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FEDERAL RESERVE BANK OF SAN FRANCISCO M O N T H L Y R E V I E W Record Earnings. . . Lower Profits Farm Lending: ’66 Defense Spending: *68 M A R C H 1967 Record Earnings . . . Lower Profits . . . D is t r ic t banks turned in a mixed performance in the 1966 tightmoney period, as profits declined in the face of record earnings. Farm Lending: '66 . . . W e ste rn farmers— 100,000 of them— owed $1.8 billion to District banks last year, according to the decennial farm -lending survey. Defense Spending: '68 . . . Pentagon spending will continue rising in fiscal 1968, but a smaller share of the total may be spent in W estern states. Editor: W illiam Burke March 1967 M O N T H L Y REVIEW Record Earnings...Lower Profits m a n y respects 1966 was a difficult year for banks. They experienced re duced deposit flows, partly because of severe competition for individual and corporate funds from other financial institutions, and partly because of rising money m arket rates, which after mid-year exceeded the maximum rates payable on large-denomination time certificates, and thereby attracted funds to other money m arket instruments. Meanwhile, m onetary policy in 1966 dragged against the expansion of bank reserve positions during most of the year. In addition, high loandeposit ratios continued to be a restrictive factor in bank-credit expansion. Despite all this, however, the nation’s mem ber banks recorded a 14-percent in crease in net current earnings and a 5-percent gain in net income after taxes. M ember banks in the Twelfth District meanwhile turned in a somewhat mixed performance. Their net current operating earnings rose nearly 8 percent to a record $594 million. Yet, because of relatively heavy capital losses on sales of securities and higher loan losses, their net income after taxes was only $291 million— 6 percent below their 1965 profits figure. Thus, D istrict banks i n i 966 achieved just the opposite of their 1965 perform ance — when, in the face of a reduction in cur rent operating earnings, they obtained record profits because of reduced non-operating costs. In 1966, unlike other recent years, the increase in W estern banks’ revenues— a re sult of substantially higher returns on both loans and securities — outstripped the in crease in their expenses. A slight decelera tion in the rate of increase in interest expense on time deposits was another factor contrib uting to the more favorable relationship be tween revenues and expenses. I K Paradoxically, the factors that contributed to record revenues in 1966— strong loan de mand and higher yields on loans and secur ities— were largely responsible for the de cline in net profits. M any District banks sold securities at a capital loss to obtain additional funds with which to meet heavy loan demand or to reinvest in higher-yielding securities. This type of response was a calculated ac ceptance of non-operating losses as a means of increasing current and future operating income. New factors In 1967 Banks in the West, as elsewhere in the nation, now face the possibility of some leveling off in the rate of increase in revenue from loans and securities. In late January, m ajor banks reduced the prime rate on busi- District bank profits decline but current earnings reach new high K i l l i a n s of D o l l a r s FEDERAL RESERVE BANK ness loans, and action of this type normally signals a scaling down of loan rates general ly. Yields on both short-and long-term se curities also trended downward in the early months of the year. These declines in the rates of return on bank assets were not m atched by any com mensurate reduction on the expense side. In terest on passbook savings— the principal cost item for W estern banks— rem ained un changed at the 4-percent ceiling rate. Rates paid on consum er-type savings and time certificates also remained unchanged, al though W estern banks, along with their col leagues elsewhere, reduced the rates offered on large-denomination C D ’s. B o r r o w in g E A R N IN G S A N D EXPENSES OF TWELFTH DISTRICT MEMBER BANKS (millions of dollars) Earnings on loans 1965 2,025.0 1,771.4 Interest and dividends an U.S. G overnm ent securities O ther securities 219.2 196.5 236.1 157.7 Service charges on deposit accounts 188.0 175.9 Trust Departm ent earnings Other earnings Total earnings S ala rie s and w ages 79.6 73.3 104.8 2,813.2 85.3 2,499.7 626.2 581.0 Interest in time deposits 1,043.6 885.3 Other expenses Total expenses 549,1 2,218.9 480.3 1,946.7 594.3 553.0 N e t current earnings OO 1966p N e t recoveries and profits (— lo sse s): On securities On loans Other — — - T otal net recoveries and profits 1— lo sse s)1 - 46.4 105.8 17.0 + - 169.2 — 18.0 102.2 10.7 425.1 458.3 Taxes on net income 133.9 147.7 Net profits a fte r taxes 291.2 310.6 C ash 175.0 174.2 p— P relim inary. 