Full text of Economic Policy Review (Federal Reserve Bank of New York) : June 1975, Vol. 57, No. 6

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MONTHLY REVIEW, JUNE 1975

122

International Banking
By R ic h a r d A . D e b s
First Vice President and Chief Administrative Officer
Federal Reserve Bank of New Y ork

A n address before the tenth annual banking law
institute in New Y ork City on M ay 8, 1975

It’s a great pleasure to be here with you today, and a
privilege to have such a distinguished audience of experts
in banking law. The roster of participants in this confer­
ence is indeed impressive, and the theme of your confer­
ence— “Defensive Banking”— is most timely. The subject
of my talk today may seem a bit inconsonant with that
theme, with your focus on domestic banking, but it is not
at all unrelated. In today’s world, no one can talk for long
about the United States banking system without looking
at international banking. For better or for worse— defen­
sive or offensive— international banking is an integral
part of the United States banking system. And, without
belaboring the theme, I think it’s fair to say that interna­
tional banking has certainly been on the defensive during
the last year or so, at least in the sense that it has had to
react and adapt to massive, pervasive, and rapid changes
in environment that have shaken the roots of the system
and challenged its viability. I must hasten to add— and am
happy to report— that so far the system has met the test
of these challenges. And I can also add that international
banking seems to have emerged from this troublesome
period with a stronger and healthier foundation.
To support that conclusion I would like to summarize
briefly the experience of international banking over the
past year or so, to review what it has been through, where
it is now, and where it may be going.
D EFINITION AND LEGAL. FRAMEWORK

Before that, however, it would be useful to outline a
working definition of what I mean by international bank­
ing from the point of view of United States banks. Very
simply stated, on the one hand it refers to the operations
of United States banks in foreign countries, with foreign
customers, or in foreign currencies; on the other, it refers
to the operations of foreign banks in the United States.




And it must also refer to the Euro-dollar market, to en­
sure that all overseas banking transactions in United
States dollars are included.
I’d also like to note very briefly the legal framework
for this kind of working definition of international bank­
ing. I know that in this forum I should start with the law—
putting first things first— and I also know that with such
an audience I need not do more than recall to mind
briefly the overall legal framework.
u n i t e d s t a t e s b a n k s a b r o a d . First, with respect to the
activities of United States banks operating abroad, the
basic laws applicable are the Federal Reserve Act, includ­
ing those provisions known as the Edge Act, and the Bank
Holding Company Act, pursuant to which the Federal R e­
serve has primary regulatory authority over such activities.
Among other things, such authority covers the establish­
ment of foreign branches, investments in foreign sub­
sidiaries and affiliates, the chartering of Edge Act
corporations, and the supervision of the activities of such
banking facilities. State laws also apply to the foreign
activities of state-chartered United States banks but,
except for a very few states like New York, state regula­
tion and supervision of foreign activities have been
minimal.
On the whole, I think it is fair to say that the Federal
Reserve’s regulatory philosophy with respect to interna­
tional banking has been rather liberal, in the sense that
it has permitted United States banks to engage in a much
broader range of operations overseas than are authorized
in the United States. In the area of international banking,
the Federal Reserve has more or less limited its concern
to the basic soundness of the United States banks that may
be operating abroad and with the range of activities that
such banks may undertake abroad. Within the limits set
by its regulations, the Federal Reserve Board has reviewed

FEDERAL RESERVE BANK OF NEW YORK

on a case-by-case basis applications by United States
banks to engage in additional financial activities abroad
through subsidiaries and affiliates. But it has not chosen to
impose a restrictive regulatory structure on international
banking. I think that it is clear that, without this attitude
over the years, the remarkable growth of United States
banks’ operations overseas could not have taken place.
I also recognize that, apart from this general philosophy,
many banks and bank counsels feel that several specific
provisions of the Federal Reserve’s regulations unneces­
sarily restrict the ability of United States banks to compete
abroad. The Federal Reserve itself has many questions
and reservations about its regulations in this area. It is an
area in which there has not been much change for many
years, certainly not enough to keep up with the rapid
changes in international banking over those years. Ac­
cordingly, the Federal Reserve, through its System
Steering Committee on International Banking Regulation,
is reviewing the entire range of the regulatory framework
in this area.
f o r e i g n b a n k s i n t h e u n i t e d s t a t e s . In sharp contrast
to the System’s broad authority over the overseas activities
of United States banks, its regulatory authority (as well as
that of any other Federal regulator) over the activity of
foreign banks in this country is minimal. Its formal juris­
diction is limited to the activities of United States
subsidiaries of foreign bank holding companies. But these
subsidiaries account for no more than a fraction of the
total foreign bank operations in the United States.
Although the use of such subsidiaries has been increasing,
the great bulk of these operations is conducted by agen­
cies and branches of foreign banks established and oper­
ating under state laws. Most of these agencies and
branches operate in New York, with a large number also
in California and several in Illinois. Thus, this segment
of international banking— the part conducted by foreign
banks in the United States— is subject primarily to state
law and is not subject to Federal supervision and regu­
lation.
As you know, the Federal Reserve Steering Committee
has studied this question and has concluded that it would
be desirable to provide for a system of Federal regulation
and supervision of foreign banking operations in the
United States. Accordingly, the Federal Reserve Board
has submitted to the Congress legislation, entitled the
Foreign Bank Act of 1975, that would provide foreign
banks with the same opportunities to conduct activities
in this country that are available to domestic banking in­
stitutions, and that would subject them to the same rules
and regulations. The proposed legislation is based on the




123

principle of “nondiscrimination”, or “national treatment”,
in that it attempts to treat all banks operating within the
United States— both foreign and domestic banks— on the
same basis. I should also mention that the proposed
legislation would provide a grandfather clause for existing
operations.
It should also be noted, of course, that all United
States banks abroad, as well as all foreign banks in the
United States, are subject to the laws of other countries—
the laws of the host countries and the laws of the home
countries, respectively. In some cases, the banking laws
of foreign countries can be quite restrictive, and in other
cases they can be quite liberal— as you well know, I ’m
sure. And, of course, the difference in banking law philos­
ophies has had a significant effect on the direction of the
growth of international banking in the world.
e u r o d o l l a r m a r k e t . Finally, for the sake of logic, I
should mention the legal framework of the Euro-dollar
market, since I included the Euro-dollar market in my
working definition of international banking from the point
of view of the United States. However, I’m afraid that I
can’t do much more than just mention it. The Euro-dollar
market itself is not easily definable, and its legal frame­
work, if any, is even less so. The market grew rapidly
without the assistance, or burdens, of an integrated or even
coordinated set of laws. It is an international— or multi­
national, or transnational— phenomenon, but it is regulated
only to the extent that the Euro-dollar activities of the
institutions operating in that market— the Euro-banks—
are subject to regulation and supervision by the national
jurisdictions in which they operate. In practice, supervision
by national banking authorities has been minimal, and
there has been no overall legal framework regulating the
Euro-dollar market per se.

GROWTH OF IN TE R N A TIO N A L BANKING

Turning now to a brief review of recent developments,
we might take as a starting point the beginning of last
year, since 1974 was in many respects a watershed in the
history of international banking. Until then, international
banking had been growing steadily and rapidly for many
years. There had been a sharp rise in the number of major
United States banks that developed global branch and
affiliate networks, offering an integrated banking service
of worldwide scope. This internationalization of United
States banking was closely associated with the rise to
prominence in the world economy of multinational corpo­
rations, which require broadly diversified financial facili­
ties in a large number of countries. Another important

124

MONTHLY REVIEW, JUNE 1975

factor in this development was the program of capital
controls that was introduced in the United States in 1963,
and which had put pressure on United States banks to
establish banking facilities abroad in order to serve the
borrowing needs of their customers operating overseas.
The growth in international banking over the years is
dramatically reflected in almost any set of statistics relat­
ing to international banking for the period. For example,
in 1965 only thirteen United States banks had foreign
branches, with total assets of about $9.1 billion. At the
end of 1974, 125 United States banks had branches
abroad, and their total assets were in excess of $150
billion.1 As another indication, in 1965 foreign earnings
were a negligible portion of total earnings even for the
largest banks. In 1974, foreign earnings for some of the
larger New York City banks were about one half their
net income after tax.
During the same period, there had been a steady,
although not quite as dramatic, growth in the operations
of foreign banks in the United States. For example, from
1965 to 1974, the number of foreign branches and agen­
cies in New York City increased from 49 to 92, with total
assets increasing from $4.8 billion to $29.5 billion. At
the end of 1974, the total assets of agencies, branches,
and subsidiaries of foreign banks in the United States
added up to $56 billion.
Together with the expansion of international banking
both here and abroad, there had been a parallel devel­
opment in the growth of the Euro-dollar market. From
rather modest beginnings in the early 1960’s, the market
burgeoned until it had reached rather massive proportions
in the early 1970’s. For example, in 1965 the net size of
the market was about $9.5 billion and it reached a vol­
ume of approximately $150 billion in 1974, not including
sizable Euro-currency liabilities denominated in currencies
other than dollars."

1 A lm ost half of these assets was held by branches of United
States banks in the United Kingdom. Another 20 percent was held
by branches in the Bahamas and Cayman Islands. The Nassau and
Cayman branches are principally “shell” offices which perform
only limited services and conduct no local business; however, they
act as a major vehicle for the acquisition of Euro-dollars by United
States banks; also they enabled the banks to extend loans to for­
eigners financed with offshore funds without exceeding the quota
limits established under the foreign credit restraint program.
- These figures attempt to exclude the large volum e o f interbank
deposits in order to approximate the size o f Euro-bank liabilities to
others. See Charles A. Coom bs and Scott E. Pardee, “Treasury and
Federal Reserve Foreign Exchange Operations”, Monthly Review
(Federal Reserve Bank of N ew York, March 1975), pages 55-56,
for a discussion of recent developm ents in the Euro-dollar market.




