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MONTHLY REVIEW N O V E M B E R 1967 Contents The Business Situation ............................... 207 The M oney and Bond Markets in O ctob e r.... 210 Banking and Monetary Developments in the Third Quarter of 1967 .................... Volume 49 216 No. 11 207 FEDERAL RESERVE BANK OF NEW YORK T he B usiness Situation The economy has displayed considerable underlying strength in recent months, despite the adverse effects of a number of strikes. At the same time, the clearly excessive rate of increase in both wages and prices appears to be gaining further momentum. In October, the expansion of the economy equaled the longest on record, with the up swing covering eighty months. Gross national product (GNP) increased in the third quarter by an estimated $15 billion. The gain in economic activity was widely based, with all major components of GNP registering advances. The increase in GNP was due about equally to higher prices and a larger real output. The rise in the GNP price deflator was nearly 4 per cent at an annual rate, the largest in many years. Real output in the economy increased at slightly more than a 4 per cent annual rate, up strongly from the rate of growth in the second quarter. This advance provides clear evidence of the rising pace of business activity since midyear. In September, the effects of the various work stoppages, especially the auto strike, dampened the rise of personal income, employment, and retail sales and contributed to declines in industrial production and new orders for du rable goods. The possibility of additional shutdowns in the automobile industry clouds the outlook for the economy in the remaining months of the year. Most observers nevertheless expect a continuation of the overall expan sion, followed by a surge of activity when the automobile industry returns to full production. Although the Presi dent’s tax surcharge proposal still awaits Congressional action and the ultimate outcome of efforts to reduce Fed eral spending remains unclear, economic and financial developments continue to indicate a pressing need for a program of fiscal restraint. vance in the third quarter of 1967, when both price infla tion and real output accelerated. According to preliminary estimates by the Department of Commerce, GNP increased by $15.0 billion to an annual rate of $790.1 billion (see Chart I). Although the gain was the largest since the first quarter of 1966, amounting to an annual growth rate of C h art I RECENT C H A N G ES IN G R O S S NATIO N AL PRODUCT A N D ITS CO M PO N EN TS S e a s o n a l l y a d ju s te d a n n u a l rates Q uarterly change, first quarter I Quarterly change, second quarter to second quarter 1967 ' to third quarter 1967 G R O S S N A T IO N A L P RO D U CT In v e n t o r y in v e stm e n t F in a l e x p e n d itu r e s C o n s u m e r e x p e n d itu r e s for d u r a b le g o o d s C o n s u m e r e x p e n d itu r e s fo r n o n d u ra b le g o o d s C o n s u m e r e x p e n d it u r e s fo r s e r v ic e s R e s id e n t ia l c o n s t r u c t io n B u s in e s s fix e d in v e s t m e n t F ede ral G o v e rn m e n t pu rch a se s S t a t e a n d lo c a l g o v e r n m e n t p u rch a se s N e t e xp o rts o f g o o d s a n d s e r v ic e s E C O N O M IC A C T I V I T Y IN T H E T H IR D Q U A R T E R Gross national product—the measure of the nation’s total output of goods and services—posted a sizable ad — 10 — 5 0 5 Billions of dollars Source: United States Departm ent of Commerce. 208 MONTHLY REVIEW, NOVEMBER 1967 8 per cent, it would have been even greater but for the billion, which contributed $1.0 billion to the advance in effects of the various work stoppages. Indeed, according GNP. The process of adjusting inventories to sales trends to a Commerce Department estimate, the Ford strike alone has brought inventory-sales ratios—especially in the trade sector—down to more acceptable levels. With the sales cut about $2 billion from the quarter’s GNP. While price increases accounted for nearly half of the outlook improving, business accumulation of stocks can third-quarter gain in the market value of GNP, the growth now be expected to proceed at a higher pace. Consumer demand expanded only moderately during in real output was nevertheless at a relatively strong an nual rate of more than 4 per cent, compared with less than the third quarter, with consumption expenditures growing 2 Vz per cent in the second quarter and with a small de by $6.1 billion as compared with the strong $9.5 billion cline in the first quarter of the year. The acceleration in increase recorded in the preceding three-month period. the rate of increase in the overall price level, as measured Spending on services was up sharply, while growth of by the GNP price deflator, was of disturbing propor nondurables demand was slower than in the second quar tions. The third quarter saw the deflator rise at an annual ter. The more moderate advance in consumer spending, rate of 3.8 per cent, the largest advance in a decade and however, was due mainly to a slowdown in automobile nearly twice the second quarter’s 2.1 per cent rate of in sales, which limited the rise in spending on durables. crease. To be sure, some of the third-quarter rise was due Consumer expenditures on durables moved up by only to a rash of price hikes in the construction industry and a $0.5 billion in the third quarter, compared with a gain of steep run-up in food prices, and both these particular $3.1 billion in the second quarter. Beginning in late July uptrends may moderate in coming months. However, the and continuing through most of September, car sales were trend toward higher rates of increase in prices and costs hampered by shortages in several popular model lines. remains apparent. Recent wage settlements—notably that Sales of new domestically produced cars reached a 1967 at Ford which involved an increase of about 6 per cent peak in July at a seasonally adjusted annual rate of almost annually in wages and fringe benefits—indicate a further 8 V2 million units, and then dropped off in August to a escalation of wage costs, despite modest gains in pro rate of less than 7 Vi million units. The introduction of new models in late September improved the supply situation, and ductivity this year. Further evidence of increasing inflationary pressure is the sales rate moved up to a bit more than 8 million units. seen in