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T r e a su r y an d F e d e r a l R e s e r v e F o reig n E x c h a n g e O p e r a tio n s*
By C h arles A. C o o m bs

The shock effects on international financial markets of clear that no other major currency would follow.
the cut in the sterling parity from $2.80 to $2.40 on No­
As expected, however, the sterling devaluation triggered
vember 18, 1967 dramatically illustrated some of the rea­ heavy speculative buying on the London gold market and
sons why the British government, the Bank of England, and massive flows of funds across the exchanges. To deal with
monetary authorities throughout the world had fought for these problems, the governors of the central banks of Bel­
the previous three years to stave off such a devaluation of gium, Germany, Italy, the Netherlands, Switzerland, the
the pound. Without the strenuous effort made by the Labor United Kingdom, and the United States convened in Frank­
Government to defend the $2.80 parity by severe domestic furt on November 26, 1967. As noted in their subsequent
restraint programs, reinforced by foreign financial support, communique, they “took decisions on specific measures to
sterling might have collapsed in disorder long before, with ensure by coordinated action orderly conditions in the ex­
far more damaging repercussions on world trade and finance. change markets and to support the present pattern of ex­
As it was, the decision of the British government last change rates based on the fixed price of $35 per ounce
November to reinforce its program of shifting resources of gold”.
from domestic to export uses by a moderate devaluation of
In addition to continuing operations in the London gold
sterling was a deliberate, careful judgment based on pro­ market, the Frankfurt meeting approved a number of
spective balance-of-payments trends. The very choice of specific new measures designed to deal with the danger­
the new $2.40 parity, a rate cut which provided a fully ade­ ously heavy flows of funds into central bank reserves
quate stimulus to British overseas trade without simulta­ that had been set off by the sterling devaluation. These
neously forcing any other major currency into a competitive included agreement on a massive expansion of the Federal
depreciation, was in itself evidence of the remarkable Reserve swap network, from $5,030 million to $7,080
development of international financial cooperation in re­ million. Most of the increases in individual swap lines
were negotiated and announced within a few days’ time.
cent years.
Much advance thinking had, of course, been done on Thus strengthened, the Federal Reserve swap network
the damage-control measures that would be required in readily accommodated sizable additional drawings by the
the event of a devaluation of sterling, and there was an Federal Reserve in order to absorb flows of “hot” money
immediate closing of the ranks among the major industrial into the reserves of member central banks in the network.
countries. By the end of the first week after the devaluation By late December 1967, such Federal Reserve drawings had
of sterling, a series of official announcements had made it risen to a record level of $1,791 million, of which $650
million was in Swiss francs drawn from the Swiss National
Bank and the Bank for International Settlements (BIS),
$500 million was in Italian lire, $350 million in German
marks, $170 million in Dutch guilders, and $121 million in
* This report, covering the period October 1967 to March 1968, Belgian francs. These drawings were made in the expecta­
is the twelfth in a series of reports by the Vice President in charge
of the Foreign function of the Federal Reserve Bank of New York tion that much of the heavy flow of funds to continental
and Special Manager, System Open Market Account. The Bank European central banks would be reversed, as the shock
acts as agent for both the Treasury and Federal Reserve System in
effects of the British devaluation began to wear off and
the conduct of foreign exchange operations.


the United States took measures to protect the dollar.
On January 1, President Johnson announced a drastic
program to improve the United States payments balance.
Reflows of funds out of continental European currencies
subsequently developed in heavy volume, enabling the
United States authorities to make very sizable paydowns
on their short-term commitments. In addition to such re­
flows, the United States Treasury drew $200 million of
continental European currencies from the International
Monetary Fund (IMF) and issued $166 million of foreign
currency securities. As a result, by early March the debt to
foreign central banks incurred by the Federal Reserve had
been reduced by $1,234 million to a currently outstanding
level of $557 million. As noted in Table I, Federal Reserve
swap commitments outstanding as of March 8 consisted
of $325 million in Italian lire, $132 million in Swiss francs,
$65 million in Dutch guilders, and $34.5 million in Belgian
Among the increases in the Federal Reserve swap net­
work announced shortly after the British devaluation was
a rise in the swap line with the Bank of England from

Table I


Amount of
March 8,

Federal Reserve commitments
September 1, December 27,
March 8,
I 1968

of dollars
A ustrian N atio n al B an k ..............
N atio n al B ank of B elgium ..........


B ank o f C an a d a .............................


N atio n al B ank of D e n m a r k ......

Millions of dollars equivalent


B ank of E n g lan d............................
B ank o f F ra n c e .............................


B ank of I t a l y .................................


B ank of J a p a n ................................
B ank of M e x ic o .............................
N etherlands B an k ..........................




B ank of N orw ay............................



G erm an F ed eral B an k .................








B ank of Sw eden.............................


Swiss N ational B an k ................... 1












Bank for In tern atio n al
Settlem ents:
Swiss fr a n c s /d o lla rs ................
A uthorized E u ropean
c u rre n c ie s/d o lla rs ...................
T o ta l......................................... 1



* P eak com m itm ent of $150 m illion reached on N ovem ber 13, 1967.
Peak com m itm ent of $185 m illion reached on Jan u ary 4, 1968.



$1,350 million to $1,500 million. In addition to this $150
million increase in the Federal Reserve credit line, new
facilities totaling over $1,350 million were also secured
by the Bank of England from the United States Treasury
and various foreign central banks. Such reinforcement of
the defenses of the new sterling parity was deemed desirable
in view of the heavy Bank of England recourse to the Fed­
eral Reserve and other credit lines (including temporary
accommodation from time to time by the United States
Treasury) to cope with reserve drains prior to devaluation.
In the case of the Federal Reserve swap line, sizable Bank
of England drawings had been necessary from the Middle
East war until the final speculative onslaught on the Friday
preceding devaluation. During this period, the entire
$1,350 million then available was used, with a large drawing
on the last day of the $2.80 parity. Since then, the Bank
of England has repaid $300 million, thus leaving available
$450 million under the Federal Reserve swap line. There
were no other foreign central bank drawings on the Federal
Reserve swap network during the period under review ex­
cept for a $250 million drawing made by the Bank of Can­
ada at the end of January in order to offset the effects of
speculation primarily engendered by the announcement
on January 1 of the United States balance-of-payments
Other major developments during the period under
review included sizable operations in the forward markets
by the German Federal Bank, the Swiss National Bank,
the Netherlands Bank, and the National Bank of Belgium,
in a number of instances acting on behalf of the Federal
Reserve and United States Treasury. In fact, one of the
major decisions at the Frankfurt meeting was a coordinated
launching of central bank operations in the forward market,
specifically designed to induce reflows into the Euro-dollar
market of hot money which had gone into continental
European financial markets in the wake of the sterling de­
valuation. During November and December, such forward
operations by the German Federal Bank rose to a total
of $850 million, while similar forward operations by the
central banks of Switzerland, the Netherlands, and Belgium,
on behalf of the Federal Reserve System and the United
States Treasury, not only helped to arrest speculative in­
flows to these markets, but also provided cover for roughly
$115 million of placements abroad.
Even as the rush of speculative capital flows was sub­
siding, however, the approach of the year-end windowdressing period produced new, heavy inflows of short-term
funds to continental European markets. As in previous
years, however, a joint central bank effort was undertaken
to maintain orderly conditions in the Euro-dollar market by
rechanneling such funds back to the market. Reinforcing



Table II
M illions o f dollars equivalent
Issues or redemptions (—)
Issued to

outstanding on
December 31, 1966

January 1March S, 1968

Austrian N ational Bank ......................................



National Bank of Belgium ..................................








- 30.2

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


Bank o f Italy ............................................................


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




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






Bank for International Settlem ents*................




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

outstanding on
March 8 ,1968
















Note: Discrepancies in amounts are due to valuation adjustments, refundings, and rounding.
* Denominated in Swiss francs.

these efforts by the European central banks to avoid undue
year-end pressure in the Euro-dollar market, the BIS, at
the suggestion of the Federal Reserve, drew dollars on its
swap line with the System for placement in the market. By
the year-end, BIS drawings stood at $346 million. In re­
sponse to such smoothing operations, the Euro-dollar mar­
ket continued to function efficiently, with no more than a
normal seasonal rise in rates. In the aggregate, such central
bank operations designed to avert potentially disruptive
strains in the Euro-dollar market during the devaluation
and pre-year-end period totaled approximately $1.4 billion.
By March 8, the Federal Reserve and the Treasury had re­
duced their forward currency liabilities in connection with
these various operations from $115 million to $60.4 million
During the period under review, the Treasury increased
its foreign-currency securities indebtedness by $476.0
million, to $1,489.8 million equivalent (see Table II).
In order to fund some of the short-term Treasury and Sys­
tem commitments, the Treasury sold a two-year $60.4 mil­
lion note to the National Bank of Belgium, a twelve-month
$65.7 million certificate of indebtedness to the Netherlands
Bank, and a fifteen-month $100 million note to the Swiss
National Bank. The Treasury used most of the Dutch
guilders to help meet special swap commitments with the
Netherlands Bank, maturing in January, and sold the Bel­
gian franc, Swiss franc, and the residual Dutch guilder
proceeds to the System for System liquidations of swap
commitments in those currencies between November and

March. In addition, the Treasury issued to the German
Federal Bank the second and third of four scheduled 4Viyear $125 million notes denominated in German marks.
These notes have been issued quarterly since last July to
the German Federal Bank in conjunction with the agree­
ment between the United States and German governments
regarding the offsetting of $500 million of United States
military expenditures in Germany.
Apart from the issuance of foreign currency securities,
the United States acquired certain Continental cur­
rencies in connection with drawings on the IMF. When
Canada drew $426 million equivalent of convertible cur­
rencies from the IMF in late February, arrangements were
made among the respective Canadian, American, and Euro­
pean authorities so that the German marks, Italian lire,
Belgian francs, and Dutch guilders (together the equiva­
lent of $150 million) in the package could be employed to
reduce United States official foreign currency commitments.
On March 8, the United States Treasury itself drew $200
million of continental European currencies from the IMF,
and the balances so acquired were used to make further
liquidations of existing commitments.

