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1914 BUSINESS REVIEW is produced in the Department of Research. Jack C. Rothwell was primarily responsible for the article, “What Price Liquidity?” and Bertram W. Zumeta for “ Philadelphia’s Missing Jobs." The authors will be glad to receive comments on their articles. Requests for additional copies should be addressed to Bank and Public Relations, Federal Reserve Bank of Philadelphia, Philadelphia, Pennsylvania 19101. W H A T P R IC E L IQ U ID IT Y ? Bankers are managing their cash assets with a sharper pencil. Did you ever sit down and figure the return a large proportion of these deposits, unlike the on $1,000,000 at 6 per cent interest for one year? It comes to $60,000, and $60,000 pays accounts payable of most businesses, must be paid out on demand. a lot of wages, salaries, electric bills, and other The banker, for example, must stand ready expenses that bankers and other businessmen on a moment’s notice to pay out cash to his incur in the process of earning a profit. depositors and others. If he can’t, he’s in trou Now suppose you just happen to have $1,000,- ble. In the jargon of the trade, the banker must 000 lying around in a bank vault or elsewhere be “ liquid.” And here we have a seeming para which you may not need in the form of ready dox. The most liquid asset— cash— provides no cash or its equivalent. If you lend it out or earnings. Assets which do provide earnings, on invest it, you get the $60,000. If you don’t, the other hand, (loans and investments) you don’t. Interested? More and more bankers less liquid; they are more difficult to turn into ready cash. have been interested in the past decade for they are have steadily decreased the volume of cash as How does the banker cope with this two-sided sets they hold relative to the total assets they problem, with simultaneous need to be (a) liq manage.* uid enough to meet cash demand and (b) in vested and loaned enough to derive a good EARNINGS VS. LIQUIDITY: THE BANKER’S AGE-OLD DILEMMA return? Answer: he keeps sufficient cash assets In many respects a bank is much like any other he may reasonably expect, and then he invests business. It hires workers such as the tellers and lends the rest. He thereby obtains both liquidity and earnings. who stand at the front desk and accept deposits and near-cash assets to meet the cash demand and pay out currency. It must buy or rent its Yet in recent years, as shown in Chart 1, business quarters and pay for heating, cooling, banks have reduced the proportion of their total and lighting. It sells a “ product” in the form assets held in the form of cash, this at the same of checking accounts, loans, and the like. Also, time that holdings of short-term Governments like any other business, a bank wants to maxi have been falling and loan-deposit ratios have mize its revenues so it can meet its expenses been rising. and still turn a profit. In this article we take a look at the reasons Unlike other businesses, however, a bank’s why commercial bankers have decided they can primary stock in trade is the deposits of its do with less cash. We also examine some of the customers which it uses to lend and invest. And wider implications of a declining cash-asset ratio. * In this article, the term “cash assets” is used to mean cash in vault, deposits with correspondents, required and excess reserves held with Federal Reserve Banks and cash items (checks and the like) in process of collection. The term “ managed cash assets” includes vault cash, deposits with correspondents, and excess reserves held with the Fed. TO MARKET, TO MARKET One reason why bankers have decided they can do with less in cash is simply that they can 3 business re v ie w CHART 1 duration, say, overnight or for one or two days. CASH ASSETS AS A PERCENT OF TOTAL ASSETS A typical transaction might go something like All Member Banks, United States. this: Bank A finds that a larger dollar volume PER CENT of checks have been drawn against it than have been deposited with it, with the result that Bank A experiences a net drain of funds. Bank A contacts a federal funds dealer who puts him in touch with Bank B (Bank B having experi enced a net inflow of funds in excess of its im mediate needs). Bank A borrows the funds for one or two days then returns them with interest to Bank B. The federal funds market has made possible the mobilization of excess funds among an ever-widening circle of both large and small banks. In the Third Federal Reserve District, for example, the large Philadelphia reserve city Sources: Board of Governors, Member Bank Call Reports, data are averages of 4 Call dates. banks stand ready to buy or sell federal funds for the account of their smaller correspondents. “ buy” or borrow funds if they run short, often They will buy or sell regardless of their own with little loss or delay. With such funds avail deficit or surplus position, using any excess able, bankers have found that they need not funds, for example, to cover their own defi keep cash on hand at all times in amounts large ciency (if they happen to have a deficiency) or enough to meet peak cash drains. selling these funds to others if they should have The traditional methods of obtaining funds a reserve surplus. The majority of transactions to meet immediate cash needs include the sale are consummated by direct debit or credit to of near-cash assets such as Treasury bills, bor the correspondent account at the prevailing rowing from other banks, and borrowing from federal funds rate. Typically, the reserve city the Federal Reserve Banks (a privilege which banks member accordance amounts of $100,000 or over and will purchase with regulations specified by Federal Reserve funds in amounts of $200,000 to $250,000 and banks may exercise in will sell funds to correspondents in over. A market for federal funds in such rela authorities). Another alternative which has become increas tively small amounts opens the federal funds ingly important in recent years (both in terms mechanism to a very wide range of smaller of the volume of funds changing hands and in banks and thus a growing number of institu numbers and sizes of participating banks) tions feel they may safely decrease the volume is the so-called “ federal funds market.” Through of cash they hold. the federal funds market, banks with excess But this is only one side of the earnings- funds may lend to deficit banks who are tem liquidity coin. Institutional developments such porarily deficient. The loan is usually of short as the federal funds market provide the oppor- 4 business review tunity to reduce cash holdings, but the oppor In fact, changes in interest rates do appear tunity might be passed over and indeed a federal to have influenced changes in cash-asset ratios. funds market might never have developed if Charts 2 and 3 show that, more often than not there were not some inducement to economize in the 10-year period 1954-1963, bankers econ on cash holdings. The inducement has come omized on the cash assets which they can con from the earnings side of the coin. trol or “ manage” (vault cash, deposits with cor respondents, and excess reserves held with the THE PULL OF INTEREST RATES Interest rates increased significantly Fed) * in years when interest rates were rising in the and raised these same cash-asset ratios more 1950’s from the low levels associated with war often than not in years when interest rates time financing. This rise in interest rates, in fell.** Thus the pull of earnings reflected in effect, has made it more costly for banks to the shifting attractiveness of interest rates does hold cash assets. appear to provide an inducement for bankers Whereas it cost banks only about % of 1 per cent to hold cash instead of Treasury bills during the war (by holding cash, banks would give up the % of 1 per cent they could other wise have made by investing in Treasury bills), it now costs them around 3 per cent to hold cash instead of bills, and even more to hold cash instead of loans. Since banks are in busi ness to make a profit, one might expect bankers to adjust their cash assets. But earnings are a function both of revenues * The total of these items which can be “ managed” or “controlled,” (that is, which may more readily be converted from nonearning to earning assets) is actually less than their arithmetic sum at any one point in time. This is be cause correspondent balances, shifted into loans or invest ments, would then be subject on the liability side to reserve requirements. Since banks have been allowed to count vault cash as required reserves since 1960, vault cash too, is now less of a “ manageable” asset. * * Despite the limited number of observations, the corre lations observed are sufficiently high that they would sel dom occur in sampling universes where no correlation ex isted. to reduce their cash-asset ratios as interest Number of Observations rates rise (providing, of course, that bankers determine such action to be prudent and in keeping with liquidity needs). Member Banks, U.S. Member Banks, Third District Correlation Coefficient of Significant Correlation at Level 10 — .67 .025 10 - .72 .01 CHART 3 CHART 2 CHANGES IN CASH ASSET HOLDINGS APPEAR . . . AND IN THE THIRD FEDERAL RESERVE TO BE RELATED TO CHANGES DISTRICT IN INTEREST RATES, BOTH IN THE NATION . . . M AN AGED CASH ASSETS A S A PER CEN T OF TOTAL ASSETS ANNUAL CH AN G ES FOR ALL MEMBER BAN KS, THIRD DISTRICT AAANAGED CASH ASSETS AS A PER CENT O F TOTAL ASSETS ANN UAL CH A N G ES FOR ALL MEMBER BANKS, UNITED STATES_________________ •40 i* .54 56 •61 • 63 - •62 •57 *5i 59* ____ i____ i____ i____ i____ i____ i____ i____ - 1 .6 0 i i____ i____ i i i____ i____ - 1 .2 0 - .8 0 - .4 0 0 + .4 0 + .8 0 + 1 .2 0 + 1 .6 0 AN N U AL CH A N G ES IN MARKET YIELD O N 3-MONTH TREASURY BILLS Sources: Board of Governors, Member Bank Call Reports. Sources: Federal Reserve Bank of Philadelphia, Member Bank Call Reports. 5 business re v ie w CHART a and of costs. We have seen that bankers ap parently are influenced by the pull of revenues (interest rates) in managing their cash posi tion; could they also be pushed by rising costs? TOTAL EXPENSES AS A PERCENT OF TOTAL REVENUE All Member Banks, United States and Third District. PER CENT THE PUSH OF COSTS Costs in banking, as for many industries, have risen significantly in the past decade. Wages, salaries, occupancy expenses have increased, and banks also have experienced rising costs in the form of higher interest rates which they must pay to compete effectively for time and savings deposits. As can be seen in Charts 4 and 5, bank costs have risen both in terms of revenues and as sets. For each dollar of revenues earned in 1954, member banks incurred operating ex need not hold any more reserves than are re penses of about 62 cents. In 1963, operating quired, however, and to the extent that the expenses took about 71 cents of each dollar banker does keep a considerable sum in excess of revenue. Operating expenses per dollar of of required reserves, he bypasses loans and assets, on the other hand, rose from 1.8 cents investments in 1954 to over 3.1 cents in 1963. It would not thereby earns less. be at all surprising if the reduction in cashasset ratios were partially related to rising bank he might otherwise make Question: how has the banker sharpened his pencil with respect to reserve balances? costs. CHART 5 TOTAL EXPENSES AS A PERCENT OF TOTAL RESERVES HELD WITH THE FED: A SHARPER PENCIL