the September data on retail and wholesale prices. The precise effect on September auto sales of the strike at While the consumer price index rose only 0.2 percentage the Ford Motor Company is difficult to estimate. Although point in September, compared with a gain of 0.4 point in the company produced new cars in quantity before the August, the advance in the index of all items less food was strike began, many customers were apparently unaware the largest this year. Prices of services mounted rapidly, that the new models were actually available and this fact as did those of used cars, apparel, and other goods. The may have discouraged potential buyers. By October, the wholesale price index also rose in September, as costs of supply of new-model automobiles, which Ford produced industrial commodities increased for the second consecu prior to the strike, began to run out and industry-wide sales tive month following a half year of stability. Preliminary declined to a rate of less than 7 million units. figures indicate that the industrial index rose again in Oc The modest third-quarter advance in consumer spending tober. Wholesale food prices appear to have declined occurred despite the strongest rise in personal income this further, however, outweighing the advance in the costs year. The strength of the advance in income was particu of industrial products, and the total wholesale price index larly notable, since the increase in September was dampened apparently eased off 0.1 percentage point. considerably by the effect of the various strikes. The annual The third-quarter acceleration in the growth of GNP rate of wage and salary payments in that month grew by was due to a turnaround in the trend of inventory accu only $0.9 billion, compared with gains of $2.5 billion in mulation. During the first half of the year, when business July and $3.3 billion in August. Inasmuch as disposable men were concentrating on getting stocks into a better personal income advanced in the third quarter at a more alignment with sales, the pace of inventory investment rapid rate than consumption spending, the savings ratio was sharply reduced, dropping from an excessively high moved up. Since the fourth quarter of 1966, consumers $18.5 billion annual rate in last year’s fourth quarter have been saving an unusually large share of their income. to only $0.5 billion in the second quarter of 1967. This Uncertainty over a possible tax increase, inflation, and the slowdown put a very substantial drag on GNP growth Vietnam war has apparently held consumer spending during the first half. In contrast, the third quarter saw a down. The high savings rate of the last four quarters has pickup in inventory accumulation to an annual rate of $1.5 resulted in a rapid expansion in the volume of financial FEDERAL RESERVE BANK OF NEW YORK 209 spending. These surveys have repeatedly pointed to an upturn in such outlays in the second half, following the drop in the first six months of the year. Residential construction has continued to make a strong recovery from the steep decline experienced in 1966, and the $2.3 billion advance in outlays during the third quarter was the largest in many years. The most recent data point to a continuation of the uptrend in home building, and the supply of mortgage funds currently appears to be sufficient for further growth. In September, housing starts rose sharply again, reaching the highest level since 1965, and building permits issued by local authorities also moved up further (see Chart I I ) . Turning to the public sector, the growth in the third quarter of total government expenditures for goods and services was the smallest quarterly increase in over two years. The $2.2 billion rise in state and local spending was in line with the steady upward trend of such outlays. The advance in Federal Government expenditures slowed, how ever, as spending for defense purposes registered a $1.4 billion rise, the smallest since the beginning of the buildup in Vietnam. P R O D U C T IO N , O R D E R S , A N D E M P L O Y M E N T savings—particularly in the form of time and savings ac counts at commercial banks and thrift institutions. This buildup in liquid assets, coupled with the outlook for fur ther income gains, has placed the consumer in a strong position for a step-up in spending. Recent surveys of consumer expectations have shown a substantial upturn in consumer buying intentions. Indeed, according to the latest survey taken by the Department of Commerce, consumers expect to spend a record amount for new cars in the coming months, and planned purchases of other durables have shown a strong rise. Total fixed investment spending in the third quarter recorded the largest advance in over two years on the strength of increases in both business fixed investment and residential construction. The rise in business spending was centered in purchases of equipment. Outlays for business structures also edged up, however, marking the first increase in a year. The growth of business capital spending in the third quarter was consistent with the trend indicated by earlier surveys of business plans for plant and equipment The volume of industrial output was dampened in Sep tember by the automobile strike, as well as by other work stoppages, and by the cutback of domestic crude oil pro duction as shipments from the Middle East increased. The Federal Reserve Board’s index of industrial production (seasonally adjusted) declined by 1.5 percentage points to 156.3 per cent of the 1957-59 average. Output of defense equipment continued to expand strongly, but production of business equipment was again about unchanged. The ma terials index was adversely affected not only by the reduc tion in oil production but also by the strike of steel truck ers, which resulted in a widening number of cutbacks in steel production during September and October. Output of consumer goods was, of course, limited by the auto strike. The seasonally adjusted annual rate of new car assemblies dropped in September by almost 20 per cent to approximately 6 3A million units, a pace which was about maintained in October. Output of other consumer goods, however, was generally strong in September. Production of television sets rose again, following a surge in August which had been preceded by months of decline as a result of both production cutbacks and a strike. The automobile strike also contributed to a large drop in the September