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FEDERAL RESERVE BANK OF RICHMOND

MONTHLY
REVIEW

Flexible Exchange Rates
Local Government Expenditures
Foreign Purchases of Domestic
Securities
The Fifth D istrict




Flexible Exchange Rates
Proposals for international monetary reform fall
into tw o ca teg ories: those aimed at shoring up the

T o the extent that the adjustm ent mechanism c o r ­
rects deficits, the need for liquidity is lessened.

those

T he approach to reform reviewed here involves a

aimed at a fundamental change in the nature of the

greater degree of flexibility of foreign exchange rates.

present

international

monetary

system

and

system. M ost of the official emphasis in recent years

Flexibile exchange rates have long been advocated

has been on supplementing the existing system, p ri­

by a large segment of the academic com m unity, and

marily by providing additional liquidity and credit

recently the idea of greater exchange rate fle x i­

facilities for financing international deficits.

bility has received increased attention in “ official”

C on cern

over

the

a d e q u a cy

of

in tern ation al

circles.

T he

Subcommittee on

International E x ­

liquidity has led to tw o general increases in the quotas

change and Payments of the Joint E conom ic C om ­

of the International M onetary Fund since its incep­

mittee

tion, and a third increase is in prospect for next year.

M onetary Fund to study the possibility of greater e x ­

T he I M F ’s lending potential was further enhanced in

change rate flexibility within its present fram ew ork.

of

Congress

has

urged

the

International

1962 by the General A rrangem ents to B orrow , under

Several of the official delegates to the recent I M F

which the G rou p -of-T en nations stand ready to lend

meetings, including Secretary of the Treasury K en ­

the Fund up to $6 billion if needed.

nedy,

T he G rou p-of-

called

for

official

study

of

the

question.

T en recently agreed to extend this line of credit

Finally, interest in exchange rate flexibility received

through 1975.

A nother provision for international

new impetus from the recent German decision to

liquidity initiated in 1962 is the network o f reciprocal

allow the mark to float until a new parity was

currency or “ sw ap” arrangements.

established.

These standby

agreements provide for the mutual exchange of cu r­
rencies between tw o countries, with the international
reserves thus created used by one or both countries
to defend existing exchange rates against balance of
payments pressures.

A n e x ch a n g e rate is s im p ly

a price— the price of one currency in terms o f an­
other currency.

D ow nw ard pressure is placed on

the exchange rate of a country experiencing a deficit
in its balance o f payments as its currency is in excess

The most recent and fundamental step in providing
for adequate grow th in w orld liquidity is the facility
for Special D raw ing Rights finally adopted in 1969
after several years of study and negotiation.

SDRs

are intended to supplement existing reserve assets
as a means of financing external deficits.

T hey are

to serve the same general role as official gold does
presently, as their nickname, “ paper g o ld ,” suggests.
M any econom ists believe, however, that while ad­
ditional liquidity may be desirable, the m ore urgent
need is fo r an im proved international adjustm ent
mechanism to correct deficits.

G en era l P rin cip le s

A cco rd in g to this

supply in the foreign exchange market.

Conversely,

upward pressure is placed on the exchange rate o f a
surplus country since its currency is in excess demand
at the existing rate.

In perfectly free foreign e x ­

change markets, exchange rates presumably w ould
adjust until international equilibrium is restored.
But foreign exchange markets today are not free
markets.

Balance o f payments pressures

on e x ­

change rates are currently offset by official interven­
tion which permits only nominal changes in rates.
W ith exchange rates pegged within a narrow band
under the present system, these pressures fall first

view , trying to solve current international ills with

on the monetary reserves of the countries involved,

m ore and m ore liquidity is like trying to solve family

and

financial problem s by getting another credit card.

ultimately on their domestic econom ies. A n d the d o ­

2




the burden o f

international adjustm ent falls

mestic goals of full em ploym ent and price stability

little to recom m end a flexible-rate system.

are sometimes in sharp conflict with the require­

many advocates of flexible rates w ould be just as

A ctually

ments of international equilibrium.

Substantial in­

happy with fixed rates if internal prices and wages

flation may be required to eliminate an external sur­

were as flexible in both directions as a free market

plus

exchange rate.

while

unemployment

and

recession

may

be

But since prices, and particularly

T he natural re­

wages, tend to be rigid in a dow nw ard direction, the

luctance to subject the dom estic econom y to such

deflation necessary to cure a deficit under a fixed-

necessary to cope with a deficit.

harsh external discipline is largely responsible for

rate system w ould exert dow nw ard pressure on the

the increasing reliance on governm ent controls over

employm ent level.