'In clu d es tr a n sfe rs to (— ) and from ( + ) valuation re serves N o te : D etails m ay not add to totals due to rounding. Source : Federal R eserve Bank o f S an F rancisco. SAN F R A N C I S C O costs of Federal funds eased in the first p art of the year, but increased net purchases by major W estern banks probably m ore than offset the lower interest charges on such borrowed reserves. Thus, banks started out the new year with some doubt that their revenues will again rise substantially faster than their expenses. H igher loan rates On the income side of the ledger, revenues totaled $2,813 million at D istrict banks in 1966. Loan revenue accounted for 80 per cent of the $ 3 14-million increase in total operating income. The growth in outstanding loans was only 6 percent, but income from loans jum ped 14 percent over the yearearlier level as the average rate of return rose to 6.73 percent— 32 basis points above the 1965 average rate. The first m ajor move tow ard higher loan rates came in early D ecem ber 1965, when large banks increased the rate they charged prim e business borrowers from 4 Vi percent (in effect since August 1960) to 5 percent. This was followed in 1966 by three prim erate increases— in M arch, June, and August — which finally brought this pivotal rate to 6 percent. Since business loans generally are tied in some way to that rate, these changes resulted in sharply increased revenues from the ebullient business-loan sector. R ates on other loan categories also moved up during the year in line with the prim e-rate increase and the rise in money-market rates generally. 94.7 N e t profits before income taxes dividends declared OF H igher security yields Revenue from security holdings increased $22 million in 1966, but the gain did not apply to all categories of securities. A reduc tion of over $600 million in D istrict-bank portfolios of U.S. Treasury securities more than offset the effect of a 16-basis point in- March 1967 M O N T H L Y REVIEW Revenue gains exceed increases in bank expenses . . . profits reduced by losses on loans and securities crease in the average rate of return on Treas ury issues, and income from this source therefore decreased by $17 million. On the other hand, bank holdings of other securities, mainly tax-exem pt municipals, rose by $500 million, while their average rate of return on municipals increased 17 basis points. The combination of larger volume and higher yields produced a $39-million increase in in come from other securities, and this more than offset the lower revenue received from Treasury issues. As in other recent years, income from sources other than loans and securities con tinued to rise in 1966. Revenue from service charges on deposits increased 7 percent, a lower rate of gain than in 1965 because of a somewhat smaller growth in dem and de posits. The largest revenue gains were from “other charges and fees” and from “other” current revenue, which rose 21 and 24 per cent respectively. These increases developed mainly from the wide range of com puter services now being offered by D istrict banks and an increase in business fees from ex panded credit-card programs. Trust departm ent income reached $80 million in 1966 as revenue rose 9 percent, almost double the 1965 rate of increase. G reater emphasis on trust activities by Dis trict banks, particularly some of the medium sized banks, substantially enhanced trust business as a source of District bank revenue in this as in other recent years. Slower tim e-deposit growth Total bank expenses reached a record $2,219 million in 1966, a 14-percent in crease over 1965. This rate of gain was slightly below the 1965 increase, primarily because the m ajor expense item— interest on time deposits— rose “only” 18 percent com pared with a record rise of 25 percent in the preceding year. This dampening of the in terest-cost spiral reflected a slowdown in the rate of growth of time-and-savings deposits FEDERAL RESERVE BANK OF SAN F R A N C IS C O SELECTED O PERA TIN G RATIOS OF TWELFTH DISTRICT MEMBER BANKS (P erce nt Ratios) 1966p 1965 Increase or Decrease Earnings ratios: Return on loans Return on U, S. Governm ent securities Return on other securities C urrent earnings to cap ita l accounts N e t p ro fits a fte r taxes to cap ital accounts C ash dividends to c ap ita l accounts 6.73 3.91 3.43 16.48 8.08 4.85 6.41 3.75 3.26 16.05 9.01 5.06 + 0,32 + 0 .1 6 + 0 .1 7 + 0 .4 3 — 0.93 — 0.21 O ther