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JGUST 1 9 5 5
iness review
DERAL RESERVE
4NK OF
PHILADELPHIA
SCOVERY OF MONETARY POLICY—
BLEMS OF APPLICATION
rl R. Bopp, Vice President
CURRENT TRENDS
As the economy approaches capacity operation, more observers
are looking for inflation, and are watching trends in credit.
Bankers expect loan demand to increase and credit to tighten.
Additional copies of this issue are available
upon request to the Department of Research,
Federal Reserve Bank of Philadelphia,
Philadelphia 1, Pa.
THE REDISCOVERY
OF MONETARY
SOME PROBLEMS OF AP
K a r l
R.
B o p p ,
Vice President
A university centennial is an appropriate occa
consistency requires one to believe that mone
sion to interpret contemporary problems in the
tary policy is uniformly effective, irrespective of
light of experience.
economic conditions.
Certainly the history of
monetary policy illustrates a need for perspec
One of our difficulties is that we seem unable
tive. During the past three decades we have seen
to develop an appropriate balance either between
faith in monetary policy run a full cycle.
It
vicarious experience and direct personal experi
reached a zenith in the New Era of the 1920’s,
ence or between successive personal experiences.
plummeted to its nadir in the Great Depression
Every sensitive teacher who has empathy is
of the 1930’s, and has re-emerged rapidly in the
aware of this in his students though not always
1950’s. Perspective should enable us to maintain
in himself. I remember being surprised', when I
at least a semblance of continuity of judgment
began teaching, that the knowledge my students
as to the power of monetary policy rather than
had of the depression of 1920-21 was essentially
to be torn alternately by such exaggerated hope
vicarious and secondhand, something learned
and unwarranted despair. This is not to say that
* An address before the conference of Pennsylvania Econ
omists, Pennsylvania State University, June 16, 1955.
from books, older relatives and friends. The de
pression as such had not impressed itself upon
them because they were too young to experience
3
b usin e ss re v ie w
it— just as the Panic of 1907 and the founding
The present generation of college students, to
of the Federal Reserve System were mere word
whom the depression in turn is, well, a vicarious
descriptions to me.
memory, has seen a revival of monetary policy.
All of us, however, were
experiencing the optimism of the “ New Era” in
The first recession since the famous Treasury-
which we were living. We mastered a simple,
Federal Reserve Accord of March 1951, which
straightforward, exclusive theory of the omni
marked a return to flexible monetary policy, has
potence of monetary policy. We found not only
been mild. There is a danger that we may again
that the theory was intellectually convincing but
that experience seemed to be demonstrating its
feel that all the dragons have been slain.
validity. Both the upswings of 1923 and 1926
phasis which seem related to strictly contempor
ary experience, I do not wish to infer that all
and the downswings of 1924 and 1927 were mild
In recounting these significant changes in em
teachers or even all students held these shifting
relative to earlier fluctuations.
A few college generations later it was almost
judgments. Certain experiences affect individuals
impossible to convey to students any real feeling
more deeply and certain habits of thought per
of the new era. We were in the midst of the
sist longer than others. One could almost always
Experience was interpreted
find contemporary advocates for most of the roles
as demonstrating that monetary policy is impo
that have ever been ascribed to monetary policy.
Great Depression.
Forgotten— in part because the students
Certainly anyone who has followed recent Con
hadn’t experienced it— was the mildness of the
gressional hearings can certify that this is true
tent.
recessions of 1924 and 1927. Painful was the
today. The logic of some advocates is cogent,
depth and length of the existing depression de
granted their premises, and of others, granted
spite a monetary policy that was described as
their objectives. I must warn you at the outset
“ easy
policy,
that my mind contains no mental gyroscope that
launched as a means of putting active rather than
keeps me unerringly on the path of truth by
passive money into the economy, soon took over
compensating for my own ignorance.
virtually
a simple,
ately, informed discussion, buttressed by experi
straightforward, exclusive, and intellectually con
ence, has a way of exposing not only errors in
vincing theory was developed.
logic but hidden implications of our logical struc
tures as well.
money.”
