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FEDERAL RESERVE BANK OF SAN FR AN C IS C O MONTHLY REVIEW I N T HI S I S S U E Of Tanks and Taxes Borrowing Still A New Upsurge? Lending: Some Tightness NOVEMBER 1965 Of Tanks and Taxes . . . The economy weathers a steel-inventory cutback while w ondering about the effects of last year's tax cut and this year's Vietnam . Borrowing Still . . . M onetary policy rem ains firm, and interest rates edge upw ard, as borrowers expand their credit dem ands. A New Upsurge? . . . More jobs develop in the W est's aerospace industry, but jobless ness continues to cloud the regional outlook. Lending: Some Tightness . . . W estern fin ancial activity continues strong, and liquidity tightens, despite a slowdown in the rate of growth o f loan portfolios. Editor: W illiam Burke November 1965 MONTHLY REVIEW Of Tanks and Taxes in the mid-summer and early-fall statistics. Thus, gross national product rose to $677 billion (seasonally adjusted annual rate) in the third quarter, on the heels of another of the $ 10-billion-plus quarterly gains that have become so characteristic of this expansion. Third-quarter data showed the usual up surge in consumers’ spending for food, for services, and (through their state and local governments) for education, health, and other public facilities. But, in addition, Viet nam pushed defense spending up to about a $51-billion annual rate— the highest level reached in over a year. Business fixed-investment spending, at a $68-billion rate, and consumer durable-goods spending, at a $65billion rate, were both about one-third higher than they were two short years ago. Both sectors reflected the continuing effects of last year’s tax cut. In Steel decline pulls down industrial production, fact, if that stimulus but auto industry continues to boom h a d b een la c k in g (a c c o rd in g to th e 1957-59 = 100 Council of Econom ic Advisers) GNP during the summer months would have been closer to $650 billion than to the $677 billion actu ally achieved. a year after the tax cut redrew the configurations of the prolonged busi ness expansion, the war in Vietnam added some new and different features to the pic ture. Now, as the year approaches its end, the effects of more tanks and fewer taxes can begin to be evaluated. Vice-President H um phrey, while discussing the outlook with the Business Council, argued that the amount of spending required for Vietnam could be pro vided “without inflationary strain or the cur tailment of essential domestic program s” . Other observers might disagree; nonetheless, the fact remains that the national economy, after acquiring a strong second wind through the medium of the tax cut, must now be pre pared to handle a new burst of speed. Evidences of both the defense-spending stimulus and the tax-cut stimulus were visible n m id - 1 9 6 5 , I Steel: too much? Source: Board of Governors of the Federal Reserve System But recent statis tics also reflected the impact of the problem created by the long-drawn-out steel-contract nego tiations. The Fed eral Reserve industrial-production in dex slid off one per cent from the July- F E DE RAL R E S E R V E B A N K OF S A N F R A N C I S C O August peak to reach 143 percent of the 1957-59 average in September. The decline reflected mostly a cutback in steel output, but it also encompassed strike-inflicted curtail ments in aircraft, autos, newspapers, and coal. After the signing of a new steel contract in early September, steel users slashed their purchases, cancelled some orders, and asked mills to postpone deliveries of sizable ton nages scheduled for October and November delivery. Thus, the scene was reminiscent of 1962 and 1963, when contract agreements were followed by four-m onth-long adjust ments involving production cutbacks of onefourth or more. By mid-October, steel pro duction was roughly one-fifth below the peak reached last April, and further declines were expected throughout the industry. Inventories were quite substantial' at the time when the contract was finally inked this year. A t the end of August, steel consumers had a 60-day supply on hand, as against a 40day supply when the strike-hedge buildup began last fall. On the other hand, steel con sumption rem ained buoyant throughout the summer and early fall months. After all, busi ness plant-equipm ent spending was still on the rise, a high rate of auto production was scheduled by Detroit, and increased steel usage in defense products appeared certain. New funds will be needed, not only for weapons procurement, but also for about 340,000 more troops (and perhaps 40,000 more civilian w orkers), as well as for com bat pay and a military pay increase. Inci dentally, the 340,000-m an buildup scheduled over the next year (to a 3-million total) would roughly equal the buildup that occurred dur ing the Berlin crisis of 1961-62. Yet much more than Vietnam is involved in the generally expansionary im pact which the Administration believes the Federal budget will exert during the present fiscal year. Several recent changes— excise-tax cuts, social-security benefit increases, and the final effects of the 1964 tax cut— should provide a gross stimulus of $6-6Vi billion within the year, but this stimulus should be partly re duced by the $2Vi -billion increase in socialsecurity payroll taxes scheduled to take effect in January. The net stimulus from these sources (roughly $3 Vi-4 billion) would offset roughly half of the normal increase in reve nues expected from the growth of the national economy, while the anticipated expansion of defense and other Federal spending should more than offset the rest of our normal reve nue growth. The overall effect for the entire fiscal year would be expansionary, although it should be remembered that much of the net stimulus has already occurred. Budget: how expansionary? 