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MONTHLY REVIEW
F E B R U A R Y 1971
Contents
The 1970 Amendments to the Bank Holding
Com pany A ct: Opportunities to Diversify
A n Address by Alfred H ayes..........................
23
The Business Situation........................................ 28
Banking and Monetary Developments in the
Fourth Quarter of 1970................................... 32
The Money and Bond Markets in January............. 36
Volume 53
No. 2
FEDERAL RESERVE BANK OF NEW YORK
23
The 1970 Amendments to the Bank Holding Company Act:
Opportunities to Diversify
By A l f r e d H a y e s
President, Federal Reserve Bank of New York
This luncheon always provides a valuable opportunity
to meet early in the year and to exchange views on the
problems and prospects facing us. My associates and I
recognize that we gain a good deal from both the informal
discussions and the formal presentations that are an inte
gral part of these midwinter meetings. Today I propose
to share with you some of my thinking about the recent
bank holding company legislation in the hope that it may
be helpful to your own consideration. I shall also say a
few words about our present, far from satisfactory eco
nomic situation.
On the last day of the old year, President Nixon signed
into law the bill amending the Bank Holding Company
Act of 1956 to extend its coverage to one-bank holding
companies. The new amendments, the result of almost
two years of intensive Congressional review and debate,
will surely have a profound impact on the structure of
the nation’s banking and financial markets. In my view,
the law may constitute the most significant banking legis
lation since the 1930’s.
As you know, the 1956 act excluded one-bank hold
ing companies from Federal regulation. This exclusion
became a source of public concern in the late sixties,
when many major commercial banks formed one-bank
holding companies. Free of Federal regulation, some onebank holding companies acquired or established nonbank
subsidiaries in order to engage in a wide variety of activi
ties, some of which were not permitted to banks directly.
In addition, a few important industrial conglomerates
Note: This address was delivered before the forty-third annual
midwinter meeting of the New York State Bankers Association
in New York City on January 25, 1971. Mr. Hayes wishes to
express his indebtedness for valuable assistance in its preparation
to Leonard Lapidus, Assistant Vice President, and Ralph H.
Gelder, Manager, Banking Studies Department.
acquired a single commercial bank, thus mixing banking
and commerce—a mixture prohibited by the 1956 act
to companies holding more than one bank.
Regulated multibank holding companies, by the way,
control banks with about one sixth of the nation’s com
mercial bank deposits, while one-bank holding companies
control banks with almost one third of these deposits.
This concentration of deposits under the control of com
panies not themselves subject to regulation would alone
have provided sufficient reason for the legislation. How
ever, an even more important reason was the prospect
that the traditional separation of banking and commerce
might be ended. Thus, the rapid development of the onebank holding company movement raised not only issues
of bank safety and competition, but also the issue of
excessive economic power—the possibility that one-bank
holding companies might become nuclei of industrialfinancial conglomerates which could dominate economic
life in the United States. This concern was expressed by
President Nixon when he endorsed the proposed one-bank
holding company legislation in March 1969:
Left unchecked, the trend toward the combining of
banking and business could lead to the formation
of a relatively small number of power centers dom
inating the American economy. This must not be per
mitted to happen; it would be bad for banking, bad
for business, and bad for borrowers and consumers.
In the several years preceding enactment of the legis
lation, there was little in the pattern of acquisitions by
one-bank holding companies to suggest that they might
be seeking such domination. The bank-centered one-bank
holding companies have appeared to be more interested
in offering diversified financial services. The banks owned
by large commercial and industrial firms have generally
24
MONTHLY REVIEW, FEBRUARY 1971
represented a small fraction of these firms’ total corpo
rate assets. In any event, the 1970 amendments ended
any threat of eroding the barriers separating banks from
industry. Indeed, a principal result of the legislation—
and one obscured by controversy over other provisions
—is to reaffirm the principle that banking and commerce
ought to be kept separate.
The 1970 amendments, therefore, bring all bank hold
ing companies under the supervision of the Federal
Reserve Board and eliminate loopholes by which a group
might be free of Federal Reserve regulation while main
taining effective control of one or more banks. For exam
ple, the exemption in the 1956 act that permitted the
effective control of chains of banks through partnership
arrangements has been eliminated. A bank may also be
come subject to regulation as a bank holding company
if it acquires in a trust capacity controlling shares of an
other bank and has sole discretionary authority to vote
these shares. This provision could pose unusual problems
for bank managements.
The Congress did not see fit to provide to existing
one-bank holding companies an ironclad exemption allow
ing them to retain any previously acquired or established
nonbank subsidiaries. True, bank holding companies
which come under regulation for the first time may con
tinue to engage in nonbank activities which would other
wise be prohibited, provided they have been continuously
engaged in them since June 30, 1968. But the Board has
the power to terminate a company’s authority to engage
in such an activity if it finds such action is necessary to
prevent undue concentration of resources, decreased or
unfair competition, conflicts of interest, or unsound bank
ing practices. The Board is required to make this deter
mination by the year-end 1972 for those newly regulated
companies with banking assets exceeding $60 million.
The Board also has discretion to take similar action with
respect to the other newly regulated holding companies
whose banks have assets of $60 million or less, if it
believes the so-called “grandfather” exemption is not
justified.
While I have spoken up to now only of the restrictive
provisions of the legislation, the amendments should also
resolve the uncertainties that have hampered banking
organizations in planning expansion and do offer new
opportunities to regulated holding companies to expand
into fields of business related to banking. Indeed, the most
controversial and bitterly contested provision of the new
law centers on the standards established for Federal
Reserve Board determination of those nonbanking activi
ties which would be permitted to bank holding companies.
The most critical of these standards are contained in
Section 4 (c)(8 ) of the act. I would like to discuss this
section of the legislation with you today—for it is the
interpretation of its provisions that will determine just
how much diversification bank holding companies will
be permitted, in terms both of the services they can offer
and of the extent to which they can expand geographically.
Under the standards provided in this section the Board
must decide if an activity is “so closely related to banking
or managing or controlling banks as to be a proper inci
dent thereto”. In determining whether a particular activity
is a proper incident to banking or managing or controlling
banks, the Board is also required to consider whether the
performance of a particular activity by a proposed affi
liate “can reasonably be expected to produce benefits to
the public, such as greater convenience, increased com
petition, or gains in efficiency, that outweigh possible
adverse effects such as undue concentration of resources,
decreased or unfair competition, conflicts of interests, or
unsound banking practices”. In essence, then, the Board
must now base its Section 4 (c)(8 ) decisions primarily
on two determinations—roughly stated, whether a pro
posed activity is “closely related” to banking and whether
its performance by a banking organization would yield
net public benefits.
The language of Section 4 (c)(8 ) dealing with the
“closely related” issue represents the key compromise
reached by the House-Senate Conference Committee. You
will remember that the House of Representatives in its bill
took a very restrictive approach in defining permissible
activities; the House proposal included the so-called
“laundry list” of prohibited activities—a list containing
activities such as insurance, travel services, leasing, and
mutual funds. The Senate, on the other hand, rejecting the
laundry list, supported a proposal suggested by the Board
of Governors that would permit bank holding companies
to have subsidiaries engaging in activities “functionally
related” to banking, leaving the determination of the spe
cific types of permissible activities to the best judgment
of the Federal Reserve Board.
The language of the new section is a middle ground
between the widely separated views of the House and
Senate versions. It is probably fair to say that the legisla
tive history fails to fix clearly the exact location within
this middle ground that would indeed represent the “in
tent of Congress”. Consequently, I would expect that the
question of what is “closely related” to banking will for
practical purposes be decided first by the Board and ulti
mately by the courts. Court review and determination is
likely to occur not only pursuant to appeals by applicants
but also because the new law contains a provision which
grants to competitors of bank affiliates a clear right of
FEDERAL RESERVE BANK OF NEW YORK
standing before the Board and the courts to challenge
applications filed under the act. To be sure, the Congress
—if it is not pleased with the decisions of the Board and
the courts—might undertake to amend the act again.