ratios: Interest p aid on time deposits to time deposits Time deposits to total deposits 4.18 55.64 3.92 53.33 + 0.26 + 2.31 I)— P relim in ary. N o te : These ratios are com puted from a g gregate dollar am oun ts o f e arn in gs and expense item s o f T w elfth D istr ict m ember banks. Capital accounts, deposits, loans, and securities item s on w hich th ese ratios are based are averages o f Call R eport data as o f D ecem ber 31, 1964, Jun e 30, 1965, and D ecem ber 31, 1965; and as o f Decem ber 31, 1965, Jun e 30, 1966, and Decem ber 31, 1966. S o u rc e : Federal Reserve Bank o f San F rancisco. — from 13 percent in 1965 to under 8 p er cent in 1966. Partially offsetting this factor was a rise of 26 basis points in the average rate of interest paid on deposits. Several factors were responsible for the further upw ard m ovement in deposit rates. Spread widens between average rate charged on loans and average rate paid on time deposits P«rc«nt 70 Beginning in the second quarter of 1966 and continuing throughout the year, bank deposi tors shifted substantial am ounts from their passbook savings (which paid a maximum rate of 4 percent) to various types of con sumer savings certificates and other time certificates (which paid rates substantially above 4 p ercent). In addition, during much of the year, D istrict banks paid the ceiling rate of SVi percent on the large-denomination negotiable C D ’s that they issued to corporations and other large depositors. District m em ber banks paid $36 million in interest on b or rowed money in 1966 — up 59 percent over the 1965 figure. This increase took place despite a lower volume of discounting with the Federal Reserve Bank of San Francisco and despite an unchanged ( 4 ^ percent) dis count rate. M ost borrowing by D i s t r i c t b a n k s in 1 9 6 6 w as through the purchase of Federal funds (idle balances of banks on deposit with a Federal Reserve B ank). M oreover, rates on these funds were substantially above M O N T H L Y REVIEW March 1967 the level prevailing in 1965 — and re mained, generally, well above the discount rate. at District banks has risen from 19 percent to 23 percent. Loan and security losses Higher-paid employees Despite an almost complete cessation of new bank openings and a substantial reduc tion in new branch-office openings, wage and salary expenses (including fringe benefits) rose 8 percent in 1966— slightly more than the 1965 increase. The effects of bank auto mation continued to be apparent in the struc turing of bank employment. The num ber of employees expanded by 4.5 percent, in con trast to a 1965 gain of 2.8 percent. The rate of increase in employee wages continued to outstrip the increase in numbers, as the type of jobs created through autom ation dem and ed skills drawing higher rates of pay. However, 1966’s most dram atic change was a sharp 10-percent increase in the num ber of bank officers. This increase in num bers was a m ajor factor behind a 13-percent increase in officer salaries. In just five years the proportion of officers to total employees In 1966, D istrict member banks had net income of $425 million before taxes— $33 million less than in the previous year— as larger loan and security losses more than off set the increase in net operating earnings. N et loan losses (including those charged to bad debts and other loan reserves) rose to $71 million in line with a rising trend in the loanloss ratio. Yet, despite relatively higher loan losses, banks transferred about the same am ount to their bad-debt reserves as in 1965 — a year in which many banks substantially increased such reserves under the new (and for them more advantageous) Internal R ev enue form ula on com puting bad debt re serves. District banks also had net losses of $47 million on securities in 1966. Higher yields on securities reflected a drop in prices below original purchase-price levels; thus, as banks liquidated securities to obtain additional loan SELECTED RESOURCE A N D LIABILITY ITEMS OF ALL MEMBER BANKS TWELFTH DISTRICT, DECEMBER 31, 1966 (millions of dollars) As of Dec. 31, 1966p Net loans and investments1 Loans and discounts, net1 Com m ercial and industrial loans A gricu ltural loansReal estate loans Loans to individuals U. S. Governm ent obligations O ther securities3 Total assets Total deposits Demand deposits Total time and savings deposits Savings O ther Time. IP C C a p ita l accounts 42,249 30,931 11,280 1,272 9,536 6,074 5,545 5,773 52,392 46,111 20,298 25,813 15,770 6,365 3,664 C hange from D ecember 31, 1965 Dollars Percent + + + + + + + + + 1,708 1,831 1.220 687 244 303 632 509 3.299 2,333 + 1,862 -1 . 