ASSETS As already mentioned, one important compo PER CENT nent of a member bank’s cash assets is its cash reserves held with Federal Reserve Banks. To day’s banker who wishes to hold his cash assets at a minimum consistent with basic liquidity needs is aided in doing so by a basic improve ment with respect to these reserves. A portion of reserves held with the Fed is, of course, required. Country member banks, for example, must hold 12 per cent of their net demand deposits as required reserves and 4 per cent of their time deposits. The banker 6 and All Member Banks, United States and Third District. business review Answer: he has become better informed of the day-to-day fluctuations in his reserves — whether he is about on the line with his re quirements or whether he is building up a large deficit or surplus. If he is better informed, he CHART 6 CASH ASSETS AS A PERCENT OF TOTAL ASSETS Third District Member Banks. PER CENT is better able to minimize his reserve balances and thereby lend and invest more and improve his earnings. The Philadelphia Federal Reserve Bank, for example, provides work sheets to mem ber banks which aid them in computing, on a day-to-day basis, the reserves that they are required to hold at the Fed. Then, each day, the Philadelphia Fed sends each of its mem bers a statement indicating reserves actually maintained. The maintained and difference reserves between required reserves gives the daily excess or deficiency. The member banker Sources: Federal Reserve Bank of Philadelphia, Member Bank Call Reports, June dates. is thereby able to see each day if he is building up a considerable excess in his reserve posi Big banks vs. their country cousins tion, and being thus informed, is able to take Though larger banks have carried a smaller corrective action if he so desires. In effect, the over-all ratio of managed cash assets to total Fed provides the member banker with a sharper assets, their country cousins have been gain pencil to manage his reserve position. ing in the race to minimize cash holdings. For example, in 1963 banks with under $2 million M ANAG ING CASH POSITIONS IN THE THIRD FEDERAL RESERVE DISTRICT in deposits held about 8^ per cent of their total assets in the form of managed cash, while the In keeping with their counterparts throughout big reserve city banks of Philadelphia held the nation, Third District bankers have sharp only about 3 % per cent. In the decade 1954^- ened their pencils in the past decade and low 1963, however, the $2 million banks reduced ered their holdings of cash assets relative to their managed-cash-assets ratio by a sizable 25.7 the total assets they control. Indeed, Chart 6 per cent while the city banks pulled down cash shows that managed cash assets as a percentage by only 13.8 per cent. Chart 7 shows a complete of total assets have declined by a substantial breakdown of the changes in the ratio by bank 24 per cent in the past ten years. size. It is notable that all of the smaller-size What kinds of cash assets have banks re banks were able to better the reduction achieved duced the most? What size banks have been by the city banks. Still, it should be remembered most successful in minimizing cash holdings? that the city banks generally had less room to What are some wider implications of the reduc maneuver as they started off with a much lower tion in cash assets? absolute cash asset ratio. 7 business re v ie w CHART 7 MANAGED CASH ASSETS AS A PERCENT OF TOTAL ASSETS— PERCENTAGE DECLINE 1954-1963 Third, District Member Banks by deposit size. 1954^1963 (as shown in Chart 8 ). For all member banks, the ratio was down by 31.3 per cent while the ratio for balances due from banks actually rose by 6.4 per cent and vault cash as a percentage of managed cash assets PER CENT increased by 8.8 per cent. Chart 9 shows that city bankers were most successful in cutting the ratio of excess reserves (even though country banks sliced the total managed-cash-asset ratio m ost). CHART 9 EXCESS RESERVES AS A PERCENT OF MANAGED CASH ASSETS Third District Member Banks by deposit size. PER CENT Sources: Federal Reserve Bank of Philadelphia, Member Bank Call Reports, June dates. W hat kinds of cash assets w ere cut? Of the three classes of managed cash assets (vault cash, deposit balances held with corre spondents, and excess reserves held with the Fed) only the ratio for excess reserves showed a distinct downward trend during the period CHART 8 CASH ASSET RATIOS All Member Banks, Third District. RATIO SC A LE-PER CENT Sources: Federal Reserve Bank of Philadelphia, Member Bank Call Reports, June dates. For the entire period 1954-1963, city bank ers reduced excess reserves by a sizable 75 per cent while country banks in the $2 million and under deposit class clipped excess reserves by 17 per cent and those with $10— 20 million in deposits cut the same ratio by 28 per cent.* The table shows a breakdown by size of bank of the classes of managed cash assets. The Sources: Federal Reserve Bank of Philadelphia, Member Bank Call Reports, June dates. 