Compensatory
the whole field.
fiscal
Again,
Several college generations and a world war
Fortun
later, we demonstrated by experiment the inade
quacy of fiscal policy standing alone. We found
PR O BLEM OF OBJECTIVES
inflation going merrily on its way despite large
In our zeal for the possibilities of a rediscovered
cash surpluses in Federal finances, because the
greatly enlarged supply of money which was a heri
monetary policy, we tend to neglect some prac
tical problems that confront a central banker who
tage of the war contributed to an effective demand
is conscientiously trying to use a flexible mone
for goods and services in excess of our capacity to
tary policy to foster stable economic growth.
produce at the time and because, with credit both
Since I wish to concentrate on some of these
cheap and plentiful, private sectors of the econ
problems, I shall discuss only briefly three ulti
omy and local governments went into debt more
mate objectives of monetary policy that might
rapidly than the Federal government came out.
be given the brief titles: a stable price level,
4
b u sin e ss re v ie w
maximum
and con
that we have been able to pursue monetary policy
vertibility or external equilibrium. For under
sustainable
employment,
without concern about possible adverse effects
standable reasons that need not detain us here,
on our balance of payments. It seems likely that
a declining price level may be associated with
we shall remain in this position for a long time to
declining employment and increases in a coun
come. The chief contribution that we can make
try’s international monetary reserves. Similarly,
to international economic and monetary stability
a rising price level may be associated with rising
is to maintain well-balanced domestic economic
employment and decreases in a country’s mone
growth while maintaining world confidence in
tary reserves. In other words, stable prices, max
the dollar as a stable currency.
imum employment, and convertibility frequently
Our domestic problem in turn is to combine
indicate a common program for a central bank.
expansion in employment as the labor force
grows with reasonably stable prices. Monetary
C onflicting objectives
policy alone cannot achieve this combination.
Unfortunately, however, “ frequently” is not often
Our success depends on complementary fiscal
enough. What should the central bank do when
and debt management policies as well as appro
these three objectives point in different direc
priate behavior by many individuals, institutions,
tions? This is not merely a hypothetical dilemma
and groups. I have time to give only one brief
advanced as an exercise in logic. It is exactly
but possibly crucial illustration directly related
what happened in the United States from roughly
to stable prices and maximum employment. Let
the middle of 1953 to the middle of 1954. Dur
ing that period employment declined by 1 million
us suppose that we have the designated level of
employment and that prices and wage rates are
(and unemployment rose by nearly 2 m illion),
our monetary gold stock declined by $600 mil
in equilibrium. Suppose next that wage rates are
increased faster than efficiency. The monetary
lion, and both the consumer and wholesale price
authorities will be confronted with the choice of
levels varied by only one per cent. Thus an em
permitting the expansion necessary to support
ployment objective would have called for greater
the higher costs and prices or not permitting the
ease, a convertibility objective would have called
necessary expansion and thus allowing increases
for greater tightness, and a stable price level ob
in unemployment. We have some reason to hope
jective would have called for no change. Unfor
that we can achieve a reasonable combination of
tunately, general monetary policy cannot move in
objectives, but we will not be successful without
three directions at once.
taking great pains in many areas.
Students and practitioners differ as to the most
In analyzing convertibility as an objective,
account must be taken of a country’s general
desirable objective or combination of inconsist
international position.
If you follow foreign
ent objectives and the choice is a difficult one to
development at all, you are aware that the Bank
make. Since, however, there is widespread agree
of England and many other foreign central'banks
ment as to the direction in which monetary policy
are
and must be extremely sensitive to the
should move to achieve each of the several ob
foreign exchanges and the balance of payments.
Fortunately, for at least two decades our inter
jectives under prescribed or given circumstances,
national monetary reserves have been so large
once we have resolved the problem of objectives.
it is tempting to conclude that our job is over
5
b u sin e ss re v ie w
But this conclusion is premature because it ab
ace to the first edition of his Principles Alfred
stracts from time.
Marshall said that time “ is the center of the chief
difficulty of almost every economic problem.”
O bjectives a s g u id e s
The latest data on price levels, employment, and
A number of fundamental objectives of policy
similar magnitudes are preliminary estimates of
would indeed become guides to current opera
conditions in the past and the full effects of to
tions if there were no lags between developments
day’s act will permeate the economy in the future.
and meaningful knowledge and between an oper
ation and its effect. Suppose, for example, that
GUIDES TO CURRENT OPERATIONS
the objective of policy is stabilization of a speci
It is possible that this impediment could be re
fied level of prices.
temporary and continuous measure of that price
duced if we had timely knowledge of an indica
tor that systematically moved ahead of changes
level and if the full effect of action of a central
in the magnitude of the actual objective—which
bank on it were felt instantaneously, that price
had a high predictive value. We cannot be sure,
level could be objective of policy, guide to action,
of course, that an indicator with a high predic
and measure of immediate results.
