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94 MONTHLY REVIEW, MAY 1969 The Business Situation Economic activity continues to expand at an inflation price deflator, the overall price level rose 4.2 percent at ary pace. Preliminary estimates indicate a $16 billion rise an annual rate in the first quarter, the sharpest rate of in gross national product (GNP) in the first quarter of gain so far in the current expansion. The proportion of 1969, little changed from the expansion in late 1968. Con the rise in gross national product attributable to real sumers and businesses both stepped up their spending dur growth in output— that is, exclusive of price effects—was ing the first three months of 1969, even though faced with only 40 percent, smaller than in the fourth quarter and, higher tax payments and rising interest rates. The pickup indeed, smaller than at any time since the beginning of in consumer spending was accompanied by a sharp reduc 1967. Real output rose by less than 3 percent at an tion in personal saving; the saving-income ratio dropped annual rate, compared with an average increase of about a full percentage point to 5.8 percent. While consumer 6 V4 percent in the first half of 1968 and about 4 Va spending has been erratic over the past year, with periods percent during the latter half of the year after the tax of large increases alternating with small gains, the size surcharge went into effect. of the latest quarter’s rise was surprising in view of the The major sources of strength in GNP during the first dampening influence of higher social security deductions quarter of 1969 were consumer spending and business from paychecks beginning January 1 and large final fixed investment. As a result, the growth in final demand payments due on 1968 income taxes. The broad-based — that is, total expenditures exclusive of inventory invest strength of demand throughout the economy indicates ment— amounted to $20.2 billion, substantially greater that the existing anti-inflationary package of fiscal and than in late 1968. By contrast with late 1968, when inven monetary restraints has not yet achieved the goal of tory investment accounted for a significant part of the over slowing the inflationary process. Though some indicators all expansion in GNP, accumulation of inventories in early of business activity have recently moderated a bit, most 1969 was held back by the steep climb in final sales. remain at record or near-record levels, and price inflation The first-quarter surge in consumer outlays was cen shows no signs of abatement. tered primarily in purchases of nondurable goods, which rose by $5.4 billion, the second largest increase in more than three years. Expenditures for services moved ahead by G R O S S N A T IO N A L . P R O D U C T $4.4 billion, in line with their recent growth trend. Con IN T H E F I R S T Q U A R T E R tributing least to the advance was consumer spending on According to preliminary Department of Commerce durables— particularly for automobiles. Outlays for con estimates, the nation’s total output of goods and services sumer durables increased by $1.8 billion, a large share of increased by $16.0 billion in the first quarter of 1969 which was for furniture and appliances. (see Chart I), reaching a seasonally adjusted annual rate The performance of consumer durables sales through of $903.4 billion. The unexpectedly large first-quarter gain the early months of 1969 has been related in large amounted to 7.2 percent at an annual rate, only slightly measure to weak automobile sales. From a seasonally less than in the fourth quarter when GNP grew by $16.4 adjusted annual rate of just over 9 million units in Oc billion. A higher proportion of the latest quarter’s advance, tober, dealer sales of new domestic-model cars slipped however, was due to price inflation, a factor which since 10 percent to a rate of about 8 X million units in March, A early 1968 has been accounting for an ever-increasing and data for April indicate sales of new cars continued share of the growth in GNP. As measured by the GNP at that pace. FEDERAL RESERVE BANK OF NEW YORK Chart I RECENT CHANGES IN GROSS NATIONAL PRODUCT AND ITS COMPONENTS S easonally adjusted C hange from third quarter Ch an ge from fourth quarter 1968 to fourth quarter 1968 to first quarter 1969 GROSS NATIONAL PRODUCT Inventory investment Final expenditures Consum er expenditures for durab le goods Consumer expenditures for nondurable goods Consumer expenditures for services Residential construction Business fixed investment Fed era l Governm ent purchases State and local government purchases Net exports of goods and services Source-. United States Department of Commerce. Billions of dollars According to preliminary statistics, retail sales rose at an annual rate of 6.6 percent from the final quarter of 1968 to the first quarter of 1969. Most of this gain oc curred during the month of January when retail buying was recovering from the sharp December slump. Sales did continue to edge up during February to an all-time high, but then eased about 1 percent in March according to the latest estimates. Businessmen stepped up their capital spending during the first three months of the year. Business fixed invest ment rose to an annual rate of $99.8 billion, $5.5 billion more than in the final three months of 1968. Reflecting the capital investment boom in evidence since mid-1968, as well as rising prices, the growth in capital outlays— particularly for new plant—has accelerated in each recent quarter. The latest increase was the largest on record and conforms with recent surveys of business plans pointing to a 13 or 14 percent increase in capital spending during 1969. Repeal of the 7 percent investment tax 95 credit, as recently proposed by President Nixon, would undoubtedly modify these plans, since this credit now pro vides an estimated $3 billion of annual tax savings for busi nesses. However, over the near term, the extent of this modification is likely to be fairly moderate. An important mitigating influence is the substantial backlog of unused investment credit carried over from prior years. Moreover, the credit applies only to equipment and, hence, its repeal would have only an indirect effect on spending for addi tional plant. In any event, dampening of investment plans due to repeal of the credit on equipment ordered after April 21 is not likely to show up quickly in the statistics for busi ness fixed investment. These figures reflect outlays for plant and equipment put in place, and such spending totals can lag behind investment decisions and the placement of new orders by many months. Spending for residential construction moved ahead in the first quarter by $1.1 billion to an annual rate of $32.7 billion, reflecting the rising trend of new housing starts beginning in the second half of 1968. Despite higher interest rates and personal taxes, the demand for new housing was strong enough to bring the annual rate of housing starts to a peak level of 1.8 million units in Janu ary (after adjustment for seasonal influences). Thereafter, the starts rate retreated to 1.5 million units in March. Most of the recent drop was in single-unit structures; there has been