
income last year, as summarized by its
income velocity, again bore a fairly systematic relationship to M2's opportunity
cost—the return on M2 assets relative
to yields available on alternative instruments. The relationship of velocity to
opportunity costs was reasonably stable
historically, but it broke down in the
early 1990s, a period characterized by
extensive restructuring of balance sheets
by households, businesses, and banks.
In the process, M2 velocity rose substantially and, apparently, permanently.
Since 1993, velocity no longer appears
to be shifting higher, and M2 velocity and opportunity costs are moving
together about as they did before 1990.
However, the recent period of relative
stability in this relationship has been too
short for the Federal Reserve to place
increased reliance on M2 as a guide to
policy at this time.

Monetary Policy Reports, February
Ml contracted AVi percent last year,
as the pace at which new arrangements
were established to sweep reservable
retail transactions deposits to nonreservable nontransaction accounts accelerated. The initial amounts removed
from transaction accounts by sweep
arrangements established last year
amounted to $116 billion, compared
with $45 billion in 1995. Ml continued
to be supported by currency growth
last year, when foreign demands, which
were depressed earlier in the year
partly in anticipation of the new
$100 bill, picked up in the second
half. Adjusted for the initial amounts
removed from transaction accounts by
sweep arrangements, Ml grew 5lA percent last year. The sweeping of transaction deposits contributed to a contraction of almost 12 percent in required
reserves—twice the rate of decline of
the previous year. The monetary base
decelerated only a little, however, as
growth of its major component, currency, was little changed between 1995
and 1996.
Continued declines in the levels of
required reserves have the potential to
impinge on the Federal Reserve's ability
to exert close day-to-day control over
the federal funds rate—the overnight
rate on reserves traded among depository institutions. Depositories hold balances at Reserve Banks to meet daily
clearing needs in addition to satisfying
statutory reserve requirements. At low
enough levels, reserve balances may
provide inadequate protection against
adverse clearings, and banks' attempts
to avoid overdrafts could generate
highly variable daily demands for balances at the Federal Reserve and a volatile federal funds rate. To date, however,
no serious problems have emerged,
in part because the substantial drop in
depositories' required reserve balances
attributable to sweeps has been partially



51

offset by increases in their holdings of
required clearing balances—an arrangement whereby depositories pay for
services provided by the Federal
Reserve through the holding of specified
amounts in reserve account balances. In
addition, advances in banks' techniques
of monitoring balances at the Federal
Reserve and gauging their clearing
needs have enabled them to operate efficiently and smoothly at relatively low
levels of balances. Sweeps have had an
effect on Federal Reserve earnings and
the amounts it remits to the Treasury.
The decline in reserve balances of about
$12 billion owing to sweeps must be
matched by an accompanying lower
level of Treasury securities on the books
of Reserve Banks. The Federal Reserve
continues to monitor sweep activity
closely.
Interest Rates, Equity Prices,
and Exchange Rates
Interest Rates.
Declines in interest
rates during the second half of last year
on evidence that economic growth had
moderated only partially reversed the
increases over the first half. Reflecting the surprising strength in economic
activity last year, longer-term Treasury
rates rose on balance on the order of
x
h percentage point over the year, and
intermediate rates were up somewhat
more. Spreads between most private
rates and Treasuries narrowed markedly
last year, reflecting the high quality of
business balance sheets. Municipal rates
moved up comparatively little over the
first half of 1996, as earlier relative
increases in these yields associated with
discussions of fundamental tax reform
were reversed when the likelihood of
such changes to the tax code diminished. Movements in interest rates over
the year appeared to be basically in their
real component, as inflation expecta-

52

84th Annual Report, 1997

tions were little changed, according to
surveys.
Equity Prices.
The substantial rise
in equity prices last year was only a bit
below that registered in 1995. However,
in contrast to 1995, when bond rates
declined substantially, the equity gains
last year came despite the net rise in
bond rates. Corporate earnings were
robust last year, but their advance fell
short of share price increases, and priceearnings ratios rose to unusually high
levels; dividend-price ratios were even
more out of line with historical experience. Market participants appear to
be anticipating further robust earnings
growth, and they also seem to be requiring much less compensation for the
extra risk of holding equities compared
to, say, Treasury bonds. Such evaluations may be based on a perceived environment of persisting low inflation and
balanced economic growth that would
lower the odds of disruptions to economic activity. Other asset prices were
generally subdued. Commodity prices
were flat to down. Commercial real
estate prices, although no longer falling, rose at little more than the rate of
inflation. Residential real estate prices
increased moderately.
Exchange Rates.
The foreign exchange value of the dollar in terms of
the currencies of the other G-10 countries rose about 4 percent during 1996.
When measured in terms of the currencies of a broader group of U.S. trading
partners and adjusted for differences
in consumer price inflation, the appreciation of the dollar last year was also
about 4 percent. Much of the rise in the
exchange value of the dollar occurred
during the first half of the year. Indications of greater-than-expected underlying strength in the U.S. economy and
signs of weakness in some European



economies in the first two quarters
reinforced market expectations that U.S.
monetary policy was less likely to be
eased than was policy in the other
industrial countries. These expectations
boosted U.S. long-term interest rates
relative to those abroad and contributed
to upward pressure on the dollar. The
dollar fluctuated somewhat from June
through December but on balance
changed little. Over the course of 1996,
the dollar appreciated 12 percent in
terms of the yen and 13A percent in
terms of the mark. During the first
weeks of 1997, the dollar's average
value against the G-10 currencies has
again moved up, appreciating about
7 percent since the end of December, as
economic data have suggested additional strength in the U.S. economy and
have raised questions about the vigor of
economic expansions in several foreign
industrial countries.
On average, yields on ten-year government securities in the major foreign
industrial countries fell about 80 basis
points last year, with most of the decline
coming in the second half. In Italy,
long-term rates declined much more,
about 375 basis points, in response to
low growth in real output, substantial
progress in lowering inflation, and
sizable, credible measures to reduce the
government deficit. In contrast, longterm rates in the United Kingdom rose
slightly as the economy strengthened.
Rates in Japan rose early in the year as
the economy spurted, but subsequent
indicators of a weakening expansion
caused rates to turn back down; over the
year, they declined about 40 basis points
on net. Long-term rates abroad have
moved down slightly further so far this
year. Short-term market rates in the
foreign industrial countries on average
declined about 120 basis points during
1996. Except in Japan, official central
bank lending rates were lowered in the

Monetary Policy Reports, July
foreign G-10 countries last year, contributing to the decline in market rates.
Equity prices in most industrial countries rose strongly last year. The major
exception was Japan, where prices on
balance fell slightly. The general decline
in long-term interest rates abroad and
moves toward monetary ease were
among the factors contributing to the
upward movement in stock prices.
The dollar appreciated in nominal
terms about 2!/2 percent on balance
against the Mexican peso during 1996,
with much of that appreciation coming
over a few weeks in October. After having fluctuated in a narrow range for most
of the year, the Mexican peso depreciated in terms of the dollar when market participants became concerned about
the loss of competitiveness of Mexican
exports during the year and about
the partial nature of the government's
planned privatization of the petrochemical industry. Peso interest rates rose in
October and November, but have since
more than retraced that increase as the
peso has stabilized. In January, Mexican
officials repaid all remaining outstanding obligations to the Exchange Stabilization Fund of the U.S. Treasury, completing repayment to the United States
of all borrowings that were made following the peso crisis in late 1994; a
partial early repayment was made to the
International Monetary Fund as well.
In the first three quarters of 1996,
large increases were reported in both
foreign ownership of assets in the
United States and U.S. ownership of
assets abroad. Over the same period,
foreign official assets in the United
States increased almost $90 billion. Part
of this increase was associated with
exchange market intervention by the
Japanese authorities to counter a brief
strengthening of the exchange value of
the yen early in the year, but a larger
part reflected the repurchase of reserves



53

by several European countries whose
currencies strengthened against the
mark. About half reflected increases
in reserves of newly industrializing
countries.
Private foreigners also added substantially to their assets in the United States
in the first three quarters of 1996. Net
purchases of U.S. Treasury securities by
private foreigners amounted to $85 billion through September, and net purchases of corporate and government
agency bonds were equally large. Foreign direct investment in the United
States surged to a record $71 billion in
the first three quarters, reflecting numerous mergers and acquisitions of U.S.
companies by foreigners.
U.S. private investors also added rapidly to their holdings of foreign assets in
the first three quarters of 1996. In contrast to foreign investors in the United
States, U.S. portfolio investors favored
foreign stocks over bonds. Net purchases in Japan were particularly large
in the first half of the year. In addition,
U.S. direct investment abroad remained
strong, reflecting acquisitions and continued privatizations of foreign firms.

Report on July 22, 1997
Monetary Policy and the
Economic Outlook
The economy continued to perform
exceptionally well in the first half of
1997. Real output grew briskly, while
inflation ebbed. Sizable further increases
in payrolls pushed the unemployment
rate below 5 percent for the first time
in nearly twenty-five years. Although
growth in real gross domestic product
appears to have slowed in the spring,
this slackening came on the heels of a
dramatic surge in the opening months

54

84th Annual Report, 1997

of the year; all indications are that
the expansion remains well intact. The
members of the Board of Governors and
the Reserve Bank presidents anticipate
that the economy will grow at a moderate pace in the second half of this
year and in 1998 and that inflation will
remain low. Conditions in financial markets are supportive of continued growth:
Longer-term interest rates are in the
lower portion of the range observed in
this decade, the stock market has registered all-time highs, and credit remains
readily available to private borrowers.
Since the February report on monetary policy, Federal Reserve policymakers have revised upward their expectations for growth of real activity in 1997
and trimmed their forecasts of inflation.
This combination of revisions highlights
the extraordinarily positive conditions
still prevailing more than six years into
the current economic expansion. In part,
the recent confluence of higher-thanexpected output and lower inflation
has reflected the favorable influences
on prices of retreating oil prices and a
strong dollar. But it may also be attributable to more durable changes in our
economy, notably a greater flexibility
and competitiveness in labor and product markets and more rapid, technologydriven gains in efficiency. In essence,
the economy may be experiencing an
upward shift in its longer-range output
potential.
To the extent that aggregate supply
is expanding more rapidly, monetary
policy can accommodate extra growth
in demand without fostering increased
inflationary pressures. In late March,
however, the Federal Open Market
Committee (FOMC) concluded that
there was a significant risk that aggregate demand would grow faster in the
coming quarters than available supply,
which, with utilization already at a very
high level, would place the economy's



resources under increasing strain. If
such unsustainable growth persisted, the
resulting inflationary imbalances would
eventually undermine the health of the
expansion—the all too frequent pattern
of past business cycles. To protect
against the possibility of such an outcome, the Committee tightened policy
slightly. With the softening of demand
in the spring, the Committee was able
to maintain a steady posture in the
money market while closely monitoring
economic developments. The ongoing
objective of monetary policy is to help
the nation achieve maximum sustainable economic growth and the highest
average living standards. The Federal
Reserve recognizes that it can best
accomplish this objective by keeping
inflation in check, because an environment of price stability is most conducive
to sound, long-term planning by households and businesses.
Monetary Policy, Financial
Markets, and the Economy
over the First Half of 1997
The rapid economic growth observed in
the closing months of 1996 continued
in the first quarter of this year, with
real gross domestic product advancing
almost 6 percent at an annual rate. Consumer spending surged, fueled by a
significant increase in income, upbeat
consumer attitudes, and the effects of
the huge run-up in equity prices over the
past couple of years on household net
worth. Business fixed investment was
strong, and companies restocked inventories that had become thin as sales
soared. The advance in real output
provided support for considerable new
hiring; rising pay and greater job availability drew additional people into the
workforce, lifting the labor force participation rate to a new high during the first
quarter of the year. The underlying trend

Monetary Policy Reports, July
in consumer price inflation was still
subdued. Inflation pressures were held
in check by smaller food price increases,
declining prices for non-oil imports, the
marked expansion of industrial capacity
in recent years, and continuing efforts
by businesses to boost efficiency.
At their meeting in late March,
FOMC members expected that the
growth of economic activity would ease
in the coming months, but they were
uncertain about the likely extent of that
slowing. Although the first-quarter burst
in production had owed importantly to a
number of temporary factors, many of
the fundamentals underlying consumer
and business demand remained quite
positive. The Committee was concerned
about the risk that if outsized gains in
real output continued, pressures on costs
and prices would emerge that could
eventually undermine the expansion.
Therefore, to help foster more sustainable trends in output and guard against
potential inflationary imbalances, the
Committee firmed policy slightly by
raising the expected federal funds rate
from around 5lA percent to around
5 Vi percent.
The unsustainably strong pace of
economic growth in the first quarter
weighed on financial markets. Interest
rates rose substantially, even before the
System's action, despite favorable news
on inflation. Because the policy tightening was widely anticipated, rates were
little affected by the announcement, but
they moved up a little more in the
following weeks as incoming data suggested persistent strength in economic
activity. Equity prices rose early in the
first quarter and then declined, changing relatively little on net. The tradeweighted value of the dollar in terms
of the other G-10 currencies increased
about 7 percent in the first quarter,
reflecting the unexpectedly strong economic growth in the United States and



55

market uncertainty about economic performance abroad.
As the second quarter progressed, it
became increasingly evident that economic activity had indeed decelerated.
The expansion of consumer spending
eased considerably, while business fixed
investment remained strong. Employment continued to climb rapidly, pushing the unemployment rate down below
5 percent on average in the second
quarter—the lowest level since the early
1970s. Despite high levels of employment and production through the first
half of the year, there were few signs
that inflation was deviating significantly from recent trends. Although
overall consumer price inflation dipped
in the second quarter as energy prices
declined, consumer prices excluding
food and energy increased at about the
same pace in the first half of the year as
in 1996.
Continued favorable price movements
and the slowing of economic growth
suggested to financial market participants that inflation might remain
damped without a further tightening of
financial conditions, and this belief
prompted a substantial drop in interest
rates from late April to mid-July, reversing the earlier advance. With resource
utilization still at very high levels, and
with economic and financial conditions
conducive to robust increases in spending, the FOMC at its May meeting
continued to view the risks as skewed
toward the re-emergence of inflationary
pressures. But the moderation in aggregate demand and uncertainty about the
relationship between utilization rates
and inflation led the Committee to leave
reserve conditions unchanged in May
and again in July. The drop in market
interest rates in the second quarter may
also have been encouraged by favorable
news about this year's federal budget
deficit and by the agreement between

56

84th Annual Report, 1997

the President and the Congress to balance the budget in fiscal year 2002.
Spurred by lower rates and greater optimism about the long-term outlook for
earnings, the stock market surged in the
second quarter and into July. The value
of the dollar rose somewhat further in
foreign exchange markets, on balance,
an increase more than accounted for
by an appreciation against continental
European currencies.
During the first half of the year, credit
remained available on favorable terms
to most households and businesses.
High delinquency rates for consumer
loans encouraged many banks to tighten
standards, but consumer loan rates
generally stayed fairly low relative to
benchmark Treasury rates, and consumer credit continued to grow faster
than income and only a little below
the pace of 1996. Home mortgage debt
advanced at a moderate rate, with home
equity loans expanding especially rapidly in the spring. Businesses continued
to have access to ample external funding both directly in capital markets and
through financial intermediaries. The
spreads between yields on corporate
bonds and Treasury securities stayed
low or fell further, and, relative to market rates, bank business loan rates held
near the lower end of the range seen in
the current expansion.
Total domestic nonfinancial debt
expanded more slowly in the first half
of 1997 than in 1996, mainly because of
a reduced pace of federal borrowing.
Trends in the monetary aggregates during the first half of 1997 were similar to
those in 1996, with M2 near the upper
end of the range set by the FOMC and
M3 somewhat above its range. This outcome was in line with FOMC expectations, because the ranges had been set to
be consistent with conditions of price
stability, and inflation, while damped,
remained above this level. The behavior



of M2 in the first part of the year
was again reasonably well explained by
changes in nominal GDP and interest
rates.
Economic Projections
for 1997 and 1998
After growing swiftly on balance over
the first half of the year, economic activity is expected to expand more moderately in the second half of 1997 and in
1998. For this year, the central tendency
of the GDP growth forecasts put forth
by members of the Board of Governors
and the Reserve Bank presidents is
3 percent to 3V4 percent, measured as
the change in real output between the
final quarter of 1996 and the final quar-

Economic Projections for 1997 and 1998
Percent

Indicator

Federal Reserve governors
and
Reserve Bank presidents
Central
tendency

Range
1997
Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP
Consumer price index 2

3-31/2
2-2 3 / 4

Average level
in the fourth quarter
Civilian unemployment
rate

43/4-51/4

5-6

5-51/2
3-31/4
21/4-2V2

4 3 /4-5

1998
Change, fourth quarter
to fourth quarter1
Nominal GDP
Real GDP
Consumer price index 2
Average level
in the fourth quarter
Civilian unemployment
rate

4'/4-5 3 /4
21/2-3

41/2-5
2 - 2 V2
21/2-3

41/2-51/4

43/4-5

2-3

1. Change from average for fourth quarter of preceding year to average for fourth quarter of year indicated.
2. All urban consumers.

Monetary Policy Reports, July
ter of 1997. For 1998, most of the forecasts anticipate growth of real GDP
within a range of 2 percent to 2Vi percent. With this pace of continued economic expansion over the next six quarters, the central tendency of forecasts for
the civilian unemployment rate remains
a little under 5 percent through 1998,
about the average for the second quarter
of this year.
Economic activity appears to have
entered the second half with considerable positive momentum. Households
have experienced hefty gains in employment, income, and wealth, and their
optimism about the future is quite high.
These factors seem likely to outweigh
any drag on consumer demand that
might be associated with the debtservicing problems that some households have experienced. Lower mortgage rates are buttressing demand for
homes. In the business sector, healthy
balance sheets and profits and a moderate cost of external funds, along with a
continuing desire to install new technology, are providing support and impetus for investment in equipment. Meanwhile, investment in structures should
follow last year's strong performance
with further increases, because of
declining vacancy rates in some sectors
and ready access to financing.
Notwithstanding the economy's positive momentum, growth is expected to
be more moderate in the next year and
a half than in the first half of 1997. In
part, this deceleration is likely to reflect
the influence on demand of the substantial buildup of stocks of household durables and business plant and equipment
thus far in the expansion. As well, the
pace of inventory investment will need
to slacken considerably relative to that
observed in the first part of this year, lest
stock-to-sales ratios become uncomfortably high. In the external sector, the
strength of the dollar on exchange



57

markets since last year could damp
export sales and encourage U.S. firms
and households to purchase foreignproduced goods and services.
Federal Reserve policymakers believe
that this year's rise in the CPI will
be smaller than that of 1996, mostly
because of favorable developments in
the food and, especially, energy sectors.
After last year's run-up, crude oil prices
have dropped back significantly, pulling
down the prices of petroleum products.
Food price increases also have been
subdued this year, as the decline in grain
prices that began in the middle of last
year has been working its way through
to the retail level. Looking ahead to
next year, the governors and Reserve
Bank presidents expect larger increases
in the CPI, with a central tendency
from 2!/2 percent to 3 percent. Food and
energy prices are not expected to repeat
this year's salutary performance, and
non-oil import prices may be less of
a restraining influence than in 1997,
absent a continued uptrend in the dollar.
Moreover, there is a risk that high
levels of resource utilization could begin
putting upward pressure on business
costs.
As noted in past monetary policy
reports, the CPI forecasts of Federal
Reserve policymakers incorporate the
technical improvements that the Bureau
of Labor Statistics is making to the CPI
in 1997 and 1998. A series of technical
changes is estimated to have trimmed
reported rates of CPI inflation slightly in
recent years, and the additional changes
will affect the index this year and next.
In light of the challenges of accurately
measuring price changes in a complex
and dynamic economy, the governors
and Reserve Bank presidents will continue placing substantial weight on other
price indexes, along with the CPI, in
gauging progress toward the long-run
goal of price stability.

58

84th Annual Report, 1997

The Administration has not yet
released an update of the economic
projections contained in the February
Economic Report of the President. The
earlier Administration forecasts were
broadly similar to those in the Federal
Reserve's February report, with Administration forecasts for growth and inflation within or near the range anticipated
by Federal Reserve policymakers in
February. Because of developments in
the economy since that time, the central
tendency of forecasts for real GDP
growth put forth by the members of
the Board of Governors and the Reserve
Bank presidents has moved higher,
while their forecasts for the CPI have
moved down.

behavior of the velocities of the two
aggregates. For several decades until the
1990s, these aggregates exhibited fairly
stable trends relative to nominal spending, and variations in M2 growth around
its trend were reasonably closely related
to changes in the spread between market
rates and yields on the assets in M2.
These relationships were disrupted in
the first part of this decade. Between
1991 and early 1994, the velocities of
M2 and M3 climbed well above the
levels that were predicted by past experience, as households shifted substantial
amounts out of lower-yielding deposits
into higher-yielding stock and bond
mutual funds, and as banks and thrift
institutions sharply curtailed their lending to focus on rebuilding capital. Since
mid-1994, the velocities have been
Money and Debt Ranges
moving more nearly in line with their
for 1997 and 1998
historical patterns with respect to
At its meeting earlier this month, the changes in opportunity costs—albeit at
Committee reaffirmed the ranges for higher levels. This recent period of
1997 growth of money and debt that it renewed stability is still brief, however,
had established in February: 1 percent to and has occurred at a time of relatively
5 percent for M2, 2 percent to 6 percent stable financial and economic condifor M3, and 3 percent to 7 percent for tions, leaving open the important questhe debt of the domestic nonfinancial tion of whether the stability would be
sectors. The Committee also set provi- sustained in the future under a wider
sional ranges for 1998 at the same levels variety of circumstances.
as for 1997.
In light of this uncertainty, the ComIn choosing the ranges for M2 and mittee again decided to view the ranges
M3, the Committee recognized the as benchmarks for monetary growth
continuing uncertainty about the future rates that would be consistent with
approximate price stability and historical velocity relationships. If velocities
Ranges for Growth of Monetary
change little over the next year and a
and Debt Aggregates
half, Committee members' expectations
of nominal GDP growth in 1997 and
Percent
1998 imply that M2 and M3 will likely
Provisional
1997
for
Aggregate
1996
finish around the upper boundaries of
1998
their respective ranges each year. The
debt of the domestic nonfinancial secM2
1-5
1-5
1-5
2-6
2-6
2-6
M3
tors is expected to remain near the
3-7
Debt
3-7
3-7
middle of its range this year and next.
NOTE. Change from average for fourth quarter of
The Committee will continue to monitor
preceding year to average for fourth quarter of year
the behavior of the monetary aggregates
indicated.



Monetary Policy Reports, July
and domestic nonfinancial debt—as
well as a wide range of other data—for
information about economic and financial developments.

Economic and Financial
Developments in 1997
The economy has continued to perform
exceptionally well this year. Real gross
domestic product surged almost 6 percent at an annual rate in the first quarter
of 1997, and available data point to
a healthy, though smaller, increase in
the second quarter. Financial conditions remained supportive of spending.
Despite a modest tightening of money
market conditions by the System, most
interest rates were little changed or
declined a bit on net during the first half
of the year, and equity prices surged
ahead. With relatively few exceptions,
credit remained readily available from
both intermediaries and financial markets on generally favorable terms. The
rapid increases in output led to a further
tightening of labor markets in the first
six months of 1997, and labor costs
accelerated a little from the pace of a
year earlier. Price inflation has been subdued, held down in part by declines
in energy prices, smaller increases in
food prices, and lower prices for non-oil
imports that have followed in the wake
of the appreciation of the dollar. In addition, intense competition, adequate plant
capacity, and ongoing efficiency gains
have helped to restrain inflation pressures in the face of rising wages.
The Household Sector
Spending, Income, and Saving
After posting a sizable increase in 1996,
real personal consumption expenditures
jumped 5Vi percent at an annual rate
in the first quarter of 1997. Although the



59

advance in spending slowed thereafter—
partly because of unusually cool weather
in late spring—underlying fundamentals
for the household sector remain favorable to further solid gains; notably, real
incomes have continued to rise, and
many consumers have benefited from
sizable gains in wealth. With this good
news in hand, consumers have become
extraordinarily upbeat about the economy's prospects. Indexes of consumer
sentiment—such as those compiled by
the Survey Research Center at the University of Michigan and the Conference Board—have soared to some of
the highest readings since the 1960s.
Despite this generally healthy picture,
some households still face difficulties
meeting debt obligations, and delinquency rates for consumer loans have
remained at high levels.
Real outlays for consumer durables
surged 18% percent (annual rate) in the
first quarter of this year but apparently
slowed considerably in the second quarter. After changing little, on net, last
year, consumer purchases of motor vehicles increased rapidly early in the year, a
result of sound fundamentals, a bounceback from the strike-depressed fourth
quarter, and enlarged incentives offered
by automakers. In the second quarter,
sales were once again held down noticeably by strike-related supply constraints,
as well as by some payback from the
elevated first-quarter pace. Smoothing
through the ups and downs, the underlying pace of demand in the first half
of the year likely remained reasonably
close to the 15 million unit rate that has
prevailed since the second half of 1995.
Purchases of durable goods other than
motor vehicles also took off in the first
quarter; computers and other electronic
equipment were an area of notable
strength, as households took advantage
of rapidly falling prices to acquire the
latest technology. According to avail-

60

84th Annual Report, 1997

able monthly data, purchases of durables other than motor vehicles and electronic equipment moderated in the
second quarter. Although a pause in the
growth of spending is not surprising
after the strong first quarter, unusually
cool spring weather, leading to the postponement of purchases of some seasonal items, may also have contributed
to the moderation.
Growth of real spending for nondurables also appears to have slowed considerably from a strong first-quarter
pace. Within services, weather conditions held down growth of real outlays
for energy services in the first quarter
and boosted them in the second. Growth
of real outlays for other services—
typically the steadiest component of
consumption—picked up at the end of
1996 and appears to have stayed ahead
of last year's 2V2 percent pace in the
first half of 1997.
Consumer spending continued to
draw support from healthy advances in
income this year, as gains in wages and
salaries boosted personal disposable
income. These gains translated into a
4 percent annual rate advance in real
disposable income in the first quarter,
after a significant 23A percent advance
last year. Although month-to-month
movements were affected by unevenness in the timing of tax payments, the
underlying trend in real disposable
income remained strong into the second
quarter.
On top of rising incomes, further
increases in net worth—primarily
related to the soaring stock market—
have given many households the financial wherewithal to spend. In light of the
very large gains in wealth, the impetus
to consumption appears to have been
smaller than might have been anticipated on the basis of historical relationships, suggesting that other factors
may be offsetting the effect of higher



net worth. One such factor could be
a greater focus on retirement savings,
particularly among the large cohort
of the population reaching middle age.
Concerns about the adequacy of saving
for retirement have likely been heightened by increased public discussion of
the financial problems of social security
and federal health programs. In addition, debt problems may be restraining
the spending of some households.
Residential Investment
The underlying pace of housing activity
has remained at a high level this year,
even though some indicators suggest
that activity has edged off a bit from last
year's pace. In the single-family sector,
housing starts through June averaged
1.14 million units at an annual rate, a
shade below the pace of starts in 1996.
Although starts dipped in the second
quarter, the decline was from a firstquarter level that, doubtless, was
boosted by mild weather. Mortgage rates
have zigzagged moderately this year;
the average level has differed little from
that in 1996. With mortgage rates low
and income growth strong, a relatively
large proportion of families has been
able to afford the monthly cost of
purchasing a home. Home sales have
remained strong, helping to keep inventories of unsold new units relatively
lean—a favorable factor for prospective
building activity. Other indicators of
demand remain quite positive. According to the latest survey by the National
Association of Homebuilders, builders'
ratings of new home sales strengthened
in recent months to the highest level
since last August. Moreover, consumers' assessments of conditions for homebuying, as reported by the Survey
Research Center at the University of
Michigan, remained very favorable
into July. In addition, the volume of

Monetary Policy Reports, July
applications for mortgages to purchase
homes has moved up recently to a high
level.
The pace of multifamily starts has
been well maintained. These starts averaged close to 320,000 units at an annual
rate from January to June, a little above
last year's figure for starts. Even so,
the pace of multifamily construction
remains well below peaks in the 1970s
and 1980s, partly because of changes in
the nation's demographic composition
as the bulge of renters in the 1980s has
moved on to home ownership. Another
factor that has restrained multifamily
construction is the growing popularity
of manufactured housing ("mobile
homes"), which provides an alternative
to rental housing for some households.
In particular, the price of a typical manufactured unit is considerably less
than that of a new single-family house,
making manufactured homes especially
attractive to first-time buyers and to
people purchasing second houses or
retirement homes. Shipments of these
homes trended up through last fall and
then flattened out at a relatively high
level.
Household Finance
Household balance sheets strengthened
in the aggregate during the first half of
1997, but debt-payment problems continued at a high level in several market
segments. Indebtedness grew less rapidly than it had in 1996, and further
gains in equity markets pushed up the
ratio of household net worth to disposable personal income to its highest
mark in recent decades. Consumer credit
increased at a 6V4 percent annual rate
between December 1996 and May 1997,
compared with %lA percent in 1996.
The growth of mortgage debt was
somewhat slower in the first quarter
than in 1996 and, according to avail


61

able indicators, probably stayed at
roughly the same rate during the second quarter.
The estimated ratio of required payments of loan principal and interest to
disposable personal income remained
high in the first quarter, after climbing
rapidly between early 1994 and early
1996 and rising more slowly in the second half of last year. This measure of
the debt-service burden of households
has nearly returned to the peak reached
toward the end of the last business cycle
expansion. Adding estimated payments
on auto leases to households' scheduled
monthly debt payments boosts the ratio
a little more than 1 percentage point and
places it just above its previous peak.
Indicators of households' ability to
service their debt have been mixed. The
delinquency rate for mortgage loans past
due sixty days or more is at its lowest
level in two decades, but delinquency
rates for consumer loans are relatively
high. According to data from the Report
of Condition and Income filed by banks
(the Call Report), the delinquency rate
for credit card loans was roughly
unchanged in the first quarter of 1997,
remaining at its highest value since
late 1992, when the economy was in
the midst of a sluggish recovery and
the unemployment rate was more than
2 percentage points higher than today.
For auto loans at the finance companies
affiliated with the major manufacturers, the delinquency rate rose again in
the first quarter, continuing the steady
run-up in this measure over the past
three years.
Anecdotal evidence suggests that the
recent increases in consumer credit
delinquency rates had been partly anticipated by lenders, reflecting the normal
seasoning of loans as well as banks'
efforts to stimulate borrowing by making credit more broadly available and
automakers' attempts to stimulate sales

62

84th Annual Report, 1997

using the same approach. During the
past several years, lenders have aggressively sought business from people
who might not have been granted
credit previously, in part because of
lenders' confidence in new "credit
scoring" models that statistically evaluate an individual's creditworthiness.
Despite these new tools, banks evidently have been surprised by the
extent of the deterioration of their consumer loans and have tightened lending standards as a result. Nearly half
the banks responding to the Federal
Reserve's May survey on bank lending practices had imposed more stringent standards for new credit card
accounts over the preceding three
months, with a smaller fraction reining in other consumer loans. About
one-third more of the responding banks
expected charge-off rates on consumer loans to increase further over the
remainder of the year than expected
charge-off rates to decrease; many of
those expecting an increase cited consumers' growing willingness to declare
bankruptcy. Rising delinquency rates
have also put pressure on firms specializing in subprime auto loans, with some
reporting reduced profits and acute
liquidity problems.
According to the most recently available data, personal bankruptcies surged
again in the first quarter of the year after
rising 30 percent in 1996. The rapid
increases of late are partly related to the
same increase in financial stress evident
in the delinquency statistics, but they
may also be tied to more widespread
use of bankruptcy as a means of dealing with such stress. Changes in federal
bankruptcy law effective at the start of
1995 increased the value of assets that
may be protected from liquidation, and
there may also be a secular trend toward
less stigma being associated with declaring bankruptcy.



The Business Sector
Investment Expenditures
Following a fifth year of sizable
increases in 1996, real business fixed
investment rose at an annual rate of
11 percent in the first quarter. The
underlying determinants of investment
spending remain solid: strong business
sales, sizable increases in cash flow, and
a favorable cost of capital, especially for
high-tech equipment. To be sure, a significant portion of this investment has
been required to update and replace
depreciated plant and equipment; nevertheless, the current pace of investment
implies an appreciable expansion of the
capital stock.
Real outlays for producers' durable
equipment jumped at an annual rate of
123A percent in the first quarter of this
year after rising 93A percent last year. As
in recent years, purchases of computers
and other information processing equipment contributed importantly to this
gain. The computer sector has been propelled by declining prices of new and
more powerful products and by a drive
in the business sector to improve efficiency with these latest technological
developments. Real purchases of communications equipment also have been
robust, boosted by rapidly growing
demand for wireless phone services and
Internet connections as well as by
upgrades to telephone switching and
transmission equipment in anticipation
of eventual deregulation of local phone
markets. In addition, purchases of aircraft by domestic airlines moved higher
on net in 1995 and 1996 and—on the
basis of orders and production plans of
aircraft makers—are expected to rise
considerably further this year. For the
second quarter, data on orders and
shipments of nondefense capital goods
in April and May imply that healthy

Monetary Policy Reports, July
increases in equipment investment have
continued.
Real business spending for nonresidential structures posted another sizable
increase in the first quarter after advancing a hefty 9 percent in 1996. Although
the latest data suggest a slowing of the
pace of advance in the second quarter,
the economic factors underlying this
sector point to continued increases.
Vacancy rates have been falling and
rents have been improving. Financing
for commercial construction reportedly is in abundant supply, especially
with substantial amounts of capital
flowing to real estate investment trusts
(REITs).
Trends in construction continue to
differ among sectors. Increases in office
construction were especially robust in
recent quarters, as vacancy rates fell
for both downtown and suburban properties. With office-based employment
expanding, this sector has continued to
recover from the severe slump of the
late 1980s and early 1990s; even so, the
level of con struction activity is barely
more than half that of the mid-1980s.
Construction of other commercial buildings has increased steadily during the
past five years, and the gain in the first
quarter of this year was sizable. Since
the current expansion began, the nonoffice commercial sector has provided
a large contribution to overall construction spending. Industrial construction
dropped back in the first quarter after
jumping at the end of last year; the trend
for this sector has been relatively flat on
balance in recent years.
During 1996, investment in real nonfarm business inventories was modest
compared with the growth of sales, and
the year ended with lean inventories
in many sectors. In the first quarter of
this year, businesses moved to rebuild
stocks, and inventory investment picked
up substantially. Outside of motor vehi


63

cles, stocks rose in the first quarter, with
particularly sizable increases coming
from a continued ramp-up in production of aircraft and from a restocking
of petroleum products during a period
when prices eased. Nevertheless, with
extraordinarily strong sales, inventorysales ratios still moved down further
in the major sectors. Available monthly
data suggest that vigorous inventory
investment outside of motor vehicles
continued through mid-spring, as firms
responded to strength in current and
prospective sales. For motor vehicles,
inventories moved up some in the first
quarter of this year, after strike-related
reductions in the fourth quarter. In the
second quarter, the monthly pattern of
motor vehicles stocks was bounced
around somewhat by strikes; cutting
through the noise, inventories of light
vehicles still appear to be in balance.
Corporate Profits and
Business Finance
The continued rapid advance of business investment this year has been
financed through both strong cash flow
and substantial borrowing at relatively
favorable terms. Economic profits (book
profits after inventory valuation and
capital consumption adjustments) in the
first quarter were 13A percent higher
than a year earlier. For the nonfinancial
sector, domestic profits were more than
9 percent higher, reaching their highest
share of those firms' domestic output
in the current expansion. Despite abundant profits, the financing gap for these
companies—the excess of capital expenditures (including inventory investment)
over internally generated funds—has
widened somewhat since the middle of
1996. To fund that gap, and the ongoing
net retirement of equity shares, nonfinancial corporations increased their
debt 6V2 percent at an annual rate in the

64

84th Annual Report, 1997

first quarter, compared with 5lA percent
during 1996.
External funding has remained readily available to businesses on favorable
terms. The spreads between yields on
investment-grade bonds and yields on
Treasury securities have stayed low
since the beginning of the year, while
the spreads on high-yield bonds have
declined further to historically narrow
levels. Price-earnings ratios are high,
implying a low cost of equity financing.
Further, banks remain accommodative
lenders to businesses. According to the
Federal Reserve's most recent survey of
business lending, the spreads between
loan rates and market rates have held
about steady for borrowers of all sizes,
with rate spreads for large loans near the
lower end of the range seen over the
past decade. Moreover, surveys by the
National Federation of Independent
Business indicate that small businesses
have not had difficulty obtaining credit.
The plentiful supply of credit probably stems from several factors. Most
banks are well positioned to lend: Their
profits are strong, rates of return on
equity and on assets are high, and capital is ample. In addition, continued substantial inflows into stock and highyield bond mutual funds suggest that
investors may now perceive less risk
in these areas or may be more willing
to accept risk. In fact, businesses generally are in very good financial condition, with the estimated ratio of operating cash flow to interest expense for
the median nonfinancial corporation
remaining quite high in the first part of
the year. Moreover, delinquency rates
for business loans at banks have stayed
extremely low, as has the default rate on
speculative-grade debt.
The increase in the pace of business
borrowing in the first half of 1997 was
widespread across sources of finance.
Nonfinancial corporations stepped up



their borrowing from banks. The outstanding commercial paper of these corporations also increased on net from
December through June, after declining
a little in 1996. Meanwhile, these businesses' net issuance of long-term bonds
in the first half of the year exceeded
last year's pace, with speculative-grade
offerings accounting for the highest
share of gross issuance on record.
At the same time, the pace of gross
equity issuance by nonfinancial corporations dropped considerably in the
first half of this year. In particular, the
market for initial public offerings has
been cooler than in 1996, despite some
pickup of late; new issues have been
priced below the intended range more
often than above it, and first-day trading returns have been relatively low.
Net equity issuance has been deeply
negative again this year, as gross issuance has been more than offset by retirements through share repurchases and
mergers. The bulk of merger activity
in the 1980s involved share retirements financed by borrowing, but the
recent surge—which largely involves
friendly intra-industry mergers—has
been financed about equally through
borrowing and stock swaps. Structuring
deals as stock swaps can reduce shareholders' tax liabilities and enable the
combined firm to use a more advantageous method of financial accounting.
The dollar value of nonfinancial mergers in which the target firm was worth
more than a billion dollars set a record
in 1996, and merger activity appears to
be on a very strong track this year as
well.
The Government Sector
Federal
The federal budget deficit has come
down considerably in recent years and

Monetary Policy Reports, July
should register another substantial
decline this fiscal year. Over the first
eight months of fiscal year 1997—the
period October through May—the deficit in the unified budget was $65 billion,
down $43 billion from the comparable
period of fiscal 1996. The recent reduction in the deficit primarily reflected
extremely rapid growth of receipts for
the second year in a row, although a
continuation of subdued growth in outlays also contributed to the improvement. Given recent developments, the
budget deficit as a share of nominal
GDP this fiscal year is likely to be at its
lowest level since 1974.
Federal receipts were almost 8V2 percent higher in the first eight months of
fiscal year 1997 than in the year-earlier
period and apparently are on track
to outpace the growth of nominal GDP
for the fifth year in a row. Individual
income tax payments have risen sharply
this fiscal year—on top of a hefty
increase last year—reflecting strong
increases in households' taxable labor
and capital income; preliminary data
from the Daily Treasury Statement indicate that individual income tax revenues
remained strong in June. Moreover,
corporate tax payments posted another
sizable advance through May of this
fiscal year.
Federal outlays during the first eight
months of the fiscal year rose 3Vi percent in nominal terms from the comparable period last year. Although this
increase is up from the restrained rate of
growth in fiscal 1996—which was held
down by the government shutdown—
spending growth remained subdued
across most categories. Outlays for
income security programs rose modestly
in the first eight months of the fiscal
year, partly as a result of the continued
strong economy, and spending on the
major health programs grew somewhat
more slowly than their average pace in



65

recent years. Although still restrained,
outlays for defense have ticked up this
fiscal year after trending down for several years.
As for the part of federal spending
that is included directly in GDP, real
federal expenditures on consumption
and gross investment declined 3lA percent in the first quarter of 1997, a shade
more than the average rate of decline
in recent years. An increase in real nondefense spending was more than offset
by a decline in real defense outlays.
The substantial drop in the unified
budget deficit reduced federal borrowing in the first half of 1997 compared
with the first half of 1996. The Treasury
responded to the smaller-than-expected
borrowing need by reducing sales of
bills; this traditional strategy of allowing borrowing swings to be absorbed
primarily by variation in bill issuance
enables the Treasury to have predictable
coupon auctions and to issue sufficient
quantities of coupon securities to maintain their liquidity. The result this past
spring was an unusually large net
redemption of bills, which pushed yields
on short-term bills down relative to
yields on other Treasury securities and
on short-term private paper.
The issuance of inflation-indexed
securities at several maturities has been
a major innovation in federal debt management this year. The Treasury sold
indexed ten-year notes in January and
April and added five-year notes earlier
this month. A small number of agency
and other borrowers issued their own
inflation-indexed debt immediately after
the first Treasury auction, and the Chicago Board of Trade recently introduced
futures and options contracts based
on inflation-indexed securities. As one
would expect at this stage, however, the
market for indexed debt has not yet fully
matured: Trading volume as a share of
the outstanding amount is much smaller

66

84th Annual Report, 1997

than for nominal debt, and a market for
stripped securities has yet to emerge.

been pre-refunded in the early 1990s
waned.

State and Local

The External Sector

The fiscal condition of state and local
governments has remained positive over
the past year, as the surplus of receipts
over current expenditures has been
stable at a relatively high level. Strong
growth in sales and incomes has led
to robust growth in revenues, despite
numerous small tax cuts, and many
states have held the line on spending
in the past several years. Additionally,
the welfare reform legislation passed
in August 1996, while presenting longterm challenges to state and local governments, actually has eased fiscal pressures in recent quarters: Block grants
to states are based largely on 1992-94
grant levels, but caseloads more recently
have been falling. Overall, at the state
level, accumulated surpluses—current
surpluses plus those from past years—
were on track to end fiscal year 1997 at
a healthy level, according to a survey by
the National Association of State Budget Officers taken shortly before the end
of most states' fiscal years.
Real expenditures for consumption
and gross investment by state and local
governments increased moderately in
the first quarter of this year, about the
same as the pace of advance in the past
two years. For construction, the average
level of real outlays during the first five
months of the year was a little higher
than in the fourth quarter. Hiring by
state and local governments over the
first half of the year was somewhat
above last year's pace, with most of the
increase at the local level.
The pace of gross issuance of state
and local debt was roughly the same
in the first half of the year as in 1996.
Net issuance turned up noticeably, however, as retirements of debt that had



Trade and the Current Account
The nominal deficit on trade in goods
and services was $116 billion at an
annual rate in the first quarter, somewhat
larger than the $105 billion in the fourth
quarter of last year. The current account
deficit of $164 billion (annual rate) in
the first quarter exceeded the $148 billion deficit for 1996 as a whole because
of the widening of the trade deficit
and further declines in net investment
income. In April and May, the trade
deficit was slightly narrower than in the
first quarter.
The quantity of U.S. imports of goods
and services surged in the first quarter at
an annual rate of about 20 percent. Continued strength in the pace of U.S. economic activity largely accounted for the
rapid growth, but a rebound in automotive imports from Canada from their
strike-depressed fourth-quarter level
boosted imports as well. Preliminary
data for April and May suggest that
strong real import growth continued.
Non-oil import prices fell through the
second quarter, extending the generally
downward trend that began in mid-1995.
The quantity of U.S. exports of goods
and services expanded at an annual rate
a bit above 10 percent in the first quarter, about the same rapid pace as during
the second half of last year. Growth of
output in our major trading partners, particularly the industrial countries, helped
to sustain the growth of exports, as did
increased deliveries of civilian aircraft.
Exports to western Europe and to Canada
grew strongly, while those to the Asian
developing countries declined somewhat. Preliminary data for April and May
suggest that real exports rose moderately.

Monetary Policy Reports, July
Capital Flows
Large gross capital inflows and outflows
continued during the first quarter of
1997, reflecting the continued trend
toward globalization of financial and
product markets. Both foreign direct
investment in the United States and
U.S. direct investment abroad were
very strong, swelled by mergers and
acquisitions.
Private foreign net purchases of U.S.
securities amounted to $85 billion in the
first quarter, down somewhat from the
very high figure in the previous quarter
but still above the record pace for 1996
as a whole. Net purchases of U.S. Treasury securities were particularly robust.
Private foreigners also showed increased
interest in the U.S. stock market in
the first quarter of 1997. U.S. net purchases of foreign securities amounted
to $15 billion in the first quarter, down
from the strong pace of 1996. Private
foreigners continued to add to their
holdings of U.S. paper currency in the
first quarter, but at a rate substantially
below earlier peaks.
Foreign official assets in the United
States, which rose a record $122 billion
in 1996, increased another $28 billion
in the first quarter of 1997. Apart from
the oil-producing countries, which benefited from high oil prices, significant
increases in holdings were associated
with efforts by some emerging-market
countries to temper the impact of large
private capital inflows on their economies. Information for April and May
suggests that official inflows have
abated.
Foreign Economies
Economic activity in the major foreign industrial countries has generally
strengthened so far this year from the
pace in the second half of last year.



67

In Japan, real GDP accelerated to a
6V2 percent annual growth rate in the
first quarter, boosted by extremely
strong growth of consumer spending
ahead of an increase in the consumption
tax on April 1. Activity appears to have
fallen in the second quarter, but continued improvement in business sentiment
suggests that the current weakness is
only temporary. In Canada, growth of
real output increased to 3lA percent at
an annual rate in the first quarter. Final
domestic demand more than accounted
for this expansion, as business investment, consumption, and residential construction all provided significant contributions. Indicators suggest that output
growth remained healthy in the second
quarter.
Economic activity has remained vigorous so far this year in the United
Kingdom and appears to have strengthened in Germany and France. In the
first quarter, U.K. real GDP grew at an
annual rate of 3!/2 percent as domestic
demand, particularly investment, accelerated from its already strong pace
in the fourth quarter. Strong household consumption spending supported
demand in the second quarter. Weak
demand for exports, associated with the
appreciation of the pound since mid1996, and some tightening of monetary
conditions should moderate growth
in the current quarter. In Germany, economic expansion revived in the first
quarter and appears to have firmed in
the second quarter. After growing very
little in the fourth quarter of last year,
German real GDP rose at an annual rate
of P/4 percent in the first quarter, led
by government consumption, equipment
investment, and exports. Manufacturing
orders and indicators of business sentiment suggest additional gains in the
second quarter. French real GDP grew
only three-quarters percent at an annual
rate in the first quarter, as declines in

68

84th Annual Report, 1997

investment offset strong export growth,
but data on manufacturing output and
consumption suggest a pickup in activity during the second quarter.
In most major Latin American countries, real output growth remained vigorous. In Mexico, real economic expansion slowed some in the first quarter
from its very rapid pace in the second
half of last year but remained robust.
The industrial sector continued to be the
source of strength, while the service sector lagged. A pickup in import growth
has resulted in a narrowing of the trade
surplus; through May, the trade balance
of $l3/4 billion was about half the size
it was in the same period last year. In
Argentina, continued healthy economic
growth in the first quarter has brought
real GDP back to its level before the
recession induced by the Mexican crisis
of 1995. In Brazil, real output declined
in the first quarter after three quarters of
strong expansion.
Economic growth in our major Asian
trading partners other than Japan slowed
a bit on average in the first quarter but
appears to have rebounded in the second
quarter. Nationwide labor strikes in
Korea affected many of the country's
key export industries and were partly
responsible for weakness in first-quarter
output and a ballooning of the current
account deficit. Data for April and May
show recovery in industrial production,
and the trade balance improved in the
second quarter. Real output growth in
Taiwan remains strong so far this year,
though not quite so vigorous as during
the second half of 1996. In China, real
GDP continues to expand at an annual
rate of nearly 10 percent, about the same
brisk pace as last year.
Despite the pickup in growth, considerable excess capacity remains in the
major foreign industrial countries. As
a consequence, inflation has generally
remained quiescent. The increase in



the Japanese consumption tax lifted the
twelve-month change in the consumer
price index to about IV2 percent, but
elevation of the inflation rate should
be temporary. CPI inflation remains less
than 2 percent in Germany, France,
Canada, and Italy. Only in the United
Kingdom, where output growth has
resulted in tight labor markets and consumer prices are rising at an annual rate
of more than 2lA percent, are inflation
pressures currently a concern.
In most major countries in Latin
America, inflation either is falling or
is already low. Mexican inflation continues to improve: The monthly inflation rate was below 1 percent in May
and June, the lowest monthly rates since
the 1994 devaluation. In Argentina,
consumer prices were essentially flat
through the second quarter after almost
no increase last year. Brazilian inflation
has declined to historically low rates. In
contrast, Venezuelan inflation, though it
has come down from its 1996 rate of
more than 100 percent per year, remains
near 50 percent. Consumer price inflation remains generally low in Asia,
including in China, where it fell to less
than 3 percent in the twelve months
through May.

The Labor Market
Payroll employment continued to
expand solidly during the first half of
1997. The growth in nonfarm payrolls
averaged about 230,000 per month; this
figure may overstate slightly the underlying rate of employment growth in
the first half because technical factors
boosted payroll figures in April. The
strength in labor demand drew additional people into the job market, raising
the labor force participation rate to historical highs during the first half. Nevertheless, the civilian unemployment rate

Monetary Policy Reports, July
moved down to 4.9 percent, on average,
in the second quarter.
Employment gains in the private
service-producing sector, in which
nearly two-thirds of all nonfarm workers are employed, accounted for much
of the expansion in payrolls through
June of this year. Within this sector,
higher employment in services, transportation, and retail trade contributed
importantly to the gain. After advancing
substantially for several years, payrolls
in the personnel supply industry—a
category that includes temporary help
agencies—actually turned down in the
second quarter; anecdotal reports suggest that some temporary help firms are
having difficulty finding workers, especially for highly skilled and technical
positions.
Employment gains were also posted
in the goods-producing sector. In the
construction industry, payrolls increased
substantially between December and
June. Factory employment moved somewhat higher in the first part of the year
after declining a little during 1996, and
manufacturing overtime hours remained
at a high level. Producers of durable
goods increased employment further
between December and June, while
makers of nondurable goods continued
to reduce payrolls. Since the end of
1994, factory employment and total
hours worked in manufacturing have
changed little. Even so, manufacturers
have boosted output considerably over
this period, primarily through ongoing
improvements in worker productivity.
Although productivity for the broader
nonfarm business sector rose substantially in the first quarter, it was just
1 percent above its value a year earlier.
Moreover, output per hour changed little
from the end of 1992 to the last quarter
of 1995. The average rate of measured
productivity growth in the 1990s is still
somewhat below that of the 1980s and



69

is even further below the average gains
realized in the twenty-five years after
World War II. The slower reported productivity growth during this expansion
could partly reflect measurement problems. Productivity is the ratio of real
output to hours worked, and official
productivity indexes rely on a measure
of real output based on expenditures. In
theory, a matching measure of real output should be derivable by summing
labor and capital inputs on the "income
side" of the national accounts. However, the income-side measure of real
output has increased considerably faster
than the expenditure-side measure in
recent years, raising the possibility that
productivity growth has been somehat better than reported in the official
indexes.
Measurement difficulties may also
affect estimates of the longer-term trajectory of productivity growth. In particular, if inflation were overstated by
official measures—as a considerable
amount of recent research suggests it
is—then real output growth would be
understated. This understatement would
arise because too much inflation would
be removed from nominal output growth
in the calculation of real output growth.
Indeed, productivity growth for nonfinancial corporations—a sector for
which output growth arguably is measured more accurately than in broader
sectors—has been more rapid than for
nonfarm business overall. In particular,
productivity for nonfinancial corporations increased at an average annual
pace of about 1 Vi percent between 1990
and 1996, while productivity in the
nonfarm business sector rose a little
less than 1 percent per year over
the same period. This difference—which
implies very weak measured productivity growth outside of the nonfinanial corporate sector—raises the
possibility that overall productivity

70

84th Annual Report, 1997

growth is stronger than indicated by
official indexes for nonfarm business.1 Of course, a critical—and still
unanswered—question is the extent to
which any understatement of productivity growth has become larger over time.
If productivity growth were more rapid
than indicated by official statistics, then
the economy's capacity to produce
goods and services would be increasing
faster than indicated by current official
statistics. But if the amount of mismeasurement has not increased over time,
then the economy's productive capacity
also increased more rapidly in earlier
years than shown by published measures. In this case, the official statistics
on productivity growth—though perhaps understated—would not give a
misleading impression about changes in
productivity trends.
After changing little, on net, since the
late 1980s, the labor force participation
rate turned up early last year; it reached
a record high 67.3 percent in March
of this year and remained at an elevated 67.1 percent in the second quarter.
Better employment opportunities have
drawn additional people into the workforce. Although the recent welfare
reform legislation probably has not
yet had a large effect on aggregate labor
force dynamics, it may generate an additional, albeit small, boost to labor
force participation rates over the next
few years. Since the beginning of 1996,
the increases in the labor force associated with a higher participation rate
have eased pressures on labor markets, as additional workers have stepped
in to satisfy continuing strong demand
for labor. Nevertheless, hiring was
1. More detail is provided in a paper by
Lawrence Slifman and Carol Corrado, "Decomposition of Productivity and Unit Costs," Board of
Governors of the Federal Reserve System,
November 18, 1996.



sufficiently brisk during the first half
of this year to pull the unemployment rate down about one-quarter percentage point between December and
June.
Just as the low unemployment rate
points to tightness in labor markets,
anecdotal reports from many regions
and industries mention the difficulties
firms are having hiring workers, especially workers with specialized skills.
With this tightness, labor compensation
costs have accelerated slightly. Although
hourly labor costs, as measured by the
employment cost index (ECI), increased
only 2.5 percent at an annual rate during
the first three months of this year, they
were up 3.0 percent over the twelve
months ending in March, compared with
2.7 percent over the preceding twelve
months. These increases are smaller
than might have been expected on the
basis of historical relationships, perhaps partly reflecting persistent worker
concerns about job security. In addition, modest increases in employerpaid benefits have partly offset faster
increases in wages and salaries in the
past couple of years. With smaller
increases in health care costs than earlier in the decade, shifts of employees
into managed care plans, and requirements that employees assume a greater
share of health care costs, employer
costs for health-related benefits have
been well contained. However, growth
in employer health care costs may be in
the process of bottoming out, as reports
of rising premiums for health insurance
have become more common. Moreover,
the wages and salaries component of the
ECI has continued to accelerate, rising
3.4 percent during the twelve months
ending in March 1997, about onequarter percentage point faster than
during the previous twelve months and
roughly half a percentage point faster
than in 1994 and 1995.

Monetary Policy Reports, July
Prices
The underlying trend of price inflation
has remained favorable this year. In particular, the CPI excluding food and
energy—often referred to as the "core"
CPI—increased at an annual rate of
2Vi percent over the first two quarters of
the year, about the same pace as in 1996.
The overall CPI registered a smaller
increase than the core CPI during the
first half of this year. Both the overall
CPI and the core CPI have been affected
by a series of technical changes implemented by the Bureau of Labor Statistics over the past two and one-half years
to obtain a more accurate measure of
price changes. If not for these changes,
increases in the CPI since 1994 would
be marginally larger.
Other measures of prices also suggest
that favorable inflation trends continued
into 1997. Measured from the first quarter of last year to the first quarter of this
year, the chain price index for personal
consumption expenditures excluding
food and energy rose 2 percent, the same
as in the four-quarter period a year
earlier.2 Similarly, the chain price index
for overall GDP—which covers prices
of all goods and services produced in
the United States—and the chain measure for gross domestic purchases—
which covers prices of all goods purchased in the United States—increased
the same amount over the year ending in
the first quarter of 1997 as during the
previous four quarters.
All of these price measures indicate
that inflation remains muted, despite
2. The price measure for personal consumption
expenditures (PCE) is closely related to the CPI
because components of the CPI are key inputs in
the construction of the PCE price measure. Nevertheless, the PCE price measure has the advantage
that by using chain weighting rather than fixed
weights it avoids some of the substitution bias that
affects the CPI.



71

high levels of resource utilization. Several factors have contributed to the
recent favorable performance of price
inflation. Energy prices have declined
this year. Non-oil import prices also
have fallen significantly, reducing input
costs for some domestic companies and
likely restraining the prices charged
by domestic businesses that compete
with foreign producers. Besides being
restrained by some price competition
from imported materials and supplies,
prices of manufactured goods at earlier
stages of processing have been held in
check by an expansion of industrial
capacity that has been rapid enough to
restrain increases in utilization rates
over the past year. Also, to the extent
that firms have succeeded in their efforts
to realize large efficiency gains and
reduce unit costs, upward pressure on
prices may be reduced. Finally, an
extended period of relatively low and
steady inflation has reinforced a belief
among households and businesses that
the trend of inflation should remain
muted, and consequently helped to hold
down inflation expectations.
Developments in the food and energy
sectors were favorable to consumers in
the first half of 1997. Consumer energy
Alternative Measures of Price Change
Percent
1995:Q1
to
1996:Q1

1996:Q1
to
1997:Q1

Fixed-weight
Consumer price index
Excluding food and energy ...

2.7
2.9

2.9
2.5

Chain-type
Personal consumption
expenditures
Excluding food and energy ...
Gross domestic purchases
Gross domestic product

2.0
2.0
2.2
2.2

2.5
2.0
2.2
2.2

Deflator
Gross domestic product

2.1

1.8

Price measure

NOTE. Changes are based on quarterly averages.

72

84th Annual Report, 1997

prices declined in the first half of the
year as the price of crude oil dropped
back following last year's run-up. In
1996, the price of crude oil was boosted
by refinery disruptions, uncertainty
about the timing of Iraqi oil sales, and
unusual weather patterns that increased
energy demand for heating and cooling.
As these factors receded this year, crude
oil prices fell. Although the downward
trend was interrupted by some transitory
spikes in prices—as in May when tensions in the Middle East flared up—
the price of crude is now roughly back
to the range that prevailed before last
year's run-up. Since December, gasoline
prices have tumbled more than 16 percent at an annual rate, and heating oil
prices have fallen significantly. Natural
gas prices also fell as stocks, which had
dwindled over the winter, were replenished. Reflecting the declines in fuel
prices, the CPI for energy fell about
9 percent at an annual rate between
December 1996 and June 1997.
Consumer food prices increased at an
annual rate of only about 1 percent in
the first half of the year. Although coffee
prices jumped, the prices of many other
food items were flat or edged lower.
Most notably, declines in grain prices
that began in mid-1996 have been working their way to the retail level and have
held down prices for a variety of graindependent foods, such as beef, poultry,
and dairy products. Prices of foods that
depend more heavily on labor costs have
been rising modestly this year.
Consumer prices for goods other than
food and energy rose a restrained threequarters percent at an annual rate
between December and June of this
year, a touch below last year's pace.
Declining prices for non-oil imports
helped contain prices of goods in the
CPI in the first half of the year, in part
by constraining U.S. businesses in competition with importers. For example,



prices of new and used passenger cars
declined in the first six months of the
year, and prices of light trucks were
essentially flat. Also, prices of house
furnishings were about unchanged, on
balance, in the first half of the year,
although apparel prices moved up after
declining in recent years.
The CPI for non-energy services rose
about 3 percent at an annual rate
between December and June, a touch
below last year's pace. After rising
markedly last year, airfares declined, on
net, in the first half of this year. Fares
fell substantially early in the year when
the excise tax on tickets expired, and
even with the reimposition of the tax in
March, ticket prices were still lower
in June than in December. Increases in
prices of medical services also continued to slow somewhat this year.3 In
addition, the CPI for auto finance fell in
May and June as automakers sweetened
incentives. In contrast, price increases in
the first half of the year picked up in
some other areas; shelter prices rose a
bit more rapidly than last year, as did
tuition and prices for personal care
services.
Credit and the
Monetary Aggregates
Credit and Depository Intermediation
The total debt of domestic nonfinancial
sectors increased at an annual rate of
about 43/4 percent from the fourth quarter of 1996 through May of this year,
placing the aggregate near the middle of
the range for 1997 established by the
3. In January 1997, the Bureau of Labor Statistics introduced a new measure of the prices of
hospital services—which account for roughly onethird of the CPI for medical services—and this
new measure should, over time, provide a more
accurate gauge of price movements in this area.

Monetary Policy Reports, July
FOMC. This pace is more than half a
percentage point below that for 1996,
reflecting significantly slower growth of
borrowing by the federal government.
The total debt of the other sectors has
risen at a roughly constant pace over
the past few years, even though the
growth rate of nominal output has been
increasing.
Credit on the books of depository
institutions rose more rapidly than total
debt in the first half of 1997, indicating
that their share of total debt outstanding
increased. Credit growth at thrift institutions eased late last year and early this
year after increasing moderately in the
first three quarters of 1996. However,
commercial bank credit grew at a brisk
pace in the first half of the year, with
both securities and loans increasing
more rapidly than they did last year.
Growth of Money and Debt
Percent

Period

Ml

M2

M3

Domestic
nonfinancial
debt

Annual*
1987
1988
1989

6.3
4.3
.5

4.2
5.7
5.2

5.8
6.3
4.0

10.0
9.0
7.9

1990
1991 ...
1992
1993 ...
1994

4.1
7.9
14.4
10.6
2.5

4.1
3.1
1.8
1.3
.6

1.8
1.2
.6
1.1
1.7

6.9
4.6
4.7
5.2
5.2

1995
1996

-1.6
-4.6

4.0
4.7

6.2
6.8

5.5
5.4

Quarterly
'annual rate)2
1997:Q1
Q2

-.7
-5.4

6.1
4.3

8.2
6.8

4.5
n.a.

Year-to-date3
1997

-2.6

4.9

7.1

4.8

1. From average for fourth quarter of preceding year to
average for fourth quarter of year indicated.
2. From average for preceding quarter to average for
quarter indicated.
3. From average for fourth quarter of 1996 to average
for June (May in the case of domestic nonfinancial debt).
n.a. Not available.




73

Real estate lending at banks rose about
9 percent at an annual rate between the
fourth quarter of 1996 and June of this
year, compared with 4 percent in 1996.
In contrast, outstanding home mortgages
at thrift institutions grew little in the first
part of the year after a large run-up in
1996. Home equity credit lines from
banks expanded especially rapidly in the
spring, as some banks promoted these
loans as a substitute for consumer loans.
The growth of consumer loans at banks
(including loans that were securitized
as well as loans still on banks' books)
fell from about 11 percent in 1996 to
3lA percent at an annual rate between
the fourth quarter of 1996 and June of
this year.
The Monetary Aggregates
Growth of the monetary aggregates during the first half of 1997 was similar
to growth in 1996. Between the fourth
quarter of last year and June, M2
expanded at an annual rate of almost
5 percent; as the Committee had anticipated, the aggregate was running close
to the upper bound of its growth cone,
which had been chosen to be consistent
with price stability. The behavior of M2
over this period can be reasonably well
explained by changes in nominal GDP
and interest rates, using historical velocity relationships. In the first quarter, the
velocity of M2 (defined as the ratio of
nominal GDP to M2) increased a little
more than might have been anticipated
from its recent relationship to the
opportunity cost of holding M2—the
interest earnings forgone by owning M2
assets rather than market instruments
such as Treasury bills. M2 may have
been held down a bit by savers' preferences for equity market funds, for
which inflows were quite strong.
Growth of M2 was much slower in the
second quarter than in the first quarter

74

84th Annual Report, 1997

percent compared with 6 percent at
an annual rate), consistent with the
slowing of the economy and almost
unchanged M2 opportunity cost. The
monthly pattern of M2 growth in the
second quarter was heavily influenced
by unusually high individual nonwithheld tax payments. M2 surged in
April, as households apparently accumulated additional liquid balances in
order to make the larger tax payments, and was about unchanged on a
seasonally adjusted basis in May as payments cleared and balances returned to
normal.
The correspondence between changes
in M2 velocity and in opportunity cost
during recent years may represent a
return to the roughly stable relationship
observed for several decades until
1990—albeit at a higher level of velocity. The relationship was disturbed in
the early 1990s by households' apparent
decisions to shift funds out of loweryielding deposits into higher-yielding
stock and bond mutual funds. On one
hand, the "credit crunch" at banks and
the resolution of troubled thrifts curbed
the eagerness of these institutions to
attract retail deposits, holding down the
rates of return offered on brokered
deposits and similar accounts relative
to the average deposit rates used in
constructing measures of opportunity
cost. At the same time, the appeal of
longer-term assets was enhanced temporarily by the steeply sloped yield curve
and more permanently by the greater
variety and lower cost of mutual fund
products available to investors. More
recently, robust inflows into stock funds
apparently have substituted to only a
limited extent for holdings of M2
assets, and M2 velocity and opportunity cost have again been moving
roughly together since mid-1994,
although velocity has continued to
drift up slightly. However, the period



of renewed stability in the behavior of
M2—three years—is still fairly short,
and whether the stability will persist
is unclear. Variations in opportunity
cost and income growth during this
period have been rather small, leaving
considerable doubt about how M2
would respond to more significant
changes in the financial and economic
environment.
M3 rose about 7 percent at an annual
rate between the fourth quarter of 1996
and June of this year. This pace is a
little faster than last year's and again
left M3 above the upper end of its
growth cone, which, like the growth
cone for M2, was set to be consistent
with price stability. Large time deposits,
which are not included in M2, continued to increase much more rapidly
than other deposits. Banks have been
funding their asset growth disproportionately through wholesale deposits,
leaving interest rates on retail deposits
further below market rates than they
have been historically. Growth of
institution-only money market funds
eased just a little from last year's torrid
pace, as the role of these funds in corporate cash management continued to
increase.
Ml contracted at a 2Vi percent annual
rate between the fourth quarter of
1996 and June of this year. Growth of
this aggregate was again depressed by
the spread of so-called sweep programs,
whereby balances in transactions
accounts, which are subject to reserve
requirements, are "swept" into savings
accounts, which are not. Sweep programs benefit depositories by reducing
their required holdings of reserves,
which earn no interest. At the same
time, they do not restrict depositors'
access to their funds for transactions
purposes, because the funds are swept
back into transactions accounts when
needed. Until late last year, most retail

Monetary Policy Reports, July
sweep programs were limited to NOW
accounts, but demand-deposit sweeps
have expanded markedly since then.
Adjusted for the estimated total of balances swept owing to the introduction of
new sweep programs, Ml expanded at
a 43A percent annual rate between the
fourth quarter of 1996 and June 1997, a
little below its sweep-adjusted growth
rate in 1996.
The drop in the amount of deposits
held in transactions accounts in the first
half of 1997 caused required reserves to
fall about 10 percent at an annual rate,
close to the rate of decline last year.
Nonetheless, the monetary base has
expanded at a moderate pace so far in
1997, because the runoff in required
reserves has been more than offset—as
it was also last year—by an increase in
the demand for currency. Currency
growth has been a little higher this year
than last, as the effects of strong domestic spending more than offset a slight
drop in net shipments of U.S. currency
abroad in the first four months of the
year.
Further reductions in required reserves have the potential to diminish
the Federal Reserve's ability to control
the federal funds rate closely on a dayto-day basis. Traditionally, the daily
demand for balances at the Federal
Reserve largely reflected banks' needs
for required reserves, which are fairly
predictable. As a result, the Federal
Reserve has generally been able to
supply the quantity of balances that
satisfies this demand at the intended
funds rate. Moreover, reserve requirements are specified in terms of an
average level of balances over a
two-week period, so if the funds rate
on a particular day moves above the
level expected to prevail on ensuing
days, banks can trim their balances
and thereby relieve some of the
upward pressure on the funds rate. If



75

required reserves were to fall quite
low, the demand for balances would
become more linked to banks' desire
to avoid overnight overdrafts when
conducting transactions through their
accounts at Reserve Banks. Demand
from this source is more variable than is
requirement-related demand, and it also
cannot be substituted across days; both
factors would tend, all else equal, to
increase the volatility of the federal
funds rate.
The decline in required reserves over
the past several years has not created
serious problems in the federal funds
market, but funds-rate volatility has
risen a little, and the risk of much
greater volatility would increase if
required reserves were to fall substantially further. One factor mitigating an
increase in funds-rate volatility has been
an increase in required clearing balances. These balances, which banks can
precommit to hold on a two-week average basis, earn credits that banks use to
pay for Federal Reserve priced services.
Like required reserve balances, required
clearing balances are predictable by
the Federal Reserve and can be substituted across days within the twoweek maintenance period. Funds-rate
volatility has also been damped by
banks' improved management of their
balances at Reserve Banks, which in
part reflects the improved real-time
access to account information now
provided by the Federal Reserve.
Whether these factors could continue to
restrain funds-rate volatility if required
reserve balances were to become much
smaller is as yet unclear. Also unclear is
whether a moderate increase in fundsrate volatility would have any serious
adverse consequences for interest rates
farther out on the yield curve or for the
macroeconomy. The Federal Reserve
continues to monitor the situation
closely.

76

84th Annual Report, 1997

Interest Rates, Equity Prices, and
Exchange Rates
Interest Rates
Interest rates on Treasury securities
were little changed or declined a bit, on
balance, between the end of 1996 and
mid-July. Yields rose substantially in the
first quarter as evidence mounted that
the robust economic activity observed in
the closing months of 1996 had continued into 1997. By the time of the March
FOMC meeting, most participants in
financial markets were anticipating
some tightening of monetary policy, and
rates moved little when the increase
in the intended federal funds rate was
announced. Beginning in late April, key
data pointed to continued low inflation
and a slowing of economic growth in
the second quarter, and interest rates
retraced their earlier advance.
The yield on the inflation-indexed
ten-year Treasury note was little
changed between mid-April and midJuly, suggesting that at least part of the
roughly 60-basis-point drop in the nominal ten-year yield over that period
reflected a reduction in expected inflation or in uncertainty about future inflation, or both. Yet, relative movements in
these two yields should be interpreted
carefully, as the market's experience in
trading indexed debt is relatively brief,
making its prices potentially vulnerable
to small shifts in market sentiment.
Moreover, the Treasury announced this
spring a reduction in the frequency of
nominal ten-year note auctions, perhaps
putting downward pressure on their
nominal yields, and some investors may
have paid renewed attention to upcoming technical adjustments to the CPI,
which will reduce measured inflation.
Survey-based measures of expected
inflation showed little change in the second quarter.



The interest rate on the three-month
Treasury bill was held down in recent
months by the reduced supply of bills
associated with the smaller federal deficit. Between mid-March and mid-July,
the spread between the federal funds
rate and the three-month yield averaged
about 15 basis points above the average
spread in 1996. Interest rates on private
short-term instruments increased a little
in the second quarter after the small
System tightening in March.
Equity Prices
Equity markets have advanced dramatically again this year. Through mid-July,
most broad measures of U.S. stock
prices had climbed between 20 percent
and 25 percent since year-end. Stocks
began the year strongly, with the major
indexes reaching then-record levels in
late January or February. Significant
selloffs ensued, partly occasioned by the
backup in interest rates, and by early
April the NASDAQ index was well
below its year-end mark and the
S&P 500 composite index was barely
above its. Equity prices began rebounding in late April, however, soon pushing
these indexes to new highs. Stock prices
have been somewhat more volatile this
year than last.
The run-up in stock prices in the
spring was bolstered by unexpectedly
strong corporate profits for the first
quarter. Still, the ratio of prices in the
S&P 500 to consensus estimates of earnings over the coming twelve months
has risen further from levels that were
already unusually high. Changes in this
ratio have often been inversely related
to changes in long-term Treasury yields,
but this year's stock price gains were
not matched by a significant net decline
in interest rates. As a result, the yield on
ten-year Treasury notes now exceeds the
ratio of twelve-month-ahead earnings to

Monetary Policy Reports, July
prices by the largest amount since 1991,
when earnings were depressed by the
economic slowdown. One important
factor behind the increase in stock prices
this year appears to be a further rise in
analysts' reported expectations of earnings growth over the next three to five
years. The average of these expectations
has risen fairly steadily since early 1995
and currently stands at a level not seen
since the steep recession of the early
1980s, when earnings were expected to
bounce back from levels that were quite
low.
Exchange Rates
The weighted average foreign exchange
value of the dollar in terms of the other
G-10 currencies rose sharply in the first
quarter from its level in December and
has moved up somewhat further since
then. On balance, the nominal dollar is
more than 10 percent above its level at
the end of December. A broader measure of the dollar that includes currencies from additional U.S. trading partners and adjusts for changes in relative
consumer prices shows appreciation
of about 7 percent. After rising nearly
10 percent in terms of the Japanese
yen to a recent peak in late April, the
dollar retreated; it is currently about
unchanged from its value in terms of
yen at the end of December. In contrast,
the dollar has risen about 17 percent in
terms of the German mark since the end
of last year.
Early in the year, data showing continued strengthening of U.S. economic
activity surprised market participants,
raised their expectations of some tightening of U.S. monetary policy, and contributed to upward pressure on the dollar. In light of the FOMC action in late
March and the tendency for subsequent
economic indicators to suggest a slowing of the growth of U.S. real output,



11

pressure for dollar appreciation abated.
While robust economic activity in the
United States generated a rise in U.S.
long-term interest rates through April,
market uncertainty about the strength of
output growth in several foreign industrial countries led to little change, on
balance, in average long-term (ten-year)
rates in other G-10 countries. Since then,
US. rates have returned to near year-end
levels, while rates abroad have moved
down. Accordingly, the long-term interest differential, on balance, has shifted
further in favor of dollar assets since
December, consistent with the net appreciation of the dollar this year.
Despite indications of further recovery of output in Japan, the dollar rose
against the yen early in the year as
planned fiscal policy in Japan appeared
to be more restrictive than had been
expected, and Japanese long-term interest rates declined in response. Statements by G-7 officials at their meeting
in Berlin in February and on subsequent
occasions suggested some concern that
the dollar's strength and the yen's weakness not become excessive. The dollar
moved back down in terms of the yen in
May and has since fluctuated narrowly.
The yen has been supported by data
showing a widening of Japanese external surpluses and by a partial retracing
by Japanese long-term rates of their earlier decline, as indicators have suggested
that the fiscal measures may not be as
contractionary as previously expected.
The dollar also rose sharply early in
the year in terms of the German mark
and other continental European currencies. Market participants have been
disappointed that the pace of economic
activity has not strengthened further in
continental European countries. In addition, uncertainties about the prospects
for European Monetary Union, including the possibility of delay and the question of which countries will be in the

78

84th Annual Report, 1997

first group proceeding to Stage Three,
have resulted in fluctuations in the mark
and, on balance, appear to have strengthened the dollar. German long-term interest rates have declined somewhat on
balance this year.
Short-term market interest rates in
most of the major foreign industrial
countries have changed little on average
since the end of last year. Rates in the
United Kingdom have risen somewhat
as the new government increased the
official lending rate one-quarter percentage point in May and the Bank of
England raised it by the same amount in
June and again in July. Short-term rates
in Italy and Switzerland have eased.
Stock prices have risen sharply so far
this year in the major foreign industrial
countries, particularly in continental
Europe.
The dollar has changed little on balance in terms of the Mexican peso since
December, as improved investor sentiment toward Mexico, reflected in narrowing yield spreads between Mexican
and U.S. dollar-denominated bonds, has
supported the peso. The trend in Mexican inflation has declined this year;
nevertheless, the excess of Mexican
inflation over U.S. inflation implies
about a 7 percent real appreciation of
the peso since December.
Since mid-May, financial pressures in
Thailand, which caused authorities there
to raise interest rates and have led
to depreciation of the currency, have
spilled over to influence financial markets in some of our Asian trading partners, particularly the Philippines and
Malaysia. Interest rates in both of these
countries rose sharply. Philippine officials relaxed their informal peg of the
peso in terms of the dollar, and the currency declined significantly; the Malaysian ringgit and Indonesian rupiah have
also depreciated.
•



Part 2
Records, Operations,
and Organization




81

Record of Policy Actions
of the Board of Governors
Regulation B
Equal Credit Opportunity

Regulation C
Home Mortgage Disclosure

September 9, 1997—Amendments

January 16, 1997—Amendment

The Board amended Regulation B to
create a legal privilege for self-tests conducted voluntarily by creditors, effective
January 30, 1998.

The Board approved an interim amendment to Regulation C to increase the
exemption threshold for depository
institutions, effective January 1, 1997.

Votes for this action: Messrs. Greenspan
and Kelley, Ms. Phillips, and Mr. Meyer.
Absent and not voting: Ms. Rivlin.1'2

Votes for this action: Mr. Greenspan,
Ms. Rivlin, Messrs. Kelley and Lindsey,
Mses. Phillips and Yellen, and Mr. Meyer.

The Board revised Regulation B to
implement amendments to the Equal
Credit Opportunity Act as part of the
Economic Growth and Regulatory
Paperwork Reduction Act of 1996. That
act created a legal privilege for information produced by creditors through voluntary self-tests they conduct to determine the level or effectiveness of their
compliance with the Equal Credit
Opportunity Act, provided that appropriate corrective action is taken to address
any possible violations they discover.
The Department of Housing and Urban
Development issued a substantially
similar regulation under the Fair Housing Act. The Board announced its
revised regulation on December 11,
1997.

The Economic Growth and Regulatory Paperwork Reduction Act of 1996
amended the Home Mortgage Disclosure Act to increase the assetexemption threshold that determines
which depository institutions are exempt
from the act. The new asset-exemption
threshold is based on the percentage by
which the Consumer Price Index for
Urban Wage Earners and Clerical Workers (CPIW) for 1996 exceeded the index
for 1975. On the basis of the CPIW for
December 1996, the Board approved a
threshold of $28 million. The Board also
requested comment on the interim
amendment.

1. Throughout this chapter, note 1 indicates that
two vacancies existed on the Board when the
action was taken.
2. In voting records throughout this chapter,
Board members, except the Chairman and Vice
Chair, are listed by seniority.



May 19, 1997—Amendments
The Board amended Regulation C to
increase the asset-exemption threshold
for depository institutions, ease disclosure requirements, and extend data collection authority, effective July 1, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.

82

84th Annual Report, 1997

The revisions implement amendments
to the Home Mortgage Disclosure Act
included in the Economic Growth and
Regulatory Paperwork Reduction Act of
1996. The action makes final an interim
amendment adopted in January 1997
that set the asset-exemption threshold
for depository institutions at $28 million. The amendments also establish an
alternative method by which institutions
may provide disclosure statements in
metropolitan areas in which they have
branch offices and extend data collection authority under the Paperwork
Reduction Act for another three years.

Regulation D
Reserve Requirements
of Depository Institutions
October 26, 1997—Amendments
The Board amended Regulation D to
allow U.S. branches and agencies of foreign banks and Edge Act and agreement
corporations to choose whether to aggregate reserve balances on a nationwide
basis with a single pass-through correspondent or to continue to maintain
reserve balances on a same-state/sameDistrict basis, effective January 1, 1998.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
To make interstate banking and
branching easier, the Federal Reserve
Banks began in January 1998 to implement a new account structure that provides a single Federal Reserve account
for each domestic depository institution
and enables the Federal Reserve Banks
to establish a single debtor-creditor relationship with each chartered entity. The
amendments allow foreign banks and
Edge Act and agreement corporations to
choose whether to aggregate required



reserve balances nationally or locally.
The revisions also update and clarify the
pass-through rules in Regulation D for
all institutions.

November 7, 1997—Amendments
The Board amended Regulation D to
decrease the amount of transaction
balances to which the lower reserve
requirement applies.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, and Ms. Phillips.
Absent and not voting: Mr. Meyer.1
Under the Monetary Control Act of
1980, depository institutions, Edge Act
corporations, agreement corporations,
and U.S. agencies and branches of
foreign banks are subject to reserve
requirements set by the Board. The act
directs the Board to adjust annually the
amount subject to the lower reserve
requirement to reflect changes in transaction balances nationwide. Recent
declines in transaction balances warranted a decrease to $47.3 million,
and the Board amended Regulation D
accordingly.
The Garn-St Germain Depository
Institutions Act of 1982 establishes a
zero percent reserve requirement on the
first $2 million of an institution's reservable liabilities. The act also provides for
annual adjustments to that exemption
amount based on deposit growth nationwide. Recent growth in deposits warranted an increase to $4.7 million,
and the Board amended Regulation D
accordingly.
For institutions reporting weekly,
the amendments are effective with the
reserve computation period beginning
December 30,1997, and the corresponding reserve maintenance period beginning January 1, 1998. For institutions
reporting quarterly, the amendments are

Board Policy Actions
effective with the reserve computation
period beginning December 16, 1997,
and the corresponding reserve maintenance period beginning January 15,
1998.
To reduce the reporting burden on
small institutions, depository institutions
with total deposits below specified levels are required to report their deposits
and reservable liabilities quarterly or
less frequently. To reflect increases
in the growth rate of total deposits at
all depository institutions, the Board
increased the deposit cutoff levels used
in determining the frequency and detail
of deposit reporting to $78.9 million for
nonexempt depository institutions and
to $50.7 million for exempt depository
institutions, beginning in September
1998.

Regulation D
Reserve Requirements
of Depository Institutions
Regulation I
Issue and Cancellation of Capital
Stock of Federal Reserve Banks
Rules Regarding Delegation
of Authority
June 3, 1997—Amendments
The Board amended Regulations D and
I to define the location of a depository
institution for purposes of Federal
Reserve membership and reserve
account maintenance, effective October 1, 1997.
Votes for this action: Ms. Rivlin, Mr.
Kelley, Ms. Phillips, and Mr. Meyer.
Absent and not voting: Mr. Greenspan.1
The Riegle-Neal Interstate Banking
and Branching Efficiency Act of 1994
eliminated many barriers to interstate



83

banking, and the number of depository
institutions with branches in more that
one Federal Reserve District is expected
to increase. The amendments clarify the
Federal Reserve District in which a
depository institution is eligible for Federal Reserve membership and the location of a depository institution's reserve
account. The Board also delegated to the
Secretary of the Board the authority to
make a determination of location under
Regulation D or Regulation I if (1) the
relevant Federal Reserve Banks and the
institution agree on the specific Reserve
Bank in which the institution should
hold stock or with which the institution
should maintain a reserve account and
(2) the location agreed upon does not
raise any significant policy issues.

Regulation E
Electronic Fund Transfers
August 8, 1997—Amendments
The Board amended Regulation E to
exempt certain needs-tested electronic
benefit transfer programs established or
administered by state or local government agencies from requirements of the
Electronic Fund Transfer Act and Regulation E, effective September 15, 1997.
Votes for this action: Messrs. Greenspan
and Kelley, Ms. Phillips, and Mr. Meyer.
Absent and not voting: Ms. Rivlin.1
Electronic benefit transfer programs
generally involve the issuance of access
cards and personal identification numbers to recipients of government benefits so that they can obtain their benefits
through automated teller machines and
point-of-sale terminals. The amendments implement a provision of the
Electronic Fund Transfer Act contained
in the Personal Responsibility and Work
Opportunity Reconciliation Act of 1996

84

84th Annual Report, 1997

that exempted certain electronic benefit
transfer programs from coverage under
the Electronic Fund Transfer Act.

1998. Compliance with the amendments
to Regulation T is optional until July 1,
1998.

Regulation G
Securities Credit by Persons other
than Banks, Brokers, or Dealers

Regulation H
Membership of State Banking
Institutions in the Federal Reserve
System

Regulation T
Credit by Brokers and Dealers
Regulation U
Credit by Banks for the Purpose
of Purchasing or Carrying Margin
Stocks
Regulation X
Borrowers of Securities Credit
December 18, 1997—Amendments
The Board amended Regulations G, T,
U, and X to reduce regulatory distinctions between broker-dealers, banks,
and other lenders and to implement
changes to the Board's securities credit
regulations, effective April 1, 1998.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Messrs. Ferguson and Gramlich. Absent
and not voting: Mr. Meyer.
The Board adopted the amendments
to simplify the regulations and reduce
burden as part of its periodic regulatory
review and to implement changes to the
Board's statutory authority contained
in the National Securities Markets
Improvement Act of 1996, which
deregulated lending to certain brokerdealers. The amendments also provide
for merging Regulation G into Regulation U, thereby eliminating Regulation G. The Board also will discontinue
publication of its quarterly list of overthe-counter market stocks that are subject to its margin regulations for brokerdealers, effective January 1, 1999, and
for other lenders, effective April 1,



February 24, 1997—Amendments
The Board adopted amendments to provisions of Regulation H related to recordkeeping and confirmation of certain
securities transactions effected by state
member banks, effective April 1, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The amendments update recordkeeping and confirmation requirements to
conform them with rules of the Securities Exchange Commission and the
Department of the Treasury and with
principles of safe and sound banking.
Regulation H
Membership of State Banking
Institutions in the Federal Reserve
System
Regulation K
International Banking Operations
March 11, 1997—Amendments
The Board amended Regulations H and
K to establish rules concerning government securities sales practices by
depository institutions, effective July 1,
1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The rules, which were also adopted
by the other federal banking agencies,

Board Policy Actions
minimize regulatory burden to the extent
feasible while providing consistent treatment for customers of bank and nonbank dealers and brokers in government
securities.

August 22, 1997—Amendments
The Board amended Regulations H and
K to implement the prohibition in section 109 of the Riegle-Neal Interstate
Banking and Branching Efficiency Act
of 1994 against establishing interstate
branches primarily for the purpose
of deposit production, effective October 10, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
As required by section 109 of the act,
the Board, along with the Office of the
Comptroller of the Currency and the
Federal Deposit Insurance Corporation,
adopted uniform amendments to their
regulations that prohibit any bank from
establishing or acquiring, under the
authority of the act, a branch or branches
outside of its home state primarily for
the purpose of deposit production. The
amendments also provide guidelines for
determining whether such a bank is reasonably helping to meet the credit needs
of the communities served by its interstate branches.

85

ment to Regulations H and Y to reduce
regulatory burden in risk-based capital
guidelines that apply to banking organizations with significant trading activities, effective December 31, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Messrs. Meyer, Ferguson, and Gramlich.
The Board, along with the other federal banking agencies, amended the riskbased capital standards for market risk
applicable to certain banks and bank
holding companies with significant trading activities. The amendment eliminates the requirement that the total capital charge for specific risk must equal at
least 50 percent of the standard capital
charge for specific risk when an institution measures specific market risk using
its internal model. The rule implements
a revision to the Basle Accord and
reduces regulatory burden for institutions with qualifying internal models
because they will no longer be required
to calculate a standard specific-risk capital charge.
Regulation J
Collection of Checks and Other
Items by Federal Reserve Banks
and Funds Transfers through
Fedwire
August 26, 1997—Amendment

Regulation H
Membership of State Banking
Institutions in the Federal Reserve
System
Regulation Y
Bank Holding Companies and
Change in Bank Control
December 17, 1997—Interim Rule
The Board approved an interim amend


The Board amended Regulation J to
establish a policy under which each
depository institution will have a single
Federal Reserve account relationship,
effective January 2, 1998.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, and Ms. Phillips.
Absent and not voting: Mr. Meyer.1
The Riegle-Neal Interstate Banking
and Branching Efficiency Act of 1994

86

84th Annual Report, 1997

eliminated many barriers to interstate
banking, and the number of depository
institutions operating branches in more
than one Federal Reserve District is
expected to increase. The amendment
allows a depository institution to send
checks to any Reserve Bank for collection, but all of its check-collection transactions through the Federal Reserve
System will be reflected in a single
account held at its Administrative
Reserve Bank, regardless of where the
institution has its branches. This account
structure will establish a single debtorcreditor relationship between each institution and a Federal Reserve Bank and
will make account management more
efficient for banks having interstate
branches.

Regulation M
Consumer Leasing

lation M that apply to automobile leasing from October 1, 1997, to January 1,
1998.
Votes for this action: Messrs. Greenspan
and Kelley, Ms. Phillips, and Mr. Meyer.
Absent and not voting: Ms. Rivlin.1
On October 7, 1996, the Board had
published revisions to Regulation M to
take effect on October 1, 1997. Those
revisions established a new disclosure
scheme to improve consumer understanding of automobile-leasing transactions. The new scheme required the
preparation of new forms and the reprogramming of computer software. The
Board had been asked by representatives of the automobile leasing industry
to delay the effective date of the new
rules, to allow more time for installation
of the software programs necessary to
produce computer-generated disclosure
statements.

