The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
A review by the F e d e r a l R e s e rv e B a n k o f C h ic a g o The trend of business 2 1966 farm loan survey— Fewer but larger borrowers use more credit 5 U. S. wealth abroad 12 Federal Reserve Bank of Chicago T HE T h e momentum of the business uptrend was reasserted during the summer months, after leveling or declining trends in output, employment and retail sales through much of the first half of the year. By August, all major measures of activity, including industrial pro duction, pointed up again. The economy had weathered the most drastic inventory adjust ment in history faster and with adverse side effects less pervasive than many observers believed possible at the start of the year. Most manufacturers are now operating with appreciable margins of unused capacity as a result of both reduced production and the startup of new facilities. The transition from full-scale operations requiring extensive over time has been particularly evident in Midwest industries producing durable goods. Labor markets in most centers, nevertheless, remain fairly tight, and prices appear to be rising faster than in the first half of the year. Nationally, unemployment was only 3.9 percent of the labor force in July, and except for automotive centers, even lower rates pre vailed in most of the Midwest. Barring major strikes, employment in the auto industry can OF BUSINESS be expected to rise in the fall as high produc tion schedules for 1968 models are achieved. Executives of most banks and other finan cial institutions favored the Administration’s original request last January for a 6 -percent surcharge on individual and corporate in come taxes. On the other hand, many busi nessmen, disturbed by lowered profit margins and eroding backlogs of orders, remained skeptical that higher taxes are necessary or desirable. Mounting evidence of the revival of orders, employment, income and retail sales in the weeks after the August 3 recommenda tion for a 10 -percent tax surcharge convinced many doubters that additional fiscal restraint is needed. Monetary and fiscal stimulus Sharp increases in Government spending and rapid growth in bank deposits and other liquid assets had been widely expected to re verse the persistent decline in industrial pro duction evident in the first half of 1967. The main questions concerned the timing and magnitude of the recovery. Experience indicated that the drop in con- BUSINESS CONDITIONS is published monthly by the Federal Reserve Bank of Chicago. George W. Cloos was primarily responsible for the article "The trend of business," Roby L. Sloan for "1966 farm loan survey" and Joseph G. Kvasnicka for "U . S. wealth abroad." Subscriptions to Business Conditions are available to the public without charge. For information concerning bulk mail ings, address inquiries to the Federal Reserve Bank of Chicago, Chicago, Illinois 60690. Articles may be reprinted provided source is credited. Business Conditions, September 1967 struction activity and the leveling of retail sales in the second half of 1966, as well as the peaking of plant and equipment expendi tures and inventory investment in the fourth quarter of the year, could be expected to lead to a general downturn. But this was without figuring on the powerful stimulus in the sec ond quarter of a Federal deficit at the an nual rate of 13 billion dollars (national in come basis) and growth of bank credit at the annual rate of 12 percent. The virtues and efficiency of attempts to “fine tune” the econ omy can be argued, but there is little doubt of the eventual effect when the volume is turned up enough. Industrial production declined 2.3 percent between December and June, and output of durable goods was off 3.5 percent. Total out put of goods and services (after adjustment for higher prices) was virtually unchanged in the first quarter. Nonfarm wage and salary employment declined 170,000 from March to May—less than three-tenths of 1 percent. The slide was more significant for manu facturing employment, extending from Janu ary to May and amounting to almost 2 per cent. Until June, total retail sales failed to rise appreciably from the 1966 peak. Despite gains in final sales, the economy was sluggish throughout most of the first half of 1967. There was danger for a time of a cumula tive decline in activity that could have been labeled, in retrospect, a recession. But sta tistics clearly differentiate this period from clear-cut recessions of the past. During the mild decline of 1960-61, industrial produc tion dropped 7 percent, nonfarm employment declined 2.1 percent and unemployment rose to more than 7 percent of the labor force. Total business inventories declined by more than 400 million dollars in June—the first month-to-month drop since 1961. At book value, inventories totaled 137 billion dollars and equaled 1.55 times sales for the month. This stock-sales ratio was down from a peak of 1.59 in February but remained well above the 1.47 level of a year earlier, which was near the average for recent years. Although the actual reduction in inven tories in June made headlines, the major im pact of the inventory adjustment had been absorbed months before. When inventories are rising, the amount of the increase is added to final sales to boost total demand for goods and services. Any slowdown in the rate of inventory buildup reduces total demand by a like amount, unless the reduction in the rate of increase is offset by higher final sales. Inventories rose at an annual rate of 18.5 billion dollars in the fourth quarter of 1966— far faster than in any previous period except Business sales reached a new high in July as inventories declined billion d ollars 1966 1967 3 Federal Reserve Bank of Chicago 4 certain quarters early in the Korean War. This sharp rise in inventory accumulation resulted in part from the failure of sales to match expectations. Production cutbacks were required, especially in iron and steel, nonferrous metals, textiles, motor