Full text of Economic Policy Review (Federal Reserve Bank of New York) : April 1960, Vol. 42, No. 4

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MONTHLY REVIEW, APRIL 1960

The B u siness Situation
Economic activity appears to have moved sideward in
March, following a February in which some business indi
cators registered an improvement while others remained
unchanged or declined slightly. Hesitations of this type
are not, of course, at all unusual during the course of a
sustained business expansion. But they always create un
certainty as to whether there has been a pause for breath
which will be followed by renewed progress or whether,
on the other hand, an advance warning of business reces
sion has been posted. The impact of this kind of uncer
tainty on the climate of opinion in the last few months has
probably been unusually strong because the pace of eco
nomic activity has clearly fallen short of the exuberant
expectations held by many observers at the start of the
year. Sales and output have indeed lagged somewhat, but
this may turn out to be largely the result of a relatively
severe winter, culminating in the heavy snow storms in
many parts of the country during March. Moreover, a
recent survey suggests that consumers’ optimism is strong
and that their buying plans are considerably larger than a
year ago. In addition, plant and equipment expenditures
rose substantially in the first quarter, and business plans
indicate that outlays during the year may rise at a rate
which, if realized, would push fixed-investment expendi
tures (in current dollars) above the previous record reached
in 1957.
PRODUCTION LEVELS OFF

The hesitation of production in February and March
appears, from the evidence available, to have reflected
efforts to bring output into closer alignment with current
sales and new orders. With the passing of the period of
steel shortages, the long-term trend toward closer manage
ment of inventories has once again become important, and
in many lines business policy is said to be aimed at hold
ing inventories at lower levels relative to sales than in
earlier periods of expansion. Additions to business inven
tories were, of course, unusually large in January, as stocks
were rebuilt following depletion resulting from the scarcity
of steel. But with inventories approaching desired levels
toward the end of the first quarter, manufacturers in many
lines have shown an increasing tendency to curtail both
production and orders for materials.
In the automobile industry, dealer stocks expanded again
in February but the rate of increase was somewhat re
duced, both because of improved sales and also because

of a cutback in production to prevent inventories from
piling up. For March, the industry scheduled production
at about the same rate as in February, thus permitting
continued, but slower, additions to stocks. While inven
tories of domestic cars reached a record high of slightly
over 1 million units by the end of the month, this level
is reported to be consistent with dealer needs in view of
the greater variety of models, which require dealers to
carry larger stocks than in the past.
In the steel industry, the tendency of customers to gear
output and inventory accumulation closely to sales has
slowed the pace of incoming orders, and the rate of pro
duction of ingot steel has responded by moving lower
again in March. As a major user of steel, the automobile
industry has had an important impact. Curtailed auto
production reduced the industry ’s steel consumption below
the level originally anticipated. In addition, compact cars
have captured more than 20 per cent of the domestic mar
ket and require about 25 per cent less steel than standard
models. While new orders for steel from other industries
have also fallen off after the unexpectedly rapid replenish
ment of stocks, some further additions seemed to be neces
sary to restore the balance among various types of proc
essed steel. The total effect of these developments has
been to reduce ingot production from almost 96 per cent
of capacity in January to slightly above 94 per cent in
February and about 91 per cent in March. Shipments of
processed steel are still high, but industry sources expect
some decline in the second quarter.
Reduced output in the steel and automobile industries
accounted for much of the small decline in the industrial
production index from 111 per cent of the 1957 base in
January (revised from the original estimate of 112) to 110
in February (see Chart I). About one third of the decline
was in materials output, largely attributable to ferrous
metals. The rest was in production of consumer goods,
where the automobile cutback was an important, though
not the sole, element. Output of textiles and apparel and
appliances also slipped, in response to a less rapid expan
sion of sales than had been anticipated. A further slight
decline may appear in the over-all index for March, but
no sharp movement seems likely.
Despite the small slippage of industrial production, both
employment and nonagricultural income in February main
tained the high levels reached in January. Manufacturing
employment was down slightly, paralleling the movement

FEDERAL RESERVE BANK OF NEW YORK

of output. This slight dip was more than offset, however,
by gains in mining, services, trade, and government, which
brought total nonagricultural employment (seasonally ad
justed) to 52.9 million workers, very slightly above the
record peak of the preceding month. Total employment
(which also includes farm workers, self-employed persons,
and domestic workers), on the other hand, rose by almost
1 per cent, as unemployment declined contraseasonally to
3.9 million, according to the Census Bureau. The season
ally adjusted unemployment rate fell to 4.8 per cent of
the civilian labor force, 0.4 point below January and the
lowest level since October 1957.
Personal income edged up to $393.0 billion from $392.8
billion (revised downward from the original estimate) in
January. The rise in wages and salaries was less pro
nounced than in January, due to a reduction in the average

C h art I

MEASURES OF ECONOMIC ACTIVITY
Seasonally adjusted
Per cent

Per cent

1958

1959

1960

* Reflects p aym ent o! re troa ctive sa la ry increases to Federal G o ve rn m e n t
em p lo ye es.
Sources: Board of G overnors of the Federal Reserve System
States D epartm ent of Commerce.

and United

number of hours worked and in overtime earnings as steel
and automobile production eased. Agricultural income fell
by $0.6 billion, and there were minor declines in business
and professional income and in transfer payments.
The over-all stability of the cost of living since Novem
ber has meant that the recent gains in income have been
gains in purchasing power as well. The consumer price
index edged off slightly in December and January but in
February returned to the previous peak of 125.6 per cent
of the 1947-49 average. Higher prices for most of the
commodities and services associated with housing and for
medical services were the major factors in the February
rise, and were only partly offset by declines in prices of
food and new cars.
Although personal income in February was 2.4 per cent
above the June peak, retail sales, according to preliminary
reports, were still 1.3 per cent below the high level reached
before the steel strike. Sales in February were largely
unchanged at $18.1 billion (seasonally adjusted), after
having risen 3.8 per cent in the preceding month. Auto
mobile purchases had provided much of the upward force
in January and continued to expand in February, as the
daily average rate rose 6.2 per cent above the preceding
month and was 14.5 per cent above a year ago. During
the first twenty days of March, sales were at a daily rate
slightly above the comparable February period. Peering
into the future, the Survey of Consumer Finances made
by the University of Michigan in January and February
found that the number of consumers intending to buy new
cars during 1960 was about 20 per cent above a year
earlier.
In contrast to the rise in auto sales, purchase of non
automotive goods eased off in February. Expenditures for
nondurable goods declined from the new peak reached in
January, partly reflecting a slump in apparel sales, where
production has also been weak. The largest reduction,
however, occurred in sales of durable goods other than
cars. Appliance sales, for example, seem to have been
sufficiently slack to induce cutbacks in output. On the
other hand, preliminary data suggest that department store
sales in March, after allowing for the late date of Easter
and other seasonal factors, were about unchanged from
February in spite of unusually severe weather in many
parts of the country. The Michigan survey referred to
above found that consumer plans for buying household
equipment were considerably larger than a year earlier.
In contrast to the slack in some other lines, exports
have recently shown a marked gain. Nonmilitary exports
moved up sharply in January and registered a further
small gain in February. Exports for the two months were
over 20 per cent higher than for the corresponding period

MONTHLY REVIEW, APRIL 1960

of 1959, while imports were up by only about 7 per cent.
The trade surplus in the first quarter is now expected to
be significantly larger than in the fourth quarter.
FIXED INVESTMENT PROSPECTS

C hart II

PLANT A N D EQUIPMENT EXPENDITURES
Billions of d olla rs

Billions of dollars

40
35

•

■

Actual
expenditures

In view of the limited expansion of consumer spending
and the hesitation of production in recent months, the
results of the latest survey by the United States Commerce
Department and the Securities and Exchange Commission
of businessmen’s capital spending plans are of special
interest. On the whole, the results of the survey taken in
late January and February are favorable, although it is
of course too early to tell whether actual outlays in 1960
will be up to, or exceed, plans. Businessmen are planning
to spend about $37 billion for new plant and equipment
in 1960 (see Chart II), 14 per cent more than in 1959 and
about the same as the previous current dollar record
reached in 1957 (but not quite as large if price changes
are allowed for). The planned year-to-year increase com
pares with a 22 per cent increase in current dollar terms,
and a 15 per cent increase in real terms during the capital
goods boom of 1955-56, and is double the rate of advance
between 1958 and 1959 when the steel strike slowed out
lays in the fourth quarter.
Actual expenditures in the first quarter of this year are
estimated to have risen to a seasonally adjusted annual
rate of $35.3 billion, 5 per cent above the preceding quar
ter and almost $1 billion higher than the level anticipated
one quarter earlier. A further increase of AVz per cent is
expected in the second quarter, and a somewhat slower ex
pansion is implicitly predicted for the second half.
While the survey revealed, in general, a greater empha
sis on improvement of production facilities than on expan
sion of capacity, a significant part of the first-quarter
rise in spending was in construction, as demonstrated by
the gains in nonresidential construction outlays in the first
two months of the quarter. Private nonresidential build
ing declined somewhat in March (on a seasonally adjusted
basis), but spending in the entire first quarter was still 4.4
per cent above the preceding quarter.