192 A t this stage, too, the Federal budget has begun to feel the im pact of increased spend ing for tanks, helicopters, and the men to use them. Although exact spending figures will not be available until the fiscal-1967 budget is published in January, most observers seem to be thinking in terms of a $5-billion increase in defense spending by m id-1966. (A ccord ing to Chairm an Ackley of the Council of Economic Advisers, the sometimes quotedfigures of a $10-14 billion increase “can at this point only be pure figments of someone’s imagination” .) Business: still building Meanwhile, the massive tax reduction of a year ago, along with earlier tax revisions, has continued to provide some steam for that major expansionary force— the capital-goods boom. F or several years now, continued large increases in business savings (stim ulated by tax changes) have been accompanied by con tinued large increases in fixed investment. In deed, the rise in business savings in the first half of 1965 was the largest semiannual gain of the past decade, and the concomitant in crease in fixed-investment spending was larger November 1965 MONTHLY REVIEW Business and consumer spending jump in response to tax-cut income boost S t m i - a n n u a f C h a n g * ( B i l l i o n s of D o l l a r s ) year, and to 10 percent today, business spend ing plans still remain quite buoyant. According to the latest Commerce-S.E.C. survey, plant-equipment spending in 1965 should end up 13 Vi percent above the already high 1964 level. And 1966 may begin on an even stronger note, in view of the factors that were not reflected in this latest survey— espe cially the impact on capital-goods demand of the increased procurem ent of military supplies and equipment. Then again, the current size of investment backlogs also suggests that the boom will continue into 1966. At midyear, for manufacturing firms alone, the ratio of the carryover of projects underway to the current level of investment expenditures was the equivalent of 2.8 quarters, up from 1.9 quar ters at the end of 1962. In dollar terms, the rise in backlogs was from $7.2 billion to $15.8 billion. Consumers: still buying than in any other period except the post-re cession periods of early 1955 and early 1959. Over the years, total spending for plant and equipment has outpaced by a wide margin the dollar amounts set aside in the form of after-tax profits and depreciation allowances. But these business savings have risen so rapidly that by early 1965 they almost matched the plant-equipment spending total. Some observers envision a tapering off of the capital-spending boom, which has en compassed a 60-percent gain in spending over the past four years, because of the fear that new plants are now coming on stream faster than the demand for their products is likely to grow. But, although investment spending increased its share of GNP from 9.3 percent in the 1958-1963 period, to 9.6 percent last Last year’s massive tax reduction has mean while continued to provide the underpinning for another major source of recent strength — the consumer durable-goods boom. Con tinued large increases in disposable income, attributable in large part to the 1964 tax re duction, have been accompanied by con tinued large increases in consumer durable spending. The increase in durable goods spending for the first half of this year was a whopping $4.6 billion— a far larger gain than in any other recent period except the post recession periods of 1955 and 1959. Auto spending, of course, has been a major element in the 1965 boom, especially with the aid of a summer car buying upsurge which paralleled the spending boom of last winter. A nd now, at model-introduction time, as De troit’s showrooms become crowded with en tertainers doing the Watusi and salesmen doing the hard sell, the industry’s sales m an agers are forecasting another 9-million-unit sales year. 193 FE D E RA L R E S E R V E B A N K OF S A N F R A N C I S C O Industry leaders realize that the 1965 model-year sales figure, which was about 10 percent above the preceding year’s record, was achieved with the help of several factors which may now be missing— major style and engineering changes, excise-tax reductions, and the initial psychological boost of the Vietnam crisis. In addition, their creditmen will suggest to them that little stimulus can be expected from the further rapid expansion of consumer credit, since new credit extensions exceeded 16 percent of disposable income in m id-1965, as opposed to a 15-percent ratio a year ago. Yet, in the face of all these questionmarks, D etroit is counting on a high level of sales because of high consumer income, high scrappage rates, and a high num ber of potential customers. Consequently, the indus try scheduled production of 2.6 million cars for the fourth quarter, matching the produc tion rate achieved at the second-quarter peak. Consumers: not saving? One striking effect of the consumer buy ing upsurge-—an upsurge in other goods and services as well as in autos, color TV , and the like— is a decline in the personal-saving ratio. Declining trend in personal saving shown by revised G N P statistics Personal S av in g R o n (P«rc«n t) New S e r i « s 8 OLD S E R I E S !/ 1955 1957 1959 1961 1963 F irst H a lf 1965 194 Source: U .S. D ep artm en t of Commerce In fact, after a recent revision of the under lying GNP statistics, the data show both a declining trend in the saving rate and a lower dollar level of personal saving than was in dicated in earlier estimates. The lower-than-expected level of personal saving rellects the fact that greater upward revisions have been made in estimates of consumer outlays than in estimates of con sumer income. (Some of the changes are merely definitional, but most result from a statistical overhaul made possible by improve ments in the basic data sources.) The declin ing trend is also noteworthy. The personalsaving rate averaged 7 percent in the 195658 period, but since then it has averaged only percent. It could be argued that the saving rate will soon begin to increase, with opposite effects on spending. For example, the saving rate would rise if repayments of auto credit should approach the level of extensions, instead of lagging as markedly as they have done in the recent past. Again, the saving rate would rise if the advancement of new mortgage money against equity in existing homes should level off. Any decline of this type in the rate of growth of instalment credit or mortgage credit could reduce some of the stimulus to spend ing which has been exerted so strongly through the increasingly low rate of con sumer saving. But the recent consumer-spending upsurge has been based not only upon a reduction in consumer saving habits but also upon an in crease in income due to growing employment opportunities. This year has seen the largest gains in employment since the b e ginning of the 1961-1965 business expansion. Especially sharp gains have been recorded in the m anu facturing sector as a result