8 * How can small banks have the largest decline in total managed cash assets while the only managed cash-asset ratio which declined consistently throughout the size classes declined most at larger banks? Explanation: Much of the percentage decline in the excess reserve ratio at larger banks is offset by increases in vault cash. It is also interesting that the rise in vault cash at larger banks-as at smaller ones— occurred largely before and thus is not ex plained by the recent law allowing member banks to count cash as required reserves. business review H O W THIRD DISTRICT MEMBER BANKS CHANGED THEIR MANAGED-CASH-ASSETS RATIOS Percentage Change, 1954-1963, in the ratio of Balances Due M a n ag ed C ash A s s e ts to T otal A s s e ts S iz e G rou p — T otal D e p o s its (M illio n s $) $ 2 and under 2 to 5 5 to 1 0 1 0 to 2 0 2 0 to 1 0 0 O ver 1 0 0 R e s e rv e C ity B an k s C ou n try B an k s All B an k s E xcess R eserves to M a n a g ed C ash A s s e ts fro m B anks to M a n a g ed C ash A s s e ts V ault C ash to M a n ag ed C ash A s s e ts - 2 5 .7 % 1 6 .8 2 3 .5 1 9 .7 1 8 .0 - 1 6 .6 % 6.1 2 4 .7 2 8 .3 6 4 .9 + + -f + 1 1 .5 % 2 .5 3 .2 0 .1 1.5 + + + + + 2 .3 % 0 .5 8 .5 1 7 .5 2 1 .4 - 1 3 .8 8 .0 2 4 .3 - 7 5 .3 6 6 .0 3 1 .3 + 3 .9 1.8 6 .4 + + + 2 1 .9 9 .9 8 .8 Source: Federal Reserve Bank of Philadelphia, Member Bank Call Reports. break d ow n fo r r e v e a ls th e sam e p a tte rn observed a ll m e m b e r b a n k s — e x c e s s r e s e r v e s f a l l f o r tr u e . D u r in g 1963, banks th e w it h e n t ir e 1 0 -y e a r a h ig h e r p e r io d p ercen ta g e 1954o f t im e a ll s iz e c l a s s i f i c a t i o n s w h i l e v a u lt c a s h r is e s f o r d e p o s it s m a in t a in e d l o w e r m a n a g e d - c a s h - a s s e t r a - a ll t i o s . C o n v e r s e ly , b a n k s w it h l o w e r t im e d e p o s it s c la s s e s and d e p o s its h e ld w it h corresp on d - e n ts in c r e a s e f o r m o s t . Do tim e deposits m ake a difference? Earlier it was suggested that costs influence the way a bank manages its cash position. If this h e ld h ig h e r m anaged cash a s s e t s .* M oreover, * This behavior is especially significant when one re alizes that (a) the over-60 per cent tim e deposit category contains banks of smaller size on average, and (b) smaller banks tend to have higher not lower cash-asset ratios, other things remaining the same. In other words, the small bank tendency toward high cash assets is offset when the small banks also have high tim e deposits. suggestion indeed has merit, one would expect C H A R T lO the relative importance of time deposits to af fect significantly the way the individual bank MANAGED CASH ASSETS AS A PERCENT OF manages its cash assets. The reason: banks pay TOTAL ASSETS interest on their time deposits, thus where time deposits are a relatively large proportion of Third District Member Banks, grouped by the proportion of time deposits to total deposits. PER CENT total deposits, a bank is saddled with a heavier expense burden than would otherwise be the case. To meet this larger expense burden and still make a reasonable profit, the bank with a large proportion of time deposits might econ omize on cash and thus maintain a heavier po sition in earning assets. Moreover, since time de posits are generally considered less volatile than demand, the banker with high time deposits may be able to cut his cash asset ratio with less concern for the decline in his liquidity. Chart 10 shows that this pattern indeed holds 9 business re v ie w CHART 12 the higher the time-deposit ratio, the greater the percentage cut in managed cash assets. TIME DEPOSITS AS A PERCENT OF TOTAL The Third District vs. the United States All Member Banks, United States and Third District. DEPOSITS As we have seen, Third District bankers re PER CENT duced the relative size of their managed cash assets significantly during the past decade. This reduction in managed cash assets was car ried out by all sizes of banks— from the small, $2 million country bank to institutions along Chestnut and Broad Streets which count their assets in the hundreds of millions. We have seen also that District bankers looked primarily to their excess reserves as they clipped cash as sets in favor of more loans and investments. What are some of the wider implications of Sources: Board of Governors, Federal Philadelphia. Reserve Bank of these trends? Excess reserves of Third District banks have fallen not only in relation to District cash as sets but, as shown in Chart 11, also relative to excess reserves held by all member banks in the nation, and relative to the District’s pro portion of total deposits. From a high of almost 6.4 per cent of total excess reserves in 1956, excess reserves of Third District banks fell to a low of around 4.4 per cent in 1961 and in 1963, were around 5 per cent of total excess reserves. There are several reasons why District bank ers have shifted their preference more in the CHART 1 1 direction of earning assets than have their na TOTAL DEPOSITS A N D EXCESS RESERVES tional counterparts. Probably one of the most Third District Member Banks as a percent of United States. important is the increasing proportion of time deposits relative to total deposits in the Third PER CENT District, which increases bank costs and, as we have seen, stimulates bankers to reduce cash holdings. Time deposits, as shown in Chart 12, have increased over the 10-year period 19541963 from less than 30 per cent to over 40 per cent of total deposits at Third District banks. Moreover, time-deposit ratios of Third Dis trict banks have remained consistently higher than the comparable national figure. The higher time-deposit ratios have probably been a sig nificant influence in inducing banks to bring Sources: Board of Governors, Federal Philadelphia. 