Appreciating these difficulties and the legal issues in
volved, I would still like to tell you what we in the New
York Reserve Bank hope this legislation will permit the
Federal Reserve System to do. Last May, the Federal
Reserve Board through Chairman Burns expressed sup
port for the Senate proposal. At that time, in his testimony
before the Senate Banking and Currency Committee, he
cited a number of activities that in the opinion of the
Board would likely result in public benefit if conducted
by bank holding company subsidiaries. He also indicated
at that time that granting the Board authority to specify
permissible activities by regulation or order would pro
vide flexibility to adjust the list as circumstances change.
When the legislation was before the Conference Com
mittee late last year, Chairman Burns, in reply to a letter
from Congressman Patman, addressed himself again to
the issues raised in Section 4 (c )(8 ). While continuing
to express support for the Senate proposal that permissible
activities be “functionally related” to banking, he none
theless offered insight into the Board’s view of the “closely
related” compromise wording.
He indicated that the objectives of the Board were to
allow bank holding company systems to offer the kinds
of bank-related services that they were likely to be able
to perform conveniently and efficiently and under condi
tions that would enliven competition. While these results
might be reached by interpretation of the proposed com
promise language offered by Congressman Patman, the
Board preferred certain changes in the proposed language.
One of the most significant changes requested by the
Board was to delete from the phrase “so closely related to
the business of banking or of managing or controlling
banks” the words “the business of”, so that the phrase
would read “closely related to banking or managing or
controlling banks”. The deletion of these three words—
which might appear to be of small consequence—was sig
nificant because of the administrative history of the 1956
act. In the course of administering that act, the Board had
interpreted the “business of banking” wording as requiring
a “direct and significant connection” between the activi
ties of the proposed subsidiary and those of the subsidiary
banks of the holding company. This interpretation had the
effect of limiting a bank holding company to those non
bank subsidiaries which serviced or supported the activi
ties of the bank affiliate.
It was the Board’s view last November, however, that
it would not be “desirable to unduly restrict entry by
25
nonbank subsidiaries into markets that are distinct from
those served by the subsidiary banks of the holding com
panies”. Such market extensions, the Board argued, would
lessen risks of tie-ins and would promote competition.
For these reasons, while the Board preferred that the
phrase, “closely related”, be changed to read “functionally
related”, it said in the following quotation that these
ends could be secured by deleting the three-word phrase
“the business of” :
If the conferees prefer to keep “closely related” in
the language of the statute, our objective would be
served by changing the words “the business of bank
ing or of managing or controlling banks” to read
“banking or managing or controlling banks”.
The fact that the Committee adopted the Board’s sug
gested revision may count importantly when the courts
come to consider the issue.
In any case, I am sure that the Board will indicate very
soon some of the activities it considers permissible under
the new law. I am certainly hopeful that bank holding
companies will be permitted to offer many financially
related services. I again express my personal support—
as I did last May—for permitting bank holding companies
some product diversification and I plan to continue my
efforts toward this end.
As I indicated earlier, Section 4 (c)(8 ) now requires
that the Board, in determining whether an activity is a
proper incident to banking, consider whether its per
formance by a proposed affiliate “can reasonably be
expected to produce benefits to the public, such as greater
convenience, increased competition, or gains in efficiency,
that outweigh possible adverse effects, such as undue con
centration of resources, decreased or unfair competition,
conflicts of interest, or unsound banking practices”. In
essence, this new test requires that every nonbank acquisi
tion be found to yield positive net benefits to the public.
It appears on its face to be more stringent than the statu
tory standards applicable to commercial bank mergers
and acquisitions: Those standards permit bank regulators
to approve a merger or acquisition even though competi
tion may be lessened, unless the lessening of competition
is substantial. If it is substantial, the regulator may ap
prove the merger or acquisition only if the substantial
anticompetitive effects are “clearly outweighed” by bene
fits to the convenience and needs of the community to
be served. For nonbank acquisitions, however, each pro
posal must show net benefits to the public.
To what degree the language of the 1970 amendments
will prove to be genuinely more severe, however, is un
26
MONTHLY REVIEW, FEBRUARY 1971
certain. Despite the seemingly easier test for bank acquisi
tions, bank regulators have been loath to approve bank
consolidations that would appear to have adverse compet
itive effects, even if not substantial, without offsetting
gains to the public. Therefore, I would think that had
commercial bank mergers been subject to the seemingly
more severe test of net public benefit, the pattern of regu
latory approval might not have been very different.
Nevertheless, the test may be construed to be more
severe, and that fact suggests that banking organizations
take particular care in the way in which they enter new
areas of endeavor. I would surmise that leading banking
organizations would probably meet regulatory resistance
in attempts to acquire leading firms in nonbank fields.
This would be particularly true if the holding company
has the management and financial resources to enter that
bank-related field de novo or through the acquisition of
a relatively small firm. The experience of bank merger
and acquisition cases suggests that it may not be an easy
task for an applicant to demonstrate public convenience
or efficiency offsets to damaging competitive effects.
All things considered, I am pleased with the provisions
of the new law. Despite some remaining uncertainties, the
new law should provide to banking organizations the basis
for a significant degree of diversification of financial
services and should permit companies to offer such
services in geographical markets that they have never
served before. On the other hand, the public benefit test
may limit severely their ability to enter some geographical
and service markets, except through the establishment of
a de novo subsidiary. As banks take advantage of these
opportunities, they should enhance the competitive en
vironment of our banking and financial system and con
tribute to a more efficient allocation of financial resources
in the economy. I also recognize that the new legislation,
of course, adds greatly to the regulatory responsibilities
of the Federal Reserve System. We are preparing to
handle this challenge, and we hope to play a construc
tive role in shaping a more competitive and more effi
ciently functioning financial system.
Let’s turn for a moment to the more general problem
the entire nation faces: inflation and unemployment. Both
the problem and its solution are bound to have profound
effects on your own banking operations. As we look back
on the past two years, we find that fiscal and monetary
policies have played a major role in eliminating excessive
demand pressure on the economy. Thus, one primary
condition for a reduction in the rate of inflation has been
satisfied—yet signs of slackening in price rises are not
yet convincing, and inflation continues to be very much
of a challenge, now fueled largely by grossly excessive
wage settlements that bear no relation to any reasonable
expectation of productivity gains. At the same time, slug
gish real growth of the economy has brought unemploy
ment into a range that is obviously worrisome and would
be quite unsatisfactory over an extended period.
During these same two years, the sluggishness of busi
ness has reflected in large measure a weakening of con
fidence on the part both of businessmen and of consumers.
This loss of confidence in turn may be attributed to slower
business itself and to a variety of other factors, including
perplexity over the persistence of inflation while unem
ployment was growing and mounting concern with inter
national developments. Confidence was also hurt by
accumulating evidence, culminating in the summer of
1970, that financial strains were placing in jeopardy large
corporations that had been thought of as more or less
invulnerable and were also threatening the viability of
important financial markets. It was both logical and
proper, under these conditions, that fiscal and monetary
policies should move as they did in a distinctly easier
direction in 1970, after the severe restraint of the preced
ing year. As we look ahead, it seems likely that fiscal
policy will tend to become more expansive; and it seems
clear that monetary policy will have to be applied with
great caution in the face of our twin problems of infla
tion and unemployment. It would certainly be a great
mistake to go all out for rapid economic expansion, for
this would virtually guarantee a resurgence of inflation—
and, in the longer run, a new and more severe problem
of unemployment.