Total construction expenditures also declined in March,
by almost 3 per cent. This was primarily because of re
duced investment in private residential construction, how
ever, which has not maintained the strength that seemed
to be present earlier in the year. Private housing starts
fell in both January and February, on a seasonally adjusted
basis, and the flow of spending for construction actually
put in place rose at a reduced rate in February and de
clined in March. On the other hand, applications for
mortgages insured by the Federal Housing Administra
tion and Veterans Administration guarantees do not seem
to indicate further weakening in housing starts. In addi
tion, the Michigan Survey of Consumer Finances suggests
that home-buying plans are stronger than they were a few
months ago.

M oney M arket in

the First Q uarter

The first quarter of 1960 witnessed a significant turnaround in the money and financial markets. Treasury bill
rates and other short-term money rates dropped sharply,
as did yields on Government notes and bonds; and stock

prices, despite a rally in the latter part of March, were
about 8 per cent lower at the close of the quarter than
at its start. Member bank borrowings from the Federal
Reserve gradually declined, while Federal funds were

W
Anticipation
as of first quarter

J___ !___ L

1950 1951 1952 1953 1954 1955 1956 1957 1958 1959 1960

Billions of d olla rs

III

1957

Billions of dollars

III

1958

III

1959

1960

Sources: Un ited States D epartm ent of Commerce; Securities a nd
Exchange Commission.

FEDERAL RESERVE BANK OF NEW YORK

traded at rates below the 4 per cent ceiling more frequently
than in the closing months of 1959.
Some lessening of money market pressures often occurs
immediately after the turn of the year, as seasonal repay
ments of bank loans, return flows of currency to banks,
and large flows of nonbank funds into the market tend to
relieve the stresses on short-term rates that normally build
up in the closing weeks of the year. The reduction of
pressures this year, however, was somewhat more pro
nounced and more prolonged than in most previous years
and may have reflected, in part at least, a more-thanseasonal easing in the demand for funds. The decrease in
the Federal Government’s marketable debt during the
period was exceptionally large, while calls on the capital
market by State and local governments as well as by cor
porations were relatively light.
Of great importance also as a factor underlying the
lessening of pressure was the abatement of earlier appre
hensions of an inflationary boom and the accompanying
bulge in credit demands. Forecasts of a small Federal
budget surplus for fiscal 1960 and a sizable one for fiscal
1961 played a role in reducing fears of inflation, as did
the widespread conclusion that the steel settlement would
exert little upward pressure on the price level. At the same
time, several economic indicators pointed to a less exuber
ant economic expansion over the coming months than had
been widely expected immediately after the steel settle
ment. However, evidence continued that 1960 will be
a generally good year for business, and the decline in
yields on fixed-income securities was not accompanied by
any upsurge in speculative activity.
THE DEMAND FOR CREDIT

The most important single factor in the relatively low
net demand for credit of all types during the quarter was
probably the reduction in the Treasury’s marketable debt.
The Government debt is usually reduced during this sea
son, but the $3 billion reduction in the marketable debt
this year was the largest for any January-March period
since 1956. The Treasury, after having raised over $4
billion in the fourth quarter of 1959 and $2 billion cash
in the market early in January, was a net supplier of funds
to the money market for the rest of the first quarter. The
$2 billion of bills maturing on January 15 was replaced
by only $1.5 billion of new bills; attrition in the February
refunding and certain other repayments totaled some $0.6
billion; and $4 billion of March 22 bills matured, of which
$1.7 billion was redeemed for cash and the balance re
deemed in payment of corporate profits taxes. Government
agencies, moreover, made smaller demands on the capital
market than in recent comparable periods; the $180 mil

lion in net new capital obtained in the market by these
agencies during the quarter was $219 million less than
during the fourth quarter of 1959 and $155 million lower
than during January-March 1959.
Corporate and municipal securities offerings also were
relatively light during the period. New offerings of taxexempt securities, which had reached record proportions
in 1959, are estimated to have declined to about $1.8 bil
lion during the quarter. This was the smallest for the
first quarter since 1956 and nearly $350 million less than
in 1959. Preliminary data on corporate capital flotations
for new capital purposes during January-March 1960 put
the total at about $1.9 billion, or about $300 million less
than in January-March 1959 and less than in any first
quarter since 1954. This cutback in corporate offerings
apparently reflects continued strength in corporate liquidity
positions rather than cutbacks in plant and equipment out
lays. Indeed, as noted elsewhere in this Review, recent
surveys point to sizable increases in corporate capital
expenditures over the coming months.
Total loans adjusted of all commercial banks fell by $1.4
billion during the first two months of 1960. This was a
somewhat smaller decline than in the same period of the
preceding three years, but it was substantially larger than
during the expansion years of 1955 or 1956. The net de
cline for the January-February period was due principally
to sharp reductions in the more volatile types of loans—
securities loans, and loans to sales finance companies and
other nonbank financial institutions. Business loans, in con
trast, which are more closely related to underlying eco
nomic developments, showed impressive strength in Feb
ruary after a seasonal dip in January, while data covering
the weekly reporting banks through March 23 suggest that
business loans were at least as strong in March as in recent
years (see Chart I). Particularly noteworthy was the large
increase in loans to the metal and metal-products indus
tries, much of which was undoubtedly associated with the
rebuilding of inventories depleted during the steel strike.
At the same time, most other types of business loans either
increased more rapidly than in previous years or declined
less than seasonally. However, loans to commodity dealers
declined substantially more than in recent years, partly
reflecting a reduction in cotton inventories as exports rose
sharply.
The liquidation of commercial bank securities holdings
that has been under way since early 1959 continued during
January-February 1960. Government securities holdings
of all commercial banks fell by $3 billion and holdings of
other securities by $300 million. As a result, total loans
and investments declined by $4.7 billion during the first
two months of the year.

MONTHLY REVIEW, APRIL 1960

C h a rt I

CHANGES IN LO AN S AND INVESTMENTS
WEEKLY REPORTING MEMBER BAN KS, SELECTED YEARS
Billions of dollars

Cumulated from end of year

Total loans adjusted
and investments

Billions of dollars

Loans adjusted

the first quarter than in the final months of 1959, this
being particularly true in March. During most of the
first two months of the quarter, member banks gained
a substantial volume of reserves through movements in
operating factors, particularly from the seasonal flow of
currency into the banks and from the interest payment
to the Treasury on Federal Reserve notes at the turn of
the year, which was considerably larger than usual this
year as a result of special payments from surplus ac
counts. A decline in required reserves also released
reserves during the period. System open market opera
tions during the January-February period largely offset
these gains in reserves. System holdings of Government
securities were reduced by some $1,560 million from
December 30 through March 2, as a result of $1,564
million of net sales and redemptions and a $4 million in
crease in securities held under repurchase agreements;
the reduction in System holdings in January was excep-

T a b le
M ar
N ot#: For 1960, data cover 12 statement weeks ended March 23, and for
other years 12 com parable statement weeks. Business loans are shown
net of loans to sales finance companies.

