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MEMORANDUM OF DISCUSSION

A meeting of the Federal Open Market Committee was held
in the offices of the Board of Governors of the Federal Reserve
System in Washington, D.C., on Monday and Tuesday, December 17-18,
1973, beginning at 4:00 p.m. on Monday.
PRESENT:

Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.
Mr.

Burns, Chairman
Hayes, Vice Chairman
Balles

Brimmer
Bucher
Daane
Francis

Holland
Mayo
Mitchell
Morris
Sheehan

Messrs. Clay, Eastburn, Kimbrel, and Winn,
Alternate Members of the Federal Open
Market Committee

Messrs. Black, MacLaury, and Coldwell, Presidents
of the Federal Reserve Banks of Richmond,

Minneapolis,and Dallas, respectively
Mr. Broida, Secretary
Messrs. Altmann and Bernard, Assistant
Secretaries
Mr. Partee, Senior Economist
Mr. Axilrod, Economist (Domestic Finance)
Mr. Sims, Associate Economist
Coyne, Assistant to the Board of
Governors
Mr. O'Brien, Special Assistant to the
Board of Governors
Mr. Keir, Adviser, Division of Research
and Statistics, Board of Governors
Mr. Gemmill, Adviser, Division of International
Finance, Board of Governors
Mr.

-2-

12/17/73

Miss Pruitt, Economist, Open Market
Secretariat, Board of Governors
Mrs. Ferrell, Open Market Secretariat
Assistant, Board of Governors
Messrs. Boehne and Parthemos, Senior Vice
Presidents, Federal Reserve Banks of
Philadelphia and Richmond, respectively
Messrs. Hocter and Green, Vice Presidents,
Federal Reserve Banks of Cleveland and
Dallas, respectively
Mr. Kareken, Economic Adviser, Federal
Reserve Bank of Minneapolis
Chairman Burns noted that this afternoon's session had been
called for the purpose of continuing the discussion,begun at the
previous meeting,of the types of information on Committee targets to
be included in the FOMC policy records.

In the earlier discussion,he

had suggested the possibility of publishing quantitative information
on the short-run ranges of tolerance for M1, M2, RPD's, and the
Federal funds rate and of formulating statements on the longer-run
targets in qualitative terms.

Subsequently, the staff had distributed

excerpts from the policy records for the months from June through
October of this year with changes illustrating how the texts might
have been written in implementing that suggestion.

While he did

not know how others judged the results of that experiment, he thought
the proposed procedure yielded a better record than the present one,
1/ A copy of the staff's memorandum, dated December 11, 1973, and
entitled "FOMC Policy Records," has been placed in the Committee's files.

-3-

12/17/73

in which quantitative information was given only for the highly

volatile target ranges for RPD's.

In particular, the evolution

and direction of policy were more clearly indicated when all of the
short-run specifications were reported in numerical form.
The Chairman noted that the Committee had considered a
number of different alternatives at its previous meeting.

In the

interest of determining whether there was a consensus in favor
of some particular procedure, the Committee might now hold a
"go-around" in which each member would briefly indicate his pre
ference.

He invited Mr. Hayes to comment first.
Mr. Hayes said he certainly agreed that the procedure

suggested by the Chairman and illustrated in the staff memorandum
would be an improvement over the present practice of providing
quantitative information only on targets for RPD's; the latter, he
believed, was the worst alternative of all.

However, his first

choice would be to use qualitative language to describe all of the
Committee objectives in the policy records, and to give more detailed
information in a supplementary annual or semi-annual analytical
review of objectives and results that would be published with a
longer lag.

If the policy records were to contain any quantitative

information on targets, he would favor limiting that information
to the longer-run objectives for the aggregates.

His third choice

12/17/73

would be to include both the short- and longer-run specifications,
and his fourth choice would be to include only the short-run
specifications.
Mr. Morris observed that he still held to the position
expressed by Mr. Brimmer and himself in the report of the Subcom
1/--namely, that the policy records should
mittee on Policy Records
contain the complete set of specifications which the Committee gave
to the Manager.

Accordingly, he would prefer to include the longer

run as well as the short-run targets in the records.

However, he

considered the compromise proposal offered by the Chairman to be a
great step forward and he would support it.
Mr. Coldwell said he thought it would be unwise to publish
either the short- or longer-run specifications in the policy records.
In his judgment, the specifications were not in themselves policy
actions and the Committee therefore was under no compulsion to
report them.