If we had a strictly con
An initial
tive value before it was used as such would re
change in the price level would indicate the di
tain this quality after it is used. It is conceiv
rection in which the central bank should proceed
able that the reaction of the public to its use
and subsequent movements of the price level
would change and possibly destroy its value.
would indicate whether the specific action was
We need not be too disturbed by this conjecture,
in the proper amount, too little, or too much.
however, because we do not have any such in
It does not follow, of course, that monetary
dicator.
policy acting alone could achieve the stated ob
jective.
Not all objectives would thus merge with
guides and measures.
Among the questions raised by introducing
time is: How much emphasis should be placed
Convertibility, for ex
ample, would not. If the objective is to maintain
on expectations as to the future and how much
on knowledge of the past?
Since we are con
cerned with influencing developments from here
convertibility in the long run, the fact that a
forward, we are tempted to conclude that we
currency is convertible today does not of itself
should be guided by expectations. But on what
indicate to a central bank whether it may expand,
should these expectations be based?
must contract, or do neither. It would appear,
most desperate need for an accurate forecast will
Even the
however, that many possible objectives would
not somehow produce it.
merge into guides to current operations and
measures of immediate results if it were not for
P ro b le m s o f fore ca stin g
lags in information and in effects.
We have several options as to procedure. First,
Such logical conjecture is helpful to under
there is the method of past relationships which
standing so long as we do not base current oper
is widely used in the physical sciences.
Much
ations on the assumption that time is irrelevant,
can be learned in this way about the operation
because, obviously, it is an inherent aspect of
of our economic system. But we cannot get more
experience. You may remember that in the pref
out of a projection or extrapolation based on
6
b u sin e ss re v ie w
past relationships than is inherent in our as
panic or a liquidity crisis. Under such circum
sumptions and original data. The optimist who
stances, responsible officials should not conduct
claims more might inquire as to the fate of the
current operations on the basis of the latest avail
A. B, and C curves of the Harvard Economic
able indexes of employment and prices.
Service— which were popular when I first studied
business cycles.
Or he might compare projec
A third possible guide to current operations
is one based on expressions of current opinion
tions of changes in population made in the
from informed observers: manufacturers, build
1930’s and 1940’s with actual changes since that
ers, purchasing agents, retailers, and so on. A
time. Or he might compare forecasts based on
basic assumption of this approach is that in
an assumed constancy of the so-called consump
formed observers can, somehow, pierce the veil
tion function that was so popular a few years ago
of the future. I have yet to see the evidence that
with actual economic developments since.
this assumption is warranted. A technical diffi
A related method is based on the assumption
culty is that one must devise a method of com
that current behavior or the direction of recent
bining the wide variety of opinions that are
changes in behavior will continue.
Although
usually held into a single measure that can be
there are rapid changes in the individual parts of
used as a guide. I haven’t devised such a method,
a dynamic market economy, ordinarily measures
but I have a hunch that when observers are in
of over-all economic magnitudes, such as employ
substantial agreement current objective data will
ment and comprehensive indexes of prices, do
point in the same direction. This method is apt
not gyrate erratically over wide ranges. Many
changes in the parts offset each other and pro
to give us least help precisely when we need help
most.
duce some inertia in the general measures. Since
the emphasis of monetary policy is on general
curing expressions of current intentions. As you
developments rather than structural changes, it
know, periodic surveys are conducted of certain
is tempting to adopt as guides current or recent
spending plans of business and of consumers.
experience.
But this is less than ideal.
The final method 1 shall mention is that of se
If one
Although the information is helpful in under
is guided exclusively by the past, it is clear that
standing what is happening, these surveys have
he would always be moving after the event and
several weaknesses as precise guides to current
that he would be moving in the wrong direction
operations. There is always the basic question of
each time the economy changed direction.
their accuracy in predicting actual developments.
Direction, unfortunately, is not the only prob
lem.
As a guide to day-to-day operations, the surveys
Since the economy may change its mo
now conducted also suffer from their relative
mentum and acceleration, the monetary authority
infrequency, lag of time between collection of
must be concerned with magnitude and speed of
original data and computation of results, and
action as well as direction. A critical weakness
incompleteness of coverage.
of being guided exclusively by the latest data on
I have pointed out weaknesses in guides to
our ultimate objectives is that there are occa
current operations based on both developments
sions when this would clearly be a mistake. Illus
of the past and projections of the future. I have
trations are episodes of great and sudden change,
not done this to disparage the work that has
such as a declaration of war or the outbreak of
been done. Much of the initial work and of the
7
b u sin e ss re v ie w
post-mortems has been of high quality and has
Professor Simons’ deep concern to safeguard
contributed to our understanding of how our
the rights of the individual strikes a responsive
complex economy functions.