W h ile exchange depreciation is

not painless and usually involves a reduction in real

foreign trade and capital movements.
Proponents of flexible exchange rates argue that

income, it presumably w ould avoid the employm ent

their system is the only alternative to nationalistic

effects o f dom estic price and wage rigidities.

controls over international trade and investment on

ble rates are thus seen as a means o f rendering rigid

F le x i­

the one hand, or wide fluctuations in the dom estic

internal prices and wages flexible in terms o f foreign

econom y on the other.

currencies.

Instead of forcing the in­

ternal econom y to adjust to a predetermined fixed

Even if flexible exchange rates alleviated pressure

exchange rate, they say w e should let the exchange

on employm ent resulting from dow nw ard price and

rate itself do the adjusting.

w a g e rig id ity , u n e m p lo y m e n t co u ld

E xchange depreciation

still resu lt

would normally tend to make a deficit country m ore

fro m re so u rce im m o b ility .

competitive internationally by making its exports

ment through the current account requires a realloca­

cheaper abroad and its im ports m ore expensive at

tion o f resources between dom estic and foreign-trade

home.

E xchange appreciation in surplus countries

sectors o f the econom y whether induced by fluctua­

would tend to stimulate im ports and depress exports.

tions in the exchange rate or by fluctuations in the

The idea is simply to extend the free market into

domestic econom y.

the area of international finance.

I f external pay­

In tern a tion a l a d ju st­

If resources are not sufficiently

mobile, unemployment could result under either e x -

ments do not balance at the existing exchange rate,

change-rate system.

U nder flexible rates, however,

the rate w ould adjust in the market until equilibrium

resource

w ould

is restored.

immobility

probably

increase

the

magnitude of exchange-rate adjustm ent necessary to

T o say that exchange rate adjustm ent can p ro ­

maintain external balance since it w ould reduce the

mote external equilibrium does not mean that the

se n sitiv ity o f o u tp u t o f v a rio u s s e cto rs o f the

internal econom y is left unaffected.

e c o n o m y to rela tiv e p rice ch a n ges.

E xchange d e­

preciation raises im port prices relative to domestic
prices and induces a shift in consum ption patterns
away from im ports in favor of domestic good s co m ­
peting with imports.

L abor and other productive re­

sources shift out of dom estic production into export
industries.

E xchange

appreciation

in

a

surplus

country w ould shift the patterns o f consum ption and
1 production in the opposite direction.

T he under­

D o m e s tic P o lic y In d e p e n d e n ce

U n d e r a fix e d -

rate system there is a potential conflict between d o ­
mestic policy objectives and the requirements o f in­
ternational equilibrium.

Such a conflict w ould be

most apparent in the case of a deficit country e x ­
periencing a dom estic recession.

Easy m onetary-

fiscal policies may well restore dom estic prosperity,
but at the expense of a w orsened external deficit.

lying shifts in production and consum ption patterns

Policies designed to correct the external deficit would

necessary to restore equilibrium are thus similar to

tend to aggravate the recession.

those required under the present system o f fixed

dilemma has usually resulted in controls over inter­

rates.

T he principal difference is that under flexible

rates these internal adjustm ents would respond to
changes in the exchange rate rather than to defla­
tion

or

inflation

in

dom estic

prices

and

money

incomes.
Since the underlying adjustments are ideally the
same under the tw o systems, there would seem to be



In recent years this

national trade and investment rather than the sacri­
fice of dom estic stabilization objectives.
A t the other extrem e is the case of a surplus
country experiencing internal inflation.

Successful

efforts to curb the inflation w ould increase the e x ­
ternal surplus while expansionary policies to reduce
the surplus w ould intensify the inflation.

T his par­

3

ticular policy dilemma led to the Canadian adoption

F lexible exchange rates may provide a degree of

of flexible exchange rates in 1950; it also led the

insulation from foreign price and incom e changes by

Germans to revalue the mark in 1961 and again

neutralizing the net effect of a change in exp ort d e ­

this year.

mand on the balance of trade.

A foreign recession

Proponents of flexible exchange rates argue that

w ould still reduce export demand, but exchange d e­

their system w ould reduce or eliminate external co n ­

preciation should limit the deterioration of the trade

straints on domestic policies.

balance.

M onetary and fiscal

policies could pursue the desired combination o f price

T he depreciation w ould discourage the fall

in exports while encouraging a decline in im ports.

stability and full em ploym ent while exchange-rate

If potentially com plicating capital flows could be

adjustm ents

ignored, exchange depreciation could be expected to

w ould

maintain

equilibrium

in

the

balance of payments. D om estic policy could influence

prevent any worsening of the trade balance.

the total level of expenditure for dom estic stabiliza­

no change in net foreign spending on dom estic ou t­

W ith

tion purposes because the exchange rate w ould be

put, there should be no im ported recession.

free to adjust to the extent necessary to induce the

versely, a foreign inflation w ould increase export

shifts in consum ption and production patterns re­

demand,

quired for external equilibrium.

