The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.
Federal Reserve Bant m Philadelphia Review Economic Discipline and the Middle Generation Washington’s "New Discipline” and the Banking Business About This Issue The feeling of restiveness prevailing in the United States today has left its impact on the world of economics and banking. The following attempts to analyze this impact are based on talks given during the Spring at a series of meet ings of bankers and businessmen throughout the Third Fed eral Reserve District. BUSINESS REVIEW is produced in the Department of Research. Evan B. Alderfer is Editorial Consultant; Donald R. Hulmes prepared the layout and artwork. The authors will be glad to receive comments on their articles. Requests for additional copies should be addressed to Public Information, Federal Reserve Bank of Philadelphia, Philadelphia, Pennsylvania 19101. Economic Discipline and the Middle Generation by David P. Eastburn With so much attention focused on the plight The old economic rules stressed concepts like of the Nation’s youth, the forgotten group in work, thrift, incentives, rewards, and the free these unhappy times is the middle generation. It shares the prevailing frustrations over Viet market. These all revolved around the idea of nam, bitterness about the racial conflict, and discipline. Success came to individuals and na tions who disciplined themselves to work hard despair in the face of an overwhelming urban and to save. Incentive to do so was provided by crisis. But it also has special problems of its a free market that distributed rewards accord own. ing to contribution. The ethic of the system was Defined as an age group, the middle generation the ethic of discipline. The middle generation sees today’s economy comprises one-fourth of the population. Defined more meaningfully in terms a a state of mind, as denying this ethic. It believes thrift has given the term describes a group that is, figuratively, way to spending as the driving force. Social caught in the middle between two ways of think programs of government, by-passing the market ing. It is ambivalent between a rather clearly place, weaken incentives by providing rewards delineated set of values it was brought up to be for not producing. Self-discipline and discipline lieve in and a new, more flexible set of values of the free market have been eroded by ad hoc it is now asked to accept. It is a generation torn approaches to specific economic problems— a between old black-and-white principles of right sort of “ situation economics.” and wrong and new ethics of the situation. The old saying that “ there ain’t no free lunch” Nowhere is this more apparent than in the has real meaning in the philosophy of the middle world of economics, the world in which the middle generation. An economist would recognize this generation spends most of its time and exerts simply as “ the basic economic problem,” name power out of proportion to its size. ly, that use of a given resource to satisfy one 3 b u s in e s s r e v ie w want requires giving up its use for another. The really deserve to have it so good. Nevertheless, middle generation tends to believe that this hard the idea of recessions as a way of disciplining fact of economic life is being forgotten with re the economy has greatly weakened. We are less spect to at least five important current issues: re willing to subject ourselves to this harsh and cessions, debt, gold, foreign aid, and poverty. impersonal discipline of the market place. 1. Recessions. Until fairly recently, a recession But unpleasant as it may be, a recession does was regarded as a chief form of economic dis serve periodically to force the economy to live cipline. If individuals, businesses, and govern ments could not restrain themselves sufficiently to within its means. The danger the middle genera tion now fears is that government, in its quest prevent prosperity from becoming a boom, a re cession which inevitably followed would purge for eternal prosperity, will perpetuate inflation. the economy of its excesses. A recession was the preferable to recessions, but the middle genera distasteful medicine to be taken on the morning tion has its doubts. after over-indulging in prosperity. It was the 2. Debt. John Maynard Keynes upset the old price to be paid for attempting to live beyond our means. rules some thirty years ago by arguing that sav ing could be a bad thing; too much of it could This clearly was the prevailing view before the produce a recession. His prescription for curing Great Depression, but the experience of the ’30’s did much to dispel the idea that recessions are a recession was to go into debt and spend. Al Government seems to act as if some inflation is though the wisdom of this has long since been good for what ails us. Recalling the suffering granted by an overwhelming majority of econo during the Great Depression and fearing a pain mists, it is yet to be accepted by the public at ful economic adjustment after the war, Congress large. What the New Economists have called the passed the Employment Act of 1946, pledging Puritan Ethic is