10 Reserve Bank of their excess reserves down. business review Another factor which may help to explain the decline in excess reserves of Third District likely that their efforts have helped to differ entiate the District from the nation. banks relative to the rest of the nation is the improved information and accounting technique with respect to maintained and required re One further implication of bank cash m anagem ent in the Third District serves. As already noted, the banker using these In conclusion, the downtrend in excess reserves techniques day-to-day of Third District banks has some interesting fluctuations in his reserve account, and thus is implications for the money and credit policies better able to minimize his reserve balance. of the Federal Reserve System. It is quite pos The begun sible that the declining excess reserve cushion quite early in the Third District, in the spring will serve to accentuate any future swings in of 1960 to be exact, and it is likely that monetary policy. A move toward greater credit the sharp decline in the District’s proportion ease by the Fed, for example, would be more of total excess reserves after 1959 is partially quickly and more fully translated into increased related to the reserve accounting improvements. earning assets if banks are reluctant to hold Finally, it is likely that the widening of the excess reserves. A move toward greater credit is better informed reserve-accounting of program was federal funds market in the Philadelphia area restraint, to include transactions between country cor quickly result in a general tightening, includ respondents and reserve city banks has contrib ing greater pressure to liquidate Governments uted to the district’s declining excess reserves. Philadelphia banks were among the first to as federal funds became less readily available, and perhaps more active utilization of the Fed’s move more fully into this business and it is discount window. on the other hand, would more 11 P H IL A D E L P H IA ’ S M IS S IN G J O B S Metropolitan Philadelphia has been adding people almost as fast as the nation, but for a decade em ploym ent in the area has increased far less than in the country generally. Analysis o f this em ploym ent gap reveals that surprisingly little o f it is traceable to the region’s mix o f economic activities. Rather, in industry after industry, em ploym ent is growing m ore in other parts o f the country than it is here. Conditions were worst early in the decade, how ever; the situation has improved substantially in recent years. A DECADE OF DRAG Apart from farming, the economy of metro politan Philadelphia is remarkably similar to Employment grew too slowly in the United that of the United States. Both are diversified, States, and much too slowly in the Philadelphia both are based largely on manufacturing indus Area, between 1953 and 1963. Unemployment tries, and every major classification of manu reflected this, for both the national and local facturing the populations increased about one-fifth during this Philadelphia Metropolitan Area is a kind of period— considerably faster than employment. activity is represented. Since economic representation of the United States, it seems that it ought to follow pretty closely the course of the national economy.1 Backing up this point of view are the facts of popula NONAGRICULTURAL W AGE AND SALARY EMPLOYMENT Seasonally adjusted. INDEX 1 9 5 7 -5 9 = 100 tion growth. Both the United States and the Philadelphia Metropolitan Area support expand ing populations which are increasing at com parable rates. The parallels stop there, however. Metropol itan Philadelphia’s economic growth has not kept up with that of the country, even though its population has. In the most recent decade, from 1953 to 1963, employment for pay (nonagricultural wage and salary employment) grew 14 per cent in the United States. In the Phil adelphia Metropolitan Area it increased neg ligibly— less than 1 per cent. Consequently, local unemployment persistently exceeded the national rate. i The “ Philadelphia Metropolitan Area” or “ Metropolitan Philadelphia" comprises Bucks, Montgomery, Philadelphia, Chester, and Delaware counties in Pennsylvania; Burlington, Camden, and Gloucester counties in New Jersey. 12 Seasonally adjusted. PER CENT business review POPULATION Philadelphia, therefore, may gain or lose in its Percent of 1950 population. share of those industries. Beyond this, there are locational shifts caused by forces that companies PER CENT cannot control— changes in markets, methods of production, and other influences. Philadel phia may for these reasons lose part of a com pany’s installations and therefore share less in the industry’s production. Shifts can and probably do occur indirectly more than through actual movements of plants and firms. If new capital and young workers seek out Florida rather than the Northeast, so that employment and income grow faster in Florida during a period, then Florida has a higher proportion of national economic activity at the end of the period and the Northeast has less. There may have been growth in both areas, but there was a relative shift to Florida whether These facts pose a puzzle. Why did the local or not any specific plants or people moved there economy, similar in so many ways to the na tion’s, signally fail to keep pace? from the Northeast. To sort out how these various forces have How a region grows ply asked: Where would the economy of Phil To try to answer this question, we have at adelphia have been, had it matched the growth tempted to examine separately the major influ of the national economy? Local growth in ex ences on the region’s growth. One of these, cess of this standard would indicate a shift of affected Philadelphia’s economy, we have sim clearly, is the course of economic events in the the country’s total economic activity into the nation. The industries of the metropolis are Philadelphia area. Smaller local growth would linked in many ways with those in the rest of indicate an outward shift. Our analysis reveals the country. The metropolitan economy there some startling developments. fore changes as the country’s economy changes. But local growth seldom reflects national Philadelphia’s missing jobs changes precisely. One reason is regional spe Had the Philadelphia area increased its wage cialization. If Philadelphia specializes in slowly and salary employment at the national rate be expanding industries, its economy may grow tween 1953 and 1963, there would have been slowly. Another reason is that the location of 210,000 more paid employees in the area in production 1963 than in 1953.2 Actually, there were only is continually shifting, not only within industries but also within companies. Some local firms are better or worse managed, more or less aggressive than outside companies. 