H ence, in the pre­

but the

resulting

exchange

C on ­

appreciation

w ould discourage the expansion o f exports while en­

vious exam ple of a deficit country with an internal

couraging im port grow th.

recession, expansive policies could raise the total

currency, which w ould not be possible under a fix ed -

T he appreciation o f the

level o f output while the resulting exchange de­

rate system, w ould intercept the im ported inflation.

preciation shifts a larger portion of it into export in­

Flexible-rate advocates recognize potential com p li­

dustries.

In the case o f the surplus country e x ­

cations in this insulation mechanism, especially those

periencing internal inflation, policy could be tightened

arising out of interest-sensitive capital flo w s ; but

to reduce the excessive level of total spending while

they still maintain that a nation w ould have m ore

exchange appreciation increases the portion o f total

econom ic sovereignty under flexible rates than under

spending goin g for im ports and reduces the portion

the present system.

of total output being exported.
A related advantage often claimed for flexible e x ­
change rates is that they block the international
transmission of econom ic fluctuations com m only as­
sociated with fixed-rate systems.
flexible

rates

are

said

to

In other words,

insulate

the

domestic

econom y from foreign inflationary or deflationary
pressures.1
A foreign recession may be transmitted to the d o ­
mestic econom y under fixed exchange rates through

A r g u m e n ts an d C o u n te ra rg u m e n ts

S ev era l o b ­

jections have been raised against the use o f flexible
exchange rates.

T he m ost important, perhaps, is

the argument that international traders and investors
require the certainty of stable rates to d o business.
T he possibility of loss due to an adverse m ovem ent
in the exchange rate, it is said, w ould discourage
international trade and investment.
Propenents of flexible rates counter with several
arguments. First, they reject any automatic associa­

a decline in export demand and a reduction in the

tion of free-m arket rates with unstable rates.

foreign trade balance.

In the absence o f offsetting

cite other com m odities and other markets that e n jo y

influences elsewhere, the reduction in net foreign
spending for domestic output means a reduction in

relatively stable prices in the absence o f governm ent
price fixing. Second, they argue that exchange risks

total spending, and thus total income.

are not entirely absent under the present system,

A

foreign

boom or inflation w ould increase export demand,
im prove the balance of trade, and thus raise the levels
of total spending, m oney income, and prices.

The

Germans in particular have found that this trans­

since

official

abruptly.

par

values

are

sometimes

T h ey

changed

T hird, exchange risks can be hedged in

the forw ard exchange market in much the same way
as

com m odity

traders

hedge

in

the

com m odity

mission mechanism makes it difficult to maintain

futures market. H edgin g does involve extra costs,
however, and the cost o f hedging some important

price stability in an inflationary world.

kinds o f transactions may be prohibitive.

Finally,

they maintain that there are all kinds o f risks in
1 R obert D. M cTeer, Jr., “ E conom ic Independence and Insulation
through Flexible E xchange R ates,” N icholas A. Beadles and L. A u ­
brey D rewry, J r. (e d s .), M oney, the M arket and the State (A th en s:
U niversity o f Georgia Press, 1968), pp. 102-183.

4




international trade, and official measures taken to
protect a fixed rate may create m ore problem s for
traders and investors than w ould the adjustm ent

they seek to avoid. T he risk o f exchange fluctuation
must be weighed against the alternative risks o f co n ­
trols over trade and investment and other restrictive
measures designed to maintain fixed rates. Certainly
the cause of international trade and investment lias
not been advanced by the recent measures taken by
several countries, including the United States, to
support official exchange parities.
A nother argument often heard is that speculation

such a system, however, are not g ood . T he w o rld ’s
monetary authorities are understandably reluctant
to make such a radical departure from orth odoxy,
and do not always have the pow er to make such
changes even if they wished to. Rather, official at­

would be destabilizing if rates were flexible— that

the m ost attention today involve some version of

speculators w ould take a given change in the rate
as a signal for further changes in the same direction
and act accordingly. Supporters of flexible rates, on
the other hand, argue that the present system is m ore

“ wider bands,” “ crawlings pegs,” or a com bination
o f the two. Both these approaches aim at obtaining
some o f the assumed advantages o f exchange fle x i­
bility without sacrificing the basic nature o f the par

conducive to destabilizing speculation since rates are

value system.

held rigid while huge deficits pile up. Faced with
rates that are clearly out of line with reality, specu­
lators or traders with an uncovered position stand
to make large gains if they are right and have little

T he wider band proposal involves extending the
range of permissible exchange rate variation around

to lose if they are w rong.

