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May 9,1975 Tin® Federal Reserve Chairman Arthur Burns appeared before the Senate Banking Committee last week, to announce that monetary policy is now designed to promote an increase of 5 to 7Vi percent in the M t money supply (currency plus bank demand deposits) over the next twelve months. This historic revelation of monetary plans was the highlight of a report called for under the terms of HConRes 133, a joint resolution expressing in creased Congressional interest in the Fed's role in fighting the recession. Congress in this resolution indicat ed its desire that the Federal Reserve attempt to reduce long term interest rates and thereby expedite recovery from the reces sion. At first glance H C R 133 seems uninteresting, because these goals are already Federal Reserve goals. However, the subject is impor tant because it represents an ex plicit Congressional attempt to become directly involved in Feder al Reserve decision-making. The Federal Reserve has been a creature of Congress since its inception. It was created by act of Congress in 1913. Furthermore, Federal Reserve officials frequently testify before Congressional com mittees on policy matters. How ever, until now Congress has done little to advise the Federal Re serve on the conduct of current monetary policy, in part because of the clear intent of the Federal Reserve Act to insulate monetary policy decisions from political 1 Digitized for FRA SER pressures. To insure this protection the members of the Board of Governors have overlapping 14year terms of office. In addition, the budget of the Federal Reserve is not part of the Federal Budget. Clearly, the Federal Reserve thus far has been remarkably free of direct governmental influences. Argument for guidance Not all informed observers believe that the Federal Reserve should be free of Congressional guidance. One basic argument, put forward by the Congressmen favoring the new resolution, is that guidance is necessary to ensure a properly expansionary policy in the current recession. This argument gained strong support last winter when it appeared thatthe money supply was not growing fast enough to curb the recession. The measure of the money supply grew at only a 2-percent annual rate between July and February, although the growth rate then speeded up to 14 percent in March, helping to offset somewhat the force of the Congressional criticism. Some economists have backed the Congressional attack, on the ground that low money-supply growth is an indicator of the (wrongful) thrust of current mone tary policy. However, there is a question whether M-, is the right measure of policy. Federal Re serve Chairman Arthur Burns has suggested that other monetary aggregates provide a better meas ure of the degree of ease in policy, and for further evidence he has (continued on page 2) Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, nor of the Board of Governors of the Federal Reserve System. pointed to the rapid decline in U.S. interest rates, to levels generally below those prevailing elsewhere. A second argument for Congres sional action to intervene in policy centers around the view that monetary policy should be regu lated by legislative rules, not by the decisions of men. The argu ment is stated most succinctly in Milton Friedman's 1962 article, "Should There be an Independent Monetary Authority?" Friedman argues that with an independent monetary authority, it is difficult to determine who is accountable for government policy. He sug gests that everyone accepts credit when things go right, but that no one accepts blame when they go wrong. Secondly, because of the dependence on human deci sions, policy is capricious because policy makers change. Friedman adds that these pitfalls could be avoided through the use of a legislative rule, such as one ordaining a constant rate of in crease in M-|. Nature of the resolution The resolution can be examined in the light of these two arguments for a Congressional role in monetary policy. The crucial part of the resolution reads as follows: "It is the sense of Congress that the Board of Governors of the Federal Reserve System and the Federal Open Market Commit tee (1) pursue policies in the first half of 1975 so as to encour age lower long term interest rates and expansion in the monetary and credit aggre gates appropriate to facilitat ing prompt economic re covery; and (2) maintain long run growth in the monetary and credit aggregates commensurate with the economy's long run potential to increase pro duction, so as to promote effectively the goals of maxi mum employment, stable prices, and moderate long term interest