But the very need for caution in using rapid credit
expansion as the way to cut unemployment to tolerable
levels points up the need to search hard for means other
than fiscal and monetary policies for affecting directly
both unemployment and wage and price decisions. Thus,
not only is it important to exploit various attacks on
“structural” unemployment, it is also essential, in my
judgment, to try some variant of “incomes policy” as a
way of breaking the inflation spiral. While I am by no
means sure what the best detailed plan should be, it does
seem to me that it should be simple and easily under
stood, that it should set definite targets, and that it should
be temporary. An effective incomes policy would cer
tainly give monetary policy greater scope to accommo
date business recovery, with all that that may imply in
the way of interest rate levels and availability of credit.
I have, of course, been speaking in broad terms of our
major domestic economic problems—but I would not
like to leave you without touching briefly on the inter
national aspects which are very closely intertwined with
the domestic. Some of you may be tempted to think of
FEDERAL RESERVE BANK OF NEW YORK
our balance-of-payments problems as very remote from
your day-to-day task of carrying on sound banking activi
ties. Another possible reason for the tendency to down
grade this topic is the fact that our balance-of-payments
problem has been with us in more or less acute form
for some twelve years, and it hasn’t yet brought on any
thing like disaster. And then there are others who dismiss
the subject by pointing to the size of the United States
economy and arguing that other countries are obliged to
use the dollar as the base of their foreign trade and invest
ment whether they like it or not, so why worry about
the balance of payments? I am quite sure these are false
comforts. If we continue to run huge payments deficits we
shall be courting, at the very least, all kinds of restraints
abroad on United States investment and trade, which are
bound to react on business conditions here. And it is
quite possible that continuing balance-of-payments deficits
could also lead to very heavy speculative movements
against the dollar. Vast foreign holdings of dollars in the
Euro-dollar market and in our stock market would pro
vide ample fuel for such speculation, and widespread
effects could be felt in our financial markets as well as
in business conditions in this country.
The only real hope of a better United States balance
of payments lies in a successful attack on inflation, which
would check imports by preventing excessive demand
in the economy and would preserve the competitive posi
tion of American exports by keeping cost and price in
creases to a minimum. Since all the major industrial coun
tries are suffering in greater or less degree from inflation,
we could achieve real results just by doing a little better
than most other countries in fighting inflation. In view of
the tremendous stakes involved both at home and abroad,
such progress should well justify the effort.
Nineteen-seventy was a rather discouraging year. The
new year offers a great opportunity for improvement. I
hope that all elements in the country, including the very
influential banking community, will join forces to bring
inflation under control at long last and, thereby, restore
sustainable real growth in the economy.
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28
MONTHLY REVIEW, FEBRUARY 1971
The Business Situation
The nation’s output of goods and services declined
substantially during the fourth quarter of 1970, when
the automotive strike was superimposed upon an already
slack economy. Inasmuch as the strike affected almost
every individual component of the gross national product
(GNP) accounts, it is difficult to measure the full impact
of the work stoppage on GNP. Continuing a pattern which
has been uninterrupted since last July, the unemployment
rate rose throughout the fourth quarter, reaching the 6.2
percent mark in the final month of 1970. Although in
dustrial production increased in December for the first time
since July, virtually all the rise was related to the start-up
of production at General Motors. Only spending on resi
dential housing showed any significant advance. Whether
the buoyancy in this sector will extend to others and
generate an overall economic recovery depends primarily
on whether there is a resurgence of consumer spending.
Despite the slowdown in business activity in the fourth
quarter, the implicit price deflator for GNP rose sharply.
While much of the acceleration in this indicator stemmed
from technical factors associated with the automotive strike,
the underlying price situation showed no apparent im
provement over the rapid rate of inflation that had char
acterized the earlier part of 1970. Indeed, the rate of in
crease in consumer prices accelerated in the fourth quarter,
with all components of the consumer price index (CPI)
participating in this step-up. The acceleration in the price
advance of nonfood commodities, which exceeded that
of the other components of the CPI, was bitterly dis
appointing since these prices are usually the ones most sen
sitive to general demand conditions. At the same time,
there was some slowdown in the rise of compensation per
man-hour; nevertheless, the even greater fall in the growth
of output per man-hour, largely the result of the GM
strike, resulted in a strong advance in unit labor costs.
GROSS NATIONAL PRODUCT
The market value of the nation’s total output of goods
and services edged up $5.4 billion during the fourth
quarter of 1970 (see Chart I) to a seasonally adjusted
annual rate of $990.9 billion, according to the Depart
ment of Commerce’s preliminary estimate. This increase
was less than half the average rise in GNP in the pre
ceding three quarters and was the smallest quarterly
increment since the first quarter of 1967. The depressing
influence of the automotive strike on the economy was
sizable though difficult to quantify precisely. After allowing
for the effects of inflation, the output of real goods and
services fell at an annual rate of 3.3 percent in the fourth
quarter. This decline, coupled with that in the first quar
ter, more than offset the small gains in real GNP in the
interim quarters. Thus, for the year as a whole, real
output fell below the production level recorded in 1969;
not since 1957 had there been a year-to-year drop in
real GNP.
The rate of increase of final expenditures—GNP less
inventory investment—abated in the final quarter of 1970.
The increase in final spending was barely half that of
the previous quarter. Underlying this slowdown were out
right cutbacks in consumption spending on durable goods,
in business fixed investment, and in defense spending by the
Federal Government. These reductions, however, were
more than offset by increases in consumer spending on
nondurable goods and services, in residential housing
expenditures, and in state and local government spending.
Businesses’ inventory investment acted as a drag on
the expansion of GNP in the fourth quarter. According
to preliminary estimates based mainly on data for the
first two months of the quarter, the annual rate of accu
mulation of inventories fell by $1.4 billion to $4.1 billion,
following slight accelerations in the preceding two quar
ters. This slowdown primarily reflects the activities of
retail automobile dealers who continued to sell automo
tive products after the strike had begun. Elsewhere in
the economy, particularly at the wholesale trade outlets
and durables manufacturing firms, the pace of inventory
accumulation quickened in October and November. At
the same time, manufacturers’ sales declined, with most
of the decrease centered among durables producers, so
that it appeared that inventory stocks were somewhat
in excess of requirements. The increases in the inventorysales ratios for the durables and nondurables manufactur
ing sectors were reversed in December, owing to a slight
FEDERAL RESERVE BANK OF NEW YORK
decumulation of inventories and an increase in sales in both
sectors.
The growth in personal consumption expenditures
dropped rather sharply in the fourth quarter. This slow
ing reflected the reduction in spending on durables, while
outlays on nondurable consumer goods and services ac
celerated slightly. The 6.4 percent decline in spending on
durable goods in the fourth quarter was the largest such
decrease since 1951. All of the decline centered in the
automotive component of durables spending, as the strikerelated effects reinforced an apparently underlying weak
ness in automotive demand. Outlays on consumer
nondurables and services in the fourth quarter increased
by $11.3 billion. Looking at the year as a whole, consumer
spending exclusive of durables expenditures increased
slightly more than in the previous year, while durables
spending posted a substantial decline, only part of which
was attributable to the GM strike.
Although consumer spending slowed, it outpaced the
Chart I
RECENT C H A N G E S IN G R O S S NA T IO N A L PRODUCT
A N D ITS C O M P O N E N T S
S e a s o n a lly a d ju ste d
Y \ j C h a n g e fro m s e c o n d q u a rt e r
to third q u a rte r 1970
^^H change
H j H
!----------- ”
-5
from third q u a rte r
to fourth q u a rt e r 1970
________________I_______________ 1_______________ |
0
5
10
B illio n s o f d o lla r s
Source: United States Department of Commerce.