PROBLEMS OF 1974

Focusing again on the beginning af 1974, we all recall
that the year began with the removal of capital controls
by the United States. There was some uncertainty as to
what all of the ramifications of that action would be,
particularly with respect to the structure of international
banking. (For example, it was expected that the removal
of controls would result in the strengthening of New York
City’s role as a world financial center.) In any event, how­
ever, one point seemed clear: the action was a move
toward a more open and efficient international banking
system in the long run.
p e t r o -d o l l a r s u r p l u s e s . However, other things hap­
pened in 1974 that began to cast grave doubts on the
future of international banking. To begin with, the price
of oil quadrupled and the world began to compile and
wonder at the astronomical figures being projected as
surpluses for the oil-producing countries. For example,
in July 1974, the World Bank projected that OPEC
(Organization of Petroleum Exporting Countries) would
accumulate a cumulative surplus of $650 billion by 1980
and that this surplus would rise to $1.2 trillion by the
end of 1985.3
And so the problem that came to be known as “re­
cycling” was born. Because of the huge amounts of sur­
plus funds that would be accumulating in the hands of
the oil producers, the prospects for deeper deficits by
many of the consuming countries, and the massive flows
of funds that would be involved in the payment, receipt,
lending, investment, and transfer of these “petro-dollars”,
there were serious doubts that the private international
banking system could cope with the process of “recycling”
these petro-dollars. The concern grew as larger and larger
amounts of petro-dollars were accumulated in overnight
Euro-dollar deposits. The position of the Euro-banks
seemed to become more and more vulnerable as they used
these overnight deposits to fund credits carrying much
longer maturities, and in being exposed to the danger of
sudden withdrawals of major portions of their deposit lia­
bilities by a relatively limited number of depositors.

3 See Robert M cNam ara’s 1974 Annual Address to the World
Bank, reprinted in the Sum mary Proceedings of the 1974 Annual
Meetings of the Board of Governors, page 31. These estim ates are
in current dollars and assume an increase in prices over time. This
1980 estimate is equivalent to about $400 billion in constant 1974
dollars.

FEDERAL RESERVE BANK OF NEW YORK
t h e f r a n k l i n c a s e . These doubts were not eased by the
emergence of another problem on the United States domes­
tic banking scene— the Franklin National Bank case.
Franklin was the twentieth largest bank in the United
States, and it was also heavily engaged in the foreign
exchange market. By May 1974, its situation had dete­
riorated badly, and it seemed clear that, unless a perm a­
nent solution could be found, the bank would soon be
forced to close its doors. Such a closing would have caused
serious harm to the bank’s depositors and customers,
would have shaken confidence in the entire United States
financial system, and would have had major adverse
repercussions for both the domestic and the international
banking systems. In the circumstances, the Federal R e­
serve took up its responsibilities as lender of last resort
and extended emergency credit to Franklin in an effort to
permit the development of a permanent solution to the
problem that would be in the best interests of all con­
cerned. As you may recall, the loans extended by the
Federal Reserve Bank of New York amounted to $1.7
billion by the time the solution was finally worked out in
October of last year.
The Franklin case was particularly troublesome from
the point of view of international banking because one of
the major causes of Franklin’s problems was its foreign
exchange operations. Franklin, like many other banks,
had expanded its international banking activities at a very
rapid pace. In doing so, however, management control
was not effectively maintained, and it was in this area
that some of the more serious problems of the Franklin
case came to light. As a result, there was deepened con­
cern in the markets regarding the foreign exchange
activities of all commercial banks, in addition to the gen­
eral malaise caused by the tottering of one of the largest
banks in the world.

h e r s t a t t a n d o t h e r c a s e s . This uneasiness was inten­
sified by some substantial losses related to foreign ex­
change operations incurred by several banks in the spring
and summer of last year. The most dramatic case, of
course, was that of Bankhaus Herstatt, which was forced
to close its doors in June. The very fact of a bank failure
was, in itself, sufficient to create problems for the inter­
national banking community, but beyond that the circum­
stances in which Herstatt failed resulted in further prob­
lems for banks involved in foreign exchange. Confidence
in the international payments mechanism was severely
shaken. For a while, the mechanism hardly functioned
at all, while participants in the international banking com­
munity retrenched and attempted to protect themselves
from any possible exposure to credit risks. Since the inter­




125

national payments mechanism, by its nature, relies on con­
fidence and credit, the result was that the mechanism
ground down to a very slow and cumbersome pace.4
m a r k e t r e a c t i o n s . The response of Euro-banks to these
unhappy developments was to cut their credit lines rather
ruthlessly for all but the very best names. Quality became
the watchword for investors throughout the world, and
rate structures in virtually all money and loan markets
reflected this preference for quality. In the Euro-market,
even banks with good names, but less well known than the
prime banks, were forced to pay a premium over the rates
offered to the bigger institutions. In order to obtain funds,
banks in countries that in the view of the market had
overborrowed, as well as fringe banks, had to pay rates
substantially above the London interbank deposit rate.
One consequence of this tiered rate pattern was that many
banks at rollover dates for syndicated term loans were
forced to refinance their commitments at rates close to or
above the rates payable by the borrowers, which were
based on the London interbank deposit rate for prime
banks plus a small margin. As a result, a number of banks
were no longer able to participate in syndicated loan oper­
ations. Fears were then widespread in the London finan­
cial community that some of the smaller banks participat­
ing in the Euro-currency market would be unable to secure
sufficient funds to refinance their medium-term loans.
Some of these banks, including branches and affiliates of
regional banks in the United States, began last year to pull
in their horns and to scale down their Euro-currency ac­
tivities in London and elsewhere.5
All of these developments took place against the back­
ground of general disquiet and anxiety throughout the
financial world. Worldwide inflation was rampant. Inter­
est rates were at record high levels. Stock markets were
plummeting. Confidence in the dollar remained precarious,
and exchange markets continued to show wide rate fluc­
tuations. No one had a good fix on the dimensions of the
petro-dollar problem. Projected balance-of-payments defi­
cits for some countries seemed to suggest that they were

4 Perhaps the most vivid exam ple was the practice by members
of CHIPS (Clearing H ouse Interbank Payments System, including
about forty banks) during the latter part o f June to meet each
m orning to state whether or not they intended to “recall” any pay­
ments of the preceding day before the settlem ent sheet was given
to the Federal Reserve Bank o f N ew York.
5 For a detailed review of these developm ents, see Fred H. Klopstock, “Oil Payments and Financial M arkets”, R ecord (The
Conference Board, Inc., May 1975).

MONTHLY REVIEW, JUNE 1975

126

on the brink of bankruptcy. The credit of major industrial
countries was put into question. And questions were also
raised about the soundness of banks and the banking sys­
tem. All in all, 1974 was not a year of great promise for
international banking.
RESPONSES TO TH E PROBLEMS OF 1974

Yet, at the same time there were other developments,
many of which were generated from these doubts and
concerns, that assisted in bringing international banking
through this period of uncertainty and that laid the ground­
work for the emergence of an even healthier and stronger
system.
c o m m e r c ia l b a n k r e s p o n s e s . In the first place, the
banks themselves recognized their problems and took
measures to deal with them. In a sense, the foreign ex­
change problem of the Franklin case dramatized to all
banks the dangers of losing management control over for­
eign exchange operations. It brought home the need for
internal controls and surveillance procedures, the need for
management involvement, and the need for qualified staffs.
In the past, there were too many cases in which foreign
operations were launched by bank management as part of
a fashionable trend, as a “growth industry” in which quick
profits could easily be turned. Traders were too often left
to their own devices, with management’s interest limited to
counting the earnings coming in. Those banks soon learned
that this is an area of enormous risk that must be brought
under more effective management control.
The Herstatt case, as well as other similar cases, also
demonstrated the exposures involved in foreign exchange
dealings, and underlined the fact that participants in the
business that followed aggressive, speculative strategies
could expose all their business partners to excessively high
risks. Unfortunately, the Herstatt case also made the point
that the rules of the game of the international payments
mechanism were far from perfect and that innocent parties
could be rather badly hurt by a malfunctioning of the
mechanism. The lesson caused all parties concerned to
undergo a searching reappraisal of those rules and to make
changes in procedures to reduce the risks of exposure.

c e n t r a l b a n k r e s p o n s e s . In addition to the steps taken
by the commercial banks, there also has been much greater
involvement by central banks, both individually and in
cooperative efforts, in the problems of international bank­
ing and in measures to strengthen its soundness and in­
tegrity. One of the first moves in this direction was the
action by the Federal Reserve to take over Franklin’s for­




eign exchange position in order to avoid adverse reper­
cussions in the international banking system, as well as
to protect the domestic financial structure. In October
1974, as part of the package worked out by the authorities
for the solution of the Franklin situation, the Federal
Reserve Bank of New York, in an unprecedented step,
took over Franklin’s foreign exchange book with a view
to liquidating it in an orderly fashion. The alternative—
to permit the outstanding contracts to be dishonored—
would certainly have led to serious disruptions in the
markets.
In addition, the Federal Reserve and the other bank
regulatory authorities in the United States, as well as their
counterpart authorities in Europe, took measures to tighten
their supervision of the foreign exchange operations of their
commercial banks. Programs were undertaken to strengthen
bank examination procedures and to provide for stricter
surveillance and reporting requirements.6
The central banking fraternity also undertook to review
the need for coordination among central banks in their
supervision and examination of commercial banks in­
volved in international banking, and they also reviewed
their respective roles as lenders of last resort. The issues
posed are complicated ones; they become more compli­
cated as banks operate in foreign countries through sub­
sidiaries, and even more complicated as they operate
through affiliates or consortium banks in which their in­
vestments may be relatively limited. For example, which
central bank should be (a) the supervisory authority or
(b) the lender of last resort, with respect to (1) a foreign
branch, (2) a wholly owned foreign subsidiary bank, or
(3) a consortium bank with, say, five foreign minority
shareholder banks as parents? And what are the respon­
sibilities of the parent banks in any of these situations?
As you know, the Bank of England has expressed a view­
point on these questions in requesting “letters of support”
from such parent banks.
In this connection, I should make the general point that
all central banks have the responsibility for maintaining
orderly exchange markets and do intervene in the markets
from time to time to that end. Working together, the major
central banks have developed more extensive procedures
for consultation and coordination of exchange intervention

6
In this country, the Federal Reserve has conducted a survey of
selected banks’ foreign exchange position limits and controls. The
Federal Reserve is also m onitoring United States banks’ positions
with the aid o f Treasury foreign currency reporting form s recently
instituted under the Par Value M odification Act.