rates." Chairman Burns pointed out in a recent Congressional appearance that the Federal Reserve is already required to pursue the goal of "maximum employment, produc tion and purchasing power" as stipulated by the Employment Act of 1946. Thus, the two Congres sional recommendations seem to follow from this earlier mandate. However, the resolution goes on to add "The Board of Governors shall consult (our emphasis) with Digitized for FRA SER Congress at semiannual hearings before the Committee on Banking, Housing and Urban Affairs of the Senate and the Committee on Banking, Currency and Housing of the House of Representatives about the Board of Governors' and the Federal Open Market Com mittee's objectives and plans with respect to the ranges of growth or diminution of money and credit aggregates in the upcoming twelve months." This clause increases the potential impact of the resolu tion considerably, since it gives Congress scope to indicate ap proval or disapproval prior to the implementation of monetary policy. In this way the House and Senate Banking Committees may communicate their views of nation al needs to Federal Reserve offi cials, as they did at last week's Senate hearings. Effects of the resolution Does the resolution satisfy the two criteria for Congressional influ ence on monetary policy? First, the resolution might have little direct impact upon the course of monetary policy through the first half of 1975, apart from the influ ence already wielded by the Federal Reserve. The resolution would encourage reduction of long-term interest rates and (hence) rapid re covery, but this intent generally parallels the Fed's desire to lower long-term rates and facilitate prompt economic recovery while still maintaining stable prices. Digitized for FRA SER Although there is controversy among economists about how this may be done, the resolution does not direct itself to this matter. So the first argument for Congressional intervention in policy is not actually faced by the resolution. Second, the resolution appears to frustrate Friedman's desire to make monetary policy a matter of rules rather than human deci sions. The current decision making process involving the Federal Open Market Committee would be replaced by a new process involving both that com mittee and two Congressional committees as well. This method seems to capture the substance of legislative involvement in the monetary-policy process, but it misses the spirit of policy through legislative rules. From the critics' standpoint, the responsibility for the course of monetary policy would not be made clearer, nor would the caprice of personality be removed. Kurt Dew uojSmqseM • ijEin • uo S o jo • EpeA3 |s| . oqepi J!EME|-| • EjUJOp|E3 • EUOZIJV • E>|SB| v *i!|E3 'oispucjj ues ZSL ON XIW2l3d a iv d 3D V lSO d STI HVW SSV13 J.SBIJ BANKING DATA—TWELFTH FEDERAL RESERVE DISTRICT (Dollar amounts in millions) Amount Outstanding 4/23/75 Change from 4/16/75 Loans (gross, adjusted) and investments* Loans (gross, adjusted)—total Security loans Commercial and industrial Real estate Consumer instalment U.S. Treasury securities O ther securities Deposits (less cash items)—total* Demand deposits (adjusted) U.S. Governm ent deposits Time deposits—total* States and political subdivisions Savings deposits O ther time deposits! Large negotiable CD's 84,801 64,913 1,174 24,057 19,562 9,799 7,519 12,369 83,873 23,040 271 59,441 7,402 19,408 29,091 15,814 _ 1,030 646 344 182 26 5 184 200 861 771 256 + 306 + 297 + 17 29 51 - Weekly Averages of Daily Figures W eek ended 4/23/75 Selected Assets and Liabilities Large Commercial Banks Member Bank Reserve Position Excess Reserves Borrowings Net free (+) / Net borrowed (-) Federal Funds—Seven Large Banks Interbank Federal fund transactions Net purchases (+) / Net sales (-) Transactions of U.S. security dealers Net loans (+) / Net borrowings (-) - 35 38 3 Change from year ago Dollar Percent + + + + + + + - + + - + - + + + W eek ended 4/16/75 + + 2.87 + 2.14 + 12.24 + 4.58 + 3.45 + 6.21 + 30.18 5.63 + 6.97 + 4.45 59.37 + 9.00 0.51 + 8.06 + 10.16 + 16.84 2,363 1,358 128 1,053 652 573 1,743 738 5,466 982 396 4,907 38 1,447 2,682 2,279 Comparable year-ago period 23 1 22 - 45 379 334 + 2,079 + 2,583 + 2,152 + + 1,303 + 659 125 *lncludes items not shown separately. ^Individuals, partnerships and corporations. Information on this and other publications can be obtained by calling or writing the Public Information Section, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco 94120. Phone (415) 397-1137. Digitized for FRA SER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis
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