still very much alive in the use of governmental powers to maintain maxi minds of the middle generation. Few still believe mum employment, production, and purchasing that it is evil to go into debt at all; this extreme power. Experience in the 1950’s raised hopes is a hangover of the days before cars and other that the severity of recessions could indeed be durables became available to everyone through lessened by intelligent governmental action. The the instalment plan. But most of the middle gen past seven years of continuous prosperity, the eration is keenly aware of the limitations of in longest on record, now suggests that we need not debtedness. You can borrow against tomorrow’s have recessions at all. Not only are recessions income to spend today, but only up to a point. not good for what ails us, they are not inevitable. The argument that analogies between princi Most economists have yet to be convinced that ples of private and public finance are faulty they know enough, or that government can act because government has the power to tax does intelligently and promptly enough, to eliminate not convince the middle generation. Statistics recessions. The middle generation, long con showing that Federal Government debt is actu ditioned to the view that recessions are the ally a declining percentage of gross national price of too much prosperity, is not ready to buy product sway it only a little. And the theory the idea, one suspects, for another reason— a of the New Economics that government debt lingering guilt complex, a feeling that we do not should be used when necessary to stimulate the 4 b u s in e s s r e v ie w economy leaves it relatively unmoved. cies. If the United States attempts to live beyond W hy? Because it sees no consistent evidence its means, it will lose gold to others. Sooner or that government can or will run a surplus when later, if the dollar is to maintain its value relative necessary to restrain the economy. The principle to others, the U. S. will be forced to retrench. of the constantly balanced budget makes no eco This in fact is happening now. President Johnson nomic sense, but at least it imposes a control on has imposed drastic direct controls on investment overspending. in Europe and has asked Congress to restrain Until government demonstrates greater flexibility in cutting spending, raising spending by tourists. taxes, and paying off debt when the economy is To the middle generation this action is only booming, it will not wean the middle generation belated recognition of the fact that the U. S. has away from its fear of government debt and its been living dangerously beyond its means in the admiration for the discipline of the balanced world economy. Proof is found in a decade of budget. deficits in the balance of payments and loss of 3. Gold. Gold is the disciplinarian par excel more than $11 billion of gold to other countries. lence. Under the old gold coin standard, the Why has the U. S. avoided the traditional amount of specie was supposed to regulate the discipline of gold? One reason is the changed domestic economy automatically by placing a attitude toward ceiling on the expansibility of a nation’s money Government has used specific measures to deal supply. The public could demand gold for its with specific causes of the deficit in the balance money if it feared money was losing value, and of payments rather than shrink the economy and force deflation. Another reason, however, is a the Federal Reserve would tighten up if the money recessions already discussed. supply threatened to expand beyond its proper relationship to the amount of gold behind it. It growing distrust of gold as a disciplinarian. This would be impossible to live beyond our means. Allan Sproul when he was President of the Fed eral Reserve Bank of New York: Or so the theory went. In fact, gold proved to view was persuasively argued some years ago by be such a harsh and capricious disciplinarian The gold-coin standard was abandoned, that this Nation decided it could do better with out it. The public no longer can demand gold an international gold bullion standard adopt for its money. The Federal Reserve no longer that internal convertibility of the currency, regulates the money supply in accordance with at best, was no longer exerting a stabilizing the amount of gold it holds. These facts appar influence on the economy and, at worst, was ently cause no concern on the part of the middle perverse in its effects. Discipline is necessary generation. When the last vestige of the domestic in these matters but it should be the disci gold standard— the 25 per cent backing of cur pline of competent and responsible men; ed, because repeated experience has shown rency by gold certificates— was removed by Con not the automatic discipline of a harsh and gress recently, hardly anyone noticed. perverse mechanism. If you are not willing Gold remains an important disciplinarian of to trust men with the management of money, the international economy, however. It is still, history has proved that you will not get pro by common consent, the prime monetary asset tection from