4 1 8 + 3.119 + 115 + 4.2 + 6.3 + 12.1 + 5.7 + 2.6 + 5.3 -1 0 .2 + 9.7 + 6-7 + 5.3 — + 7.8 8.3 + 96.1 + 3.2 li— P relim inary. 'T o ta l loans, in clu d in g Federal F und s sold, m inus valuation reserves. Selected lo:vn item s w hich follow are reported gross. ■ 1966 data excludes loans directly guaranteed by CCC. ■ 1 1966 data includes E xport-Im port Bank participations and CCC loans previously reported under loan categories. N o te: D etails m ay not add to totals due to rounding. S o u rc e : Federal R eserve Bank of San F rancisco. FEDERAL RESERVE BANK funds or to effect a restructuring of their se curities portfolios, they were faced with sub stantial capital losses. In 1965, by way of contrast, banks realized net profits of about $5 million from their security sales. Total taxes paid by D istrict m em ber banks declined 9 percent in 1966. Lower Federal taxes more than offset an increase in state taxes, but the reduction in taxes was not great enough to bring after-tax profits to the year-ago level. Thus, D istrict banks ended 1966 with net profits of $291 million— $20 million less than in 1965. Banks meanwhile declared cash dividends of $175 million— almost the exact am ount declared in 1965. Since capital accounts increased during the year, the ratio of cash dividends to capital accounts was reduced. Similar earnings pattern The thirteen largest District member banks (those with deposits of $500 million and over) had a somewhat similar earnings pattern as other District member banks in 1966. Nonetheless, the “other” bank group had a greater percentage increase in net cur OF SAN F R A N C IS C O rent earnings, as well as in net income before and after taxes, than did the largest-bank group. On the revenue side, the “other” group’s interest income from both U .S. G ov ernm ent securities and other securities ex ceeded that of the preceding year. Although the percentage gain in direct loan revenue was approximately the same for both groups, the “other” group had a greater gain in charges and fees from loans, and it also en joyed a relatively larger increase in trust revenues. Interest costs on time deposits rose more for the “other” bank group, partly because these banks had a steadier deposit growth than the largest banks, many of which ex perienced large fluctuations in C D ’s during the year. First-tim e issuance of consumertype savings and time certificates also boost ed interest costs for many smaller banks. The “ other” bank group had relatively greater in creases in employee salaries and in fringe benefits than the largest banks. Non-operating expenses rose sharply for both bank groups. However, “other” banks had a higher rate of increase in loan losses District banks exhibit smaller gains in revenues than other banks, but also show smaller increase in interest costs on time deposits Parcant Change 40 40 O T H ER R E V E N U E S 72 1955 1965 1955 I960 1965 M O N T H L Y REVIEW March 1967 PERCENT C H A N G E S IN SELECTED EA R N IN G S AND EXPENSE ITEMS OF TWELFTH DISTRICT MEMBER BANKS All 196 5 -6 6 Earnings on loans Int. and dividends on securities U. S. Governm ent Other Service charges on deposit accounts Trust Department earnings Other earnings Total earnings S ala rie s and w age s Interest on time deposits Other expenses Total expenses Net current earnings N e t profits before income taxes Taxes on net income N e t profit after taxes C ash dividends declared 13 Largest1 1 9 6 4 -1 9 6 5 + 14.3 + 5.6 - 7.2 + 24.6 + 11.2 + 8.2 - 1.8 + 27.7 + 6.9 + 8.6 + 2 2 .9 + 12.5 + 7.8 + 17.9 + 14.3 + 14.0 + 7.5 - 7.2 - 9.3 - 6.2 + 9.3 + 4.0 + 21.3 + 10.7 + 6.8 + 24.9 + 8.6 + 14.9 - 1.8 + 4.3 -1 2 .9 + 15.2 + + 0.5 7.7 1965-6 6 + + — + + + + + + + + + + - 14.3 4.0 10.3 23.8 5.9 7.5 26.3 12.3 7.8 17.6 14.0 13.9 6.9 7.8 9.3 7.2 0.2 Other 19 6 4 -1 9 6 5 + + + + + + + 10.9 8.6 2.3 28.7 9.5 2.6 15.6 10.3 + 6.4 + 25.1 + 7.9 + 14.8 — 2.6 + 5.4 -1 2 .3 + 16.4 + 6.8 19 6 5-6 6 + 14.3 + 12.1 + 3.9 + 28.8 + 11.0 + 15.5 + 10.9 + 13.6 + 8.0 + 19.4 + 15.6 + 14.6 + 10.0 - 4.5 — 9.5 - 1.8 + 3.9 1964-6 5 + 12.9 + 4-7 + 0.2 + 2 3 .0 + 8.7 + 14.1 + 46.6 + 12.6 + 8.6 + 23.9 + 11.0 + 15.3 + 2.0 0 -1 5 .4 + 9.8 + 12.5 'In clu d es all D istrict member banks w ith total deposits o f $500 m illion and over as o f Decem ber 31, 1966. Source: Federal R eserve Bank of San F rancisco. than the thirteen largest banks, as well as a lower rate of loss from securities sales. 