March 26, 1997—Amendments
The Board amended Regulation M to
implement legislation, revise certain disclosures, and make technical corrections, effective April 1, 1997, with compliance optional until October 1, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The amendments incorporate statutory changes that streamline lease advertising disclosures, revise the requirement to disclose certain costs due at the
signing of the lease to parallel the statutory change to a similar advertising
provision, and make several technical
corrections.
September 25, 1997—Amendments
The Board delayed the date for mandatory compliance with revisions to Regu


Regulation O
Loans to Executive Officers,
Directors, and Principal
Shareholders of Member Banks
March 11,1997—Amendment
The Board amended Regulation O to
exclude from coverage certain extensions of credit by a bank to an executive
officer or a director of an affiliate, effective April 1, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The amendment excludes from the
requirements of Regulation O extensions of credit by a bank to an executive
officer or a director of an affiliate, provided that the executive officer or director is not engaged in major policymaking functions of the lending bank and

Board Policy Actions
that the affiliate does not account for
more than 10 percent of the consolidated assets of the bank's parent holding
company. The amendment also simplifies the procedure for a bank to implement this exclusion by resolution or
bylaw.
Regulation Q
Prohibition against Payment
of Interest on Demand Deposits
May 6, 1997—Interpretation
The Board revised an interpretation of
Regulation Q to provide an exception to
the current limitations on premiums
given on demand deposit accounts,
effective May 15, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The Board revised an interpretation to
provide an additional exception to the
limitations on premiums that may be
paid on demand deposit accounts. The
revised interpretation permits the payment of premiums to depositors without
any limit, provided the premiums are
not related to or dependent on the balance in a demand deposit account and
the duration of the account balance.
Regulation Y
Bank Holding Companies and
Change in Bank Control
February 19, 1997—Amendments
The Board amended Regulation Y to
eliminate unnecessary regulatory burden
and paperwork and to improve efficiency, effective April 21, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Mr. Meyer.l



87

The amendments include a streamlined and expedited review process for
bank and nonbanking proposals by wellrun bank holding companies, a reorganized and expanded list of permissible
nonbanking activities, elimination of
outmoded or superseded restrictions on
nonbanking activities, revisions to tying
restrictions, revisions to provisions
implementing the Change in Bank Control Act, and other changes to improve
the competitiveness of bank holding
companies by eliminating unnecessary
regulatory burden and modernizing the
regulation. The Board also adopted a
number of measures intended to broaden
and improve public notice of bank
acquisition proposals and to ensure that
applications and notices are quickly
available to the public.

August 21, 1997—Amendments
The Board amended the prudential limitations applicable to bank holding companies engaged in securities underwriting and dealing activities through
section 20 subsidiaries, effective October 31, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Mr. Meyer.1

The Board, in its decisions under the
Bank Holding Company Act and section
20 of the Glass-Steagall Act, had established prudential limitations (firewalls)
that permit a nonbank subsidiary of a
bank holding company to underwrite
and deal in securities. The amendments eliminate limitations that have
proved to be unduly burdensome or unnecessary in light of other laws or regulations and consolidate the remaining
limitations in a series of eight operating
standards.

88

84th Annual Report, 1997

Regulation Z
Truth in Lending
November 19, 1997—Amendment
The Board amended the disclosure
requirements for variable-rate loans in
Regulation Z, which implements the
Truth in Lending Act, to give creditors
flexibility in providing disclosures about
variable-rate loans, effective November 21, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Messrs. Meyer, Ferguson, and Gramlich.
The revision implements an amendment to the Truth in Lending Act contained in the Economic Growth and
Regulatory Paperwork Reduction Act of
1996 and applies to variable-rate loans
that have terms of more than one year
and are secured by the borrower's principal dwelling. Under the amendment,
for any variable-rate mortgage transaction, instead of a fifteen-year historical
table, creditors may give borrowers a
statement that their periodic payments
may increase or decrease substantially
and a maximum interest rate and corresponding payment based on a $10,000
loan.
Compliance with the amendment initially was optional until December 22,
1997. On December 2, 1997, the Board
extended the date for optional compliance until October 1, 1998.

Regulation CC
Availability of Funds and
Collection of Checks

Votes for this action: Ms. Rivlin, Mr.
Kelley, Ms. Phillips, and Mr. Meyer.
Absent and not voting: Mr. Greenspan.1
Many of the amendments clarify the
requirements of the regulation. Others
reduce the compliance burden for
depository institutions by, for example,
allowing more flexibility in the way
institutions must provide certain notices
and disclosures to their customers.

Rules Regarding Delegation
of Authority
March 11, 1997—Amendment
The Board amended its Rules Regarding
Delegation of Authority to delegate to
an individual Board member the authority to extend the time period for Board
action on certain applications, effective
March 22, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The Board delegated to the chairman
of its Committee on Supervisory and
Regulatory Affairs its authority, under
the Economic Growth and Regulatory
Paperwork Reduction Act of 1996, to
extend the 180-day period for final
Board action on applications by foreign
banks to establish a branch or agency
or to acquire ownership or control of a
commercial lending company.

Rules Regarding Availability
of Information
October 1, 1997—Amendments

February 26, 1997—Amendments
The Board adopted clarifying and technical amendments to Regulation CC,
effective April 28, 1997.



The Board approved amendments to
subparts A and B of its Rules Regarding
Availability of Information to provide
for expedited processing of requests for

Board Policy Actions
records and multitrack processing of
requests, effective November 19, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The Board's Rules Regarding Availability of Information implement the
Freedom of Information Act and set
forth the procedures for providing
access to Board information under the
act and in other circumstances. The
Board adopted the amendments to comply with the Electronic Freedom of
Information Act Amendments of 1996,
which require agencies to provide for
expedited processing of requests for
records and permit agencies to provide
for fast-track processing of certain
requests. The Board also updated its
rules to comply with statutes that have
been enacted since the latest revisions in
1988. Revisions to subpart C of the rules
are still under consideration.

Policy Statements and
Other Actions
March 13, 1997—Volume-Based
Fee Structures
The Board approved guidelines for the
use of volume-based fee structures for
Reserve Bank payment services, effective March 25, 1997, and reduced automated clearinghouse fees, effective
May 1, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin, Mr. Kelley, Ms. Phillips, and
Mr. Meyer.'
The Board adopted guidelines for the
Reserve Banks' use of volume-based fee
structures for their electronic payment
services and products and for continuation of volume-based fees for certain
electronic check products. The Board



89

also approved volume-based fees for the
origination of automated clearinghouse
transactions and a reduction in the fee
for the receipt of transactions.

November 6, 1997—Policy
Statement on Payments System
Risk
The Board modified its procedures for
measuring daylight overdrafts to accommodate an earlier afternoon presentment
deadline for checks drawn on local Federal Reserve Banks, effective November 14, 1997.
Votes for this action: Mr. Greenspan,
Ms. Rivlin,1 Mr. Kelley, Ms. Phillips, and
Mr. Meyer.
The Board revised its procedures to
establish a uniform Systemwide presentment deadline for federal funds checks
of 3:00 p.m. local time. Federal funds
checks presented after that deadline will
be credited to depository institutions'
accounts on the next business day at
8:30 a.m. eastern time.

1997 Discount Rates
During 1997 the basic discount rate was
left unchanged at 5 percent. Over the
course of the year, however, there were
numerous changes in the rates charged
by the Federal Reserve Banks for seasonal and extended credit. The rates for
both types of credit are set on the basis
of market-related formulas, and these
rates exceeded the basic discount rate by
varying amounts during the year.
Basic Discount Rate
The Board's decisions about the basic
discount rate are made against the background of the policy actions of the Federal Open Market Committee (FOMC)
and related economic and financial

90

84th Annual Report, 1997

developments. These developments are
covered more fully in part 1 of this
REPORT and

in the

minutes of

the

FOMC meetings during 1997 that also
appear in this REPORT.
Economic activity continued to expand at a rapid pace during the early
months of 1997 after strengthening
markedly in the latter part of 1996. The
sharp uptrend in economic activity was
associated with substantial growth in
employment and slightly faster increases
in average hourly earnings. At the same
time, however, the underlying trend in
consumer price inflation remained subdued. In view of these developments,
most of the Reserve Banks continued
to favor leaving the basic discount rate
unchanged at 5 percent, its level since it
was lowered lA percentage point in
January 1996. By mid-March, however,
four Reserve Banks were proposing a
l
A percentage point increase in view of
their growing concerns about the prospects for inflation. The Board took no
action on these pending requests but
agreed on the need to monitor the economy for signs of developing inflationary
pressures.
On March 25, the FOMC unanimously approved a small increase in the
federal funds rate to an average of about
5l/z percent. This action took into
account the persistence of rapid growth
in economic activity, which, in the context of already high levels of resource
use, was seen as progressively increasing the risk of rising inflation. In the
circumstances, the slight firming of
monetary policy was viewed as a prudent step that, by fostering an environment conducive to lower inflation,
afforded greater assurance of prolonging
the current economic expansion. In light
of this preemptive action and subsequent signs that the economic expansion
might be slowing to a more sustainable
pace, some Reserve Banks withdrew



their requests for an increase in the basic
discount rate, and by early July no
Reserve Banks were proposing a higher
rate.
Over the summer and fall, the growth
of economic activity remained relatively
brisk, although it was well below its
pace during the opening months of the
year. Price inflation continued to be subdued during this period despite indications of some pickup in the rise of labor
compensation. No requests were made
by any of the Banks to raise the basic
rate during the summer months, but
in early October one Bank proposed a
l
A percentage point increase, and late in
the year a second Bank requested an
increase of the same amount. The two
Banks expressed concern about what
they regarded as an overly accommodative monetary policy at a time when the
persisting strength of domestic demand
seemed to be increasing pressures on
resources and augmenting the risks of
higher inflation. The Board decided,
however, that the discount rate should
not be changed. Price inflation had
remained quite limited and, indeed,
appeared by some measures to be
declining. Moreover, the financial turmoil in Southeast Asia, which intensified during the closing months of the
year, could be expected to have a damping effect on the economic expansion
and inflation in the year ahead. Accordingly, although higher price inflation
clearly remained a risk, the Board
agreed with most of the Reserve Banks
that near-term uncertainties warranted a
cautious, wait-and-see policy posture.
Structure of Discount Rates
The basic rate is the rate normally
charged on loans to depository institutions for short-term adjustment credit,
while flexible, market-related rates
generally are charged on seasonal and

Board Policy Actions
extended credit. These flexible rates are
calculated periodically in accordance
with formulas that are approved by the
Board.
The seasonal program helps smaller
institutions meet needs arising from a
regular pattern of intra-yearly movements in their deposits and loans. Funds
may be provided for periods longer than
those permitted under adjustment credit.
Since its introduction in 1992, the flexible rate charged for seasonal credit has
been closely aligned with short-term
market rates; it may never be less than
the basic discount rate applicable to
adjustment credit.
The purpose of extended credit is to
assist depository institutions that are
under sustained liquidity pressure and
are not able to obtain funds from other
sources. The usual rate for extended
credit is 50 basis points higher than the
rate for seasonal credit and is at least
50 basis points above the basic rate. In
appropriate circumstances, the basic discount rate may be applied to extendedcredit loans for up to thirty days, but
any further borrowings are charged the
market-related rate.
Exceptionally large adjustment-credit
loans that arise from computer breakdowns or other operating problems not
clearly beyond the reasonable control of
the borrowing institution are assessed
the highest rate applicable to any credit
extended to depository institutions;
under the current structure, that rate is
the rate for extended credit.
At the end of 1997 the structure of
discount rates was as follows: a basic
rate of 5 percent for short-term adjustment credit, a rate of 5.65 percent for
seasonal credit, and a rate of 6.15 percent for extended credit. During 1997
the rate for seasonal credit ranged from
5.25 percent to 5.70 percent, and the
rate for extended credit ranged from
5.75 percent to 6.20 percent.



91

Board Votes
Under the Federal Reserve Act, the
boards of directors of the Federal
Reserve Banks must establish rates on
loans to depository institutions at least
every fourteen days and must submit
the rates to the Board of Governors for
review and determination. The Reserve
Banks are also required to submit
requests to renew the formulas for calculating the flexible rates on seasonal and
extended credit. All votes on discount
rates by the Board of Governors during
1997 were unanimous.
•

93

Minutes of Federal Open Market
Committee Meetings
The policy actions of the Federal Open
Market Committee, contained in the
minutes of its meetings, are presented in
the ANNUAL REPORT of the Board of
Governors pursuant to the requirements
of section 10 of the Federal Reserve
Act. That section provides that the
Board shall keep a complete record of
the actions taken by the Board and by
the Federal Open Market Committee on
all questions of policy relating to open
market operations, that it shall record
therein the votes taken in connection
with the determination of open market
policies and the reasons underlying each
such action, and that it shall include in
its annual report to the Congress a full
account of such actions.
The minutes of the meetings contain
the votes on the policy decisions made
at those meetings as well as a resume of
the discussions that led to the decisions.
The summary descriptions of economic
and financial conditions are based on the
information that was available to the
Committee at the time of the meetings
rather than on data as they may have
been revised later.
Members of the Committee voting for
a particular action may differ among
themselves as to the reasons for their
votes; in such cases, the range of their
views is noted in the minutes. When
members dissent from a decision, they
are identified in the minutes along with
a summary of the reasons for their
dissent.
Policy directives of the Federal Open
Market Committee are issued to the Federal Reserve Bank of New York as the
Bank selected by the Committee to



execute transactions for the System
Open Market Account. In the area of
domestic open market activities, the
Federal Reserve Bank of New York
operates under two sets of instructions
from the Federal Open Market Committee: an Authorization for Domestic Open
Market Operations and a Domestic Policy Directive. (A new Domestic Policy
Directive is adopted at each regularly
scheduled meeting.) In the foreign currency area, the Committee operates
under an Authorization for Foreign Currency Operations, a Foreign Currency
Directive, and Procedural Instructions
with Respect to Foreign Currency
Operations. These policy instruments
are shown below in the form in which
they were in effect at the beginning of
1997. Changes in the instruments during
the year are reported in the minutes for
the individual meetings.
Authorization for D o m e s t i c
O p e n M a r k e t Operations
In Effect January 1, 1997
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, to the extent necessary
to carry out the most recent domestic policy
directive adopted at a meeting of the
Committee:
(a) To buy or sell U.S. Government
securities, including securities of the Federal
Financing Bank, and securities that are direct
obligations of, or fully guaranteed as to
principal and interest by, any agency of the
United States in the open market, from or to
securities dealers and foreign and international accounts maintained at the Federal

94

84th Annual Report, 1997

Reserve Bank of New York, on a cash, regular, or deferred delivery basis, for the System
Open Market Account at market prices, and,
for such Account, to exchange maturing U.S.
Government and Federal agency securities
with the Treasury or the individual agencies
or to allow them to mature without replacement; provided that the aggregate amount of
U.S. Government and Federal agency securities held in such Account (including forward
commitments) at the close of business on the
day of a meeting of the Committee at which
action is taken with respect to a domestic
policy directive shall not be increased or
decreased by more than $8.0 billion during
the period commencing with the opening of
business on the day following such meeting
and ending with the close of business on the
day of the next such meeting;
(b) When appropriate, to buy or sell in
the open market, from or to acceptance dealers and foreign accounts maintained at the
Federal Reserve Bank of New York, on a
cash, regular, or deferred delivery basis, for
the account of the Federal Reserve Bank of
New York at market discount rates, prime
bankers acceptances with maturities of up to
nine months at the time of acceptance that
(1) arise out of the current shipment of goods
between countries or within the United
States, or (2) arise out of the storage within
the United States of goods under contract of
sale or expected to move into the channels of
trade within a reasonable time and that are
secured throughout their life by a warehouse
receipt or similar document conveying title
to the underlying goods; provided that the
aggregate amount of bankers acceptances
held at any one time shall not exceed
$100 million;
(c) To buy U.S. Government securities,
obligations that are direct obligations of, or
fully guaranteed as to principal and interest
by, any agency of the United States, and
prime bankers acceptances of the types
authorized for purchase under l(b) above,
from dealers for the account of the Federal
Reserve Bank of New York under agreements for repurchase of such securities, obligations, or acceptances in 15 calendar days
or less, at rates that, unless otherwise
expressly authorized by the Committee, shall
be determined by competitive bidding, after



applying reasonable limitations on the volume of agreements with individual dealers;
provided that in the event Government securities or agency issues covered by any such
agreement are not repurchased by the dealer
pursuant to the agreement or a renewal
thereof, they shall be sold in the market or
transferred to the System Open Market
Account; and provided further that in the
event bankers acceptances covered by any
such agreement are not repurchased by the
seller, they shall continue to be held by the
Federal Reserve Bank or shall be sold in
the open market.
2. In order to ensure the effective conduct of
open market operations, the Federal Open
Market Committee authorizes and directs the
Federal Reserve Banks to lend U.S. Government securities held in the System Open
Market Account to Government securities
dealers and to banks participating in Government securities clearing arrangements conducted through a Federal Reserve Bank,
under such instructions as the Committee
may specify from time to time.
3. In order to ensure the effective conduct
of open market operations, while assisting in
the provision of short-term investments for
foreign and international accounts maintained at the Federal Reserve Bank of
New York, the Federal Open Market Committee authorizes and directs the Federal
Reserve Bank of New York (a) for System
Open Market Account, to sell U.S. Government securities to such foreign and international accounts on the bases set forth in
paragraph l(a) under agreements providing
for the resale by such accounts of those
securities within 15 calendar days on terms
comparable to those available on such transactions in the market; and (b) for New York
Bank account, when appropriate, to undertake with dealers, subject to the conditions
imposed on purchases and sales of securities
in paragraph l(c), repurchase agreements in
U.S. Government and agency securities, and
to arrange corresponding sale and repurchase
agreements between its own account and
foreign and international accounts maintained at the Bank. Transactions undertaken
with such accounts under the provisions of
this paragraph may provide for a service fee
when appropriate.

Minutes of FOMC Meetings

Domestic Policy Directive
In Effect January 1, 19971
The information reviewed at this meeting
suggests that economic activity has continued to expand at a moderate pace. Private
nonfarm payroll employment increased
appreciably further in November, although
the civilian unemployment rate edged up
to 5.4 percent. Industrial production rose
sharply in November, in part because of a
rebound in motor vehicle assemblies that had
been depressed earlier by work stoppages.
Consumer spending has posted appreciable
gains over recent months after a summer lull.
Housing starts rebounded in November after
declining in September and October. Business fixed investment appears to be growing
moderately after a sharp rise in the third
quarter. The nominal deficit on U.S. trade in
goods and services widened substantially in
the third quarter from its rate in the second
quarter. Increases in labor compensation
have trended up this year, and consumer
price inflation also has picked up owing to
larger increases in food and energy prices.
Short-term market interest rates have registered mixed changes since the Committee
meeting on November 13, 1996, while longterm yields have risen slightly. In foreign
exchange markets, the trade-weighted value
of the dollar in terms of the other G-10
currencies has risen slightly over the intermeeting period.
Growth of M2 picked up in November,
while expansion of M3 moderated somewhat
from its brisk pace in October. For the year
through November, M2 is estimated to have
grown at a rate in the upper half of the
Committee's annual range, and M3 at a rate
a little above the top of its range. Total
domestic nonfinancial debt has expanded
moderately on balance over recent months
and has remained in the middle portion of its
range.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at its meeting in July reaffirmed the ranges it had established in January for growth of M2 and M3
1. Adopted by the Committee at its meeting on
December 17, 1996.



95

of 1 to 5 percent and 2 to 6 percent respectively, measured from the fourth quarter
of 1995 to the fourth quarter of 1996. The
monitoring range for growth of total domestic nonfinancial debt was maintained at 3 to
7 percent for the year. For 1997, the Committee agreed on a tentative basis to set the same
ranges as in 1996 for growth of the monetary
aggregates and debt, measured from the
fourth quarter of 1996 to the fourth quarter
of 1997. The behavior of the monetary aggregates will continue to be evaluated in the
light of progress toward price level stability,
movements in their velocities, and developments in the economy and financial markets.
In the implementation of policy for the
immediate future, the Committee seeks to
maintain the existing degree of pressure on
reserve positions. In the context of the Committee's long-run objectives for price stability and sustainable economic growth, and
giving careful consideration to economic,
financial, and monetary developments,
somewhat greater reserve restraint would
or slightly lesser reserve restraint might
be acceptable in the intermeeting period.
The contemplated reserve conditions are
expected to be consistent with relatively
strong expansion in M2 and M3 over coming
months.

Authorization for Foreign
Currency Operations
In Effect January 1, 1997
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, for System Open Market
Account, to the extent necessary to carry out
the Committee's foreign currency directive
and express authorizations by the Committee
pursuant thereto, and in conformity with
such procedural instructions as the Committee may issue from time to time:
A. To purchase and sell the following
foreign currencies in the form of cable transfers through spot or forward transactions on
the open market at home and abroad, including transactions with the U.S. Treasury, with
the U.S. Exchange Stabilization Fund established by Section 10 of the Gold Reserve
Act of 1934, with foreign monetary authorities, with the Bank for International Settle-

96

84th Annual Report, 1997

ments, and with other international financial
institutions:
Austrian schillings
Belgian francs
Canadian dollars
Danish kroner
Pounds sterling
French francs
German marks

Italian lire
Japanese yen
Mexican pesos
Netherlands guilders
Norwegian kroner
Swedish kronor
Swiss francs

B. To hold balances of, and to have
outstanding forward contracts to receive or
to deliver, the foreign currencies listed in
paragraph A above.
C. To draw foreign currencies and to
permit foreign banks to draw dollars under
the reciprocal currency arrangements listed
in paragraph 2 below, provided that drawings by either party to any such arrangement
shall be fully liquidated within 12 months
after any amount outstanding at that time
was first drawn, unless the Committee,
because of exceptional circumstances, specifically authorizes a delay.
D. To maintain an overall open position in all foreign currencies not exceeding
$25.0 billion. For this purpose, the overall
open position in all foreign currencies is
defined as the sum (disregarding signs) of
net positions in individual currencies. The
net position in a single foreign currency is
defined as holdings of balances in that currency, plus outstanding contracts for future
receipt, minus outstanding contracts for
future delivery of that currency, i.e., as the
sum of these elements with due regard to
sign.
2. The Federal Open Market Committee
directs the Federal Reserve Bank of New
York to maintain reciprocal currency
arrangements ("swap" arrangements) for the
System Open Market Account for periods up
to a maximum of 12 months with the following foreign banks, which are among those
designated by the Board of Governors of the
Federal Reserve System under Section 214.5
of Regulation N, Relations with Foreign
Banks and Bankers, and with the approval of
the Committee to renew such arrangements
on maturity:




Foreign bank

Amount
(millions of
dollars equivalent)

Austrian National Bank
National Bank of Belgium
Bank of Canada
National Bank of Denmark
Bank of England
Bank of France
German Federal Bank
Bank of Italy
Bank of Japan
Bank of Mexico
Netherlands Bank
Bank of Norway
Bank of Sweden
Swiss National Bank
Bank for International Settlements
Dollars against Swiss francs
Dollars against authorized European
currencies other than Swiss francs

250
1,000
2,000
250
3,000
2,000
6,000
3,000
5,000
3,000
500
250
300
4,000
600
1,250

Any changes in the terms of existing swap
arrangements, and the proposed terms of any
new arrangements that may be authorized,
shall be referred for review and approval to
the Committee.
3. All transactions in foreign currencies
undertaken under paragraph 1(A) above
shall, unless otherwise expressly authorized
by the Committee, be at prevailing market
rates. For the purpose of providing an investment return on System holdings of foreign
currencies, or for the purpose of adjusting
interest rates paid or received in connection
with swap drawings, transactions with foreign central banks may be undertaken at
non-market exchange rates.
4. It shall be the normal practice to arrange
with foreign central banks for the coordination of foreign currency transactions. In making operating arrangements with foreign
central banks on System holdings of foreign
currencies, the Federal Reserve Bank of
New York shall not commit itself to maintain
any specific balance, unless authorized by
the Federal Open Market Committee. Any
agreements or understandings concerning the
administration of the accounts maintained by
the Federal Reserve Bank of New York with
the foreign banks designated by the Board
of Governors under Section 214.5 of Regulation N shall be referred for review and
approval to the Committee.

Minutes of FOMC Meetings
5. Foreign currency holdings shall be
invested to ensure that adequate liquidity is
maintained to meet anticipated needs and so
that each currency portfolio shall generally
have an average duration of no more than
18 months (calculated as Macaulay duration). When appropriate in connection with
arrangements to provide investment facilities
for foreign currency holdings, U.S. Government securities may be purchased from foreign central banks under agreements for
repurchase of such securities within 30 calendar days.
6. All operations undertaken pursuant to
the preceding paragraphs shall be reported
promptly to the Foreign Currency Subcommittee and the Committee. The Foreign
Currency Subcommittee consists of the
Chairman and Vice Chairman of the Committee, the Vice Chairman of the Board of
Governors, and such other member of the
Board as the Chairman may designate (or in
the absence of members of the Board serving
on the Subcommittee, other Board Members
designated by the Chairman as alternates,
and in the absence of the Vice Chairman of
the Committee, his alternate). Meetings of
the Subcommittee shall be called at the
request of any member, or at the request of
the Manager, System Open Market Account
("Manager"), for the purposes of reviewing
recent or contemplated operations and of
consulting with the Manager on other matters relating to his responsibilities. At the
request of any member of the Subcommittee,
questions arising from such reviews and consultations shall be referred for determination
to the Federal Open Market Committee.
7. The Chairman is authorized:
A. With the approval of the Committee, to enter into any needed agreement or
understanding with the Secretary of the Treasury about the division of responsibility for
foreign currency operations between the System and the Treasury;
B. To keep the Secretary of the Treasury fully advised concerning System foreign currency operations, and to consult with
the Secretary on policy matters relating to
foreign currency operations;




97

C. From time to time, to transmit
appropriate reports and information to the
National Advisory Council on International
Monetary and Financial Policies.
8. Staff officers of the Committee are authorized to transmit pertinent information on
System foreign currency operations to appropriate officials of the Treasury Department.
9. All Federal Reserve Banks shall participate in the foreign currency operations for
System Account in accordance with paragraph 3 G(l) of the Board of Governors'
Statement of Procedure with Respect to Foreign Relationships of Federal Reserve Banks
dated January 1, 1944.

Foreign Currency Directive
In Effect January 1, 1997
1. System operations in foreign currencies
shall generally be directed at countering disorderly market conditions, provided that
market exchange rates for the U.S. dollar
reflect actions and behavior consistent with
the IMF Article IV, Section 1.
2. To achieve this end the System shall:
A. Undertake spot and forward purchases and sales of foreign exchange.
B. Maintain
reciprocal
currency
("swap") arrangements with selected foreign central banks and with the Bank for
International Settlements.
C. Cooperate in other respects with
central banks of other countries and with
international monetary institutions.
3. Transactions may also be undertaken:
A. To adjust System balances in light
of probable future needs for currencies.
B. To provide means for meeting System and Treasury commitments in particular
currencies, and to facilitate operations of the
Exchange Stabilization Fund.

98

84th Annual Report, 1997

C. For such other purposes as may be
expressly authorized by the Committee.
4. System foreign currency operations shall
be conducted:
A. In close and continuous consultation and cooperation with the United States
Treasury;
B. In cooperation, as appropriate, with
foreign monetary authorities; and
C. In a manner consistent with the obligations of the United States in the International Monetary Fund regarding exchange
arrangements under the IMF Article IV.

Procedural Instructions with
Respect to Foreign Currency
Operations
In Effect January 1, 1997
In conducting operations pursuant to the
authorization and direction of the Federal
Open Market Committee as set forth in the
Authorization for Foreign Currency Operations and the Foreign Currency Directive,
the Federal Reserve Bank of New York,
through the Manager, System Open Market
Account ("Manager"), shall be guided by
the following procedural understandings
with respect to consultations and clearance
with the Committee, the Foreign Currency
Subcommittee, and the Chairman of the
Committee. All operations undertaken pursuant to such clearances shall be reported
promptly to the Committee.
1. The Manager shall clear with the Subcommittee (or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):

tion in a single foreign currency exceeding
$150 million, or $300 million when the
operation is associated with repayment of
swap drawings.
C. Any operation that might generate a
substantial volume of trading in a particular
currency by the System, even though the
change in the System's net position in that
currency might be less than the limits specified in l.B.
D. Any swap drawing proposed by a
foreign bank not exceeding the larger of
(i) $200 million or (ii) 15 percent of the size
of the swap arrangement.
2. The Manager shall clear with the Committee (or with the Subcommittee, if the
Subcommittee believes that consultation
with the full Committee is not feasible in the
time available, or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $1.5 billion
since the most recent regular meeting of the
Committee.
B. Any swap drawing proposed by a
foreign bank exceeding the larger of (i) $200
million or (ii) 15 percent of the size of the
swap arrangement.
3. The Manager shall also consult with the
Subcommittee or the Chairman about proposed swap drawings by the System, and
about any operations that are not of a routine
character.

Meeting Held on
February 4-5, 1997

A meeting of the Federal Open Market
Committee was held in the offices of the
Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, February 4, 1997, at 2:30
B. Any operation that would result in a p.m. and continued on Wednesday, Febchange on any day in the System's net posi- ruary 5, 1997, at 9:00 a.m.

A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $300 million
on any day or $600 million since the most
recent regular meeting of the Committee.




Minutes of FOMC Meetings, February
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Meyer
Mr. Moskow
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas,
and Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel2
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Beebe, Eisenbeis, Goodfriend,
Hunter, Lindsey, Mishkin,
Promisel, Siegman, Slifman, and
Stockton, Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board
of Governors
Mr. Winn, Assistant to the Board,
Office of Board Members, Board
of Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors

2. Attended Tuesday session only.




99

Ms. Johnson,3 Assistant Director,
Division of International Finance,
Board of Governors
Messrs. Brady3 and ReifSchneider,3
Section Chiefs, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Messrs. Brayton3 and Rosine,3 Senior
Economists, Division of Research
and Statistics, Board of Governors
Ms. Garrett, Economist, Division of
Monetary Affairs, Board of
Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
Ms. Browne, Messrs. Dewald, Hakkio,
Lang, Rosenblum, and Sniderman,
Senior Vice Presidents, Federal
Reserve Banks of Boston,
St. Louis, Kansas City,
Philadelphia, Dallas, and
Cleveland respectively
Mr. Miller and Ms. Perelmuter,
Vice Presidents, Federal Reserve
Banks of Minneapolis and
New York respectively
In the agenda for this meeting, it was
reported that advices of the election of
the following members and alternate
members of the Federal Open Market
Committee for the period commencing
January 1, 1997, and ending December 31, 1997, had been received and that
the named individuals had executed
their oaths of office.
The elected members and alternate
members were as follows:
William J. McDonough, President of the
Federal Reserve Bank of New York,
with Ernest T. Patrikis, First Vice President of the Federal Reserve Bank of
New York, as alternate;

3. Attended portions of meeting relating to the
Committee's review of the economic outlook and
establishment of its monetary and debt ranges for
1997.

100 84th Annual Report, 1997
J. Alfred Broaddus, Jr., President of the FedDavid J. Stockton, Associate
eral Reserve Bank of Richmond, with
Economists
Cathy E. Minehan, President of the
Federal Reserve Bank of Boston, as
By unanimous vote, the Federal
alternate;
Reserve Bank of New York was selected
Michael H. Moskow, President of the Federal Reserve Bank of Chicago, with to execute transactions for the System
Jerry L. Jordan, President of the Fed- Open Market Account until the adjourneral Reserve Bank of Cleveland, as ment of the first meeting of the Commitalternate;
tee after December 31, 1997.
Jack Guynn, President of the Federal
By unanimous vote, Peter R. Fisher
Reserve Bank of Atlanta, with Thomas
was selected to serve at the pleasure
C. Melzer, President of the Federal
Reserve Bank of St. Louis, as alternate; of the Committee as Manager,. System
Robert T. Parry, President of the Federal Open Market Account, on the underReserve Bank of San Francisco, with standing that his selection was subject to
Thomas M. Hoenig, President of the being satisfactory to the Federal Reserve
Federal Reserve Bank of Kansas City,
Bank of New York.
as alternate.
By unanimous vote, the following
officers of the Federal Open Market
Committee were elected to serve until
the election of their successors at the
first meeting of the Committee after
December 31, 1997, with the understanding that in the event of the discontinuance of their official connection with
the Board of Governors or with a Federal Reserve Bank, they would cease to
have any official connection with the
Federal Open Market Committee:

Secretary's note: Advice subsequently
was received that the selection of Mr. Fisher
as Manager was satisfactory to the board
of directors of the Federal Reserve Bank of
New York.

Alan Greenspan
William J. McDonough

Chairman
Vice Chairman

Donald L. Kohn

Secretary and
Economist
Deputy Secretary
Assistant
Secretary
Assistant
Secretary
General Counsel
Deputy General
Counsel
Economist
Economist

1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, to the extent necessary
to carry out the most recent domestic policy
directive adopted at a meeting of the
Committee:
(a) To buy or sell U.S. Government
securities, including securities of the Federal
Financing Bank, and securities that are direct
obligations of, or fully guaranteed as to
principal and interest by, any agency of the
United States in the open market, from or to
securities dealers and foreign and international accounts maintained at the Federal
Reserve Bank of New York, on a cash, regular, or deferred delivery basis, for the System
Open Market Account at market prices, and,
for such Account, to exchange maturing U.S.
Government and Federal agency securities
with the Treasury or the individual agencies
or to allow them to mature without replace-

Normand R.V. Bernard
Joseph R. Coyne
Gary P. Gillum
J. Virgil Mattingly, Jr.
Thomas C. Baxter, Jr.
Michael J. Prell
Edwin M. Truman

Jack H. Beebe, Robert A. Eisenbeis,
Marvin S. Goodfriend, William C.
Hunter, David E. Lindsey, Frederic S.
Mishkin, Larry J. Promisel, Charles J.
Siegman, Lawrence Slifman, and



By unanimous vote, the Authorization for Domestic Open Market Operations shown below was reaffirmed.

Authorization for Domestic
Open Market Operations

Minutes of FOMC Meetings, February 101
ment; provided that the aggregate amount of
U.S. Government and Federal agency securities held in such Account (including forward
commitments) at the close of business on the
day of a meeting of the Committee at which
action is taken with respect to a domestic
policy directive shall not be increased or
decreased by more than $8.0 billion during
the period commencing with the opening of
business on the day following such meeting
and ending with the close of business on the
day of the next such meeting;
(b) When appropriate, to buy or sell
in the open market, from or to acceptance
dealers and foreign accounts maintained at
the Federal Reserve Bank of New York, on a
cash, regular, or deferred delivery basis, for
the account of the Federal Reserve Bank of
New York at market discount rates, prime
bankers acceptances with maturities of up to
nine months at the time of acceptance that
(1) arise out of the current shipment of goods
between countries or within the United
States, or (2) arise out of the storage within
the United States of goods under contract of
sale or expected to move into the channels of
trade within a reasonable time and that are
secured throughout their life by a warehouse
receipt or similar document conveying title
to the underlying goods; provided that the
aggregate amount of bankers acceptances
held at any one time shall not exceed
$100 million;
(c) To buy U.S. Government securities,
obligations that are direct obligations of, or
fully guaranteed as to principal and interest
by, any agency of the United States, and
prime bankers acceptances of the types
authorized for purchase under l(b) above,
from dealers for the account of the Federal
Reserve Bank of New York under agreements for repurchase of such securities, obligations, or acceptances in 15 calendar days
or less, at rates that, unless otherwise
expressly authorized by the Committee, shall
be determined by competitive bidding, after
applying reasonable limitations on the volume of agreements with individual dealers;
provided that in the event Government securities or agency issues covered by any such
agreement are not repurchased by the dealer
pursuant to the agreement or a renewal
thereof, they shall be sold in the market
or transferred to the System Open Market
Account; and provided further that in the
event bankers acceptances covered by any



such agreement are not repurchased by the
seller, they shall continue to be held by the
Federal Reserve Bank or shall be sold in the
open market.
2. In order to ensure the effective conduct
of open market operations, the Federal Open
Market Committee authorizes and directs the
Federal Reserve Banks to lend U.S. Government securities held in the System Open
Market Account to Government securities
dealers and to banks participating in Government securities clearing arrangements
conducted through a Federal Reserve Bank,
under such instructions as the Committee
may specify from time to time.
3. In order to ensure the effective conduct
of open market operations, while assisting
in the provision of short-term investments
for foreign and international accounts maintained at the Federal Reserve Bank of
New York, the Federal Open Market Committee authorizes and directs the Federal
Reserve Bank of New York (a) for System
Open Market Account, to sell U.S. Government securities to such foreign and international accounts on the bases set forth in
paragraph l(a) under agreements providing
for the resale by such accounts of those
securities within 15 calendar days on terms
comparable to those available on such transactions in the market; and (b) for New York
Bank account, when appropriate, to undertake with dealers, subject to the conditions
imposed on purchases and sales of securities
in paragraph l(c), repurchase agreements in
U.S. Government and agency securities, and
to arrange corresponding sale and repurchase
agreements between its own account and
foreign and international accounts maintained at the Bank. Transactions undertaken
with such accounts under the provisions of
this paragraph may provide for a service fee
when appropriate.

With Mr. Broaddus dissenting, the
Authorization for Foreign Currency
Operations shown below was reaffirmed.
Authorization for Foreign
Currency Operations
1. The Federal Open Market Committee
authorizes and directs the Federal Reserve
Bank of New York, for System Open Market

102 84th Annual Report, 1997
Account, to the extent necessary to carry out
the Committee's foreign currency directive
and express authorizations by the Committee
pursuant thereto, and in conformity with
such procedural instructions as the Committee may issue from time to time:
A. To purchase and sell the following
foreign currencies in the form of cable transfers through spot or forward transactions on
the open market at home and abroad, including transactions with the U.S. Treasury, with
the U.S. Exchange Stabilization Fund established by Section 10 of the Gold Reserve
Act of 1934, with foreign monetary authorities, with the Bank for International Settlements, and with other international financial
institutions:
Austrian schillings
Belgian francs
Canadian dollars
Danish kroner
Pounds sterling
French francs
German marks

Italian lire
Japanese yen
Mexican pesos
Netherlands guilders
Norwegian kroner
Swedish kronor
Swiss francs

B. To hold balances of, and to have
outstanding forward contracts to receive or
to deliver, the foreign currencies listed in
paragraph A above.
C. To draw foreign currencies and to
permit foreign banks to draw dollars under
the reciprocal currency arrangements listed
in paragraph 2 below, provided that drawings by either party to any such arrangement
shall be fully liquidated within 12 months
after any amount outstanding at that time
was first drawn, unless the Committee,
because of exceptional circumstances, specifically authorizes a delay.
D. To maintain an overall open position in all foreign currencies not exceeding
$25.0 billion. For this purpose, the overall
open position in all foreign currencies is
defined as the sum (disregarding signs) of
net positions in individual currencies. The
net position in a single foreign currency is
defined as holdings of balances in that currency, plus outstanding contracts for future
receipt, minus outstanding contracts for
future delivery of that currency, i.e., as the
sum of these elements with due regard to
sign.
2. The Federal Open Market Committee directs the Federal Reserve Bank of
New York to maintain reciprocal currency
arrangements ("swap" arrangements) for the
System Open Market Account for periods up



to a maximum of 12 months with the following foreign banks, which are among those
designated by the Board of Governors of the
Federal Reserve System under Section 214.5
of Regulation N, Relations with Foreign
Banks and Bankers, and with the approval of
the Committee to renew such arrangements
on maturity:
Foreign bank

Amount
(millions of
dollars equivalent)

Austrian National Bank
National Bank of Belgium
Bank of Canada
National Bank of Denmark
Bank of England
Bank of France
German Federal Bank
Bank of Italy
Bank of Japan
Bank of Mexico
Netherlands Bank
Bank of Norway
Bank of Sweden
Swiss National Bank
Bank for International Settlements
Dollars against Swiss francs
Dollars against authorized European
currencies other than Swiss francs

250
1,000
2,000
250
3,000
2,000
6,000
3,000
5,000
3,000
500
250
300
4,000
600
1,250

Any changes in the terms of existing swap
arrangements, and the proposed terms of any
new arrangements that may be authorized,
shall be referred for review and approval to
the Committee.
3. All transactions in foreign currencies
undertaken under paragraph LA. above
shall, unless otherwise expressly authorized
by the Committee, be at prevailing market
rates. For the purpose of providing an investment return on System holdings of foreign
currencies, or for the purpose of adjusting
interest rates paid or received in connection
with swap drawings, transactions with foreign central banks may be undertaken at
non-market exchange rates.
4. It shall be the normal practice to
arrange with foreign central banks for the
coordination of foreign currency transactions. In making operating arrangements
with foreign central banks on System holdings of foreign currencies, the Federal
Reserve Bank of New York shall not commit
itself to maintain any specific balance, unless
authorized by the Federal Open Market
Committee. Any agreements or understandings concerning the administration of the
accounts maintained by the Federal Reserve
Bank of New York with the foreign banks

Minutes of FOMC Meetings, February 103
designated by the Board of Governors under
Section 214.5 of Regulation N shall be
referred for review and approval to the
Committee.
5. Foreign currency holdings shall be
invested to ensure that adequate liquidity is
maintained to meet anticipated needs and so
that each currency portfolio shall generally
have an average duration of no more than
18 months (calculated as Macaulay duration). When appropriate in connection with
arrangements to provide investment facilities
for foreign currency holdings, U.S. Government securities may be purchased from foreign central banks under agreements for
repurchase of such securities within 30 calendar days.
6. All operations undertaken pursuant to
the preceding paragraphs shall be reported
promptly to the Foreign Currency Subcommittee and the Committee. The Foreign Currency Subcommittee consists of the Chairman and Vice Chairman of the Committee,
the Vice Chairman of the Board of Governors, and such other member of the Board
as the Chairman may designate (or in the
absence of members of the Board serving on
the Subcommittee, other Board members
designated by the Chairman as alternates,
and in the absence of the Vice Chairman of
the Committee, his alternate). Meetings of
the Subcommittee shall be called at the
request of any member, or at the request of
the Manager, System Open Market Account
("Manager"), for the purposes of reviewing recent or contemplated operations and
of consulting with the Manager on other
matters relating to his responsibilities. At
the request of any member of the Subcommittee, questions arising from such reviews
and consultations shall be referred for
determination to the Federal Open Market
Committee.
7. The Chairman is authorized:
A. With the approval of the Committee, to enter into any needed agreement or
understanding with the Secretary of the Treasury about the division of responsibility for
foreign currency operations between the System and the U.S. Treasury;
B. To keep the Secretary of the Treasury fully advised concerning System foreign currency operations, and to consult with
the Secretary on policy matters relating to
foreign currency operations;
C. From time to time, to transmit
appropriate reports and information to the



National Advisory Council on International
Monetary and Financial Policies.
8. Staff officers of the Committee are
authorized to transmit pertinent information
on System foreign currency operations to
appropriate officials of the U.S. Treasury
Department.
9. All Federal Reserve Banks shall participate in the foreign currency operations
for System Account in accordance with paragraph 3 G(l) of the Board of Governors'
Statement of Procedure with Respect to Foreign Relationships of Federal Reserve Banks
dated January 1, 1944.

With Mr. Broaddus dissenting, the
Foreign Currency Directive shown
below was reaffirmed.

Foreign Currency Directive
1. System operations in foreign currencies shall generally be directed at countering
disorderly market conditions, provided that
market exchange rates for the U.S. dollar
reflect actions and behavior consistent with
the IMF Article IV, Section 1.
2. To achieve this end the System shall:
A. Undertake spot and forward purchases and sales of foreign exchange.
B. Maintain
reciprocal
currency
("swap") arrangements with selected foreign central banks and with the Bank for
International Settlements.
C. Cooperate in other respects with
central banks of other countries and with
international monetary institutions.
3. Transactions may also be undertaken:
A. To adjust System balances in light
of probable future needs for currencies.
B. To provide means for meeting System and U.S. Treasury commitments in particular currencies, and to facilitate operations
of the Exchange Stabilization Fund.
C. For such other purposes as may be
expressly authorized by the Committee.
4. System foreign currency operations
shall be conducted:
A. In close and continuous consultation and cooperation with the U.S. Treasury;
B. In cooperation, as appropriate, with
foreign monetary authorities; and
C. In a manner consistent with the obligations of the United States in the Inter-

104 84th Annual Report, 1997
national Monetary Fund regarding exchange
arrangements under the IMF Article IV.
Mr. Broaddus dissented in the votes
on the Authorization and the Directive
because they provide the foundation for
foreign exchange market intervention.
He believed that the Federal Reserve's
participation in foreign exchange market intervention compromises its ability
to conduct monetary policy effectively.
Because sterilized intervention cannot
have sustained effects in the absence
of conforming monetary policy actions,
Federal Reserve participation in foreign
exchange operations in his view risks
one of two undesirable outcomes. First,
the independence of monetary policy is
jeopardized if the System adjusts its policy actions to support short-term foreign
exchange objectives set by the U.S.
Treasury. Alternatively, the credibility
of monetary policy is damaged if the
System does not follow interventions
with compatible policy actions, the interventions consequently fail to achieve
their objectives, and the System is associated in the mind of the public with the
failed operations.
By unanimous vote, the Procedural
Instructions with Respect to Foreign
Currency Operations shown below were
reaffirmed.

Procedural Instructions with
Respect to Foreign Currency
Operations
In conducting operations pursuant to the
authorization and direction of the Federal
Open Market Committee as set forth in the
Authorization for Foreign Currency Operations and the Foreign Currency Directive,
the Federal Reserve Bank of New York,
through the Manager, System Open Market
Account ("Manager"), shall be guided by
the following procedural understandings
with respect to consultations and clearances
with the Committee, the Foreign Currency
Subcommittee, and the Chairman of the



Committee. All operations undertaken pursuant to such clearances shall be reported
promptly to the Committee.
1. The Manager shall clear with the Subcommittee (or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $300 million
on any day or $600 million since the most
recent regular meeting of the Committee.
B. Any operation that would result in a
change on any day in the System's net position in a single foreign currency exceeding
$150 million, or $300 million when the
operation is associated with repayment of
swap drawings.
C. Any operation that might generate a
substantial volume of trading in a particular
currency by the System, even though the
change in the System's net position in that
currency might be less than the limits specified in I.B.
D. Any swap drawing proposed by a
foreign bank not exceeding the larger of
(i) $200 million or (ii) 15 percent of the size
of the swap arrangement.
2. The Manager shall clear with the Committee (or with the Subcommittee, if the
Subcommittee believes that consultation
with the full Committee is not feasible in the
time available, or with the Chairman, if the
Chairman believes that consultation with the
Subcommittee is not feasible in the time
available):
A. Any operation that would result in a
change in the System's overall open position
in foreign currencies exceeding $1.5 billion
since the most recent regular meeting of the
Committee.
B. Any swap drawing proposed by a
foreign bank exceeding the larger of (i) $200
million or (ii) 15 percent of the size of the
swap arrangement.
3. The Manager shall also consult with
the Subcommittee or the Chairman about
proposed swap drawings by the System and
about any operations that are not of a routine
character.
By unanimous vote, the Committee
reduced from $20 billion to $5 billion
the amount of eligible foreign currencies that the System was prepared to

Minutes of FOMC Meetings, February 105
"warehouse" for the U.S. Treasury and
the Exchange Stabilization Fund (ESF).
Warehousing involves spot purchases of
foreign currencies from the U.S. Treasury or the ESF and simultaneous forward sales of the same currencies to the
U.S. Treasury or the ESF at the thencurrent forward market rates. The effect
of warehousing is to supplement the
U.S. dollar resources of the U.S. Treasury and the ESF for financing the purchase of foreign currencies and related
international operations. The agreement
had been enlarged from $5 billion to
$20 billion in early 1995 to facilitate
U.S. participation in the Multilateral
Program to Restore Financial Stability
in Mexico. No use of the warehousing
facility had been made by the U.S. Treasury or the ESF during this period, and
in light of Mexico's repayment to the
U.S. Treasury of all the financing provided under the Program and the termination of that Program, the Committee
agreed that the size of the warehousing
arrangement should revert to $5 billion.
The Report of Examination of the
System Open Market Account, conducted by the Board's Division of
Reserve Bank Operations and Payment
Systems as of the close of business on
October 31, 1996, was accepted.
By unanimous vote, the Program for
Security of FOMC Information was
amended to update the document with
regard to certain security classifications,
access to FOMC information, and attendance at FOMC meetings.
On January 23, 1997, the continuing
rules and other standing instructions of
the Committee were distributed with the
advice that, in accordance with procedures approved by the Committee, they
were being called to the Committee's
attention before the February 4-5 organization meeting to give members an
opportunity to raise any questions they
might have concerning them. Members



were asked to indicate if they wished to
have any of the documents in question
placed on the agenda for consideration
at this meeting, and no requests for consideration were received.
By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on December 17, 1996,
were approved. The Committee also discussed its long-standing practice of releasing the minutes a few days after the
meeting at which they were approved,
usually on the following Friday. The
members agreed with a proposal to
advance the normal release to Thursday
to facilitate the dissemination and public
understanding of these decisions.
The Manager of the System Open
Market Account reported on developments in foreign exchange markets since
the meeting on December 17, 1996.
There were no transactions in foreign
currencies for System account during
this period, and thus no vote was
required of the Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
December 18, 1996, through February 4, 1997. By unanimous vote, the
Committee ratified these transactions.
The Manager advised the Committee
that the anticipated pattern of reserve
needs was such that he might want to
add considerably to the System's outright holdings of U.S. government securities over the coming intermeeting
period. By unanimous vote, the Committee amended paragraph l(a) of the
Authorization for Domestic Open Market Operations to raise the limit on intermeeting changes in such holdings from
$8 billion to $12 billion for the period
ending with the close of business on the
date of the next meeting, March 25,
1997.

106 84th Annual Report, 1997
The Committee then turned to a discussion of the economic and financial
outlook, the ranges for the growth of
money and debt in 1997, and the implementation of monetary policy over the
intermeeting period ahead. A summary
of the economic and financial information available at the time of the meeting
and of the Committee's discussion is
provided below, followed by the domestic policy directive that was approved by
the Committee and issued to the Federal
Reserve Bank of New York.
The information reviewed at this
meeting suggested that the growth of the
economy had strengthened markedly in
the fourth quarter of 1996. To a large
extent the gain in final demand during
the quarter reflected a surge in exports,
but consumer spending also increased
substantially after having risen at a
much reduced pace in the third quarter.
Despite some slowing in the growth of
business fixed investment and some easing in housing activity, the overall economy had expanded briskly as reflected
in data on production and employment.
The tightness in labor markets had persisted and was evidenced by some continued acceleration in labor compensation in the fourth quarter. There was no
discernible change in the underlying
trend in price inflation, although a spurt
in energy prices had resulted in faster
increases in overall consumer and producer prices than in the third quarter.
Private payroll employment rose
appreciably further in December after
having recorded sizable increases over
October and November. The gains
remained widespread among employment categories and continued to be led
by large advances in the services and
trade industries. Aggregate hours of private production workers and the average
workweek edged higher in the fourth
quarter. The civilian unemployment rate
was unchanged in December at 5.3 per


cent, its average level for the second
half of the year.
Industrial
production
increased
sharply in November and December.
The gains in December were widely distributed across manufacturing industries
but were held down by a steep decline
in the output of utilities after a surge
in November. The production of aircraft
and parts extended a strong uptrend. The
utilization of total manufacturing capacity rose considerably further in December, to a level slightly above its longterm average.
Consumer spending registered a sizable increase over the fourth quarter
after having grown little during the summer. In December total nominal retail
sales rose considerably following a
small decline in November. The December increases were spread across all
major categories except for some further
decline in sales of building materials
and supplies. The most recent data on
services expenditures pointed to moderate advances in October and November.
Surveys indicated that consumer confidence had remained elevated in late
1996 and early 1997.
Housing starts fell appreciably in
December, evidently reflecting unusually adverse weather conditions in several parts of the country, and were down
somewhat for the fourth quarter as a
whole. The declines were concentrated
in single-family units. Permits for new
home construction were little changed
in December but edged lower for the
fourth quarter as a whole. Available data
indicated a somewhat slower pace of
sales of new and existing homes in the
fourth quarter.
Growth of business fixed investment
moderated considerably in the fourth
quarter after having advanced sharply
in the previous quarter. The slowdown
reflected a small decline in spending on
producer durable equipment that was

Minutes of FOMC Meetings, February 107
more than offset by an apparent surge
in outlays for nonresidential structures.
Growth in spending on office, computing, and communications equipment
slowed somewhat from the third-quarter
pace but remained on a steep uptrend.
Business investment in transportation
equipment was weak in the fourth quarter, as sales of heavy trucks fell further
and work stoppages at a major manufacturer prompted cuts in fleet auto sales in
October and November.
Business inventory investment picked
up somewhat on average in October and
November, with most of the increase
occurring in manufacturing. Trade inventories increased moderately on balance
over the two-month period. Reflecting
considerable strength in shipments and
sales, however, inventory-sales ratios
for most industries and trade groupings
edged lower from their third-quarter
levels.
The nominal deficit on U.S. trade in
goods and services narrowed considerably in October and November from its
rate in the third quarter. Nearly all the
improvement was accounted for by a
very large increase in exports of goods
and services. The rise was spread among
all major trade categories except automotive products. Economic activity in
the major foreign industrial countries
appeared to have continued to expand at
a moderate rate on average in the fourth
quarter. Available indicators suggested
relatively strong economic performances in Japan, Canada, and the
United Kingdom and slower growth in
the major continental European countries. Further expansion was reported for
several large Latin American and some
Asian economies.
Recent data pointed to little change
in underlying inflation trends. Overall
consumer prices had continued under
upward pressure in November and
December, boosted by large advances



in energy prices. Excluding food and
energy items, consumer prices rose
modestly over the two months and
increased less over the twelve months
ending in December than over the previous twelve months. At the producer
level, a similar pattern prevailed in
prices of finished goods, and there was
no evidence of increased price pressures
at earlier stages of production. Worker
compensation as measured by the
employment cost index (ECI) and average hourly earnings of production and
nonsupervisory workers rose considerably further during the closing months
of 1996. For the year, both measures
were up appreciably more than in 1995,
though much of the acceleration in the
ECI occurred in the first half of the year.
At its meeting on December 17, 1996,
the Committee issued a directive that
called for maintaining the existing
degree of pressure on reserve positions.
The directive included a bias toward the
possible firming of reserve conditions to
reflect a consensus among the members
that the risks remained biased toward
higher inflation and that the next policy
move was more likely to be toward
some tightening than toward easing. In
this regard, the directive stated that in
the context of the Committee's longrun objectives for price stability and
sustainable economic growth, and giving careful consideration to economic,
financial, and monetary developments,
somewhat greater reserve restraint
would be acceptable and slightly lesser
reserve restraint might be acceptable
during the intermeeting period. The
reserve conditions associated with this
directive were expected to be consistent
with some slowing of the growth of M2
and M3 over coming months.
Open market operations during the
intermeeting period continued to be
directed toward maintaining the existing
degree of pressure on reserve positions.

108 84th Annual Report, 1997
The federal funds rate rose briefly in
response to year-end pressures, but it
otherwise tended to remain close to
the 5lA percent level expected with
an unchanged policy stance. Other
short-term interest rates generally were
unchanged to slightly higher over
the intermeeting period. Rates on
intermediate- and long-term securities
edged higher on balance in reaction to
incoming data on economic activity that
were on the firm side of market expectations; the increases in such rates
appeared to be tempered, however, by
favorable market reactions to new data
on wages and prices. The generally positive news on economic growth and inflation along with favorable reports on
earnings appeared to reinforce the optimism of equity market investors, and
major indexes of stock prices increased
markedly further over the intermeeting
period.
In foreign exchange markets, the
trade-weighted value of the dollar in
terms of the other G-10 currencies rose
substantially over the intermeeting
period. The rise, which was most
pronounced against the Japanese yen
and continental European currencies,
appeared to reflect market perceptions
of unexpectedly strong economic
growth in the United States and a risk of
faltering growth in the other countries.
The dollar appreciated less against sterling and declined somewhat against the
Canadian dollar in apparent response to
expectations of relative strength in the
economies of those countries.
After having grown at a considerably
faster rate in the fourth quarter, M2 and
M3 apparently increased at a more moderate but still brisk pace in January. The
expansion of both aggregates likely was
boosted by strong income growth, and
the relatively rapid expansion of M3
reflected heavy bank reliance on the
managed liabilities in M3 to fund robust



loan growth. From the fourth quarter of
1995 to the fourth quarter of 1996, M2
was estimated to have grown at a rate
near the upper end of the Committee's
annual range and M3 at a rate appreciably above the top of its range. Total
domestic nonfinancial debt had expanded moderately on balance over
recent months and was estimated to have
grown last year at a rate near the midpoint of its range.
The staff forecast prepared for this
meeting suggested that the expansion
would be sustained at a rate a bit above
the economy's estimated growth potential. The increase in consumer spending
was projected to moderate somewhat
from its pace in the fourth quarter to a
rate generally in line with the expected
rise in disposable income. Homebuilding was forecast to decline somewhat
but to stabilize at a relatively high level
in the context of continued income
growth and the generally favorable cash
flow affordability of home ownership.
Business spending on equipment and
structures was projected to expand less
rapidly in light of some anticipated
slowing in the growth of sales and profits. Fiscal policy and the external sector
were expected to exert small restraining
influences on economic activity over
the year ahead. With resource utilization
high and rising, consumer price inflation, as measured by the CPI excluding
the relatively volatile food and energy
components of the index, was forecast
to increase slightly this year in the
context of some further pickup in the
growth of labor compensation that
would include another legislated rise in
the federal minimum wage.
In the Committee's discussion of current and prospective economic developments, members commented that the
robust performance of the economy in
the fourth quarter partly reflected some
sources of strength, notably a surge in

Minutes of FOMC Meetings, February
exports, that were evidently temporary,
and they anticipated substantial moderation in the pace of the expansion over
the period ahead. The outlook was subject to considerable uncertainty, but as
they assessed the numerous factors bearing on prospective developments, the
members generally concluded as they
had at previous meetings that further
growth in aggregate demand at a rate
averaging near or a bit above the economy's potential remained a reasonable
expectation. Many observed, however,
that the risks to such an outlook
appeared to be tilted to the upside. The
strength of the expansion in the fourth
quarter, and in fact over 1996 as a
whole, had heightened concerns that the
economy had considerable forward momentum at a time when it was already
operating at a level, especially with
regard to labor resources, that could tend
to generate rising inflationary pressures.
Indeed, in the view of at least some
members, growth of aggregate demand
in line with increases in potential output
posed a risk of rising price inflation
because the recent relatively favorable
price performance was seen in this view
as reflecting at least in part the behavior
of special factors that could dissipate
over the projection horizon.
In keeping with the practice at meetings when the Committee establishes its
long-run ranges for the growth of money
and debt aggregates, the members of
the Committee and the Federal Reserve
Bank presidents not currently serving as
members had provided individual projections of the growth in real and nominal GDP, the rate of unemployment, and
the rate of inflation for the year 1997.
The forecasts of the rate of expansion in
real GDP had a central tendency of 2 to
2lA percent and a full range of 2 to
2Vi percent. The projections of the civilian unemployment rate associated with
these growth expectations were all in a



109

range of 5lA to 5x/2 percent for the fourth
quarter of the year. With regard to nominal GDP growth in 1997, the forecasts
were mainly in a range of 4*A to 43A percent, with an overall range of 4lA to
5lA percent. Nearly all the members
anticipated a small decline in the rate
of inflation in 1997, as measured by
the consumer price index, from that
recorded in 1996. Specifically, the projections converged on rates of 23A to
3 percent and a full range of 23A to
3x/2 percent in 1997. These forecasts
took account of expected developments
in the food and energy sectors and further technical improvements in the index
by the Bureau of Labor Statistics, both
of which were expected to trim the
reported rate. The projections were
based on individual views concerning
what would be an appropriate policy
over the projection horizon to further
progress toward the Committee's goals.
In their review of developments in
key sectors of the economy, members
observed that the available data and
anecdotal information indicated considerable strength in consumer spending in
recent months, and they referred to a
number of underlying factors that should
help to sustain at least moderate further
growth in such spending. The latter
included the solid expansion in employment and incomes, the increased financial wealth of many consumers, and the
high level of consumer confidence as
indicated by recent surveys. However,
members also cited some factors that
would tend to restrain the growth in
consumer spending. Among these factors were the effects of the high level
of consumer debt and rising repayment
problems on both the willingness of
households to borrow and of financial intermediaries to lend, the likely
absence of pent-up demands after an
extended period of expansion, and the
possibility of a setback in the stock

110 84th Annual Report, 1997
market. It was difficult to evaluate how
these differing factors would on balance affect consumer spending, but the
members concluded that the consumer
sector was likely to provide important support for sustained economic
expansion.
The growth in business capital spending was expected to moderate somewhat
in 1997 in association with slower
growth in sales, profits, and cash flows.
It also seemed likely after several years
of robust investment expenditures that
many business firms now had high levels of up-to-date capital stock relative to
planned production. Members referred,
however, to a number of favorable factors that should continue to support at
least moderate further growth in business investment, including the attractive
pricing of and ongoing rapid technological improvements in computer and communications equipment and the wide
availability of equity and debt financing
on favorable terms to business firms.
Members also reported that commercial
building activity had improved in many
areas. Some noted a tendency to underestimate the strength of overall business
investment in recent years, including the
stimulus provided by efforts to improve
productivity in highly competitive
markets.
While indicators of housing activity
had been somewhat erratic over the
past several months, members sensed a
somewhat softer tone on balance in this
sector of the economy. This assessment
was supported by anecdotal observations in several regions across the country. Against the background of the
increase that had occurred earlier in
mortgage financing costs and forecasts
of some slowing in the growth of jobs
and incomes, the housing sector was
likely to weaken slightly over the coming year, but some members commented
that surprises on the upside of current



forecasts, as in 1996, could not be ruled
out.
Fiscal policy and foreign trade also
were seen as likely to exert some modest restraint on overall economic activity. Federal purchases of goods and services still appeared to be on a declining
trend. Although fiscal policy negotiations were likely to be difficult and their
outcome was uncertain, members felt
that there was some basis for anticipating the enactment of further legislation
this year to help bring the federal budget
into eventual balance. The large increase
in exports in the fourth quarter clearly
was associated with temporary developments, and net exports were expected
to weaken this year, reflecting both
some reversal of recent developments
and the earlier appreciation of the dollar.
Some members reported that business
contacts had already communicated
concerns about increased competitive
pressures from imports because of the
rise in the foreign exchange value of the
dollar.
Members commented that inflation
had remained remarkably subdued, but
they expressed considerable concern
about the risks of rising inflation in the
context of high levels of resource use.
They referred in particular to statistical
indications, supported by anecdotal
reports from around the nation, of very
tight conditions in labor markets and
some upward pressures on wages. Thus
far, the rise in compensation had been
held down by diminishing increases
in worker benefit costs, and productivity
gains also appeared to have had a favorable effect on unit labor costs. In addition, the increases in wages themselves
had continued to be restrained by apparent worker concerns about job security.
To date, there was no evidence that pressures stemming from tight labor markets
had been passed through to a measurable extent to higher prices.

Minutes of FOMC Meetings, February 111
While the absence of increasing price
inflation was a welcome development,
members were concerned that the break
with historical patterns might not persist. If labor markets remained under
pressure, nominal compensation costs
were likely to pick up at some point as
one-time savings in worker benefit costs
ran out and as workers became less
willing to trade off lower wages for
increased security; such a development
would foster increases in labor costs that
ultimately would feed through to higher
prices. The members did not anticipate
a sudden surge in inflation, but many
expressed concern about the possibility
of a gradual upcreep in coming quarters
that might become more considerable
later. They generally expected a small
decline in overall price inflation this
year, reflecting favorable developments
in food and energy and, for the CPI,
further technical improvements by the
Bureau of Labor Statistics; however,
they believed that the risks to their forecasts were in the direction of greater
inflation, and several noted in particular
that projected declines in energy prices
might not materialize as soon or to the
extent assumed in many forecasts.
In keeping with the requirements of
the Full Employment and Balanced
Growth Act of 1978 (the HumphreyHawkins Act), the Committee reviewed
the ranges for growth of the monetary
and debt aggregates in 1997 that it
had established on a tentative basis at
its meeting in July 1996. Those ranges
included expansion of 1 to 5 percent for
M2 and 2 to 6 percent for M3, measured
from the fourth quarter of 1996 to the
fourth quarter of 1997. The monitoring
range for growth of total domestic nonfinancial debt was provisionally set at 3 to
7 percent for 1997. The tentative ranges
for 1997 were unchanged from the
actual ranges adopted for 1995 (in July
of that year for M3) and 1996.



In reviewing the tentative ranges, the
members took note of a staff projection
indicating that M2 and M3 likely would
grow in 1997 at rates close to the upper
limit of those ranges, given the Committee's expectations for the performance
of the economy and prices and assuming
no major changes in interest rates. The
staff analysis anticipated that the velocities of the broad monetary aggregates
would continue to behave in the relatively stable and predictable manner that
had re-emerged in the last few years and
that was closer to historical norms than
had been the case in the early 1990s.
The greater measure of predictability
in velocity recently was an encouraging
development, but in view of the substantial changes in financial markets and
the increased availability of investment
alternatives it would be premature to
assume that the pattern would necessarily continue going forward. Given the
substantial uncertainty still attached to
projections of money growth consistent
with the Committee's basic objectives
for monetary policy, the members
agreed that there was no firm basis for
changing the tentative ranges set in July
1996. Adopting higher ranges, which
would be more closely centered on
money growth thought likely to be consistent with the Committee's expectations for economic activity and prices,
could be misinterpreted as indicating
that the Committee had become much
more confident of the predictability of
velocity and was placing greater emphasis on M2 and M3 as gauges of the
thrust of monetary policy. One member,
while agreeing with this assessment,
emphasized that a continuation of a
stable and predictable pattern of velocity behavior would raise the question as
to whether the Committee should return
to setting ranges consistent with its
expectations for economic developments. Nonetheless, from a longer-run

112 84th Annual Report, 1997
In the Committee's discussion of policy for the intermeeting period ahead, all
the members favored or could support a
proposal to maintain an unchanged policy stance; the members also strongly
supported the retention of a bias toward
restraint. An unchanged policy seemed
appropriate with inflation still quiescent,
with few signs of emerging price pressures, with growth in economic activity
seen as likely to moderate appreciably
from the unexpectedly strong and unsustainable pace of the fourth quarter, and
with considerable uncertainty about
future inflationary developments. However, the members emphasized that the
extent of the slowdown in economic
expansion was unclear and that the persisting, or even greater, tightness of
labor markets, coupled with potentially
faster growth in worker benefits and
diminishing worker insecurity, could put
added upward pressure on labor costs
and induce some increase in price inflation over time. Even so, most members
thought that inflation likely would
remain contained for some period ahead
The Federal Open Market Committee and that any strengthening in inflation
seeks monetary andfinancialconditions that pressures probably would be gradual,
will foster price stability and promote sus- allowing the Committee to respond in a
tainable growth in output. In furtherance of timely manner. Several also commented
these objectives, the Committee at this meet- that a tightening policy action was not
ing established ranges for growth of M2 and
M3 of 1 to 5 percent and 2 to 6 percent generally anticipated in financial marrespectively, measured from the fourth quar- kets, and a move at this time could have
ter of 1996 to the fourth quarter of 1997. The exaggerated repercussions. A few memmonitoring range for growth of total domes- bers emphasized, however, that the
tic nonfinancial debt was set at 3 to 7 percent recent surge in economic activity had
for the year. The behavior of the monetary raised the probability that the level of
aggregates will continue to be evaluated in
the light of progress toward price level sta- economic output was now above the
bility, movements in their velocities, and economy's long-run potential, and withdevelopments in the economy and financial out a significant slowing in economic
markets.
growth, inflationary pressures were
more likely to increase over the forecast
Votes for this action: Messrs. Greenspan, horizon. While an immediate tightening
McDonough, Broaddus, Guynn, Kelley, of policy would help to forestall such
Meyer, Moskow, Parry, Mses. Phillips and a buildup of pressures, the members
Rivlin. Votes against this action: None.
Absent and not voting: Mr. Lindsey and agreed that current uncertainties about
the outlook for both the rate of expanMs. Yellen.

perspective, the tentative ranges readily
encompass rates of growth of M2 and
M3 that, if velocity were to behave in
line with historical experience, could be
expected to be associated with approximate price stability and a sustainable
rate of real economic growth. In that
regard, they continue to serve the useful
purpose of benchmarking money growth
consistent with the Committee's longrun goal of price stability.
At the conclusion of its discussion,
the Committee voted to approve without
change the tentative ranges for 1997 that
it had established in July of last year. In
keeping with its usual procedures under
the Humphrey-Hawkins Act, the Committee would review its ranges at midyear, or sooner if interim conditions
warranted, in light of the growth and
velocity behavior of the aggregates and
ongoing economic and financial developments. Accordingly, the following
statement of longer-run policy for 1997
was approved for inclusion in the
domestic policy directive:




Minutes of FOMC Meetings, February
sion and inflation warranted a continuing "wait and see" policy stance, or at
least made such a policy acceptable at
this juncture.
In their discussion of possible adjustments to policy during the intermeeting
period, the members recognized that an
asymmetric directive tilted toward tightening was consistent with their general
view that the risks were now more
clearly in the direction of an upward
trend in inflation. They agreed that the
current environment called for careful
monitoring of new developments and
for prompt action by the Committee to
counter any tendency for price inflation
to rise and for higher inflation expectations to become embedded in financial
markets and economic decisionmaking
more generally. Indeed, in the interest of
fostering a continuation of sustainable
growth of the economy, it would be
desirable to tighten before any sign of
actual higher inflation were to become
evident.
At the conclusion of the Committee's
discussion, all the members indicated
that they supported a directive that
called for maintaining the existing
degree of pressure on reserve positions
and that retained a bias toward the possible firming of reserve conditions during the intermeeting period. Accordingly, in the context of the Committee's
long-run objectives for price stability
and sustainable economic growth, and
giving careful consideration to economic, financial, and monetary developments, the Committee decided that
somewhat greater reserve restraint
would be acceptable and slightly lesser
reserve restraint might be acceptable
during the intermeeting period. The
reserve conditions contemplated at this
meeting were expected to be consistent with some moderation in the expansion of M2 and M3 over coming
months.



113

The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The information reviewed at this meeting suggests that the economic expansion
strengthened markedly in the fourth quarter.
Private nonfarm payroll employment
increased appreciably further in December after sizable gains over October and
November. The civilian unemployment rate
remained at 5.3 percent in December. Industrial production rose sharply in November
and December. Consumer spending posted
a large increase in the fourth quarter after a
summer lull. Housing activity moderated
somewhat over the closing months of the
year. Growth in business fixed investment
slowed substantially in the fourth quarter
after a sharp rise in the third quarter. The
nominal deficit on U.S. trade in goods and
services narrowed considerably in October
and November from its rate in the third
quarter. Advances in labor compensation
trended up in 1996, but price inflation generally diminished apart from enlarged
increases in food and energy prices.
Most market interest rates have changed
little or risen slightly since the Committee
meeting on December 17, 1996. In foreign
exchange markets, the trade-weighted value
of the dollar in terms of the other G-10
currencies has increased substantially over
the intermeeting period.
Growth of M2 and M3 strengthened considerably in the fourth quarter and appeared
to have continued at a fairly brisk, though
diminished, pace in January. From the fourth
quarter of 1995 to the fourth quarter of 1996,
M2 is estimated to have grown near the
upper end of the Committee's annual range
and M3 well above the top of its range. Total
domestic nonfinancial debt has expanded
moderately on balance over recent months
and is estimated to have grown last year near
the midpoint of its range.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at this meeting established ranges for growth of M2

114 84th Annual Report, 1997
and M3 of 1 to 5 percent and 2 to 6 percent
respectively, measured from the fourth quarter of 1996 to the fourth quarter of 1997. The
monitoring range for growth of total domestic nonfinancial debt was set at 3 to 7 percent
for the year. The behavior of the monetary
aggregates will continue to be evaluated in
the light of progress toward price level stability, movements in their velocities, and
developments in the economy and financial
markets.
In the implementation of policy for the
immediate future, the Committee seeks to
maintain the existing degree of pressure on
reserve positions. In the context of the Committee's long-run objectives for price stability and sustainable economic growth, and
giving careful consideration to economic,
financial, and monetary developments, somewhat greater reserve restraint would or
slightly lesser reserve restraint might be
acceptable in the intermeeting period. The
contemplated reserve conditions are expected to be consistent with some moderation in the expansion of M2 and M3 over
coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips and
Rivlin. Votes against this action: None.
Absent and not voting: Mr. Lindsey and
Ms. Yellen.

It was agreed that the next meeting of
the Committee would be held on Tuesday, March 25, 1997.
The meeting adjourned at 11:35 a.m.
Donald L. Kohn
Secretary

Meeting Held on
March 25, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, March 25, 1997, at
9:00 a.m.



Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas, and
Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Eisenbeis, Goodfriend, Hunter,
Lindsey, Mishkin, Siegman, and
Stockton, Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Winn, Assistant to the Board,
Office of Board Members, Board
of Governors
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Mr. Hooper, Assistant Director,
Division of International Finance,
Board of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors

Minutes of FOMC Meetings, March 115
Messrs. Dewald, Hakkio, Lang,
Rolnick, and Rosenblum, Senior
Vice Presidents, Federal Reserve
Banks of St. Louis, Kansas City,
Philadelphia, Minneapolis, and
Dallas respectively
Messrs. Altig, Bentley, Judd, and
Kopcke, Vice Presidents, Federal
Reserve Banks of Cleveland,
New York, San Francisco, and
Boston respectively
By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on February 4-5, 1997,
were approved.
The Manager of the System Open
Market Account reported on recent
developments in foreign exchange markets. There were no System open market
transactions in foreign currencies during
the period since the meeting on February 4-5, 1997, and thus no vote was
required of the Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions in U.S. government securities
and federal agency obligations during the period February 5, 1997, through
March 24, 1997. By unanimous
vote, the Committee ratified these
transactions.
The Manager advised the Committee
that he continued to anticipate a pattern
of reserve needs that might require
another unusually large addition to the
System's outright holdings of U.S. government securities during the relatively
long intermeeting period ahead. The
limit on increases in outright holdings
between meetings had been raised to
$12 billion at the February meeting, and
the Manager requested that the higher
limit be retained for the upcoming
period. By unanimous vote, the Committee amended paragraph l(a) of the
Authorization for Domestic Open Mar


ket Operations to raise the limit on intermeeting changes in such holdings from
$8 billion to $12 billion for the period
ending with the close of business on the
date of the next meeting, May 20, 1997.
The Committee then turned to a discussion of the economic outlook and the
implementation of monetary policy over
the intermeeting period ahead. A summary of the economic and financial
information available at the time of the
meeting and of the Committee's discussion is provided below, followed by
the domestic policy directive that was
approved by the Committee and issued
to the Federal Reserve Bank of
New York.
The information reviewed at this
meeting suggested that the economy had
continued to expand at a relatively
robust pace in early 1997 after having
strengthened markedly in the fourth
quarter of 1996. Much of the more
recent growth reflected further acceleration in consumer spending, but business
capital expenditures, housing activity,
and an upturn in inventory investment also had contributed to the recent
increase in total expenditures. By contrast, available data pointed to a sharp
drop in net exports after a surge in the
fourth quarter. To meet the strong aggregate demand, employment had recorded
another large advance in early 1997 and
industrial production had risen somewhat further. The underlying trend in
consumer price inflation had remained
subdued, but the increase in average
hourly earnings had continued to edge
higher early this year.
Private nonfarm payroll employment
rose substantially further in January and
February. The gains continued to be led
by sizable advances in the services and
trade industries. Employment in construction increased considerably over
the two months, largely because of

116 84th Annual Report, 1997
unseasonably warm weather across
much of the country in February that led
to an earlier-than-usual pickup in building activity. Aggregate hours of private
production workers, which were also
affected by changing weather conditions, were up appreciably on balance
over the two months, and the average workweek increased considerably,
reaching a new recent high in February. The civilian unemployment rate, at
5.3 percent in February, was unchanged
from its average level in the second half
of 1996.
Industrial production rose appreciably
in February after having declined
slightly in January. The February
advance resulted from a surge in the
manufacturing of durable goods that was
only partly offset by a plunge in the
output of utilities associated with unseasonably mild weather in that month. The
utilization of total manufacturing capacity was unchanged on balance over the
two months at a level slightly above its
long-term average.
Consumer spending strengthened
considerably further in early 1997 after
having registered a sizable increase over
the fourth quarter. Nominal retail sales
rose sharply in January and February.
The gains over the two months were
concentrated in sales of durable goods,
including motor vehicles and building
materials. Spending on services rose
strongly in January (latest data) but
may have moderated in February when
milder-than-normal weather held down
heating costs. Recent surveys indicated
that consumer confidence had risen to
the highest levels in many years.
Housing construction rose sharply in
February after two months of relatively
depressed activity. On balance, various
indicators of housing activity had been
mixed over the past several months and
did not suggest any clear trend in spending for new housing.



Recent trends in orders and shipments
pointed to a sizable further rise in outlays for producers' durable equipment
in early 1997, largely reflecting continued rapid growth in purchases of
computers and some further increase
in spending for communications equipment. Expenditures for other types of
equipment remained little changed. In
the nonresidential construction sector,
trends in contracts suggested some further spending gains in most market
segments after strong advances in the
fourth quarter. Manufacturing and trade
inventories rose somewhat in January,
roughly offsetting small declines over
the previous two months. With sales
and shipments rising rapidly in January,
inventory-sales ratios for a wide range
of industries dropped further from
already low levels.
The nominal deficit on U.S. trade
in goods and services widened substantially in January from its temporarily
depressed rate in the fourth quarter.
Nearly all the deterioration in the trade
balance reflected a sharp rise in imports;
that increase was largely the result of a
rebound in automotive shipments from
Canada, which had been temporarily
reduced by a strike. Recent information
on economic activity in the G-7 countries suggested continued expansion at a
moderate rate on average in early 1997,
but rates of expansion had continued
to diverge among those economies.
Growth in output still appeared to be
relatively strong in Japan, Canada,
and the United Kingdom, while much
weaker economic performances were
indicated for the major continental
European countries. The economies of
the major developing countries in Latin
America and eastern Asia apparently
continued to expand in late 1996.
Data for January and February were
consistent with the continuation of a
subdued trend in underlying price infla-

Minutes of FOMC Meetings, March 111
tion. Overall consumer price inflation
moderated somewhat over the two
months from its pace in the fourth quarter; smaller increases in energy prices
were an important factor in the slowdown, but prices of consumer items
other than food and energy also
advanced at a slower rate over the first
two months of the year. For the twelve
months ending in February, consumer
prices excluding food and energy rose
somewhat less than they had over the
preceding twelve months; a development contributing importantly to the
deceleration was a smaller rise in nonoil import prices associated with the
appreciation of the dollar. At the producer level, overall prices of finished
goods declined somewhat in January
and February, reflecting an appreciable
drop in the food and energy components. For the twelve months ending in
February, the increase in the overall
index of finished goods prices was little
changed from that over the preceding
twelve months, but excluding food and
energy prices, which had registered
sizable advances in 1996, the rise was
considerably smaller over the latest
twelve-month period. At early stages of
processing, however, some producer
prices had moved up in recent months.
Average hourly earnings of production
and nonsupervisory workers posted
small further increases in January and
February but were up appreciably more
over the twelve months ending in February than over the preceding twelve
months.
At its meeting on February 4-5, 1997,
the Committee issued a directive that
called for maintaining the existing
degree of pressure on reserve positions.
The directive included a bias toward the
possible firming of reserve conditions,
reflecting a consensus among the members that the risks were clearly in the
direction of an upward trend in inflation



and that the next policy move was more
likely to be toward some tightening than
toward easing. In this regard, the directive stated that in the context of the
Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration
to economic, financial, and monetary
developments, somewhat greater reserve
restraint would be acceptable and
slightly lesser reserve restraint might
be acceptable during the intermeeting
period. The reserve conditions associated with this directive were expected to
be consistent with some slowing of the
growth of M2 and M3 over coming
months.
Over the period since the February
meeting, open market operations were
directed toward maintaining the existing
degree of pressure on reserve positions.
Federal funds continued to trade mainly
at rates close to the 5lA percent level
expected with an unchanged policy
stance, though the rate did at times fall
below that level in conjunction with
unanticipated shortfalls in demands
for excess reserves. Most other market
interest rates rose somewhat over the
intermeeting period in apparent response
to indications of stronger-than-expected
economic activity, perceptions that the
Federal Reserve had become more concerned about a possible buildup in inflation pressures, and perhaps disappointment over the prospects for legislation
to reduce the federal budget deficit. In
these circumstances, expectations built
that monetary policy would be tightened. The rise in most market interest
rates was accompanied by slight
declines in a number of major indexes
of stock market prices, although stock
prices in some industries posted more
pronounced declines.
In foreign exchange markets, the
trade-weighted value of the dollar in
terms of the other G-10 currencies rose

118 84th Annual Report, 1997
further over the intermeeting period.
The dollar's appreciation appeared to
reflect spreading perceptions of a relatively strong U.S. expansion and associated increases in U.S. interest rates compared with those abroad. The dollar's
rise was most pronounced against the
continental European currencies.
Growth of M2 moderated somewhat
in January and February from a brisk
pace in late 1996, while expansion of
M3 remained rapid in both months. Data
for the first part of March suggested
diminished growth of both aggregates.
The appreciable further expansion of
these broad aggregates thus far this year
probably continued to reflect elevated
income growth, and the relative strength
of M3 was associated to an important
extent with heavy bank reliance on
large-denomination time deposits to
fund robust asset growth. M3 also continued to be boosted by the rapid growth
of money market mutual funds. The
expansion of total domestic nonfinancial
debt appeared to have slowed in the
early part of the year in conjunction
with reduced borrowing by both federal
and state governments, which were
drawing down cash balances.
The staff forecast prepared for this
meeting suggested that the expansion in
economic activity would slow in coming quarters to a pace somewhat above
that of the economy's estimated potential and would moderate a bit further in
1998. Growth in consumer spending
was expected to decline appreciably
from its recent pace but to remain fairly
brisk over the quarters ahead, supported
by further projected gains in employment and incomes. Expansion in business spending on equipment and structures also was projected to moderate,
but to a still relatively high rate, in association with smaller increases in sales
and profits. Housing construction was
forecast to drift lower over coming



quarters, partly reflecting the rise that
already had occurred in mortgage interest rates. The staff continued to anticipate that fiscal policy and the external
sector would exert mildly restraining
effects on economic activity over the
year ahead. With resource utilization
high and labor compensation rising, core
consumer price inflation was forecast to
increase slightly over the year ahead.
In the Committee's discussion of current and prospective economic developments, members referred to the widespread statistical and anecdotal evidence
that the surprising strength in economic
activity over the closing months of 1996
was persisting in 1997. Some observed
that it was difficult to detect signs of
weakness or imbalances in domestic
sectors of the economy. While the members believed that some slowing in the
expansion was inevitable, they felt that
substantial uncertainty surrounded the
timing and extent of such slowing in the
quarters ahead. Continued growth near,
or even somewhat below, the recent
pace would raise resource utilization
rates further from their already high
levels. Although labor markets already
were tight, inflation had remained relatively subdued, and there were no signs
in price data that it was picking up.
However, the risks of a rise in inflation
down the road had increased appreciably as a result of the strength of aggregate demand and the increase in pressures on resources that likely would
accompany it absent a firming in financial conditions.
In their discussion of the outlook for
spending in key sectors of the economy,
members emphasized the strength of
consumer spending in recent months.
They noted that anecdotal reports from
numerous parts of the country and
surveys indicating very high levels of
consumer confidence tended to confirm
statistical evidence of an ebullient con-

Minutes of FOMC Meetings, March 119
sumer sector. While the recent surge in
consumer demand probably was supported mainly by rapid growth in employment and labor income, it seemed
possible that consumers also were responding increasingly to the run-up in
household net worth stemming from the
earlier buoyant performance of the stock
market. The effects of rising financial
wealth on consumer spending were difficult to isolate, and they were undoubtedly restrained by efforts to accumulate
savings for future expenditures such
as college expenses and retirement.
Moreover, the constraints on spending
imposed by the high debt burdens of
many households tended to exert at least
a partly offsetting influence on overall
consumer spending. On balance, however, the members believed that the consumer sector was likely to provide
major ongoing support to the expansion,
though the increases in consumer spending probably would diminish in the
context of more restrained growth in
jobs and incomes. A number of members expressed the view, however, that
the risks to such a forecast were in the
direction of more robust consumer
spending.
Business fixed investment, which had
remained on a steep uptrend for an
extended period, also was expected to
provide continuing though moderating
stimulus to the overall economic expansion. Growth in expenditures for business equipment was forecast to decline
from the extraordinary pace of recent
years, despite continuing brisk demand
for computers and communications
equipment. With regard to the outlook
for nonresidential building activity,
anecdotal reports from several regions
pointed to a further pickup in commercial construction associated with declining vacancy rates, rising property values
and rents, and readily available financing. Indeed, reports from a few areas



indicated the emergence of speculative
building activity. On the other hand, in
some regions, signs of slowing nonresidential construction were reported.
Housing construction activity had
fluctuated in recent months, largely in
response to changing weather conditions, but such construction appeared to
be little changed on balance. Recent
anecdotal reports pointed to improving
housing markets in several regions and
to some easing in a few. Looking ahead,
the members generally anticipated that
housing activity would be maintained at
a relatively high level, perhaps slightly
below that prevailing on average in
recent quarters, barring unanticipated
developments in the broader economy
or in financial markets. Although the
rise that had occurred in mortgage interest rates was a somewhat inhibiting
influence on the prospects for housing,
favorable factors noted during the meeting included the ongoing effects of
the large gains in stock market wealth,
sizable increases in employment and
incomes, and a still relatively favorable cash-flow affordability of home
ownership.
The persisting efforts by business
firms to economize on their inventories
had reduced the latter to quite low levels
in relation to sales. In the circumstances,
current inventory levels were viewed
as an upside risk to the expansion that
could be triggered by unexpected
strength in final demand. Absent an
upside surprise in demand, inventories
might be expected to remain a slightly
positive factor in the economic outlook;
and if growth in final demand were to
moderate more than anticipated, the currently lean inventories could be viewed
as minimizing the risks of accumulating
weakness in the near term.
The outlook for fiscal policy remained
one of modest restraint; on the basis
of existing legislation, reductions were

120 84th Annual Report, 1997
anticipated in constant-dollar purchases
of goods and services by the federal
government in fiscal years 1997 and
1998. A key element in the potential
impact of fiscal policy was the uncertain
outcome of the current effort to eliminate the federal deficit over time.
Although success in that effort probably
would have little effect on the government's budget position over the next
few years, it likely would have some
beneficial repercussions on business and
consumer confidence and possibly also
on financial markets. Financial markets
would be especially positively affected
by an agreement to reduce significantly
the growth of entitlements, which would
damp government spending and deficits
over the longer run.
The unwinding in the early months of
1997 of special factors that had boosted
net exports in the fourth quarter of 1996
was offsetting some of the effects on
production of the persisting strength in
domestic demand. Beyond the near
term, the appreciated value of the dollar
was expected to hold down net exports,
restraining overall demand and growth.
Some members observed in this regard
that the deterioration in net exports
might be substantial. While such an outcome would help to moderate inflationary pressures on domestic resources in
coming quarters, it also would exacerbate the longer-term problem of very
large foreign trade and current account
deficits.
In their review of developments bearing on the outlook for inflation, members commented that the risks now
seemed to be tilted more clearly toward
higher inflation. They acknowledged
that it was difficult to find indications
of rising inflation in broad measures of
consumer or GDP-related prices; indeed,
such measures still could be viewed as
consistent with a slightly declining trend
in price inflation. Even so, prospects for



a substantial period of economic expansion at a rate that exceeded the estimated growth of potential had generated
increasing concerns of rising inflationary pressures in an economy that
already was operating at high levels of
resource utilization. Members observed
in this regard that while there was little
evidence of growing demand pressures
on capital resources, the tightness in
labor markets appeared to be intensifying. Indications of such a development
included not only widespread anecdotal
reports but a variety of data such as
initial claims, insured unemployment,
and help-wanted advertising. The rise in
labor force participation to a high percentage of the working age population
had helped to keep the unemployment
rate from falling, but the unexpected
increase in participation was itself
suggesting tight conditions that were
inducing marginal workers into the job
market.
The data on worker compensation
were somewhat mixed, but they suggested some acceleration on balance.
Members noted that the damping effects
of some temporary factors on labor costs
could well begin to wane soon, if they
had not already begun to do so. These
included the possibility that job security
concerns might be diminishing after an
extended period of rapid job growth
and low unemployment. The downward
trend in medical cost increases might be
in the process of shifting to a flat, if not
a rising, gradient according to informed
observers. Moreover, as the rise in labor
force participation depleted the pool of
available workers, less productive workers would tend to be hired, with adverse
effects on productivity and costs. The
members recognized that even though
aggregate demand pressures seemed to
be pressing increasingly on available
producer resources, it was not possible
to forecast with confidence when the

Minutes of FOMC Meetings, March 111
period of favorable price behavior
would end. Even so, it was clear that
inflationary developments in the economy had become a matter of more
urgent concern for monetary policy.
In light of this concern, in the Committee's discussion of policy for the
intermeeting period ahead, the members
supported or could accept a proposal
to adjust policy toward a slightly less
accommodative stance and to move to
symmetry in the directive. They noted
that continued relatively rapid growth
of economic activity in the first quarter
suggested greater persisting strength in
demand than they had anticipated. With
resource use already at high levels, further rapid growth risked greater pressures on resources and rising inflation.
Although inflation remained remarkably
subdued and any increase in inflationary
pressures likely would tend to emerge
only slowly, the strength in demand had
developed against the backdrop of financial conditions that, broadly considered,
were not substantially different from
those now prevailing. In this situation,
they saw a clear need for a preemptive
policy action that would head off any
pickup of inflation, and it was noted that
a shift to a tighter policy stance would
seem to pose little risk to the expansion.
Indeed, by countering any tendency
for inflation to rise and for higher inflation expectations to become embedded
in financial markets and economic
decisionmaking more generally, such
action would help head off a more
abrupt economic slowing, or even a
downturn, and thereby would help sustain the expansion and preserve the
firm labor markets and their associated
benefits.
A few members argued that a more
substantial tightening was needed at this
juncture to provide a better calibrated
response to the persisting strength of the
economy and the related risk of inten


sifying inflationary pressures. In their
view, a more vigorous action would
lessen the need for tightening in the
future and also would foster a financial
setting that would be more conducive
to sustained expansion. Other members
acknowledged that a smaller policy
move would have less effect in curbing inflationary pressures, but they felt
that a cautious approach to policy was
desirable at a time when the outlook
for economic activity and inflation
remained subject to substantial uncertainties. Some noted that a shift in policy direction, as the Committee was
about to undertake, often can have exaggerated effects in financial markets,
making it difficult to judge how much
additional restraint, if any, might be
needed.
In their discussion of possible adjustments to policy during the intermeeting period, a majority of the members
favored a symmetric directive. While
additional policy tightening might be
needed at some point, it did not appear
very likely that developments during the
intermeeting period would require a further policy move. Some added that inflation remained quiescent and the nearterm onset of an appreciable slowing of
the expansion to a rate more in line with
the economy's potential could not be
ruled out. Accordingly, they felt that the
directive should not establish a presumption about further near-term policy
tightening. Other members believed
that growth of the economy was not
likely to slow enough to alleviate excess
demands for resources and that additional tightening would be needed
sooner rather than later to moderate
inflationary pressures and prolong the
expansion. In their view, the outlook
called for vigilance and the maintenance
of an asymmetric directive with a bias
toward tightening, but they could accept
a symmetric directive with careful moni-

122 84th Annual Report, 1997
toring of new developments for any
signs of the need for prompt action.
At the conclusion of the Committee's
discussion, all the members indicated
that they supported or could accept a
directive that called for a slight increase
in the degree of pressure on reserve
positions and that did not include a presumption about adjustments to policy
during the intermeeting period. Accordingly, in the context of the Committee's
long-run objectives for price stability
and sustainable economic growth, and
giving careful consideration to economic, financial, and monetary developments, the Committee decided that
slightly greater reserve restraint or
slightly lesser reserve restraint might
be acceptable during the intermeeting
period. The reserve conditions contemplated at this meeting were expected to
be consistent with some moderation in
the expansion of M2 and M3 over coming months.
The Federal Reserve Bank of
New York was authorized and directed,
until instructed otherwise by the Committee, to execute transactions in the
System Account in accordance with the
following domestic policy directive:
The information reviewed at this meeting
suggests that relatively strong economic
growth has continued in the first quarter.
Private nonfarm payroll employment
increased substantially further in January
and February, and the civilian unemployment rate, at 5.3 percent in February, was
unchanged from its level in the second half
of 1996. Industrial production rose moderately on balance in January and February.
Nominal retail sales increased sharply further over January and February after a
considerable advance in the fourth quarter.
Housing activity strengthened markedly over
January and February, though much of the
rise probably related to unusually favorable
weather. Recent data on orders and contracts
point to a further sizable gain in business
fixed investment in the first quarter. The
nominal deficit on U.S. trade in goods and



services widened substantially in January
from its temporarily depressed rate in the
fourth quarter. Underlying price inflation has
remained subdued.
Most market interest rates have risen
somewhat since the Committee meeting on
February 4-5, 1997. In foreign exchange
markets, the trade-weighted value of the dollar in terms of the other G-10 currencies
increased further over the intermeeting
period.
Growth of M2 moderated somewhat in
January and February from a brisk pace over
the fourth quarter while the expansion of M3
remained relatively robust; data for the first
part of March pointed to diminished growth
in both aggregates. Total domestic nonfinancial debt has expanded moderately on balance over recent months.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance
of these objectives, the Committee at its
meeting in February established ranges for
growth of M2 and M3 of 1 to 5 percent and
2 to 6 percent respectively, measured from
the fourth quarter of 1996 to the fourth quarter of 1997. The monitoring range for growth
of total domestic nonfinancial debt was set at
3 to 7 percent for the year. The behavior of
the monetary aggregates will continue to be
evaluated in the light of progress toward
price level stability, movements in their
velocities, and developments in the economy
and financial markets.
In the implementation of policy for the
immediate future, the Committee seeks to
increase slightly the existing degree of pressure on reserve positions. In the context of
the Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration to
economic, financial, and monetary developments, slightly greater reserve restraint
or slightly lesser reserve restraint might
be acceptable in the intermeeting period.
The contemplated reserve conditions are
expected to be consistent with some moderation in the expansion of M2 and M3 over
coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips and
Rivlin. Votes against this action: None.

