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PROBLEMS IN
w
THIRTY-SIXTH
THE FEDERAL
ANNUAL
RESERVE BANK
1950
REPORT
OF PHILADELPHIA
A Review of 1950
And of Some of the Economic
Problems which Emerged
FEDERAL RESERVE BANK
OF PHILADELPHIA
April
The year 1950 was one of
decision.
12,1951
Two
choices were made by the people of the United
critical
States.
By our action in Korea, we indicated our willingness
to
lead the free peoples of the world in efforts to stop the
steady onset of totalitarianism. On the home front, we
decided to budget, permanently
if necessary, the goods
and services required for thorough defense. A constantly
mobilized
economy will
present grave new problems.
The beginnings of these are discussed in this Annual
Report for the year 1950.
CONTENTS
PAGE
1
Problems in a Mobilized Economy
19 50-A
Case of Inflation
Monetary Policy
........
3
...................
12
.
..................
Problems Imposed by Defense ......
15
.
What Are the Alternatives?
...............
.
31
Conclusions
. ......
. ..
33
Reserve Bank Operations
Directors
Officers
Appendix
22
36
. ...
...........
.....
37
.....
....
... "". " ........
....
38
PROBLEMS
IN
A
MOBILIZED
ECONOMY
THE
YEAR 1950 was
of decision. It was important not only
for the events it brought,one
but for those it portended. The outbreak
of fighting abroad, this time in Korea, once again posed a threat
to our way of life. The reaction in the United States, and the rest
of the free world, was not long in appearing. We resolved to
defend our freedom
against the threat of aggression, and to gear
our economic system for national defense. Whether our economic
system should be converted to an all-out war effort or to a partial
effort for a prolonged period is uncertain. At present, national
policies are pointed toward the latter objective.
The basic task
free enterof any economic system-whether
prise or socialistic, whether in war or in peace-is to make full use
of the limited amounts
of labor, raw materials, and plant to produce the
goods and services people want most. In a system of free
enterprise such as we have in the United States, the free market
mechanismplays an important role. Most of the goods and services
produced are sold-in markets; most of the things we consume are
bought-in
marketplace. Goods and services produced flow
from farm the factory
and
to the wholesaler, the retailer, and finally
to the consumer. Consumer and business purchasesset up a return
flow of
money-money paid out in production-to
the retailer,
the wholesaler, and finally back to the producer. Goods are
exchanged for money
and money for goods at certain ratios or
prices. The price
mechanism records the interaction between the
money flow and the
few
goods flow. Too much money and too
goodsmean rising
little
inflation;
too
money results in
prices and
falling
prices and depression.
The flow
of goods, both
to kind and quantity, is determined
mainly by the decisions as
of millions of independent producers
1
In making deciwithin the limits of their capacity to produce.
for
factors
but
by numerous
the outlook
sions, they are guided
the price of their product, the volume of sales, and the cost of producing it are especially important. The flow of money is determined
by the amount we have to spend and our willingness to spend it.
The major source of the money flow is production itself, the total
being equal to the total value of goods
amount of income paid out
by
The
money stream is influenced also
and services produced.
loans
bank
banking
Commercial
and
system.
the operation of our
investments add to the borrower's deposit account. They pour
power
new money into the spending stream. Total purchasing
income
available during a given period consists of both money
and the amount of new funds created by loans and investments.
In a partially mobilized economy, the basic task of using the
limited supply of resourcesto produce the things people want most
remains the same, but the character of our wants and needs
changes. A larger part of the total output of goods and services
must go for defenseand a smaller part for civilian use. This is the
economic side of the defenseproblem in real terms. Defense production turns out money income but it does not put any goods
in civilian markets for this income to buy. In addition, credit
expansion which tends to accompany the high level of production
and employment pours new money into the spending stream. The
problem in financial terms is to prevent the money stream from
becoming excessivein relation to the limited supply of civilian
goods-in other words, to prevent inflation.
The danger from foreign aggression is generally recognized,
but not so many of us are aware of the threats created by economic
mobilization itself. Success in preserving our essential freedoms
requires not only a strong defense against foreign aggression but
also against the inflation forces unleashed by the defense program.
Likewise, effective action requires carefully planned strategy in
meeting the economic problems at home as well as in meeting the
military problems abroad. This report, in addition to reviewing
briefly the significant business and financial developments in 19 5 0,
examines some of the problems of a mobilized economy and alternative methods of dealing with them.
2
1950-A
CASE OF INFLATION
Economically speaking, 1950 wore two suits of clothes. For
nearly six months, the country was treated to the spectacle of a
high,
unfaltering demand for goods which was met on even terms
by a constantly growing
production. The pattern by which the
economic fabric was cut was a balance between rising civilian
demandand the
ability of the economy to meet that demand. Then
camethe Korean War, and mufti was exchanged for Army khaki
and Navy and Air Force blue. The fear of shortages put the whip
to civilian demand, and it outraced production. The fabric was
still of civilian texture, but it was cut to a pattern of inflation
and semi-war.
Toward balance
In industrial America,
for consumer
the demand for houses,
durable
goods, such as automobiles, appliances, and furniture,
and for businessplant and equipment, provides the touchstone of
prosperity. When industries such as the construction and automobile industries are working to meet a high level of consumer
demand, they
carry with them to prosperity a large number of
corollary industries. A building boom
stimulates the production
of basic raw materials such as lumber, steel, copper, glass, and
building hardware. It
also provides a substantial fillip for industries producing home furnishings like furniture, floor coverings,
draperies
and home appliances such as ranges, heating units, refrigerators, and other necessities for household operation. A large
demand for
automobiles is passed on to manufacturers of parts
and supplies such
as forgings, electrical installations, tires, batteries,upholstery and
other items, and to producers of basic items
such as steel, lead, copper, fiber,
and glass.Expanding production
in these
industries
adds to incomes which in turn react
favorablyrelated
on the construction and automobile industries.
At the outset
of 1950 and during the first four months of
the year, the
economy was delicately poised between a high level
of demand for
all sorts of goods and our ability to produce those
3
goods.The principal obstacle to a return of prosperous conditions
had been removed in 1949 when the liquidation which reduced
businessinventories about $5 billion was checked. This development, together with work stoppagesin that year, converted some
areasof the economy from buyers' to sellers'markets. The recovery
which became apparent with the revival of the building boom in
the latter half of 1949 was carried over into 1950. In six months,
approximately three-quarters of a million housing starts were
recorded, the largest for any similar period on record. In many
areas,new houseswere sold before completion. Numerous communities throughout the Philadelphia Federal Reserve District
building permits
participated in the building boom. In six months,
for new residential construction in the Philadelphia-Camden
metropolitan area were more than double those of the first half
of 1949. Despite the volume of construction, most new houses
built in this areawere sold before or during construction, according to a mid-year survey in which this Bank participated. Unlike
the year before, there was no inventory of finished but unsold new
houses.The demand for automobiles continued unabated during
the first half of 1950. More than 3 million automobiles were sold
at factories from January through June.
The buoyancy in the construction and automobile industries
was counteracted in part by the fact that Federal expenditures,
while slightly larger than in the first half of 1949, were brought
nearly into balance with receipts, the net deficit for the period
amounting to only $315 million. Exports to June also fell 27 per
cent below the similar period in 1949. Business expenditures for
plant and equipment were 12 per cent smaller than in the previous
period. There was nothing puny about the size of business expenditures for plant and equipment, or again of Government expenditures but, although large, they were not increasing and could not
therefore be counted among the inflationary forces building up in
the first half of the year.
The flow of goods as measured in physical units of output
rose
during the first half of 1950. This
almost without interruption
was particularly true of durable goods in general and of such basic
4
items as iron and
equipment.
steel, machinery, and transportation
In June,
the volume of industrial production,
according to the
Federal Reserve Board's index,
for the half
was up 11 per cent
year. The most
spectacular rise was registered by producers of
automobiles, production being
half again as large in June
nearly
as in the preceding December. Virtually
all industries participated
in the
expanding activity.
By June, construction
was
activity
49 per cent
above a year earlier, the production of durable goods
was nearly one-fourth
of both mingreater, and the production
erals and nondurable
goods was up about 14 per cent.
The
extent to which the flow of goods coming off the production line keeps
pace with or lags behind the demand for goods is
measured by the movement
flow of goods
of prices. When the
equals the demand for them,
If, however,
prices tend to stabilize.
demand
four
For
outruns production, prices rise.
months in 1950,
prices were fairly
level,
the average of
steady. At the wholesale
all prices included in the Bureau
index
Labor
Statistics
advanced
of
only 1.1 per cent. The largest increase was registered by farm
products, but even this
rise was only 2.8 per cent.
After April,
demand
the impact of the unrelenting pressure of
upon the available
to
supply of goods caused the price structure
give way a little. It
difficult for probecoming
increasingly
was
ducers
to keep pace with the accelerating rate of demand, and
wholesale
prices in the next two months jumped nearly three
times as much
Food regisas in the first four months of the year.
tered the
greatest price increases, but the prices of manufactured
beginning to
articles also
rose. The symptoms of inflation were
appear.
Sources
L
of buying power
The
income, the
spending stream is fed by three tributaries:
use of savings,
94
or 95 cents
and credit. People normally spend
of every dollar
first
half
1950 they
in
income;
of
the
of their
Spent about
94 cents.
5
in
Personal income rose during the first part of 1950, reflecting
brief
labor
force.