1967? As mentioned earlier, reductions in loan rates and security yields took place in the opening months of 1967. Even so, banks now have a large portion of their loan and security portfolios yielding rates of return well above the levels existing in the first quarter of a year ago. Some lessening in loan dem and has re cently occurred, particularly from the busi ness sector, which accounted for the largest p art of 1966’s credit expansion. A t the same time, there are indications that mortgage lending may recover somewhat from the de pressed levels prevailing last year. M oreover, through expanded use of credit cards, District banks may enlarge their share of the retail consum er-loan m arket in 1967, and this could serve to offset some of the effects of a lower projected volume of automobile finan cing. And, under the present somewhat easier monetary policy, including the recent reduc tion in reserve requirements on savings and certain other time deposits, and the current accelerated inflow of time deposits, District banks should be in a better position to ex pand their loan portfolios during coming months— which in turn should mean higher operating revenues. On the other hand, District banks may experience m ounting interest costs on their time deposits if the net inflow of time-andsavings deposits continues at the somewhat faster recent pace— and if rates on consumer type certificates are not cut. Besides, the in exorable rise in wage and salary expense can be expected to continue. In addition, the ex pansion of credit-card program s could have a m arked effect on banks’ expenses this year. A large num ber of both large and mediumsize District banks initiated credit-card pro grams in late 1966, or plan to start issuing credit cards this year. As the early stages of such program s normally entail heavy start-up costs, these program s may result in significant increases in bank operating expenses in 1967. — Ruth Wilson FEDERAL RESERVE BANK OF SAN F R A N C IS C O Farm Lending:’66 changes have occurred in large size of W estern farming operations; W estern agriculture over the past dec D istrict farms are twice as large as the n a ade, according to the Federal Reserve sur tional average in terms of acreage and even veys of com m ercial-bank farm lending con larger in terms of the value of land and buildings. ducted in 1956 and 1966. Between these dates, farms have declined in num ber but Survey data show that commercial banks have increased in size, in terms of both acre have provided financing for the great m ajor age and investment in land and buildings. ity of the agricultural community. In the Meanwhile, production expenses have risen District, the 100,000 farm borrowers in 1966 by two-thirds in the short space of a decade, represented two-thirds of all potential farm to outpace gross farm income through most borrowers in the region. Farm corporations of this period. accounted for a significant share of total funds borrow ed— 15 percent of the dollar W estern farm ers have met much of their am ount outstanding in 1966 as against only increased financing requirements from their 5 percent of the total in 1956. own resources. However, farmers have also T rem endous had to rely on non-farm sources to finance their production activities and their invest m ent in capital items. As this article indi cates, Twelfth D istrict commercial banks have been an im portant source of such sup plem entary finance. W esterners owe more On the 1966 survey date, almost 100,000 W estern farm ers were in debt to District banks to the tune of over $1.8 billion. These borrowers represented only 5 percent of all borrowers in the national survey, but their borrowings am ounted to 16 percent of the national total of $11.7 billion. 74 This difference reflects a wide discrepancy in average bank debt between W estern farm ers and their counterparts elsewhere. Farm borrowers at D istrict banks averaged $18,500 in indebtedness, while borrowers at banks elsewhere averaged only $5,900. (T he latter figure is about the same as the average debt owed by D istrict farmers a decade ago.) The discrepancy reflects in turn the relatively Borrowing -for current expenses The W estern farm comm unity sharply in creased its borrowing in every category over the decade, from a total of $0.7 billion in 1956 to $1.8 billion in 1966. The sharpest gains occurred in borrowing for current ex penses; borrowing for such purposes ac counted for 63 percent of total debt in 1966, or half again as large as the share achieved in F a r m -lo a n v o lu m e rises faster than farm expenses over decade Porctnf Chong* (1956-66) -2 5 0 25 50 75 Form Loon* (Dollars) Farm Loans (Number) Form Not Income Other U.S. Form Expense* Numbtr of Forms West 100 125 150 M O N T H L Y REVIEW March 1967 W estern farm ers utilize bank credit mostly for current expenses . . . most credit goes to meat-animal and specialty-crop producers