2 The specific series analyzed were: for the United States, employees on non-agricultural payrolls (Bureau of Labor Statistics); for the Philadelphia Standard Metropolitan Statistical Area, nonfarm wage and salary worker employ ment (Bureau of Employment Security). 13 business re v ie w H O W PHILADELPHIA’S EMPLOYMENT LAGGED THOUSANDS OF EMPLOYEES M ix of activities— one-tenth of the problem To identify the portion of the outward shift 200 attributable to the mix of economic activities requires setting up a hypothetical proposition— an “ if” situation. Suppose that in each type of growth required to match national rate activity, local growth had exactly matched na 150 tional growth. If that had happened, the only reason for a difference in total growth between the area and the natipn would have been be 100 cause the local area put more of its resources shortfall attributable to lagging local growth in individual industries into some activities than the nation and less into others. Applying this proposition to Philadel phia means computing how much employment 50 here would have increased if each type of eco shortfall attributabl to the local mix of economic activities nomic activity had grown at the national rate actual local growth 0 for that activity. 1959-1963 Making this calculation, under the stated con dition of matching local and national growth The Philadelphia Area between 1953 and 1963 failed to provide enough jobs—over 200,000 of them—to match the nation's rate of growth in employment. Only about one-tenth of this short fall was because of specialization in slowly ex panding economic activities. Almost nine-tenths of the trouble resulted from specific local activi ties not expanding employment as fast as their national counterparts. The situation improved during the later years of the decade, however. The shortfall was smaller; the adverse effects of specialization were much less; local industries were more competitive. rates in each individual activity, we find that there would have been 188,000 additional em ployees in the Philadelphia area in 1963. This number is 22,000 short of the 210,000 that would have been added if the total over-all growth rate had matched the national rate. That 22,000 measures the effect of the area’s special ization in slow-growing activities. Philadelphia’s problem is not primarily spe cialization in slowly expanding industries. The deficiency of 22,000 jobs attributable to the mix of economic activities in metropolitan Phil 6.500 more— 3 per cent of the increase required adelphia is substantial. It is, for example, more to keep pace with the nation. The difference of than three times as great as the actual increase 203.500 represented an outward shift, in the of 6,500 employees during the decade. above sense, during the decade. But 22,000 is little more than one-tenth of This shift must be traceable either to the the total deficiency of 203,500 jobs. The impli kinds of economic specialization in the region cation is important. Philadelphia’s growth de or to the direct failure of specific activities to ficiency does not trace primarily to its special match the employment gains of their national izing in the “ wrong” industries. The greater counterparts. portion of the outward shift occurred because 14 business review local industries did not match national growth helped the area’s growth because it was inher rates in the same industries. ently a slowly or rapidly expanding function. The following table summarizes what hap The column titled “ local growth” shows how pened. The minus signs denote outward shifts. much each activity inhibited the area’s growth Number of Employees Increase required to maintain U.S. rate of growth ..................................................................... Actual increase ........................................................ Shift ............................................................................ Effect of local mix of economic a c tiv itie s -----Effect of differences between specific local and nationalgrowth rates ........................................... 210,000 6,500 - 203,500 because it failed to expand locally as much as it expanded nationally.3 The last column records the total effect of each economic activity on the area’s growth in employment. — 22,000 Some activities— mainly government, finance, — 181,500 and services— are inherently fast-growing func tions, as the positive signs under “ mix” indi Nine-tenths of the problem— all local economic activities failed to keep up with the nation cate. This was enough to overbalance the effect of their local growth deficiency, so Philadelphia actually gained jobs on their account. In no economic pursuit in metropolitan Phila Most of these offsets were small, however. In delphia did employment increase so fast as it finance, insurance, and real estate, the mix and did nationally. Slowly expanding activities— local growth effects were in precarious balance. manufacturing, for example— failed to match Government, a fast-growing employer, expanded national increases. So did rapidly growing func so slowly here that its contribution toward off tions such as services. setting the area’s growth deficiency was very small. Only the