My purpose has
chord in me, and I must confess that the logical
been simply to point out that the practicing cen
compulsion of his essay have stimulated me on
tral banker does not have an infallible guide
that he can follow in his daily work. There are
several occasions to reconsider the whole prob
lem of guides to current operations. Several in
no rabbits in the hat— except those that some
gredients in his argument continue to trouble
one put there! You cannot get more out of a
guide than is inherent in the assumptions on
me. Simons would elevate his guide into a shib
boleth so that the public could distinguish clearly
which it is based.
between right and wrong action by the central
Specific gu id e s vs. ju d gm e n t
path. Somehow I do not feel that we as yet com
This conclusion raises ahother question. Granted
prehend adequately the role of monetary policy
bank and thus compel it to remain on the proper
that we have no ideal guide, are we likely in fact
in our complicated economic system to establish
to secure better results from rigid adherence to a
a final guide. Where would we be if the Gilea
“ reasonable” guide or from reliance on the judg
dites dropped their h’s— or the Ephraimites ac
ment of central bankers?
quired them?
Henry Simons first
In reaching this conclusion, I
developed a systematic case for required adher
recall some of the reasoning that seemed so com
ence to a statutory guide in his famous essay on
pelling to those who ascribed the role of sover
“ Rules vs. Authorities in Monetary Policy.” One
eign to the reserve ratio, the Palmer Rule, the
purpose would be to eliminate uncertainty from
currency principle, and the real bills doctrine—
central banking operations.
to mention a few.
An advantage of
certainty is that business decisions necessarily
The acid test of a guide is not the internal
are based on more or less rational estimates and
consistency of the logic or model on which it is
guesses as to future conditions. One all-pervasive
based, but experience. Since no central bank ever
influence on such conditions is the policy of a
has followed a unique— and “ reasonable” — sta
central bank. If this policy were defined in de
tutory guide without deviation, we have no con
tail in advance, the businessman could arrive at
clusive test. Behavior could be different if such
It is maintained that, even
a guide were followed than if it is not. But it
though the precise directive were not ideal, the
better decisions.
remains to be demonstrated that the actual re
over-all results of such a program would be
sults would fulfill the more sanguine expecta
better than those resulting from discretionary
tions. Meanwhile, it is not wholly irrelevant to
central banking. Discretionary management runs
apply a designated guide to experience. Simply
into hazards. Central banking is a field in which
select a number of guides seriatim and follow
appropriate action is extremely difficult to deter
their movement over, say, the past decade and
mine. Central bankers also are not immune to
moods of optimism and pessimism. Unless, there
see whether any of them would invariably have
fore, a central banker relies on an objective in
sider appropriate in retrospect. Don’t forget to
dex, his actions may not be— or at any rate not
allow for the contemporary lags in information
appear to be— consistent over time.
and subsequent revisions in the data.
8
indicated the program that you would now con
b u sin e ss re v ie w
Incidentally, if you put yourself into the posi
ous regions of the country through the presi
tion of a practitioner, you will soon discover that
dents of the Reserve banks. The other flows
a specific statutory objective or guide will not
from the Board of Governors of the Federal
tell you what to do at 11 a.m. on Thursday. An
Reserve System. Each member of the Com
operational directive would also be needed to
mittee, with statutory responsibilities for
specify exactly what the central bank should do
the determination of national credit policies,
with each of its instruments for every change
brings to the deliberations of the Committee
recorded in the objective or guide.
the sum total of his knowledge and experi
ence.”
“ IN F O R M E D J U D G M E N T ”
In addition to the information with which
How can a fallible individual come to a rea
members of the Open Market Committee come
sonable decision in the absence of a financial
to meetings, they secure a systematic appraisal
litmus whose color would indicate invariably
of economic developments from the staff of the
what a central banker should d o? I know of no
System. As nearly as is possible the result is an
final answer. When we move from a single guide
informed judgment of the monetary policy that
because of its inadequacy we are confronted with
is appropriate to the current economic situation.
combining several guides.
If we combine by
It is a fallible method, but it seems to me that
means of an invariable formula, we are back
we are likely to get better results from concen
where we started with a different but still inade
trating on the development of competent central
quate guide. On the other hand, anything more
than a formula involves the use of judgment.
bankers than from relying on a formula.