After
in the civilian
a
part more people employed
laborers at work in
in
the number of non-agricultural
reduction
the first quarter of the year, the number of persons employed, ex2 %2
in June-about
cept in agriculture, rose to more than 52 million
lengthened,
The work-week was
million more than a year earlier.
in
June,
women
averaged
about 4 per cent more time
men and
and
hourly earnings rose
job
earlier,
and
average
than a year
on the
developments
about 5 cents. The combined effect of these three
in
personal income after
and mounting profits was an increase
billion,
about $9 billion higher than
taxes to an annual rate of $196
in the last quarter of 1949. This tributary of the spending stream
before. A fatter
was considerably larger than it had ever been
by
the payment of a G. I. insurance
pay envelope was augmented
billion
in
dividend of nearly $3
the first quarter.
People also borrowed against future earnings to purchase
homes, automobiles, and consumer durable goods at an increasingly
rapid rate. Recordings of non-farm,
residential mortgages
of
$20,000 or less, were 35 per cent higher than in the first half of
1949. Member banks participated in the expansion of real estate
credit, their residential property loans rising about $700 million.
In contrast with a decline in the first half of 1949, the volume
of
consumer credit outstanding rose steadily throughout
the first
six months of 1950. Instalment credit for the purchase of autobut every category
mobiles displayed the greatest vitality,
of
instalment credit either advanced more rapidly or declined to
a
smaller extent than from January to June 1949. Member banks
added about $850 million to "other loans to individuals, " consisting
chiefly of consumer loans, and total loans of this class outstanding
on June 30,1950 were one-fourth larger than a year earlier.
The expansionary trend in real estate
and consumer
was counteracted, in part, by a decline of $324 million, or
2 per cent, in commercial, industrial, and agricultural loans.
ever, on June 30,19 50, business loans were $560 million
than a year earlier. Total loans of member banks rose $1.5
in the first six months of 1950 and at mid-year were $3.3
6
credit
nearly
Howlarger
billion
billion
ý
above the level of June 30,1949. Member banks in the Third
Federal Reserve District
reported an increase of $71 million in
businessloans during
the same period.
The
aggregate money supply displayed little change from December 31,1949 to June 30,1950. Deposits, however, were used
more actively than during the first half of 1949. The turnover of
demand deposits,
seasonally adjusted, was 4 per cent greater in
New York City
and 2 per cent greater in other leading cities.
Korea brings
more inflation
June brought
shocking news. The North Korean Communists
crossedthe 38th parallel,
and the United States, although reluctantly, determined to
defense of
resist Communist aggression. The
our freedom involved
for
that total war
war-not
preparation
was inevitable, but rather becausethere seemedlittle hope of preserving both peace and freedom
while unarmed.
The problem
posed by the Korean War was two-fold. In the
first place,
deterdecision
the
to resist aggressionalso involved the
mination to produce less"butter"
have
the
in order that we might
requisite guns. How
much of a sacrifice of civilian goods would
be required
was not clear, even at the end of the year, but a substantial diversion
to defense pointed toward
of civilian
shortagesin many items. In production
the second place, changing our course
from
a peacetime to a defense economy also posed the problem of
growing inflation. Under
the circumstances, there was a strong
tendency for
by the
the
supply
of
civilian goods to be outrun
income
This
for
available
problem
the purchase of those goods.
wasintensified by
the fact that the economy was already operating
closeto capacity,
and production lines were finding it increasingly
hemem.
t to pour goods into the market at the rate people demanded
t
them.
Some symptoms
before the
of inflation had appeared even
enlargeddefense
burdens.
brought
program
added
People did
for an answer to the question how much
of a sacrifice not wait
in living standards was to be required of them as the
7
defense effort progressed.With the news that the United States
had decided to opposeaggressionwith armed force, a tidal wave of
"caution buying" covered the retail market. Overnight, retail
housestores experienced an abnormal rise in sales.People bought
hold appliances,television sets, furniture and bedding, floor coverings, hosiery, shoes,towels, sheets,and even foodstuff s-anything
that might become scarce.The department stores did a huge volume of businessas salesjumped 21 per cent in one month. Homefurnishings led the list of items most commonly sought. But the
caution buying did not last long. In three months it was nearly
over and the volume of retail sales,seasonally adjusted, declined
steadilyuntil November. Merchants, anticipating a good Christmas
season,placed heavy replenishment orders; and then just before
Christmas, caution buying surged upward again as the Chinese
Communists swept down from Manchuria. December retail sales
were 16 per cent larger than the previous Christmas season. The
major part of this rise was due to price increases.
The purchase of automobiles, new homes, and other consumers'
goods, and business investment in inventory, plant, and equipment
added impetus to the boom. Factory sales of automobiles in the
domestic market from July through December
were almost onethird larger than a year earlier. Housing starts were 20 per cent
larger than in the second half of 1949, bringing the total
number
of housing starts for the year to a record of about 1,400,000. These
two basic industries carried many corollary industries to higher
levels of prosperity.
The upsurge of consumer spending was accompanied by rising
business expenditures for inventory and increased outlays for plant
expansion and modernization of equipment. Business inventories,
seasonally adjusted, grew about 14 per cent between June and
December, but a major part of this increase reflected the rise
in prices.
Businessmen not only stepped up their expenditures for inventories, but also their long-run plans for plant expansion and new
equipment. Expenditures on new plant and equipment
were
8
increasedfrom $8 billion in
the first half of the year to $10 billion
in the secondhalf,
according to the joint estimates of the Department of Commerce and the Securities and Exchange Commission.
Of the segments of the
economy demanding goods after June,
Federal
only the
Government failed to increase its demands until
thelatter part of the year. The preparednessprogram of the Federal
Government
remained largely in the planning stage until the closing weeks of the
year, and Federal cash expenditures were $1
billion smaller
than in the last half of 1949. With increased tax
rates and higher incomes, Government cash receipts actually
exceededexpenditures by more than three-quarters of a billion
dollars.War had
come suddenly, but conversion from a peacetime
economy to a defense economy is not accomplished overnight.
The supplies
needed to equip a military force of 3 %zmillion men
are necessarily huge, and obtaining them from the economy
requires careful planning. The balance of 1950 was devoted to
planning, and only a small trickle of these orders found its way
into the
economy before the close of the year. The rising demand
for goods
after the outbreak of the Korean War was primarily
civilian in origin.
Industry
its shoulder to the wheel to meet the enlarged
demandfor put The
level of production was pushed up another
goods.
9 Per cent,
according to the seasonally adjusted Federal Reserve
index industrial
of
production. Producers of machinery expanded
production more than 17 per cent. The majority of industries
manufacturing durable items
achieved moderate to substantial
increasesin
Many manufacturers of nondurable items
production.
3alsoexpanded
production.
But these
renewed efforts were insufficient to stem the tide of
inflation,
and prices climbed faster than ever. Prices of raw materials imported from
the Eastern Hemisphere took wings; in the
half
year, wool tops were
jumped
up 70 per cent, the price of tin
over 90 per
cent, and rubber 160 per cent. Industrial metals were
in great demand,
and the price of lead rose 55 per cent, steel scrap
rose more
than 25 per cent, accompanied by smaller price increases
for zinc and copper. Price increasesoccurred in all major classes
index
of commodities. At the close of the year, the all-commodity
Foods had
of the Bureau of Labor Statistics was up 11 per cent.
farm and food
gone up 10 per cent, and commodities other than
largest
The
increases
had
occurred in
risen 12 per cent.
products
hides,
and housetextiles and textile products, chemical products,
hold furnishings. In general, raw materials were up 12 per cent
and manufactured commodities, 10 per cent from June.
Consumer prices rose steadily but more moderately in the wake
of sharply rising wholesale prices. At the end of the year, the
index of consumer prices, prepared by the Bureau of Labor Statistics, was up nearly 5 per cent above the June level. Prices of items
than
classified as housefurnishings showed the greatest rise-more
10 per cent-and
retail prices of apparel advanced 6 per cent and
food prices rose 5 per cent. Rents inched up steadily about 1 %2 per
cent. At the end of the year, it was clear that the tempo of inflation
was quickening, and it was apparent that the battle of the price
bulge would be equally as tough as the military struggle.
The swollen spending stream
The spending stream rose higher on its banks as the second
half of the year progressed.Record production and employment,
and a longer work-week at rising wage rates, produced record
levels of personal and businessincome. The number of persons
employed in non-agricultural industries jumped more than 1 Y2
million by December, and unemployment amounted to less than
4 per cent of the total civilian labor force. Accordingly, weekly
earnings in many industries rose. Some of this increment was
diverted through increased taxation in the last quarter to the
defense effort, but disposablepersonal income rose to a record
annual rate of about $212 billion in the fourth quarter. On the
average, people spent 95 cents out of every dollar earned in the
last half of the year.
10
People saved a little less after June; they dipped into their
savingsmore freely to purchase goods. Fewer E Bonds were sold
and redemptions during the last half exceeded purchases by more
than $500 million. Withdrawals of savings and loan shares
increased.There
was a moderate liquidation of security holdings.
Time deposits in
all banks declined moderately but steadily, and
at the year's end were $570 million smaller than on June 3 0.
The spending stream was fed by a growing volume of loans.
The volume
of businessloans of all member banks rose nearly $5
billion, or 28
per cent, during the half year. Following the national
trend, but at a slower rate, businessloans of member banks in the
Third Federal Reserve District
rose 21 per cent to a total of $931
million at the year's end. Partly as the result of the reimposition
of Regulation W in the third quarter of the year the rate of growth
in the volume
of outstanding consumer credit slowed up somewhat.