During the first quarter of 1967, sterling staged a strong
recovery from the speculative onslaught suffered during the
summer of 1966. Unexpectedly good balance-of-payments
figures for the fourth quarter of 1966 encouraged hopes


that the progressive curbing of inflationary pressure during
the preceding two years might finally enable the Labor
Government to close the payments deficit. The London
money market regained a competitive edge in attracting
international short-term funds as credit conditions in for­
eign financial centers eased considerably. Spurred by these
favorable developments on both trade and capital account,
a surge of short covering heavily swelled market demand
for sterling, and the Bank of England made exceptional
reserve gains. By the end of March, the exchange inflow
had enabled the Bank of England to liquidate completely
$1.3 billion of international credits previously received
from the Federal Reserve and other foreign financial
authorities, while remaining central bank credits linked
specifically to changes in sterling overseas balances were
paid off early in the second quarter.
After this auspicious beginning, unfortunately, the tide
began to swing against sterling with gradually cumulative
force. Shortly after the announcement on May 4 of the
third cut in the bank rate since the beginning of the year,
from 6 per cent to 5 Vi per cent, Euro-dollar rates began
to firm and covered interest rate comparisons which had
tended to favor London earlier in the year started to turn
adverse. Even more disturbing were indications that Brit­
ain’s foreign trade account was lapsing into new diffi­
culties. The announcement on May 11 that the British
trade deficit had jumped from $36 million in March to
$115 million in April was followed a few days later by
President de Gaulle’s sharply negative comments at a
press conference on Britain’s application to join the Com­
mon Market. By mid-May these and other adverse devel­
opments had eroded the earlier recovery of confidence and
brought the influx of exchange to a standstill.
In this vulnerable situation, new heavy burdens were
suddenly thrust upon sterling by the Middle East war
that flared up in the week of June 4. On June 1, market
expectations of an imminent outbreak of hostilities in the
Middle East sparked a burst of selling of sterling. Such
apprehension of war affected sterling not only directly but
also indirectly through the Euro-dollar market, where pre­
cautionary withdrawals of funds and the usual pressures
associated with midyear window dressing combined to cre­
ate a sudden squeeze and a sharp hike in rates. These dual
pressures were immediately met by a coordinated central
bank response in both the exchange and Euro-currency
markets. On June 1 the United States authorities, in con­
sultation with the Bank of England, purchased a total of
$92.9 million of sterling in the New York market on a
swap basis, buying spot against forward sales. That same
day the BIS began placing in the Euro-dollar market new
dollar funds drawn under its swap arrangement with the


Federal Reserve. (See section on Euro-dollar market for
details.) As war broke out, the United States authorities
temporarily took another $20 million of sterling out of
private hands through additional swap purchases in New
York. With the cessation of actual hostilities, covering
by the market of short positions in sterling boosted the
spot rate from a low of $2.7900 on June 6 to $2.7932
on June 7 while permitting the Bank of England to recoup
its losses of the preceding few days.
As the month progressed, however, market anxieties
were aggravated by rumors of major withdrawals of ster­
ling by Arab countries. In the latter part of June, reports
of shifts of Arab-held sterling balances to Paris triggered
heavy selling of sterling, and the Bank of England ex­
tended substantial support in holding the rate at just under
$2.7900. The market had also become concerned over the
probable adverse consequences for the British balance of
payments of the Suez Canal closure, and the announce­
ment at midmonth of disappointing trade figures for May
created still more apprehension. Finally, the pull of foreign
interest rates, particularly during a brief squeeze in the
Euro-dollar market at the end of June, exerted further
pressure. To cushion the reserve impact of these develop­
ments, the Bank of England drew $225 million during
June under its $1,350 million swap arrangement with
the Federal Reserve.
This swap drawing enabled the Bank of England to cut
its June reserve loss to $120.4 million, but announcement
of this figure early in July nevertheless confirmed to the
market that sterling had once more come under pressure.
During the month, outflows of short-term funds continued
for reasons of confidence and for higher yields abroad. At
midmonth, announcement of a further widening of the trade
deficit in June touched off heavy sales of sterling, and by the
end of July the spot rate had declined to $2.7858.
The mid-August announcement of a sharp swing in the
United Kingdom trade balance in July—to a small sur­
plus from a large deficit the month before—provided a
brief respite from the continuing pressures on the pound.
Moreover, market concern over the risk of a breakdown
in intergovernmental discussions of international liquidity
was relieved after it was announced on August 26 that
an agreement along general lines had been reached by the
Group of Ten, and that a plan to strengthen the interna­
tional monetary system would be ready for submission to
the IMF at its annual meeting in September. Nevertheless,
short-term outflows persisted on balance, and the Bank of
England drew a further $425 million on the Federal Re­
serve during the third quarter, bringing its commitments
under the swap line to $650 million.
The rearguard action being fought by Bank of England



officials in the exchange markets became progressively more
difficult and costly in October and November. In midOctober, it was reported that Britain’s September trade bal­
ance had deteriorated sharply to a deficit of $146 million,
the largest in fifteen months. As expected, the Suez Canal
closing had raised the cost of fuel oil imports, but the trade
figures also appeared to indicate a weakening trend in ex­
ports. The outbreak in late September of a strike on the
Liverpool docks, which subsequently spread to London,
raised justifiable fears that exports might show even sharper
declines in October, and market confidence in sterling de­
teriorated sharply. Even more important, the unremitting
selling pressure on sterling since the Middle East war had
fanned into lively debate long-smoldering doubts held by
many responsible publications and private individuals, both
in the United Kingdom and abroad, as to whether the $2.80
parity was economically viable. In this debate, the basic
government policy of seeking to shift domestic resources
into exports by restraining domestic demand came increas­
ingly under attack. In the eyes of the market, the lagging
recovery of exports, the rise in unemployment, and the
decision of the British government to ease instalment
credit controls in late August increasingly suggested that
a policy impasse had been reached.
These market fears were translated into a heavy wave
of selling of sterling, in both the spot and forward mar­
kets, during the first two weeks in October. Despite heavy
intervention by the Bank of England, the sterling rate
by October 12 had dropped to $2.7824. In an effort to
reassert official determination to hold the parity and to
reduce the still-continuing covered incentive in favor
of the Euro-dollar market, the Bank of England raised
its discount rate by Vi percentage point to 6 per cent on
October 19. The British rate action was immediately
supported by the BIS which, in agreement with the Federal
Reserve, made placements of funds in the Euro-dollar
market by drawing on its swap facility with the System,
in an effort to prevent a rise in Euro-dollar rates from off­
setting rate increases on sterling money market instruments.
But market reaction was one of disappointment that the
British bank rate had not been raised a full percentage point,
and heavy sales of sterling resumed, requiring very sizable
intervention by the Bank of England in both the spot and
forward markets that same day. In an effort to stabilize ster­
ling quotations in New York, the United States Treasury
initiated purchases of sterling at rates just under $2.7830.
These operations, eventually involving total purchases of
$47.1 million equivalent, continued through Monday, Oc­
tober 23, and seemed to help calm the market somewhat
during the final week of October.
The announcement on November 2 of a $75.6 million

reserve gain for October, after taking credit for a loan of
$103 million equivalent from Swiss commercial banks,
was brushed aside by a market which had become in­
creasingly persuaded that a devaluation of sterling was
imminent. Sales of sterling in pre-weekend trading were
heavy, and on November 9 the Bank of England, for the
second time in three weeks, raised its discount rate by an­
other Vi percentage point to 6 V2 per cent. Once again the
BIS backed up this move with operations in the Euro­
dollar market by additional drawings on the Federal Re­
serve swap line.
The announcement on November 14 that the trade
deficit in October had jumped to $300 million equivalent,
the largest ever recorded, dramatized the disastrous effects
of the dock strike and very nearly extinguished any remain­
ing hopes in the market that the $2.80 parity could be held.
At this critical juncture, however, rumors began to circulate
that negotiations were in progress for sizable new inter­
national credits to tide the United Kingdom over its dif­
ficulties once more. If a new credit package had in fact
materialized, the grossly oversold position of sterling might
have led to massive short covering such as had occurred
in late 1965 and again in early 1967. Accordingly, traders
began to hedge their exposed positions in sterling, and on
Thursday, November 16, short covering pushed the sterling
rate to $2.7848. That afternoon in London, however,
Chancellor Callaghan refused in Parliament to confirm or
deny that such negotiations were in progress. Financial mar­
kets throughout the world immediately concluded that the
last hope of a turnaround in the sterling situation had dis­
appeared. On the next day, Friday, the market was inun­
dated by offers of sterling in the expectation that a decision
to devalue that weekend had already been taken. To help
meet the avalanche of offerings of sterling, the Bank of
England, which had already made further use of the Federal
Reserve swap line, drew the remainder available under this
arrangement, bringing the total amount outstanding to
$1,350 million.
On Saturday, November 18, Chancellor Callaghan an­
nounced the British government’s decision to devalue the
pound by 14.3 per cent to $2.40. In order to stiffen the
defense of the new parity, the Bank of England raised its
discount rate to 8 per cent per annum (the highest level
in fifty-three years) and redirected bank credit toward
exports, while the government announced curbs on con­
sumer instalment credit and programmed cuts in govern­
ment spending and an increase in the corporation tax. The
Prime Minister set as the target of his government’s policy
a major improvement in the country’s balance of payments
designed to bring the external accounts into substantial
surplus by the second half of 1968. A $1.4 billion standby


agreement with the IMF was formally requested. In addi­
tion, the British government reported that negotiations for
an additional $1.5 billion of central bank credits were in
When markets in London reopened on Tuesday, Novem­
ber 21, after a special bank holiday on Monday, trading
was hectic as banks and commercial interests scrambled
to purchase or borrow sterling to meet immediate- and
near-term requirements, including maturing forward sales
undertaken earlier. The demand for pounds pushed ster­
ling firmly against its new upper limit ($2.4200), and the
Bank of England made large dollar gains. Such abnor­
mally heavy demand for sterling to meet immediate cash
commitments soon faded, but the Bank of England contin­
ued to buy dollars on a moderate scale.
As in earlier periods of recovery the Bank of England
used its gains to reduce short-term debts, repaying $300
million to the Federal Reserve. Bank of England commit­
ments under the $1,350 million credit line, which had
been fully utilized to help meet pressures prior to devalu­
ation, were thereby reduced by the end of November to
$1,050 million. On November 30 the reciprocal currency
arrangement with the Bank of England was increased to
$1.5 billion, along with the other increases in the System’s
swap network.
Market atmosphere changed abruptly in early Decem­
ber—in view of a British railway labor dispute and higher
United States interest rates— and the spot rate for sterling
declined sharply. The market took no special notice of the
announcement of a $127.2 million reserve gain during No­
vember, reflecting incorporation into the reserves of the
$490 million remainder of the United Kingdom dollar port­
folio. (In November, the authorities also announced that
the $250 million debt repayment falling due on Britain’s
1964 IMF drawing had been repaid, with the reserve impact
offset by a new credit from central banks and the United
States Treasury.)
Despite subsequent mediation of the railway difficulties,
the market remained uneasy, and by December 7 the spot
rate had moved below $2.4100. Prior to the Christmas holi­
days, however, the market quieted and sterling took on a
firmer tone. After the long Christmas holiday, there were re­
ports that the British government was planning sizable cuts
in welfare and defense-spending programs to backstop its
devaluation package, with details scheduled for release in
mid-January 1968. These cuts were duly announced on Jan­
uary 16, and although their major impact was not to take
effect until 1969-70, as Britain would phase out its military
operations east of Suez, a significant reduction in pro­
grammed spending—by some .£300 million—was sched­
uled for this year. The trade figures for both December and


January showed major improvements over the pre­
devaluation deficits while export orders were reported to be
on an encouraging uptrend. Toward the end of January
the sterling rate moved firmly above $2.4100, and during
that month and February there was a steady demand for
sterling that enabled the Bank of England to liquidate a
large volume of maturing forward commitments.
Reviewing the sterling devaluation and its aftermath in
an address to the Overseas Bankers Club in early February,
Governor O’Brien of the Bank of England noted:
Those who so readily advocated devaluation before
we had made any attempt to apply other correctives
had scant regard for our obligations abroad, for the
risks entailed for ourselves and others, and for the
harsh medicine which must be taken to make devalu­
ation work. All these things are now being made
abundantly clear. Those who thought devaluation
was a soft alternative to strict internal policies have
been disabused.