Changes in Factors Tending to Increase ©r Decrease Member
Bank Reserves, March 1960
In millions of dollars; ( + ) denotes increase,
(—) decrease in excess reserves
Daily averages—week ended
Factor

The decline in total bank credit found its counterpart
in a $1.3 billion contraction in the seasonally adjusted
money supply (demand deposits adjusted plus currency
outside the banks), which was the largest decline of any
January-February period since World War II. The money
supply of $138.7 billion at the end of February was 0.6
per cent lower than in February 1959 and roughly at the
level of November-December 1958. However, the twelve
months ended February 1959 had witnessed a sharp mone
tary expansion of 4.5 per cent, with the result that for the
two years through February 1960 the money supply has
increased at an annual rate of about 2 per cent. When
time and savings deposits at both commercial banks and
savings banks are included, the two-year increase comes
to 3.4 per cent per annum.
While the money supply has declined over the past year,
its rate of use has increased. The turnover of demand de
posits in centers outside New York City and the other
large financial centers rose 8.7 per cent from February
to February. The rate of turnover has increased fairly
steadily since World War II, dipping only during recessions.
BANK RESERVE POSITIONS

Bank reserve positions, reflecting in part the decline in
bank credit, were under somewhat less pressure during

Operating transactions
Treasury operations*..................
Federal Reserve float..................
Currency in circulation..............
Gold and foreign account..........
Other deposits, etc.......................
Total.....................................
Direct Federal Reserve credit
transactions
Government securities:
Direct market purchases or
sales...........................................
Held under repurchase agreeLoans, discounts, and advances:
Member bank borrowings. . . .
Bankers’ acceptances:
Bought outright......................
Under repurchase agreements.
Total.....................................
Member bank reserves
With Federal Reserve B an k s..,
Cash allowed as reserves!..........
Total reserv esf................................
Effect of change in required reExcess reserves f .............................
Daily average level of member
bank:
Borrowings from Reserve Banks.
Excess reserves!..........................
Net borrowed reserves!..............

Net
changes

Mar.
2

Mar.
9

Mar.
16

Mar.
23

Mar.
30

9
- 263
+ 46
15
+ 116

14
+ 113
97
+ 10
+ 31

+ 85
- 180
- 113
3
+ 27

5
+ 251
+ 55
- f 20
+ 24

14
- 347
+ 137
24
23

71
426
28
12
175

123

+ 344

270

162

+ 173
+
1

198
:i

+ 131
—

139
—

+
+

15
6

3
—

184

2
—

+
+

19
+

18
6
5

—

+ 130

140

+ 302

259

-f
+

7
37

69
95

+ 118
+ 50

+
-

85
6

334
4

193
18

164

+ 163

-h

338

211

134

+ 176

71)

- f 143

595
365
230

726
508
218

793
441
352

Note: Because of rounding, figures do not necessarily add to totals.
* Includes changes in Treasury currency and cash,
t These figures are estimated.
X Average for five weeks ended|March 30, 1960.

587
453
134

162

134

602

661J
412 %
2 49|

2n
311

FEDERAL RESERVE BANK OF NEW YORK

tionally large, falling only slightly short of the postwar
record decline in January 1957.
During the four statement weeks ended March 30, mem
ber banks lost reserves on balance through movements in
operating factors, but these losses were more than offset
by a decline in required reserves and by the reserves pro
vided by System open market operations. From March 2
through March 30, System outright holdings of Govern
ment securities increased by $80 million, and holdings
under repurchase agreements declined by $32 million.
Average net borrowed reserves declined from $440
million in the fourth quarter of 1959 to about $360
million in the first two months of 1960 and then averaged
about $250 million during March (see Table I). In
contrast, other measures of bank liquidity indicated a
further decrease in bank liquidity during the quarter. The
loan-deposit ratio for the New York City weekly reporting
banks, after declining slightly in December and January,
rose to a new postwar high of 70 per cent in March, while
the ratio for reporting banks outside New York was 60 per
cent, also at a record level. Similarly, the ratio of short
term liquid assets (including Treasury bills and certificates
and loans to Government securities dealers) to deposits
stood at 10 per cent for the New York banks and 7 per
cent for banks outside New York, compared with 17
per cent and 11 per cent, respectively, in March 1959.
THE STOCK AND BOND MARKETS

The abatement of earlier fears of continuing inflation
and the tempering of expectations regarding the pace of
the economic expansion were reflected in a downward
movement of stock prices during most of the period from
early January until mid-March. While the market staged
a modest rally thereafter, stock prices on March 31 (as
measured by Standard and Poor’s index of 500 stocks)
were 8.4 per cent below the peak level reached on Jan
uary 5. Some readjustment in stock prices had long been
awaited, following the steady rise that began early in 1958
— a rise that had not been interrupted to any significant
extent except in September-November during the steel
strike. The decline in prices was not accompanied by
large liquidation, and the volume of trading generally re
mained small. In conjunction with a reduction in bond
yields, the decline in stock prices narrowed the yield ad
vantage of Government and high-grade corporate bonds
over equities (see Chart II). The differential in favor of
corporate bonds had reached a maximum of about 1Vi
per cent in early January.
Price changes in the markets for Government notes and
bonds and for other fixed-income securities bore a close,
but inverse, relationship to movements in stock prices

Chart II

STOCK AN D BOND YIELDS
Per cent

Per cent

5.00
4.50

4.00
3.50
3.00
2.50

1958
N ote :

1959

1960

2.00

Latest d ata plotted w eek ended M arch 25.

Sources:

A a a corporate bonds:

M o o d y ’s Investors Service;

Treasury issues: Board of G overnors of the Federal Reserve System;
d ividend/price ratio: Standard a nd Poor’s.

throughout much of the quarter. This was particularly
true for those periods when some shifting of funds from
equities to fixed-income securities reportedly accompanied
the decline in stock prices. Furthermore, the changes in
expectations as to the strength of the business expansion,
which in part underlay the weakness in stock prices, tended
independently to strengthen the bond market.
Prices of Government notes and bonds began to move
sharply higher after the first week of January, and by midFebruary the upward surge had erased much of the price
decline in late 1959 and early January that had brought
yields of many issues to new highs. Behind this rally was
a growing conviction on the part of market participants
that prospective economic and financial developments were
unlikely to result in further upward pressures on interest
rates over the immediate future. These expectations con
tributed to the success of the Treasury’s February refund
ing operations, in which all but $438 million of $11.6
billion maturing obligations ($6.1 billion of which was held
by the public) were exchanged into new issues offered by
the Treasury—a 4% per cent certificate at par to mature
February 15, 1961 and a 4% per cent note at 9934 to
mature November 1964 (thus yielding 4.93 per cent).
The price rise was temporarily interrupted in the latter
part of February, as some bank selling of notes and inter
mediate bonds tended to depress that area of the market.

MONTHLY REVIEW, APRIL 1960

while the stock market staged a short but sharp rally. In
addition, the approval of a bill during this period by the
Ways and Means Committee of the House of Representa
tives that would permit the Treasury to engage in long
term financing at yields in excess of the current 4 Vi legal
ceiling on marketable Government bonds resulted in some
price decline in longer term bonds. By early March, how
ever, consideration of the likely consequences of this legis
lation had been relegated to the background. The upward
movement of prices resumed, gathering momentum until
the latter part of the month when prices temporarily
weakened, partly in reaction to the earlier sharp rise
and partly in anticipation of new long-term financing by
the Treasury. The volume of trading remained limited
throughout much of this period. Over the entire quarter,
price increases ranged from 1%2 to 4 2% 2 for notes and
intermediate bonds and from 4% 2 to 5 1% 2 for longer
term bonds. As a result, the average yield on long-term
bonds, which stood at 4.39 per cent at the end of Decem
ber, had declined to 4.04 per cent by the end of the quar
ter, while the average yield on issues due in three to five
years dropped from 4.95 to 4.06 per cent. In each case,
the average yields at the close of March were back at levels
prevailing toward the end of April 1959.
Price changes on corporate and tax-exempt bonds gen
erally paralleled those on Treasury obligations, although
the price movements were at times moderated, and at other
times reinforced, by particular influences operating in
these markets. Prices rose through mid-February, tended
to level off or decline for the rest of the month, and rose
sharply during most of March. By the close of the
quarter the average yield on Moody’s Aaa corporate bonds
had fallen 16 basis points to 4.45, while similarly rated
tax-exempts declined 17 basis points to 3.32. Toward the
end of the period, new corporate utility issues were being
reoffered at yields that were about Ys to V2 percentage
point below similar offerings early in December.
After the close of business on March 31, the Treasury
announced that it will borrow $2 Vi billion, or thereabouts,
to meet its estimated cash requirements for the balance of
fiscal 1960. It will issue up to $lVi billion of 4V4 per
cent Treasury bonds to mature May 15, 1985 and callable
after May 15, 1975. This is the first time since 1953 that
a bond with a callable feature has been offered. The
Treasury will also offer a $2 billion issue of 4 per cent 25month Treasury notes to mature May 15, 1962. To the
extent that the amount of public subscriptions to the bonds,
when added to the amount of the notes issued, exceeds
%2Vi billion, the excess funds are to be used to reduce the
amounts of the weekly issues of 91-day Treasury bills in
the weeks ahead. In addition, the Treasury will issue on