FEDERAL RESERVE BANK OF NEW YORK

than ever before. As you know, the Federal Reserve swap
network has played a key role in these operations. In this
area of conflicting philosophies over the functioning of ex­
change markets and the role of central banks, it has now
been generally recognized that a floating system managed
by open market intervention by cooperating central banks
has a much greater chance of functioning well than a sys­
tem in which order is imposed by extensive and detailed
exchange controls.
“r e c y c l i n g ” p e t r o -d o l l a r s . Another development that
helped to ease the concerns and worries of last year has
been the ability of the private banking system to handle
the petro-dollar flows. Despite the earlier dire predictions,
the system has not only survived but has contributed in a
significant way to coping with the problems of “recycling”.
The private banking system did not do it alone; it was
aided in large part by official programs for the channeling
of funds through multilateral institutions and arrangements
— such as the International M onetary Fund (IM F ) Oil
Facility— and by the rather substantial direct lending and
aid programs of the surplus countries. It was also aided by
responsible and conservative investment policies followed
by the central banks and governments of the surplus coun­
tries. Even with this assistance, however, a large measure
of the burden of the recycling problem fell on the private
international banking system; for example, it is estimated
that in 1974 OPEC deposited over $20 billion in the Euro­
currency market, and most of that was very short term .7
Another factor that contributed to a calming of concern
about the future was the development of a better under­
standing of the dimensions of the petro-dollar surplus
problem. It now appears that those dimensions are not
as unmanageable as some had thought earlier. Total reve­
nues of OPEC last year was over $100 billion, and the net
investable surplus— the amount left over after expendi­
tures for imports and after loans and grants to the less
developed countries (L D C s)— was about $50 billion. But
rather than increase over the years ahead, as originally
predicted, the surplus will probably decrease gradually
and shrink to much smaller proportions within a few

127

years. R ather than the cumulative surplus of $1.2 trillion
in 1985 and $650 billion by 1980— as originally predicted
— the World Bank reportedly now estimates a peak in the
cumulative surplus in current dollars of $460 billion by
1980. Other sources have estimated the 1980 surplus (in
current dollars) to be in a range of $180 billion to $350
billion.8
The reasons for these changes in estimates are many,
but one of them is simply a better understanding of the
problem as it has evolved. Last year, there were very few
experts indeed who were able to predict the level of im­
ports reached by OPEC; nor were there many experts who
were able to predict the level of loans and aid by the oil
producers to LDCs. OPEC imports added up to more than
$40 billion in 1974, and OPEC grants and loans to LDCs
were about $7 billion.9 Projections early in 1974 were
substantially below these aggregates. This experience, of
course, led to upward revisions in estimates of OPEC ex­
penditures for future years. At the same time, the soften­
ing of demand for oil, reflecting the worldwide recession
as well as the impact of higher oil prices, dampened the
predicted rise in actual foreign exchange revenues by the
oil-producing countries. This in turn caused a scalingdown in the forecasts of future revenues. Based on these
revised forecasts, it now appears that the funds left over
as “surplus”— the funds that are at the core of the “recy­
cling” problem— are more manageable than previously
predicted and should become more so in the years ahead.
In commenting on the dimensions of the recycling prob­
lem, I am referring primarily to the workings of a financial
mechanism. I would not want to minimize the seriousness
of the underlying problems. The potential pressures and
strains arising from the oil-import-induced balance-ofpayments deficits continue to involve risks to international
financial stability. But experience to date indicates that, as
a technical matter, the various channels used for coping
with the recycling question have been dealing with that
immediate problem.

8 The World Bank estimate of $460 billion in current dollars is
roughly equivalent to $250 billion in 1974 dollars. The United
States Treasury has estimated the 1980 surplus between $200
7 The Bank of England has estimated that oil exporters in 1974 billion and $250 billion in 1974 dollars. See D eputy Assistant
placed Euro-currency deposits o f $13.8 billion in the United King­
Secretary o f the Treasury, Thom as D . W illet, “The Oil Transfer
dom and $9.0 billion elsewhere. See the Bank o f England Quarterly
Problem ” (January 30, 1975).
Bulletin (V ol. 15, N o. 1, March 1975). The United States Treasury
has estimated that OPEC placed $21 billion in Euro-currency de­
9
This includes bilateral and multilateral assistance. OPEC com ­
posits during 1974. See Treasury Secretary W illiam E. Sim on’s state­
mitments— as opposed to disbursements— for developm ental grants
and loans made to LD C s in the last year were considerably larger,
ment before the Subcom m ittee on Financial Markets o f the Senate
Finance Com m ittee (W ashington, D.C., January 30, 1975), page 1. and are estimated to have been around $17 billion.




128

MONTHLY REVIEW, JUNE 1975

CONSOLIDATION AND RECOVERY

All of these developments I’ve referred to have contrib­
uted to a restoration of confidence that seems to be re­
flected in the overall tone of the Euro-dollar market. For
example, differentials between the rate charged the dif­
ferent classes of banks— which were quite substantial last
year reflecting the confidence crisis— are now only a frac­
tion of those seen last summer. After some contraction in
the summer and early fall, the market again resumed its
growth, although at a much slower, and perhaps more
reasonable, pace than in years past.
At the same time, there has been a retrenching, a con­
solidation, a sorting out, among the institutions involved
in international banking, all of which should lay a solid
basis for the future. After the experience of last year, many
banks have withdrawn from or limited their participation
in the field. Others have plans for gradual future expan­
sion. All of them, however, are much more careful about
the management of their international operations and want
to avoid growth at a pace that could expose them to risks
of weakened management control. As in domestic bank­
ing, there is a heightened emphasis on the quality of credit
and on returns commensurate with risks. And, with the
friendly interest of their banking supervisors, they are
also aware of the desirability to proceed cautiously in the
light of their need for adequate capital to support future
growth.10
In any event, while the resumption of growth in inter­
national banking may be, and should be, gradual, it seems
clear that a stronger foundation for the future has been
laid. One of the growing edges of international banking is,
as should be expected, in the Middle East, oriented to the
petro-dollar. At the end of 1973, United States banks had
interests in about thirty-four branches, subsidiaries, affili­
ates, and representative offices in the Middle East. Since
then, they have opened, or have plans to open, about
thirty additional facilities.
Future growth in international banking can also be
expected from foreign banks operating in the United
States. One of the incidental by-products of the Franklin
case, of course, was the emergence of a foreign-owned

10 During the summer, the Federal Reserve Board expressed its
general concern with the tendency of many United States banking
organizations to pursue a policy o f rapid expansion in dom estic and
foreign markets. The Board noted that such expansion can expose
these organizations to substantial risks, and, therefore, such ex­
pansion should be supported by a strong capital base.




consortium bank, European-American Bank & Trust
Company, as a major banking institution in the United
States. In addition, there is likely to be a continuing
gradual growth of foreign banking offices in the United
States. One of the more interesting areas of potential
growth is the possibility of the development of banking
interests in the United States on the part of the oilexporting countries. There are several examples of such
banking interests in Europe, and they may well find it
convenient, much like the United States banks in the
Middle East, to establish facilities within the United States.
ISSUES FOR STUDY

Having reviewed the experience of the last year and
having concluded that, contrary to the expectations of
some, international banking is still alive and well, I would
like to take a brief look, not at the future (I wouldn’t be
so bold), but at the issues that may well influence the
future. In doing so, I draw very heavily on the lessons of
the recent past. And if I may, I would like to look at these
issues from the point of view of a central banker.11
(1 ) To begin with, one of the immediate issues is the
extent to which the international banking system is able
to maintain adequate management control over foreign
operations. This question relates not only to the commer­
cial banks— domestic and foreign— involved in interna­
tional banking but also to the regulatory authorities, both
United States and foreign. The issue also encompasses
all participants in international banking; it is not enough
to say that most of the international banks observe strin­
gent standards and have their operations in good order.
As we have learned, weak links in the chain of the many
partners involved in international transactions can cause
problems for all.
(2) Another important issue relates to the regulatory
framework for foreign banks operating in the United
States. As I mentioned, the Federal Reserve has spon­
sored legislation that would provide for a new legal
framework, under Federal law, based on the principle of
nondiscrimination. The issue is now in the hands of the
Congress, and its resolution will have significant implica­
tions for the future course of international banking.

11
M ost o f these issues are discussed in more detail in a speech
by G overnor Robert C. H olland of the Federal Reserve Board,
entitled “Public Policy Issues in U.S. Banking Abroad”, delivered
at the fifty-third annual m eeting o f the Bankers A ssociation for
Foreign Trade on April 8, 1975.