a mechanical control. Ignor and the unit of account for the world’s curren ant, weak, or irresponsible men will pervert 5 b u s in e s s r e v ie w that which is already perverse. of life often stresses non-material goals. Accum Mr. Sproul was speaking of the role of gold in ulation of wealth is likely to take the form of gold the domestic economy. More and more experts and jewelry rather than invested capital. Yet, now believe the same can be said of gold in the observing extreme affluence in other parts of the international economy. Consequently, in work world, these nations chafe under their “ have ing to reform the world’s monetary system, they not” status and are unwilling to repeat the time- are moving away from gold as the centerpiece. consuming process by which the developed na They have devised a supplement to gold— a new “ paper gold” — so that the international fi tions achieved their “ have” status. nancial system will be free from the undesirable the road to economic development today must be Foreign aid is a recognition of the fact that restraints imposed by an uncertain supply of different from the one the U.S. traveled. But metal. while the middle generation shares the human “ But where then is the discipline?” asks the itarian motives behind foreign aid and endorses middle generation. Whereas a discretionary mon the political objectives of winning friends for etary policy may effectively impose discipline on capitalism, it finds it hard to understand why the a single economy, the middle generation sees same old principles of growth are not good still. the nations of the world still a long way from If hard work, thrift, and a good return on invest establishing any unified or coordinated monetary ment did the trick for us, it should for others if authority which could impose discipline on the they will just be patient. Recurring examples of international financial system. waste and inefficiency in the foreign aid program 4. Foreign aid. The greatest need of developing only serve to reinforce this view. nations is for capital formation, the process of 5. Poverty. “ The poor we have with us always” building up plant and equipment which can pro is a sentiment the middle generation understands. duce large quantities of goods and services for It recognizes that an economic system which dis consumers. To form capital, however, consumers tributes rewards in accordance with contribution must save— do with less consuming— for a time. inevitably produces inequality of income, but it This is the “ hooker” for developing nations-; believes that inequality is necessary to the sys their standard of living is so low already that tem; inequality provides the incentive that makes further reduction would mean starvation for the system go. If some people are poorer than large numbers of their population. others, this is a reflection of the value the market At one time the U. S., as a developing nation, puts on their economic worth. The middle gener got over this hump with help from outside in the ation might regard social programs to alleviate form of investment by governments and busi poverty as desirable from the humanitarian point nesses of other nations. Simultaneously, the domi of view but would guard against destroying in nant Puritan Ethic, stressing hard work and thrift, centive. contributed to the accumulation of capital for investment in productive plant and equipment. Few of us feel completely comfortable with such a view today. Poverty now is seen as an Developing nations today, however, seek other inexcusable flaw in an economic system capable solutions. Investment from outside runs counter of producing great affluence. The poor are poor to their nationalistic ambitions. Their philosophy not simply because they are lazy or incapable; Digitized for 6FRASER b u s in e s s r e v ie w they are victims of a system that prevents them tions of the disadvantaged that recessions should from making their maximum potential contri ever again be used deliberately to discipline the bution. economy. The concept of a flexible fiscal policy, One current solution is to develop these poten although never applied with complete success, is tialities through better education and training. too valuable to permit a return to the old idea of This the middle generation endorses. Another is a constantly balanced budget; we need all the to assure everyone a minimum standard of living ammunition we can get to achieve stable eco through a guaranteed annual income, negative nomic growth. The traditional gold standard income tax, or some such device. This, however, clearly is inadequate as a basis for a growing the middle generation views with misgivings. It world economy. In short, there is no turning feels that somehow an economic system as strong back. as ours should be able to generate a satisfactory This is not to say that discipline is no longer income for everyone; but it is unwilling to necessary. Indeed, with all the things the U.S. is weaken the incentives which make the economy trying to do— fight a war in Vietnam and a war so strong or to tamper with the market place in