little slowing in the rate at which new apartment buildings are begun. The decline after January may reflect simply a movement away from an unsustainably high rate which represented an aberration in a highly volatile series. On the other hand, some of the recent moderation may have been a reaction to tighter credit conditions, higher personal tax payments this spring, and sharply rising con struction costs, especially for lumber. Inventory investment in the first quarter of 1969 is estimated to have been at an annual rate of $6.4 billion, substantially below the previous quarter’s $10.6 billion. The cutback accompanied a pronounced pickup in sales by manufacturers and retailers in the first three months of 1969. Sales increases were especially strong for manufac turers of durable goods whose sales volume, on an annual basis, was $13 billion higher than in the final quarter of 1968. Similarly, the annual rate of sales at retail outlets in the beginning months of 1969 rose by almost $6 bil lion from the fourth-quarter rate. As a consequence, the inventory-sales ratios for durables manufacturers and retailers backed off a bit from their year-end highs. Increased spending by governments at all levels con tributed $3.2 billion to the overall gain in GNP during the January-March period, almost the same as in the previous three months. In both quarters, the contribution of the 96 MONTHLY REVIEW, MAY 1969 Federal Government to the overall rise was small, reflect ing the distinct slowing in the growth of Federal spending — particularly for defense purposes— that has been in evidence since mid-1968. Total Federal purchases of goods and services rose by only $0.6 billion in the first quarter, while state and local spending was up by $2.7 billion. The remaining component of GNP, net exports of goods and services, dropped $1 billion to a level of zero in the first quarter of 1969. The further deterioration in the level of net exports was, of course, principally due to the ex tended dock strike which affected ports along the Eastern Seaboard and the Gulf Coast. About 50,000 longshoremen were involved, most of whom were out until February 22, though workers at Boston and the Gulf Coast ports re mained out until March 31. With resumption of port operations, a sharp recovery of net exports is expected in the second quarter. E M P L O Y M E N T , IN C O M E , A N D O U T P U T Labor market conditions were very tight during the first quarter of 1969, with employment at all-time highs and unemployment rates at exceptionally low levels. For the quarter as a whole, the civilian labor force and civilian employment were each up by about 1.2 million persons from the preceding three-month period, compared with average quarterly increases in each aggregate of about 300,000 persons during 1968. Most of the quarter’s gain occurred in the first two months of 1969. The March employment increases were considerably smaller because of weakness in the agricultural sector. During that month, the unemployment rate moved fractionally higher to 3.4 percent from the 3.3 percent rate of the previous three months, because of an increase in the volatile rate for teen-agers. Rates of unemployment for the various major adult groups remained at near-record lows throughout the quarter. In April, however, the unemployment rate in creased further to 3.5 percent, as unemployment among adult men and women rose fractionally. Total civilian employment fell in April by 160,000 persons, seasonally adjusted, while the civilian labor force dropped a smaller 45,000. For workers on the payrolls of nonagricultural estab lishments, a breakdown of the first quarter’s increase in employment reveals the same trends. The March advance of 197,000 persons was two-thirds as large as the gains of 300,000 to 350,000 registered in the two preceding months. In general, all industry groups shared in the firstquarter job expansion, but the largest gains occurred in trade, services, the government sector, and manufacturing. In April, however, the decline in total civilian employment was accompanied by a very small 34,000 increase in the number of employees at nonagricultural establishments. Accompanying the broad-based gains in employment during the first quarter was another decline in the average workweek of manufacturing production workers, which reached its low for the quarter in February because of heavy snow storms. The workweek lengthened again dur ing March to 40.8 hours, and preliminary data for April indicate the workweek remained about unchanged at 40.7 hours. There was little change in the utilization rate of in dustrial capacity in the first quarter. The factory operating rate stood at 84.1 percent, compared with 84.2 percent the previous quarter. This stability was the result of a decline in the operating rate for advanced processing industries offset by a rise in that for primary processing industries, such as steel. Wage and salary disbursements rose $11.5 billion be tween the fourth quarter of 1968 and the first quarter of 1969, in line with the large gain in employment. Higher payrolls were evident in all major industry divisions. This latest expansion brought total personal income (seasonally adjusted at an annual rate) to an average level of $721.4 billion for the quarter and to $726.7 billion for March. The latest statistics for industrial production show that the volume of industrial output gained sharply in March after two months of comparatively moderate increases, due in part to output disruptions caused by strikes. The Federal Reserve Board’s index of industrial production rose in March by 0.6 percent to reach a seasonally ad justed 170.5 percent of the 1957-59 average. Virtually all major industries shared in the expansion but, as in February, the nonconsumer sector was in the forefront. Gains were particularly large in mining and in the produc tion of defense equipment and steel. The sharp 4.7 percent gain in defense equipment output was the second such monthly increase. It reflected recovery from a strike of 18,000 aircraft workers in January, and was probably also related to a very large increase in new orders placed with the aircraft industry during February. Total mining output was also up strongly, rising 2.3 percent in the wake of a settlement of the petroleum workers’ strike. In addition, steel production continued its very strong re covery from the reduced levels of output last summer, and new orders for steel remain high. The production of consumer goods also expanded dur ing March but by considerably more modest proportions. Nonetheless, the March gain was somewhat more buoy ant than in February, as production levels of household durables and apparel rose. The month’s higher output level was also influenced by the fact that automobile produc- 97 FEDERAL RESERVE BANK OF NEW YORK tion, which has been drifting downward since November, registered a more modest decline in March than in pre ceding months. However, in April, domestic auto produc tion fell further as scattered strikes held assemblies well below scheduled levels. Revised statistics indicate that new orders received by manufacturers of durable goods in March were 2Vi per cent smaller than February’s record