volume of new orders for durable goods. In the motor vehicles and parts component— where new orders are treated as essentially equal to ship 210 MONTHLY REVIEW, NOVEMBER 1967 ments—the decline amounted to over 25 per cent. On the other hand, the volatile series on new orders received by defense-oriented industries rose sharply after falling for two months. The auto strike was also a factor in the decline in shipments of durable goods. The volume of shipments was less than the inflow of new orders, and thus the back log of unfilled orders edged up. The labor market situation remained strong in Septem ber, although the picture provided by the employment data was clouded by the effects of the various strikes—notably those involving teachers in New York City and elsewhere and the workers at Ford. The number of persons on strike increased by more than 200,000 between August and September. Despite this, the total number of persons on the payrolls of nonagricultural establishments declined by only 100,000. The Bureau of Labor Statistics estimates that, had it not been for the rise in the number of workers involved in labor disputes, September payroll employment would have shown a gain of better than 100,000. The BLS noted that the Ford strike did not have much sec ondary effect on September employment. However, the prolongation of that stoppage through most of October undoubtedly increased the strike’s indirect impact, which may be reflected in October data. The average workweek of production workers in manufacturing held in September at the much improved figure of 40.7 hours reached in the preceding month. The civilian labor force expanded in September for the fourth consecutive month. The September advance was en tirely accounted for by an unusually large rise in the num ber of women in the labor force. Not all these additional women found employment, and the unemployment rate for them rose substantially, pushing the overall rate up by 0.3 percentage point to 4.1 per cent. The unemploy ment rates for men and for teen-agers were essentially unchanged, but the rate for married men, who represent the backbone of the labor force, declined to 1.8 per cent, close to its record low. The M oney and Bond M ark ets in O ctober Conditions in the money market varied from moderate firmness in the first half of October to relative ease in the latter half, reflecting chiefly swings in the amount and dis tribution of available reserves. The average daily level of nationwide net reserve availability for the month as a whole was somewhat lower than in September. The effec tive rate for Federal funds was generally above the 4 per cent discount rate in the first half of the month and gen erally below 4 per cent thereafter. Rates posted by the New York City banks on new call loans to Government securities dealers rose considerably in the first half of October, but returned to lower levels in the second half of the period. Other short-term rates moved higher during the month. The large New York City banks were able to replace certificates of deposit (C /D ’s) as they matured during October, but this required further increases in rates. Mar ket yields on the nearest three- and six-month Treasury bill maturities rose by 17 and 4 basis points, respectively, to 4.56 per cent and 5.06 per cent. The upward trend of capital market yields continued during October, with only a brief interruption late in the month. Market psychology underwent a pronounced dete rioration at the start of the period, after an announcement by a Congressional committee that it had set aside the President’s tax proposal until a program of reductions in Federal expenditures could be agreed upon between the Administration and the Congress. The market was also unfavorably affected by the seemingly dim prospects for a settlement in the near future of the Vietnam conflict and by continuing substantial additions to the corporate financ ing calendar. At the close of the month, market yields on outstanding Treasury securities were about 5% per cent in the intermediate maturity area and 5 per cent in the longer term area (see chart). Late in the month, the Treasury announced that it would refund $10.2 billion FEDERAL RESERVE BANK OF NEW YORK 211 SELECTED INTEREST RATES August-October 1967 M O N E Y M A R K E T RATES Per cent A u g u st S e p te m b e r O cto b e r B O N D M ARK ET YIELDS A u g u st Se ptem ber O c to b e r Note: D a ta are show n for b u sin e ss d a y s only. M O N E Y M A R K ET RATES Q U O TED : D a ily ra n g e of rates posted by m ajor N ew York City ban k s point from underw riting syn d ica te re offering yie ld on a given issue to m arket yield on the on new call loan s (in Federal funds) secured by United States G o ve rnm e nt securities (a point sam e issu e im m ediately after it has been re lease d from syndicate restrictions); d a ily indicates the abse nce of a ny ran ge); offering rates for directly p lace d finance co m p a n y p a per; av e r a g e s of yie lds on lo n g -term Governm ent securities (bonds due or c a lla b le in ten ye ars the effective rate on Fe de ral funds (the rate most representative ot the transaction s executed); or more) an d of G o v e rn m e n t securities due in three to five ye a rs, computed on the b a sis of clo sing bid rates (quoted in terms of rate of discount) on newest outstand in g three- a nd six-month c lo sin g bid prices; Thu rsday a v e r a g e s of yie lds on twenty s e a so n e d twenty-ye ar tax-exem pt Treasury b ills . b o n d s (carrying M o o d y ’s ratings of A a a , A a, A, and Baa). B O N D M ARKET YIELDS Q U O TED : Yie ld s on new A a a - a n d A a -ra te d pu blic utility b o n d s are plotted around a line show in g d a ily a v e r a g e y ie ld s on s e a soned A a a -ra te d corp orate b o n d s (arrows of securities maturing on November 15 and raise an addi tional $2 billion of cash through an offering of two new notes, one— a seven-year maturity—bearing a coupon of 53^ per cent, the highest for any Treasury issue in forty-six years. New issues of corporate and tax-exempt bonds were marketed during the month at progressively higher reoffer ing yields but, even so, most were poorly received. By midmonth, reoffering yields on corporate bonds had gone as high as 6.10 per cent on Aaa-rated bonds with five-year call protection and 6.70 per cent on A-rated bonds without call protection. Toward the end of the month, a better tone developed