However, there
was a net addition of nearly $2Y2 billion to the
total volume of consumer credit outstanding from June to December, a
smaller increase than for the same period a year earlier.
Nearly
all types of consumer credit grew at a slower rate than in
the previous year but
charge accounts, reflecting in part the
increasein
the price of goods at retail, expanded faster than in
1949. Real
estate credit climbed higher than ever as the housing
boom
continued. The volume of non-farm mortgages of $20,000
or less recorded from July through December reached almost
$9 billion,
an increase of 38 per cent over the previous year.
Fed by
growing incomes and the greater use of credit, the
supply of dollars
pouring into the spending stream grew and each
dollar
was used more often. At the year's end, the aggregate of
demand
and time deposits and currency outside the banks was
more than $7 billion
greater than at the end of June. The turnover
of demand deposits in banks in leading
cities other than New York
rose substantially in
the third quarter and declined only slightly in
the fourth
quarter. It averaged more than 21 times a year-a rate
greater than in
any comparable period since 1937.
11
MONETARY
POLICY
The job of the Federal Reserve System is to regulate the volume
help keep the amount of spending in
of credit in such a way as to
balance with the available supply of goods at current prices. For
the over-all
this purpose, the System has tools for influencing
supply of credit, mainly by influencing the volume of member
bank reserves. The System also has authority to regulate the use
of credit for certain purposes. Both types of tools were put to
use in 1950.
Economic stability characterized much of the first half of
19 50. The recovery which appeared in the fall of 1949 continued,
with production increasing and prices moving up only slowly.
No sizable defense program had been planned. Accordingly,
the
easy-money policy pursued in the latter part of 1949 was modified
only slightly in the early part of 1950. Some Government securities were sold by the System to satisfy the investment demand for
them, and at the end of June the volume of Government securities in System portfolios was about $5 50 million smaller than at
the outset. This development, together with the loss of nearly
$200 million in gold, more than offset seasonal factors such as the
return of money from circulation, and by the middle of the year
member bank reserve balances had declined over $600 million.
With the emergence of strong inflationary tendencies in the
second half of the year, the problem was clearly to combat the
developing inflation. The first tool employed by the System was
"moral suasion." On August 4, the Board of Governors joined
with other Federal and state supervisory agencies in requesting
voluntary cooperation by banks and other lenders in restricting
their lending and investment activities. This appeal was repeated
on November 17 in a letter by the Chairman of the Board of
Governors to all member banks.
In the latter part of August, the discount rates of all Federal
ReserveBanks were raised from 1/2 per cent to 13/4per cent; and
there was an increasein interest rates on short-term Government
12
securities. Raising the rediscount rate makes the acquisition of
additional reservesby member banks more expensive and tends to
discouragean expansion
banks have large
of credit. However, as
quantities of Government securities in their portfolios which they
can sell in order to acquire additional reserves,the use of the rediscount rate has become less effective.
Open market operations constitute potentially one of the most
effective anti-inflationary weapons in the Federal Reserve tool
chest.The saleof Government securities from the portfolio of the
FederalReserve System
reduces member bank reservesand shrinks
the baseupon which new credit can be extended. The use of open
market operations, however, has been restricted by the policy of
maintaining a stable market for Government securities.
Factors Influencing
the Volume of Member Bank Reserve Balances,
June 30 to December 31,1950
(In millions of dollars)
Additions to
reserves
Federal ReserveBank Credit
U. S. Government
securities .....................
Loans, discounts, and advances
....................
Float, industrial loans, and acceptances............
Total
Decline in TreasuryReserveBank Credit ....................
deposits with Federal Reserve..........
.
Other additions
.......
............................
Total additions
Deductionsfrom
.. ...
.......................
reserves
Net gold
Increaseinexports ....................................
money in circulation ......................
Total deductions
............................
increasein
member bank reserve balances ..................
$2,447
24
1,042
$3,513
282
62
$3,857
1,525
585
$2,110
1,747
Banks and
other lending agencies were selling substantial
amountsof Government
for loans and
securities to obtain funds
other forms
Treasury
investments.
Moreover,
terms
new
the
on
of
issues
offered in exchange for maturing securities were not attractive enough
and the Federal Reserve added substantial amounts
13
through its support purchases.At the year's end, the volume of
Government securities held by the System was $2.4 billion larger
than at mid-year. The increasein System holdings of Governments
during this period,
was the major factor adding to bank reserves
float and by other
by
increase
in
lesseramounts being supplied
an
drain
on reserves resources.These additions more than offset the
billion
from
$1.5
of gold and from the seasulting
the outflow of
in
At
in
the year's end, member
circulation.
sonal increase money
bank reserve balances were about $1.7 billion larger than at the
end of June.
To offset this development and as a further step toward arresting the progress of inflation, an increase in the reserve requirements of member banks was announced December 28. By raising
the percentage of their deposits which member banks are required
to keep on reserve, the amount of funds available for lending or
investment is reduced. However, the presence of a large volume
of U. S. Government securities in member bank portfolios, which
can be converted readily into reserves, also reduces the effectivenessof this instrument.
The Federal Reserve System was also given the responsibility
for regulating the use of credit for the
purchase of consumer goods
for these regulations was granted by
and real estate. Authority
Congress in the Defense Production Act of September 1950.
Regulation W was issued to restrict consumer credit, and Regulation X restricts loans, not insured or guaranteed by the GovernSimilar restrictions
ment, for most types of new construction.
were imposed on Government insured and guaranteed real estate
loans. These regulations have a dual objective: to reduce the
size
of the spending stream, and to divert men and materials from
civilian to defense production.
The restriction of credit is but one phaseof the battle against
inflation, and the activities of the Federal Reserve System tell only
part of the story. In the latter half of 1950, the spending stream
was swollen not only by a greater use of credit but also by rising
incomes and by the greater use of savings. Fiscal policies should
14
ý
supplement monetary policies in draining off excess purchasing
power. If the Government takes in more than it spends, it reduces
the money supply
demand for goods.
and thereby moderates the
Tax
rates were raised in the last quarter of the year to put fiscal
policy into the inflation battle,
Governwith the result that the
ment's cash receipts have
in
balanced
spite of inpayments
about
creased military
Debt
expenditures.
management can also be a
very helpful tool in the battle against inflation. Under present
conditions, vigorous
Governefforts should be made to place new
ment securities whether for
for
maturing
refunding
new money or
issues,
outside of the banking system. This means that the terms
on new issues must be
buyers.
made attractive to non-bank
PROBLEMS IMPOSED
BY DEFENSE
The major
began
problems
a partially mobilized economy
to emerge in 1950. In of latter
industry
was
the
part of the year,
feeling the
pressureof a peak level of civilian demand and facing
a sharp rise in Government
purchases for defense. Backlogs were
increasing,
The
were developing, and prices were rising.
defense shortages
defense
in
for
in
problem
real terms is to get more goods
the face of the
demand
for civilian goods and services.
vast
The financial
is that of
problem posed by the defense program
checking inflation. The
for
the volume of spending to
tendency
exceed the
supply of goods and services at current prices stems
Primarily from
two sources. The sharp rise in bank loans and
investments
into
has been
pouring a large amount of new money
the spending
stream
time when money incomes are already
at record levels. The at a
factor which is of increasing imporsecond
tance is that defense
but
production is adding to money incomes
not to the supply
buy.
Unless
for
incomes
to
these
the Government of civilian goods
its
siphons off enough income to pay all of
expenses,Government borrowing
further
to an already
will add
excessive
supply of purchasing power.
These
are the basic problems confronting us in a partially
mobilized
economy. In this section, we are concerned with how
15
we can best solve these problems becausea vigorous and growing
economic system is the very foundation of a strong national
defense.Can we rely on the free market mechanism, or is it neceslead us into
sary to supplement it in some ways? These questions
an analysisof how the free market works, whether it can solve the
if
problems facing us in a mobilized economy, and in what ways,
any, it may need to be supplemented.
How the free market works
The free market mechanism runs so smoothly that we often
fail to recognize the work it does.In brief, the market mechanism:
(1) measuresour wants and determines which goods people want
most; (2) gets labor, raw material, and plant into the production
of these goods and services; (3) regulates the distribution of the
income produced among those who participate in its production;
(4) rations the limited supply of goods produced among consumers; and (5) protects individuals against the selfish exploitation of others.
Sinceit is impossible to produce as many goods and services as
people want, there must be some device for measuring the things
we want most. In a totalitarian country, the State determines what
people "want"; what is good for them-or at any rate what they
shall have. The free market mechanism, however, registers the
choices of each consumer. The consumer indicates his preference
when he spendshis money. If a man buys a white shirt, he casts
dollar votes for the production of white instead of colored
shirts.
If he buys orange juice, he votes for the production of oranges
instead of grapefruit. The total amount spent for different goods
and services measurestheir importance to consumers as a whole.
The market is a very sensitive barometer of human wants, as
any
businessmancan testify.
The next job is to get labor, materials, and plant into the
production of those products and services people want most. In
a
totalitarian State, this would be done to the extent necessary by
force, moving men and plant about like checkers on a checker
16
board. In
free enterprise such as ours, however, people
have the a system of
right to choose what they do. Manpower and facilities
can be shifted from the
production of one good to another only
by providing incentives
for the change. This incentive is provided
through the
workings of the price-cost-profit mechanism. If consumers want more
of a certain product and have the money to
pay for it, saleswill
rise. The increase in demand is quickly transmitted through the
markets to the producer. If the increase in
demand is
prices tend to rise and profits increase. A
decreasein sufficient,
demand, on the other hand, results in smaller sales,
lower
prices, and lower profits or losses.Thus, profits act as a
governor calling forth more production as they rise and shutting
off production as
profits decreaseor as lossesoccur.