vehicles, household appliances, television and some types of production equipment. The annual rate of inventory accumulation slowed to 7.1 billion dollars in the first quarter. As a result, inventory accumulation contributed 11.4 billion dollars less to total demand—and therefore total output—in the first quarter than in the fourth. The largest previous quarter-to-quarter reduction in the rate of increase of inventories was 8.7 billion in the third quarter of 1959, a development attributed to a long steel strike. Current indications are that inventories did not change appreciably during the second quarter as a whole. If so, the rate and output was 7 billion dollars less than it would have been if inventory accumulation had continued at the same rate as in the first quarter. The negative impact of the inventory adjustment on total output was nevertheless reduced sub stantially from the first quarter to the second. Largely offsetting the drag of reduced in ventory accumulation in the first half of 1967 were final sales to Government, consumers and business, which rose at an annual rate of 15 billion dollars. This increase approached the peak rates of 1965 and 1966. Total business inventories declined in June —the first such movement since 1961—and are expected to shrink on balance in the third quarter, but the drag on total activity will almost certainly be smaller than in earlier months when inventories were still rising but at a decelerated rate. Inventory accumulation is expected to resume by the fourth quarter. If so, it will contribute to total demand for goods and services instead of subtracting from it. The expected reversal of the inven tory cycle provides a major reason for in creasingly ebullient forecasts of total activity for the rest of the year. Surveys of purchasing agents indicate that many companies intend to curtail inven tories further. Such intentions may be modi fied, however, if sales increase more than ex pected or if currently short lead times on new orders begin to lengthen. The Chicago Pur chasing Agents Association reports that 74 percent of its members were ordering princi pal materials on the basis of lead times of 60 days or less in July, compared with only 40 percent a year earlier. Some industries—particularly autos, house hold appliances and television— may have lost sales recently because of excessive inven tory reductions in the first half of the year. Dealers had only a 47-day supply of new cars at the end of July, compared with a 61-day supply a year earlier, and some models were almost sold out while production lines were being changed over for 1968 models. O th e r plus facto rs New orders for machinery and equipment declined from an annual rate of more than 59 billion dollars in the third quarter of 1966 to 52.4 billion in the first quarter of 1967. The decline was due partly to the suspension of the investment tax credit in October. Ship ments have been fairly well maintained, with the result that order backlogs declined. Orders for machinery and equipment rose in May and June—partly because of the restoration of the tax credit—to levels in excess of current shipments. Spending on pro ducer durable equipment will probably be contributing to growth in total activity again soon. In contrast to 1966, equipment pro ducers, except producers of commercial air craft, electrical generating equipment and Business Conditions, September 1967 some industrial machinery, have the resources to increase output. But any rise in equipment spending is likely to be moderate. With mortgage funds flowing freely again, the decline in construction has been reversed. Construction was at an annual rate of 75 bil lion dollars in June, exceeding the year-earlier level but still remaining below the highs of early 1966. Construction contracts reported by F. W. Dodge were at a record high in June, indicating a further rise in activity. In the Midwest, contracts in June were 30 percent higher than 1966, compared with a 12 percent gain for the country as a whole. Apartment buildings led the surge, which in cluded all major construction categories. Probably the most significant recent devel opment has been the accelerated rise in per sonal income. After a relatively slow pickup in the spring, personal income increased at an annual rate of 9 percent in both June and July. The rise was caused mainly by increases in total wage and salary disbursements, re flecting renewed growth in employment. In July, personal income was up 7.3 percent from a year before. Despite some growth in retail sales in June and July and some in crease in the use of credit, consumers are saving a larger share of their incomes than in 1966, putting themselves in a position to in crease spending from recent levels. In summary, total private expenditures are again in a strong uptrend. Public spending on both defense and civilian programs continues to rise and currently exceeds estimates made at the start of the year. Heavy demand, with upward cost pressures and limited labor re sources, suggests that the rise in the general price level may accelerate. In this environment, fiscal policies de signed to bolster a faltering private economy in late 1966 and the early part of 1967 can appropriately be shifted toward restraint of inflationary excesses. 