in the capital market and investors took up sev eral new and slow-moving issues. This improvement proved short-lived, and bond prices dropped sharply during the last two days of the month, when it appeared that the Congress Sources: Fede ral Reserve B ank of N e w York, B o ard of G o v e rn o rs of the Federal Reserve System, M o o d y ’s Investors Service, and The W e e k ly Bond Buyer. might adjourn without acting on the surtax proposal. Late in October, the Federal Reserve Board announced a number of proposals designed to tighten the regulations governing the use of credit in securities transactions. One of the main proposals is to extend margin require ments to loans for purchasing and carrying convertible bonds. After the announcement, prices of convertible bonds fell sharply and some previously scheduled flotations of convertible corporate securities were postponed. BAN K R E SE R V E S AN D TH E M O NEY M AR K ET Free reserves of all member banks in October averaged only moderately lower than in September, but there con tinued to be wide week-to-week variations in overall net 212 MONTHLY REVIEW, NOVEMBER 1967 reserve availability (see Table I). Reflecting the uneven distribution of reserves as well as an apparent tendency for “country” banks to keep a larger than usual amount of excess reserves, member bank borrowings from the Reserve Banks rose somewhat in the first three weeks of October before retreating to a lower level toward the end of the month. For the four statement weeks ended in October, borrowings averaged $141 million, compared with an aver age of $82 million in September. The basic reserve position of banks in major money centers deteriorated sharply soon after the month began (see Table II), as these banks experienced seasonal out flows of reserves and some loss of funds through attrition of negotiable C /D ’s. An additional factor in this reserve loss was the payment by the money market banks to the Treasury on October 9 (partly by credits to Tax and Loan Accounts) for their awards of tax anticipation bills. Re flecting unexpectedly large reserve drains from movements in currency and other factors affecting the banks’ aggregate reserve position, average free reserves dropped sharply to $133 million in the second statement week of October. In the following statement week, these conditions were reversed. Daily average free reserves rose to $341 million, and the basic reserve position of the city banks improved, partly reflecting further reductions in loans to Government securities dealers. However, uncertainties associated with the partial holiday of Columbus Day, October 12, led to unusually heavy borrowing at the “discount window” dur ing the week. In the statement week ended on October 25, the release of a large volume of accumulated excess reserves by country banks in the Federal funds market coin cided with a marked shift of reserves to the money center banks, producing comfortable money market conditions similar to those of late August. The substantial runoff of negotiable C /D ’s outstand ing at the New York City money market banks in Sep tember was brought to a halt during October through further upward adjustments in offering rates. By mid month, the rate most often quoted by the city banks on new certificates maturing in one year or longer had risen to the 5Vi per cent ceiling from the 5% per cent rate that had prevailed since early September and the ceiling rate was available on six-month certificates. The most often quoted rate on the shortest maturity C /D ’s was 4% per cent at the end of October, compared with 4Va per cent at the beginning. On October 10, major finance companies raised their rates on directly placed paper by Vs percent age point to 5 per cent on paper maturing after January 1. On October 16, commercial paper dealers raised their offering rate on prime four- to six-month paper by Vs per centage point to 5 Vs per cent. TH 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 Sentiment in the market for Treasury notes and bonds deteriorated further in October in response to many of the same international, fiscal, and credit factors that have weighed heavily on the market in recent months. De spite a temporary improvement in prices in the latter part of the period, price declines for the month amounted to more than 3 points in the long-term sector and 1 point in the intermediate area. The market began the month with a feeling of dis appointment over the lack of any signs of peace negotia tions on the Vietnam conflict following a major policy address by President Johnson on September 29. Moreover, the outlook for the long-pending Congressional action on the President’s August proposal for an income tax sur charge became more clouded, after an announcement on October 3 that the House Ways and Means Committee had decided to postpone consideration of the tax bill until an agreement between the Administration and the Congress could be reached on cuts in Federal spending. Market ob servers, disheartened by this development, felt that mone tary policy might move toward less ease in the absence of fiscal measures to combat the strong inflationary tendencies in the economy. Further upward pressure on Treasury yields resulted from the growing congestion in the markets for new cor porate and tax-exempt bonds, which occurred despite a rising pattern of reoffering yields, and from the substantial volume of Federal agency offerings around midmonth. The market was only slightly affected by the increase in the discount rate of the Bank of England on October 18. In the latter part of the month, market attention fo cused on the forthcoming November 15 Treasury refunding operation, widely expected to include an additional offering of securities for cash. Trading in Treasury coupon securities during October originated mainly in sales by investors of intermediateand long-term issues, partly against purchases of higher yielding corporate and Treasury agency issues. Toward the end of the period, dealers pressed offerings aggressively on the market in order to divest themselves of securities taken from investors in preparation for the Treasury’s November 15 refunding operation. After the close of the market on October 25, the Trea sury announced a $12.2 billion offering of new securities: $10.7 billion of 5% per cent fifteen-month notes due Feb ruary 15, 1969 and $1.5 billion of 53A per cent sevenyear notes to mature November 15, 1974. The offering was made for the purpose of refinancing the $10.2 billion of securities maturing on November 15, of which $2.6 213 FEDERAL RESERVE BANK OF NEW YORK Table I Table H FACTORS TENDING TO INCREASE OR DECREASE MEMBER BANK RESERVES, OCTOBER 1967 RESERVE POSITIONS OF MAJOR RESERVE CITY BANKS OCTOBER 1967 In millions of dollars; (+ ) denotes increase, (—) decrease in excess reserves In millions of dollars Daily averages—week ended on Changes in daily averages— week ended on Factors j _308 — 232 + 95 _323 + 92 — 173 | — 789 + 318 + 447 | — 35 s — 77 _ 16 + 162 j + 67 — 105 + 63 j — 132 + 4 _ 1 — 4 ! -L, 19 1 1 — 169 — 544 j _i_ 74 _i_ vnx \ Other Federal Reserve accounts (net)*..