In addition
to acting as an incentive, the market mechanism
affects the ability
of producers to bid for scarce materials. Producers
engaged
in
the more profitable lines of production can bid
labor,
materials, and plant away from those engaged in the less
profitable lines.
A third job
the free market does for us is to distribute the
income
is
created
in
production. In a totalitarian system, income
divided
up primarily according to the will of the State. Under our
system,however,
the wage going to the laborer, the profit going
to the businessman,
investor
and the amount of interest going to the
who makes some
of his funds available for production, are the
result mainly of market forces. It is the value of services rendered
as determined in
the market that establishesrates of pay which
vary widely among laborers,
businessmen, and investors. Basically,
the principle
underlying this method of distributing income is
that each participant in
production shall be rewarded according
to the market
less
his
value of
contribution. If someone receives
than the value
his contribution, competition for his services
tends to raise hisofincome.
If he receives more, competition would
force
a reduction. To be sure, there are many qualifications to the
operation of this
principle in the real world. With the high degree
of specialization
exists today, the work of many individuals
and machines which
goesinto a finished product. It is impossible to mcas17
Group
ure the exact dollar and cents contribution of each person.
rather than individual bargaining by workers and employers
for each his
reduces the competition which is supposed to get
free
rightful reward. Despite the numerous interferences with the
market mechanism, it is still generally true that those making the
more valuable contributions as measured by market forces are
rewarded with the larger incomes.This principle of gauging one's
money income according to the value of his contribution provides
the maximum incentive for efficiency and extra effort. It is one
of the real advantagesof a free enterprise economy.
A fourth task is to ration the limited supply of finished goods
among consumers. Under totalitarianism, the State, in fixing prices
and wages, makes most of the decisions. In a free enterprise system
the price mechanism, which registers the choices of the people, does
most of the job. As we have seen, prices such as wages and interest
determine the money
rates-established in the market-largely
income received. In turn, prices established in the market determine the amount of goods and services this money income will buy.
Within the limits of their purchasing
power, people are free to
make their own decisions as to what and how much they will buy.
Price is the governor, tending to keep demand and supply in balance. If there is not enough of a product to meet demand at the
current price, the price tends to rise. The higher price tends to
restore balance by cutting off some purchases and stimulating
an
increase in production. If too much of a product is put on the
market, prices fall, stimulating purchases and discouraging
production.
Scarcity is a relative term and not one of absolute amounts.
Goods become scarcewhen the available supply is not sufficient to
meet demand. This situation may arise either from limitations on
the supply sideor an increasein purchasing power. In the last few
months, for example, we have had numerous shortages, with production running at all-time peaks, primarily becauseof a tremendous increasein demand and buying power. Normally, scarcity is
reflected in higher prices. If for some reason, prices do not rise
enough to restore balance, scarcity manifests itself in shortages or
18
backlogs-evidence
that people would buy more at the current
price if they could get the goods.
Finally, the free
market helps to protect us against the selfish
exploitation of others. Buyers are free to buy or not to buy, and to
choose among sellers. Sellers compete against each other for the
consumer's dollar. Buyers are inclined to go to the seller who gives
the most for the
which it
money. Freedom and the competition
fosters help
to prevent the sale of goods and services at exorbitant
prices. Competition does not provide complete protection because
buyers do
not have sufficient information
about the quality of the
many products they buy, and for numerous other reasons. Nevertheless, competition
is still basically a vital force helping to
guarantee the consumer
a good quality product at a reasonable
price.
It is obvious that
numerous conditions have developed which
modify the workings of the free market as outlined above. The
dominance
of a few large producers and combinations among
businessfirms
has modified competition in many industries. The
growth of labor organizations and collective bargaining has greatly
modified competition among laborers in bargaining over wages.
Numerous factors
interfere with the free movement of workers,
employers, and equipment from one kind of production to
another. We have called
upon the Government to intervene many
timesbecausewe
dissatisfied
are
with the cards which a free market
deals
us. Despite the many modifications which exist, however,
we still rely on the free
market mechanism normally to perform
the basic functions
summarized above.
The free
market in a mobilized economy
Can we rely
on the
to guide us to the objectives of a
semi-wareconomy? The market
free market can continue to perform most
of thesefunctions in
But it will be necessary
to supplement it in a satisfactory manner.
some respects. Market forces alone cannot
bring
about the necessary increase in defense production, unless
19
BUSINESS AND FINANCIAL
UNITE
FEDERAL
SURPLUS
DEFICIT
HOUSING
STARTS
ATTAINED
NEW
RECORDS
A SMALL
NET
SURPLUS
WITH
LAGGING
EXPENDITURES
}.-I
RETAIL
SALES
CASH
AND
INDEX
220
1950-j
49
INDUSTRIAL
PRODUCTION
uaaoo"wo
i. ww, üv "wwTm
ncwwuAur
SHOWED
THE
EFFECT
OF
SCARE
BUYINC^
CLIMBED
193 CF.
195C
r
200
ýý,,
180
, ff_j1049
BUSINESS
INVENTORIES
`ff
ýfýii,
j
f
EXPANDED
AND
180LI-t
BILLIONS
220
SJ
.
1
DISPOSABLE
INCOME
! LASONALLYýADJJZTW
INCREASED
SHARPLY
BILLIONS
210
$
Hwýý "ýru
EXPENDITURES
FOR NEW
PLANT
AND
EQUIPMENT
1950
200
INCREASED
too
ieo
I
20
-ý.
)I
i11
DEVELOPMENTS
IN 1950
STATES
BILLIONS
TIME
AND
SAVINGS
DEPOSITS
I
REAL ESTATE
LOANS MADE
2.0
RO$E
THEN
DECLINED
AFTER
AND
DROPPED
MID-YEAR
1.5
ý -, -_r--
1.0
`, fi,,.
.5
~ý
1949
ý,
MONEY
SUPPLY
INCREASED
AND
INDEX
WHOLESALE
PRICES
iao r
SOAPED TO
NEW PEAK
170
1050
1ao
ýý
.....
ý.
150
21
ýoýa
ý . ýýt
ýý`ý.
A
for all of the
the Government siphons off enough income to pay
buying
power
goods and services it buys. Otherwise the excessive
for an
for
constant
pressure
goods
will
exert
civilian
available
increase in their production. It pins down manpower, materials,
and plant which should be shifted to defense production.
A second difficulty is that the free market does not automatically adjust the total money flow to the flow of goods. Consequently, it does not keep over-all demand and the total supply of
goods and services in balance at a stable level of prices. When
there is too much money, prices rise and we have inflation; when
there is too little, demand declines, production slows down, and
we have depression.
forces.
A semi-war economy spawns two strong inflationary
Defense production, by adding to money income without adding
to the supply of civilian goods, tends to create a gap between
demand and supply at existing prices. The banking system in
meeting the large credit demands of consumers, businessmen, and
government, pours new money into the spending stream. As a
result, there is a persistent tendency for the money flow or demand
to exceed the supply of civilian goods available for purchase. In a
free market, this excess purchasing power would continue to push
prices higher and higher.
WHAT
I
ARE THE
ALTERNATIVES?
In a garrison state, we face the problem of providing more
goods and services for defense and of checking inflation. The
enlarged defenseneedscan be met in part by increasing total output, and in part by diverting labor, materials, and plant from
civilian to defense production. The Government has already taken
steps to solve the production problem by providing credit and,
where necessary, Government-owned plant and equipment to
promote defense production. Priorities and allocations are being
imposed to channel more of the scarce raw materials into
the
defense program. Successon the production front will not be too
22
difficult to
inflation. achieve, particularly
if we can avoid the ravages of
The most difficult
problem facing us in a partially mobilized
economy for an unlimited duration is that of checking inflation.
That we
must
goods we could have otherwise is obvious.
The real burdengive up defense
The
of the
program cannot be postponed.
only question is how shall we distribute the sacrifice. Who gets
the long straw
dealing with
and who gets the short one? In
the problem of inflation there
are three basic courses open to us:
(1) remove
excesspurchasing power through indirect controls;
(2) suppressits
use with direct controls on prices and wages; and
(3) let prices
continue to rise and inflation gather more momentum. Which of these courses is followed is not a matter of indifference because
the choice will affect the economic well-being of
every individual.
Indirect
controls-fiscal-monetary
measures
The ideal
defense
solution of the inflation threat created by the
program and credit expansion is to adjust the supply of money
to the supply
of goods. This would remove the source of inflation,
reestablish balance between
money and goods, and permit the price
mechanism to continue to
perform its function of rationing the
limited
supply of civilian goods. Over-all prices would be held
steady by reducing the flow
but the prices
of purchasing power,
of individual products
is the way
be
left
free
This
to
move.
would
of so-called indirect controls. The objective is to remove the
excess purchasing power, leaving businessmen and consumers free
to make their
own decisions as to what and how much to buy
within the limits of the funds they have available. Fiscal and
monetary measures hit directly at the source of inflation.