T he events of the past

couple of years illustrate the potential for one-way
speculation under the present system. O n the other
hand, it is argued, if rates were determined in the
free market, they w ould presumably adjust gradually
to changing econom ic conditions, and speculators
would not be faced with rates that are clearly under­
valued or overvalued. T he potential gain through
speculation w ould thus be diminished and w ould be
matched by a greater chance o f loss.
A nother argument against flexible rates is that
they would eliminate an important external co n ­
straint against inflationary policies.
U nder fixed
rates, it is argued, inflationary policies w orsen the
balance o f payments and lead to a loss o f gold or
foreign exchange reserves.

T he reserve loss de­

mands attention and forces the monetary authorities
to adopt more restrictive policies.

H ow ever, policies

that w ould lead to reserve losses under the present
system w ould lead to exchange depreciation if rates
were free, and exchange depreciation may also be
something to be avoided.

It raises im port prices and

usually worsens the terms o f trade. T he question i s :
which provides the greater constraint on inflationary
policies— reserve losses or exchange depreciation ?
W h ile often asked, such a question misses the point
that inflation is undesirable in itself and should be
avoided, external constraint or not.
tional financial

system

can

force

N o interna­

responsible

do­

mestic policies or substitute for them.

tention has been directed recently to m ore limited
form s o f flexibility that w ould not break com pletely
with the par value system.
T he suggestions for limited flexibility receiving

the par value beyond the present 1 % limit sanctioned
by the IM F .
Presumably, many, though not all, o f
the advantages (an d disadvantages) claimed for
flexible exchange rates w ould apply to a lesser extent
to a wider band.
In urging official study o f this
proposal in 1965 the Joint E conom ic Committee of
Congress gave its possible advantages as fo llo w s :
Broadening the limits for exchange rate variations
could discourage short-term capital outflows through
free market forces, on which we should continue to
place our main reliance; permit greater freedom for
monetary policy to promote domestic objectives; dis­
courage speculation against currencies by increasing
the risk; and to some extent promote equilibrating
adjustment in the trade balance through somewhat
greater exchange rate variations than are now per­
mitted.2

A wider band w ould represent only a one-shot in­
crease in the ability of the exchange rate to adjust.
Divergent national policies still would tend to push
rates to their upper or low er support limits, and
their ability to adjust in that direction w ould be
“ used up.”

T he craw ling peg proposal, on the other

hand, provides for a gradual, but continuing, adju st­
ment o f the par value itself. T he speed o f adjustm ent
might be determined in advance, say a m axim um of
one sixth o f 1% per month, or it might depend on
past market perform ance.

F or exam ple, the peg

could be set each month or each week at a level
equal to the m oving average of the actual market
rate over a specified time period.

Either way, the

adjustm ent over short time periods w ould be too
small, presumably, to make large scale speculation
worthwhile.

T h e d iscu ssion so far has

R ob ert D . M cT cer, Jr.

assumed com pletely free exchange rates to focus on

- 1965 Join t E conom ic R ep ort, R ep ort o f the Join t E conom ic Com­
mittee on the January 1965 E conom ic R ep ort o f the President,
M arch 17, 1965, p. 15.

L im ited F le x ib ility
general principles.



T he

near-term

prospects

for

5

LOCAL G O V E R N M M T EXPENDITURES

LOCAL EXPENDITURES BY PURPOSE

OTHER" DIRECT GENERAL EXPENDITURES

UNITED STATES

FIFTH DISTRICT

Fiscal Y ears

Fiscal Y e ar 1968

$ Billions
80

$ Million

Total expenditures by local governments in­
creased 60% between 1961 and 1968. Education
expenditures ranged from 39% of total exp e n d i­
tures in 1961 to almost 42% in 1968 while utility
expenditures, the second largest category, re­
mained a relatively stable 9%-10% of the total.
H ighw ay disbursements declined from 8.5% in 1961
to 6.5% in 1968, but public w elfare increased a
full percentage point over the period to 6.7%.
Payments for hospitals and health remained close
to 5% of total outlays.

70

60

50

40

"Other" expenditures by local governments
went largely for sanitation and sewerage and for
interest payments on general debt.
Interest on
general debt accounted for a little over 13% of
total expenditures for all local governments, the
same level as in 1961.
In the District, interest
payments ranged from a low of around 6 % of the
total in the District of Columbia to a high of almost
19% in Virginia, as compared with a 1961 low of
less than 4% (District of Columbia) and a high of
over 18% (Maryland). Local government ad m in is­
tration expenditures as a percentage of total e x ­
penditures declined throughout the District except
for the District of Columbia and Maryla nd.