The monetary aggregates were now overemphasized to

some extent, and the emphasis placed on them would be increased if
the Committee's targets were regularly published.

The new Subcom

mittee on the Directive, chaired by Mr. Holland, should have a free
hand to make whatever recommendations it might wish, without being
1/ A copy of this report, dated October 11, 1973, has been placed
in the Committee's files.

-5-

12/17/73

hampered by a new publication procedure. He concurred in the
reasons the Chairman had advanced in a recent memorandum 1/ against
reporting the longer-run targets in the policy records, and he
believed there were additional reasons for not reporting the short
run targets.

In particular, the fact that the short-run targets

frequently were not met was likely to lead to public misunderstand
ing in the absence of lengthy explanations which it would not be
feasible to include in the policy records.
Mr. Balles remarked that the Chairman's compromise proposal
would certainly be a great improvement over the present procedure.
His first choice, however, would be to publish both the short
run and the longer-run targets.

He recognized that, for reasons

set forth in the discussion at the previous meeting, it might
be necessary to introduce a 6-month lag for publication of the
longer-run targets.
Mr. MacLaury said he would prefer to use qualitative
language in the policy record descriptions of the Committee's
objectives.

In his view, the need to improve public understand

ing of the Committee's policy-making procedures would be best
served by publishing an annual report that described those pro
cedures in detail and included all of the quantitative targets
1/ A copy of this memorandum, dated November 15, 1973, and entitled
"FOMC Policy Records," has been placed in the Committee's files.

-6-

12/17/73

adopted over the course of the year.

If that course were not

acceptable, he would favor publishing both the short-run and the
longer-run targets in the policy records; the presentation of
either alone was more likely to be misleading than helpful.

The

problems involved in the current publication of longer-run targets
would be reduced if the policy-record lag were lengthened from
3 to 6 months, but that did not strike him as a practicable step.
Accordingly, despite those problems, his second choice would be
the publication of the full set of specifications with a 3-month

lag.
Mr. Mayo agreed that the current procedure of publishing
the specifications only for RPD's in the policy records was not
a serviceable one.

He thought it would be desirable to publish

information on the longer-term paths for the monetary aggregates
adopted by the Committee, with some accompanying explanation
regarding the 6-month targets.

In his judgment, such information

could be released 90 days after the meeting without undue risk
of market effects because it would be recognized that the targets
were subject to change at every meeting. He still strongly
believed that no useful purpose would be served by publishing
the short-term targets in the policy records.
scribed to the proposal for an annual review.

Finally, he sub

12/17/73

-7-

Mr. Clay said his position was similar to Mr. Mayo's.

In

his judgment the risk of divulging information about the likely
future course of operations by publishing 6-month targets 3 months
after their adoption could be dealt with by emphasizing that the
targets were subject to change at each meeting.

Moreover, he

believed that observers would have great difficulty in determin
ing the precise nature of the operations needed in the remaining
3 months to achieve the longer-run targets described in the policy
records.

If others did not agree with those judgments, he would

favor publishing no quantitative information on targets in the records.
Mr. Black remarked that he found the question a difficult
one because he saw merit in various views that had been advanced.
Publishing only the longer-run targets, as suggested by Mr. Mayo,
would have the advantage of making clear that the Committee was
concerned about developments over the longer run and was not
subject to the charge frequently made in the past that it suffered
from "money market myopia."

He had great sympathy for Mr. Daane's

argument that publication of quantitative specifications would
expose the Committee to a great deal of mistaken criticism. At
the same time, he was impressed by the arguments Messrs. Brimmer
and Morris had advanced for publishing the specifications in as
complete a form as possible.

12/17/73

On balance, Mr. Black continued, he favored the Chairman's
compromise proposal, on the ground that it would give the public
the maximum amount of information that could be revealed without
providing clues to the likely course of future operations.

That

procedure would have the further advantage of illuminating the
basic difficulty of achieving stable growth in the monetary aggre
gates without introducing substantial instability in the money
markets.

Many of the System's critics appeared to be insufficiently

aware of the inherent conflict between the objectives of stable
aggregate growth rates and stable money market conditions, and it
would be helpful to have a better public understanding of the
trade-offs which the Committee continually faced.
Mr. Daane said he still held to the position he had
taken in the Subcommittee report, which was close to those expressed
by Messrs. Hayes, Coldwell, and Mayo today. His first choice would
be to eliminate from the policy records the quantitative information
on RPD's now published, so that all statements on targets in the
records would be formulated in qualitative terms, and to publish
an annual review of operations with as much quantitative informa
tion as desired.