There are redeeming features that mitigate the
I am aware that there is danger in thus leaving
room for judgment. An arrival from Mars could
difficulties. One is that the central bank can
move rapidly, if necessary, in either direction.
say: “ It is my judgment that reserve require
Another is that usually at a given moment of
ments should be doubled.” That judgment would
time the range of judgment is limited. Ordinarily
be without content— if we assume that Martians
it is a question of a little more or a little less
know as little about the earth as man knows
tightness or ease, or even whether doubts should
about Mars.
be resolved in one direction or the other.
The problem is to secure an informed judgment.
The Federal Reserve System has been organized
Su p p ly, a v a ila b ility a n d cost o f credit
to meet this problem by bringing group judg
This decision presupposes some measure or meas
ment to bear on it. The key group for this pur
ures of ease or tightness. Since a-central bank
pose is the Federal Open Market Committee.
operates in the money market, the results of its
As was stated to the Patman Committee:
actions will show themselves in the supply, avail
“ It is in meetings of the Open Market Com-'
ability, and cost of money and credit. Although
mittee that lines of thought from two direc
the three aspects are related, there are differences
tions
credit
of opinion as to the emphasis that should be
policy, as far as the Federal Reserve System
placed on each as a measure of the tone of the
is concerned. The one flows from banking,
market. If, at one extreme, costs or rates of in
terest are used as the exclusive measure and the
converge
to
form
national
business, and the general public in the vari
9
b u sin e ss re v ie w
central bank operates to establish them at speci
If other things remain equal, an increase in
fied levels, it will lose control over supply because
excess or free reserves increases the inducement
the market will determine how much it wishes at
of banks to expand, and a decrease of such re
that rate. If, at the other extreme, supply is used
serves increases the pressure to contract.
to measure results, the central bank will lose
fortunately, how?ever, other things seldom remain
control over cost because the market will deter
equal. Although a given bank may transmit to
mine how much that supply is worth.
Un
Since
the money market pressure initially exerted on it
the behavior of the other participants in the
market— technically changes in the demand for
— through operations in Federal funds, Treasury
bills, and in other ways—banks vary widely in
liquidity— cannot be predicted accurately in ad
their sensitivity to inducement and pressure. As
vance, the choice of measures will influence what
a consequence, the net expansionary effect of a
a central bank actually does.
In terms of procedure, it is more difficult to op
given volume of free reserves is less if the excess
reserves are concentrated in insensitive banks
and borrowings are concentrated in sensitive
erate on supply with incidental effects on the rate
than on the rate with incidental effects on the sup
banks than if the excesses are held by sensitive
ply. To begin with, it is necessary to construct an
banks and the deficiencies by insensitive ones.
appropriate definition of supply. Occasionally a fi
The distribution of excess reserves and of in
nancial article features the mere fact that the Fed
debtedness is apt to be particularly important in
eral Reserve System has bought, sold, or redeemed
assessing the effects of a change in reserve re
securities. There are times, of course, when this
quirements. fn determining the level of excess or
may be significant, as when it occurs following a
free reserves that will produce the desired degree
considerable period without change. Even at best,
however, this is an inadequate measure.
of ease or pressure in the money market, allow
ance must be made for the distribution of ex
cesses and debts among the member banks. The
Actual, req uire d a n d b o rro w e d reserves
total amount may have to be varied to maintain
Since the purpose of changing the supply is to
a given tone in the market.
Once the level or range of excess or free re
influence the flow of expenditures, in part by
inducing banks to expand or contract credit, the
serves has been determined, the practitioner has
more common definitions are written in terms of
the problem of trying to establish or maintain
the reserves of member banks.
The key rela
that level. A student of central banking who has
tionships are those between actual, required, and
read the chapter on open market operations is
borrowed reserves. A bank with excess reserves
apt to believe that this ought to be easy. Since
has an inducement to expand; a bank in debt
purchases, sales, and redemptions enable a cen
is under pressure to contract. Frequently used
tral bank to establish its portfolio at predeter
measures of supply, therefore, are the volumes
mined levels, it might seem that they should also
of excess reserves and of free reserves.
Free
enable it to maintain excess or free reserves at a
reserves measure the net position of the bank
figure specified in advance. Actually, however,
ing system as a whole relative to the Reserve
the volume of reserve balances is influenced not
Banks. They are equal to excess reserves minus
only by the size of the System’s portfolio of
borrowings and may be negative.
Government securities but, since reserve balances
10
b u sin e ss re v ie w
are a liability of the Reserve Banks, by the size
more, although advantageous in many respects,
of all other asset and liability accounts as well;
the method of averaging reserve requirements—
and it is determined by the size of all the other
weekly for reserve and central reserve city mem
accounts. The volume of excess reserves in turn
bers and semi-monthly for others— aggravates
is equal to actual reserves minus requirements
this particular problem.
and that of free reserves is equal to excess re
One result of these difficulties is that you may
find large changes in the volume of free reserves
serves minus borrowings.