April 15, 1960 $2 billion of one-year Treasury bills to
replace a like amount of bills maturing on that date. The
subscription books will be open for the Treasury bonds
and notes on Monday, April 4, and Tuesday, April 5,1960,
with delivery on April 14 (although the bonds will be
dated April 5); the auction for the Treasury bills will be
held on Tuesday, April 12, 1960, with delivery April 15.
TREASURY BILLS AND OTHER SHORT-TERM
INSTRUMENTS

A strong nonbank demand for Treasury bills prevailed
through most of the quarter, readily absorbing sizable
System and bank selling during January and February and
forcing yields sharply downward. From around 4.60 per
cent in early January, the rate for three-month Treasury
bills had plummeted to about 23A -3 per cent toward the
end of March. The Treasury’s January cash financing
occurred at the outset of this period, and its results offered
an early indication of the gathering strength in the
Treasury bill market. The Januairy 5 offering of $2 billion
of June 22 bills brought out strong bidding, and the aver
age issuing rate in the auction on January 12 of $1.5
billion 366-day Treasury bills (to replace the major part
of $2.0 billion maturing January 15 bills) was lower
than had been expected.
As in other sectors of the Government securities market,
rates moved temporarily upward in the latter part of Feb
ruary and early March, partly reflecting market expecta
tions that the March corporate tax and dividend payments
would result, as usual, in large-scale liquidation of cor
porate bill holdings. The interruption was of short dura
tion, however, and after early March rates resumed their
decline with increased vigor. The liquidation of bills by
corporations in connection with March cash needs turned
out to be considerably lighter titan had been expected—
indeed, it was reported that corporations continued to
be net buyers of Treasury bills— and what selling did
occur was readily absorbed. Demand was strengthened
by sizable purchases in the Chicago area in preparation
for the April 1 Cook County tax date, and by purchases
by public funds. This demand was reinforced in the latter
part of March by the reinvestment demand related to the
cash redemption of about $1.7 billion of the March 22
tax anticipation bills that had not been used for tax pay
ment. The strength of the market throughout most of
March was reflected in the rates established in the weekly
bill auctions. Average issuing rates declined sharply in
each of these auctions, with the rate in the March 28
auction at 2.792 per cent for 91-day bills, the lowest aver
age issuing rate since May 1959 and 188 basis points

FEDERAL RESERVE BANK OF NEW YORK
Table II
Short-Term Interest Rates

Week
beginning

Average issuing rate
on new Treasury bills Bankers’ acceptances
90-day unendorsed
bid rate*
3-month 6-month

Commercial paper
4- to 6-month
offered rate*

Sales finance
company paper
60- to 89-day
offered rate*

1959
Dec. 28

4.516

4.942

4?'s

4V8

1960
Jan. 4
Jan. 11
Jan. 18
Jan. 25

4.602
4.590
4.436
4.116

5.099
4.989
4.665
4.608

5
5
5f
4**

4 /i
5
4J/s
4%

4H
4H
4%
4H

Feb. 1
Feb. 8
Feb. 15
Feb. 22
Feb. 29

4.039
3.563
4.045
4.168
4.278

4.501
4.091
4.294
4.396
4.458

4U
4H
4V2
4H
4H

4H
4H
4H
4%
4 >8

4H
3H
4H
4H
4H

Mar.
Mar.
Mar.
Mur.

3.641
3.451
3.033
2.792

4.024
3.619
3.176
3.187

4H
4

4 /i
4H
4H

7
14
21
28

3*4
3H

SVs
3H
3H
m

postwar highs in early January, were reduced during the
balance of the quarter (see Table II). Rates on bankers’ ac
ceptances, which had been raised by Ys per cent in early
January, were thereafter reduced in a number of stages,
bringing the bid rate on 90-day unendorsed acceptances
to 3% per cent at the close of the quarter from its peak
of 5 per cent. Commercial paper dealers’ rates, following
a Vs per cent increase on January 11, were similarly re
duced, and by the close of the quarter the offered rate for
prime 4- to 6-month maturities was down to 4V& per cent
from 5 per cent. Rates on directly placed 60- to 89-day
paper of large sales finance companies also were reduced
to 33/k per cent at the close of the quarter as against 43A
per cent in early January.

* Rates shown are those effective at the end of the week,
t One dealer quoted 47
/g per cent.

lower than the record set in the December 21 auction. At
3.187 per cent the average issuing rate for 182-day bills
was 1 basis point higher than in the previous auction but
191 basis points below the record rate in the January 4
auction. At the end of the quarter, the longest three-month
bills were trading in the market at 3.02 per cent and the
longest six-month bills at 3.38 per cent. A few days earlier,
however, these rates had been as low as 2.68 and 3.15
per cent.
In response to the decline in Treasury bill rates, a
number of other short-term money rates, after reaching

OPERATING RATIOS AND BANK EARNINGS
AND EXPENSES

This Bank has just published an analysis of the
operating ratios and earnings and expenses of Second
District member banks for the year 1959. The
pamphlet, prepared by the Bank Examinations
Department, is designed for the use of bank manage
ment, bank analysts, and students of money and
banking. Copies are available upon request from the
Publications Division, Federal Reserve Bank of New
York, New York 45, N. Y.

International Developments
INTERNATIONAL. COMMODITY MARKETS

During the past two years, when economic activity
has been expanding in the major raw-material-consuming
countries of the Free World, international commodity
prices have generally moved within a fairly narrow range.
Following their long, but irregular, decline from the postKorea peak in early 1951, commodity prices flattened out
in the spring of 1958, but firmed slightly during the past
year.
The behavior of raw material prices in international
markets must be seen against the background of develop
ments over the past decade. The great upsurge in world
prices that began in the second half of 1950, after the
outbreak of hostilities in Korea, reflected primarily a

sudden and large change in demand impinging on a pro
ductive capacity that had not yet fully recovered from
wartime attrition and neglect. The rise in prices did much
to stimulate the expansion of such capacity— although in
many instances expansion had in fact begun earlier in the
postwar period under the influence of firm markets, long
term trading agreements for bulk purchases, and the
cutting-off of supplies from traditional sources in Eastern
Europe and Asia. After Korea, an additional stimulus
to increased world production was provided by the stock
piling of strategic materials and by fiscal incentives de
signed to enlarge capacity for defense production. In the
agricultural sector, United States support programs also
tended to strengthen international prices, thereby encour
aging production outside the United States.

MONTHLY REVIEW, APRIL 1960

The rise in demand after Korea brought about an in
crease of about one third in the average commodity price
level during the twelve months ended in March 1951. Once
the scare-buying occasioned by the Korean crisis subsided,
prices reacted sharply and by 1953 most of the gain had
disappeared. There were temporary reversals of the down
ward trend in 1954, due to abnormal supply conditions
among the beverage crops, and again in 1956-57, because
of the disturbance of petroleum supply and shipping routes
and of inventory buying resulting from the Suez crisis.
However, the price decline was resumed at an accelerated
pace in 1957, when the full effect of the expansion of
commodity production undertaken in the early 1950’s
finally made itself felt. By 1957, the output of no less
than twelve major industrial raw materials had increased
from two to five times over 1937, whereas total world
manufacturing production had little more than doubled
over the same period. Production of some sixteen addi
tional commodities—mainly agricultural commodities and
foodstuffs — also had expanded considerably, compared
with prewar. These increased supplies, which appeared
in the face of some leveling-off in economic activity in
Europe and, in this country, an actual decline in activity
and net sales from stockpiles, inevitably exerted a depress
ing influence on world prices. During the twelve months
through December 1957, the over-all world commodity
price index of the London Economist fell by 13 per cent
(see chart)1— a trend that was accentuated by inventory
liquidation on the part of raw material consumers, side
by side with reduced current consumption. Although most
markets firmed somewhat in the course of 1958 when the
first decline in total raw material production since the
war occurred, the ample supply position has outlived the
1957-58 recession and is still making itself felt in the
current phase of expanding economic activity.
The over-all price picture of the past year conceals
some important differences, both among major commodity
subgroups and among individual commodities. Prices of
metals and fibers have risen somewhat, while those of
foodstuffs have remained under downward pressure. How
ever, the increases in the prices of industrial raw materials
in recent months have reflected temporary or special fac
tors, rather than basic, longer run influences.
Among the metals showing a firmer tone, tin and zinc,
the main uses of which are dependent on current steel pro
duction, benefited from strong demand following settle