1966 farm loan survey* Fewer but larger borrowers use more credit Indebtedness per farm borrower at banks in the Seventh Federal Reserve District nearly tripled during the past decade. And while the number of farm customers of banks declined sharply, the total amount of bank credit out standing to farmers more than doubled. These are some of the findings of a recent survey of agricultural loans held by commer cial banks in mid-1966 and a similar study conducted ten years earlier. These changes in agricultural credit are further reflections of *See Business Conditions, May and August 1967 for other articles on the 1966 farm loan survey. the trends toward larger but fewer farms, greater investment in capital equipment and mounting outlays for operating expenses. Two out of every three farmers in the Seventh District had bank credit outstanding in mid-1966. It is probable that the number of farmers using bank credit sometime during the year was actually somewhat higher. This could be particularly true for livestock feeders, who typically borrow large amounts in the fall to purchase feeder cattle. Some livestock feeders were probably not using credit when the survey was made at midyear. Federal Reserve Bank of Chicago Bank debts of farm borrowers averaged around $5,924, compared with $2,125 in mid-1956. Most of the increase was the result of larger average loans, which rose from $1,581 to $3,486. But the average number of notes outstanding also rose from about one and a half to two per borrower. Probably even more indicative of the greater use of credit is the increased propor tion of borrowers with large bank debts. In mid-1966, about a third of the farm borrowers had outstanding loans totaling $5,000 or more, compared with about a tenth in 1956. Similarly, borrowers indebted to banks for more than $10,000 but less than $25,000 were three times as numerous in mid-1966 as in 1956, and 13 times as many farmers owed $25,000 or more than was the case ten years before. The number of borrowers with bank indebtedness of no more than $2,000 drop ped about half since 1956. As a result of the sharp increase in the amount of indebtedness per borrower, those owing at least $10,000, while representing less than a fifth of the borrowers, accounted for around two-thirds of the debt outstanding at mid-1966. Farmers owing $25,000 or more represented only about 4 percent of the borrowers, but they owed more than a fourth of total bank debt outstanding. Farms m o re specialized 6 Along with the increase in size of farms during the past decade has come the trend to greater specialization—a trend reflected in the credit extended by commercial banks. The number of general farms—those with no single source of income accounting for as much as half the gross—declined relative to other types, while farms producing cash grains and meat animals increased, both in number and relative to the total. Because banks often lack detailed infor mation on their farm borrowers, it is likely that they reported a higher proportion of their farm customers as general farmers than was actually the case. Most other types of farms, such as fruit, vegetable and dairy farms, also declined since 1956. This reduc tion probably reflects the strong rise in wage rates and the difficulty in obtaining the large amounts of labor required to operate them. Returns on these farms, especially dairy farms, have been poor in recent years. Because of these developments, the char acter of the farm loan portfolio has changed at many banks. Specialization itself often leads to greater use of machinery and equip ment and the need for larger amounts of financing. Moreover, because of the more erratic seasonal flows of income and expendi tures, cash grain and meat animal farms typically use larger amounts of credit than general farms and dairies. The average debt outstanding for meat animal farms was $9,030, and the average for cash grain farms was $5,593, compared with about $5,100 for general and dairy farms. Partially reflecting these changes, loans to meat animal farmers more than doubled since 1956, and those to cash grain operators nearly tripled. By contrast, credit extended to dairy farmers was up only a third, and loans to general farms rose about two-thirds. M o re o w n e r-o p e ra to rs Tenant farmers borrowing from District banks declined sharply both in number and relative to the total, while the proportion of farm borrowers owning all or part of the land they operate increased. Although comparable data are not available from the 1956 survey, farm borrowers owning only part of the land they worked probably increased most rapidly. The decline in the number of farms has been confined to smaller units, many of Business Conditions, September 1967 which were not producing satisfactory in comes for their operators. Many tenant oper ations fall into this category. Where the tenure was known, tenant borrowers repre sented nearly two-thirds of the borrowers with net worth under $5,000, reflecting the high concentration of tenants in groups with lower net worth. Tenants had an average bank debt of around $4,537, compared with $6,534 for operators that owned at least part of their land and $7,249 for landlords. This differ ence in average indebtedness can be attri buted partly to the generally smaller farm operations of tenant farmers. Tenants also typically need less credit than other operators and landlords, who often need credit for land purchases and farm improvements that ten ants do not usually make. In mid-1966, loans to buy or improve real estate accounted for about 30 percent of landlords’ debt outstand ing and about 23 percent of owner-operators’ outstanding indebtedness. Such debts repre sented only 2 percent of the total tenant debt. (A tenant farmer will occasionally own land he does not operate and use it as collateral for a loan.) Also, some tenant farmers prob ably obtain some credit from their landlords, although this practice is probably less pre valent than it once was. M o re p a r t-tim e o p e ra to rs Additional evidence that many farms are too small to provide adequate incomes is the sizable proportion of farm borrowers that work part time at other jobs. In contrast to the trend toward a smaller total number of farmers, part-time farm operators—those that receive a third or more of their gross income from off-farm activities—increased more than a third. This trend has been possible in part be cause of the development of larger capacity equipment and other labor saving innovations that allow farmers to do a given amount of work in less time. Moreover, booming activity in other sectors of the economy since World War II has created a large number of rela tively high paying jobs, encouraging more farmers to seek off-farm work. While