The logical and common answer to this diffi
from week to week even when there has been no
culty is that allowance should be made for
change in the direction of monetary policy.
changes in the other accounts in determining the
Nevertheless, the general level around which the
size of the portfolio needed to produce the de
magnitude is fluctuating and the distribution
sired level of excess or free reserves. Unfortun
among categories of banks usually are significant
ately, however, the changes for which allowance
indicators to an observer of the money market.
must be made are not known in advance. As a
In terms of procedure it is easier to establish
result it is necessary to estimate the expected net
or maintain a specified level of interest rates
effect of all these changes on excess or free re
than the level of free reserves at a predetermined
serves. We know a great deal about the move
level. The rate structure and changes in it are
ment of the relevant accounts. Currency in cir
important measures of the tone of the money
culation
ap
market. Unfortunately, however, it does not fol
proaches; float increases toward the middle of
the month, and so on. But a great deal of
low that the tone of the market has not changed
merely because there has been no change in the
knowledge is not enough to predict changes in
rates. Let me illustrate. Suppose a corporation
these magnitudes from day to day. Permit me
decides temporarily to invest the proceeds of a
to give you just one illustration. An increase in
float (uncollected cash items minus deferred
very large bond issue in Treasury bills. To main
tain existing rates on such bills the System would
increases
greatly
availability cash items)
as
Christmas
puts funds into the
have to sell.
But these sales would absorb re
market. A grounding of airplanes occasioned by
serves and tighten the market even though— or
an unpredicted storm will slow the collection of
rather because— the rate was maintained.
checks and increase float by an unexpected and
Another measure of the tone of the market is
possibly very large amount. By the time we have
availability of credit. This is a slithery concept.
the necessary knowledge it may be too late for
As I indicated in discussing measures of supply,
offsetting
security
indebtedness puts pressure on banks to contract.
transactions are completed “ regular way,” that
One response to an increase in indebtedness, how
is, with delivery and payment on the day follow
ever, may be not to ask higher rates for loans
ing the transaction. Cash transactions mitigate
but to screen applications more carefully, thus
the difficulty but do not eliminate it, because it
expanding what has been called “ the fringe of
action.
Most
Government
takes some time to negotiate the transaction and
unsatisfied borrowers.” This tightens the market
make delivery. Repurchase agreements, though
useful in putting funds into the market rapidly,
even though there may have been no immediate
may not be on hand to take funds out. Further
amount supplied.
increase in quoted rates or any decrease in the
Should the pressure persist,
11
b u sin e ss r e v ie w
of course, it probably would be reflected even
vance, of any specified measure or procedure.
tually in higher rates. Availability is closely re
My view is that a central banker is on firmer
lated to the structure of rates, particularly the
ground if he arrives at his decisions as a result
position of the discount rate in the galaxy of
of systematic and comprehensive analysis of all
market rates.
relevant factors than if he blindly follows a pre
In a sense we may say that the tone of the
determined formula; and, since all individuals
money market has three facets: the relationships
are fallible, we are likely to achieve better results
of supply, of availability, and of cost to demand.
Although they are related, they are not synony
by relying
j udgment.
on group rather than individual
mous, and a central banker must somehow com
And now, in conclusion, I hope you will permit
bine them to establish the tone that is appropri
me a few remarks that may seem irrelevant but
ate and to measure the effects of his actions. He
are not. I asked a number of friends to criticize
does not and cannot sit before a panel with his
a preliminary draft of my manuscript. One re
eyes glued to a pointer and his hand on a lever
that mechanically shoves reserves into the market
sult is that I have more scar tissue. Another is
that you have heard a better presentation than I
or withdraws reserves from the market in pre
could have managed alone. You are entitled to
cisely appropriate amounts.
know, however, that I have not changed the
“ tone” of my argument despite the most common
C O N C L U S IO N S
The burden of my remarks is that the practicing
general criticism that I received.
The most frequent suggestion has been some
central banker is concerned with both principles
variation of the idea that I was not positive
and procedures. If I have emphasized procedures
enough or that I failed to emphasize incidents
before you, a group of professional economists,
in which the System had shown its judgment
it is not because I consider principles less im
superior to that of a robot.
portant but because I cannot offer you new prin
cogency of the collective argument and illus
I appreciate the
ciples and because we tend to neglect procedures
trations of my friendly critics.
as mere practical details.