of the continued business-investment boom, the continued consumer-goods boom, and the now-completed steel-inventory upsurge. As one welcome November 1965 MONTHLY REVIEW consequence of this rise in employment, the unemployment rate in October dropped to 4.3 percent, an eight-year low. As of now, the combination of more tanks and fewer taxes has already affected the pace of the business expansion. Moreover, these factors— and the investor and consumer re actions to them— will continue to have an im portant impact on business activity in com ing months. — William Burke Borrowing Still substantial demands upon the nation’s credit markets accompanied the continued expansion in the output of goods and services during the third quarter. The business sector again generated the bulk of these credit demands; business firms ex panded their borrowings substantially, even though at a slower pace than in the preced ing quarter. Consumers added to their debt at about the same rate as they did earlier in the year, with more than two-fifths of the in crease again reflecting their seemingly insati able appetite for new automobiles. State and local governments— the fastest growing sector of the economy— continued to increase their new debt offerings. On the other hand, the Federal Government covered its cash deficit largely by drawing upon its operating bal ances; in fact, virtually all of the small net increase in Federal debt centered in special issues held by Government agencies and trust funds, as the marketable public debt remained virtually unchanged. 'u F r t h e r Monetary policy firm For its part, monetary policy maintained the somewhat firmer tone initiated during the spring months in response to a sustained and vigorous demand for bank credit— and also in response to the nation’s continuing need to remedy the imbalance in its external-pay ments position. M ember-bank borrowings rose by about $50 million during the third quarter to an average level of $550 million, but this rise was offset by a comparable in crease in excess reserves. Consequently, net borrowed reserves remained almost un changed at an average level of about $155 million. This stability was accompanied by a slower growth in total bank credit— about $4 billion (seasonally adjusted), or only about half of the average quarterly gain recorded earlier in the year. But this reduced rate of credit ex pansion was accompanied by a $2.5-billion rise in the money supply (seasonally adjusted) — a gain larger than that for the entire January-June period. This sharp increase partly reflected an appreciable decline in U. S. Gov ernment deposits from their exceptionally high mid-year level. Yields stiffen The money and capital markets showed definite signs of tightening, even though the reserve measures of monetary policy indicated just about the same degree of restraint as be fore. M ost yields throughout the maturity range firmed substantially during the third quarter, somewhat in contrast to their be havior during the preceding quarter. The market yield on 91-day Treasury bills, F E D E R A L R E S E R V E B A N K OF S A N F R A N C I S C O M onetary policy m aintains firm er tone as banks remain in net borrowed-reserve position M illio n s of D o lla r* 196 after ranging between 3.81-3.86 percent from the end of June through late August, later moved up strongly. In late September it topped 4.00 percent — a five-year high — after the Treasury announced the tender of $4 billion of tax-anticipation bills. This thirdquarter development, with dealers cutting prices to reduce inventories in the face of high financing costs, contrasted markedly with the second-quarter pattern, where a strong in vestment dem and for bills tended to put down ward pressure on yields. The trend toward higher yields was not confined to short-term securities. Psychologi cal and expectational considerations, stem ming in part from developments in the M e kong, the Kutch, Sikkim and Threadneedle Street, combined with market factors to push up yields throughout the maturity spectrum. The Vietnam situation, for one thing, bred considerable uncertainty with regard to future increases in defense expenditures and the possibility of larger Federal deficits. Then too, the possibility of a crisis in pound sterling was not alleviated until almost the middle of September. M ost im portant of all, a growing belief that economic activity would continue booming into 1966 re-enforced market e x p e c t a t i o n s of higher interest rates. Reflecting these v a r io u s f a c t o r s , most Treasury is sues of beyond oneyear maturity were yielding at least 4.25 percent by the end of September, and a number of maturitie s b e y o n d fiv e years were priced to return around 4.35 percent. Indeed, the average yield on long term bonds, which had remained stable at about 4.14 percent during the M arch-June period, reached 4.29 percent by the first of October. Corporates, municipals, mortgages In addition, m arket factors strongly af fected yields in the corporate and municipal bond markets, and indirectly, in the Govern ment bond market. The volume of new offer ings of both corporate and tax-exempt issues was exceptionally large for this normally quiet summer period. The $3.3-billion expan sion of new corporate issues, plus the con tinued vigor in business borrowing from banks, suggested that corporate liquidity might henceforth be squeezed as internally generated funds become less adequate to fi nance rising outlays for inventories and plant and equipment. Thus, yields on seasoned bonds rose by about seven basis points during the third quarter (to 4.53 percent late in Sep tem ber), and by an additional 4 basis points during the first week of October. The increase since mid-September also was accompanied by a widening in the yield spread relative to November 1965 MONTHLY REVIEW Treasury issues. Upward pressures were also evident in the state-local government market, where yields continued along the uptrend initiated early in the year, rising by 14 basis points between end-June and end-September to an average of 3.31 percent on top-rated issues. Rising yields reflected both the massive amounts of new municipal offerings coming to market and the large inventories left in the hands of deal ers, Both the $2.6 billion of new offerings in the third quarter and the $700 million of issues left unsold in mid-October were close to the record figures recorded this