| — 40 — 64 ! + 2 0 3 + 147 | — 197 + 34 — 107 11 _ssi + 246 4- 539 | — 565 j -f- 524 + 343 1 o + -f& 1 — 4 — 1 + 237 — 38 — j- OOO 4 - 20 + +i + + * i1 — 217 I + 646 | + 2 1 QO £t -- O — 4Z — 27 20 I 71 + 11 Reserve excess or deficiency(—)f... Less borrowings from Reserve Banks .................................. Less net interbank Federal funds purchases or sales (—) ....................... Gross purchases .......................... Gross sales ..................................... Equals net basic reserve surplus or d e fic it(-) ...................................... Net loans to Government securities d ealers................................ 25 27 21 93 527 1,149 622 293 1,029 737 2 1 — 523 -3 5 9 682 596 24 3 847 844 834 79 39 28 934 823 111 234 990 756 32 -2 2 3 698 703 - Thirty-eight banks outside New York City + 551 + 284 — 140 + 279 Reserve excess or deficiency ( - ) t . . . Less borrowings from Reserve Banks .................................. Less net interbank Federal funds purchases or sales ( —) ....................... Gross purchases ............................ Gross sales ...................................... Equals net basic reserve surplus or deficit(—) ...................................... Net loans to Government securities d e a le rs................................ 58 17 3 — 13 15 51 50 39 _ 35 874 1,922 1,048 1,097 2,188 1,092 870 1,956 1,085 640 1,844 1,204 870 1,977 1,107 - 8 6 7 - 1,130 -9 1 2 -6 5 3 — 890 794 737 748 702 757 - — 16 - + 210 Oct. 25* | ! Total ...................................................... j + 6 1 5 Excess reserves* .......................................... 5 — 694 ! _ Direct Federal Reserve credit transactions 70 Oct. 18 11 Eight banks in New York City I | 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 __ Oct. Averages of four weeks ended on Oct. 25* |....... . i | i — 405 Oct. 4 Net changes Oct. Oct. ! Oct. I IS | 25 H Oct. 4 “ Market'* factors Factors affecting basic reserve positions Q fU "04 + 546 365 19 Note: Because of rounding, figures do not necessarily add to totals. * Estimated reserve figures have not been adjusted for so-called “ as of” 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. [ Table 111 Daily average levels AVERAGE ISSUING RATES* AT REGULAR TREASURY BELL AUCTIONS In per cent Member bank: Total reserves, including vault cash*........ 24,654 Required reserves* .................................... 24,233 Excess reserves* .................................. 421 Borrowings ................................................. 144 Free reserves* ............................................. 277 Nonborrowed reserves* ................................ 24,510 24,416 24 138 278 145 133 24,271 25,018 K K7 out 91ft 041 U?1 24,802 24.561 24,369 24.6625 24,3005 Weekly auction dates—October 1967 Maturities 1415 OQ1 t 6412 134 24 503 Oct. 2 24 522§ Oct. 9 Oct. 16 Oct. 23 Oct. 30 1 Changes in Wednesday levels Three-month ................................ 4.514 | 4.564 4.676 4.597 4.542 Six-month ..................................... 5.089 ! 5.022 5.165 5.125 5.044 Monthly auction dates—August-October 1967 System Account holdings of Government securities maturing in: Less than one year .......................... More than one year ................................ Total ....................................... -f- 558 59 + 672 _390 -f- 617 r1 0672 i“ — 399 Note: Because of rounding, figures do not necessarily add to totals, * These figures are estimated, t Includes changes in Treasury currency and cash. t Includes assets denominated in foreign currencies. I Average of four weeks ended on October 25. __ + 352 + 59 + 479 + 411 Nine-month .................................................... . . . . . i August 24 September 26 October 24 5.098 5.145 5.313 5.100 5.124 5.302 * 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. 214 MONTHLY REVIEW, NOVEMBER 1967 billion is held by the public, and raising $2 billion of new cash. The maturing securities are $8.2 billion of 4% per cent notes and $2.0 billion of 35/s per cent bonds. Sub scription books were open on October 30, and payment for the new issues, due November 15, may be made in cash or in the maturing securities. The 53A per cent coupon rate on the new seven-year notes is the highest interest rate on any Government security sold since June 1921. A very good interest developed in the new issues, and there was a particularly heavy oversubscription for the seven-year notes. (On November 1, the Treasury an nounced that larger subscriptions would receive only 36 per cent allotments for the new 5Vs per cent notes and only 7V2 per cent allotments for the 53A per cent notes.) Shortly after the books closed, however, a very nervous atmosphere emerged in the markets, as it appeared that the Congress might adjourn before acting on the surtax proposal and as sizable additions were made to the cor porate financing calendar. In this environment, investors and professionals pressed offerings of both the new and outstanding issues on the market, and prices closed the month on a sharp downward movement. Contrasting with the weakness in the Treasury coupon market, the market for Treasury bills performed fairly well during October. The relative strength of the bill sector re flected a fairly persistent investment demand for shorter issues coming from corporations and public funds, along with some purchases by the System Open Market Ac count. At times, in fact, scarcities of issues maturing be fore the year-end developed. In this environment, a sat isfactory reception was accorded the sale by the Treasury on October 9 of $4.5 billion of tax anticipation bills ma turing next April and June and continuing additions of $100 million to the regular weekly offerings of threemonth bills. Around