COMMODITY PRICES AN D INDUSTRIAL PRODUCTION

1952*100

M AN U FACTU R ING PRODUCTION
S easonally adjusted

Per cent

1954

1955

1956

1957

1958

1959 1960

N o te : M arch 1960 d ata p a rtly estimated.
Sources: C o m m o d ity prices: The Econom ist (L o n d o n ). M a nu fa ctu ring
production: W estern E u ro p e — O rg a n iza tio n for European Econom ic
C oo p e ra tio n ; United S tates— Board of G o ve rn ors of the Federal
Reserve System.

ment of the steel strike in this country. Tin consumption
also has been strong in Western Europe, and the Interna
tional Tin Council accordingly raised export quotas for
the first quarter by 20 per cent. With a small deficit in
zinc foreseen for this year, a United Nations conference
in January lifted the restrictions on zinc production it had
imposed early last year. While the copper market was dis
turbed during the closing months of 1959 and early 1960
by strikes at the major United States and Chilean mines,
which reduced output by some 10 per cent of Free-World
capacity, prices rose relatively little and present shortages
are expected to be overcome by midyear. Lead prices, on
the other hand, have hardly risen above their depressed
1958 levels (except in the United States, after import
quotas were imposed late that year); while this largely
reflects the continuing world surplus of the metal, the
persistent price weakness may also be influenced by the
substitution, in a number of applications, of cheaper
plastics.
The price of natural rubber advanced rapidly during
the second half of 1959, as a severe squeeze on supplies
l
The index is an unweighted arithmetic average of the prices of developed. Since the beginning of 1960, price movements
seventeen representative commodities entering into world trade. These
have been small and the underlying trend easier. However,
include six foodstuffs (wheat, corn, tea, cocoa, coffee, and sugar);
four fibers (cotton, wool, jute, and sisal); four metals (tin, copper,
world consumption still is outrunning world production—
lead, and zinc); and three miscellaneous commodities (rubber, petro
a
prospect not likely to be affected by the comparatively
leum, and copra), which are not shown separately on the chart.

FEDERAL RESERVE BANK OF NEW YORK

small release to Soviet-bloc consumers from the Russian
stockpile, announced in mid-January. In petroleum, on
the other hand, world production is ahead of consumption,
and the general easing of prices in 1958 was followed by
the imposition of import quotas by the United States in
March of last year. The supply situation is complicated
further by the efforts of other Western Hemisphere coun
tries that hitherto were large oil importers to develop their
own resources, and by important oil discoveries in several
new areas.
Among the fibers, cotton prices have remained firm as
world consumption has risen, and demand is expected to
stay strong. By contrast, wool prices leveled off after the
turn of the year. Since the recovery in wool consumption
appears to be slowing down and estimates for the current
world clip have been raised, surpluses are likely to de
velop. However, during March a firmer tone prevailed
as buying by the United Kingdom picked up.
As already mentioned, prices of foodstuffs have gen
erally remained under downward pressure. Prices in the
free sugar market (which, because of the administered
United States and British Commonwealth markets, is the
narrowest of all international commodity markets) began
to slump late in 1958 under the impact of large supplies
and continued to decline until the summer of last year.
While some small purchases by the Soviet bloc and a poor
European sugar beet harvest propped prices somewhat
thereafter, by the year end the market had become de
pressed once more, a condition that lasted into early 1960.
Then, the announcement in late February that the Soviet
Union would buy 1 million tons annually from Cuba
over the next five years immediately imparted a firmer tone
to the market. Although world sugar production aggre
gates about 50 million tons yearly, only about 6 million
tons are actually traded freely, so that the Russian pur
chases represent a sizable addition to demand.
The sharp decline in coffee prices since the end of 1956
came to a halt during the course of 1959 and, despite a
current record crop, prices have been quite stable—partly
as a result of the new international coffee agreement.2
However, the gap between supply and demand is very
large, and it is uncertain what the effect on prices will be if
the export quotas allotted under the agreement should be
increased because crops are larger than originally expected.
Cocoa prices have been declining almost steadily from the
peak levels of November 1958. The 1959-60 world crop
is proving larger than anticipated and is likely to establish
a new record, at some 12 per cent above estimated world
consumption. A short-lived period of price stability in
2 For a discussion of the agreement, see 'International Develop
ments”, Monthly Review, October 1959-

January reflected attempts by Brazil to obtain support for
a stabilization program from leading African producers.
As already indicated, for a number of internationally
traded commodities the price rises of recent months thus
were not due to normal, longer run influences but generally
represented more or less temporary factors. Looking be
yond such influences, it appears likely that currently pro
duced supplies will generally be sufficient this year to meet
demand— despite the fact that world consumption of most
industrial raw materials and most basic foodstuffs is ex
pected to reach new records and that stockpile releases
are likely to be relatively small.
The recent and current position of commodity markets
suggests two conclusions. One is that the adverse shift
in the terms of trade of the raw-material-exporting coun
tries in recent years so far shows no sign of reversal. The
narrow range within which raw material prices have moved
recently also suggests that they have had only limited
influence on the over-all price level in industrial countries.
Where prices of finished goods (and services) have risen,
the advance largely reflects factors other than changes in
the prices of basic materials. The comparative stability of
raw material prices has, of course, helped at least to some
degree to mitigate upward pressures from other quarters,
although this very stability has worked to the disadvantage
of countries heavily dependent on the production and ex
port of these materials.
EXCHANGE RATES

Spot sterling quotations in the New York foreign ex
change market firmed during March from $2.8038 to
$2.8078 in a small market. Activity was somewhat higher
than in February, as demand for commercial purposes
picked up slightly and Continental demand for investment
in London appeared in the market.
In the forward market the discount on three and six
months’ sterling deliveries widened steadily from the be
ginning of the month. By March 22 the spreads reached
58 and 80 points, the widest since November 1958 and
May 1959, respectively. The wider discounts, however,
only partially compensated for the increased short-term
interest rate differential between London and New York.
At the month end the discounts were 51 and 71 points.
The Canadian dollar generally held at about $1.05*4
during most of March in a rather featureless market.
Toward the end of the month, however, the rate moved
appreciably lower, reaching $1.04% on March 31, the
lowest since August 6, 1959. This decline reflected sub
stantial commercial demand for United States dollars in
Canada and offerings of Canadian dollars in New York in
connection with quarterly dividend payments.

MONTHLY REVIEW, APRIL 1960

Private Investm ent and the Industrialization of Puerto Rico
During the postwar years Puerto Rico has carried on
one of the most successful economic development pro
grams in the world. Despite the absence of major natural
resources, this small overcrowded island has made outstand
ing progress toward industrialization and in so doing has
greatly improved the living standards of its people. Vari
ous efforts, ranging from the expansion of power and
communications facilities to programs to improve educa
tion and expand housing, have played an important role
in Puerto Rico’s progress. However, the major contribu
tion to industrial development has come from “Operation
Bootstrap”, the program for attracting mainland manu
facturers to Puerto Rico that was inaugurated in 1947.
By basing its industrialization primarily on the promotion
of United States private investment, Puerto Rico has been
able to obtain both the development capital it so badly
lacked and also, for a certain range of industries, the
modern technology and production and managerial know
how that are essential to industrialization.
Puerto Rico’s association with the United States has
been of pivotal importance in its economic development,
providing many benefits not available to the other under
developed areas of the world. While the island’s unique
status has given it powerful advantages in attracting United
States investors, this by no means wholly explains the suc
cess of Operation Bootstrap. From 1917 to 1947 the island
enjoyed essentially the same political and economic rela
tions with the United States as it does today, but there
was only a negligible amount of mainland investment in
manufacturing (except in sugar refining). The dynamic
factors behind the large-scale postwar movement of United
States capital to Puerto Rico have clearly been the special
inducements offered to private investors and the vigorous
promotional program to acquaint businessmen with the
advantages of location on the island. It is primarily as
a demonstration of the need for such positive measures,
and of how they may be organized and implemented, that
the Puerto Rican experience is relevant to other under
developed countries that wish to attract foreign private
investment.
T H E

IN D U S T R IA L IZ A T IO N

P R O C E S S

Puerto Rico’s economic progress in the postwar period
has been reflected in the impressive gains shown by the
major indicators of real economic activity (see Chart I).