past spring. Mortgage markets also gave evidence of increasing firmness in August and Septem ber as secondary m arket yields on long-term FH A -insured mortgages edged upward to Y ie ld s m ove up throughout m aturity spectrum, as money and capital markets show definite signs of tightening P er c en t Per A n n u m 197 F E D E R A L R E S E R V E B A N K OF S A N F R A N C I S C O 5.46 percent. But the long-delayed firming of mortgage yields was perhaps due more to a m oderation in the flow of savings into mortgage institutions than to increased pres sure from the demand side. Banks liquidate Governm ents to expand loans and other securities B i l l i o m of O o l l a r * Banks and businesses 198 In their capacity as the departm ent stores of finance, commercial banks continued to play a key role in the nation’s credit markets during the third quarter. Total bank credit— total loans less interbank loans plus invest ments— rose by almost $4.0 billion (season ally adjusted). This increase, although less than those recorded in the two preceding quar ters, represented a substantial 5.5-percent annual rate of gain. A nd business loans again accounted for a significant portion of total credit demands, rising at a 14-percent annual rate during the quarter. Following June’s exceptionally strong per formance, business loans declined by almost $700 million in July, but then recovered strongly in A ugust and September. (D ata not seasonally adjusted.) Significantly, business borrowings over the mid-September tax date surpassed last year’s increase by a fair margin, even though corporations had to pay only 19.3 percent of their annual Federal-tax liabilities during the quarter, as against 28.3 percent in the year-ago period. This development, in conjunction with a sharp tax-date decline in corporate holdings of certificates of deposit, again suggests that businesses generally may be experiencing a squeeze on liquidity. The latest increase in business borrowings, moreover, was accompanied by somewhat greater firmness in non-price terms of borrow ing, and also by a somewhat higher average rate of interest. However, on short-term loans, the interest cost was still only slightly higher during the September survey period than in the year-ago period (5.00 percent, and 4.98 percent, respectively). And, while the proportion of loan volume made at the prime rate (56 percent) was less than in June, it too, was still higher than in September 1964. Rising credit, rising deposits Demands for bank credit by non-business borrowers also remained strong during the third quarter. The banks continued active in the mortgage field, as real-estate portfolios increased by $1.7 billion, the largest quarter ly gain in well over a year. Similarly, con sumer loans, on the heels of the auto boom, posted a near-record increase of $1.2 billion — and this gain accounted for over three-fifths of the combined increase in consumer debt at all types of lending institutions. The banks also remained active in the statelocal government field, expanding their port folios of “other securities” by a substantial $1.7 billion. However, the rate of expansion slackened appreciably late in the quarter, as banks found themselves in an increasingly less liquid position from which to accommo date the widespread and vigorous demands for credit accommodation. And, just as earlier in the year, the banks financed the expansion of loans and “other securities” with a further ($1.4 billion) liquidation of U. S. Govern- November 1965 MONTHLY REVIEW ment securities, along with a $2.I-billion net repayment of borrowings by security dealers. The other side of the ledger also witnessed some significant developments during the quarter. Private dem and deposits rose by about $3.6 billion (seasonally adjusted) — about double the average quarterly gain of the year to date— but this increase was rough ly matched by the net decline in U. S. Gov ernm ent deposits. Time and savings deposits rose by $5.7 billion; this gain far surpassed the second-quarter increase, and it almost matched the exceptionally strong first-quarter increase, which reflected the initial impact of the higher rates paid on such deposits. With their impressive recent performance, the com mercial banks continued to dominate this category by accounting for three-fifths of the total growth of depository-type savings. This growth was not without its price. M oney-market banks in particular, under the pressure of rising market rates of interest, acted during this period to retain funds by in creasing the rates offered on their certificates of deposit. Late in the quarter New York City banks posted a 4 Vi -percent rate— the maximum rate payable on time certificates with maturities of 90 days or more— while banks in widely scattered parts of the country began to offer instruments which would not be subject to interest-rate ceilings (for example, savings certificates and non-negotiable prom issory notes). Nor was this all. For the pres tige-conscious, a m ajor New York bank an nounced a soon-to-be opened branch, bearing a French name and “patterned after an exclu sive private club,” whose privileges and serv ices will be extended only to 800 “properly sponsored and approved m embers” who promise to maintain a minimum demanddeposit balance of $25,000. — Verle Johnston and Herbert Runyon Publication Staff: R. Mansfield, Chartist; Phyllis Taylor, Editorial Assistant. Single and group subscriptions to the M onthly Review are available on request from the Admin istrative Service Department, Federal Reserve Bank of San Francisco, 400 Sansome Street, San Francisco, California 94120. 