The Swiss National Bank’s dollar holdings rose sharply
in May and early June, as funds poured into Switzerland
prior to and during the crisis in the Middle East. In order
to absorb these heavy inflows, and further moderate gains
by the National Bank near the end of June, the Federal
Reserve took on commitments of $390 million under its
Swiss franc swap facilities— $190 million from the Swiss
National Bank and $200 million from the BIS—out of
credit facilities then totaling $400 million.
The heavy inflows to Switzerland left Swiss commer­
cial banks in a highly liquid position, and after midyear
there was an easing in Swiss interest rates. To reinforce
this trend, the National Bank reduced its discount rate
from 3 V2 per cent to 3 per cent on July 10. Although
there was some immediate outflow of funds from Switzer­
land, there were no sizable offerings of Swiss francs as
the exchange market atmosphere remained highly un­
certain. Under the circumstances, with the System’s Swiss
franc lines almost fully utilized, it was agreed in mid-July
that these swap facilities with the National Bank and the
BIS should each be expanded by $50 million to $250
million. By the end of July, the only repayment made on
the System’s Swiss franc swap drawings was $10 million
equivalent acquired by the Federal Reserve as a result of
Swiss official needs for dollars; thus, outstanding commit­
ments stood at $380 million equivalent.
As the exchanges settled down in August, there was
some further shifting of funds out of Switzerland into the



Euro-dollar market, and by late August the rate for the
franc had eased considerably. Short-term outflows from
Switzerland continued through early November and kept
the spot Swiss franc close to the low for 1967 ($0.2301Vi)
reached on September 12. Although the Swiss National
Bank did not have to supply any dollars to the market
during this period, the Federal Reserve was able to make
some progress in liquidating its Swiss franc swap commit­
ments, as a substantial amount of dollars was required by
Swiss official agencies during the fall. In order to replenish
dollar balances sold to the Swiss Government, the National
Bank purchased a total of $57 million from the Federal Re­
serve. The System used the francs so acquired to reduce its
outstanding swap commitments to the Swiss National Bank
to $123 million by mid-November.
The growing pressures on sterling in early November
were quickly reflected in an increase in the rate for spot
francs. In addition, the Swiss money market was tightened
by the payment of the $103 million equivalent Swiss franc
loan granted to the United Kingdom government by three
large Swiss commercial banks. With continuing interna­
tional uncertainties and the approach of the year-end, the
franc rate advanced further. Despite the turbulence in the
exchanges in connection with the devaluation of the pound
on November 18, the Swiss National Bank purchased only
a small amount of dollars in market intervention dur­
ing the rest of the month. As a consequence of unrest in
the exchange market, however, the premium on the forward
Swiss franc then widened, and following the Frankfurt
meeting of Gold Pool members the Swiss National Bank, as
part of the general cooperative effort, indicated to the mar­
ket its willingness to sell forward francs on behalf of the
United States authorities. This move helped restore a calmer
atmosphere and the premium on three-month forward Swiss
francs dropped substantially below 2 per cent per annum,
the premium prevailing just before the Swiss National
Bank’s offer to sell forward francs.
In November, the System purchased from the Bank of
England $80.1 million equivalent of the Swiss franc pro­
ceeds of the one-year loan by Swiss commercial banks.
(The United States Treasury also purchased $14.3 mil­
lion equivalent of the loan proceeds and used the francs
to pay off the remainder of an earlier sterling-Swiss franc
swap with the BIS.) The System used the francs, together
with a small amount in balances and $4 million equivalent
purchased from the National Bank in connection with
Swiss government needs, to reduce swap drawings from
the BIS to $115 million by November 30. By the end of
that month, total Federal Reserve commitments under its
Swiss franc swap lines were thus reduced to $238 million.
Heavy inflows to Switzerland resumed on December

1, and during the first half of the month the Swiss Na­
tional Bank purchased about $350 million as the Swiss
financial community prepared for its year-end liquidity
needs. In past years these inflows had been accommodated
on a swap basis by the National Bank, but in view of the
tense international monetary situation the Swiss banks
were reluctant to enter into such swap transactions. In­
deed, not only was the spot franc in demand but the pre­
mium on the forward franc again widened, especially dur­
ing the midmonth flare-up in the gold market. To deal
with this pressure, on December 14 the Swiss National
Bank initiated forward sales of Swiss francs jointly for
Federal Reserve and United States Treasury accounts. A
total of $65.5 million equivalent of forward francs was
sold by December 19, before the market responded to this
evidence of official reassurance and the demand for both
spot and forward francs eased. Thereafter, a more normal
trading pattern emerged, and Swiss commercial banks
began to make use of the usual year-end swap facilities
offered by the National Bank to obtain additional Swiss
franc liquidity.
In order to increase its capacity to deal with the heavy
inflows to the Swiss National Bank, the Federal Reserve,
after discussions with the Swiss National Bank and the
BIS, increased its Swiss franc swap facilities by $150 mil­
lion equivalent each on December 15, bringing each credit
line to $400 million. The Federal Reserve subsequently
drew $127 million on the Swiss National Bank, raising
Swiss franc commitments to that institution to $250 million
equivalent. The System also drew $285 million on the BIS,
thus fully utilizing that $400 million Swiss franc credit line.
After the turn of the year, and following the President’s
balance-of-payments message on New Year’s Day, there
was a sharp reversal in the market as Swiss commercial
banks moved to rebuild their dollar investments. By midJanuary outflows from Switzerland had become quite large.
The spot rate dropped sharply, and the National Bank ex­
tended sizable support in the spot market. The bank covered
its losses from exchange market intervention by purchasing
dollars from the Federal Reserve, which used the Swiss
francs, together with moderate amounts purchased in the
market and obtained in special transactions, to reduce its
swap obligations in Swiss francs by $343 million. Moreover,
early in March the Federal Reserve was able to pay off an
additional $175 million of its drawings on the BIS and the
Swiss National Bank through Treasury issuance of a $100
million equivalent Swiss franc security and the purchase
of $75 million equivalent of Swiss francs from the Swiss
National Bank. The Swiss National Bank simultaneously
purchased $25 million of gold from the United States Trea­
sury. These transactions brought the System’s outstanding


Swiss franc commitments to $132 million, a reduction of
$518 million from the peak at the end of 1967.
In addition, the United States authorities were able to pay
off at maturity the first $10 million of forward sales of Swiss
francs concluded by the Swiss National Bank for the
accounts of the System and the United States Treasury
late in 1967, leaving $55.5 million still outstanding, di­
vided evenly between System and Treasury accounts.

Germany’s international position maintained in the
second half of 1967 the strength that had characterized
the first six months of the year. With relatively slack do­
mestic demand continuing through most of the year, the
trade account remained in surplus, and for the year as
a whole the current-account surplus reached $2.4 bil­
lion. Had the foreign exchange earned as a result of this
surplus flowed into official reserves rather than remaining
in private hands, the stresses in the international credit
markets and the exchanges during the summer and fall
months would have been immeasurably greater. The huge
surplus was not permitted to put pressure on international
financial markets, however, as the German authorities
acted throughout the year to avoid any massive increase
in official reserves. By maintaining an easy monetary pol­
icy, the German Federal Bank not only stimulated the
regeneration of domestic economic growth during the latter
part of the year but also facilitated very large outflows of
capital, both long- and short-term funds, into the Euro­
dollar and other markets.
During the early fall months, Euro-dollar rates firmed
up, and there was some refinancing in German marks of
maturing Euro-dollar credits. But the principal result of
easier monetary conditions in Germany continued to be
further placements of funds abroad by commercial banks.
As a result, the spot mark traded narrowly just below par
through October. The Federal Reserve took advantage of
occasional offers of spot marks in New York to build up
balances, and between August and early November pur­
chased $20.1 million equivalent of marks.
On November 3, the growing uneasiness in the sterling
market and a tightening in the German money market
were reflected in repatriation of funds by German interests
and a consequent sharp strengthening in the spot quotation
for marks. The demand for marks intensified on Novem­
ber 7, as growing speculation in the gold and exchange
markets spawned wide-ranging rumors of imminent
changes in currency arrangements, including an upward
revaluation of the mark. In the ensuing heavy buying of
marks the German Federal Bank purchased a total of $57


million as the spot rate advanced to $0.2512^. A flat
denial by the German authorities of any intention to revalue
led some speculators to cover their positions, and the spot
mark eased slightly.
This burst of demand for marks had no sooner died
down than another wave of buying developed, partly
reflecting the massive selling of sterling on Friday, Novem­
ber 17. The heavy demand was repeated the following Fri­
day, when the intense pressures in the London gold market
led to further precautionary repatriations of German funds
from abroad. During this period the German Federal Bank
took in nearly $300 million. The market atmosphere
changed abruptly, however, when on November 26 the
active members of the Gold Pool met in Frankfurt and
pledged concerted support of the existing exchange parities
based on the $35 gold price. As part of the coordinated
central bank effort to calm the exchange markets follow­
ing the Frankfurt meeting, the German Federal Bank acted
to return dollars to the market on a swap basis in trans­
actions with German commercial banks, selling dollars
spot against repurchase at a later date. These operations
relieved the developing stringency in the Euro-dollar mar­
ket resulting from the earlier heavy withdrawals of funds
and helped cut the covered incentive to move additional
funds out of dollars as a result of the wide premiums then
being quoted on the forward mark (nearly 3 per cent per
annum for three-month maturity, by November 24). Ini­
tially, the swap facilities were offered to the German com­
mercial banks at rates representing a premium on the
forward mark of 1% per cent per annum; this rate pro­
vided an incentive of close to 1 per cent per annum to
switch funds into Euro-dollar investments. By November
30, about $600 million had been shifted from official
reserves to private holders at premiums on the mark
ranging up to 2Va per cent. Euro-dollar rates responded
immediately by moving sharply lower. The Federal Re­
serve participated in this operation by drawing $300
million equivalent of German marks on its swap line with
the German Federal Bank, to this extent providing cover
for part of the dollars purchased forward by that bank.
Apart from these operations, at the end of November
the Federal Reserve drew $50 million equivalent of marks
under the swap line and held the marks for possible direct
market intervention related to prevailing uncertainties and
expected year-end pressures. (On November 30, as part
of a general strengthening of the swap network, the swap
facility with the German Federal Bank was increased by
$350 million to $750 million.) Demand for marks began
to grow in mid-December, as heavy speculative pressures
again struck the London gold market and there was a re­
newed heavy inflow of funds to the German Federal Bank.