350

300

250

'
30

-

- .......

■

20

DISPOSITION OF TOTAL LOCAL EXPENDITURES
UNITED STATES

10
.
$ Billions
80

___
1961
■

1965

Education
H ighw ays
[jj Public W elfare

1966

1967



MD.

F~] Hospitals and Health
□ Utility
□ Other

N. C.

VA.

S. C.

Sanitation and Sew erage
Local Parks & Recreation
Financial Adm inistration
State Govt. Adm inistration

LOCAL DIRECT GENERAL EXPENDITURES
BY PURPOSE

1968

Total local direct government expenditures in the
Fifth District exceeded $1 billion in three District
states, M aryla nd ($1.4 billion), Virginia and North
Carolina ($1.1 billion). Total local outlays exceeded
$530 million in the District of Columbia, $464 mil­
lion in South C arolina, and $350 million in West
Virginia.
Education outlays, the major expendi­
ture throughout the District, ranged from $125
million in the District of Columbia to almost $660
million in M aryland. M aryla nd is the only District
state in which local expenditures more than
doubled from 1961 to 1968, but local expenditures
in South Carolina increased 99%.


Fiscal Years

FIFTH DISTRICT

W. VA.
Q
□

D. C.

Interest on
G e n e ral Debt
M iscellaneous

Fiscal Y e a r 1968

Per Cent

100

1961
MD.
H
|
[I

N. C.

S. C.

Education
H ighw ays
Hospitals and Health

VA.
Q
H
Q

W. VA.

D. C.

Public W elfare
Police and Fire
O ther

1965

1966

1967

1968

Capital outlays accounted for approximately
20% of total expenditures from 1961 to 1968, and
construction expenditures accounted for over threefourths of capital outlays.
Local governments
made some payments to their state governments,
but these amounted to only about 0.5% of total
expenditures over the period. The percentages of
total expenditures accounted for by the categories
of outlays shown in the chart remained relatively
stable during the period. Compensation of local
officers and employees, which comprises a part of
each of the illustrated categories, has also con­
sistently been around 48% of the total.

|
Current O peration
fj| C a p ital O utlay
£3 Assistance & Subsidies and Insurance
Benefits & Repaym ents
|j§ Interest on Debt and Intergovernm ental

K atherine M . Chambers

Source:

U. S. Departm ent of Com merce.

Foreign Purchases of Domestic Securities
F oreign purchases of U . S. securities have con ­
tributed significantly to the recent shifts in the United

‘ ‘below the line” as a balancing item in the official
balance of payments accounts. Since transactions in

States balance of payments position. Net foreign
purchases of U . S. corporate stocks and bonds, in
particular, helped the U nited States achieve its small

both

external surplus in 1968, the first on a liquidity basis

purposes.

since 1957.

A decline in such purchases contributed

categories

of

securities

are

considered,

the

statistics used here are not strictly com parable to
those used for official balance of payments accounting
T he

charts

show

net

purchases

and

sales

by

to the sharp deterioration in the overall payments

foreigners of long-term U . S. securities by area and

position in

across national boundaries is im portant fo r reasons
other than balance of payments considerations. In ­

by type.
L ong-term securities are those with no
contractual maturity (equities) or those with an
original maturity of over one year.
“ F oreign ers”

ternational capital movements can contribute to e co ­

are defined by the T reasury Department to include

nom ic welfare in much the same way as international

all individuals and institutions located outside o f the
United States, including U . S. citizens.
F oreign

1969.

O f course, the flow o f capital

trade in goods and services.
N et foreign purchases o f U . S. securities, other
than Treasury issues, represent a capital inflow into
the United States, a plus item in our balance o f pay­
ments accounts. Conversely, net foreign sales o f such
securities represent a capital outflow, or a negative
item. O n the other hand, foreign transactions in
marketable U . S. Treasury securities are recorded

institutions include foreign subsidiaries of U . S. busi­
nesses and banks, foreign pension and mutual funds,
foreign governm ents and central banks, other o f­
ficial institutions of foreign countries, and interna­
tional and regional institutions such as the Interna­
tional Bank for R econstruction and Developm ent.
Transactions undertaken by residents o f the U nited

NET P U R C H A S E S ( + ) A N D S A L E S ( - ) O F L O N G - T E R M S E C U R IT IE S B Y A R E A

1968

a
CORPORATE AND
M A R KETA B LE

OTH ER

CO RPO RA TE STO CK
BONDS

U. S. G O V T S .

1967

T CO RPO RATE AND

JO T H E R

BONDS

1966

1..... 1 1

t

— 600

-4 0 0

1

I
-2 0 0

I____I____ I____I____I____I____I____I____I____I____I------ 1
------ 1
------1
------ 1
------ 1
—
0

200

400

600

800

1 ,0 0 0
$ M illio n s

N o te :
S o u rc e :

8

N e t p u r c h a s e s o r s a le s fo r a g iv e n a r e a
U. S. T r e a s u r y




D e p a rtm e n t.

o f less th a n

$ 1 0 m illio n a r e

in clu d e d a s " O t h e r " .