One result of this
sufficient to cause me to forget another principle
neglect is the temptation to assume that, once we
that my parents squeezed into the very marrow
have agreed on principles, some simple measure
of my bones: always remember for yourself and
or mechanistic procedure will produce the de
any institution with which you may be associated
sired results.
that, although it may be harder, it is better to
I hope I have made clear that my objection to
this approach is the inadequacy, not the irrele
12
But it is not
deliver more than you promise than to promise
more than you may deliver.
b u sin e ss re v ie w
CURRENT
TRENDS
Fear that business might falter before the year
crease than hist year. This was true of all major
is over seems to have vanished. If there is any
types of manufacturing, reflecting loan demand
fear at all in current sentiment, it is fear of pos
to build up inventories and for other purposes
sible inflation.
necessary to increasing output. Perhaps the most
A good bit of the slack put into the economy
striking statistic is that by far the largest bor
by the 1953-1954 recession has been taken up.
rowers were sales finance companies, reflecting
Unemployment is down to 2.5 million, and while
the importance of automobile purchases in the
this is not yet as low as the extraordinary 1.6
business recovery.
million of the spring of 1953, it is still a healthy
The expansion in consumer spending is also
reduction from the 3.3 million of the spring of
reflected in “ other” loans, mostly to consumers,
1954.
Hours worked in manufacturing have
which have risen by 18 per cent so far this year.
broken through the 40-hour level, and overtime
Real-estate loans never did feel the effects of
is again getting to be more prevalent. Industry
the 1953-1954 recession' because building ac
is still increasing production— now more than 13
tivity stayed at a high level. They continue to
per cent above the 1954 bottom. Steel produc
increase.
tion for several months has been running at well
over 90 per cent of capacity.
As the economy comes nearer to capacity oper
ation, more and more observers naturally begin
to look for signs of inflation.
Even the very
small price increases recently have raised ques
tions as to whether the relative stability of prices
which consumers have enjoyed during the past
three years is coming to an end. And with the
economy getting closer to capacity operation
more eyes are turning to the field of credit—
a possible source of inflationary pressure.
Trends in b a n k credit
As the chart shows, at banks in leading cities of
this district loan trends thus far this year have
been quite different from last. Business loans,
ignoring the usual seasonal fluctuations, have
pushed persistently upward.
When you break
the loans down by types of business, you find
that in almost all major categories there has
been either a larger increase or a smaller de
13
b u sin e ss re v ie w
The ou tlook for loan d e m a n d
Most of these bankers feel that credit needs
In view of the unusually strong demand for
for commerce and industry might continue to in
credit so far this year, many wonder if they can
crease more than seasonally in coming months.
expect the usual increase in borrowing this fall.
They see no signs of a significant change in the
Since bankers are most intimately concerned
trend of consumer demand other than a tempo
about this question, we talked to loan officers of
rary slowing in automobile loans in the period
some large Third District banks. This is what
immediately preceding the introduction of new
they told us:
Philadelphia
models. But most indicate that some slackening
almost
in the extension of mortgage credit is probable
unanimously agree that business demand for
credit over the next four or five months will be
bank
lending
officers
over the balance of this year.
Repayment experience of all these banks has
greater than a year ago. Firmness in the demand
for business credit is attributed to the high level
been surprisingly good over the whole period of
heavy loan demand. Many business borrowers
of business activity and the resultant need for
have repaid their loans before they were due and.
relatively large amounts of working capital.
in the field of consumer credit, individuals have
Bankers in Philadelphia express mixed opin
met their obligations promptly. There have been
ions on the automobile situation and its effect on
very few delinquencies, and repossessions on
the need for credit. Some say that automobile
consumer items like automobiles and appliances
dealers are seriously overstocked. These lending
have not been a problem.
officers intend to be very selective for the rest of
pressed it, “ people seem to feel quite free to bor
this year in meeting demands for “ floor plan
row but they appear equally anxious to repay
ning” — providing credit to enable dealers to
their debts and to pay them promptly.”
stock new cars.