When the backwash of these demands spilled over into the
New York exchange market on December 15, the Federal
Reserve sold some $7 million equivalent of the marks
drawn for market operations.
The heavy inflows into Germany resulting from market
uncertainties proved considerably larger than necessary
to meet German commercial banks’ usual year-end needs,
in good part because the German Federal Bank had as­
sisted the banks in arranging for such mark liquidity in
advance by selling them a large amount of money market
paper scheduled to mature in mid-December. Moreover,
it also became apparent that the earlier heavy selling of
dollars had depleted the German banks’ investment port­
folios. By December 21, with the German money market
becoming quite liquid and the exchanges returning to a
more normal atmosphere, funds began to flow back into
Euro-dollar investments.
As German commercial banks bid strongly for dollars
on a covered basis, the German authorities sold an addi­
tional $250 million on a swap basis, before raising the swap
rates offered to the banks, and permitted the spot mark to
move lower. By the end of the year, outflows from Ger­
many had offset the German Federal Bank’s dollar gains
earlier in December. In the last few trading days of the
year the spot mark moved still lower, and the Federal
Reserve began buying to replace the small amount of
marks sold from the earlier $50 million swap drawing.
By January 5, 1968 the System’s balances had been fully
reconstituted and the swap was repaid in advance of
Demand for dollars in Germany continued through the
first two months of 1968. Part of the outflow of funds
reflected the usual seasonal pattern, but more significant
was the fact that the German economy still was not absorb­
ing all the liquidity available in the domestic market,
and the German commercial banks again were invest­
ing very sizable excess funds in the Euro-currency and other
markets. As a result, the supply of German marks in the
exchange market increased substantially and the Federal
Reserve purchased marks in New York almost continuously
through January and February, using them to reduce its
swap drawings on the German Federal Bank. By the end of
February the System had purchased sufficient marks to
repay fully its $300 million swap commitment, thereby
restoring the full $750 million facility to a standby basis.
In the currency packages put together by the IMF for the
Canadian and United States drawings late in February
and early March, Germany supplied a total of $100 mil­
lion equivalent of marks. Under arrangements worked out
with the various parties, the Federal Reserve purchased
these marks and sold them to the Bank of Italy, against

lire (using the lire to repay part of the System’s swap
obligations in that currency).
During the period under review, the German Federal
Bank continued its purchases of special United States Trea­
sury medium-term securities denominated in German
marks, in conjunction with the German government’s agree­
ment to offset part of the cost of stationing United States
troops in Germany. The first of four equal quarterly pur­
chases of $125 million was made on July 3, the second on
October 2, and the third on January 5, 1968, bringing the
outstanding total of such special United States Treasury
notes denominated in German marks to $375 million
equivalent. As a result the total of all mark-denominated
Treasury securities rose to $726.1 million equivalent.

In 1967, the Italian balance of payments was in surplus
by some $325 million, representing a further reduction
from surpluses of $700 million in 1966 and $1.6 bil­
lion in 1965. During the course of 1967, however, this trend
was reversed, perhaps only temporarily, as the surplus
widened significantly in the second half. Thus, for the first
six months through June, the accounts were actually in
deficit by $220 million (compared with a $280 million
surplus for the first half of 1966). This deficit—which in
part reflected unusually heavy Italian investments in the
Euro-bond market—was financed largely by a runningdown of Italian commercial bank net short-term assets
abroad rather than by a reduction in official reserves. Over
the course of the summer, when tourist receipts are a
strong factor for Italy, there emerged an official reserve
buildup well in excess of usual seasonal gains. Even after
seasonal demands receded, Italian official reserves con­
tinued to increase in October and early November, and
the gain for the second half of the year amounted to nearly
$500 million.
This renewed surplus was largely unexpected, given the
buoyant demand in Italy that had been swelling imports
and the sluggish rate of expansion in northern European
economies that had been exerting a drag on Italian exports.
Indeed, the impressive trade performance may indicate
that Italy’s recent strong record of relative price stability
is beginning to show through in increased competitiveness
in European and other markets. In addition to a stronger
than expected trade account, Italian long-term capital out­
flows tapered off in the second half of the year and, like
other countries, Italy was affected by developments in the
sterling market through a sizable repatriation of funds.
Under the circumstances, between September 19 and
November 30, the Federal Reserve drew a total of $500



Further inflows to the Netherlands continued inter­
million equivalent of lire, using the lire to absorb dollars
from the Italian official reserves. (With the $600 million mittently through the fall months, reflecting firmness in
swap facility almost fully utilized, the System and the the Amsterdam money market, an improvement in the
Bank of Italy agreed in late November to increase their Dutch balance of payments, and repatriations of Dutch
arrangement by $150 million to $750 million; this was part money from London. The resulting increases in the dollar
reserves of the Netherlands Bank were taken over by a
of the general move to strengthen the swap network.)
Late in the year, delayed seasonal outflows finally began series of Federal Reserve drawings on the swap facility
to emerge. The lira rate declined somewhat in December until the full $150 million line had been utilized by Novem­
and even further in early January 1968, when adverse sea­ ber 13.
The exchange market turbulence arising out of the de­
sonal influences were reinforced by market concern over
possible reductions in United States tourist and other valuation of sterling and subsequent speculation in the gold
expenditures in Italy as a result of the United States pay­ market was accompanied by further heavy inflows of funds
ments program. Nevertheless, the spot rate remained above into the Netherlands. These speculative influences also
par, and outflows from Italy were insufficient to permit were reflected in the forward market, where the premium
liquidation of United States commitments in lire. In late on the guilder reached nearly 2 per cent per annum for
February-early March, the Federal Reserve purchased three-month maturities. Joining in a concerted central bank
some $75 million equivalent of lire from the Bank of effort to restrain such speculation, on November 23 the
Canada and from the United States Treasury in connection Netherlands Bank initiated forward sales of guilders on
with the Canadian and United States drawings from the behalf of the Federal Reserve and the United States Trea­
IMF. From the same drawings, the Federal Reserve was sury. Most of these forward sales were part of swap trans­
able to acquire $100 million equivalent of German marks actions—i.e., spot purchases of guilders against resale at
which it converted into lire. These transactions enabled a later date— designed to return dollars to the inter­
the System to reduce its swap obligations to the Italian national markets while at the same time curbing the risk
authorities by $175 million equivalent to $325 million that the wide forward premium on guilders might stimulate
further inflows. By November 29, when $37.5 million
Federal Reserve and Treasury commitments in for­ equivalent of forward guilders had been sold, speculative
ward lire, which had arisen in connection with dollar-lira pressures eased sufficiently for operations to be discon­
swaps the Bank of Italy has extended to its commercial tinued. Meanwhile, in order to absorb the heavy inflows
banks, were rolled over during the period in review; in addi­ to the Netherlands Bank during November, the Federal
tion, the Treasury added a moderate amount to its forward Reserve Bank of New York executed temporary swap
lira commitments.
drawings of guilders on behalf of the United States Trea­
sury, and by the end of November Treasury commitments
under these ad hoc arrangements were $126 million. Such
swap drawings by the United States Treasury, combined
Relatively tight money market conditions in Amsterdam with already outstanding Federal Reserve drawings of $150
during the spring of 1967 induced Dutch commercial million under the regular swap line, lifted the United States
banks to repatriate funds from abroad in order to swap debt in guilders to $276 million equivalent.
strengthen their liquidity in guilders. The Netherlands
Buying of guilders was small and sporadic during early
Bank dealt with this inflow by purchasing a substantial December, but a tightening of the money market in
amount of dollars on a swap basis (i.e., against resale for­ Amsterdam in the latter part of the month produced
ward), thus avoiding a large buildup in its net dollar hold­ more substantial inflows. Just before the year-end, com­
ings. These operations built up rapidly in May and rose to mercial demand for guilders boosted the spot rate to
a peak of $150 million in early June.
$0.2782^ and the Netherlands Bank purchased a further
At that point, the Middle East crisis and related pres­ sizable amount of dollars. The Federal Reserve swap line
sures on sterling generated further demand for guilders. with the Netherlands Bank meanwhile had been increased
As funds flowed into the Netherlands the spot rate rose to $225 million, and by January 4 an additional $35 mil­
sharply and the central bank took in dollars outright as lion equivalent had been drawn, raising the System’s draw­
well as on a swap basis. To cushion these pressures, the ings to a peak of $185 million.
Federal Reserve reactivated its swap facility with the
Shortly after the year-end, the money market in Amster­
Netherlands Bank, drawing $10 million of guilders on July dam began to ease and the spot guilder softened as Dutch
26 and $10 million more before the end of the month.
commercial banks started to move excess funds back into