FEDERAL RESERVE BANK OF NEW YORK

(3) There is also the question of the regulatory and
supervisory framework governing United States banks
operating abroad. As I noted, the approach of the Federal
Reserve, which is the primary United States regulatory
authority in this area, has been developed over the years,
within a statutory framework that itself evolved by the
gradual accretion of statutory requirements over the years
on an ad hoc basis. In view of the importance of interna­
tional banking, as witnessed by its rapid growth in recent
years and particularly by the events of the last year or
so, it is timely to review the entire regulatory framework
to see where changes are needed to keep up with changing
times. As I noted, the Federal Reserve is undertaking such
a comprehensive review.
(4 ) Another issue relates to the capital needs of
United States banks engaged in international banking. As
you in this audience well know, the issue of capital ade­
quacy on the domestic scene is complicated enough, and
has not yet been settled with any precision, but it’s even
more complicated with respect to international activities.
In view of the risks that United States banks are exposed
to in international banking, again as witnessed by the
events of last year, it is im portant to focus specific atten­
tion on the question of capital adequacy in the light of the
particular needs and requirements of international banking.
(5) A part from the role of the United States regulatory
and supervisory authorities, there is also the question of
cooperation among the world’s central banks with respect




129

to the supervision of banks engaged in international bank­
ing, and the role of central banks as lenders of last resort
for such banks. There is also the related question of the
extent to which the Euro-dollar market, as a market,
should or could be subject to greater regulation. In the
light of recent developments, it seems clear that these
are important issues for the future development of inter­
national banking. As I’ve indicated, they are under active
study by a committee of central bankers.
(6)
A final issue worth noting, and worth studying,
is the extent to which international banking has implica­
tions for our domestic financial and economic conditions.
International banking has grown so rapidly, and the Euro­
dollar market has grown so large, that they cannot be
dealt with in isolation. They have important ramifications
for domestic policy and must be taken into account in the
formulation of that policy.
In conclusion, let me emphasize that we in the Federal
Reserve have no illusions that we have all the answers
to the difficult issues raised by recent developments in
international banking. We believe that we have learned
many lessons from what has happened in the last year or
two and, as I mentioned, are now undertaking a broad
review of regulatory and supervisory policies with respect
to the foreign operations of United States banks. We need
the benefit of your experience and views, and would wel­
come a continuing dialogue with you in this challenging
undertaking.

130

MONTHLY REVIEW, JUNE 1975

Th e Business Situation
While the latest readings of business statistics point to
further slippage in economic activity, they also suggest
that the low point of the recession may be reasonably
near at hand.* Industrial production declined again in
April, but the drop was the smallest since August 1974.
No doubt this cutback in production reflects the ongoing
inventory correction. The book value of m anufacturers’
inventories fell in April for the second consecutive month,
with the decrease probably fairly substantial in physical
terms. Although inventories still appear to be high in
relation to sales, and it is thus difficult to determine how
much further inventory liquidation will be carried, the
recent rate of liquidation seems unlikely to be intensified
further.
Meanwhile, other signs of a possible improvement in
the economic weather have begun to accumulate. M an­
ufactured durable goods orders rose in April for the
second time in three months. This increase was the
largest in more than seven years and was broadly based
as well. Personal income also advanced in April, and
retail sales increased despite a relapse in auto sales.
Looking ahead, as the tax cut takes effect and rebate
checks are distributed, sales should receive additional
stimulus. While residential construction has not yet pulled
out of its slump, housing starts did manage a mild increase
in April and building permits climbed to the highest level
since last August. Labor market conditions weakened
further in May, as a sharp rise in the civilian labor force
helped push the unemployment rate up to 9.2 percent.
Nevertheless, total employment did manage to increase
for the second consecutive month.

* Revised estimates indicate that current-dollar gross national
product (G N P ) fell $13.8 billion, instead o f $11.7 billion, at a
seasonally adjusted annual rate in the first quarter o f 1975. Inven­
tory liquidation was revised from $18 billion to $19.2 billion, and
consumer spending was less robust than initially estimated, rising
$17.4 billion instead o f $20.5 billion. In real terms, G N P declined
11.3 percent instead o f 10.4 percent as initially reported, while
the annual rate o f change in the im plicit price deflator for G N P
was revised slightly from 8 percent to 8.5 percent.




The price news was mixed in April and May, but on
balance the recent pattern of more moderate overall infla­
tion continues to prevail. Consumer prices rose faster in
April than in the two previous months, as food prices
increased after two months of decline. While the advance
of nonfood commodity prices also accelerated somewhat
in April, the overall increase in these retail prices in the
February-April period was slower than in any other threemonth interval in more than two years. At the wholesale
level, prices rose for the second consecutive month in May,
as prices for farm products and related items moved
higher. On the other hand, increases in industrial com­
modity prices continued to be encouragingly mild. In May,
wholesale industrial prices edged up at a 2.1 percent
annual rate. Increases in prices of fuel and power
accounted for most of this rise, so that if energy is ex­
cluded industrial wholesale prices barely changed.
INDU STRIAL PRODUCTION AND C A P A C ITY

As measured by the Board of Governors of the Federal
Reserve System, industrial production fell 0.4 percent in
April, thereby dropping 14.2 percent below its peak of
November 1973. The most recent decline in this mea­
sure of the nation’s output of factories, mines, and utilities
was the smallest since last August. As in previous months,
the production of business equipment and industrial m a­
terials posted sizable reductions. However, the output of
consumer goods rose modestly in April, the first such in­
crease since last June. Although the production of non­
durable consumer goods rose somewhat, the overall in­
crease chiefly reflected a rise in the output of durable
consumer goods, especially automobiles. Encouraged by
the success of the price-rebate program and anticipating
the traditional spring upturn in automotive sales, m anu­
facturers in April boosted production 26 percent above
the average first-quarter rate. In May, automotive pro­
duction rose even higher. Unfortunately, however, domes­
tic auto sales have been sluggish in recent months, and
the increased production has been added to the stock of
unsold cars.

131

FEDERAL RESERVE BANK OF NEW YORK

Chart I

MEASURES OF CAPACITY UTILIZATION
Seasonally adjusted

1953

54

55

56

57

58

59

60

61

62

63

64

65

66

67

68

69

Sources: University of Pennsylvania, W harton School of Finance and Commerce; Board of G overnors of the Fed eral Reserve System.

Quite unlike the situation that prevailed at the end of
1973, the economy is now operating well below its
productive potential. Indeed, some observers have sug­
gested that there is now more slack and unused resources
in the economy than at any time since the end of the Great
Depression. This seems to be an overstatement, however.
Rather, the evidence would appear to justify the view
that the current level of excess capacity is more like that
experienced during the 1957-58 and 1960-61 recessions
than that experienced just prior to World War II.
The Federal Reserve Board compiles two indexes which
measure the utilization of the physical stock of plant and
equipment in the manufacturing sector and in the major
materials industries, respectively. While the index for
manufacturing reached its lowest level in twenty-two years
in the first quarter, there is reason to believe that this
measure has tended to overstate capacity in recent years
and hence this reading should be discounted to some de­
gree. The major materials capacity utilization series ap­
pears to be a more accurate measure. Unlike the index
for total manufacturing, utilization rates among the
twelve major materials producers are based on estimates
of maximum output. Although its coverage is limited,
this indicator does succeed in measuring the extent of




aggregate demand pressures at the initial stage of the
production process. Indeed, output in the primary process­
ing industries was severely strained during the 1973 boom,
causing serious bottleneck problems throughout the entire
economy. The major materials utilization rate reflected
these pressures, as it climbed to a peak of 93.5 percent
in the third quarter of 1973 (see Chart I ) , with some basic
industries producing at nearly 100 percent of capacity.
Since then, of course, the utilization rate has fallen. In the
first quarter of 1975, the extent of used plant and equip­
ment in this subsector equaled 70.7 percent. At this level,
the index stood midway between the lows attained in the
1957-58 and 1960-61 recessions.
In addition, there is the Wharton School comprehensive
index of capacity utilization which reached an exception­
ally high rate of capacity utilization in the third quarter
of 1973 of 96.2 percent. As of the first quarter of this
year, this index had dipped to 78.5 percent. At this level,
it was still above the lows of 73.3 percent and
74.2 percent, respectively, reached in the 1957-58 and
1960-61 recessions. Overall, judged in terms of unused
plant and equipment capacity, the current level of excess
capacity is substantial but not more so than in the two
earlier major postwar recessions.

132

MONTHLY REVIEW, JUNE 1975

The most popular single measure of slack in the labor
market is the overall unemployment rate (see Chart II).
In May the jobless rate reached 9.2 percent of the civilian
labor force, the highest level since 1941. However, this
may exaggerate the current degree of labor-market slack
to some extent, since any historical comparison is
affected by the dramatic changes in the composition of
the labor force that have occurred during the postwar
period. For example, women and young men have higher
average unemployment rates than adult men, in part be­
cause their attachment to the labor force is weaker. The
proportion of women and young men in the labor force
has increased substantially in recent years, and this has
tended to raise the overall unemployment rate irrespective
of the demand for labor. In comparing the current jobless
rate with that of earlier years, it may be more meaningful
to adjust the recent data for this shift in labor-force com­
position by restoring the relative importance of the major
age-sex groups to, say, 1956 levels. On this basis, the
current unemployment rate equals 8.1 percent, which
is just slightly higher than the peak rates of 1958 and
1961. Moreover, at 5.8 percent in May, the jobless rate
for men aged twenty-five and above is about equal to the
peak rate in 1961 but below the 1958 rate. At least in
some respects then, current labor-market slack is roughly
comparable to the 1958 and 1961 situations.

APPROPRIATIONS, M ANUFACTURERS’
ORDERS, AND IN VEN TO R IES

According to the Conference B oard’s survey of the
1,000 largest manufacturing firms, appropriations for new
plant and equipment dropped 9.4 percent in the first quar­
ter of this year. And over the six-month period ended iri
March, newly approved appropriations fell 33.2 percent,
the largest two-quarter decline since 1957. Reduced spend­
ing plans by durable goods manufacturers were entirely
responsible for the latest slide, as appropriations by non­
durable goods producers picked up somewhat. Cancella­
tions of previously approved projects have also stepped
up markedly in these two quarters, primarily because of
postponements in the spending plans of the petroleum
industry. As a result, net new appropriations are currently
at the lowest level in two years.
The flow of new orders received by durable goods
manufacturers surged upward by 9.7 percent in April.
Although new bookings were still 21 percent below the
peak reached last August, the most recent increase was
the largest in more than seven years, and it raised durables
bookings to the highest level since last November. Despite
this jump, shipments rose even faster and the backlog of
unfilled orders fell to the lowest level in one year.
Historically, a sustained increase in durables orders has

C h a rt II

UNEMPLOYMENT RATES
S e a s o n a lly ad justed
Percent

10

N ote: Unem ploym ent rates for the second quarter of 1975 are an a v e ra g e of A p ril and M ay.
So u rce: United States Departm ent of Labo r, Bureau of La b o r Statistics.