midmonth, some caution appeared in the bill market as a result of increased bank selling of the new June tax anticipation bills, for which bidding had been relatively light, and the poor receptions accorded two newly marketed Federal agency issues. Consequently, bid ding in the regular weekly auction of three- and six-month bills held on October 16 resulted in average issuing rates of 4.676 per cent and 5.165 per cent, respectively, up 11 and 14 basis points from rates established in the previous weekly auction (see Table III). Subsequently, the market steadied, and yields at the end of the month were only slightly higher than at the close of September. Bidding in the regular monthly auction of nine-month and one-year Treasury bills held on October 24 resulted in average issuing rates of 5.313 per cent and 5.302 per cent, re spectively, the highest levels since November 1966. Five new Federal agency obligations totaling $1.4 bil lion were offered to investors around the middle of October, wholly to replace maturing issues. Two issues of Federal Land Bank bonds, priced on October 10 to yield 5% per cent on a two-year maturity and 5% per cent on a fiveyear maturity, were accorded a poor reception although the available yields were 11 basis points higher than those quoted in the secondary market on similar maturities. Initial trading in the new issues took place at prices 3/s point lower than the original reoffering prices. Similarly, only a fair investor response was accorded two Federal Home Loan Bank issues offered a few days later, even though pricing of the later offerings had been adjusted in light of the poor performance of the earlier agency flo tation. O TH ER S E C U R IT IE S M A R K E T S Corporate and tax-exempt bond yields rose to successive new highs for the year through the latter part of October under the impact of a substantial increase in the volume of flotations, sizable additions to the November financing calendar, and other unfavorable influences working on the long-term markets generally. In this market environment, investors tended to ignore new issues as they were re offered by underwriters, confident that they could acquire the same bonds in the secondary market at discounts from original reoffering prices. Briefly toward the end of the period, a better atmosphere emerged and some initially slow-moving recent offerings were sold out. On the final two days of the month, however, the market weakened again on news of substantial additions to the calendar. In the corporate market, the volume of public offerings mounted to $1.3 billion in October from $0.8 billion in the previous month. Most issues that had been awarded in competitive bidding met with an unenthusiastic response from investors, and a number of offerings with unsold bal ances were freed from syndicate price restrictions. The extent of the upward yield adjustment over the month is illustrated by the performance of three public utility offer ings of similar size, all rated Aa by Moody’s and carrying five-year call protection. The first two of these offerings, marketed on October 4 and 17, moved slowly at reoffer ing yields of 6.20 per cent and 6.375 per cent, respec tively, while the third, reoffered on October 18, sold out quickly at a yield of 6.44 per cent. The largest single offer ing of the month was a $250 million industrial issue of Aaa-rated debentures marketed on October 25. This issue, maturing in 1997 and nonrefundable for ten years, sold out rapidly at a reoffering yield of 6 per cent, equal to the peak rate on comparable offerings in 1966. Late in FEDERAL RESERVE BANK OF NEW YORK the month, a major steel company announced plans to sell $225 million of bonds in November, thus adding fur ther to that month’s already heavy calendar. The average yield on Moody’s Aaa-rated seasoned corporate bonds rose to 5.94 per cent at the end of October from 5.68 per cent at the close of the preceding month. On October 20, the Federal Reserve Board announced a number of proposals to broaden the coverage of its regulations governing the use of credit in securities trans actions. If adopted, these proposals will be implemented through amendments to Regulations T and U and through a new Regulation G. The main proposals include one to extend margin requirements to loans for purchasing and carrying convertible bonds and one to extend margin requirements to unregulated lenders—individuals and firms other than domestic banks and brokers—who make loans for purchasing and carrying securities. The announcement produced an immediate reaction in the convertible bond market, but left other bond markets largely unaffected. Prices of outstanding issues of con vertible bonds were marked down by as much as 13 points on the day following the announcement, and two corpora tions postponed scheduled flotations of new convertible 215 securities. Recently, the volume of convertible issues has risen in proportion to total corporate debt offerings, from 9 per cent in 1965 to 25 per cent in the third quarter of this year, reflecting attempts by corporations to hold down borrowing costs in a period of rapidly rising capital market yields. In the tax-exempt sector of the bond market, most new issues marketed during the month, even though relatively small in size, were accorded poor receptions, and several scheduled offerings were postponed. The largest offering of the month, a $119 million Baa-rated New York City issue of various-purpose bonds, was awarded on October 17 at a net interest cost of 4.91 per cent, the highest for this borrower in thirty-five years and 15 basis points above the cost on the last previous borrowing by the city in Octo ber 1966. The bonds, maturing in 1969 through 1998, were reoffered at yields ranging from 4 per cent to 4.90 per cent. Distribution of this issue proceeded well in the improved market atmosphere that was developing at the time of sale. The Weekly Bond Buyer's average yield series for twenty seasoned tax-exempt bonds carrying ratings ranging from Aaa to Baa stood at 4.27 per cent at the end of October, compared with 4.19 per cent a month earlier. 