Minutes of FOMC Meetings, May
It was agreed that the next meeting of
the Committee would be held on Tuesday, May 20, 1997.
The meeting adjourned at 12:20 p.m.
Donald L. Kohn
Secretary
After the meeting, the following press
release was issued:
The Federal Open Market Committee decided today to tighten money market conditions slightly, expecting the federal funds
rate to rise VA percentage point to around
5Vi percent.
This action was taken in light of persisting
strength in demand, which is progressively
increasing the risk of inflationary imbalances
developing in the economy that would eventually undermine the long expansion.
In these circumstances, the slight firming
of monetary conditions is viewed as a prudent step that affords greater assurance of
prolonging the current economic expansion
by sustaining the existing low inflation environment through the rest of this year and
next. The experience of the last several years
has reinforced the conviction that low inflation is essential to realizing the economy's
fullest growth potential.
No change was made in the Federal
Reserve discount rate, which remains at
5 percent.

Meeting Held on
May 20, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, May 20, 1997, at 9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer



123

Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas, and
Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Beebe, Eisenbeis, Goodfriend,
Hunter, Lindsey, Mishkin,
Promisel, Siegman, Slifman, and
Stockton, Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
Mr. Conrad, First Vice President,
Federal Reserve Bank of Chicago
Messrs. Dewald, Hakkio, Ms. Krieger,
Messrs. Lang, Rosenblum, and
Sniderman, Senior Vice
Presidents, Federal Reserve
Banks of St. Louis, Kansas City,
New York, Philadelphia, Dallas,
and Cleveland respectively
Messrs. Cox, Rosengren, and Weber,
Vice Presidents, Federal Reserve
Banks of Dallas, Boston, and
Minneapolis respectively

124 84th Annual Report, 1997
By unanimous vote, the Federal Open
Market Committee approved the minutes of its meeting on March 25, 1997.
The Manager of the System Open
Market Account reported on recent
developments in foreign exchange markets. The Desk did not conduct any
transactions in foreign currencies for
System Account during the period since
the latest meeting on March 25, 1997,
and thus no vote was required of the
Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
March 25, 1997, through May 19, 1997.
By unanimous vote, the Committee ratified these transactions.
The Committee then turned to a discussion of the economic outlook and the
implementation of monetary policy over
the intermeeting period ahead. A summary of the economic and financial
information available at the time of the
meeting and of the Committee's discussion is provided below, followed
by the domestic policy directive that
was approved by the Committee and
issued to the Federal Reserve Bank of
New York.
The information reviewed at this
meeting suggested that the expansion of
economic activity had slowed after having surged in late 1996 and earlier this
year. Consumer spending appeared to be
increasing at a considerably slower pace
after the spurt in the first quarter, while
business fixed investment remained on
a strong uptrend, and the demand for
housing seemed to be well maintained.
Growth of labor demand had moderated
somewhat from the rapid pace at the
beginning of the year, but labor markets
remained tight and worker compensation appeared to be accelerating gradually. Despite the upward drift in labor



costs, underlying price inflation was still
subdued.
Private nonfarm payroll employment
rose at a considerably reduced pace over
March and April, and the average workweek dropped from an unusually high
rate in February and March to a more
normal level in April. The services
industries recorded further large gains
in employment in March and April, but
the number of jobs in manufacturing
contracted in April and construction
employment declined in both March and
April. The civilian unemployment rate
fell appreciably in April to 4.9 percent,
and the labor force participation rate
edged down from the record high
reached in March.
Industrial production was unchanged
in April after having recorded sizable
increases in March and other recent
months; declines in mining and manufacturing were offset by a large rise in
utility output. The drop in manufacturing production reflected a sharp decline
in the output of motor vehicles and parts
that was largely related to the lagged
effects of strike activity in recent months.
The output of manufactured goods other
than motor vehicles and parts rose
moderately in April: the production
of business equipment posted another
solid gain while the output of consumer
goods and construction supplies was
unchanged. The rate of utilization of
manufacturing capacity fell in April,
reflecting the decline in motor vehicle
output, but it remained relatively high.
Nominal retail sales were unchanged
in March and declined in April after
having increased rapidly in earlier
months. Weaker sales of motor vehicles
contributed to the overall sluggishness
of retail activity in March and April,
but spending on many other categories
of goods, both durable and nondurable,
also was down over the two-month
period after having previously grown

Minutes of FOMC Meetings, May
strongly. Expenditures on services
advanced further through March (latest
available data) even though unseasonably mild weather held down outlays for
heating. While retail sales had slowed
recently, the latest surveys indicated that
consumer sentiment had risen further
from an already markedly high level.
Housing activity in March and April
was in line with that in other recent
months. Single-family housing starts
were unchanged in April after having
declined in March. Starts for the twomonth period were only a little below
the average for 1996, and sales of
new homes remained at a very high
level in March (latest data). Multifamily
starts rose considerably in April and on
average over March and April were a
little above the elevated level in the
fourth quarter.
Business fixed investment expanded
briskly in the first quarter. Outlays
for producers' durable equipment
rebounded after fourth-quarter weakness, and spending for nonresidential
structures posted another substantial
advance. Available indicators pointed
to further sizable gains in spending
on both equipment and structures. Business inventory investment was up
considerably in the first quarter after
having increased a relatively small
amount in the fourth quarter; however,
inventory-sales ratios for most industry
and trade groupings remained at very
low levels.
The nominal deficit on U.S. trade in
goods and services widened substantially on balance over January and February from the temporarily depressed
rate in the fourth quarter of last year
and was about the same as the rate in
the third quarter. A surge in imports
reflected a rebound in the importation
of automotive products from the strikereduced level of the fourth quarter, further expansion in purchases of imported



125

computers, and an upturn in imports
of semiconductors after four quarters of
declines. By contrast, exports of goods
and services rose only slightly in the
January-February period; exports of
automotive products were up sharply,
but sizable increases in exports of
chemicals, computers, and semiconductors were largely offset by declines in
other nonautomotive trade categories.
Recent economic information on the
foreign G-7 countries, including some
preliminary indicators for the second
quarter, suggested that the growth of
output had strengthened somewhat on
average in these countries. Activity in
continental Europe, though still weak,
was improving, while the economies of
Canada, Japan, and the United Kingdom
remained strong. Economic activity continued to expand rapidly on average in
the major developing countries in the
first quarter.
Recent data indicated that price inflation remained moderate despite a
gradual acceleration of labor costs.
Increases in consumer prices were held
down in March and April by sizable
declines in energy prices and a small
net reduction in food prices. Consumer
prices for items other than food and
energy advanced at a moderate rate over
the two months, and over the twelve
months ended in April they increased
the same amount as in the previous
twelve months. Producer prices fell in
both March and April, reflecting large
declines in energy prices. Excluding
food and energy, producer prices edged
lower in April after having risen a sizable amount in March. Core producer
prices increased considerably less over
the twelve months ended in April than
over the previous twelve months. At
earlier stages of production, producer
prices registered declines both in recent
months and for the twelve months ended
in April. An upward creep in the growth

126 84th Annual Report, 1997
of labor costs was apparent in data
on the hourly compensation of private
industry workers; although the rise in
the first three months of 1997 was
smaller than the increase in the fourth
quarter, the advance over the twelve
months ended in March was larger than
that over the previous twelve months. A
similar but more pronounced pattern
was evident in data on average hourly
earnings for production or nonsupervisory workers.
At its meeting on March 25, 1997, the
Committee issued a directive that called
for a slight increase in the degree of
pressure on reserve positions; the firming of policy was taken in light of
continued rapid growth of aggregate
demand in the first quarter and the attendant greater risk of heightened pressures
on resources and an upturn in inflation.
Although further policy tightening
might be needed at some point, the
Committee did not believe that developments during the intermeeting period
were likely to require an adjustment,
and thus the directive did not include
a presumption about adjustments to
policy during the intermeeting period.
The reserve conditions associated with
this directive were expected to be consistent with some moderation in the
expansion of M2 and M3 over coming
months.
Open market operations immediately
after the meeting on March 25 were
directed toward implementing the
slightly firmer reserve conditions
desired by the Committee and then
maintaining those conditions over the
remainder of the intermeeting period.
The federal funds rate averaged close to
the higher intended level of 5V2 percent.
Open market operations were complicated during the period by extraordinarily large federal tax payments in
April, which substantially increased
the volume of open market purchases



needed to offset the reserve drains associated with those tax payments.
Market interest rates generally posted
small mixed changes over the intermeeting period. Most private short-term
rates increased only a little in response
to the March policy action, which had
been largely anticipated by market
participants. Intermediate- and longterm yields rose over the early part
of the intermeeting period, responding
mostly to incoming data suggesting that
growth in aggregate demand and output
remained strong; these increases were
subsequently more than reversed, however, as later information indicated that
economic growth was moderating and
price inflation remained subdued and on
news of an agreement to balance the
federal budget. Major indexes of stock
market prices fluctuated substantially
over the period but they rose considerably on balance.
In foreign exchange markets, the
trade-weighted value of the dollar in
terms of the other G-10 currencies
declined on balance over the intermeeting period. The movements of the dollar
during the period roughly corresponded
to the fluctuations in intermediate- and
long-term U.S. interest rates; the dollar
advanced strongly in April on growing
expectations of a further firming of U.S.
monetary policy but more than retraced
that gain in May as the likelihood of
further tightening waned. The dollar's
weakness in May also seemed to reflect
growing attention to the prospects for
official intervention to restrain the dollar's rise, notably against the Japanese
yen and the German mark.
The growth of M2 and M3 remained
brisk over March and April. Much of
M2's strength during this period resulted
from a temporary buildup by households of balances in savings accounts
and money market mutual funds to
cover unusually large tax payments. The

Minutes of FOMC Meetings, May
rapid growth of M3 was associated not
only with the bulge in M2 but also with
stepped-up issuance of large time deposits to fund the expansion of bank credit.
For the year through April, both aggregates expanded at rates appreciably
above the upper bounds of their respective ranges for the year. The growth
of total domestic nonfinancial debt had
moderated over recent months as a result
of reductions in federal government
borrowing.
The staff forecast prepared for this
meeting suggested that the economy
would expand in the second half of the
year at a rate a little above that of its
estimated potential and then would
increase at a slower and more sustainable rate in 1998. Growth of consumer
spending, supported by high levels of
household wealth and further projected
gains in employment and income, was
expected to remain fairly brisk over the
forecast horizon. Business spending on
equipment and structures was anticipated to continue to outpace the overall
expansion of the economy, though the
differential would tend to narrow over
time in conjunction with the gradual
diminution of increases in sales and
profits that was expected to be associated with moderating economic growth.
Housing construction was projected to
drift lower over coming quarters, partly
in conjunction with the rise in mortgage
interest rates that already had occurred
but also in response to the smaller increases expected in household income.
The staff continued to anticipate that
fiscal policy and the external sector
would exert mild restraint on the expansion of economic activity. With resource
utilization high and labor compensation
gradually accelerating, core consumer
price inflation was forecast to drift
slightly higher.
In the Committee's discussion, the
members agreed that the information for



127

recent months pointed on balance to a
marked slowing in the expansion of economic activity from a very rapid pace
in late 1996 and earlier this year. The
extent of the reduced growth in the current quarter and the prospects for subsequent quarters were subject to substantial uncertainty, but the members
generally felt that the economy retained
considerable underlying strength. In the
circumstances and assuming no changes
from current financial conditions, the
individual members saw likely prospects
for expansion over the forecast horizon
at a pace close to, or a little above, the
estimated growth of the economy's
long-run potential. Many noted, however, that high levels of consumer and
business confidence and supportive
financial conditions among other factors
suggested the possibility that growth
could turn out to be even faster. With
the utilization of productive resources,
notably labor, already at particularly
high levels in relation to the economy's
potential, an outcome no stronger
than current forecasts could well have
adverse implications for inflation. Nonetheless, the members also noted that the
rise in compensation increases had been
damped and that there continued to be
few indications of accelerating price
inflation in the statistical and anecdotal
information available at this time; such
developments underlined persisting
uncertainties about behavior in labor
markets and the level and growth of the
economy's sustainable potential.
In their review of developments in
key sectors of the economy, members
referred to favorable underlying factors
in the outlook for consumer spending.
These included solid growth in consumer incomes, large increases in financial wealth, and currently high levels
of consumer confidence. While more
moderate growth in consumer spending
for durable goods seemed likely after

128 84th Annual Report, 1997
an extended period of robust expansion,
these favorable factors suggested that
the risks of a different outcome were
tilted in the direction of faster-thanprojected expansion. On the negative
side, large consumer debts were still
viewed as likely to constitute an inhibiting influence on consumer expenditures,
and many banking institutions had
tightened lending terms and conditions
at least for their more marginal consumer borrowers. On balance, growth
in consumer expenditures at a somewhat
reduced pace approximating that of
the expected expansion of disposable
incomes appeared to be a reasonable
prospect, though one that was subject to
considerable uncertainty.
Spending for business fixed investment seemed to have retained a good
deal of momentum even after the large
increases in such expenditures in recent
years. Clearly, businesses regarded
such investments as highly profitable,
and they appeared to be leading to gains
in productivity that in turn were helping
to offset rising compensation and to
maintain profit margins in highly competitive markets. In the circumstances, it
appeared unlikely that growth in capital
outlays would moderate appreciably for
some time. A number of members also
referred to the increasing strength in
nonresidential construction, notably that
of commercial structures, in several
parts of the nation. Some referred in
particular to planned or actual construction of new office buildings in various
locales; such activity was being stimulated by declining vacancy rates, rising
rents, and a ready availability of financing. Likewise, a surge in tourism in
a number of areas had resulted in a
scarcity of hotel rooms and was spurring
hotel construction in some major cities.
Anecdotal reports of nonresidential
building activity undertaken on a speculative basis had increased, but a building



boom reminiscent of the 1980s did not
appear to be under way.
Concerning the outlook for housing,
members referred to forecasts of a mild
downtrend in residential construction
associated with the increases that had
occurred in mortgage interest rates. To
date, however, there were few indications of any weakening. Indeed, housing
construction had been relatively robust
in the early months of the year, though
the strength probably was largely
accounted for by unusually favorable
weather conditions and may have borrowed from building activity later in the
year. On balance, as evidenced by anecdotal reports from some areas, various
factors including ongoing growth in
employment and incomes, the availability of financing on still generally favorable terms, and the associated affordability of housing for many homeowners
seemed likely to provide continued
support for this sector of the economy
for some period of time.
A surge in nonfarm business inventory investment accounted for a substantial portion of the acceleration in
output in the first quarter, and an anticipated moderation in the accumulation of
inventories was an important element in
forecasts of greatly reduced economic
growth in the current quarter. In keeping
with business practices aimed at achieving or maintaining lean inventory-sales
ratios, inventory investment was projected to continue at a relatively subdued pace in coming quarters. A number
of members expressed the view, however, that stockbuilding represented an
upside risk in the economic outlook,
at least in the nearer term. While there
were some indications of efforts to pare
inventories in recent months, generally optimistic business sentiment and
currently trim inventories in most industries might well foster efforts to accumulate stocks at a relatively rapid

Minutes of FOMC Meetings, May
pace, especially if more-buoyant-thananticipated sales were to stimulate a
precautionary demand for inventories as
had occurred in 1994.
With regard to the outlook for inflation, members observed that increases in
prices had remained subdued despite the
rapid expansion in economic activity
in recent quarters and the associated
increase in pressures on already highly
utilized resources. The appreciation of
the dollar undoubtedly had helped to
damp domestic inflation this year, and
reported increases in consumer prices
also had been held down to a marginal
extent by an ongoing series of technical adjustments to the consumer price
index. These were only partial explanations, however, and the members found
it very difficult to account for the surprisingly benign behavior of inflation in
an economy that had been operating at a
level approximating full employment—
indeed, possibly somewhat above sustainable full employment in labor
markets in the view of a number of
members, especially taking into consideration the recent further decline in the
unemployment rate. On the basis of
historical patterns, any overshooting of
full employment would be expected
to generate rising inflation over time.
Although increases in labor compensation had been trending higher, these
pressures were muted and had not
shown through to prices.
Members focused on the possible role
of faster-than-reported increases in productivity as a key explanation for the
benign behavior of inflation in current
circumstances. Business firms had continued to report robust profit margins in
a period when competitive pressures
generally prevented them from raising
their prices, or raising them sufficiently,
to pass on the increases that they were
experiencing in worker compensation.
Standard statistical measures that



129

pointed to relatively limited increases
in productivity seemed inconsistent
with strong profits as well as with anecdotal reports of sizable gains associated
with widespread business restructuring
activities and large additions of hightechnology equipment to an increasingly
efficient capital stock. The ongoing
development and spreading adoption of
automated equipment along with the
increasing skills and other infrastructure
needed to use it effectively appeared to
be creating growing efficiencies or synergies that were markedly enhancing
productivity and enabling firms to hold
the line on prices and maintain high
profit margins.
While these were welcome developments, members continued to express
concern that, perhaps sooner rather than
later, growing pressures on productive
resources would be reflected in some
upturn in overall inflation. Although
most measures of labor compensation
had been relatively favorable recently,
such measures had been displaying a
clear uptrend over a somewhat longer
period, and it seemed likely that, if
this trend continued, labor cost developments would at some point be reflected
more fully in core measures of prices.
Members commented that the timing
and extent of any upturn in price inflation would depend on growth of overall
demand in the economy, but they also
believed that expansion of demand in
line with their current expectations
could induce a somewhat less favorable
inflation experience during coming
quarters. However, recent developments
had underscored the fact that historical experience was not a fully reliable guide to the prospective behavior
of prices; accordingly, the inflation outlook remained subject to considerable
uncertainty.
In the Committee's discussion of policy for the intermeeting period ahead,

130 84th Annual Report, 1997
all but one of the members indicated
that they could support a proposal to
maintain an unchanged policy stance,
although some also expressed a preference for some tightening at this meeting.
Those who endorsed a steady policy at
this time agreed that some tightening
might well be needed later to contain
potentially rising inflation. For now,
however, economic growth seemed to
be slowing to a more sustainable pace,
and the uncertainties surrounding the
extent of the slowing and the outlook for
inflation pointed to the desirability of a
cautious approach to any policy tightening, especially given the persisting
absence of a rising inflation trend in
current measures of prices. A number of
members also observed that real interest
rates were not unusually low. Thus, the
present stance of monetary policy probably was not very far out of alignment
with what likely would prove to be a
desirable degree of restraint, thereby
lessening any risk of large and persisting imbalances that a delay in implementing further restraint might incur.
Members who preferred some tightening, at least in the near term if not
necessarily at this meeting, noted that
the Committee needed to weigh the risks
of having to implement a small degree
of restraint now versus considerably
more later if inflation were allowed
to build momentum. Monetary policy
exerts its effects with a considerable lag,
and a small but relatively prompt tightening action would provide some further insurance against an intensification
of inflation. Such an outcome could
be seen as more likely now, given the
increased tightness in labor markets and
the possibility that relatively strong
growth would put added pressures on
resources. Some of these members commented that the risk of a retarding effect
on the economy from a small move at
this time was quite limited in light of the



apparently solid momentum of the economic expansion. Indeed, the strength
of investment demand, the ready availability of financing, and possible favorable productivity gains argued that real
rates of interest would need to be higher
than historical norms to balance aggregate demand and supply. The risk of
slightly lower economic growth needed
to be compared with what they viewed
as the greater risk of losing ground
to inflation and thereby inhibiting the
Committee's ability to reach its ultimate
goal of price stability, a goal that all the
members viewed as necessary to achieve
maximum sustainable economic growth
over time. Given the quiescence of inflation and the uncertainties surrounding
its outlook, however, all but one of these
members could accept a wait-and-see
policy stance for now.
With regard to possible adjustments
to policy during the intermeeting period,
all the members supported a shift from
the symmetric directive that had been
adopted in conjunction with the policy
tightening action at the March meeting
to an asymmetric directive tilted toward
tightening. While such a bias did not
necessarily imply an intention to tighten
policy during the weeks immediately
ahead, it was consistent with the members' view that the risks were in the
direction of a potential need for some
tightening in monetary policy to counter
rising inflationary pressures, and that
they might be required to make such a
decision in the not-too-distant future.
At the conclusion of the Committee's
discussion, all but one member indicated that they supported a directive that
called for maintaining the existing
degree of pressure on reserve positions
and that included a bias toward the possible firming of reserve conditions during the intermeeting period. Accordingly, in the context of the Committee's
long-run objectives for price stability

Minutes of FOMC Meetings, May

131

both aggregates expanded at rates appreciably above the upper bounds of their respective ranges for the year. Growth in total
domestic nonfinancial debt has moderated
over recent months, reflecting reductions in
federal government borrowing.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at its meeting in February established ranges for
growth of M2 and M3 of 1 to 5 percent and
2 to 6 percent respectively, measured from
the fourth quarter of 1996 to the fourth quarter of 1997. The monitoring range for growth
of total domestic nonfinancial debt was set at
3 to 7 percent for the year. The behavior of
the monetary aggregates will continue to be
evaluated in the light of progress toward
price level stability, movements in their
velocities, and developments in the economy
and financial markets.
In the implementation of policy for the
The information reviewed at this meeting
suggests that growth in economic activity immediate future, the Committee seeks to
has slowed after surging in late 1996 and maintain the existing degree of pressure on
earlier this year. Private nonfarm payroll reserve positions. In the context of the Comemployment increased at a considerably mittee's long-run objectives for price stareduced pace over March and April, but the bility and sustainable economic growth, and
civilian unemployment rate fell appreciably giving careful consideration to economic,
to 4.9 percent in April. Industrial production financial, and monetary developments, somewas flat in April following sizable gains what greater reserve restraint would or
over previous months. Nominal retail sales slightly lesser reserve restraint might be
were unchanged in March and declined in acceptable in the intermeeting period. The
April after a considerable advance in earlier contemplated reserve conditions are exmonths. Housing activity in March and April pected to be consistent with some moderawas little changed from other recent months. tion in the expansion of M2 and M3 over
Available indicators point to further sizable coming months.
gains in business fixed investment. The
nominal deficit on U.S. trade in goods and
Votes for this action: Messrs. Greenspan,
services widened substantially in JanuaryMcDonough, Guynn, Kelley, Meyer,
February from its temporarily depressed rate
Moskow, Parry, Mses. Phillips and Rivlin.
in the fourth quarter. Underlying price inflaVote against this action: Mr. Broaddus.
tion has remained subdued.
Market interest rates generally have posted
Mr. Broaddus dissented because he
small mixed changes since the Committee
believed that the strength of investment
meeting on March 25, 1997; share prices
in equity markets have risen considerably. demand, due possibly to an increase in
In foreign exchange markets, the trade- the trend growth rate of productivity,
weighted value of the dollar in terms of the required somewhat higher real interest
other G-10 currencies declined on balance rates to prevent' inflationary pressures
over the intermeeting period.
from developing. He was concerned
Growth of M2 and M3 was brisk over
that, with the economy already operatMarch and April, boosted by a buildup in
household balances to cover unusually large ing at a high level and labor markets
tax payments. For the year through April, apparently very tight, any increase in

and sustainable economic growth, and
giving careful consideration to economic, financial, and monetary developments, the Committee decided that
somewhat greater reserve restraint
would be acceptable and slightly lesser
reserve restraint might be acceptable
during the intermeeting period. The
reserve conditions contemplated at this
meeting were expected to be consistent
with moderate growth of M2 and M3
over coming months.
The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:




132 84th Annual Report, 1997
such pressures might be costly to reverse
and might reduce the credibility of the
Committee's longer-run strategy of promoting maximum sustainable growth by
fostering price level stability. He also
believed that the risk to the economy of
a moderate further tightening was small
given the apparent momentum of aggregate economic activity.
It was agreed that the next meeting
of the Committee would be held on
Tuesday-Wednesday, July 1-2, 1997.
The meeting adjourned at 12:45 p.m.
Donald L. Kohn
Secretary

Meeting Held on
July 1-2, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, July 1, 1997, at 2:30 p.m.
and continued on Wednesday, July 2,
1997, at 9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas,
and Minneapolis respectively
Mr. Kohn, Secretary and Economist



Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Beebe, Goodfriend, Hunter,
Lindsey, Mishkin, Promisel,
Siegman, Slifman, and Stockton,
Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Ms. Johnson, Assistant Director,
Division of International Finance,
Board of Governors
Messrs. Reifschneider4 and Small,4
Section Chiefs, Divisions of
Research and Statistics and
Monetary Affairs respectively,
Board of Governors
Mr. Sichel, Senior Economist, Division
of Research and Statistics, Board
of Governors
Mr. Elmendorf,4 and Ms. Garrett,
Economists, Division of Monetary
Affairs, Board of Governors
Mr. Lebow,5 and Ms. Lindner,5
Economists, Division of Research
and Statistics, Board of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
4. Attended portions of meeting relating to the
Committee's review of the economic outlook and
establishment of its monetary and debt ranges for
1998.
5. Attended portion of meeting relating to price
measurement issues for monetary policy.

Minutes of FOMC Meetings, July
Ms. Holcomb, First Vice President,
Federal Reserve Bank of Dallas
Ms. Browne, Messrs. Dewald, Hakkio,
Kos, Lang, Rolnick, Rosenblum,
and Sniderman, Senior Vice
Presidents, Federal Reserve Banks
of Boston, St. Louis, Kansas City,
New York, Philadelphia,
Minneapolis, Dallas, and
Cleveland respectively
Ms. Rosenbaum, Vice President,
Federal Reserve Bank of Atlanta

By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on May 20, 1997, were
approved.
The Manager of the System Open
Market Account reported on developments in foreign exchange markets since
the meeting on May 20, 1997. There
were no System open market transactions in foreign currencies during this
period, and thus no vote was required of
the Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
May 20, 1997, through June 30, 1997.
By unanimous vote, the Committee ratified these transactions.
The Committee then turned to a discussion of the economic outlook, the
ranges for the growth of money and debt
in 1997 and 1998, and the implementation of monetary policy over the intermeeting period ahead. A summary of
the economic and financial information
available at the time of the meeting and
of the Committee's discussion is provided below, followed by the domestic
policy directive that was approved by
the Committee and issued to the Federal
Reserve Bank of New York.
The information reviewed at this
meeting suggested that the economic



133

expansion slowed substantially in the
second quarter after having surged in
late 1996 and earlier this year. Consumer spending decelerated considerably, but business spending on durable
equipment increased substantially further and housing demand appeared to
have been well maintained. Employment growth moderated recently, while
industrial production continued to rise
appreciably. Price inflation remained
subdued despite high rates of resource
utilization, notably that of labor.
Private nonfarm payroll employment
rose at a reduced pace in May after
having registered sizable advances over
the first four months of the year. Job
growth remained brisk in the services
sector despite a further drop in employment at temporary help agencies that
might have reflected constraints on
the availability of workers for hire.
Although employment in construction
recovered in May from the weatherdepressed level in April, the underlying
growth in such jobs seemed to have
slowed. Employment in manufacturing
changed little over April and May after
having increased moderately in the first
quarter. The average workweek for production or nonsupervisory workers was
unchanged in May but was slightly
below the average for the first quarter.
The civilian unemployment rate fell
slightly further to 4.8 percent in May.
Industrial production continued to
grow briskly in May. Manufacturing
output recorded a substantial gain and
mining production rose considerably;
however, cooler-than-average weather
led to a drop in utility output. Much
of the rise in manufacturing reflected a
rebound in the production of motor vehicles and parts from strike-depressed
levels in April and strength in the output of business equipment, construction
supplies, and materials. With output
generally keeping pace with the rapid

134 84th Annual Report, 1997
expansion of factory capacity, the rate
of utilization of manufacturing capacity
remained at a relatively high level.
Personal consumption expenditures,
in real terms, rose substantially in May
after having changed little on balance
over the preceding three months. Spending on services remained on a solid
uptrend in May, while aggregate purchases of goods turned up after three
months of lackluster spending on
nondurable goods and motor vehicles.
The unusual weather patterns of late
winter and early spring apparently had
a depressing effect on consumer expenditures, especially for seasonal items;
however, the combination of strong job
gains, buoyant sentiment, and increased
household net worth pointed to a possible resumption of more robust spending by consumers.
Housing activity appeared to have
been generally well maintained in recent
months. Although housing starts were
down somewhat in May from the relatively elevated average rate for the first
four months of the year, this slowing
might have been, at least in part, the
result of unusually mild winter weather
that enabled an early start on spring
building activity. The latest information
on home sales suggested continued firm
demand for single-family housing: Sales
of existing homes rose in May and were
among the highest monthly totals on
record, and sales of new homes in April
(latest data available) were down only
a little from the brisk pace of earlier
months in the year.
Available information suggested further sizable gains in business fixed
investment. Shipments of nondefense
capital goods edged higher in May after
having posted large increases in earlier
months of the year. Shipments of computers had been particularly strong this
year in conjunction with rapidly falling
prices, but shipments of other categories



of capital goods also had been robust on
balance. Recent data on orders pointed
to further brisk growth in coming
months. Nonresidential construction
activity appeared to have eased recently,
with construction-put-in-place slipping
in March and April from the elevated
pace of the first two months of the year.
However, other information suggested
that the downturn might be shortlived:
Vacancy rates for office space had been
declining, prices for commercial real
estate had been edging up, and recent
data on contracts suggested that building activity would improve in coming
months.
Business inventory investment picked
up sharply in April from the slow pace
in March but, overall, stocks remained
at a low level in relation to sales. In
manufacturing, much of the increase in
stocks occurred in capital goods industries in which production was expanding
briskly. In the wholesale sector, a substantial decline in stocks in April more
than offset a sizable increase in March,
and the aggregate stock-sales ratio for
the sector fell further over the MarchApril period. Retail inventories rose
considerably in April, with notable
increases in stocks of apparel and general merchandise. In a departure from
the general downtrend of recent months,
inventory-sales ratios for most types of
retail establishments were up appreciably in April.
The nominal deficit on U.S. trade in
goods and services narrowed somewhat
in April from a downward-revised average rate in the first quarter. The value of
exports in April rose substantially from
the first-quarter level, led by increases in
exports of machinery and aircraft. The
value of imports also rose but less than
that of exports; imports were up in most
trade categories except petroleum products. Recent information suggested that,
on average, economic activity in the

Minutes of FOMC Meetings, July
major foreign industrial countries continued to grow at a moderate rate in the
second quarter. Growth remained robust
in Canada and the United Kingdom and
was improving in Germany, France, and
Italy. Economic activity appeared to
have flattened temporarily in Japan after
an increase in the consumption tax in
April.
Price inflation remained subdued. For
a third straight month, consumer prices
recorded only a slight increase in May.
Favorable developments in food and
energy continued to hold down the overall rise and accounted for a much
smaller advance in the index of prices
of all consumer items over the twelve
months ended in May than over the
previous twelve months. The decline in
core CPI inflation over the same time
period was much less, though this measure of inflation also remained relatively
restrained. At the producer level, prices
of finished goods other than food and
energy fell further in May and were
little changed over the year ended that
month. At earlier stages of processing,
producer prices for intermediate materials other than food and energy changed
little over the year ended in May, and
producer prices at the crude level
advanced only slightly. The tight conditions prevailing in labor markets were
associated with a somewhat larger
increase in average hourly earnings in
the twelve months ended in May than in
the year-earlier period.
At its meeting on May 20, 1997, the
Committee adopted a directive that
called for maintaining the existing
degree of pressure on reserve positions.
Because the members saw the potential
need for some tightening in monetary
policy to counter rising inflationary
pressures, perhaps in the relatively
near term, the directive included a bias
toward the possible firming of reserve
conditions during the intermeeting



135

period. The reserve conditions associated with this directive were expected to
be consistent with moderate growth of
M2 and M3 over coming months.
Open market operations were directed
throughout the intermeeting period
toward maintaining the existing degree
of pressure on reserve positions, and the
federal funds rate averaged close to the
intended level of 5XA percent. Most other
market interest rates declined somewhat
on balance during the period. Market
participants apparently concluded that
the likelihood of further policy tightening had decreased substantially in light
of incoming data that suggested slowing
growth of final demand and continued
subdued inflation. Share prices in equity
markets rose considerably further.
In foreign exchange markets, the
trade-weighted value of the dollar in
terms of the other G-10 currencies was
up on balance over the intermeeting
period; the advance occurred despite a
smaller decline on average in long-term
interest rates abroad than in the United
States. The dollar rose appreciably
against the German mark and most other
continental European currencies amid
growing market concerns that there
would be broad participation in the
European Monetary Union despite the
fact that the major European countries
would not be able to comply strictly
with the Maastricht fiscal standards and
related expectations that the euro would
be a weak currency. In contrast, the dollar fell against the Japanese yen and the
British pound; the yen moved up as
markets focused more closely on recent
and prospective increases in Japan's current account surplus, and the pound
strengthened in anticipation of further
policy tightening by the Bank of
England.
Expansion of M2 and M3 slowed
sharply in May in association with a
swing in household balances related

136 84th Annual Report, 1997
to large tax payments; growth of M2
rebounded in June, but M3 accelerated
less. For the year through June, M2
increased at a rate near the upper bound
of its range for the year. Rapid growth
of M3 over the first half of the year,
partly in conjunction with robust expansion of bank credit, placed growth
of this aggregate somewhat above the
upper bound of its range. The rate of
increase in total domestic nonfinancial
debt had been a little higher in recent
months; for the year to date, this aggregate had grown at a rate near the middle
of its range.
The staff forecast prepared for this
meeting suggested that the economy
would expand at a pace somewhat above
that of its estimated potential in the second half of the year but would slow to a
rate of increase more in line with that of
potential in 1998. Growth of consumer
spending, supported by high levels of
household wealth and further projected
gains in employment and income, was
expected to be relatively brisk for some
time. Business spending on equipment
and structures was anticipated to continue outpacing the overall expansion
of the economy, though the differential
would tend to narrow in association with
the gradual diminution of increases
in sales and profits that was expected
to occur in the context of moderating
economic growth. Housing construction
was projected to drift lower over the
forecast period. The staff anticipated
that fiscal policy and the external sector
would exert mild restraint on the expansion of economic activity. With labor
compensation gradually accelerating in
the context of high resource utilization,
core consumer price inflation was forecast to drift slightly higher.
In the Committee's discussion of current and prospective economic developments, members commented on the continuing exceptional performance of the




economy, including widespread indications of strength in business activity and
subdued inflation. After a surge in late
1996 and earlier this year, the rate of
expansion had moderated considerably
in recent months, and the members generally expected economic activity to
settle into a pattern of growth over the
next six quarters that would approximate the economy's estimated output
potential. A major factor in that outlook
was their expectation of some deceleration in demands for consumer durables
and business plant and equipment in
light of the substantial buildup of such
assets that already had taken place in
recent years. However, given the underlying strength of the expansion, favorable financial conditions, and the
absence of major imbalances in the
economy, the risks of a different outcome were judged to be in the direction
of somewhat faster growth than currently projected. The outlook for inflation was subject to particular uncertainty. Despite an economy that had
been operating for a considerable period
at rates of resource utilization that were
very close to, and by some estimates
somewhat above, sustainable levels,
inflation had remained relatively low
and indeed had declined on the basis of
some broad measures of prices. Such an
outcome was very much welcome, but
the reasons for it were not completely
understood and appeared to include
some factors that might exert only
temporary restraint on price increases.
Consequently, continuing pressures on
resources associated with economic
growth in line with the members' current forecasts could well be reflected in
rising inflation over time.
In keeping with the practice at meetings when the Committee sets its longrun ranges for the money and debt
aggregates, the members of the Committee and the Federal Reserve Bank presi-

Minutes of FOMC Meetings, July
dents not currently serving as members
provided individual projections of the
growth in real and nominal GDP, the
rate of unemployment, and the rate of
inflation for the years 1997 and 1998.
The forecasts of the rate of expansion
in real GDP for 1997 as a whole had a
central tendency of 3 to 3lA percent and
for 1998 were centered on a range of
2 to 2!/2 percent. With regard to the
growth of nominal GDP, most of the
forecasts were in ranges of 5 to 5l/i percent for 1997 and 4Vi to 5 percent for
1998. The civilian rate of unemployment associated with these forecasts had
a central tendency of 43A to 5 percent in
the fourth quarters of both years. Projections of the rate of inflation, as measured by the consumer price index,
pointed to a sizable moderation this year
from the rate in 1996 and a partially
offsetting rise in 1998, with prices of
food and energy accounting for much of
the swing. Specifically, the projections
converged on CPI inflation rates of
2lA to 2Vi percent in 1997 and 2Vi to
3 percent in 1998.
In their review of the outlook for economic activity in major sectors of the
economy, members referred to the generally sluggish pace of retail sales in
recent months. It was noted, however,
that the slowdown was perhaps in part
an adjustment to very strong growth of
sales in previous months, and some
members commented on anecdotal indications of some pickup in recent weeks.
More importantly, underlying trends and
fundamentals pointed to prospective
growth in consumer expenditures at a
pace that was likely to continue to provide key support for further moderate
expansion in overall economic activity.
In particular, jobs and incomes had continued to post sizable gains; further large
increases in stock market prices had
raised wealth-to-income ratios sharply;
and consumer optimism had risen to



137

new highs. On the other hand, the accumulation of consumer durables that had
occurred over the course of the current
cyclical advance was likely to exert
a retarding influence on the rise in
consumer spending. Other somewhat
restraining factors included the prospect
of some softening in housing demand
and related purchases of household
goods and the already heavy debt repayment burdens of many consumers. Some
members also noted that a possible correction from the currently elevated levels of stock market prices could have
adverse effects on consumer sentiment
and purchasing power. On balance,
growth in personal consumer expenditures was seen as likely to approximate
the moderate rate of increase projected
in overall domestic demand.
The members viewed the prospects
for further growth in business fixed
investment as another important supportive factor in the outlook for
sustained economic expansion. Current
indicators pointed to the continuation of
very rapid growth in such spending over
the near term, but some moderation was
likely over the course of coming quarters in conjunction with the projected
slowing in the increase of overall
demand and the very large buildup in
the stock of capital that already had
occurred in recent years. Even so,
investment spending was likely to be
relatively robust over the projection
horizon in the context of continuing
incentives to hold down production
costs in highly competitive markets and
to take advantage of falling prices and
wider applications for certain types of
new equipment, notably computerrelated equipment. The ready availability of both debt and equity finance
on favorable terms, an upbeat outlook
for sales in many industries, and generally high profit levels were other positive factors. The outlook for nonresi-

138 84th Annual Report, 1997
dential construction activity also seemed
to be relatively favorable. Members
referred to declining vacancy rates and
rising rents for commercial structures
in many parts of the country and noted
that construction contracts for new
office buildings and hotels recently had
turned up on a nationwide basis after
a pause earlier this year. In sum, the
growth in business fixed investment
seemed likely to continue to outpace
that of overall demand in coming
quarters.
Some restraint on aggregate demand
would come from other sectors of the
economy—notably government spending, net exports, housing, and perhaps
business inventories. None of these factors seemed likely to exert a substantially negative effect, but in total they
were expected to help keep the pace of
the expansion close to the estimated rate
of increase in the economy's potential
over coming quarters.
During the course of the Committee's
discussion, many of the members commented on the persistence of an impressively benign inflation performance
despite widespread indications of very
high, and by some measures increasing,
levels of capacity use. Indeed, most
broad measures of prices pointed to subdued or even declining inflation, and it
was difficult to find evidence of rising
inflation pressures in "pipeline" price
data or the wage structure. The members
anticipated that inflation as measured
by the consumer price index would
decrease appreciably over 1997 as a
result of favorable developments in the
food and especially the energy sectors
of the economy and declining import
prices associated with the previous
appreciation of the dollar. These positive influences would wane over time,
however, and consumer prices were
likely to rise at a somewhat faster pace
in 1998.



The members agreed that the risks to
their price forecasts were in the direction of higher inflation, given already
high levels of capacity use and their
expectations of appreciable further economic growth. Nonetheless, the relatively low inflation experienced despite
a lengthy period of fully employed
resources suggested that the timing of
a potential upturn in inflation—indeed
whether inflation would in fact pick
up—could not be predicted with any
degree of confidence on the basis of past
historical patterns. The reasons for the
persistence of a relatively benign inflation performance in the current expansion were not fully understood. They
included some temporary factors such
as the effect of the rise in the dollar on
import prices and the restraint on health
care costs. More fundamentally, they
presumably also involved the favorable
effects on production costs of widespread business restructurings and the
large volume of investment in more productive technology in recent years, the
impact of both factors on the job security concerns of workers and their willingness to accept reduced increases
in compensation, and the effects of an
intense degree of competition among
domestic and foreign producers in U.S.
markets. With regard to the possibility
that more robust productivity increases
would be holding down production
costs, it was noted that a surge in economic activity, such as had occurred in
late 1996 and early 1997, tended to be
accompanied by above-trend gains in
productivity. A slower pace of economic
growth in the second quarter and beyond
might provide an opportunity to assess
whether productivity increases were on
a clear uptrend and could help to explain
the favorable behavior of prices over an
extended period. In any event, it was too
early to reach any firm conclusion on
this issue or the broader question of

Minutes of FOMC Meetings, July
whether or when a rise in inflation might
materialize under anticipated economic
conditions.
The members also discussed a staff
study of the relative performance of
various price indexes as measures of
inflation. Members noted that most
broad measures of inflation moved
together over extended periods of time,
but they did not always do so over short
intervals. Differences in construction,
coverage, and other factors meant that
none of the individual measures was
clearly superior in assessing general
inflation trends, and several members
commented that all measures needed to
be monitored.
In keeping with the requirements of
the Full Employment and Balanced
Growth Act of 1978 (the HumphreyHawkins Act), the Committee at this
meeting reviewed the ranges for growth
of the monetary and debt aggregates that
it had established in February for 1997,
and it decided on tentative ranges for
those aggregates for 1998. The current
ranges set in February for the period
from the fourth quarter of 1996 to the
fourth quarter of 1997 were unchanged
from the ranges for 1996 and included
expansion of 1 to 5 percent for M2 and
2 to 6 percent for M3. An unchanged
range of 3 to 7 percent also was set in
January for growth of total domestic
nonfinancial debt in 1997.
All the members favored retaining the
current ranges for this year and extending them on a provisional basis to 1998.
They anticipated that growth of M2
probably would continue at rates in the
upper part of its current range in both
years and that of M3 at rates approximating or even slightly above the upper
bound of its range, given the Committee's expectations for the performance
of the economy and prices. The current
ranges were not expected to be guides
to money growth under anticipated con


139

ditions in the period ahead, but instead
could be viewed as anchors or benchmarks for money growth that would be
associated with approximate price stability and sustained economic growth,
assuming behavior of velocity in line
with historical experience. Accordingly,
a reaffirmation of those ranges would
underscore the Committee's commitment to a policy of achieving price stability over time, and in the view of at
least some members, higher ranges
could raise questions in this regard.
Over the past few years, in contrast to
earlier in the 1990s, the behavior of the
broad aggregates, especially that of M2,
in relation to nominal GDP and shortterm interest rates had displayed a pattern that was in line with historical
norms before the 1990s. The members
viewed this as an encouraging development in that it raised the possibility of
giving more weight at some point to the
performance of these aggregates as useful indicators in formulating monetary
policy. However, the period of more predictable M2 and M3 behavior was still
relatively brief, and such behavior had
occurred at a time of generally settled
conditions in financial markets and the
overall economy. The prospective performance of these aggregates in periods
of rapid changes in financial and economic conditions was still an open question, and in light of the uncertainties that
were involved the members concluded
that it would be premature to place
increased reliance on them in the conduct of policy. Accordingly, the Committee decided that despite projected
growth of M2 and M3 at rates in the
vicinity of the upper limits of the current
ranges, prevailing uncertainties made
it desirable to retain those ranges as
benchmarks for the achievement of price
stability rather than to establish higher
ranges that seemed more likely to capture expected outcomes. In the circum-

140 84th Annual Report, 1997
stances, any tendency for growth of the
monetary aggregates to move outside
the Committee's ranges would not in
itself call for a policy adjustment but
would continue to be interpreted in the
context of a broad range of business and
financial developments bearing on the
prospective performance of the overall
economy.
The Committee members were unanimously in favor of retaining the current
range of 3 to 7 percent for growth of
total domestic nonfinancial debt in 1997
and extending that range on a provisional basis to 1998. They took account
of a staff projection indicating that
growth of the debt aggregate was likely
to slow somewhat from its pace in 1995
and 1996, reflecting a small reduction in
the expansion of federal government
debt. According to the staff projection,
growth in the debt measure would be
near the midpoint of the existing range
over the period through 1998.

tainable growth in output. In furtherance of
these objectives, the Committee reaffirmed
at this meeting the ranges it had established
in February for growth of M2 and M3 of 1 to
5 percent and 2 to 6 percent respectively,
measured from the fourth quarter of 1996
to the fourth quarter of 1997. The range for
growth of total domestic nonfinancial debt
was maintained at 3 to 7 percent for the year.
For 1998, the Committee agreed on tentative
ranges for monetary growth, measured from
the fourth quarter of 1997 to the fourth quarter of 1998, of 1 to 5 percent for M2 and 2 to
6 percent for M3. The Committee provisionally set the associated range for growth of
total domestic nonfinancial debt at 3 to 7 percent for 1998. The behavior of the monetary
aggregates will continue to be evaluated
in the light of progress toward price level
stability, movements in their velocities, and
developments in the economy and financial
markets.

At the conclusion of this discussion,
the Committee voted to reaffirm the
ranges for growth of M2, M3, and total
domestic nonfinancial debt that it had
established in February for 1997. For
the year 1998, the Committee approved
provisional ranges for the three aggregates that were unchanged from the
1997 ranges. In keeping with its usual
procedure
under the
HumphreyHawkins Act, the Committee would
review its preliminary ranges for 1998
early next year, or sooner if interim
conditions warranted, in light of their
growth and velocity behavior and ongoing economic and financial developments. Accordingly, the Committee
voted to incorporate the following statement regarding the 1997 and 1998
ranges in its domestic policy directive:

In the Committee's discussion of policy for the intermeeting period ahead, all

The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sus


Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips and
Rivlin. Votes against this action: None.

the members favored or could support a
proposal to maintain an unchanged policy stance, and they strongly supported
the retention of a bias toward restraint.
An unchanged policy seemed appropriate with inflation still quiescent and
business activity projected to settle into
a pattern of moderate growth broadly
consistent with the economy's long-run
output potential. While the members
assessed risks surrounding such a forecast as decidedly tilted to the upside, the
slowing of the expansion should keep
resource utilization from rising substantially further, and this outlook together
with the absence of significant early
signs of rising inflationary pressures
suggested the desirability of a cautious
"wait and see" policy stance at this
point. In the current uncertain environment, this would afford the Committee
an opportunity to gauge the momentum

Minutes of FOMC Meetings, July
of the expansion and the related degree
of pressure on resources and prices. The
risks of waiting appeared to be limited,
given that the evidence at hand did not
point to a step-up in inflation despite
low unemployment and that the current
stance of monetary policy did not seem
to be overly accommodative, at least on
the basis of some measures such as the
level of real short-term interest rates. In
these circumstances, any tendency for
price pressures to mount was likely to
emerge only gradually and to be reversible through a relatively limited policy
adjustment. Some members commented,
however, that in the absence of unanticipated weakness in the economy, some
tightening of policy was likely to be
needed in the relatively near future, and
one expressed the view that a tightening
action at this meeting seemed desirable
to forestall or limit the risks of intensifying inflationary pressures. However,
waiting was an acceptable alternative
given the favorable economic news and
the persisting uncertainties surrounding
the relationship of output to prices.
In their discussion of possible adjustments to policy during the intermeeting
period, all the members indicated that
they wanted to retain the existing asymmetry toward restraint adopted at the
May meeting. An asymmetric directive
was consistent with their view that the
risks clearly were in the direction of
excessive demand pressures in the economy and an associated upward trend
in inflation. Such a bias in the directive
also would serve the purpose of signaling the Committee's ongoing commitment to curb inflation in the interest
of fostering maximum sustainable economic growth and employment. The
members agreed that the current environment called for careful monitoring
of developments and for prompt action
by the Committee if needed to counter
rising inflation. Indeed, in the interest of



141

fostering a continuation of sustainable
growth of the economy, it would be
desirable to tighten on the basis of early
signs of potentially intensifying inflation and before higher inflation actually
materialized.
At the conclusion of the Committee's
discussion, all the members indicated
that they could support a directive
that called for maintaining the existing
degree of pressure on reserve positions
and that retained a bias toward the possible finning of reserve conditions during the intermeeting period. Accordingly, in the context of the Committee's
long-run objectives for price stability
and sustainable economic growth, and
giving careful consideration to economic, financial, and monetary developments, the Committee decided that
somewhat greater reserve restraint
would be acceptable and slightly lesser
reserve restraint might be acceptable
during the intermeeting period. The
reserve conditions contemplated at this
meeting were expected to be consistent
with moderate expansion in M2 and M3
over coming months.
The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The information reviewed at this meeting
suggests that the economic expansion slowed
substantially in the second quarter after surging in late 1996 and earlier this year. Private
nonfarm payroll employment increased at a
reduced pace in May, but the civilian unemployment rate fell slightly further to 4.8 percent. Industrial production registered another
sizable gain in May. Personal consumption
expenditures, in real terms, rose substantially
in May after having changed little over
the preceding three months. Housing activity
appears to have been well maintained in
recent months. Available indicators point to
further sizable gains in businessfixedinvest-

142 84th Annual Report, 1997
ment. The nominal deficit on U.S. trade
in goods and services narrowed somewhat
in April from its downward-revised average
rate in the first quarter. Price inflation has
remained subdued.
Market interest rates generally have
declined somewhat since the day before the
Committee meeting on May 20, 1997; share
prices in equity markets have risen considerably further. In foreign exchange markets,
the trade-weighted value of the dollar in
terms of the other G-10 currencies was up
slightly on balance over the intermeeting
period.
Growth of M2 and M3 fluctuated sharply
from April to May in association with a
swing in household balances related to
large tax payments; on balance, both aggregates expanded at a moderate pace over
the two months, and available data pointed
to further moderate growth in June. For the
year through June, M2 expanded at a rate
near the upper bound of its range for the
year and M3 at a rate somewhat above
the upper bound of its range. Total domestic
nonfinancial debt has continued to expand
in recent months and is near the middle of
its range.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee reaffirmed
at this meeting the ranges it had established
in February for growth of M2 and M3 of 1 to
5 percent and 2 to 6 percent respectively,
measured from the fourth quarter of 1996 to
the fourth quarter of 1997. The range for
growth of total domestic nonfinancial debt
was maintained at 3 to 7 percent for the year.
For 1998, the Committee agreed on tentative
ranges for monetary growth, measured from
the fourth quarter of 1997 to the fourth quarter of 1998, of 1 to 5 percent for M2 and 2 to
6 percent for M3. The Committee provisionally set the associated range for growth of
total domestic nonfinancial debt at 3 to 7 percent for 1998. The behavior of the monetary
aggregates will continue to be evaluated
in the light of progress toward price level
stability, movements in their velocities, and
developments in the economy and financial
markets.
In the implementation of policy for the
immediate future, the Committee seeks to
maintain the existing degree of pressure on



reserve positions. In the context of the
Committee's long-run objectives for price
stability and sustainable economic growth,
and giving careful consideration to economic, financial, and monetary developments, somewhat greater reserve restraint
would or slightly lesser reserve restraint
might be acceptable in the intermeeting
period. The contemplated reserve conditions
are expected to be consistent with moderate
growth in M2 and M3 over coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips and
Rivlin. Votes against this action: None.

It was agreed that the next meeting of
the Committee would be held on Tuesday, August 19, 1997.
The meeting adjourned at 11:55 a.m.
on July 2.
Donald L. Kohn
Secretary
Meeting Held on
August 19, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, August 19, 1997, at
9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee

Minutes of FOMC Meetings, August
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas, and
Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Beebe, Cecchetti, Goodfriend,
Eisenbeis, Lindsey, Promisel,
Siegman, Slifman, and Stockton,
Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
Ms. Strand, First Vice President,
Federal Reserve Bank of
Minneapolis
Messrs. Lang, Rolnick, Rosenblum,
and Sniderman, Senior Vice
Presidents, Federal Reserve Banks
of Philadelphia, Minneapolis,
Dallas, and Cleveland respectively
Messrs. Gavin, Kahn, and
Ms. Perelmuter, Vice Presidents,
Federal Reserve Banks of
St. Louis, Kansas City, and
New York respectively
Ms. Little and Mr. Sullivan, Assistant
Vice Presidents, Federal Reserve
Banks of Boston and Chicago
respectively



143

By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on July 1-2, 1997, were
approved.
By unanimous vote, the Committee
elected Mr. Stephen G. Cecchetti of the
Federal Reserve Bank of New York as
Associate Economist to serve until the
election of his successor at the first
meeting of the Committee after December 31, 1997. It was understood that
in the event of the discontinuance of
his official connection with the Federal Reserve Bank of New York, he
would cease to have any official connection with the Federal Open Market
Committee.
The Manager of the System Open
Market Account reported on developments in foreign exchange markets since
the meeting in early July. There were
no System open market transactions in
foreign currencies during this period,
and thus no vote was required of the
Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
July 2, 1997, through August 18, 1997.
By unanimous vote, the Committee ratified these transactions.
The Committee then turned to a discussion of the economic outlook and the
implementation of monetary policy over
the intermeeting period ahead. A summary of the economic and financial
information available at the time of the
meeting and of the Committee's discussion is provided below, followed by
the domestic policy directive that was
approved by the Committee and issued
to the Federal Reserve Bank of
New York.
The information reviewed at this
meeting suggested that economic activity was expanding moderately. Growth

144 84th Annual Report, 1997
in consumer spending had picked up
after having slowed sharply in early
spring, business purchases of durable
equipment were still on a strong upward
trend, and housing demand seemed to
have been well maintained. The overall
rise in production had been held down
recently by supply disruptions in the
motor vehicles industry, but employment had continued to expand at a
strong pace and the unemployment rate
was at a low level. Increases in labor
compensation had remained moderate
even though labor markets were tight,
and price inflation was still subdued.
Private nonfarm payroll employment
rose sharply in July after a June increase
that was below the average for earlier
months of the year. The step-up in job
growth in July reflected substantially
larger job gains in business services,
retail trade, and the finance, insurance,
and real estate industries. A small
decline in manufacturing jobs roughly
offset slightly higher employment in
construction. The civilian unemployment rate, at 4.8 percent in July,
matched its low for the current economic expansion.
Industrial production increased relatively slowly in July after having
advanced at a fairly brisk pace over the
first half of the year. The July slowdown
reflected a temporary drop in motor
vehicle assemblies partly associated
with work stoppages at a major automotive manufacturer. Outside the motor
vehicles sector, the output of business
equipment and consumer durable goods
rose strongly while the production of
consumer nondurables weakened further. Factory capacity increased a little
more than production in July, and the
utilization of total manufacturing capacity slipped to its lowest level since last
autumn.
Retail sales rose briskly in June and
July after having changed little over the



preceding three months. Sales at automotive dealers rebounded in June and
July following substantial weakness in
earlier months, and expenditures at nondurable goods stores also strengthened.
By contrast, sales at non-automotive
durable goods outlets were unchanged
over June and July. The pickup in
consumer spending occurred against a
backdrop of further strong gains in
incomes and household net worth. In
addition, credit was readily available to
most consumers, although lenders continued to tighten terms for marginal
borrowers. Total private housing starts
were unchanged in July after having
rebounded in June from a May decline.
Data on home sales in recent months
continued to suggest that demand for
single-family housing was still relatively
buoyant.
Real business fixed investment
increased substantially further in the
second quarter, reflecting a broad-based
surge in spending on producers' durable
equipment. Real outlays for office and
computing equipment continued to grow
rapidly as prices of personal computers
and networking equipment remained on
a steep downtrend. Spending for communications equipment grew at a slower
pace in the second quarter, but recent
orders for such equipment pointed to
larger increases in the current quarter.
Nonresidential construction activity was
sluggish in the second quarter. While
available information on construction
contracts suggested little improvement
in building activity in coming months,
prices for commercial real estate had
risen slightly and vacancy rates had
declined.
Nonfarm business inventories increased rapidly in the second quarter,
but there were few signs of inventory
imbalances. In June, the pace of
inventory investment in manufacturing
slowed from the rapid average rate for

Minutes of FOMC Meetings, August
April and May, and the inventoryshipments ratio for the sector was at
a very low level. In wholesale trade,
stocks rose sharply in June after little
net change over the two previous
months. Despite the June increase, the
stock-sales ratio was at the middle of its
relatively narrow range of the past year.
At the retail level, the rise in inventories
in June retraced only part of the May
decline; the inventory-sales ratio for the
sector also was near the middle of its
range for the last year.
The nominal deficit on U.S. trade in
goods and services was slightly smaller
on balance over April and May than the
downward-revised average rate in the
first quarter. Measured against their
first-quarter levels, the value of exported
goods and services grew more than the
value of imports over the April-May
period. The largest increases in exports
were in machinery and aircraft and
parts, while the biggest gains in imports
were in consumer goods, computers, and
capital goods other than computers. The
available information suggested that in
recent months economic activity had
expanded further in all the major foreign industrial countries except Japan.
Growth continued to be robust in Canada and the United Kingdom and apparently remained moderate in France and
Germany. Economic activity in Japan
had slowed after a rise in that country's
consumption tax in April.
Consumer price inflation picked up
slightly in July from the slow pace
in each of the previous four months; a
small decline in energy prices offset a
further increase in food prices. The
index for items other than food and
energy rose in July at the same low rate
recorded for both the first six months of
1997 and the twelve months ended in
July. At the producer level, prices of
finished goods edged down for a seventh consecutive month, reflecting a fur


145

ther drop in food prices. Prices of finished goods other than food and energy
were unchanged over the twelve months
ended in July. At earlier stages of production, producer prices for core intermediate materials rose slightly over the
year ended in July and prices of core
crude materials increased by a larger
amount over the same period. Growth
in hourly compensation of private industry workers picked up somewhat in
the second quarter, but the rise in compensation over the year ended in June
matched the advance over the comparable year-earlier period. Average
hourly earnings of production and nonsupervisory workers were unchanged
in July, and the rise in such earnings
over the twelve months ended in July
also was the same as in the year-earlier
period.
At its meeting on July 1-2, 1997, the
Committee adopted a directive that
called for maintaining the existing
degree of pressure on reserve positions.
Because the Committee continued to see
a potential need for some tightening of
monetary policy to counter rising inflationary pressures, the directive included
a bias toward a possible firming of
reserve conditions during the intermeeting period. The reserve market conditions associated with this directive were
expected to be consistent with moderate
growth of M2 and M3 over coming
months.
Open market operations were directed
throughout the intermeeting period
toward maintaining the existing degree
of pressure on reserve positions, and the
average federal funds rate for the period
was at the Committee's intended level
of 5V2 percent. Most other market
interest rates declined further on balance
over the period in an atmosphere of
greater volatility in financial markets.
The net decline in market rates seemed
to have reflected a judgment by market

146 84th Annual Report, 1997
participants that the outlook for inflation
had improved slightly on balance and
that the likelihood of any tightening of
monetary policy in coming months had
receded a little further. Share prices
in equity markets increased on balance
over the period.
In foreign exchange markets, the
trade-weighted value of the dollar in
terms of the other G-10 currencies rose
significantly on balance over the intermeeting period. The appreciation of the
dollar was uneven against the currencies
of the major foreign industrial countries.
The dollar's substantial increase against
the German mark and other continental
European countries reflected both the
continuing favorable developments in
the U.S. economy and persisting market
concerns that difficulties faced by the
major European countries would lead to
policies that might detract from strength
in the euro. The dollar rose only slightly
against the yen. That currency came
under downward pressure in reaction to
incoming data suggesting a somewhatgreater-than-expected falloff in demand
following the recent increase in the consumption tax, but the release of the June
current account surplus late in the intermeeting period rekindled market concerns about Japanese external balances
and led to some appreciation of the yen.
M2 expanded at a moderate pace over
June and July after having fluctuated
sharply in April and May as a result of
tax-related flows. Data for early August
suggested a somewhat faster rate of M2
growth in association with heavier
inflows to retail money funds; the latter
might have been related to heightened
demand for liquidity as a result of
recently higher volatility in bond and
equity markets. For the year through
July, M2 expanded at a rate near the
upper bound of its range. M3 also fluctuated sharply over April and May and
grew at a relatively moderate rate in



June. M3 surged in July, however, as
heavy volumes of large time deposits
were issued by U.S. branches of foreign
banks to pay down borrowings from
their overseas offices and by domestic
banks to counter the runoff of government deposit accounts; the latter two
sources of funds are not included in M3.
For the year through July, M3 expanded
at a rate appreciably above the upper
bound of its range. Total domestic nonfinancial debt had continued to expand
in recent months at a rate near the
middle of its range.
The staff forecast prepared for this
meeting suggested that the expansion of
the economy would be damped in the
second half of the year by a slowing of
inventory accumulation from the unsustainably brisk pace in the first half of
the year. In 1998, the economy would
expand at a pace in line with the growth
of its estimated potential. Growth of
consumer spending, supported by high
levels of household wealth and projected
further gains in employment and income, was expected to be relatively
brisk over the forecast horizon. Business
spending on equipment and structures
was anticipated to continue to outpace
the overall expansion of the economy,
though the differential would tend to
narrow over time in association with the
gradual diminution of increases in sales
and profits that was expected in conjunction with moderating economic growth.
Housing construction was projected to
drift lower over the forecast horizon.
The staff anticipated that the external
sector would exert some mild restraint
on the expansion of economic activity. With labor compensation gradually
accelerating in the context of higher
resource utilization, core consumer price
inflation was forecast to drift slightly
higher.
The Committee's discussion of current and prospective economic develop-

Minutes of FOMC Meetings, August
ments highlighted statistical and anecdotal evidence of a solid economic
performance, including indications of a
rebound in final demand after a lull during the spring and the persistence of
relatively subdued, and by some measures declining, inflation. Growth in
consumer spending had slowed sharply,
and a surge in inventory accumulation
had accounted for much of the expansion of economic activity in the second
quarter. Looking ahead, the members
did not believe that recent developments had altered the prospect that the
economy would settle into a pattern
of moderate growth approximating its
potential. Such a forecast was subject
to considerable uncertainty, and several members observed that the risks
appeared to be mostly in the direction of
stronger growth in demand. With regard
to the outlook for inflation, widespread
evidence of very tight labor markets was
associated with scattered indications that
the rise in labor compensation might be
accelerating, but overall labor costs had
remained relatively damped and price
inflation restrained. Gains in productivity and muted increases in nonlabor
costs probably also were contributing
to holding producer costs under good
control. Nonetheless, the members
remained concerned about the risks of
rising inflation, especially if somewhatfaster-than-projected growth in economic activity were to occur and add to
pressures on resources in an economy
that already seemed to be operating
close to, or perhaps even above, its sustainable potential.
The uncertain prospects for inventory
investment were a dominant factor in
the outlook for economic activity over
the nearer term. The accumulation of
inventories had been unusually high
in the second quarter according to the
available evidence. There was no broad
sense of an undesired buildup, but the



147

rate of inventory investment would have
to be reined in if an overhang were to be
averted. A concern in this regard was
that the apparent upturn in final demand,
particularly if it proved to be somewhat
stronger than currently expected, and
related business optimism about sales
prospects might well result in a further
buildup of inventories at a relatively
rapid rate. While such a development
was not viewed as the most likely outcome and, indeed, less-than-projected
strength in the inventory sector could
not be ruled out, relatively rapid inventory accumulation in the context of
persisting above-trend growth in final
demand would generate additional pressure on resources and heighten the risks
of accelerating inflation.
With regard to the prospects for final
demand in key sectors of the economy,
members noted that the appreciable
rebound in consumer spending followed
a weak second quarter, and some moderation in the growth of such spending was likely later this year and in
1998. Even so, favorable prospects for
employment and incomes and the large
gains that had occurred in financial
wealth suggested that consumer expenditures were likely to be well maintained over the projection horizon. The
high level of consumer confidence
reported by consumer surveys was
another supporting factor in this favorable outlook,
In the area of business fixed investment, a strong upward trend in outlays
for new equipment was thought likely to
persist, notably in the computer-related
and the telecommunications industries.
Anecdotal reports also pointed to appreciable strength in commercial construction activity, including office structures,
hotels, and warehouses in various parts
of the country. Indeed, in some areas
construction activity was said to be limited only by shortages of qualified labor.

148 84th Annual Report, 1997
Positive factors in the outlook for business investment included the persistence
of a high level of profits, an accommodative financial climate, and the rapid
obsolescence of high-tech equipment.
There were, nonetheless, indications of
some moderation in commercial construction activity in a number of areas,
including reports of developing overcapacity of retail space in shopping
centers. Spending for basic industrial
equipment also was likely to soften,
given moderating growth in overall final
demand in line with current forecasts.
Housing activity continued to display
considerable vigor in many parts of the
nation as evidenced by available statistics and anecdotal reports. The affordability of housing and the very large
increases that had occurred in stock market wealth clearly were supportive factors. Concurrently, however, there were
indications of slowing in residential
building activity in several areas. On
balance, some moderation in housing
construction appeared likely over the
projection horizon in keeping with
longer-term population and other trends
affecting such construction.
In the Committee's discussion of the
prospects for inflation, members commented that a number of factors could
be cited to explain the persistence of
relatively subdued inflation this year
despite high levels of resource use.
Among those factors were the appreciation of the dollar and its effects on prices
of imports and competing domestic
products, a significant decline in world
oil prices, the relatively sluggish performance of many foreign economies that
had tended to moderate prices of products traded in world markets, and relatively large grain harvests in the United
States that had curbed pressures on food
prices. However, the underlying reasons
for the favorable price trends were not
entirely clear. Labor costs were still ris


ing appreciably less than would have
been expected on the basis of past experience under similarly tight labor market
conditions. Explanations tended to focus
on the concerns about job security felt
by many workers, the muted rise in the
costs of worker benefits, notably for
health care, and the increased use of
innovative and highly targeted methods
of compensation. With regard to the
market pricing of goods, businesses
tended to cite highly competitive conditions across the nation that made it very
difficult to raise prices and gave impetus to efforts to improve productivity.
Indeed, the available evidence suggested
that the profits of business concerns generally had continued to increase in the
second quarter, implying that productivity had been rising at a pace that
exceeded published estimates by a significant margin.
Even though inflation had not accelerated, some signs were beginning to
emerge that wages and other labor costs
might be experiencing increasing pressure. These included some limited evidence that job security concerns might
be diminishing and multiplying anecdotal reports of a less benign outlook for
health care costs. Some members commented that the outcome of the recent
labor negotiations involving a very large
package delivery firm might well be a
harbinger of more militant labor negotiating attitudes. Against this background,
members expressed concern that a further increase in labor utilization rates
could put substantial upward pressures
on wages that eventually would work
their way through to prices.
In the Committee's discussion of policy for the intermeeting period ahead,
all the members endorsed a proposal to
maintain an unchanged policy stance.
Underlying economic conditions and the
outlook for economic activity and inflation had changed little in recent months.

Minutes of FOMC Meetings, August
The most likely outcome of the current
policy stance was growth near potential
and some pickup in inflation as the
effects of special factors holding it down
abated. For the present, monetary policy
appeared to be appropriately positioned
to foster the Committee's objectives of
resisting an intensification of inflationary pressures while supporting a fully
employed economy. The level of real
short-term interest rates was relatively
high by historical standards and provided some assurance that the current
stance of policy would not accommodate a significant increase in underlying
inflationary pressures. Nonetheless, the
members remained concerned about the
outlook for inflation. Although some
decline in inflation could not be ruled
out, persistence of the current degree of
tightness in labor markets, consistent
with the economy growing at a pace
near its potential, could at some point
begin to put more pressure on costs
and prices, and growth somewhat above
potential, which some members saw as a
distinct possibility, would be even more
likely to produce that result. While there
were no current indications that inflation
might be accelerating and no policy
move was called for at this time, the
members saw a need for continuing
vigilance. As at earlier meetings, a number of them expressed the view that an
anticipatory policy move to counter
intensifying inflationary pressures likely
would be needed at some point.
In the Committee's discussion of possible adjustments to policy during the
intermeeting period, members agreed
that the retention of an asymmetric
directive toward tightening was consistent with their view that the risks
remained biased toward a rise in inflation. Accordingly, while they did not
attach a high probability to the prospect
that the incoming information would
warrant a tightening move during the



149

intermeeting period, they continued to
view the next policy move as more
likely to be in the direction of some
firming than toward easing.
The members reviewed proposals for
rewording the operational paragraph
of the directive for the purpose of updating and clarifying the description of
the Committee's instructions to the
Manager of the System Open Market
Account and to conform the directive
wording with current public announcement practices regarding the Committee's policy decisions. In particular, the
directive would in the future include
specific reference to the federal funds
rate that the Committee judged to be
consistent with the stance of monetary
policy. The Committee also modified the
present sentence relating to the intermeeting bias in the directive to recognize that changes in the stance of policy
are now expressed in terms of the federal funds rate. These changes were not
intended to alter the substance of the
directive or the Committee's operating
procedures.
At the conclusion of the Committee's
discussion, all the members expressed
their support of a directive that called
for maintaining conditions in reserve
markets that were consistent with an
unchanged federal funds rate of about
5Vi percent. All the members also
agreed on the desirability of retaining a
bias in the directive toward the possible
firming of reserve conditions and a
higher federal funds rate during the
intermeeting period. Accordingly, in the
context of the Committee's long-run
objectives for price stability and sustainable economic growth, and giving careful consideration to economic, financial,
and monetary developments, the Committee decided that a somewhat higher
federal funds rate would be acceptable
or a slightly lower federal funds rate
might be acceptable during the inter-

150 84th Annual Report, 1997
meeting period. The reserve conditions
contemplated at this meeting were
expected to be consistent with moderate
expansion in M2 and M3 over coming
months.
The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The information reviewed at this meeting
suggests that economic activity is expanding
at a moderate pace. In labor markets, hiring
remained robust at midyear, and the civilian
unemployment rate, at 4.8 percent in July,
matched its low for the current economic
expansion. Industrial production increased
relatively slowly in July, owing in part to a
temporary drop in motor vehicle assemblies.
Retail sales rose briskly in June and July
after having changed little over the preceding three months. Housing starts rebounded
in June and July after having weakened in
May. Business fixed investment increased
substantially further in the second quarter
and available indicators point to further sizable gains in the current quarter. The nominal deficit on U.S. trade in goods and services narrowed slightly on balance over
April and May from its downward-revised
average rate in the first quarter. Price inflation has remained subdued and increases in
labor compensation have been moderate.
Market interest rates generally have
declined somewhat further since the start
of the Committee meeting on July 1-2,
1997. Share prices in equity markets have
increased on balance. In foreign exchange
markets, the trade-weighted value of the dollar in terms of the other G-10 currencies rose
significantly on balance over the intermeeting period.
After fluctuating sharply from April to
May, growth of M2 was at a moderate pace
over June and July and that of M3 picked
up to a relatively rapid rate. For the year
through July, M2 expanded at a rate near the
upper bound of its range for the year and M3
at a rate appreciably above the upper bound
of its range. Total domestic nonfinancial debt
has continued to expand in recent months at
a rate near the middle of its range.



The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at its meeting in July reaffirmed the ranges it had established in February for growth of M2 and M3
of 1 to 5 percent and 2 to 6 percent respectively, measured from the fourth quarter of
1996 to the fourth quarter of 1997. The range
for growth of total domestic nonfinancial
debt was maintained at 3 to 7 percent for the
year. For 1998, the Committee agreed on a
tentative basis to set the same ranges as in
1997 for growth of the monetary aggregates
and debt, measured from the fourth quarter
of 1997 to the fourth quarter of 1998. The
behavior of the monetary aggregates will
continue to be evaluated in the light of
progress toward price level stability, movements in their velocities, and developments
in the economy and financial markets.
In the implementation of policy for the
immediate future, the Committee seeks conditions in reserve markets consistent with
maintaining the federal funds rate at an average of around 5Vi percent. In the context of
the Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration to
economic, financial, and monetary developments, a somewhat higher federal funds rate
would or a slightly lower federal funds rate
might be acceptable in the intermeeting
period. The contemplated reserve conditions
are expected to be consistent with moderate
growth in M2 and M3 over coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips and
Rivlin. Votes against this action: None.

Rules Regarding Availability
of Information
By notation vote completed on August
20, 1997, the Committee approved for
public comment a revision of its Rules
Regarding the Availability of Information. The purpose of the revision is to
bring the rules into conformance with
the Electronic Freedom of Information

Minutes of FOMC Meetings, September 151
Act of 1996 (EFOIA), which amends
the Freedom of Information Act (FOIA).
The revision does not incorporate any
substantive changes in the rules other
than to conform them to the requirements of EFOIA and to update and
clarify the Committee's procedures for
processing FOIA requests. After review
of the comments that are received from
the public, the Committee will issue the
rules in final form on or before October 2, 1997.
It was agreed that the next meeting of
the Committee would be held on Tuesday, September 30, 1997.
The meeting adjourned at 12:40 p.m.
Donald L. Kohn
Secretary
Meeting Held on
September 30, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Tuesday, September 30, 1997, at
9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal
Reserve Banks of Philadelphia,
Dallas, and Minneapolis
respectively



Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Messrs. Cecchetti, Goodfriend,
Eisenbeis, Hunter, Lindsey,
Promisel, Siegman, Slifman,
and Stockton, Associate
Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Messrs. Alexander, Hooper, and
Ms. Johnson, Associate Directors,
Division of International Finance,
Board of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
Mr. Varvel, First Vice President,
Federal Reserve Bank of
Richmond
Ms. Browne, Messrs. Dewald, Hakkio,
Ms. Krieger, Messrs. Lang,
Rolnick, Rosenblum, and
Sniderman, Senior Vice
Presidents, Federal Reserve Banks
of Boston, St. Louis, Kansas City,
New York, Philadelphia,
Minneapolis, Dallas, and
Cleveland respectively
Mr. Judd, Vice President, Federal
Reserve Bank of San Francisco

152 84th Annual Report, 1997
By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on August 19, 1997,
were approved.
The Manager of the System Open
Market Account reported on developments in foreign exchange and international financial markets in the period
since the previous meeting on August
19, 1997. There were no open market
transactions in foreign currencies for
System account since that meeting, and
thus no vote was required of the
Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
August 19, 1997, through September 29,
1997. By unanimous vote, the Committee ratified these transactions.
The Committee then turned to a discussion of the economic outlook and
the conduct of monetary policy over the
intermeeting period ahead. A summary of the economic and financial
information available at the time of the
meeting and of the Committee's discussion is provided below, followed
by the domestic policy directive that
was approved by the Committee and
issued to the Federal Reserve Bank of
New York.
The information reviewed at this
meeting suggested that economic activity had expanded briskly further in the
third quarter. The expansion was paced
by robust growth in consumer spending and substantial further increases
in business investment expenditures.
Housing demand seemed to have been
well maintained over the summer.
Employment and production had risen
considerably further since midyear.
Despite widespread indications of tight
labor markets, increases in labor
compensation had been moderate in



recent months, and price inflation had
remained subdued.
Private nonfarm payroll employment
rose substantially over July and August
despite the retarding effects of a work
stoppage at a major package shipping
firm. Aggregate weekly hours of production or nonsupervisory workers were
considerably above their second-quarter
average over the two months. The civilian unemployment rate, at 4.9 percent in
August, was marginally above its low
for the current economic expansion.
Industrial production increased considerably in July and August, extending
a relatively brisk advance over the first
half of the year. The output of business
equipment rose strongly over the two
months, with sizable gains in all major
categories, and the output of consumer
nondurables turned up after having displayed some weakness in earlier months
of the year. The production of consumer
durables also increased on balance over
the two months. After having risen
somewhat in other recent months, the
utilization of total manufacturing capacity was up appreciably in August, reaching its highest level since the spring of
1995.
Retail sales were up substantially over
the summer after having edged lower
during the spring. The upturn in recent
months included a rebound in sales
at automotive dealers following some
weakness in earlier months. Sales at
non-auto durable and at nondurable
goods stores also strengthened after
having declined on balance during the
second quarter. The pickup in consumer
spending occurred against a backdrop
of further strong gains in incomes and
household net worth that, according to
recent surveys, had fostered high levels
of consumer confidence. In addition,
credit continued to be readily available
to most consumers. Total private housing starts and building permits declined

Minutes of FOMC Meetings, September
in August to levels somewhat below
their averages in earlier months of the
year, but data on overall home sales
and builder ratings of new home sales
continued to suggest that demand for
single-family housing was still relatively
buoyant.
Real business fixed investment had
remained on a steep uptrend since midyear, with exceptional ongoing demand
for computers and communications
equipment and relatively robust demand
in other categories of business equipment as well. Nonresidential construction activity appeared to have rebounded
somewhat in late spring and early summer after having declined moderately
earlier in the year. While new construction contracts displayed little trend,
favorable conditions for nonresidential
construction were suggested by low
vacancy rates, rising prices for commercial real estate, and a widespread availability of financing.
The accumulation of nonfarm business inventories slowed substantially in
July (latest data) from its average pace
in the second quarter. Inventory investment in manufacturing was only a bit
below its pace in the second quarter, but
the inventory-shipments ratio for the
sector remained at a very low level. In
wholesale trade, stocks fell after a sharp
buildup in June, and the stock-sales
ratio for this sector was at the middle of
its relatively low range for the past year.
At the retail level, a rise in inventories
in July about matched that in June and
the inventory-sales ratio for the sector
also was near the middle of its range for
the past year.
The nominal deficit on U.S. trade in
goods and services widened substantially in July, reflecting both a decline in
exports and a rise in imports. The lower
exports of goods and services were associated with decreases in most trade categories and left total exports slightly



153

below their relatively high level of the
second quarter. The July increase in
imports also was spread among nearly
all trade categories and brought total
imports of goods and services to a level
somewhat above the average for the
second quarter. The available information suggested that economic activity
expanded further in recent months in all
the major foreign industrial countries
except Japan. Growth remained relatively robust in Canada and the United
Kingdom, and activity apparently picked
up in France and Germany after having
been sluggish early in the year. Economic activity in Japan declined appreciably in the second quarter, and more
recent information provided little clear
evidence of subsequent strength.
Price inflation had remained subdued.
Consumer price inflation picked up
slightly in July and August from a slow
rate of increase in each of the previous
four months; reduced but still appreciable increases in food prices contributed to the larger advance in both
months, and a sizable rise in energy
prices lifted the index in August. At the
producer level, the price index for finished goods rose moderately in August
after having fallen for seven consecutive
months; the August rise largely reflected
a jump in energy prices. Over the twelve
months ended in August, consumer
prices were up considerably less than
in the previous twelve months, while
producer prices of finished goods were
down slightly after having increased
moderately in the previous twelve
months. The behavior of these broad
measures of inflation excluding the
effects of food and energy prices also
was favorable over the year ended
in August, albeit slightly less so. Average hourly earnings of production and
nonsupervisory workers picked up in
August from a much reduced pace in
July; the rise in such earnings over the

154 84th Annual Report, 1997
twelve months ended in July was
slightly above that in the previous
twelve months.
At its meeting on August 19, 1997,
the Committee adopted a directive that
called for maintaining conditions in
reserve markets that were consistent
with an unchanged federal funds rate
averaging about 5Vi percent. The directive included a bias toward the possible
firming of reserve conditions and a
somewhat higher federal funds rate to
reflect a consensus among the members
that the economic risks remained biased
toward higher inflation. Although the
members did not see a high probability
that likely developments would warrant
a tightening of policy during the intermeeting interval, they continued to
anticipate that the next policy move was
more likely to be in the direction of
some firming than toward some easing.
The reserve market conditions associated with this directive were expected to
be consistent with some slowing in the
growth of M2 and M3 to more moderate
rates over coming months.
Open market operations were directed
throughout the intermeeting period
toward maintaining the existing degree
of pressure on reserve positions, and the
federal funds rate averaged just slightly
above the Committee's intended level of
5Vi percent. Most other interest rates in
short-term markets were little changed
over the period. Rates on longer-term
obligations were down somewhat on
balance, apparently reflecting a reassessment of the outlook for inflation by
some market participants in the light
of unexpectedly low inflation and other
statistics released during the latter part
of the period. The downward movement
in long-term interest rates resulted in
some further flattening of the slope of
the yield curve and appeared consistent
with an interpretation that market participants saw little likelihood of any



tightening of monetary policy in coming months. Share prices in equity markets continued to display considerable
volatility but increased appreciably further on balance over the intermeeting
interval.
In foreign exchange markets, the dollar experienced mixed changes in relation to major foreign currencies, largely
reflecting diverging economic developments abroad. On balance, the dollar's
trade-weighted value in terms of the
other G-10 currencies declined somewhat over the intermeeting period. The
dollar was down considerably against
the mark as data suggesting a pickup in
German economic activity and inflation
led to market speculation concerning a
possible increase in short-term German
interest rates. The dollar also registered
sizable declines over the period against
a number of other European currencies.
On the other hand, the dollar rose appreciably in relation to the Japanese yen,
which came under selling pressure
against the background of continuing
sluggish economic conditions in Japan,
persistent problems in its financial system, and concerns about the potential
effect on Japan of the recent depreciations of Southeast Asian currencies. The
dollar also strengthened somewhat in
terms of the British pound, in part as a
result of some indications that economic
activity in the United Kingdom was not
as strong as expected and the sizable
declines that had occurred recently in
that nation's long-term interest rates.
M2 expanded at a rapid pace in
August and continued to grow at a still
robust though diminished rate in September according to the limited data
available for that month. The strength of
M2 and also that of M3 was related at
least in part to changes in the allocation
of financial assets and liabilities rather
than to the growth in spending; in particular, the volatility in the stock market

Minutes of FOMC Meetings, September
evidently fostered a redirection of funds
to M2 assets, among others, and
included heavy inflows to the money
market funds component of M2. For the
year through August, M2 rose at a rate
somewhat above the upper bound of
the Committee's range. M3 grew at an
exceptionally rapid rate over the summer months, with only few signs of
moderation in September according to
the partial data available for that month.
Apart from the strength in its M2 components, the increase in this aggregate
reflected bank substitution of large time
deposits for foreign borrowings to
finance credit growth and also reflected
substantial inflows to institution-only
money funds. For the year through
August, M3 expanded at a rate well
above the upper bound of its range.
Total domestic nonfinancial debt continued to increase at a relatively moderate
rate in recent months.
The staff forecast prepared for this
meeting suggested that the economy
would expand at a pace significantly
above that anticipated earlier for the second half of the year and the early part of
1998, but economic growth was likely
to moderate appreciably to a more sustainable rate later. In the near term, business fixed investment appeared to be
providing surprisingly strong impetus
to income growth, and rising levels of
wealth were stimulating robust consumer demand. With sales so strong,
the downward adjustment in inventory
investment that had been anticipated in
the previous staff forecast seemed likely
to occur more gradually. The projected
strength in aggregate demand appeared
likely to intensify pressures on resources
and lead to some pickup in inflation.
Less accommodative financial market
conditions were anticipated to damp
these tendencies over time.
In the Committee's discussion of current and prospective economic develop


155

ments, members commented on the continued remarkable performance of the
economy. Strength in consumer spending and further acceleration in capital
investment sparked faster-than-expected
growth in the third quarter, and relatively brisk economic expansion seemed
to be in prospect for a period ahead in
the context of very positive business and
consumer sentiment, strong demands for
capital goods, and favorable financial
conditions. The rate of expansion might
subsequently be expected to slow as
stocks of business capital and consumer
durable goods built up relative to sales
and incomes, inventory investment
moderated somewhat, and the recent
strength of the dollar began to exert a
drag on exports. It was an open question, however, as to whether these influences would be sufficient to slow the
growth of demands for goods and services to a more sustainable pace, and
many members suggested that the risks
to the forecast were on the side of
increases in final demands that would
press more intensely against the available resources. Despite high levels of
resource utilization, inflation and inflationary expectations had remained subdued to date, reflecting to some extent
special influences like the rise in the
foreign exchange value of the dollar.
Moreover, sizable gains in productivity
combined with moderate increases in
wages and salaries seemed to have
contributed to keeping unit labor costs
and prices under control. However, the
growing tightness in labor markets
in many parts of the country was
being accompanied by some signs of
rising pressures on labor compensation,
including the use of special bonuses and
other innovative compensation initiatives that are not included in the usual
statistical measures of labor costs. In
the circumstances, members saw a risk
of added wage and price inflation if

156 84th Annual Report, 1997
economic activity did not slow to a
more sustainable pace consistent at a
minimum with no further appreciable
increase in labor utilization rates.
With regard to the prospects for final
demand in key sectors, members took
note of the rebound in consumer expenditures after a sluggish second quarter.
Solid gains in employment, incomes,
and household net worth were seen as
sustaining further robust expansion in
consumer spending. In addition, members anticipated that continued further
rapid expansion in investment expenditures by business firms for equipment
and structures would provide strong
underlying support for the economic
expansion. High rates of return on
investments in equipment, particularly
for computers and communications
equipment where prices were falling
rapidly, coupled with ready financing
from both internal cash flows and external sources were inducing firms to
undertake large investment programs.
Such investments would expand capacity, improve productivity, and lower
costs of production. Anecdotal reports
suggested a mixed picture in nonresidential real estate markets. In much
of the country, commercial and office
vacancies were declining from already
low levels and lease rates were rising.
Shortages of construction workers were
said to be holding back construction
in some areas, but in other parts of the
country there were indications of some
moderation in construction activity and
of emerging overcapacity in some markets. The ready availability of financing
was a supportive factor in the outlook
for nonresidential construction.
A gradual decline in housing activity
was expected to exert only mild restraint
on the increase of economic activity.
Solid job and income growth, the high
level of household wealth, and the low
cash flow burden of homeownership



would continue to provide good support
for housing demand. In this regard,
recent statistical and anecdotal information indicated that home sales were
holding up well across the country,
although higher-priced homes appeared
to be selling relatively slowly in some
areas.
In the Committee's discussion of the
prospects for inflation, members discussed the relative absence of price pressures in an environment of increasingly
tight labor markets across the country
and rising levels of manufacturing
capacity utilization. In labor markets,
costs were increasing much less than
would have been expected on the basis
of previous experience under similarly
tight conditions. Among the possible
explanations for this outcome were persisting concerns about job security; the
muted rise in worker benefits, notably
health care; and the increasing use by
employers of more flexible and innovative means to attract and retain workers that were in high demand. Moreover,
it was suggested that, at least in manufacturing, productivity had risen unusually rapidly of late, allowing corporations to hold the line on prices despite
increases in labor costs. While the
underlying reasons for the favorable
inflation trends were not entirely clear,
the members noted that, in addition to
subdued increases in labor costs, the
appreciation of the dollar and the relatively sluggish performance of many
foreign industrial economies seemed
to be contributing to the better-thanexpected inflation performance by holding down prices in world commodity
markets and prices of imported goods
more generally. These developments
also added to competitive pressures on
businesses, which together with customer resistance were making it very
difficult for firms to raise prices to
reflect their higher costs.