the number of part-time operators rose sharply during the past decade, these operators did not obtain bank credit in pro portion to their increased number. The aver age amount per borrower outstanding to parttime operators amounted to only about threefifths of the average debt of other operators. As a result, part-time operators, while ac counting for about 20 percent of all farmers (where the status of the borrower was known), represented about 14 percent of the bank debt of farmers. This is not surprising, since agricultural activity on many of the farms operated by part-time farmers is lim ited and, because of this, less credit is re quired. Also, the flow of income from non farm activities provides a source of funds not available to full-time farmers. B o rro w ers o ld e r The average age of farm operators in creased during the decade, reflecting the high rate of migration of young adults to urban areas. Farm operators of middle age or older now outnumber young operators. Borrowers under 35 years of age declined about a fourth since 1956 while those over 45 declined only about 8 percent. As with most occupations, the older the worker the less likely he is to change his type of work. Movements from farm to city are closely tied to job openings in the urban areas, with the demand for workers in such areas playing an important part in the shrinking number of farm operators. Banks and other financial institutions are 7 Federal Reserve Bank of Chicago sometimes criticized for not extending credit to young farm opera tors. But the survey data in d icate th a t young farmers are re ceiving credit accom modation about in line with their relative im portance as a propor tion of all farmers, al though their needs for credit may, of course, be relatively greater than the needs of older farmers. Data from the Cen sus of Agriculture in dicate that farm opera tors under the age of 35 account for about 14 percent of all farm ers. Bankers reporting in the farm loan survey at midyear indicated, however, that (where the age was known) about 18 percent of their borrowers were under age 35. More over, the proportion of bank borrowers be tween 35 and 44 years was also greater than indicated by the Cen sus of Agriculture— about 28 percent com pared with about 23 percent. While the average amount of indebted ness of operators under age 35 was smaller Farm borrow ers at commercial banks in the Seventh District, June 30, 1956 and 1966* Outstanding debt to banks Number of Average Total borrowers Classification 1956 1966 1956 per borrower 1966 (thousand dollars) A ll borrowers .......... 445,304 368,779 946,267 40,936 48,234 1956 1966 (dollars) 2,184,674 2,125 5,924 34,340 11,183 249 273 55,537 33,716 680 699 119,226 86,678 1,383 1,362 Debt to reporting banks Under $ 5 0 0 .............. 138,069 $500-999................. 81,670 $1,000-1,999........... 86,223 $2,000-4,999........... 88,861 63,620 90,464 276,396 282,51 1 3,110 3,123 $5,000-9,999........... 36,956 61,023 248,124 6,714 $10,000-24,000____ $25 ,000-49,000.... 12,521 50,727 174,495 420,999 777,956 6,899 15,336 875 11,459 30,093 380,589 13,937 34,374 $50,000-99,999. . . . $100,000 and over. . 130 2,060 8,057 130,430 62,123 63,328 — 257 — 60,612 — 236,026 33,212 Type of farm Meat animal.............. 49,149 61,575 166,352 556,026 3,385 9,030 D airy......................... 97,206 51,413 196,782 263,557 2,024 5,126 11,916 Poultry...................... 2,694 2,222 10,953 26,478 4,065 Cash grain................ 69,156 77,633 151,790 434,201 2,195 Fruit........................... Other major product . 7,561 G en eral.................... 200,125 Not reported............ 1,870 4,108 19,704 f 14,317 17,620 5,593 7,658 2,606 4,289 126,359 382,609 648,103 1,912 5,129 19,412 43,599 18,077 224,371 931 5,146 273,147 183,477 45,954 644,258 1,157,917 341,284 2,359 Tenure Full owner................. Part owner............... 6,311 7,427 Tenant....................... 131,156 368,438 1,621 4,537 21,648 81,207 16,782 212,573 Landlord................... 72,655 121,748 3,356 7,249 Not reported............ 19,200 41,316 15,562 195,287 810 4,723 Part-time farm status (individuals only) Part-time farmer....... 47,908 Not part-time farmer. 380,642 Not reported............ 16,601 65,793 81,373 3,924 851,140 258,169 1,569,768 1,699 240,979 2,236 6,514 59,263 12,536 272,617 755 4,600 A ge (individuals) Under 3 5 .............. 35-44 81,931 60,509 152,680 311,883 1,864 5,154 154,305 89,501 320,888 585,821 2,080 6,545 45-54..................... 55-64....................... 97,625 189,544 < 56,641 19,371 41,420 65 and over............. Not reported 6,307 615,724 452,896 20,340 - 280,750 2,389 109,324 18,585 197,052 < 4,957 5,375 959 4,757 Business Conditions, September 1967 Outstanding debt to banks Number of Average borrowers Classification 1956 Total 1966 1956 per borrower 1966 (thousand dollars) 1956 1966 (dollars) Net worth Under $5,000........... $5,000-9,999........... $10,000-24,999____ $25,000-49,999. $ 5 0 ,0 0 0 - 9 9 ,9 9 9 ... $100,000-199,999. . $200,000 and over. . Not reported............ 155,977 170,100 91,987 7,361 < | 10,787 27,293 23,348 174,643 99,037 | 336,376 91,123 54,371 76,403 407,299 508,593 342,059 451,627 24,539 347,042 6,769 174,123 19,877 54,860 18,006 1,121 1,978 3,719 10,213 2,164 2,799 4,113 5,581 8,306 14,143 25,722 196,240 906 3,577 1,374 Assets Under $5,000........... n.a. 4,104 n.a. 5,641 n.a. $5,000-9,999........... n.a. 9,173 n.a. 14,553 n.a. 1,586 $10,000-24,999____ n.a. n.a. 72,617 93,333 n.a. n.a. 185,714 426,227 n.a. n.a. 2,557 4,567 82,892 36,962 n.a. 545,242 n.a. 6,578 n.a. 480,953 n.a. 13,012 $25,000-49,999____ $50,000-99,999 . . . . n.a. $100,000-199,999 . n.a. $200,000-499,999 . $500,000 and over. . n.a. 12,758 1,821 n.a. 239,705 n.a. n.a. n.a. 92,033 n.a. 18,789 50,551 Not reported............ n.a. 55,1 19 n.a. 194,606 n.a. 3,531 n.a. 93,787 n.a. n.a. 266,270 n.a. 2,339 3,135 Annual farm sales Under $5,000........... n.a. $5,000-9,999 n.a. 40,091 84,922 $10,000-19,999. . . . n.a. 119,917 n.a. 653,084 n.a. 5,446 $20,000-39,999. . . . $40,000 and over. . . n.a. 57,396 n.a. 601,554 n.a. 10,481 n.a. 15,190 n.a. 341,399 n.a. 22,475 Not reported............ n.a. 51,263 n.a. 228,581 n.a. 4,459 1,899 f 5,959 [ 21,643 7,968 269,221 Status Individual.................. Partnership................ Corporation.............. 428,550 153 [306,772 \ 2,644 100 932,512 1,219 [ 1,827,937 \ 57,220 26,901 Line of credit established with borrower Y es............................ N o............................. n.a. n.a. 39,560 n.a. 381,554 — 9,640 329,219 n.a. 1,803,120 — 5,477 *The above data were obtained by expanding information reported by a stratified sample of banks to previously reported loan totals for all commercial banks in the District. The reliability of the estimates is lower for the subcategories of loans than for the totals, n.a. Not available. ’Corporations were included in 1966, but excluded in 1956. Partnerships were included in 1956 but excluded in 1966. than for operators 35 to 54, it was about in line with the indebted ness of farmers over 55 years. This might indicate that the prob lems of many young operators in the Mid west that are often as cribed to lack of avail able credit may actu ally be due to other limitations, such as size of operation. The equity position of farm borrowers is one of the more impor tant factors influencing the extension of credit. Since 1956, there has been a substantial up ward shift in the net worth of farmers bor rowing from banks. The shift is prob ably due primarily to the large number of operators leaving small farms, but it also prob ably reflects the finan cial progress many borrowers have made. Where their financial positions were known, around 2 percent of the borrowers in 1956 had a net w orth of $100,000 or more. In 1966, these borrowers made up about 10 per cent of the total. Sim ilarly, the proportion of b orrow ers in the Federal Reserve Bank of Chicago $25,000 to $100,000 category increased from about a fourth of the total in 1956 to more than half in 1966. On the other hand, farmers with net worth of less than $25,000 accounted for around three-fourths of all farm borrowers in 1956, roughly twice the proportion of borrowers in 1966. Borrowers with relatively large net worth also accounted for a large share of farmers’ total bank indebtedness. Farmers with net worth of more than $25,000, while represent ing around half of the bank borrowers, had about three-fourths of the bank credit out standing to farmers in mid-1966. Moreover, farmers with net worth of more than Larger farm operators more likely to be bank borrowers and account for greater portion of loan volume percent of total annual farm sales 0 5 20 10 — I--------- 1 ------ T 30 35 all operators (census)* under $ 5 ,0 0 0 bank borrow ers d o llar am ount of loans $5,000 - $9,99 91 $2Q,000-$3S599' $ 4 0 ,0 0 0 8 over 10 40 — I---------1 --------------1 " Data from 1964 Census of A griculture $ 100,000 accounted for about a fourth of the credit but only 10 percent of the borrowers. Farmers’ equity is usually, though not necessarily, associated with the capacity of the farm unit to generate income. Although information on the volume of sales of farm products was not obtained in the 1956 sur vey, census data indicate that the proportion of farms in the Seventh District selling less than $10,000 in farm commodities dropped sharply over the past decade, while the pro portion selling more than $10,000 increased sharply. Banks have probably experienced a similar pattern with their farm customers. In mid1966, farmers selling more than $10,000 of farm products represented about three-fifths of the borrowers. And these borrowers, in turn, accounted for more than four-fifths of the outstanding debt. Net worth and volume of farm sales are, of course, important considerations to bankers extending credit. Farmers that have accumu lated substantial amounts of equity and have the income capacity to repay loans usually have no difficulty in obtaining credit, and on fairly favorable terms. Borrowers with small equities and a small volume of sales have less capacity to carry debt. The 1964 Census of Agriculture found that around 40 percent of the farmers in the states of the Seventh District had farm sales of less than $5,000, while this category ac counted for only about 13 percent of the borrowers at District banks. Moreover, loans to these borrowers are usually smaller, reflecting the smaller size of their operations and the greater risk in loan ing to farmers with small equities. The aver age indebtedness of borrowers with farm sales less than $5,000 was around $2,339, compared with the average of $5,924 for all farm borrowers. Similarly, the average debt Business Conditions, September 1967 outstanding to farmers with net worth less than $5,000 was about a third the average debt of all borrowers. Nevertheless, the debt levels for these borrowers were relatively high. Indebtedness of the group was about 83 percent of its equity, compared with 14 per cent for all farm borrowers at District banks. Partly as a result of the greater risk and the higher costs per dollar of handling small loans, interest rates for these borrowers were higher. Interest rates for borrowers with net worth less than $5,000 averaged 7 percent, compared with 6.3 percent for all borrowers. C red it lines The survey in mid-1966 showed that a number of bankers have established lines of credit for their farm borrowers; that is, they had agreed to provide credit as needed, up to some specified amount. Although data on lines of credit were not obtained in the 1956 survey, the practice has probably become more common in recent years, reflecting the rapid rise in farm credit needs. About 10 percent of the borrowers in mid1966 had established lines of credit, and these accounted for nearly a fifth of the total debt outstanding. These borrowers tended to be large operators. Around two-thirds of the total amount of lines of credit were to farm borrowers with $50,000 or more net worth and