1 ,2 0 0

1 ,4 0 0

States are also counted if the transactions are re­
corded for the account o f foreigners.
T he transactions are shown for each country or
geographical area in w hich the buyer or seller of
record resides, but this may not in all cases be the
residence of the ultimate buyer or seller. F o r e x ­
ample,

Swiss banks handle transactions for cus­

tomers

in

many

countries,

and

Switzerland

is

credited with these transactions even though the
ultimate ow ners are not necessarily Swiss.

U nited K in gdom ($522 m illion) the m ajor pur­
chasers.
Germany, France, and B elgium -L uxem bourg were also large net purchasers.
T hough
Europeans in general were net sellers of U . S. G ov ­
ernment securities in 1968, the United K ingdom
was a net purchaser at $52 million.
M ost transactions in U . S. securities from the
Latin A m erican area com e from the Netherlands
Antilles and Surinam and the Bahamas and B er­
muda.
T he Bahamas and Berm uda had net pu r­
chases of $140 million of U . S. corporate stock in

M a jo r P u rch a sers o f U . S. S ecu rities

T h e first

1968, the highest in the area, while the Netherlands

chart shows that E urope continued to be the source

Antilles and Surinam were the largest purchasers of

of most of the foreign transactions in U .

corporate and other bonds. M uch o f this activity is
the result of actions by investment trusts which at­
tract funds largely from Europe, but also from the

curities through 1968.

S. se­

T he m ajor European “ pur­

chaser” of U . S. corporate stock was Switzerland
with net purchases of $822 million, follow ed by the
Netherlands, France, and Germany.

Part o f the

Dutch purchases were accounted for by a large direct
investment in the United States by a Dutch company.
U . S. corporate and other bonds, which include
issues of states and municipalities, and o f agencies

United States and other areas. Transactions in U . S.
Government securities in this area were small in 1968.
T he A sian category also showed net purchases o f
U . S. corporate stock in 1968 with the largest pu r­
chases ($ 5 4 m illion) from the “ Other A sia ” group
which includes Vietnam.

Other m ajor purchasers

of the U . S. Governm ent which are not guaranteed

were H o n g K on g ($ 3 7 m illion ), the Phillipines
($20 m illion ), and Israel ($ 9 m illion ). Transactions

by the U nited

also popular am ong

in U . S. Governm ent securities and corporate and

Europeans with Switzerland ($510 m illion) and the

other bonds were minimal with net purchases o f the
form er and net sales of the latter for 1968.
International and regional organizations, such as
the International Bank fo r Reconstruction and D e­

States, were

H

U

| [ CO RPO RA TE STO CK

velopment, have generally invested the proceeds o f
new security offerings in the United States in n on ­
liquid U . S. assets.

] CORPORATE AND

OTH ER

BONDS

In 1968, these organizations

were net sellers of LT S. Governm ent securities
.
($161 m illion) but net purchasers of corporate and
other bonds ($117 m illion) and o f corporate stock
($12 m illion ).
A frica and Australia have both been relatively
inactive in U . S. long-term securities, except for $10
million of corporate and other bonds purchased by
Australia in 1968.
R e a s o n s fo r F o r e ig n P u rch a se s o f U . S. S ecu rities
T he foreign demand for U . S. long-term securities

E u ro p e
La tin A m e r ic a

□
■
E3
l~]

Canada
A s ia

□

O th e r

com es from both official and private sources.

M any

foreign central banks and Treasuries hold a sizable
part of their international reserves in the form of
dollars.