Minutes of FOMC Meetings, September 157
The members commented that while
few signs of rising price inflation had
surfaced, the widespread tautness of
labor markets and the emergence of
scattered indications of increased pressure on wages and other labor costs
were cause for concern. Anecdotal
reports suggested that increases in health
care costs were likely to turn up, and
there were indications that fears about
job security might be diminishing and
that workers were becoming less reluctant to leave their jobs before finding
better ones. In addition, businesses were
reporting increasing difficulty in hiring
and retaining qualified workers. Growth
in labor demand had been outpacing
sustainable increases in labor supply;
these reports suggested that the risk of
an acceleration in labor compensation
was rising.
In the Committee's discussion of policy for the intermeeting period ahead,
all the members endorsed a proposal to
maintain an unchanged policy stance,
but several also indicated that economic
developments could well require a tightening of policy in the relatively near
future. Members observed in this regard
that some factors that had contributed
to a currently subdued rate of inflation,
notably the appreciation of the dollar,
damped wage demands, and relatively
limited increases in the cost of health
benefits, were not likely to continue to
exert the same restraining influence.
Moreover, final demands had been unexpectedly strong, with economic activity
and the associated demand for labor
expanding at an unsustainable pace for
some time, and it was unclear whether
without-policy action overall demands
would moderate sufficiently to avoid
increasing pressures on resources. In
the circumstances, the risks to the economy appeared to be strongly tilted
toward rising inflation whose emergence would in turn threaten the sus


tainability of the expansion. Several
members emphasized in this regard that
a tightening move could be most
effective if it were implemented preemptively, before inflation had time to
gather upward momentum and become
embedded in financial asset prices and
in business and consumer decisionmaking.
There were, nonetheless, a number of
reasons for delaying a tightening of policy. The behavior of inflation had been
unexpectedly benign for an extended
period of time for reasons that were not
fully understood. Forecasts of an upturn
in inflation were therefore subject to
a considerable degree of uncertainty,
and the expansion of economic activity
could still slow to a noninflationary
pace. Members also commented that a
policy tightening was not anticipated at
this time and such an action might therefore have unintended adverse effects on
financial markets. Members recognized
that from the standpoint of the level of
real short-term interest rates, monetary
policy could already be deemed to be
fairly restrictive. Several noted, however, that credit from a wide variety of
lenders appeared to be amply available
in financial markets on favorable terms,
perhaps overly so in present circumstances, and some also noted that the
strength in the broad measures of money
in recent months suggested that policy
was not restraining liquidity or financial
conditions more generally. In the course
of the Committee's discussion of these
diverging considerations, a consensus
emerged for maintaining a steady policy
course at this time, but members also
expressed the need for a heightened
degree of vigilance as they continued to
assess ongoing developments for signs
that inflation might intensify in the
future.
In their discussion of possible adjustments to policy during the intermeeting

158 84th Annual Report, 1997
period, all the members indicated that
they wanted to retain in the operating
paragraph of the directive the existing
asymmetry toward restraint that was initially adopted at the May meeting. Such
a directive was consistent with their
view that the risks continued to be
biased toward rising inflation and indeed
with the view of most members that
those risks might have increased.
Accordingly, while the probability that
the incoming information would warrant a tightening move during the intermeeting period might not be high, the
members continued to view the next
policy move as more likely to be in the
direction of some firming than toward
easing.
At the conclusion of the Committee's
discussion, all the members supported a
directive that called for maintaining conditions in reserve markets that were consistent with an unchanged federal funds
rate of about 5Vi percent. All the members also agreed on the desirability of
retaining a bias in the directive toward
the possible firming of reserve conditions and a higher federal funds rate
during the intermeeting period. Accordingly, in the context of the Committee's
long-run objectives for price stability
and sustainable economic growth, and
giving careful consideration to economic, financial, and monetary developments, the Committee decided that
a somewhat higher federal funds rate
would be acceptable or a slightly lower
federal funds rate might be acceptable
during the intermeeting period. The
reserve conditions contemplated at this
meeting were expected to be consistent with some moderation in the expansion in M2 and M3 over coming
months.
The Federal Reserve Bank of New
York was authorized and directed, until



instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The information reviewed at this meeting
suggests that growth of economic activity
remains brisk. In labor markets, hiring continued robust over the summer months and
the civilian unemployment rate, at 4.9 percent in August, remained near its low for
the current economic expansion. Industrial
production increased considerably further
in July and August. Retail sales have risen
sharply over recent months after a pause
during the spring. Housing starts declined
in July and August, but home sales have
been strong. Business fixed investment has
increased substantially further since midyear
and available indicators point to further sizable gains in coming months. After narrowing somewhat in the second quarter, the
nominal deficit on U.S. trade in goods and
services widened substantially in July. Inventory investment in July was well below the
average pace in prior months of 1997. Price
inflation has remained subdued and increases
in labor compensation have been moderate
in recent months.
Most market interest rates are about
unchanged on balance since the day before
the Committee meeting on August 19,
1997. Share prices in equity markets have
increased considerably over the period, with
some stock price indexes reaching new
highs. In foreign exchange markets, the
trade-weighted value of the dollar in terms
of the other G-10 currencies declined somewhat on balance over the intermeeting
period.
Growth of M2 appears to have moderated
somewhat in September from a very rapid
pace in August, while expansion of M3
remained very strong in both months. For the
year through August, M2 expanded at a rate
somewhat above the upper bound of its range
for the year and M3 at a rate substantially
above the upper bound of its range. Total
domestic nonfinancial debt has continued to
expand in recent months at a pace near the
middle of its range.
The Federal Open Market Committee
seeks monetary and financial conditions that

Minutes of FOMC Meetings, November
will foster price stability and promote sustainable growth in output. In furtherance
of these objectives, the Committee at its
meeting in July reaffirmed the ranges it had
established in February for growth of M2
and M3 of 1 to 5 percent and 2 to 6 percent
respectively, measured from the fourth
quarter of 1996 to the fourth quarter of 1997.
The range for growth of total domestic nonfinancial debt was maintained at 3 to 7 percent for the year. For 1998, the Committee
agreed on a tentative basis to set the same
ranges as in 1997 for growth of the monetary aggregates and debt, measured from
the fourth quarter of 1997 to the fourth
quarter of 1998. The behavior of the monetary aggregates will continue to be evaluated
in the light of progress toward price level
stability, movements in their velocities, and
developments in the economy and financial
markets.
In the implementation of policy for the
immediate future, the Committee seeks
conditions in reserve markets consistent
with maintaining the federal funds rate
at an average of around 5!/2 percent. In
the context of the Committee's long-run
objectives for price stability and sustainable economic growth, and giving careful
consideration to economic, financial, and
monetary developments, a somewhat higher
federal funds rate would or a slightly lower
federal funds rate might be acceptable
in the intermeeting period. The contemplated reserve conditions are expected to
be consistent with some moderation in
the growth of M2 and M3 over coming
months.
Votes for this action: Messrs. Greenspan,
McDonough, Broaddus, Guynn, Kelley,
Meyer, Moskow, Parry, Mses. Phillips
and Rivlin. Votes against this action:
None.

It was agreed that the next meeting
of the Committee would be held on
Wednesday, November 12, 1997.
The meeting adjourned at 12:45 p.m.




Donald L. Kohn
Secretary

159

Meeting Held on
November 12, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Wednesday, November 12, 1997, at
9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Ferguson
Mr. Gramlich
Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, Melzer, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas, and
Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Cecchetti, Goodfriend,
Eisenbeis, Lindsey, Promisel,
Slifman, and Stockton, Associate
Economists
Mr. Fisher, Manager, System Open
Market Account

160 84th Annual Report, 1997
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively,
Board of Governors
Messrs. Alexander, Hooper, and
Ms. Johnson, Associate Directors,
Division of International Finance,
Board of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors
Ms. Pianalto and Mr. Rives, First
Vice Presidents, Federal Reserve
Banks of Cleveland and St. Louis
respectively
Messrs. Dewald, Hakkio, Rolnick,
and Sniderman, Senior Vice
Presidents, Federal Reserve Banks
of St. Louis, Kansas City,
Minneapolis, and Cleveland
respectively
Messrs. Bentley, Meyer, and
Rosengren, Vice Presidents,
Federal Reserve Banks of
New York, Philadelphia, and
Boston respectively
Ms. Gonczy and Mr. Koenig, Assistant
Vice Presidents, Federal Reserve
Banks of Chicago and Dallas
respectively
Mr. Trehan, Research Officer, Federal
Reserve Bank of San Francisco

By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on September 30, 1997,
were approved.
The Manager of the System Open
Market Account reported on developments in foreign exchange and international financial markets in the period
since the previous meeting on Septem


ber 30, 1997. There were no System
open market transactions in foreign currencies during this period, and thus no
vote was required of the Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
September 30, 1997, through November 11, 1997. By unanimous vote, the
Committee ratified these transactions.
By unanimous vote, paragraph l.A of
the Authorization for Domestic Open
Market Operations was amended to raise
from $8 billion to $12 billion the dollar
limit on intermeeting changes in System
Account holdings of U.S. government
and federal agency securities for the
intermeeting period through December 16, 1997. The Manager advised the
Committee that, as was usually the case
at this time of year, the anticipated
pattern of reserve needs was such that
he might want to add considerably to
the System's outright holdings of U.S.
government securities over the coming
intermeeting period. By unanimous
notation vote, the Committee subsequently approved a further increase in
the intermeeting leeway to $17 billion.
The increase, effective December 8, was
made on the recommendation of the
Manager who saw the need for substantially more outright purchases of Treasury obligations than anticipated earlier,
largely in light of much greater than
projected growth in currency.
With Mr. Broaddus dissenting, the
Committee authorized the renewal for
an additional one-year period of the
System's reciprocal currency ("swap")
arrangements with foreign central banks
and the Bank for International Settlements. The amounts and current maturity dates of the arrangements approved
for renewal are shown in the table that
follows:

Minutes of FOMC Meetings, November

Foreign bank

Austrian National
Bank
Bank of England
Bank of Japan
Bank of Norway
Bank of Sweden
Swiss National Bank .
Bank for International
Settlements:
Swiss francs
Other authorized
European
currencies . . . .
Bank of Mexico
Bank of Canada
National Bank of
Belgium
National Bank of
Denmark
Bank of France
German Federal
Bank
Bank of Italy
Netherlands Bank ...

Amount
of
arrangement
(millions
of
dollars
equivalent)
250
3,000
5,000
250
300
4,000

Term
(months)

Maturity
date

12
i

12/04/97
12/04/97
12/04/97
12/04/97
12/04/97
12/04/97

600

12/04/97

1,250
3,000
2,000

12/04/97
12/12/97
12/15/97

1,000

12/18/97

250
2,000

12/28/97
12/28/97

6,000
3,000
500

}
12

12/28/97
12/28/97
12/28/97

Mr. Broaddus dissented because he
believed that the Federal Reserve's participation in foreign exchange market
intervention compromises its ability
to conduct monetary policy effectively.
Because sterilized intervention cannot
have sustained effects in the absence
of conforming monetary policy actions,
Federal Reserve participation in foreign
exchange operations risks one of two
undesirable outcomes. First, the independence of monetary policy is jeopardized if the System adjusts its policy
actions to support short-term foreign
exchange objectives set by the Treasury.
Alternatively, the credibility of monetary policy is damaged if the System
does not follow interventions with compatible policy actions, the interventions
consequently fail to achieve their objectives, and the System is associated in the
mind of the public with the failed operations. In these circumstances, he did not



161

view renewal of the existing swap lines
as desirable because they are used primarily to facilitate market intervention.
The Committee then turned to a discussion of the economic outlook and the
conduct of monetary policy over the
intermeeting period ahead.
The information reviewed at the
meeting suggested that economic activity continued to grow rapidly in recent
months. The further advance reflected
a surge in business fixed investment
and consumer spending, while housing
demand remained at a high level. Significant slowing in exports and inventory investment provided only a partial
offset to the strength. Accordingly,
production and employment recorded
further large gains. Price inflation remained subdued despite tight labor markets and a pickup in the pace of labor
compensation.
Nonfarm payroll employment rose
substantially further in October. Manufacturing payrolls recorded their largest
rise in the current economic expansion,
and aggregate weekly hours worked
increased significantly; most of the gain
in payrolls occurred at durable goods
establishments. Hiring remained robust
in the service-producing sector, led by
sizable increases at computer services
and engineering and management services firms. The civilian unemployment
rate fell to 4.7 percent in October, its
low for the current expansion.
Industrial production registered a
large advance in the third quarter and
apparently remained strong in October.
A third-quarter surge in the manufacture
of durable goods, notably of motor vehicles, aircraft, and information processing equipment, more than offset weak
expansion in the output of nondurable
goods and a decline in mining activity.
Although the step-up in manufacturing
production boosted further the rate
of utilization of manufacturing capacity,

162 84th Annual Report, 1997
the latter was somewhat below its most
recent peak in January 1995.
Retail sales posted a sharp rise in the
third quarter, though growth in sales of
both durable and nondurable goods
moderated during the quarter. Consumer
spending on services also continued
to increase at a relatively brisk pace.
Growth in such spending was underpinned by continuing substantial gains
in incomes, the cumulative increase
in household net worth over the past
several years, and the ready availability
of credit to most consumers. Housing
demand remained strong in the third
quarter in association with moderate
interest rates and very positive consumer
assessments of homebuying conditions.
Sales of both new and existing homes
increased a bit, and housing starts were
little changed in the third quarter from
the high level recorded during the first
half of the year.
Business fixed investment increased
at an unusually rapid rate in the third
quarter. The rise in outlays was spread
across all categories of producers' durable equipment, but the largest gains
were in office, computing, and communications equipment. Available data
on new orders pointed to further broadbased and robust expansion in equipment spending in coming months.
Nonresidential construction grew at a
moderate pace in the latest quarter
despite a decline in September. Available information suggested that construction would trend upward at a modest rate in coming months.
Business inventory investment appeared to have moderated substantially
in the third quarter from the rapid rate
of the previous quarter, and on balance
stocks were at relatively low levels
in relation to sales. In manufacturing,
stocks rose somewhat further in September, but the inventory-to-shipments ratio
for the sector declined to the low end



of its range for the past twelve months.
Wholesale inventories posted another
sizable advance in September; the
inventory-sales ratio for this sector was
just above the high end of its range for
the past year. Retail stocks fell in August
(latest available data), more than reversing their July increase. The inventorysales ratio for the sector also was at the
low end of its range for the past year.
The nominal deficit on U.S. trade in
goods and services widened substantially on balance over July and August
from its rate in the second quarter.
Exports of goods and services changed
little on net in the July-August period,
but imports rose considerably; the largest increases in imports were for aircraft
and automotive products, though sizable
gains also were recorded for computers,
semiconductors, and industrial supplies.
Available indicators of economic activity in the third quarter pointed to robust
expansion in all the major foreign
industrial countries except Japan, where
activity rebounded only moderately
from a sharp second-quarter decline.
Although timely data were sparse, the
economies of many Asian countries
probably were weakening as their
exchange rates came under pressure,
problems in their financial sectors were
revealed, and their monetary and fiscal
policies moved toward restraint.
Consumer price inflation remained
subdued in September. The increase in
both overall consumer prices and the
prices of consumer items other than food
and energy was modest. For the twelve
months ended in September, prices
of consumer items other than food and
energy increased by a considerably
smaller amount than in the year-earlier
period. At the producer level, the September rise in prices was the largest
monthly increment since January 1991;
nonetheless, the overall index was
unchanged over the past twelve months

Minutes of FOMC Meetings, November
after a sizable rise over the previous
twelve-month period. The core index
also decelerated on a year-over-year
basis. The rate of increase in the hourly
compensation of private industry workers was unchanged in the third quarter,
but the advance over the past four quarters was somewhat larger than that for
the previous four. Growth in average
hourly earnings picked up in September
and October, perhaps partly reflecting
the effects of an increase in the federal
minimum wage.
At its meeting on September 30,
1997, the Committee adopted a directive
that called for maintaining conditions
in reserve markets that were consistent
with an unchanged federal funds rate
averaging around 5 xh percent. The Committee retained a tilt in the directive
toward a possible firming of reserve
conditions during the intermeeting
period, reflecting its view that the risks
continued to be skewed toward rising
inflation. Reserve market conditions
associated with this directive were
expected to be consistent with some
moderation in the growth of M2 and M3
over coming months.
Open market operations were directed
throughout the intermeeting period
toward maintaining reserve conditions
consistent with the Committee's intended level of around 5!/2 percent for
the federal funds rate, and the rate averaged close to that level over the period.
Other financial markets became quite
volatile from time to time. Share prices
in equity markets fluctuated widely in
occasionally turbulent trading activity
and were down somewhat on balance
over the period; equity markets in other
countries, notably in Asia, also were
volatile, and very large declines were
recorded in some of those markets.
Against this background, U.S. shortterm interest rates registered small
mixed changes over the period since the



163

September 30 meeting, while Treasury
bond yields declined somewhat on
balance. Unexpectedly strong incoming
data on U.S. producer prices, employment, and wages tended to exert upward
pressures on bond yields on some days,
but these were more than offset by
investor desires for safety and quality,
the continuing moderation in consumer
inflation, and the perception engendered
by international financial developments
that inflation pressures were likely to
remain subdued.
The dollar also was affected by the
spreading financial turmoil in developing countries, appreciating significantly
over the intermeeting period against
the currencies of a number of Asian
and Latin American countries. Much of
the increase was counterbalanced, however, by a sizable decline in the dollar's
trade-weighted value in terms of the
currencies of the other G-10 countries.
The dollar's decline against the German
mark and other European currencies
partly reflected diminished market
expectations of potential tightening in
the United States and a snugging of
monetary conditions by the Bundesbank
and other continental European central
banks. Further progress in resolving
uncertainties surrounding the European
Monetary Union also may have contributed to the rise in European currencies.
The dollar appreciated slightly on balance against the Japanese yen.
Growth of M2 and M3 apparently
moderated further in October, though
the expansion of these aggregates
remained brisk. A sharp slowing of
inflows to money market mutual funds
accounted for much of the deceleration
of M2, and an easing in the pace of
issuance of large time deposits, evidently reflecting a smaller rise in bank
credit, also contributed to a modest
reduction in M3 growth. For the year
through October, M2 expanded at a rate

164 84th Annual Report, 1997
that was at the upper bound of the Committee's range for the year and M3 at a
rate substantially above the upper bound
of its range. Total domestic nonfinancial
debt increased in recent months at a rate
somewhat below the middle of its range.
The staff forecast prepared for this
meeting suggested that the economy
would continue to expand for a time at
a pace considerably above its potential,
but growth was expected to moderate
to a more sustainable rate later. Further
rapid increases in business investment
would provide strong impetus to income
growth in the near term, and the rise in
household wealth so far in 1997 would
stimulate robust consumer demand
going forward. The projected strength
of domestic demand would be offset to
some extent by a considerable weakening in the growth of exports in response
to the lagged effects of the earlier appreciation of the dollar and sharp anticipated reductions in the economic growth
of Asian and other developing countries.
In the Committee's discussion of current and prospective economic developments, members focused on widespread
indications of a continued solid advance
in economic activity, spurred by strength
in all major sectors of the domestic
economy, and the persistence of subdued increases in prices. The current
momentum of the expansion, together
with broadly supportive financial conditions and favorable business and consumer sentiment, suggested that economic growth was likely to be well
maintained, especially over the nearer
term. As a consequence, the members
agreed that there remained a clear risk
of additional pressures on already tight
resources and ultimately on prices that
could well need to be curbed by tighter
monetary policy. But the members also
focused on two important influences that
were injecting new uncertainties into
this outlook. Turmoil in Asian financial



markets and economies would tend
to damp output and prices in the United
States. To date, it appeared that the
effects on the U.S. economy would be
quite limited, but the ultimate extent of
the adjustment in Asia was unknown, as
was its spillover to global financial markets and to the economies of nations that
were important U.S. trading partners.
The second influence was the apparently
sharp increase in productivity in the
second and third quarters. This was an
encouraging development, although it
was too early to judge the persistence of
the uptrend in productivity growth and
the extent to which it might reduce the
additional price pressures that would
be generated in the event of an extended
period of further robust economic
expansion.
Strength in consumer spending had
provided an important underpinning for
robust economic expansion, and substantial growth was likely to persist, sustained by increases in employment and
incomes, high levels of confidence, and
the cumulative effects of very large
gains in stock market wealth over the
past several years. The outlook for capital spending also remained quite favorable because the factors that were contributing to the ongoing surge in such
spending—its potential for lowering
production costs in highly competitive
markets and the ready availability of
finance on attractive terms—were likely
to persist. While private domestic
demand most likely would continue
to display considerable strength, both
consumption and investment were
somewhat vulnerable to developments
in financial markets, perhaps arising
from further difficulties in Asia.
Increased uncertainty about asset values
could engender greater caution on
spending, and of course a substantial
decline in equity values would reduce
household wealth and raise the cost of

Minutes of FOMC Meetings, November
equity capital. Some members also commented that additional appreciation of
the dollar, perhaps in association with
possible further turbulence in Asia and
weakness in foreign economies, would
have adverse implications for net
exports, which already were seen as a
somewhat negative factor in the economic outlook. At the same time, a
stronger dollar would have a positive
effect on domestic inflation over the projection horizon.
In the course of their discussion, the
members gave considerable emphasis to
recent developments in labor markets.
Statistical indicators of rising levels
of employment, low and falling rates of
unemployment, and a diminishing supply of new workers were reinforced by
anecdotal evidence of tight labor markets throughout the nation. The demand
for many types of workers exceeded the
supply in many regions, and a number
of members reported that growth of
economic activity in various parts of the
country was being held back by the scarcity of labor. While labor compensation
had accelerated, the pickup was moderate in light of the taut conditions in
labor markets and some of it reflected
the legislated rise in the minimum wage.
Nonetheless, members cited numerous
examples of efforts to attract or retain
workers in especially scarce supply
through a variety of bonus payments
and other incentives that were not
included in standard measures of labor
compensation.
The effects on costs and prices of
somewhat faster increases in compensation evidently were being muted by what
appeared to have been a sharp advance
in productivity growth in the past two
quarters. The acceleration in productivity seemed to be related in part to
the surge in capital spending, which
had been stimulated by the ability of
new equipment to enhance efficiency



165

and hold down costs, suggesting that
productivity might be on a higher trend
for a time. But it also could be attributed
to some extent to the strengthening in
economic output; such strengthening
often is associated with a pickup in
productivity as producers react initially
to the upturn in demand by stretching
available labor further. If the pace of the
economic expansion were to moderate
in line with current expectations, the
growth in productivity also could be
expected to slow, but to an uncertain
extent.
The trend in productivity gains was a
key factor in the outlook for unit costs
and ultimately for price inflation. As had
been true for an extended period, inflation had remained relatively subdued in
comparison with past experience under
broadly similar economic conditions.
The reasons for the relative quiescence
of inflation were not fully understood,
but they undoubtedly included a number
of special factors beyond higher productivity such as a lagged response to
earlier appreciation of the dollar and
unusually damped increases in the cost
of health benefits. As they had at previous meetings, members suggested
that these favorable influences were
likely to erode over the year ahead. A
number of members again cited reports
of increases in health insurance premiums next year and subsequently. More
fundamentally, it was difficult to predict whether anticipated increases in
labor compensation would be fully offset by productivity gains in coming
quarters and whether, in turn, competitive market conditions would allow
firms to raise prices to compensate for
any increases in their costs. On balance,
the members felt that the risks remained
in the direction of rising price inflation
though the extent and timing of that
outcome were subject to considerable
debate.

166 84th Annual Report, 1997
In the Committee's discussion of policy for the intermeeting period ahead, all
but one member endorsed a proposal to
maintain an unchanged policy stance,
and all agreed that the risks remained
tilted toward rising inflation. While
developments in Southeast Asia were
not expected to have much effect on the
U.S. economy, global financial markets had not yet settled down and further adverse developments could have
greater-than-anticipated spillover effects
on the ongoing expansion. In this environment, with markets still skittish,
a tightening of U.S. monetary policy
risked an oversized reaction. Some
members also emphasized that the relatively favorable trends in productivity,
costs, and prices continued to raise questions about the strength and timing of
any pickup in inflation. Other members
stressed that the unsustainable pace of
domestic demand and rising resource
utilization seemed to call for a near-term
tightening of policy. Some of these
members noted that overall financial
conditions remained quite supportive
despite the recent market turmoil and
high real short-term interest rates. Credit
from a wide variety of lenders appeared
to be amply available on favorable
terms, perhaps overly so in present circumstances. Nonetheless, all but one
of the members believed that in light of
the uncertainties about the economic
outlook, an immediate policy tightening
was not needed in the absence of firmer
indications that inflationary pressures
might be emerging. In the view of
one member, however, aggregate final
demand was so strong that, with
economic activity and the associated
demand for labor having expanded at an
unsustainable pace for some time, one
could be reasonably confident that inflation would most likely pick up in the
absence of policy action.



In their discussion of possible adjustments to policy during the intermeeting
period, the members indicated that they
wanted to retain in the operating paragraph of the directive the existing asymmetry toward restraint that was initially
adopted at the May meeting. Such a
directive was consistent with their view
that the risks continued to be biased
toward rising inflation. Accordingly, the
members continued to view the next
policy move as more likely to be in the
direction of some firming than toward
easing.
At the conclusion of the Committee's
discussion, all but one member supported a directive that called for maintaining conditions in reserve markets
that were consistent with an unchanged
federal funds rate of about 5Vi percent
and that retained a bias toward the possible firming of reserve conditions and
a higher federal funds rate during the
intermeeting period. Accordingly, in
the context of the Committee's long-run
objectives for price stability and
sustainable economic growth, and giving careful consideration to economic,
financial, and monetary developments,
the Committee decided that a somewhat higher federal funds rate would be
acceptable or a slightly lower federal
funds rate might be acceptable during
the intermeeting period. The reserve
conditions contemplated at this meeting
were expected to be consistent with
moderate growth in M2 and M3 over
coming months.
The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System
Account in accordance with the following domestic policy directive:
The information reviewed at this meeting
suggests that economic activity continued

Minutes of FOMC Meetings, November
to grow rapidly in recent months. In labor
markets, hiring has remained robust and the
civilian unemployment rate fell to 4.7 percent in October, its low for the current
economic expansion. Industrial production
increased very rapidly in the third quarter,
and appears to have remained strong in October. Retail sales also rose sharply in the third
quarter, though at a moderating pace as the
summer progressed. Housing starts, while
fluctuating from month to month, were little
changed on balance in the third quarter. Business fixed investment posted unusually
strong increases in the latest quarter, and
available indicators point to further sizable
gains in coming months. The nominal deficit
on U.S. trade in goods and services widened
substantially on average in July and August
from its rate in the second quarter. Price
inflation has remained subdued despite some
increase in the pace of advance in labor
compensation.
Short-term interest rates have registered
small mixed changes since the day before
the Committee meeting on September 30,
1997, while bond yields have fallen somewhat. Share prices in U.S. equity markets
have fluctuated widely in turbulent trading
activity and are down on balance over the
period; equity markets in other countries,
notably in Asia, have been volatile as well
and some have registered very large declines.
In foreign exchange markets, the tradeweighted value of the dollar in terms of the
other G-10 currencies declined somewhat on
balance over the intermeeting period. The
dollar appreciated significantly, however, in
terms of the currencies of a number of Asian
and Latin American countries.
Growth of M2 and M3 appears to have
moderated further in October from the
unusually brisk rates of August. For the year
through October, M2 expanded at the upper
bound of its range for the year and M3 at a
rate substantially above the upper bound of
its range. Total domestic nonfinancial debt
has expanded in recent months at a pace
somewhat below the middle of its range.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at its meeting in July reaffirmed the ranges it had established in February for growth of M2 and M3
of 1 to 5 percent and 2 to 6 percent respec


167

tively, measured from the fourth quarter of
1996 to the fourth quarter of 1997. The range
for growth of total domestic nonfinancial
debt was maintained at 3 to 7 percent for the
year. For 1998, the Committee agreed on a
tentative basis to set the same ranges as in
1997 for growth of the monetary aggregates
and debt, measured from the fourth quarter
of 1997 to the fourth quarter of 1998. The
behavior of the monetary aggregates will
continue to be evaluated in the light of
progress toward price level stability, movements in their velocities, and developments
in the economy and financial markets.
In the implementation of policy for the
immediate future, the Committee seeks conditions in reserve markets consistent with
maintaining the federal funds rate at an
average of around 5 Vi percent. In the context
of the Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration to
economic, financial, and monetary developments, a somewhat higher federal funds rate
would or a slightly lower federal funds rate
might be acceptable in the intermeeting
period. The contemplated reserve conditions
are expected to be consistent with moderate
growth in M2 and M3 over coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Ferguson, Gramlich, Guynn,
Kelley, Meyer, Moskow, Parry, Mses.
Phillips and Rivlin. Vote against this
action: Mr. Broaddus.

Mr. Broaddus dissented because he
believed that a modest tightening of
policy would be prudent in view of the
recent strength in aggregate demand
for goods and services; such demand
appeared to be growing considerably
more rapidly than the sustainable rate
at which it could be supplied without
an increase in inflation. While he recognized that a tightening at this meeting
presented risks in view of recent financial and economic developments in
East Asia, he believed these risks were
outweighed by the risk that policy
would have to be tightened more aggressively if action were delayed, demand

168 84th Annual Report, 1997
remained robust, and the recent apparent
reduction in inflationary expectations
were reversed. The negative impact on
economic activity in such circumstances
would be markedly greater than if a
more modest action were taken at this
meeting.
Rules Regarding Availability
of Information
By notation vote the Committee unanimously approved in final form certain
revisions to its Rules Regarding the
Availability of Information. The final
rules take account of comments received
from the public on the Committee's proposed revisions to the rules that were
published earlier in the Federal Register.
The purpose of the revisions is to bring
the rules into conformity with the Electronic Freedom of Information Act of
1996, which amends the Freedom of
Information Act. The new rules take
effect on December 17, 1997.
It was agreed that the next meeting of
the Committee would be held on Tuesday, December 16, 1997.
The meeting adjourned at 1:10 p.m.
Donald L. Kohn
Secretary

Meeting Held on
December 16, 1997
A meeting of the Federal Open Market
Committee was held in the offices of
the Board of Governors of the Federal
Reserve System in Washington, D.C.,
on Wednesday, December 16, 1997, at
9:00 a.m.
Present:
Mr. Greenspan, Chairman
Mr. McDonough, Vice Chairman
Mr. Broaddus
Mr. Ferguson
Mr. Gramlich



Mr. Guynn
Mr. Kelley
Mr. Moskow
Mr. Meyer
Mr. Parry
Ms. Phillips
Ms. Rivlin
Messrs. Hoenig, Jordan, and
Ms. Minehan, Alternate Members
of the Federal Open Market
Committee
Messrs. Boehne, McTeer, and Stern,
Presidents of the Federal Reserve
Banks of Philadelphia, Dallas, and
Minneapolis respectively
Mr. Kohn, Secretary and Economist
Mr. Bernard, Deputy Secretary
Mr. Coyne, Assistant Secretary
Mr. Gillum, Assistant Secretary
Mr. Mattingly, General Counsel
Mr. Baxter, Deputy General Counsel
Mr. Prell, Economist
Mr. Truman, Economist
Messrs. Beebe, Cecchetti, Eisenbeis,
Goodfriend, Lindsey, Promisel,
Siegman, Slifman, and Stockton,
Associate Economists
Mr. Fisher, Manager, System Open
Market Account
Mr. Winn, Assistant to the Board,
Office of Board Members, Board
of Governors
Mr. Ettin, Deputy Director, Division of
Research and Statistics, Board of
Governors
Messrs. Madigan and Simpson,
Associate Directors, Divisions of
Monetary Affairs and Research
and Statistics respectively, Board
of Governors
Messrs. Alexander, Hooper, and
Ms. Johnson, Associate Directors,
Division of International Finance,
Board of Governors
Ms. Low, Open Market Secretariat
Assistant, Division of Monetary
Affairs, Board of Governors

Minutes of FOMC Meetings, December
Messrs. Connolly and Rives, First
Vice Presidents, Federal Reserve
Banks of Boston and St. Louis
respectively
Mses. Browne, Krieger,
Messrs. Dewald, Hakkio, Lang,
and Rosenblum, Senior Vice
Presidents, Federal Reserve Banks
of Boston, New York, St. Louis,
Kansas City, Philadelphia, and
Dallas respectively
Mr. Miller, Vice President, Federal
Reserve Bank of Minneapolis
Messrs. Bryan and Evans, Assistant
Vice Presidents, Federal Reserve
Banks of Cleveland and Chicago
respectively
By unanimous vote, the minutes of
the meeting of the Federal Open Market
Committee held on November 12, 1997,
were approved.
The Manager of the System Open
Market Account reported on developments in foreign exchange and international financial markets in the period
since the previous meeting on November 12, 1997. There were no open market transactions in foreign currencies
for System Account during this period,
and thus no vote was required of the
Committee.
The Manager also reported on developments in domestic financial markets
and on System open market transactions
in government securities and federal
agency obligations during the period
November 12, 1997, through December 15, 1997. By unanimous vote, the
Committee ratified these transactions.
The Committee then turned to a discussion of the economic outlook and the
conduct of monetary policy over the
intermeeting period ahead.
The information reviewed at this
meeting suggested that economic activity had continued to grow at a rapid pace



169

in recent months. The further advance
reflected moderating but still sizable
increases in business fixed investment
and consumer spending and an upturn in
business inventory accumulation. Housing demand remained at a high level,
and deepening trade deficits provided
only a partial offset to the strength in
domestic spending. Against this background, employment and production
posted further large gains. Price inflation remained subdued despite tight
labor markets and some pickup in the
rate of wage increases.
Nonfarm payroll employment rose
sharply further in October and November. The increases in payrolls were
widespread across sectors, and in
November they included notably large
gains in the service-producing industries. Manufacturing employment also
rose considerably further in November,
and aggregate weekly hours of production or nonsupervisory workers registered a particularly large advance in that
month. The civilian unemployment rate
fell to 4.6 percent in November, its low
for the current expansion.
Industrial production continued to
advance at a brisk pace in October and
November. The November increase was
widespread across market groups. It featured particularly strong growth in the
production of durable goods, including
a surge in the output of motor vehicles
and parts. Partly offsetting the strength
in the manufacturing sector in November was a decline in mining activity and
in utilities output after two months of
robust expansion. The large rise in production boosted the rate of utilization
of manufacturing capacity to its highest
level in more than two years.
Growth in consumer spending had
moderated in recent months from a very
brisk pace during the summer. Retail
sales were unchanged on balance over
October and November after having

170 84th Annual Report, 1997
increased rapidly in the third quarter.
The flat sales for the two months reflected some softening in the durable
goods category, notably at automotive
dealers, and relatively slow growth in
the nondurable goods sector. Consumer
spending on services appeared to have
remained relatively robust in October.
According to recent surveys, consumer
sentiment continued at an extraordinarily ebullient level in the context of
further strong gains in jobs and incomes,
the cumulative effect of large increases
in household net worth, and the ready
availability of financing for most
consumers.
Available information suggested that
business capital expenditures had moderated in recent months from the exceptionally strong increases of the second
and third quarters. Shipments of office
and computing equipment fell in nominal terms in October, while shipments of
communications equipment were about
unchanged after having posted strong
gains earlier in the year. Shipments of
nondefense capital goods other than
aircraft and high tech equipment also
declined in October. Spending on nonresidential structures had softened a bit
in recent months.
In the housing sector, demand had
continued to display appreciable
strength in recent months in association
with relatively moderate mortgage rates
and very positive consumer assessments
of homebuying conditions. In October,
the latest month for which data were
available, sales of new homes were well
maintained, and sales of existing homes
rose. Housing starts increased somewhat
in October and November from the
already high level reached earlier in the
year.
After having picked up considerably
in September, the pace of business inventory investment in October remained
above that recorded earlier in the sum


mer. The rise in stocks at the manufacturing level was at a somewhat faster
pace in October than in September, but
the buildup in inventories at the wholesale level, and especially at the retail
level, moderated in October. On balance, inventories remained at quite low
levels in relation to shipments and sales.
The nominal deficit on U.S. trade
in goods and services was significantly
larger in the third quarter than in the
second. Exports of goods and services
rose only marginally in the third quarter,
as increases in machinery, industrial
supplies, and service receipts were
nearly offset by sharp declines in exports
of aircraft and gold. Imports of goods
and services rose appreciably in the third
quarter; the increases were in most
major trade categories and included
strong further advances in the quantity
of oil imports. Economic growth in most
major foreign industrial countries was
relatively vigorous in the third quarter,
and preliminary indicators for the fourth
quarter suggested continued above-trend
expansion. However, growth since midyear appeared to have recovered only
modestly in Japan from a sharp secondquarter decline. The ongoing financial
turmoil affecting a number of Asian
economies had led to a significant slowdown in economic activity in the region.
Available data also suggested a favorable economic performance in major
Latin American countries in the third
quarter.
Consumer price inflation had remained at a low level in recent months,
reflecting a variety of influences including a favorable labor cost environment,
falling import prices, small increases
in energy prices, and declining inflation
expectations. For the twelve months
ended in November, overall consumer
prices and consumer prices excluding
food and energy items increased appreciably less than in the year-earlier

Minutes of FOMC Meetings, December 111
period. At the producer level, prices for
finished goods edged lower in November and the index was down somewhat
on balance over the past year, reflecting
declines in the food and energy components. The rate of increase in average
hourly earnings had picked up in recent
months, apparently reflecting the effects
of an increase in the federal minimum
wage and some bidding up of wages in a
tight labor market.
At its meeting on November 12,
1997, the Committee adopted a directive
that called for maintaining conditions
in reserve markets that were consistent with an unchanged federal funds
rate averaging around 5]/2 percent. In
the directive the Committee retained a
tilt toward a possible firming of reserve
conditions during the intermeeting
period. Such a bias was seen as consistent with the members' views that the
risks continued to be skewed toward
rising inflation and that the next policy
move was more likely to be in the direction of some firming than toward easing.
Reserve market conditions associated
with this directive were expected to be
consistent with some moderation in the
growth of M2 and M3 over coming
months.
Open market operations throughout
the intermeeting period were directed
toward maintaining reserve conditions
consistent with the intended average of
around 5 Vi percent for the federal funds
rate, and the average effective rate over
the period was close to that rate level. In
other domestic financial markets, shortterm interest rates registered small
mixed changes since the day before the
Committee meeting on November 12,
1997, while bond yields fell somewhat.
Share prices in U.S. equity markets
recorded mixed changes over the period.
Domestic financial markets became
somewhat less volatile over the period,
though further turmoil in a number



of foreign markets fostered a sense of
unease that was reflected in relatively
wide yield spreads and, on occasion, in
trading activity and price movements.
Equity markets in other countries, notably in Asia, remained volatile.
In foreign exchange markets, the
value of the dollar rose over the intermeeting period in terms of both the
trade-weighted index of the other G-10
currencies and the currencies of a
number of Asian countries. The dollar's
appreciation against the German mark
and other Western European currencies
appeared to reflect market perceptions
that the prospects for monetary tightening had ebbed in those countries in light
of the persistence of subdued inflation
and indications that the continuing
financial turmoil in Asian and other
emerging economies was likely to have
a retarding effect on the economies
of the industrial countries. The dollar's
appreciation relative to the yen appeared
to reflect rising concerns about the Japanese economy in the wake of continuing
financial difficulties in Japan and spillover effects from events elsewhere in
Asia. The dollar strengthened further in
this period against most of the other
East Asian currencies, notably against
the Korean won.
Growth in the broad monetary aggregates picked up to relatively rapid rates
in November. Strength in currency and
a surge in liquid deposits boosted the
expansion of M2, while that of M3 was
amplified by a step-up in RP borrowing
to help finance more rapid growth in
bank credit. For the year through
November, M2 expanded at a rate that
was slightly above the upper bound of
the Committee's annual range and M3
at a rate substantially above the upper
bound of its range. The increase in total
domestic nonfinancial debt for the year
to date was at a pace somewhat below
the middle of the Committee's range.

172 84th Annual Report, 1997
The staff forecast prepared for this
meeting suggested somewhat greater
moderation in economic expansion than
had been projected earlier and slightly
less pressure on wages and prices. A
number of factors were expected to
contribute to the slowing of aggregate
demand and reduced pressure on
resources. These included: a slackening
in world economic expansion that, in
conjunction with the appreciation of the
dollar, would substantially restrain U.S.
exports; some moderation of the growth
in household and business investment;
and a diminution in the desired rate of
inventory accumulation.
In the Committee's discussion of current and prospective economic developments, members commented on indications that growth in economic activity
had remained solid and that inflation
had continued to be surprisingly low.
While wages appeared to be increasingly subject to upward pressure, productivity had picked up in recent quarters, and the persisting strength in profits
suggested that unit labor costs were not
accelerating noticeably. The evidently
higher pace of productivity growth was
very encouraging, though it was still
difficult to assess how long this favorable performance might last and the
extent to which it might ease the price
pressures that could emerge if the economic expansion did not moderate as
members anticipated. Domestic demand
for goods and services had been quite
strong and was likely to remain reasonably robust. However, the effects of
the persisting turmoil in Asian financial markets were likely to moderate the
pace of expansion, though the extent of
this effect was difficult to judge. The
ongoing turbulence since the last Committee meeting, which included further
noticeable increases in the dollar against
the currencies of affected countries,
likely would have a somewhat greater



damping effect on output and prices in
the United States than previously had
been anticipated. Exports to many Asian
countries, and possibly to other U.S.
trading partners whose economies might
be adversely affected by the spillover
effects of developments in Asia, would
be reduced, and declines in import
prices would ease inflation pressures.
However, the ultimate extent of the
adjustment in Asian economies remained unknown, and more substantial
downward pressure on the economies of
the United States and its trading partners
could not be ruled out.
With regard to the prospects for final
demand in key sectors, the members
noted that the appreciation of the dollar
against a wide range of currencies, along
with the prospective slackening in world
economic expansion associated with the
Asian turmoil, could be expected to
exert a considerable damping effect on
U.S. exports over the next several quarters. In addition, increased uncertainty
about financial asset values, possibly
related in part to further difficulties in
Asia, could lead to greater caution in
spending, while a substantial decline
in equity values, should it occur, would
have a more pronounced effect by
reducing household wealth and raising
the cost of equity capital. However, a
number of members suggested that consumer spending might hold up relatively
well if the effects of the Asian crisis on
the U.S. economy were not markedly
deeper or more prolonged than currently
expected. To date, anecdotal reports
indicated only scattered signs of weaker
export demand, primarily some slackening in orders for and shipments of
selected commodities such as agricultural goods and lumber and wood products, and there were few indications
of reduced demand for manufactured
goods. At the same time, business
contacts were optimistic about holiday

Minutes of FOMC Meetings, December
sales, tourism was booming in some
parts of the country, and spending for
services had been brisk. In the circumstances, continuing gains in wages and
employment, the prevailing high levels
of confidence, the cumulative effects of
very large increases in household wealth
in recent years, and the intense competition among retailers for the consumer's
attention could promote substantial further growth in consumer expenditures.
The same factors, along with the favorable cash flow affordability of home
ownership, were maintaining housing
demand at a relatively high level.
The outlook for business fixed investment remained favorable. In the near
term, the low cost of capital, the ready
availability of finance on attractive
terms, and the potential for reducing
production costs in highly competitive
markets were providing strong support
for capital spending. Moreover, shrinking vacancy rates and rising lease rates
were fostering a rapid increase in the
number of large commercial building
projects, notably office buildings, that
were planned or under way in many
areas of the country. Even so, the growth
of business capital spending was
expected to slow from the unusually
rapid pace of recent quarters in response
to the projected smaller increases in
sales and profits arising from moderating economic growth. In addition, business firms were expected to trim the
pace of their inventory accumulation to
keep stocks at desired levels relative to
sales.
In their comments on recent developments in labor markets, the members
emphasized the very limited supply of
new workers and the extraordinary tightness prevailing in markets throughout
the nation. Several reported that the
scarcity of available workers was limiting the growth of economic activity
in some parts of the country and that



173

some employers were trying out novel
approaches aimed at enticing people not
currently seeking a job to enter the work
force. While wage increases remained
moderate on balance, larger increases
were gradually becoming more pervasive as labor markets tightened. Moreover, employers were continuing their
efforts to attract or retain workers that
were in particularly scarce supply by
means of a variety of bonus payments
and other incentives that were not
included in standard measures of labor
compensation. There also were reports
of offers of expanded benefits and, in
some instances, the granting of very
large wage increases to highly skilled
technical personnel.
In the course of their discussion,
many members remarked on the absence of inflationary price pressures during a period when economic activity had
risen briskly and labor markets had
grown steadily tighter. The muted effect
of higher labor compensation on unit
labor costs and prices reflected sharp
advances in productivity partly associated with the rapid expansion of the
stock of capital; the latter had been
stimulated, most probably, by the desire
to enhance efficiency and thus hold
down costs. In addition, the earlier
appreciation of the dollar and the unusually damped increases in the cost of
health benefits in recent years had
helped to limit the rise in compensation.
As members had noted at previous
meetings, these favorable influences
were likely to erode over time. Anecdotal reports indicated that health insurance premiums were beginning to trend
higher, and the dollar would not rise
indefinitely. More fundamentally, persistent tightness in labor markets risked a
continuing uptrend in labor compensation increases that, at some point, could
not be fully offset by productivity gains.
Under those circumstances, competitive

174 84th Annual Report, 1997
market conditions would allow firms to
raise prices to compensate for increases
in their costs. However, for some period
ahead, developments associated with the
turmoil in Asia along with the partly
related appreciation of the dollar would
tend to intensify import competition and
damp the prices of goods.
In the Committee's discussion of policy for the intermeeting period ahead,
nearly all the members favored a proposal to maintain an unchanged policy
stance. In their discussion, members
emphasized that price inflation had
remained subdued, indeed with some
key price measures indicating declining inflation, despite the persistence of
robust economic growth and high levels
of resource use, notably in labor markets. They expressed concern, however,
that multiplying indications of faster
wage increases might presage rising
price inflation at some point. Weighing
against the risks of higher inflation was
the financial turmoil that had intensified
in Southeast Asia during October and
more recently in Korea. The effects of
those developments on the U.S. economy were quite limited thus far, but the
members expected some damping of
economic expansion and price increases
in the quarters ahead, and they did not
rule out a potentially strong impact in
the event of an even deeper crisis in
Asia, or one that spread to other countries. Nonetheless, many members commented that, with domestic demand still
quite strong and the economy possibly
producing beyond its potential, they
viewed the risks on balance as pointing
to rising price inflation and the next
policy move as likely to be in the direction of some tightening. However, most
members agreed that the need for such a
policy adjustment did not appear to be
imminent and that prevailing near-term
uncertainties warranted a cautious waitand-see policy posture. One member,



while acknowledging the downside risks
to the expansion associated with potential developments in Asia, still was
persuaded that the economy probably
would continue to expand at an unsustainable pace and that monetary policy
should be tightened promptly to avert a
further buildup of pressures in already
strained labor markets, associated
increases in labor costs, and at some
point an inevitable rise in price inflation.
Other considerations cited by some
members in favor of an unchanged policy included the possibility that, because
a policy tightening move was not
expected at this juncture, even a modest
firming action might well have outsized
effects in financial markets, especially
the foreign exchange markets. Current
conditions in domestic financial markets
clearly remained supportive of spending, but it also was noted that the real
federal funds rate was relatively high
and that growth in the broad measures
of money was expected to moderate
over coming months after a period of
robust expansion. The members agreed
that the crosscurrents that were generating the present uncertainties in the outlook for economic activity and inflation
made a flexible approach to monetary
policy particularly desirable at this
juncture.
Views were somewhat more divided
with regard to the instruction in the
directive relating to the possible adjustment of policy during the intermeeting
period. A majority of the members indicated a preference for a shift to a symmetrical directive even though many
continued to anticipate that the next policy move was likely to be in a tightening direction. They noted that while the
probability of any policy change in the
near term was very low, uncertainties
in the outlook had increased, and they
could not rule out the possibility that the
next change might be in the direction

Minutes of FOMC Meetings, December
of some easing if, contrary to current
expectations, the turmoil in Asia were to
intensify to the extent that it seemed
likely to exert very substantial effects
on the U.S. economy. A symmetric
directive would position the Committee
to respond flexibly in either direction
to unanticipated developments in the
period ahead. Other members expressed
a slight preference for retaining a directive that was tilted toward tightening. In
their view, such a directive would continue to underscore their concern that,
at current and prospective levels of
resource utilization, rising inflation was
the most serious risk to the economy
and that the Committee remained committed to fostering progress toward a
stable price environment that in turn
would heighten the prospects for sustained economic expansion and full
employment.
At the conclusion of the Committee's
discussion, all but one member endorsed
a directive that called for maintaining
conditions in reserve markets that were
consistent with an unchanged federal
funds rate of about 5 Vi percent and that
did not include a presumption about the
likely direction of any adjustment to
policy during the intermeeting period.
Accordingly, in the context of the
Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration
to economic, financial, and monetary
developments, the Committee decided
that a slightly higher or a slightly lower
federal funds rate might be acceptable
during the intermeeting period. The
reserve conditions contemplated at this
meeting were expected to be consistent
with some moderation in the growth of
M2 and M3 over coming months.
The Federal Reserve Bank of New
York was authorized and directed, until
instructed otherwise by the Committee,
to execute transactions in the System



175

Account in accordance with the following domestic policy directive:
The information reviewed at this meeting
suggests that economic activity continued to
grow rapidly in recent months. Nonfarm payroll employment increased sharply in October and November; the civilian unemployment rate fell to 4.6 percent in November, its
low for the current economic expansion.
Industrial production continued to advance
at a brisk pace in October and November.
Retail sales were unchanged on balance
over the two months after rising sharply in
the third quarter. Housing starts increased
slightly further in October and November.
Available information suggests on balance
that business fixed investment will slow from
the exceptionally strong increases of the second and third quarters. The nominal deficit
on U.S. trade in goods and services widened
significantly in the third quarter from its rate
in the second quarter. Price inflation has
remained subdued, despite some increase in
the pace of advance in wages.
Short-term interest rates have registered
small mixed changes since the day before
the Committee meeting on November 12,
1997, while bond yields have fallen somewhat. Share prices in U.S. equity markets
recorded mixed changes over the period;
equity markets in other countries, notably in
Asia, have remained volatile. In foreign
exchange markets, the value of the dollar has
risen over the intermeeting period in terms
of both the trade-weighted index of the other
G-10 countries and the currencies of a number of Asian countries.
M2 and M3 grew rapidly in November.
For the year through November, M2
expanded at a rate slightly above the upper
bound of its range for the year and M3 at a
rate substantially above the upper bound of
its range. Total domestic nonfinancial debt
has expanded in recent months at a pace
somewhat below the middle of its range.
The Federal Open Market Committee
seeks monetary and financial conditions that
will foster price stability and promote sustainable growth in output. In furtherance of
these objectives, the Committee at its meeting in July reaffirmed the ranges it had established in February for growth of M2 and M3
of 1 to 5 percent and 2 to 6 percent respectively, measured from the fourth quarter of
1996 to the fourth quarter of 1997. The range

176 84th Annual Report, 1997
for growth of total domestic nonfinancial
debt was maintained at 3 to 7 percent for the
year. For 1998, the Committee agreed on a
tentative basis to set the same ranges as in
1997 for growth of the monetary aggregates
and debt, measured from the fourth quarter
of 1997 to the fourth quarter of 1998. The
behavior of the monetary aggregates will
continue to be evaluated in the light of
progress toward price level stability, movements in their velocities, and developments
in the economy and financial markets.
In the implementation of policy for the
immediate future, the Committee seeks conditions in reserve markets consistent with
maintaining the federal funds rate at an
average of around 5!/2 percent. In the context
of the Committee's long-run objectives for
price stability and sustainable economic
growth, and giving careful consideration to
economic, financial, and monetary developments, a slightly higher federal funds rate or
a slightly lower federal funds rate might
be acceptable in the intermeeting period.
The contemplated reserve conditions are
expected to be consistent with some moderation in the growth in M2 and M3 over coming months.
Votes for this action: Messrs. Greenspan,
McDonough, Ferguson, Gramlich, Guynn,
Kelley, Meyer, Moskow, Parry, Mses.
Phillips and Rivlin. Vote against this
action: Mr. Broaddus.

Mr. Broaddus dissented because he
continued to believe that a modest tightening of policy would be prudent in
light of the apparent persisting strength
in aggregate demand for goods and
services. He recognized the case for
holding policy steady given recent
developments in East Asian economies
and financial markets; he believed, however, that a slight firming at this meeting would provide valuable insurance
against the risk that demand growth
might remain above a sustainable trend
and require a sharper policy response
later. He thought further that the potential benefits of this insurance outweighed the risk that such an action
would have a significant negative impact



on U.S. economic activity. He also
believed that signaling a greater willingness to tolerate modest policy adjustments in response to emerging developments would foster more flexible
movements in longer-term financial
markets and specifically enable longerterm interest rates to play their traditional role as automatic stabilizers for
the economy more effectively.
It was agreed that the next meeting
of the Committee would be held on
Tuesday-Wednesday, February 3-4,
1998.
The meeting adjourned at 12:45 p.m.
Donald L. Kohn
Secretary

177

Consumer and Community Affairs
In 1997 the Board's activities in the
consumer protection area centered on
making disclosures about transactions
more helpful to consumers and focused
particularly on automobile leases and
real estate mortgages. The Board developed a major consumer education campaign related to the disclosures that
consumers receive under its consumer
leasing regulations. The initiative had
participation from more than thirty
agencies and organizations, resulting in
the publication of an educational brochure on how to make informed leasing
choices and the creation of a public Web
site.
In the area of mortgage transactions,
the Board joined with the U.S. Department of Housing and Urban Development (HUD) to review the disclosures
currently given to consumers under the
Truth in Lending Act and the Real
Estate Settlement Procedures Act, seeking ways to make the disclosures more
useful. The agencies determined that
regulatory change alone would not
achieve the desired improvements called
for by the Congress and turned their
attention to legislative changes to reform
the current disclosure scheme.
The Board acted on bank and bank
holding company applications that
involved Community Reinvestment Act
(CRA) protests, adverse CRA ratings,
and issues of fair lending and noncompliance with consumer protection regulations. Several applications involving
major bank mergers elicited both strong
support and strong opposition from
members of the public; all were protested on CRA grounds. After extensive
analysis, the Board approved all these
applications, finding in each case that



convenience and needs factors were
consistent with approval.
For CRA examinations of state member banks, the Board in 1997 focused on
working with the other financial regulatory agencies to foster consistency in
the application of examination procedures and on analyzing the data collected by large banks on small business
and small farm loans and community
development lending. For large institutions, revised CRA regulations became
fully effective on July 1, 1997, so that
all such institutions are now examined
under the revised regulation and no
longer have the option to be examined
under the previous regulation.
In the fair lending area, in addition to
pursuing corrective measures on its
own, the Board referred several discrimination cases involving state member banks to the Department of Justice,
including a case of alleged redlining
in brokered loans. The Board referred
other cases raising claims of alleged
mortgage discrimination to HUD for
investigation. The Board also published
final rules governing "self tests" that
allow lenders to keep findings from
any self-tests they conduct confidential
under a legal privilege; the rules are
parallel to rules issued by HUD under
the Fair Housing Act. The Board continued to improve the System's process
for fair lending examinations, using
enhanced statistical techniques to test
large institutions for compliance.
Acting on behalf of the Federal
Financial Institutions Examination
Council (FFIEC) and HUD, the Board
prepared Home Mortgage Disclosure
Act statements for individual lenders
and aggregate reports for metropolitan

178 84th Annual Report, 1997
areas, meeting the statutory target for
delivery. From the data, the Board noted
that denial rates continued to show disparities among racial and ethnic groups
and that although the number of loans to
black applicants increased in 1996 as it
had in previous years, the rate of growth
decreased.
These matters are discussed below,
along with other actions by the Board
in the areas of consumer protection and
community affairs.

Leasing Education and
Regulatory Changes
Regulation M, which implements the
Consumer Leasing Act, requires lessors
to give consumers uniform disclosures
of the costs and terms of a lease before
the lease becomes legally binding. In
September 1996, the Board adopted a
revised Regulation M following a multiyear review under its Regulatory Planning and Review program. Through the
review the Board identified ways to simplify the regulation to carry out more
effectively the congressional intent of
consumer protection. The review also
led to the modernization of the rules, to
address changes that have taken place in
consumer leasing since 1976, the year
the Consumer Leasing Act was enacted.
The revisions included new disclosures,
primarily for motor vehicle leasing, to
improve consumers' understanding of
lease transactions. The Board determined that these revisions were especially necessary given that about onethird of all passenger cars now delivered
to consumers are leased rather than purchased and financed.
Throughout 1997, the Board worked
to develop an educational program to
ensure that consumers could take maximum advantage of the new disclosures
about lease transactions. It organized a
broad-based coalition of more than



thirty agencies and organizations from
the private and public sectors, including
automobile manufacturers and dealers,
leasing trade associations, consumer
advocacy groups, Reserve Banks, the
Federal Trade Commission, and state
attorneys general.
This leasing education team developed "core messages" about leasing—
key information that consumers need to
make informed choices:
• Leasing is different from buying
• Consumers need to consider the costs
at the beginning of, during, and at the
end of the lease
• Consumers need to compare lease
offers and negotiate some terms
• Consumers need to know their
rights and responsibilities in lease
transactions.
These core messages were incorporated into a new brochure, Keys to Vehicle Leasing—A Consumer Guide, which
was released at a press conference in
December. One million copies of the
brochure were printed and are being distributed by the Federal Reserve and the
other organizations that participated in
its preparation.
The information in the brochure is
also available on the Board's public
Web site, and copies can be printed from
there (http://www.bog.frb.fed.us/pubs/
leasing). The Web site includes a glossary of leasing terms and provides links
to the sites of some members of the
leasing education team. In December
alone, the Web site recorded almost
20,000 visits.1
1. The Board's Web site provides a wide array
of other information, including educational brochures on home mortgages, guidance for filing
complaints, the consumer compliance handbook,
and credit card information. It also provides links
to the Web sites of the FFIEC and the other
financial regulatory agencies. For CRA, the
agency sites provide data on CRA ratings, reports,

Consumer and Community Affairs
In March the Board amended Regulation M to implement changes to the
Consumer Leasing Act enacted in 1996.
The changes primarily streamline the
advertising disclosures as specified in
the act; they also revise the rules for
disclosure of up-front costs in lease
agreements to parallel the advertising
rules and include several other technical
changes.
The revised leasing rules adopted in
1996 made it necessary for leasing
companies and automobile dealerships
to develop new leasing forms and to
reprogram the computer software used
to produce the lease disclosures. The
new rules (and the commentary interpreting them) were to become mandatory on October 1, 1997. In September
1997, the Board delayed the mandatory
effective date for compliance to January
1, 1998, to give the nation's more than
22,500 new-car dealerships more time
to install and test the computer software
used to produce the disclosures.

TILA and RESPA Rules
During 1997 the Board and HUD studied ways to improve the disclosures
about home mortgage transactions given
to consumers under the Truth in Lending Act (TILA) and the Real Estate
Settlement Procedures Act (RESPA). In
1996 the Congress required the two
agencies to simplify and improve the
disclosures if possible and to create a
single format for use in complying with
both laws. In December 1996, the
agencies jointly published an advance
notice of proposed rulemaking, seeking
comment on regulatory and legislative
changes that might achieve those goals.
and examination schedules; at year-end, work was
under way to create a centralized interagency database of CRA ratings.



179

Following a review of the comments
and an analysis conducted by the Board
and HUD, the Board in March 1997
published a finding that, to achieve the
goals set forth in the amendments, legislative rather than regulatory changes
would be necessary. The Board invited
public comment on possible statutory
changes to TILA and received numerous letters from individual consumers.
Consumers' primary concern was that
disclosures about mortgage costs be
given earlier in the process than they are
now, so that they can use the disclosures
to comparison shop before applying for
a loan from a particular lender. Consumers also want the cost disclosures to be
as accurate as possible, so that they will
not face unexpected charges at loan
closing, when they no longer have the
flexibility to seek other financing.
In July, the Board and HUD testified
before the Senate Banking Committee
on ways to improve the disclosures and
outlined their plans to develop legislative recommendations. Also in July, the
Board and HUD held a public forum to
hear views on major issues raised by
reform efforts. The participants, who
included consumer advocates, officials
of state agencies, and trade associations
representing lenders, mortgage brokers,
and providers of settlement services,
discussed the goals of TILA and RESPA
and considered whether significant
improvement can be made to the existing statutes or whether more comprehensive reform is needed. They talked
about whether lenders should guarantee
rates and other costs at the time of application. They also discussed preliminary
findings from survey data on consumer
credit shopping presented by the Board
indicating that although many consumers rely on the annual percentage rate—
the APR—when selecting a loan, few
understand the measure's mathematical
significance.

180 84th Annual Report, 1997
At year-end, the Board and HUD
were preparing a report and recommendations on disclosures about home mortgage transactions, targeted for delivery
to the Congress in 1998.

Other Regulatory Matters

to the practice of using fictitious applicants for credit ("testers") but does not
apply to creditor reviews and evaluations of loan and application files. (HUD
published a similar rule to revise regulations implementing the Fair Housing
Act.)

Regulation B
(Equal Credit Opportunity)

Regulation C
(Home Mortgage Disclosure)

During 1997 the Board and HUD developed rules to govern "self tests" under
the Equal Credit Opportunity Act
(ECOA) and the Fair Housing Act. (The
two agencies were directed by amendments to the statutes to issue "substantially similar" rules.) In December 1996
the Board published a proposal to allow
a creditor that voluntarily conducts a
self-test of its operations to keep the
results confidential under a legal "privilege." The privilege serves as an incentive to do self-testing by ensuring that
any evidence of discrimination produced
by a self-test conducted voluntarily will
not be used against the creditor, provided the creditor takes appropriate corrective measures for any discrimination
that is found.
The primary issue addressed in the
rulemaking process was whether to
define "self test" narrowly or broadly;
the Board used a narrow definition in
the proposal but solicited public comment on a broader definition.
The Board's final rule, published in
December 1997, adopted the narrow
definition. It defines a self-test as any
program, practice, or study designed and
used specifically to determine the extent
or effectiveness of a creditor's compliance with the ECOA by creating data
or other factual information that is not
available and cannot be derived from
loan or application files or other records
related to credit transactions. It applies

The Congress in 1996 raised the asset
threshold for coverage of depository
institutions under the Home Mortgage
Disclosure Act (HMDA) from $10 million, setting a standard based on the
consumer price index for urban wage
earners and clerical workers (the
CPIW); it left unchanged the asset measure for nondepository institutions. To
implement this amendment, the Board
in January 1997 published an interim
rule making an initial adjustment to the
asset threshold—to $28 million—on the
basis of the change in the CPIW
between 1975 and year-end 1996. The
Board made the rule final in May. It will
make future changes using the annual
average of the CPIW for the twelvemonth period ending in November, a
schedule that will allow publication by
December of any change in the threshold for the coming year.
The rule made final in May also establishes, pursuant to statutory changes,
an alternative way for institutions to
make HMDA disclosure statements
available for public inspection. An institution must make a complete copy of
its disclosure statement available to the
public at its home office. For branch
offices located in other metropolitan
areas, it previously had to make disclosures available at one office in each area
within ten calendar days; now it has the
option of posting a notice informing the
public that disclosures will be provided




Consumer and Community Affairs
on request (and indicating the address to
which requests should be sent).
In December, the Board adjusted the
asset threshold to $29 million for data
collection in 1998.
Regulation E
(Electronic Fund Transfers)
In January 1997, the Board published
a proposal to revise Regulation E to
implement amendments to the Electronic Fund Transfer Act (EFTA)
included in the Personal Responsibility
and Work Opportunity Reconciliation
Act of 1996. The amendments exempt
from coverage "needs tested" electronic
benefit transfer (EBT) programs established by or administered by state or
local governments, including those for
the disbursement of food stamps and
cash assistance to needy families.
Federally administered programs—as
well as pension and other employmentrelated EBT programs established by
state or local governments—remain subject to Regulation E's special rules for
government programs. Compliance with
these special rules, which the Board
adopted in 1994, became mandatory on
March 1, 1997.
In March the Board submitted to the
Congress, as required by the Economic
Growth and Regulatory Paperwork
Reduction Act of 1996, a report on the
possible costs and consumer benefits
resulting from application of the EFTA
to electronic stored-value products. The
report considered several alternative
approaches, including allowing competition in the market to determine which
consumer protections are provided for a
given electronic stored-value product.
Among the sources of information used
for the analysis were comments submitted to the Board in response to its 1996
proposal to extend the disclosure provi


181

sions of Regulation E to some electronic
stored-value products.
The report noted that even minimal
regulation (such as requiring only initial
disclosures) could affect the development of electronic stored-value products
if the incremental costs of complying
with the regulation were large or if
they differed from one product to the
next. Because experience with electronic
stored-value products to date is limited,
the report concluded that it would be
difficult to predict whether the benefits
to consumers from any particular regulatory provision would outweigh the
corresponding costs of compliance. The
report did not endorse or recommend
any specific course of action at this time.
Regulation Z
(Truth in Lending)
In January the Board published proposed revisions to Regulation Z to carry
out changes to the Truth in Lending Act
enacted by the Congress in 1996. The
amendments apply to variable-rate loans
having a term of more than one year that
are secured by the consumer's principal
dwelling. Previously, creditors had to
give a fifteen-year historical example of
index values related to the interest rate.
Now they have the option of providing a
statement that the periodic payment
may increase or decrease substantially,
together with the disclosure of a maximum interest rate and a corresponding
payment based on a $10,000 loan
amount. The Board adopted a final rule
in November.
In June the Board held public hearings in Los Angeles, Atlanta, and Washington, D.C., to determine how well the
Home Ownership Equity Protection Act
(HOEPA) is working. The HOEPA provisions of Truth in Lending apply to
loans secured by the homeowner's prin-

182 84th Annual Report, 1997
cipal dwelling if the interest rate or closing costs exceed certain levels. The law
seeks to protect against abusive mortgage lending practices that target the
elderly and the unsophisticated. The act
requires credit disclosures, beyond those
normally given, three days before a
homeowner becomes obligated on a
loan.
The Board heard a wide range of
views. Lenders criticized the complexity
of HOEPA's coverage tests and suggested simplifying the rules about which
fees count toward the closing costs
threshold (and raising the rate and fee
thresholds to keep the same level of
coverage). They also expressed concern
about having to give new disclosures to
correct even a small error, because doing
so triggers a new three-day waiting
period before funds can be disbursed.
Consumer advocates asked for a more
effective enforcement tool to address
continuing abuses and also favored a
prohibition on practices that they say
place homes at risk of foreclosure, such
as loans to borrowers who have high
debt-to-income ratios and repeated refinancings (loan flipping) that add fees on
top of fees.
Although the June hearings were
devoted primarily to home equity lending, the Board also used them to explore
other issues that it must consider in the
future, including issues related to how
Truth in Lending's finance charge disclosure could more accurately reflect the
cost of consumer credit.

Fair Credit Reporting Act adopted in
1996, addresses the potential use of such
information to commit financial fraud
and the corresponding risk of loss to
insured depository institutions.
The Board found that information
about consumers is widely available
from both government and commercial
sources and that few legal constraints
limit its collection, use, or dissemination. Some of the information is sensitive and can be used to facilitate unlawful activities, such as "identity theft"
involving the illegal use of personal data
to commit financial fraud. Losses from
identify theft do not seem to present
a significant risk to insured depository
institutions at this time. Nonetheless, the
report notes, this type of fraud is a growing risk to consumers and financial institutions, and relatively easy access to
personal information may increase the
risk. The report suggests steps that consumers and financial institutions could
take to reduce the likelihood of fraud,
but it makes no recommendations for
legislative or administrative action.
In July the Board published for comment proposed amendments to the
model forms in Regulation B related to
consumer rights under the Fair Credit
Reporting Act. The proposal relates to
the disclosures that consumers must be
given when they are denied credit on the
basis of information obtained from a
consumer reporting agency or from an
affiliate of the creditor. Final action was
pending at year-end.

Actions under the Fair Credit
Reporting Act

Interpretations

In March the Board submitted to the
Congress a report concerning the availability and use of sensitive identifying
information about consumers, such as
their social security numbers. The
report, required by amendments to the



In February the Board revised the official staff commentary to Regulation Z
(Truth in Lending). The update gives
guidance about new tolerances for
the disclosure of finance charges and
other matters in connection with homesecured installment loans.

Consumer and Community Affairs
In March the Board revised the official staff commentary to Regulation M
(Consumer Leasing). The update offers
guidance for compliance with Regulation M as revised by the Board in September 1996.

HMDA Data and
Lending Patterns
The Home Mortgage Disclosure Act
requires that mortgage lenders covered
by the act collect and make public certain data about their home purchase,
home improvement, and refinancing
loan transactions. Depository institutions generally are covered if they were
located in metropolitan areas and had
assets above a certain threshold at the
preceding year-end; mortgage companies are covered if they were located in
or made loans in metropolitan areas and
had assets of more than $10 million at
the preceding year-end (when combined
with the assets of any parent company),
and are also covered, regardless of asset
size, if they originated 100 or more
home purchase loans in the preceding
year.2 In 1997, 8,367 depository institutions and affiliated mortgage companies
and 961 independent mortgage companies reported HMDA data for calendar
year 1996.
Lenders covered by HMDA submit
information about the geographic location of the properties related to their
loans and applications, the disposition
of loan applications, and, in most cases,
the race or national origin, income, and
sex of applicants and borrowers. The
Federal Reserve Board processes the
data and produces disclosure statements
2. Through 1996, the asset threshold for depository institutions was $10 million. In September
1996, the Congress amended HMDA to raise the
asset threshold according to changes in the CPIW.
See "Other Regulatory Matters" above.



183

on behalf of HUD and the member
agencies of the Federal Financial Institutions Examination Council.3
The FFIEC prepares individual disclosure statements for lenders that
reported data—one statement for each
metropolitan area in which a lender had
offices and reported loan activity. The
42,936 statements produced from the
1996 data cover 14.8 million loans and
applications; the 32 percent increase
in loans and applications over 1995 is
largely attributable to a sharp increase in
refinancing activity.4 In July, each institution made its disclosure statements
public; and in August, reports containing aggregate data for all lenders in a
given metropolitan area were made
available at central depositories in the
nation's 332 metropolitan areas.
Lending institutions tend to specialize
in different types of home loans. In
1996, depository institutions continued
to be the predominant source of home
improvement loans and loans for multifamily residences. Mortgage companies
accounted for about 52 percent of
the conventional home purchase loans
reported under HMDA and about
80 percent of the government-backed
home purchase loans.
Mortgage originators and institutions
in the secondary market for mortgages,
such as Fannie Mae (the Federal
National Mortgage Association) and
Freddie Mac (the Federal Home Loan
Mortgage Corporation), offer a variety
of conventional home loan programs,
often in concert with private mortgage
3. The member agencies of the FFIEC are the
Board, the Federal Deposit Insurance Corporation
(FDIC), the National Credit Union Administration
(NCUA), the Office of the Comptroller of the
Currency (OCC), and the Office of Thrift Supervision (OTS).
4. A summary of the 1996 HMDA data appears
in a series of special tables in the Federal Reserve
Bulletin, vol. 83, no. 9 (September 1997),
pp. A68-A75.

184 84th Annual Report, 1997
insurers, to benefit low-income and
minority households and neighborhoods.
In recent years, these institutions have
expanded their program offerings, which
may account for the continuing increase
in loans to these homebuyers. From
1993 to 1996 the number of conventional home purchase loans to lowincome borrowers increased 37 percent,
compared with 23 percent for highincome borrowers.
The Federal Housing Administration
(FHA) also has adopted measures to
enhance borrowing opportunities for
low-income households; at the same
time, it has worked to make FHA loans
more competitive. The agency has lowered its insurance premiums, increased
flexibility in its underwriting standards,
and raised the maximum size of the
loans that it will back. Between 1993
and 1996 the number of governmentbacked home purchase loans (predominantly FHA-insured) increased
19 percent for low-income borrowers,
compared with 5 percent for highincome borrowers.
Lending Patterns
Home purchase lending to minority
homebuyers has increased markedly in
recent years: From 1993 to 1996 the
number of home purchase loans
extended to black applicants increased
53 percent, to Hispanic applicants
56 percent, and to Asian applicants
15 percent—compared with 14 percent
for white applicants. However, the
growth of lending to blacks slowed in
1996 and was less than the national
average. The slower growth may have
been due in part to the relatively weaker
housing markets in that year in states
that have relatively large black populations, principally some states in the midAtlantic region and a number of southern states.



The 1996 HMDA data continue to
show higher rates of credit denial for
conventional home purchase loans for
black and Hispanic applicants than for
Asian and white applicants, even within
the same income brackets. Overall
denial rates for conventional home purchase loans were 49 percent for black
applicants, 34 percent for Hispanic
applicants, 14 percent for Asian applicants, and 24 percent for white applicants. All these rates were higher than in
1993, 1994, and 1995.5
The increase in denial rates over time
stems in part from changes in the home
lending market. First, the number of
applications submitted to "subprime"
lenders and to institutions that extend
loans for the purchase of manufactured
homes has increased substantially. These
lenders' denial rates are quite high
(about 55 percent on average, compared
with about 13 percent for other lenders),
and their increasing share of all applications for conventional home purchase
loans (25 percent in 1996 compared with
11 percent in 1993) results in higher
overall denial rates. Second, applications by low-income households constitute an increasing share of all applications. Because low-income households
tend to have relatively high denial rates,
overall denial rates also tend to rise.
Finally, the incidence of multiple applications has increased over time. Applicants who submit applications to more
than one prospective lender have high
denial rates, and their growth in the pool
of all applicants also tends to raise overall denial rates.
The data collected under HMDA
do not include the wide range of financial and property-related factors that
lenders consider in evaluating loan
5. For details, see the Special Tables section in
the September issue of the Federal Reserve Bulletin for 1995 and subsequent years.

Consumer and Community Affairs
applicants. Thus, the HMDA data alone
do not provide an adequate basis
for determining whether a particular
lender is discriminating unlawfully. But
because they can be supplemented by
other information available to lenders'
supervisory agencies, the data are an
important tool in the enforcement of fair
lending laws.
Use of Data by Other Agencies
Lenders who sell their loans in the secondary market are required under
HMDA to identify the category of purchaser (for example, Fannie Mae or
Freddie Mac). The information helps
make it possible to assess the relative
performance of institutions in serving
the credit needs of lower-income and
minority homebuyers.6
In its oversight of the housing activities of government-sponsored entities,
HUD uses the HMDA data to help
assess the efforts of Fannie Mae and
Freddie Mac to support mortgages for
low- and moderate-income families and
mortgages on properties in targeted communities. The data also serve as one
component of the fair lending reviews
conducted by HUD and the Department
of Justice. In addition, the data assist
HUD, the Department of Justice, and
state and local agencies in responding
to allegations of lending discrimination filed by loan applicants and borrowers and assist in the agencies' targeting of lenders for further inquiry.

6. See, for example, the discussion of which
institutions bear the credit risk of mortgages
extended to lower-income and minority homebuyers in Glenn B. Canner, Wayne Passmore,
and Brian J. Surette, "Distribution of Credit
Risk among Providers of Mortgages to LowerIncome and Minority Homebuyers," Federal
Reserve Bulletin, vol. 82 (December 1996),
pp. 1077-1102.



185

Private Mortgage Insurance
The FFIEC, on behalf of the nation's
eight active private mortgage insurance
(PMI) companies, compiles information
on applications for private mortgage
insurance similar to the information on
home mortgage lending collected under
HMDA. Lenders typically require private mortgage insurance for conventional mortgages that involve small
down payments.
Working through their national trade
association, the Mortgage Insurance
Companies of America, the PMI companies submit their data to the FFIEC on a
voluntary basis. The FFIEC prepares
disclosure statements for each company
and aggregate reports for metropolitan
areas. These reports are available for
public review at the central depositories
at which the HMDA data are available.7

Fair Lending
Under the Equal Credit Opportunity
Act, the Board is required to refer to the
Department of Justice any violations
that it has reason to believe constitute a
"pattern or practice" of unlawful discrimination. The Board made four such
referrals during 1997. Two of the cases
involved discrimination on the basis of
marital status, and a third, discrimination on the basis of age. The three matters were returned to the Board for
enforcement.
The fourth case, which was still under
consideration by the Department of Justice at the close of 1997, involved a
determination that a lender had apparently engaged in discriminatory "redlining" in residential loans, in violation of
7. A summary of the 1996 PMI data appears
in a series of special tables in the Federal
Reserve Bulletin, vol. 83, no. 9 (September 1997),
pp. A76-A79.

186 84th Annual Report, 1997
both the ECOA and the Fair Housing
Act. The alleged redlining occurred
when the lender, which brokered loans
for another institution, honored the practice of that institution to refrain from
taking applications from persons residing in designated urban areas. The
Board's examination had demonstrated
that those urban areas had significantly
higher percentages of minority residents
than the remainder of the institution's
market area and that the lender appeared
to have no nondiscriminatory explanation for adhering to the institution's
redlining policy.

Community Development
The Federal Reserve System, through
its Community Affairs programs at the
Board and the Reserve Banks, engages
in ongoing outreach, informational, and
educational activities to help financial
institutions and the public understand
and address financial services issues
affecting low- and moderate-income
persons.
In 1997, six Reserve Banks—Boston,
New York, Cleveland, St. Louis, Chicago, and San Francisco—reached the
final stages of their Residential Mortgage projects following a two-year initiative in selected cities to help identify
and address barriers to equal access to
credit in the homebuying process. In
earlier stages, the Reserve Banks had
brought together community representatives and key industry participants
in the homebuying process to discuss
problems that affect minority and lowerincome homebuyers and to forge solutions. Task groups reported their findings during 1997. Implementation of
their recommendations by community
and industry groups, separately and in
joint efforts, is expected to improve
equal access to credit over the long term
in the cities studied.



Although community development,
reinvestment, and fair lending continued
to be central to Community Affairs
educational and technical assistance
activities, 1997 was marked by a
broader approach to the economic issues
confronting low- and moderate-income
communities. The New York Reserve
Bank, for example, sponsored a conference on welfare reform and its implications for lower-income communities.
The Minneapolis Reserve Bank helped
organize focus groups to discuss the
possible effects of increased use of electronic banking services on low- and
moderate-income residents.
The development and sponsorship of
educational activities remained a major
undertaking of the Federal Reserve's
Community Affairs programs in 1997.
Overall, the Reserve Banks sponsored
or cosponsored 233 conferences, seminars, and informational meetings on
community development, reinvestment,
and fair lending topics. The programs
were attended by more than 11,600
bankers, bank examiners, and representatives of small businesses and community and consumer groups. Additionally,
staff members from the Board and the
Reserve Banks made more than 275 presentations at conferences, seminars, and
meetings sponsored by banking, governmental, business, and community
organizations.
Programs in 1997 reflected a growing
concern with issues related to small
business finance and economic development. The Cleveland Reserve Bank,
working with the U.S. Small Business
Administration and the National Council for Smaller Enterprises, spearheaded
an "Access to Capital" initiative for the
Cleveland area. The initiative will bring
together business leaders to review the
credit process, identify possible barriers
faced by small firms, and make recommendations for improving these firms'

Consumer and Community Affairs
access to financing. The Boston and
San Francisco Reserve Banks sponsored conferences and workshops on
the financing and technical assistance
needs of women-owned businesses. The
Dallas Reserve Bank sponsored a symposium on financing for very small
firms—"microenterprises"—and
the
Boston Reserve Bank helped create a
training curriculum on microenterprise
development.
Economic development in rural areas
and on Indian reservations was the focus
of educational forums at several Reserve
Banks. The Chicago Reserve Bank
sponsored a conference on rural community economic development, and the
Minneapolis Reserve Bank sponsored a
workshop on women's access to credit
and capital in rural areas and on Indian
reservations. The Kansas City and Minneapolis Reserve Banks worked with
the Montana-Wyoming Tribal Leaders
Council and the University of Montana
Law School to cosponsor a conference
on building tribal infrastructure to support economic prosperity.
In 1997 the Community Affairs programs developed or expanded a variety
of publications and other informational
resources directed at bankers, small
businesses, and community organizations. The Minneapolis Reserve Bank
published a revised and expanded second edition of Principles and Practices
for Community Development Lending,
and the Richmond Reserve Bank published a special Marketwise Report
on "Community-Based Development."
The Reserve Banks published a combined total of thirteen different community affairs newsletters dealing with
various aspects of community and
economic development, reinvestment,
and fair lending. The combined circulation of these newsletters in 1997 grew
to more than 73,000, including bankers,
small-business owners, representatives



187

of community-based development and
consumer groups, and housing, community, and economic development
officials.
Outreach and technical assistance to
banks—and to community representatives interested in bank involvement in
reinvestment and community development initiatives—continued to play a
major role in Community Affairs programs in 1997. Members of the Community Affairs staffs at the Board and the
Reserve Banks conducted more than
1,600 outreach meetings with representatives of financial institutions and local
communities to explore community
credit needs and issues related to the
provision of financial services.
In conjunction with their outreach
efforts, several Reserve Banks develop,
for selected communities, profiles that
identify key community and economic
development needs and describe some
organizations that can serve as
resources. These profiles are made available to banks and to community and
business organizations, and they often
help stimulate collaborative approaches
to community reinvestment. During
1997, the New York Reserve Bank published profiles for Westchester County
in New York and for Bergen and Passaic
Counties in New Jersey, and the Chicago Reserve Bank published a profile
for the metropolitan area of SaginawBay City-Midland in Michigan.
The St. Louis Reserve Bank developed a profile for the Springfield,
Missouri, metropolitan area and worked
with the Dallas Reserve Bank on a profile of the Texarkana metropolitan area.
The Richmond Reserve Bank developed
a profile of the tricounty area surrounding Petersburg, Virginia.
The San Francisco Reserve Bank
developed profiles for the states of Utah,
Idaho, and Washington and the cities
of Portland, San Diego, Los Angeles,

188 84th Annual Report, 1997
Sacramento, San Francisco, San Jose,
Las Vegas, and Phoenix. Each profile,
about sixty pages long, gives an overview of the economic and demographic
characteristics of the area and includes
a directory of community and government organizations, programs of interest
to bankers, and lending, service, and
investment opportunities for financial
institutions.
The Atlanta Reserve Bank completed
work on a community contacts database
designed to facilitate accessibility and
greater use of outreach information. The
database has been adopted for use by
several other Reserve Banks, and the
database design has been adopted by
the FFIEC to facilitate interagency sharing of community contact information for use in assessments of CRA
performance.
In 1997, the Board helped organize
the first formal interagency meeting of
Community Affairs representatives of
the federal supervisory agencies. Participants exchanged information on their
agencies' community affairs programs,
discussed community development and
reinvestment issues, and explored ways
in which the agencies might coordinate
their activities.
Community Affairs programs continued in 1997 to provide support as the
Federal Reserve carried out its supervisory responsibilities. Board and Reserve
Bank staff members helped to review
proposals regarding community development investment by banks and bank
holding companies and to analyze
HMDA and CRA data on small-business
lending for use in community affairs
research and publications; and in conducting CRA examinations, Reserve
Bank examiners increasingly made use
of community contacts and other information provided by Community Affairs
staff members.



Finally, Board and Reserve Bank staff
members provided considerable support
to members of the Board of Governors
and to Reserve Bank presidents, who in
1997 gave increased attention to community development, reinvestment, fair
lending, and consumer credit issues.
Members of the Board made speeches at
conferences and meetings of community, consumer, and civil rights groups
and toured lower-income neighborhoods
and community development projects in
Reserve Bank cities. A member of the
Board continued to serve on the board
of directors of the Neighborhood Reinvestment Corporation. Activity by the
Subcommittee on Community Affairs of
the System's Conference of Presidents
also increased.

Economic Effects of the
Electronic Fund Transfer Act
In keeping with statutory requirements,
the Board monitors the effects of the
Electronic Fund Transfer Act on the
compliance costs and consumer benefits
related to electronic fund transfer services. In 1997 the economic effects of
the act generally increased because of
continued growth in the use of EFT
services, although an exemption for
certain electronic benefit transfer programs reduced costs for state and local
governments.
As revised in 1997, Regulation E
exempts "needs tested" EBT programs
established or administered by state
or local governments. The exemption
reduces the cost of providing benefits
electronically and eliminates uncertainty
about potential losses associated with
Regulation E's liability rules. Thus, it
will likely encourage the states to
develop EBT programs. Without Regulation E, the protections previously
afforded benefit recipients, especially

Consumer and Community Affairs
protections against unauthorized use,
may be diminished somewhat. However, electronic delivery will likely provide benefit recipients greater security
than the paper-based delivery systems
previously used.
During the 1990s, the proportion of
U.S. households using EFT services has
grown at an annual rate of about 2 percent. About 85 percent of households
now have one or more EFT features on
their accounts at financial institutions.
Automated teller machines remain the
most widely used EFT service. Nearly
two-thirds of all U.S. households currently have ATM cards, and most of the
nation's depository institutions offer
consumers access to ATMs. Access to
ATMs has been enhanced by the
operation of shared networks; almost all
ATM terminals are part of one or more
shared networks. Over the past year, the
number of ATM transactions increased
about 3 percent, from 890.3 million per
month in 1996 to 915.0 million per
month in 1997. Over the same period,
the number of installed ATMs rose
19 percent, to 165,000.
Direct deposit is another widely used
EFT service. More than half of all
households in the United States receive
direct deposit of funds into their
accounts. Direct deposit is particularly
widespread in the public sector, accounting for more than half of social security
payments and two-thirds of federal salary and retirement payments. It is less
common in the private sector but has
grown substantially in recent years. Taking into account both public and private
payments, the proportion of households
receiving direct deposits has grown
about 5 percent a year during the 1990s.
Nearly a third of households now
have debit cards, which consumers use
at the point of sale to debit their transaction accounts. Point-of-sale systems still



189

account for a small share of electronic
transactions, but their use continued
to grow rapidly in 1997. Over the past
year, the number of point-of-sale transactions rose 26 percent, to 120.2 million
per month from 95.5 million per month
in 1996, and the number of point-of-sale
terminals rose 49 percent, to 1.3 million.
The incremental costs associated with
the EFTA are difficult to quantify
because no one knows how industry
practices would have evolved in the
absence of statutory requirements. The
benefits of the law are also difficult to
measure because they cannot be isolated
from consumer protections that would
have been provided in the absence of
regulation.
The available evidence suggests no
serious consumer problems with electronic transactions at this time. In 1997,
about 94 percent of depository institutions examined by federal banking
agencies were in full compliance with
Regulation E. Violations primarily
involved failure to provide all the
required consumer disclosures. Consumer complaints and inquiries filed
with the System are another source
of information about potential problems. In 1997, 114 of the complaints
processed involved electronic transactions; of the 52 that involved state
member banks, none involved a violation of the EFTA or Regulation E. The
62 complaints that did not involve state
member banks were forwarded to other
agencies for resolution.