C h a rt I

PUERTO RICO’S ECONOMIC GROWTH
In constant 1954 dollars; fiscal years 1 947-59
O o lla r s

450

income per capita

400

350

300

1200

300

J__ !__ 1__ 1__ I__1__ I__ L

M illio n s of dollars

_Gross product

1200

1000

1000
-

800

M i ll io n s o f d o l l a r s

300

200
—

100

M illio n s of dollars

500

400
300
200

1947 48 49 50 51 52 53 54 55 56 57 58 59
* In clud ing exports to the United States.
Source:

Puerto Rico Plan n ing Board..

During fiscal years 1947-591 the increase in real per capita
income, perhaps the best single measure of economic de
velopment, averaged some 4 per cent per year, a rate of
growth more rapid than that achieved elsewhere in the
Western Hemisphere. Today the average annual income
in current dollars of Puerto Rico’s more than 2.3 million
people is above $500, nearly double the 1947 level and
higher than in any Latin American country except oil- and
iron-rich Venezuela. The level of output, as measured by
the island’s real gross product, rose by 84 per cent during
1947-59 under the impetus of the expansion of manufac
turing. However, Puerto Rico’s economic expansion would
not have improved living standards to the extent that it
1 Puerto Rico’s economic statistics are generally reported oa the
basis of the fiscal year ending June 30. Except where otherwise noted,
data in this article are for fiscal years.

FEDERAL RESERVE BANK OF NEW YORK

has, had there not been an outlet for the island’s rapidly
expanding population on the mainland. Because of net
migration averaging more than 42,000 persons annually,
the island’s population has actually expanded by less than
1 per cent per year, while in the absence of migration the
average annual increase would have been about VA
per cent.
The heavy migration has been a major factor in the
nearly 40 per cent decline in agricultural employment, as
the result of which total employment declined by 26,000
to 546,000 between 1947 and 1959. However, in Puerto
Rico, as in many underdeveloped countries, the number
of persons engaged in agriculture because of the lack of
alternative employment opportunities has been far in ex
cess of that needed to maintain output, and migration has
actually helped to reduce such “disguised” unemploy
ment. In addition, many underemployed agricultural
workers have found work in the island’s rapidly expanding
nonagricultural industries, where a net of some 53,000
jobs has been added since 1947. Migration and the growth
of nonfarm employment have not, however, had any
clearly defined effect on “visible” unemployment. In
the final quarter of calender 1959 unemployment still
amounted to 12 Vi per cent of the labor force, which com
pares with postwar lows of about 11 per cent in 1947-49
and peaks of about 15 per cent in 1951-55. While much
higher than on the mainland, the unemployment level
probably compares favorably with most underdeveloped
countries— where, moreover, the measurement of unem
ployment is not so precise as in Puerto Rico, which uses
the same highly inclusive standards as the United States.
Price trends in Puerto Rico are heavily influenced by
supply and demand conditions on the mainland since a
very high proportion (60-65 per cent in recent years) of
the goods consumed on the island is imported from the
United States. Over the postwar period as a whole, con
sumer prices have risen at an average annual rate of about
2 per cent, about the same rate as in the United States.
Prices of most nonfood goods and services have risen less
rapidly in Puerto Rico than on the mainland, but food
prices have advanced more quickly— chiefly as the result
of a steep rise in the price of locally produced foodstuffs,
as farm output failed to keep pace with the rapid expan
sion of demand. Steadily mounting imports from the
United States have moderated the rise in food prices, as
have the efforts made to bring down distribution costs on
the island, mainly through the establishment of super
markets.
Underlying the growth of the Puerto Rican economy
has been a steady expansion of investment. Gross fixed
investment (in real terms) in 1959 was more than three

times higher than in 1947 and equivalent to some 20 per
cent of gross product for the third consecutive year. The
high level of investment has been made possible by the
inflow of mainland capital which rose from only $30 mil
lion in 1947 to $165 million in 1959, when it was equiva
lent to 57 per cent of total fixed investment. Private direct
investment in new manufacturing plants under Operation
Bootstrap has accounted for the bulk of the capital inflow.
In addition, because of its special links with the United
States, Puerto Rico has also been able to draw on the
mainland capital market for the financing of much of the
social overhead investment needed for economic develop
ment. Thus, with FHA-mortgage insurance facilities avail
able on the island, private mainland investors have
financed much of the great postwar increase in housing.
Moreover, Puerto Rico’s public authorities have been able
to raise substantial amounts of capital in the United States
market through the issuance of tax-free bonds in the same
manner as State and local governments on the mainland.
About half of the total postwar investment has been
financed from domestic sources, chiefly business and gov
ernment savings. The major domestic sources of investable
funds have been business depreciation allowances and the
reinvestment of profits, which have steadily increased in
importance as the economy has expanded. During most
of the postwar period the Commonwealth Government has
also been able to contribute importantly to capital forma
tion from its surpluses in revenue over operating expenses.
Substantial government savings have in large measure been
possible because, while Puerto Ricans are exempt from
Federal taxation, the Federal Government provides many
essential services and also, through direct grants in aid,
assists in financing a wide variety of activities, including
road construction, agricultural extension services, and so
cial welfare programs. On the other hand, personal con
sumption in most postwar years has in the aggregate
exceeded total disposable personal income so that net per
sonal savings have been negative. However, the excess of
personal consumption has been narrowing steadily with
the rise in incomes and encouragement of savings habits
through the growth of banking facilities.
The key feature in Puerto Rico’s economic development
has been the expansion of manufacturing and the asso
ciated structural change in the island’s economy (see
Chart II). During 1947-59 net income produced in manu
facturing increased more than 160 per cent, and by 1956
manufacturing had already surpassed agriculture in im
portance as a source of income. Under the stimulus of
the rise in manufacturing activity, every sector of the
Puerto Rican economy, except agriculture, has expanded
rapidly. All types of construction activity have boomed;

MONTHLY REVIEW, APRIL 1960

C hart I!

EX PA N SIO N IN M A JO R SECTORS OF
PUERTO RICAN ECO NO M Y
N et incom e b y industrial o rig in ; fiscal years 1947 a nd 1959

Manufacturing

Trade

Services

Commonwealth government

Agriculture

Transportation and
public utilities

Federal Government*

Contract construction

100

150

200

250

M illions of d ollars
♦ W a g e a nd sa la ry paym ents to civ il a n d m ilita ry
personnel in Puerto Rico.
Source:

Puerto Rico P la n n in g B o ard .

transportation facilities and public utilities have been
greatly augmented; financial, business, and personal serv
ices have grown apace; and the economic roles of the
Commonwealth and municipal governments have grown in
relative importance. Agriculture has expanded much more
slowly than the other sectors of the economy, as the growth
in output of meat and dairy products has been partly offset
by a considerable decline in the value of sugar cane
production.
About three quarters of the postwar growth in manu
facturing has been accounted for by the steadily increas
ing number of new factories established in Puerto Rico
as a result of Operation Bootstrap. In 1959, manufac
turers who had been induced to locate in Puerto Rico
under Operation Bootstrap opened a record 105 new fac
tories, bringing the total number of such publicly “pro
moted” plants in operation to 553. The new plants have
in the main been subsidiaries of smaller mainland firms
engaged in relatively labor-intensive light manufacturing
operations, and they have mostly been of moderate size,
employing an average of some 85 workers. However, in
recent years heavier industry has begun to move into the
island, and several large United States companies have set

up subsidiary plants there. The fastest growing group of
new industries has been machinery and fabricated metal
products— including especially small electrical appliances
and electrical measuring devices— which has become the
largest group of manufacturing industries on the island,
replacing sugar refining and providing more than 17 per
cent of manufacturing net income in 1959. Apparel manu
facturing has greatly expanded from the foothold it already
had in Puerto Rico prior to Operation Bootstrap and now
ranks a very close second in size.
Puerto Rico’s new manufacturing industries mainly
process imported raw materials and export the finished
products, since the island produces few industrial raw
materials and the internal market is limited. Industrializa
tion has therefore brought about a sharp expansion in
Puerto Rico’s overseas trade and a marked change in its
commodity composition. Since 1950 imports have tended
to rise more steeply than exports, resulting in a trade
deficit (financed by die inflow of funds from the mainland)
which reached a record $292 million in 1959. The heavy
imports of machinery and equipment needed to establish
Puerto Rico’s new factories and the continually increasing
inflow of fuel and raw materials required by them have
accounted for the bulk of the 134 per cent import increase.
Consumer goods imports have been stimulated by the rise
in incomes, but consumer goods accounted for only 36 per
cent of total imports in 1959 in contrast to 55 per cent in
1950. On the other hand, the new factories have been
responsible for almost all of the 114 per cent increase in
exports since 1950; new manufactured products accounted
for more than half of total exports in 1959 while sugar,
long the island’s dominant export, accounted for only one
fifth of the total.2 The great bulk of Puerto Rico’s trade
has naturally been with the United States, which in 1959
bought 96 per cent of the island’s exports and supplied
83 per cent of its imports. However, the mainland ex
porters’ share of the Puerto Rican market has declined
markedly in the past two years, owing to a sharp increase
in Puerto Rican imports from Western Europe, particu
larly from West Germany.
Since manufacturing for title mainland market has been
the basis for Puerto Rico’s industrialization, it has tied
the island’s economy more closely to the mainland; the
ratio of exports of goods and services to gross product
rose from 48 per cent in 1947 to 55 per cent in 1959.
The postwar recessions in mainland business have not
led to downturns in the Puerto Rican economy, although

2 Tourist expenditures have been an increasingly important source
of income in recent years as the result of the heavy promotion of the
island’s attractions as a resort, and the construction of new hotels and
other facilities which has been another facet of Operation Bootstrap.