the Euro-dollar market. In mid-January, outflows from
Demand for Belgian francs intensified in July and
Amsterdam were sufficiently large for the Netherlands August, partly as a consequence of the continuing Middle
Bank to provide support for the guilder. The Netherlands East crisis and the growing pressure on sterling. In order
Bank then restored its dollar position through purchases to absorb dollars purchased by the National Bank of
from the Federal Reserve Bank of New York acting for Belgium through early September, the Federal Reserve
account of the United States Treasury. Through these drew $97.5 million equivalent of francs under its swap
transactions the Treasury obtained $23 million equivalent facility, bringing commitments in Belgian francs to $125
of guilders, which were used to reduce Treasury commit­ million equivalent. Later in the month, Belgian govern­
ments under its swap with the Netherlands Bank to ment requirements for dollars again enabled the Federal
$103 million.
Reserve to purchase francs from the National Bank and
These outflows from the Netherlands were short-lived, reduce its swap commitments in Belgian francs to $115
however, and the Federal Reserve was able to make only a million equivalent by the end of September.
modest start in repaying its commitments outstanding under
The Belgian balance of payments on current account
the swap with the Netherlands Bank. Accordingly, on Janu­ strengthened in October. In addition, the money market
ary 29 the United States Treasury issued to the Netherlands tightened, following the flotation of a large government
Bank a twelve-month certificate of indebtedness denomi­ bond issue. The resulting demand for francs pushed the
nated in guilders equivalent to $65.7 million. The Treasury spot rate to the ceiling, and the National Bank acquired
used $55.7 million equivalent plus a small amount in bal­ still more dollars. The surplus on current payments per­
ances to reduce its swap commitments to $47 million. sisted as the Belgian economy remained sluggish. The
The Federal Reserve purchased the balance of the guilders Federal Reserve continued to use its swap facility to cover
and used them to reduce its swap indebtedness to the the National Bank’s dollar gains, and by November 13
Netherlands Bank to $165 million.
the full $150 million had been employed.
On February 21 the Treasury repaid its remaining $47
During the period immediately preceding the British
million equivalent of swap commitments to the Nether­ devaluation, and in the days of heavy speculative activity
lands Bank with guilders purchased from that bank. The afterward, the Belgian authorities took in further substan­
Netherlands Bank in turn then purchased $23.5 million tial amounts of dollars. With the Federal Reserve swap
in gold from the Treasury. Shortly afterward, Canada line fully utilized, on November 24 the United States
made its drawing from the IMF; included was $30 mil­ Treasury issued a $60.4 million equivalent 24-month
lion equivalent of guilders, which the Bank of Canada Belgian franc-denominated Treasury note in order to fund
converted to United States dollars through the Netherlands a portion of outstanding System commitments. The Federal
Bank. This reduced the Dutch dollar position enough for Reserve purchased these francs and used them to repay
the United States authorities to purchase sufficient guilders outstanding swap drawings. Then, at the month end, the
to liquidate the $37.5 million in forward contracts (entered System absorbed a total of $41.2 million from the National
into last November) maturing in late February and early Bank by drawing once again on the swap line. Thus Federal
March. Finally, the United States Treasury drawing from Reserve commitments in Belgian francs under the line
the IMF included $100 million equivalent of guilders, with the National Bank stood at $130.8 million equivalent
which were used by the Federal Reserve to make a further at the end of November. (On November 30, as part of
reduction on its swap obligation with the Netherlands the general strengthening in the swap network, the total
Bank. As of March 8, the swap debt of the Federal Reserve Belgian swap line was raised by $75 million to $225 mil­
to the Netherlands Bank was thus reduced to $65 million. lion equivalent.)
The National Bank of Belgium, in cooperation with United
States authorities, also took action to keep the forward
market calm in the aftermath of the sterling devaluation.
During the early part of 1967, the surplus in Belgium’s On December 4, the National Bank initiated forward sales
current international payments kept the franc at or near of Belgian francs on behalf of the United States authorities
its upper intervention point. To absorb these inflows, (divided equally between System and Treasury accounts)
the Federal Reserve reactivated its swap line and by early to reduce the large premium on forward francs and dis­
June had drawn a total of $37.5 million. Shortly afterward, courage further shifts of funds from dollars. Pressures
however, Belgian government dollar needs enabled the subsided almost immediately, and few additional forward
System to purchase francs and reduce its swap commit­ sales were necessary through the end of December. These
ment to $27.5 million as of the end of June.
were the first operations conducted in forward Belgian


francs and involved only a modest commitment of $11.8
million equivalent.
The spot Belgian franc eased somewhat below its ceiling
during the month of December, and the National Bank of
Belgium lost a moderate amount of dollars in market
support operations as the Belgian economy showed signs
of revived growth and import demand picked up. The
Federal Reserve, therefore, was able to acquire Belgian
francs as the Belgian authorities required dollar balances
to meet market needs; the System also obtained some
francs from conversion of part of the proceeds of an IMF
member’s drawing. These francs were used to reduce
Federal Reserve commitments under the swap line with
the National Bank of Belgium to $105.8 million equiva­
lent by the year-end.
In late January, the National Bank purchased $25 mil­
lion from the System to cover moderate losses in market
support and to meet anticipated dollar requirements of
the Belgian government. The Federal Reserve used the
franc proceeds to reduce further its swap indebtedness to
$80.8 million. In February, however, the tendency was
briefly reversed, and the National Bank once again pur­
chased dollars which the System covered by drawing $7.5
million equivalent of francs on the swap. Subsequently, the
System was able to make further reductions in its Belgian
franc commitments. Late in February, the Federal Re­
serve acquired $13.5 million of francs from the National
Bank, when that bank needed dollars, and $30.2 million
equivalent following Canada’s IMF drawing. Moreover,
the System acquired $10 million of Belgian francs in con­
nection with the United States Treasury’s Fund drawing.
These francs were used to make swap repayments, and by
March 8 such commitments had been reduced to $34.5
million equivalent. The remainder of the Treasury’s $15
million Belgian franc drawing was used in the liquidation of
System and Treasury forward contracts and, on March 8,
$5 million equivalent remained outstanding.

Canada’s balance of payments was in sizable surplus
in 1967, with a strong export performance during the
last quarter of the year contributing significantly to the
year’s overall results. In the exchange markets, there was
substantial demand for Canadian dollars during most of
the year.
During the summer months, the success of e x p o 67
attracted an exceptional number of visitors to Canada and
stimulated an unusually large volume of tourist receipts
which helped keep the spot Canadian dollar close to
$0.9300. In late summer, the Canadian banks sought to


relieve domestic liquidity pressures through conversion of
United States dollar assets, and such conversions intensified
with the approach of the end of their fiscal year on Octo­
ber 31. Demand from this quarter converged with buying
of Canadian dollars during the last minute rush to e x p o
and with the increased movement of shipping prior to the
winter closing of the St. Lawrence Seaway. As a result,
the spot rate rose to its effective ceiling of $0.9324 by
October 11 and held at about that level through the end
of the month. In the three months to the end of October,
Canadian holdings of gold and United States dollars (in­
cluding Canada’s net creditor position with the IMF)
increased by $121.5 million to $2,570 million. This gain
more than offset the modest losses sustained during the
first half of 1967.
The Canadian dollar remained strong until the devalua­
tion of sterling on November 18, after which it began to
decline. Some Canadian funds joined the general reflow into
sterling, but there was also a sizable movement of short­
term Canadian capital into Euro-dollars. These outflows
might have been larger except for the 1 percentage point
rise in the Bank of Canada’s discount rate to 6 per cent,
which followed discount rate increases by the Bank of
England (by IV2 per cent to 8 per cent) and the Federal
Reserve (by V2 per cent to AV2 per cent). The sterling
devaluation came at a time when the market was in any
case assessing the likely impact on the Canadian dollar of
e x p o ’s closing and the sizable grain crops abroad that
might limit Canadian wheat sales over the near term. More­
over, with winter coming on, the Canadian payments posi­
tion was moving into its seasonally weak period.
Against this background, the announcement of the
United States balance-of-payments program had a fur­
ther disturbing effect on market operations. Despite the
fact that the new program did not restrict Canada’s ac­
cess to the United States bond market, there was apprehen­
sion that the program might adversely affect United States
direct investment in Canada and the balance of short-term
capital flows between the two countries. With exchange
markets still unsettled following sterling’s devaluation
and the subsequent rush into gold, the new uncertainties
created by the United States program had a grossly ex­
aggerated impact on Canadian dollar trading. By the third
week of January, sales of Canadian dollars reached heavy
proportions and the Bank of Canada was required to pro­
vide substantial support in the market. To counter these
speculative pressures, which became particularly severe
on Friday, January 19, the Bank of Canada announced
on January 21 a 1 percentage point increase in its discount
rate to 7 per cent. In addition, it obtained the agreement of
Canadian banks to discourage the use of bank credit for



abnormal transfers of funds abroad. At the same time, the
United States Treasury issued a statement emphasizing
that: “The United States balance-of-payments program
does not call for and is not intended to have the effect of
causing abnormal transfers of earnings or withdrawals of
capital by United States companies having investments in
Canada.” The selling diminished considerably following
these measures, but the market remained uneasy and was
put off stride by political developments in Canada during
The impact on Canadian reserves of the selling pressures
of January and February was cushioned by the use of
some of Canada’s credit facilities. In January the Bank of
Canada drew $250 million under its $750 million swap
facility with the Federal Reserve, thereby reducing the
January reserve loss to slightly less than $100 million. And,
in February, the Canadian government made a $426 million
drawing on the IMF. Of this drawing, some $241 million
represented Canada’s creditor position in the Fund and was
already included in published reserve figures. Consequently,
the drawing improved Canada’s reported reserves by some
$185 million. This increase was substantially greater than
the amounts that had been used in support operations in
the market in February with the result that, for the month,
Canada reported a reserve gain of $71.6 million.
When market uncertainties continued in early March,
the Canadian government responded by announcing a new
series of fiscal measures designed to restrain domestic de­
mand and reinforce the defense of the Canadian dollar.
These steps were then backed up by a major bolstering of
Canada’s international credit lines, with $900 million of
new facilities—over and above the $500 million still avail­
able under the Federal Reserve swap line—made available
by the United States Export-Import Bank, the German
Federal Bank, the Bank of Italy, and the BIS. At the same
time the United States authorities made clear their whole­
hearted support for Canada’s determination to defend the
$0.9250 parity by announcing the complete exemption of
Canada from the restraints on capital flows announced in
the President’s January 1 program.