Compliance Examinations
Since 1977 the Federal Reserve System
has maintained a consumer compliance
examination program to ensure that state
member banks and foreign banking
organizations subject to Federal Reserve
examination comply with federal laws

190 84th Annual Report, 1997
governing consumer protections in
financial services.
The Oversight Section of the Board's
Division of Consumer and Community Affairs coordinates compliance
examinations, which are conducted by
the consumer affairs examination units
of the twelve Reserve Banks. The section reviews a sample of the examinations for effectiveness, adherence to
System policy, and uniformity of
approach.
During the 1997 reporting period
(July 1, 1996, through June 30, 1997),
the Federal Reserve conducted 839
examinations for compliance with
consumer protection laws: 599 of state
member banks and 240 of foreign banking organizations.8
Examiner training in the areas of consumer compliance, fair lending, and
the Community Reinvestment Act is
an important aspect of the Federal
Reserve's compliance program. New
Reserve Bank examiners attend a twoweek basic consumer compliance
school, and examiners with six to twelve
months of field experience attend a
two-week advanced consumer compliance school, a two-week fair lending
school, and a one-week course in CRA
examination techniques. During the
1997 reporting period, the System conducted three basic consumer compliance
schools for a total of fifty-nine participants, two advanced consumer compliance schools for thirty-two participants,
three fair lending schools for fifty-three
8. The foreign banking organizations examined
by the Federal Reserve are organizations operating
under section 25 or 25(a) of the Federal Reserve
Act (Edge Act and agreement corporations) and
state-chartered commercial lending companies
owned or controlled by foreign banks. These institutions are not subject to the Community Reinvestment Act, and, typically, in comparison with state
member banks, engage in relatively few activities
that are covered by consumer protection laws.



participants, and three courses in CRA
examination techniques for sixty-six
participants.
The Reserve Banks supplement
examiner training through departmental
meetings and special training sessions.
In addition, examiners from the Reserve
Banks routinely participate in special
projects that give them an opportunity to
widen their perspective through working with other System examiners and
Board staff.
During 1997, the Board and the FDIC
entered into a memorandum of understanding to jointly develop an examinerworkstation module to provide automated assistance in three areas of
compliance examinations: loans, deposit
operations, and home mortgage disclosures. The goals of this joint effort are to
increase consistency in examinations, to
reduce the time examiners spend on site,
and to provide tools that decrease the
time examiners spend entering data
needed for examinations.
The FFIEC is the interagency coordinating body charged with developing
uniform examination principles, standards, and report forms. In 1997, the
member agencies of the FFIEC jointly
revised examination procedures to
reflect changes in consumer protection
laws and regulations, including the
Flood Disaster Protection Act, the Truth
in Lending Act, the Fair Debt Collection
Practices Act, the Real Estate Settlement Procedures Act, and the Electronic
Fund Transfer Act.
In addition, the FFIEC worked to
promote consistency in examinations
among the agencies responsible for
implementing the CRA. Examiners from
the Board, the FDIC, the OCC, and the
OTS reviewed the examination process
for small institutions, and the agencies
implemented some of their recommendations for revising examination procedures and the public evaluation format.

Consumer and Community Affairs
To foster consistency in the application
of the examination procedures for large
institutions, the agencies held three
interagency training sessions under the
auspices of the FFIEC. The agencies are
also reviewing the implementation of
the procedures for examining institutions under the lending, investment, and
service tests by reviewing the written
performance evaluations and conducting
interagency examinations of eight large
institutions. They expect to provide
examiner training on the basis of their
findings and to provide interpretive
guidance on issues identified through
the project.
The FFIEC expanded its CRA Web
site to make information on CRA more
readily available to the public. The site
now includes the CRA regulation; an
interagency question-and-answer document; examination procedures; interpretive letters; CRA data collected from
large institutions; and links to each
member agency's CRA Web site for information on CRA ratings, examination
schedules, and performance evaluations.

Community Reinvestment Act
The Federal Reserve assesses the CRA
performance of state member banks
during regular compliance examinations and takes the CRA record (as
well as other factors) into account when
acting on applications from state member banks and from bank holding
companies.
The Federal Reserve System has a
three-faceted program for fostering and
enforcing better bank performance
under the CRA:
• Examining institutions to assess
compliance
• Disseminating information on community development techniques to



191

bankers and the public through community affairs offices at the Reserve
Banks
• Performing CRA analyses in connection with applications from banks and
bank holding companies.
During the 1997 reporting period
(July 1, 1996-June 30, 1997), the
Federal Reserve conducted 586 CRA
examinations. Of the banks examined, 152 were rated "outstanding"
in meeting community credit needs,
423 were rated "satisfactory," 10
were rated "needs to improve," and
1 was rated as being in "substantial
noncompliance."
Regulation BB, as revised in 1995,
provides for different evaluation methods depending on an institution's size,
structure, and operations. The performance standards for small banks became
effective on January 1, 1996. Also as of
that date, institutions could choose
whether (1) to submit a strategic plan
to serve as a basis for their evaluations,
(2) to be evaluated under the lending,
investment, and service tests if they
were large institutions, or (3) to request
to be designated wholesale or limited
purpose institutions and be examined
under the regulation's community development test. Using the lending, service,
and investment tests for large retail
institutions was mandatory after July 1,
1997, meaning that they could no longer
be evaluated under the earlier regulation. Of the 586 CRA examinations conducted by the Federal Reserve during
the reporting period, 460 used the new
assessment method for small banks; 86
used the assessment-factor method of
the earlier regulation; 39 used the lending, investment, and service tests; and 1
used the community development test.
During the 1997 reporting period, the
Board also approved one bank's strategic plan and approved four banks'

192 84th Annual Report, 1997
requests to be designated wholesale
institutions.

Agency Reports on Compliance
with Consumer Regulations
The Board is required to report annually
on compliance with the regulations that
implement the Equal Credit Opportunity
Act, the Electronic Fund Transfer Act,
the Consumer Leasing Act, the Truth in
Lending Act, and the Expedited Funds
Availability Act and with the prohibition
in Regulation AA against unfair and
deceptive practices. For purposes of this
report, the Board assembles data from
the Reserve Banks and collects data
from the four other financial regulatory
agencies (the FDIC, the OCC, the OTS,
and the NCUA) and from other federal
supervisory agencies.9 The extent of
compliance with these regulations varied widely in 1997, but, overall, compliance was better than in 1996. The following sections summarize compliance
data for July 1, 1996, through June 30,
1997 (referred to here as the 1997
reporting period, or simply 1997).
Equal Credit Opportunity Act
(Regulation B)
The five financial regulatory agencies
reported that 80 percent of the institutions examined during the 1997 reporting period were in full compliance with
Regulation B, compared with 78 percent
for the 1996 reporting period. Of the
institutions not in full compliance,
71 percent had one to five violations
(the lowest frequency category). The
most frequent violations involved the
9. The financial regulatory agencies use different methods to compile data on compliance, which
are presented here in terms of percentages of
financial institutions supervised or examined.
Consequently, the data support only general
conclusions.



failure to take one or more of the following actions:
• Provide a written notice of adverse
action containing a statement of the
action taken, the name and address
of the creditor, an ECOA notice, and
the name and address of the federal
agency that enforces compliance
• For monitoring purposes, collect
information about the race or national
origin, sex, marital status, and age of
applicants seeking credit primarily for
the purchase or refinancing of a principal residence
• Notify an applicant of the action taken
within the time frames specified in the
regulation
• Give a statement of reasons for
adverse action that is specific and
indicates the principal reasons for the
credit denial or other adverse action
• Take a written credit application for
the purchase or refinancing of a principal residence
• Retain proper records of credit
transactions.
The OTS issued three formal enforcement actions addressing violations of
Regulation B, and the FDIC issued two
formal enforcement actions addressing
violations of consumer protection regulations, including Regulation B.
In 1997, the Federal Trade Commission (FTC) obtained consent decrees
against two consumer finance companies for violations of the ECOA. In one
case, the decree addressed allegations
that the finance company discriminated
against applicants on the basis of age
and the fact that their income derived
from public assistance. In the other case,
the finance company failed to provide
applicants who were denied credit a
written notice of adverse action. The
FTC is continuing its work with other
government agencies and with creditor

Consumer and Community Affairs
and consumer organizations to increase
awareness of, and compliance with, the
ECOA.
The other agencies that enforce the
ECOA—the Farm Credit Administration (FCA), the Department of Transportation, the Securities and Exchange
Commission (SEC), the Small Business Administration, and the Grain
Inspection, Packers and Stockyards
Administration of the Department of
Agriculture—reported substantial compliance among the entities they supervise. The FCA's examination and
enforcement activities revealed certain
violations of the ECOA, most of them
due to creditors' failure to collect monitoring information and to comply with
rules regarding adverse action notices;
however, no formal actions were initiated. The SEC reported that no violations of Regulation B were detected during examinations of registered brokerdealers conducted by self-regulatory
organizations, the agency's principal
method of reviewing for compliance.
Electronic Fund Transfer Act
(Regulation E)
The five financial regulatory agencies
reported that approximately 94 percent
of the institutions examined during the
1997 reporting period were in compliance with Regulation E, the same percentage as in 1996. Financial institutions most frequently failed to comply
with the following provisions:
• Provide, at least once each calendar
year, a notice of the procedures for
resolving alleged errors
• After receiving notice of an error,
investigate the alleged error promptly,
determine whether an error was actually made, and transmit the results of
the investigation and determination to
the consumer within ten business days



193

• Provide an adequate initial disclosure
at the time a consumer contracts for
an EFT service or before the first
transfer is made
• Provide customers with a periodic
statement of all required information
at least quarterly, or monthly if EFT
activity occurred.
The OTS issued one formal enforcement action addressing violations of
Regulation E during the 1997 reporting
period. The FTC issued a final decision
and order that was incorporated into a
consent decree, settling charges against
a telemarketing company for failing to
obtain written authorization from consumers for preauthorized transfers. In
addition, the FTC accepted for public
comment consent agreements in three
cases alleging violations of the EFTA;
the cases involved free trial offers that
resulted in unexpected charges for many
consumers. The FDIC issued two formal
enforcement actions addressing violations of consumer protection regulations, including Regulation E.
The SEC reported that no violations
of Regulation E were detected during
examinations of registered brokerdealers conducted by self-regulatory
organizations.
Consumer Leasing Act
(Regulation M)
The five financial regulatory agencies
reported substantial compliance with
Regulation M for the 1997 reporting
period. As in 1996, more than 99 percent of the institutions examined were in
full compliance with the regulation. The
few violations involved failure to adhere
to specific disclosure requirements.
In 1997 the FTC issued five final
decisions and orders against major automobile manufacturers to address violations of the Consumer Leasing Act

194 84th Annual Report, 1997
(CLA) and the Truth in Lending Act
(TILA). The orders settled charges that
the five companies had violated the CLA
in lease promotions that featured low
monthly payments or low amounts down
in large, bold print but hid additional
costs and sometimes contradictory information in "mouse print" that was difficult or impossible to read. The complaints in these cases also charged the
companies with violating the CLA by
failing to clearly and conspicuously disclose various lease costs and terms as
required.
In two other cases, the FTC issued
final decisions and orders against automobile dealerships for deceptive credit
and lease agreements in violation of the
CLA and TILA. The FTC also issued
for public comment consent agreements
with two major automobile manufacturers, and with five dealerships and their
chief executive officers in the St. Louis
area, for violations of the CLA and
TILA involving misrepresentation and
hiding or failing to disclose adequately
the terms of advertised automobile lease
deals.
In 1997 the FTC continued its education efforts among consumers and businesses and published a new brochure for
businesses giving information about the
advertising requirements of revised
Regulation M.
Truth in Lending Act
(Regulation Z)
The five financial regulatory agencies
reported that 75 percent of the institutions examined during the 1997 reporting period were in full compliance with
Regulation Z, compared with 70 percent
in 1996. The Board reported a decrease
in compliance, the FDIC and the OTS
reported an increase, and the OCC and
the NCUA reported an unchanged level
of compliance. The five agencies indi


cated that of the institutions not in
compliance, 62 percent were in the
lowest-frequency category (one to five
violations), compared with 63 percent in
1996.
The violations of Regulation Z most
often observed were failure to accurately disclose the finance charge, payment schedule, annual percentage rate,
and amount financed and failure to provide a disclosure reflecting the terms of
the legal obligation between the parties.
The OTS issued five formal enforcement actions addressing violations of
Regulation Z, and the FDIC issued two
formal enforcement actions addressing
violations of consumer protection regulations, including Regulation Z.
A total of 261 institutions supervised
by the Board, the FDIC, or the OTS
were required, under the Interagency
Enforcement Policy on Regulation Z, to
refund $2.6 million to consumers in
1997 because of improper disclosures.
The Department of Transportation
continued during 1997 to prosecute a
cease-and-desist consent order issued in
1993 against a travel agency and a charter operator. The complaint alleged that
the two organizations had violated
Regulation Z by routinely failing to send
credit statements for refund requests
to credit card issuers within seven days
of receiving fully documented credit
refund requests from customers. A
motion for a summary judgment is
pending before an administrative law
judge.
The FTC during the year issued two
final decisions and orders in cases alleging deceptive disclosures and understated credit terms, including the annual
percentage rate, in violation of Regulation Z and TILA. Another final decision
and order included civil penalties and
consumer redress for alleged violations
of a prior FTC order relating to failure
to include mandatory credit insurance

Consumer and Community Affairs
and other costs in credit disclosures to
consumers. The agency also issued
seven final decisions and orders and
accepted for public comment consent
agreements in seven other cases involving lease and credit advertising. These
cases alleged deceptive lease and credit
advertising, in violation of the CLA or
TILA—specifically, failure to clearly
and conspicuously or accurately provide
required lease or credit advertising
disclosures.
During the year the FTC also continued its consumer and business education
efforts through training seminars in several regions of the country.

Expedited Funds Availability Act
(Regulation CC)
The five financial regulatory agencies
reported that 87 percent of institutions
examined during the 1997 reporting
period were in full compliance with
Regulation CC, the same percentage as
in 1996. Of the institutions not in full
compliance, 66 percent had one to five
violations (the lowest-frequency category). Institutions most frequently failed
to comply with the following provisions:
• Follow special procedures for large
deposits
• Adequately train employees and provide procedures to ensure compliance
• For deposits not subject to next-day
availability, provide immediate availability to $ 100
• Make funds from certain checks, both
local and nonlocal, available for withdrawal within the times prescribed by
the regulation
• Provide disclosures of the institution's
availability policy.
The OTS issued two formal enforcement actions addressing violations of
Regulation CC, and the FDIC issued



195

two formal enforcement actions addressing violations of consumer protection
regulations, including Regulation CC.
Unfair and Deceptive
Acts or Practices
(Regulation AA)
The three financial regulatory agencies
with responsibility for enforcing Regulation AA's Credit Practices Rule
reported that 97 percent of the institutions examined during the 1997 reporting period were in full compliance with
the regulation. The most frequent violation was failure to provide a clear, conspicuous disclosure regarding a cosigner's liability. No formal enforcement
actions for violations of Regulation AA
were issued during the period.

Applications
In February, the Board adopted amendments to Regulation Y (Bank Holding
Companies and Change in Bank Control) that streamlined the applications
process for mergers and acquisitions.
Bank acquisition proposals from wellcapitalized and well-managed bank
holding companies having "satisfactory" or better CRA examination
records are now eligible for consideration using an expedited review process.
Also, comments submitted after the
close of the public comment period are
no longer routinely considered by the
System.
In 1997 the Federal Reserve System
acted on twenty-four bank and bank
holding company applications that
involved CRA protests and six that
involved adverse CRA ratings. The System reviewed another twenty applications involving fair lending and other
issues related to compliance with con-

196 84th Annual Report, 1997
sumer protection laws.10 Among the
applications processed were several
related to major bank acquisitions that
were protested on CRA grounds. The
Board approved these applications, finding in each case that convenience and
needs considerations, including CRA
performance records, were consistent
with approval, as described below.
In February, the Board approved the
application by Marine Midland Bank
(Buffalo) to merge with First Federal
Savings and Loan of Rochester (Rochester). Commenters expressed concern
that the closing of certain branches
operated by the two companies would
adversely affect low- and moderateincome neighborhoods. In its order
approving the application, the Board
directed Marine Midland to submit its
plan for branch closures, consolidations,
and relocations to the New York
Reserve Bank. For each branch being
closed in a low- or moderate-income
or predominantly minority census tract,
Marine Midland will indicate how it
plans to help meet the convenience
and needs of the affected community.
Marine Midland will also notify the
Reserve Bank of any changes to the plan
for a period of two years or until the
Reserve Bank conducts its next CRA
performance examination.
In April, the Board approved the
application of Bane One Corporation
(Columbus), at that time the nation's
tenth largest banking organization, to
acquire Liberty Bancorp, Inc. (Oklahoma City). The order noted that each
of Bane One's thirty subsidiary banks
had received "outstanding" or "satis10. Two applications were withdrawn in
1997—one involving an adverse CRA rating and
the other, a fair lending issue. The System also
reviewed comments submitted in three other cases
(not reflected in the above figures) that were
deemed to be more in the nature of invididual
consumer complaints than protests.



factory" ratings at their most recent
CRA examinations. The Board also considered certain preliminary information
developed in the course of its supervision of Bane One that raised questions
about fair lending oversight, procedures, and practices at Bane One Mortgage Corporation, a nonbank subsidiary
of the bank holding company. In its
order, the Board noted that the Federal
Reserve was conducting an examination
of Bane One Mortgage Corporation to
resolve these issues and to ensure compliance with the law. If the examination were to reveal a problem, the
Board has the supervisory authority to
require the bank holding company and
the nonbank subsidiary to address the
deficiencies.
In October, the Board approved the
application by First Union Corporation
(Charlotte), the nation's sixth largest
banking organization, to acquire Signet
Banking Corporation (Richmond). The
two organizations competed directly
in Virginia, Maryland, and the District
of Columbia, and some commenters
expressed concern that branch closings
resulting from the merger would disproportionately disadvantage communities
with predominantly low- and moderateincome and minority residents. In light
of these concerns, the Board reviewed
preliminary, confidential information
from First Union on branches slated for
closure as well as the company's branch
closure policy. The Board also reviewed
the OCC's most recent publicly available CRA performance evaluations for
First Union's subsidiary banks; these
reports indicated that the banks have
satisfactory records of opening and
closing branches and that they provide
reasonable access to services for all
segments of their communities. In addition, the Board reviewed data on First
Union's lending record in its communities and in low- and moderate-income

Consumer and Community Affairs
areas. The Board concluded that convenience and needs considerations, including CRA performance records, were
consistent with approval.
In December, the Board approved the
application by NationsBank Corporation
(Charlotte), the nation's fifth largest
banking organization, to acquire Barnett
Banks, Inc. (Jacksonville). The two
organizations competed directly in a
large number of banking markets in
Florida, as well as in a few markets in
Georgia. Several commenters expressed
concern that branch closures resulting
from the merger would adversely affect
senior citizens and low- and moderateincome neighborhoods and would result
in a reduction in community development and home mortgage lending. In
its order approving the application,
the Board noted that it had considered
NationsBank's record of opening and
closing branches in other acquisitions,
in particular, its acquisition of Boatmen's Bancshares, Inc. (St. Louis), in
December 1996. In that case the Board
found that, to date, NationsBank had
followed its branch closure policy by
assessing the effect of closings in lowand moderate-income areas. Given the

extensive overlap of the two organizations' branches in Florida markets, the
Board directed NationsBank, as part of
any subsequent application to acquire a
depository institution, to report to the
Federal Reserve its branch closures in
Florida and Georgia during the twoyear period following its acquisition of
Barnett.

Consumer Complaints
The Federal Reserve investigates complaints against state member banks and
forwards to the appropriate enforcement
agencies complaints involving other
creditors and businesses (see accompanying table). The Federal Reserve also
monitors and analyzes complaints about
unregulated practices.
Complaints about State
Member Banks
The Federal Reserve received 3,318
complaints about financial institutions
in 1997: 2,673 by mail, 634 by telephone, and 11 in person. Fewer than
half of the complaints (1,524) were
against state member banks; of these,

Consumer Complaints to the Federal Reserve System Regarding State Member Banks
and Other Institutions, by Subject, 1997
State member
banks

Other
institutions

Total

Regulation B (Equal Credit Opportunity)
Regulation E (Electronic Fund Transfers)
Regulation Z (Truth in Lending)
Regulation BB (Community Reinvestment) ...
Regulation CC (Expedited Funds Availability)
Regulation DD (Truth in Savings)
Fair Credit Reporting Act
Fair Debt Collection Practices Act
Flood insurance
Regulations G, T, U and X
Real Estate Settlement Procedures Act
Unregulated practices '

69
62
194
1
30
50
56
13
2
0
0
1,047

39
52
299
3
31
44
113
18
1
1
13
1,180

108
114
493
4
61
94
169
31
3
1
13
2,227

Total

1,524

1,794

3,318

Subject

1. Complaints against these institutions were referred
to the appropriate enforcement agencies.




197

198 84th Annual Report, 1997
almost two-thirds involved unregulated
practices. Of the complaints against
state member banks, about 61 percent
concerned lending: 5 percent alleged
discrimination on a prohibited basis; and
56 percent raised a variety of issues,
most of them involving lending practices, including credit denial on a basis
not prohibited by law (such as credit
history or length of residence) and
miscellaneous other practices (such as
release or use of credit information).
Another 25 percent of the complaints
against state member banks involved
disputes about interest on deposits and
general deposit account practices; the
remaining 14 percent concerned disputes about electronic fund transfers,
trust services, and other miscellaneous
bank practices (see accompanying table).
The System also received 2,209
inquiries about consumer credit and
banking policies and practices. In
responding to these inquiries, the Board
and the Reserve Banks give specific

explanations of laws, regulations, and
banking practices and provide relevant
printed materials on consumer issues.
Unregulated Practices
Under section 18(f) of the Federal Trade
Commission Act, the Board monitors
complaints about banking practices not
subject to existing regulations and
focuses on complaints involving practices that may be unfair or deceptive. Of
the 2,227 complaints about unregulated
practices, the top five categories related
to credit cards: miscelleneous problems
involving credit cards (135), interest
rates and terms (127), customer service
problems (93), pre-approved solicitations (78), and penalty charges on
accounts (69). The specific complaints
about credit cards represented by these
categories concerned such matters as
failure to close accounts as requested,
increased interest rates on accounts,
changed credit terms on pre-approved

Consumer Complaints Received by the Federal Reserve System, by Type and Function, 1997
Complaints against state member banks
Total

Not investigated

Investigated
Bank legally correct

Complaint
Number

Loans
Discrimination alleged
Real estate loans
Credit cards
Other loans
Discrimination not alleged
Real estate loans
Credit cards
Other loans
Deposits
Electronic fund transfers
Trust services
Other
Total




Percent

Unable
to obtain
sufficient
information

Explanation
of law
provided
to consumer

No reimbursement
or other
accommodation

Goodwill
reimbursement or
other
accommodation

11
26
32

1
2
2

0
1
1

0
5
2

1
12
13

1
1
1

70
617
172
379
52
12
153

5
40
11
25
3
1
10

2
11
6
14
2
1
13

4
57
27
31
2
1
27

28
184
64
162
18
43

14
168
30
52
14
2
23

1,524

100

51

156

528

306

3

Consumer and Community Affairs
accounts, and penalty charges such as
over-limit fees.
Each of these five complaint categories accounts for a small portion (4 percent or less) of all consumer complaints
received by the System. All other complaint categories involving unregulated
practices registered fewer than fifty
complaints in 1997.

199

During 1997 HUD referred four complaints involving state member banks to
the Federal Reserve. By year-end the
Federal Reserve had completed investigations into two of the four complaints;
the investigations revealed no evidence
of unlawful discrimination.

Complaint Program Activities
Complaint Referrals to HUD
In 1997, in accordance with a memorandum of understanding between HUD
and the federal bank regulatory agencies, the Federal Reserve referred to
HUD five complaints about state member banks alleging violations of the Fair
Housing Act. Investigations completed
for two of the five complaints (and five
others that were pending at year-end
1996) revealed no evidence of unlawful
discrimination; the other three were
pending at year-end.

In 1997 the Consumer Complaints Section at the Board continued work on
implementing a comprehensive system
designed to replace and consolidate the
complaint program's analysis tools.
Along with other management tools, the
Board's new system for collecting complaint data—Complaint Analysis Evaluation System and Reports (CAESAR)—
provides the capability to automatically
generate response letters to individual
complaints; analyze the type of discrimination complaints received by the Federal Reserve; and analyze data to deter-

Consumer Complaints Received—Continued
Complaints against state member banks
Investigated

Customer
error

Bank
error

Factual or
contractual
dispute—
resolvable
only
by courts

Possible
bank
violation—
bank took
corrective
action

Matter in
litigation

Pending,
December 31

Referred to
other
agencies

Total
complaints

0
0
0

0
2
1

0
0
1

0
0
0

0
0
0

9
5
13

10
6
23

21
32
55

0
18
4
6
0
0
1

13
79
13
50
10
1
26

3
18
4
12
0
2
2

0
6
1
1
0
0
0

2
0
4
4
0
0
2

4
76
19
47
6
2
16

245
488
274
427
62
15
244

315
1,105
446
806
114
27
397

29

195

42

8

12

197

1,794

3,318




200 84th Annual Report, 1997
mine patterns and trends. As part of this
initiative, the Board is converting the
mainframe-based Consumer Complaint
and Inquiry Tracking System and querying systems to the PC-based CAESAR;
implementation throughout the Federal
Reserve is expected by early 1999.
In 1997, individual staff members
from the Reserve Banks' consumer
complaint sections continued to work at
the Board for several weeks at a time
to gain familiarity with operations in
Washington. Nine Reserve Banks participated in the program.

Consumer Policies
The Consumer Policies program explores alternatives to regulation for protecting consumers in retail financial services and brings research information to
bear more directly on policymaking.
During 1997, Consumer Policies staff
members provided research analysis for
reports on finance charges, home equity
lines of credit, characteristics of households without bank accounts, and the
TILA-RESPA streamlining initiative.
The Consumer Policies Section and
the Consumer Complaints Section
worked to improve the analysis of
data from the Consumer Satisfaction
Questionnaire, which is distributed
to consumers who lodge complaints
about state member banks. This analysis
assesses the level of consumers' satisfaction with the handling of their complaints, as a measure of the complaint
program's performance, and is used to
identify possible improvements.
The Consumer Policies program also
conducted a major educational initiative
that targeted automobile leasing disclosures and complemented the implementation of the revised Regulation M. The
educational program, discussed earlier
in the section "Leasing Education and
Regulatory Changes," included prepara


tion of a new brochure and creation of a
public Web site.

Consumer Advisory Council
The Consumer Advisory Council convened in April, July, and October to
advise the Board on matters concerning
laws that the Board administers and
other issues related to consumer financial services. The council's thirty members come from consumer and community organizations, financial and
academic institutions, and state governments. Council meetings are open to the
public.
The streamlining of the Truth in
Lending Act and the Real Estate Settlement Procedures Act was a major topic
during 1997. In April, the council's consumer credit committee reported broad
agreement for providing meaningful disclosures as early as possible and for
combining disclosures and eliminating
duplication. Several possibilities were
discussed: a "lender pay all" approach
for disclosing the amount the borrower
needs at loan closing, with the lender
assuming the risk for any higher costs; a
consolidated disclosure approach covering both TILA and RESPA, with the
disclosure delivered before formal application so that consumers can comparison shop; and rolling all loan costs into
a finance charge that is disclosed as an
annual percentage rate. Council members also talked about enforcement strategies, education for homebuyers, and
the need to reduce paperwork not
required by either TILA or RESPA.
In October, the council considered
concepts related to rate disclosures:
improving the current annual percentage
rate (APR) disclosure (which is the percentage equivalent of the finance
charge) by incorporating some costs that
are currently not included in the finance
charge; replacing the APR with a disclo-

Consumer and Community Affairs 201
sure of the note rate and total of all
closing costs; and consolidating all costs
paid at closing into a single dollar figure
and converting that figure into a "premium rate" to facilitate comparison
shopping. Council members had differing views on the APR. Some believed
that it is not useful, pointing to findings
of a Michigan Research Center survey
that consumers do not really understand
the APR. An APR that does not work
well now, they said, will not be
improved by adding other cost items.
Others disagreed. They noted that consumers in the Michigan survey frequently mentioned the APR as a shopping tool. They also observed that the
APR was initially developed because no
other rate proved to,be an effective or
accurate way of describing the cost of
credit to consumers.
The council also discussed issues
related to the HOEPA provisions of
Truth in Lending, which seek to protect
homeowners against abusive mortgage
lending practices. Some members continued to believe that it may be too early
to measure the success of a law that has
been in place for only two years. But
they also noted that it was evident from
the testimony presented at the Board's
hearings in June 1997 that HOEPA has
not stopped all fraudulent activity in the
high-cost mortgage area. Some suggested that if HOEPA could be changed
to prevent fraudulent activity, it should
be changed now, but they expressed
doubt about finding effective means to
eliminate abusive practices such as the
entry of inflated income on applications
completed by the lender for the borrower. Some members suggested substantive restrictions—such as requiring
refunds on "points" charged on the earlier loan or prohibiting new closing
costs—for HOEPA loans refinanced by
the lender within, say, one year. Members also posed the idea of extending the



ban on balloon payments, which currently applies only to loans for terms of
less than five years.
Community development and reinvestment was a topic at all three council
meetings in 1997. In April, members
discussed the effects of bank mergers
and acquisitions on local communities.
Some members see mergers as giving
the resulting institution greater flexibility, increased capacity to take risks, and
a more focused ability to work with and
provide technical assistance to groups in
local communities. Others believe that
larger institutions sometimes lack the
flexibility to meet local needs because
their programs focus on the statewide
potential, and they worry that consolidation reduces access to loan officers
and key decisionmakers, who may be
located out of state.
At the April meeting the council discussed proposed interagency regulations
that would prohibit a bank from establishing branches outside its home state
primarily for deposit production and
focused on how the loan-to-deposit ratio
for the host state should be determined.
Council members suggested using a
statewide test, in light of the difficulty of
determining which branch deposits are
local. The council also discussed the
service and investment tests under the
revised CRA rules and the need for
institutions to publish specific goals
(such as goals for small business loans
or low-income housing) when they issue
strategic plans for public comment.
At the July and October meetings, the
council's discussion of the CRA rules
addressed such matters as whether
financial institutions should receive
CRA credit under the service test for
providing free or low-cost checking
accounts to facilitate the government's
electronic delivery of federal payments; the application of the service and
investment tests in regard to the perfor-

202 84th Annual Report, 1997
mance of large banks, as reflected in
CRA public evaluations by the Federal
Reserve; and the clarification of terms—
such as innovation, complexity, size, and
impact on the community—used to
define the weight given to "qualified
investments" and to successful, longterm investments made previously and
still outstanding.
In October, the council discussed
findings from newly released data on
small business, small farm, and community development lending collected and
reported under the revised CRA regulations by large commercial banks and
savings associations. In light of certain
limitations of these data, the council
urged that the Board continue to explore
methodologies for further analysis and
for measuring loan demand in local
communities, to provide a context for
the lending reported. The council also
suggested that the Board consider partnership projects that focus on improving
small business lending, modeled on the
Federal Reserve's mortgage partnership
projects, which have identified obstacles
in mortgage lending and strategies for
removing them. In addition, council
members suggested that banks disclose,
on a voluntary basis, information about
their community development loans,
such as the kinds and locations of
projects, as the single number currently
disclosed is not helpful.
During 1997 a working group of
the council considered the effects of
appraisals on community development
lending. In July, members discussed
some of the negative consequences
when a property is undervalued by an
appraiser unfamiliar with the community or a particular community development initiative: The insurer may not
want to insure the loan, or the lender
may decide not to close the deal. If the
low valuation becomes a "comparable
value" for other properties, property



values in a community are very quickly
driven down. Discriminatory practices,
such as an appraisal that bases the valuation on a foreclosure sale miles from
the property instead of market values
around the block, can add to problems.
In rural areas, the variability of property
types, uses, and size further complicates
appraisals. In the case of a property's
"over-improvement," the difficulty of
finding valuations on comparable properties in the local market adds to the
difficulty for a developer and a bank
seeking to finance a community development project; either the developer
invests more in equity or the bank
underwrites a loan with a higher loan-tovalue ratio (causing concern for the
bank's regulator).
In October, the council heard recommendations from the working group on
such matters as training and licensing
of appraisers; providing incentives for
banks to direct resources to the appraisal
process; educating consumers and
appraisers about the importance of accurate, unbiased appraisals; and the need
for further research into the appraisal
process.
The council considered a wide array
of other topics during the year, including
• Options for delivering disclosures
electronically under a variety of federal regulations
• The federal mandate to convert most
federal payments to electronic deposit,
and whether special rules are needed
under the Board's Regulation E for
new accounts offered to about 10 million recipients who have no banking
relationship
• The circumstances under which financial institutions ought to receive credit
in the assessment of their performance
under the CRA rule's service test
• The Board's reports to the Congress
on stored-value products and on the

Consumer and Community Affairs
public availability of identifying information about consumers, such as
social security numbers
A Board-initiated study, headed by the
Board's Vice Chair, of the Federal
Reserve's role in the payments
system.

Testimony and Legislative
Recommendations
In July, the Board testified before the
Senate Banking Committee on ways to
improve the disclosures required for
home mortgage loans under TILA and
to unify them with the disclosures
required under RESPA. The Board's testimony discussed how the two statutes
regulate home mortgage lending,
described the Board's and HUD's efforts
to simplify and streamline the information given to consumers, and outlined
the agencies' plans to develop legislative recommendations.
In September, the Board testified
before the Subcommittee on Financial
Institutions and Consumer Credit of the
House Banking Committee on debit
cards that can be used without security
codes, requiring only a signature. (These
cards are often referred to as check cards
or off-line debit cards.) Some observers
have expressed concern that consumers
may not be aware of the risk of unauthorized use associated with these products.
The Board noted its inclination, given
that the industry has voluntarily acted
to limit consumer liability in many
instances to $50 or less, to see how well
these voluntary efforts work before recommending that the Congress amend
the Electronic Fund Transfer Act. It is
also in everyone's interest, the Board
said, to ensure that consumers understand the risks associated with these
cards and are able to make an informed
choice about whether to assume the risk.



203

The subcommittee hearing also
addressed a legislative proposal to bar
creditors from mailing unsolicited loan
checks to consumers. The Board suggested a better course would be to let the
market work without the interference of
new laws. The Truth in Lending Act
requires that full disclosure of credit
terms be included in any mailing so that
consumers can make informed decisions
about whether to accept the loans; the
primary concern with unsolicited loan
checks is not disclosure, but the potential for theft and fraud by persons other
than the intended recipient.

Recommendations of
Other Agencies
Each year the Board asks for recommendations from the other federal supervisory agencies for amending the financial services laws or the implementing
regulations.
The FDIC suggested addressing
solicitation and marketing practices
related to credit cards, through legislative or regulatory change, to permit enforcement agencies to more
adequately supervise trade practices. It
noted some practices that may technically comply with the law but that in the
opinion of many consumers constitute
deceptive marketing. It also endorsed
efforts by the Board and HUD to streamline TILA-RESPA requirements to
facilitate comparison shopping for consumers before they submit an application for credit.
The OCC recommended that the Congress review current consumer disclosures, which may unnecessarily burden
banks and insufficiently benefit consumers, and that it consider disclosures that
are less burdensome to depository institutions and more useful to consumers.
The FTC expressed its support for
updating and clarifying the requirements

204 84th Annual Report, 1997
of Regulation B and Regulation Z,
scheduled for review soon under the
Board's Regulatory Planning and
Review program.
•




205

Litigation
During 1997 the Board of Governors
was a party in twenty-three lawsuits or
appeals filed that year and was a party in
fifteen other cases pending from previous years, for a total of thirty-eight
cases. In 1996 the Board had been a
party in a total of twenty-nine lawsuits.
Three of the twenty-three lawsuits filed
in 1997 raised questions under the Bank
Holding Company Act. As of December 31, 1997, twenty-one cases were
pending.

Bank Holding Company Act—
Review of Board Actions
Eliopulos v. Board of Governors, No.
97-1442 (D.C. Circuit, filed July 17,
1997), was a petition for review of a
Board order dated June 23, 1997,
approving the application of First Bank
System, Inc., Minneapolis, Minnesota,
to acquire U.S. Bancorp, Portland, Oregon, and thereby acquire U.S. Bancorp's
banking and nonbanking subsidiaries
(83 Federal Reserve Bulletin 689). On
November 10, 1997, the court granted
the Board's motion to dismiss the
petition.
Greeff v. Board of Governors, No.
97-1976 (4th Circuit, filed June 17,
1997), is a petition for review of a Board
order dated May 19, 1997, approving
the application of Allied Irish Banks,
pic, Dublin, Ireland, and First Maryland
Bancorp, Baltimore, Maryland, to
acquire Dauphin Deposit Corporation,
Harrisburg, Pennsylvania, and thereby
acquire Dauphin's banking and nonbanking subsidiaries (83 Federal
Reserve Bulletin 607).
In Inner City Press/Community on the
Move v. Board of Governors, No. 97-




1394 (D.C. Circuit, filed June 12, 1997),
petitioners sought review of a Board
order dated May 14, 1997, approving
the application of Bane One Corporation, Inc., Columbus, Ohio, to merge
with First USA, Inc., Dallas, Texas (83
Federal Reserve Bulletin 602). Petitioners' motion for a stay pending appeal
was denied on June 27, 1997. On
December 12, 1997, the court granted
the Board's motion to dismiss the petition (130 F.3d 1088).
In The New Mexico Alliance v. Board
of Governors, No. 96-9552 (10th Circuit, filed December 24, 1996), petitioners seek review of a Board order dated
December 16, 1996, approving the
acquisition by NationsBank Corporation and NB Holdings Corporation, both
of Charlotte, North Carolina, of Boatmen's Bancshares, Inc., St. Louis, Missouri (83 Federal Reserve Bulletin 148).
First Baird Bancshares, Inc. v. Board
of Governors, No. 96-1426 (D.C. Circuit, filed November 18, 1996), was a
petition for review of a Board order
dated November 6, 1996, approving
applications of First Commercial Corporation, Little Rock, Arkansas; Arvest
Bank Group, Inc., Bentonville, Arkansas; and TRH Bank Group, Inc., Norman, Oklahoma, to acquire all the shares
of The Oklahoma National Bank of
Duncan, Duncan, Oklahoma (83 Federal Reserve Bulletin 41). On November
20, 1996, the court denied petitioners'
motion for a stay. The case was dismissed by agreement of the parties on
January 2, 1997.
The Southeast Raleigh Community
Development Corporation v. Board of
Governors, No. 96-1054 (D.C. Circuit,
filed February 16, 1996), was a petition

206 84th Annual Report, 1997
for review of a Board order dated January 17, 1996, approving the merger of
First Citizens BancShares, Inc., Raleigh,
North Carolina, with Allied Bank Capital, Inc., Sanford, North Carolina (82
Federal Reserve Bulletin 232). Petitioners' motion for a stay was denied
on March 5, 1996. On January 2, 1997,
the case was dismissed on petitioners'
motion.
Inner City Press/Community on the
Move v. Board of Governors, No. 964008 (2d Circuit, filed January 19,
1996), was a petition for review of a
Board order dated January 5, 1996 (82
Federal Reserve Bulletin 239), approving the merger of Chemical Banking
Corporation and The Chase Manhattan Corporation, both of New York,
New York. On March 26, 1996, the
court denied petitioners' motion for a
stay. On July 2, 1997, the court dismissed the petition (118 F.3d 905).
Lee v. Board of Governors, No. 954134 (2d Circuit, filed August 22, 1995),
was a petition for review of two Board
orders dated July 24, 1995, approving
certain steps of a corporate reorganization of U.S. Trust Corporation,
New York, New York, and the acquisition of U.S. Trust by The Chase Manhattan Corporation, New York, New York
(81 Federal Reserve Bulletin 893). The
case, which was consolidated with Inner
City Press v. Board of Governors, No.
96-4008, was dismissed on July 2, 1997
(118F.3d905).
Money Station, Inc. v. Board of Governors, No. 95-1182 (D.C. Circuit, filed
March 30, 1995), was a petition for
review of a Board order dated March 1,
1995, approving notices by Bane
One Corporation, Columbus, Ohio;
CoreStates Financial Corp., Philadelphia, Pennsylvania; PNC Bank Corp.,
Pittsburgh, Pennsylvania; and KeyCorp,
Cleveland, Ohio, to acquire certain data
processing assets of National City Cor


poration, Cleveland, Ohio, through a
joint venture (81 Federal Reserve Bulletin 491). On April 23, 1996, a panel of
the court of appeals granted the petition
for review and vacated the Board's
order. The full court subsequently
granted the Board's request for rehearing en bane and vacated the panel's
judgment (94 F.3d 658). The case was
dismissed on the parties' joint motion
on January 7, 1997.

Litigation under the Financial
Institutions Supervisory Act
Leuthe v. Office of Financial Institution
Adjudication, No. 97-1826 (3d Circuit,
filed October 22, 1997), is an appeal of a
district court dismissal (977 F. Supp.
537 (E.D. Pa. 1997)) of an action against
the Board and other federal banking
agencies challenging the constitutionality of the Office of Financial Institution
Adjudication.
Towe v. Board of Governors, No. 9771143 (9th Circuit, filed September 15,
1997), is a petition for review of a Board
order dated August 18, 1997 (83 Federal Reserve Bulletin 849), prohibiting
Edward Towe and Thomas E. Towe
from further participation in the banking
industry.
In Banking Consultants of America
v. Board of Governors, No. 97-2791
(W.D. Tenn., filed September 2, 1997),
plaintiffs seek to enjoin an investigation
by the Board, the Office of the Comptroller of the Currency, and the Department of Labor.
In Vickery v. Board of Governors, No.
97-1344 (D.C. Circuit, filed May 9,
1997), petitioner seeks review of a
Board order dated April 14, 1997, prohibiting Charles R. Vickery, Jr., from
further participation in the banking
industry (83 Federal Reserve Bulletin
535).

Litigation 207
Pharaon v. Board of Governors,
No. 97-1114 (D.C. Circuit, filed February 28, 1997), is a petition for review of
a Board order dated January 31, 1997,
imposing civil money penalties and an
order of prohibition against Ghaith R.
Pharaon for violations of the Bank Holding Company Act (83 Federal Reserve
Bulletin 347).
Snyder v. Board of Governors, No.
96-1403 (D.C. Circuit, filed October 23,
1996), was a petition for review of a
Board order dated September 11, 1996,
prohibiting petitioners from further participation in the banking industry (82
Federal Reserve Bulletin 1067). On
May 8, 1997, the court dismissed the
petition, and on July 31, 1997, the court
denied petitioners' motion for rehearing
and rehearing en bane.
In Clifford v. Board of Governors,
No. 96-1342 (D.C. Circuit, filed September 17, 1996), petitioners sought
review of a Board order dated August
21, 1996, denying petitioners' motion to
dismiss an enforcement action against
them. On May 6, 1997, the court granted
the Board's motion to dismiss the
petition.
Long v. Board of Governors, No. 969526 (10th Circuit, filed July 31, 1996),
was a petition for review of a Board
order dated July 2, 1996, assessing a
civil money penalty and imposing a
cease and desist order for violations of
the Bank Holding Company Act (82
Federal Reserve Bulletin 871). On
June 30, 1997, the court affirmed the
Board's order (117 F.3d 1145).
In Interamericas Investments, Ltd. v.
Board of Governors, No. 96-60326 (5th
Circuit, filed May 8, 1996), petitioners
sought review of a Board order dated
April 9, 1996, imposing civil money
penalties and a cease and desist order
against them (82 Federal Reserve Bulletin 609). Petitioners' motion to stay
the order pending judicial review



was denied on August 20, 1996. On
April 16, 1997, the court affirmed the
Board's order (111 F.3d 376).
In Board of Governors v. Interamericas Investments, Ltd., No. H—95-565
(S.D. Texas, filed February 24, 1995),
the Board sought to freeze certain assets
of a company pending the administrative adjudication of a civil money
penalty assessment by the Board. On
March 1, 1995, the court issued a stipulated order requiring the company to
deposit $1 million into the registry of
the court. On June 24, 1997, the action
was dismissed following the payment to
the Board of the assets at issue.
In Board of Governors v. Pharaon,
No. 91-CIV-6250 (S.D. New York,
filed September 17, 1991), the Board
sought to freeze the assets of an individual pending the administrative adjudication of a civil money penalty assessment by the Board. On September 17,
1991, the court issued an order temporarily restraining the transfer or disposition of the individual's assets. The order
has been extended by agreement.

Other Actions
Goldman v. Department of the Treasury,
No. 1-97-CV-3798 (N.D. Georgia,
filed December 23, 1997), is a declaratory judgment action challenging Federal Reserve notes as lawful money.
Kerr v. Department of the Treasury,
No. CV-S-97-01877-DWH
(S.D.
Nevada, filed December 22, 1997), is a
challenge to income taxation and Federal Reserve notes.
Allen v. Indiana Western Mortgage
Corp., No. 97-7744 RJK (CD. California, filed November 12, 1997), is a customer dispute with a bank.
Patrick v. United States, No. 9775564 (E.D. Michigan, filed November 7, 1997), and Patrick v. United

208 84th Annual Report, 1997
States, No. 97-75017 (E.D. Michigan,
filed September 30, 1997), are actions
for damages arising out of tax disputes.
Artis v. Greenspan, No. 97-5235
(D.C. Circuit, filed September 19,
1997), is an appeal of a district court
order dismissing a class complaint alleging race discrimination in employment.
A related employment discrimination
case, Artis v. Greenspan, No. 97-5234
(D.C. Circuit, filed September 19,
1997), is an appeal of the dismissal of
an individual discrimination claim.
In Branch v. Board of Governors, No.
97-5229 (D.C. Circuit, filed September 12, 1997), the plaintiff appeals a
district court order denying his motion
to compel production of pre-decisional
supervisory documents and testimony
sought in connection with an action by
Bank of New England Corporation's
trustee in bankruptcy against the Federal Deposit Insurance Corporation. On
November 10, 1997, the court denied
appellant's request for expedited consideration of the appeal.
Wilkins v. Reno, No. 97-2275 (4th
Circuit, filed September 12, 1997), was
an appeal of a district court's dismissal
of a complaint concerning a customer
dispute with a bank. On December 9,
1997, the court of appeals affirmed the
district court's dismissal.
Clarkson v. Greenspan, No. 97-CV2035 (D. District of Columbia, filed
September 5, 1997), is a Freedom of
Information Act case.
Bettersworth v. Board of Governors,
No. 97-CA-624 (W.D. Texas, filed
August 21, 1997), is a complaint under
the Privacy Act.
Wilkins v. Warren, No. 97-CV-590
(E.D. Virginia, filed August 4, 1997), is
a customer dispute with a bank.
Maunsell v. Greenspan, No. 97-6131
(2d Circuit, filed May 22, 1997), is an
appeal of a district court's dismissal of
an action for compensatory and punitive



damages for alleged violations of civil
rights by a federal savings bank.
Research Triangle Institute v. Board
of Governors, No. 97-1282 (4th Circuit,
filed February 24, 1997), was an appeal
of a district court's dismissal of a contract claim (962 F. Supp. 61 (M.D.N.C.
1997)). On December 29, 1997, the
court of appeals affirmed the district
court's dismissal of the action (13 F.3d
985).
Jones v. Board of Governors, No.
CV97-0198 (W.D. Louisiana, filed
January 30, 1997), was a complaint
alleging violations of the Fair Housing
Act. On November 13, 1997, the court
granted the Board's motion to dismiss
the action.
American Bankers Insurance Group,
Inc. v. Board of Governors, No. 96-CV2383-EGS (D. District of Columbia,
filed October 16, 1996), is an action
seeking declaratory and injunctive relief
invalidating a new regulation issued by
the Board under the Truth in Lending
Act relating to treatment of fees for debt
cancellation agreements (12 C.F.R. section 226.4(d)(3)). On October 18, 1996,
the district court denied plaintiffs'
motion for a temporary restraining
order.
Kuntz v. Board of Governors, No. 961079 (D.C. Circuit, filed March 7,
1996), was a petition for review of a
Board order, issued under the Federal
Reserve Act and the Bank Merger Act,
approving the application of The Fifth
Third Bank, Cincinnati, Ohio, and The
Fifth Third Bank of Columbus, Columbus, Ohio, to acquire certain assets and
assume certain liabilities of twenty-five
branches of NBD Bank, Columbus,
Ohio (82 Federal Reserve Bulletin 366).
The court dismissed the petition on February 13, 1997.
Kuntz v. Board of Governors, No. 951485 (D.C. Circuit, filed September 21,
1995), was a petition for review of a

Litigation 209
Board order issued under the Federal
Reserve Act and the Bank Merger Act
approving the application of the Fifth
Third Bank, Cincinnati, Ohio, to acquire
certain assets and assume certain liabilities of twelve branches of PNC Bank,
Ohio, N.A., Cincinnati, Ohio, and to
establish certain branches (81 Federal
Reserve Bulletin 976). On February 13,
1997, the court dismissed the petition. •




211

Legislation Enacted
Among the legislation enacted during
1997, the Riegle-Neal Amendments
Act, the Treasury appropriation for fiscal year 1998, the Depository Institutions Disaster Relief Act, the 50 States
Commemorative Coin Program Act, and
an act authorizing the sale of the
Culpeper facility of the Federal Reserve
Bank of Richmond to the Architect of
the Capitol directly affect the Federal
Reserve System or the institutions it
regulates.

Riegle-Neal Amendments Act
In 1994, the Congress enacted the
Riegle-Neal Interstate Banking and
Branching Act (Riegle-Neal Act) to
establish a framework that would govern interstate branching. The RiegleNeal Act permits banks to establish
interstate branches through mergers with
other banks, except in states that affirmatively chose, on or before June 1,
1997, not to permit interstate branching
within their borders.
The Riegle-Neal Amendments Act
(Pub. L. 105-24, 111 Stat. 238) (the act)
provides that an insured state-chartered
bank that establishes a branch in a host
state may conduct any "activity" at the
branch that is permissible under the laws
of the bank's home state, so long as the
"activity" is permissible for a bank
chartered by the host state or for an
out-of-state national bank branch
located in the host state. For example,
the activities of a branch of a New Jersey state-chartered bank located in
New York (host state) would be governed by New Jersey state banking law
(home state law) so long as the activities
are permissible under New York state



law or are permissible for out-of-state
national bank branches located in
New York. The act also provides that
the laws of the host state, including laws
regarding community reinvestment, consumer protection, fair lending, and
establishment of intrastate branches,
apply to any out-of-state, state-chartered
bank branch located in a host state to the
same extent that the host state's laws
apply to an out-of-state, national bank
branch located in the host state. To the
extent that the host state's laws do not
apply to the out-of-state branch, the
home state's laws apply to the branch.
Before it was amended, the RiegleNeal Act provided that an out-of-state
bank that establishes a branch in a host
state could not conduct any activity at
that branch that was not permissible for
a bank chartered by the host state and
that the host state's laws applied to the
out-of-state branch to the same extent
that they applied to a branch of a bank
chartered by the host state.

Treasury Appropriation for
Fiscal Year 1998
The Treasury appropriation for fiscal
year 1998 (Pub. L. 105-61, 111 Stat.
1272) authorizes a permanent indefinite appropriation to reimburse Federal Reserve Banks for fiscal agency
services rendered to the Treasury
Department.

Depository Institutions
Disaster Relief Act
The Depository Institutions Disaster
Relief Act (Pub. L. 105-18, 111 Stat.
211) (the act) granted the Board of

212 84th Annual Report, 1997
Governors the power, for a period of
240 days after June 12, 1997, to make
exceptions to the Truth in Lending Act
(TILA) and the Expedited Funds Availability Act (EFAA) for transactions
within a geographic area that the President determined, on or after February 28, 1997, to be a major disaster area
as a result of the 1997 flooding of the
Red River of the North, the Minnesota
River, and the tributaries of these rivers.
The Board had the power to grant
exceptions from TILA and EFAA if it
determined that an exception could alleviate hardships to the public resulting
from the disaster and that the benefits
of the relief outweighed the possible
adverse effects of granting the exception. The Board was required to publish
in the Federal Register a description
of each exception and a statement of
its benefits, including an explanation of
how the benefits outweighed the possible adverse effects. Exceptions had to
expire no later than September 1, 1998.
The act also granted the Board
authority to allow an insured depository
institution, in calculating compliance
with the leverage limits prescribed under
section 38 of the Federal Deposit Insurance Act (FDI Act), to subtract from the
institution's total assets an amount not
exceeding the qualifying amount attributable to insurance proceeds. The Board
could grant such an exception if the
following conditions were met: (1) the
depository institution had its principal
place of business within, and 60 percent
of its total deposits were from persons
located within, an area designated as a
major disaster area as a result of the
1997 flooding of the Red River of the
North, the Minnesota River, and the
tributaries of these rivers; (2) the depository institution was adequately capitalized before the disaster; (3) the depository institution had an acceptable plan
for managing the increase in its total



assets and deposits; and (4) the subtraction was consistent with the purposes of
section 38 of the FDI Act. Exceptions to
section 38 of the FDI Act had to expire
no later than February 28, 1999.
The act also allowed the Board to
exercise its authority with respect to
depository institutions whose principal
place of business is within, or with respect to transactions or activities within,
an area designated as a major disaster
area as a result of the 1997 flooding of
the Red River of the North, the Minnesota River, and the tributaries of these
rivers without complying with certain
provisions of the Administrative Procedures Act or with provisions of any
other law that requires a notice or opportunity for a hearing or that sets time
limits for agency action. It also allowed
the Board to waive publication requirements for establishing branches. The
Board was required to publish in the
Federal Register a description of each
action taken as well as an explanation
of the need for the action. The act also
granted the Board authority to waive the
application of the appraisal standards
prescribed by title XI of the Financial
Institutions Reform, Recovery, and
Enforcement Act of 1989 for transactions involving real property located
within the disaster area.

50 States Commemorative
Coin Program Act
The 50 States Commemorative Coin
Program Act (Pub. L. 105-125, 111
Stat. 2534) (the act) grants the Treasury,
among other powers, the authority to
create a new $1 coin once the supply of
Susan B. Anthony $1 coins is depleted.
The new coin must (1) be golden in
color, have a distinctive edge, with tactile and visual features making it readily
discernible, (2) be minted and fabricated
in the United States, and (3) have metal-

Legislation Enacted 213
lie anticounterfeiting properties similar
to those of U.S. clad coinage in circulation as of December 1, 1997. The act
directs the Treasury to adopt a marketing program to promote use of the new
coins, to conduct a marketing study, and
to report its progress to the Congress.

Sale of the Culpeper Facility of
the Federal Reserve Bank
of Richmond
A recent act (Pub. L. 105-144, 111 Stat.
2667) authorized the sale of the
Culpeper facility of the Federal Reserve
Bank of Richmond to the Architect of
the Capitol, on behalf of the United
States government. Three parcels totaling approximately forty-one acres,
located in Culpeper County, Virginia,
and the improvements thereunder will
be transferred in the sale. Title will be
transferred to the United State government, and the Federal Reserve will not
be reimbursed for the property.
•




215

Banking Supervision and Regulation
The condition of the U.S. banking system remained robust during 1997: The
industry reported further gains in asset
quality, continued record earnings, and
the highest equity-to-asset ratios in
more than fifty years. Only one (small)
insured commercial bank failed, and the
assets of problem banks, at $3.5 billion, continued to decline from already
low levels. As a result, the U.S. banking
industry appears to be among the strongest and most innovative of the major
industrial countries and well positioned
to meet the nation's financial needs.
This dramatic progress from the
industry's stressed condition at the
beginning of the decade is evidence of
the underlying strength and resilience of
the U.S. banking system and its ability
to adapt to and, to a large extent, direct
evolving practices in world financial
markets. These practices, the expanded
application of technology in the design
and management of financial products,
and the structural changes that are
occurring within the U.S. and world
financial systems present challenges and
opportunities not only to many U.S.
banks but also to the Federal Reserve in
its role as a financial supervisor and
regulator.
Changes in the nature and pace of
bank activities have been most significant among the largest banking organizations, for which the growth of trading
and derivatives activities has been profound. These events and the growing
complexity of many activities have
required that the Federal Reserve, in its
supervisory role, place more emphasis
on the management and internal control
process within banks and less emphasis
on independent transaction-testing. That



requirement, in turn, has fueled a need
for more prior planning for examinations, increased training of examiners,
and additional guidance on sound practices for both bankers and bank examiners. It has also made it necessary for
the Federal Reserve to improve its
own information systems, to allocate
resources more productively, and to
make better use of available technology
in all aspects of its supervisory process.
In recent years the Federal Reserve
has used the opportunity presented by
the relatively trouble free domestic
banking system to develop and promote sound risk-management practices
throughout the industry, both domestically and abroad; to develop more efficient techniques for supervision; and,
when prudent, to reduce the level of
regulatory intrusion into the activities of
U.S. banks and bank holding companies.
Such efforts account for many of the
Board's accomplishments in bank supervision and regulation during 1997.
These accomplishments include support
of international efforts to strengthen and
coordinate the supervision of internationally active banks; reduction of regulatory restrictions on the activities of
section 20 affiliates of bank holding
companies; streamlining of the application process for many banks and bank
holding companies; significant advances
in the use of automation during bank
examinations; and many other initiatives, discussed below.
More recently, in response to potential industry exposure associated with
the century date change, the Federal
Reserve has initiated an extensive supervision program that has included the
issuance of several policy statements,

216 84th Annual Report, 1997
the conduct of comprehensive examinations, and an outreach program. Working closely with other federal and state
banking regulators, the Federal Reserve
has been focusing significant attention
on banking industry preparedness regarding automated systems and their
ability to calculate date-dependent information after the century date change.
The outreach program has included
numerous public statements and conferences intended to provide guidance to
the industry on this significant matter.
Further, the Federal Reserve is examining all banks subject to its supervision authority by June 30, 1998, for
year 2000 readiness.
Adverse economic developments in
Asian countries during the year directed
attention to bank exposures in that part
of the world as well as to emerging
markets more generally. Consistent with
the System's risk-focused approach for
supervising large, internationally active
banking organizations, the Federal
Reserve's supervisory process during
1997 placed emphasis on evaluating the
impact of these developments on U.S.
banks that are active in the Asian markets, and on the U.S. operations of banks
that are based there. In this connection,
it is noteworthy that U.S. banking organizations continue to report historically
high levels of capital and reserves.

Scope of Responsibilities for
Supervision and Regulation
The Federal Reserve is the federal
supervisor and regulator of all U.S. bank
holding companies and of statechartered commercial banks that are
members of the Federal Reserve System. In overseeing these organizations,
the Federal Reserve primarily seeks to
promote their safe and sound operation
and their compliance with laws and
regulations, including the Bank Secrecy



Act and consumer and civil rights laws.1
The Federal Reserve also examines the
following specialized activities of these
institutions: information systems, fiduciary activities, mutual fund activities,
government securities dealing and
brokering, municipal securities dealing,
securities clearing, and securities underwriting and dealing through special
subsidiaries. The Federal Reserve also
has responsibility for the supervision of
(1) all Edge Act corporations and agreement corporations, (2) the international
operations of state member banks and
U.S. bank holding companies, and
(3) the operations of foreign banking
companies in the United States.2
The Federal Reserve exercises important regulatory influence over the entry
into, and the structure of, the U.S. banking system through its administration of
the Bank Holding Company Act, the
Bank Merger Act for state member
banks, the Change in Bank Control Act
for bank holding companies and state
member banks, and the International
Banking Act. Also, the Federal Reserve
is responsible for imposing margin
requirements on securities transactions.
1. The Board's Division of Consumer and
Community Affairs is responsible for coordinating
the Federal Reserve's supervisory activities with
regard to the compliance of banking organizations
with consumer and civil rights laws. To carry out
this responsibility, the Federal Reserve specifically
trains a number of its bank examiners to evaluate
institutions with regard to such compliance. The
chapter of this REPORT covering consumer and
community affairs describes these regulatory
responsibilities. Compliance with other statutes
and regulations, which is treated in this chapter, is
the responsibility of the Board's Division of Banking Supervision and Regulation and the Reserve
Banks, whose examiners also check for safety and
soundness.
2. Edge Act corporations are chartered by the
Federal Reserve, and agreement corporations are
chartered by the states, to provide all segments of
the U.S. economy with a means of financing international trade, especially exports.

Banking Supervision and Regulation 217
In carrying out these responsibilities,
the Federal Reserve coordinates its
supervisory activities with other federal
and state regulatory agencies and with
the bank regulatory agencies of other
nations.

Supervision for Safety and
Soundness
To ensure the safety and soundness
of banking organizations, the Federal
Reserve conducts on-site examinations
and inspections and off-site surveillance
and monitoring. It also undertakes
enforcement and other supervisory
actions.
Examinations and Inspections
The Federal Reserve conducts examinations of state member banks, branches
and agencies of foreign banks, Edge Act
corporations, and agreement corporations. Many elements reviewed at bank
holding companies and their nonbank
subsidiaries differ from bank examinations; therefore, the Federal Reserve
conducts inspections of holding companies and their subsidiaries. Preexamination planning and on-site review
of operations are integral parts of ensuring the safety and soundness of financial
institutions. Regardless of whether it
is an examination or an inspection, the
review entails (1) an assessment of the
quality of the processes in place to identify, measure, monitor, and control risk
exposures, (2) an appraisal of the quality
of the institution's assets, (3) an evaluation of management, including an
assessment of internal policies, procedures, controls, and operations, (4) an
assessment of the key financial factors
of capital, earnings, liquidity, and sensitivity to market risk, and (5) a review
for compliance with applicable laws and
regulations.



State Member Banks
At the end of 1997, 992 state-chartered
banks (excluding nondepository trust
companies and private banks) were
members of the Federal Reserve System. These banks represented about
10.9 percent of all insured U.S. commercial banks and held about 25 percent of
all insured commercial bank assets in
the United States.
The guidelines for Federal Reserve
examinations of state member banks
are fully consistent with section 10 of
the Federal Deposit Insurance Act, as
amended by section 111 of the Federal
Deposit Insurance Corporation Improvement Act of 1991 and by the Riegle
Community Development and Regulatory Improvement Act of 1994. A fullscope, on-site examination is required at
least once during each twelve-month
period for most of these depository
institutions; certain well-capitalized and
well-managed institutions with assets of
less than $250 million may be examined
every eighteen months.
During 1997, the Federal Reserve
Banks conducted 552 examinations
of state member banks (some of them
jointly with the state agencies), and
state banking departments conducted
346 independent examinations of state
member banks.
Bank Holding Companies
At year-end 1997, the number of U.S.
bank holding companies totaled 6,102.
These organizations controlled about
7,015 insured commercial banks and
held approximately 93.8 percent of all
insured commercial bank assets.
Federal Reserve guidelines call for
annual inspections of large bank holding
companies and smaller companies that
have significant nonbank assets. Certain small, noncomplex companies—

218 84th Annual Report, 1997
those that have less than $1 billion
in consolidated assets, do not have
debt outstanding to the public, and do
not engage in significant nonbank
activities—are subject to a special
supervisory program that became effective in 1997. The program permits a
more flexible approach to supervising those entities in a risk-focused environment and is designed to improve
the overall effectiveness and efficiency
of the Federal Reserve's bank supervisory efforts. Each such holding
company is subject to off-site review
once during each supervisory cycle,
which corresponds to the mandated
examination cycle for the company's
lead bank.
In judging the financial condition of
subsidiary banks, Federal Reserve
examiners consult the examination
reports of the federal and state banking
authorities that have primary responsibility for the supervision of these banks,
thereby minimizing duplication of effort
and reducing the burden on banking
organizations. In 1997, the Federal
Reserve inspected 1,682 bank holding
companies. Altogether, Federal Reserve
examiners conducted 1,782 bank holding company inspections, 137 of which
were conducted off-site, and state
examiners conducted 98 independent
inspections.

Enforcement Actions,
Civil Money Penalties, and
Suspicious Activity Reporting
In 1997, the Federal Reserve Banks recommended, and members of the Board's
staff initiated and worked on, 105
enforcement cases involving 207 separate actions, such as cease and desist
orders, written agreements, removal and
prohibition orders, and civil money pen


alties. Of these, 35 cases involving 67
actions were completed by year-end.
Of particular note was an action taken
by the Board of Governors with regard
to the illegal activities of the Bank of
Credit and Commerce International
(BCCI). After a factual hearing before
an administrative law judge, the Board
of Governors assessed a civil money
penalty of $37 million against Ghaith R.
Pharaon for his participation in BCCI's
illegal acquisition of the failed Independence Bank of Encino, California.
In other significant matters, the Board
of Governors assessed civil money penalties totaling $30 million, including a
fine of $5 million, along with an order
to disgorge profit of $17.32 million,
against a foreign bank for allegedly failing to file complete and accurate applications and reports in connection with
its purchase and ownership of a U.S.
bank; a fine of $5 million against a
foreign bank and its U.S. branch for
misconduct related to the alleged misuse
of confidential supervisory information,
the making of allegedly false statements
to bank supervisory officials, and the
alleged obstruction of a formal investigation by bank supervisory officials;
and a fine of $2.5 million against a
foreign bank and its U.S. branch for
allegedly engaging in unsafe and
unsound practices and violations of laws
and regulations.
All final enforcement orders issued
by the Board of Governors and all written agreements executed by the Federal
Reserve Banks in 1997 are available to
the public. In 1997, they became available on the Board's public Web site.
In addition to formal enforcement
actions, the Federal Reserve Banks in
1997 completed 83 informal enforcement actions, such as memorandums of
understanding and resolutions from
boards of directors.

Banking Supervision and Regulation 219

Specialized Examinations

Fiduciary Activities

The Federal Reserve conducts specialized examinations of banking organizations in the areas of information technology, fiduciary activities, government
securities dealing and brokering,
municipal securities dealing, securities
clearing, and securities underwriting and
dealing through so-called section 20
subsidiaries of bank holding companies.
The Federal Reserve also reviews state
member banks and bank holding companies that act as transfer agents.

The Federal Reserve has supervisory
responsibility for institutions that
together hold more than $9.2 trillion
of discretionary and nondiscretionary
assets in various fiduciary capacities.
This group of institutions comprises 297
state-chartered member banks and trust
companies, 86 nonmember trust companies that are subsidiaries of bank holding companies, and 17 entities that are
either branches or agencies of foreign
banking organizations or Edge corporation subsidiaries of domestic banking
institutions.
On-site examinations are essential
to ensure the safety and soundness of
financial institutions that have fiduciary
operations. These examinations include
(1) an evaluation of management, policies, audit and control procedures, and
risk management, (2) an assessment of
the quality of trust assets, (3) an assessment of earnings, (4) a review for conflicts of interest, and (5) a review for
compliance with laws, regulations, and
general fiduciary principles. During
1997, Federal Reserve examiners conducted 255 on-site trust examinations of
state member banks and trust companies, branches and agencies of foreign
banking organizations, or Edge corporation subsidiaries of domestic banking
institutions.

Information Technology
Under the Interagency EDP Examination Program, the Federal Reserve
examines the information technology
activities of state member banks, U.S.
branches and agencies of foreign banks,
Edge Act and agreement corporations,
and independent data centers that provide electronic data processing services
to these institutions. On-site examinations are essential to ensure the safe and
sound operation of financial institutions,
at which computer operations may pose
significant exposures. During 1997, the
Federal Reserve conducted 420 examinations that focused on the safety and
soundness of information technology
and electronic data processing systems.
The Federal Reserve was also the
lead agency on 3 examinations of large,
multiregional data processing servicers
examined in cooperation with the
Federal Deposit Insurance Corporation
(FDIC), the Office of the Comptroller of
the Currency (OCC), and the Office of
Thrift Supervision (OTS). In addition,
Federal Reserve examiners initiated targeted reviews of banking organizations
to assess their progress in preparing for
the century date change.



Government Securities Dealers
and Brokers
The Federal Reserve is responsible for
examining the government securities
dealing and brokering of state member
banks and foreign banks for compliance
with the Government Securities Act of
1986 and with Department of the Treasury regulations. Thirty-eight state
member banks and nine state branches
of foreign banks have notified the Board

220 84th Annual Report, 1997
that they are government securities dealers or brokers not exempt from Treasury's regulations. During 1997, the
Federal Reserve conducted 21 examinations of broker-dealer activities in
government securities at state member
banks and foreign banks.
Municipal Securities Dealers
and Clearing Agencies
Under the Securities Act Amendments
of 1975, the Board of Governors is
responsible for the supervision of state
member banks and bank holding companies that act as municipal securities dealers or as clearing agencies. The Board
supervises thirty-seven banks that act as
municipal securities dealers and three
clearing agencies that act as custodians
of securities involved in transactions
settled by booking entry. In 1997, the
Federal Reserve examined all three
clearing agencies and twenty of the
banks that act as municipal securities
dealers.
Securities Subsidiaries of Bank
Holding Companies
Section 20 of the Banking Act of 1933
(the Glass-Steagall Act) prohibits the
affiliation of a member bank with a company that is "engaged principally" in
underwriting or dealing in securities.
The Board of Governors in 1987
approved proposals by banking organizations to underwrite and deal on a limited basis in specified classes of "bank
ineligible" securities (that is, commercial paper, municipal revenue bonds,
conventional residential mortgagerelated securities, and securitized consumer loans) in a manner consistent with
section 20 of the Glass-Steagall Act and
the Bank Holding Company Act. At that
time, the Board limited revenues from
these newly approved activities to no
more than 5 percent of total revenues for



each section 20 securities subsidiary. In
September 1989 the limit was increased
to 10 percent.
In January 1989, the Board approved
applications by bank holding companies
to underwrite and deal in corporate and
sovereign debt and equity securities,
subject, in each case, to reviews of
managerial and operational infrastructure and other conditions and requirements, or firewalls, specified by the
Board. In approving this broader range
of activities, the Board also adopted firewalls more restrictive than those contained in its 1987 approval order.
Significant changes concerning the
revenue limit and firewalls governing
the activities of section 20 subsidiaries
were implemented in 1997. On the basis
of its experience supervising these section 20 subsidiaries as well as developments in the securities markets since the
revenue test was adopted, the Board permitted, effective March 1997, section 20
firms to derive up to 25 percent of total
revenues from underwriting and dealing
in ineligible securities. In August 1997,
the Board completed a review of firewalls, as required by the Riegle Community Development and Regulatory
Improvement Act of 1994, for the purpose of eliminating unnecessary regulatory burden and enabling section 20
subsidiaries to operate in an efficient,
effective manner. As a result of its
review, the Board eliminated certain
restrictions that have proved to be
unduly burdensome or unnecessary in
light of other laws and regulations. The
remaining restrictions have been consolidated into a series of operating standards that are fully consistent with safe
and sound operations.
At year-end 1997, forty-five bank
holding companies held section 20 subsidiaries authorized to underwrite and
deal in ineligible securities. Of these,
twenty-eight could underwrite any debt

Banking Supervision and Regulation 221
or equity security, two could underwrite
any debt security, and fifteen could
underwrite only the limited types of debt
securities approved by the Board in
1987. The Federal Reserve follows specialized inspection procedures to review
the operations of these securities subsidiaries; it conducted forty-one such
inspections in 1997.
Transfer Agents
Federal Reserve examiners also conduct
examinations of state member banks and
bank holding companies that are registered transfer agents. Among other
things, transfer agents countersign and
monitor the issuance of securities, register the transfer of securities, and
exchange or convert securities. During
1997, Federal Reserve examiners conducted on-site examinations at 59 of the
160 banks and bank holding companies
registered as transfer agents with the
Board.

Surveillance and Risk Assessment
The Federal Reserve monitors the financial condition and performance of individual banking organizations and of the
banking system as a whole to identify
areas of supervisory concern. The monitoring is accomplished, in part, through
the use of automated screening systems.
Surveillance screens address a number
of aspects of banking performance,
including capitalization, asset growth,
loan quality, loan concentrations, liquidity, and capital markets activities. Information from these screens assists in
allocating examination resources to
institutions experiencing, or vulnerable
to, deterioration and is also used in the
examination-planning process. Among
the automated screening systems used
to monitor bank performance are two
econometric models that use quarterly



Call Report data to estimate an examination rating for each bank and to identify
banks having the potential to become
critically undercapitalized over the subsequent two years.
During 1997, the Federal Reserve
continued to refine its Systemwide
surveillance programs, implementing
parent-company-only
screens
that
address bank holding company performance on an unconsolidated basis
and adding nonbank screens to monitor
the effect of nonbank activities on the
strength of parent bank holding companies. In addition, changes were made
to the capital markets monitoring
screens to address credit derivatives
activities and the adoption of the market
risk capital rule. Development of a surveillance program for small shell bank
holding companies was also begun, to
assist with implementation of the RiskFocused Supervision Policy for Small
Shell Bank Holding Companies adopted
by the Board in November.
To assist supervisory staff in evaluating individual bank holding companies, the Federal Reserve produces quarterly Bank Holding Company Performance Reports (BHCPRs), which provide detailed financial information on
the condition and performance of individual bank holding companies. During
the year, information on derivatives
activities contained in BHCPRs was significantly revised to provide more data
on the use of derivative instruments.
The Federal Reserve also produces several statistical and analytical reports on
the structure and condition of the banking industry for use in supervising banks
and bank holding companies. During
1997, development of an Aggregate
Loan Quality Analysis Report was completed. This report supplements loan
concentration surveillance screens by
providing additional detail on the quality of assets at institutions reporting con-

222 84th Annual Report, 1997
centrations in loans of various types. In
addition, electronic access to National
Information Center (NIC) data on banks,
bank holding companies, and surveillance screen results is provided to supervisory staff through the Performance
Report Information and Surveillance
Monitoring system (PRISM).
The Federal Reserve actively works
with the other federal banking authorities to enhance surveillance tools
through its representation on the Federal
Financial Institutions Examination
Council Task Force on Surveillance
Systems.

International Activities
The Federal Reserve plays a critical role
in the supervision and regulation of the
international activities of U.S. banking
organizations and the U.S. activities of
foreign banking organizations. It supervises foreign branches of member
banks; overseas investments by member
banks, Edge Act corporations and agreement corporations, and bank holding
companies; and investments by bank
holding companies in export trading
companies. The Federal Reserve also
supervises the U.S. activities of foreign
banking organizations, including U.S.
branches, agencies, and representative
offices, U.S. bank subsidiaries, and commercial lending company subsidiaries
and nonbanking subsidiaries.
Foreign Office Operations of
U.S. Banking Organizations
The Federal Reserve examines the international operations of state member
banks, Edge Act corporations, and bank
holding companies, principally at the
U.S. head offices of these organizations,
where the ultimate responsibility for
their foreign offices lies. In 1997 the



Federal Reserve conducted examinations of 12 foreign branches of state
member banks and 114 foreign subsidiaries of Edge Act corporations and bank
holding companies. All of the examinations abroad were conducted with the
cooperation of the supervisory authorities of the countries in which they took
place; when appropriate, the examinations were coordinated with the Office
of the Comptroller of the Currency.
Also, examiners made eight visits to the
overseas offices of U.S. banks to obtain
financial and operating information and,
in some instances, to evaluate their compliance with corrective measures or to
test-check their adherence to safe and
sound banking practices.
Foreign Branches of Member Banks
At the end of 1997, 89 member banks
were operating 786 branches in foreign
countries and overseas areas of the
United States; 59 national banks were
operating 599 of these branches, and
30 state member banks were operating
the remaining 187 branches. In addition,
19 nonmember banks were operating
29 branches in foreign countries and
overseas areas of the United States.
Edge Act and Agreement Corporations
Edge Act corporations are international
banking organizations chartered by the
Board to provide all segments of the
U.S. economy with a means of financing international business, especially
exports. Agreement corporations are
state-chartered or federally chartered
companies that enter into agreements
with the Board not to exercise any
power that is impermissible for an Edge
Act corporation.
Under sections 25 and 25(A) of
the Federal Reserve Act, Edge Act and

Banking Supervision and Regulation 223
agreement corporations may engage in
international banking and foreign financial transactions. These corporations,
which in most cases are subsidiaries
of member banks, may (1) conduct a
deposit and loan business in states other
than that of the parent provided that the
business is strictly related to international transactions and (2) make foreign investments that are broader than
those of member banks because they
can invest in foreign financial organizations, such as finance companies and
leasing companies, as well as in foreign
banks.
At year-end 1997, there were eightyfour Edge Act and agreement corporations with thirty domestic branches.
During the year, the Federal Reserve
examined all of these corporations.

U.S. Activities of Foreign Banks
The Federal Reserve has broad authority
to supervise and regulate the U.S. activities of foreign banks that engage in
banking and related activities in the
United States through branches, agencies, representative offices, commercial
lending companies, Edge Act corporations, banks, and certain nonbank companies. Foreign banks continue to be
significant participants in the U.S. banking system. As of year-end 1997, 278
foreign banks from 59 countries operated 412 state-licensed branches and
agencies (of which 23 were insured by
the FDIC) as well as 64 branches
licensed by the OCC (of which 6 had
FDIC insurance). These foreign banks
also directly owned 16 Edge Act corporations and 3 commercial lending companies; in addition, they held an equity
interest of at least 25 percent in 87 U.S.
commercial banks. Altogether, these
U.S. offices of foreign banks at the
end of 1997 controlled approximately



20 percent of U.S. banking assets. These
foreign banks also operated 148 representative offices; an additional 97 foreign banks operated in the United States
solely through a representative office.
The Federal Reserve has acted to
ensure that all state-licensed and federally licensed branches and agencies are
examined on-site at least once during
each twelve-month period either by the
Federal Reserve or by a state or other
federal regulator. The Federal Reserve
conducted or participated with state and
federal regulatory authorities in 446
examinations during 1997.

Joint Program for Supervising the
U.S. Operations of Foreign
Banking Organizations
In 1995 the Federal Reserve, in cooperation with the other federal and state
banking supervisory agencies, formally
adopted a joint program for supervising
the U.S. operations of foreign banking
organizations (FBOs). The program has
two major parts. One part focuses on the
examination process for those FBOs that
have multiple US. operations and is
intended to improve coordination among
the various US. supervisory agencies.
The other part of the program is a
review of the financial and operational
profile of each FBO to assess its general
ability to support its U.S. operations
and to determine what risks, if any, the
FBO poses through its U.S. operations.
Together, these two processes provide
critical information to the US. supervisors in a logical, uniform, and timely
manner. During 1997 the Federal
Reserve continued to implement program goals through coordination with
other supervisory agencies and the
development of financial and risk
assessments of foreign banking organizations and their U.S. operations.

224 84th Annual Report, 1997
Technical Assistance
In 1997 the System provided staff for
technical assistance missions and training sessions on bank supervisory matters to a number of central banks in
countries of the former Soviet Union,
Eastern Europe, Asia, the Caribbean,
and Latin America.

Supervisory Policy
The Federal Reserve in 1997 issued for
public comment an interim rule and
several proposals to amend its capital
adequacy guidelines. It also issued a
proposal to amend its real estate
appraisal rule for bank holding companies and their nonbank subsidiaries.
During the year, the Federal Reserve
continued to revise its supervisory
process to enhance the effectiveness of
examinations and inspections as well as
to address changes in the banking industry. As part of these efforts, the Federal
Reserve and the Federal Deposit Insurance Corporation jointly formalized and
implemented a risk-focused supervision
framework for the examination of community banks. The Federal Reserve also
introduced a parallel framework for the
risk-focused supervision of large, complex banking organizations.

balance-sheet items to broad categories
primarily on the basis of credit risk. In
addition, some institutions must measure their market risk exposure and
include that measure in their risk-based
capital calculation. Banking organizations are expected to maintain capital
equal to at least 8 percent of their riskadjusted assets.
To supplement the risk-based capital
standards, the Federal Reserve in 1990
issued leverage guidelines setting forth
minimum ratios of capital to total assets
to be used in the assessment of an institution's capital adequacy. During 1997,
the Board of Governors approved for
public comment an interim rule and several proposals to amend its capital adequacy guidelines.
Market Risk/Specific Risk

On December 30, 1997, the Board,
together with the FDIC and the OCC,
issued an interim rule, effective at yearend 1997, along with a request for public comment, that amended their respective risk-based capital guidelines for
market risk applicable to certain institutions having significant trading activities. The rule permits institutions to use
qualifying internal models to determine
their capital requirements in relation to
specific risk (an element of market risk)
without comparing the requirements
generated by their internal models with
Capital Adequacy Guidelines
the so-called standardized specific-risk
capital requirement. The rule impleThe risk-based capital requirements,
ments a revision to the Basle Accord
adopted by the Federal Reserve in 1989,
that permits such treatment for instituimplement the international risk-based
tions whose internal models adequately
capital standards that were developed by
measure specific risk.
the Basle Committee on Banking Regulation and Supervisory Practices (Basle
Recourse
Supervisors Committee) and endorsed
by the Group of Ten (G-10) countries On November 5, 1997, the Federal
in July 1988. The standards include a Reserve, together with the OCC, FDIC,
framework for calculating risk-adjusted and OTS, issued a proposal to revise the
assets and for assigning assets and off- risk-based capital standards to address




Banking Supervision and Regulation 225
the regulatory capital treatment of
recourse obligations and direct credit
substitutes that expose banks, bank
holding companies, and thrift institutions to credit risk. The proposed rules
would use credit ratings to match the
risk-based capital assessment more
closely to an institution's relative risk of
loss in certain asset securitizations.
Unrealized Gains on Certain
Equity Securities
On October 23, 1997, the agencies
issued a joint proposal to amend the
risk-based capital standards for banks,
bank holding companies, and thrift
institutions with regard to the treatment
of certain unrealized revaluation gains
on certain equity securities. Under the
proposal, institutions would be permitted to include in tier 2 capital up
to 45 percent of their unrealized gains
on certain available-for-sale equity
securities.
Servicing Assets
On August 4, 1997, the agencies issued
a proposal to amend their risk-based and
tier 1 leverage capital guidelines for
banks, bank holding companies, and
thrift institutions to address the accounting treatment of servicing assets on both
mortgage assets and financial assets
other than mortgages. The proposal
reflects changes in accounting standards
for servicing assets made in Statement
of Financial Accounting Standard (FAS)
No. 125, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities. FAS 125
extended the accounting treatment for
mortgage servicing to servicing on all
financial assets. The proposed amendment would raise the capital limitations
on the sum of all mortgage servicing
assets and purchased credit card rela


tionships from 50 percent of tier 1 capital to 100 percent of tier 1 capital. The
amendment would also allow the deduction of servicing assets on financial
assets other than mortgages from tier 1
capital.
Leverage Capital Ratios
On October 27, 1997, the agencies
issued for public comment a proposal
addressing their leverage standards.
Under the proposal, institutions rated a
composite 1 under the Uniform Financial Institutions Rating System would be
subject to a minimum 3.0 percent leverage ratio, and all other institutions
would be subject to a minimum 4.0 percent leverage ratio. This change would
simplify and streamline the leverage
standards and make the agencies' rules
uniform.
Technical Modifications
In October 1997, the agencies issued
a proposal to amend their capital
adequacy guidelines to eliminate differences among the agencies. The proposed amendments pertain to the riskbased capital treatment of presold oneto four-family residential properties,
second liens on one- to four-family residential properties, and investments in
mutual funds. The amendment would
permit a 50 percent risk weight for construction loans on all presold one- to
four-family residential properties. All
first and second liens would be treated
separately, with qualifying first liens
risk-weighted at 50 percent and nonqualifying first liens and all second liens
risk-weighted at 100 percent. At their
option, institutions would be permitted
to assign mutual fund investments on a
pro rata basis among the risk categories
according to the investment limits in the
mutual fund prospectus.

226 84th Annual Report, 1997
Real Estate Appraisal Regulation

Risk-Focused Supervision of Banks

In 1990, in accordance with title XI
of the Financial Institutions Reformy
Recovery, and Enforcement Act of
1989, the Board, along with the other
federal banking agencies, adopted
appraisal regulations for real estaterelated transactions within their jurisdiction and exempted certain transactions
from the regulations. In 1994 the agencies amended several existing exemptions and added several new exemptions. On December 5, 1997, the Board
issued a proposal to amend its real estate
appraisal regulation for bank holding
companies and their nonbank subsidiaries. The proposed amendment would
permit a bank holding company or its
nonbank subsidiary having the authority
to underwrite or deal in mortgagebacked securities to do so without demonstrating that the loans underlying the
securities are supported by appraisals
that at origination met the Board's
appraisal regulation. The Board proposed this amendment to address concerns raised by bank holding companies
regarding the inability of their nonbank
subsidiaries to actively participate in the
commercial mortgage-backed securities
market because of the Board's appraisal
requirements. A final amendment is
expected in early 1998.

In October 1997, the Federal Reserve
formally implemented two risk-focused
supervision programs for banks, one for
large, complex banking organizations
and the other for community banks.
Both programs rely on an understanding
of the institution, the performance of
risk assessments, the development of a
supervisory plan, and examination procedures tailored to the institution's risk
profile.

Risk-Focused Supervision
Over the past several years the Federal
Reserve has initiated a number of programs aimed at enhancing the effectiveness of the supervisory process. The
main objective of these initiatives has
been to sharpen the focus on (1) those
business activities posing the greatest
risk to banking organizations and (2) the
organizations' management processes
for identifing, measuring, monitoring,
and controlling their risks.



Large, complex banks.
For large,
complex organizations, the supervision
program emphasizes the need for ongoing supervision, through increased
planning and off-site monitoring, and
for coordination of supervisory activities with an organization's multiple
regulators, to improve efficiency and
avoid duplication. The program also
emphasizes a review of functional
activities or business lines, rather than
just legal entities, because large organizations generally are structured according to business functions and manage
many important financial and operational activities centrally. As part of this
approach, the program endorses the concept of conducting, when appropriate, a
series of targeted examinations during a
given supervisory cycle, each focusing
on a single function or business line.
Community banks. The supervisory
framework for community banks was
developed jointly by the Federal
Reserve and the FDIC in close consultation with state bank supervisors. The
program sets forth guidelines for planning and scoping examinations to focus
on the areas of highest risk to the bank
and encourages the performance of as
many supervisory activities as possible
off-site. It also describes general procedures for examining each of the major

Banking Supervision and Regulation 227
areas of a bank's risk-bearing activities.
The procedures are set forth in modules
that are structured in a decision-tree format. This format allows an examiner
to draw conclusions about a particular
activity after completing a core analysis,
which in most cases would require only
a few procedures. If the core analysis
indicates that a more in-depth review
and more testing are needed to draw a
conclusion about a particular activity, the examiner would perform an
expanded analysis. To aid in conducting
risk-focused examinations, an automated program has been developed that
allows examiners to document their
work for each module on their laptop
computers. The program, which also
provides electronic access to the FDIC
and Federal Reserve examination manuals, is designed to operate on all computers currently used by FDIC, Federal
Reserve, and state bank supervisors.
Risk-Focused Supervision of Small
Shell Bank Holding Companies
In November 1997, the Board adopted a
risk-focused supervision program for
small shell bank holding companies
that tailors supervisory activities to an
assessment of each company's reported
condition and activities and the condition of its subsidiary banks. Under the
program, Reserve Banks are expected to
perform a risk assessment of each small
shell bank holding company at least
once during each supervisory cycle,
which depends on the examination frequency for the holding company's lead
bank. If the preliminary assessment
identifies no unusual supervisory issues
or concerns, no special follow-up with
the company is necessary. However, if it
supports the assignment of a supervisory rating (that is, a BOPEC rating)
of 3 or worse or a management rating
of less than satisfactory, a full-scope,



on-site inspection is expected to be performed. Newly formed companies will
still be subject to a full-scope, on-site
inspection within the first twelve to
eighteen months of operation.
Examination-Frequency Guidelines
In February 1997, the Board and the
other banking agencies revised their
examination-frequency guidelines to
address provisions in the Riegle Community Development and Regulatory
Improvement Act of 1994 and the Economic Growth and Regulatory Paperwork Reduction Act of 1996. As a result
of the revision, certain banks having
assets of less than $250 million will be
subject to an eighteen-month examination cycle rather than a twelve-month
cycle. To qualify for less-frequent
examination, a bank must be rated composite 2 or better, must be well capitalized and well managed, must not be
subject to a formal enforcement action,
and must not have experienced a change
of control during the preceding twelve
months.
Risk-Management Guidance
In June 1997, in response to an amendment to the Basle Accord on capital
requirements for exposure to general
market risk, the Federal Reserve issued
guidance on the risk-based capital treatment of credit derivatives held in trading accounts. Banking organizations are
expected to hold risk-based capital to
compensate for exposure to counterparty credit risk, general market risk,
and specific risk in credit derivative
transactions.
In July 1997, the Board issued guidance on the risk management and capital
adequacy of secondary-market credit
activities such as loan syndications,
loan sales and participations, credit

228 84th Annual Report, 1997
derivatives, and asset securitizations and
the provision of credit and liquidity
enhancements to transactions in these
areas. The guidance identifies some
of the significant risks involved in
several of the more common types
of secondary-market credit activities.
It also describes sound practices and
special considerations that supervisors
should take into account when assessing a banking organization's systems
for managing risks arising from these
activities.
Derivatives Accounting and
Disclosures
During 1997 the Federal Reserve
provided comments on the Financial
Accounting Standards Board's (FASB)
proposed standard Accounting for
Derivative and Similar Financial
Instruments and for Hedging Activities.
Although the Federal Reserve supports
the FASB's objective of promoting
greater transparency in financial statements, the Board's comment letters
expressed concerns that the FASB
approach would not improve the transparency of financial reporting and
would likely constrain prudent riskmanagement practices that make use of
derivatives. The Federal Reserve offered
the FASB suggestions for improving
the transparency of financial reporting
for derivatives and all other financial
instruments. In conjunction with the
Basle Committee on Banking Supervision, similar comments were provided
to the International Accounting Standards Committee (IASC) regarding
its accounting proposal for financial
instruments.
Industry groups and regulators continued during 1997 to monitor the quality
of bank disclosures of derivatives activities, with the goal of making these
activities more transparent to the public



and to regulatory authorities. In November, the Basle Supervisors Committee
and the Technical Committee of the
International Organisation of Securities
Commissions (IOSCO) issued a third
joint report on the public disclosure of
trading and derivatives activities of
banks and securities firms worldwide.
The report provides an overview and
analysis of the disclosures about trading
and derivatives activities presented in
the 1996 annual reports of a sample of
the largest internationally active banks
and securities firms in the G-10 countries, and notes improvements since
1993.3 The analysis was built in part on
a framework used by the Federal
Reserve in analyzing the trading and
derivatives disclosures of major U.S.
banking organizations. It revealed that a
number of firms in the sample have continued to make general improvements,
such as the expansion of value-at-risk
disclosures, as well as significant voluntary innovations in their annual report
disclosures. Despite these encouraging
advances, however, some institutions
have continued to disclose little about
their trading and derivatives activities.
The report also contains recommendations made by the Basle Committee and
IOSCO in 1995 for further improvements in disclosures of qualitative and
quantitative information about institutions' involvement in trading and derivatives activities, including their risk
exposures and risk-management policies, and the effect of these activities on
earnings.
Bank Internal Audit Functions
In December 1997, the Board and the
other federal banking regulators issued a
joint policy statement that describes
3. The total sample consisted of seventy-nine
global institutions holding more than $83 trillion
in derivative instruments (notional amounts).