level. Most of the decline was in orders for aircraft and parts which fell 19 percent from their high February level, a particularly sharp cutback even for this volatile series. Orders for motor vehicles and parts were also down but, in general, orders for most other types of durable goods held firm. Moreover, the backlog of unfilled orders totaled $85.2 billion, up slightly from the previous month. C h a rt II CONSUMER AND INDUSTRIAL W HOLESALE PRICES 126 126 C o n s u m e r p r ic e in d e x 1957-59=100 124 124 122 120 118 / 116 114 116 'i i i i i i i i 1 I I 1 .L I L.L 114 1 0 P e rc e n t a g e c h a n g e a t a n n u a l ra te at ■ ■■iilll.lilllllllllillill 5 0 P R IC E D E V E L O P M E N T S Percent 114 Consumer prices rose over the first three months of the year at an annual rate of 6.1 percent and wholesale prices at 6.9 percent, in both cases considerably faster than in the closing quarter of 1968. The data for March, moreover, show that the consumer price advance accel erated to an extraordinary annual rate of 9.6 percent (see Chart II), the steepest monthly gain since 1951 when the Korean war inflation was at its worst. The March surge in consumer prices was twice as rapid as that in February and also double the rate of gain in 1968 as a whole. Moreover, prices advanced on a broad front, although increases were most pronounced in homeownership costs such as mortgage interest rates, in used car and gasoline prices, and in the costs of medical care. The wholesale price index stood in March at 111.7 percent of the 1957-59 average, up 6.5 percent, at an annual rate from the preceding month. The index for in dustrial commodities rose at a 6.5 percent rate, with price increases in lumber, pulp and paper, fuels, metals, and machinery providing the most push. Overall farm prices rose even more steeply, at an annual rate of 7.6 percent. For April, preliminary data point to a more moderate advance in the wholesale index. The April estimate puts ;he overall wholesale price index at 111.9 percent of the ------ 1114 In d u s t ria l w h o le s a le p r ic e in d e x 1957-59=100 112 10 1 108 108 106 106 ..i i i .1 i i i i i i ii i i i i I i i i i i i... P e rc e n t a g e c h a n g e a t a n n u a l ra te ll lllllllliti .iliiIII. -5 1967 Note: 1968 1969 Consumer prices are plotted through M arch; w holesale prices are plotted through April (preliminary). Source: United States Department of Labor, Bureau of Labor Statistics. 1957-59 average, up at an annual rate of 2.1 percent from March. Agricultural commodities are estimated to have risen very steeply, while industrial commodities advanced at a quite modest pace to 112.1 percent of the 1957-59 average, reflecting a reversal of the earlier sharp run-up in lumber and plywood prices. 98 MONTHLY REVIEW, MAY 1969 Banking and Monetary Developments in the First Quarter Bank credit and money supply expansion slowed sharply in the first quarter in response to the Federal Reserve Sys tem’s policy of restraint. Two weeks before the quarter began, the Federal Reserve discount rate was raised Va percentage point to 5 Vi percent and open market policy was tightened substantially. Furthermore, the Regulation Q ceilings that set the maximum rates which commercial banks may pay on time and savings deposits were kept unchanged at levels curtailing the banks’ ability to renew these deposits as they came due, especially in the case of large-denomination certificates of deposit (CD’s). The System’s tightening of monetary conditions in late 1968 was reflected in a number of first-quarter develop ments. Bank credit growth slowed sharply in the first quarter to a 1Vi percent annual rate, and the rate of in crease in the narrowly defined money supply dropped to 2 percent. By contrast, in the last half of 1968 bank credit rose at a 15 percent annual rate and the narrow money supply rose 6 percent. Daily average deposits sub ject to reserve requirements — the bank credit proxy — declined at a 5 percent annual rate in the first quarter, after increasing at a 13 percent pace in the last half of 1968. Banks, however, were able to offset nearly half of the first-quarter decline in deposits by increasing their Euro-dollar borrowings. Interest rates on corporate, muni cipal, and long-term Government bonds moved steadily higher in the first quarter, as did rates on commercial paper. As reserve positions came under increasing pres sure, Federal funds rates climbed and member banks borrowed heavily at the discount window. Euro-dollar rates also moved up, as some of the larger banks borrowed heavily in this market in an attempt to replace funds lost through rundowns in large CD’s. Commercial banks began to lose large CD’s in mid-December, when holders switched to other, higher yielding investments, and con tinued to lose them in large amounts throughout the first quarter. Nonetheless, banks increased their real estate and consumer loans at rapid rates, and business loans grew at the fastest clip since the second quarter of 1966. Faced with heavy loan demand and substantial losses of large CD’s, commercial banks twice raised the prime rate during the first quarter, bringing it to a record IV 2 percent on March 17. With loans increasing rapidly and CD liabilities declining, banks were forced to sell large quantities of United States Government securities and to limit greatly their acquisitions of other investments. Despite monetary and fiscal restraint, the economy continued to expand at an inflationary pace during the winter months. As a result, shortly after the end of the first quarter the Board of Governors approved actions by the directors of the twelve Federal Reserve Banks further increasing the discount rate to 6 percent. In an additional move against inflation, the Board of Governors increased reserve requirements against all member bank demand deposits by V2 percentage point— an action that increased required reserves by about $650 million. IN T E R E S T R A T E D E V E L O P M E N T S A N D M E M B E R B A N K R E SE R V E P O S IT IO N S Most market interest rates moved higher during the first quarter, increasing from already high levels. The bank prime rate—the interest rate which commercial banks charge their most creditworthy corporate borrowers— had been increased twice in December, to 6 V2 percent on December 2 and then to 63 percent on December 18. A In early January the prime rate was raised further to 7 percent, and in mid-March was moved up again to a record IV 2 percent. Yields on most municipal, cor porate, and long-term Government bonds also increased during the first quarter, but by somewhat smaller amounts. Yields on Government securities maturing in three to five years rose 34 basis points over the quarter to an average of 6 V3 percent in March, while new issue rates on highgrade corporate bonds rose about 55 basis points to 7 V2 percent in March. Rates on prime four- to six-month com mercial paper rose more steeply, climbing 65 basis points to 6.8 percent in March. Throughout the quarter, most often quoted bank offering rates on large CD’s were uniformly at their Regulation Q ceilings, which range from 5 Vi 99 FEDERAL RESERVE BANK OF NEW YORK percent on the shortest maturities to 6 V4 percent