During 1967 the Euro-dollar market was subjected to
major strains, first during the spring and early summer as
the Middle East crisis triggered heavy withdrawals of
funds and again later in the year when speculation in the
gold and exchange markets generated massive repatria­
tions into Continental centers. These sudden shifts of funds
out of the Euro-dollar market not only threatened to
disrupt the normal continuity of credit and deposit trans­

actions in that market, but—given the close links between
the Euro-currency and foreign exchange markets—also
had destabilizing effects on the exchange markets as well.
Whereas central banks are accustomed to dealing with
periods of temporary stress in their own national money
markets, there is no comparable international institution
responsible for the smooth functioning of the Euro-currency
market. Nevertheless, as the experience of the last year
indicates, the Euro-currency market itself is surprisingly
resilient in the face of fairly severe shocks and, so long as
national central banks are prepared to cooperate in tem­
pering the pressures to which the market is subjected, the
risk of serious repercussions being transmitted by and
through the market can be minimized.
As noted in the March 1967 article of this series,
The Euro-dollar market, which has become a multi­
billion dollar operation, functions as a truly interna­
tional money market and consequently cannot rely,
as can a national money market, on the support of
any single central bank to relieve temporary stringen­
cies or knots in the market. There is a great deal which
the central banks whose nationals use the Euro-dollar
market can do in an ad hoc, informal way, however, to
alleviate undesirable strains on the market.
Prospective developments in the Euro-dollar market are
regularly discussed at the monthly meetings of central banks
in Basle, with central banks increasingly prepared to under­
take operations of various sorts to reduce the impact on
the Euro-currency market of shifts of liquid funds by their
own commercial banks. In fact, such operations have be­
come more or less routine during periods of seasonal pres­
sures, such as midyear and at the year-end when banks in
some countries repatriate very sizable amounts to meet
their own liquidity needs as well as those of their customers.
The particular measures taken at any given time have
been tailored to the prevailing circumstances and to the
institutional requirements of the central banks involved.
For example, the Swiss National Bank has normally re­
channeled funds to the Euro-dollar market either directly
or through the BIS. For its part, the Federal Reserve has
also placed funds in the market, via the BIS, to mitigate
year-end strains. Other central banks, such as the German
Federal Bank, have sought to minimize seasonal pressures
of this sort by providing special domestic paper timed to
mature in December.
Similarly, during periods of speculative—as distin­
guished from seasonal—pressures, central banks have
acted to rechannel funds to the international markets,
frequently by providing forward cover to their banks


(either for their own account or in cooperation with the
United States authorities) at rates that make profitable a
covered outflow. In a somewhat different case, the Italian
authorities have provided forward cover on a sustained
basis to regulate domestic liquidity and at the same time
provide funds to the Euro-dollar market during a period
of payments surplus. Another important form of central
bank intervention in the Euro-dollar market has been the
Federal Reserve swap line with the BIS. Under this arrange­
ment the BIS can draw dollars from the System for place­
ment in the Euro-dollar market, and in a number of
operations since late 1966 such short-term placements have
amounted to $700 million. This facility was expanded to a
total of $600 million during the past year, both because of
the unprecedented stresses encountered during this period
and because experience had demonstrated the usefulness
of this facility in meeting such pressures.
The outbreak of hostilities in the Middle East early last
June set off a sharp rise in Euro-dollar rates, as pre­
cautionary withdrawals of funds added to stresses asso­
ciated with usual preparations for the midyear by con­
tinental European banks. These pressures were quickly
countered, however, by BIS placements of dollars drawn
on the swap line with the Federal Reserve or obtained
from other central banks. As a result, the market calmed
and, with the cessation of fighting, the rapid rise in rates
was halted. Interest rates on three-month deposits eased
from about 53 per cent per annum to about 5 V4 per
cent by June 9 and, with ample liquidity available in the
Euro-dollar market by the end of June, the BIS began to
withdraw the funds placed earlier in that market. By July
17, all outstanding drawings on the Federal Reserve by
the BIS—which had reached a total of $143 million—
had been repaid and the swap facility reverted fully to a
standby basis.
Although the Euro-dollar market remained quite liquid
during the summer months, covered interest arbitrage in­
centives continued to favor Euro-dollars over sterling. Some
of the funds moving out of sterling were absorbed by United
States banks’ foreign branches along with additional dollars
coming into the market from the Continent. In late Sep­
tember, however, Euro-dollar rates began to move up as
interest rates in the United States rose and as Conti­
nental interests, faced with increasing uncertainties, began
to anticipate requirements for the approaching year-end.
Interest rates on three-month Euro-dollar deposits reached
53 per cent per annum at the end of September and re­
mained at or above 5 Vi per cent during the early weeks
of October. Confidence in sterling was steadily deterio­
rating and, when the Bank of England raised its discount
rate by V2 percentage point to 6 per cent on October 19,


the BIS, at the suggestion of the Federal Reserve, re­
activated its swap line and placed a small amount of dol­
lars in the Euro-dollar market to help forestall an offsetting
rise in rates. Additional placements on a more substantial
scale were made on November 9 to reinforce the second
V2 point rise in the British bank rate in three weeks to
6 V2 per cent. Once again these operations—which raised
BIS drawings on the System to $68 million—helped steady
the market.
The November 18 devaluation of the pound and the
accompanying increase in the Bank of England’s discount
rate by IV2 percentage points to 8 per cent, followed
immediately by the V2 point rise in the Federal Reserve
discount rate to AV2 per cent, caused a sharp jump in
Euro-dollar rates. Speculation against the dollar and gen­
eral uncertainties in the exchanges generated large with­
drawals of funds from the Euro-dollar market, thus adding
to the stringencies associated with normal year-end repatri­
ations. It was clear that coordinated central bank action
was imperative if the speculation erupting in the gold and
exchange markets and the corresponding heavy pressures
being generated in the Euro-dollar market were to be held
in check.
Among the various measures agreed upon by the active
members of the Gold Pool who met in Frankfurt on the
weekend following sterling’s devaluation, the central banks
of Belgium, the Netherlands, and Switzerland agreed to sell
their currencies forward in cooperation with United States
authorities, with a sizable amount of the sales conducted on
the basis of market swaps (forward purchase of United
States dollars against spot sale) so that dollars simulta­
neously were pumped out into the Euro-dollar market by the
central banks. Even more important in terms of size was
the very large volume of swaps entered into by the German
Federal Bank at the end of November (in which the Federal
Reserve participated through a $300 million drawing on its
reciprocal currency arrangement with the German Federal
Bank). The $600 million channeled into the Euro-dollar
market by these German operations was especially effective
in bringing down Euro-dollar rates—from nearly 7 per cent
per annum for three months to about 6 V4 per cent by
early December—and in cutting the forward premium on
the German mark. In addition, at the end of November,
the BIS placed $38 million in the market, using dollars
drawn under its swap line with the System, to reinforce
the effects of the outflow generated by the German Federal
Bank. Such operations through the BIS continued during
much of December, bringing the total amount of BIS draw­
ings outstanding to $346 million at the year-end. Moreover,
the German Federal Bank swapped out a further $250 mil­
lion before the end of the year. As a result, interest rates



held in a narrow range, and the market generally remained
steady despite the considerable stresses and uncertainties
in the exchanges near the year-end.
After the turn of the year, Euro-dollar rates moved
sharply lower, despite widespread expectations in the mar­
ket that there would be a further rise following the an­
nouncement of the President’s new balance-of-payments
program. Yet the fall in rates should not have been sur­
prising. Money markets in most of the major Continental
centers remained highly liquid, and there were substantial
outflows into the Euro-dollar market from Germany,
France, and Switzerland as well as more modest flows
from the Netherlands and Belgium. Much of this shift of
funds was, of course, of a normal seasonal nature. More­

over, the spate of longer term Euro-bond issues undoubt­
edly resulted in the temporary accumulation of excess
funds by some of the borrowers, who then placed the pro­
ceeds in short-term deposits. At the same time, the heavy
pressures on the Canadian dollar during January undoubt­
edly resulted in a shift of short-term money from Canada
into the Euro-dollar market. Thus, by the end of January,
interest rates on three-month deposits had declined to about
5V2 per cent, and they held at that level through February.
Under these circumstances the BIS was able to reverse
its earlier placements in the Euro-dollar market made from
the proceeds of drawings on the Federal Reserve swap line.
By the end of January the $346 million outstanding at the
end of 1967 was fully repaid.

P e r J a c o b s s o n F o u n d a tio n L e c tu r e
The Per Jacobsson Foundation in Washington, D. C., has made available to the Federal Re­
serve Bank of New York a limited number of copies of the 1967 lecture on international mone­
tary affairs. In sponsoring and publishing annual lectures on this topic by recognized authorities, the
Foundation continues to honor the late Managing Director of the International Monetary Fund.
The fourth in this lecture series was held on September 22, 1967 in Rio de Janeiro, Brazil.
David Rockefeller, President of The Chase Manhattan Bank, N.A., gave the only lecture on that
date, under the title of “Economic Development—The Banking Aspects”. Supplementary comments
were made by Felipe Herrera, President of the Inter-American Development Bank, and Shigeo
Horie, Chairman of the Committee on International Finance, Federation of Economic Organiza­
tions of Japan.
Since many readers of this Review have expressed an interest in international monetary affairs
and in view of this Bank’s sympathy with the Foundation’s aims, we will distribute copies of the
lecture upon request.
Requests should be addressed to the Public Information Department, Federal Reserve Bank
of New York, 33 Liberty Street, New York, N. Y. 10045. Requests for French and Spanish ver­
sions of the lecture can also be filled.



T h e B u s in e s s S itu a tio n
The domestic economy has shown continued strength
so far in the new year, though some indicators have been
unable to sustain the extraordinary advances posted late
in 1967. In January, both industrial production and new
orders for durable goods declined after very large Decem­
ber increases. January gains in personal income and pay­
roll employment were relatively modest, but various
nonrecurring special factors exerted a restraining influence.
Over the balance of the quarter, personal income should
get a strong boost from the February increase in the mini­
mum hourly wage and the March step-up in social security
benefit payments. The unemployment rate edged down to
a fourteen-year low of 3.5 per cent in January, and retail
sales apparently showed the first sizable gain in many
months. Overall, the likelihood that the economy is ex­
panding at an excessively rapid rate in the current quarter
remains high. Moreover, prospects are that demand and
cost pressures on prices will remain substantial over the
balance of the year. Indeed, if the recent events in Asia
lead to a step-up in defense spending beyond currently
budgeted levels, these pressures will intensify, unless ap­
propriate measures are taken to restrain aggregate demand.
P R O D U C T IO N , O R D E R S , A N D C O N ST R U C T IO N

The Federal Reserve Board’s index of industrial pro­
duction declined in January by 0.6 percentage point, to
161.2 per cent of the 1957-59 average, after having
jumped 2.3 percentage points from November to December
(see Chart I). The largest January declines occurred in
consumer durable goods and industrial materials. Auto
assemblies fell by 6.1 per cent to an annual rate of 8.4
million units in January, at least in part reflecting local
work stoppages. The assembly rate declined further in Feb­
ruary while labor disturbances continued, but production
schedules call for output to rebound to an annual rate of 9
million units in March. Business equipment production was
largely unchanged in January, as some further decline in
industrial machinery production was offset by a recovery
in output of farm equipment following a late-December
strike settlement. The output of iron and steel dropped
slightly in January from its recent high level, but produc­
tion stabilized in February as strike-hedge demand re­
mained steady.