Banking Supervision and Regulation 229
sound practices for managing the internal audit function of banking organizations and includes a major section on
internal audit outsourcing. The statement reiterates that directors and senior
managers are responsible for ensuring
that the system of internal control is
adequate for the nature and scope of the
organization's business. It provides
examiners with guidance for assessing
the quality and effectiveness of an
organization's internal audit function.
It also provides guidance on sound
practices for internal audit outsourcing arrangements and on independence
issues when an accountant plans to serve
as the banking organization's external
auditor and as its internal-audit outsourcing vendor.
Information Technology
As described in previous sections, during 1997 the Federal Reserve formalized risk-based supervision programs for
large, complex banking organizations
and for community banking organizations. The Division of Banking Supervision and Regulation views the support
of these programs as its most critical
objective in deploying information technology. The risk-based programs require
that (1) the division maintain a current
risk profile of large, complex organizations subject to Federal Reserve supervision for the purpose of determining
the appropriate supervisory strategy for
ensuring safe and sound operations and
(2) examination exercises for all organizations focus on areas of highest risk
and be conducted in a manner that both
leverages to the greatest extent possible
upon existing management information
systems and eliminates duplication of
effort among regulators and bankers.
During the year, the division made significant progress in the use of information technology to support these pro


grams and implemented a process for
focusing future development efforts on
risk-based supervision. Several of these
initiatives are discussed below.
National Information Center and
National Examination Database
The National Information Center (NIC)
is a Federal Reserve System database
maintained at the Board of Governors
and made available to staff members at
the Board, the Reserve Banks, and other
federal and state banking agencies. The
NIC contains information about the
organizational structure of all depository institutions, nonbanks, bank holding companies, and foreign banking
organizations operating in the United
States. It also contains financial information such as Call Report data and
Uniform Performance reports for
depository institutions, and FR-Y financial reports and Uniform Performance
reports for bank holding companies. In
addition, the NIC contains supervisory
information resulting from examinations and inspections and enables end
users to perform financial analysis on
institutions.
During 1997, work continued on
software to improve NIC's usefulness
through the use of distributed technologies. The National Examination Data
(NED) software system was implemented in December. The system allows
staff members to retrieve and update
supervisory and financial information on
depository institutions and bank holding
companies. Development of the NED
system, which was begun in 1995 to
take advantage of the Federal Reserve
System's intranet and to improve the
functionality of the NIC through the use
of client/server technology, will greatly
facilitate the examination process, bank
surveillance, and supervisory analysis.
Implementation of similar technological

230 84th Annual Report, 1997
improvements to support other areas of
the NIC began in 1996 and will continue, in several phases, through 1999.
In addition, much progress was made in
1997 toward providing public access
to nonconfidential NIC information.
In January, a public Internet page was
made available to provide access to
many of the structure and financial
reports contained in the NIC. The page
is reached through the FFIEC home
page and through a link on the Board of
Governor's home page.
In 1998 and beyond, the Federal
Reserve will make the NED system
available to state banking agencies and
will explore ways to use internet technologies to expand the availability of
NIC data in general.
Foreign Banking Organization
Desktop (FBO Desktop)
FBO Desktop is an automated system
developed by the Federal Reserve to
assist in the supervision of U.S. branches
and agencies of foreign banking organizations. The system makes possible the
sharing throughout the Federal Reserve
System of information used in the supervision of foreign banking organizations, including information on foreign
financial systems, foreign accounting
standards, and analysis of the financial
performance of foreign banking organizations having U.S. operations. The Federal Reserve plans in May 1998 to
implement a similar system for large
domestic banking organizations that
includes more types of information.
Also in 1998, access to these two systems will be extended to state and federal banking regulators.
Examination-Related Initiatives
In 1997, the Division of Banking Supervision and Regulation took several steps



to improve the use of automation in
the conduct of examinations, notably
through joint efforts with the FDIC and
state bank supervisors. One step was
development of the Examination Laptop
Visual Information System (ELVIS).
ELVIS leads examiners through a decision matrix to focus on high-risk activities and helps ensure consistency among
examiners in the use of risk-focused procedures. Because it automatically documents the examination process, the
system also provides cost savings.
Also during the year, the division
agreed with the FDIC and state supervisors to use a common, automated
tool for analyzing loans. Use of an automated loan-analysis tool saves considerable examination resources by expediting the selection of loans to be reviewed,
eliminating the need to transcribe certain information available electronically
at the bank, and facilitating greater portfolio analysis. The division also agreed
with the FDIC and state supervisors on a
system for accessing data to be used in
conducting examinations and preparing
examination reports. A production version of the system is expected to be
ready in late 1998.

Staff Training
The Supervisory Education Program
trains staff members having supervisory
or regulatory responsibilities at the
Reserve Banks, at the Board of Governors, and at state banking departments;
students from supervisory counterparts
in foreign countries attend the training
sessions on a space-available basis. The
program provides training at the basic,
intermediate, and advanced levels for
the four disciplines of bank supervision: bank examinations, bank holding
company inspections, surveillance and
monitoring, and applications analysis.

Banking Supervision and Regulation 231
Classes are conducted in Washington,
D.C., or at regional locations and may
be held jointly with regulators of other
financial institutions. The program is
designed to increase the student's
knowledge of the entire supervisory and
regulatory process and thereby provide
a higher degree of cross-training among
staff members.
The System also participates in training offered by the Federal Financial Institutions Examination Council (FFIEC)
and by certain other regulatory agencies.
The System's involvement includes
developing and implementing basic and
advanced training in various emerging
issues as well as in such specialized
areas as trust activities, international

banking,
information
technology,
municipal securities dealer activities,
capital markets, payment systems risk,
white collar crime, and real estate lending. In addition, the System co-hosts the
World Bank Seminar for students from
developing countries.
The Federal Reserve conducted a
variety of schools and seminars in 1997,
and staff members participated in several courses offered by or cosponsored
with other agencies, as shown in the
accompanying table.
In 1997 the Federal Reserve trained
4,199 students in System schools, 1,085
in schools sponsored by the FFIEC, and
84 in other schools, for a total of 5,368,
including 256 representatives from for-

Number of Sessions of Training Programs for Banking Supervision and Regulation, 1997
Program

Total

Regional

Schools or seminars conducted by the Federal Reserve
Core schools
Introduction to examinations
Financial institution analysis
Bank management
Effective writing for banking supervision staff
Management skills
Conducting meetings with management

8
10
7
19
12
19

6
7
3
19
11
19

Other schools
Loan analysis
Real estate lending seminar
Specialized lending seminar
Senior forum for current banking and regulatory issues
Banking applications
Bank holding company inspections
Basic entry-level trust
Advanced trust
Consumer compliance examinations I
Consumer compliance examinations II
CRA examination techniques
Fair lending
Information systems and emerging technology risk management ..
Information systems continuing education
Intermediate information systems examination
Capital markets seminars
Section 20 securities seminar
Internal controls
Seminar for senior supervisors of foreign central banks'

6
5
3
5
1
6
1
1
2
3
3
3
17
2
1
16
4
8
1

5
3

Other agencies conducting courses2
Federal Financial Institutions Examination Council
Office of the Comptroller of the Currency
Federal Bureau of Investigation3

55
3
1

NOTE. . . . Not applicable.
1. Conducted jointly with the World Bank.
2. Open to Federal Reserve employees.




4
'5

16
12
2
5

7
1

3. Co-sponsored by the Federal Reserve, the Federal
Deposit Insurance Corporation, the Office of Thrift Supervision, and the Office of the Comptroller of the Currency.

232 84th Annual Report, 1997
eign central banks. A total of 26,608
student days of training were provided,
comparable to the amount of training
provided in recent years.
The Federal Reserve System also
gave scholarship assistance to the states
for training their examiners in Federal
Reserve and FFIEC schools. Through
this program 773 state examiners were
trained: 458 in Federal Reserve courses,
302 in FFIEC programs, and 13 in other
courses.
Every staff member seeking an examiner's commission is required to pass
a core proficiency examination, which
includes a core content area and a specialty area of the student's choice—
safety and soundness, consumer affairs,
trust, or information technology (formerly information systems). In 1997,
131 students took the examination (see
table).
Late in the year, the System initiated
revisions to the core training program
that leads to the commissioning of assistant examiners. The project was undertaken to give assistant examiners a
greater understanding of risk-focused
examination concepts, the components
of sound internal controls, the importance of management information systems, the concept of risk as it applies to
banking, and the key supervisory issues
related to integrated supervision. The
changes will be implemented over 1998
and 1999.

Federal Financial Institutions
Examination Council
Year 2000
The Federal Reserve is working closely
with the other federal banking agencies
to address the banking industry's readiness for the year 2000. The supervisory
program focuses on the industry's
efforts to ensure that automated systems
will be able to correctly calculate datedependent information after the century
date change. The program has included
the issuance of several policy statements, the development of a uniform
set of examination procedures, and an
outreach program that has provided
numerous opportunities for banks and
bank supervisors to discuss the issues.
Year 2000 supervisory initiatives are
continuing to intensify and have been of
great interest to the industry, bank supervisors, and the Congress.
The banking agencies, through the
FFIEC, issued two policy statements to
all banks in 1997—"Year 2000 Project
Management Awareness" on May 5 and
"Safety and Soundness Guidelines Concerning the Year 2000 Business Risk"
on December 17. The May statement
included a set of uniform examination
procedures that is being used in the
Year 2000 examination of all banks subject to Federal Reserve supervision by
mid-1998.

Status of Students Registered for the Core Proficiency Examination, 1997
Specialty area
Student status

In queue, year-end 1996
Test taken, 1997
Passed
Failed
In queue, year-end 1997

Core

33
131
114
17
23

Safety and
soundness

Consumer

Trust

Information
technology

26
82
69
13
13

4
42
33
9
9

1
5
5
0
0

0
6
2
4
1

NOTE. Students choose a test in one specialty area to accompany the core examination.




Banking Supervision and Regulation 233
As part of its outreach activities, the
Federal Reserve in June 1997 produced a ten-minute video entitled
"Year 2000 Executive Awareness,"
which is intended for viewing by bank
boards of directors and senior management. Governor Edward W. Kelley, Jr.,
introduces the video and emphasizes
that the Year 2000 challenge is a business matter and not exclusively a technology problem, thus warranting the
attention of boards of directors and
senior officers.
In an effort to intensify international
involvement by foreign bank supervisors, the Federal Reserve and other
U.S. bank supervisors worked closely
with the Bank for International Settlements's Committee on Banking
Supervision to prepare a paper on the
Year 2000 situation that was distributed
in September 1997 to banks and bank
supervisors in more than one hundred
countries. The committee encouraged
BIS member countries to make preparation for the year 2000 a priority to ensure that banks everywhere are ready for
the century date change.
The Federal Reserve's supervisory
activities and internal preparations have
been of significant interest to both the
House and the Senate Banking Committees as well as to the General Accounting Office. Staff members have been
asked to provide quarterly written and
oral briefings to both houses of Congress beginning with the third quarter
of 1997 and continuing through the century date change.
Revisions to the Call Report
During 1997 the FFIEC implemented
changes to the bank Reports of Condition and Income (Call Reports) to adopt
generally accepted accounting principles
(GAAP) as the reporting basis in all
areas of the Call Reports, effective with



the March 1997 report. This change
brought the accounting principles used
in bank regulatory reports into conformity with those used in bank holding
company FR-Y reports, savings association Thrift Financial Reports, and
general-purpose financial statements.
The FFIEC also revised the Report of
Assets and Liabilities of U.S. Branches
and Agencies of Foreign Banks (FFIEC
002), effective with the March 1997
report, and the Foreign Branch Report
of Condition (FFIEC 030), effective
with the September 1997 report, to
adopt GAAP and certain other disclosures to maintain consistency with the
bank Call Reports.
In October, the Federal Reserve and
the other federal banking agencies proposed minor revisions to the bank Call
Reports to improve the agencies' ability
to monitor bank compliance with certain
regulations and to facilitate bank supervision. The revisions would, with the
March 1998 report, add items to monitor
compliance with the risk-based capital
standards for market risk exposures
and low-level recourse transactions less
frequently as part of the FFIEC's continuing efforts to reduce unnecessary
regulatory burden and to streamline
regulatory reports. The proposal would
also eliminate several detailed items on
bank trading portfolios and collect certain deposit information.
Besides implementing or proposing
changes to Call Report content, the
FFIEC in 1997 phased out the direct
filing of Call Reports in paper form
and implemented an electronic filing
requirement. The FFIEC also revised the
four versions of the Call Report instructions into a single set of instructions and
made the report forms available on the
Internet. These changes are consistent
with the objectives of section 307 of
the Riegle Community Development
and Regulatory Improvement Act of

234 84th Annual Report, 1997
1994, which requires that the agencies
work together to develop a single form
for the filing of core information by
banks, savings associations, and bank
holding companies; to simplify instructions for such reports; and to develop a
system under which such reports can be
filed electronically.

Regulation of the
U.S. Banking Structure
The Board administers the Bank Holding Company Act, the Bank Merger Act,
the Change in Bank Control Act, and
the International Banking Act for bank
holding companies, member banks, and
foreign banking organizations. In doing
so, the Federal Reserve acts on a variety
of proposals that directly or indirectly
affect the structure of U.S. banking at
the local, regional, and national levels;
the international operations of domestic
banking organizations; and the U.S.
banking operations of foreign banks;
Bank Holding Company Act
Under the Bank Holding Company Act,
a company must obtain the Federal
Reserve's approval before forming a
bank holding company by acquiring
control of one or more banks in the
United States. Once formed, a bank
holding company must receive the Federal Reserve's approval before acquiring additional banks or nonbanking
companies. The act permits well-run
bank holding companies that satisfy specific criteria to commence certain nonbanking activities on a de novo basis
without prior Board approval and establishes an expedited prior notice procedure for other activities and for small
acquisitions.
In reviewing an application or notice
filed by a bank holding company



for prior Board approval, the Federal
Reserve considers several factors,
including the financial and managerial
resources of the applicant, the future
prospects of both the applicant and the
firm to be acquired, the convenience and
needs of the community to be served,
the potential public benefits, the competitive effects of the proposal, and the
applicant's ability to make available to
the Board information deemed necessary to ensure compliance with applicable law. In the case of a foreign banking
organization seeking to acquire control
of a U.S. bank, the Federal Reserve also
considers whether the foreign bank is
subject to comprehensive supervision or
regulation on a consolidated basis by its
home country supervisor.
In 1997, the Federal Reserve
approved 358 proposals by foreign or
domestic companies to become bank
holding companies; approved 108 proposals by existing bank holding companies to merge with other bank holding
companies; approved 283 proposals by
existing bank holding companies to
acquire or retain banks; approved 398
requests by existing bank holding companies to acquire nonbank firms engaged
in activities closely related to banking;
and approved 90 other bank holding
company applications or notices and
denied 1. Data on these and all other
decisions are shown in the accompanying table.
Bank Merger Act
The Bank Merger Act requires that all
proposed mergers of insured depository
institutions be acted on by the appropriate federal banking agency. If the institution surviving the merger is a state
member bank, the Federal Reserve has
primary jurisdiction. Before acting on a
proposed merger, the Federal Reserve
considers factors relating to the financial

Banking Supervision and Regulation 235
and managerial resources of the applicant, the future prospects of the existing
and combined institutions, the convenience and needs of the community to
be served, and the competitive effects of
the proposal. It also considers the views
of certain other agencies regarding the
competitive factors involved in the
transaction.
During 1997 the Federal Reserve
approved 156 merger applications. As
required by law, each merger is
described in this REPORT (in table 16 of
the "Statistical Tables" chapter).
When the FDIC, the OCC, or the
OTS has jurisdiction over a merger, the
Federal Reserve is asked to comment on
the competitive factors to ensure comparable enforcement of the antitrust provisions of the Bank Merger Act. The
Federal Reserve and those agencies have
adopted standard terminology for
assessing competitive factors in merger
cases to ensure consistency in administering the act. The Federal Reserve submitted 994 reports on competitive fac-

tors to the other federal banking agencies in 1997.

Change in Bank Control Act
The Change in Bank Control Act
requires persons seeking control of a
U.S. bank or bank holding company to
obtain approval from the appropriate
federal banking agency before completing the transaction. Under the act,
the Federal Reserve is responsible for
reviewing changes in control of state
member banks and of bank holding
companies. In doing so, the Federal
Reserve reviews the financial position,
competence, experience, and integrity of
the acquiring person; considers the
effect on the financial condition of the
bank or bank holding company to be
acquired; determines the effect on competition in any relevant market; assesses
the completeness of information submitted by the acquiring person; and considers whether the proposal would have an

Decisions h\ the t edera! Reserve. 1
)omestic and International Applications, 3 997
Action under authority delegated
by the Board of Governors
Proposal

Direct action
by the
Board of Governors

Approved
Formation of holding
company
Merger of holding
company
Acquisition of bank ..
Acquisition of
nonbank
Merger of bank
Change in control
Establishment of a
branch, agency,
or representative
office by a
foreign bank
Other
Total

Denied

Director of the
Division of Banking wince
Supervi iion and
Secretary
Regu ation

Permitted Approved

Denied

Federal
Reserve: Banks

Total

Approved Approved Permitted

12

0

0

0

0

1

261

84

358

12
25

0
0

0
0

0
0

0
0

16
22

61
155

19
81

108
283

0
23
6

0
0
0

124
0
0

0
0
0

0
0
0

44
17
4

0
116
0

230
0
174

398
156
184

18
363

0
1

1
58

0
19

0

o

0
169

1
1,395

0
129

20
2,134

459

1

183

19

0

273

1,989

717

3,641




236 84th Annual Report, 1997
adverse effect on the federal deposit
insurance funds.
The appropriate federal banking agencies are required to publish notice of
each proposed change in control and to
invite public comment, particularly from
persons located in the markets served by
the institution to be acquired. The agencies are also required to assess the qualification of each person seeking control.
In early 1997, following discussions
with the FDIC, the OCC, and the OTS,
the Board adopted significant changes to
the portion of Regulation Y that implements the Change in Bank Control Act.
The modifications represent an attempt
to reduce unnecessary regulatory burden
and to harmonize the scope and procedural requirements of the Federal
Reserve with those of the other federal
banking agencies. As discussed in the
later section "Recent Regulatory
Changes," these revisions were part of a
broader effort by the Board to improve
Regulation Y.
In 1997 the Federal Reserve acted
on 184 proposed changes in control of
state member banks and bank holding
companies.
International Banking Act
The International Banking Act, as
amended by the Foreign Bank Supervision Enhancement Act of 1991, requires
Federal Reserve approval for the establishment of branches, agencies, commercial lending company subsidiaries,
and representative offices by foreign
banks in the United States.
In reviewing proposals, the Board
generally considers whether the foreign
bank is subject to comprehensive supervision or regulation on a consolidated
basis by its home country supervisor. It
may also take into account whether the
home country supervisor has consented
to the establishment of the U.S. office;



the financial resources of the foreign
bank and its existing U.S. operations;
the managerial resources of the foreign
bank; whether the home country supervisor shares information regarding the
operations of the foreign bank with other
supervisory authorities; whether the foreign bank has provided adequate assurances that information concerning its
operations and activities will be made
available to the Board, if deemed necessary to determine and enforce compliance with applicable law; and the record
of the foreign bank with respect to compliance with U.S. law.4
In 1997, the Federal Reserve
approved applications by fourteen foreign banks from twelve foreign countries to establish branches, agencies, and
representative offices in the United
States.
Public Notice of
Federal Reserve Decisions
Each decision by the Federal Reserve
that involves a bank holding company, a
bank merger, a change in control, or the
establishment of a new U.S. banking
presence by a foreign bank is effected
by an order or an announcement. Orders
state the decision, the essential facts of
the application or notice, and the basis
for the decision; announcements state
only the decision. All orders and
announcements are made public immediately; they are subsequently reported
in the Board's weekly H.2 statistical
release and in the monthly Federal
Reserve Bulletin. The H.2 release also
contains announcements of applications
and notices received by the Federal
Reserve but not yet acted on. In 1997,
the H.2 release became available on the
Board's public Web site.
4. The Board may also consider the needs of
the community, the foreign bank's history of
operation, and its relative size in its home country.

Banking Supervision and Regulation 237
Timely Processing of Applications
The Federal Reserve maintains target
dates and procedures for the processing
of applications. The setting of target
dates promotes efficiency at the Board
and the Reserve Banks and reduces the
burden on applicants. The time allowed
for a decision ranges from thirty to sixty
days, depending on the type of application or notice. In 1997, 98 percent of
decisions met this standard.
Delegation of Applications
Historically, the Board of Governors has
delegated certain regulatory functions—
including the authority to approve,
but not to deny, certain types of
applications—to the Reserve Banks, to
the Director of the Board's Division of
Banking Supervision and Regulation,
and to the Secretary of the Board. The
delegation of responsibility for applications permits staff members at the Board
and the Reserve Banks to work more
efficiently by removing routine cases
from the Board of Governors's agenda.
In 1997, 82 percent of the applications
processed were acted on under delegated
authority.
Recent Regulatory Changes
In February 1997, the Board approved
significant revisions to Regulation Y,
which implements the Bank Holding
Company Act, the Change in Bank Control Act, and certain related statutes. The
revisions were intended to improve the
competitiveness of bank holding companies by eliminating unnecessary regulatory burden and operating restrictions
and by streamlining the application and
notice process. As part of the final regulation, the Board implemented a streamlined and expedited review process for
bank and nonbank proposals by well


run bank holding companies. The Board
also reorganized and expanded the list
of generally permissible activities of
bank holding companies and updated
or eliminated many of the restrictions
under which bank holding companies
conduct business. The final regulation
also adopted a number of measures
designed to broaden and improve public
notice of acquisition proposals.
In December 1997, the Board
requested comment on proposed comprehensive revisions to Regulation K,
which governs international banking
operations. The proposed revisions are
intended to improve the international
competitiveness of U.S. banking organizations by expanding permissible activities abroad and reducing regulatory burden associated with the conduct of such
activities, and to reduce regulatory burden on foreign banks operating in the
United States by streamlining the application and notice process.
Banking and Nonbanking Proposals
During 1997, the Board approved several merger proposals involving some
of the largest banking organizations in
the United States. As in previous cases,
these proposals generated many comments from the public, particularly with
respect to Community Reinvestment
Act, fair lending, and competitive
issues. The Board also continued to
process numerous banking proposals
involving mutual holding companies.
Beginning in the second half of 1996,
the Board adopted a series of changes in
the restrictions applicable to the operations of section 20 subsidiaries. As a
result of these changes, the Federal
Reserve System in 1997 received significantly more proposals involving the
establishment and expansion of section 20 subsidiaries by bank holding
companies. By year-end 1997, the Board

238 84th Annual Report, 1997
had approved a variety of proposals by
both foreign and domestic banking organizations to acquire full-service securities brokerage and investment firms. The
number of section 20 subsidiary proposals from smaller banking organizations
also increased.
In the course of acting on other
nonbanking proposals by foreign and
domestic bank holding companies, the
Board continued to expand the scope of
permissible data processing activities to
facilitate electronic banking. It also permitted several banking organizations
to acquire or retain certain operations
engaged in a broad range of mutual fund
activities.

Overseas Investments by
U.S. Banking Organizations
U.S. banking organizations, with the
authorization of the Board, may engage
in a broad range of activities overseas.
Most foreign investments may be made
under general consent procedures that
involve only after-the-fact notification
to the Board; significant investments
must be reviewed by the Board in
advance. In 1997 the Board approved
twenty-three proposals by U.S. banking
organizations to make significant investments overseas.
The Board also has authority to act on
proposals involving Edge Act and agreement corporations, which are established
by banking organizations to provide a
means of engaging in international business. In 1997 the Board approved two
proposals to increase the investment by
a member bank in its Edge corporation
subsidiaries above 10 percent of the
member bank's capital and surplus.
These proposals were novel in that until
September 1996, US. banks were prohibited from investing more than 10 percent of their capital and surplus in Edge
and agreement corporations. At that



time, legislation was adopted that allows
member banks to invest up to 20 percent
of their capital and surplus with the prior
approval of the Board. During 1997, the
Board also approved two applications to
establish new agreement corporations.
Applications by Member Banks
State member banks must obtain Board
approval to establish domestic branches,
and member banks (including national
banks) must obtain Board approval to
establish foreign branches. In considering proposals for domestic branches, the
Board reviews the scope of the functions and the character of the business to
be conducted. In reviewing proposals
for foreign branches, the Board considers, among other things, the condition of
the bank and the bank's experience in
international business. Once a member
bank has received authority to open a
branch in a particular foreign country,
the member bank may open additional
branches in that country without prior
Board approval. In 1997 the Federal
Reserve acted on merger and new
branch proposals related to 1,681
domestic branches and granted prior
approval for the establishment of 10 foreign branches.
Stock Repurchases by
Bank Holding Companies
A bank holding company may purchase
its own shares from its shareholders.
When the company borrows money to
buy the shares, the transaction increases
its debt and decreases its equity. Relatively larger purchases may undermine
the financial condition of a bank holding
company and its bank subsidiaries. The
Federal Reserve may object to stock
repurchases by holding companies that
fail to meet certain standards, including
the Board's capital guidelines. In 1997
the Federal Reserve reviewed thirty-

Banking Supervision and Regulation 239
seven proposed stock repurchases by
bank holding companies, all of which
were acted upon under delegated authority by either the Reserve Banks or the
Secretary of the Board.
Enforcement of Other Laws
and Regulations
Financial Disclosure by
State Member Banks
State member banks that issue securities
registered under the Securities Exchange
Act of 1934 must disclose certain information of interest to investors, including
financial reports and proxy statements.
By statute, the Board's financial disclosure rules must be substantially similar
to those of the Securities and Exchange
Commission. At the end of 1997,
twenty-eight state member banks, most
of them small or medium sized, were
registered with the Board under the
Securities Exchange Act.
Bank Secrecy Act
The Currency and Foreign Transactions
Reporting Act (the Bank Secrecy Act)
was originally designed as a means of
creating and maintaining records of various financial transactions that otherwise
would not be identifiable in efforts to
trace the proceeds of illegal activities. In
recent years, the Bank Secrecy Act has
been regarded as a primary tool in the
fight against money laundering. The
records that must be reported and maintained by financial institutions provide
law enforcement authorities, as well as
bank regulators, with data useful in
detecting and preventing unlawful activity. The Federal Reserve, through its
examination process and other off-site
measures, monitors compliance with the
Bank Secrecy Act by the institutions it
supervises.



In 1997 the Federal Reserve issued
revised and expanded procedures for
its examinations for compliance with
the Bank Secrecy Act that include
new interagency anti-money-laundering
examination procedures, as required by
the provisions of section 404 of the
Riegle Community Development and
Regulatory Improvement Act of 1994.
The enhancements include procedures
that address compliance with antimoney-laundering rules, procedures to
determine whether suspicious activities
are being monitored and reported,
procedures to assess training programs
for all relevant staff in the areas of
Bank Secrecy Act compliance and
anti-money-laundering controls, and
procedures that require bank examiners to address a banking organization's compliance with several regulations related to anti-money-laundering
recently issued by the Department of the
Treasury.
The Federal Reserve continued in
1997 to provide expertise and guidance
to the Bank Secrecy Act Advisory
Group, a committee established at the
Department of the Treasury by congressional mandate to seek measures to reduce unnecessary Bank Secrecy Act
burdens and to increase the utility of
Bank Secrecy Act data to regulators.
Also, through the Special Investigations
Section of the Division of Banking
Supervision and Regulation, the Federal
Reserve has assisted in the investigation
of money laundering activities and has
provided anti-money-laundering training to designated staff members at each
Reserve Bank as well as for law
enforcement agencies and the banking
sector. The Federal Reserve has also
participated extensively in the Financial
Action Task Force, which in 1997 provided anti-money-laundering training to
numerous foreign governments and central banking authorities.

240 84th Annual Report, 1997

Loans to Executive Officers

Federal Reserve Membership

Under section 22(g) of the Federal
Reserve Act, a state member bank must
include in its quarterly Call Report
all extensions of credit made by the
bank to its executive officers since
the date of the preceding report. The
accompanying table summarizes this
information.

At the end of 1997, 3,543 banks were
members of the Federal Reserve System. At that time, member banks
were operating 45,037 branches and
accounted for 39 percent of all commercial banks in the United States and for
73 percent of all commercial banking
offices.

Loans by State Member Banks to their Executive Officers, 1996 and 1997
Number

Amount (dollars)

Range of interest
rates charged
(percent)

7996
October 1-December 31

705

27,555,000

0.0-19.8

1997
January 1-March 31
April 1-June 30
July 1-September 30

735
786
743

31,815,000
36,167,000
37,229,000

0.0-18.0
0.0-19.5
0.0-18.0

Period

SOURCE. Call Reports.




241

Regulatory Simplification
In 1978 the Board of Governors established a regulatory review program to
help minimize the burden of regulation
on banking organizations. The objectives of the program are to ensure that
the economic consequences of regulation for small business are considered,
to afford interested parties the opportunity to participate in designing regulations and comment on them, and to
ensure that regulations are written in
simple, clear language. Board staff
members continually review regulations
for their adherence to these objectives
and for their consistency with the provisions of the Regulatory Flexibility Act.
Comprehensive Reviews
In 1997 the Board continued the review
process mandated by the Regulatory
Flexibility Act and by section 303 of the
more recent Riegle Community Development and Regulatory Improvement
Act. As a result of this process, it
adopted revised versions of Regulation
T, Regulation U, and Regulation Y. It
also eliminated Regulation G (effective
in 1998) by revising Regulation U to
cover lenders formerly covered by
Regulation G. In addition, the Board
proposed revising several other major
regulations and combining some regulations, thereby reducing the total number
of regulations.
Regulatory Revisions Adopted
Regulations G, T, U, and X
Securities Credit Transactions
In 1995 and 1996, the Board proposed
revisions to Regulations G, T, and U as



part of its comprehensive review of its
margin regulations. In 1996, the Board
also proposed amendments to the regulations to reflect statutory changes to
the Board's margin authority contained
in the National Securities Markets
Improvement Act of 1996. In December
1997, the Board adopted amendments
based on comments on the three proposals. The amendments revise Regulation
U, which formerly covered only commercial banks, to also cover lenders
formerly subject to Regulation G (lenders other than banks, brokers, and dealers). They also reduce regulatory distinctions between broker-dealers, banks,
and other lenders and generally liberalize the treatment of securities credit
transactions.
Amendments to Promote Uniformity
among Lenders and Reduce
Inconsistencies
The Board's margin authority is found
in the Securities Exchange Act of 1934
(SEA). The SEA prohibits the Board
from regulating extensions of securities
credit by banks as comprehensively as it
regulates extensions of securities credit
by brokers and dealers. In the 1930s, the
Board adopted Regulation T to cover
brokers and dealers and Regulation U to
cover commercial banks. In 1968, it
adopted Regulation G to cover lenders
other than banks, brokers, and dealers. Regulation G was generally more
restrictive than Regulation U. As the
Board gained experience with "Regulation G lenders," it amended Regulation
G to make it more and more similar to
Regulation U. At the beginning of the
comprehensive review of Regulations G

242 84th Annual Report, 1997
and U, the primary difference between
the regulations was based on section
8(a) of the SEA, which distinguished
between bank and nonbank lenders with
respect to loans to broker-dealers. Section 8(a) of the SEA was repealed by
Congress in 1996, leading the Board to
propose combining Regulations G and
U. In 1997, the Board announced the
extension of Regulation U to cover lenders subject to Regulation G and the
elimination of Regulation G, effective
April 1, 1998.
Regulation U contains several exemptions from the regular margin requirements for loans made to broker-dealers.
The combining of Regulations G and U
will result in these exemptions applying
to lenders formerly subject to Regulation G. Although the Board amended
Regulation T in 1983 to include some
of these exemptions, others remained
available only in Regulation U. In 1997
the Board announced that all exemptions for loans to brokers and dealers
in Regulation U will be extended to
Regulation T, so that broker-dealers
seeking exempt credit will be able to
borrow from all lenders on the same
basis.
A significant difference between the
coverage of Regulation T and the coverage of Regulations G and U is the treatment of transactions involving nonequity securities. The Board's margin
authority under the SEA does not extend
to extensions of credit by banks against
nonequity securities, and the scope of
Regulations G and U has consequently
been limited to extensions of credit
against equity securities. In contrast,
Regulation T covers extensions of credit
against both debt and equity securities.
To reduce the disparity between brokerdealers and other lenders with respect to
extensions of credit against debt securities, the Board eliminated the numerical
margin requirement for marginable non


equity securities under Regulation T in
1968 and replaced it with the concept
of "good faith margin." Good faith
margin is the amount of margin that a
broker-dealer, exercising sound credit
judgment, would customarily require for
a specified security position; it is established without regard to the customer's
other assets or securities portions held
in connection with unrelated transactions. Although broker-dealers are not
required to obtain a specified percentage
of margin for the purchase of debt securities, Regulation T still contains rules
for debt transactions not found in Regulations G and U. For example, under
Regulation T, margin for debt securities
must be collected within a specified time
period, and a broker-dealer is required
to liquidate a customer's securities if the
customer does not pay for margin within
the required time. In addition, Regulation T does not permit the purchase of a
nonequity security to be financed on an
unsecured basis or against collateral
other than securities. None of these provisions are found in Regulations G and
U. In 1996, the Board proposed to further deregulate transactions involving
nonequity securities by allowing good
faith margin for all nonequity securities and by creating a new account for
such transactions that does not have the
payment period and the sell-out restrictions applicable to equity security transactions. In addition, the Board proposed
to modify the definition of good faith
margin to allow broker-dealers to consider the creditworthiness of the borrower as well as the value of the collateral. The proposal was adopted in 1997.
It allows the purchase of debt securities
by unsecured credit and largely deregulates broker-dealer credit to the debt
markets to provide broker-dealers
greater parity with banks and other lenders whose credit to the debt markets has
not been regulated.

Regulatory Simplification 243
Another
significant
difference
between Regulation T and Regulations
G and U is their treatment of nonmargin
equity securities. Under Regulation T,
nonmargin equity securities have no
loan value, meaning that the customer
must pay for them in full. Under Regulations G and U, nonmargin equity securities used in connection with a covered
transaction have "good faith loan
value." In 1996, the Board proposed to
expand the definition of "margin security" in Regulation T. After reviewing
comments, the Board modified its proposal and in 1997 announced that all
securities listed in the NASDAQ Stock
Market will become margin securities
on January 1, 1999. This amendment
reduces the number of nonmargin equity
securities under Regulation T, thereby
increasing the number of securities eligible for credit at all lenders.
Another amendment to promote uniformity among lenders announced by
the Board in 1997 was the exclusion of
money market mutual funds from the
definition of "margin stock" in Regulation U. The exclusion has the effect of
allowing banks and other lenders to
extend "good faith" credit against these
securities, as has been allowed under
Regulation T since July 1996. The
Board also amended the regulations to
reduce internal inconsistencies. For
example, Regulation U prohibited the
extension of credit against exchangetraded options while allowing all other
exchange-traded equity securities to be
purchased with 50 percent margin. In
1997, the Board amended Regulation U
to provide a uniform margin requirement of 50 percent for all exchangetraded equities, including options. The
Board also reduced the inconsistencies
in the section of Regulation T that covers the borrowing and lending of securities so as to provide uniform treatment
of all foreign securities and to permit



broker-dealers to borrow securities in
anticipation of any situation permissible
under the regulation.

Amendments to Improve Efficiency and
Reduce Unnecessary Costs
The Board has always relied on the listing standards of the national securities
exchanges in defining what constitutes a
"margin stock" or "margin security"
under its margin regulations. Since
1968, however, the Board has made an
individualized determination regarding
the margin status of many over-thecounter (OTC) stocks and has published
a list of marginable stocks, known as the
OTC list, on a periodic basis (currently
four times a year). Preparation of the list
is an expense both to the Board and to
the issuers of OTC securities surveyed
by the Board. Moreover, publication of
a stock's name on the OTC list lags its
qualification as an OTC security under
the Board's criteria by more than four
months. In 1997, the Board announced
changes to the definitions of "margin
security" in Regulation T and "margin
stock" in Regulation U that will result
in elimination of the Board's quarterly
OTC list by relying on the listing standards of the NASDAQ Stock Market.
The changes will allow lenders to extend
credit against OTC stocks on the basis
of their current trading status without
having to wait for the Board to publish
its OTC list.
The Board also publishes a list of
foreign margin stocks for purposes of
Regulation T. Stocks appear on the foreign list after meeting Board criteria
or appearing on the Financial Times/
Standard & Poor's World Actuaries
Indices (FT/S&P list). The latter group
of stocks are included because the Securities and Exchange Commission considers them to have a "ready market"

244 84th Annual Report, 1997
for purposes of broker-dealer capital
requirements; the Board amended Regulation T in 1996 to allow margin status
for foreign stocks with a "ready market." Stocks added to the FT/S&P list
are not marginable until they appear on
the Board's quarterly foreign list. In
1997, the Board announced that it will
no longer require that a foreign stock
with a "ready market" appear on its foreign list to be considered a "margin
security" under Regulation T. This
change will allow broker-dealers to
extend credit against foreign securities
as soon as they are deemed to have a
"ready market" without waiting for the
Board to verify that status by publishing
the names of the securities on its foreign
list.
In 1995 the Board solicited comment
on the mixed collateral provision in
Regulation U, which applies to regulated loans that are secured in part by
margin stock and in part by other collateral. The Board noted that this provision
makes collateral management extremely
difficult and appears to be unnecessarily
burdensome to effectuate the statutory
scheme of margin regulation. In 1997,
the Board announced elimination of the
separation requirement in the mixed
collateral provision. Regulation U lenders will still be required to determine
that the combined loan value of collateral is sufficient to support the credit
outstanding.

Amendments to Eliminate Outmoded
and Duplicative Requirements
As part of its comprehensive review of
Regulations G and U, the Board in 1997
announced the deletion of six Board
interpretations because they were obsolete or duplicative of regulatory language added after the interpretation was



issued. In 1997 the Board recognized
the 1996 congressional repeal of section
8(a) of the SEA by deleting the provisions in Regulations G, T, and U that
had been adopted to implement section
8(a). The Board also determined that the
collateral requirements for the borrowing and lending of securities under
Regulation T were unnecessary to effectuate the purposes of Regulation T and
therefore duplicative of the SEC's customer protection rules in this area and
of the securities self-regulatory organizations' responsibility for overseeing
the safety and soundness of member
broker-dealers.

Amendment to Reduce
Regulatory Burden
Regulation T requires broker-dealers to
keep records of customer transactions
by recording them in a margin account
or other special-purpose account. In
general, the requirements for one
account may not be met by considering
items in another account. As part of its
comprehensive review of Regulation T,
the Board announced in 1997 that it was
reducing the number of Regulation T
accounts from nine to five. The remaining account structure recognizes the distinction between cash and margin transactions for customers; it incorporates
a new account for nonequity securities
transactions and includes a separate
account for transactions between
broker-dealers.

Regulation Y
Bank Holding Companies
In 1996 the Board conducted an extensive review of Regulation Y and issued
a proposal for public comment (dis-

Regulatory Simplification 245
cussed in last year's REPORT). In April
1997, the Board announced the adoption
of revisions to the regulation based on
the proposal. The revisions streamline
and expedite the process for reviewing
bank and nonbank applications submitted by well-run bank holding companies; reorganize and expand the regulatory list of nonbanking activities and
remove a number of restrictions on the
nonbanking activities of bank holding
companies that would not apply to insured banks engaged in the same activities; amend the tying restrictions,
including the restrictions on bank holding companies and their nonbank subsidiaries; and make other changes to
eliminate unnecessary regulatory burden
and to streamline and modernize Regulation Y.
Effective in October, the Board modified the prudential limitations established in its decisions under the Bank
Holding Company Act and section 20 of
the Glass-Steagall Act permitting nonbank subsidiaries of bank holding companies to underwrite and deal in securities. It eliminated restrictions that have
proved unduly burdensome or unnecessary in light of other laws or regulations
and consolidated the remaining restrictions in a series of eight operating standards. The Board concluded that the
narrower set of restrictions is consistent with safety and soundness, should
increase customer service options, and
should improve operating efficiencies at
section 20 subsidiaries. The new operating standards cover capital requirements
for bank holding companies and section
20 subsidiaries, internal controls, interlock restrictions, customer disclosures,
credit for clearing purposes, funding of
securities purchases, reporting requirements, and the application of sections
23 A and 23B of the Federal Reserve Act
to foreign banks.



Regulatory Revisions

Proposed

Regulations H and P
Membership in the Federal Reserve
System, and Bank Protection Act
The Board proposed in March 1997 to
amend subpart A of Regulation H, regarding the general provisions for membership in the Federal Reserve System,
and subpart E of Regulation H, regarding interpretations. The Board also proposed to incorporate Regulation P into
Regulation H. In general, the proposed
amendments reorganize, clarify, and reduce the burden of compliance with subpart A. They delete application procedures no longer in effect, reflect the
requirements of the Community Reinvestment Act in branch applications,
provide for expedited procedures in connection with certain membership and
branch applications, and eliminate provisions that no longer have a significant
effect. The proposal also eliminates a
number of interpretations in Regulation H.
Regulation P implements the requirements of the Bank Protection Act of
1968. The proposal to subsume Regulation P in the revised subpart A of Regulation H would not substantively amend
the terms of Regulation P. The proposal
to combine the regulations is designed
to simplify compliance for state member
banks by consolidating the regulatory
requirements applying to state member
banks into one regulation.
Regulation I
Issue and Cancellation of Federal
Reserve Bank Stock
In March the Board proposed amending
Regulation I to reduce regulatory burden and to update requirements. The
proposed amendments simplify, mod-

246 84th Annual Report, 1997
ernize, and condense the regulation and
reflect the replacement of share certificates by a book-entry system. They also
codify Board and staff interpretations.
Finally, the proposed amendments
delete references to specific forms,
many of which are obsolete because
they no longer exist or no longer have
the same identification numbers.
Regulation K
International Banking Operations
After a lengthy review, the Board in
December 1997 proposed several revisions to Regulation K. Some of the
revisions are intended to improve the
international competitiveness of U.S.
banking organizations by expanding the
number of activities that they may
engage in abroad and reducing the regulatory burden associated with the conduct of such activities; other revisions
are intended to reduce the regulatory
burden on foreign banks operating in the
United States by streamlining the application and notice process. The proposed
revisions include expansion of the
authority of U.S. banking organizations
to engage in equity securities underwriting and dealing outside the United
States; relaxation of limits on the ability
of U.S. banking organizations to make
venture capital investments in nonbank
organizations outside the United States;
a streamlined and expedited review process for U.S. banking organizations to
branch abroad, and for foreign banking
organizations to establish offices in the
United States; expedited review of proposals by well-run U.S. banking organizations to make investments abroad;
increased flexibility in the standard for
determining whether a foreign banking
organization would qualify for certain
nonbanking exemptions from the Bank
Holding Act; and implementation of
statutory changes with respect to



increased investments by U.S. banks in
Edge Act corporation subsidiaries and
to the interstate operations of foreign
banks operating in the United States.

Other Regulatory Proposals
In November 1997, the Board proposed
amendments to Regulation D for monetary policy purposes that are intended to
reduce regulatory burden.
Regulation D
Reserve Requirements of
Depository Institutions
The Board proposed amendments to
move from the existing system of contemporaneous reserve maintenance for
institutions that are weekly reporters to
a system under which reserves are maintained on a lagged basis. Under the
lagged system, the reserve maintenance
period for weekly reporters would begin
thirty days after the beginning of a
reserve computation period. Under the
current system, the reserve maintenance
period begins only two days after the
beginning of a computation period. The
longer time between computation and
maintenance of reserves should facilitate compliance by weekly reporting
institutions and improve the Board's
ability to estimate the need for reserves
on a timely basis.
•

247

Federal Reserve Banks
Two major interests of the Federal
Reserve Banks during 1997 were the
Federal Reserve's role in the payments
mechanism and continued preparation
for the century date change. Other
important activities were preparation of
revised accounting procedures related to
interstate branching and implementation
of new procedures for the provision of
fiscal agency and depository services for
the federal government.
Major Initiatives
Payment Services
The System's Committee on the Federal
Reserve in the Payments Mechanism
during 1997 reviewed the payment services provided by the Federal Reserve
to depository institutions and began preparing its report. Created by Chairman
Greenspan in October 1996 in recognition of the rapid changes in the financial
services and technology sectors, the
committee had as one of its goals determining the extent to which the Federal
Reserve should be involved in providing
check collection and automated clearinghouse (ACH) services and future
generations of payment services. Board
of Governors Vice Chair Alice M.
Rivlin chaired the committee; members
were Governor Edward W. Kelley, Jr.,
William J. McDonough, president of the
Federal Reserve Bank of New York, and
Thomas C. Melzer, president of the Federal Reserve Bank of St. Louis.
The committee focused its discussions and analyses of critical payment
systems issues by developing five hypothetical scenarios for the future role of



the Federal Reserve in retail payment
services. The scenarios ranged from
exiting the check and ACH services
altogether to playing a more active role,
in collaboration with other providers, in
moving more rapidly toward electronic
payment services. The scenarios were
not designed to be actual policy options,
but were intended to serve as catalysts
for debate both within the Federal
Reserve and among payment system
participants. The committee held forums
around the country so that representatives of depository institutions,
clearinghouses, other payment service
providers, consumers, businesses, and
academics could express their views on
the various possible future directions.
Federal Reserve staff analyzed the likely
impact of each of the alternatives on
payment systems of the future, with
emphasis on efficiency, access by
depository institutions of various sizes,
and whether different roles of the Federal Reserve would accelerate or retard
the movement to electronic forms of
payment.
The committee came to two general
conclusions: (1) The Federal Reserve
should remain a provider of both check
collection and ACH services, with the
explicit goal of enhancing the efficiency,
effectiveness, and convenience of both
systems while ensuring access by all
depository institutions; and (2) The Federal Reserve should play a more active
role, working closely and collaboratively with providers and users of payment systems, both to enhance the efficiency of check and ACH services and
to help evolve strategies for moving to
the next generation of payment instru-

248 84th Annual Report, 1997
ments. In reaching these conclusions,
the committee recognized that fostering
private-sector competition is vital in
improving the efficiency of payment
systems and in developing new payment
instruments.
Year 2000 Readiness
The Federal Reserve continued in 1997
to focus on its readiness for the century
date change to ensure that the Reserve
Banks continue to provide reliable services to the nation's banking system and
financial markets. When it began consolidating its mainframe data processing
operations late in 1992, the Federal
Reserve started to address the possibility that automated systems would not
function properly at the turn of the century. As a result, new centralized applications critical to the Federal Reserve's
mission, such as Fedwire funds transfer,
Fedwire securities transfer, and ACH,
were designed to operate properly into
the next century. All changes to Reserve
Bank computer programs, testing of
systems, and acceptance testing by Federal Reserve users of those systems are
scheduled to be completed by year-end
1998. In addition, critical financialservices systems that interface with
depository institutions will be year 2000
ready by mid-1998; this schedule will
permit approximately eighteen months
for customer testing.
Also during the year, the Reserve
Banks initiated a comprehensive program to raise public awareness of the
potential year 2000 problem and to
advise depository institutions of the
Federal Reserve's plans and schedules.
The Reserve Banks also participated
in domestic and international forums
to help foster awareness of year 2000
issues and to share experiences, ideas,
and best practices.



Interstate Branching
As a result of the Riegle-Neal Interstate
Banking and Branching Act of 1994,
which became effective in June 1997,
banking organizations that formerly
maintained separately chartered institutions in different states may now convert
those institutions into branches of a
single chartered bank. With fewer chartered institutions, at the end of 1997,
Reserve Banks held 9,368 accounts,
compared with 9,753 at year-end 1996,
a decrease of 4.0 percent.
To accommodate banking organizations having an interstate structure, the
Reserve Banks established an account
structure, effective January 2, 1998, that
provides, for each chartered institution,
a single (master) account at one Reserve
Bank, in which all credits and debits
arising from financial transactions with
the Federal Reserve are settled. Institutions may maintain subaccounts to keep
separate several different types of financial transaction information—for example, by geographic region or operational
function. The Reserve Banks modified
their accounting software to permit institutions to view intraday activity in the
master account and any subaccounts
separately or combined. This new structure and associated accounting tools permit interstate banking organizations to
centralize all their financial information
or to segregate information according to
their needs.
The Board of Governors in 1997
amended some Federal Reserve regulations to facilitate the transition to the
single Federal Reserve account structure. Specifically, the Board amended
Regulation J to allow an institution to
send checks for collection to any
Reserve Bank and to settle for checks
through its single account. It also
revised Regulations D and I to define

Federal Reserve Banks 249
an institution's location for purposes
of Federal Reserve membership and
account location. It further amended
Regulation D to allow pass-through
correspondents to hold all their respondent balances in their single Federal
Reserve account, regardless of the location of the respondent; this change
allows U.S. branches and agencies of
foreign banks, and also Edge Act and
agreement corporations, to adopt a
single account structure by combining
the reserve balances of multiple offices
into a single pass-through correspondent
account.

Developments in Federal Reserve
Priced Services

Fiscal Agency and Depository
Services

The Monetary Control Act of 1980
requires that the Federal Reserve set fees
for providing "priced services" to
depository institutions that, over the
long run, recover all the direct and indirect costs of providing the services as
well as the imputed costs, such as the
income taxes that would have been paid
and the pretax return on equity that
would have been earned had the services been provided by a private firm.
The imputed costs are collectively
referred to as the private sector adjustment factor (PSAF).1 Over the past ten
years, the Federal Reserve System has
recovered 100.4 percent of its priced
services costs, including the PSAF.
Overall, fees charged in 1997 for
priced services were lowered approximately 3.7 percent from 1996 levels.2
The fees for electronic payment services
were lowered significantly, in large part
because of the efficiencies associated
with the transition to a consolidated
automation environment and with the
centralization of electronic payment processing applications.
Revenue from priced services in 1997
was $789.1 million, other income related to priced services was $29.7 million, and costs related to priced services
were $721.5 million. As a result, net

Reserve Banks worked during the year
to implement a policy, adopted in late
1996, to clarify the Reserve Banks'
unique statutory relationship with the
Treasury and other federal government
entities. The Reserve Banks provide fiscal agency and depository services for
the U.S. government; the policy, among
other things, establishes uniform and
consistent practices for accounting,
reporting, and billing for the full costs
of providing these services.

1. The imputed costs that make up the PSAF, in
addition to income taxes and the pretax return on
equity, are interest on debt, sales taxes, and assessments for deposit insurance from the Federal
Deposit Insurance Corporation. Also allocated to
priced services are assets and personnel costs of
the Board of Governors that are related to priced
services; in the pro forma statements at the end of
this chapter, Board expenses are included in operating expenses and Board assets are part of longterm assets.
2. Based on a chained Fisher Ideal price index
not adjusted for quality changes.

Fees for Electronic Payment
Services
In March 1997, the Board adopted
guidelines for the Reserve Banks in
establishing fees for their electronic
payment services on the basis of
volume. The Board also approved the
continuation of volume-based fees
for certain electronic check products,
pending completion of an analysis of
whether those fees meet the new guidelines. In May, the Reserve Banks implemented volume-based fees for the ACH
service.




250 84th Annual Report, 1997
revenue was $97.3 million, for a recovery rate of 101.5 percent of costs,
including the PSAF. Revenue from
priced services in 1996 was $26.6 million more than total costs, resulting in a
recovery rate of 103.4 percent, including the PSAF.3

Check Collection
In 1997, total Reserve Bank operating
expenses and imputed costs for commercial check services were $581.2 million,
compared with $570.7 million in 1996.
Revenue from check operations totaled
$598.4 million, and other income
amounted to $23.2 million, resulting
in income before income taxes of
$40.4 million. The Reserve Banks
handled 15.9 billion checks, an increase

3. Expense data reported throughout this
document—revenue, other income, cost, net revenue, and income before taxes—can be linked to
the pro forma statements at the end of this chapter.
Other income is revenue from investment of clearing balances, net of earnings credits, an amount
termed net income on clearing balances. Total cost
is the sum of operating expenses, imputed costs
(interest on debt, interest on float, sales taxes, and
the Federal Deposit Insurance Corporation assessment), imputed income taxes, and the targeted
return on equity. Net revenue is revenue plus net
income on clearing balances minus total cost.

of 3.0 percent over 1996 (see table). The
volume of fine-sort check deposits,
which are presorted by the depositing
bank according to paying bank,
increased 0.7 percent in 1997, compared
with an 11.9 percent decline in 1996.
The volume of checks deposited that
required processing by Reserve Banks
rose 3.4 percent.
To increase the efficiency of the
check-collection system, the Reserve
Banks continued to expand the use of
electronics in check processing. During
1997, the Reserve Banks electronically
presented approximately 2.2 billion
checks, or 14.1 percent of all checks
presented to paying banks, an increase
of about 56 percent over the 1996 level.
Both the number of checks presented
electronically and the number of checks
truncated grew in 1997.
The Reserve Banks also continued in
1997 to offer more products involving
the capture and storage of digital images
to support paying banks' use of electronic check products. With the New
York and Richmond Districts' introduction of image products during the year,
at least one office in each Federal
Reserve District except the First offered
image products in 1997; the Boston
Reserve Bank plans to offer image products in early 1998.

Activity in Federal Reserve Priced Services, 1997, 1996, and 1995
Thousands of items
Percentage change
Service

1997

1996

1995
1996-97

Commercial checks
Funds transfers
Securities transfers
Commercial ACH
Noncash collection
Cash transportation

15,949,152
91,800
4,136
2,602,892
887
2

15,486,833
84,871
4,125
2,372,108
1,069
36

NOTE. Components may not yield percentages shown
because of rounding. Activity in commercial checks is the
total number of commercial checks collected, including
processed and fine-sort items; in funds transfers and
securities transfers, the number of transactions originated




15,465,209
77,742
3,689
2,046,086
838
61

1995-96

3.0
8.2
.3
9.7
-17.1
-93.9

.1
9.2
11.8
15.9
27.6
-41.0

on line and offline; in ACH, the total number of commercial items processed; in noncash collection, the number of
items on which fees are assessed; in cash transportation,
the number of registered mail shipments and FRBarranged armored carrier stops.

Federal Reserve Banks 251
In October 1997, the Boston Reserve
Bank closed its Regional Check Processing Center at Lewiston, Maine, and
consolidated its check-processing operations at the Boston office. In addition,
the Interdistrict Transportation System
moved one of its five airport hubs from
Cleveland to Cincinnati, Ohio, enabling
Reserve Banks to set later deposit deadlines and to improve funds availability
for many depositors.

Fedwire Funds Transfer and
Net Settlement
Reserve Bank operating expenses and
imputed costs for Fedwire funds transfer
and net settlement services totaled
$79.9 million in 1997, compared with
$71.1 million in 1996. Revenue from
these operations totaled $94.6 million,
and other income amounted to $3.2 million, resulting in income before income
taxes of nearly $18.0 million.
Funds Transfer
The number of Fedwire funds transfers
originated by depository institutions
increased 8.2 percent in 1997, to
91.8 million, of which 89.5 million were
value (monetary) transfers and 2.4 million were nonvalue messages. The
increase in volume was due largely to
increased mutual fund activity and
aggressive marketing of cash management services by depository institutions,
and to a lesser extent to increased
mortgage activity and securities-related
settlement payments.
Fees charged for Fedwire transfers
were lowered 10 percent in 1997, from
$0.50 to $0.45 per basic transfer. As a
result, depository institutions paid
approximately $9.2 million less for
funds transfers in 1997 than in 1996.
The reduction generally
reflects
increased efficiencies resulting from the



centralization of Fedwire funds transfer
processing.
By year-end 1997, all on-line institutions (those with an electronic connection to the Federal Reserve) had
adopted a new, expanded-message Fedwire funds transfer format. The new format (1) reduces manual intervention in
the transfer process, (2) eliminates the
need to truncate payment-related information when forwarding payment
orders that were received via other
large-value transfer systems through
Fedwire, and (3) allows additional information about the originator and beneficiary of a transfer to be included in the
transfer message, as required by the
Bank Secrecy Act rules adopted by the
Department of the Treasury.
On December 8, the Fedwire funds
transfer service began opening at
12:30 a.m. eastern time, thereby expanding the Fedwire funds transfer service
day to eighteen hours from the previous
ten hours. The longer day is useful to
the private sector in reducing settlement risk in foreign exchange markets;
it also eliminates an operational barrier
to potentially important innovations in
privately provided payment and settlement services.
Net Settlement
The Federal Reserve provides net settlement services to approximately 170
local private-sector clearing and settlement arrangements and to seven
nationwide
arrangements.4
These
4. Two of the national arrangements, the Clearing House Interbank Payments System (CHIPS)
and the Participants Trust Company (PTC), process and net large-dollar transactions, CHIPS for
interbank funds transfers and PTC for the settlement of mortgage-backed securities transactions.
Two of the other national arrangements, VisaNet
ACH and the New York ACH, process and net
small-dollar ACH transactions. The other three
(Footnote continues on next page.)

252 84th Annual Report, 1997
arrangements enable participants to
settle their net positions either via Fedwire funds transfers using special settlement accounts at Reserve Banks or via
accounting entries, which are posted to
participants' Reserve Bank accounts.
In 1997, the Federal Reserve Board
requested comment on a proposal that
would enhance the Reserve Banks' current net settlement services. Under the
proposed changes, the Reserve Banks
would offer a fully automated net settlement service to participants in clearing
arrangements. The service would provide finality of settlement at least once
on the settlement date, rather than nextday finality.
Fedwire Book-Entry Securities
Reserve Bank operating expenses and
imputed costs for book-entry securities
transfer services totaled $15.5 million in
1997, compared with $16.2 million in
1996. Revenue from book-entry securities operations totaled $16.6 million, and
other income amounted to $0.6 million,
resulting in income before income taxes
of $1.7 million. The Reserve Banks processed 4.1 million transfers of government agency securities on the Fedwire
book-entry securities transfer system
during the year, an increase of 0.3 percent over the 1996 level.5 Fees charged
national arrangements—the National Clearing
House Association, the Interdistrict Check
Exchange and Settlement Service, and the
National Check Exchange—clear and net check
transactions. Most local clearing arrangements are
check clearinghouses.
5. The revenues, expenses, and volumes
reported here are for transfers of securities issued
by federal government agencies, governmentsponsored enterprises, and international institutions such as the World Bank. The Fedwire bookentry securities service also provides custody,
transfer, and settlement services for U.S. Treasury
securities. The Reserve Banks act as fiscal agents
of the United States when they transfer and



for book-entry securities transfers did
not change from 1996 to 1997.
Seven Reserve Banks converted their
Fedwire securities transfer applications
to the Federal Reserve's new centralized
application known as the National
Book-Entry System (NBES), joining the
four Reserve Banks that converted to
NBES in 1996. The NBES offers several benefits, including (1) an expanded
account structure designed to accommodate the different needs of Federal
Reserve customers and U.S. government
agencies, (2) modular, centralized application software designed to facilitate a
more rapid response to changing industry needs, (3) improved, standardized
contingency and disaster recovery capabilities, and (4) processing efficiencies
such as uniform operating hours in all
Districts. The conversion process will
be complete when the Federal Reserve
Bank of New York converts to NBES in
early 1998.
Automated Clearinghouse
Reserve Bank operating expenses and
imputed costs for commercial ACH services totaled $52.3 million in 1997,
compared with $63.7 million in 1996.
Revenue from ACH operations totaled
$70.3 million, and other income
amounted to $2.4 million, resulting in
income before income taxes of
$20.4 million. The Reserve Banks processed 2.6 billion commercial ACH
transactions during the year, an increase
of 9.7 percent over 1996 volume.
The year 1997 was the first full year
that all Reserve Banks operated with the
new centralized automated system
known as Fed ACH. The ongoing reduction in ACH operating costs in 1997
safekeep Treasury securities, and the Treasury
assesses fees on depository institutions for some
of these services. For more details, see the section
"Fiscal Agency Services" later in this chapter.

Federal Reserve Banks 253
reflects the savings realized from centralization. Consolidation of operations
also made it possible to offer several
new features to depository institutions, including additional file delivery
options and automated trace and
research capabilities.
In May, the Reserve Banks implemented volume-based fees for ACH
transactions. The use of volume-based
fees, an extension of the multipart fees
already in use, increases the potential
to improve the payment system's efficiency by permitting the Reserve Banks
to address the differences in demand
for services by high-volume customers
(2,500 items or more per file) and lowvolume customers (fewer than 2,500
items per file) through the fees charged
for those services. As a result of
volume-based pricing, the cost to
depository institutions to originate ACH
transactions declined an average of
17 percent and the cost to institutions to
receive ACH transactions declined
10 percent. In October, the Reserve
Banks extended the regular billing
deposit deadline for ACH items, which
reduced the number of customers subject to premium fees.
Noncash Collection
Reserve Bank operating expenses and
imputed costs for noncash collection
services totaled $3.2 million in 1997,
compared with $4.9 million in 1996.
Revenue from noncash operations
totaled $4.3 million, and other income
amounted to $0.2 million, resulting in
income before income taxes of $1.3 million. The Reserve Banks processed
887,000 noncash collection items (coupons and bonds), a decrease of 17.1 percent from 1996.
Until late in the year, two Federal
Reserve sites processed noncash
items—the Cleveland Reserve Bank and



the Jacksonville Branch of the Atlanta
Reserve Bank. In the fourth quarter of
1997, all noncash processing was centralized at the Jacksonville Branch.
Cash Services
Because the provision of high-quality
currency and coin is a basic responsibility of the Federal Reserve, the Reserve
Banks charge fees only for certain
special cash services. These services
include providing wrapped coin, nonstandard currency packages, and morefrequent-than-standard access to cash
services.
The Cleveland District and the Helena
Branch of the Minneapolis Reserve
Bank provide wrapped coin as a priced
service. In 1997, the Detroit Branch
of the Chicago Reserve Bank and the
Helena Branch provided currency in
nonstandard packages, and the Minneapolis and San Francisco Districts and
the Detroit Branch offered access to cash
services more frequently than that provided under the Federal Reserve's standard access policy. When the uniform
cash access policy is implemented in
May 1998, income from fees for nonstandard cash access will be treated as a
recovery of expense rather than as
priced-service revenue. The new policy
will provide flexibility by permitting
depository institutions to obtain cash
services from any Reserve Bank office.
Depository institutions pay the cost of
transporting cash to and from Reserve
Banks. In the past, many of the Reserve
Banks arranged transportation to move
cash to and from depository institutions
in their Districts. During the third quarter of 1997, the last Federal Reserve
office to provide that service stopped
arranging armored carrier cash transportation when the Helena Branch canceled
its armored carrier contract for the
delivery of cash. Seven Districts still

254 84th Annual Report, 1997
provide cash transportation by registered mail.
Reserve Bank operating expenses and
imputed costs for special cash services
totaled $4.5 million in 1997, compared
with $5.2 million in 1996. Revenue from
cash operations totaled $4.9 million, and
other income amounted to $0.2 million,
resulting in income before income taxes
of $0.6 million.
Float
Federal Reserve float decreased in 1997
to a daily average of $282.0 million,
from a daily average of $413.4 million
in 1996. The Federal Reserve recovers
the cost of float associated with priced
services as part of the fees for those
services.

Developments in Currency
and Coin
The Federal Reserve continued in 1997
to work closely with the Treasury to
deter the counterfeiting of U.S. currency.
The Series 1996 currency design program continued with the introduction of
the new $50 note in October. The Series
1996 $100 note, introduced in March
1996, continued to gain acceptance and
accounted for more than half of the
$100 notes in circulation by the end of
1997. Work on the Series 1996 $20 note
continued; distribution is scheduled for
fall 1998.
The Federal Reserve's cost to print
new currency in 1997 was $356 million.
The Treasury's Bureau of Engraving
and Printing produced 9.5 billion notes
in 1997; 15 percent of the notes produced were of the Series 1996 new
design, 45 percent were $1 notes, and
the remaining 40 percent were $5, $10,
and $20 notes.
The Federal Reserve supplies currency and coin to approximately 9,500



depository institutions throughout the
United States; these institutions supply
currency and coin to other depository
institutions and to the public. The value
of currency and coin in circulation
increased 6.9 percent in 1997 and
exceeded $482 billion by year-end. During the year, the Federal Reserve
received more than 25.3 billion Federal Reserve notes in deposits from
depository institutions and sent more
than 25.8 billion Federal Reserve notes
to depository institutions. The Federal Reserve finished converting its
currency-processing
operations
to
Giesecke and Devrient's Banknote
Processing System (BPS) 3000, an electronic, high-speed currency processing,
destruction, and accounting system. At
the end of 1997, the 128 BPS 3000
machines installed at Reserve Banks
were processing approximately 97 million notes each business day. Reserve
Bank operating expenses for processing
and storing currency and coin, including priced cash services, totaled
$283 million for the year.
In late 1997, the Cleveland Reserve
Bank consolidated the Pittsburgh
Branch cash operations at its head office
in Cleveland, which left the Federal
Reserve with 36 cash operations. The
Pittsburgh Branch continues to receive
currency deposits and to disburse currency shipments prepared at the Cleveland Reserve Bank.

Developments in Fiscal Agency
and Government Depository
Services
The Federal Reserve Act provides that
when required by the Secretary of the
Treasury, Reserve Banks will act as fiscal agents and depositories of the United
States. As fiscal agents, Reserve Banks
provide services for the Department of
the Treasury related to the federal debt,

Federal Reserve Banks 255
such as issuing, transferring or reissuing, exchanging, and redeeming marketable Treasury securities and savings
bonds and processing secondary market
transfers initiated by depository institutions. As depositories, Reserve Banks
collect and disburse funds on behalf
of the federal government. The Reserve
Banks also provide fiscal agency services on behalf of several domestic and
international government agencies.
The total cost of providing fiscal
agency and depository services for
the Treasury in 1997 amounted to
$255.4
million,
compared
with
$265.2 million in 1996 (see table). The
cost of providing services to other government agencies was $48.6 million,
compared with $49.8 million in 1996.
Significant Reserve Bank resources
were devoted in 1997 to the General
Accounting Office (GAO) audit of U.S.

government consolidated financial statements. As part of the audit, the GAO
reviewed principal Federal Reserve
operations and automated applications
that process Treasury transactions.
During the year, the Reserve Banks
and the Treasury jointly conducted studies to identify the best ways to provide
services to the Treasury over the next
five years. The business areas studied
were Treasury Direct, Treasury tax and
loan, collateral, savings bonds, and
Treasury auctions.

Fiscal Agency Services
The Reserve Banks handle marketable
Treasury securities and savings bonds
and monitor the collateral pledged by
depository institutions to the federal
government.

Expenses of the Federal Reserve Banks for Fiscal Agency and Depository Services,
1997, 1996, and 1995
Thousands of dollars
Agency and service

1997

1996

1995

Bureau of the Public Debt
Savings bonds
Treasury Direct
Commercial book entry
Marketable Treasury issues
Definitive securities and Treasury coupons ...
Total

70,340.4
35,440.4
26,809.4
14,855.4
3,618.9
151,064.5

78,765.8
26,788.8
27,099.0
22,349.9
3,498.5
158,502.0

80,934.6
30,117.4
27,705.9
22,830.3
3,860.6
165,448.8

Financial Management Service
Treasury tax and loan and Treasury general account
Government check processing
Automated clearinghouse
Government agency deposits
Fedwire funds transfers
Other services
Total

35,265.9
26,548.0
14,477.3
2,795.3
422.0
20,994.2
100,502.7

38,828.2
22,604.1
20,557.0
3,366.1
455.3
17,346.3
103,157.1

35,749.3
24,347.4
22,238.0
3,823.5
357.9
16,376.7
102,892.8

Other
Total
Total, Treasury ...

3,840.0
255,407.2

3,554.6
265,213.6

4,017.5
272,359.1

17,042.1
25,495.7
6,108.7
48,646.5

18,788.8
25,287.6
5,722.9
49,799.3

5,467.8
48,266.4

304,053.7

315,012.9

320,625.5

DEPARTMENT OF THE TREASURY

OTHER FEDERAL AGENCIES

Securities services
Food coupons
Postal money orders
Total, other agencies
Total




18,547.2
24,251.4

256 84th Annual Report, 1997
Marketable Treasury Securities
Reserve Bank operating expenses for
activities related to marketable Treasury
securities (Treasury Direct, commercial
book entry, Treasury issues, and definitive securities and coupons) totaled
$80.7 million in 1997, a 1.2 percent
increase over 1996. The New York, Chicago, and San Francisco Reserve Banks
processed more than 411,000 commercial tenders for government securities
in Treasury auctions, 7.6 percent fewer
than in 1996.
The Reserve Banks operate two bookentry securities systems for the custody
and transfer of Treasury securities—the
Fedwire system and Treasury Direct.
Almost all book-entry Treasury securities, 97.6 percent of the total par value
outstanding at year-end 1997, were
maintained on Fedwire; the remainder
were maintained on Treasury Direct.
The Reserve Banks in 1997 processed
8.8 million Fedwire transfers of Treasury securities, a 1.9 percent decline
from 1996. They also processed
23.9 million interest and principal
payments for Treasury and government agency securities, a 10.8 percent
increase over 1996.
Treasury Direct, operated by the
Philadelphia Reserve Bank, is a system
of book-entry securities accounts for
institutions and individuals planning to
hold their Treasury securities to maturity. The Treasury Direct system holds
more than 1.9 million accounts. During
1997, the Reserve Banks processed
nearly 433,000 tenders for Treasury
Direct customers seeking to purchase
Treasury securities at Treasury auctions
and handled 1.7 million reinvestment
requests; the volume of tenders was
3.9 percent lower than in 1996, and the
volume of reinvestment requests was
13.2 percent lower. The Philadelphia
Reserve Bank issued 6.9 million pay


ments for discounts, interest, and
redemption proceeds; 2.8 million payments for savings bonds; and more than
51,000 interest payments for definitive
Treasury issues.
In 1997, the Federal Reserve worked
with the Treasury's Bureau of the Public
Debt to make several changes that benefit Treasury Direct investors. First, the
Treasury Direct account statement was
redesigned for clarity. Second, the "Buy
Direct" program was introduced; it permits certain Treasury Direct investors to
pay for Treasury securities by means of
an ACH debit to their bank account on
the security's issue date rather than by a
personal or certified check submitted in
advance. Third, the "Reinvest Direct"
program was begun; it permits investors
to schedule their reinvestments electronically using a touch-tone telephone.
Finally, the Chicago Reserve Bank
introduced the "Sell Direct" program;
for a fee, the Bank will liquidate Treasury securities on the secondary market
for Treasury Direct investors; in the last
four months of the year, the Bank sold
more than 4,000 securities worth
$132.3 million at the request of Treasury Direct investors.
Savings Bonds
Reserve Bank operating expenses for
savings
bond
activities
totaled
$70.3 million in 1997, a decrease of
10.8 percent from 1996. The Reserve
Banks printed and mailed 51.4 million
savings bonds on behalf of the Treasury's Bureau of the Public Debt, a
6.8 percent decline from 1996. They
processed 39 million original-issue
transactions. They also processed
approximately 674,000 redemption,
reissue, and exchange transactions, a
1.5 percent increase over 1996. In addition, the Reserve Banks responded to
1.7 million service calls from owners of

Federal Reserve Banks 257
savings bonds, approximately the same
number as in 1996.
Savings bond operations are conducted at five Reserve Bank offices:
Buffalo, Pittsburgh, Richmond, Minneapolis, and Kansas City. All five offices
process savings bond transactions, but
only the Pittsburgh and Kansas City
offices print and mail savings bonds.
Other Initiatives
The St. Louis Reserve Bank in 1997
completed development and installation
of Cash Track for the Treasury's Financial Management Service. By consolidating information about receipts and
payments processed on behalf of the
Treasury, Cash Track makes it easier for
the Treasury to forecast its cash needs.
The average daily flow reported by Cash
Track is $13.4 billion. At year-end, the
Treasury was running parallel systems
and expected to implement Cash Track
fully in 1998.
The Federal Reserve also worked
with the Financial Management Service
to implement the Treasury Offset Program, which electronically compares
information about delinquent debts
owed the U.S. government with information about payments being issued by
the government. If a match occurs, the
Treasury applies a portion of the payment to the delinquent debt. The Federal
Reserve Bank of San Francisco developed the software with which the Treasury maintained an interim delinquent
debtor database for matching against
payments and provided support to the
Treasury in its efforts to develop software for longer-term use.
Depository Services
The Reserve Banks maintain the Treasury's funds account, accept deposits of
federal taxes, pay checks drawn on the



Treasury's account, and make electronic
payments on behalf of the Treasury.
Federal Tax Payments
Reserve Bank operating expenses related to federal tax payment activities in
1997 totaled $35.3 million. The Reserve
Banks processed approximately 334,000
paper and 5.7 million electronic advices
of credit from depository institutions
handling tax payments for businesses
and individuals. (Advices of credit are
notices from depository institutions to
the Federal Reserve and the Treasury
summarizing taxes collected on a given
day.) The number of paper advices of
credit declined 61.7 percent from 1996
to 1997, and the number of tax payments submitted electronically increased
5.8 percent. The Reserve Banks also
received a small number of tax payments directly. Depository institutions
that receive tax payments may place
the funds in a Treasury tax and loan
(TT&L) account or remit the funds to
a Reserve Bank. The Minneapolis
Reserve Bank operates an automated
system through which businesses pay
taxes that are due on the same day the
tax liability is determined. These electronic tax payments, a part of the Treasury's Electronic Federal Tax Payment
System, are invested in depository institutions' TT&L balances via the Federal
Reserve's TT&L mechanism. In 1997,
this electronic tax application processed
approximately 56,000 tax payments
from 5.3 million taxpayers totaling
$70.8 billion.
Payments Processed for the Treasury
Reserve Bank operating expenses related to government payment operations (check processing, ACH, agency
deposits, and funds transfers) totaled
$44.2 million in 1997. The Treasury
continued to encourage electronic pay-

258 84th Annual Report, 1997
ments. For example, ACH transactions
processed for the Treasury (social security, pension, salary, and vendor payments) totaled 677 million, an increase
of 8.4 percent over 1996. All recurring
Treasury Direct payments and most
definitive securities interest payments
are made via the ACH.
The Treasury also continues to reduce
the number of payments made by check.
The Reserve Banks processed 378 million paper government checks in 1997,
a decrease of 13.3 percent from 1996.
They also issued 1.6 million fiscal
agency checks, a decrease of 19.1 percent from 1996. Fiscal agency checks
were used primarily to pay semiannual
interest on registered, definitive Treasury notes and bonds and Series H and
HH savings bonds; they were also used
to pay the principal of matured securities and coupons and to make discount
payments to first-time purchasers of
government securities through Treasury
Direct.
In 1997, the Reserve Banks began to
capture and store digital images of U.S.
government checks for the Treasury's
Financial Management Service; full
implementation of the system is expected in 1998. Digital imaging will
improve the Treasury's check reconciliation and claims processing by eliminating manual research and by reducing
the time needed to make information
on paid Treasury checks available for
research and inquiry.
Services Provided to Other Entities
When required to do so by the Secretary
of the Treasury or when required or
permitted to do so by federal statute, the
Reserve Banks provide fiscal agency
and depository services to other domestic and international agencies. Depending on the authority under which the
services are provided, the Reserve



Banks may (1) maintain book-entry
accounts of government agency securities and handle their transfer, (2) provide
custody for the stock of unissued, definitive securities, (3) maintain and update
balances of outstanding book-entry and
definitive securities for issuers, (4) perform various other securities-servicing
activities, and (5) maintain funds
accounts for some government agencies.
One such service is the provision
of food coupon services for the U.S.
Department of Agriculture. Reserve
Bank operating expenses for food coupon services in 1997 totaled $25.5 million, 0.8 percent higher than in 1996.
The Reserve Banks redeemed 2.9 billion
food coupons, a decrease of 21.5 percent from 1996. The volume of paper
food coupons redeemed by the Reserve
Banks is expected to continue to decline
each year as a result of the Department
of Agriculture's program to provide
benefits electronically.

Information Technology
In 1997, Federal Reserve Automation
Services (FRAS) continued to consolidate the Federal Reserve System's data
processing and data communications
systems, managed the three consolidated
data centers, and continued to explore
new technologies for improved communications strategies.6 By the end of
1997, most Reserve Bank applications
except check processing had been converted to the shared processing environment; mainframe computers dedicated
to check processing remained in ten
Districts.
At year-end, the Federal Reserve supported approximately 12,450 Fedline
connections (electronic links between
6. The consolidated data centers are located at
East Rutherford, New Jersey; Richmond, Virginia;
and Dallas, Texas.

Federal Reserve Banks 259
small depository institutions and
Reserve Banks) and 580 computer interface connections, enabling depository
institutions to access Federal Reserve
services and to report information;
depository institutions that transmit
large numbers of transactions to Reserve
Banks use more sophisticated computer
interface connections over dedicated
leased circuits. In 1997, FRAS continued its ongoing efforts to explore alternative, more efficient electronic services, such as web-based technology.
During 1997, the Reserve Banks completed FEDNET, the new Federal
Reserve telecommunications network.
FEDNET offers a consistent level of
service to all points in the System, as
well as improved reliability, security,
and disaster recovery capabilities.

Financial Examinations of
Federal Reserve Banks
Section 21 of the Federal Reserve Act
requires that the Board of Governors
order an examination of each Reserve
Bank at least once a year. The Board has
assigned this responsibility to its Division of Reserve Bank Operations and
Payment Systems. Every year since
1995, the division has engaged a public
accounting firm to audit the combined
financial statement of the Reserve
Banks. In addition, in 1997 the public
accounting firm audited the individual
year-end financial statement of each
of the twelve Reserve Banks; the firm
relied, in part, on the division's 1997
reviews of the major operating areas of
the twelve Reserve Banks for these
audits.
In addition, the division rendered an
opinion on the management control
system at each Reserve Bank, using a
format consistent with the integrated
framework of the Committee of Spon


soring Organizations (COSO) of the
Treadway Commission. Following
COSO's four control objectives, the
examinations concentrated on (1) efficiency and effectiveness of operations,
(2) accuracy of financial data, (3) compliance with applicable laws and regulations, and (4) safeguarding of assets.
The Reserve Banks have also adopted
the COSO framework as it applies to
the accuracy of financial reporting, for
implementation in 1998. To prepare for
implementation, three Reserve Banks in
1997 conducted pilot self-assessments
of their internal control systems for
financial reporting.
As in past years, the division in 1997
assessed compliance with policies established by the Federal Open Market
Committee (FOMC) by examining the
accounts and holdings of the System
Open Market Account at the Federal
Reserve Bank of New York and the foreign currency operations conducted by
that Reserve Bank. In addition, at yearend a public accounting firm certified
the schedule of participated asset and
liability accounts and the related schedule of participated income accounts.

Income and Expenses
The accompanying table summarizes the
income, expenses, and distributions of
net earnings of the Federal Reserve
Banks for 1997 and 1996.
Income in 1997 was $26,917 million,
compared with $25,164 million in 1996.
Total expenses were $2,151 million
($1,618 million in operating expenses,
$359 million in earnings credits granted
to depository institutions, and $174 million in assessments for expenditures by
the Board of Governors). The cost of
new currency (including printing, shipping, and other expenses) was $364 million. Revenue from priced services was
$789 million. Unreimbursed expenses

260 84th Annual Report, 1997
for services provided to the Treasury
and other government entities amounted
to $35 million.7
The profit and loss account showed a
net loss of $2,577 million. The loss was
due primarily to realized and unrealized
losses on assets denominated in foreign currencies that were revalued to
reflect current market exchange rates.
Statutory dividends paid to member
banks totaled $300 million, $44 million
more than in 1996; the rise reflects an
increase in the capital and surplus of
member banks and a consequent
increase in the paid-in capital stock of
the Reserve Banks.
Payments to the Treasury in the form
of interest on Federal Reserve notes
totaled $20,659 million in 1997, up from
$20,083 million in 1996; the payments
equal net income after the deduction of
dividends paid and of the amount neces-

7. The Reserve Banks bill the Treasury and
other government entities for the cost of certain
services, and the portions of the bills that are not
paid are reported as unreimbursed expenses.

sary to bring the surplus of the Reserve
Banks to the level of capital paid-in. In
addition, the Federal Reserve in 1997
made a lump-sum payment of $107 million to the U.S. Treasury from the surplus account of the Reserve Banks, as
required by statute, compared with
$106 million in 1996.
In the "Statistical Tables" chapter of
this REPORT, table 6 details the income
and expenses of each Federal Reserve
Bank for 1997, and table 7 shows a
condensed statement for each Bank for
1914-97. A detailed account of the
assessments and expenditures of the
Board of Governors appears in the following chapter, "Board of Governors
Financial Statements."

Holdings of Securities and Loans
The Reserve Banks' average daily holdings of securities and loans during
1997 amounted to $417,805 million, an
increase of $27,537 million over 1996
(see table). Holdings of U.S. government securities increased $27,466 mil-

Income, Expenses, and Distribution of Net Earnings
of Federal Reserve Banks, 1997 and 1996
Millions of dollars
Item

1997

1996

Current income
Current expenses
Operating expenses'
Earnings credits granted

26,917
1,976
1,618
359

25,164
1,948
1,639
309

Current net income
Net additions to (deductions from, - ) current net income
Cost of unreimbursed services to Treasury
Assessments by the Board of Governors
For expenditures of Board
For cost of currency

24,941
-2,577
35
539
174
364

23,216
-1,639
38
565
13
6
403

Net income before payments to Treasury
Dividends paid
Transferred to surplus

21,790
300
832

20,975
256
635

Payments to Treasury2

20,659

20,083

NOTE. In this and the following table, components
may not sum to totals because of rounding.
1. Includes a net periodic credit for pension costs of
$200.0 million in 1997 and $139.5 million in 1996.




2. Interest on Federal Reserve notes.

Federal Reserve Banks 261
Securities and Loans of Federal Reserve Banks, 1995-97
Millions of dollars except as noted

Average daily holdings*
1995
1996
1997
Earnings
1995
1996
1997

. .

Total

U.S.
government
securities'

376,069
390,268
417,805

Item and year

375,867
390,063
417,529

202
206
277

23,837
23,895
25,714

23,826
23,884
25,699

11
11
15

6.34
6.12
6.15

6.34
6.12
6.16

5.62
5.27
5.27

Average interest rate (percent)
1995
1996
1997
1. Includes federal agency obligations.
2. Does not include indebtedness assumed by the Federal Deposit Insurance Corporation.

lion, and holdings of loans increased
$71 million.
The average rate of interest earned on
Reserve Banks' holdings of government
securities rose to 6.16 percent, from
6.12 percent in 1996. The average rate
of interest earned on loans remained
constant at 5.27 percent.

Volume of Operations
Table 9 in the "Statistical Tables" chapter shows the volume of operations in
the principal departments of the Federal
Reserve Banks for the years 1994
through 1997.

Federal Reserve Bank Premises
During 1997, construction was completed on the new headquarters building
for the Minneapolis Reserve Bank; relocation of staff and operations was completed in October. The expansion and
renovation of the headquarters building
of the Cleveland Reserve Bank continued during the year, as did design work
for the Atlanta Reserve Bank's new
headquarters building and its new Birmingham Branch building.



Loans2

3. Based on holdings at opening of business.

Multiyear renovation programs continued for the New York Reserve Bank's
headquarters building and the Oklahoma
City, Seattle, Portland, and Salt Lake
City Branches. The Board approved the
New York Reserve Bank's request to
lease space in a nearby office building in
New York City and to make necessary
leasehold improvements to the facility.
The Chicago Reserve Bank relocated
its Des Moines, Iowa, office to leased
space in a new building near the airport.
The Atlanta Reserve Bank sold its headquarters building, and the Minneapolis
Reserve Bank sold its former headquarters building before relocating to its new
building.
•

262 84th Annual Report, 1997

Pro Forma Financial Statements for Federal Reserve Priced Services
Pro Forma Balance Sheet for Priced Services, December 31, 1997 and 1996
Millions of dollars
1997

Item
Short-term assets (Note 1)
[mputed reserve requirements
on clearing balances
Investment in marketable securities ...
Receivables
.
Materials and supplies
Prepaid expenses
Items in process of collection
Total short-term assets

658.0
5,922.0
72.8
2.8
9.0
3,742.3

Long-term assets (Note 2)
Premises
.
Furniture and equipment
Leases and leasehold improvements ..
Prepaid pension costs
Total long-term assets

1996'

389.2
137.4
31.8
350.2

Long-term liabilities
Obligations under capital leases
Long-term debt
Postretirement/postemployment
benefits obligation
Total long-term liabilities

394.6
148.4
29.5
287.4
908.5

859.9

11,315.3

15,086.3

12,366.3
1,765.1
95.0

7,114.8
3,207.5
84.5

14,226.4

10,406.8
.7
188.8

2.3
189.3
191.8

205.0

Total liabilities
Equity
Total liabilities and equity (Note 3 ) . .
NOTE. Components may not sum to totals because of
rounding.
The priced services financial statements consist of these
tables and the accompanying notes.




14,226.4

10,406.8

Total assets
Short-term liabilities
Clearing balances and balances
arising from early credit
of uncollected items
Deferred-availability items
Short-term debt
Total short-term liabilities

658.3
5,924.7
69.0
3.0
23.0
7,548.4

394.5

383.4

10,801.3

14,609.8

514.0

476.5

11,315.3

15,086.3

1. Some of these data have been revised.

Federal Reserve Banks 263
Pro Forma Income Statement for Federal Reserve Priced Services, 1997 and 1996
Millions of dollars
1997

Item
Revenue from services provided
to depository institutions (Note 4)
Operating expenses (Note 5)
Income from operations
Imputed costs (Note 6)
Interest on float
....
Interest on debt
Sales taxes
FDIC insurance
Income from operations after
imputed costs
. .
....
Other income and expenses (Note 7)
Investment income
Earnings credits
Income before income taxes
Imputed income taxes (Note 8)
Net income (Note 9)
MEMO: Targeted return on equity (Note 10) ..

1996

789.1
672.6
116.4
14.6
17.5
9.8
6.9

787.2
666.0
121.2
21.9
17.3
11.6
0.0

48.9

50.8
70.4

67.6
367.7
-338.0

NOTE. Components may not sum to totals because of
rounding.

29.7
97.3
31.2
66.1
54.3

315.8
-287.1

28.7
99.1
29.6
69.5
42.9

The priced services financial statements consist of these
tables and the accompanying notes.

Pro Forma Income Statement for Federal Reserve Priced Services, by Service, 1997
Millions of dollars

Total

Commercial
check
collection

Funds
transfer
and net
settlement

Bookentry
securities

Commercial
ACH

Noncash
collection

Cash
services

Revenue from operations

789.1

598.4

94.6

16.6

70.3

4.3

4.9

Operating expenses
(Note 5)

672.6

540.3

76.1

14.8

49.3

2.9

4.3

Item

Income from operations

116.4

58.1

18.6

1.8

21.0

1.4

.6

Imputed costs (Note 6)

48.9

40.9

3.8

.7

3.0

.3

.2

Income from operations
after imputed costs

67.6

17.1

14.8

1.1

18.0

1.1

.4

Other income and expenses,
net (Note 7)

29.7

23.2

3.2

.6

2.4

.2

.2

Income before income taxes .

97.3

40.4

18.0

1.7

20.4

1.3

.6

NOTE. Components may not sum to totals because of
rounding.




The priced services financial statements consist of these
tables and the accompanying notes.