Fiscal policy is the
major weapon for closing the inflation gap
which defense production
tends to create. It cannot be done by
increasing
total production because all production creates income,
but
only a part of the total is available for civilians. The gap can
be
dipping as much our
closed only by siphoning off income-by
23
Since Treasury
of the income stream as out of the goods stream.
incomes,
and cash expenditures
cashreceipts reduce private money
enlarge them, receipts should at least be sufficient to meet all
expenditures. A balanced budget, however, means only that the
Government is not adding to the spending stream. Actually, a cash
from
surplus is neededto help offset the enlarged spending coming
idle balances and newly created money.
The first step in getting this cash surplus is for the GovernWaste, if
ment to enforce rigid economies in its own expenditures.
budget
and non-defense
any, should be pared from the defense
bone. Having done this, taxes should
be
to
the
cut
spending should
be increased enough to provide a surplus which would effectively
curb excessive spending. Since consumer spending is the major
part of the total, the new taxes should bite into the incomes of all
consumers, except the lowest income groups. The tax program
should also be designed to distribute the defense burden as equitably
as possible.
Management of the Federal debt also has an important influenceon the money supply and spending. Federal Reserve purchases
of Government securities createbank reservesand commercial bank
purchasescreatenew deposit dollars, thus adding to the total supply
of purchasing power. New Treasury borrowing and the refinancing of maturing Treasury securities should be carried out in such
a way as not to result in a further addition to the money supply.
The terms, including maturities and interest rates, offered on new
Treasury issues,should be attractive to non-bank buyers as a means
of siphoning off current income to help pay for defense.
Restrictions on the creation of new money through bank
credit expansion are another major part of this method of checking inflation. We cannot hold down total spending by siphoning
off current income aslong asnew money is being created to replace
it. A record amount of borrowing by consumers and businessmen
since the outbreak of the war in Korea has been pouring a large
stream of new money into an already excessivereservoir of purchasing power. Successin checking inflation requires that we curb
24
the stream of spending from
rent income.
future
income as well as from
cur-
The use of fiscal-monetary
measures to check inflation has
great advantages. Most important, perhaps, is that this method
cures inflation. The source is removed. If effectively applied, it
would maintain a balance between the flow of money and the
flow of civilian
goods at stable prices. A second advantage is that
it gives the
maximum amount of freedom for individual decision
which is consistent with achieving our defense goals. Consumers
and businessmenare still free to make their own decisions within
the limits of the reduced amount of purchasing power available
to them. Flexibility is a third advantage of this approach, especially
for a prolonged
period of rearmament and mobilization. Unless
a good measureof flexibility is retained, our economy cannot adjust
to changing conditions and it cannot grow, as it must, if we are
to have constantly increasing economic strength. A fourth advantage is that much of the work of allocating manpower, materials,
and plant; of distributing the income produced; and of rationing
the output of finished goods is left to the market mechanism. This
method is much less expensive both in money and in manpower
than the administration of a maze of regulations by the Federal
Government. Finally, by
legislation,
careful planning of new tax
the burden of the defense program can be distributed much more
equitably than under inflation.
A weaknessof this
approach is that it does not directly check
the upward pressure exerted by demands for more income on the
part of laborers, farmers, businessmen, and other groups. Rising
money incomes exert strong pressure for an increase in the money
supply and higher prices. Price and wage ceilings clamp a lid on
these pressuresand in this way help check the rising price-wage
spiral.
It should be
recognized, however, that effective fiscal-monetary
actions remove the condition which makes it easyto passon higher
wagesand higher costs in the form of higher prices. With substantially lesspurchasing power lying around, consumers are both less
willing and lessable to pay just any price that sellersmay ask. The
25
elimination of excesspurchasing power and the resulting stabilizafor
tion of the cost of living removes one of the strong arguments
high wages. They also strengthen the employer's will to resist
demands for wage increases. The major reason the wage-price
buying
spiral can continue upward is that there is already enough
it.
power available, or at least readily obtainable, to sustain
Flexible interest rates
Flexible interest rates are an essentialpart of an effective fiscalmonetary approach to the inflation problem. The paramount question here is what interest rate is best for maintaining economic
stability. The increased cost of higher interest rates, both to the
Government and to the public generally, would be repaid severalfold, if higher rates were effective in keeping prices from rising.
In considering the anti-inflationary
effects of a rise in interest
be
distinguished.
The one of pararates, two types of results must
mount importance is that higher rates would make possible an
effective limitation of the supply of credit. The Federal Reserve
System would be free to direct its purchases and sales of Government securities primarily with respect to the supply of reserves
which should be made available to commercial banks. With only a
limited supply of reserves available to them, commercial banks
would be compelled to restrict the amount of credit extended to
their borrowers. Within the limits of the funds available to them,
however, the banks would be free to decide to whom they would
1 make loans and on what terms.
The only way the prices of Government securities can be
kept higher (interest rates lower) than would exist in an unsupfor the Federal Reserve, or some
ported market is
other agency.
buy whatever quantity holders want to
to
to stand ready
sell and
which other buyers are unwilling to take, at the support prices.
Purchases made in supporting the Government security market
add to bank reserves and pour additional money into the spending
System purchases Government securities,
stream. When the
checks
If the seller is a non-bank holder,
are paid out to the sellers.
the
26
check will be deposited in a commercial bank, thus increasing
deposits.When
bank sends the check to a Federal
the
ReserveBank for commercial
its
collection,
reserve account will be increased
by a corresponding
If
the seller is a commercial bank,
amount.
only bank reserves are directly increased, but these reserves provide the basis for about a six-fold expansion of deposits. Thus,
Federal Reserve
purchases pour out high-powered reserve dollars
which serve as the basis for a multiple expansion in bank deposits.
More money,
unless matched by more goods, merely adds fuel to
fires
the
of inflation.
The Federal Reserve
can use its purchases of Government
securities either to
regulate the supply of bank reserves or to maintain low interest
rates (high prices) on Government securities. It
cannot do both effectively in a period of strong inflation, especially with a Federal debt
of nearly $260 billion. In periods of
inflation, lending
agencies sell Government securities and shift to
higher_yielding
loans and other investments. Some holders sell Govbuy stocks
ernment securities and
other fixed income obligations to
and other investments
in
increase
value as
which they expect to
prices rise. Under
Federal
Reserve
must
make
these conditions, the
substantial purchases if it is
Government
keep
seto
the prices of
dollars
curities from falling. Such
however,
new
pour
purchases,
into the
spending stream to compete for the limited supply of
civilian goods. On
limits its
the other hand, if the Federal Reserve
purchases so
as not to supply more reserves, Government security
prices will fall
and interest rates rise.
A result
of secondary importance of a rise in interest rates,
as in any other price, is the tendency to reduce demand. As
explained
previously, we normally rely on prices to ration the
supply of
If the supply of any good or service
becomes goods and services.
short relative to the demand, a rise in price, which cuts
out some would-be buyers, is
bringing
the free market method of
the two back into balance. A
likewise would
rise in interest rates
tend to
reduce the demand for credit-how
much the reduction
would be for
any given rise in the interest rate, of course, no one
can tell. The important
point is that any gain from this result is a
just
27
is a reduction
windfall tending to support the major effect which
in the supply of credit.
The policy of maintaining a stable pattern of interest rates on
Government securities was agreed upon at the beginning of World
War II. To facilitate financing the war, the Federal Reserve used
its open market operations to maintain a pattern of interest rates
from /8 of 1 per cent on bills to 2Y2 per cent on long-term
for Govmarketable bonds. As a result, a rigid structure of prices
ernment securities was maintained throughout the war and early
post-war period. Beginning in 1947, the Reserve System shifted
toward a policy of more flexible short-term interest rates. In June
1949, the Open Market Committee stated that its purchases and
sales of Government securities would be made with "primary
regard to the general business and credit situation. " The policy of
"maintaining orderly conditions in the Government security market" was continued. Recently, still further steps have been taken to
gain more freedom in using open market operations to regulate the
money supply in the interest of maintaining stable prices and stable
levels of production and employment. Ever since 1947, the System
has gradually moved toward removing the shackles on its ability to
regulate credit, imposed by the support program.
In arriving at a decision as to whether a low level of interest
rates on Government securities should be maintained, two points
should be given careful consideration. The first is that the primary
objective of letting the rates rise is a restriction in the supply of
credit. The real anti-inflation force is the reduced supply of credit
dollars which would be available. Higher interest rates are only a
result. If there were no effective anti-inflationary effect, there
would be no rise in interest rates. Let us be sure to keep the horse
in front of the cart and not vice versa.
The second point to be considered is which do we want to
stabilize more-the
prices of Government securities or the prices
of goods and services? A stable level of prices for goods and services
benefits all of us. We avoid the hardships of rising prices and inflation. The bondholder benefits from a stable price level too. The
interest he receives and the real value of his bond are not being
reduced by depreciation of the dollar in which they are payable.
a
28
birect
controls-wage and price ceilings
Two types of direct
controls should be distinguished. One type,
suchas Government priorities and allocations, is designed to channel scarce materials into defense and essential civilian uses. Some
controls of this type may be needed in a semi-war economy to
supplement the work of the price-cost-profit mechanism. The
other type, such as price and wage ceilings, is directed toward
holding
prices down. These controls represent another approach
to the problem of preventing inflation.
Government
controls, such as ceilings on prices and wages, and
rationing suppress the
do not, in
use of purchasing power. They
themselves, reduce it. Ceilings
on a few selected products are not
likely
beto be very effective if inflationary
pressures are strong
cause of the tendency to divert buying power to other products,
thus forcing their
prices up. Once started, such controls tend to
spread until there is
a general system of price and wage ceilings.