to borrowers with farm sales of $20,000 or more. Moreover, the bulk of the credit lines were extended to meat animal or cash grain farmers—farmers with large credit re quirements during certain seasons. C red it needs to in crease fu rth e r The trend toward greater use of borrowed capital by farmers will undoubtedly continue. To gain the economies made possible by con tinuing progress in mechanization, farmers can be expected to expand their businesses further, both through more intensive and specialized use of current land and equip ment and through absorption of small farms into larger units. They are expected also to increase further their use of the purchased materials and services essential to efficient farm production. Many farmers will not be able to adapt to these trends and will leave farming. But those that are successful in combining their man agerial capabilities with technological inno vations are likely to require substantially larger amounts of borrowed funds. Serving the future credit needs of agricul ture would seem to present no insurmount able problems. The use of large amounts of credit by alert managers of efficient farms should continue to be profitable for bor rowers and lenders alike. There may be some question, however, about which of the va riety of lenders now serving agriculture are most likely to provide the growth in credit services. Rural banks are unusually well suited to provide much of this credit because of their proximity to farms and the need by lenders for detailed knowledge of the character and needs of the farm business. Banks can also provide farmers many related financial ser vices. Commercial banks appear capable of providing the various types of credit required by farmers—with the possible exception of some long-term real estate mortgage credit and some marginal high-risk credit. This assumes, of course, the individual banks are operated efficiently and competi tively and that the banking system as a whole provides an effective and adaptive mechanism through which funds flow in and out of areas in response to changing needs, availability and interest rates. 1 1 Federal Reserve Bank of Chicago U. S. wealth abroad F o r e i g n claim s of the U n ited States amounted to more than 106 billion dollars at the end of 1965, while foreigners held claims of 59 billion dollars here. The difference— our net foreign investment—was therefore about 47 billion dollars.1 Although this sum represented only a fraction of our total national wealth—less than 3 percent—it is nevertheless significant when viewed against the background of the U. S. position in world trade and finance. As such, it reflects the net contribution the United States has made to world economic growth over the past several decades as a net supplier of international investment funds. From the viewpoint of the United States, the significance of the sum is twofold: 1) because of the net foreign exchange earnings and income generated by U. S. assets abroad, it represents an important positive factor in the U. S. balance of payments; 2) but because of the strain net capital outflow has placed on the balance of payments, its growth has been a matter of deep concern. The United States was a net debtor to the rest of the world until World War I. In the early stages of its industrial development, this country depended heavily on foreign capital and in building up industries “mortgaged” part of its wealth to foreigners. In 1900, for example, when the total wealth of the United States, including land and reproducible assets, was an estimated 88 billion dollars, net liabili ties to foreigners were 2.5 billion. On the eve of World War I, total foreign 12 3 These figures must be interpreted with some cau tion because of technical and conceptual difficulties in arriving at an accurate total. investment in the United States amounted to 7.2 billion dollars—nearly twice the 3.7 billion Americans had invested abroad. But demands of war financing led to a sharp re duction of foreign-owned assets in this coun try and an increase in foreign indebtedness to the United States. By the end of 1919, U. S. net claims on foreigners amounted to 3.7 billion dollars. These claim s co n tin u ed to in crease throughout the Twenties. By the end of 1930, U. S. investment abroad was 17.2 billion In ternatio nal balance sheet of the United States, 1950 and 1965 1950 1965 (million dollars) U. S. assets abroad Private assets Direct investment................................ 11,788 49,217 Foreign corporate stocks.................... 1,175 5,048 Foreign bonds.................................... 3,158 10,176 Banking claims................................... 1,276 12,045 Other assets....................................... 1,607 4,456 Government credits and claim s*. . . 12,535 25,123 Total............................................... 31,539 106,065 Foreign assets in U. S. Long-term Direct investment................................ 3,391 8,812 Corporate stocks................................ 2,925 14,598 Corporate, state and municipal bonds Other long term................................. 181 916 1,500 2,082 18,162 Short-term Private obligations............................. 6,477 Government obligation s .................. 3,161 14,362 Total............................................... 17,635 58,932 ‘ Includes holdings of foreign convertible currencies and IMF's gold tranche position but excludes U. S. gold stock and over 20 billion dollars of World W a r I debt. SOURCE: U. S. Department of Commerce. Business Conditions, September 1967 dollars, while foreign investment Value of U. S. d irect investment abroad in this country was about half that by area and industry, year-end 1965 — 8.4 billion. Latin American investment abroad Industry Canada America Europe Africa Asia Oceania declined throughout the depressed (million dollars) Thirties and stood at only 12.2 Manufacturing____ 6,855 2,741 7,570 292 673 950 billion dollars by the end of 1940. Mining and smelting............. 