133

FEDERAL RESERVE BANK OF NEW YORK

typically been a forerunner of increases in production.
While the April advance could of course be reversed in
subsequent months, orders have now increased in two
of the last three months, thus providing some support
for the view that the economy appears poised for re­
covery. This conclusion seems more likely, since the
April jump in orders was widespread among all industrial
sectors. Bookings for transportation equipment registered
the largest advance, but the increase in bookings for m a­
chinery and primary metals was also sizable. Orders for
nondefense capital goods also jumped for the first time
since last September. However, while the increase was
rather large, orders for nondefense capital goods just
barely managed to climb above the level recorded four
months ago.
M anufacturers succeeded in reducing inventories of
both durable and nondurable goods in April for the sec­
ond consecutive month. With stocks falling by $1.15 bil­
lion, this latest round of inventory liquidation exceeded
the previous month’s drop and was the largest in per­
centage terms since May 1958. Declining inventories of
nondurable goods accounted for most of the drop, as
stocks of both finished goods and materials fell by a
sizable margin in this sector. While the ratio of non­
durable inventories to sales is now at its lowest level
since last November, stocks of durable manufactured
goods still seem to be high in relation to current sales.
In April, manufacturers’ inventories of durable goods
declined only modestly, as a reduction in materials and
supplies offset increases in work in progress and in finished
goods inventories.
PERSONAL INCOME, R ESIDEN TIAL
CONSTRUCTION, AND R E TA IL SALES

Personal income rose $6.7 billion in April, the largest
increase thus far this year and just slightly below the $7
billion monthly rise averaged during 1974. Income in the
private sector remained unchanged in the month, however,
as a small increase in the payrolls of service industries
was offset by a decline in. income in the distributive in­
dustries. Manufacturing payrolls stabilized in April, after
posting a small increase in March. Prior to this, m anu­
facturing payrolls had been reduced considerably so that
in April they were 7.4 percent below the peak of last
October. Government payrolls, meanwhile, rose slightly
as a result of expanded employment under public service
job programs. Among nonwage earners, small gains were
posted by all groups, with the rise in transfer payments
especially modest in comparison with previous months.
Finally, reflecting an increase in farm prices, income of




C h art III

PRIVATE RESIDENTIAL CONSTRUCTION
Se a so n a lly a d ju ste d a n n u a l rates
M illion s of units

Percent

Source: United States Department of Commerce, Bureau of the Census.

farmers grew $1.7 billion in April but the advance still
left farm income 38 percent lower than it was a year ago.
Weakness in residential construction persisted in April,
as housing starts rose only modestly above the sluggish
pace of the previous month (see Chart III). A t 990,000
units in April, starts were 37 percent below the level of a
year earlier. However, there are signs that a modest up­
turn in housing construction may soon begin. Thus far
this year, housing starts have consistently been above last
December’s depressed level. Moreover, in April, newly
issued building permits jumped 27 percent above those
of M arch and were higher than at any time since last
August. Also, there is some evidence that the recently
passed tax credit for purchases of new homes built or
under construction before the end of M arch is cutting
into the inventory of unsold homes. The combination of
an increase in sales and a reduction in the number of
homes available for sale lowered the backlog to 10.6
months in March, well below the 11.7 months averaged
over the previous six months. On the other hand, m ort­
gage interest rates are still very high and, despite the
large volume of funds flowing into thrift institutions, the
cost of financing a new home is only slightly below what
it was one year ago. In coming months the behavior of
mortgage interest rates as well as the growth in real income
and changes in housing prices will be important in deter­
mining the strength of the housing recovery.
Retail sales advanced $647 million in April, after slump­

MONTHLY REVIEW, JUNE 1975

134

ing rather sharply in March. Of course, the dollar volume
of sales has been quite volatile in the past months, and
consumer spending in April was only a little above the
level of last July. Expenditures on durable goods rose
slightly during the month, but they were nevertheless
well below the average of the initial quarter of 1975. The
reason for this is that in January and February widespread
clearance sales and the automobile industry’s cash rebate
program boosted sales substantially. Over the entire first
quarter, domestic auto sales averaged 6.6 million units but,
upon the termination of the rebate program, sales slumped
to 5.7 million units in April. Although an improvement
was evident in May, auto sales were still running well
below the industry’s expectations. Spending on nondura­
bles increased by nearly $300 million in April to a level
8.5 percent above that of a year earlier.
PRICE DEVELOPM ENTS

Prices moved up irregularly in the past few months,
but further indications of an abatement in underlying
inflationary pressures were evident. At the retail level,
inflation accelerated in April largely because of a spurt
in food prices. Wholesale prices rose more slowly in May
than they had in the previous month, however, with the
advance in industrial commodity prices being about in
line with the moderate increases registered in previous
months.
Consumer prices jumped at a 7.1 percent seasonally
adjusted annual rate in April, nearly double the advance
of the previous month. Nevertheless, retail prices have
increased only 5.7 percent over the three-month period
ended in April, the mildest three-month advance since the
beginning of 1973. Food prices, which declined in each of
the two preceding months, reversed course in April and
rose at a 4.2 percent annual rate. At the same time, higher
prices for used cars and power and fuel paced a 9 percent
annual-rate advance in consumer nonfood commodity




prices. Although this was a bit higher than the advance
experienced over the first quarter of this year, it was less
than the 13.4 percent rise recorded in 1974. Finally, prices
of consumer services rose at a 6.6 percent annual rate in
April. This increase was about equal to the rise in the last
three months, and it was mainly attributable to higher
prices for transportation and medical care.
After jumping sharply in April, wholesale prices rose
at a 4.2 percent annual rate in May. These increases,
which reversed a decline that began last December, were
precipitated by large boosts in prices of farm products
and processed foods and feeds. The 7.3 percent annualrate advance in farm and food prices in May was led by
an increase in prices for livestock and poultry. Although
prices of meat and poultry are expected to continue rising
through the summer months, further large increases in
food prices may be tempered by the expectation of record
feed grain crops. While adverse weather conditions initially
delayed corn plantings, prospects still appear good for a
record crop. Furthermore, according to the latest D epart­
ment of Agriculture forecast, this year’s wheat crop is
expected to be even larger than last year’s record.
Meanwhile, wholesale prices of industrial commodities,
which are generally considered to be a more accurate
barometer of inflationary pressures, continued to climb
only modestly. In May, industrial wholesale prices edged
up at a 2.1 percent annual rate and, excluding power and
fuel, industrial commodity prices remained unchanged
over the last three months. To a large extent, this mod­
eration reflects the large decreases in prices of raw
materials that occurred earlier in the year. M ore recently,
spot prices of raw industrial commodities have started to
fall again so that there may well be a further abatement
in inflation. At later stages of fabrication, prices of inter­
mediate materials declined in May for the first time in
nearly two years, while the increase in consumer finished
goods prices remained below the advance of the last six
months.

135

FEDERAL RESERVE BANK OF NEW YORK

Th e Money and Bond Markets in May
The money and bond markets rallied for most of May
in the wake of the Treasury’s May 1 announcement that
higher than expected revenues in April had reduced its
borrowing needs through the end of June. Furtherm ore,
the view of market participants that the decline in the
Federal funds rate early in the month reflected Federal
Reserve desires bolstered the rally. Market sentiment was
also aided by the approval by the Board of Governors
of the Federal Reserve System of a reduction in the
discount rate from 6V 4 percent to 6 percent at all Federal
Reserve Banks. Short-term rates declined in response
to these developments as well as in response to continued
weakness in business demand for short-term credit and
a diminution in Treasury borrowing in the bill market.
Late in the month, however, the rally stalled in the ab­
sence of further declines in the Federal funds rate.
The long-term markets benefited early in the month
from the reductions in short-term rates, the modest
amount of new cash raised in the Treasury refunding op­
eration, and an announcement that a large amount of
maturing debt would not be refinanced by the Federal
Home Loan Bank (FHLB). Although rates rose some­
what in the second half of the period, they remained
below the levels reached at the end of April in the Gov­
ernment and corporate sectors. The municipal market
also displayed a firmer tone initially. However, with in­
vestor demand at a low ebb and New York City’s finan­
cial problems weighing on the market, yields moved up
sharply late in the month and closed above their end-ofApril levels.
According to preliminary estimates, the growth of both
M t— private demand deposits adjusted plus currency out­
side commercial banks— and M 2— which adds time de­
posits other than large-denomination negotiable certifi­
cates of deposit (CDs) to M 1— picked up substantially in
May, owing in part to the distribution of income tax re­
bates by the Treasury. In contrast, the volume of CDs
outstanding continued to fall, resulting in sluggish growth
in the credit proxy— total member bank deposits subject
to reserve requirements plus certain nondeposit sources




of funds. The money stock series were revised in May to
include the most recent call report data. The revision,
which reduced M x in April by about $1 billion, covers
the last half of 1974 and the first four months of this year.
Growth rates for most monetary aggregates over the first
months of this year were reduced slightly as a result of
the revision.
TH E MONEY M ARKET, BANK RESERVES, AND
TH E M O N ETA R Y