If any quantitative information on targets was

to be included in the records, he would strongly urge that it be
limited to the longer-run paths, as proposed by Mr. Mayo.

-9-

12/17/73

In his view, Mr. Daane continued, the undesirability of
publishing the short-run specifications was clearly demonstrated
by the text for the October entry included in the staff's illus
trative revisions of recent policy records to which the Chairman
had referred.

As rewritten, the text said that ". . .the Committee

concluded that progress toward its longer-run objective of moder
ate monetary growth could be achieved if the aggregates expanded
at somewhat slower rates in the short run.

For the October

November period, therefore, the members adopted ranges of tolerance
of 1 to 4 per cent and 5 to 8 per cent for the annual rates of
growth in M1 and M2, respectively. . ..
"

In fact, however, during

that 2-month period M1 and M2 increased at rates of 7.8 and 11.0
per cent.

He could see no useful purpose, from the point of view

of the public, the financial markets, or the Federal Reserve, in
publishing that kind of record.
Chairman Burns commented that the figures Mr. Daane had
cited demonstrated that, at least in the month in question, the
System's aim had been poor.

Publication of those figures might

stimulate suggestions for improving procedures.

And if that per

formance could not be improved upon, he believed the public was
entitled to have that information.

-10-

12/17/73

Mr. Daane observed that the Committee was not necessarily
committed to its present approach to policy formulation.
The Chairman replied that the Committee also was not
committed to any particular approach to the policy records.

The

decisions it reached today were subject to change at any time the
members concluded that some other approach would be better.
Mr. Brimmer observed that he held to the position taken
by Mr. Morris and himself in the Subcommittee report.

He wanted

to stress the point made there that the question at issue was how
the Committee's instructions to the Desk should be reported, not
how they should be formulated.

In his view, the instructions

should be reported in the manner in which they were formulated,
whatever the latter might be.

He was, however, prepared to accept

the compromise proposed by the Chairman.
Mr. Sheehan remarked that he had a good deal of sympathy
for Mr. Brimmer's position.

He liked the Chairman's proposal,

except that he would also favor publishing the 6-month targets
with a 6-month lag.

In general, he would prefer to publish as

much information as possible as early as possible.

In that con

nection, he noted that for the final meeting of the year the policy
record had customarily been published with a lag of 2 rather than
3 months, without creating any particular market problems.

At

-11-

12/17/73

some point the Committee might want to consider reducing the lag
for all of the records to 2 months, if that could be done without
incurring substantially greater processing costs.
In a further observation, Mr. Sheehan said it was hard
for him to believe that publication of the detailed specifications
would result in more vocal criticism than the Committee's policy
records were now receiving.
Mr. Bucher remarked that his inclination, like Mr. Sheehan's,
was to publish as much information about Committee objectives as
feasible, and as quickly as feasible.

It was important for the

public to know about the problems the Committee encountered as
well as about its successes.

He was willing to accept the

Chairman's proposal for publishing only the short-run targets
in the policy records as a first step, but he hoped the next
step would be to include the 6-month targets as well.

He was

not particularly concerned about the risks, in terms of possible
market effects, of revealing the 6-month targets with a 3-month
lag, so long as it was made clear that the longer-run targets were
subject to change at each meeting.

And he was concerned that the

Committee might only compound its problems by alluding to, but
not revealing, its longer-run targets, since that was likely to
encourage observers to speculate about their nature.

His first

-12-

12/17/73

choice, therefore, would be to publish all of the specifications
in the policy records.
Mr. Bucher added that he would like to stress a point
that had been made earlier--namely, that full disclosure of
the information in question could prove highly constructive by
leading outside observers to make useful suggestions for improv
ing Committee procedures.
Mr. Holland said he was inclined in principle to publish
both the short- and longer-run targets in the policy records.

If,

however, the longer-run targets were omitted from the policy
records it would still be feasible to include them in some kind
of annual publication.

Given the divisions persisting among

Committee members after intensive consideration of the issue,
it would be wise to proceed one step at a time.

In his view the

Chairman's proposal, as illustrated in the staff memorandum of
December 11, was a useful and constructive step which he would
be quite prepared to take now.