against poverty, clean up our water and air, solve which these incentives are expressed. the problems of the cities, send a man to the moon— discipline is needed more than ever. The Needed: a new discipline middle generation is right in insisting that “ there Such a portrait of the middle generation as ain’t no free lunch.” The solution is to develop seen in these five issues runs the danger, of course, of turning into a caricature— a caricature a new kind of discipline— a more flexible, dis criminating, humane kind— based, as Allan of a reactionary, cold-hearted advocate of 19th Sproul said, on men, not a mechanism. Century laissez faire. This is not the case. The It must be a more mature type of discipline. A child is disciplined by his parents because he middle generation is ambivalent precisely be cause it does recognize some merit in the new views. It would like to eliminate recessions, sees doesn’t know how to behave. A mature adult, possibilities in a flexible fiscal policy, recognizes self. A teenager often overthrows imposed dis limitations of gold as the basis of our inter cipline before he is completely prepared for self- national monetary system, and wants to help the discipline. In this sense, our economy is going disadvantaged at home and abroad. It is schizo through its teens, groping for a new kind of phrenic because it is afraid these objectives may discipline for which it is not fully prepared. be achieved only at the sacrifice of disciplines which it values highly. having learned correct behavior, disciplines him Progress toward adulthood can be achieved only through better understanding. More people But the middle generation is fighting a losing must understand the need for restraining the battle; the old disciplines are vanishing for good. economy at times as well as stimulating it at We now see them as too harsh and perverse, like others. More people must understand the need for Horace Greeley’s prescription for curing a dog of budget surpluses when the economy is booming killing sheep: cut off his tail— just behind the as well as deficits when it is lagging. Nations ears. must understand the need for cooperating for It is unthinkable in this day of rising aspira the good of the world economy rather than 7 b u s in e s s r e v ie w pursuing their own short-run interests. The well- necessary fiscal restraint by raising taxes and to-do must understand the special problems of cutting spending. The new discipline requires developing nations abroad and the poor at home. much more courage and intelligence than the This understanding will take time and there old. The schizophrenia now besetting the middle will be many disillusionments along the way. No generation may be painful, but it is a first step better example can be found than the recent toward the understanding needed for a new dis reluctance of the U.S. Government to exercise cipline. FEDERAL RESERVE BANK OF PHILADELPHIA RESEARCH AWARDS, 1968 The Federal Reserve Bank of Philadelphia takes pleasure in ann ou n cin g the follow ing research fello w sh ip awards to Third D istrict scholars. Dr. Gerald C. Fischer, Tem ple University, fo r a stu dy of the potential com petition issue as it relates to bank m erger proposals. Dr. Dwight Jaffee, Princeton University, fo r a stu dy of the relations am ong m ortgage rates, the volum e of m ortgage funds, and housing starts. Dr. M ark H. W illes, U niversity of Pennsylvania, for a stu dy of the lags associated with m onetary policy. Dr. Jo h n H. Wood, University of Pennsylvania, for a study of the dynam ics of com m ercial bank portfolio selection during expansions and reces sions. Members of the Selection Committee are Dr. A lbert Ando, U niversity of Pennsylvania Dr. David P. Eastburn, Federal Reserve Bank of Philadelphia Dr. Nathaniel Jackendoff, Tem ple U niversity Dr. Burton G. M alkiel, Princeton University Dr. Frank C. Pierson, Sw arthm ore College W ashington’s “ New Discipline” and the Banking Business by David C. Melnicoff The “ restlessness and questioning” of which Pres has seen an adverse balance-of-payments, high re ident Johnson spoke in his State of the Union source utilization, and rising prices combine to Message early this year arise out of conflict and require a restrictive approach. Two increases in change which reach into every segment of our society. In the area of economics and finance, the discount rate reflected this. The interest rate Washington’s reactions to this turmoil have often “ Free reserves” of the banking system have been been questioned; but on the whole, and viewed in the context of fast-moving events, responses negative for some time. Last year, we enjoyed the luxury of reviewing the 1966 “ crunch” from a coming author position of relative ease. This year, there has been ities— and particularly from the Board of Gover a disquieting search for parallels with, and dif from the Nation’s financial structure is as high as it has been in 40 years. nors of the Federal Reserve System— have been ferences from, 1966. We did not have long to constructively sensitive to changes in financial structure and the banking