P trcant 1956 100 1966 PU RPO SE 1956 1966 T Y P E OF F A R M 1-------- O th e r ----------------- - I 1 Grain -------- Meat Anim al West Other U.S. West Other U.S. 1956. In the rest of the nation, however, borrowing for such purposes (despite a strong increase) accounted for just about 40 percent of total outstanding debt in both years. The upsurge in borrowing at District banks was evident in both current-expense categories. Borrowing for current operating and living expenses thus accounted for 46 percent of total outstanding debt in 1966, and borrowing for feeder-livestock purchases accounted for 17 percent m ore of the total. Borrowing for the latter purpose was stimu lated over the decade by a tripling of the num ber of cattle in feedlots and a 50-percent increase in the average cost of feeder cattle. W estern farmers increased their borrowing for interm ediate-term investment at a some w hat slower pace over the decade. Thus, in 1966, borrowing for livestock purchases (other than feeder cattle) accounted for 7 percent of outstanding bank debt, while bor rowing for machinery purchases accounted for 8 percent more. (F arm ers elsewhere, de spite their smaller spreads, used 16 percent of their bank loans for m achinery purchas es.) The m odest expansion in the financing of machinery and equipm ent purchases was West Other U.S. West Other U S roughly in line with the increase in W estern farm s’ machinery inventories since 1956. W estern banks meanwhile rem ained far less active than other banks in financing farm real-estate purchases. Less than 8 percent of farm debt at D istrict banks was allocated to this purpose in 1966, as against 17 percent of outstanding debt at banks elsewhere in the nation. Interest rates on farm loans on last year’s survey date were roughly the same in the West as elsewhere. The average rate on cur rent-expense loans— 6.6 percent— was iden tical at D istrict banks and at banks else where. Average rates at D istrict banks on m edium -term investment loans (7 .4 percent) and on real-estate loans (6 .4 percent) were slightly higher than in the rest of the nation. Actually, W estern farmers paid a higher average rate in each loan-size category, but this was offset by the lower rates associated with their much greater average size of loan. M eat, specialty farms predominate General all-purpose farms accounted for only 18 percent of District commercial-bank farm credit outstanding in m id-1966—far FEDERAL RESERVE BANK below their 1956 share, and even farther below the 31-percent share of total debt now owed by general farm s in the rest of the nation. M eat-anim al producers accounted for 29 percent of District farm credit last year, or about the same proportion as elsewhere; meanwhile, fruit-nut and other specialty crop producers accounted for another 29 percent of the D istrict total, or about four times the proportion elsewhere in the nation. (A bout one-half of the national total of outstanding debt in this category is owed by W estern grow ers.) O perators of general farms took out far fewer loans at D istrict banks in 1966 than a decade earlier. However, the num ber of bank custom ers increased among m eat-anim al p ro ducers, as did their average borrowing, be cause of the sharp rise in the num ber and cost of feedlot cattle. Overall, the am ount of bank indebtedness per borrow er rose sub stantially over the decade, with poultry and cotton producers recording the sharpest in creases. The expansion in the size of farm opera tions and in financing requirem ents was seen OF SAN F R A N C IS C O most clearly in the poultry field. O ver the decade, the volume of bank credit extended to poultry producers increased by two-thirds, at a time when the num ber of borrow ers in this field was declining by two-thirds. Large-scale borrowing M ost debt to D istrict banks last year was owed by large farm borrow ers— 77 percent of the am ount outstanding was owed by those borrowing $25,000 or m ore, as against 41 percent of the total in 1956. In contrast, only 29 percent of the am ount outstanding at banks elsewhere last year was accounted for by this category, and the share was only 9 percent in 1956. This difference again reflects the larger scale of W estern farm ing operations. Fully 75 percent of D istrict farm debt last year was owed by farm ers with a net w orth of $100,000 or m ore (up from 50 percent in 1 956), whereas only 35 percent of outstand ing debt elsewhere (up from 15 percent in 1956) was accounted for by such large-scale operators. W estern farm ers pay higher rates in each size class, although rates vary by purpose of loan Interest R a t i (Percent) BY P U R