216 MONTHLY REVIEW, NOVEMBER 1967 Banking and M onetary D evelopm ents in the Third Q uarter of 1967 Credit demands in the economy were very strong in the third quarter of the year, when massive Treasury borrow ing was added to the increased needs of private borrowers. Bank credit remained readily available and expanded over the quarter at an exceptionally fast pace. Despite this expansion, overall credit demands continued to press against supply, and interest rates rose considerably further. The third-quarter banking expansion reflected the impor tant role of commercial banks in financing the sharply higher Treasury borrowing requirements. Of the seasonally adjusted $14.4 billion expansion of bank loans and in vestments over the period, almost half was accounted for by bank acquisitions of United States Government se curities and bank financing of the enlarged positions of Government securities dealers. Business loans at banks in creased at only half the rate of the first six months of the year, but the total of all other loans expanded more strongly than in the first half year. The heavy credit flows of the third quarter were associ ated with a substantial increase in the outstanding volume of liquid financial instruments. Treasury borrowing was primarily short term, adding to the liquid holdings of com mercial banks and the nonbank public. Financial inter mediation was again strong, giving rise to substantial further increases in liquid deposit claims against commer cial banks, savings and loan associations, and mutual savings banks. Holdings of Government securities expanded $5.8 bil lion, accounting for about 40 per cent of the total increase in bank credit. All the third-quarter gain in holdings of Treasury obligations occurred in July and August, as banks acquired substantial amounts of tax anticipation bills—payable with full Tax and Loan Account credit—as well as a large volume of additional Treasury securities in the mid-August refunding and the late-August sale of new 3 Vi -year Treasury notes. In September, holdings of Gov- Ch art I PERCENTAGE CH AN GES IN B AN K CREDIT AND CO M PO NENTS AT ALL CO M M ERCIAL B A N K S S e a s o n a lly a d ju ste d a n n u a l rates * Per cent Per cent 35 r a n k credit Total lo a n s B u s in e s s lo a n s ‘ 35 T o tal in ve stm e n ts B A N K C R E D I T A N D L IQ U ID IT Y Unusually strong overall financing demands in the econ omy, coupled with continued comfortable bank reserve positions, gave rise to a sharp expansion of commercial bank loans and investments during the third quarter of 1967 (see Chart I). Total loans and investments of all commer cial banks advanced at a 17% per cent seasonally adjusted annual rate over the quarter, up very strongly from the 41/2 per cent rate of growth in the previous three months. The major portion of bank credit growth during the third quarter was concentrated in holdings of securities, espe cially of United States Government obligations. ■ 1st Q U A R T E R 1967 Q > 2 n d Q U A R T E R 1967 £ £ | 3 rd Q U A R T E R 1 * C hang es are computed from last-W ednesday-of-the-m onth figures. Source: Board of G overno rs of the Federal Reserve System. FEDERAL RESERVE BANK OF NEW YORK ernment securities fell by $0.2 billion at all commercial banks, a typical development in periods immediately fol lowing major Treasury financings. At such times, some banks begin redistributing a part of their recently acquired securities. In the third quarter, the rate at which other than United States Government securities were acquired moderated somewhat from the unusually rapid pace of the first six months. While some banks appeared to be interested in attractively priced participation certificates and selected intermediate-term municipal obligations, the ability to ob tain relatively high yielding and more liquid short-term Treasury issues apparently contributed to dampening in terest in tax-exempt securities. Total bank loans outstanding grew at a seasonally ad justed annual rate of 12 Va per cent in the third quarter, up strongly from a 3 V2 percent increase in the second quarter. However, the rate at which business loans increased—about 5 per cent—was only half the pace of the previous six months and little more than one third the rate of expansion in the third quarter of 1966. Reduced tax payments follow ing the completion of the earlier acceleration of business tax payment schedules, coupled with record heavy borrow ing by corporations in the bond market, apparently reduced business need for shorter term bank accommodation. Business demands for bank financing were noticeably lighter than usual over the mid-September tax and dividend payment date. Bank loans other than business loans rose substantially faster in the third quarter than in the second quarter. Among the other loan categories, loans to securities bro kers and dealers expanded very rapidly, in line with greatly increased Treasury financing activity. Real estate and con sumer loans also advanced further over the third quarter, paralleling a continued advance in housing starts and retail sales, and agricultural loans picked up. On the other hand, outstanding bank loans to finance companies fell over the quarter, as these companies experienced some decline in the need for funds, due partly to reduced fi nancing requirements of retail automobile dealers. At the same time, finance companies continued to find funds readily available in the commercial paper market. Al though yields on ninety-day finance company paper rose from 4.40 per cent in June to 4.76 per cent at the end of September, these rates remained well below the prime lending rate at commercial banks. Bank liquidity generally improved during the third quar ter. For all commercial banks, the aggregate ratio of loans (excluding securities loans) to deposits fell 2.0 percentage points to 62.8 per cent. At New York City banks, where ratios had been much higher, the drop was somewhat less 217 pronounced, from a June average of 76.2 per cent to 74.7 per cent in September. However, loan-deposit ratios at the end of September still remained high by recent standards. M O N E Y S U P P L Y , B A N K D E P O S IT S , AND R E SER V ES Bank deposits and the money supply expanded during the third quarter at approximately the same rapid pace as in the second quarter (see Chart II). The seasonally adjusted money supply—currency outside banks and privately held demand deposits—rose $3.0 billion over the quarter, or at an annual rate of 7 per cent. The advance occurred mostly in July and August, and there was only a modest further rise in September. The September slowdown was probably partially related to the midmonth corporate tax payments, which resulted in a shift of funds from private demand deposits to