1,755 1,114 55 361 37 162 At the same time—particularly in Petroleum.............. 3,320 3,034 3,429 1,020 2,384 499 the late Thirties—foreign claims Public utilities........ 486 596 60 * 61 2 on the United States increased T ra d e.................... 881 1,034 1,716 114 253 103 sharply as foreign capital sought O ther.................... 1,875 852 1,065 117 203 95 haven here. By the end of 1940, Total.................. 15,172 9,371 13,894 1,904 3,611 1,811 these claims had increased to 13.5 Hess than 0.5 million dollars. billion dollars.2 SOURCE: U. S. Department of Commerce. F oreign investment in the United States still exceeded U. S. investment abroad by about 800 For example, establishment of the European million dollars at the end of World War II. Common Market as a large unified market But the situation changed drastically in the area, with the new opportunities it offered for next five years, largely as a result of capital profit through application of large-scale pro outflow through U. S. aid to the war devas duction and marketing techniques, signifi tated countries. By the end of 1965 the United cantly influenced the flow of direct investment States had provided more than 32 billion to Europe.4 dollars in loans and credits to other countries The differential in profit rates—revealed and international organizations.3 This was in by McGraw-Hill as the next most important addition to 48.2 billion of foreign grants for consideration of businessmen—was also im nonmilitary purposes between mid-1945 and portant to the surge of investments abroad. the end of 1965 that did not appear on the Returns on both portfolio investments and international balance sheet. direct investments have generally been higher With reconstruction abroad well under way abroad than in the United States. This dif in the Fifties, the outflow of capital through ferential helps explain why U. S. net foreign U. S. Government aid programs subsided. investment has grown so much faster than But the favorable investment climate result net domestic investment—why the foreign net ing from vigorous reconstruction abroad began to attract large amounts of private U. S. “ These increases were accompanied by large capital, particularly in the late Fifties and transfers o f gold from abroad. Between 1935 and 1940, the gold holding of the United States rose early Sixties. The surge in fo re ig n in v es tm e n t Surveys conducted by McGraw-Hill show desires to open new markets and protect ex isting markets as the main reasons for Ameri can businessmen deciding to invest abroad. from 10 billion dollars to almost 22 billion. 3Military assistance during this period amounted to 36.1 billion dollars. Thus the total net foreign grants amounted to more than 84 billion dollars. ‘Direct investment means acquisition of assets and equities in businesses abroad in which U. S. investors have an important voice in the manage ment. 13 Federal Reserve Bank of Chicago 14 worth of the United States increased almost 3.5 times between 1950 and 1965 while net domestic assets (the domestic net worth) only about doubled. Traditionally, U. S. direct investment abroad has taken the form of new production facilities or expanded facilities established through local partnerships, rather than ac quisition of existing foreign companies. In 1964, for example, net acquisition of foreign enterprises by U. S. companies amounted to only 328 million dollars— less than 9 percent of the total direct investment undertaken abroad that year. In 1965, the figure was 279 million dollars—about 5.7 percent. American investment abroad has generally benefited the areas where it was undertaken. Among other things, it has almost always: • Helped raise local incomes by providing new employment opportunities • Improved local standards of living by introducing new products • Provided additional tax revenues for local government • Introduced new technology in industry and new skills into the labor force • Introduced new competition into local markets, encouraging local business to become more efficient • Increased foreign exchange earnings of the host countries through increases in their exports Economic criteria alone are not always appropriate in evaluating overall impact, however. Social, and especially political, fac tors are also traditionally important consider ations in countries determining the desir ability of foreign investment. Just as many Americans complained about the inflow of European capital at the turn of the century, some countries complain about the inflow of American capital 60-odd years later. The arguments are often distorted with Foreign direct investment in the United States reached almost 9 billion dollars in 1965 billion 9 r 8 - 7 dollars , x , - _______ 6 5 4 3 W ///////A 2 1937 1950 I9 6 0 1965 SOURCE: U. S. Department of Commerce. exaggerations sometimes serving the purposes of special interests. Many complaints, for example, have been raised against the size of the U. S. investment in Europe and the im plied American domination of European in dustry. Although the U. S. share in some foreign industries is more than half—as in the case of carbon black in England and account ing machines in France—the overall, long term investment position favored Europeans until very recently. Until 1964, European long-term invest ment in the United States exceeded our long term investment in Europe— and that had been the case for decades. Only in 1965 did Americans finally catch up. And even then, U. S. investment in Europe exceeded European investment here Business Conditions, September 1967 by only about 800 million dollars. Only a small part of the foreign assets in the United States at the end of 1965 was represented by direct investment. Unlike U. S. investors abroad, foreign investors here have shown a strong preference for corporate stocks and, more important, for such short term investments as bank deposits and U. S. Government securities. The preference of foreigners for portfolio investment has long been evident. Before 1914, foreign