264 84th Annual Report, 1997
FEDERAL RESERVE BANKS
NOTES TO FINANCIAL STATEMENTS FOR PRICED SERVICES
(1) SHORT-TERM ASSETS

The imputed reserve requirement on clearing balances
held at Reserve Banks by depository institutions reflects a
treatment comparable to that of compensating balances
held at correspondent banks by respondent institutions.
The reserve requirement imposed on respondent balances
must be held as vault cash or as non-earning balances
maintained at a Reserve Bank; thus, a portion of priced
services clearing balances held with the Federal Reserve
is shown as required reserves on the asset side of the
balance sheet. The remainder of clearing balances is
assumed to be invested in three-month Treasury bills,
shown as investment in marketable securities.
Receivables are (1) amounts due the Reserve Banks for
priced services and (2) the share of suspense-account and
difference-account balances related to priced services.
Materials and supplies are the inventory value of shortterm assets.
Prepaid expenses include salary advances and travel
advances for priced-service personnel.
Items in process of collection is gross Federal Reserve
cash items in process of collection (CIPC) stated on a
basis comparable to that of a commercial bank. It reflects
adjustments for intra-System items that would otherwise
be double-counted on a consolidated Federal Reserve
balance sheet; adjustments for items associated with nonpriced items, such as those collected for government
agencies; and adjustments for items associated with
providing fixed availability or credit before items are
received and processed. Among the costs to be recovered
under the Monetary Control Act is the cost of float, or net
CIPC during the period (the difference between gross
CIPC and deferred-availability items, which is the portion
of gross CIPC that involves a financing cost), valued at
the federal funds rate.
(2) LONG-TERM ASSETS

Consists of long-term assets used solely in priced services, the priced-services portion of long-term assets
shared with nonpriced services, and an estimate of the
assets of the Board of Governors used in the development
of priced services. Effective Jan. 1, 1987, the Reserve
Banks implemented the Financial Accounting Standards
Board's Statement of Financial Accounting Standards
No. 87, Employers' Accounting for Pensions (SFAS 87).
Accordingly, the Reserve Banks recognized credits to
expenses of $62.8 million in 1997 and $45.3 million in
1996 and corresponding increases in this asset account.
(3) LIABILITIES AND EQUITY

Under the matched-book capital structure for assets that
are not "self-financing," short-term assets are financed
with short-term debt. Long-term assets are financed with
long-term debt and equity in a proportion equal to the
ratio of long-term debt to equity for the fifty largest bank
holding companies, which are used in the model for the
private-sector adjustment factor (PSAF). The PSAF consists of the taxes that would have been paid and the return
on capital that would have been provided had priced
services been furnished by a private-sector firm. Other




short-term liabilities include clearing balances maintained
at Reserve Banks and deposit balances arising from float.
Other long-term liabilities consist of accrued postemployment and postretirement benefits costs and obligations on
capital leases.
(4)

REVENUE

Revenue represents charges to depository institutions for
priced services and is realized from each institution
through one of two methods: direct charges to an institution's account or charges against its accumulated earnings credits.
(5) OPERATING EXPENSES

Operating expenses consist of the direct, indirect, and
other general administrative expenses of the Reserve
Banks for priced services plus the expenses for staff
members of the Board of Governors working directly on
the development of priced services. The expenses for
Board staff members were $2.9 million in 1997 and
$2.8 million in 1996. The credit to expenses under SFAS
87 (see note 2) is reflected in operating expenses.
The income statement by service reflects revenue, operating expenses, and imputed costs except for income
taxes. Total operating expense does not equal the sum of
operating expenses for each service because of the effect
of SFAS 87. Although the portion of the SFAS 87 credit
related to the current year is allocated to individual services, the amortization of the initial effect of implementation is reflected only at the System level.
(6) IMPUTED COSTS

Imputed costs consist of interest on float, interest on debt,
sales taxes, and the FDIC assessment. Interest on float is
derived from the value of float to be recovered, either
explicitly or through per-item fees, during the period.
Float costs include costs for checks, book-entry securities, noncash collection, ACH, and funds transfers.
Interest is imputed on the debt assumed necessary to
finance priced-service assets. The sales taxes and FDIC
assessment that the Federal Reserve would have paid had
it been a private-sector firm are among the components of
the PSAF (see note 3).
Float costs are based on the actual float incurred for
each priced service. Other imputed costs are allocated
among priced services according to the ratio of operating
expenses less shipping expenses for each service to the
total expenses for all services less the total shipping
expenses for all services.
The following list shows the daily average recovery of
float by the Reserve Banks for 1997 in millions of dollars:
Total
float
Unrecovered
float
Float subject to recovery
Sources of recovery of float
Income on clearing balances
As-of adjustments
Direct charges
Per-item fees

545.5
16.7
528.8
52.9
263.5
103.9
108.5

Federal Reserve Banks 265
Unrecovered float includes float generated by services
to government agencies and by other central bank services. Float recovered through income on clearing balances is the result of the increase in investable clearing
balances; the increase is produced by a deduction for float
for cash items in process of collection, which reduces
imputed reserve requirements. The income on clearing
balances reduces the float to be recovered through other
means. As-of adjustments and direct charges are midweek closing float and interterritory check float, which
may be recovered from depositing institutions through
adjustments to the institution's reserve or clearing balance or by valuing the float at the federal funds rate and
billing the institution directly. Float recovered through
per-item fees is valued at the federal funds rate and has
been added to the cost base subject to recovery in 1997.
(7) OTHER INCOME AND EXPENSES

Consists of investment income on clearing balances and
the cost of earnings credits. Investment income on clearing balances represents the average coupon-equivalent
yield on three-month Treasury bills applied to the total
clearing balance maintained, adjusted for the effect of
reserve requirements on clearing balances. Expenses for
earnings credits granted to depository institutions on their
clearing balances are derived by applying the average
federal funds rate to the required portion of the clearing
balances, adjusted for the net effect of reserve requirements on clearing balances.
Because clearing balances relate directly to the Federal
Reserve's offering of priced services, the income and cost
associated with these balances are allocated to each service based on each service's ratio of income to total
income.
(8) INCOME TAXES

Imputed income taxes are calculated at the effective tax
rate derived from the PSAF model (see note 3). Taxes
have not been allocated by service because they relate to
the organization as a whole.
(9) ADJUSTMENTS TO NET INCOME FOR PRICE SETTING

In setting fees, certain costs are excluded in accordance
with the System's overage and shortfalls policy and its
automation consolidation policy. Accordingly, to compare the financial results reported in this table with the
projections used to set prices, adjust net income as follows (amounts shown are net of tax):
1997
Net income
Amortization of the initial
effect of implementing
SFAS87
Deferred costs of automation
consolidation
Adiusted net income
(10)

1996

66.1

69.5

-10.2

-10.5

-8.5
47.4

-6.3
52.7

RETURN ON EQUITY

The after-tax rate of return on equity that the Federal
Reserve would have earned had it been a private business
firm, as derived from the PSAF model (see note 3). This
amount is adjusted to reflect the recovery of $8.5 million
of automation consolidation costs for 1997 and $6.3 mil-




lion for 1996. The Reserve Banks plan to recover these
amounts, along with a finance charge, by the end of the
year 2001. After-tax return on equity has not been allocated by service because it relates to the organization as a
whole.

267

Board of Governors Financial Statements
The financial statements of the Board for 1997 and 1996 were audited by Price
Waterhouse, independent public accountants.

Price Waterhouse
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Governors of the
Federal Reserve System

We have audited the accompanying balance sheets of the Board of Governors of
the Federal Reserve System (the Board) as of December 31, 1997 and 1996, and
the related statements of revenues and expenses and fund balance and of cash flows
for the years then ended. These financial statements are the responsibility of the
Board's management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards and the standards applicable to financial audits contained in Government
Auditing Standards issued by the Comptroller General of the United States. Those
standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as
evaluating the overall financial statement presentation. We believe that our audits
provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of the Board as of December 31, 1997 and
1996, and the results of its operations and its cash flows for the years then ended in
conformity with generally accepted accounting principles.
In accordance with Government Auditing Standards, we have also issued a report
dated March 16, 1998 on our consideration of the Board's internal controls and a
report dated March 16, 1998 on its compliance with laws and regulations.

U.P
March 16, 1998
Arlington, Virginia



268

84th Annual Report, 1997
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
BALANCE SHEET
As of December 31,
1997
1996
ASSETS

CURRENT ASSETS

Cash
Accounts receivable
Transfers receivable—surplus Federal Reserve Bank earnings (Note 1)
Prepaid expenses and other assets

$ 23,364,834
1,071,278
652,913,560
992,096

$ 15,712,258
2,561,975
659,862,602
2,247,391

678,341,768

680,384,226

64,220,105

61,110,184

$742,561,873

$741,494,410

$ 9,797,829
7,609,781
652,913,560
7,477,187
98,772
2,016,190

$ 10,435,545
6,804,678
659,862,602
6,966,327
0
2,263,338

679,913,319

686,332,490

CAPITAL LEASE PAYABLE (non-current portion)

516,228

0

ACCUMULATED RETIREMENT BENEFIT OBLIGATION (Note 2)

740,497

466,056

20,193,034

18,171,722

1,769,646

1,409,343

39,429,149

35,114,799

$742,561,873

$741,494,410

Total current assets
PROPERTY, BUILDINGS, AND EQUIPMENT, NET (Note 4)
Total assets

LIABILITIES AND FUND BALANCE
CURRENT LIABILITIES

Accounts payable and accrued liabilities
Accrued payroll and related taxes
Transfers payable—surplus Federal Reserve Bank earnings (Note 1)
Accrued annual leave
Capital lease payable (current portion)
Unearned revenues and other liabilities
Total current liabilities

ACCUMULATED POSTRETIREMENT BENEFIT OBLIGATION (Note 3)
ACCUMULATED POSTEMPLOYMENT BENEFIT OBLIGATION (Note 3)

FUND BALANCE
Total liabilities and fund balance

The accompanying notes are an integral part of these statements.




Board Financial Statements 269
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
STATEMENT OF REVENUES AND EXPENSES
AND FUND BALANCE
For the years ended December 31,
1997
1996
BOARD OPERATING REVENUES

Assessments levied on Federal Reserve Banks for Board
operating expenses and capital expenditures
Other revenues (Note 5)

$

$ 162,642,400
9,789,141

183,867,075

172,431,541

108,870,919
19,835,377
10,735,745
9,306,428
4,680,031
4,291,093
4,261,161
4,172,795
4,130,603
2,895,097
2,707,738
3,665,738

106,353,644
18,417,943
11,159,490
8,626,785
4,942,020
4,356,715
4,263,382
4,189,203
3,907,874
3,417,539
2,665,188
4,354,734

179,552,725

Total operating revenues

174,406,600
9,460,475

176,654,517

BOARD OPERATING EXPENSES

Salaries
Retirement and insurance contributions
Contractual services and professional fees
Depreciation and net losses on disposals
Travel
Equipment and facilities rental
Postage and supplies
Utilities
Software
Repairs and maintenance
Printing and binding
Other expenses (Note 5)
Total operating expenses
BOARD OPERATING REVENUES OVER (UNDER) EXPENSES

4,314,350

(4,222,976)

ISSUANCE AND REDEMPTION OF FEDERAL RESERVE NOTES

Assessments levied on Federal Reserve Banks
for currency costs
Expenses for currency printing, issuance,
retirement, and shipping

363,738,623

403,232,215

363,738,623

403,232,215

0

0

4,314,350

(4,222,976)

35,114,799

39,337,775

CURRENCY ASSESSMENTS OVER (UNDER) EXPENSES

TOTAL REVENUE OVER (UNDER) EXPENSES

FUND BALANCE, Beginning of year
TRANSFERS TO THE U.S. TREASURY

Transfers and accrued transfers from surplus Federal Reserve Bank
earnings (Note 1)
Transfers and accrued transfers to the U.S. Treasury (Note 1)
FUND BALANCE, End of year

20,765,972,296
(20,765,972,296)

5,623,716,034
(5,623,716,034)

$

$

39,429,149

The accompanying notes are an integral part of these statements.




35,114,799

270 84th Annual Report, 1997
BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
STATEMENT OF CASH FLOWS
Increase (Decrease) in Cash
For the years ended December 31,
1997
1996
CASH FLOWS FROM OPERATING ACTIVITIES

Board operating revenues over (under) expenses

$ 4,314,350

$

(4,222,976)

Adjustments to reconcile operating revenue over (under) expenses
to net cash provided by operating activities:
Depreciation and net losses on disposals
Decrease (increase) in transfers receivable—surplus Federal Reserve
Bank earnings
Increase in accumulated postretirement benefits
Increase in accumulated retirement benefits
Increase in accumulated postemployment benefits
Decrease (increase) in accounts receivable, prepaid expenses,
and other assets
Increase in accrued annual leave
(Decrease) increase in accounts payable and accrued liabilities
(Decrease) increase in transfers payable—surplus Federal Reserve Bank
earnings
Increase in payroll payable and related taxes
(Decrease) increase in unearned revenues and other liabilities
Net cash provided by operating activities

9,306,428
6,949,042
2,021,312
274,441
360,303

8,626,785
(659,862,602)
1,097,134
466,056
315,943

2,745,993
510,860
(637,716)
(6,949,042)
805,103
(247,148)

(1,684,189)
365,323
2,855,174
659,862,602
1,936,181
78,456

19,453,926

9,833,887

Proceeds from disposals of furniture and equipment
Capital expenditures

18,301
(11,819,651)

70,500
(10,334,324)

Net cash used in investing activities

(11,801,350)

(10,263,824)

CASH FLOWS FROM INVESTING ACTIVITIES

NET INCREASE (DECREASE) IN CASH

CASH BALANCE, Beginning of year
CASH BALANCE, End of year

7,652,576

(429,937)

15,712,258

16,142,195

$23,364,834

$ 15,712,258

$

$

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION

Capital lease obligations incurred

615,000

The accompanying notes are an integral part of these statements.




0

Board Financial Statements

271

BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
NOTES TO FINANCIAL STATEMENTS
(1) SIGNIFICANT ACCOUNTING POLICIES

Board Operating Revenues and Expenses—
Assessments made on the Federal Reserve Banks for
Board operating expenses and capital expenditures are
calculated based on expected cash needs. These assessments, other operating revenues, and operating expenses
are recorded on the accrual basis of accounting.
Issuance and Redemption of Federal Reserve Notes—
The Board incurs expenses and assesses the Federal
Reserve Banks for the costs of printing, issuing, shipping,
and retiring Federal Reserve Notes. These assessments
and expenses are separately reported in the statements of
revenues and expenses because they are not Board operating transactions.
Property, Buildings and Equipment—The Board's
property, buildings and equipment are stated at cost less
accumulated depreciation. Depreciation is calculated on a
straight-line basis over the estimated useful lives of the
assets, which range from 4 to 10 years for furniture and
equipment and from 10 to 50 years for building equipment and structures. Upon the sale or other disposition of
a depreciable asset, the cost and related accumulated
depreciation are removed from the accounts and any gain
or loss is recognized.
Federal Reserve Bank Surplus Earnings—The Omnibus Budget Reconciliation Act of 1993 requires that
surplus Federal Reserve Bank earnings be transferred
from the Banks to the Board and then to the U.S. Treasury
for the period October 1, 1996, to September 30, 1998.
Prior to this time the Federal Reserve Banks made their
transfers directly to the Treasury. The Board accounts for
these transfers when earned and due, which may result in
transfers receivable and payable as of the balance sheet
date.
Estimates—The preparation of financial statements in
accordance with generally accepted accounting principles
requires management to make estimates that affect the
reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenue
and expenses during the reporting period.
Reclassifications—Certain 1996 disclosures have been
reclassified to conform with the 1997 presentation, the
effect of which is immaterial.
(2)

RETIREMENT BENEFITS

Substantially all of the Board's employees participate
in the Retirement Plan for Employees of the Federal
Reserve System (System Plan). The System Plan is a
multiemployer plan that covers employees of the Federal
Reserve Banks, the Board, and the Plan Administrative
Office. Employees of the Board who entered on duty prior
to 1984 are covered by a contributory defined benefits
program under the System Plan. Employees of the Board
who entered on duty after 1983 are covered by a non-




contributory defined benefits program under the System
Plan. Contributions to the System Plan are actuarially
determined and funded by participating employers at
amounts prescribed by the System Plan's administrator.
Based on actuarial calculations, it was determined that
employer funding contributions were not required for the
years 1997 and 1996, and the Board was not assessed a
contribution for these years. Excess Plan assets will continue to fund future years' contributions. The Board is not
accountable for the assets of this plan.
A relatively small number of Board employees participate in the Civil Service Retirement System (CSRS) or
the Federal Employees' Retirement System (FERS). The
Board matches employee contributions to these plans.
These defined benefits plans are administered by the
Office of Personnel Management. The Board's contributions to these plans totaled $98,000 and $201,500 in 1997
and 1996 respectively. The Board has no liability for
future payments to retirees under these programs, and it is
not accountable for the assets of the plans.
Effective January 1, 1996, Board employees covered
under the System Plan are also covered under a Benefits
Equalization Plan (BEP). Benefits paid under the BEP
are limited to those benefits that cannot be paid from the
System Plan because of limitations imposed by Sections
401(a)(17), 415(b), and 415(e) of the Internal Revenue
Code of 1986. Pension costs attributed to the BEP reduce
the pension costs of the System Plan. The net periodic
pension cost for the BEP for 1997 and 1996 included the
following components:
1997
Service cost (benefits
attributed to employee
services during the year).
Interest cost on projected
benefit obligation
Amortization of unrecognized
net liabilitiy
Amortization of unrecognized
prior service cost
Amortization of unrecognized
net (gain)/loss
Net periodic pension cost

1996

$ 133,331

$260,868

81,060

102,594

102,594

102,594

(13,490)

0

(29,054)

0

$274,441

$466,056

Although these pension costs are recorded using the
accrual basis of accounting in accordance with Statement
of Financial Accounting Standards No. 87, Employers'
Accounting for Pensions (FAS 87), the Board's current
policy is to fund the cost of these benefits on a pay-asyou-go basis.
The net periodic pension cost was determined using a
7.25 percent discount rate and average compensation
growth of 5 percent.
The FAS 87 accumulated benefit obligation at December 31, 1997, comprises:

272 84th Annual Report, 1997
1997
Accumulated benefit
obligation
Vested
Nonvested
Total
Plan assets at fair value
Less: Actuarial present
value of projected
benefit obligation
Projected benefit obligation
in excess of plan
assets
Less: Unrecognized
net transition
obligation ...
Unrecognized prior
service cost ..
Unrecognized net
(gain)/loss ...
Unfunded pension cost ..

$

329,000 $
20,000
349,000 $

$

1996

1997

218,000
21,000
239,000
0

(527,980)

(527,980)

1,260,447
(996,371)

(1,589,924)

(1,589,924)

1,363,041
(190,000)

(476,593)
(49,173)
i (740,497) $ (466,056)

The liability as of December 31,1997, was determined
using a 7.25 percent discount rate and average compensation growth of 5 percent. The Board has elected to amortize the unrecognized prior service cost over 14.3 years.
(3) OTHER BENEFIT PLANS

Employees of the Board may also participate in the
Federal Reserve System's Thrift Plan. Under the Thrift
Plan, members may contribute up to a fixed percentage of
their salary. Board contributions are based upon a fixed
percentage of each member's basic contribution and were
$4,771,700 in 1997 and $4,644,100 in 1996.
The Board also provides certain defined benefit health
and life insurance for its active employees and retirees
under federal and Board-sponsored programs. The net
periodic postretirement benefit cost for 1997 and 1996
included the following components:
1997
Service cost (benefits
attributed to employee
services during the
year)
Interest cost on accumulated
postretirement benefit
obligation
Amortization of gains
and losses
Curtailment effect
Net periodic postretirement
benefit cost

1996

$ 154,474 $ 195,016

1,474,782

1,461,103

112,493
1,174,489

372,253
0

$2,916,238 $2,028,372

Although postretirement benefits are recorded using
the accrual basis of accounting in accordance with FAS
106, the Board's current policy is to fund the cost of these
benefits on a pay-as-you-go basis.
The FAS 106 accumulated postretirement benefit obligation at December 31, 1997 and 1996, comprises:




Retirees
Fully eligible active plan
participants
Other active plan
participants
Unrecognized net loss ...
Liability for accumulated
postretirement benefit
obligation

1996

$16,959,528 $14,393,309
3,574,930

3,512,825

2,439,440
3,422,992
22,973,898 21,329,126
(2,780,864) (3,157,404)

$20,193,034 $18,171,722

The liability for the accumulated postretirement benefit
obligation and the net periodic benefit cost were determined using a 7.25 percent discount rate. Unrecognized
losses of $2,780,864 result from changes in the discount
rate used to measure the liabilities. Under FAS 106, the
Board may have to record some of these unrecognized
losses in operations in future years. The assumed health
care cost trend rate for measuring the increase in costs
from 1997 to 1998 was 9.5 percent. These rates were
assumed to gradually decline to an ultimate rate of
5.0 percent in the year 2005 for the purpose of calculating
the December 31, 1997, accumulated postretirement
benefit obligation. The effect of a 1 percent increase in the
assumed health care cost trend rate would increase
the accumulated postretirement benefit obligation by
$1,777,007 at December 31, 1997, and the net periodic
benefit cost by $172,488 for the year. The assumed salary
trend rate for measuring the increase in postretirement
benefits related to life insurance was an average of
5 percent.
The above accumulated postretirement benefit obligation is related to the Board sponsored health benefits and
life insurance programs. During 1997, a special retirement program was offered to employees who were eligible to retire by May 31, 1998. This resulted in a
curtailment loss of $1,174,489 during the year, comprising $1,044,096 for 62 employees covered by the Boardsponsored health benefits plan and $130,393 for 78
employees covered by the Board-sponsored life insurance
plan. The Board has no liability for future payments to
employees who continue coverage under the federally
sponsored programs upon retiring. Contributions for
active employees participating in federally sponsored programs totaled $3,667,300 and $3,553,400 in 1997 and
1996 respectively.
The Board provides certain postemployment benefits to
eligible employees after employment but before retirement. Effective January 1, 1994, the Board adopted
Statement of Financial Accounting Standards No. 112,
Employers' Accounting for Postemployment Benefits
(FAS 112), which requires that employers providing
postemployment benefits to their employees accrue the
cost of such benefits. Prior to January 1994, postemployment benefit expenses were recognized on a pay-asyou-go basis.
(4) PROPERTY, BUILDINGS AND EQUIPMENT

The following is a summary of the components of the
Board's fixed assets, at cost, net of accumulated
depreciation.

Board Financial Statements 273
As of December 31,
1997
1996
Land and
improvements
Buildings
Furniture and
equipment
Less accumulated
depreciation ..
Total property,
buildings and
equipment

$

1,301,314
65,611,228

$

1,301,314
65,343,600

63,486,071
130,398,613

55,102,012
121,746,926

(66,178,508)

(60,636,742)

$ 64,220,105

$ 61,110,184

Furniture and equipment and accumulated depreciation
as of December 31, 1997, includes $615,000, and $0,
respectively for capitalized leases, which were acquired
during 1997.
(5) OTHER REVENUES AND OTHER EXPENSES

The following are summaries of the components of
Other Revenues and Other Expenses.
For the years
ended December 31,
1997
1996
Other Revenues
Data processing
revenue
National
Information
Center
Subscription
revenue
Reimbursable
services to
other agencies .
Miscellaneous
Total Other
Revenues ...
Other Expenses
Tuition, registration,
and membership
fees
Cafeteria operations,
net
Subsidies and
contributions . . .
Miscellaneous
Total Other
Expenses ..

$5,184,075

$4,612,476

2,156,191

1,974,295

1,394,394

1,583,193

399,426
326,389

424,940
1,194,237

$9,460,475

$9,789,141

$1,118,683

$1,290,090

794,019

870,429

653,207
1,099,833

646,194
1,548,021

$3,665,742

$4,354,734

(6) COMMITMENTS

The Board has entered into several operating leases to
secure office, training, and warehouse space for periods
ranging from one to nine years. Minimum future commitments under those leases having an initial or remaining
noncancelable lease term in excess of one year at December 31, 1997, are as follows:
1998
1999
2000
2001

after 2001 . . .




$ 3,689,825
3,707,625
3,965,158
3,948,759
13,215,854
$28,527,221

Rental expenses under the operating leases were
$3,960,400 and $3,930,700 in 1997 and 1996
respectively.
(7) FEDERAL FINANCIAL INSTITUTIONS
EXAMINATION COUNCIL

The Board is one of the five member agencies of the
Federal Financial Institutions Examination Council (the
"Council"). During 1997 and 1996, the Board paid
$228,200 and $224,600 respectively in assessments for
operating expenses of the Council. These amounts are
included in subsidies and contributions for 1997 and
1996. During 1997 and 1996, the Board paid $157,800
and $127,100 respectively for office space subleased from
the Council.
•

Statistical Tables




276 84th Annual Report, 1997
1. Detailed Statement of Condition of All Federal Reserve Banks Combined,
December 31, 1997 and 1996
Millions of dollars
Item

1997

1996

ASSETS

11,047
9,200
460

Gold certificate account
Special drawing rights certificate account
Coin
Loans and securities
Loans to depository institutions
Federal agency obligations
Bought outright
Held under repurchase agreement.
U.S. Treasury securities
Bought outright
Bills
Notes
Bonds
Total bought outright
Held under repurchase agreement..
Total U.S. Treasury securities.
Total loans and securities
Items in process of collection
Transit items
Other items in process of collection.

2,035

85

685
2,652

2,225
1,612

197,123
174,206
59,407

190,647
150,922
49,339

430,736
21,188

390,907
19,971

451,924

410,878
457,295

Total bank premises
Less: Depreciation allowance...

8,378

Total furniture and equipment, net
Denominated in foreign currencies'
Interest accrued
Premium on securities
Overdrafts
Prepaid expenses
Suspense account
Real estate acquired for banking-house purposes.
Other
Total other assets.
Total assets




13,128

194
1,100
255
61

192
934
241
194

1,610
338

1,562
329
1,272

Bank premises, net
Other assets
Furniture and equipment
Less: Depreciation allowance.

414,800

11,741
1,387

6,982
1,395

Total items in process of collection
Bank premises
Land
Buildings (including vaults)
Building machinery and equipment .
Construction account

11,048
9,718
591

1,258
749

1,233

1,230
707

510

524

17,046
4,386
7,194
33
1,239
22
6
333

19,264
3,891
6,004
6
991
3
10
299
30,768

30,992

518,420

481,510

Statistical Tables 277
I.—Continued

Item

1997

1996

LIABILITIES

Federal Reserve notes
Outstanding (issued to Federal Reserve Banks) .
Less: Held by Federal Reserve Banks .

549,600
92,131

Total Federal Reserve notes, net

457,469

Total other liabilities
Total liabilities

24,524
7,742
167

18
100
779

26
108
759
897
7,817

Total other deposits
Deferred credit items
Other liabilities
Discount on securities
Sundry items payable
Suspense account
All other

426,522

30,838
5,444
457

Deposits
Depository institutions
U.S. Treasury, general account
Foreign, official accounts
Other deposits
Officers' and certified checks
International organizations
Other2

526,826
100,304

3,899
119
8
819

893
7,831
3,844
103
4
783

4,845

4,734

507,767

472,413

5,433
5,220
0
518,420

4,602
4,496
0

CAPITAL ACCOUNTS

Capital paid in
Surplus
Other capital accounts3
Total liabilities and capital accounts .
NOTE. Amounts in boldface type indicate items in the
Board's weekly statement of condition of the Federal
Reserve Banks.
Components may not sum to totals because of
rounding.
1. Of this amount, $8,117.2 million in 1997 and
$8,291.8 million in 1996 were invested in securities
issued by foreign governments, and the balance was




481,510

invested with foreign central banks and the Bank for
International Settlements.
2. In closing out the other capital accounts at year-end,
the Reserve Bank earnings that are payable to the Treasury are included in this account pending payment.
3. During the year, includes undistributed net income,
which is closed out on December 31.

278

84th Annual Report, 1997

2. Statement of Condition of Each Federal Reserve Bank,
December 31, 1997 and 1996
Millions of dollars
Total

Boston

Item
1997

1996

1997

1996

11,047
9,200
460

11,048
9,718
591

624
530
23

661
636
!3

2,035
0

85
0

21
0

0
0

ASSETS

Gold certificate account
Special drawing rights certificate account
Coin
Loans
To depository institutions
Other

0

0

0

0

Federal agency obligations
Bought outright
Held under repurchase agreements

685
2,652

2,225
1,612

42
0

131
0

U.S. Treasury securities
Bought outright'
Held under repurchase agreements
Total loans and securities

430,736
21,188
457,295

390,907
19,971
414,800

26,259
0
26,322

23,000
0
23,131

8,378
1,272

13,128
1,233

441
94

706
95

19,264
11,729

637
697

830
534

Acceptances held under repurchase agreements

Items in process of collection
Bank premises
Other assets
Denominated in foreign currencies2
Mother
Interdistrict Settlement Account

17,046
13,722

0

0

-3,621

1,024

518,420

481,510

25,746

27,629

457,469

426,522

22,984

25,417

30,838
5,444
457
897
37,636

24,524
7,742
167
893
33,326

1,544
0
5
2
1,551

1,048
0
6
38
1,092

7,817
4,845

7,831
4,734

412
283

511
268

07,767

Total assets

472,413

25,231

27,289

5,433
5,220
0

4,602
4,496
0

262
254
0

172
168
0

518,420

481,510

25,746

27,629

549,600
92,131
457,469

526,826
100,304
426,522

27,943
4,959
22,984

30,331
4,914
25,417

11,047
9,200
0
437,222

11,048
9,718
0
405,756

457,469

426,522

LIABILITIES

Federal Reserve notes
Deposits
Depository institutions
U.S. Treasury, general account
Foreign, official accounts
Other
Total deposits
Deferred credit items
Other liabilities and accrued dividends3
Total liabilities
CAPITAL ACCOUNTS

Capital paid in
Surplus
Other capital accounts
Total liabilities and capital accounts
FEDERAL RESERVE NOTE STATEMENT

Federal Reserve notes outstanding (issued to Bank)
Less: Held by Federal Reserve Bank
Federal Reserve notes, net
Collateral for Federal Reserve notes
Gold certificate account
Special drawing rights certificate account
Other eligible assets
U.S. Treasury and federal agency securities

DigitizedTotalFRASER
for collateral


Statistical Tables 279
2.—Continued

1997

Richmond

Cleveland

Philadelphia

New York

1997

1996

1997

1996

3,934
3,202
20

4,049
3,385
21

350
282
53

423
396
43

669
574
27

624
543
25

965
792
64

919
835
113

1,465
0

0
0

16
0

9
0

0
0

0
0

0
0

0
0

221
2,652

827
1,612

23
0

86
0

47
0

131
0

65
0

184
0

139,322
21,188
164,848

145,377
19,971
167,787

14,400
0
14,438

15,129
0
15,224

29,794
0
29,842

22,976
0
23,106

40,983
0
41,048

32,416
0
32,600

1,026
156

1,796
150

222
51

476
50

352
132

688
108

474
126

1,064
128

3,885
5,941

5,128
5,783

1,014
384

924
356

1,257
530

1,177
1,157

1,416
910

16,310

-27,599

-162

-1,762

1,083
764
-1,888

5,007

-8,468

3,821

199,322

160,499

16,632

16,131

31,556

31,889

37^36

41,805

179,316

139,364

13,970

13,822

28,441

29,861

32,459

38,736

9,257
5,444
346
360
15,406

8,167
7,742
62
410
16,381

1,720
0
9
1
1
1,740

1,297
0
7
9
1,313

1,815
0
9
54
1,879

856
0
9
43
909

2,062
0
10
77
2,149

1,275
0
1
1
88
1,374

794
1,643

883
1,796

184
11
8

261
194

235
316

280
261

650
427

698
369

197,159

158,425

16,075

15,590

30,871

31,311

35,684

41,177

1,108
1,055
0

1,051
1,023
0

284
273
0

273
268
0

349
335
0

292
286
0

833
818
0

318
310
0

199,322

160,499

16,632

16,131

31,556

31,889

37336

41,805

209,843
30,527

183,368
44,004

16,784
2,815

16,172
2,351

31,706
3,265

32,850
2,989

39,172
6,713

45,352
6,616

179,316

139,364

13,970

13,822

28,441

29,861

32,459

38,736




1996

1997

1996

280 84th Annual Report, 1997
2. Statement of Condition of Each Federal Reserve Bank,
December 31, 1997 and 1996—Continued
Millions of dollars
Chicago

Atlanta
Item
1997

1996

1997

1996

1,069
900
52

1,140
979
70

13
0

18
0

ASSETS

Gold certificate account
Special drawing rights certificate account
Coin

723
602
45

Loans
To depository institutions
Other

769
745
81

163
0

Acceptances held under repurchase agreements
Federal agency obligations
Bought outright
Held under repurchase agreements

46
0

148
0

73
0

241
0

U.S. Treasury securities
Bought outright'
Held under repurchase agreements
Total loans and securities

28,743
0
28,952

26,087
0
26,236

45,944
0
46,031

42,364
0
42,623

Items in process of collection
Bank premises

1,287
78

1,556
80

773
108

1,537
110

Other assets
Denominated in foreign currencies2
All other

1,574
764

1,890
631

1,989
1,222

2,296
1,006

793

-5,705

157

31,477

46,438

49,919

30,390

Total assets

-511

34,818

Interdistrict Settlement Account

27,511

40,531

44,858

LIABILITIES

Federal Reserve notes
Deposits
Depository institutions
U.S. Treasury, general account
Foreign, official accounts
Other
Total deposits

2,081
0
13
99
2,193

Other liabilities and accrued dividends

3

Total liabilities
CAPITAL ACCOUNTS

Capital paid in
Surplus
Other capital accounts
Total liabilities and capital accounts

3,570
0
17
125
3,712

2,574
0
17
120
2,712

1,210
328

1,033
318

679
487

808
479

34,121

Deferred credit items

1,708
0
14
54
1,775

30,637

45,409

48,857

359
338
0

425
415
0

527
502
0

537
524
0

34,818

31,477

46,438

49,919

38,413
8,023

34,458
6,947

47,119
6,589

51,546
6,688

30,390

27,511

40,531

44,858

FEDERAL RESERVE NOTE STATEMENT

Federal Reserve notes outstanding (issued to Bank)
Less: Held by Federal Reserve Bank
Federal Reserve notes, net
NOTE. Components may not sum to totals because of
rounding.
1. Includes securities loaned—fully guaranteed by U.S.
Treasury securities pledged with Federal Reserve
Banks—and excludes securities sold and scheduled to be
Digitizedbought back under matched sale-purchase transactions.
for FRASER



2. Valued monthly at market exchange rates.
3. Includes exchange-translation account reflecting the
monthly revaluation at market exchange rates of foreignexchange commitments.

Statistical Tables 281
2.—Continued

St. Louis
1997

Minneapolis

1996

1997

Kansas City

1996

1997

Dallas

1996

1997

San Francisco
1996

1997

1996

1,067

401
340
15

474
419
29

147
123
20

168
144
19

286
247
36

321
280
56

459
367
37

433
399
49

1,420
1,241

68

957
74

4
0

29
0

5
0

7
0

13
0

7
0

0

1

0

0

335
0

15
0

27
0

104
0

10
0

34
0

20
0

70
0

25
0

80
0

86
0

188
0

17,156
0
17,186

18,312
0
18,445

5,999
0
6,014

5,896
0
5,936

12,299
0
12,332

12,244
0
12,321

15,643
0
15,668

13,998
0
14,078

54,194
0
54,615

33,108
0
33,312

93
31

666
31

701
132

639
111

440
55

843
56

359
150

1,284
155

2,210
159

1,873
160

424
439

476
411

395
191

481
151

647
331

737
293

951
420

1,197
344

3,270
1,411

2,631
780

-534

-2,694

-1,205

-453

880

-650

5,259

218

-1,658

23,441

18,396

18,257

6,517

7,195

15,253

14,258

23,670

18,156

62,737

64,295

16,422

16,769

4,792

5,503

13,541

12,435

20,007

15,340

54,617

56,905

1,244

629
0
3
5
637

721
0
4
8
732

761
0
5
63
830

817
0
5
21
844

2,479

1,730

3,677

3,612

0
8
13

0
9
18

0
28
59

0
20
51

1,276

718
0
4
32
754

2,501

1,757

3,763

3,683

252
197

292
216

610
96

653
96

473
164

463
171

424
184

374
178

1,893

1,575

539

388

18,147

18,031

6,135

6,985

15,007

13,912

23,116

17,649

60,812

62,551

127
122
0

114
112
0

194
189
0

107
104
0

127
119
0

175
171
0

283
271
0

257
250
0

980
945
0

880
865
0

18,396

18,257

6,517

7,195

15,253

14,258

23,670

18,156

62,737

64,295

18,568
2,145

19,480
2,711

6,480
1,689

7,027
1,524

15,339
1,798

14,148
1,713

26,054
6,047

21,005
5,666

72,179
17,562

71,088
14,182

16,422

16,769

4,792

5,503

13,541

12,435

20,007

15,340

54,617

56,905

0
4
29




282

84th Annual Report, 1997

3. Federal Reserve Open Market Transactions, 1997
Millions of dollars
Feb.

Mar.

Apr.

0
0
40,346
40,346
0

0
0
33,997
33,647
0

0
0
31,720
31,720
0

4,006
0
33,160
33,160
0

0
0
2,481
-550
607

818
0
5,086
-2,864
0

0
0
3,143
-1,534
0

0
0
2,006
-2,100
376

1 to 5 years
Gross purchases .
Gross sales
Maturity shift....
Exchanges

0
0
-2,481
550

1,125
0
-4,926
1,874

2,861
0
-3,143
1,534

1,924
0
-2,006
1,700

5 to 10 years
Gross purchases .
Gross sales
Maturity shift
Exchanges

oooo

0
0
1,236
890

oooo

More than 10 years
Gross purchases ..
Gross sales
Maturity shift
Exchanges

oooo

0
0
-1,396
450

1,117
0
0
0

oooo

Type of security and transaction

Jan.

All maturities
Gross purchases ..
Gross sales
Redemptions

0
0
607

1,943
0
0

3,978
0
0

5,930
0
376

Matched transactions
Gross purchases
Gross sales

285,667
283,240

250,867
254,741

288,373
288,073

303,056
301,177

74,422
86,673

48,805
45,747

60,425
60,718

102,578
62,685

-10,430

1,127

3,984

47,326

0
0
187

0
0
27

0
0
17

0
0
24

17,668
17,995

9,795
9,454

14,300
14,830

10,178
10,285

-514

314

-547

-131

10,944

1,441

3,437

47,195

Others within 1 year
Gross purchases ..
Gross sales
Maturity shift
Exchanges
Redemptions

Repurchase agreements
Gross purchases
Gross sales
Net change in U.S. Treasury securities

oooo

U.S. TREASURY SECURITIES

Outright transactions (excluding matched transactions)
Treasury bills
Gross purchases
Gross sales
Exchanges
New bills
Redemptions

FEDERAL AGENCY OBLIGATIONS

Outright transactions
Gross purchases
Gross sales
Redemptions
Repurchase agreements
Gross purchases
Gross sales
Net change in agency obligations
Total net change in System Open Market Account
NOTE. Sales, redemptions, and negative figures reduce
holdings of the System Open Market Account; all other




figures increase such holdings. Components may not sum
to totals because of rounding.

Statistical Tables 283
3.— Continued
May

June

July

Aug.

Sept.

Oct.

Nov.

Dec.

Total

0
0
47,456
47,456
0

596
0
33,022
33,022
0

0
0
35,948
35,948
0

0
0
35,666
35,666
0

0
0
28,328
28,328
0

0
0
39,313
39,313
0

0
0
33,485
33,485
0

4,545
0
26,905
26,905
0

9,147
0
419,347
418,997
0

383
0
5,666
-4,229
0

494
0
1,476
-2,250
0

0
0
4,359
-1,087
598

0
0
7,487
-2,780
0

644
0
1,596
-2,382
0

0
0
3,193
-1,267
416

1,462
0
5,231
-4,126
0

1,947
0
1,748
-2,329
0

5,748
0
43,473
-27,499
0

1,102
0
-4,685
2,479

2,797
0
-1,476
2,250

0
0
-4,359
1,087

0
0
-5,247
1,170

2,697
0
-1,596
2,382

0
0
-3,193
1,267

3,323
0
-4,883
1,651

4,471
0
-1,748
2,329

20,299
0
-39,744
20,274

734
0
-981
1,750

499
0
0
0

0
0
0
0

0
0
-2,240
880

0
0
0
0

770
0
0
0

485
0
31
1,295

613
0
0
0

3,101
0
-1,954
5,215

988
0
0
0

906
0
0
0

0
0
0
0

0
0
0
730

0
0
0
0

648
0
0
0

954
0
-379
1,180

1,214
0
0
0

5,827
0
-1,775
2,360

3,206
0
0

5,292
0
0

0
0
598

0
0
0

3,341
0
0

1,418
0
416

6,224
0
0

12,790
0
0

44,122
0
1,996

287,229
287,826

293,506
293,008

307,101
309,578

317,008
315,439

311,153
312,083

316,425
318,485

272,474
269,586

353,726
355,668

3,588,905
3,586,584

46,552
89,477

55,073
47,070

44,087
53,217

54,561
50,340

77,109
74,960

75,323
78,157

73,618
73,064

97,932
87,160

810,485
809,268

-40,316

13,793

-12,205

5,790

4,560

-3,893

9,666

21,620

41,022

0
0
0

0
0
474

0
0
287

0
0
179

0
0
105

0
0
215

0
0
26

0
0
0

0
0
1,540

7,954
7,096

8,401
9,131

10,437
10,811

13,131
11,252

9,796
11,196

15,639
15,157

23,054
20,976

20,056
21,186

160,409
159,369

858

-1,204

-661

1,700

-1,505

267

2,052

-1,130

-500

-39,458

12,589

-12,866

7,490

3,055

-3,626

11,718

20,490

40,522




284

84th Annual Report, 1997

4. Federal Reserve Bank Holdings of U.S. Treasury and Federal Agency Securities,
December 31, 1995-97
Millions of dollars
Change

December 31
Description
1997

1996

1995

1996 to
1997

1995 to
1996

447,762

405,613

390,534

42,149

15,079

112,892
101,257

106,063
99,289

101,564
93,888

6,829
1,968

4,499
5,401

49,370
95,028
40,907
48,308

29,045
95,608
33,782
41,826

41,419
90,031
31,469
36,921

20,325
-580
7,125
6,482

-12,374
5,577
2,313
4,905

214,149
174,206
59,407

205,353
150,922
49,339

195,451
151,013
44,069

8,796
23,284
10,068

9,902
-91
5,270

21,188
17,027
0

19,971
14,706
0

12,762
12,336
0

1,217
2,321
0

7,209
2,370
0

Held outright'

685

2,225

2,634

-1,540

-409

By remaining maturity
1 year or less
More than 1 year through 5 years
More than 5 years through 10 years
More than 10 years

252
153
255
25

1,223
520
457
25

1,241
841
527
25

-971
-367
-202
0

-18
-321
-70
0

By issuer
Federal Farm Credit Banks
Federal Home Loan Banks
Federal Land Banks
Federal National Mortgage Association ..

10
57
0
618

912
115
17
1,181

912
230
66
1,425

-902
-58
-17
-563

0
-115
-49
-244

2,652

1,612

1,025

1,040

587

U.S. TREASURY SECURITIES

Held outrightl
By remaining maturity
Bills
1-91 days
92 days to 1 year
Notes and bonds
1 year or less
More than 1 year through 5 years
More than 5 years through 10 years . . .
More than 10 years
By type
Bills
Notes
Bonds
Repurchase agreements
MSPs, foreign accounts
MSPs, in the market
FEDERAL AGENCY SECURITIES

Repurchase agreements
NOTE. Components may not sum to totals because of
rounding.




1. Excludes the effects of temporary transactions—
repurchase agreements and matched sale-purchase agreements (MSPs).

Statistical Tables 285
Number and Annual Salaries of Officers and Employees of Federal Reserve Banks,
December 31. 1997
President
Federal Reserve
Bank (including
Branches)

Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas
San Francisco . . .
Federal Reserve
Automation
Service
Total

Other officers

Employees

Total

Number
Salary
(dollars)

Salaries
(dollars)

Number

Number

Salaries
(dollars)

192,900
247,100
219,300
196,700
193,900
207,950
218,600
225,100
206,300
192,400
193,700
273,900

58
239
55
46
76
81
92
60
48
55
56
95

6,349,450
31,801,892
5,986,400
4,871,100
7,483,800
8,033,535
9,707,227
5,537,600
5,023,350
5,360,400
5,635,500
11,005,400

1,039
3,561
1,118
1,238
1,862
2,241
1,966
1,062
1,073
1,379
1,375
2,270

159
77
66
67
155
54
61
73
102
54
52
80

47,957,251
165,589,803
43,343,736
43,944,303
66,495,814
75,219,153
81,666,507
37,131,767
39,964,829
49,452,754
51,274,259
100,939,143

1,257
3,878
1,240
1,352
2,094
2,377
2,120
1,196
1,224
1,489
1,484
2,446

54,499,601
197,638,795
49,549,436
49,012,103
74,173,514
83,460,638
91,592,334
42,894,467
45,194,479
55,005,554
57,103,459
112,218,443

0

24

2,767,200

518

7

28,027,052

549

30,794,252

2,567,850

985

109,562,854

20,702

1,007

831,006,371

22,706

943,137,075




Fulltime

Parttime

Salaries
(dollars)

286

84th Annual Report, 1997

6. Income and Expenses of Federal Reserve Banks, 1997
Thousands of dollars
Item

Total

Boston

New York

Philadelphia

Cleveland

CURRENT INCOME

Loans
U.S. Treasury and federal
agency securities
Foreign currencies
Priced services
Other

14,584

480

1,909

135

395

25,698,971
375,386
789,092
39,180

1,519,193
14,182
68,359
827

9,013,874
86,691
98,372
28,509

878,282
22,007
40,299
1,575

1,667,701
23,901
50,119
361

Total

26,917,213

1,603,041

9,229,356

942,297

1,742,477

1,029,650
269,708
-200,083
41,066
44,344
57,267

58,871
16,344
26
2,038
1,958
2,298

221,353
62,917
-200,404
7,255
6,741
11,300

51,763
13,323
29
760
2,033
1,682

54,070
14,679
16
3,053
2,512
1,760

79,363
10,577
53,890

38,616
405
2,645

6,106
2,275
10,094

1,409
391
3,170

2,056
702
2,989

31,233
56,635
31,488
38,880
26,108

4,004
4,297
2,599
849
558

4,105
9,872
7,067
15,883
5,738

1,662
2,476
2,688
259
1,380

2,798
3,673
1,696
2,493
567

8,893
33,382
137,435
82,287
358,896
66,629
0
-54,723
-2,762

345
105
5,005
4,329
22,880
3,950
-1,793
-9,689
-230

1,936
2,336
21,859
12,626
60,336
21,227
15,279
-8,168
0

774
267
5,229
3,538
26,072
1,831
12,101
-3,301
-288

241
216
6,202
4,581
25,295
3,255
13,170
-922
-322

2,200,164
-223,710
1,976,453

160,408
-7,490
152,917

297,729
-47,040
250,689

129,246
-19,767
109,479

144,779
-23,547
121,232

CURRENT EXPENSES

Salaries and other personnel
expenses
Retirement and other benefits
Net periodic pension costs' .
Fees
Travel
Software expenses
Postage and other shipping
costs
Communications
Materials and supplies
Building expenses
Taxes on real estate
Property depreciation
Utilities
Rent
Other
Equipment
Purchases
Rentals
Depreciation
Repairs and maintenance
Earnings-credit costs
Other
Shared costs, net2
Recoveries
Expenses capitalized3
Total

Reimbursements
Net expenses
For notes see end of table.




Statistical Tables 287
6.—Continued
Richmond

Atlanta

Chicago

St. Louis

Minneapolis Kansas City

Dallas

San Francisco

500

396

2,153

2,071

3,948

1,590

136

872

2,308,544
26,049
62,270
560

1,679,290
34,813
98,419
1,474

2,696,166
43,869
94,794
1,150

1,051,531
9,325
37,750
333

358,570
8,738
46,557
626

737,993
14,264
53,675
155

910,319
21,115
53,194
272

2,877,507
70,428
85,283
3,338

2,397,923

1,814,392

2,838,134

1,101,012

418,440

807,677

985,037

3,037,429

113,029
28,623
13
11,765
5,080
24,411

88,213
24,872
39
1,492
4,544
3,146

102,807
24,649
32
2,442
4,486
2,772

46,304
13,513
13
2,246
2,462
2,040

49,757
12,899
20
1,340
2,728
1,729

61,597
15,006
20
669
2,756
1,277

60,981
17,312
14
892
2,949
1,374

120,906
25,569
98
7,114
6,096
3,478

3,391
1,156
6,412

4,932
889
6,269

4,472
932
5,234

2,238
525
2,870

3,909
738
2,125

4,219
876
3,303

2,381
844
3,393

5,634
845
5,386

2,157
5,900
3,005
10,409
2,866

1,583
4,051
1,923
5,008
2,507

3,961
6,022
2,505
1,449
5,930

328
2,804
1,511
480
850

5,296
1,549
1,556
886
843

679
3,804
1,375
387
748

1,989
5,188
2,184
338
1,765

2,672
6,999
3,381
438
2,356

1,519
28,210
55,588
18,701
37,598
4,923
-137,766
-15,324
-166

1,024
646
9,242
9,210
31,698
6,217
14,484
-2,701
-528

618
735
8,676
8,068
50,454
5,989
20,829
-4,502
-225

265
147
3,116
3,036
16,378
3,627
12,002
-1,013
-119

257
262
3,787
2,854
6,364
2,153
8,824
-597
-343

404
102
4,202
2,705
14,199
3,419
18,127
-565
-373

558
93
5,360
3,657
25,972
3,391
14,024
-4,625
-81

952
262
9,171
8,982
41,649
6,648
10,718
-3,318
-86

211,499
-25,586
185,913

218,762
-10,818
207,943

258,336
-17,196
241,140

115,622
-10,960
104,662

108,940
-15,816
93,125

138,937
-18,635
120,303

149,954
-7,201
142,754

265,952
-19,655
246,297




288

84th Annual Report, 1997

6. Income and Expenses of Federal Reserve Banks, 1997—Continued
Thousands of dollars
Item

Total

Boston

New York

Philadelphia

Cleveland

24,940,759

1,450,123

8,978,667

832,818

1,621,245

13,153
2,801
15,954

799
30
830

4,309
6
4,315

446
0
446

898
3
901

-2,592,718
-88
-2,592,806

-96,832
-2
-96,834

-591,244
-18
-591,263

-154,267
-2
-154,269

-164,746
-2
-164,747

-2,576,852

-96,004

-586,948

-153,823

-163,846

34,718

1,241

2,264

2,423

1,470

174,407
364,454

6,540
21,723

39,315
119,098

10,278
11,816

10,837
25,508

21,790,329

1,324,616

8,231,043

654,478

1,419,584

299,652

11,405

65,286

16,987

19,320

0
20,658,972
-107,000

0
1,223,253
-4,003

0
8,109,194
-24,447

0
626,418
-6,352

0
1,343,641
-6,801

PROFIT AND LOSS

Current net income
Additions to and deductions
from (-) current net income*
Profits on sales of U.S.
Treasury and federal
agency securities
Other additions
Total additions
Losses on foreign exchange
transactions
Other deductions
Total deductions
Net addition to or
deductions from (-)
current net income
Cost of unreimbursed Treasury
services
Assessments by Board
Board expenditures5 ..
Cost of currency
Net income before payment to
U.S. Treasury
Dividends paid
Payments to U.S. Treasury
(interest on Federal
Reserve notes)
Statutory transfer
Surplus transfer
Transferred to surplus .
Surplus, January 1
Surplus, December 31

831,705

89,958

56,563

11,073

56,623

4,495,745
5,220,449

167,603
253,558

1,023,159
1,055,274

268,111
272,832

285,579
335,400

NOTE. Components may not sum to totals because of
rounding.
1. Reflects the effect of Financial Accounting Standards Board's Statement of Financial Accounting Standards No. 87, Employers' Accounting for Pensions (SFAS
87). The System Retirement Plan for employees is
recorded on behalf of the System on the books of the
Federal Reserve Bank of New York, resulting in a reduction in expenses of $200,813 thousand. The Retirement
Benefits Equalization Plan is recorded by each Federal
Reserve Bank.
2. Includes distribution of costs for projects performed
by one Reserve Bank for the benefit of one or more other
Reserve Banks.




3. Includes expenses for labor and materials temporarily capitalized and charged to activities when the products are consumed.
4. Includes reimbursement from the U.S. Treasury for
uncut sheets of Federal Reserve notes, gains and losses on
the sale of Reserve Bank buildings, counterfeit currency
that is not charged back to the depositing institution, and
stale Reserve Bank checks that are written off.
5. For additional details, see the preceding chapter,
"Board of Governors Financial Statements."

Statistical Tables 289
6.— Continued
Richmond

Atlanta

Chicago

St. Louis

Minneapolis Kansas City

2,212,010

1,606,449

2,596,994

996,350

325,315

1,238
15
1,253

878
2,449
3,327

1,405
12
1,417

532
0
532

-179,047
-15
-179,062

-239,317
-3
-239,320

-302,502
-11
-302,513

-177,809

-235,993

5,636

Dallas

San Francisco

687,374

842,283

2,791,132

184
277
462

379
1
380

477
5
482

1,608
1
1,610

-64,439
-7
-64,446

-60,000
-4
-60,004

-98,463
-8
-98,471

-144,589
-9
-144,598

-497,272
-7
-497,280

-301,096

-63,914

-59,542

-98,092

-144,115

-495,670

1,818

4,325

2,068

3,127

2,405

2,683

5,259

14,815
33,096

14,955
23,517

20,070
38,330

4,206
14,334

4,421
4,704

6,206
10,626

9,579
13,110

33,187
48,593

1,980,655

1,330,166

2,233,173

911,828

253,521

570,045

672,796

2,208,424

34,077

23,140

31,693

6,800

9,337

9,014

15,905

56,688

0
1,431,350
-7,395

0
1,373,317
-9,884

0
2,211,352
-12,487

0
892,486
-2,659

0
157,002
-2,478

0
608,850
-4,064

0
630,418
-5,975

0
2,051,693
-20,454

515,228

-66,290

-9,871

12,542

87,183

-47,819

26,473

100,043

310,232
818,065

414,670
338,496

524,405
502,046

111,745
121,628

103,945
188,649

170,720
118,837

250,379
270,877

865,197
944,786




290 84th Annual Report, 1997
7. Income and Expenses of Federal Reserve Banks, 1914-97
Thousands of dollars

Federal Reserve Bank
and period

Current
income

Net
expenses

Net additions
or
deductions (-)

Assessments by
Board of Governors
Board
expenditures

Costs
of currency

All Banks
1914-15
1916
1917
1918
1919

2,173
5,218
16,128
67,584
102,381

2,018
2,082
4,922
10,577
18,745

6
-193
-1,387
-3,909
-4,673

302
192
238
383
595

1920
1921
1922
1923
1924
1925
1926
1927
1928
1929

181,297
122,866
50,499
50,709
38,340
41,801
47,600
43,024
64,053
70,955

27,549
33,722
28,837
29,062
27,768
26,819
24,914
24,894
25,401
25,810

-3,744
-6,315
-4,442
-8,233
-6,191
-4,823
-3,638
-2,457
-5,026
-4,862

710
741
723
703
663
709
722
779
698
782

1,714
1,845
806
3,099

1930
1931
1932
1933
1934
1935
1936
1937
1938
1939

36,424
29,701
50,019
49,487
48,903
42,752
37,901
41,233
36,261
38,501

25,358
24,843
24,457
25,918
26,844
28,695
26,016
25,295
25,557
25,669

-93
311
-1,413
-12,307
-4,430
-1,737
486
-1,631
2,232
2,390

810
719
729
800
1,372
1,406
1,680
1,748
1,725
1,621

2,176
1,479
1,106
2,505
1,026
1,477
2,178
1,757
1,630
1,356

1940
1941
1942
1943
1944
1945
1946
1947
1948
1949

43,538
41,380
52,663
69,306
104,392
142,210
150,385
158,656
304,161
316,537

25,951
28,536
32,051
35,794
39,659
41,666
50,493
58,191
64,280
67,931

11,488
721
-1,568
23,768
3,222
-830
-626
1,973
-34,318
-12,122

1,704
1,840
1,746
2,416
2,296
2,341
2,260
2,640
3,244
3,243

1,511
2,588
4,826
5,336
7,220
4,710
4,482
4,562
5,186
6,304

1950
1951
1952
1953
1954
1955
1956
1957
1958
1959

275,839
394,656
456,060
513,037
438,486
412,488
595,649
763,348
742,068
886,226

69,822
83,793
92,051
98,493
99,068
101,159
110,240
117,932
125,831
131,848

36,294
-2,128
1,584
-1,059
-134
-265
-23
-7,141
124
98,247

3,434
4,095
4,122
4,100
4,175
4,194
5,340
7,508
5,917
6,471

7,316
7,581
8,521
10,922
6,490
4,707
5,603
6,374
5,973
6,384

1960
1961
1962
1963
1964
1965
1966
1967
1968
1969

1,103,385
941,648
1,048,508
1,151,120
1,343,747
1,559,484
1,908,500
2,190,404
2,764,446
3,373,361

139,894
148,254
161,451
169,638
171,511
172,111
178,212
190,561
207,678
237,828

13,875
3,482
-56
615
726
1,022
996
2,094
8,520
-558

6,534
6,265
6,655
7,573
8,655
8,576
9,022
10,770
14,198
15,020

7,455
6,756
8,030
10,063
17,230
23,603
20,167
18,790
20,474
22,126

:

For notes see end of table.




Statistical Tables 291
7.—Continued
Payments to U.S. Treasury
Dividends
paid

Statutory
transfers2

Interest on
Federal Reserve
notes

TViiri cfprr^H
X 1 clllSlCIi Cvi

TV Q n c "fp rrf^f\

to surplus
(section 13b)

to surplus
(section 7)

11 dll J I C I I C U

217
1,743
6,804
5,541
5,012

2,704

1,134
48,334
70,652

5.654
6,120
6,307
6,553
6,682
6,916
7,329
7,755
8,458
9,584

60,725
59,974
10,851
3,613
114
59
818
250
2,585
4,283

82,916
15,993
-660
2,546
-3,078
2,474
8,464
5,044
21,079
22,536

10,269
10,030
9,282
8,874
8,782
8,505
7,830
7,941
8,019
8,110

17

-2,298
-7,058
11,021
-917
6,510
607
353
2,616
1,862
4,534

1,134

8,215
8,430
8,669
8,911
9,500
10,183
10,962
11,523
11,920
12,329

2,0 il
' 298
227
177
120
25

-60
28
103
67
-419
-426

82
141
198
245
327
248
67
36

-54
-4
50
135
201
262
28
87

75,284
166,690
193,146

17,617
571
3,554
40,327
48,410
81,970
81,467
8,366
18,523
21,462

13,083
13,865
14,682
15,558
16,442
17,712
18,905
20,081
21,197
22,722

196,629
254,874
291,935
342,568
276,289
251,741
401,556
542,708
524,059
910,650

21,849
28,321
46,334
40,337
35,888
32,710
53,983
61,604
59,215
-93,601

23,948
25,570
27,412
28,912
30,782
32,352
33,696
35,027
36,959
39,237

896,816
687,393
799,366
879,685
1,582,119
1,296,810
1,649,455
1,907,498
2,463,629
3,019,161

42,613
70,892
45,538
55,864
-465,823
27,054
18,944
29,851
30,027
39,432




292

84th Annual Report, 1997

7. Income and Expenses of Federal Reserve Banks, 1914-97—Continued
Thousands of dollars

Federal Reserve Bank
and period

Current
income

Net
expenses

Net additions
or
deductions (-) 1

Assessments by
Board of Governors
Board
expenditures

Costs
of currency

1970.
1971.
1972.
1973.
1974.
1975.
1976.
1977.
1978.
1979.

3,877,218
3,723,370
3,792,335
5,016,769
6,280,091
6,257,937
6,623,220
6,891,317
8,455,309
10,310,148

276,572
319,608
347,917
416,879
476,235
514,359
558,129
568,851
592,558
625,168

11,442
94,266
-49,616
-80,653
-78,487
-202,370
7,311
-177,033
-633,123
-151,148

21,228
32,634
35,234
44,412
41,117
33,577
41,828
47,366
53,322
50,530

23,574
24,943
31,455
33,826
30,190
37,130
48,819
55,008
60,059
68,391

1980....
1981....
1982....
1983....
1984....
1985....
1986....
1987....
1988....
1989....
1990....
1991....
1992....
1993....
1994....
1995....
1996 . . .
1997 . . .

12,802,319
15,508,350
16,517,385
16,068,362
18,068,821
18,131,983
17,464,528
17,633,012
19,526,431
22,249,276
23,476,604
22,553,002
20,235,028
18,914,251
20,910,742
25,395,148
25,164,303
26,917,213

718,033
814,190
926,034
1,023,678
1,102,444
1,127,744
1,156,868
1,146,911
1,205,960
1,332,161
1,349,726
1,429,322
1,474,531
1,657,800
1,795,328
1,818,416
1,947,861
1,976,453

-115,386
-372,879
-68,833
^00,366
-412,943
1,301,624
1,975,893
1,796,594
-516,910
1,254,613
2,099,328
405,729
-987,788
-230,268
2,363,862
857,788
-1,676,716
-2,611,570

62,231
63,163
61,813
71,551
82,116
77,378
97,338
81,870
84,411
89,580
103,752
109,631
128,955
140,466
146,866
161,348
162,642
174,407

73,124
82,924
98,441
152,135
162,606
173,739
180,780
170,675
164,245
175,044
193,007
261,316
295,401
355,947
368,187
370,203
402,517
364,454

Total, 1914-97.

444,326,051

32,523,434

3,474,202

2,488,662

4,753,587

Aggregate for each Bank,
1914-97
Boston
New York
Philadelphia
Cleveland
Richmond
Atlanta
Chicago
St. Louis
Minneapolis
Kansas City
Dallas .
San Francisco

24,017,634
143,400,992
17,057,720
28,769,688
35,431,346
20,497,504
58,777,829
15,426,913
8,188,820
17,597,697
22,374,862
52,785,046

90,732
1,222,234
49,413
134,992
168,188
300,425
434,357
51,834
92,686
108,207
362,996
458,139

92,064
657,442
116,496
173,053
152,440
208,712
324,832
69,433
70,524
100,228
166,541
356,897

280,959
1,486,522
190,350
298,052
418,383
265,542
595,521
182,239
83,885
191,063
230,784
530,287

Total

444,326,051

3,474,202

2,488,662

4,753,587

2,183,100 4
5,616,082
1,797,441
2,039,232
2,796,667
3,022,109
4,187,289
1,649,321
1,521,072
2,078,129
2,052,356
3,580,635
32,523,434

NOTE. Components may not sum to totals because of
rounding.
1. For 1987 and subsequent years, includes the cost of
services provided to the Treasury by Federal Reserve
Banks for which reimbursement was not received.
2. Represents transfers made as a franchise tax from
1917 to 1932; transfers made under section 13b of the
Federal Reserve Act from 1935 to 1947; and transfers
made under section 7 of the Federal Reserve Act for 1996
and 1997.
3. The $5,562,121 thousand transferred to surplus was
reduced by direct charges of $500 thousand for charge-off




on Bank premises (1927), $139,300 thousand for contributions to capital of the Federal Deposit Insurance Corporation (1934), $4 thousand net upon elimination of section 13b surplus (1958), and $106,000 thousand (1996)
and $107,000 thousand (1997) transferred to the Treasury
as statutorily required; and was increased by transfer of
$11,131 thousand from reserves for contingencies (1955),
leaving a balance of $5,220,449 thousand on December 31, 1997.
4. This amount is reduced $1,117,482 thousand, which
is related to the System Retirement Plan. See note 1,
table 6.

Statistical Tables 293
7.— Continued
Payments to U.S. Treasury
Dividends
paid

Statutory
transfers 2

Interest on
Federal Reserve
notes

Transferred
to surplus
(section 13b)

Transferred
to surplus
(section 7)

41,137
43,488
46,184
49,140
52,580
54,610
57,351
60,182
63,280
67,194

3,493,571
3,356,560
3,231,268
4,340,680
5,549,999
5,382,064
5,870,463
5,937,148
7,005,779
9,278,576

32,580
40,403
50,661
51,178
51,483
33,828
53,940
45,728
47,268
69,141

70,355
74,574
79,352
85,152
92,620
103,029
109,588
117,499
125,616
129,885
140,758
152,553
171,763
195,422
212,090
230,527
255,884
299,652

5,517,716
20,658,972

11,706,370
14,023,723
15,204,591
14,228,816
16,054,095
17,796,464
17,803,895
17,738,880
17,364,319
21,646,417
23,608,398
20,777,552
16,774,477
15,986,765
20,470,011
23,389,367
14,565,624
0

56,821
76,897
78,320
106,663
161,996
155,253
91,954
173,771
64,971
130,802
180,292
228,356
402,114
347,583
282,122
283,075
635,343
831,705

3,948,566

26,328,016

372,195,871

-4

157,144
1,059,330
197,631
286,824
244,986
313,412
506,983
111,722
110,068
155,409
251,646
553,412

1,558,701
10,547,740
777,704
1,658,804
1,889,932
1,707,668
2,818,689
1,166,038
224,564
770,467
780,250
2,427,458

19,564,040
124,111,328
13,728,622
24,086,374
29,258,068
14,916,441
50,236,364
12,167,994
6,073,680
14,279,520
18,968,511
44,804,931

135
-433
291
-10
-72
5
12
-27
65
-9
55
-17

272,222
1,145,215
298,598
362,351
839,130
364,041
542,495
132,025
197,649
131,097
287,716
989,583

3,948,566

26,328,016

372,195,871

-4

5,562,121




5,562,1213

294

84th Annual Report, 1997

Acquisition Costs and Net Book Value of Premises of Federal Reserve Banks
and Branches, December 31, 1997
Thousands of dollars
Acquisition costs
Federal Reserve
Bank or
Branch

Land

Buildings
(including
vaults)'

Building machinery and
equipment

Total

2

Net
book
value

BOSTON

22,074

97,863

7,441

127,377

93,906

NEW YORK

20,330
888

133,536
4,072

44,703
3,017

198,569

151,031
4,896

2,380

60,976

7,672

Other
real
estate3

Buffalo
PHILADELPHIA

7,976
50,587
71,028
2,715
2,247
1,658

96,700
15,158
12,904

16,690
8,373
5,953

6,261
6,478
3,130

61,059
27,101
27,477

22,098
4,569
4,750

116,105
25,777
20,515
89,418
38,148
35,356

23,524
5,861
1,730
3,823
612
3,497

5,115
1,890
17,226
13,556
2,558
5,850

0
1,749
2,859
2,728
2,386
2,827

28,639
9,501
21,815
20,108
5,555
12,174

28,638
6,994
17,309
14,120
2,884
8,225

CHICAGO
Detroit

5,030
798

117,615
5,591

13,974
3,610

136,619
9,999

99,367
8,190

ST. LOUIS
Little Rock
Louisville
Memphis

700
1,148
700
1,136

18,797
3,701
3,634
4,360

6,001
1,110
1,503
2,755

25,498
5,960
5,837
8,250

17,412
4,708
4,077
5,186

MINNEAPOLIS
Helena

8,049
1,955

101,634
9,335

13,160
766

122,842
12,056

121,920
10,567

KANSAS CITY
Denver
Oklahoma City
Omaha

2,048
3,188
646
6,535

18,173
6,134
11,454
10,987

8,264
3,455
2,881
1,401

28,486
12,777
14,981
18,923

18,507
8,319
12,326
15,410

DALLAS
El Paso
Houston
San Antonio

28,512
262
2,205
482

102,692
2,865
4,749
5,279

18,601
908
1,688
2,686

149,806
4,035
8,643
8,448

133,611
3,266
6,768
6,360

SAN FRANCISCO
Los Angeles
Portland
Salt Lake City
Seattle

15,600
3,892
2,754
495
325

71,813
52,417
9,659
7,195
10,090

18,321
9,210
2,144
2,360
2,727

105,734
65,519
14,557
10,050
13,142

76,755
50,847
12,951
8,064
10,415

193,670

1,161,212

255,343

1,610,225

1,271,996

CLEVELAND
Cincinnati
Pittsburgh
RICHMOND
Baltimore
Charlotte
ATLANTA4
Birmingham
Jacksonville
Miami
Nashville
New Orleans

Total

NOTE. Components may not sum to totals because of

rounding.
1. Includes expenditures for construction at some
offices, pending allocation to appropriate accounts.
2. Excludes charge-offs of $17,699 thousand before
1952.




104,816
11,683
15,567
70,583
26,927
28,802

5,708

48

5,757

3. Covers acquisitions for banking-house purposes and
Bank premises formerly occupied and being held pending
sale.
4. The Atlanta Bank sold its building and its building
machinery and equipment in 1997. The Bank is leasing
back the building pending completion of a new facility.

Statistical Tables 295
9. Operations in Principal Departments of Federal Reserve Banks, 1994-97

Operation

1997

Millions of pieces (except as noted)
Loans (thousands)
Currency received and counted
Currency verified and destroyed
Coin received and counted
Checks handled
U.S. government checks
Postal money orders
All other
Government securities transfers '
Transfer of funds
Automated clearinghouse transactions 2
Commercial
Government
Food stamps redeemed
Millions of dollars
Loans
Currency received and counted
Currency verified and destroyed
Coin received and counted
Checks handled
U.S. government checks
Postal money orders
All other
Government securities transfers '
Transfer of funds
Automated clearinghouse transactions2
Commercial
Government
Food stamps redeemed

1995

1994

7
24,510
7,769
9,603

6
23,436
8,686
8,654

6
22,594
8,911
7,578

8
20,166
7,244
6,950

378
204
15,949
13
90

436
206
15,487
13
83

460
203
15,465
13
76

470
200
16,479
13
72

2,603
677
2,854

2,372
625
3,637

2,046
599
3,954

1,737
574
4,229

39,863
399,080
123,359
1,212

25,350
375,399
148,394
1,175

22,854
345,318
113,828
1,112

22,853
277,685
76,620
1,045

401,989
26,464
12,169,087
174,949,330
288,419,808

462,647
25,831
11,584,276
160,637,460
249,140,021

490,299
24,835
11,567,820
149,764,431
222,954,083

504,479
23,764
12,079,107
144,702,226
211,201,540

9,128,779
1,581,552
15,054

8,287,711
1,250,472
18,669

7,817,323
1,117,452
20,862

7,094,246
948,984
21,867

1. Beginning with the 1994 Annual Report, "Government securities transfers" replaced the previous time
series that included "Issues, redemptions, and exchanges
of U.S. Treasury and federal agency securities." This
change was made to enable consistent time series report-




1996

ing for the fiscal area, for which complex definitional
changes have occurred over the reported years.
2. Beginning in 1997, the reported ACH volumes no
longer include non-value items.

296

84th Annual Report, 1997

10. Federal Reserve Bank Interest Rates on Loans to Depository Institutions,
December 31, 1997
Extended credit3
Reserve Bank

All Federal Reserve Banks

Adjustment
credit •
5.00

1. Adjustment credit is available on a short-term basis
to help depository institutions meet temporary needs for
funds that cannot be met through reasonable alternative
sources. Adjustment credit is usually provided at the
basic discount rate, but under certain circumstances a
special rate or rates above the basic discount rate may be
applied. See section 201.3(a) of Regulation A.
2. Seasonal credit is available to help smaller depository institutions meet regular, seasonal needs for funds
that cannot be met through special industry lenders and
that arise from a combination of expected patterns of
movement in their deposits and loans. The discount rate
on seasonal credit takes into account rates on market
sources of funds and ordinarily is reestablished on the
first business day of each two-week reserve maintenance
period; however, it is never lower than the discount rate
applicable to adjustment credit. See section 201.3(b) of
Regulation A.




Seasonal
credit2
5.65

First thirty days
of borrowing

After thirty days
of borrowing

5.00

6.15

3. Extended credit is available to depository institutions,
if similar assistance is not reasonably available from other
sources, when exceptional circumstances or practices
involve only a particular institution or when an institution
is experiencing difficulties adjusting to changing market
conditions over a longer period of time. See section
201.3(c) of Regulation A.
Extended-credit, loans outstanding more than thirty
days ordinarily will be charged a flexible rate somewhat
above rates on market sources of funds; however, the rate
will always be at least 50 basis points above the discount
rate applicable to adjustment credit. The flexible rate is
reestablished on the first business day of each two-week
reserve maintenance period. At the discretion of the Federal Reserve Bank, the flexible rate may be charged on
extended-credit loans that are outstanding less than thirty
days.

Statistical Tables 297
11. Reserve Requirements of Depository Institutions, December 31, 1997
Requirements
Type of deposit
Percentage of deposits
Net transaction accounts'
$0 million-$47.8 million2
More than $47.8 million3
Nonpersonal time deposits 4
Eurocurrency liabilities

5

NOTE. Required reserves must be held in the form of
deposits with Federal Reserve Banks or vault cash. Nonmember institutions may maintain reserve balances with a
Federal Reserve Bank indirectly, on a pass-through basis,
with certain approved institutions. For previous reserve
requirements, see earlier editions of the Annual Report or
the Federal Reserve Bulletin. Under the Monetary Control Act of 1980, depository institutions include commercial banks, mutual savings banks, savings and loan associations, credit unions, agencies and branches of foreign
banks, and Edge Act corporations.
1. Transaction accounts include all deposits against
which the account holder is permitted to make withdrawals by negotiable or transferable instruments, payment
orders of withdrawal, or telephone or preauthorized transfers for the purpose of making payments to third persons
or others. However, accounts subject to the rules that
permit no more than six preauthorized, automatic, or
other transfers per month (of which no more than three
may be by check, draft, debit card, or similar order
payable directly to third parties) are savings deposits, not
transaction accounts.
2. The Monetary Control Act of 1980 requires that the
amount of transaction accounts against which the 3 percent reserve requirement applies be modified annually by
80 percent of the percentage change in transaction
accounts held by all depository institutions, determined as
of June 30 each year. Effective with the reserve maintenance period beginning January 1, 1998, for depository
institutions that report weekly, and with the reserve maintenance period beginning January 15, 1998, for institutions that report quarterly, the amount was decreased
from $49.3 million to $47.8 million.
Under the Garn-St Germain Depository Institutions
Act of 1982, the Board adjusts the amount of reservable




Effective date

3
10

1-1-98
1-1-98

0

12-27-90

0

12-27-90

liabilities subject to a zero percent reserve requirement
each year for the succeeding calendar year by 80 percent
of the percentage increase in the total reservable liabilities
of all depository institutions, measured on an annual basis
as of June 30. No corresponding adjustment is made in
the event of a decrease. The exemption applies only to
accounts that would be subject to a 3 percent reserve
requirement. Effective with the reserve maintenance
period beginning January 1, 1998, for depository institutions that report weekly, and with the period beginning
January 15, 1998, for institutions that report quarterly, the
exemption was raised from $4.4 million to $4.7 million.
3. The reserve requirement was reduced from 12 percent to 10 percent on April 2, 1992, for institutions that
report weekly, and on April 16, 1992, for institutions that
report quarterly.
4. For institutions that report weekly, the reserve requirement on nonpersonal time deposits with an original
maturity of less than 1 Vi years was reduced from 3 percent to 1 Vi percent for the maintenance period that began
December 13, 1990, and to zero for the maintenance
period that began December 27, 1990. For institutions
that report quarterly, the reserve requirement on nonpersonal time deposits with an original maturity of less than
Wi years was reduced from 3 percent to zero on January 17, 1991.
The reserve requirement on nonpersonal time deposits
with an original maturity of 1 Vi years or more has been
zero since October 6, 1983.
5. The reserve requirement on Euroccurency liabilities
was reduced from 3 percent to zero in the same manner
and on the same dates as the reserve requirement on
nonpersonal time deposits with an original maturity of
less than 1XA years (see note 4).

298

84th Annual Report, 1997

12. Initial Margin Requirements under Regulations T, U, G, and X
Percent of market value
Effective date
1934, Oct. 1 .
1936, Feb. 1 .
Apr. 1 .
1937, Nov. 1.
1945, Feb. 5 .
July 5 .
1946, Jan. 21
1947, Feb. 21
1949, Mar. 3 .
1951, Jan. 17
1953, Feb. 20
1955, Jan. 4 .
Apr. 23
1958, Jan. 16
Aug. 5.
Oct. 16
1960, July 28
1962, July 10
1963, Nov. 6.
1968, Mar. 11
June 8.
1970, May 6.
1971, Dec. 6.
1972, Nov. 24
1974, Jan. 3 .

Margin
stocks
25^5
25-55
55
40
50
75
100
75
50
75
50
60
70
50
70
90
70
50
70
70
80
65
55
65
50

NOTE. These regulations, adopted by the Board of
Governors pursuant to the Securities Exchange Act of
1934, limit the amount of credit to purchase and carry
"margin securities" (as defined in the regulations) when
such value is collateralized by securities. Margin requirements on securities are the difference between the market
value (100 percent) and the maximum loan value of
collateral as prescribed by the Board. Regulation T was
adopted effective October 15, 1934; Regulation U, effective May 1, 1936; Regulation G, effective March 11,
1968; and Regulation X, effective November 1, 1971.
On January 1, 1977, the Board of Governors for the
first time established in Regulation T the initial margin




Convertible
bonds

Short sales,
Tonly 1

*50'
60
50
50
50
50

'50'
50
75
100
75
50
75
50
60
70
50
70
90
70
50
70
70
80
65
55
65
50

required for writing options on securities, setting it at
30 percent of the current market value of the stock
underlying the option. On September 30, 1985, the Board
changed the required margin on individual stock options,
allowing it to be the same as the option maintenance
margin required by the appropriate exchange or selfregulatory organization; such maintenance margin rules
must be approved by the Securities and Exchange
Commission.
1. From October 1, 1934, to October 31, 1937, the
requirement was the margin "customarily required" by
the brokers and dealers.

Statistical Tables 299
13. Principal Assets and Liabilities and Number of Insured Commercial Banks
in the United States, by Class of Bank, June 30, 1997 and 1996
Millions of dollars, except as noted
Member banks
Item

Total
Total

National

State

Nonmember
banks

1997
ASSETS

3,412,288
2,593,208
2,589,450
819,080

2,616,982
2,018,481
2,016,325
598,501

1,974,445
1,567,741
1,565,973
406,705

642,536
450,740
450,352
191,796

795,307
574,727
573,125
220,580

298,280
520,800
242,325

190,202
408,298
200,589

130,366
276,339
148,152

59,837
131,959
52,437

108,078
112,502
41,736

2,769,594
49,463
725,105
2,163,105
402,005

2,094,630
42,445
557,081
1,598,717
315,374

1,573,413
31,929
415,078
1,204,788
231,752

521,217
10,516
142,003
393,928
83,622

674,964
7,017
168,024
564,388
86,630

9,259

Loans and investments
Gross loans
Net loans
Investments
U.S. Treasury and federal agency
securities
Other
Cash assets, total

3,632

2,646

986

5,627

LIABILITIES

Deposits, total
Interbank
Other transaction
Other nontransaction
Equity capital
Number of banks

1996 r
ASSETS

Loans and investments
Gross loans
Net loans
Investments
U.S. Treasury and federal agency
securities
Other
Cash assets, total

3,208,537
2,398,633
2,394,569
809,904

827,250
589,707
587,924
237,543

1,833,815
1,434,639
1,432,835
399,176

547,472
374,287
373,810
173,185

827,250
589,707
587,924
237,543

310,423
499,481
208,992

116,790
120,753
42,293

136,589
262,586
131,457

57,044
116,141
35,243

116,790
120,753
42,293

2,601,770
41,738
724,573
2,039,109
365,064

695,640
6,654
181,001
582,040
90,097

1,486,541
26,990
423,587
1,136,828
207,372

419,588
8,093
119,986
320,241
67,594

695,640
6,654
181,001
582,040
90,097

9,651

3,774

2,753

1,021

5,877

LIABILITIES

Deposits, total
Interbank
Other transaction
Other nontransaction
Equity capital
Number of banks

NOTE. Components may not sum to totals because of rounding,
r. Some data have been revised.




300 84th Annual Report, 1997
14. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items—
Year-End 1918-97, and Month-End 1997
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding

Period

U.S. Treasury and
federal agency securities

Total

Bought
outright'

Held
under
repurchase
agreement2

Loans

Float3

All
other4

Other
Federal
Reserve
assets5

Total

Gold
stock6

Special
drawing
rights
certificate
account

Treasury
currency
outstanding 7

1918
1919

239
300

239
300

0
0

1,766
2,215

199
201

294
575

0
0

2,498
3,292

2,873
2,707

1,795
1,707

1920
1921
1922
1923
1924

287
234
436
134
540

287
234
436
80
536

0
0
0
54
4

2,687
1,144
618
723
320

119
40
78
27
52

262
146
273
355
390

0
0
0
0
0

3,355
1,563
1,405
1,238
1,302

2,639
3,373
3,642
3,957
4,212

1,709
1,842
1,958
2,009
2,025

1925
1926
1927
1928
1929

375
315
617
228
511

367
312
560
197
488

8
3
57
31
23

643
637
582
1,056
632

63
45
63
24
34

378
384
393
500
405

0
0
0
0
0

1,459
1,381
1,655
1,809
1,583

4,112
4,205
4,092
3,854
3,997

1,977
1,991
2,006
2,012
2,022

1930
1931
1932
1933
1934

739
817
1,855
2,437
2,430

686
775
1,851
2,435
2,430

43
42
4
2
0

251
638
235
98
7

21
20
14
15
5

372
378
41
137
21

0
0
0
0
0

1,373
1,853
2,145
2,688
2,463

4,306
4,173
4,226
4,036
8,238

2,027
2,035
2,204
2,303
2,511

1935
1936
1937
1938
1939

2,431
2,430
2,564
2,564
2,484

2,430
2,430
2,564
2,564
2,484

1
0
0
0
0

5
3
10
4
7

12
39
19
17
91

38
28
19
16
11

0
0
0
0
0

2,486
2,500
2,612
2,601
2,593

10,125
11,258
12,760
14,512
17,644

2,476
2,532
2,637
2,798
2,963

1940
1941
1942
1943
1944

2,184
2,254
6,189
11,543
18,846

2,184
2,254
6,189
11,543
18,846

0
0
0
0
0

3
3
6
5
80

80
94
471
681
815

8
10
14
10
4

0
0
0
0
0

2,274
2,361
6,679
12,239
19,745

21,995
22,737
22,726
21,938
20,619

3,087
3,247
3,648
4,094
4,131

1945
1946
1947
1948
1949

24,252
23,350
22,559
23,333
18,885

24,252
23,350
22,559
23,333
18,885

0
0
0
0
0

249
163
85
223
78

578
580
535
541
534

2
1
1
1
2

0
0
0
0
0

15,091
24,093
23,181
24,097
19,499

20,065
20,529
22,754
24,244
24,427

4,339
4,562
4,562
4,589
4,598

1950
1951
1952
1953
1954

20,778
23,801
24,697
25,916
24,932

20,725
23,605
24,034
25,318
24,888

53
196
663
598
44

67
19
156
28
143

1,368
1,184
967
935
808

3
5
4
2
1

0
0
0
0
0

22,216
25,009
25,825
26,880
25,885

22,706
22,695
23,187
22,030
21,713

4,636
4,709
4,812
4,894
4,985

1955
1956
1957
1958
1959

24,785
24,915
24,238
26,347
26,648

24,391
24,610
23,719
26,252
26,607

394
305
519
95
41

108
50
55
64
458

1,585
1,665
1,424
1,296
1,590

29
70
66
49
75

0
0
0
0
0

26,507
26,699
25,784
27,755
28,771

21,690
21,949
22,781
20,534
19,456

5,008
5,066
5,146
5,234
5,311

27,384
1960
28,881
1961
30,820
1962
33,593
1963
37,044
1964


26,984
30,478
28,722
33,582
36,506

400
159
342
11
538

33
130
38
63
186

1,847
2,300
2,903
2,600
2,606

74
51
110
162
94

0
0
0
0
0

29,338
31,362
33,871
36,418
39,930

17,767
16,889
15,978
15,513
15,388

5,398
5,585
5,567
5,578
5,405

http://fraser.stlouisfed.org/ table.
For notes see end of
Federal Reserve Bank of St. Louis

Statistical Tables 301
14.— Continued

Factors absorbing reserve funds
Deposits, other
than reserves, with
Federa Reserve Banks

Currency
in
circulation

Treasury
cash
holdings8

4,951
5,091

Member bank
Other
Federal
Reserve
accounts 5

Required
clearing
balances

reserves9

Other
Federal
Reserve
liaWith
bilities
Federal
and
capital5 Reserve
Banks

Currency
and
coin10

Required ''

Excess11

Treasury

Foreign

288
385

51
51

96
73

25
28

118
208

0 "
0

0
0

,636
,890

0
0

1,585
1,822

51
68

5,325
4,403
4,530
4,757
4,760

218
214
225
213
211

57
96
11
38
51

5
12
3
4
19

18
15
26
19
20

298
285
276
275
258

0
0
0
0
0

0
0
0
0
0

,781
,753
,934
,898
2,220

0
0
0
0
0

0
1,654
0
1,884
2,161

0
99
0
14
59

4,817
4,808
4,716
4,686
4,578

203
201
208
202
216

16
17
18
23
29

8
46
5
6
6

21
19
21
21
24

272
293
301
348
393

0
0
0
0
0

0
0
0
0
0

2,212
2,194
2,487
2,389
2,355

0
0
0
0
0

2,256
2.250
2,424
2,430
2,428

-44
-56
63
-41
-73

4,603
5,360
5,388
5,519
5,536

211
222
272
284
3,029

19
54
8
3
121

6
79
19
4
20

22
31
24
128
169

375
354
355
360
241

0
0
0
0
0

0
0
0
0
0

2,471
1,961
2,509
2,729
4,096

0
0
0
0
0

2,375
1,994
1,933
1,870
2,282

96
-33
576
859
1,814

5,882
6,543
6,550
6,856
7,598

2,566
2,376
3,619
2,706
2,409

544
244
142
923
634

29
99
172
199
397

226
160
235
242
256

253
261
263
260
251

0
0
0
0
0

0
0
0
0
0

5,587
6,606
7,027
8,724
11,653

0
0
0
0
0

2,743
4,622
5,815
5,519
6,444

2,844
1,984
1,212
3,205
5,209

8,732
11,160
15,410
20,499
25,307

2,213
2,215
2,193
2,303
2,375

368
867
799
579
440

1,133
774
793
1,360
1,204

599
586
485
356
394

284
291
256
339
402

0
0
0
0
0

0
0
0
0
0

4,026
12,450
13,117
12,886
14,373

0
0
0
0
0

7,411
9,365
11,129
11,650
12,748

6,615
3,085
1,988
1,236
1,625

28,515
28,952
28,868
28,224
27,600

2,287
2,272
,336
,325
,312

977
393
870
1,123
821

862
508
392
642
767

446
314
569
547
750

495
607
563
590
106

0
0
0
0
0

0
0
0
0
0

15,915
16,139
17,899
20,479
16,568

0
0
0
0
0

14,457
15,577
16,400
19,277
15,550

1,458
562
1,499
1,202
1,018

27,741
29,206
30,433
30,781
30,509

,293
,270
,270
761
796

668
247
389
346
563

895
526
550
423
490

565
363
455
493
441

714
746
111
839
907

0
0
0
0
0

0
0
0
0
0

17,681
20,056
19,950
20,160
18,876

0
0
0
0
0

16,509
19,667
20,520
19,397
18,618

1,172
389
-570
763
258

31,158
31,790
31,834
32,193
32,591

767
775
761
683
391

394
441
481
358
504

402
322
356
272
345

554
426
246
391
694

925
901
998
1,122
841

0
0
0
0
0

0
0
0
0
0

19,005
19,059
19,034
18,504
18,174

0
0
0
0
310

18,903
19,089
19,091
18,574
18,619

102
-30
-57
-70
-135

32,869
377
33,918
422
35,338
380
37,692
361
39,619
612


485
465
597
880
820

217
279
247
171
229

533
320
393
291
321

941
1,044
1,007
1,065
1,036

0
0
0
0
0

0
0
0
0
0

17,081
17,387
17,454
17,049
18,086

2,544
2,544
3,262
4,099
4,151

18,988
18,988
20,071
20,677
21,663

637
96
645
471
574



Other

302 84th Annual Report, 1997
14. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related Items—
Year-End 1918-97 and Month-End 1997—Continued
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding

Period

U.S. Treasury and
federal agency securities

Total

Bought
outright'

Held
under
repurchase
agreement2

Other
All
Federal
other4 Reserve
assets5

Gold
stock6

Loans

Float3

290
661
170
0
0

137
173
141
186
183

2,248
2,495
2,576
3,443
3,440

187
193
164
58
64

0
0
0
0
2,743

43,340
47,177
52,031
56,624
64,584

Special
drawing
rights
certificate
account

13,733
13,159
11,982
10,367
10,367

Total

Treasury
currency
outstanding 7

•5,575
6,317
6,784
6,795
6,852

1965
1966
1967
1968
1969

40,768
44,316
49,150
52,937
57,154

40,478
43,655
48,980
52,937
7,1545

1970
1971
1972
1973
1974

62,142
70,804
71,230
80,495
85,714

62,142
69,481
71,119
80,395
84,760

0
1,323
111
100
954

335
39
1,981
1,258
299

4,261
4,343
3,974
3,099
2,001

57
261
106
68
999

1,123
1,068
1,260
1,152
3,195

67,918
76,515
78,551
86,072
92,208

10,732
10,132
10,410
11,567
11,652

400
400
400
400
400

7,147
7,710
8,313
8,716
9,253

1975
1976
1977
1978
1979

94,124
104,093
111,274
118,591
126,167

92,789
100,062
108,922
117,374
124,507

1,335
4,031
2,352
1,217
1,660

211
25
265
1,174
1,454

3,688
2,601
3,810
6,432
6,767

1,126
991
954
587
704

3,312
3,182
2,442
4,543
5,613

102,461
110,892
118,745
131,327
140,705

11,599
11,598
11,718
11,671
11,172

500
1,200
1,250
1,300
1,800

10,218
10,810
11,331
11,831
13,083

1980
1981
1982
1983
1984

130,592
140,348
148,837
160,795
169,627

128,038
136,863
144,544
159,203
167,612

2,554
3,485
4,293
1,592
2,015

1,809
1,601
717
918
3,577

4,467
1,762
2,735
1,605
833

776
195
1,480
418
0

8,739
9,230
9,890
8,728
12,347

146,383
153,136
63,659
172,464
186,384

11,160
11,151
11,148
11,121
11,096

2,518
3,318
4,618
4,618
4,618

13,427
13,687
13,786
15,732
16,418

1985
1986
1987
1988
1989

191,248
221,459
231,420
247,489
235,417

186,025
205,454
226,459
240,628
233,300

5,223
16,005
4,961
6,861
2,117

3,060
1,565
3,815
2,170
481

988
1,261
811
1,286
1,093

0
0
0
0
0

15,302
17,475
15,837
18,803
39,631

210,598
241,760
251,883
269,748
276,622

11,090
11,084
11,078
11,060
11,059

4,718
5,018
5,018
5,018
8,518

17,075
17,567
18,177
18,799
19,628

1990
1991
1992
1993
1994
1995
1996
1997

259,786
288,429
308,518
349,865
378,746
394,693
414,715
455,260

241,432
272,531
300,424
336,653
368,156
380,831
393,132
431,420

18,354
15,898
8,094
13,212
10,590
13,862
21,583
23,840

190
218
675
94
223
136
85
2,035

2,566
1,026
3,350
963
740
231
5,297
561

0
0
0
0
0
0
0
0

39,880
34,524
30,278
33,394
33,441
33,483
32,222
32,044

302,421
324,197
342,820
384,316
413,150
428,543
452,319
489,901

11,058
11,059
11,056
11,053
11,051
11,050
11,048
11,047

10,018
10,018
8,018
8,018
8,018
10,168
9,718
9,200

20,404
21,017
21,452
22,101
22,912
23,951
24,798
25,644




Statistical Tables 303
14.—Continued

Factors absorbing reserve funds

Currency
circulation

Deposits, other
than reserves, with
Federa 1 Reserve Banks
Treasury
cash
holdings

8

Treasury

Member bank
Other
Federal
Reserve
ac-

Foreign

Other

counts ~

Required
ing
balances

reserves9

Other
Federal
Reserve
liaWith
bilities
Federal
and
Reserve
capital5 Banks

Currency
and
coin 10

ExRequired '' cess11-12

211
-147
-773
-1,353
0

0
0
0
0
0

0
0
0
0
1,919

18,447
19,779
21,092
21,818
22,085

4,163
4,310
4,631
4,921
5,187

22,848
24,321
25,905
27,439
28,173

1,233
999
840
1,419 l3
1,275 13

0
0
0
0
0

0
0
0
0
0

1,986
2,131
2,143
2,669
2,935

24,150
27,788
25,647
27,060
25,843

5,423
5,743
6,216
6,781
7,370

-460
30,033
1,035
32,496
98 12
32,044
35,268 -1,360
37,011 -3,798

353
352
379
368
429

1,090
1,357
1,187
1,256
1,412

0
0
0
0
0

0
0
0
0
0

2,968
3,063
3,292
4,275
4,957

26,052
25,158
26,870
31,152
29,792

8,036
8,628
9,421
10,538
11,429

35,197
35,461
37,615
42,694
44,217

3,062
4,301
5,033
3,661
5,316

411
505
328
191
253

617
781
1,033
851
867

0
0
0
0
0

0
117
436
,013
,126

4,671
5,261
4,990
5,392
5,952

27,456
25,111
26,053
20,413
20,693

13,654
15,576
16,666
17,821

675
40,558
42,145 -1,442
1,328
41,391
-945
39,179

550
447
454
395
450

9,351
7,588
5,313
8,656
6,217

480

0

244
347
589

1,041
917
1,027
548
1,298

0
0
0

,490
,812
,687
,605
,618

5,940
6,088
7,129
7,683
8,486

27,141
46,295
40,097
37,742
36,713

561
636
508
377
335
270
249
225

8,960
17,697
7,492
14,809
7,161
5,979
7,742
5,444

369
968
206
386
250
386
167
457

242
1,706
372
397
876
932
892
900

0
0
0
0
0
0
0
0

1,963
3,945
5,897
6,332
4,239
5,171
6,601
6,667

8,147
8,113
7,984
9,292
11,959
12,342
13,829
15,500

36,695
25,467
26,181
28,614
26,550
24,441
17,922
24,171

42,056
44,663
47,226
50,961
53,950

760
1,176
1,344
695
596

668
416
1,123
703
1,312

150
174
135
216
134

355
588
563
747
807

57,903
61,068
66,516
72,497
79,743

431
460
345
317
185

1,156
2,020
1,855
2,542
2,113

148
294
325
251
418

86,547
93,717
103,811
114,645
125,600

483
460
392
240
494

7,285
10,393
7,114
4,196
4,075

136,829
144,774
154,908
171,935
183,796

441
443
429
479
513

197,488
211,995
230,205
247,649
260,456
286,965
307,759
334,706
365,299
403,762
424,192
450,660
482,428

287




0

n.a.

n.a.