environment. In ac consider the lessons learned, if any, from the events of that year. We have been right “ up against” for several months. In at least one vital cordance with the “ new discipline” in economic affairs— the application of man-made constraints area the Nation was quite obviously not prepared rather than “ automatically” operative rules— what — the area of fiscal responsibility. We tried to appears to be coming from Washington these meet a wide and expensive range of commitments days is not a doctrinaire approach which blan without paying the tax bill. This has meant a kets current problems, but a careful, point-by heavy burden for monetary policy and for finan point response to new situations as they develop. cial institutions. It remains to be seen how much This is true in the area of monetary policy; it is and how fast the income tax surcharge enacted also true of problems peculiar to banking as a late in June can offset the damage already done. business. What monetary policymakers have been trying to avoid, of course, is the kind of “ disintermedi Monetary policy: 1966 and 1968 ation” which occurs as interest rates rise and the For monetary policy, contrary to the situation market attracts funds away from banks and savings institutions— as the established “ inter last year, a time when credit was easing, 1968 9 b u s in e s s r e v ie w mediaries” in the flow of funds lose their con procedure.) trol of a segment of the monies they usually almost frenzied business loan demand they knew Banks have not experienced the handle, and the established customers of those in early 1966. Offsetting this to some unknown institutions are put on short rations. In this extent is the likelihood that there are probably process, as in 1966, housing usually takes the more fixed and paid-for commitments to lend— worst licking, smaller businesses may be squeezed, stand-by commitments— outstanding, which could and some of the affected financial institutions, reduce commercial bank flexibility as business faced with a loss of deposits, may be forced into liquidation of assets in an unfavorable market. borrowing picks up. To help control the expansion and flow of This situation is not upon us. Disintermedi domestic credit in 1966, the Board of Governors ation on an important scale has not begun. If we rewrote the textbooks with a new and creative are fortunate, this time around— and this depends use of Regulations Q (governing interest paid on on some most uncertain and unpredictable events — we may not come any closer to it than we are now. time deposits) and A (governing member bank borrowing from the Federal Reserve Banks.) There is some reason to believe that, compared somewhat different environment, the System’s This year, facing a similar situation, but in a to 1966, there is a little “ cushion” between inter strategy was again revised. Taking advantage of mediaries and market pressures, which can pro a new law permitting regulatory differentiation vide some breathing space, some time for maneu among time deposits by size, the Board altered ver. For instance, the Savings and Loans have the structure of time deposit ceilings to help substantially repaid their indebtedness and are ease disintermediation pressure on the bank generally in a more liquid position than they ing system. were in 1966. The Federal Home Loan Bank is in In any event, whether these “ cushions” hold a better position to assist them, if necessary. Their up or not, whether action by the Congress on deposits are probably somewhat less volatile than fiscal matters is timely or not, whether the “ talks” they were. (The “ hot” money has been avoided to in Vietnam move ahead or not, every effort a great extent.) With the exception of the very will be made to avoid the disruption which large- large money market banks, the same is probably scale disintermediation can bring— not by over true of commercial banks. On the average, bank looking the need for discipline, but by applying loan-to-deposit ratios are lower than they were it in a calculated, pragmatic way. Thus, Washing prior to the 1966 squeeze— though this “ cushion” ton’s reaction to continued balance-of-payments is being deflated by expanding loan totals. deficits, for instance, was not the classical move By far the most hopeful contrast with 1966 is to the “ old” discipline of forced deflation, but a the better balance which now obtains among the variety of measures, including not only general various demands for credit. Mortgage credit has monetary restraint, but also the voluntary foreign become more difficult to obtain, but it is still credit restraint program. Faced with continued available. (In a few states, including Pennsyl deficits in the Nation’s balance-of-payments, that vania and New Jersey, usury ceilings have been program was revised and tightened at the begin revised; and the Federal National Mortgage ning of this year. Certain controls over direct Association has made helpful changes in its foreign investment, administered by the Depart Digitized for 10 FRASER b u s in e s s r e v ie w ment of Commerce, were made mandatory. Con