AGGREGATES

After leveling off for over a month, money market in­
terest rates declined in May, with particularly pronounced
declines in the first half of the month (see Chart I). The
effective rate on Federal funds averaged 5.22 percent in
May, 27 basis points below April’s average. Rates on
90- to 119-day dealer-placed commercial paper fell by
5A percentage point to the 53/s percent level at the month
end. Comparable declines occurred in other short-term
rates, as rates on three-m onth CDs in the secondary
market ended May at 5.40 to 5.60 percent and rates on
bankers’ acceptances were in the 5.05 to 5.75 percent
range at the end of May. After remaining constant for
about six weeks, the commercial bank prime lending rate
declined by Vi percentage point late in the month, with
most major banks quoting 7 V* percent and one bank
posting 7 percent. Early in June, the prime rate was low­
ered again to the 63A to 7 percent range.
Business demand for short-term credit, which is gener­
ally sluggish in May, displayed considerable weakness
during the month. Business loans at all weekly reporting
banks declined about $2.5 billion in the four statement
weeks in May, and the amount of nonfinancial commercial
paper outstanding fell by about $900 million over the same
period. The overall decline in the first five months of this
year in the combined total of business loans and nonfinan­
cial commercial paper was $8.1 billion, in contrast to
increases of $10.8 billion and $12.5 billion in the com­
parable periods of 1973 and 1974, respectively.
After slowing sharply in April, most monetary aggre-

MONTHLY REVIEW, JUNE 1975

136

Chart I

SELECTED INTEREST RATES
M arch-M ay 1975

Percent

M ONEY MARKET RATES

BOND MARKET RATES

Percent

Note: Data are shown for business days only.
M ONEY MARKET RATES QUOTED: Prime commercial loan rate at most major banks;
offering rates (quoted in terms of rate of discount) on 90- to 119-day prime commercial
paper quoted by three of the five dealers that report their rates, or the midpoint of
the range quoted if no consensus is available; the effective rate on Federal funds
(the rate most representative of the transactions executed); closing bid rates (quoted
in terms of rate of discount) on newest outstanding three-month Treasury bills.
BOND MARKET YIELDS QUOTED: Yields on new A aa-rated public utility bonds are based
on prices asked by underwriting syndicates, adjusted to make them equivalent to a

gates grew at rapid rates in May, according to prelim­
inary data. Mj. advanced at a 13.1 percent seasonally
adjusted annual rate from the average level in the four
statement weeks ended April 30 to its average over the
four weeks ended May 28. This rapid expansion raised the
growth rate of
in the four weeks ended May 28 from
its average level over the corresponding period thirteen
weeks earlier to 9.2 percent, the most rapid such advance
in almost two years (see Chart II). In contrast, growth in
M i over the latest 52-week span was only 4.4 percent. Time
deposits other than large CDs grew at a 14.8 percent
rate from the average level in the four weeks ended
April 30 to the average level in the four weeks ended




standard Aaa-rated bond of at least twenty years' maturity; daily averages of
yields on seasoned Aaa-rated corporate bonds; daily averages of yields on
long-term Government securities Ibonds due or callable in ten years or more)
and on Government securities due in three to five years, computed on the basis
of closing bid prices; Thursday averages of yields on twenty seasoned twentyyear tax-exempt bonds (carrying Moody's ratings of A aa, A a, A , and Baa).
Sources: Federal Reserve Bank of New York, Board of Governors of the Federal
Reserve System, Moody's Investors Service, Inc., and The Bond Buyer.

May 28, and thus the rate of growth of M 2 over this period
was 14.4 percent. Large banks continued to let their CDs
run off at a substantial pace in May, and consequently the
credit proxy grew only sluggishly over the same period.
There was little pressure on bank reserve positions in
May, and member bank borrowings from Federal Reserve
Banks averaged $64 million in the four weeks ended
May 28 (see Table I), down $38 million from the average
of the five statement weeks in April.
In May, the Federal Reserve Board revised its esti­
mates of the monetary aggregates for the period July 1974
to April 1975 to incorporate the data on nonmember bank
deposits obtained in the December 1974 call reports. De­

FEDERAL RESERVE BANK OF NEW YORK

mand deposits adjusted were revised downward, reducing
the growth of M x in the first four months of 1975 to a 2.8
percent seasonally adjusted annual rate (the rate had
been 4.1 percent before the revision). The other time
deposit component of M 2 was raised somewhat, however,
resulting in only slightly slower growth of M 2 than pre­
viously reported.

137

Table I
FACTORS TENDING TO INCREASE OR DECREASE
MEMBER BANK RESERVES, MAY 1975
In millions o f dollars; ( + ) denotes increase
and (—) decrease in excess reserves

Changes in daily averages—
week ended
May




May
14

7

TH E GOVERNMENT SECURITIES M ARKET

The United States Government securities market was
buoyant early in May after the Treasury’s announcement
that its borrowing needs over the M ay-June period would
be less than expected. With investor demand picking up,
yields on Government securities moved lower even though
the Treasury raised only slightly less new cash in May
(about $8.5 billion) than it had in April. Steady price
gains were registered through midmonth, buttressed by
both investor and professional demand. However, some
of these gains were retraced late in the month, when par­
ticipants concluded that Federal Reserve operations might
not provide much further stimulus to the downward move­
ment in rates. Participants noted the statement by Arthur
F. Burns, Chairman of the Federal Reserve Board, that
sufficient stimulation may have already been applied to
the economy.
Treasury bill rates generally declined in May. The
Treasury raised approximately $3.8 billion of new cash
in the bill market during the month, about $2 billion less
than in April. With bill rates falling in a favorable m ar­
ket climate, the first weekly bill auction attracted good
interest. The average issuing rates were set at 5.36 percent
for the three-month bill and 5.72 percent for the sixmonth bill (see Table II ) , about 36 and 43 basis points
lower, respectively, than the rates established at the last
auction in April. Bill rates continued to decline in re­
sponse to investor demand (including Federal Reserve
purchases for foreign customer accounts), and the aver­
age issuing rates for the bills at the second weekly auction
moved slightly lower in aggressive bidding. Although de­
mand for bills was reasonably strong late in the month,
rates leveled off as professional participants attempted to
trim rather large inventories. The average issuing rates at
the last two weekly auctions were about unchanged. For
the month as a whole, Treasury bill rates declined by
15 to 70 basis points.
The market for Treasury coupon securities rallied
sharply early in May in response to the smaller than
anticipated size of the May refunding operation and the
manageable size of each of the individual offerings. Yields
declined prior to the refunding operation, as investor

Net
changes

Factors
May
21

May
28

“ Market” factors
370

+ 401

—

114

4- 596

4-1.253

.............

— 1.095

- f 189

■— 383

— 66

— 1,355

Federal Reserve float ...................................

26

—

14

4-

421

— 397

—

16

+ 562

4-

478

4 - 480

4-

475

4-

99

Member bank required reserves .................. 4Operating transactions (subtotal)

Treasury operations*

...................................

Gold and foreign account ........................

— 1.045
47

+

Currency outside banks ...............................

—

45

+

19

160

— 545

—

923

4-

78

4- 21

— 1,607

Other Federal Reserve liab ilities
and capital .......................................................

89

+ 230

— 378

— 249

— 308

725

4 - 590

— 497

4- 530

— 102

4 - 967

— 905

+ 1 ,1 5 5

— 522

4-

4 - 526

4-

45

4 - 250

4-

4-

27

i—

2

4-

68

—

20

—

47

+

Total ''market” factors ...............................

Direct Federal Reserve credit
transactions
Open market operations (subtotal) ...........

695

Outright holdings:
Treasury securities

........................................ 4 -

Bankers’ acceptances ...................................

483
19

+

24

_

27

Federal agencv obligations ........................

4-1,304

Repurchase agreements:
8

— 972

4-1,015

__436

— 401

Bankers’ acceptances ...................................

+

234

— 162

—

43

— 147

—

118

Federal agency obligations ........................

+

266

— 321

4-

111

—_167

208

—

15

4-

104

__ 33

—

157

4
Seasonal borrowings-!" ...................................
+
i 143
Other Federal Reserve assetst ...................... "T

__

2

4-

4i-

4*

Treasury securities

........................................

Member bank borrowings ...............................

Total

....................................................................

Excess reserves^ ...............................................

— 77

— 654

2

111

4- 106

— 482

-f

902

— 997

4-

604

— 454

4-

55

i

177

— 407

4-

107

4 - 76

—

47

Monthly
averages!

D a ily average levels

Member bank:
Total reserves, including vault caslit . . . .

35,319

34,511

34,732

34,212

34,693

Required reserves

..............................................

34,934

34,533

34,647

34,051

34,541

...................................................

385

22

85

161

152

Total borrowings ................................................

33

18

122

84

64

Seasonal borrowings! ...................................

10

8

8

10

9

Nonborrowed reserves ........................................

35,280

34,493

34,610

3 4,12 S

34,629

N et carry-over, excess or deficit (— ) || . . .

94

240

81

11

107

Excess reserves

—

Note: Because of rounding, figures do not necessarily add to totals.
* Includes changes in Treasury currency and cash,
f Included in total member bank borrowings.
t Includes assets denom inated in foreign currencies.
§ Average for four weeks ended May 28, 1975.
|| Not reflected in data above.