15
29
very small $3.9 billion rise in disposable income in the
fourth quarter of 1970. As a result, the personal savings
rate dipped 0.3 percentage point to a still high level of
7.3 percent. During the last three quarters of 1970, the
savings rate averaged 7.5 percent. This prolonged period
of very high levels of personal saving is most unusual by
historical standards. Whether or not the savings rate will
move downward this year is one of the key factors which
will determine the pace of overall economic activity over
the course of the year.
Spending on residential structures expanded by a sub
stantial $2.8 billion in the fourth quarter, the largest in
crease since the third quarter of 1967. This increase fol
lowed declines in the first two quarters and a small rise
in the third quarter of 1970. The upward trend in spend
ing on residential construction gives promise of extending
for several months to come, according to advance indica
tors. For example, in the closing month of 1970, the rate at
which new housing units were begun surged 18 percent
and building permits issued by local authorities jumped
17 percent.
Because work progresses on a new housing structure
for some time after the unit is begun, the expenditures
series lags the housing starts series. Housing starts fell in
the first quarter of 1970 to the lowest level since the sec
ond quarter of 1967 and have risen in each subsequent
quarter, so that fourth-quarter seasonally adjusted starts
were on the average 40 percent above those in the begin
ning quarter. Both single-family and multifamily structures
have participated in this recovery, though single-family
units expanded at a somewhat faster rate. Following the
movement in the starts series, residential expenditures
bottomed out in the second quarter and have gained mo
mentum since then; in the fourth quarter, expenditures
were 13 percent higher than those in the second. The
sharply increased activity in this sector stems from the
increased availability of mortgage financing as well
as from the swelling of Federal housing subsidy programs.
Large inflows of funds into savings institutions—the result,
in part, of the high personal savings rate and declines in
market interest rates which have improved the competitive
position of thrift institutions—have led to some easing in
the terms under which new mortgages are extended. In
dicative of this trend were the December and January
reductions in Federal Housing Administration-insured and
Veterans Administration-guaranteed rates and the Jan
uary lowering of conventional mortgage interest rates by
some large New York City commercial banks.
After increasing slightly in the preceding two quarters,
business fixed investment fell in the fourth quarter, the
result of reduced spending on both structures and pro
30
MONTHLY REVIEW, FEBRUARY 1971
ducers’ durable equipment. The slight fall in expenditures
on new business structures marks the third successive
quarterly decline. Since trucks and fleet automobiles are
an important component of businesses’ equipment expendi
tures, the decline in equipment spending was due mostly
to the GM strike. Thus, the resumption of production at
GM is likely to boost this component of capital spending
somewhat in the current quarter. Apart from the strike,
however, business fixed investment spending appears to
have leveled off. Separate surveys by McGraw-Hill and
by the Commerce Department and Securities and Ex
change Commission indicate that firms are planning to
increase their plant and equipment expenditures in 1971
by a modest 1 to 2 percent; moreover, all of this increase
is scheduled by nonmanufacturing firms, while manufac
turers reported that they were planning a cutback in capi
tal spending. This projected weakness reflects, among
other things, the depressed level of corporate profits, slug
gish sales, and the increasingly large proportion of unused
capacity. After these surveys were taken, the Treasury
announced its intention to ease the rules by which busi
nesses may depreciate their capital equipment. Neverthe
less, it seems unlikely that this move will spur producers’
durable equipment spending significantly unless there are
concurrent improvements in underlying business condi
tions.
Increased spending by state and local governments con
tributed $2.4 billion to the small gain in current-dollar
GNP in the fourth quarter. This was somewhat below the
rise in state and local government expenditures in the
previous quarter. Taking the two quarters together, how
ever, such spending rose at a faster rate than in any half
year since the first half of 1968. This acceleration was to
some extent related to the marked easing in credit market
conditions which characterized the last six months of
1970. Federal Government expenditures, on the other
hand, declined slightly in the final quarter of 1970, as a
result of a further decrease in defense spending. This more
than offset a resurgence in nondefense outlays which fol
lowed a net decrease in such spending over the three pre
vious quarters.
PRICE DEVELOPMENTS
All of the increase in current-dollar GNP in the final
quarter of 1970 stemmed from rising prices. The rate
of increase of the implicit price deflator for total GNP
accelerated to 5.7 percent in the fourth quarter, up con
siderably from the 4.5 percent average rise in the pre
vious two quarters. Much of this acceleration resulted
from the compositional shift in output associated with
the strike. The implicit deflator is a weighted average of
price indexes for all goods and services; the weight at
tached to a particular good or service is equal to the pro
portion of total expenditures in real terms (1958 dollars)
that is spent on it in the current quarter. Since 1958,
automotive prices have risen less than prices of other
goods, so that the price index for autos is low relative
to the price indexes for other goods and services. With
the output and consumption of automotive goods de
pressed in the fourth quarter, the composition of output
was concentrated in goods with higher price indexes. Even
if all prices had remained constant in the fourth quarter,
this compositional shift would still have caused the defla
tor to rise.
The importance of such compositional shifts in the
“output mix” as a source of changes in the implicit defla
tor is not limited to the latest quarter. As an alternative
price index, one which abstracts from compositional shifts,
the weights used in computing the GNP deflator could
be set equal to their value in a particular period—say,
the fourth quarter of 1965—and not allowed to change.
Any variations in this alternative constant-weight price
index (to which class belong the consumer and wholesale
price indexes) solely reflect price changes. A comparison
of movements of this constant-weight price index with the
implicit price deflator (see Chart II) provides a rough
guide as to the importance of compositional shifts in
inducing changes in the implicit deflator. While the two
indexes have moved on a yearly basis along broadly
similar lines, their quarterly rates of acceleration or de
celeration have differed. In the fourth quarter, this
constant-weight price index for total GNP rose at an an
nual rate of 5.0 percent, only slightly higher than the 4.9
percent average increase for the previous two quarters.
Thus, as technical factors were largely responsible for
the acceleration in the GNP deflator, it appears that
the underlying price situation was essentially unchanged
in the fourth quarter. Inflation still gave no clear sign
of having yielded to the economic slowdown.
Consumer prices in December rose 6.4 percent on a
seasonally adjusted annual rate basis, considerably above
the 3.7 percent November advance. As the rate of increase
in prices of services declined somewhat, all the December
acceleration in the overall index stemmed from rising
commodities prices. After falling slightly in November,
food prices posted a 2.7 percent rise in December, thus
contributing partly to the speedup in consumer prices.
The rate of increase in nonfood consumer prices also ac
celerated in December to 6.7 percent, well above the 4.6
percent average monthly increase for the year ended in
November. During the fourth quarter, consumer prices
FEDERAL RESERVE BANK OF NEW YORK
C h a r t II
ALTERNATIVE G N P PRICE IN DEXE S
S e a s o n a lly a d ju s t e d a n n u a l rate s of ch a n g e
P e rce nt
Percent
So urce : United States D e partm ent of C om m erce, O ffice of Business Economics.
increased at a faster rate. While prices of services and
food both contributed to this development, most of the
quarterly acceleration stemmed from nonfood commodi
ties prices which increased 5.8 percent in the fourth
quarter, compared with the 3.9 percent growth in the
previous quarter. At the wholesale level, prices increased
4.6 percent on a seasonally adjusted annual rate basis in
January, after remaining unchanged in December. A sharp
jump in wholesale agricultural prices entirely accounted
for the January acceleration, while the rate of increase in
wholesale industrial prices dropped from 4.0 percent in
December to 1.7 percent in January.
PRODUCTION AND EMPLOYMENT
Following the resumption of production at GM, the
Federal Reserve Board’s index of industrial output climbed
1.4 percent on a seasonally adjusted basis to 163.9 percent
of the 1957-59 average. Apart from the increased auto
motive production, it appears that the pace of the economy
was little changed from the preceding month; industrial
output less the automotive component nosed up only 0.1
percent and was 5.5 percent below the peak attained in
31
July 1969. Output of motor vehicles and parts jumped
45 percent but failed to reach the pre-strike level. For the
most part, this reflected the slow production start-up at
GM, but production and sales of automobiles by GM’s
competitors were decidedly sluggish at the close of the
year, leading to some employment layoffs.