on the longest. Treasury bills provided an exception to the general upward trend in market interest rates in the first three months of the year. Rates on three-month Treasury bills, which had reached a record 6 V4 percent in late December, fell slightly over the quarter to just under 6 percent by the end of March. The low level of new Treasury borrowings, together with a broadly based demand for bills, helped reverse the strong upward pressure on bill rates that had prevailed throughout the last quarter of 1968. Reserve positions of member banks came under greater pressure during the quarter, and discount window bor rowings increased substantially. Reserves required to be held against demand and time deposits fell $233 million from December to March. However, nonborrowed re serves— those supplied through open market operations— dropped $605 million. Consequently, member banks found it necessary to increase their borrowings at Federal Reserve Banks from an average of $752 million in December to $918 million in March. At the same time, member bank excess reserves were reduced from an average of about $450 million in December to a 37-year low of $180 million in March. These developing pressures on marginal reserve positions were associated with a steady rise in interest rates on Federal funds, which climbed from an average of 6.0 percent in December to 6.8 percent in March. Chart 1 CHANGES IN BAN K CREDIT AND ITS COMPONENTS AT ALL COM MERCIAL BAN KS S e a s o n a lly a d ju s te d a n n u a l rates B A N K C R E D IT |X v 3 3 rd quarter 1968KXv\\N4th quarter 1968 The growth of total commercial bank credit slowed sharply to a seasonally adjusted annual rate of IV2 percent in the first quarter (see Chart I). Bank credit growth had been at a 19 percent annual rate in the third quarter of 1968, but had dropped to about half that pace in the final three months of the year. The further decline in the rate of bank credit expansion during the first three months of this year was reflected in a large reduction in bank holdings of Government securities together with a sizable decline in securities loans. Consumer, business, and real estate loans continued to expand rapidly in response to strong credit demand associated with rapid economic growth and continued inflationary expectations. Thus total loans, excluding securities loans, expanded at an 11 percent rate with business loans leading the advance. Total investments were reduced at an 11 percent rate, the first overall contraction of investments since 1966, with all the drop attributable to net sales of United States Govermnent securities. Commercial banks reduced their holdings of Government securities at a 30 percent seasonally adjusted annual rate during the quarter. This was the most rapid rundown quarter 1969 of banks’ Government securities portfolios in at least two decades, and it left their total dollar holdings of these securities at the lowest level in nearly two years. Sales of securities were particularly rapid in February, when loan demand was at its peak for the quarter. However, banks continued to be net sellers of Government securities in March despite takings of sizable amounts of the March 3 Treasury bill offering, which could be purchased by crediting Treasury Tax and Loan Accounts. Banks in the first quarter continued to add to their holdings of other securities, principally tax-exempt municipal bonds, but additions to these investments dropped to a third of the pace set in the preceding six months, Heavy nonbank demand for Treasury obligations in the first quarter and a low level of Treasury borrowing contributed to a reduction in the inventories of Government securities dealers. Municipal bond dealers also cut back 100 MONTHLY REVIEW, MAY 1969 their inventories as prices trended lower in that market. Additionally, the demand for stock market credit fell, as the problem of delivery “fails” moderated substantially and as speculative activity subsided. Consequently, bank securities loans fell at an extremely rapid 62 percent annual rate from December to March. As is usually the case, securities loans moved in a quite erratic week-toweek pattern during the quarter. Thus, although the trend was strongly downward, there were several brief periods when securities loans outstanding were increased. Gen erally these increases were associated with Treasury financings, during which Government securities dealers temporarily added to their inventories. Business loans grew at a seasonally adjusted 14V2 per cent annual rate in the first quarter of 1969, the most rapid quarterly increase since the second quarter of 1966. This heavy business loan demand was probably related to a vari ety of factors. Spending for inventories and plant and equip ment was substantial during the first quarter, leading to heavy business demand for funds generally. In addition, tax payments in January and March absorbed large amounts of corporation funds. Finally and perhaps most importantly, it is probable that businesses borrowed heavily in January and February in anticipation of higher cost and reduced avail ability of credit at banks. In this connection, business loan growth moderated sharply in March, especially following the midmonth prime rate rise, though growth in April appears to have again been sharp. Bank real estate and consumer lending also expanded strongly during the first quarter, although real estate lending slowed somewhat from the pace set last fall. Real estate loans increased at an 11% percent annual rate, compared with a 14 percent fourth-quarter gain. Construction activity advanced strongly in the first quarter, contributing to the further expansion of mortgage loans despite the increased pressures on banks’ loanable funds. Consumer loans out standing grew at a fairly rapid 7 percent seasonally ad justed annual rate, up from the AV2 percent fourth-quarter increase. In the first quarter, consumer borrowing reflected the step-up in consumption expenditures in the face of greatly reduced growth in disposable personal income. Moreover total consumer borrowing from all sources in creased more rapidly during the first quarter than did con sumer borrowing from banks. The loan-deposit ratios of banks moved higher during the first quarter, reflecting the pressures on bank liquidity that arose from strong loan demand and reduced deposit growth. For all commercial banks the ratio of loans to deposits reached 66 percent in February and 67 per cent in March. Both levels exceeded the previous postwar record reached in the fall of 1966. At the New York City weekly reporting banks, loan-deposit ratios jumped from 80 percent in December to 88 percent by the first quar ter’s end, more than 6 V2 percentage points above the high est 1966 levels. However, this latter development can be placed in better perspective by including Euro-dollar bor rowings in the denominator of the ratio since, among New York banks especially, these borrowings were a major source of funds for new loans during this quarter. Inclusion of such liabilities in the denominator reduces the March loan-deposit ratio for New York banks to 75 percent, slightly below the 1966 peak measured on the same basis. M O N E Y S U P P L Y A N