The members' reactions, and those

of outsiders, would help guide the Committee in any further steps,
forward or backward.
Mr. Winn said he wanted to associate himself with
Mr. Holland's view that publication of the short-run specifica
tions in the policy record would be a useful first step.

He

-13-

12/17/73

also agreed that additional material should be made available
in an annual report.

He would favor including in that annual

report a discussion of the kinds of problems the System encountered
in attempting to achieve its targets, in order 'to avoid the misun
derstandings that otherwise were likely to result when the specifica
tions were published.
Mr. Eastburn expressed the view that it was incumbent on
the Committee to publish as much information on its targets as
feasible, and to do so without long lags.

He would be inclined

to include both the short- and longer-run targets in the policy
records, and to provide as full an analysis as necessary to make
their meaning clear and to explain any inconsistencies that might
develop among them.
Mr. Kimbrel said he agreed with those who thought the
present practice of publishing quantitative information only on
the targets for RPD's had not proved serviceable.

He believed

there would be advantages in publishing the longer-run as well as
the short-run targets in the policy records.

For one thing,

providing information on the former would help place the misses
with respect to the latter in proper perspective.

For another,

the exclusion of quantitative data on the longer-run targets
might be viewed as an invitation to market observers and to the

-14-

12/17/73

Congress to ask for the specific figures.

However, he had a great

deal of sympathy for the Chairman's proposal and considered it a
highly satisfactory compromise at this point.

He certainly agreed

that it would be desirable to supplement the policy records with
an annual review containing more quantitative information.
Mr. Francis observed that his preference would be to
publish the full set of specifications in the policy records.
He believed that the records should contain a clearer description
of the whole process of making and implementing policy, including
information on targets that were missed and on those that were
hit.

He would favor shortening the present 90-day lag in

publishing the records by at least 30 days.
Mr. Mitchell said he had long felt that the Committee
should formulate its policy decisions with the clarity offered
by quantitative specifications.

As he reviewed the record of

recent years, however, he was forced to conclude that the efforts
to do so had not been very successful; indeed, they may have led
more to confusion than to anything else.

Accordingly, he had

considerable sympathy for the argument that the best course would
be for the Committee at each meeting to call simply for tighten
ing, easing, or no change in policy. Certainly, that was the
safest course.

To call for policy modifications of the fine

-15

12/17/73

degree indicated by small differences in numerical specifications
implied that the Committee was able to make more precise determina
tions than it in fact could.

Moreover, he did not believe that

the specifications adopted by the Committee at each meeting
were appropriate indicia of its intent; for example, when the
Committee specified a 2-month range for the growth rate of an
aggregate, it was simply expressing a judgment that growth within
that range over the short run would be helpful in reaching the
growth rate desired over the longer run.
For such reasons, Mr. Mitchell continued, he would not
be disturbed if not all of the machinery involved in the speci
fications were revealed in the policy records.

He looked for

ward to the day when the policy records could be as complete as
Messrs. Morris and Brimmer desired, but he thought that day had
not yet arrived.

At the same time, he would not object to includ

ing the short-run targets in the policy records, along the lines
illustrated in the materials the staff had prepared.

As several

speakers had noted, that would be an improvement over present
procedures.

The basic problem--that such records would not

articulate the Committee's theory about the manner in which
monetary policy worked--was a consequence of the fact that the
Committee as a whole did not have such a theory, although individ
ual members might.

The solution to that problem had to be sought

-16-

12/17/73

in the area in which the Subcommittee on the Directive was
working.
Mr. Hayes remarked that the degree of dissatisfaction
with the System's ability to hit the short-run targets raised
a question in his mind as to whether it was wise for the Committee
to continue to specify such targets.

The better course might be

to limit any targets for the aggregates to longer-run objectives,
and for the short run to concentrate on the degree of tightness
or ease desired in money market conditions.
Chairman Burns observed that a diversity of thought had
been revealed by today's discussion.

It might be useful at this

point to determine the number of Committee members and Reserve
Bank Presidents not currently serving on the Committee who would
find various possible courses acceptable, setting aside for the
moment the question of the courses they would prefer.
The Chairman then described the following three alterna
tives with respect to the types of targets for which quantitative
information would be published in the policy records:

(1) all of

the short-run targets, as in the proposal he had made earlier;
(2) none of the targets; and (3) all of the short- and longer-run
targets.