The surge in automotive production was reflected in
varying degrees in all the market grouping indexes. Within
the consumer goods category, a decline in the production
of appliances was offset by a rise in that of consumer
staples, so that the index for nonautomotive consumer
goods was unchanged. Thus, the 2.4 percent rise in the
overall consumer goods index was attributable wholly to
the automotive component. Reflecting the increase in
truck production, the index for defense and business
equipment edged up, while declines were registered in
the production of industrial equipment, defense goods,
and commercial aircraft. Finally, the materials index
advanced, the result in part of increased iron and steel
output stemming from the automotive start-up.
Concurrent with the fourth-quarter decline in real out
put, labor market conditions eased noticeably. While
part of this deterioration was associated with the GM
strike, the December data suggest that the easing went
beyond the direct and indirect effects of the strike. In
December, the unemployment rate rose 0.3 percentage
point to 6.2 percent despite the resumption of produc
tion at GM. This latest rise in joblessness brought the
average unemployment rate for the quarter to 5.9 per
cent, well above the third-quarter average of 5.2 percent
and dramatically above the 3.7 percent level that pre
vailed in the fourth quarter of 1969. In January, the unem
ployment rate fell slightly to 6.0 percent.
The data for nonagricultural payroll employment also
reflect some slippage during December. About 180,000
workers were added to the payrolls of nonagricultural firms.
This gain was more than accounted for by the 276,000
increase in manufacturing jobs, which reflected the re
turn to work of most of the 350,000 striking automotive
workers. Nevertheless, at its December level of 18.8 million
workers, manufacturing employment was still 460,000 be
low the August pre-strike level and was more than 1 million
below the December 1969 level. Similarly, total nonagri
cultural employment in December 1970 failed to return
to its pre-strike level and was about 600,000 below the
December 1969 level. In January, total nonagricultural
employment posted an increase of about 200,000, which
was centered in the services and trade sectors while manu
facturing employment was virtually unchanged.
32
MONTHLY REVIEW, FEBRUARY 1971
Banking and Monetary Developments in the Fourth Quarter of 1970
The rechanneling of credit flows through the banking
system that had begun at midyear continued to be a
dominant feature of banking developments in the fourth
quarter of 1970. While inflows of funds through time
deposits were substantial, loan demand was weak, prompt
ing a succession of three Va percentage point reductions
in the prime lending rate. The weakness of business loans
in particular may have been intensified by the ten-week
strike at the General Motors Corporation. This same factor
also contributed to a reduction in the public’s demand
for cash balances, which in turn resulted in a slowing in
the rate of growth of the money supply. Reflecting the
ample availability but slackened demand for funds, short
term interest rates declined sharply over the quarter.
As a result of the sharp run-up in time deposits and
the slack loan demand, commercial banks added to their
securities holdings at a rapid pace. Consequently, the
liquidity position of the banking system improved further,
as the loan-deposit ratio declined and the liquid asset ratio
increased. In a related development, the banks continued
to reduce their dependence on nondeposit sources of funds
by further decreasing their borrowings in the Euro-dollar
and commercial paper markets.
a 2.7 percent annual rate in the final three months of the
year, while currency outside banks increased at a 5.8 per
cent annual rate.
In contrast to demand deposits, total time and savings
deposits at all commercial banks advanced at a very rapid
21.8 percent seasonally adjusted annual rate during the
fourth quarter. This brought the growth rate of total com
mercial bank time deposits to almost 28 percent over
the second half of the year. By way of contrast, during
the last six months of 1969, time deposits contracted at
a 6.6 percent rate. Weekly reporting bank data, which
are not adjusted for seasonal variation, indicate that time
and savings deposits other than large negotiable cer
tificates of deposit (CD’s) rose by about $1.7 billion in
the October-December period. The major gains were in
large CD’s, which rose $3.8 billion in the fourth quarter
to $26.1 billion, or $1.8 billion above the late-1968 peak
(see Chart II). From late June, when Regulation Q inter
est rate ceilings on time deposits of $100,000 or more
C h a rt I
C H A N G E S IN M O N E Y S U P P L Y A N D TIME DEPOSITS
AT ALL C O M M ERC IA L B A N K S
SOURCES OF FUNDS TO THE BANKING SYSTEM
During the fourth quarter of 1970, the rate of growth
of the money supply—privately held demand deposits and
currency—was a modest 3.4 percent (see Chart I) as the
slackness in the economy, reinforced by the effects of
the strike against General Motors, restrained the trans
actions demand for money. Money supply expansion was
particularly slow in October and November, when the sea
sonally adjusted annual rates of gain were 1.1 percent and
2.8 percent, respectively. Growth of the money stock re
bounded in December to a rate of 6.2 percent. However,
for the quarter as a whole, the rate of expansion of this
monetary aggregate was appreciably below the 6 per
cent rate of growth achieved over the first nine months
of 1970. The relatively slower growth of the money supply
in the fourth quarter reflected the sluggish performance
of the demand deposit component, which grew at only
n
.
Percent
40
S e a s o n a lly ad ju ste d a n n u a l ra te s
Percent
30
20
10
0
-10
HI
1969
3 rd q u a r t e r 1 9 7 0
1st h a lf 197 0
H
“*th q u a r t e r 1970
Source: B o ard of G ove rno rs of the Federal Reserve System .
FEDERAL RESERVE BANK OF NEW YORK
33
October-December quarter. This marked the second con
secutive quarter of large divergence in the growth of the
narrow and broad money supply measures, for in the
third quarter of 1970 the former rose at a 6.1 percent
annual rate while the latter increased at a rate of almost
19 percent (see Chart I). For the year as a whole, the
broad money supply grew by 11.8 percent, more than
double the 5.4 percent growth of the narrowly defined
money stock.
Given the heavy inflows of time deposits, commercial
banks continued to shift away from nondeposit sources
of funds in the fourth quarter. The amount of bankrelated commercial paper outstanding, which dropped by
about $3 billion in the last seven weeks of the third
quarter, fell another $2.2 billion over the final three
months of the year. Thus, at the end of December, bankrelated commercial paper outstanding totaled $2.3 bil
lion, far below the peak of $7.8 billion recorded in July
1970. In part, the runoff in bank-related paper was in
duced by the imposition of reserve requirements on funds
acquired by banks from the sale of such paper.1 Loans
sold outright to affiliates of large commercial banks de
clined concurrently with the drop in bank-related com
mercial paper, falling from a level of approximately $8
billion in July to $2.7 billion at the end of the year.
United States banks considerably reduced their liabili
ties to foreign branches in the fourth quarter as well.
Such liabilities stood just under $10 billion at the end
of September, and three months later they amounted to
only $7.7 billion, or just one half of their October 1969
high. In an attempt to stem the decline in Euro-dollar
borrowings, the Board of Governors of the Federal Re
serve System initiated a series of regulatory changes which
took effect in the four-week reserve computation period
ended December 23, 1970.2 However, because Euro-dollar
rates were substantially higher than rates in the domestic
CD market, the relative cost of Euro-dollar borrowings
to the banks was high. Thus, banks reduced their liabili
ties to foreign branches by an additional $1 billion in
December, although some of this decline may have been
due to special year-end factors. For all of 1970, liabilities
to foreign branches dropped by $5.3 billion.
The adjusted bank credit proxy—a measure of bank
liabilities which includes deposits subject to reserve re
maturing in 30 to 89 days were suspended, to December
30, CD’s outstanding climbed by an enormous $13.1
billion.