Price ceilings
and rationing are the twins of the direct-control
approach. If purchasing power does not exceed the supply of
civilian goods available
for price
at current prices, there is no need
ceilings. If, on the
other hand, price ceilings are below the prices
which would be
established in a free market, the inevitable result
is some form
of rationing. Rationing may take the form of first
come, first served,
with latecomers not getting any of the scarce
goodsat all. This form
of rationing would not result in an equitable
distribution
of the sacrifice imposed by the defense program. The
alternative is to limit buying through ration coupons such as were
issued during World
War H. Under this plan, buying goods
requiresboth money
and ration coupons. But the amount of ration
cardsissuedrather than the
holdsupply of money is the meansof
ing buying down
to the available supply of goods.
As a tool for
checking inflation, direct controls have the
advantageof cutting in
and checking the rising wage-price spiral.
BYholding down
the pressurefor larger incomes, one of the important forces
tending to bring about a further increase in the
money supply
and demand is curbed. In the caseof indirect con29
trols, the condition which makes possible a continued
removed.
and prices-excess purchasing power-is
rise in wages
The pathway of direct controls is beset with important diffiduration.
culties, especially in a semi-war economy of prolonged
do
if
Price and wage ceilings, even effectively enforced,
not cure
inflation. Experience has demonstrated that as purchasing power
backs up the pressure tends to break through the ceilings in the
form of black markets, poorer quality goods, and the disappearance of low-priced lines from the market; moreover, once controls
are removed, pent-up buying power is released and the problem
of inflation eventually must be faced. A second disadvantage is that
direct controls tend to put the economic machine in a straightjacket, making it less adaptable to change. This is particularly
seriousfor a prolonged period of mobilization. The incentive for
efficiency is impaired becausethere is lessinducement to acquire
money as unused buying power accumulates. One's ability to get
goods depends on the number of ration points rather than the
amount of money he has.In addition, ceilings tend to clamp prices
and the use of productive resourcesinto a fixed pattern, keeping
from starting and old onesfrom growing. A harness
new businesses
of direct controls stifles a growing economy, which is the very
foundation of prolonged military strength. A third weakness is
that controls shackle freedom of decision, which is one of the
basic principles we are trying to protect. We must be careful to
maintain those essential freedoms which we are spending billions
of dollars to defend. Finally, it is more difficult to enforce direct
controls in a partial or semi-war economy than in an all-out war
I effort. During war, the threat to our national existence and the
patriotic fervor which is generated is a strong force for compliance.
Inflation
To the extent that excess purchasing power is
not mopped
up
or its use effectively suppressed,prices will be forced higher and
higher. As a result, it will take a larger amount of money to buy
30
the same quantity
inflation.
of goods and services. This is the road of
Rising prices and inflation are not a satisfactory means of
handling the financial
first
side of the defense problem. In the
place, the cost of defense would rise substantially as Government
purchaseswere made at higher and higher prices. A second disadvantage is that inflation results in an inefficient and wasteful
useof economic resources. The incentive for efficiency is undermined becauseincreasesin costs can readily be passedon to the
consumer in the form of higher prices. A strong demand and high
profits tend to keep manpower, materials, and plant pinned down
in the production
of non-essential goods and services. Third, inflation would result in a very inequitable distribution of the defense
burden. Most
of the sacrifice would be placed on those with fixed
incomes
Finally,
incomes
and
which rise more slowly than prices.
inflation is likely
for a
hand
if
to
rise
continue
to get out of
prices
prolonged period. A persistent rise tends to undermine confidence
in the value
of the dollar and eventually eager buying turns into
panicky buying and a flight from the currency. A strong, prolonged defense
effort cannot be built on the sands of inflation.
CONCLUSIONS
Our basic economic problem is the same in war and in peace-that of making the best use of limited resourcesto satisfy our wants.
However,
a semi-war economy does require the allocation of more
resourcesto the production of defense goods. It also posesa serious
threat of inflation because defense production adds to money
incomes but
not to the supply of civilian goods for these incomes
to buy.
Normally,
the free-market mechanism measures which wants
are most important,
allocates manpower and materials to the
production
of the goods people want most, distributes the income
produced, rations the limited
supply of finished goods, and protects the individual
against the selfish exploitation of the few.
31
In a semi-war economy, there is a need for measures to supplement the workings of the free market and to maintain conditions
in which the market can continue to perform its usual functions
effectively. The Government should take steps to promote the
inflation. Priorities and
production of defense goods and to check
into defense
help
allocations
channel manpower and materials
help
Price
temporarily to halt
and wage ceilings may
production.
for
is to mop up
but
inflation
the only cure
the wage-price spiral,
This
Federal
Governrequires that the
excess purchasing power.
debt
its
fiscal
and
management operations, siphon off
ment, through
income
its
to pay all of
expenses. A cash surplus to help
enough
inflation
check the
already under way would be better. It also
requires effective action by the Federal Reserve to check the large
flow of new money into an already excessive reservoir of purchasing power.
The important problem facing us is not whether we should
forego the use of the instrument of government to help achieve
the economic task facing us; rather it is that we use government
wisely. The people of the United States have not hesitated in the
past to modify the workings of the free market, nor should they
do so now in those caseswhere it is the most effective means of
achieving our objectives.Departures from the so-called free market
are not a new thing. They have been made throughout our history
to achieve results the majority of the people considered desirable.
Today, the tariff, for example, is an integral part of a system of
"free enterprise" to the manufacturer, as are agricultural price
supports to the farmer, fair trade laws to the retailer, and Social
Security to the laborer.
Actually, our economic system is a combination of free individual enterprise and planned collective action. The use made of
government must continue to change, as in the past, if it is to help
meet our changing needs.The vital issue confronting us is not
whether more or lessuse is made of government, but whether our
economic system measuresup to the tasks confronting it in a
semi-war economy. Unless it does, we shall lose the fight; and
unlesswe preserve our essentialfreedoms, we shall lose the things
we are fighting for.
32
RESERVE BANK
OPERATIONS
Operations
of the Federal Reserve Bank of Philadelphia
reflected the general expansion in business activity during 1950,
and the steps taken after the outbreak of war in Korea to cope
for the
with inflationary developments and lay the groundwork
coming diversion of men, machines, and materials to the requirements of a greatly expanded defense program.
Growth in the physical volume of work occurred in many
departments
of the Bank and increasesin dollar volume were even
more pronounced asindustry and trade gained headway and prices
advanced.More than 157 million checks, other than Government
checks, were handled in 1950, for a total amount of more than
$42 billion. Currency
and coin counted reached record volumes,
transfers of funds were more numerous and for larger amounts
than in 1949, and the volume of securities handled increased considerably, reflecting in part an unusual volume of sales and refinancing by holders of Treasury issues which matured or were
called for payment in the latter part of the year.
Advances to
further
member banks, on the other hand, declined
in 1950,
and the number of banks accommodated decreased from
126 to 103,
since banks continue to adjust their reserve positions
chiefly through transactions in Government
securities. Interest
in loans
under the provisions of Section 13b increased, due in part
to the growing
loans for a
volume of defense contracts. Twenty
total of $6.1
million were approved under this Section, half of
them in participation
with local banks.
Among the steps taken during the
year to improve the service
rendered to member banks
the
extension of door-to-door
were
delivery
for
service
currency and coin, arrangements for the direct
shipment of fit 3-C
notes from the Pittsburgh branch of the Federal ReserveBank
of Cleveland to banks in the Johnstown-Altoona
area of this district,
and a reduction from $500 to $300 in the
large-item limit
for special deposits of checks on Saturday.
The
number of full-time
employes of the Bank continued to
approximate 1,000
persons, despite the over-all increase in opera33
tions. This was made possible by continuing efforts to streamline
by the use
the work, without sacrifice of accuracy or safety, and
to
of new or improved mechanical equipment and procedures
development
further
Employe
of
training,
promote efficiency.
be
for
major
succession continued to
supervision, and provision
objectives in the field of personnel.
New tasks had to be taken on following
the passage of the
Defense Production Act of 1950 early in September. Regulation
W, dealing with consumer credit, was reinstated and nearly 9,000
V,
lenders and sellers in this district were registered. Regulation
loans
finance
to
and
pertaining to the guarantee of
contractors
subcontractors engaged in the production of defense supplies, was
reactivated. A new Regulation X was promulgated to control the
financing of real estate construction not covered by Government
insurance or guarantee. The administration of Regulations W and
X was merged early in 1951 into a new department-the
Department of Selective Credit Regulation. Every effort was made,
in many
through interviews, special conferences, and participation
meetings, to explain the workings of these controls and create a
sympathetic understanding of the objectives.
At bank relations field meetings held in the latter part of the
year and at the fall meeting of the Federal Reserve Relations Committee, the new regulations received much attention and emphasis
was placed on the steps taken by the System to restrain inflationary
pressures. In the course of the year, field meetings covered every
county of the district, the fifth consecutive year in which this
has been done. Representatives of the Bank Relations Department
also covered much of the district in their visits to individual banks.
A film setting forth the place of the Federal Reserve in the banking
system was used widely at meetings and was made available upon
request; approximately 20,000 persons saw it. Traveling currency
and coin exhibits, loaned to many banks for lobby displays, were
much sought after and by the close of the year a lengthy waiting
list had accumulated.
Members of the staff of the Department of Research participated actively in field meetings of bankers and in other gatherings.