FEDERAL RESERVE BANK OF NEW YORK

the island’s growth during the recession years has per
haps been slower than would have otherwise been the
case. Puerto Rico’s ability to ride out the recessions
without serious effect is perhaps best explained by the fact
that the downturns have centered in the markets for dura
ble goods, which still make up only a small part of the
island’s exports.
BASIC ATTRACTIONS FOR PRIVATE INVESTORS

In attracting United States manufacturing investment
Puerto Rico has had, in comparison with other under
developed areas of the world, several unique advantages
stemming from the fact that it is a self-governing Com
monwealth within the United States political and economic
system. Its most important advantage has been the absence
of the special political and economic risks which have often
deterred United States investment abroad. When consider
ing investing in Puerto Rico, mainland businessmen do not
face the risks of political instability or the danger of ex
propriation without compensation. They know that they
will receive the equal protection of law guaranteed by
the United States Constitution and Federal courts and that
they will, in general, be operating in a known legal en
vironment rather than the unfamiliar, and perhaps dis
criminatory, environment that often exists in foreign coun
tries. Moreover, very high standards of honesty and
efficiency are maintained throughout the Commonwealth
Government.
Since money and goods move with complete freedom
between Puerto Rico and the United States, the special
economic risks of foreign investment are likewise avoided
by the mainland businessmen who invest there. Puerto
Rico’s financial and banking system is completely inte
grated with that of the mainland, and the island can no
more have a balance-of-payments problem than can an
individual State of the union. Because the United States
businessman’s investment in Puerto Rico is in dollars, not
in a foreign currency, he assumes no foreign exchange
risk and is in no danger of being unable to repatriate his
profits or capital as and when he sees fit. Another major
deterrent to manufacturing investment abroad, the lack
of adequate markets, also does not exist for manufacturers
locating on the island since Puerto Rican products enjoy
duty-free access to the mainland market.
But it has been the opportunity of earning substantially
higher profits by manufacturing for the mainland market
that has been the positive element in Operation Bootstrap’s
success. This opportunity exists in the first instance be
cause Puerto Rico does have one major “natural resource”
for industry— a large supply of labor. When Operation
Bootstrap was just beginning in 1948, average hourly

earnings of factory workers in Puerto Rico were only
about one third of the mainland average; apparel workers
were paid less than 30 cents per hour, compared with
$1.18 on the mainland, while hourly earnings in the
metal-products industry were about a full dollar lower than
on the mainland. The large wage differentials have more
than made up for the higher transportation costs incurred
in locating on the island and also for the lower produc
tivity of labor in some lines of industry in Puerto Rico—
where the worker has generally had less education and
experience on the job than his mainland counterpart. Thus,
the profits of United States manufacturing firms in Puerto
Rico have generally been substantially higher than the
before-tax profits of mainland firms. In 1957 the firms
established under Operation Bootstrap averaged profits of
34 per cent on their investment and 16 per cent on sales;
although broad comparisons of this type are never com
pletely satisfactory, estimated average profit rates in
manufacturing on the mainland were 20 and 8 per cent,
respectively.
Higher before-tax profits have by no means been the
whole story, however, since under Operation Bootstrap
Puerto Rico has offered a unique and powerful additional
incentive to mainland business— complete tax exemption.
Puerto Rico is the only place in the world where United
States businesses need not share their profits with the gov
ernment. Residents of Puerto Rico pay no Federal taxes,
and a key part of Operation Bootstrap from its inception
has been the exemption of most new manufacturing enter
prises from local taxes for various periods of time. Tax
exemption is available to manufacturers of products not
produced on a commercial scale in Puerto Rico prior to
January 1947 and to manufacturers in certain other lines
the government wishes especially to encourage. Since 1954
qualifying firms have been exempt from corporate income
taxes for ten years and from property and all other taxes
for five to ten years, while resident stockholders of such
firms have been exempt from personal income taxes on
profits earned in the first seven years of operation. Thus,
a business whose net profit in Puerto Rico would be
$100,000 would clear only $53,500 on the mainland after
allowing for the Federal corporate income tax; and a
single individual residing in Puerto Rico and receiving
dividends from tax-exempt Puerto Rican corporations
would receive $50,000 in dividend income as against
$26,302 after Federal income taxes on the mainland.
PROMOTING NEW INDUSTRY

Even with the powerful lure of tax exemption added to
its other attractions, Puerto Rico did not just sit back
and wait for the money to flow in. To attract private capi

MONTHLY REVIEW, APRIL 1960

tal in sufficient volume and of the right sort to make rapid
economic development possible, Puerto Rico had to go
out and sell its advantages to the mainland investor by
means of a carefully prepared, comprehensive, and vigor
ously prosecuted promotional campaign. Since 1950, when
Operation Bootstrap was reorganized, the Economic De
velopment Administration (EDA), known on the island as
“Fomento”, has had the task of inducing mainland manu
facturers to locate in Puerto Rico. The basic features that
account for the success of EDA’s industrial promotion pro
gram are (1) economic research and analysis aimed at
identifying possible advantages to specific industries; (2)
well-directed and intensive efforts on the mainland to
arouse interest in Puerto Rico’s attractions for industry;
(3) supplying the prospective investor with all necessary
information and maintaining close contact with him until
a decision is reached; and (4) providing a wide variety of
additional inducements and services which greatly facilitate
and reduce the cost of starting up operations in a new
location.
EDA’s Continental Operations Branch, which has head
quarters in New York City and branches in Chicago, Los
Angeles, and Miami, carries on intensive efforts to interest
businessmen in Puerto Rico through advertising, direct
mail campaigns, and personal contacts. These efforts are
aimed at inducing more investment in manufacturing lines
already located in Puerto Rico and at promoting the estab
lishment of factories which can supply existing plants or
use their products. In addition, new targets for promotion
are uncovered by continuing studies made by EDA’s Office
of Economic Research to determine which industries not
yet located in Puerto Rico are well suited to the island and
to provide the data needed to convince mainland business
men of their feasibility. (Even today only 60 of the 100
most labor-intensive industries are represented in Puerto
Rico.) Research is directed particularly toward pinpoint
ing those new industries which will serve as nuclei for
attracting additional new industries, and special promo
tional efforts are made to induce such core plants to come
to Puerto Rico.
Businessmen responding to EDA’s mainland publicity
are supplied with additional information on business condiditions in Puerto Rico and given initial data relevant to the
particular project in which they are interested. The finan
cial and business standing of the prospective investor is
verified, and the feasibility of his project is scrutinized,
since EDA is naturally interested in encouraging only those
investments which are soundly based and likely to be well
run. Where sufficient interest on both sides develops, the
prospective investor is encouraged to visit Puerto Rico for
a first-hand look at the situation. On the island he is