The strong growth of CD’s during the fourth quarter
reflected their enhanced attractiveness to investors, as
rates of interest on competing investments declined dra
matically. For example, the yield on three-month Treasury
bills declined by 130 basis points over the fourth quarter
to 5 percent at the end of the year. The rate on dealerplaced prime four- to six-month commercial paper fell
even more sharply—by 138 basis points to 5.75 percent.
As CD funds poured into the banks, offering rates for
CD’s were also lowered substantially. By the end of the
year, such rates were well below the Regulation Q ceil
ings for all maturities, including those on short-term
deposits that were suspended last June. Thus, the former
Regulation Q ceiling on large CD’s maturing in 30 to 59
days was 6V4 percent. In early July, after the suspension
of the ceiling, offering rates on this maturity of CD’s
ranged from IV2 to 8 percent. By the end of December,
however, the offering rate was down to a range of 5 Vs
to 5 V2 percent.
With the surge in time deposits, the so-called “broad
1 See this Review (September 1970), page 213.
money supply”—private demand deposits and currency
2 For a more complete discussion of the measures instituted by
plus commercial bank time deposits—expanded at a sea
the Federal Reserve Board, see this Review (December 1970),
sonally adjusted annual rate of 12.7 percent over the page 278.
MONTHLY REVIEW, FEBRUARY 1971
34
quirements plus Eurodollar and commercial paper liabili
ties—expanded at a seasonally adjusted annual rate of 8.3
percent in the fourth quarter, equal to its performance
for the year as a whole. Growth of the proxy proceeded
very slowly in October but accelerated as the quarter
progressed. The buildup in time deposits accounted for
much of the increase in the proxy over the quarter.
BANK CREDIT AND LIQUIDITY
During the fourth quarter, total bank credit, excluding
loans repurchased from affiliates, rose at a seasonally
adjusted annual rate of 6 percent (see Chart III). This
contrasts with a very sharp 14 percent rate of growth dur
ing the third quarter, when bank credit was swollen by
bank lending to borrowers who were unable to roll over
maturing commercial paper. Thus, while the rise in bank
credit moderated from the unusually rapid pace of the
third quarter, the October-December increase brought the
yearly advance in bank credit to 7.4 percent, almost double
the rise recorded in 1969.
A change in the composition of total bank credit which
was evident in earlier months became more pronounced
in the fourth quarter of 1970, as investment holdings rose
markedly while bank lending contracted. Total bank loans
C h a r t III
C H A N G E S IN B A N K CREDIT A N D ITS C O M P O N E N T S
AT ALL C O M M E R C IA L B A N K S
S e a s o n a lly a d ju ste d a n n u a l ra te s
M M 1969
3 rd q u a r t e r 1 9 7 0
^
1st h a lf 197 0
H 0
4th q u a rt e r 1970
* L o a n s sold to affiliates are in clu d e d in com m ercial bank loans and credit.
So urce: B o a rd o f G o v e rn o rs o f the Federal R eserve System .
declined at approximately a 1 percent seasonally adjusted
annual rate during the October-December quarter, after
expanding at almost a 5 percent annual rate over the first
nine months of the year. Consequently, total loans in
creased by 3.4 percent for all of 1970. Commercial bank
holdings of securities, on the other hand, grew at a rapid
seasonally adjusted annual rate in excess of 20 percent in
the fourth quarter and by 16.6 percent for the entire year.
This is in sharp contrast to the 1969 experience, when se
curities holdings dropped by 7.2 percent as commercial
banks liquidated their investments in order to obtain loan
able funds.
In the fourth quarter of 1970, the buildup in bank in
vestment holdings was concentrated in securities other
than those issued by the United States Government. This
category, consisting principally of obligations of state and
local governments, climbed at a 34.5 percent annual rate
in the October-December period, compared with the 2.8
percent rate at which banks increased their holdings of
United States Government securities during the quarter.
While the divergence in growth of the components of
bank securities holdings was not so large for all of 1970,
it was nevertheless substantial, since banks added Gov
ernments to their portfolios at a rate of almost 12 percent
and increased their holdings of other securities by 20.1
percent over the entire year.
Large gains in time deposits together with slack loan de
mand— and particularly a weakness in business loans—
contributed to the buildup in investment holdings in the
fourth quarter. For the quarter as a whole, business loans
outstanding at weekly reporting banks fell by $1.3 billion
on a nonseasonally adjusted basis, whereas during compar
able periods in 1968 and 1969 these loans increased by
$3.8 billion and $3.5 billion, respectively. Reflecting this
contraseasonal contraction, business loans at all commercial
banks declined at a seasonally adjusted annual rate of 9.5
percent during the final quarter of 1970. This occurred de
spite two V4 percentage point reductions in the prime lend
ing rate in November and a third Va percentage point re
duction in late December, which brought the prime rate to
6% percent at the year-end. This was down from 8 V2 per
cent a year earlier. Despite this sizable cut, business loans
increased by only 2.0 percent in 1970 as compared with the
13.2 percent expansion in these loans in 1969.
Many factors, including the ten-week automobile strike
and a sluggish level of economic activity, contributed to
the weak performance of business loans. Beyond these
considerations, however, the fourth-quarter contraction
in these loans was partially attributable to the fact that
corporations used some of the proceeds of bond flotations
to retire existing short-term debt. In the fourth quarter,
FEDERAL RESERVE BANK OF NEW YORK
C h a rt IV
MEASURE S OF B A N K LIQUIDITY
A ll w e e k ly re p orting b a n k s
Percent
Percent
35
(see Chart IV). The expanded loan-deposit ratio—the
ratio of loans (other than loans to brokers and dealers)
to deposits (less cash items in the process of collection)
plus liabilities to foreign branches—decreased by about
2.7 percentage points at weekly reporting large commer
cial banks, reaching 72.2 percent in December. This was
the lowest the ratio has been at these banks since Febru
ary 1969 and, moreover, represented a significant decline
from the 1970 high of 78.2 percent registered in Febru
ary. Inspection of an alternative measure of commercial
bank liquidity, the liquid asset ratio,3 indicates similar
marked improvement. At all weekly reporting banks, the
liquid asset ratio climbed from 10.3 percent in September
to an unusually high level of 12.5 percent in December.
TH R IFT INSTITUTIONS
So u rce : B o a rd of G o ve rn o rs of the F e d e ra l R e se rv e System .
corporate borrowing in the capital market was extremely
heavy. Public offerings of corporate bonds alone totaled
$7.5 billion, bringing to $25 billion the total of such sales
for the year. This was about $12 billion higher than the
level of corporate bond flotations in 1969 and about $10
billion greater than the total in 1967, the previous record
year.
Among other loan categories, the growth of real estate
loans accelerated moderately from the slow pace of the
first nine months of the year. Consumer loans were about
unchanged on a seasonally adjusted basis in the fourth
quarter, following moderate growth in earlier months of
the year. Loans to nonbank financial institutions continued
to increase at about the same moderate rate as during the
previous nine months. The only loan category to put on
a strong performance during the final three months of
the year was securities loans, which rose sharply along with
dealer inventories.
With loan demand weak and time deposit inflows strong,
bank liquidity continued to improve in the fourth quarter
During the final three months of 1970, deposit inflows
at the nation’s mutual savings banks and savings and
loan associations continued to strengthen, thereby extend
ing the strong upward thrust in deposit activity that had
begun in the second quarter. Total thrift institution de
posits are estimated to have increased at about an 11 per
cent seasonally adjusted annual rate in the fourth quar
ter, up somewhat from the 9.5 percent rate of growth
registered in the third quarter. This strong performance of
deposit flows is attributable, in part, to the very high
level of personal savings during recent quarters. Beyond
this, however, the competitive position of these institu
tions improved steadily during the second half of the year,
as market interest rates on instruments which compete
with the thrift institutions for funds moved progressively
lower.