The demand for the monthly BusinessReview was exceptionally
34
heavy, a
reflection of informative articles dealing with industries
important to
the district and the inclusion of a series of articles
dealing with
the evolution of the money supply and the development of fiscal and monetary policies. This series was reprinted
in a pamphlet
under the general title of "The Quest for Stability"
and was in such demand as to necessitate further printings. The
Department
continued to serve the district through periodic
releasesof statistical material on banking and business and special
surveys affording information useful in their operations.
Directors
and officers
In the fall, Archie D. Swift
A director
was reelected a Class
by banks in
Janubeginning
Group 1 for a term of three years
ary 1,1951. Warren C. Newton,
Group
2 as a
chosen by banks in
Class B director for
H.
Lippincott,
a like term, succeeds Walter
who was not
a candidate for reelection.
The Board
of Governors of the Federal Reserve System reappointed Warren F. Whittier and C. Canby Balderston-Chairman
and Deputy Chairman, respectively, of the Board of Directorsto serve during 1951. Mr. Balderston
C
also was designated a Class
director for
additional term of three years. In the summer of
1950, Philip an
T. Sharples resigned as a Class C director but the
resulting vacancy had
not been filled by the close of the year.
The district's
representative on the Federal Advisory Council
during 1950
Frederic
A. Potts, President of the Philadelphia
was
National Bank.
He was reappointed by the Board of Directors of
this Bank to
serve during 19 51.
Changes in
the official staff during 1950 included the resignat1O11of Robert R. Williams
as Assistant Vice President and
Assistant Secretary
February
28; the designation of Richard G.
on
Wilgus
as Assistant Secretary on May 1, in addition to his duties as
Assistant Vice
President; appointment on the same date of Wallace
M. Catanach,
Assistant Cashier, to the position of Assistant
Vice President-, an
Henry
and of Edward A. Aff, Ralph E. Haas, and
J" Nelson
Lavin
George
J.
as Assistant Cashiers. On November 15,
also was
made an Assistant Cashier.
35
Directors
as of April 1,1951
CLASS
Group
Term Expires
Decembcr 31
1
1953
2
1951
3
1952
A:
ARCHIE
D. SWIFT
..................................
Chairman of the Board, Central-Penn
Philadelphia, Pennsylvania
GEORGE
W.
REILY
..................................
Bank,
Harrisburg
National
President,
Harrisburg,
1.
NYCE
Pennsylvania
PATCERSON
President,
The
Watsontown,
CLASS
National Bank,
................................
Watsontown
National
Bank,
Pennsylvania
B:
WILLIAM
J. MEINEL
................................
Presidcnt and Gencral Manager, Heintz Manufacturing
Philadelphia, Pennsylvania
WARREN
C.
President,
1952
Company,
NEWTON
0.
2
1953
...............................
A. Newton
and Son Company,
Bridgeville, Delaware
ALBERT
G.
FROST
3
..................................
1951
Chairman of the Board, The Estcrbrook Pcn Company,
Camden, New Jersey
CLASS
C:
WARREN
F. WHITTIER,
Agricultural
Chairman
....................
Consultant, Chester Springs, Pennsylvania
C. CANBY BALDERSTON, Deputy
Chairman
.............
Dean, Wharton School of Finance and Commerce,
University of Pennsylvania, Philadelphia, Pennsylvania
Vacancy
1952
1953
1951
.........................................
36
Officers
as of April
ALFRED
H.
1,1951
WILLIAMS,
W. J. DAVIS,
RICHARD
First Vice President
KARL
WALLACE
Vice President
N. HILKERT,
Assistant Cashier
ERNEST
C. HILL,
Vice President
ROY
GEORGE J. LAVIN,
Assistant
and Secretary
M. POORMAN,
HENRY
Vice President
and Cashier
NORMAN
and Assistant Secretary
5,1951
37
Cashier
J. NELSON,
Assistant
JAMES
V. VERGARI,
Died April
HETHERINGTON,
Assistant Cashier
G. MCCREEDY,
Counsel
E. HAAS,
RALPH
Vice President
PHILIP
CATANACH,
EDWARD A. AFr,
Assistant Cashier
Vice President
Vice-President
M.
Assistant Vice President
*L" E. DONALDSON,
WILLIAM
G. WILGUS,
Assistant Vice President
and Assistant Secretary
R. BOPP,
ROBERT
President
Cashier
G. DASH,
General Auditor
APPENDIX
Statistical Tables
PAGE
Federal ReserveBank:
Statement of condition
...................
39
Earnings and expenses
...................
40
Volume of operations
....................
41
Member banks-Third
Federal Reserve District:
Combined statement
....................
Earnings, expenses, and profits
Employment
and earnings
.............
....................
42
42
43
Income and prices
...........................
43
Department
44
store salesand inventories
...........
38
Statement of Condition
Federal Reserve Bank of Philadelphia
End of Ycar
(000's omittcd in dollar figures)
RESOURCES
Gold
certificates
...............................
Redemption fund-Fed.
Res. notes
...............
Total gold
certificate reserves
Other
cash....................................................
Discounts
and advances
Industrial loans
.........................
United States ................................
Government securities
.............
$1,208,508
$1,130,280
48,915
50,563
$1,180,843
19,125
3,640
2,204
1,378,198
Total loans
and securities ...................
Due from foreign
banks
Fed" Res.
.........................
notes of other Fed. Res. Banks.........
Uncollected items
Bank premises
..............................
.................................
All other
resources
.............................
$1,384,042
$1,257,423
14,489
7,255
1,885
1,286,381
$1,295,521
2
3
11,352
268,2}2
2,920
10,369
172,456
$1,011,054
60,212
$1,071,266
17,967
17,495
767
1,666,658
$1,684,920
4
10,935
173,597
3,053
10,279
2,986
6,493
7,759
Total resources
.............................
1948
1949
1950
$2,874,305
$2,759,740
$2,972,021
$1,665,849
$1, G32,188
$1,662,531
LIABILITIES
Federal Reserve
notes
Deposits:
...........................
Member bank
reserve accounts
United States Government
.................
Foreign
....................
........................
Other deposits
...............................
Total deposits
Deferred
.............................
availability
items
All other liabilities
......................
.................
. ..........
Total liabilities
............................
CAPITAL
ACCOUNTS
Capital
paid in
Surplus-Section .................................
7
Surplus-Section
.............................
13b
Reserves for
...........................
contingencies
.......................
822,286
58,227
75,0142
788,335
63,750
60,848
956,671
183,799
239
$ 918,064
143,300
951,233
104,176
51,492
6,060
5,131
$
674
$2,694,109
$2,911,116
$
$
$
15,675
4,489
7,873
39
557
$2,806,558
39,710
Total liabilities
and capital accounts.........
Ratio
of gold certificate
reservesto deposit and
FederalReserve
note liabilities combined.......
ents to snake industrial advances........
$1,112,961
134,950
$2,874,305
45.0%
$593
15,084
38,205
4,489
7,852
$2,759,740
49.3%
$689
14,681
36,704
4,489
5,031
$2,972,021
38.6%
$46
Earnings and Expenses
Federal Reserve Bank of Philadelphia
1
1950
(000's omitted)
1949
1948
$21,270
$21,349
Earnings from:
United States Government
$18,142
securities...........
Total
241
184
Other sources
................................
$18,326
earnings .............................
343
$21,692
$21,511
Expenses:
Operating expenses'
..........................
Cost of Federal Reservecurrency
...............
Assessmentsfor expensesof Board of
Governors
.................................
Total net expenses
..........................
Current net earnings
............................
Additions to current net earnings:
Profit on salesof U. S. Government
securities (net) .............................
4,252
4,159
4,131
439
458
385
272
260
262
$ 4,963
$ 4,877
$ 4,778
13,363
16,634
16,914
2,630
2,272
All other
....................................
Total additions
............................
Deductions from current net earnings
456
123
$ 2,631
$ 2,274
to current net earnings .............
Transferred to reserves for contingencies..........
459
179
-
.............
Net additions
$
1
$ 2,631
$ 2,095
23
2,821
$
2,960
13,539
13,511
12,184
$ 2,432
$ 2,397
$ 2,228
458
Paid to U. S. Treasury:
Interest on Federal Reservenotes
..............
Net earnings after reservesand payments to
U. S. Treasury ...............................
Dividends paid
................................
927
Transferred to surplus (Section 7) ................
$ 1,505
896
I$
11501
874
$ 1,354
*After deducting reimbursementsreceived for certain fiscal agency and other expenses.
40
Volume of Operations
Federal Reserve Bank of Philadelphia
1950
1949
1948
Number
of pieces
(000's omittcd)
Collections:
Ordinary
checks
.............................
Government
checks (paper and card)..........
Non-cashitems..
.
s ..............................
Currency
counted
Coins
.....................
'
counted
.................................
Discounts
and advancesto member banks........
Transfers funds
.
of
Fiscal
..............................
agency activities:
Marketable
securities delivered or redeemed....
Savingsbond
.
transactions (Federal ReserveBank
and agents)
Issues(including
re-issues)
Redemptions
................
.............................
Coupons
redeemed(Government and
agencies). .
157,300
23,300
700
277,900
541,000
1
53
160,600
22,500
700
270,300
431,600
1
46
147,500
20,800
700
270,500
391,800
1
44
148
148
5,964
1,106
5,336
6,050
1,250
5,151
6,464
1,151
$42,416
2,950
$37,186
2,771
163
1,708
52
195
21,157
140
1,671
42
254
17,706
9,613
7,215
200
5,428
Dollar
amounts
(000,000's
omittcd)
Collections:
Ordinary
checks .............................