D T IM E D E P O S I T S The daily average money supply—privately held de mand deposits plus currency in circulation outside banks— grew at a 2 percent seasonally adjusted annual rate over the first quarter, much below the 6 V2 percent rate for the preceding twelve months. The first-quarter money supply increase was comprised of a V2 percent annual rate gain in private demand deposits and a. IV 2 percent rate of in crease in the currency component. This slowing of money supply growth appears for the most part to have reflected the tighter monetary policy prevailing since last December. Treasury deposits with member banks increased $0.7 bil lion during the quarter, but this development probably contributed little to the slowing of the private money sup ply since increases in Treasury balances ordinarily reduce private money holdings substantially less than dollar for dollar. There may, however, have been some reduction in the demand for money balances associated with the sharp decrease in the volume of stock market transactions during the quarter. After large gains in the summer of 1968, time and sav ings deposit growth at commercial banks slowed in the closing months of the year and then became negative in January when banks lost large CD’s in volume (see Chart II). CD losses moderated later in the quarter, but never theless totaled $4 billion for the period from the end of December to the end of March. By early last December, market offering rates on new CD’s had reached the ceilings imposed by Regulation Q, and rates on other short-term securities continued to rise. In late December, six-month Treasury bills yielded over 60 basis points more than 90to 179-day CD’s, and three-month Treasury bills were yielding about 80 basis points more than CD’s of less than 90-day maturity. By the end of the first quarter, rates on Treasury bills had moderated somewhat, and their yield advantage over CD’s, though still wide, had dropped to about 30 basis points in the case of six-month bills and FEDERAL RESERVE BANK OF NEW YORK about 45 basis points in the case of three-month bills. Savings deposits also declined marginally during the quar ter, other time deposits rose somewhat, and total time and savings deposits contracted at a 6 V2 percent annual rate. In an effort to regain the deposits lost through the CD runoff, the larger commercial banks—particularly those Ch art S I LARGE CERTIFICATES OF DEPOSIT OUTSTANDING AND YIELD AD VA N TA G E Billio n s of d o lla rs 101 in New York City— borrowed heavily in the Euro-dollar market. Large commercial banks in New York City in creased their liabilities to their foreign branches by about $2.5 billion during the quarter, even though Euro-dollar interest rates remained near or above 8 percent. All com mercial banks with overseas branches registered an in crease in Euro-dollar liabilities totaling $3.9 billion. While Euro-dollar borrowing may have little or no impact on aggregate banking system resources, this offshore market has increasingly become a major vehicle by which funds are reallocated within the domestic banking system, espe cially in periods when Regulation Q ceiling rates on large CD’s place severe pressures on the larger banks in the country. T H R IF T I N S T I T U T I O N S t Monthly average of most often quoted new issue rates on 90- to 179-day large certificates of deposit at nine large New York City banks less average yield on six-month Treasury bills. Source: Board of Governors of the Federal Reserve System. The growth of savings accounts at thrift institutions was little changed in the first quarter despite a sharp reduction in overall consumer saving. Share capital at savings and loan associations and deposits at mutual savings banks together registered a seasonally adjusted annual-rate in crease of 6 percent, not significantly different from that of the preceding quarter. Savings and loan associations maintained their recent growth trend of about 6 percent, while mutual savings bank deposits slowed to a 6Va per cent annual rate of increase following an accelerated 7 percent gain in the fourth quarter of last year. Thus, the thrift institutions so far appear to have been little affected on balance by the increased monetary restraint exerted by the Federal Reserve System. The sustained growth of savings capital at the thrift in stitutions has permitted their mortgage lending—prin cipally on residential properties— to increase at a solid pace. The mortgage portfolios of the savings and loan associations rose at an annual rate of 8.4 percent in the first quarter, after seasonal adjustment, while mutual sav ings banks’ mortgages climbed 6.2 percent. In both cases, these latest increases were slightly higher than average 1968 gains. 102 MONTHLY REVIEW, MAY 1969 The Money and Bond Markets in April During April the money market was subjected to pres sure from greater monetary restraint and from unusually large reserve drains around midmonth. The Federal funds rate and other short-term interest rates advanced in the wake of the April 3 announcement of increases in the Federal Reserve discount rate and reserve requirements on demand deposits at member banks. (For details, see the statement of the Board of Governors reproduced in full on page 75 of the April issue of this Review.) Accompany ing the firmer money market conditions that emerged dur ing the month were variations in day-to-day rates which reflected some fairly abrupt shifts in the distribution of re serves between money center and other banks. In large part, these fluctuations were due to wide swings in the size and distribution of Treasury cash balances around the mid month tax date. After mid-April, however, short-term Treasury bill rates began to reverse the upward movement which had occurred earlier, and by the month end rates were below March 31 levels. Sentiment in the bond markets, particularly in the cor porate sector, continued to improve, and some feeling developed that yields had already hit their peaks for the year. New issues were aggressively sought for a time at declining yields, prices of outstanding bonds rose sharply, and the market resisted such potentially bearish price in fluences as a rebound in the volume of new offerings, the report of a strong first-quarter advance in gross national product, and new trouble with North Korea. The marked revival of expectations that lower interest rates lay ahead stemmed from a growing belief that the anti-inflation pro grams of the Federal Reserve and the Administration, including the proposed repeal of the investment tax credit, would prove effective. Renewed optimism over progress toward a settlement in Vietnam worked in the same direc tion. By the month end, however, the rally began to lose steam as money market rates remained high and signs of a slowing of price inflation remained sparse. BANK R ESERVES AN D THE M ONEY M ARKET Increased pressure on bank reserves during April was apparent in some increase in member bank borrowings from the Federal Reserve Banks and a marked rise in the prevailing range of Federal funds rates. For April as a whole, borrowings at the discount window averaged ap proximately $1 billion, a rise of close to $80 million from March. Since