public accounts. Government demand deposits increased strongly in September. Total time and savings deposits at commercial banks also continued to expand rapidly in the third quarter, rising by $6.5 billion or at an annual rate of over 15 per cent. This brought the advance for the year through September to an annual rate of 17 per cent, roughly twice the rate of expan sion in 1966 and above the strong average growth rate for 1961-65. Data from large weekly reporting commercial banks indicate that, over the third quarter, savings deposits grew at about the same moderate pace as in the first half of the year and other time deposits, excluding large negoti able certificates of deposit (C /D ’s), continued to post substantial advances. These developments indicate that commercial banks were able to compete effectively with rising yields on marketable securities and to maintain their competitive positions relative to other deposit-receiving institutions. The volume of outstanding large C /D ’s increased slightly over the quarter. After remaining essentially unchanged from March through June, as large accelerated tax pay ments limited the ability of corporations to acquire such assets, C /D ’s began to increase sharply immediately after the June tax date. This increase reflected higher rates of fered by banks as well as the improved liquidity positions of corporations. Posted offering rates on C /D ’s moved up in all maturity brackets, and in many cases banks were willing to pay more than their posted rates for large blocks of money. However, following a sharp expansion of C /D ’s in July and August, there was a substantial runoff in midSeptember, when many corporations required funds for dividend and tax payments. On balance, for the quarter as a whole, total outstanding C /D ’s increased by $0.7 billion. In addition, commercial banks substantially increased their 218 MONTHLY REVIEW, NOVEMBER 1967 C hart II PERCENTAGE CH AN GES IN LIQUIDITY INDICATORS S e a so n a lly a d ju ste d a n n u a l rates Per cent per cent 3 1st Q U A R T E R 1967 I i 2 n d Q U A R T E R 1967 3 rd Q U A R T E R 1967 * Com puted from daily a verages forthe months preceding and ending each period. ~T C om puted from levels at the beginning and end of each period. Source: Board of G overno rs of the Federal Reserve System. borrowings of Euro-dollars—foreign-owned dollar bal ances—during the third quarter. Conditions in the money market remained generally comfortable during the third quarter. Nationwide free re serves averaged $282 million on a daily average basis during the quarter. Nonborrowed reserves increased at a rapid rate, and borrowings by member banks from the Federal Reserve fell to the lowest level since the third quarter of 1962. Total reserves rose substantially faster than required reserves, and excess reserves—the difference between total and required reserves—rose to their highest level since the first quarter of 1965. N O N B A N K L IQ U ID IT Y Liquid assets held by the nonbank public increased at an annual rate of about 10 per cent during the third quar ter, substantially above the rapid pace in the first half of 1967 (see Chart II). The major source of the faster gains of liquid assets was a sharp $2 billion rise of short-term United States Government securities held by the nonbank public, following a net decline of such holdings in both the first and second quarters. The growth of currency and de mand deposits, as noted earlier, was 7 per cent, about the same as the rapid rate of the previous three months. Total personal-type time and savings accounts at commercial banks, savings and loan associations, and mutual savings banks rose at a rapid pace of nearly 12 per cent per an num, slightly above the gain of the preceding quarter. The substantially higher level of rates on marketable securities in the third quarter does not, therefore, seem to have adversely affected the deposit performance of either commercial banks or the nonbank savings institutions, even though in terest rates offered on deposits appear to have remained essentially unchanged in the third quarter.1 This suggests that the competitive position of banks and other depositissuing savings institutions may have undergone an im provement since 1966, when large amounts of deposits were shifted into open market investments at interest rates comparable to those recently prevailing. Growth of deposits at nonbank thrift institutions ex panded by IOV2 per cent (seasonally adjusted annual rate), slightly faster than the 9Vi per cent gain in the second quarter, and savings and loan associations and mutual sav ings banks were able not only to continue rebuilding their liquidity but also to increase their mortgage lending sub stantially. Mortgages held by these two types of institutions increased at an 8.0 per cent annual rate in the third quar ter, extending the steady recovery of their mortgage lend ing that has been apparent since the fall of 1966. 1 On September 21, President Johnson signed into law a oneyear extension of the statute authorizing the regulatory authori ties to set the interest rates financial institutions pay on deposits. In addition to extending existing ceilings on commercial banks (for details, see this Review, October 1966, page 221), the new law incorporates changes which became effective on July 1 in the maximum payments that could be made by mutual savings banks insured by the Federal Deposit Insurance Corporation (FDIC) and savings and loan associations affiliated with the Federal Home Loan Bank System (FHLBS). Thus, the current ceilings for these institutions are now (1) 5 per cent on all savings deposits in mu tual savings banks insured with the FDIC and (2) 43A per cent maximum on all passbook savings in savings and loan associations in the FHLBS and up to 5lA per cent on certificate accounts held for at least six months, with three major exceptions: (a) institu tions paying more than 43A per cent prior to September 22, 1966 may pay up to 5 per cent on passbook savings and savings cer tificates, (b) institutions in California, Nevada, Alaska, and Hawaii may pay up to 5V4 per cent on certificates held for three years or more and 53A per cent on savings certificates if the funds were received prior to September 22, 1966, and (c) institutions in areas where the average interest rate on mutual savings bank deposits exceed 43A per cent may pay as high as 5 per cent on savings accounts.
@FedFRASER