percentage of deposits and as a percentage of trols over foreign lending by banks and other total assets less cash and Governments. financial institutions, administered by the Fed One should not read too much into these eral Reserve System, remain voluntary. Every figures. Many banks show no such trend; and one knows, of course, that the foreign credit restraint program has drawbacks, both adminis one year’s results are not necessarily a portent trative and substantive, which become more good. But these and many other signs, including serious as time goes on. Hopefully, we shall be higher expenses and greater demands on manage able to make a basic adjustment before these ment, point to changes in banking structure and drawbacks become self-defeating. For the time in the business and social environment which are being, however, and, probably, for some time to leading many banks into new and sometimes un come, we are balancing conflicting forces with tried paths. It is to these developments that Wash a specially constructed, selective expedient. ington’s reaction is often questioned; but more of things to come. The outlook for banking is often, these days, close scrutiny reveals that Wash The banking business ington is becoming sensitive to developing needs. Banking has not fared badly amid the growing pressures of the past year— at least, as one looks Mergers and diversification at the earnings reports and reads the financial One of the paths which some banks have been analysts’ columns, there is little evidence that all investigating is not by any means untried— the is not going well. I invite your attention, how path to merger— but the guideposts are new. The latest decision to come out of the Supreme Court ever, to the operating ratios for 1967, which were published a few months ago. These will not con tradict the earnings statements— on the whole on this subject— on the proposed Nashville mer the national averages reflect moderate progress — but some of the results may temper the eu of 1966 did not really make a big difference in the impact of the Clayton and Sherman Acts. The phoria. You will see, in the summary of earnings concept of damage to competition which occurs and expenses of member banks in the Third when Federal Reserve District, for instance, that for applied; and the burden of showing that a mer the first time since the upsurge beginning in ger will better serve the “ convenience and needs ger— seems to confirm that the Bank Merger Act banks merge is being rather strictly 1962, the ratio of net current earnings to total of the community” requires evidence of a sort capital accounts has declined— from 13.3% in that is hard to come by. Nor is the Court sym 1966 to 12.6% in 1967. Net income to total pathetic to vague complaints of a merging bank capital has declined from 8.4% to 8.1% . The about the difficulty of obtaining personnel and of ratio of capital accounts to total assets stopped solving other management problems. The evidence declining, thus shutting off a further increase in must be clear that management really tried and “ operating leverage.” Time deposits rose pro failed. Every merger case is different, of course, portionately more than demand deposits, and and the only authoritative judgment a banker can higher interest costs could not be offset elsewhere. get is from his attorney. I merely point out here Capital accounts— not overly full in recent years that experience has shown the merger route to be — continued their steady, gradual decline as a a tough one to travel, especially for sizable banks b u s in e s s r e v ie w operating in the same trading area. One might wish, as I do, that the recent mer tain revenue bonds. This was a matter on which the former Comptroller of the Currency differed ger cases had included presentations which made with the Federal Reserve— and, ultimately, with better use of modern marketing concepts. (It is the courts. Governor Mitchell recently testified ironic that the application of the “ marketing on this legislation. “ The question before you approach” now receiving so much attention by now,” said the Governor, “ is whether, given the bank managements, apparently has stopped short of this vital area of decision.) George W. fact that banks are allowed to underwrite most municipal obligations, they should nevertheless Mitchell, a member of the Board of Governors be prohibited from underwriting a particular of the Federal Reserve System, has expressed his kind of municipal obligation, which was of little dissatisfaction with current standards in a speech consequence in 1933 but which is now of major before the Maine Bankers Association on June importance.” The Governor concludes that they 14, 1968. He states that to identify a banking should not be so prohibited. The Board recog market by the “ cluster of services” available to nizes that an important change has taken place in commercial bank customers, is unrealistic. “ Nor municipal financing and, having considered all is it true,” he continues, “ that for most financial the surrounding circumstances and difficulties, concludes that the banks must be