-238
-232
-182
-700
-901

-1,103
-1,535
-1,265
-893
-2,835

n.a.

l4

304 84th Annual Report, 1997
14. Reserves of Depository Institutions, Federal Reserve Bank Credit, and Related ItemsYear-End 1918-97, and Month-End 1997—Continued
Millions of dollars
Factors supplying reserve funds
Federal Reserve Bank credit outstanding

Period

Total

1997
Jan. ...
Feb. . . .
Mar. . . .
Apr. ...
May . . .
June ...
July . . . .
Aug. ...
Sept. ...
Oct. ...
Nov. ...
Dec. . . .

Gold
stock6

Special
drawing
rights
certificate
account

Treasury
currency
outstanding 7

11,048
11,051
11,050
11,051
11,051
11,050
11,051
11,050
11,050
11,050
11,051
11,047

9,400
9,400
9,200
9,200
9,200
9,200
9,200
9,200
9,200
9,200
9,200
9,200

25,047
25,111
25,173
25,231
25,284
25,335
25,376
25,414
25,462
25,532
25,588
25,644

U.S. Treasury and
federal agency securities

Bought
outright'

Held
under
repurchase
agreement2

402,771
405,213
408,651
455,850
416,394
428,984
416,117
423,609
426,665
423,043
434,765
455,260

393,766
392,809
397,070
404,483
407,094
412,411
409,048
410,440
412,747
411,477
420,567
431,420

9,005
12,404
11,581
51,367
9,300
16,573
7,069
13,169
13,918
11,566
14,198
23,840

Loans

Float3

30
36
3,998
156
571
1,894
411
468
313
175
90
2,035

363
601
381
432
227
592
222
-34
738
14
395
561

NOTE. For a description of figures and discussion of
their significance, see Banking and Monetary Statistics,
1941-1970 (Board of Governors of the Federal Reserve
System, 1976), pp. 507-23. Components may not sum to
totals because of rounding.
. . . Not applicable.
n.a. Not available.
1. Beginning in 1969, includes securities loaned—
fully guaranteed by U.S. government securities pledged
with Federal Reserve Banks—and excludes securities
sold and scheduled to be bought back under matched
sale-purchase transactions.
2. Beginning December 1, 1966, includes federal
agency obligations held under repurchase agreements and
beginning September 29, 1971, includes federal agency
issues bought outright.
3. Beginning in 1960, figures reflect a minor change in
concept; see Federal Reserve Bulletin, vol. 47 (February
1961), p. 164.
4. Principally acceptances and, until August 21, 1959,
industrial loans, authority for which expired on that date.
5. For the period before April 16, 1969, includes the
total of Federal Reserve capital paid in, surplus, other




Other
Federal
All
other4 Reserve
assets5

0
0
0
0
0
0
0
0
0
0
0
0

30,971
29,365
30,275
33,263
30,050
32,517
31,437
29,886
31,682
32,946
30,993
32,044

Total

434,135
435,215
443,305
489,702
447,242
463,987
448,188
453,929
459,398
456,178
466,244
489,901

capital accounts, and other liabilities and accrued dividends, less the sum of bank premises and other assets,
and is reported as "Other Federal Reserve accounts";
thereafter, "Other Federal Reserve assets" and "Other
Federal Reserve liabilities and capital" are shown
separately.
6. Before January 30, 1934, includes gold held in
Federal Reserve Banks and in circulation.
7. Includes currency and coin (other than gold) issued
directly by the Treasury. The largest components are
fractional and dollar coins. For details see "Currency and
Coin in Circulation," Treasury Bulletin.
8. Coin and paper currency held by the Treasury, as
well as any gold in excess of the gold certificates issued
to the Reserve Bank.
9. Beginning in November 1979, includes reserves
of member banks, Edge Act corporations, and U.S. agencies and branches of foreign banks. Beginning on
November 13, 1980, includes reserves of all depository
institutions.
Beginning in 1984, data on "Currency and coin" and
"Required" and "Excess" reserves changed from daily
to biweekly basis.

Statistical Tables 305
14.— Continued

Factors absorbing reserve funds
Deposits, other
than reserves, with
Federal Reserve Banks

Currency
in
circulation

Treasury
cash
holdings 8

438,394
441,655
444,544
446,632
451,141
453,624
455,074
459,479
458,262
461,542
471,216
482,428

249
280
313
309
330
343
311
278
255
237
234
225

Treasury

Foreign

Other

Other
Federal
Reserve
accounts 5

6,770
5,258
5,945
52,215
5,174
16,368
5,014
4,700
7,692
4,616
5,127
5,444

167
229
916
169
177
178
175
169
188
190
167
457

359
345
350
348
325
321
325
327
386
337
509
900

0
0
0
0
0
0
0
0
0
0
0
0

10. Between December 1, 1959, and November 23,
1960, part was allowed as reserves; thereafter all was
allowed.
11. Estimated through 1958. Before 1929, data were
available only on call dates (in 1920 and 1922 the call
date was December 29). Beginning on September 12,
1968, the amount is based on close-of-business figures for
the reserve period two weeks before the report date.
12. Beginning with week ending November 15, 1972,
includes $450 million of reserve deficiencies on which
Federal Reserve Banks are allowed to waive penalties for
a transition period in connection with bank adaptation to
Regulation J as amended, effective November 9, 1972.
Allowable deficiencies are as follows (beginning with
first statement week of quarter, in millions): 1973—Ql,
$279; Q2, $172; Q3, $112; Q4, $84; 1974—Ql, $67; Q2,
$58. The transition period ended with the second quarter
of 1974.




Required
clearing
bal-

6,764
6,815
6,756
6,918
6,887
6,952
6,893
6,757
6,738
6,787
6,711
6,667

Other
Federal
Reserve
liaWith
bilities
Federal
and
capital5 Reserve
Banks

13,384
14,135
14,816
14,977
16,037
15,517
14,785
16,144
16,536
16,328
15,559
15,500

Member bank
reserves9

Currency
and
coin l0

ReExquired '' cess11-12

13,543
12,061
15,089
13,616
12,705
16,267
11,239
11,740
15,053
11,922
12,560
24,171

13. For the period before July 1973, includes certain
deposits of domestic nonmember banks and foreignowned banking institutions held with member banks and
redeposited in full with Federal Reserve Banks in connection with voluntary participation by nonmember institutions in the Federal Reserve System program of credit
restraint.
As of December 12, 1974, the amount of voluntary
nonmember bank and foreign-agency and branch deposits
at Federal Reserve Banks that are associated with marginal reserves are no longer reported. However, two
amounts are reported: (1) deposits voluntarily held as
reserves by agencies and branches of foreign banks operating in the United States and (2) Eurodollar liabilities.
14. Adjusted to include waivers of penalties for reserve deficiencies, in accordance with change in Board
policy effective November 19, 1975.

306 84th Annual Report, 1997
15. Banking Offices, and Banks Affiliated with Bank Holding Companies in the United
States, December 31, 1996 and 1997
Commercial banks !
Type of office

Member

Total
Total

Nonmember
Total

National

State

Statechartered
savings
banks

All banking offices
BANKS

Number, Dec. 31, 1996 ..

9,993

9,487

3,698

2,684

1,014

5,789

506

224

207

77

61

16

130

17

-587

-565

-297

-215

-82

-268

-22

-47
0

-33
7

-11
76

-8
29

-3
47

-22
-69

-14
-7

Changes during 1997
New banks
Banks converted
into branches
Ceased banking
operation2
Others
Net change

-410

-384

-155

-133

-22

-229

-26

Number, Dec. 31,1997 ..

9,583

9,103

3,543

2,551

992

5,560

480

62,644

59,139

40,828

31,211

9,617

18,311

3,505

3,348

3,122

2,294

1,771

523

828

226

587
-1,784
0

575
-1,636
434

336
-1,238
2,817

241
-941
2,878

95
-297
-61

239
-398
-2,383

12
-148
-434

2,151

2,495

4,209

3,949

260

-1,714

-344

64,795

61,634

45,037

35,160

9,877

16,597

3,161

BRANCHES AND
ADDITIONAL OFFICES

Number, Dec. 31,1996 ..
Changes during 1997
New branches
Branches converted
from banks
Discontinued2
Other3
Net change
Number, Dec. 31, 1997 ..

Banks affiliated with bank holding companies
BANKS

Number, Dec. 31,1996 ..

7,366

7,241

2,981

2,161

820

4,260

125

323

306

125

92

33

181

17

-514

-501

-268

-194

-74

-233

-13

-41
0

-34
3

-14
65

-11
29

-3
36

-20
-62

-7
-3

Changes during 1997
BHC-affiliated
new banks
Banks converted
into branches
Ceased banking
operation2
Other3
Net change

-232

-226

-92

-84

-8

-134

-6

Number, Dec. 31,1997 ..

7,134

7,015

2,889

2,077

812

4,126

119

1. For purposes of this table, banks are entities that
are defined as banks in the Bank Holding Company Act
as amended and implemented in Federal Reserve Regulation Y. Generally, a bank is any institution that accepts
demand deposits and is engaged in the business of
making commercial loans or any institution that is




defined as an insured bank in section 3(h) of the FDIC
Act. Covers entities in the United States and its territories
and possessions (affiliated insular areas).
2. Institutions that no longer meet the Regulation Y
definition of bank.
3. Interclass changes and sales of branches.

Statistical Tables 307
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997
Bank of the West, El Paso, Texas to acquire
assets and liabilities of one branch of NationsBank of Texas, N.A., Dallas, Texas
SUMMARY REPORT BY THE ATTORNEY GENERAL

(1-16-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(2-3-96)
The applicant has assets of $273 million; the target
has assets of $55 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Marine Midland Bank, Buffalo, New York to
merge with First Federal Savings and Loan
Association of Rochester, Rochester, New York
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-2-96)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(2-3-97)
The applicant has assets of $22 billion; the target
has assets of $7 billion. The parties operate in the
same markets. The banking factors and considerations relating to the convenience and needs of the
community are consistent with approval.

SUMMARY REPORT BY THE ATTORNEY GENERAL

(3-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(2-20-97)
The applicant has assets of $299 million; the target
has assets of $2 million. The parties operate in the
same market. The banking factors and considerations relating to the convenience and needs of the
community are consistent with approval.
Santa Barbara Bank and Trust Company,
Santa Barbara, California to merge with First
Valley Bank, Lompoc, California
SUMMARY REPORT BY THE ATTORNEY GENERAL

(2-13-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(2-26-97)
The applicant has assets of $1.2 billion; the target
has assets of $131 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Community Bank & Trust Company, Neosho,
Missouri to merge with The Diamond Bank,
Diamond, Missouri
SUMMARY REPORT BY THE ATTORNEY GENERAL

Humboldt Bank, Eureka, California to acquire
assets and liabilities o/the Garberville branch of
California Federal Bank, F.S.B., San Francisco,
California

(3-10-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(1-30-97)
The proposed transaction would not be significantly adverse to competition.

(3-12-97)
The applicant has assets of $177 million; the target
has assets of $19 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(2-12-96)
The applicant has assets of $208 million; the target
has assets of $26 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Tri-City Bank and Trust Company, Blountville,
Tennessee to acquire assets and liabilities of the
Kingsport, Tennessee branch of Greene County
Bank, Greeneville, Tennessee



First United Bank, Boca Raton, Florida to
merge with Island National Bank and Trust
Company, Palm Beach, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(2-13-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(3-19-97)

308 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
The applicant has assets of $557 million; the target
has assets of $131 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Republic Security Bank, West Palm Beach,
Florida to merge with Family Bank, Hallandale,
Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(3-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(4-2-97)
The applicant has assets of $326 million; the target
has assets of $231 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

Johnstown Bank & Trust Company, Johnstown, Pennsylvania to acquire assets and liabilities of three branches of National City Bank of
Pennsylvania, Pittsburgh, Pennsylvania
SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-1-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-9-97)
The applicant has assets of $866 million; the targets have assets of $72 million. The parties operate in the same markets. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Security Savings Bank, Gowrie, Iowa to acquire
assets and liabilities of the Boxholm, Iowa,
branch of Boone Bank & Trust Company,
Boone, Iowa
SUMMARY REPORT BY THE ATTORNEY GENERAL

U.S. Bank of Utah, Salt Lake City, Utah to
merge with Sun Capital Bank, Saint George,
Utah

(4-10-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(3-27-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(4-3-97)
The applicant has assets of $812 million; the target
has assets of $73 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

(5-14-97)
The applicant has assets of $30 million; the target
has assets of $4 million. The parties do not operate
in the same market. The banking factors and considerations relating to the convenience and needs
of the community are consistent with approval.
Huron Community Bank, East Tawas, Michigan to acquire assets and liabilities of the
Au Gres branch of Citizens Bank, Flint,
Michigan
SUMMARY REPORT BY THE ATTORNEY GENERAL

Minden Bank & Trust Company, Minden,
Louisiana to merge with First Federal Savings
Bank, Shreveport, Louisiana

(5-1-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(4-10-97)
The proposed transaction would not be significantly adverse to competition.

(5-16-97)
The applicant has assets of $84 million; the target
has assets of $6 million. The parties do not operate
in the same market. The banking factors and considerations relating to the convenience and needs
of the community are consistent with approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(4-29-97)
The applicant has assets of $250 million; the target
has assets of $36 million. The parties operate in
the same markets. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.



Colonial Bank, Montgomery, Alabama to merge
with Great Southern Bank, West Palm Beach,
Florida

Statistical Tables 309
16.—Continued

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-13-97)
The proposed transaction would not be significantly adverse to competition.

(5-27-97)
The applicant has assets of $14 billion; the target
has assets of $888 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-21-97)
The applicant has assets of $5 billion; the target
has assets of $119 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Colonial Bank, Montgomery, Alabama to merge
with First Commerce Bank of Polk County,
Winter Haven, Florida

Gulf Bank, Gulf Shores, Alabama to merge with
First Bank of Baldwin County, Robertsdale,
Alabama
SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-13-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-13-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-21-97)
The applicant has assets of $5 billion; the target
has assets of $106 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

(5-29-97)
The applicant has assets of $40 million; the target
has assets of $35 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience and
needs of the community are consistent with
approval.
Summit Bank, Hackensack, New Jersey to
merge with Collective Bank, Egg Harbor City,
New Jersey
SUMMARY REPORT BY THE ATTORNEY GENERAL

Consolidated Bank and Trust Company, Richmond, Virginia to acquire assets and liabilities of
three branches of First Union National Bank of
Virginia, Roanoke, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(4-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-22-97)
The applicant has assets of $95 million; the targets
have assets of $27 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Banco Popular de Puerto Rico, Hato Rey,
Puerto Rico to merge with Roig Commercial
Bank, Humacao, Puerto Rico
SUMMARY REPORT BY THE ATTORNEY GENERAL

(3-27-97)
The proposed transaction would not be significantly adverse to competition.



(5-13-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-29-97)
The applicant has assets of $21 billion; the target
has assets of $6 billion. The parties operate in the
same markets. The banking factors and considerations relating to the convenience and needs of the
community are consistent with approval.
First Security Bank of Nevada, Las Vegas,
Nevada to merge with American Bank of Commerce, Las Vegas, Nevada
SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-23-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(5-30-97)
The applicant has assets of $467 million; the target
has assets of $318 million. The parties operate in
the same market. The banking factors and consid-

310 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
erations relating to the convenience and needs of
the community are consistent with approval.

The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

Fifth Third Bank, Cincinnati, Ohio to merge
with Suburban FSB, Cincinnati, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-23-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(6-30-97)
The applicant has assets of $5 billion; the target
has assets of $4 billion. The parties operate in the
same markets. The banking factors and considerations relating to the convenience and needs of the
community are consistent with approval.

(6-12-97)
The applicant has assets of $10 billion; the target
has assets of $219 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

Triangle Bank, Raleigh, North Carolina to
acquire assets and liabilities of eight branches
of United Carolina Bank, Whiteville, North
Carolina and two branches of Branch Banking and Trust Company, Winston-Salem,
North Carolina

1st United Bank, Boca Raton, Florida to merge
with Seaboard Savings Bank, F.S.B., Stuart,
Florida

(7-2-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-23-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(6-17-97)
The applicant has assets of $716 million; the target
has assets of $75 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
United Bank, Arlington, Virginia to merge with
Patriot National Bank, Reston, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(5-23-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(6-20-97)
The applicant has assets of $122 million; the target
has assets of $189 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Marshall & Ilsley Bank, Milwaukee, Wisconsin
to merge with Security Bank SSB, Milwaukee,
Wisconsin
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)



(7-1-97)
The applicant has assets of $1 billion; the targets
have assets of $215 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
First Community Bank of Southwest Virginia,
Inc., Tazewell, Virginia to acquire assets and
liabilities of the Clintwood, Virginia, branch of
First Virginia Bank-Mountain Empire, Damascus, Virginia; the Pound, Virginia, branch of
Premier Bank-Central, N.A., Honaker, Virginia; and the Fort Chiswell, Virginia, branch
of Premier Bank-South, N.A., Wytheville,
Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-2-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(7-9-97)
The applicant has assets of $53 million; the targets
have assets of $46 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Centura Bank, Rocky Mount, North Carolina
to acquire assets and liabilities of nine branches

Statistical Tables 311
16.—Continued

of United Carolina Bank, Whiteville, North
Carolina, and five branches of Branch Banking
and Trust Company, Winston-Salem, North
Carolina
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-2-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(7-10-97)
The applicant has assets of $6 billion; the targets
have assets of $200 million. The parties operate in
the same markets. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(7-31-97)
The applicant has assets of $1 billion; the targets
have assets of $752,000. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Provident Bank of Florida, Apollo Beach,
Florida to merge with Enterprise National Bank
of Sarasota, Sarasota, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

Vectra Bank, Denver, Colorado to merge with
Professional Bank, Denver, Colorado
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(7-16-97)
The applicant has assets of $580 million; the target
has assets of $85 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Fifth Third Bank Cincinnati, Cincinnati, Ohio
to acquire assets and liabilities of five branches
of Great Lakes National Bank, Hamilton, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(7-31-97)
The applicant has assets of $10 billion; the targets
have assets of $ 17 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Fifth Third Bank Columbus, Columbus, Ohio
to acquire assets and liabilities of three branches
of Great Lakes National Bank, Hamilton, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)
The proposed transaction would not be significantly adverse to competition.



(7-31-97)
The applicant has assets of $49 million; the target
has assets of $163 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Colonial Bank, Montgomery, Alabama to merge
with First Independence Bank of Florida,
Fort Myers, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(8-5-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-6-97)
The applicant has assets of $6 billion; the target
has assets of $74 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Resource Bank, Virginia Beach, Virginia to
merge with Eastern American Bank, F.S.B.,
Herndon, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(8-5-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-7-97)
The applicant has assets of $115 million; the target
has assets of $87 million. The parties do not
operate in the same market. The banking factors

312 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Community Bank & Trust Company, Neosho,
Missouri to merge with Citizens State Bank,
Galena, Missouri
SUMMARY REPORT BY THE ATTORNEY GENERAL

(8-5-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-12-97)
The applicant has assets of $202 million; the target
has assets of $18 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Colonial Bank, Montgomery, Alabama to merge
with Dadeland Bank, Miami, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(8-25-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-20-97)
The applicant has assets of $4 billion; the target
has assets of $134 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Santa Barbara Bank and Trust, Santa Barbara,
California to merge with Citizens State Bank of
Santa Paula, Santa Paula, California
SUMMARY REPORT BY THE ATTORNEY GENERAL

(7-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-21-97)
The applicant has assets of $1 billion; the target
has assets of $86 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
LeSueur State Bank, LeSueur, Minnesota to
acquire assets and liabilities of the Cloquet,



Minnesota, branch of TCF National Bank,
Minneapolis, Minnesota
SUMMARY REPORT BY THE ATTORNEY GENERAL

(8-25-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(8-28-97)
The applicant has assets of $28 million; the target
has assets of $14 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
First Community Bank, Inc., Buckhannon,
West Virginia to acquire assets and liabilities of
the Man, West Virginia, branch of The Huntington National Bank, Columbus, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(9-9-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-4-97)
The applicant has assets of $341 million; the target
has assets of $51 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Citizens Commercial Bank & Trust Company,
Celina, Ohio to acquire assets and liabilities of
eleven branches of KeyBank, N.A., Cleveland,
Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(9-9-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-8-97)
The applicant has assets of $215 million; the targets have assets of $364 million. The parties operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Crestar Bank, Richmond, Virginia to merge with
American National Savings Bank, F.S.B., Baltimore, Maryland

Statistical Tables 313
16,— Continued

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-9-97)
The proposed transaction would not be significantly adverse to competition.

(9-30-97)
The applicant has assets of $624 million; the target
has assets of $238 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-8-97)
The applicant has assets of $22 billion; the target
has assets of $509 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
F&M Bank—Portage County, Stevens Point,
Wisconsin to acquire assets and liabilities of the
Antigo branch of Security Bank, S.S.B., Milwaukee, Wisconsin
SUMMARY REPORT BY THE ATTORNEY GENERAL

(9-25-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-11-97)
The applicant has assets of $75 million; the target
has assets of $295,000. The parties do not operate
in the same market. The banking factors and considerations relating to the convenience and needs
of the community are consistent with approval.
First Farmers Bank & Trust Company, Converse, Indiana to acquire assets and liabilities of
the Sheridan, Indiana, branch of NBD Bank,
N.A., Indianapolis, Indiana
SUMMARY REPORT BY THE ATTORNEY GENERAL

(9-9-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(9-29-97)
The applicant has assets of $154,000; the target
has assets of $28 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Republic Security Bank, West Palm Beach,
Florida to merge with County National Bank of
South Florida, North Miami Beach, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-9-97)
The proposed transaction would not be significantly adverse to competition.



Community Bank & Trust Company, Neosho,
Missouri to acquire assets and liabilities of two
branches of Citizens Bank of Missouri, Carl
Junction, Missouri
SUMMARY REPORT BY THE ATTORNEY GENERAL

(9-25-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-3-97)
The applicant has assets of $202 million; the targets have assets of $34 million. The parties operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Centura Bank, Rocky Mount, North Carolina
to acquire assets and liabilities of five
branches of NationsBank, N.A., Charlotte,
North Carolina
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-1-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-6-97)
The applicant has assets of $7 billion; the targets
have assets of $73 million. The parties operate in
the same markets. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Weststar Bank, Vail, Colorado to merge with
Western Community Bank, Cedaredge,
Colorado
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-1-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-9-97)

314 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
The applicant has assets of $148 million; the target
has assets of $44 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Citizens Banking Company, Salineville, Ohio to
acquire assets and liabilities of three branches of
Metropolitan Savings Bank of Ohio, Youngstown, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-1-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-10-97)
The applicant has assets of $1 billion; the targets
have assets of $66 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Compass Bank, Birmingham, Alabama to
merge with Gainesville State Bank, Gainesville,
Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-1-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-10-97)
The applicant has assets of $7 billion; the target
has assets of $206 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Citizens Bank, Lawton, Oklahoma to merge
with First Commercial Bank, SSB, Lawton,
Oklahoma
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-29-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-22-97)
The applicant has assets of $121 million; the target
has assets of $42 million. The parties operate in
the same market. The banking factors and consid


erations relating to the convenience and needs of
the community are consistent with approval.
Community Bank and Trust Company, Forest
City, Pennsylvania to acquire assets and liabilities of the Factoryville and Enyon branches
of First Union National Bank, Avondale,
Pennsylvania
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-9-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(10-24-97)
The applicant has assets of $356,000; the targets
have assets of $22 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Centura Bank, Rocky Mount, North Carolina
to acquire assets and liabilities of the Bakersville,
North Carolina, branch of First Union National
Bank, Charlotte, Pennsylvania
SUMMARY REPORT BY THE ATTORNEY GENERAL

(10-9-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-10-97)
The applicant has assets of $7 billion; the target
has assets of $22 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Colonial Bank, Montgomery, Alabama to merge
with Ashville Savings Bank, Ashville, Alabama
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-19-97)
The applicant has assets of $5 billion; the target
has assets of $142 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

Statistical Tables 315
16.—Continued

Colonial Bank, Montgomery, Alabama to merge
with First Central Bank, St. Petersburg, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-19-97)
The applicant has assets of $5 billion; the target
has assets of $55 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Colonial Bank, Montgomery, Alabama to merge
with First National Bank at Bonita Springs,
Bonita Springs, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-21-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-19-97)
The applicant has assets of $5 billion; the target
has assets of $245 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-26-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-2-97)
The applicant has assets of $1 billion; the targets
have assets of $230 million. The parties operate in
the same markets. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Atlantic Bank, Ocean City, Maryland to acquire
assets and liabilities of three branches of Signet
Bank, Richmond, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-21-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-5-97)
The applicant has assets of $57 million; the targets
have assets of $75 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Farmers Bank of Maryland, Annapolis, Maryland to acquire assets and liabilities of three
branches of Signet Bank, Richmond, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

Sabina Bank, Sabina, Ohio to acquire assets and
liabilities of the Ada and Waynesfield branches
of Fifth Third Bank of Western Ohio, Dayton,
Ohio

(11-21-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-5-97)
The applicant has assets of $840 million; the targets have assets of $46 million. The parties operate in the same market. The banking factors and
considerations relating to the convenience and
needs of the community are consistent with
approval.

(11-26-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-26-97)
The applicant has assets of $36 million; the targets
have assets of $31 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Bancfirst, Oklahoma City, Oklahoma to acquire
assets and liabilities of eleven branches of
NationsBank NA, Charlotte, North Carolina



BASIS FOR APPROVAL BY THE FEDERAL RESERVE

First Virginia Bank of Tidewater, Norfolk, Virginia to acquire assets and liabilities of the
Mappsville, Virginia, branch of Signet Bank,
Richmond, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-21-97)
The proposed transaction would not be significantly adverse to competition.

316 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-5-97)
The applicant has assets of $477 million; the target
has assets of $26 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Citizens Banking Company, Salineville, Ohio to
merge with Unibank, Steubenville, Ohio
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-8-97)
The applicant has assets of $1 billion; the target
has assets of $220 million. The parties operate in
the same markets. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Compass Bank, Birmingham, Alabama to
merge with West University Bank, N.A., Houston, Texas
SUMMARY REPORT BY THE ATTORNEY GENERAL

(11-26-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-10-97)
The applicant has assets of $8 billion; the target
has assets of $66 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.

First State B&TC of Larned, Larned, Kansas
to acquire assets and liabilities of the Pratt and
Iuka branches of NationsBank NA, Charlotte,
North Carolina
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-10-97)
The applicant has assets of $56 million; the targets
have assets of $17 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs
of the community are consistent with approval.
Colonial Bank, Montgomery, Alabama to merge
with United American Bank of Central Florida,
Orlando, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-10-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-11-97)
The applicant has assets of $5 billion; the target
has assets of $238 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Capital City Bank, Tallahassee, Florida to
acquire assets and liabilities of five branches of
First Federal Savings and Loan Association of
Florida, Lakeland, Florida
SUMMARY REPORT BY THE ATTORNEY GENERAL

Farmers and Merchants Bank, Stuttgart,
Arkansas to acquire assets and liabilities of the
DeValls Bluff, Arkansas, branch of Union
Planters NB, Memphis, Tennessee

(12-30-97)
The proposed transaction would not be significantly adverse to competition.

SUMMARY REPORT BY THE ATTORNEY GENERAL

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(11-21-97)
The proposed transaction would not be significantly adverse to competition.

(12-17-97)
The applicant has assets of $867 million; the targets have assets of $61 million. The parties operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-10-97)
The applicant has assets of $162 million; the target
has assets of $13 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.



King George State Bank, King George, Virginia to acquire assets and liabilities of one

Statistical Tables 317
16.—Continued

branch of First Union National Bank, Charlotte, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-17-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-17-97)
The applicant has assets of $53 million; the target
has assets of $18 million. The parties operate in
the same market. The banking factors and considerations relating to the convenience and needs of
the community are consistent with approval.
Northern Neck State Bank, Warsaw, Virginia to
acquire assets and liabilities of six branches of
First Union National Bank, Charlotte, Virginia
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-17-97)
The proposed transaction would not be significantly adverse to competition.

operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.
Compass Bank, Birmingham, Alabama to
merge with Fidelity Bank, N.A., University
Park, Texas
SUMMARY REPORT BY THE ATTORNEY GENERAL

(12-11-97)
The proposed transaction would not be significantly adverse to competition.
BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-18-97)
The applicant has assets of $8 billion; the target
has assets of $318 million. The parties do not
operate in the same market. The banking factors
and considerations relating to the convenience
and needs of the community are consistent with
approval.

BASIS FOR APPROVAL BY THE FEDERAL RESERVE

(12-17-97)
The applicant has assets of $143 million; the targets have assets of $68 million. The parties do not




Table 16 continued on next page.

318 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
Mergers Approved Involving Wholly Owned
Subsidiaries of the Same Bank Holding
Company
The following transactions involve banks that are
subsidiaries of the same bank holding company. In
each case, the Summary Report by the Attorney
General indicates that the transaction would not
have a significantly adverse effect on competition
because the proposed merger is essentially a cor-

porate reorganization. The Board of Governors,
the Federal Reserve Bank, or the Secretary of the
Board of Governors, whichever approved the
application, determined that the competitive
effects of the proposed transaction, the financial
and managerial resources and prospects of the
banks concerned, as well as the convenience and
needs of the community to be served were consistent with approval.

Institution'

Assets
(millions
of dollars)

Pullman Bank and Trust Company, Chicago, Illinois
Merger
Pullman Bank of Commerce & Industry, Chicago, Illinois

317

Farmers Bank of Maryland, Annapolis, Maryland
Merger
First Virginia Bank-Central Maryland, Bel Air, Maryland

576

Crestar Bank, Vienna, Virginia
Merger
Citizens Bank of Maryland, Laurel, Maryland
Citizens Bank of Washington, N.A., Washington, D.C

Date of
approval

1-9-97

152
1-22-97

268
18,300

1-29-97

3,900
285

La Salle State Bank, La Salle, Illinois
Merger
Community Bank of Utica, Utica, Illinois

2-13-97
71
13

Adams B&TC, Ogallala, Nebraska
Merger
First State Bank, Lodgepole, Nebraska

2-19-97
174
12

Manufacturers and Traders Trust Company, Buffalo, New York
Merger
The East New York Savings Bank, Brooklyn, New York

2-28-97
10,854
2,041

First Bank of Arkansas, Jonesboro, Arkansas
Merger
First Bank of Arkansas, Wynne, Arkansas

3-27-97
411
52

Pointe Bank, Pembroke Pines, Florida
Merger
Pointe Federal Savings Bank, Boca Raton, Florida

3-28-97
50
108

AmSouth
Merger
AmSouth
AmSouth
AmSouth
AmSouth

Bank of Alabama, Birmingham, Alabama

4-14-97
10,400

Bank
Bank
Bank
Bank

of Florida, Tampa, Florida
of Georgia, Rome, Georgia
of Tennessee, Chattanooga, Tennessee
of Walker County, Jasper, Alabama




7,000
325
1,100
65

Statistical Tables 319
16.—Continued

Institution'

Mercantile Bank of Topeka, Topeka, Kansas
Merger
Mercantile Bank, Overland, Kansas
Old Kent Bank, Grand Rapids, Michigan
Merger
The Algonac Savings Bank, Algonac, Michigan
The Commercial and Savings Bank of St. Clair County,
St. Clair, Michigan
Bank of White Sulphur Springs, White Sulphur Springs,
West Virginia
Merger
Bank of Marlinton, Marlinton, West Virginia

Assets
(millions
of dollars)

322

10,614

257
69

391

Dacotah
Merger
Dacotah
Dacotah
Dacotah
Dacotah
Dacotah

179

4-28-97

321
5-2-97

142
110
5-5-97

66
23
73
54
45

First Virginia Bank-Southwest, Roanoke, Virginia
Merger
First Virginia Bank-Highlands, Covington, Virginia

486

The George Mason Bank, Fairfax, Virginia
Merger
George Mason Bank, National Association, Bethesda, Maryland

784

Colonial
Merger
Colonial
Colonial
Colonial

4-28-97

60

M&I Bank of Janesville, Janesville, Wisconsin
Merger
M&I Bank of Beloit, Beloit, Wisconsin
M&I Bank of Delavan, Delavan, Wisconsin

Clark, South Dakota
Faulkton, South Dakota
Lemmon, South Dakota
Mobridge, South Dakota
Webster, South Dakota

4-24-97

124

1,628

Bank,
Bank,
Bank,
Bank,
Bank,

4-22-97

2,008

M&I Madison Bank, Madison, Wisconsin
Merger
M&I Bank Southwest, Spring Green, Wisconsin

Bank, Aberdeen, South Dakota

Date of
approval

5-5-97

128
5-7-97

99

Bank, Montgomery, Alabama

4,156

Bank, Ardmore, Tennessee
Bank, Orlando, Florida
Bank, Lawrenceville, Georgia

98
291
487

First Interstate Bank of Commerce, Billings, Montana
Merger
First Interstate Bank of Montana, N.A., Kalispell, Montana
Mountain Bank, Whitefish, Montana



1,054
294
70

5-14-97

5-14-97

320 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
Institutionl

Assets
(millions
of dollars)

Citizens Bank, Flint, Michigan
Merger
City Bank and Trust Company, Jackson, Michigan
City Bank, St. Johns, Michigan
CB-North, Charlevoix, Michigan

3,300

WestAmerica Bank, San Rafael, California
Merger
ValliWide Bank, Fresno, California

2,400

Fifth Third Bank of Western Ohio, Piqua, Ohio
Merger
Fifth Third Cincinnati (29 branches), Cincinnati, Ohio

1,000

Mercantile Bank, Overland Park, Kansas
Merger
Mark Twain Bank Kansas City, Kansas City, Missouri

2,008

ElDorado Bank, Tustin, California
Merger
Commerce Security Bank, Sacramento, California
Liberty National Bank, Huntington, California
San Dieguito National Bank, Encinitas, California

Date of
approval

5-16-97

470
209
184
5-27-97

1,300
5-29-97

865
6-10-97

322
404

6-11-97

252
149
58

Old Kent Bank, Grand Rapids, Michigan
Merger
Old Kent Bank, Elmhurst, Illinois

6-13-97
10,614
2,189

M&I Marshall & Ilsley Bank, Milwaukee, Wisconsin
Merger
M&I Bank Eagle River, Eagle River, Wisconsin
M&I Bank Fox Valley, Appleton, Wisconsin
M&I Bank NE, Green Bay, Wisconsin
M&I Bank of Menomonee Falls, Menomonee Falls, Wisconsin
M&I Bank of Racine, Racine, Wisconsin
M&I Bank of Shawano, Shawano, Wisconsin
M&I Bank S Central, Watertown, Wisconsin
M&I Central State Bank, Ripon, Wisconsin
M&I First American Bank, Wausau, Wisconsin
M&I Lake Country Bank, Hartland, Wisconsin
M&I Merchants Bank, Rhinelander, Wisconsin
OmniBank, Macomb, Illinois
Merger
Farmers State Bank of Ferris, Ferris, Illinois
Tiskilwa State Bank, Tiskilwa, Illinois
Merger
Tampico National Bank, Tampico, Illinois
First National Bank of Manlius, Manlius, Illinois



6-30-97
5,184
140
715
662
265
138
162
224
365
401
253
242
105

7-31-97

45
24
17
55

7-31-97

Statistical Tables 321
16.—Continued

Institution'

Assets
(millions
of dollars)

UnionBank, Streator, Illinois
Merger
UnionBank Sandwich, Sandwich, Illinois

269

First Virginia Bank-Southwest, Roanoke, Virginia
Merger
Premier Bank-South, National Association, Wytheville, Virginia

614

Compass Bank, Birmingham, Alabama
Merger
Compass Bank, Jacksonville, Florida

6,000

8-14-97

269
8-20-97

1,200

Citizens Commercial Bank & Trust Company, Celina, Ohio ....
Merger
Van Wert National Bank, Van Wert, Ohio

215

First Bank of Hennessey, Hennessey, Oklahoma
Merger
The Peoples National Bank of Kingfisher, Kingfisher, Oklahoma

172

Capital City Bank, Tallahassee, Florida
Merger
Levy County State Bank, Chiefland, Florida
Farmers & Merchants Bank of Trenton, Trenton, Florida
Branford State Bank, Branford, Florida

851

Johnstown Bank & Trust Company, Johnstown, Pennsylvania ..
Merger
Laurel Bank, Ebensburg, Pennsylvania
Fayette Bank, Uniontown, Pennsylvania

8-6-97

225
6,600

Mercantile Bank, Overland, Kansas
Merger
Roosevelt Bank, Chesterfield, Missouri

7-31-97

40

The Provident Bank, Cincinnati, Ohio
Merger
The Provident Bank of Kentucky, Alexandria, Kentucky

F&M Bank-Fennimore, Fennimore, Wisconsin
Merger
F&M Bank-Potosi, Potosi, Wisconsin
F&M Bank-Lancaster, Lancaster, Wisconsin

Date of
approval

8-22-97

127
8-28-97

148
8-29-97

81
37
30
47

9-4-97

33
43
3,172

9-11-97

679
949

9-17-97

233
355

First Virginia Bank-Clinch Valley, Richlands, Virginia
Merger
Premier Bank, National Association, Tazewell, Virginia

9-23-97
80
199

First Virginia Bank-Mountain Empire, Damascus, Virginia
Merger
Premier Bank-Central, N.A., Honaker, Virginia



9-23-97
115
307

322 84th Annual Report, 1997
16. Mergers, Consolidations, and Acquisitions of Assets or Assumptions of Liabilities
Approved by the Board of Governors, 1997—Continued
Assets
(millions
of dollars)

Institution'

First Bank, Creve Coeur, Missouri
Merger
First Bank, O'Fallon, Illinois

873

Omni Bank, Macomb, Illinois
Merger
Farmers State Bank of Ferris, Ferris, Illinois

100

10-23-97

47
1,449

10-29-97

4

Alabama Exchange Bank, Tuskegee, Alabama
Merger
First National Bank of Ashland, Ashland, Alabama

47

11-12-97

56

Southern California Bank, Anaheim, California
Merger
National Bank of Southern California, Newport Beach, California ..




10-16-97

824

First Interstate Bank, Billings, Montana
Merger
First Interstate Bank, fsb, Hamilton, Montana

1. Each proposed transaction was to be effected under
the charter of the first-named bank. The entries are in
chronological order of approval. Some transactions

Date of
approval

508

11-13-97

452

include the acquisition of certain assets and liabilities of
the affiliated bank,

Statistical Tables 323
16.—Continued

Mergers Approved Involving a Non-Operating
Institution with an Existing Bank
The following transactions have no significant
effect on competition; they merely facilitate the
acquisition of the voting shares of a bank (or
banks) by a holding company. In such cases, the
Summary Report by the Attorney General indicates that the transaction will merely combine an
existing bank with a non-operating institution; in
consequence, and without regard to the acquisition

of the surviving bank by the holding company, the
merger would have no effect on competition. The
Board of Governors, the Federal Reserve Bank, or
the Secretary of the Board, whichever approved
the application, determined that the proposal
would, in itself, have no adverse competitive
effects and that the financial factors and considerations relating to the convenience and needs of the
community were consistent with approval.

Assets
(millions
of dollars)2

Institution'

Blue Ridge Bank, Sparta, North Carolina
Merger
Blue Ridge Acquisition Bank, Inc., Sparta, North Carolina
Guaranty Bank, Charlottesville, Virginia
Merger
Guaranty Savings & Loan, F.A., Charlottesville, Virginia
Quad City Bank and Trust Company, Bettendorf, Iowa
Merger
Quad City Bank and Trust Company-Illinois, Moline, Iowa
New North Shore Bank, Duluth, Minnesota
Merger
North Shore Bank of Commerce, Duluth, Minnesota

106

Date of
approval

3-12-97

4-15-97
115
140

5-29-97

7-17-97
119

Bank of Mecklenburg, Charlotte, North Carolina
Merger
Triangle-Mecklenburg Interim Bank, Charlotte, North Carolina

273

8-6-97

Premier Bank, Doylestown, Pennsylvania
Merger
Premier Interim Bank, Doylestown, Pennsylvania

185

10-30-97

18

12-11-97

Bank of Greenville, Greenville, West Virginia
Merger
Greenville Interim Bank, Greenville, West Virginia
1. Each proposed transaction was to be effected under
the charter of the first-named bank. The entries are in
chronological order of approval.




2. Where no assets are listed, the bank is newly organized and not in operation,

Federal Reserve
Directories and Meetings




326 84th Annual Report, 1997

Board of Governors of the Federal Reserve System
December 31,1997
Members

Term expires January 31,

A L A N GREENSPAN, of New York, Chairmanl

2006

ALICE M. RlVLIN, of Pennsylvania, Vice Chair1

2010

SUSAN M. PHILLIPS, of Iowa

1998

ROGER W. FERGUSON, JR., of Massachusetts

2000

LAURENCE H. MEYER, of Missouri

2002

EDWARD W. KELLEY, JR., of Texas

2004

EDWARD M. GRAMLICH, of Virginia

2008

Officers
OFFICE OF BOARD MEMBERS
Joseph R. Coyne, Assistant to the Board
Donald J. Winn, Assistant to the Board
Theodore E. Allison, Assistant to the Board
for Federal Reserve System Affairs
Lynn Fox, Deputy Congressional Liaison

OFFICE OF THE SECRETARY
William W. Wiles, Secretary
Jennifer J. Johnson, Deputy Secretary
Barbara R. Lowrey, Associate Secretary
and Ombudsman

Bob Stahly Moore, Special Assistant

DIVISION OF INTERNATIONAL

to the Board
Winthrop P. Hambley, Special Assistant

Edwin M. Truman, Staff Director
.
. ,.
T a r r y J P r o m i s e 1 , Semor .
T _,
c
L

to the Board
Diane E. Werneke, Special Assistant
to the Board
Portia W Thompson, Equal Employment
Opportunity Programs Adviser

*

'

FINANCE

Adviser

Charles L Sie

Adviser
S m a n ' Senior
L.S. Alexander, Associate Director
D
ale W. Henderson, Associate Director
Peter Hooper III, Associate Director
Karen H. Johnson, Associate Director

LEGAL DIVISION

David H. Howard, Senior Adviser

J. Virgil Mattingly, Jr., General Counsel
Scott G. Alvarez, Associate General
Counsel

Donald B

Richard M. Ashton, Associate
General Counsel
Oliver Ireland, Associate General
Counsel
* r rvm
>
A
^
i
T^ 11
Kathleen M. O Day, Associate General
Counsel
Robert deV. Frierson, Assistant General
Counsel
Katherine H. Wheatley, Assistant General
Counsel

1. The designations as Chairman and Vice Chair
expire on June 20, 2000, and June 24, 2000, respectively,
unless the service of these members of the Board shall
have terminated sooner.



- A d a m s ' Assistant Director
Thomas A. Connors, Assistant Director
DIVISION OF MONETARY AFFAIRS
Koh^
Direcfor

Donald L
David R

L m d

D

DirecWr

_ . , - , , , . , .
r^Brian F. Madigan, Associate Director
_. ,
, _ _ °
_
Richard D. Porter, Deputy Associate
.
_ _ . ,
.
_.
A
Vincent R. Reinhart, Assistant Director
NormandR.V Bernard, Special Assistant

w

t0 the

Board

Directories and Meetings 327

Board of Governors—Continued
DIVISION OF RESEARCH
AND STATISTICS

Michael J. Prell, Director
Edward C. Ettin, Deputy Director
David J. Stockton, Deputy Director
Martha Bethea, Associate Director
William R. Jones, Associate Director
Myron L. Kwast, Associate Director
Patrick M. Parkinson, Associate Director
Thomas D. Simpson, Associate Director
Lawrence Slifman, Associate Director
Martha S. Scanlon, Deputy
Associate Director
Peter A. Tinsley, Deputy
Associate Director
David S. Jones, Assistant Director
Stephen D. Oliner, Assistant Director
Stephen A. Rhoades, Assistant Director
Janice Shack-Marquez, Assistant Director
Charles S. Struckmeyer, Assistant Director
Alice Patricia White, Assistant Director
Joyce K. Zickler, Assistant Director
Glenn B. Canner, Senior Adviser
John J. Mingo, Senior Adviser
DIVISION OF BANKING SUPERVISION
AND REGULATION

Richard Spillenkothen, Director
Stephen C. Schemering, Deputy Director
Herbert A. Biern, Associate Director
Roger T. Cole, Associate Director
William A. Ryback, Associate Director
Gerald A. Edwards, Jr., Deputy
Associate Director
Stephen M. Hoffman, Jr., Deputy
Associate Director
James V. Houpt, Jr., Deputy
Associate Director
Jack P. Jennings, Deputy
Associate Director
Michael G. Martinson, Deputy
Associate Director
Sidney M. Sussan, Deputy
Associate Director
Molly S. Wassom, Deputy
Associate Director
Digitized Howard A. Amer, Assistant Director
for FRASER


Norah M. Barger, Assistant Director
Betsy Cross Jacowski, Assistant Director
Richard A. Small, Assistant Director
William C. Schneider, Jr., Project Director,
National Information Center
DIVISION OF CONSUMER
AND COMMUNITY AFFAIRS

Griffith L. Garwood, Director
Glenn E. Loney, Associate Director
Dolores S. Smith, Associate Director
Maureen P. English, Assistant Director
Irene Shawn McNulty, Assistant Director
DIVISION OF FEDERAL RESERVE BANK
OPERATIONS AND PAYMENT SYSTEMS

Clyde H. Farnsworth, Jr., Director
David L. Robinson, Deputy Director
(Finance and Control)
Louise L. Roseman, Associate Director
Paul W. Bettge, Assistant Director
Jack Dennis, Jr., Assistant Director
Earl G. Hamilton, Assistant Director
Jeffrey C. Marquardt, Assistant Director
Florence M. Young, Assistant Director
OFFICE OF STAFF DIRECTOR
FOR MANAGEMENT

S. David Frost, Staff Director
Sheila Clark, Equal Employment
Opportunity Programs Director
OFFICE OF THE CONTROLLER

George E. Livingston, Controller
Stephen J. Clark, Assistant Controller
(Programs and Budgets)
Darrell R. Pauley, Assistant Controller
(Finance)
DIVISION OF H U M A N
RESOURCES MANAGEMENT

David L. Shannon, Director
John R. Weis, Associate Director
Joseph H. Hayes, Jr., Assistant Director
Fred Horowitz, Assistant Director

328 84th Annual Report, 1997

Board of Governors—Continued
DIVISION OF INFORMATION
RESOURCES MANAGEMENT

Stephen R. Malphrus, Director
Marianne M. Emerson, Assistant Director
Po Kyung Kim, Assistant Director
Raymond H. Massey, Assistant Director
Edward T. Mulrenin, Assistant Director
Day W. Radebaugh, Jr., Assistant Director
Elizabeth B. Riggs, Assistant Director
Richard C. Stevens, Assistant Director

DIVISION OF SUPPORT SERVICES

Robert E. Frazier, Director
George M. Lopez, Assistant Director
David L. Williams, Assistant Director
OFFICE OF THE INSPECTOR GENERAL

Brent L. Bowen, Inspector General
Donald L. Robinson, Assistant Inspector
General
Barry R. Snyder, Assistant Inspector
General

Federal Open Market Committee
December 31,1997

Members
ALAN GREENSPAN, Chairman, Board of Governors
WILLIAM J. McDoNOUGH, Vice Chairman, President, Federal Reserve Bank of New York
J. ALFRED BROADDUS, JR., President, Federal Reserve Bank of Richmond
ROGER W. FERGUSON, JR., Board of Governors
EDWARD M. GRAMLICH, Board of Governors

JACK GUYNN, President, Federal Reserve Bank of Atlanta
EDWARD W. KELLY, JR., Board of Governors
LAURENCE H. MEYER, Board of Governors

MICHAEL H. MOSKOW, President, Federal Reserve Bank of Chicago
ROBERT T. PARRY, President, Federal Reserve Bank of San Francisco
SUSAN M. PHILLIPS, Board of Governors
ALICE M. RIVLIN, Board of Governors

Alternate Members
CATHY E. MINEHAN, President, Federal Reserve Bank of Boston
JERRY L. JORDAN, President, Federal Reserve Bank of Cleveland
THOMAS C. MELZER, President, Federal Reserve Bank of St. Louis
THOMAS M. HOENIG, President, Federal Reserve Bank of Kansas City
ERNEST T. PATRIKIS, First Vice President, Federal Reserve Bank of New York

Officers
DONALD L. KOHN,

Secretary and Economist
NORMAND R.V. BERNARD,

Deputy Secretary
JOSEPH R. COYNE,

Assistant Secretary
GARY P. GILLUM,

Assistant Secretary



J. VIRGIL MATTINGLY, JR.,

General Counsel
THOMAS C. BAXTER, JR.,

Deputy General Counsel
MICHAEL J. PRELL,

Economist
EDWIN M. TRUMAN,

Economist

Directories and Meetings 329

Federal Open Market Committee—Continued
JOHN H. BEEBE,

Associate Economist
ROBERT A. EISENBEIS,

Associate Economist
MARVIN S. GOODFRIEND,

Associate Economist
WILLIAM C. HUNTER,

Associate Economist
DAVID E. LINDSEY,

STEPHEN G. CECCHETTI,

Associate Economist
LARRY J. PROMISEL,

Associate Economist
CHARLES J. SIEGMAN,

Associate Economist
LAWRENCE SLIFMAN,

Associate Economist
DAVID J. STOCKTON,

Associate Economist
Associate Economist
PETER R. FISHER, Manager, System Open Market Account
During 1997 the Federal Open Market Committee held eight regularly scheduled meet-

ings (see Minutes of Federal Open Market
Committee Meetings in this REPORT.)

Federal Advisory Council
December 31,1997

Members
District 1—WILLIAM M. CROZIER, JR., Chairman of the Board,
Bank of Boston Corporation, Boston, Massachusetts
District 2—WALTER V. SHIPLEY, Chairman and Chief Executive Officer,
The Chase Manhattan Corporation, New York, New York
District 3—WALTER E. DALLER, JR., Chairman, President, and Chief Executive Officer,
Harleysville National Bank and Trust Company, Harleysville, Pennsylvania
District 4—ROBERT W. GILLESPIE, Chairman and Chief Executive Officer,
KeyCorp, Cleveland, Ohio
District 5—KENNETH D. LEWIS, President,

NationsBank Corporation, Charlotte, North Carolina
District 6—STEPHEN A. HANSEL, President and Chief Executive Officer,
Hibernia National Bank, New Orleans, Louisiana
District 7—ROGER L. FITZSIMONDS, Chairman and Chief Executive Officer,
Firstar Corporation, Milwaukee, Wisconsin
District 8—THOMAS H. JACOBSEN, Chairman, President, and Chief Executive Officer,
Mercantile Bancorporation, Inc., St. Louis, Missouri
District 9—RICHARD M. KOVACEVICH, Chairman and Chief Executive Officer,
Norwest Corporation, Minneapolis, Minnesota
District 10—CHARLES E. NELSON, Chairman, Chief Executive Officer, and President,
Liberty Bank and Trust Company of Oklahoma City, N.A., Oklahoma City, Oklahoma
District 11—CHARLES T. DOYLE, Chairman and Chief Executive Officer,
Texas First Bank - Texas City, Texas City, Texas
District 12—VACANCY

Officers
WALTER V. SHIPLEY, President
CHARLES E. NELSON, Vice President
HERBERT V. PROCHNOW, Secretary Emeritus
JAMES E. ANNABLE, Co-Secretary

WILLIAM J. KORSVIK, Co-Secretary



330 84th Annual Report, 1997

Federal Advisory Council—Continued
Directors
WILLIAM M. CROZIER, JR.

The Federal Advisory Council met on February 6-7, May 1-2, September 4-5, and
October 30-31, 1997. The Board of Governors met with the council on February 7, May 2, September 5, and October 31, 1997. The council, which is composed of one representative of the banking

CHARLES T. DOYLE

industry from each of the twelve Federal
Reserve Districts, is required by law to meet
in Washington at least four times each year
and is authorized by the Federal Reserve Act
to consult with, and advise, the Board on all
matters within the jurisdiction of the Board,

Consumer Advisory Council
December 31,1997

Members
RICHARD S. AMADOR, President and Chief Executive Officer, CHARO Community
Development Corporation, Los Angeles, California
WAYNE-KENT A. BRADSHAW, President and Chief Executive Officer, Family Savings
Bank, FSB, Los Angeles, California
THOMAS R. BUTLER, President and Chief Operating Officer, NOVUS Services, Inc.,
Riverwoods, Illinois
ROBERT A. COOK, Partner, Hudson Cook, LLP, Crofton, Maryland
HERIBERTO FLORES, President and Chief Executive Officer, Brightwood Development
Corporation, Springfield, Massachusetts
EMANUEL FREEMAN, President, Greater Germantown Housing Development Corporation,
Philadelphia, Pennsylvania
DAVID C. FYNN, Senior Vice President, National City Bank, Regulatory Risk Manager,
National City Corporation, Cleveland, Ohio
ROBERT G. GREER, Chairman of the Board, Bank of Tanglewood, Houston, Texas
KENNETH R. HARNEY, Journalist, Washington Post Writers Group, Chevy Chase,
Maryland
GAIL K. HILLEBRAND, Litigation Counsel, West Coast Regional Office, Consumers Union
of U.S., Inc., San Francisco, California
TERRY JORDE, President and Chief Executive Officer, Towner County State Bank,
Cando, North Dakota
FRANCINE C. JUSTA, Executive Director, Neighborhood Housing Services of New York,
New York, New York
JANET C. KOEHLER, Senior Manager of Electronic Commerce, AT&T Universal Card
Services, Jacksonville, Florida
EUGENE I. LEHRMANN, Immediate Past President, American Association of Retired
Persons, Madison, Wisconsin
ERROL T. LOUIS, Central Brooklyn Federal Credit Union, Brooklyn, New York
PAUL E. MULLINGS, President and Chief Executive Officer, Mortgage Electronic
Registration Systems, Inc., McLean, Virginia
CAROL PARRY, Executive Vice President, Chase Manhattan Bank, New York, New York



Directories and Meetings 331

Consumer Advisory Council—Continued
PHILIP PRICE, JR., Executive Director, The Philadelphia Plan, Philadelphia, Pennsylvania
RONALD A. PRILL, Vice President, Credit, Dayton Hudson Corporation, Minneapolis,
Minnesota
LISA RICE, Executive Director, Fair Housing Center, Toledo, Ohio
JOHN R. RINES, President, General Motors Acceptance Corporation, Detroit, Michigan
MARILYN ROSS, Executive Director, Holy Name Housing Corporation, Omaha, Nebraska
MARGOT SAUNDERS, Managing Attorney, National Consumer Law Center,
Washington, D.C.
GAIL SMALL, Executive Director, Native Action, Lame Deer, Montana
YVONNE S. SPARKS, Vice President, Community Investment Department, NationsBank
Community Investment Group, St. Louis, Missouri
GREGORY D. SQUIRES, Professor of Sociology, University of Wisconsin-Milwaukee,
Milwaukee, Wisconsin
GEORGE P. SURGEON, Chief Financial Officer and Executive Vice President, Shorebank
Corporation, Chicago, Illinois
THEODORE J. WYSOCKI, JR., Executive Director, CANDO, Chicago, Illinois

Officers
JULIA W. SEWARD, Chair

WILLIAM N. LUND, Vice Chair

Vice President and Corporate
Community Reinvestment Officer,
Signet Banking Corporation,
Richmond, Virginia

Director, Office of Consumer Credit
Regulation,
State of Maine,
Augusta, Maine

The Consumer Advisory Council met with
members of the Board of Governors on
April 17, July 17, and October 30, 1997. The
council is composed of academics, state and
local government officials, representatives of
the financial industry, and representatives of

consumer and community interests. It was
established pursuant to the 1976 amendments to the Equal Credit Opportunity Act
to advise the Board on consumer financial
services.

Thrift Institutions Advisory Council
December 31,1997

Members
BARRY C. BURKHOLDER, President and Chief Executive Officer, Bank United of Texas
FSB, Houston, Texas
DAVID E.A. CARSON, Chairman, President, and Chief Executive Officer, People's Bank,
Bridgeport, Connecticut
MICHAEL T. CROWLEY, JR., President and Chief Executive Officer, Mutual Savings Bank,
Milwaukee, Wisconsin
DOUGLAS A. FERRARO, President and Chief Executive Officer, Bellco First Federal Credit
Union, Englewood, Colorado
WILLIAM A. FITZGERALD, Chairman and Chief Executive Officer, Commercial Federal
Bank, Omaha, Nebraska
STEPHEN D. HAILER, President and Chief Executive Officer, North Akron Savings Bank,
Akron, Ohio




332

84th Annual Report, 1997

Thrift Institutions Advisory Council—Continued
DAVID F. HOLLAND, Chairman, President, and Chief Executive Officer, Boston Federal

Savings Bank, Burlington, Massachusetts
EDWARD J. MOLNAR, President and Chief Executive Officer, Harleysville Savings Bank,

Harleysville, Pennsylvania
GUY C. PINKERTON, Chairman, President, and Chief Executive Officer, Washington

Federal Savings and Loan Association, Seattle, Washington
CHARLES R. RINEHART, Chairman and Chief Executive Officer, Home Savings of

America, FSB, Irwindale, California
TERRY R. WEST, President and Chief Executive Officer, Jax Navy Federal Credit Union,

Jacksonville, Florida
FREDERICK WILLETTS III, President and Chief Executive Officer, Cooperative Bank for

Savings, Inc., SSB, Wilmington, North Carolina

Officers
DAVID F. HOLLAND, President

The members of the Thrift Institutions
Advisory Council met with the Board of
Governors on March 14, June 13, October 10, and December 5, 1997. The council,
which is composed of representatives from

CHARLES R. RINEHART, Vice President

credit unions, savings and loan associations,
and savings banks, consults with, and
advises, the Board on issues pertaining to the
thrift industry and on various other matters
within the Board's jurisdiction.

Officers of Federal Reserve Banks and Branches
December 31,1997

Chairmanl
Deputy Chairman

President
First Vice President

BOSTON2

William C. Brainard
Frederick J.
Mancheski

Cathy E. Minehan
Paul M. Connolly

NEW YORK2

John C. Whitehead
Thomas W. Jones
Bal Dixit

William J. McDonough
Ernest T. Patrikis

PHILADELPHIA

Donald J. Kennedy
Joan Carter

Edward G. Boehne
William H. Stone, Jr.

CLEVELAND2

G. Watts
Humphrey, Jr.
David H. Hoag
George C. Juilfs
John T. Ryan III

Jerry L. Jordan
Sandra Pianalto

Claudine B. Malone
Robert L. Strickland
Rebecca Hahn
Windsor
Dennis D. Lowery

J. Alfred Broaddus, Jr.
Walter A. Varvel

BANK or Branch

Buffalo

Cincinnati
Pittsburgh
RICHMOND2
Baltimore
Charlotte




Vice President
in charge of Branch

Carl W. Turnipseed3

Charles A. Cerino3
Robert B. Schaub

William J. Tignanelli3
Dan M. Bechter3

Directories and Meetings 333

Officers of Federal Reserve Banks and Branches—
Continued
BANK or Branch
ATLANTA
Birmingham ....
Jacksonville
Miami
Nashville
New Orleans
CHICAGO2
Detroit
ST. LOUIS
Little Rock
Louisville

Chairmanl
Deputy Chairman

President
First Vice President

Vice President
in charge of Branch

Hugh M. Brown
David R. Jones
D. Bruce CanPatrick C. Kelly
Kaaren Johnson-Street
James E. Dalton
Jo Ann Slaydon

Jack Guynn
Patrick K. Barron

James M. McKee

Lester H.
McKeever, Jr.
Arthur C. Martinez
Florine Mark

Michael H. Moskow
William C. Conrad

John F. McDonnell
Susan S. Elliott
Robert D. Nabholtz, Jr.
John A. Williams
John V. Myers

Thomas C. Melzer
W. Legrande Rives

Jean D. Kinsey
David A. Koch
Matthew J. Quinn

Gary H. Stern
Colleen K. Strand

A. Drue Jennings
Jo Marie Dancik
Peter I. Wold
Barry L. Eller
Arthur L. Shoener

Thomas M. Hoenig
Richard K. Rasdall

Roger R.
Hemminghaus
Cece Smith
Alvin T. Johnson
Isaac H. Kempner III
H. B. Zachry, Jr.

Robert D. McTeer, Jr.
Helen E. Holcomb

Judith M. Runstad
Gary G. Michael
Anne L. Evans
Carol A. Whipple
Gerald R. Sherratt
Richard R. Sonstelie

Robert T. Parry
John F. Moore

Fred R. Herr3
James D. Hawkins3
James T. Curry III
Melvyn K. Purcell
Robert J. Musso

David R.Allardice 3

Robert A. Hopkins
Thomas A. Boone
Martha L. Perine

Memphis
MINNEAPOLIS

John D. Johnson

Helena
KANSAS CITY
Denver
Oklahoma City .
Omaha
DALLAS
El Paso
Houston
San Antonio .
SAN FRANCISCO
Los Angeles
Portland
Salt Lake City
Seattle

NOTE. A current list of these officers appears each
month in the Federal Reserve Bulletin.
1. The Chairman of a Federal Reserve Bank serves, by
statute, as Federal Reserve Agent.
2. Additional offices of these Banks are located at
Windsor Locks, Connecticut; Utica at Oriskany, New




Carl M. Gambs3
Kelly J. Dubbert
Steven D. Evans

Sammie C. Clay
Robert Smith IIP
James L.Stull 3

MarkL. Mullinix3
Raymond H. Laurence3
Andrea P. Wolcott
Gordon R.G.
Werkema4

York; East Rutherford, New Jersey; Columbus, Ohio;
Charleston, West Virginia; Columbia, South Carolina;
Indianapolis, Indiana; Milwaukee, Wisconsin; Des
Moines, Iowa; and Peoria, Illinois.
3. Senior Vice President.
4. Executive Vice President.

334 84th Annual Report, 1997

Conference of Chairmen
The chairmen of the Federal Reserve Banks
are organized into the Conference of Chairmen, which meets to consider matters of
common interest and to consult with, and
advise, the Board of Governors. Such meetings, attended also by the deputy chairmen,
were held in Washington on May 28 and 29,
and on December 3 and 4, 1997.
The members of the Executive Committee of the Conference of Chairmen during
1997 were Judith M. Runstad, chair; John F.
McDonnell, vice chair; and Donald J.
Kennedy, member.
On December 4, 1997, the conference
elected its Executive Committee for 1998;
it named John F. McDonnell as chair,
G. Watts Humphrey as vice chair, and Jo
Marie Dancik as the third member.

Conference of Presidents
The presidents of the Federal Reserve Banks
are organized into the Conference of Presidents, which meets periodically to consider
matters of common interest and to consult
with, and advise, the Board of Governors.
Thomas M. Hoenig, President of the Federal Reserve Bank of Kansas City, served as
chair of the conference in 1997, and Jerry L.
Jordan, President of the Federal Reserve
Bank of Cleveland, served as its vice chair.
Esther L. George, of the Federal Reserve
Bank of Kansas City, served as its secretary,
and Stephen J. Ong, of the Federal Reserve
Bank of Cleveland, served as its assistant
secretary.

Conference of First
Vice Presidents
The Conference of First Vice Presidents of
the Federal Reserve Banks was organized in
1969 to meet periodically for the consideration of operations and other matters.
Sandra Pianalto, First Vice President of
the Federal Reserve Bank of Cleveland,
served as chair of the conference in 1997,
and Colleen K. Strand, First Vice President
of the Federal Reserve Bank of Minneapolis,
served as its vice chair. Martha Maher, of the
Federal Reserve Bank of Cleveland, served
as its secretary, and Niel D. Willardson, of

the Federal Reserve Bank of Minneapolis,
http://fraser.stlouisfed.org/
served as its assistant secretary.
Federal Reserve Bank of St. Louis

On November 10, 1997, the conference
elected Colleen Strand as its chair for 199899, and Richard Rasdall, First Vice President
of the Federal Reserve Bank of Kansas City
as its vice chair.

Directors
The following list of directors of Federal
Reserve Banks and Branches shows for each
director the class of directorship, the director's principal organizational affiliation, and
the date the director's term expires. Each
Federal Reserve Bank has a nine-member
board: three Class A and three Class B directors, who are elected by the stockholding
member banks, and three Class C directors,
who are appointed by the Board of Governors of the Federal Reserve System.
Class A directors represent the member
banks in each Federal Reserve District.
Class B and Class C directors represent the
public and are chosen with due, but not
exclusive, consideration to the interests of
agriculture, commerce, industry, services,
labor, and consumers; they may not be officers, directors, or employees of any bank or
bank holding company. In addition, Class C
directors may not be stockholders of any
bank or bank holding company.
For the election of Class A and Class B
directors, the Board of Governors classifies
the member banks of each Federal Reserve
District into three groups. Each group, which
comprises banks with similar capitalization,
elects one Class A director and one Class B
director. Annually, the Board of Governors
designates one of the Class C directors as
chair of the board and Federal Reserve Agent
of each District Bank, and it designates
another Class C director as deputy chair.
Federal Reserve Branches have either five
or seven directors, a majority of whom are
appointed by the parent Federal Reserve
Bank; the others are appointed by the Board
of Governors. One of the directors appointed
by the Board is designated annually as chair
of the board of that Branch in a manner
prescribed by the parent Federal Reserve
Bank.
For the name of the chair and deputy chair
of the board of directors of each Reserve
Bank and of the chair of each Branch, see
the preceding table, "Officers of Federal
Reserve Banks and Branches."

Directories and Meetings 335
Term expires
Dec. 31

DISTRICT l—BOSTON
Class A
Jane C. Walsh
Marshall N. Carter

G. Kenneth Perine
Class B
Edward Dugger III
Robert R. Glauber

Stephen L. Brown

Class C
Frederick J. Mancheski
William C. Brainard
William O. Taylor,

President, Northmark Bank,
North Andover, Massachusetts
Chairman and Chief Executive Officer,
State Street Bank and Trust Company,
Boston, Massachusetts
President and Chief Executive Officer, National
Bank of Middlebury, Middlebury, Vermont

1997
1998

1999

President and Chief Executive Officer,
UNC Ventures, Inc., Boston, Massachusetts
Adjunct Lecturer, John F. Kennedy School of
Government, Harvard University,
Cambridge, Massachusetts
Chairman and Chief Executive Officer, John
Hancock Mutual Life Insurance Company,
Boston, Massachusetts

1997

Chairman Emeritus, Echlin Inc.,
Branford, Connecticut
Professor of Economics, Yale University,
New Haven, Connecticut
Chairman and Chief Executive Officer,
Globe Newspaper Company,
Boston, Massachusetts

1997

1998

1999

1998
1999

DISTRICT 2 — N E W YORK

Class A
J. Carter Bacot
Robert G. Wilmers

George W. Hamlin IV

Class B
Eugene R. McGrath

Vacancy
Ann M. Fudge



Chairman and Chief Executive Officer,
The Bank of New York, New York, New York
Chairman and Chief Executive Officer,
Manufacturers and Traders Trust Company,
Buffalo, New York
President and Chief Executive Officer,
The Canandaigua National Bank and Trust
Company, Canandaigua, New York

1997

Chairman, President, and Chief Executive
Officer, Consolidated Edison Company of
New York, Inc., New York, New York

1997

Executive Vice President, Kraft Foods, Inc.,
and President, Coffee and Cereals Division,
Tarrytown, New York

1998

1999

1998
1999

336 84th Annual Report, 1997
Term expires
Dec. 31

DISTRICT 2, NEW YORK—Continued
Class C
Thomas W. Jones

Peter G. Peterson
John C. Whitehead

Vice Chairman, Travelers Group, and Chairman
and Chief Executive Officer, Smith Barney
Asset Management, New York, New York
Chairman, The Blackstone Group,
New York, New York
Former Chairman, Goldman Sachs and Company,
Inc., New York, New York

1997

1998
1999

BUFFALO BRANCH

Appointed by the Federal Reserve Bank
William E. Swan
President and Chief Executive Officer,
Lockport Savings Bank, Lockport, New York
Mark W. Adams
Owner and Operator, Adams Poultry Farm,
Naples, New York
Kathleen R. Whelehan
Regional President, Marine Midland Bank,
Rochester, New York
Louise Woerner
Chairman and Chief Executive Officer, HCR,
Rochester, New York
Appointed by the Board of Governors
Louis J. Thomas
Director, District 4, United Steelworkers of
America, Cheektowaga, New York
Bal Dixit
President and Chief Executive Officer,
Newtex Industries, Inc., Victor, New York
Patrick P. Lee
Chairman and Chief Executive Officer,
International Motion Control, Inc.,
Orchard Park, New York

1997
1997
1998
1999

1997
1998
1999

DISTRICT 3 — P H I L A D E L P H I A

Class A
Dennis W. DiLazzero
Albert B. Murry

David B. Lee

Class B
Robert D. Bums
Howard E. Cosgrove



President and Chief Executive Officer, Minotola
National Bank, Vineland, New Jersey
President and Chief Executive Officer,
Lebanon Valley National Bank,
Lebanon, Pennsylvania
President and Chief Executive Officer,
Omega Bank, N.A.,
State College, Pennsylvania

1997

President and Chief Executive Officer,
Burns Foods, Inc., Milford, Delaware
Chairman and Chief Executive Officer,
Conectiv (Delmarva Power and Light
Company), Wilmington, Delaware

1997

1998

1999

1998

Directories and Meetings 337
Term expires
Dec. 31

DISTRICT 3, Class B—Continued
J. Richard Jones

Class C
Donald J. Kennedy

Charisse R. Lillie
Joan Carter

President and Chief Executive Officer,
Jackson-Cross Company,
Philadelphia, Pennsylvania

1999

Legislative Director, International Brotherhood
of Electrical Workers, Local Union No. 269,
Trenton, New Jersey
Partner, Ballard, Spahr, Andrews & Ingersoll,
Philadelphia, Pennsylvania
President and Chief Operating Officer,
UM Holdings Ltd., Haddonfield, New Jersey

1997

1998
1999

DISTRICT 4 — C L E V E L A N D

Class A
David S. Dahlmann

David A. Daberko
Tiney M. McComb
Class B
Michele Tolela Myers
I.N. Rendall Harper, Jr

David L. Nichols
Class C
G. Watts Humphrey, Jr.
David H. Hoag
Robert Y. Farrington

President and Chief Executive Officer,
Southwest National Corporation,
Greensburg, Pennsylvania
Chairman and Chief Executive Officer,
National City Corporation, Cleveland, Ohio
Chairman and President, Heartland BancCorp,
Gahanna, Ohio

1997

President, Denison University, Granville, Ohio
President and Chief Executive Officer,
American Micrographics Company, Inc.,
Monroeville, Pennsylvania
Chairman and Chief Executive Officer,
Mercantile Stores Inc., Fairfield, Ohio

1997
1998

President, GWH Holdings, Inc.,
Pittsburgh, Pennsylvania
Chairman and Chief Executive Officer,
The LTV Corporation, Cleveland, Ohio
Former Executive Secretary-Treasurer,
Ohio State Building and Construction Trades
Council, Columbus, Ohio

1997

1998
1999

1999

1998
1999

CINCINNATI BRANCH

Appointed by the Federal Reserve Bank
Jerry A. Grundhofer
Chairman, President, and Chief Executive
Officer, Star Bane Corporation,
Cincinnati, Ohio
Digitized Jean R. Hale
for FRASER
President and Chief Executive Officer, Community
http://fraser.stlouisfed.org/
Trust Bank N.A., Pikeville, Kentucky
Federal Reserve Bank of St. Louis

1997

1998

338 84th Annual Report, 1997
Term expires
Dec. 31
DISTRICT 4, CINCINNATI BRANCH

Appointed by the Federal Reserve Bank—Continued
Judith G. Clabes
Phillip R. Cox

President and Chief Executive Officer,
Scripps Howard Foundation, Cincinnati, Ohio
President, Cox Financial Corporation,
Cincinnati, Ohio

Appointed by the Board of Governors
Wayne Shumate
Chairman and Chief Executive Officer,
Kentucky Textiles, Inc., Paris, Kentucky
Thomas Revely III
President and Chief Executive Officer,
Cincinnati Bell Supply Co., Cincinnati, Ohio
George C. Juilfs
President and Chief Executive Officer,
SENCORP, Newport, Kentucky

1999
1999

1997
1998
1999

PITTSBURGH BRANCH

Appointed by the Federal Reserve Bank
Thomas J. O'Shane
Chairman, President, and Chief Executive
Officer, First Western Bancorp, Inc.,
New Castle, Pennsylvania
Edward V. Randall, Jr
Chairman, PNC Bank Foundation,
Pittsburgh, Pennsylvania
Vacancy
Peter N. Stephans
Chairman and Chief Executive Officer, Trigon
Incorporated, McMurray, Pennsylvania
Appointed by the Board of Governors
John T. Ryan III
Chairman, President, and Chief Executive
Officer, Mine Safety Appliances Company,
Pittsburgh, Pennsylvania
Gretchen R. Haggerty
Vice President and Treasurer, USX Corporation,
Pittsburgh, Pennsylvania
Charles E. Bunch
Senior Vice President, Strategic Planning and
Corporate Services, PPG Industries, Inc.,
Pittsburgh, Pennsylvania

1997

1998
1999
1999

1997
1998
1999

DISTRICT 5 — R I C H M O N D

Class A
Philip L. McLaughlin

George A. Didden III

J. Walter McDowell



President, Horizon Bancorp, Inc.,
Greenbrier Valley National Bank,
Lewisburg, West Virginia
Chairman and Chief Executive Officer,
The National Capital Bank of Washington,
Washington, D.C.
President—North Carolina Banking, Wachovia
Bank, N.A., Winston-Salem, North Carolina

1997

1998

1999

Directories and Meetings 339
Term expires
Dec. 31

DISTRICT 5, RICHMOND—Continued
Class B
L. Newton Thomas, Jr
Craig A. Ruppert
Wesley S. Williams, Jr
Class C
Claudine B. Malone
Robert L. Strickland
Jeremiah J. Sheehan

Senior Vice President (Retired), ITT/Carbon
Industries, Inc., Charleston, West Virginia
President and Owner, The Ruppert Companies,
Ashton, Maryland
Partner, Covington & Burling, Washington, D.C.

1997

President, Financial & Management
Consulting, Inc., McLean, Virginia
Chairman of the Board, Lowe's Companies, Inc.,
Winston-Salem, North Carolina
Chairman and Chief Executive Officer,
Reynolds Metals Company,
Richmond, Virginia

1997

1998
1999

1998
1999

BALTIMORE BRANCH

Appointed by the Federal Reserve Bank
Thomas J. Hughes
Second Vice Chairman, Navy Federal Credit
Union, Merrifield, Virginia
F. Levi Ruark
Chairman, President, and Chief Executive Officer,
The National Bank of Cambridge,
Cambridge, Maryland
Jeremiah E. Casey
Chairman, First Maryland Bancorp,
Baltimore, Maryland
Morton I. Rapoport, M.D. ...President and Chief Executive Officer,
University of Maryland Medical System,
Baltimore, Maryland
Appointed by the Board of Governors
Rebecca Hahn Windsor
Chairman and Chief Executive Officer, Hahn
Transportation, Inc., New Market, Maryland
Daniel R. Baker
President and Chief Executive Officer,
Tate Access Floors, Inc., Jessup, Maryland
George L. Russell, Jr
Partner, Piper & Marbury L.L.P.,
Baltimore, Maryland

1997
1997

1998
1999

1997
1998
1999

CHARLOTTE BRANCH

Appointed by the Federal Reserve Bank
Dorothy H. Aranda
President, Dohara Associates, Inc.,
Hilton Head Island, South Carolina
Cecil W. Sewell, Jr
Chairman and Chief Executive Officer, Centura
Banks, Inc., Rocky Mount, North Carolina



1997
1997

340 84th Annual Report, 1997
Term expires
Dec. 31
DISTRICT 5, CHARLOTTE BRANCH

Appointed by the Federal Reserve Bank—Continued
William G. Stevens

Chief Executive Officer, Greenwood Bank & Trust,
Greenwood, South Carolina
President and Chief Executive Officer,
Founders Federal Credit Union,
Lancaster, South Carolina

Laura M. Fleming

Appointed by the Board of Governors
Joan H. Zimmerman
President, Southern Shows, Inc.,
Charlotte, North Carolina
James O. Roberson
President, Research Triangle Foundation of
North Carolina, Research Triangle Park,
North Carolina
Dennis D. Lowery
Chief Executive Officer and Chairman,
Continental Industrial Chemicals, Inc.,
Charlotte, North Carolina

1998
1999

1997
1998

1999

DISTRICT 6 — A T L A N T A

Class A
D. Paul Jones, Jr
Waymon L. Hickman

Howard L. McMillan, Jr

Class B
Maria Camila Leiva
Vacancy
Juanita P. Baranco

Chairman and Chief Executive Officer,
Compass Bancshares, Inc., Birmingham, Alabama
Chairman and Chief Executive Officer, First
Farmers and Merchants National Bank,
Columbia, Tennessee
President and Chief Operating Officer,
Deposit Guaranty National Bank,
Jackson, Mississippi
Executive Vice President, Miami Free Zone
Corporation, Miami, Florida

:

Class C
Hugh M. Brown
David R. Jones
John F. Wieland




Executive Vice President, Baranco Automotive
Group, Lilburn, Georgia
President and Chief Executive Officer, BAMSI, Inc.,
Titusville, Florida
President and Chief Executive Officer,
AGL Resources Inc., Atlanta, Georgia
President, John Wieland Homes, Inc.,
Atlanta, Georgia

1997
1998

1999

1997
1998
1999

1997
1998
1999

Directories and Meetings 341
Term expires
Dec. 31

DISTRICT 6, ATLANTA—Continued
BIRMINGHAM BRANCH

Appointed by the Federal Reserve Bank
Marlin D. Moore, Jr
Chairman, Pritchett-Moore, Inc.,
Tuscaloosa, Alabama
Columbus Sanders
President, Consolidated Industries, Inc.,
Huntsville, Alabama
J. Stephen Nelson
Chairman and Chief Executive Officer,
First National Bank of Brewton,
Brewton, Alabama
W. Charles Mayer III
Senior Executive Vice President, Alabama
Banking Group Head, AmSouth Bank of
Alabama, Birmingham, Alabama
Appointed by the Board of Governors
D. Bruce Carr
International Representative, Laborers'
International Union of North America,
Gadsden, Alabama
Patricia B. Compton
President, Patco, Inc., Georgiana, Alabama
V. Larkin Martin
Managing Partner, Martin Farm,
Courtland, Alabama

1997
1997
1998

1999

1997

1998
1999

JACKSONVILLE BRANCH

Appointed by the Federal Reserve Bank
Terry R. West
President and Chief Executive Officer, Jax Navy
Federal Credit Union, Jacksonville, Florida
Arnold A. Heggestad
Professor of Finance and Associate Vice
President of Research and Technology,
College of Business Administration,
University of Florida, Gainesville, Florida
Royce B. Walden
Vice President, SouthTrust Securities,
Orlando, Florida
William G. Smith, Jr
President, Capital City Bank Group,
Tallahassee, Florida
Appointed by the Board of Governors
Patrick C. Kelly
Chairman and Chief Executive Officer,
PSS/World Medical, Inc.,
Jacksonville, Florida
Judy Jones
President, J. R. Jones and Associates,
Tallahassee, Florida
Marsha G. Rydberg
Partner, Foley & Lardner, Tampa, Florida




1997
1997

1998
1999

1997

1998
1999

342 84th Annual Report, 1997
Term expires
Dec. 31

DISTRICT 6, ATLANTA—Continued
MIAMI BRANCH

Appointed by the Federal Reserve Bank
Carlos A. Migoya
President, Dade/Monroe Counties, First Union
National Bank of Florida, Miami, Florida
E. Anthony Newton
Former President and Chief Executive Officer,
Island National Bank and Trust Company,
West Palm Beach, Florida
D. Keith Cobb
Former Vice Chairman and Chief Executive
Officer, Alamo Rent-A-Car, Inc.,
Ft. Lauderdale, Florida
James W. Moore
President, Gulf Utility Company,
Fort Myers, Florida
Appointed by the Board of Governors
Kaaren Johnson-Street
Vice President of Minority Business
Development and Urban Initiatives,
Enterprise Florida, Coral Gables, Florida
R. Kirk Landon
Chairman, American Bankers Insurance Group,
Miami, Florida
Mark T. Sodders
President, Lakeview Farms, Inc.,
Pahokee, Florida

1997
1998

1999

1999

1997

1998
1999

NASHVILLE BRANCH

Appointed by the Federal Reserve Bank
Vacancy
John E. Seward, Jr
President and Chief Executive Officer, Paty
Lumber Co., Inc., Piney Flats, Tennessee
Dale W. Polley
President, First American National Bank,
Nashville, Tennessee
Leonard A. Walker, Jr
Chairman and Chief Executive Officer, First
National Bank and Trust Company,
Athens, Tennessee
Appointed by the Board of Governors
James E. Dalton, Jr
President and Chief Executive Officer, Quorum
Health Group, Inc., Brentwood, Tennessee
Frances F. Marcum
Chairman and Chief Executive Officer, Micro
Craft, Inc., Tullahoma, Tennessee
Paula Lovell
President, Lovell Communications, Inc.,
Nashville, Tennessee




1997
1997
1998
1999

1997
1998
1999

Directories and Meetings 343
Term expires
Dec. 31

DISTRICT 6, ATLANTA—Continued
NEW ORLEANS BRANCH

Appointed by the Federal Reserve Bank
Angus R. Cooper II
.Chairman and Chief Executive Officer,
Cooper/T. Smith Corporation, Mobile, Alabama
Kay L. Nelson
President, Nelson Capital Corporation,
New Orleans, Louisiana
Ho well N. Gage
Chairman and Chief Executive Officer,
Merchants Bank, Vicksburg, Mississippi
Howard C. Gaines
Chairman, First National Bank of Commerce,
New Orleans, Louisiana
Appointed by the Board of Governors
Jo Ann Slay don
President, Slay don Consultants and Insight
Productions and Advertising,
Baton Rouge, Louisiana
Lucimarian Roberts
Community Advocate and Former President,
Mississippi Coast Coliseum Commission,
Biloxi, Mississippi
Glenn Pumpelly
President and Chief Executive Officer,
Pumpelly Oil Inc., Westlake, Louisiana

1997
1997
1998
1999

1997

1998

1999

DISTRICT 7—CHICAGO
Class A
Stefan S. Anderson
Arnold C. Schultz
Verne G. Istock
Class B
Thomas C. Dorr
Donald J. Schneider
Migdalia Rivera
Class C
Lester H. McKeever, Jr
Arthur C. Martinez
Robert J. Darnall



Chairman, President, and Chief Executive Officer,
First Merchants Corporation, Muncie, Indiana
Chairman and Chief Executive Officer,
Grundy National Bank, Grundy Center, Iowa
Chairman, President, and Chief Executive Officer,
First Chicago NBD Corporation, Chicago, Illinois

1997

President and Chief Executive Officer, Dorr's
Pine Grove Farm Co., Marcus, Iowa
President, Schneider National, Inc.,
Green Bay, Wisconsin
Executive Director, Latino Institute,
Chicago, Illinois

1997

Managing Partner, Washington, Pittman &
McKeever, Chicago, Illinois
Chairman and Chief Executive Officer, Sears
Roebuck and Co., Hoffman Estates, Illinois
Chairman, President, and Chief Executive Officer,
Inland Steel Industries, Inc., Chicago, Illinois

1997

1998
1999

1998
1999

1998
1999

344 84th Annual Report, 1997
Term expires
Dec. 31

DISTRICT 7, CHICAGO—Continued
DETROIT BRANCH

Appointed by the Federal Reserve Bank
Charles R. Weeks
Chairman, Citizens Banking Corporation,
Flint, Michigan
Richard M. Bell
President and Chief Executive Officer,
The First National Bank of Three Rivers,
Three Rivers, Michigan
Denise Hitch Lites
Vice Chair, Little Caesars Enterprises, and President,
Olympia Development