services activity made an im portant net positive contribution. Combining m ix and growth effects The following table shows the effects of both mix and local growth rates. It records the con Dominant role of manufacturing tribution of each major economic activity to the Manufacturing alone accounted for 57 per cent outward shift from the area. More specifically, of the drag on the Philadelphia area’s growth the table gives the number of employees (in during 1953-1963. More than half of this was thousands) each activity added to the outward attributable to the lack of growth of manufac shift (negative signs) or by which it offset the turing employment generally during the period outward shift (positive signs). — the mix effect. Local manufacturing indus The column titled “ mix” shows the extent to which the presence of that activity hurt or tries, however, generally failed to increase em ployment in pace with national industries, so that the drag from local growth also was sub Economic Activity Manufacturing .................... Transportation and utilities ............................. Contract construction ___ Trade ...................................... Government ......................... Finance, insurance, and real estate ......................... S e rv ic e s .................................. Total ............................. Effect of Local Mix growth Both effects combined -9 5 - 79 -1 7 4 -2 8 + 1 + 6 +32 - 7 23 22 27 - 35 - 22 - 16 + 5 +14 +48 - 9 14 + 5 + 34 -2 2 -1 8 1 -2 0 3 stantial. The growth deficiency of local manufacturing is of critical importance because manufacturing is Philadelphia’s chief means of earning its liv ing from the outside world. The income from it 3 The Technical Note at the end of this article explains further how these figures were computed. 15 business re v ie w and a scattering of other basic activities sup Improved performance, 1 9 5 9 -1 9 6 3 ports the rest: local services such as trade, con During 1959-1963, the Philadelphia area struction, utilities, and local government. Phil achieved almost two-fifths of the employment adelphia’s nonmanufacturing activities failed to growth required to match national increases, grow mainly because manufacturing did not although for the entire decade there was hardly grow. any growth at all. Furthermore, in more recent years the area’s mix of activities seems to have Federal Governm ent em ploym ent One kind of basic activity— “ basic” been more in tune with the times. The mix because effect accounted for less than 5 per cent of the the local industries produce goods and services total outward shift in 1959-1963, compared for the rest of the country— is in the installations with 11 per cent over the whole decade. The of the Federal Government here. As mentioned total outward shift, however, was still substan earlier, the government classification was in a tial, amounting to 65,000 jobs. kind of precarious balance, with positive mix thousands of Employees effects barely exceeding local growth deficien cies. The reason was that the contribution of the federal category was entirely negative, amounting to a deficiency of 22,000 employees. Effect of -----------Local Mix growth Activity Federal Government ............. Local and state go vern m en t................ Both effects combined —10 —12 —22 +42 —15 +27 Increase required to maintain U.S. rate of growth ..................................................................... Actual increase ....................................................... S h i f t ............................................................................. - Effect of local mix of economic a c tiv itie s ......... Effect of differences between specific local and national growth r a te s .......................................... — 62 105 40 65 — 3 The analysis for the latter part of the decade reveals other interesting changes. Manufactur ing was not quite so dominant in holding back employment between 1959 and 1963. During the Contributions of specific manufacturing industries decade, manufacturing accounted for 57 per Manufacturing industries varied widely in their 47 per cent in the later period. The transporta individual tion equipment and primary metals industries contributions cent of all negative effects, as compared with to the Philadelphia of employment. no longer contributed significantly to the out Some, though they sagged badly during the ward shift. But two new contenders arose to decade, were not large enough to affect the to claim this dubious distinction: printing and tals significantly. All shared one unfortunate publishing, and petroleum refining. However, area’s deficiency distinction, in growth however. Not one had sufficient two manufacturing industries— electrical ma growth in employment in the Philadelphia Met chinery and chemicals— added enough employ ropolitan Area between 1953 and 1963 to help ees to provide small offsets to the area’s growth offset the outward shift of employment from deficiency. The Philadelphia area has a good the area. Industries contributing most to the foothold in these industries. They are expand outward shift were transportation equipment, ing faster than most manufacturing industries, textiles, the metals industries, apparel, and food and are projected to continue expanding faster. processing. Their emergence in recent years as net contrib 16 business review utors to growth of employment in the Phila and minor parts of other major economic ac delphia area is a hopeful event. tivities. Manufacturing’s share of nonagricul- The table below records, for 1959-1963, the tural wage and salary employment declined in contribution of each major economic activity ten years from 41 per cent to 35 per cent. Dur to the outward