With respect to the first alternative, he suggested

that responses be considered to be without prejudice to the

-17-

12/17/73

question of whether quantitative information on the longer-run
targets might be published with a longer lag.
In response to the Chairman's inquiry regarding the
acceptability of each alternative, the number of affirmative
responses was largest for the first alternative and smallest for
the second.
Mr. Brimmer noted that the Chairman had not asked for
expressions of view regarding the possibility of publishing the
6-month targets with a 6-month lag.

Chairman Burns commented that he personally had sympathy
with proposals to make the 6-month targets public, either with a
6-month lag or in an annual review.

He believed, however, that

it would be best for the Committee to proceed cautiously, taking
an initial step with respect to short-run targets now and con
sidering without undue delay--perhaps in 2 or 3 months--whether
to take a further step with respect to the longer-run targets.
In response to a question, the Chairman said he would not
want to publish the longer-run targets with a 3-month lag in the
policy records because that would provide information to market
participants regarding the future course of policy that they
should not have. Although in principle the longer-run targets
were subject to change at each meeting, in fact they tended to

-18-

12/17/73

be relatively stable, and that would be quickly discovered by
the market.
Mr. Mitchell said it had been argued that no one was given
any special advantage when the same information was made available
to everyone at the same time.
The Chairman observed that such an argument could be used
to justify releasing information on the Committee's policy decisions
immediately, rather than waiting 90 days.

Even though a general

publication nominally would leave all interested persons in the
same position, some would be more alert than others to the avail
ability of information about policy, and those who were less alert
might be subjected to severe losses.
Mr. Morris said he had the impression from his own market
experience that, regardless of the amount of information pub
lished by the System, the more sophisticated analysts were likely
to arrive at better judgments regarding future policy than the
less sophisticated.

It was also his view that even the most

sophisticated analysts could not make much use of information
regarding, say, the 6-month target for growth in M1 adopted by the
Committee 3 months earlier.

Market participants were directly

interested not in monetary growth rates but in interest rates;
in order to use such information on targets they would have to

-19-

12/17/73

decide not only whether the targets had been changed at intervening
meetings but also what implications the target growth rates had
for interest rates.

That was not an easy calculation to make, as he

was sure the staff would attest.
Mr. Kimbrel remarked that caution was needed with respect
to the timing of the initial release of any additional quantitative
information. With all of the uncertainties prevailing at the
moment, he hoped the Committee could avoid contributing to the
tensions existing in financial markets.

It might be desirable

to issue an advance announcement concerning the additional informa
tion that would be forthcoming.
The Chairman commented that he also had been troubled
about that problem.

If the Committee decided to begin publish

ing more quantitative information in some particular policy record,
it could include an announcement to that effect in the press release
accompanying the preceding record, issued a month earlier.
Mr. MacLaury said he would like to raise the possibility
of taking a more cautious first step than including the short
run targets in the policy records.

What he had in mind was the

publication--perhaps, but not necessarily, in an annual reportof a detailed description of the Committee's whole policy-making

12/17-18/73
process.

-20-

It would be possible in such a publication to discuss

the problems inherent in the process and to explain why particular
targets were hit or missed.
Chairman Burns said it appeared to be the sense of the
Committee that more quantitative information should be included
in the policy records.
Mr. Mitchell observed that there seemed to be a consensus
among the members that the publication in the policy records of
all of the short-run targets in quantitative form would be an
improvement over the present procedure of publishing the figures
for RPD's alone.

He suggested that the question be resolved on

that basis.
The Chairman then proposed that the members indicate whether
they would prefer to have quantitative information included in the
policy records on all of the short-run targets.
Chairman Burns and Messrs. Balles, Brimmer, Bucher,
Francis, Holland, Mitchell, Morris and Sheehan responded affir
matively and Vice Chairman Hayes and Messrs. Daane and Mayo
responded negatively.
Chairman Burns indicated that, in view of the majority
sentiment, the staff would be instructed to begin including
information on short-run targets in the policy records.

12/18/73

-21-

Thereupon the meeting recessed until 10:00 a.m. the following
morning, Tuesday, December 18, 1973.

Committee attendance was the

same as on Monday afternoon except that Mr. Francis was absent.