excess reserves declined on balance, net borrowed reserves in April advanced $160 million to $860 million. The Federal funds rate, after having remained mostly in a 6 5 to 6% percent range in March, moved up to a 7 /s to IV 2 percent range following the announcement of the discount rate and reserve requirement increases in early April (see Chart I). About midmonth the rate rose further to around 7% percent. The distributional effects of the Treasury operations on the major money market banks were quite pronounced during April. Chart II records the pattern of basic reserve deficits during the February-April period for the past three years. The early- to mid-April jump was far more than seasonal in 1969 and, indeed, the $2% billion rise during the two-week period was one of the sharpest on record. The major money market banks, in seeking to cover their combined deficit of over $4 Vz billion, were instrumental in bidding up the Federal funds rate. While a subsequent reversal of the skewed distribu tion of reserves brought a temporary respite, Federal funds continued to trade at 7% percent or above for most of the last half of the month. Indeed, on April 30, the final day of a statement week, some transactions at rates as high as 9 V2 percent were reported. Reserve management in April had to deal with the effects of the increase in reserve requirements and with re course to temporary Federal Reserve credit by the Trea sury to bridge the gap between receipts and expenditures. At the beginning of April, Treasury balances were inade quate to cover net outlays until the inflow of tax receipts after midmonth. As a consequence, funds flowing into large banks for the account of the Treasury were with drawn daily, and remaining cash shortfalls were financed by the sale of special certificates to the Federal Reserve. Thus, reserves were redistributed from money center banks to others, and at the same time credit extended to the Treasury by the System was creating new reserves which had to be offset by open market operations. As corporate 103 FEDERAL RESERVE BANK OF NEW YORK C h art I SELECTED INTEREST RATES Percent M O N E Y M A RK ET RA TES F e b ru a ry M arch F e b r u a r y - A p r ill9 6 9 A p ril F e b ru a ry BO N D MARKET YIELDS M a rch Percent A p ril N ote: D ata a re shown for business d a ys only. M O N EY M ARKET RATES Q U O TED : D a ily range of rates posted by m ajor N ew York City banks im m ediately after it has been re lea sed from syndicate restrictions); d a ily a ve ra g e s of yields on on ca ll loan s (in Fe d e ra l funds) secured by United States G o vernm ent secu rities (a point seaso n ed A a a -ra te d co rpo rate b o nds; d a ily a v e ra g e s of yield s on long-term G o vernm ent ind icates the absen ce of any ran ge); o ffering rates for directly p la ced fin an ce com pany p a p e r; securities (bonds due or c a lla b le in ten ye a rs or more) and on Governm ent securities due in the effective rate on Fe d e ra l funds Ithe rate most represen tative of the transactions executed); three to five y e a rs , computed on the basis of closing bid prices; Thursday a ve ra g e s of yields closing bid rates (quoted in terms of rate of discount) on new est outstanding three- and six-month on twenty seasoned twenty-ye a r tax-exem pt bonds (carrying M oody’s ratings of A a a , A a , Treasu ry bills. A, and Baa). BOND MARKET YIELDS Q U O TED : Y ield s on new A a a - a n d A a -ra te d public utility bonds (arrows point Sources: Fe d e ra l R eserve Bank of N ew York, Board of G overnors o f the F e d e ra l R eserve System, from underwriting syn dicate reoffering y ield on a given issue to m a rk e ty ie ld on the sam e issue tax payments began to flow in at midmonth, balances in Tax and Loan Accounts at commercial banks were re stored and indebtedness to the Federal Reserve was repaid. In sum, Treasury cash management operations provided about $1 billion in reserves in the week ended on April 16 and then withdrew around $1.2 billion during the suc ceeding week as operations were reversed (see Table I). Confronted with the need to absorb a substantial vol ume of reserves in the week ended on April 16, and to reverse direction in the following week, the System re sorted extensively in the earlier week to matched sale and purchase transactions. These operations involved sales of Treasury bills by the System to dealers under agreements to repurchase during the next week. Initially, then, these M oody’s Investors Service, and The W ee kly Bond_Buyer. transactions absorbed reserves, and the impact tended to fall on money market banks, where reserve pressures were already great. The Vi percentage point boost in reserves required against member bank demand deposits applied to deposits in the week that began April 3. Because of the two-week lag in reserve settlement, however, the full im pact was delayed until the week beginning April 17, when this action accounted for about $650 million of the total rise of $940 million in required reserves for that week. In spite of these reserve pressures, monetary aggregates were buoyant. Total deposits subject to reserve requirements (the bank credit proxy) rose about 6 percent (seasonally adjusted annual rate) in April after a 5 percent drop in the first quarter. Adjustment to include liabilities to foreign 104 MONTHLY REVIEW, MAY 1969 branches would have more than halved the first-quarter decline, but would not have altered the April results much (although sales of assets by domestic banks to their for eign branches introduced some distortion). Liabilities to foreign branches, which had advanced about $3.9 billion in the first three months of 1969, registered a drop of $200 million in April. This reversal coincided with a slowdown in the rate of decline in time deposits at commercial banks. While large certificates of deposit continued the slide that has taken place throughout 1969, liquidations in April were little more than seasonal. Indeed, total time deposits on a seasonally adjusted basis were about unchanged in April after a drop of 6 V2 percent in the first quarter. Fol lowing a 2 percent rise in the first quarter, the money supply registered a surprising 13 percent annual-rate gain in April. Part of this upsurge was related to a sharp, tem porary fall in the amount of cash items in process of col lection. In turn, this drop was associated with a lull in transactions involving foreign banks, which were closed for holidays both before and after the Easter weekend. This kind of aberration also occurred in 1968, but on a somewhat smaller scale. C h a rt II BASIC RESERVE POSITIONS OF M A JO R MONEY M ARKET BANKS B illio n s of d o lla rs B illio n s of d o lla rs Note: Al! figures shown represent deficit positions. Calculation of the basic reserve position is illustrated in Table II. T H E G O V E R N M E N T S E C U R IT IE S M A R K E T In the market for Government securities most yields declined on balance during April, although some bill rates were higher during the first half of the month. The upturn was attributable in part to bank sales of issues acquired in late-March Treasury offerings and to money market pressures which increased dealer financing costs. Many bill rates