199 FEDERAL RE S E RVE B A N K OF S A N F R A N C I S C O A New Upsurge? and employment rose three years ago. But California, the center of the nation’s aerospace industry, recorded a at a good clip during the third quarter, on the heels of the escalating situation in Viet6.0-percent jobless rate in the third quarter of this year, as against a 5.8-percent rate in nam and the continued expansion in the civil late 1962. Utah (5.5 percent) and Arizona ian economy. Nonfarm employment in creased about one percent (the same as in the (5.8 percent) have encountered rising un employment. rest of the country) and the gain would have been even greater but for strike-induced cut backs in the construction and shipbuilding in Jets take off dustries. Total civilian employment increased District states thus were well prepared to at a slightly slower pace, because of a smallerwelcome the significant turnaround in defensethan-usual increase in farm employment. related manufacturing that has occurred over W e s t e r n in c o m e Despite the W est’s employment upsurge, the past several months. Aerospace-m anufac unemployment rem ained a problem because turing employment reached 571,400 in Sep of the continuing growth of the region’s labor tem ber— 4 percent above the first-quarter low force and the continuing impact of earlier cut although still about 10 percent below the 1962 backs in defense-related manufacturing. The peak. Employment gains also strengthened in jobless rate was 5.7 percent during the summer quarter— Jobless problem rem ains intractable about the same as it despite W e st’s substantial employment gains M illio n s of Persons was when defense employment reach ed its peak almost three years ago. In contrast, the jobless rate in the rest of the nation declined from 5.6 to 4.2 per cent over that same three-year period. 200 T h e im p a c t of jo b le s s n e s s , of course, has varied from one District s ta te to a n o th e r. Oregon and Idaho have followed the national pattern of d eclin in g jo b le ss ness, and Washing ton is in roughly the sam e situ a tio n as November 1965 MONTHLY REVIEW both government and commercial shipyards. A n improvement in com m ercial-aircraft purchases was a major factor in the recent recovery, as two W estern producers received substantial new orders for jet aircraft. The re gional industry’s thickening orderbooks are reflected in the one-fifth increase in new or ders which the nation’s aircraft industry has logged in the last several months. And one manufacturer, which claims it has exhausted Southern California’s pool of experienced la bor, has recently tried to persuade 1,500 air craft workers to make the long trek from Long Island, New York to Long Beach, California. Western firms received two m ajor military contracts during the third quarter, but these are likely to have only a minor impact on em ployment in this region. The manned-orbitinglaboratory project involves a great deal of subcontract work which may be done outside the District, while the C-5A transport plane is scheduled to come off Georgian instead of Western production lines. A backward look at Defense Department fiscal-1965 contract data highlights the source of the industry’s earlier weakness. District firms received $5.3 billion in DOD primecontract awards during the year— off 10 per cent from the preceding year’s total and down even more from the fiscal-1963 peak. The Dis trict share of total awards thus dropped from 31 percent in 1963 to 27 percent in 1965. California firms recorded a slight increase in awards in fiscal 1965, but W ashington and Utah dropped substantially from their 1964 performance. More stores, fewer homes Western construction activity strengthened during the third quarter, despite the continued slowdown in residential building. Now, on the basis of a strong third-quarter performance, total construction awards for the year to date are finally ahead of their 1964 pace. Awards in both nonresidential building and W estern housing slump continues but activity stabilizes elsewhere Tho u san ds of U n its N ote: C h a rt shows residential building perm its, a t seasonally adjusted annual rates. Source: U.S. D epartm ent of Commerce; Federal Reserve Bank of San Francisco heavy construction ran 16-18 percent above their year-ago pace during the quarter. Com mercial establishments and office buildings contributed to the strength of nonresidential construction, and dam-building and electric power systems continued to dominate the ac tivity in heavy construction. Housing activity fell to a new low during the summer period, as new starts declined 17 percent below the second-quarter rate to 239,000 (seasonally adjusted annual rate). But permit activity remained at a higher level than starts, which suggests that some improvement in actual construction may occur in future months. An upturn in future activity is also suggested by a recent reduction in the size of the West’s housing surplus. F or example, the rental vacancy rate declined during the quar ter to 10.9 percent (seasonally adjusted), as compared with the 11.7-percent peak reached in late 1964. Similar improvement also oc curred in the for-sale market, where the inven tory of new homes for sale dropped by m id year to 60,000—-down 20 percent from the year-ago level. The recent sluggishness in housing activity meanwhile continued to exert a depressive im 201- FEDERAL RESERVE B A N K O F S A N F R A N C I S C O pact on lumber markets. Except for a brief flurry in July, lum ber orders remained as weak during the summer quarter as they had during the spring. In addition, a disappoint ing inflow of new orders from government and civilian customers led by mid-September to a decided weakening of the price structure, which had been supported for several months previously by a backlog of unfilled orders and by transportation difficulties created by a se rious shortage of railroad cars and cargo ships. Steel, aluminum, copper M etals m arkets, on the other hand, re mained in strong shape throughout recent months. Admittedly, W estern steel produc tion dropped sharply after the signing of the labor-contract agreement in early September, but output declined less here than it did else where in the country. By late-October the Western steel industry was operating about 9 percent below its year-ago level, while na tional output was 23 percent below the 1964 figure. The regional industry’s performance resulted from the strong underpinning to de mand provided by the pace of activity in nonresidential building and heavy construction. M oreover, W estern mills participated less than other mills in the wide swings of inven tory buildup and subsequent cutback. 