Staff

attendance was the same as on Monday except that Mr. Gemmill was
absent, and the following were present:
Mr. Guy, Deputy General Counsel
Mr. Nicoll, Assistant General Counsel
Messrs. Andersen, Bryant, Eisenmenger, Gramley,
Reynolds, and Scheld, Associate Economists
Mr. Holmes, Manager, System Open Market Account
Mr. Coombs, Special Manager, System Open
Market Account
Mr. Melnicoff, Managing Director for Operations
and Supervision, Board of Governors
Mr. Feldberg, Secretary to the Board of
Governors
Mr. Pierce, Associate Director, Division
of Research and Statistics, Board of
Governors
Messrs. Wernick and Williams, Advisers,
Division of Research and Statistics,
Board of Governors
Mr. Pizer, Adviser, Division of International
Finance, Board of Governors
Mr. Ettin, Assistant Adviser, Division of
Research and Statistics, Board of
Governors
Mr. Wendel, Chief, Government Finance Section,
Division of Research and Statistics,
Board of Governors
Messrs. Taylor and Doll, Senior Vice Presidents,
Federal Reserve Banks of Atlanta and
Kansas City, respectively
Mr. Garvy, Economic Adviser, Federal Reserve
Bank of New York
Mr. Sandberg, Manager, Acceptance and Securities
Departments, Federal Reserve Bank of New York

12/18/73

-22-

Chairman

Burns noted that Mr. Francis was absent this

morning because of the death of his father-in-law.

Mr. Kimbrel,

who was alternate to Mr. Francis on the Committee, would serve as
a voting member for the rest of this meeting.
It was agreed that the Chairman would express the Committee
members' sympathy to Mr. and Mrs. Francis.
The Chairman then observed that the Secretary had two
recommendations to propose for implementing the Committee's
decision of yesterday with respect to the content of the FOMC
policy records.
Mr. Broida referred to a suggestion made during the
discussion yesterday afternoon that advance public notice be
given of the intention to include additional quantitative informa
tion about the Committee's targets in the policy records.

Several

senior staff members with whom he had consulted concurred in his
view that it would be better to introduce the additional informa
tion without advance notice.

Such notice would focus a great

deal of attention on the forthcoming policy records

and might

create expectations of a more substantial innovation than was
in fact contemplated.

Secondly, he would recommend that the addi

tional information be introduced with the policy record for the
meeting to be held in January 1974.

Following customary procedure,

-23-

12/18/73

[sic]
the records for the November and Dember meetings would be released

a day or two in advance of the Chairman's testimony before the
Joint Economic Committee in February, and it would be desirable
to preclude the possibility of an inference that the change in
content had been made with those hearings in mind.

Moreover, the

first policy record of the new year--and the first to be included
in the Board's Annual Report for 1974--would be a natural point
at which to introduce changes in content.
There was general agreement with the two recommendations
made by the Secretary.
By unanimous vote, the minutes
of actions taken at the meeting of the
Federal Open Market Committee held on
November 19-20, 1973, were approved.
The memorandum of discussion for
the meeting of the Federal Open Market
Committee held on November 19-20, 1973,
was accepted.
Chairman Burns invited Mr. Daane to report on the Basle
meeting that he had recently attended along with Messrs. Mitchell
and Coombs.

Mr. Daane remarked that at the outset of the formal meeting
of the governors on the afternoon of December 10, at the request
of President Zijlstra, Mr. Mitchell had made a lucid statement of
the Board's current thinking on the regulation of foreign banks.

-24-

12/18/73

The governors, although they had been given advance notice that
he and Mr. Mitchell would be prepared to discuss the subject, in
general had not focused on the substance of the issues.

With

respect to the issue of nondiscrimination, however, it was sig
nificant that the Germans apparently had changed their attitude.
They said, in effect, that the United States already practiced
discrimination by virtue of the large size of U.S. banks relative
to the limited scale of foreign banks in the United States.

They

hoped that the United States would not prevent German banks from
operating here in such a small way while branches of U.S. banks
were fully accepted in Germany.

According to their figures, U.S.

banks obtained as much as 50 per cent of their earnings from
foreign branches.

In closing the discussion, Mr. Mitchell invited

the governors to communicate directly to him or to Mr. Daane any
further thoughts they might have on the subject.
Continuing, Mr. Daane said the usual "tour d'horizon" of
those present was interesting and perhaps a bit curious.

It

began with a review of the Netherlands' position by President
Zijlstra.

