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Federal Reserve Bank

Dallas, Texas, November 23,1942

To Directors and Executive Officers of All Member
Banks in the Eleventh Federal Reserve District:

The marked acceleration of the war effort is being reflected in a rapid increase in Govern­
ment expenditures. Treasury disbursements are now close to six billion dollars monthly and are
expected to rise to a higher level as our armed forces are expanded and as new war plants are
brought into full operation. The Director of the Federal Budget announced recently that war
expenditures alone would approximate seventy-eight billion dollars during the fiscal year ending
June 80, 1943. This figure emphasizes the magnitude of the task to be accomplished.
At the inception of the war program, policies were inaugurated for the purpose of raising
funds to finance the war, so far as possible, from non-inflationary sources. Taxes are being increased
to high levels and vigorous efforts are being made to sell Government securities to individuals,
to savings institutions, and to corporations with temporary idle funds. These efforts help to
prevent inflation by diverting a portion of the large consumer incomes from the market places and
by absorbing idle funds. Although substantial sums are being raised from taxes and sales of
securities to nonbank investors, the amounts should be greatly increased in view of the expansion
in consumer incomes, the rapid liquidation of consumer debts, and the diminishing supply of goods
available for civilian consumption.
The banks have aided greatly in the distribution of securities to nonbank investors, and an
even greater intensification of these efforts among their own customers and depositors might do
much to channel additional idle funds into the war effort. It should be recognized that customer
deposits which are withdrawn for investment in Government securities return to banks as new
deposits as soon as they are disbursed by the Government. While such funds may not return to
the particular bank from which withdrawn, it should be pointed out that virtually all banks are
experiencing a rapid expansion in deposits as a result of war expenditures. That is particularly
true of banks in this district since, from available information, it appears that Government
expenditures for war purposes are exceeding the amounts being withdrawn from the district
through tax collections and sales of Government securities. It is reasonable to assume that those
who are deriving extensive benefits from war expenditures should purchase their fair and equitable
share of Government securities. Despite the sums being raised through taxation and sales of Gov­
ernment securities to nonbank investors, the gap between the volume of funds raised by those
means and total Government expenditures continues to widen; hence, it is apparent that the Treas­
ury must rely heavily upon commercial banks. There can be no question of the willingness of
banks to do their full share in financing the war effort, but it is important that each bank par­
ticipate in proportion to its available resources.
During the past decade, when bank reserves were expanding rapidly and the demand for
bank credit was limited, commercial banks in this country became accustomed to carrying large
balances with correspondents and to maintaining reserves with Federal Reserve banks greatly in
excess of requirements. Under those conditions, it was appropriate for banks generally to hold a
large volume of idle funds, but for obvious reasons that practice is no longer appropriate nor
desirable. Treasury financing is a vital part of the war effort and the banks have an opportunity
and a responsibility to do their share by making use of their available funds.
It is recognized that large scale purchases of Government securities by banks will absorb
excess reserves, but the banks can be assured that if they invest in Government securities they
will have the means of meeting demands on them for cash and for the maintenance of reserves
at the required level. In anticipation of probable developments, the Federal Reserve System, on
December 8, 1941, stated that it was prepared to use its powers to assure an ample supply of
funds at all times for financing the war effort. Several measures have been taken to maintain
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adequate reserves in commercial banks generally and to facilitate the making of adjustments in
reserve positions whenever necessary. These measures, include large purchases of Government
securities in the open market; the establishment of a fixed buying rate of % of 1 per cent for
Treasury bills at all Federal Reserve banks, with the option available to the seller to repurchase
them at any time before maturity at the same rate of discount; the lowering of reserve require­
ments for central reserve city banks which have sustained persistent losses of reserves since the
beginning of 1941; and the recent establishment of a preferential discount rate of ^ of 1 per cent
for advances to member banks secured by Government securities maturing or callable in one
year or less, recognizing that there undoubtedly will be individual banks which will not share
proportionately or immediately in the increased deposits resulting from Government disburse­
ment or in the increase in reserve funds resulting from Federal Reserve open market operations.
These various measures constitute assurance to the banking system that reserves will be provided
whenever needed and should render unnecessary the continued holding of idle reserves as a pro­
tection against eventualities.
Thus far a large proportion of the funds borrowed for the financing of the war effort has
been derived from sales of Government securities to individuals and corporations, and to banks
in money centers and other large cities. As these funds were disbursed by the Government they
were widely distributed throughout the country, with the result that funds drained from banks
in many of the larger cities have found lodgment at banks in other sections. A recent survey of
the reserve positions of member banks throughout the country showed that relatively the volume
of idle funds—excess reserves and balances due from correspondents—was smallest in the large
money centers and tended to increase as the size of the cities or towns decreased. The survey also
revealed that the ratio of excess reserves to required reserves of member banks in the Eleventh
Federal Reserve District was higher than in all but three of the other Federal Reserve districts.
This situation affords member banks in this district an unusual opportunity to increase their par­
ticipation in the financing of the war effort.
In line with the recommendations of the Economic Policy Commission of the American
Bankers Association, the Treasury has taken certain steps to facilitate the purchase of Govern­
ment securities by banks. The volume of Treasury obligations maturing within one year has been
greatly increased, short term rates have risen substantially during the past year, and offerings of
other securities with maturities up to ten years have been expanded. Thus, Government securi­
ties available for purchase by commercial banks offer an opportunity for banks to arrange their
portfolios on a basis that will fit their individual needs. The maturity schedule can be arranged in
a manner that will enable a bank to provide funds during the season when net withdrawls ordi­
narily occur, or to meet special situations. Moreover, if unexpected demands should be made upon
a member bank, it could obtain the needed funds from the Federal Reserve bank at a rate of of
1 per cent through borrowing against Government securities maturing or callable within one year,
or at 1 per cent against Government securities having a longer maturity, thereby avoiding the
necessity of selling such assets to meet temporary situations.
Bank expenses and taxes have risen substantially due to war conditions^ Likewise, deposit
liabilities of banks generally are increasing at a much more rapid rate than capital funds. By a
fuller utilization of available resources, the banks can increase their earnings, which would assist
not only in meeting the heavier expenses but also in providing net income which could be used
to strengthen their capital positions. Hence, under prevailing conditions, it seems appropriate
and desirable for the banks to abandon the practice of holding large amounts of excess reserves
and balances with correspondents and to utilize their funds more fully in purchasing Government
securities, recognizing that through this action they are rendering valuable assistance in financing
the war effort without sacrificing their ability to meet any demands for cash that may be made
upon them.
I feel confident that every bank in this district wishes to do its fair and equitable share in
financing the war program. It is a huge undertaking but it can be carried through successfully if
each bank will analyze its individual situation with the view of taking such action as may be
deemed desirable and necessary. In that manner the banking system can best perform its tradi­
tional function.
Yours very truly,
P. S.—If desired, additional copies of this letter for distribution to the directors of your
bank will be furnished upon request.

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