202 A1 uminum dominated the headlines in early November, as major producers backed off from earlier-posted price increases after the A dm inistration announced plans to throw substantial amounts of stockpiled metal onto the m arket. The cancelled increases involved a Vi-cent hike for ingot prices (from 24 Vi to 25 cents a pound) and a 1-cent average price rise for fabricated items. Defense Secretary M cNam ara — the largest buyer of aluminum in the country — stated that producers can celled the posted increases because they “rec ognized the need to maintain price stability at a time of rising demand and increasing de- W est suffers less than nation from steel-production decline Source: Federal Reserve B oard; Federal Reserve B ank of San Francisco fense production associated with operations in South Vitenam.” Activity in the nonferrous-metals markets strengthened considerably during the third quarter of the year. Copper, lead, and zinc markets all exhibited strong demand pres sures during this period. Rising industrial consumption of copper, plus strike-induced losses in refinery produc tion, reduced fabricators’ and producers’ stocks despite the release of substantial amounts of the metal from Government stock piles. Political tensions in Rhodesia and mili tary tensions in Vietnam also accentuated fears of future shortages of the red metal. Eventually, in late October, Chilean pro ducers responded to a sharp advance in the premium price quoted on the London ex change by raising their export price for re fined copper from 36 to 38 cents a pound. Other foreign producers quickly followed suit, but U. S. producers continued to hold the price line at end-month. Zinc remained in short supply despite the release during the quarter of 75,000 tons of stockpiled metal, which matched the amount released in earlier months. Lead demand picked up late in the third quarter, so stock pile officials at that time began selling 40,000 November 1965 MONTHLY REVIEW tons left over from an under-subscribed April offering. Just before adjournment, Congress authorized the release of 200,000 tons of zinc, and the A dm inistration followed up this action by terminating quota restrictions on the importation of both lead and zinc. W estern petroleum refineries responded to an increased third-quarter demand by step ping up operations to 85 percent of capacity, as against an early-1965 pace of roughly 80 percent of capacity. M ilitary aircraft and shipping requirements led to substantial in creases in Government purchases of jet fuel and residual fuel oil. The diversion of shipping from civilian to military tasks led to a drop in civilian demand for residual fuel oil, but this drop was offset by increased civilian demand for gasoline and jet fuel. Cattle rise, peaches fail The Western farm-income picture was very strong in mid-summer, as increased marketing of livestock and products more than offset a drop in crop marketing receipts. F o r the Jan uary-August period as a whole, cash receipts were 3 percent above the comparable 1964 figure, as compared with an 8-percent gain elsewhere in the nation. The stronger gain elsewhere reflected a boom in some products, such as hogs and soybeans, that District farmers do not specialize in. W estern cattlemen remained in a strong position during the summer quarter. Beef prices were higher than a year ago, and m ar ketings from W estern feedlots were much heavier than in the first three quarters of 1964. But California cling-peach producers present ed a different picture. Growers harvested about 20 percent less than the early-season estimate of 37.5 million bushels, and canners produced the smallest pack of the last four years— pri marily because unseasonable August rains, on top of planned reductions carried out un der a state marketing order, reduced the size of the crop even more than intended. California growers relied primarily on the domestic labor supply for their harvest needs, despite the importation of some Mexican workers for the processing tomato crop. M ore than 16,000 foreign workers were employed on California farms in late September, but this was far below the 63,000 figure of a year ago. Yet, despite the resultant pressure on the domestic labor supply, farm-wage rates in creased more slowly in California than in the rest of the country over the past year— up 6.2 percent and 7.5 percent, respectively— and wages in other District states increased at a somewhat slower pace. Significant third-quarter gains in Western employment and Western income created the basis for a future upsurge in consumer buy ing, which has lagged behind the national pace so far this year. Through August, District re tail sales were 5 percent above the 1964 level, as opposed to an 8-percent gain elsewhere. For the year to date, District apparel-store sales were off 9 percent, fumiture-appliance sales were down 5 percent— and auto registra tions were up only 5 percent in the West (and 3 percent in California) as against a 15-per cent gain in the rest of the nation. In view of this unprepossessing sales performance, West ern retailers undoubtedly will be looking for ward to the Christmas-buying season with even more anticipation than usual. — Regional Staff 203 FEDERAL R E S E RVE B A N K OF S A N F R A N C I S C O Lending: Some Tightness f i n a n c i a l activity remained $122 million (daily average basis), and they strong in the third quarter, despite a also reduced their net sales to securities slowdown in bank-loan expansion, and bankdealers. reserve and liquidity positions stayed relative Liquidity and municipals ly tight. Total m em ber-bank credit increased Despite the relative slowdown in the pace by $476 million (seasonally adjusted)— far of loan expansion, District-bank liquidity po above the second-quarter gain, but only onesitions tightened during the summer quarter. third of the size of the substantial first-quarter The loan-deposit ratio, an inverse measure of increase. But the bank-earnings picture bank liquidity, rose to a postwar peak of 71 looked happier than it did earlier in the year, percent in September. Moreover, the ratio which suggests that banks have made progress of short-term Government securities to de in overcoming the cost handicap created by posits dropped from 4 to 3 Vi percent during the higher rates paid this year on time and the quarter. But this ratio may understate savings deposits. the liquidity of District banks, to the extent Tightening reserve pressure was increas that they have increased their holdings of ingly evident in the third quarter, as net bor short-term municipal securities. A nd both rowed reserves of District member banks liquidity ratios ignore the fact that District edged up to $38 million. Average daily re banks hold only a relatively small proportion quired reserves increased $20 million during of their total deposits in the volatile form of the quarter; excess reserves also rose slightly, time certificates of deposit. but