initially jumped from 5 to 9 basis points in reaction to the April 3 announcement of monetary policy actions, although bills due after six months soon retraced most of the rise. After midmonth, upward impulses subsided and rates worked lower. The Treasury announcement that $200 million of the maturing April 30 bill would not be refunded, public fund demand, and reinvestment of the proceeds of maturing tax anticipation bills contributed to the improved performance. Long bills tended to benefit somewhat from the increased confidence that monetary and fiscal measures attacking inflationary pressures would be effective in the long run. Participants also anticipated that the Treasury’s May refinancing operation would gen erate strong demand for bills. As a consequence, the yield curve in the bill market was flat during much of the latter half of the month, and the six-month bill sometimes traded slightly below the rate level of the three-month bill. At the regular monthly auction on April 24, average issuing rates on the nine- and twelve-month bills were set at 5.98 and 5.93 percent, respectively, 8 and 20 basis points lower than comparable rates at the auction a month earlier (see Table III). At the close of the month, the quoted rates on three- and six-month maturities were 5.87 and 5.96 percent bid, respectively, down 12 and 14 basis points from March 31. Rates for most other bills regis tered net declines of from 2 to 17 basis points in April. Long-term markets were bolstered by the prospect of intensified monetary and fiscal attacks on inflation and by optimism about a resolution of the struggle in Vietnam. Participants focused on the positive aspects of changes in the discount rate and reserve requirements, expecting that such actions would contribute to price stability and, in time, to lower interest rates. Later in the month further improvement was generated in the capital markets by the President’s recommendations for tax action. The view emerged that the elimination of the 7 percent investment tax credit might inhibit corporate capital expenditures and thereby contribute to a reduction of inflationary pressures and a contraction in the volume of corporate borrowings in the capital markets. The strong performance of the corporate bond market during the month gave a boost 105 FEDERAL RESERVE BANK OF NEW YORK Table I Table II FACTORS TENDING TO INCREASE OR DECREASE MEMBER BANK RESERVES, APRIL 1969 RESERVE POSITIONS OF MAJOR RESERVE CITY BANKS APRIL 1969 In millions of dollars; (+) denotes increase, (—) decrease in excess reserves In millions of dollars Daily averages—week ended on Factors affecting basic reserve positions Changes in daily averages— week ended on April 9 April 2 April 16 April 23 — 79 + — — + + -f — + + — — 259 291 50 25 55 — 940 7 249 119 15 90 — 270 — 97 + + + + — + 221 390 41 380 29 189 — 427 + 5 — 160 + 130 + 119 + Total “ m arket” factors . . . 2 April 30 — 169 — 310 — 770 — 194 + 35 — 88 + 591 — + + 72 46 207 + — 57 + 61 — 479 April 23 April 16 April 30 Eight banks in New York City ‘'Market” factors Member bank required reserves ........................................ Operating transactions (subtotal) ...................... ............. Federal Reserve f lo a t............ Treasury operations* ............ Gold and foreign acco u n t... Currency outside b a n k s ........ Other Federal Reserve accounts ( n e t ) t ...................... April 9 April Net changes Factors Averages ol five weeks ended on April 30 Reserve excess or deficiency (—)* ................... 41 32 — 3 1 — 7 - 35 8 Less borrowings from 201 Reserve Banks ..................... 75 84 63 85 Less net interbank Federal funds purchases or sales(— - 159 ). 888 1,807 1,435 293 853 Gross purchases............... 1,861 1,332 1,833 2,382 2,202 1,558 Gross sales ....................... 767 1,265 946 1,491 575 1,009 Equals net basic reserve surplus or deficit (—) ............ 177 — 970 -1,926 -1,595 — 388 — 940 Net loans to Government securities dealers................. 440 948 1,010 780 765 645 ' Net carry-over, excess or 38 24 14 35 15 deficit ( - ) t ........................... 1 1 —1,185 Thirty-eight banks outside New York City Direct Federal Reserve credit transactions Open market operations (subtotal) .................................... Outright holdings: Government securities ____ Bankers’ accep tan ces.......... Special certificates .............. Repurchase agreements: Government s e c u ritie s ........ Bankers' accep tan ces.......... Federal agency obligations. Member bank borrow ings.......... Other loans, discounts, and advances ........................................ + 397 + 135 + 126 + 5 + 57 — 559 + 819 1 + 2 + 3 — 1 + 2 + 96 — — 7 5 + 280 + + 648 4 Reserve excess or deficiency ( - ) t ................... Less borrowings from Reserve Banks ..................... Less net interbank Federal funds purchases or sales(— ). + 4 + + + + 61 55 62 154 Net loans to Government securities dealers.............. Net carry-over, excess or deficit (—)f ....................... + 364 + 830 + 627 — 723 211 + 223 + 56 20 + 374 + + + — + 770 + 347 + + — 132 52 + 1 1 + io + 232 Total ........ — — 33 — 15 — 187 + 361 + Excess reserves 23 — 66 486 149 367 1— 429 23 - 29 288 412 1,452 2,202 2,136 2,201 1,521 3,293 3,607 3,630 3,430 3,047 1,841 1,405 1,494 1,229 1,526 -1,939 -2,666 -2,652 -2,631 |—1,832 1,902 3,401 1,499 — 201 Equals net basic reserve + 23 - 3| 4891 — 77 51 26 56 17 984 - —2,344 951 80| 218 124 - 5 64 31 29 43 14 17 27 Note: Because of rounding, figures do not necessarily add to totals. * Reserves held after all adjustments applicable to the reporting period less required reserves and carry-over reserve deficiencies, t Not reflected in data above. Table III Daily average levels AVERAGE ISSUING RATES* AT REGULAR TREASURY BILL AUCTIONS Member bank: Total reserves, including vault cash .................................... 26,695 Required reserves ........................ I 26,438 Excess reserves ............................ 257 Borrowings .................................... 1,195 Free, or net borrowed (— ), reserves .......................................... — 938 Nonborrowed reserves ................ 25,500 Net carry-over, excess or deficit (—)§ ................................ 136 In percent 26,572 26,381 191 947 26,584 26,470 114 760 27,575 27,410 165 1,134 27,612 27,579 33 1,117 27,008$ 26,856$ 152* 1,031$ — 756 25,625 — 646 25,824 — 969 —1,084 26,441 26,495 — 879$ 25,977$ 130 125 85 103$ Weekly auction dates—April 1969 Maturities April 1 April 7 April 14 April 21 April 28 Three-month................................ 41 6.065 6.167 6.195 6.175 6.053 Six-month.................................... 6.136 6.185 6.191 6.164 6.043 | Changes in Wednesday levels Monthly auction dates—February-April 1969 System account holdings of Government securities maturing in: Less than one year .................... More th an one y e a r .................... Total ...................................... February + 326 — + 326 + 144 ~ + 144 — 578 + 409 20 March 26 Nine-month.. 