In the fourth quarter, savings and loan associations
continued to experience somewhat stronger deposit in
flows than did mutual savings banks, and the growth of
their mortgage holdings remained more rapid as well.
Over the October-December period, deposits and mort
gages at savings and loan associations both expanded
at an annual rate of about 12 percent, whereas deposits
at mutual savings banks rose at a rate of about 9 percent
and mortgages at a 3 percent annual rate, according to
preliminary estimates.
3 The liquid asset ratio is defined as loans to brokers and deal
ers, loans to domestic commercial banks, Government securities
due within one year, balances with domestic commercial banks,
bankers’ acceptances, municipal tax warrants, and short-term notes
as a percentage of total liabilities excluding capital accounts.
36
MONTHLY REVIEW, FEBRUARY 1971
The Money and Bond Markets in January
During January, investor optimism regarding the future
course of interest rate movements generated a resurgence
and acceleration of the bond market rally that had waned
in the latter half of December. Yields on intermediateterm Treasury securities declined as much as a full
percentage point over the month, and long-term Treasury
bond yields were down by as much as half a percentage
point (see Chart I). At the same time, yields on newly
issued high-grade corporate bonds declined more than a
full percentage point during the month to their lowest
level in more than two years. The Weekly Bond Buyer's
index of yields on twenty municipal bonds fell 42 basis
points to 5.16 percent, almost 2 percentage points below
its record high of 7.12 percent posted in May 1970.
While this historic performance was taking place in
the nation’s bond markets, sluggish demand for short-term
loans sent virtually all money market rates tumbling down
ward. The commercial bank prime rate was lowered from
6% percent to 6 percent in a series of three Va percentage
point reductions, and two V* percentage point reductions
of the Federal Reserve discount rate brought it to 5 per
cent. The bid rate on three-month Treasury bills declined
70 basis points to 4.15 percent, down nearly 4 percentage
points from its peak level at the end of 1969. Similarly,
rates on bankers’ acceptances and commercial paper were
reduced by 3A to lVs percentage points over the month.
Preliminary figures indicate that the money supply—
private demand deposits plus currency outside banks—
grew at an annual rate of about 3 percent in January,
in line with the 3.4 percent rate of growth in the fourth
quarter of 1970 but down from the 5.4 percent growth
achieved in all of 1970. In contrast, the growth of the
adjusted bank credit proxy, a more comprehensive mea
sure of commercial bank liabilities, accelerated to an an
nual rate of about 10 percent in January from 8.3 percent
over the previous quarter and for all of 1970. The diver
gence between the growth rates of these two aggregates
was largely attributable to continued rapid growth of time
deposits (see Chart II).
THE GOVERNMENT SECURITIES MARKET
The focal point of attention in the Government securi
ties market was the Treasury’s February refinancing, the
terms of which were announced on January 20. The
Treasury took advantage of the buoyant tone of the mar
ket to prerefund several maturities. It offered to exchange
the notes and bonds maturing February 15, March 15,
and November 15, 1971 and February 15, 1972 for a
5% percent note due in four and one-half years or a
6V4 percent note due in seven years. Public holdings1 of the
issues eligible for the exchange totaled $19.5 billion. Pre
liminary results indicate that by the time the subscription
books closed on January 27 holders of $10.8 billion of
these issues had elected to make the exchange. “Attrition”
of the February 1971 issues—the proportion of publicly
held maturing notes to be redeemed for cash—was 17.4
percent, a modest figure in light of there being no short
term issue in the exchange offer. The highly successful
operation resulted in a significant lengthening of the aver
age maturity of the privately held Federal debt to about
three years eight months from its level of three years five
months at the end of 1970.
Prices of outstanding Government securities rose sharply
during January. The market for intermediate-term issues
was initially restrained by dealers’ attempts to lighten their
positions in anticipation of the refunding. After this initial
drift, however, selling pressure subsided and the sizable
demand resulting from investor confidence in the down
ward thrust of interest rates more than offset any lingering
sales pressure. The market was also buoyed by the good
reception accorded new corporate issues. Coupon issues
due within one year were rapidly bid up to prices reflecting
their anticipated “rights” value in the refunding. By the
1 Other than those of the Federal Reserve Banks and United
States Government investment accounts.
37
FEDERAL RESERVE BANK OF NEW YORK
C hart I
SELECTED INTEREST RATES
N o v e m b e r 1 9 7 0 - J a n u a r y 1971
P e rce nt
M O N E Y M A RK ET RATES
B O N D M A R K E T Y IE L D S
P e rce n t
Note: D a ta are sh o w n for b u s in e ss d a y s only.
M O N E Y M A R K E T R A T E S Q U O T E D : Bid rates for three-m onth E u ro -d o lla rs in Lo n d o n ; offering rates for directly p la c e d fin an ce c o m p a n y papjir; the effective rate on F e d e ra l fu n d s (the
rare m ost representative of the tra n sa ctio n s executed]; c lo sin g bid rates (quoted in term s
of rate o f discount) on new est o utsta nding three-m onth a n d o n e -y e a r Trea sury b ills.
B O N D M A R K E T Y IE LD S Q U O T E D : Yields on new A a a - a n d A a -ra te d p u b lic utility b o n d s
(arrow s p oint from unde rw riting syndica te reoffering yield on a g iv e n iss u e to m arket
yield on the sa m e issue im m ediately after it h a s been release d from sy nd ica te restrictions);
time the announcement of the refunding was made, the
February 15 and March 15, 1971 notes and bonds had
been bid up to prices generating negative yields. After the
refunding terms became known, investor and dealer satis
faction with the Treasury’s offer generated strong initial
demand for the new issues, the rights issues, and the out
standing intermediates. There was particular interest in the
February 1972 issues which had not been expected to be
included in the refunding. Though weakness developed
toward the end of the month, the new issues closed trad
ing well above par, and the outstanding intermediates
showed price appreciation of about 1 to 1Vi points for
the month. Prices of long-term Treasury bonds posted even
larger gains, with price appreciation ranging from 2 to 4
points.
d a ily a v e ra g e s of y ie ld s on se a so n e d A a a -ra t e d c o rp o ra te b o n d s ; d a ily a v e ra g e s of
y ie ld s on lo n g -term G o ve rn m e n t securities (bon ds du e o r c a lla b le in ten y e a rs o r more)
a n d on G ov e rn m e n t securities d u e in three to five y e a r s , com puted on the b a s is o f closing
b id prices; T h u rsd a y a v e ra g e s of y ie ld s on twenty se a so n e d twenty -y e a r ta x -e x e m p t bo n d s
(carrying M o o d y 's ra tin g s of A a a , A a , A, a n d Baa).
So urces: Fede ral Re se rve B a n k of N e w York, B o a rd of G o v e rn o rs o f the F e d e ra l R e se rve System ,
M o o d y ’s Investors Service, a n d The W e e k ly B o n d Buyer.
Treasury bill rates declined substantially over the month.
Rates rose in the first few days of trading, largely in reac
tion to a reversal of window-dressing operations under
taken before the end of the year. But trading was rela
tively light and little selling pressure materialized, despite
sizable dealer inventories. A better tone developed after
the first reduction in the prime rate was announced on
January 6, and yields proceeded to decline steadily, al
though there was some occasional profit taking. Activity
became dull as the announcement of the Treasury’s re
financing plans approached, with participants in this sec
tor hesitating in the event the new offering contained a
short-term issue. Rates declined sharply the day after
the terms of the refunding became known, but demand
was disappointing during the rest of the month. None-
MONTHLY REVIEW, FEBRUARY 1971
38
basis points below the rate set in the auction four weeks
earlier and the lowest such rate since August 1967.
Table I
FACTORS TENDING TO INCREASE OR DECREASE
MEMBER BANK RESERVES, JANUARY 1971
In millions of dollars; (4*) denotes increase
(—) decrease in excess reserves
OTHER SECURITIES MARKETS
Changes in daily averages—
week ended
Net
changes
Factors
Jan.