Being asked where the measures taken by the Netherlands

in reaction to the oil shortage left their partners in the "snake,"
he replied with some asperity that the measures left their
partners with a substantial amount of the Netherlands' reserves.

-25-

12/18/73

The theme expressed by many of the governors was the need for
continuation of a restrictive monetary policy, although there
were some doubts that the line could be held as the oil
shortage began to disrupt economic activity.

Therefore, the

governors stressed that restrictive monetary policies should be
maintained as long as possible, recognizing, however, that it
might not be possible to maintain them for very long.

Concern

ing the effects of the oil shortage on economic prospects, the
Japanese reported that the 1974 rate of growth in Japan now was
expected to be only 6 per cent compared with a rate of 11 per
cent that had been expected.
Mr. Daane observed that in the evening session, President
Zijlstra raised the question of whether in the present circum
stances intervention in the exchange markets should be undertaken
to prevent the dollar from appreciating too much.

Although the

discussion was inconclusive, opinion in general was against
intervention because of the uncertainty as to the effect of the
oil situation on the balance of payments of each country and,
therefore, uncertainty as to what the "right" exchange rates
were.

Because of the uncertainties, some present had referred

to the need to hold on to their dollar reserves for possible use
in making payments for oil.

The theme that emerged was that a

-26-

12/18/73

return to the old system of intervention should be avoided and
that such intervention as might occur should involve consulta
tion and should be undertaken by the United States as well as
by the European countries.

He (Mr. Daane) spoke more favorably

intervention, reminding those present of all of their previous
expressions of concern over the so-called dollar overhang.

The

new Managing Director of the International Monetary Fund, who
attended the meeting, also supported the idea of intervening and
reducing the dollar overhang.
Mr. Mitchell remarked that he would only add an inter
pretation of the attitude of the Germans and the British toward
the operations of U.S. banks in their countries.

Until now they

had appeared to welcome U.S. banks to operate with the same rights
and powers as their own banks, but some U.S. banks were now engag
ing in operations that had not been foreseen.

At least two U.S.

banks have set up organizations to attract indigenous deposits
in Great Britain and Germany, and as a result, they had

brought

to the authorities' attention the fact that U.S. banks might gain
a significant share of the banking business in those two countries.
No such penetration had as yet occurred--although some German author
ities seemed to think that it was taking place--but the possibility
that foreign banks might have a role in their countries even as

12/18/73

-27-

large as their own banks naturally shocked and disturbed them.
The fact that domestic banks in those two countries had

not

been as aggressive in seeking consumer deposits as U.S. banks
was leading to the prospect of a lively skirmish.

Some fore

bearance on the part of U.S. banks might be required to avoid
the imposition of constraints by host countries.
Mr. Brimmer commented that a modest relaxation of the
VFCR program was likely in the near future in keeping with changes
in the OFDI program. With respect to Mr. Mitchell's comments on
the reactions of British and German authorities to the presence
of U.S. banks, preliminary results of a survey of U.S. banks
suggested that they looked to the United Kingdom and the continent
for the future of their foreign banking business.
Mr. Mitchell commented that the only potential problem
seemed to relate to the sweeping up of indigenous deposits by
U.S. banks.
Mr. Morris, noting that the Germans had announced their
intention to intervene in the exchange market if the mark
reached 2.67 to the dollar, asked whether they no longer held
to that policy.
In reply, Mr. Daane said the Germans had not been that
precise with respect to intervention.

In any case, perhaps as

-28

12/18/73

a result of conversations among the E.C. countries, the Germans
now seemed to feel as strongly as the French that any interven
tion ought to involve the United States as well as the European

countries.
Mr. Coombs added that German thinking appeared to have
changed, but he was not sure what it now was.

He had gotten the

impression that the Germans might dig in to defend the mark at
around 2.70 to the dollar--rather than 2.67, as Mr. Emminger had
forecast--but in Basle, Mr. Klasen had indicated that the rate
might be allowed to go to around 2.75.