received by EDA’s Industrial Promotion Department,
taken to inspect possible plant sites and existing operations
in the same or similar lines of manufacturing, and provided
with detailed information on all matters pertinent to his
investment decision, including the availability and cost of
buildings, labor, and materials.
One of the major attractions the prospective investor
finds in Puerto Rico is the wide selection of factory sites
and buildings available at low cost. This is primarily the
result of the work of the Puerto Rico Industrial Develop
ment Company (PRIDCO), a specialized real estate and
finance company which obtains its funds chiefly from
Commonwealth Government appropriations and the sale
of bonds in the United States. Through 1959 PRIDCO
had spent nearly $58 million in constructing some 344
buildings (including both “standard” factories and ones
built to specification for particular enterprises) which have
been mainly leased to private business. Businessmen can
also count on assistance in obtaining financing from private
sources and, to the extent this is not available, they may
obtain credit from public agencies. The Government
Development Bank is the major source of long-term credit
for new manufacturing enterprises, and through 1959 had
made business loans totaling nearly $73 million. Where
the element of risk is greater than the bank can accept,
businessmen may obtain loans or even equity capital from
PRIDCO.
An additional inducement for businessmen to locate in
Puerto Rico is the extensive assistance they receive in
actually starting up operations. A bilingual administra
tive assistant is assigned to each newcomer to help orient
him to conditions on the island and to assist in handling
the numerous problems— from arranging for raw material
supplies to finding living quarters for management person
nel— that are inevitably involved in setting up a new
venture in a new location. Especially important is the
help given new enterprises in recruiting and training per
sonnel; several prescreened applicants are usually provided
for each opening and, while the plant is getting under way,
production workers and supervisory personnel may be
enrolled in accelerated training courses conducted in co
operation with vocational schools in the United States and
Puerto Rico.
One of the most impressive aspects of the industrial
promotion program is that it has achieved so much at so
little cost to Puerto Rico. Public investment in new fac
tories and in long-term loans to private business has
amounted to less than one tenth of the total investment in
EDA-sponsored plants. And EDA estimates that the total
benefits, direct and indirect, flowing from the indus
trialization program have been about thirty times its

FEDERAL RESERVE BANK OF NEW YORK

total cost. Including EDA’s administrative expenses, im
puted interest on public capital invested in EDA-promoted
plants, and other expenditures related to the program, the
total cost of industrial promotion from 1950 through 1959
was only some $36 million, as against $544 million in
additional income derived from the new manufacturing
plants and an estimated equivalent amount of income they
have generated indirectly.
PROSPECTS AND PROBLEMS

Through Operation Bootstrap, Puerto Rico has already
cleared the first and perhaps the most difficult hurdle in
the process of economic development—the initial break
out from a subsistence economy which sets in motion the
forces making for long-term economic growth. A firm
foundation for further industrialization has been created
by the expansion and diversification of manufacturing
activities on the island, the gradual development of a
more skilled labor force, and the expansion of power, com
munication, and other public facilities. But the pace of
Puerto Rico’s economic development has so far depended
to a large extent on the inducement to mainland manu
facturers to locate on the island offered by tax exemption
and lower wages.
Tax exemption is vital in getting new enterprises under
way, but there is a problem as to whether the firms pro
moted under Operation Bootstrap will remain in Puerto
Rico once their tax holidays expire. Eight of the smaller
firms in a group of fifty-nine which began to lose their tax
exemption last year have reported that, as a result, they
will probably close their doors. However, the profit record
of this group of initial beneficiaries of the exemption pro
gram has generally been less favorable than that of the
firms which were established later on. Because most of
the more recently established firms are earning substan
tially higher before-tax profits than they could elsewhere,
and because Puerto Rico’s corporate income tax rates are
lower than those of the United States Government, the
EDA expects that the loss of tax exemption will probably
cause less attrition in the main body of EDA-promoted
plants.
A rise in the level of industrial wages has been one of
the principal goals of Operation Bootstrap and a major
channel through which the benefits of industrialization
have been passed on to the Puerto Rican people. Whereas
until 1955 wages increased less rapidly in Puerto Rico
than on the mainland, since that time the rate of increase
in wages in Puerto Rico has accelerated markedly and has
far exceeded the rate of advance on the mainland. Dur
ing 1956-59 hourly earnings soared 44 per cent in Puerto
Rico, compared with an increase of only 13 per cent on

the mainland. In certain industries where the rise in
wages has been particularly rapid, there has been a swift
and substantial narrowing of the island’s labor-cost ad
vantage, especially in comparison with the low-wage areas
on the mainland with which it competes in attracting laborintensive industry. For example, in the apparel industry
Puerto Rican wages rose from 47 per cent to 68 per cent
of the South Carolina level during 1956-59, and the abso
lute difference in wage rates fell from 59 cents per hour
to only 38 cents (see Chart III). Wages have, however,
risen less rapidly in other industries, and the differentials
between Puerto Rico and the mainland have been better
maintained.
A recent EDA report indicates that the steep upward
trend of wages has been the factor mainly responsible for
the recent slowing of the island’s over-all growth rate and
the reduced rate of expansion in industrial employment.
The rate of increase in the number of new factories being
established on the island and the pace at which total output
expanded were actually substantially lower during 1955-59
than in the preceding several years. The rapid pushing-up
of wages has, however, had its most severe impact on the
expansion of employment, the EDA believes, because it
has slowed the influx of the more labor-intensive industries
and because it has led established industries to shift to less
labor-intensive operations. Some 20 per cent fewer new
factory jobs were created in the past five years than during
1950-54, despite the much larger absolute increases in
manufacturing net income and new investment in manu
facturing in the recent period. The lag in employment is
a matter of particular concern since, as noted above,

C hart III

APPAREL INDUSTRY W A G E TRENDS IN PUERTO RICO
AND THE UNITED STATES
Gross a ve ra g e ho urly e arnings, 1 9 5 0 -5 9 *
Dollars

* D ata for United States and South C arolina are ca le n d a r-ye a r
averages; Puerto Rican d ata are fisca l-ye ar a verages.
Sources: United States Departm ent of Labor; Puerto Rico
Departm ent of Labor.

Dollars

MONTHLY REVIEW, APRIL 1960

there is still a substantial amount of unemployment.
The recent very rapid advance of wages has been the
result primarily of administrative action taken under the
special provisions of Federal minimum-wage legislation
applicable to Puerto Rico and under the island’s own minimum wage act. Under these laws, special committees hold
periodic hearings in each industry for the purpose of boost
ing wage rates to the $1.00 per hour Federal minimum
as rapidly as conditions warrant. Since wages in a num
ber of industries have by now risen to or very near the
minimum, the rate of increase should taper off in the near
future. But, if and when the Federal minimum is lifted,
wage rates may well begin to rise more rapidly again.
An intensification of the promotion program, especially
through added efforts to attract less labor-intensive indus
tries, could apparently contribute importantly to meeting
the problem of maintaining a high rate of economic growth
in Puerto Rico over the long run. But it is also important
for Puerto Rico to seek to develop new attractions for in
dustry and to stimulate the growth of other sectors of its
economy. One new development for which there are high
hopes in Puerto Rico is the free trade zone to be estab
lished this summer at the west coast port of Mayaguez,
which will offer foreign businessmen a duty-free location
for the manufacture, assembly, or repacking of goods des
tined for Latin American markets. The Puerto Rican
authorities also feel there is great promise in the recent
interest United States corporations have shown in taking
advantage of the island’s attractions as a tax-free base for
their overseas operations. In addition, it is believed that
Puerto Rico has only begun to explore its potentialities as
a tourist center in recent years and that, with added pro
motional efforts and the expansion of hotel and other fa
cilities, tourism will become an increasingly important
source of income and employment.

LESSONS

The Puerto Rican experience has vividly demonstrated
how an inflow of private capital can, in combination with
other factors, spur industrial development. This and the
associated rapid rate of growth have naturally attracted
much attention, especially in those underdeveloped areas
where industrialization is a prerequisite for rapidly rising
living standards. Puerto Rico is, of course, a special case in
many respects because of its unique relationship with the
United States, which leaves the island without defense
burdens and Federal taxes yet provides a variety of Federal
benefits as well as free access to mainland markets. Opera
tion Bootstrap, nonetheless, contains lessons for those
countries that wish to encourage foreign private invest
ment. Political and economic stability and the basic oppor
tunity to earn higher profits than at home are, of course,
essential to the attraction of private capital. These condi
tions are met in many countries. At the same time, an in
creasing number of underdeveloped countries have adopted
measures to improve the climate for foreign investment by
providing guarantees against expropriation without ade
quate compensation and by assuring equitable legal treat
ment and the opportunity to repatriate profits. Beyond this,
there is scope for further use of fiscal incentives such
as freedom for a period from local taxation and exemp
tion from customs duties on capital-goods and raw
material imports. But the most important lesson of Opera
tion Bootstrap is that a promotional program based on a
careful assessment of a countiy’s advantages as a location
for industry and its development needs, and combining
vigorous salesmanship with active public assistance in the
establishment of new enterprises, can play a decisive role
in attracting foreign capital and in stepping up the pace
of industrialization.

Full text of Economic Policy Review (Federal Reserve Bank of New York) : April 1960, Vol. 42, No. 4

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