daily average borrowings increased from While member banks were increasing their $63 to $70 million. In addition, District banks loans by $348 million, they were expanding borrowed more heavily in the Federal funds their security holdings by $128 million (sea market. Between the second and third quar sonally adjusted). M unicipal and Federal ters, they increased their net purchases of Agency portfolios continued to increase, as Federal funds from other banks from $86 to part of the effort by banks to raise operating revenues and thereby offset the higher costs Liquidity positions tighten further resulting from increased rates paid on time during July-Septem ber period deposits. Actually, the rate of expansion of such securities slowed during the quarter, but the gain for the year to date amounted to 26 percent. Banks meanwhile continued to reduce their U. S. Government security holdings, but by a relatively small amount ($116 million) which reflected the slowdown in the rate of loan expansion. District member banks recorded mixed trends in deposits during the July-September period. Demand deposits adjusted dropped $103 million (seasonally adjusted), reversing the first-half pattern, and U. S. Government Source: Federal Reserve B oard; Federal Reserve B ank of San deposits dropped even more in response to Francisco W e s te rn November 1965 MONTHLY REVIEW Pace of expansion accelerates in time and savings deposits B illio n s of D o llo ri N ote: O ther I.P .C . includes tim e deposits of individuals, p a rt nerships, and corporations, other than savings. Source: Federal Reserve B oard; Federal Reserve B ank of San Francisco unusually heavy calls on Treasury tax-andloan accounts. But the pace of expansion ac celerated in time and savings deposits, as a heavy savings inflow contributed to a $592million increase in the overall category. On the other hand, time certificates of deposit de clined during the quarter, as new CD’s issued during this period failed to offset those m a turing around the September 15 tax date. The largest District banks showed relatively little interest in bidding for large-denomination CD ’s, partly because the New York mon ey m arket banks offered increasingly higher rates for such deposits, particularly in the lat ter part of September. terly gain lagged behind the 2.9-percent gain recorded elsewhere. In durable m anufacturing, machinery manufacturers recorded a substantial rise in borrowing; in the nondurable field, foodliquor-tobacco processors matched their yearago pace with a strong seasonal gain. Petro leum processors continued to display a strong demand for credit: this industry is now financ ing substantial capital expenditures, and it also requires additional operating funds be cause of sharp increases in military purchases of fuel for aircraft and cargo vessels. District banks during the quarter increased their ad vances to construction firms (unlike last sum m er) and conversely reduced their holdings of bankers acceptances (also unlike a year a g o ). Higher interest costs The cost of business loans edged upward during the quarter. In the first half of Sep- W estern banks exp an d holdings of business loans and other securities B illio n s of D o llars Heavy business borrowing In the loan sector, data supplied by weekly reporting member banks emphasized the im portance of business borrowing in the recent bank-credit expansion. (This series, although not seasonally adjusted, is much more de tailed and more current than the monthly member-bank series.) Business loans at Dis trict weekly reporting banks were up a strong $ 139 million during the quarter, as most cate gories showed heavy increases in borrowing. Even so, the Western banks’ 1.7-percent quar Source: Federal Reserve B ank of San Francisco 205 FE D E RA L R E S E R V E B A N K OF S A N F R A N C I S C O SELEC TED BALANCE SH EET IT E M S OF W EE K LY R E PO RTING M E M B E R BANKS IN LEADING C IT IE S (dollar amounts in millions) U. S. Minus Twelfth District Twelfth District Net Change Outstanding 9 /2 9 /6 5 ASSETS Loans adjusted and investments Loans adjusted Commercial and industrial loans Real estate loans Agricultural loans Loans to nonbank financial institutions Loans for purchasing & carrying securities Loans to foreign banks Other loans (mainly consumer) Total securities U. S. Government securities Other securities LIABILITIES Demand deposits adjusted Total time and savings deposits Savings Other time 206 $ 33,794 24,321 8,293 7,829 1,046 1,663 392 311 5,1 97 9,473 4,799 4 ,6 74 12,316 20,31 8 14,868 2,731 Third Quarter 1965 Dollars Percent 3rd Qtr. 1964 Percent Outstanding 9 /2 9 /6 5 + + + + „ + — — + + — + $ 12 4,98 3 87,433 3 9 ,8 2 4 14,183 577 8,491 5,061 1,244 19,943 3 7,55 0 18,031 19,519 363 234 139 117 2 29 43 9 7 129 81 210 + + + + — + — — + + — + 1.09 0.97 1.70 1.52 0.19 1.77 9.89 2.81 0.13 1.38 1.66 4.70 + 2.38 + 2.73 + 0.92 + 1.09 + 2.18 + 2.62 + 97.83 — 6 .5 4 + 1.16 + 1.53 + 0 .4 5 + 3 .1 4 + 101 + 350 + 410 + 2 + + + + 0.83 1.75 2.84 0.07 + + + + tember, leading metropolitan District banks charged an average rate of 5.19 percent— 14 basis points above the June average— on short-term business loans. But this third-quar ter increase made up for only about half of the decline in rates which occurred between last September and this June. District banks, like those elsewhere, adopt ed a more selective lending approach in re cent months, making the 4 Vi-percent prime rate applicable on a declining proportion of their business-loan volume (45 percent in September vs. 57 percent in Ju n e). Banks raised their rates for practically every loansize category, but the higher rates charged on the largest category ($1 million and over) accounted for the major part of the increase in the overall average rate. District banks during recent months also granted more long-term loans— those with maturities of over one year. The number of new long-term loans accounted for 3.3 per cent of all loans in the September survey— the highest proportion since data of this type 1.99 1.52 2.32 6.34 51,81 7 5 5,95 8 29,451 18,272 N et Change 3rd Qtr. 3rd Qtr. 1964 1965 Percent Percent — 0.02 + 0.68 + 2.93 + 5.55 + 3.40 + 3.59 — 27.52 — 1.03 + 1.66 — 1.61 — 6.93 + 3.86 + + + + — — — — + + + + 2.17 1.57 3.48 4.49 1.96 4.93 7.15 9.12 2.0 4 2.64 2.65 4.23 + + + + + + + + 1.64 2.95 2.05 2.62 0 .4 4 3.92 2.73 5.00 were first collected five years ago. But rates on new long-term