permitted to play a part. services these customers do not have other real alternatives in nonbank financial institutions or nonlocal banks. . . . The geographic markets for A second response concerns a bill sponsored different classes of customers are not coterminous by Representative Patman to prohibit banks from — some are worldwide, others nationwide, others making unsolicited commitments to extend credit regional, others local and still others are limited through the medium of the credit card and which to a single neighborhood.” Despite these views, might hobble the development of that form of administrative agencies involved in merger deci consumer credit. Board of Governors’ member sions, including the Comptroller and the Federal Andrew F. Brimmer testified on this bill as fol lows: Reserve, cannot help but respond to the Surpreme Court’s stated views. We, too, have been concerned about cer tain aspects of this development, and we Responses to change have taken several steps to keep ourselves Another path banks are well embarked on is better informed and to strengthen our bank the diversification and expansion of bank serv examination procedures. At the same time, ices. For a while it appeared that banking however, the Board also believes that any agencies might be at odds on some aspects of this decision as to whether legislation is needed expansion, with one being aggressive and approv in this field should take into account not ing and others more cautious and conservative. only the necessity for assuring the safety and Three recent responses by the Federal Reserve soundness of the banking system, but also System may indicate the direction in which the other considerations— such as the need to wind is blowing now. avoid discouraging innovations in banking One response concerns a U.S. Senate bill to authorize commercial banks to underwrite cer Digitized for 12 FRASER that will contribute to public convenience. The Board is studying credit cards carefully. b u s in e s s r e v ie w Some information regarding that study will be are not being permitted to stand in the way of made available from time to time. In the mean current needs. time, the Board does not want to stifle new devel opments which banking may devise to meet new consumer demands. New approaches to reserves and the discount window The third response concerns a bill which The Board of Governors is responding, too, to would enable banks to establish and operate changing banking conditions bearing on the funds that would be similar to and would com management of reserves and— a closely related pete with mutual funds. It is especially significant matter— the use of the discount window. Mem because it involves a very large business potential ber banks recently received a new amendment to and competition with very large nonbank fin Regulation D governing reserves. This puts re ancial institutions. Chairman of the Board of serve periods on a weekly basis and requires the Governors, William McChesney Martin, wrote calculation of weekly average required reserves to the Chairman of the House Committee on In based on average deposits and average vault terstate and Foreign Commerce on this subject. cash held, two weeks earlier. A two per cent The Board continues to believe that the carryover of excesses or deficiences is also pro principle of separation of commercial bank vided. In this way, member banks are given a ing from investment banking, which was stable target to meet, and an appreciable leeway. recognized by the Congress in the Banking Once this new procedure is adopted and shaken Act of 1933, is a sound and significant one \and] the Board recognizes that the opera- down, reserve administration should be easier, more efficient, and in tune with the times. ation of collective funds by banks involves This is only one step in a more comprehensive elements of risk. This is true, however, whenever banks-—or other organizations— reform of the reserve structure proposed by the Board of Governors. Its full implementation will expand the services they offer. If the pos require passage of legislation now before the Con sibility of adverse consequences, however gress. That legislation provides that the Federal slight or remote, were regarded as sufficient Reserve be given authority to set reserve require ground for prohibiting such expansion of ments for all insured banks rather than only for activities, regulated industries could not member banks in the Federal Reserve System, adapt to changed circumstances and the new and that all insured banks have equal access to needs and demands of our economy. . . . the Federal Reserve Banks’ discount windows. At With respect to the instant proposal, the the present time, as members of the Board have Board of Governors concludes that the prob frequently pointed out, the various state require able benefits to the public from increased ments create a hodge-podge pattern in which competition are substantial and that the some banks are given competitive advantages risks are relatively less significant. over their neighbors. Moreover— and this is Thus, where expansion and