In order to earn a return on these holdings,

they are invested in dollar-denom inated securities.
U . S. securities are generally attractive to both o f­

I
1,600

I

____
- - ------ -------1
» I____ I____I------ 1----- 1----- 1 1
1 ,8 0 0

2 ,0 0 0




2 ,2 0 0

2 ,4 0 0

2 ,6 0 0

ficial and private investors because of the relative
econom ic and political stability of the United States
(thus a relatively low exchange risk) and because
o f the broadness of the U . S. securities markets.
T he increase in foreign purchases of U . S. stocks

9

NET FOREIGN PURCHASES ( + )& SALES ( - )
OF LONG-TERM DOMESTIC SECURITIES
BY TYPE
(A S REPORTED BY BAN KERS AN D BROKERS IN U. S.)
$ Millions

through 1968 coincided with a period of rising stock
p rice s; foreign purchases declined as stock prices
turned dow n in 1969. T h e prospects of capital ap­
preciation may also be a reason fo r the increase in
the foreign private demand fo r U . S. debt securities.
Prices o f all types of bonds have fallen consistently
since 1965. T he average yield on M o o d y ’s corporate
A aa bonds in 1965 was 4 .4 9 % per annum as co m ­
pared with 6 .1 8 % in 1968. T o the extent that rising
yields give rise to expectations of a reversal in the
bond market, there is an opportunity fo r capital
appreciation.
Other attractions of U . S. securities have been
relatively stringent U . S. disclosure policies applied
to companies listed on the m ajor exchanges, the
maintenance of overseas branches by U . S. brokers,
and the F oreign Investors T a x A ct of 1966. T he d is­
closure practices in the United States are stricter than
those in other countries thus allow ing the investor
to becom e better inform ed.
T he brokers’ foreign
branches make it relatively easy, at least fo r E u ro­
peans, to make transactions in U . S. securities, and
the F oreign Investors T a x A ct liberalized U . S. in ­
com e tax policies on capital gains and the dividends
for foreign individuals holding U . S. securities. In
addition, potential foreign investors may be in tro­
duced to U . S. equities through convertible E u ro­
dollar bonds. H olders of these bonds have the option
of converting those bonds into the com m on stock o f
the parent U . S. com pany.
R e c e n t D e v e lo p m e n ts N et fo r e ig n p u rch a ses o f
U . S. securities decreased sharply in the first half
of 1969, contributing to a serious deterioration in
the U . S. balance o f payments. T he decline in net
foreign purchases was largely attributable to declining
U . S. stock prices and the relative attractiveness o f
com peting investments such as E urodollar deposits.
In June, foreigners sold m ore U . S. corporate stock
than they bought, for the first time since 1966.

A c­

cording to preliminary figures, sales o f stock e x ­
ceeded purchases in July also, but in A ugust net
purchases by foreigners were again recorded.

Net

sales by foreigners of corporate and other bonds
and marketable U . S. Governm ent notes and bonds
also took place in June, but net purchases were re­
corded fo r both in July and A ugust, again according
to preliminary data. Recent behavior w ould seem to
indicate that while foreign purchases o f long-term
dom estic securities have fluctuated in 1969, there has
Note:

1968 and 1969 d ata are qu arterly figures
at a nn ual rates.

Source:

U. S. Treasury Department.

been a long run increase in foreign demand for
U . S. securities.
K atherine M . Chambers

10




The Fifth District
MEMBER BANK BORROW ING

Daily borrow ings at Fifth District member banks

T he Federal R eserve discount w indow extends
credit to member banks on a short-term basis to

reached record highs in the first six months o f 1969.
O n M ay 23 borrow ings outstanding from the Federal

enable them to adjust their asset positions when

Reserve Bank o f R ichm ond climbed to a record
$132.7 million and on June 27 hit a new high of

necessary because of developments such as a sudden
withdrawal of deposits or seasonal requirements for
credit beyond those which can be met by use o f the

$137.7 million.
Daily borrow ings in the District
averaged $44.8 million in the first half o f 1969— over

bank’s own resources. T o use the discount w indow
a banker simply places a telephone call to the F ed ’s

half again the $29.3 million which District banks
borrow ed in 1966, another year of stringent credit
conditions.
In this year of record borrow ings, it

Discount and Credit Department specifying the
amount he w ould like to borrow , the collateral he
will use, and the number of days he intends to

seems particularly appropriate to review the m e­
chanics of the discount process and outline some of
the characteristics of the borrow in g banks.

borrow .

T he telephone request must be confirm ed

by a signed note.