long-term investment in the United States was concentrated in bonds, particularly railroad bonds. The acquisition of U. S. corporate stocks by foreigners in creased rapidly after World War I and soon exceeded bond holdings, particularly as the market value of stocks soared in the Twenties. During the depressed Thirties and war- U. S. assets make a positive contribution to the country's balance of payments billion dollars affected Forties, the value of foreign port folio investment in the United States re mained fairly stable. A sharp increase began in the Fifties and has steadily continued. As major European countries relaxed restrictions on purchases of foreign securities, the purchase of U. S. se curities was taken up again. This—with the continued rise in market values—quadrupled the value of foreign holdings of U. S. corpo rate stocks in the Fifties. Even though there was some net liquidation of stocks held by foreigners, between 1964 and 1966, the total value of foreign holdings has continued to rise as the market value of the remaining holdings climbed. Also in 1965, a new type of American se curity appeared on the international market and became available to foreign investors. In response to Department of Commerce guide lines aiming for U. S. corporations to reduce the outflow of funds from the United States and encouraging them to finance their direct overseas investment by borrowing abroad, several companies established special domes tic financial subsidiaries. These subsidiaries began borrowing abroad through issues of special debentures and bonds to obtain funds needed to finance foreign investment by parent companies. Competitive yields of these securities, and in many instances their convertible feature, made them highly attractive to foreign in vestors. That year, 191 million dollars of these securities were purchased abroad, and almost 600 million were purchased in 1966. Short-term claims of foreigners at the end of 1966 amounted to about 30 billion dol lars. The preference of foreign investors for short-term, liquid-dollar assets stems largely from the position of the U. S. dollar in inter national finance. Since World War II, the dollar has served as one of the two most im- 15 Federal Reserve Bank of Chicago portant reserve currencies and is used widely as an international means of payment. To the extent that short-term claims on the United States are held by foreign official in stitutions, they represent an important source of international reserves. And to the extent that these short-term claims are held by private individuals and cor porations abroad, they constitute an impor tant source of international liquidity for trade and investment. It has been estimated that more than a third of the world’s trade in 1966 — 192 billion dollars as measured by world imports—was settled in dollars. Foreign banks and individuals participating in such transactions find it convenient to maintain dollar balances to facilitate payments. The availability of large amounts of short-term financial instruments in the U. S. money market and the development of the Euro dollar market abroad have greatly facilitated profitable investment of these balances. The b alan ce o f p ay m e n ts 16 The large amounts of foreign short-term investment in the United States attest to the confidence of most foreign investors in the soundness of the dollar. But the rate at which this investment increased since the early Fifties has been a concern to governments and individuals here and abroad. As a banker to the world, the United States must stand ready to discharge these liabilities on short notice by exchanging them for other internationally acceptable assets. The contin uation of the dollar as a reserve currency— indeed the continuation of the international monetary system in its current form—de pends largely on the ability of the United States to fulfill this responsibility. Gold has traditionally been the major internationally acceptable asset for use in discharging obligations of this kind. But while U. S. short-term obligations increased be tween 1950 and 1965, the U. S. gold stock slipped from 22.8 billion dollars to 13.8 billion. Allowed to continue, this develop ment could impair the ability to maintain the gold-convertibility of the dollar.5 For that reason, the U. S. Government has taken steps to reduce the deficit in the balance of payments and thereby the rate at which foreigners have accumulated short-term dol lar assets.6 Several of the steps were designed to reduce the outflow of dollars resulting from the acquisition of foreign assets by Americans. In addition to asking corpora tions to restrain their foreign investment, the Government asked commercial banks to re duce their lending abroad. Assets abroad have made a significant positive contribution to the country’s balance of payments. Through an increasing inflow of repatriated earnings and other related in comes and through exports in the form of un finished goods from parent companies in the United States to affiliates abroad, foreign in vestments have boosted U. S. earnings of foreign exchange and thus improved the bal ance of payments. In recent years, these positive contributions have more than offset the negative effect of the outflow of invest ment dollars. Given, however, the need for a prompt and substantial reduction of the U. S. balance of payment deficit, restraint on for eign investment is necessary, even if it results in forfeiture of some long-term benefits. 6 The U. S. Government is formally committed to convert into gold or convertible currencies only the dollars held by foreign official institutions. T h e “liquidity” deficit in the U . S. balance of payments is computed by adding the increases in short-term dollar assets held by foreigners (liabili ties), the decline in the U. S. holding of gold, and the decline in the International Monetary Fund position. Thus, the increase in foreign short-term investment in the United States constitutes a part of the balance of payments deficit.