Not surprisingly, new orders for durable goods fell back
in January after jumping HV 2 per cent in December. At a
seasonally adjusted rate of $24.6 billion, January’s order
inflow was below the December pace but was still the
second highest since September 1966. More than half of
the decline was accounted for by a drop in orders for con­
struction materials, and another third was due to a drop in



defense orders. Small reductions were also fairly widespread
throughout the remainder of the durables manufacturing
sector. While durable goods shipments edged off in January,
shipments nevertheless exceeded the volume of new orders,
and the backlog of unfilled orders declined for the first time
since last April.
Indicators of residential construction activity, which
have behaved erratically in recent months, reversed their
sharp December movements in January. Private nonfarm
housing starts recovered strongly in January, following
December’s precipitous decline, and climbed by 16 per
cent to reach a seasonally adjusted annual rate of 1.4
million units. On the other hand, building permits for new
private housing units declined 16 per cent in January after
a 14 per cent jump in December. The changes put housing
starts and permits in January more nearly in line with their
recent levels than they had been after December’s wide
swings. Although residential construction outlays were un­
changed in January, total private construction spending
increased substantially, largely reflecting a surge in com­
mercial construction.
E M P L O Y M E N T , P E R S O N A L IN C O M E,

Following three months of sharp increases, nonfarm
payroll employment rose again in January but at a more
moderate pace. The major gains were registered in trade,
services, and state and local government employment.
There was a rise of about 43,000 in the number of per­
sons on manufacturers’ payrolls, with about two fifths of
the increase due to the settlement of strikes. January’s
growth in payroll employment was limited by a decline in
construction employment, caused by unusually cold and
snowy weather. Had construction employment remained
at its December level, total January payroll employment
would have risen by an amount about equal to 1967’s
monthly average.
The continued strength of the employment situation
was evidenced by the 0.2 percentage point January decline
in the overall unemployment rate to 3.5 per cent (see
Chart II), the lowest level since November 1953. While
much of this decline was accounted for by a greater than
seasonal decrease in the number of adult women in the
labor force, the key unemployment rate for married men
also dropped to 1.6 per cent from its already low
November-December level of 1.7 per cent. At the same
time, the unemployment rate for teen-agers continued to
move lower from the high levels of mid-1967.
Reflecting in part the growth of employment, personal
income rose by $1.9 billion during January to a seasonally

adjusted annual rate of $651.2 billion. The gain would
have been larger had it not been for special nonrecurring
factors. The personal income figure is calculated net of
social insurance tax payments and expressed each month
at a seasonally adjusted annual rate. Thus, since the
taxable earnings base for social security taxes was raised
as of January, the deduction for such taxes made in com­
puting personal income was raised in January by $1.0
billion at a seasonally adjusted annual rate. In terms of
a worker’s actual take-home pay, the present 4.4 per cent
deduction from gross pay will be made for more weeks
this year than was the case last year.
The wage and salary component of personal income
edged down in January, as a drop of $2.3 billion in Fed­
eral Government payrolls more than offset the $1% billion
gain in private wages and salaries. The decline in Govern­
ment payrolls simply reflected the fact that the figure was
inflated in December by $2.7 billion as a result of pay­
ment of a retroactive pay increase to Federal employees.
Excluding the effects of these factors, and an abnormally
large rise in dividend payments in January which merely



recouped most of December’s unusual decline, the Com­ tax payments and a modest decline in output per manmerce Department estimates that personal income rose hour resulted in a very large 1.4 per cent increase in
by a healthy $3% billion in January, the same as the labor costs per unit of output. In January, the index of
average monthly gain throughout 1967. Personal income unit labor costs in manufacturing stood at 108.8 per cent
is expected to be boosted in February by the rise in the of the 1957-59 average, 3.8 per cent above the January
minimum hourly wage from $1.40 to $1.60, which went 1967 level.
Rising demand and cost pressures have already caused
into effect on February 1, and in March by a 13 per cent
rapid increases in wholesale prices. In January, the whole­
average rise in social security benefit payments.
One of the more noteworthy January developments was sale price index jumped 0.4 percentage point to 107.2
the apparent sharp increase in consumer retail buying, per cent of the 1957-59 average, with all the major com­
after many months of sluggishness. Retail sales reached a ponents rising. Preliminary figures for February indicate
record high in January, according to preliminary data, as an acceleration of wholesale price increases. The total in­
sales climbed 2.9 per cent above the December level. dex surged another 0.6 percentage point, as farm products
January retail sales were bolstered in particular by a 7.3 and processed foods and feeds climbed 1.3 percentage
per cent increase in auto sales to an annual rate of 8.0 points after falling throughout most of the second half of
1967. The evidence now available indicates that the in­
million units.
The Commerce Department’s most recent survey of dustrial commodity index showed an annual rate rise of
consumer buying expectations, taken in January, indicates 4.5 per cent in the first two months of 1968, up substan­
that households are more optimistic about the likelihood tially from the 2.6 per cent rate of the second half of 1967.
Consumer prices rose sharply again in January. At
of income gains than they were when the survey was last
taken in October 1967. On the other hand, the indexes of 118.6 per cent of the 1957-59 average, the January con­
expected purchases of new and used cars and of expendi­ sumer price index was 0.4 percentage point above the
tures on houses and household durables over the next two December level. A large part of the January increase was
quarters showed no significant change from the levels due to a substantial advance in food prices. This increase
reported in October 1967. However, the survey in its followed a sharp advance in December which, in turn, had
present form was inaugurated only a year ago, and it is ended three months of declines. Prices of services rose
difficult to assess its reliability in such a short period.
rapidly again in January. However, prices of nonfood
commodities increased at a relatively modest rate for the
second consecutive month. Declines in apparel and new
car prices, probably partly seasonal, helped to account for
Labor costs accelerated sharply in January. The com­ the small size of the overall rise in nonfood commodity
bination of a sizable increase in employers’ social security prices.

T h e M o n e y an d B o n d M a r k e ts in F eb ru a ry
Money market rates edged higher on balance during
February, as nationwide net reserve availability contracted
and member bank borrowings at the Reserve Banks in­
creased. The effective rate for Federal funds was gen­
erally Vb percentage point higher than in January, and
other short-term rates rebounded from late-January lows
early in the month and rose irregularly thereafter. An out­

flow of funds from maturing certificates of deposit (C /D ’s)
early in February was subsequently reversed, and short­
term C /D rates remained below earlier ceiling levels, al­
though some increases were posted in these maturities.
The movement of yields in the Treasury bill sector was
greatest in the six-month area, where rates moved up as
much as 20 basis points, while three-month bills rose 14


Table I

Table H



In millions o f dollars; (+ ) denotes increase,
(—) decrease in excess reserves

In m illions of dollars
Daily averages—week ended on
Factors affecting
basic reserve positions

Changes in daily average*
week ended on






Total “ market’* factors ...................

— 441
+ 145

- f 537
— 458
— 184
— 141
— 67
— 109
4- 42

— 290


— 205
— 85

+ 2
+ 221


4-1 2 5
4- 34
— 3
4 - 168
— 148



4 - 51
4 -1 0 7
4 -1 6 1

4 -188
— 15

— 194
- f 24











— 25



4- 25
— 1
4- 143

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

4- 346
4- 56


4- 281
— 4















— 304

-4 2 1

— 264

— 140

— 284






Gross purchases .............................
Gross sales ......................................

Equals net basic reserve surplus
or deficit (—) ..........................................
N et loans to Government
securities d e a le r s....................................

Reserve excess or deficiency (—) t
Less borrowings from
Reserve B a n k s ........................................
Less net interbank Federal funds
purchases or sales(—) .........................



4 - 37



Gross purchases .............................
Gross sales .......................................

Equals net basic reserve surplus
or deficit (—) ..........................................
Net loans to Government
securities d ea lers....................................






— 34
— 25

— 391
— 25
— 4




















— 698

-7 7 8

— 703

— 561

-6 8 5






4 - 201

N o te : Because of rounding, figures do not necessarily add to totals.
* Estimated reserve figures have not been adjusted for so-called “as o f” debits
and credits. These items are taken into account in final data,
t Reserves held after all adjustments applicable to the reporting period less
required reserves and carry-over reserve deficiencies.

4- 34

Excess reserves* ....................................

— 372



Thirty-eight banks outside New York City

Direct Federal Reserve credit

Open market instruments
Outright holdings:
Government securities .......................
Bankers’ acceptances........................ .
Repurchase agreements:
Government securities .......................
Bankers' acceptances........................
Federal agency obligations...............
Member bank borrowings........................
Other loans, discounts, and advances...




Reserve excess or deficiency (—) t
Less borrowings from
Reserve B a n k s .....................................
Less net interbank Federal funds
purchases or sales ( —) .........................

- 644



Eight banks in New York City

“ Market” factors

Member bank required reserves* ...........
Operating transactions (subtotal) ..........
Federal Reserve flo a t............................ .
Treasury operations! ............................
Gold and foreign account.....................
Currency outside banks* .....................
Other Federal Reserve accounts (n e t)t




Averages of
four weeks
ended on
Feb. 28*

4- 113

Table III

Daily average levels

In per cent
Member bank:

Total reserves, including vault cash*
Required reserves* ..............................
Excess reserves* ..................................
Borrowings ...........................................
Free reserves* .....................................
Nonborrowed reserves* .......................



— 43

— 136

16 §

Weekly auction dates— Feb. 196S














Changes in Wednesday levels

Monthly auction dates— Dec. 1967-Feb. 1968
System Account holdings of Government
securities maturing in:

- 235

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

4- 235

-878 4-7,697

4 - 297



Note: Because of rounding, figures do not necessarily add to totals.
* These figures are estimated,
t Includes changes in Treasury currency and cash.
$ Includes assets denominated in foreign currencies.
§ Average of four weeks ended on February 28.










Less than one y e a r ..................................
More than one y e a r ................................