20
Jan.
13
Jan.
6
Jan.
27
“ Market” factors
657
Member bank required reserves ..................
Operating transactions (subtotal) .............. — 237
— 250
+ 188
— 377
+ 319
Other Federal Reserve liabilities
—
117
— 144
+ 148
— 676
— 63
— 4
+ 601
+ 289
-
894
+
+
801
— 404
705
666
170
108
+ 1,008
— 640
— 835
— 275
1
—
456 + 538
+
+
+
+
66
—
—
39 +
4 -
68
368
— 498
— 63
—1,591
— 42
— 382
+1,9 1 4
+
38
— 561
Direct Federal Reserve credit
transactions
Open market operations (subtotal)
Outright holdings:
+
+
537
2
+
+
+
+
Federal agency obligations .................. +
Member bank borrowings ............................ +
Other Federal Reserve assetsf .................. +
185
2G
51
137
67
—
—
—
—
+
131
_
19
3 +
_
236
2 —
Repurchase agreements:
327
40
59
132
17
+1,005
— 517
111
— 513
+
+
+
+
+
+
86
+
180
65
1
+
+
255
6
_
16
83
4
7 —
13
—
196 — 117
34
40 +
103 64 +
+
— 75
— 11
+
5
+
84
+ 158
169
+
199
— 139
Daily average levels
422
Monthly
averages
Member bank:
Total reserves, including vault c a s h ..........
Free, or net borrowed (—), reserves..........
Net carry-over, excess or deficit (—)§ -----
30,611
30,066
545
407
138
30,204
210
30,242
30,210
32
277
— 245
29,965
249
31,011 30,202
30,915 29,907
96
295
471
354
—375 — 59
29,848
30,540
63 — 12
30,517$
30,275$
242$
377$
— 135$
30,139$
128$
Note: Because of rounding, figures do not necessarily add to totals.
* Includes changes in Treasury currency and cash,
t Includes assets denominated in foreign currencies.
t Average for four weeks ended January 27.
{ Not reflected in data above.
theless, rates on most bills declined by about Vi to 3A per
centage point over the month. The average issuing rate
on the three-month bill fell to 4.20 percent in the final
weekly bill auction of January (see Table II). This was 63
The strong demand for securities that prevailed throughout the money and capital markets enabled the corporate
and municipal bond markets to absorb large volumes of
new securities at rapidly declining rates. The yield on
newly issued prime corporate bonds declined more than
a full percentage point to the lowest level in more than two
years, and a record volume of tax-exempt bonds was mar
keted at declining yields until late in the month. The
Weekly Bond Buyer's twenty-bond index of municipal bond
yields closed at 5.16 percent, 42 basis points below its level
at the beginning of the month.
As the new year opened, there was some concern
among corporate traders regarding the New York Tele
phone issue which had originally been awarded on De
cember 14 and was still largely unsold. Pricing the securi
ties to yield 7.60 percent in thirty-six years, the syndicate
marketing the issue had refused to disband during the last
week of the year—when bond trading is normally sluggish.
A Northwestern Bell Telephone Aaa issue sold well on
January 5 when priced to yield 7.85 percent, making it
appear that the syndicate handling the New York Tele
phone issue would have to remove its price restrictions. But,
on Thursday, January 7, after the prime rate cut had been
announced, a Commonwealth Edison Aaa-rated issue was
successfully reoffered at a yield of 7.45 percent, causing
the New York Telephone yield to appear generous and
the issue was rapidly sold out and rose to a premium.
In the municipal bond market there was evidence of in
vestor hesitancy regarding poorer quality issues. At mid
month New York City, which has a Baa-1 rating, was forced
to award $237 million of bonds at a net interest cost greater
than the one it had incurred in October, despite the im
provement in general market conditions. Yields on top
quality tax-exempt issues declined substantially, however,
as illustrated by the $121.3 million New Housing Author
ity issue which was awarded at a net interest cost of 4.95
percent on January 27. The last similar issue had carried
a net interest cost of 5.84 percent two months earlier.
Investor resistance to rate declines began to appear
toward the end of the month. A $200 million Southwestern
Bell issue was only about one-quarter sold when priced
to yield 6.80 percent on January 26. This left the corporate
market with a formidable supply of unsold telephone bonds
as it awaited a $500 million American Telephone and
Telegraph Company offering scheduled for early Febru
ary. In the municipal bond market, new issues also
39
FEDERAL RESERVE BANK OF NEW YORK
Table II
sold slowly late in the month, and the Blue List of ad
vertised dealer inventories rose to nearly $1 billion from a
midmonth low of about $600 million.
AVERAGE ISSUING RATES*
AT REGULAR TREASURY BILL AUCTIONS
In percent
Weekly auction dates— January 1971
THE MONEY MARKET
Conditions in the money market were comfortable in
January, as loan demand continued weak and System
open market operations provided reserves generously. Re
flecting this comfortable tone, member bank borrowings
at the Federal Reserve averaged $377 million, up slightly
from the December level but well below the average level
of $803 million for all of 1970. The Federal funds rate
averaged 4.14 percent, down 76 basis points from Decem
ber, and the commercial bank prime rate was lowered
from 6% percent to 6 percent. To bring it into alignment
with other money market rates, the Federal Reserve dis-
Three-month ......................................
Jan.
4
Jan.
11
Jan.
18
Jan.
25
4.921
4.927
4.640
4.633
4.213
4.243
4.201
4.235
Monthly auction dates— November 1970-January 1971
Nine-month
One-year . . .
Nov.
24
Dec.
23
Jan.
26
5.083
5.009
4.949
4.886
4.268
4.248
Interest rates on bills are quoted in terms of a 360-day year, with the discounts from
par as the return on the face amount of the hills payable at maturity. Bond yield
equivalents, related to the amount actually invested, would be slightly higher.
C h art II
CREDIT A N D M ON ET AR Y A G G R E G A T E S
S e a s o n a lly a d ju ste d w ee kly a v e r a g e s
S e pte m b e r 1 9 7 0 -J a n u a r y 1971
B illio n s of d o lla rs
B illio n s of d o lla rs
Note-. D ata for Ja n u a ry are prelim inary.
* T o ta l m ember b an k d e p o sits subject to reserve requirements plus n o n d e p o sit
liabilities, including Euro-dollar b o rro w in g s a n d commercial p a p e r issued by
b an k h o ld in g com p anies or other affiliates.
^ At all com m ercial banks.
count rate was lowered in two steps to 5 percent, a level
it had last seen in April 1968.
Largely reflecting slow growth of private demand de
posits, the money supply increased at an annual rate of
about 3 percent in January, compared with 3.4 percent
in the fourth quarter of 1970 and 5.4 percent for all of
1970. Time deposits continued to surge upward at about
the same rapid rate as in the fourth quarter of 1970. In
the four weeks ended January 27, large negotiable cer
tificates of deposit rose by about $1 billion (not season
ally adjusted) to a record $27.1 billion. Liabilities to for
eign branches were reduced by about $1 billion (not sea
sonally adjusted) to $6.7 billion. This decline, however,
approximately matched a sale of 6 percent three-month
notes by the Export-Import Bank. Such notes purchased
by a bank’s foreign branches may be counted in the bank’s
reserve-free base. The runoff in bank-related commercial
paper slowed considerably in January. Such paper declined
by about $300 million (not seasonally adjusted) to $2.0
billion. Total member bank deposits plus nondeposit lia
bilities—the adjusted bank credit proxy—increased at an
annual rate of about 10 percent in January, according to
preliminary figures. This compares with the 8.3 percent
rate of growth achieved in the previous quarter and over
all of 1970.
@FedFRASER