loans moved up 17 basis points during the quarter, to 5.42 percent. Bank lending to consumers apparently dropped behind the hot first-half pace during the summer quarter, but this slackening may be only apparent. The quarterly increase probably would have been greater than the reported gain if adjustments had been made for the timing of auto model changeovers. But even so, auto financing continued as a major source of bank-credit demand during the sum mer period. Ample mortgage money The W estern mortgage m arket rem ained amply supplied with funds as the demand for mortgages slackened during recent months. But there was little evidence of any substan tial surplus of funds, so borrowing conditions and terms remained relatively stable during this period. The savings inflow continued stronger at the banks than at the S & L ’s— roughly a 2.8- November 1965 MONTHLY REVIEW percent quarterly gain in savings deposits of weekly reporting banks versus a 2-percent gain in savings balances of Federally insured associations. Some associations have offset their slower savings growth with increased borrowings from Federal Home Loan Banks, but the increased costs of such borrowing and the Home Loan Bank Board’s continued ad monitions advising restraint should tend to reduce the flow of funds from that source. In view of the continued existence of excess housing in many W estern communities, lend ers have continued to expand their mortgage portfolios rather modestly. District weekly re porting banks recorded a $ 117-million gain in mortgage holdings during the summer quar ter, and S & L ’s increased their holdings by $474 million. (Banks actually stepped up their mortgage-lending pace during this pe riod, but detailed first-half data suggest that they are interested at least as much in commercial-industrial mortgages as they are in residential.) During this quarter, too, fore closure rates declined and interest rates moved sideways, but rates later tended to stiffen somewhat. — R uth Wilson Men, Money, and the W est W estern business and financial developments of the past fifty years are surveyed in the report, M en, M oney, and the West, which is now available from the Federal Reserve Bank of San Francisco. The booklet begins with an overview of national economic and monetary developments of the past half-century, but the bulk of the report is concerned with the greater-than-national growth of Western production, trade, and finance over this history-making period. Copies of the report are available free upon request from the Administrative Service Departm ent, Federal Reserve Bank of San Francisco, 400 Sansome Street, San Francisco, California 94120. 207 F E D E R A L R E S E R V E B A N K OF S A N F R A N C I S C O Condition Items of all M em ber Banks — Twelfth District and O ther U. S. Source: Federal Reserve B ank of San Francisco. (E nd-of-quarter d a ta shown through 1962, and end-of-m onth d a ta th ere afte r; data not adjusted for seasonal variatio n .) B A N K IN G A N D CREDIT STATISTICS A N D BUSINESS INDEXES—TWELFTH DISTRICT1* (In d exes: 1957-1959 — 1GQ. D ollar amounts in m illions of dollars) Condition item s of all m em ber banks2 Seasonally A djusted Y ear and M o n th Loans and discounts3 U .S . G ov’ t. securities D em and deposits adjusted4 T o ta l tim e deposits Bank rates Bank on debits short-term Index business 31 cities5, 6 loans7, 8 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 8,712 9,090 9,264 10,816 12,307 12,845 13,441 15,908 16,612 17,839 20,344 22,915 25,561 6,477 6,584 7,827 7,181 6,269 6,475 7,872 6,514 6,755 7,997 7,299 6,622 6,492 10,052 10,110 10,174 11,386 11,580 11,384 12,472 12,799 12,498 13,527 13,783 14,125 14,450 7,513 7,994 8,689 9,093 9,356 10,530 12,087 12,502 13,113 15,207 17,248 19,057 21,300 59 69 71 80 88 94 96 109 117 125 141 157 169 1964 August September October N ovember December 24,965 25,282 25,165 25,339 25,561 6,212 6,480 6,519 6,685 6,492 14,377 14,689 14,587 14,503 14,450 20,235 20,473 20,602 20,792 21,300 172r 167r 170r 172r 168r 1965 January February March April May June July August Sept. 25,853 26,120 26,539 26,525 26,755 27,059 27,327 27,283 27,409 6,337 6,659 6,538 6,212 6,183 6,010 5,813 5,881 5 894 14,430 14,453 14,714 14,405 14.365 14,832 14,532 14,521 14,729 21,669 21,878 21.996 22,184 22,211 22,492 22,718 22,805 23,084 179 176 181 180 182 168 186 180 187 3.95 4.14 4.09 4.10 4.50 4.97 4.88 5.36 5.62 5.46 5.50 5.48 5.48 5.51 5.48 5.44 5.47 5.53 T o ta l nonagri cu ltu ra l em ploy m ent In d u s tria 'production (physical v o lu m e )6 D e p 't. store sales (value)® Lum ber R efin ed 8 P etroleum S te e l1 84 86 85 90 95 98 98 104 106 108 113 117 120 73 74 74 82 91 93 98 109 110 115 123 129 139 101 102 101 107 104 93 98 109 98 95 98 103 109 90 95 92 96 100 103 96 101 104 108 111 112 115 92 105 85 102 109 114 94 92 102 111 100 117 130 120 120 121 121 122 143 137 139 150 142 107 108 111 106 106 118 121 117 113 115 119 124 133 142 141 122 123 123 123 124 124 124 125 125 151 146 140 134 146 140 148 146 149 110 109 119 101 103 104 111 108 116 117 119 120 122 120 125 122 137j> 142p 150p 149p 147p 147p 143p 139p 1 Adjusted for seasonal variation, except where indicated. Except for banking and credit and department store statistics, all indexes are based upon data from outside sources, asfollows: lumber, National Lumber Manufacturers' Association, West Coast Lumberman's Association, and Western Pine Asso ciation; petroleum, U.S. Bureau of Mines; steel, U.8. Department of Commerce and American Iron and Steel Institute; nonagricultural employment, B.S. Bureau of Labor Statistics and cooperating state agencies. 2 Figures as of last Wednesday in year or month. 5 Total loans, less valuation reserves, and adjusted to exclude interbank loans. 4 Total demand deposits less U.S. Government deposits and interbank deposits, and less cash items in process of collections. 5 Debits to demand deposits of individuals, partnerships, and corporations and states and political subdivisions. Debits to total deposits except interbank prior 1942. 6 Daily average. 1 Average rates on loans made in five major cities, weighted by loan size category. 8 Not adjusted for seasonal variation. ‘Banking data have been revised using updated seasonal factors. Monthly data from 1948 available on request from the Research Department of this Bank. p —Preliminary. r —Revised. 208
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