shift of 65,000 jobs. ing the same period, the finance category rose from 4y 2 to 5^ per cent of the total, and total Effect of Economic activity Manufacturing ..................... Transportation and utilities ........................... . Contract construction . . . . Trade .................................... . Government ...................... . Finance, insurance, and real e s ta te ...................... Services ............................. . Total ........................... . Mix government employment grew although federal Local growth Both effects combined activities declined. The net result is that the area’s economic base is now oriented more to -2 4 -2 3 —47 -1 1 - 3 - 1 +13 - 1 - 5 -1 1 -1 0 -1 2 - 8 -1 2 + 3 +20 - 4 8 - 1 +12 - -6 2 -6 5 3 ward activities which promise to be competitive in the future. This hopeful development cannot obscure the fact that metropolitan Philadelphia’s eco nomic posture still leans more to manufactur ing and federal employment than' nationally, The outlook— hopeful and these activities do not promise much ex Metropolitan Philadelphia’s prospects for future pansion. Federal employment is not likely to increases in employment depend on its reestab grow so rapidly, particularly here. Changes in lishing an expanding economic base. Events technology have caused locational decisions in have moved in this direction. Between 1959 and many manufacturing industries to be increas 1963, the area came much closer to the national pace of growth in employment than in the first ingly sensitive to market influences, and markets are expanding more in the South and West. part of the decade 1953 to 1963. Furthermore, the Philadelphia’s economy is moving forward— mix of activities in the region improved, so that toward a base of national-service activities in in the more recent period a smaller portion of finance, research, and growing technical in the growth deficiency resulted from this factor. dustries such as electrical equipment and chemi Metropolitan Philadelphia’s economic base is cals. It is important for the area’s future that predominantly in manufacturing but it also in this transition continue, spurred on if possible cludes portions of the finance and government by appropriate local action. TECHNICAL NOTE The method employed he'e to analyze shifts in the location of economic activity has been in use for some time by regional economists. A recent example is the analysis of personal income by states and economic regions published in the Survey of Current Business for April, 1964, by Robert E. Graham, Jr. Edgar S. Dunn presented the technique in Papers and Proceedings, Regional Science Association, Vol. 6, 1960. The mix effect for each activity was computed by m ultiplying local employment in 1953 by the difference between the national growth rate for that activity and the national growth rate for all activities combined. The sum of the individual mix effects equals the total mix effect. The local growth effects were computed by m ultiplying local employment in 1953 by the differences between local and national growth rates in each activity. The sum of the individual local growth effects plus the total mix effect equals the total shift. The total shift also equals the difference between the actual absolute increase in local employment and the increase computed by m ultiplying total local employment in 1953 by the over-all national rate of growth in employment. 17 FOR THE R E C O R D . . . INDEX 2 YEARS AGO YEAR AGO JULY 1964 Third Federal Reserve District United States Per cent change Per cent change Employment 7 mos. 1964 from ye ar a go ye ar ago mo. ago ye ar ago — 6 mo. ago 7 mos. 1964 from ye ar a go + 6 + 6 + 12 + 8 + + 1 July 1964 from LOCAL CHANGES Electric p o w e r consum ed.......... Man-hours, t o t a l* ........................ Employment, t o t a l........................... W a g e in co m e *............................... i 1 1 1 + + + + 7 2 2 2 + + + 7 1 1 3 Lehigh Valley. . . - C O N S T R U C T IO N **........................ + 19 +24 + 15 + COAL PRO DUCTIO N..................... -2 3 +23 + 6 -2 9 TRADE*** Department store sales............... + 7 +11 + 8 0 1 1 0 1 2t + + + 3 8 1 - 5 + 13 + 6t + 5 + 9 + 1 - 6 + 17 + St t it B A N K IN G (All member banks) D eposits............................................ Loans.................................................. Investments....................................... U.S. G o vt, securities................... O th e r.............................................. Check payments.............................. 2 5 1 + mo. ago Per cent change July 1964 from year ago + + + mo. ago + + + 5 + 13 - 2 - 8 + 10 + 15 + 15 + 11 0 Per cent change July 1964 from year ago mo. ago year ago i + i + 8 - 2 + 0 + + 2 + 8 + 3 -1 8 Lancaster............ + 1 + 2 — 1 + 9 + 6 + 12 + 4 - 2 + 1 + 2 + 8 + 10 4 Reading.............. - 1 0 1 1 1 4 0 •Production workers only. ••Value of contracts. •••Adjusted for seasonal variation. 0 Harrisburg......... year ago Check Payments Sales Philadelphia. . . . - i + o - 2 + Scranton............. - i + 1 - 3 + 10 Trenton............... - - 5 2 + 14 0 + 4 +10 + 16 + 2 + ^ + + 10 + + 4 0 + 6 + 13 - 1 - 8 5 9 i + 1 - 2 + 8 + 8 + 12 +49 +23 0 W ilkes-Barre. . . + 2 - 2 + 6 + 2 + 4 - 1 + 4 8 W ilmington........ t t20 Cities ^Philadelphia + 1 + 2 + 6 + 15 + 4 + 13 - 1 + Y ork.................... PRICES C onsum er......................................... Per cent change July 1964 from mo. ago MANUFACTURING + + - Payrolls Per cent change July 1964 from SUMM ARY July 1964 from Department Sforet Factory* + 1 + 9 - 1 + 15 + 7 + 13 - 1 +41 • N o t restricted to corporate limits of cities but covers areas o f one or more counties. tAdjusted for seasonal variation.
@FedFRASER