As one banker ex
Others are not so concerned
As you might expect, there is a diversity of
about the current situation. They feel that the
opinion concerning the trend of outstanding loan
usual summer tapering off in car production
balances over the remainder of this year com
will enable dealers to sell their excess stock.
pared with the same period of 1954. Some loan
Many of the lending officers say that con
officers would not hazard even a guess. A few
sumer credit demand might drop off over the
thought
next few months, largely because of slower auto
lower, particularly if the recent trend of repay
outstandings
might
average
slightly
mobile sales. Later in the year, however, most
ments is continued. In most instances, estimates
expect the new models to bring about another
ranged from a 5 to a 10 per cent increase over a
surge in demand for cars and credit. Borrow
year ago.
ing for home improvement and for the purchase
Loan
officers in Philadelphia and country
of appliances is expected to continue strong
through the year-end.
banks were unanimous on the probable trend of
Country banks located in other cities of this
ing would be likely to inch upward. Even before
district seem to have been experiencing a much
wre had quite completed our interviews confirma
interest rates. They all said the cost of borrow
heavier demand for credit than in the spring and
tion of this trend was indicated by the rise in
early summer of 1954. They expect a continua
the prime rate on commercial loans and the dis
tion of this trend over the balance of 1955.
count rate of the Federal Reserve Banks.
14
15
F O R T HE R E C O R D . . . %% . '
BILLIONS i
MEMBER B A f t t t y 3 R !}fa $ .D .
B A N KIN G
_
70/ A
V
/V
(
/
\4
\ A «
..
1
/\ / y
\
00^ M
>
/ '- 'f e e *
^
D E p q ^ y ^ ^
CHECK PAYMENTS
C20 CIT ES3
in v e s t m e n t s
3
LOANS
2 YEARS
AGO
YEAR
AGO
Department Store
Factory*
Third Federal
Reserve District
U nited States
Per cent ch an g e
SUMMARY
June
1 9 5 5 from
mo.
ago
OUTPUT
M anufacturing production . . .
C o a l m in in g...................
0
—3
-4
EM PLO YM ENT A N D
IN C O M E
Factory employment (T o ta l)... + 1
0
T R A D E **
Department store s a le s .........
Department store stocks........
B A N K IN G
( A ll member banks)
D e p o sits.............................
L o a n s .................................
Investments.........................
U.S. G ovt, securities..........
O t h e r ...............................
C h e ck paym ents..................
year
ago
+ 6
+ 9
+18
Per cent ch ange
6
mos.
1955
from
ye a r
ago
0
+17
+ 9
+ 2
-
+ 9
+ 3
-3
+3
+ 2
+ 5
+ 4
+2
+3
-2
-1
+ 2
+14
- 3
- 3
+ 4
-4
-
+6+
+
Em ploy
ment
3
+10
+ 2
- 1
4 + 9
7t + 5t
June
1 9 5 5 from
mo.
0
o
-4
year
+12
+23
+17
6
mos.
1955
from
year
6t
•Based on 3-monfh moving ave ra ge s.
••Adjusted for seasonal variation.
16
ot
ot
+ 4
+ 1
-1
+3
+ 4
+ 6
+ 5
+1
+3
-2
-3
0
+6
+ 3
+13
+ 1
- 1
+ 8
+ 9
+ 5
+ 9
0
0
0
1
0
1
-
S a le s
Stocks
LO CAL
CHANGES
Per cent
Per cent
Per cent
Per cent
Per cent
ch ange
ch ange
ch an g e
change
ch a n g e
June
June
June
June
J une
1 9 5 5 from 1 9 5 5 from 1 9 5 5 from 1 9 5 5 from 1 9 5 5 from
year
mo.
year
+1
+6
-1
+20
+ 8 +17
H a r risb u rg . .
+2
+3
0
+10
+ 7 +10
L a n ca ste r. . .
+3
+4
+3
+ 9 -1 7 + 2 -4
+ 6 + 5 + 9
P h ila d e lp h ia .
0
0
+1
+ 6 -
8 -
3
-8
+ 4 +
R e ading . . . .
+1
+3
+2
+11
8 + 9
-8
+ 3 + 5 +19
Scranton . . . .
-1
0
+4
+ 5 -1 1 + 1 - 7
+ 2 +15 + 8
+1
+2
-7
+ 3
-6
+
W ilk e s -B a r re . + 1
+8
0
+12
-5
+21
W ilm in g to n ..
+1
+8
0
+15 +
2 +
4
-8
+
Y o r k ...........
+3
0
+4
6 -
4 +
5
-4
+12 +19 +
mo.
year
mo.
year
year
mo.
+10
+1
f 2 0 C ities
{P hilad e lph ia
C he ck
Payments
Payrolls
mo.
+17
+ 6
+ 5
+11
+ 6
PR IC ES
C o n su m e r...........................
JUNE
1955
-
+
-
0 +
-
1
5 +10
9 -
3 + 6
2 -
9
+13 +
7
4 +38 +26
1
•N ot restricted to corporate limits of cities but covers a re as of one pr
more counties.
@FedFRASER