Bankers located in the Charlotte

MEMBER BANK BORROWINC 7 IN THE FIFTH DISTRICT FOR 1967, 1968, AND THE FIRST HALF OF 1969
Deposit Classification
O ver $250
Million
Number

of

banks

in

District*

Total number of banks borrowing
1967
1968
First half 1969
Total

bo rro w in g s!

per

borrow ings

per

$5-10
Million

Under $5
Million

42

116

102

72

11
14
14

5
8
10

8
14
12

7
12
12

25
26
26

13
10
11

9
5
5

87,540
370,317
378,814

115,320
144,135
190,385

9,832
6,419
6,561

2,655
5,591
6,022

2,826
1,202
606

240
1,015
2,081

316
395
1,046

27
18
36

7
15
33

8
3
3

Thousands of do llars
25,914
58,154
52,649

9,314
38,813
30,425

Thousands of do llars
71
115
289

26
106
167

D ollars borrowed per $1 million in total deposits+
274
1,262
2,678

1,677
2,224
7,222

1,076
1,530
3,745

8 (1-32)
24 (7-62)
22 (1-55)

28 (4- 80)
43 (4-117)
3 7 (7 - 77)

22 (4- 42)
39 (3-130)
29 (3-110)

A verage num ber of borrow ing days
per borrowing bank
(Range of borrowing days)
1967
1968
First half 1969

$10-25
Million

20

Adjusted daily borrow ings per bor­
row ing bank
1967
1968
First half 1969

$25-50
Million

11

borrowing
bank

1967
1968
First half 1969

$50-100
Million

15

borrowing
bank

1967
1968
First half 1969
Daily

$100-250
Million

890
3,018
4,589

2,130
1,209
2,387

997
1,773
4,179

2,017
785
772

11 (2- 30)
32 (3-104)
2 6 (1 - 70)

38 (2-114)
21 (1- 95)
1 5 (1 - 58)

17 (2-47)
22 (1-82)
27 (2-78)

31 (7-78)
9 (2-25)
6 (2-19)

Days

* Based on December 1968 C all Report,
t Sum of borrow ings outstanding each d ay.
| Deposits as of a nn ual call date.




11

and Baltimore Branch areas contact their respective

from their correspondent banks.

branch offices.

markable for 1969, however, when monetary policy

A fter specifying the amount to be borrow ed, the
banker must indicate the kind of collateral he intends

was

to use.

T w o types of collateral are used most often :

tightening

stantially below
bill rates.

and

the

discount

It does seem re­
rate

the Federal funds and

was

sub­

Treasury

U . S. Government obligations and eligible paper.

M em ber banks in the smallest size class had the

U . S. Governm ent securities are the simplest means
o f securing a loan since a member bank usually main­
tains an inventory o f Government securities at its

lowest rate of borrow in g in 1969 even after a d ju st­

Federal R eserve Bank.

V erification of these se­

ment for the deposit size of the bank. F or exam ple,
the table indicates that the average member bank
having over $250 million in deposits had total b o r­

curities is easy and quick, and the bank is able to
have the loan that day.

row ings per day of $2,678 for every $1 million in

F or borrow in g purposes a member bank’s note
may not have a maturity of more than 15 days. A t
the maturity of the note the amount of the loan is

1969.
T he average bank in the under $5 million
class had total borrow ings per day of only $772 for
every $1 million o f total deposits held. T he largest

automatically charged to the bank’s account, but
the bank is then free to take out a new loan. This
sort of borrow ing occasionally continues for months.
A bank may partially or fully repay its loan at
any time.

average borrow ings fell in the $100-250 million and
$25-50 million groups.
If there is one outstanding theme shown in the
table, it is that fewer of the smaller banks borrow ,

T he table included in this article shows member
bank borrow ings in the Fifth District for the past
tw o and a half years. Total borrow ings, which are
defined as the sum o f borrow ings outstanding on
each day, clearly show that all but the smallest banks
are borrow in g substantially more this year than in
either 1967 or 1968.

T he table also indicates that

smaller banks, on the whole, do not use the discount
w indow to the extent that the larger banks do.

F or

total deposits that it held during the first half of

and if they borrow , they borrow less often and for
relatively smaller amounts.

In 1969, for exam ple,

the percentages o f District banks which borrow ed
were, from smallest to largest size groups, 7 % , 1 1 % ,
2 2 % , 6 0 % , 9 1 % , and 9 3 % .

O f the 72 banks in the

under $5 million size group, only five borrow ed
during both 1968 and the first half of 1969.

The

number of borrow in g days did not show such a
positive relationship to bank size, but the smallest

example, 24 out of 25 banks having deposits o f over

banks in the District again showed a reluctance to

$100 million used the discount w indow sometime
during the first part of 1969, whereas only 42 o f 290

b orrow very often.

member banks with deposits o f under $25 million

during 6 days in the first half of 1969 and 9 days

borrow ed from the Federal Reserve during the half-

in 1968.

year.

T h e average borrow in g bank

in the under $5 million class ow ed money to the Fed

T his does not necessarily mean that the small

Carla R. G regory and

banks have not needed funds, for they often borrow

W illiam E. Cullison

12





Federal Reserve Bank of St. Louis, One Federal Reserve Bank Plaza, St. Louis, MO 63102