P O S E 1966. West BY S IZ E OF LOAN Other U.S. 1956-v Current Expense Intermediate Investment 76 Reol Estate Under 1,000 1,0005 ,0 0 0 4,999 9,999 Bailors 10,000and Over A lthough the aver age debt per borrow er was greater in the Dis trict than e ls e w h e re , the ratio of debt to net w orth was essentially th e s a m e nationwide. M o re o v e r, delinquen cy rates on bank loans to D i s t r i c t f a r m e r s were not out of line with the national aver age. W idespread u s e o f credit lines, a com mon financing technique for large b u s in e s s units, a g a in r e f l e c t e d th e M O N T H L Y REVIEW March 1967 Large scale of W estern farm operations shown by size of bank loans and by size of farm borrowers . . . most loans carry 6-7 percent rate - BY E F F E C T IV E IN T E R E S T R A T E / I Under l- Z 1,000 2 -5 5-10 10-25 D ollars 25,000 and Over Under 10-25 10,000 large scale of W estern farming operations. A bout 30 percent of farm borrowers at Dis trict banks received funds under lines of credit, whereas only 10 percent of borrowers elsewhere received funds this way. A nd al most two-thirds of the dollar volume of Dis trict bank credit was held by borrowers with established credit lines. The disbursement and repayment of funds under lines of credit are generally budgeted to coincide with the individual farm er’s need for credit and the flow of income from the sale of his products, and financing of this type is thus ideally suited to large-scale operations. 2 5 -1 0 0 D a lia n 100,000 and Over Under 6% V I 6 -7 I I 7 -8 Percent 8-9 9% and Over The 1966 farm lending survey, in sum, shows that D istrict banks have sharply ex panded their lending activity in line with the expanded requirements of W estern farmers. This increased financing has taken place at a level of interest rates which has kept pace with the advance in interest rates nationally — and, far m ore than elsewhere, credit has been extended to meet current expenses rather than to finance longer-term invest ment. Finally, the distribution of debt by type and by size of borrow er reflects striking ly the vast size and diversity of W estern farming operations. — Donald Snodgrass 77 FEDERAL RESERVE BANK OF SAN F R A N C IS C O Defense Spending:’68 Pentagon plans to spend $72.3 bil Structural shifts lion in fiscal 1968— m ore than it spent The structure as well as the size of the in any earlier period except at the peak of defense budget has sharp implications for W orld W ar II. Total expenditures, excluding the regional economy, since the W est n or m ilit a r y a s s is ta n c e to foreign countries, mally is more dependent on defense con should be two-thirds higher than at the tracts for sophisticated weaponry and reK orean W ar peak and double the level search-and-developm ent (an d for civilian reached at the post-K orea low. Nonetheless, space systems) than it is on contracts for the 1968 spending figure, high as it is, repre conventional-war h a r d w a r e and military sents a leveling of the rapid upsurge which housekeeping. In conventional wars — such has taken place since the Vietnam war esca as Korea and Vietnam — increases in spend lated in the sum m er of 1965. ing are concentrated in the latter categories, Defense spending “clearly attributable” to which include such functions as military per Vietnam, which was $5.8 billion when the sonnel pay, military operations and m ainte buildup got underway in fiscal 1966, is nance, and procurem ent of ordnance and scheduled at $19.4 billion in fiscal 1967 and vehicles. Although the W est receives a great $21.9 billion in fiscal 1968. But these figures deal of income from such activities, it nor represent only the direct costs of the war, mally obtains much more from the other such as pay and equipm ent for the 455,000 budget categories, which are now expanding troops now in Southeast Asia; they do not at a far slower pace than the rest of the defense budget. include such items as the use of previously stockpiled am m unition or increases in gen Structural shifts are evident in both the eral administrative costs. agency breakdown and the functional classi T he Structural shifts evident In both agency and functional breakdowns of budget, as A rm y spending and conventional-war functions increase B illio n s of D o lla rs 75 i— Secretory PROCUREM ENT 78 1955 I9 6 0 March 1967 M O N T H L Y REVIEW fication of the D O D budget for 1968. The A ir Force is again scheduled to receive the largest amount, $24.1 billion, but this is only about one-fifth above the 1961 figure. The Navy, with $20.4 billion, is due to get half again as much as at the beginning of the dec