6.307 6.058 5.977 One-year..... 6.234 6.132 5.931 +1,177 — — — — — 578 + 409 + 876 +1,177 Note: Because of rounding, figures do not necessarily add to totals. * Includes changes in Treasury currency and cash, t Includes assets denominated in foreign currencies. $ Average for five weeks ended on April 30. § Not reflected in data above. + 876 April 24 * Interest rates on bills are quoted in terms of a 360-day year, with the dis counts 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. 106 MONTHLY REVIEW, MAY 1969 to prices of Treasury coupon issues. Momentum tapered off toward the end of the month, however, prompted by some profit taking and hesitation in the face of the up coming announcement of the Treasury refinancing oper ation. On April 30 the Treasury announced that it would offer holders of issues maturing May 15 and June 15 a choice of a 6 3 percent note, due in fifteen months and /s priced to yield 6.42 percent, or a seven-year 6 V2 percent note, priced at par. For the month as a whole, yields on three- to five-year issues were down 14 basis points, and long-term yields fell 29 basis points. O T H E R S E C U R IT IE S M A R K E T S In the corporate bond sector new issue yields, which had begun to slide in mid-March, continued to decline through out most of April. Although sporadic price corrections provided temporary interruptions, the underlying condi tion of the market was improved. After facing consider able resistance to new offerings in March, underwriters encountered renewed investment demand in April. As a consequence, inventories were considerably lightened, and, with a lower prospective supply of new offerings, aggres sive bidding for new issues developed. At the same time that technical conditions improved, investors also ap peared to be heartened by the new round of anti-inflation measures, and once again optimism over Vietnam peace spread through the market. Buoyancy was somewhat de flated late in the month, however, by the enlargement of dealer positions and by the announcement of very strong consumer price advances in March. The revival in the corporate bond market appears to have commenced with the very strong reception of an $80 million Consolidated Edison issue, offered on March 19 to yield 7.90 percent. Subsequent financings, most of which carried some form of call protection, were offered at successively lower yields, and many traded at premiums after initial distribution. Some of the flotations had been postponed from the congested period of early March. One of the highlights in April was the excellent reception of a $75 million noncallable mortgage bond issue offered by Commonwealth Edison at 7.30 percent for three- and five-year maturities. This response prompted other bor rowers to shorten maturities of their offerings. The short term to maturity was an innovative feature, attractive to investors and less costly to borrowers than comparable financing at commercial banks. However, investor enthu siasm ebbed at the month end, when more inflationary evi dence came to light, and new bond offerings in both short and long maturities began to encounter resistance. The tax-exempt sector also rallied, but the recovery was generally more limited than that in the corporate sec tor. The ability of commercial banks, facing severe reserve pressures, to add materially to tax-exempt holdings was thought questionable—particularly in light of strong busi ness loan demand. Furthermore, investors expressed un certainty about the tax status of these securities in view of the tax-reform measures now under consideration by the Congress. Finally, the numerous postponements recorded in March were still overhanging the market, and it was considered likely that a large volume would be offered if new issue rates edged much below 5 percent. The breach of that level in the earlier upsurge had prompted changes in financing plans, in many cases because borrowers were subject to 5 percent interest-rate ceilings. At the end of April, The Weekly Bond Buyer’s index of twenty munici pal bond yields was 5.09 percent, a drop of 21 basis points over the month. Subscriptions to the m o n t h l y r e v i e w are available to the public without charge. Additional copies of any issue may be obtained from the Public Information Department, Federal Reserve Bank of New York, 33 Liberty Street, New York, N.Y. 10045. FEDERAL RESERVE BANK OF NEW YORK Publications of the Federal Reserve Bank of New York The following is a selected list of publications available from the Public Information Department, Federal Reserve Bank of New York, 33 Liberty Street, New York, N.Y. 10045. Copies of charge pub lications are available at half price to educational institutions, unless otherwise noted. 1. c e n t r a l b a n k c o o p e r a t i o n : 1924-31 (1967) by Stephen V. O. Clarke. 234 pages. Dis cusses the efforts of American, British, French, and German central bankers to reestablish and maintain international financial stability between 1924 and 1931. ($2 per copy) 2. e s s a y s i n m o n e y a n d c r e d i t (1964) 76 pages. Contains articles on select subjects in bank ing and the money market. (40 cents per copy) 3. k e e p i n g o u r m o n e y h e a l t h t (1966) 16 pages. An illustrated primer on how the Federal Re serve works to promote price stability, full employment, and economic growth. Designed mainly for sec ondary schools, but useful as an elementary introduction to the Federal Reserve. ($6 per 100 for copies in excess of 100*) 4. m o n e y a n d e c o n o m i c b a l a n c e (1968) 27 pages. A teacher’s supplement to Keeping O u t Money Healthy. Written for secondary school teachers and students of economics and banking. ($8 per 100 for copies in excess of 100*) 5. m o n e y , b a n k i n g , a n d c r e d i t i n e a s t e r n e d r o p e (1966) by George Garvy. 167 pages. Reviews recent changes in the monetary systems of the seven communist countries in Eastern Europe and the steps taken toward greater reliance on financial incentives. ($1.25 per copy; 65 cents per copy to edu cational institutions) 6. m o n e y : m a s t e r o r s e r v a n t ? (1966) by Thomas O. Waage. 48 pages. Explains the role of money and the Federal Reserve in the economy. Intended for students of economics and banking. ($13 per 100 for copies in excess of 100*) 7. p e r s p e c t i v e (January 1969) 9 pages. A layman’s guide to the economic and financial highlights of the previous year. ($6 per 100 copies in excess of 100*) 8. t h e n e w y o r k f o r e i g n e x c h a n g e m a r k e t (1965) by Alan R. Holmes and Francis H. Schott. 64 pages. Describes the organization and instruments of the foreign exchange market, the techniques of exchange trading, and the relationship between spot and forward rates. (50 cents per copy) 9. t h e s t o r y o f c h e c k s (1966) 20 pages. An illustrated description of the origin and develop ment of checks and the growth and automation of check collection. Primarily for secondary schools but useful as a primer on check collection. ($4 per 100 for copies in excess of 100*) 10. t h e b a l a n c e o f p a y m e n t s (1968) 6 pages. Discusses the dominant role of the dollar in world trade and investments and the ABC’s of the United States balance of payments in nontechnical language. ($3 per 100 copies in excess of 100*) * Unlimited number of copies available to educational institutions without charge.