Government
checks (paper and card)...........
Non-cashitems
Currency
..............................
counted
Coins
..............................
counted
Discounts
.................................
and
advancesto member banks........
Transfers
.
funds
Fiscal of
..............................
agency activities:
Marketable
securities delivered or redeemed.....
Savings bond
transactions (Federal Reserve
Bank
and agents)
Issues(including
re-issues)................
Redemptions..........
Coupons
redeemed(Government and agencies)..
'l'-Ir
values.
41
522"
396"
113
483'
366"
122
$39,221
2,890
169
1,734
40
623
17,543
6,730
533"
369"
120
Member Banks
Third
Federal Reserve District
Statement of Condition
Change during
(000,000's omitted)
I Dec. 30,
I 1950t 1
Assets
Loans and discounts...
.......
..
U. S. Government securities.........
Other securities
....................
Cash assets
Fixed assets........................
.......................
Other assets
.......................
Total
.......................
Liabilities
and capital accounts
Deposits:
Individuals, partnerships, and
CorporationsDemand
Time... .....................
.....................
U. S. Government
................
Bank
Other...........................
...........................
Total
deposits
...............
Other liabilities
Capital accounts....................
...................
Total
.......................
$2,208
3,027
752
1,740
68
27
$7,822
$4,228
1,835
1
1950
+$
+
+$
+$
+
165
477
399
+
+7
$7,104
51
667
$7,822
+$
+8
+
+$
414
131
72
163
j Percent distribution
1
1949
++
+$
52
163
74
68
...
+2
+1
518
-{-$ 224
418
18
11
53
485
25
518
Dec. 30,
1950
Dcc. 31,
1949
28.2%
38.7
9.6
22.2
24.6%
43.2
9.3
21.6
.9
.4
100.4
.9
.4
100.4
{$
96
26
+
61
+
43
+
29
+$ 203
45
{
16
54.0%
23.5
2.1
6.1
5.1
90.8%
52.1%
24.9
2.4
5.8
5.4
90.6%
.7
8.5
.6
8.8
+ý 224 1 100.0% 1 100.0%
Earnings, Expenses, and Profits
(Millions of dollars)
1950t
Earnings
On U. S. Government securities
................
On other securities
............................
On loans
.....................................
Other earnings
...............................
Total earnings
..........................
53.6
16.3
88.0
33.8
191.7
1
1949
54.1
15.0
76.3
31.1
176.5
1
1948
54.3
14.6
68.5
29.8
167.2
1947
57.8
14.4
54.4
27.1
153.7
Current expenses
Salaries and wages
Interest on deposits ............................
...........................
Other expenses ...............................
Total current expenses
...................
before income
Net current earnings
56.5
16.6
46.1
51.7
16.4
43.6
111.7
64.8
119.2
72.5
taxes
Net recoveries and profits on sales ( -}- ) or
)
charge-offs (...........................
Talcs on net income
..........................
-
3.8*
20.1
-
74*
15.5
49.0
16.2
41.4
106.6
60.6
-
9.1"
13.9
I
41.9
Net profits ..................................
48.7
37.6
Cash dividends declared
23.0
21.5
20.3
.......................
Preliminary,
Charge-offs include substantial transfers to reservesfor bad dcbt losseson loans.
42
44.4
15.9
38.2
98.5
55.2
.2
-
1.3
16.9
37.0
19.4
Employment
and Earnings-Pennsylvania
an rvianutacturmg
EmployWeckly
mcnt *
earnings
Average:
1939.
1940. " """""""
1941.
1942. """"""....
1943.
1944. ...... ""..
1945. """"""". ".
1946. """"'""".
1947. """. """"""
"
1946 . """"""".
1949 """".. """.
""""""""".
1950
1950: Janis """"""""""
iry........
Fcbrxary.....
""
Marc h
"""""""
Vy 1""'""'.
" .
y
Junc ...... I. .
July, ...........
"""...
""
Aug ist........
Scpu"mber
octc ber .....
.......
Noviember
Dcccmbc .....
r
'19ýö
939 v1 _____......
100
110
134
156
153
Goods
Employ-
Weekly
mcntl`
$22.42
24.27
29.25
147
Factory Workers
Durable
earnings
Nondurable Goods
Emplo l Weekly
ment
earnings
$25.76
28.19
34.31
100
119
158
100
101
111
$19.16
19.77
22.23
25.58
35.45
184
41.57
111
41.48
203
47.82
110
44.57
198
51.14
108
32.80
48.89
106
34.47
30.03
138
43.29
171
133
42.21
151
45.63
115
37.66
48.04
52.84
52.94
57.01
54.31
166
166
143
150
139
52.18
57.59
57.63
62.15
59.42
120
120
112
114
112
42.47
46.42
47.12
50.29
48.12
54.85
53.73
54.35
55.71
56.39
139
139
142
145
147
59.70
57.71
59.94
61.12
61.66
113
112
111
110
111
48.98
48.90
47.38
48.77
49.55
143
143
127
131
125
126
125
126
127
129
128
56.64
134
145
61.79
110
50.00
138
57.47
153
62.24
115
51.27
58.26
158
63.68
118
51.15
139,
140
140
59.54
60.55
61.87
161
163
165
64.77
65.91
67.82
117
117
116
52.50
53.21
53.70
Income and Prices
Pactory Payr<
3115:
1939
Farm Income- =100 (1)
Prices: 1I935-39
= 100
Durable
Total
Averag
1939..
1940.. .................
1941.. .. '... """ """....
1942.. ........
""""""...
1943.. ........
"I.......
1944.. .................
1945.. ..............
"""
1946.. ........
""""".. ".
1947.. .......
I"..
....
1948.. .................
1949.. ...............
""
1950.. ............
""""""
1950: Januat .....
'Y
Pcbru: ................
ary ...............
March
..................
r1Pril.
...............
""
ay.
June. ..................
................
""
July..
.................
Augu,;t.................
Septetnber
Octob,cr ..............
................
Novelnber
Deccnfiber ..............
..............
.
v.
Income
from farm
Factory Payrolls
Pennsylvania
Consumer
prices in
Phila. t
goods
goods
100
119
175
232
288
303
100
131
210
297
377
394
100
104
129
148
172
185
99
104
122
155
197
199
99
99
104
115
123
124
266
250
306
336
324
267
336
372
191
228
267
290
231
268
299
320
127
138
158
171
300
320
275
299
169
334
362
298
286
170
303
308
300
306
316
323
322
343
358
319
323
312
330
343
352
349
370
391
280
288
286
274
281
286
288
308
314
235
210
256
276
270
306
365
351
324
166
165
166
166
167
170
172
172
174
406
418
322
325
286
277
174
174
369
378
387
J.
Consumer
markcrings
N. J., Pa.,
r
anDel.
IIPt.
VI
325
1
AgrlCultUIC.
43
Tv.
J.
UurCau
178
280
01
LabOr
JtatlS[tC3.
Department Store Sales
1935-39 = 100
(Adjusted for
seasonalvariation)
Third
District
1939..........
1940..........
1941..........
1942..........
1943
..........
1944..........
1945..........
1946..........
1947..........
1948..........
1949..........
1950..........
1950: January.......
February......
March........
April.........
May..........
June..........
July..........
August.......
September.....
October.......
November.....
December.....
Phila.
Lancastor
101
108
124
140
104
111
129
143
151
167
184
235
261
284
271
288
267
277
262
281
270
285
331
319
310
279
273
307
i
Rcading
Trcnton
103
111
133
152
104
107
129
151
147
165
165
158
172
214
238
253
241
254
233
254
228
248
241
254
280
294
270
242
251
263
178
190
248
276
295
285
308
282
288
311
292
307
301
336
322
313
295
284
342
177
185
249
274
296
282
288
256
267
280
283
261
292
314
291
307
287
272
332
\VilkcsBarre
110
120
140
153
177
192
223
294
324
370
375
407
377
360
365
422
369
441
483
448
458
398
359
422
101
101
118
129
145
174
206
277
304
330
309
318
281
294
271
317
323
315
409
340
331
301
302
335
York
107
114
133
1157
77
200
220
281
311
296
313
293
281
279
325
278
331
355
329
345
299
281
341
Department Store Inventories
1939..........
1940..........
1941..........
1942..........
1943..........
1944..........
1945..........
1946..........
1947..........
1948..........
1949..........
1950..........
1950: January.......
Fcbruary......
March........
April.........
May..........
June..........
July..........
August.......
Scprcmbcr...
Octobcr.......
Novcmbcr.....
Dcccmbcr.....
96
99
119
167
141
147
150
191
220
252
233
257
234
234
239
249
244
244
241
259
275
283
282
286
92
92
110
165
138
143
146
184
207
221
205
226
203
206
213
214
213
210
208
236
247
254
248
251
101
105
120
148
127
132
129
177
218
238
225
245
227
248
241
244
248
233
230
237
241
260
260
265
44
106
112
141
190
158
181
191
229
255
297
275
294
269
268
272
307
304
299
283
291
293
300
320
313
97
101
141
184
162
166
167
205
246
328
314
322
289
314
314
318
310
309
313
311
353
348
337
343
93
91
113
143
134
144
154
210
249
349
299
328
291
296
294
313
306
323
321
333
351
361
370
373
108
113
137
177
161
165
159
212
228
269
252
280
251
253
259
263
264
271
260
287
300
305
321
312
@FedFRASER