diversification of especially true during the periods of monetary bank services are concerned, the weather vane at restraint— efforts to moderate the growth of bank the Board of Governors points in the direction credit bear progressively heavier on member of change and growth. Here, again, old doctrines banks, since nonmember banks’ private demand 13 b u s in e s s r e v ie w deposits do not respond as directly and quickly as would not change the basic strategy of monetary those of member banks to the Federal Reserve’s policy, but it would make it more flexible and general instruments of credit control. In a recent would give member banks— all banks, if the uni speech, Governor Andrew F. Brimmer stated his versal reserve requirements are enacted into law personal convictions that a rational system of — much greater flexibility in serving the credit universal reserve requirements established by the needs of their communities. Board of Governors— and this means a graduated system, with smaller reserve requirements for smaller banks— might well lighten the reserve Conclusion burden on all insured banks, member and non has responded to the “ restlessness and question member, and eliminate discrimination among ing” of which the President spoke in his annual banks. The discount window to which all banks would message. No one would claim that it is a sufficient These are some of the ways in which Washington response: in an era of rapid change and strong have access will probably soon be somewhat social and political pressures, it is inevitable that different than the present one. It has been pre Government regulatory policies will lag events. viously reported to you that a large-scale reap Old rules and standards are not easily abandoned praisal of the discount mechanism was under — and should not be. But it is clear that monetary way. That reappraisal has now been completed, authorities are not hidebound, and that positive and a report on it will be published soon. I do and constructive changes are being made. As the not want to anticipate the proposals which will be set forth; but I can say that the redesigned Federal Reserve System confronts the financial discount window is intended to be more useful of 1968, it seeks to shape their consequences in and more frequently used; that its administration will be somewhat more liberal in the sense that the public interest, rather than to transmit them through a rigid policy conduit. This posture total credit outstanding probably will be greater; demands no less discipline— though it is a differ and that there will be a provision of special ent kind of discipline— than the old rules of the repercussions of the tremendous issues and events interest to rural banks and others whose normal game. Its greater sensitivity to the economy’s operations needs augurs well for banking and for the are hampered by wide seasonal swings. Such a redesign of the discount window 14 Nation. FOR THE RECORD INDEX • 5 mos. 1968 from year ago May 1968 from year ago May 1968 from mo. ago year ago 5 mos. 1968 from year ago LO C A L C H A N G ES Metropolitan Statistical Areas* MANUFACTURING 0 0 + 3 0 + + + + 8 2 2 + 10 + 1 + 2 + 6 +36 - 1 + 5 Employment Payrolls Per cent change May 1968 from Check Payments** Per cent change May 1968 from Total Deposits*** Per cent change May 1968 from Per cent change May 1968 from mo. ago year ago mo. ago year ago mo. ago year ago 0 + 8 + 9 + 11 +50 + 4 + 10 mo. ago year ago 0 + 4 Wilmington .... Atlantic City .... +26 - 2 + 17 + 1 + 2 + 1 + 1 + 1 0 + 5f + 9 + 9 + 14 + 8 +20 + 17t + 10 + 8 + 18 + 10 +26 + 12t 0 + 1 0 + 1 - 1 + 2 + 6 + 8 + 9 + 8 + 11 + 7 + 15 +20 + 14 + 8 + 20 + 16 + 2 + 4 + 1 + 3 - 2 + 3 + 4 + 48 + 18 - + 10 Altoona .......... + 15 0 0 0 + 3 + 4 + 13 -1 0 + 8 + 3 + 10 0 + 1 0 + 5 + 3 + 8 + 4 + 14 Johnstown ..... 9 +76 + 3 Trenton ......... Harrisburg ..... + 4 + 66 - 4 BANKING (All member banks) Deposits ...................... Loans ........................... Investments .................. U.S. Govt, securities .... Other ......................... Check payments*** ....... Banking Manufacturing Per cent change mo. ago CONSTRUCTION** ............ COAL PRODUCTION ........ MEMBER BANKS. 3RD. F.R.B. United States Per cent change Electric power consumed Man-hours, total* ....... • BILLIONS $ Third Federal Reserve District SU M M A R Y • 0 + 2 8 + 5 + 2 0 + 2 + 10 Lancaster ....... 0 0 + 4 + 6 - 2 + 10 + 2 + 8 Lehigh Valley .. 0 0 0 + 7 + 2 + 10 + 2 + 11 - 1 Philadelphia.... 0 0 + 4 + 6 + 2 + 12 + 2 + 8 Reading ......... 0 + 2 + 7 + 10 — 4 + 19 + 3 -2 6 Scranton ......... — 1 Wholesale .................... Consumer ..................... Of •Production workers only ••Value of contracts •••Adjusted for seasonal variation + 5| + 4t 0 0 + 3 + 4 4- ? + 4 tl5 SMSA’s ^Philadelphia + 1 + 4 + 7 + 2 + 4 + 1 + 12 Wilkes-Barre .... + 1 PRICES + 1 + 7 + 6 + 2 + 8 + 2 + 13 0 + 6 + 8 — 8 + 9 + 4 + 6 York ............. 0 •Not restricted to corporate limits of cities but covers areas of one or more counties. **AII commercial banks. Adjusted for seasonal variation. •••Member banks only. Last Wednesday of the month.
@FedFRASER