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


basis points over the month. The three-month Euro-dollar
rate was generally quoted in a narrow range around 5.50
per cent.
The principal feature of the markets for intermediateand longer term securities was the Treasury exchange
offering (including a prerefunding) involving a 53 per
cent seven-year note and the subsequent cash offering of
$4 billion of a 5s per cent fifteen-month note. Both were
well received. Federal agency offerings of $1.4 billion of
short- and intermediate-term securities in mid- and late
February were quite successful. Over the month, yields on
coupon issues were generally steady to somewhat higher.
Prices were supported by a growing conviction among
market participants that capital market pressures arising
from greater expenditures in the event of further escalation
in Asia would be mitigated by stringent fiscal measures.


In such an event, consensus born of crisis would be ex­
pected to offset the legislative stalemate now plaguing the
proposed tax increase.

On balance, money market rates were slightly higher in
February than in January. The effective rate for Federal
funds was generally 4% per cent, Vs percentage point
above the most frequently prevailing rate a month earlier,
and trading at 4% per cent was not uncommon. Rates on
commercial paper were generally unchanged during the
month, but early in February rates on bankers’ acceptances
were raised Vs percentage point to 5Va per cent (offered)
and rates on 60- to 89-day finance company paper declined
by a similar amount to 5 Vs per cent. Treasury bill rates

Per cent


Decemberl967-February 1968

Per cent













Note: Data are shown for b usine ss d a y s only.
M O N EY MARKET RATES Q UO TED: D a ily ra n ge of rates posted by major New Yo rk C ity b anks

point from underw riting syn d ica te reo fferin g yield on a given issue to market yield on the

on new call loans (in Fed eral funds) secured by United States G overnm ent securities (a point

sam e issue im m ediately after it has been rele ased from syn d icate restrictions); d a ily

ind icates the ab sen ce of any ran ge); offering rates for directly p la ce d finance co m p an y p ap er;

a v e ra g e s of yield s on long -term Governm ent securities (bonds due or ca lla b le in ten years

the effective rate on Fed eral funds (the rate most representative of the transaction s executed);

or more) and of G overnm en t securities due in three to five years, computed on the b a sis of

c lo sing bid rates (quoted in terms of rate of discount) on newest outstanding three- and six-month

clo sin g bid prices; T hursday av e rage s of yields on twenty seaso n ed twenty-ye ar tax-exem pt

T rea sury b ills .
B O N D MARKET Y IELD S Q UO TED: Y ie ld s on new A a a - and A a-rated p ub lic utility bonds are plotted
around a line show ing d a ily a v e ra g e y ield s on seasoned A aa-ra te d co rp o rate bon d s (arrows

bonds (carrying M oody’s ratings of A a a , A a , A , and Baa).
Sources: Fe d e ra l Reserve Bank of N ew Yo rk, Board of G overno rs of the Federal Reserve System,
M oody’s Investors Service, and The W eekly Bond Buyer.



F ifty-th ird A n n u al R e p o r t
The Federal Reserve Bank of New York has published its fifty-third Annual Report, which
reviews the major economic and financial developments of 1967.
The Report notes that 1967 was a trying year for the economy, and that the country was
plagued by a variety of economic ills in the midst of unprecedented prosperity. Delay in the ap­
plication of fiscal restraint in the face of a large budget deficit and of inflationary pressures in the
latter part of the year posed a serious dilemma for monetary policy; partly as a result, the policy
of monetary ease was continued until late in the year, when the Federal Reserve System shifted
its stance toward somewhat firmer credit conditions. The devaluation of sterling rocked the inter­
national financial system in November, but the threat to the dollar was countered as 1968 opened
by the President’s unprecedentedly stringent balance-of-payments program.
In his letter transmitting the Report to the member banks in the Second Federal Reserve Dis­
trict, Alfred Hayes, President of the Bank, stated: “In 1968, economic policy must seek a reduction
in inflationary pressures and a significant improvement in the balance of payments, both in the
context of a growing economy. An appropriate mix of monetary and fiscal policies, including en­
actment of the long-needed tax increase, can make a major contribution to this effort.”
Copies of the Annual Report may be requested from the Public Information Department, Fed­
eral Reserve Bank of New York, 33 Liberty Street, New York, N. Y. 10045.

rose sharply in early February from the lows of the pre­
vious month, and rates were fairly steady—particularly
in shorter maturities—throughout the balance of the month.
Increases early in the month, which generally ranged from
10 to 30 basis points, reflected adjustments in dealer posi­
tions emanating from smaller than anticipated reinvestment
demand associated with the Treasury refunding operations
and higher dealer financing costs. The principal increase
in the cost of financing occurred in the first week, when
rates quoted by New York City banks on call loans to
Government securities dealers rose as much as Va per­
centage point. These rates fluctuated narrowly for the bal­
ance of the month.
At banks in New York City, rates posted on C /D ’s in
the 90- to 179-day maturity range fluctuated mostly be­
tween 5 Vs per cent and 5Vi per cent, Vs to V percentage
point higher than at the end of January. Rates for other
maturities were generally steady: 60 to 89 days at 5 per
cent and over 180 days at the 5Vz per cent Regulation Q
ceiling. Although on balance New York City banks experi­
enced a decline in the volume of outstanding C /D ’s in
February, much of this outflow was offset by gains in funds
drawn from their own foreign branches. These funds,
which are not subject to reserve requirements and deposit
insurance assessments, became attractive as the threemonth Euro-dollar rate declined about 1 percentage point

during January and then stabilized between 5.40 per cent
and 5.60 per cent for most of February. Indeed, the avail­
ability of these funds reduced upward pressure on do­
mestic money market rates.
Aggregate daily average free reserves declined on bal­
ance during February, and borrowings from Federal
Reserve Banks increased markedly after the first week.
Although over the first two statement weeks free reserves
were little changed from average January levels, there was
a sharp contraction in the last two weeks, when net bor­
rowed reserves averaged $43 million and $136 million,
respectively (see Table I). The shift from free to net bor­
rowed reserves during the third week was strongly influ­
enced by a decline of $794 million (on a daily average
basis) in System holdings of open market instruments,
which more than offset an increase in float of $467 million.
“Country” banks were responsible for most of the gain
in borrowings from Federal Reserve Banks in February,
when their daily average borrowings reached the highest
level since October 1966. Moreover, borrowings by New
York City banks for the month were the largest in a year,
and this resort to the discount window was evidence of
increased money market pressure. Reserve stringency at
reserve city banks mounted in the first half of February
after some easing in the final two weeks of January. Al­
though nationwide net reserve availability contracted in


the last half of February, reserve distribution was more
favorable to money market banks, particularly those in
New York City, than earlier in the month (see Table II).

Prices of Treasury notes and bonds fluctuated irreg­
ularly during February, and at the month end yields on
both intermediate- and longer term coupon issues were
little changed from levels a month earlier. In part, the
firmness of prices during the month reflected an attitude
that the worsening Asian situation would not significantly
affect fixed-income securities. It was believed that an
aggravation of hostilities which stimulated greater defense
expenditures would at the same time result in the impo­
sition of fiscal measures which would relieve market
Two sizable Treasury financing operations were con­
ducted in February. In the first, a new 53 per cent sevenA
year note was offered in exchange for a maturing note
and, as a prerefunding, for issues maturing in August and
November 1968. Subscription books were open for three
days beginning February 5. Although initial enthusiasm
waned somewhat, the exchange was regarded as very suc­
cessful. About 72 per cent of the $1.7 billion in February
maturities held outside Federal Reserve and Government
accounts was exchanged, and 25 per cent of the $10.3
billion in other maturities was tendered. On February 13
the Treasury received subscriptions for a $4 billion offer­
ing of a 55 per cent fifteen-month note. Banks were
allowed full Tax and Loan Account credit, and settlement
was made on February 21. Allotments of 39 per cent on
subscriptions in excess of $200,000 were within the range
of market expectations, and the new note was generally
quoted around par in subsequent trading.
Treasury bill rates moved higher in early February,
influenced partially by higher dealer financing costs, which
stimulated aggressive selling. Rates for bills due in two to
six months rose from 6 to 22 basis points during the first
week, while rates on longer maturities were only slightly
higher. At the higher yield levels interest emerged at mid­
month, when demand by banks and state funds—particu­
larly for shorter maturities—moved rates lower. Rates
rebounded somewhat thereafter as these influences abated,
and there was little reaction to the expected Treasury an­
nouncement that an additional $100 million would be of­
fered in the regular three-month bill auctions, probably for
a full thirteen-week cycle. Interest in the monthly auction
of nine- and twelve-month bills favored the shorter issue,
and accepted bids covered a wide range of prices. The
average issuing rates of 5.239 per cent and 5.281 per cent,


respectively (see Table III), were little changed from those
a month earlier.
Prices of Federal agency securities fluctuated narrowly
during February. On February 14 the Federal Home Loan
Banks offered $400 million of a 5.70 per cent note matur­
ing on September 25, 1968 at par and $200 million in a 6
per cent note due March 25, 1970, priced at lOOVs. The
next day the Federal Intermediate Credit Banks offered
$453.5 million of a 5.75 per cent nine-month debenture
at par. At the month end the Federal National Mortgage
Association offered $350 million of a 6 per cent three-year
debenture, priced to yield 6.02 per cent. All issues were
very well received, and the earlier offerings subsequently
traded at premiums.

Prices in the market for corporate bonds were generally
steady throughout February, although some weakness de­
veloped toward the end of the month. While the volume of
new offerings was light, investor resistance was fairly
pervasive—especially to issues priced aggressively by
underwriters. The successful conclusion of Treasury financ­
ing operations during the first half of the month did not
trigger a renewal of demand for new issues, nor did the
prospect of a relatively low volume of offerings in March
stimulate buying. As a result, dealer inventories rose dur­
ing the month. At the same time, spreads between new
and seasoned high-grade issues were slightly wider on bal­
ance than during January (see chart). On February 28
four underwriting syndicates were disbanded, and unsold
issues were released to trade at yields about 10 basis points
higher than originally offered. The Moody index of yields
on Aaa seasoned corporate bonds changed little during
February and closed at 6.08 per cent.
Prices in the market for tax-exempt bonds drifted steadily
lower during February. Late in the month the prospect of a
revival in industrial revenue bond financing added further
pressure to prices. Buying by commercial banks favored is­
sues with short maturities. As a rule, longer maturities of
new issues moved slowly throughout the month, and the
Blue List of dealer-advertised inventories rose from $443.8
million at the end of January to $488.8 million a month
later. This swing about offset the decline in inventories
during January, and the resultant market congestion con­
tributed to the postponement of a major offering scheduled
for late February. Over the month, The Weekly Bond Buy­
er's series of twenty seasoned tax-exempt issues (carrying
ratings from Aaa to Baa) rose by 19 basis points to 4.44
per cent, only slightly below the 1967 peak reached last