ade, while the Army, with $23.4 billion, should more than double its 1961 spending rate. The Office of the Secretary, with $4.3 billion, should quadruple its earlier spending level. Conventional-war budget Structural shifts are visible over even a shorter time-span in the functional break down of the budget. Spending for active mili tary p e r s o n n e l and for operations and m aintenance have increased in tandem since the expansion of the V ietnam conflict; each category is budgeted at about $19.0 billion in fiscal 1968 as against roughly $12.5 billion each in fiscal 1965. Spending for convention al hardware, which is concentrated in the industrial states of the E ast and Midwest, has grown even more rapidly. Procurem ent of ordnance and vehicles, at $5.2 billion in 1968, should be considerably above the $1.1 billion of 1965 and slightly above the Korean peak, while procurem ent of other conven tional items, at $3.7 billion in 1968, should be somewhat higher than both the $2.3 bil lion of 1965 and the K orean peak figure. Spending projections for defense-related items which dom inate the W estern economy fail to show such clear-cut growth trends. On the one hand, aircraft procurem ent Defense employment rises in W e st as elsewhere, but W estern-oriented budget items may not all increase D ollars D< Ratio Scale O peration-M aintenance Thousands of Workers 1200 P 4.0 - A Other Conventional Procurement ..........V ...... / (iimmitiiu,/ Other U.S. ......... O rdnance-V ehicles Ratio Scale wesi M it t ilt lE lectronies FEDERAL RESERVE BANK spending has risen just as rapidly as conventional-hardw are procurem ent — but defense spending for missiles-electronics procure ment and for research-developm ent-test-evaluation (R D T & E ) is expanding very slowly. Procurem ent of military aircraft is bud geted at $9.0 billion in fiscal 1968— close to the K orean W ar peak and far above the $5.2 billion of 1965. The Pentagon schedules only $3.4 billion for procurem ent of missiles and electronic gear in fiscal 1968, far below 1963’s peak figure of $5.2 billion, and m ean while budgets just $7.2 billion for RDT&E, only slightly above the 1964 peak. (W estern aerospace firms are also forced to contend with a sharp cutback in civilian space spend ing— but meanwhile they are deluged by an inflow of new orders for commercial jet air craft. ) C on tracts go elsewhere Since the growth of the W estern economy is closely tied to the fortunes of the aerospace-R&D industry, the mixed trends in the defense budget raise some questions about future growth prospects. These questions are intensified by the recent shift in defensecontract allocation in favor of other parts of the country, especially since the shift has taken place in those categories which have hitherto been considered the unique preserve of W estern firms. Between 1963 and 1966, the Twelfth Dis OF SAN F R A N C IS C O trict share of m ilitary-aircraft procurem ent contracts dropped from 20 to 14 percent, and the District share of missiles procure ment declined from 61 to 52 percent. A nd although total spending for military aircraft is due to rise sharply in 1968, the lion’s share of the work will probably be done by plants in Texas and Missouri. W estern firms m ust also contend with the fact that military R&D spending is increasing only slowly, and that much of the new busi ness is going elsewhere. Between 1963 and 1966, R&D expenditures actually declined, and the W estern share of that smaller total meanwhile dropped from 52 to 36 percent. O ther regions of the country are increas ingly aware that the firms which conduct or manage the research and development for new weapons systems— and which assemble the engineering talent and experience for this purpose— are in a strong position to compete for follow-on production contracts and for new R&D contracts as well. O ther regions, increasingly, recognize that a crucial factor in economic growth is a fa vorable R&D climate— exemplified by the availability of highly specialized scientific, engineering, and technical m anpower, along with specialized facilities, labor skills, and production experience. The West, with its unique strength in R&D, still leads in this field, but defense contract data show that other regions are rapidly narrow ing the gap. — William Burke Publication Staff: R. Mansfield, Chartist; Phoebe Fisher, Editorial Assistant. Single and group subscriptions to the Monthly Review are available on request from the Admin istrative Service Department, Federal Reserve Bank of San Francisco, 400 Sansome Street, San Francisco, California 94120 80
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