138

MONTHLY REVIEW, JUNE 1975

demand strengthened and Government securities dealers
bought Treasury securities rather aggressively, in some
cases to cover short positions in maturities of over five
years. While a cautious view emerged as the bidding for
the $5 billion of refunding issues began, the three auc­
tions, which raised $1.2 billion in new cash, drew a good
response. In the refunding, $2.75 billion of 3^ -y e a r
notes was auctioned on Tuesday, May 6, at an average
yield of 7.70 percent, and a coupon of 7% percent subse­
quently was placed on the issue. The next day, $1.5 bil­
lion of seven-year notes was sold with an average yield
of 8 percent. At the final sale, $750 million of thirtyyear bonds was auctioned at an average yield of 8.30
percent, and an 8lA percent coupon was established on
the issue. These issues moved to a premium in trading
on a “when-issued” basis, and an auction of $2 billion
of two-year notes attracted strong interest the next week.
The two-year notes were sold at an average yield of 6.86
percent. Late in the month, however, the market devel­
oped a cautious stance in reaction to the potential for
strengthening credit demands implied by the sharp rise in
new orders for durable goods in April. Also, some partic­
ipants began to revise expectations of further Federal Re­
serve easing. The auction of $1.5 billion of seventeenmonth notes on May 22 did not attract as much interest
as expected, and the average issuing yield was 6.54 per­
cent. For the month as a whole, yields on intermediateterm issues moved 30 to 70 basis points lower, while
yields on longer term issues dropped by about 15 to 45
basis points.
Yields on Federal agency issues declined in May, re­
flecting the generally light new cash needs of the agencies
as well as the improvement in the Government securities
market. Sentiment was bolstered early in the month by
the announcement that the FHLB planned to redeem
nearly $1.3 billion of debt maturing late in May. Overall,
demands in this market during May were relatively light.
At midmonth, two Farm Credit Administration agencies
sold $1.3 billion of short-term securities which raised
only $12 million in new cash. In particular, the Banks
for Cooperatives sold $428.3 million of six-month bonds
priced to yield 5.80 percent, and the Federal Inter­
mediate Credit Banks sold nine-month bonds priced to
yield 6.15 percent. These rates were 35 and 45 basis
points lower, respectively, than on comparable issues
m arketed in April. On May 20, the Government National
M ortgage Association auctioned $275.7 million of modi­
fied pass-through securities which were priced to yield
8.55 percent on a corporate-bond-equivalent basis. Two
days later the Federal National Mortgage Association
priced three issues to refund $750 million of securities




and raise $600 million of new money: $400 million of
three-year debentures priced to yield 7.45 percent, $650
million of 4 Vi-year debentures priced to yield IV a per­
cent, and $300 million of 8 Vi-year debentures priced to
yield 8 percent. These issues sold quickly.
TH E OTHER SECURITIES M ARKETS

The corporate bond market, which had been marked
by a cautious and uncertain climate as April drew to a
close, rebounded sharply during the first half of May, and
yields on new issues declined from the highs reached in
April. Subsequently, the calendar became heavy and the
market sagged under the weight of the new offerings,
resulting in the postponement of at least one large offer­
ing at the month end. The municipal market also im­
proved modestly early in May but the improvement was

C h a r t II

CHANGES IN MONETARY AND CREDIT AGGREGATES
S e a s o n a l l y a d ju s t e d a n n u a l ra te s
Pe rcen t

Pe rcen t

15
Ml

\

\

1

F ro m 5 2
e a r lie r

\ J

10

wee^s

^

Fro m 13
w e e k s e a r lie r

1 1 1 11

1 1 1 1 II

1 1 1 .LI...

I I J. .1.1 j

1973
N o te: G ro w th rates a re co m p u te d on the b a s is o f fo u r-w e e k a v e r a g e s o f d a ily
fig u re s fo r p e rio d s e n d e d in the statem e nt w e e k p lo tted , 13 w e e k s e a rlie r an d
5 2 w e e k s e a rlie r. The la te st statem e nt w e e k plotted is M ay 2 8, 1975.
M l = C u rre n c y p lu s a d ju ste d d e m a n d d e p o sits h e ld by the p u b lic .
M 2 = M l p lu s c o m m e rc ia l b a n k s a v in g s a n d tim e d e p o sits h e ld b y the p u b lic , less
n e g o tia b le c e rtific a te s o f d e p o sit issu e d in d e n o m in a tio n s of $ 1 0 0 ,0 0 0 or m ore.
A d ju s t e d b a n k c re d it p r o x y = T o ta l m em ber b a n k d e p o s its s u b je c t to re se rve
re q u ire m e n ts p lus n o n d e p o sit s o u rc e s o f fu n d s, such as E u ro -d o lla r
b o rr o w in g s a n d the p ro ce e d s of co m m e rc ia l p a p e r issu e d b y b a n k h o ld in g
c o m p a n ie s or other a ffilia te s .
S o u rc e :

B o a rd o f G o v e rn o rs of the F e d e ra l R e se rv e S y ste m .

139

FEDERAL RESERVE RANK OF NEW YORK

restrained, in part because banks continued to find taxexempt income relatively unattractive. The Bond Buyer
index of twenty municipal bond yields declined early in
May and then rose to 7.09 percent on May 29, the highest
rate since last December.
The degree of improvement in the corporate bond m ar­
ket was highlighted by the yields attached to several
industrial offerings. Early in May, Texaco Incorporated
brought to market a $300 million issue of thirty-year
Aaa-rated debentures which were priced to yield 8.95
percent. Texaco had postponed this issue in early April,
when the issue had been expected to be sold with a yield
of about 9Vk percent. The rally extended to the middle
of the month, and an offering of $250 million of thirtyyear Aaa-rated debentures by Shell Oil Company was
priced to yield 8.82 percent. These gains were shared by
lower rated and shorter maturity issues as well. Also at
midmonth, Aluminum Company of America sold a $150
million issue of 25-year A-rated debentures priced to
yield 9.45 percent; early in April, comparable securities
were sold with yields in the 10 to 10V4 percent range.
In addition, Revlon, Incorporated, marketed $100 million
of A-rated ten-^ear notes which were priced to yield 8.45
percent, down from the highs of about 9 percent reached
in early April.
The new issue market for common and preferred
stocks received some renewed attention in May, especially
from utilities. The rebound in the stock market in general
and the improved financial outlook for some of these
companies have prompted them to reduce their depen­
dence on debt capital and to improve their equity posi­
tions. According to preliminary estimates, new common
and preferred stock financing amounted to roughly $900
million in May, in contrast to the monthly average of
about $500 million in 1974. In other equity market activ­
ity, American Telephone & Telegraph Company received
over $160 million when approximately 3.1 million war­
rants were exercised before their expiration on May 15.
The municipal bond market was buffeted by New York
City’s need to raise a total of about $1 billion in the MayJune period. At midmonth the city announced and then
subsequently canceled a planned sale of $280 million
of short- and long-term securities after consulting with
prospective underwriters. During the last week of the
month, New York State made an advance payment of




Table II
AVERAGE ISSUING RATES
AT REGULAR TREASURY BILL AUCTIONS*
In percent
W eekly auction dates— May 1975
M aturity
May
5
Three-month

............................................

May
12

May
19

May
23

5.356

5.182

5.115

5.206

5.724

5.481

5.412

5.469

M onthly auction dateis— M arch-M ay 1975

F ifty-tw o weeks .....................................

March
5

A p ril
2

A p ril
30

May
28

5.637

6.475

6.400

5.803

* Interest rates on bills are quoted in terms of a 360-day year, with the discounts from
par as the return on the face am ount of the bills payable at m aturity. Bond yield
equivalents, related to the amount actually invested, would be slightly higher.

$200 million to the city to help meet payments that were
due at the end of May.
The largest municipal offering of May, a $140 million
issue of Commonwealth of Pennsylvania bonds, sold well
early in the month. The securities, rated A -l by Moody’s
and Aa by Standard & Poor’s, were reoffered to yield
from 4 percent in 1975 to 7.15 percent in 1992-94. In
an improving atmosphere, the State of Michigan suc­
cessfully sold a $100 million issue rated Aa by M oody’s
and Aaa by Standard & Poor’s. The bonds were reoffered
to yield from 4.5 percent in 1978 to 5.85 percent in
1987, rates that were slightly below those on an Aaarated issue sold late in April and 25 to 35 basis points
below an Aa-rated issue sold at the end of April. The
May calendar became heavier as the month progressed,
and several issues sold slowly late in the month. The
State of Maryland sold $89.2 million of Aaa-rated bonds
originally priced to yield between 4.4 percent in 1978
and 5.9 percent in 1990, but price concessions were nec­
essary to move the bonds out of dealers’ inventories.
During the month the Blue List of dealers’ advertised
inventories rose by $152 million to finish May at $614
million.

MONTHLY REVIEW, JUNE 1975

140

Tre a su ry and Federal Reserve Foreign Exchange Operations
Interim Report
By

A

lan

R . H olm es

and

Scott E . P a r d ee*

orderly conditions, and during the last week of January
the Federal Reserve and the Bundesbank stiffened their
resistance to the further decline in dollar rates. By
January 31, the Federal Reserve’s swap debt incurred
in market operations since October 1974 had accu­
mulated to $412.5 million equivalent, of which $382.7
million was in German marks, $26.6 million in Swiss
francs, and $3.2 million in Dutch guilders.
Over the weekend of February 1-2, senior officials of
the Federal Reserve, the Bundesbank, and the Swiss N a­
tional Bank met in London to conclude details of a
coordinated, more forceful intervention approach. On
Monday, February 3, the Bundesbank and the Swiss N a­
tional Bank countered renewed selling pressure on the
dollar through sizable dollar purchases while several other
central banks joined in as buyers of dollars. The Federal
Reserve followed up in New York with large offerings of
marks, Swiss francs, Dutch guilders, and Belgian francs.
Drawing on the respective swap lines, the Federal Reserve
sold in two days a total of $139.4 million equivalent of
currencies: $74.4 million of marks, $28 million of Swiss
francs, $26.9 million of Dutch guilders, and $10 million
of Belgian francs. This concerted operation, and its con­
firmation by Chairman Burns and by officials of the
Bundesbank and the Swiss National Bank, prompted a re­
covery for the dollar of some 4 percent against the mark
and Swiss franc.
Subsequent events, however, served to reinforce the
bearish sentiment toward the dollar. During the first weeks
of February, the cut in Federal Reserve discount rates,
*
This interim report, covering the period February through subsequent reductions in prime rates, and release of sharply
April 1975, is the fifth of a series providing inform ation on Trea­
higher unemployment figures seemed to reconfirm market
sury and System foreign exchange operations to supplement the
expectations that the decline in United States interest rates
regular series o f semiannual reports appearing in this Review. Mr.
H olm es is the Executive Vice President in charge of the Foreign
would continue to outpace those of other countries. In
Function o f the Federal Reserve Bank o f N ew York and Manager,
fact, the easing of most money market rates in the United
System Open Market Account. Mr. Pardee is V ice President in the
Foreign Function and Deputy Manager for Foreign Operations of
States was more gradual in February than before and
the System Open Market Account. The Bank acts as agent for
in
line with the downturn of rates already emerging
both the Treasury and the Federal Reserve System in the conduct
in most European centers. Nevertheless, in the absence of
o f foreign exchange operations.

As previously reported, in late 1974-early 1975, the
exchange markets had been subject to an almost unremit­
ting diet of bearish news for the dollar, and market forces
drove dollar rates persistently lower. The economic down­
turn and the slide of interest rates in the United States
had reinforced expectations of a further widening of
interest differentials already adverse to the dollar. Gloomy
forecasts emerging in the debates over economic and
energy policies in Washington had further depressed the
market. With individual oil-producing countries reportedly
growing restive over the dollar’s depreciation, market fears
of an accelerated diversification of oil proceeds to other
currencies had intensified. In addition, reports that the
market might be left short of some continental European
currencies as a result of the failure of several financial
institutions last year had triggered further bidding for
foreign currencies. In this atmosphere, the market had
ignored favorable news for the dollar, such as the under­
lying improvement in the United States trade balance and
the slackening in our rate of inflation.
As the dollar rates fell, the Federal Reserve had inter­
vened in modest amounts on a day-to-day basis to cushion
the decline, while other major central banks also intervened
to buy dollars in their markets. But, with markets becom­
ing increasingly nervous and unsettled, a more forceful
intervention approach was clearly needed to avoid dis­




FEDERAL RESERVE BANK OF NEW YORK

strong domestic credit demand, United States banks con­
tinued substantially to increase their loans and reduce
their liabilities to foreigners. Moreover, market concern
over the possibility of large-scale diversification into con­
tinental European currencies was heightened by repeated
statements from OPEC (Organization of Petroleum Ex­
porting Countries) officials that they were seeking ways
to protect the value of their oil receipts from a further
decline in dollar rates.
Against this background, the dollar came under re­
newed and occasionally heavy selling pressure which per­
sisted through most of February and drove dollar rates
back to the late January lows and beyond. The Federal
Reserve, the Bundesbank, and the Swiss National Bank
remained prepared to intervene forcefully, as necessary,
to avoid the outbreak of disorderly conditions but without
holding exchange rates at any particular level. The Federal
Reserve intervened on ten of the fourteen business days
between February 5 and February 26, selling a total of
$278.2 million of German marks and $74.4 million of
Swiss francs, all drawn on the swap lines with the respec­
tive central banks. M arket pessimism was nevertheless so
entrenched that, when on February 27 the United States
released clearly improved trade figures for January, the
dollar failed to rise and the New York market was soon
flooded with speculative selling out of Europe. The Fed­
eral Reserve quickly countered with offerings of foreign
currencies, selling $56.7 million equivalent of marks,
$20.9 million equivalent of Swiss francs, $20 million
equivalent of guilders, and $6.6 million of Belgian francs,
all financed by drawings on the respective swap lines. This
operation was followed up with sustaining intervention
the next day, amounting to $23.7 million of German
marks drawn on the Bundesbank, and helped set the
stage for an improved market atmosphere beginning early
in March.
By then, interest rate differentials were shifting in favor
of the dollar, as the decline in United States interest rates
slackened further while interest rates elsewhere continued
to fall. In addition, reports of disagreements within OPEC
eased some of the immediate concerns in the market that
the group would collectively cut production or boost prices
further. Moreover, a number of statements by United
States officials emphasizing the fundamental strengths in
this country’s trade and payments position and rejecting
a “benign neglect” policy toward the dollar helped to
harden the m arket’s view that dollar exchange rates were
about to bottom out. The m arket’s pessimism began to
lift and dollar rates staged a tentative recovery. Meanwhile,
the Federal Reserve had acquired $102.3 million of
German marks from the Bank of Italy in connection




141

FEDERAL RESERVE SYSTEM DRAWINGS AND REPAYMENTS
UNDER RECIPROCAL CURRENCY ARRANGEMENTS
In millions o f dollars equivalent

Transactions with

National Bank o f Belgium .......

Drawings ( + ) or
System swap
repayments (— )
commitments,
February 1
January 31 ,1 975 through A p ril 30,
1975

261.8

German Federal Bank .............

382.7

Netherlands Bank ........................

3.2

{ + 16.7
1 - 16.7

H-491.7
I - 269.6
J + 49.0

j

-

0-

System swap
commitments,
A p ril 30 ,1 975

261.8
604.7
52.2

(+132.8

371.2

600.0

-0 -

600.0

1,645.4

(+690.2
1 -44 5 .7

1,889.9

Swiss National Bank ..................

397.8

Bank for International Settle­
ments (Swiss francs) .............

Total................................................

1-159.4

N ote: Discrepancies in totals are due to rounding.

with an Italian drawing on the International Monetary
Fund and repaid $25 million of swap debt with the
Bundesbank. Using the remainder of these marks, the
Federal Reserve continued to intervene to resist a back­
sliding in rates that threatened to undermine a more solid
recovery, selling in the first four days of March $63.3
million of marks from balances and $9.5 million of Swiss
francs financed by further swap drawings.
Thereafter, Federal Reserve intervention tapered off
sharply and was limited to resisting sudden sharp drops
in dollar rates that might rekindle more generalized selling
pressure. The System operated on only five of the twelve
business days between March 7 and M arch 24 to sell
$55.8 million of marks, of which $47.1 million was fi­
nanced by new swap drawings and the rest by balances.
The Federal Reserve discount rate cut announced on
March 7 had little exchange market impact, as it followed
official lending rate cuts in several European centers. As
time passed, the market became more resistant to un­
expectedly adverse developments. The news on March 25
of King Faisal’s assassination, for example, only tempo­
rarily unsettled the markets; although the Federal Reserve
offered several currencies that day to avoid an abrupt de­
cline in dollar rates, it sold only $2.1 million of Dutch
guilders before the dollar steadied.
By this time, the Federal Reserve had increased its
swap drawings by a net of $653.6 million to finance inter­
vention in February and March, bringing total market-

142

MONTHLY REVIEW, JUNE 1975

related indebtedness to a peak of $1,066.2 million. Of
this, $837.8 million was in marks, $159.4 million in Swiss
francs, $52.2 million in Dutch guilders, and $16.7 million
in Belgian francs. Nevertheless, with market conditions
becoming generally more settled, the Federal Reserve had
begun to make modest daily purchases of currencies needed
to repay that debt.
The dollar’s tentative recovery gradually gave way to a
more generalized advance that continued through most of
April, as market sentiment improved further and outstand­
ing short positions were covered. Underpinning the dollar’s
rise was mounting evidence of a basic improvement in
United States trade and price performance, highlighted by
news of successive record monthly trade surpluses in Feb­
ruary and March. Moreover, United States interest rates
leveled off, in anticipation of the United States Treasury’s
large borrowing needs in 1975, and the outflow of bank
funds slowed.
As the dollar strengthened, the Federal Reserve was
able to make progress in repaying swap debt. In late
March and April, the System acquired sufficient marks
both in the market here and abroad and directly from cor­
respondents to repay $244.6 million of swap drawings.
Moreover, the Federal Reserve purchased from the Swiss
National Bank the francs needed to repay $159.4 million
of swap drawings incurred since December 1974. The
System also purchased in the market the Belgian francs
needed to liquidate the $16.7 million of swap drawings
with the National Bank of Belgium incurred in February.
With the Dutch guilder at or near the upper limit of the
European “snake” arrangement, however, the Federal
Reserve refrained from purchasing guilders in the market.
Despite the dollar’s greater buoyancy, the markets re­
mained sensitive to potential diversification of OPEC
funds into continental European currencies not only out
of dollars but also out of sterling, which came under heavy
selling pressure on several occasions during the month.
When these concerns surfaced, the dollar occasionally
came on offer, but the Federal Reserve intervened only
four times— on April 8 and on three days between April 23
and April 29— to cushion sharp declines in dollar rates.
These sales, in marks only, amounted to $42.6 million
equivalent, of which $31 million was from balances and




the remainder drawn on the swap line with the Bundes­
bank. In each instance, however, the dollar soon resumed
its recovery. By the end of April, the dollar had ad­
vanced by 4 to 6 percent from its lows against the Ger­
man mark and Swiss franc and by similar amounts against
most major European currencies. On balance, the Fed­
eral Reserve reduced its outstanding swap debt incurred
since October 1974 by $409.2 million to $657 million
on April 30.
In summary, in exchange market intervention during
the three-month period, the Federal Reserve sold a total
of $793.2 million equivalent of foreign currencies. Of these,
$594.7 million equivalent was in German marks, $491.7
million financed by drawings under the swap arrange­
ment with the Bundesbank and the rest from balances.
The System acquired in the market and from central
bank correspondents sufficient mark balances to repay
$269.6 million of swap drawings, leaving $604.7 million
equivalent of mark debt outstanding on April 30. Inter­
vention in Swiss francs amounted to $132.8 million
equivalent all drawn on the swap line with the National
Bank and fully repaid, along with $26.6 million carried
over from December-January, by means of direct pur­
chases of francs from the National Bank. In guilders, the
System sold a further $49 million equivalent during the
period, raising its swap drawings to $52.2 million equiva­
lent. Finally, in Belgian francs, the $16.7 million equivalent
of swap drawings on the National Bank of Belgium to
finance exchange market intervention during the period was
fully repaid through acquisitions in the market. On April
30, in addition to the $657 million equivalent of swap debt
remaining from exchange market operations since October
1974, the Federal Reserve had $971.2 million equivalent
of Swiss franc and $261.8 million equivalent of Belgian
franc swap commitments outstanding since August 1971.
As described in the December 1974 and M arch 1975
reports, on September 26 of last year the Federal Reserve
Bank of New York acquired the $725 million equivalent
of forward exchange commitments of the Franklin N a­
tional Bank. During the three-month period under review,
the aggregate of outstanding forward contracts was further
reduced by somewhat over $300 million to only $10.5
million on April 30.