As far as operations in

the exchange markets were concerned, only the Germans had
indicated that they would welcome U.S. intervention in their
currency. However, the view was expressed that, if the Europeans
were called upon to defend their currencies, the United States
ought to defend the dollar.
In response to a question by Mr. Mayo, Mr. Daane remarked
that those present were in full accord with the decision to end the
two-tier gold market, although the announcement of it by the
United States had come a little earlier than they had expected.
Chairman Burns noted that in late November he had attended
a meeting in France of the finance ministers of five major countries.
The purpose of the meeting was to determine whether the five

-29-

12/18/73

countries could reach a consensus with respect to international
monetary reform so that the work of the Committee of Twenty might
go forward. Although the organization of such a group provoked
some unhappiness among countries not included, it probably was
the only way that reform could be accomplished, and some progress
had been made at the meeting.
Before this meeting there had been distributed to the
members of the Committee a report from the Special Manager of
the System Open Market Account on foreign exchange market condi
tions and on Open Market Account and Treasury operations in
foreign currencies for the period November 20 through December 12,
1973, and a supplemental report covering the period December 13
through 17, 1973.

Copies of these reports have been placed in

the files of the Committee.
In supplementation of the written reports, Mr. Coombs
made the following statement:
Since our last meeting, the dollar has remained
buoyant, rising during the period by 3 or 4 per cent
against the major European currencies, and it is con
tinuing to improve today. The exchange market continues
to regard the United States as less vulnerable than
Europe and Japan to the Arab oil squeeze, and this is
a major factor in market psychology.
At the last meeting, I noted that three major
currencies were in serious trouble: the yen, sterling,
and the lira. Each of these currency problems has
gotten worse since the last meeting, and a fourth

12/18/73

-30-

currency, the Dutch guilder, has also come under
speculative attack. In each case, the government
and central bank concerned have been forcefully
defending their currency by intervening in the

exchange market, at the same time that they were
using other policy instruments. In the present
inflationary setting, they see quite clearly that
a severe depreciation of their currencies would

probably aggravate, rather than correct, their pay
ments deficits through the inflationary consequences
of such depreciation. So far, the Japanese author
ities have spent $9.2 billion in defending the yen,

the British and Italians have borrowed $2 billion
and $5 billion, respectively, in the Euro-dollar
market to finance exchange market intervention, and
the Dutch seem prepared to go all out in defense of
the guilder.
At some point, of course, continued selling pres
sure on these currencies could push reserve losses
and borrowings to really alarming levels, and one or
another of the governments concerned might then be
tempted to seek relief by letting the exchange rate
slip. The market will be quick to sense and exploit
through further speculation any indication of such
a weakening of official resolve, just as we saw in
the case of the Japanese yen when the rate was allowed
to decline a few notches in October. In view of the
major trading role of the countries concerned, any
sharp break in their currency rates would have highly
important competitive implications for their trading
partners, and in due course, might lead to compensat
ing rate adjustments elsewhere.
In this uncertain picture, what happens to the
German mark will be crucial, and I must confess to
some disappointment that, as Mr. Daane indicated
earlier, the German position with respect to defense
of the mark seems to be shifting. If they were
really intent on holding the rate of 2.67 to the
dollar, that could have a stabilizing effect on the
market, but if they progressively back away from
that rate, that could, at some point, lead to an
assumption that the mark will go down another 2, 3,
or 4 per cent and provoke sympathetic reactions in

-31-

12/18/73

markets for other currencies. For sterling, the
lira,or the yen, the fall could be as much as 10 per
cent. Our inability to determine at what point the
Germans will firmly defend the mark precludes our join
ing with them in buying marks to hold the rate steady.
If we did so, we could be in a position of buying $25
million worth of marks one day and then finding the
next day that the rate had gone down another one per
cent. Against this background, we continue to take a
cautious view about stockpiling any European currencieseven at present rates, which in general are close to
or even slightly below their central rates. However,
we feel that we should intervene fairly promptly and
forcefully should the dollar be subjected to a sudden
burst of speculative selling.
In response to a question by Chairman Burns, Mr. Coombs
said he had not made any representations to the German authorities
with respect to holding the rate for the mark at any particular
level.

He had been assuming that they would hold pretty firmly

around the central rate of 2.67 to the dollar, and later he had
been given indications that they might wait until the rate went
to 2.70, which wasn't much below the central rate.

Although he

had been disturbed by Mr. Klasen's remarks at the recent meeting
in Basle, he had not yet had an opportunity to discuss the matter
with the Germans.

At the Basle meeting, however, he had made

the point that if the Germans allowed the mark to fall signifi
cantly, the consequences could be serious for the yen, the lira,
and sterling.
tative, who

That view was supported by the Japanese represen
remarked that his government was in the process of

-32-

12/18/73

deciding what course to follow with respect to the exchange rate
for the yen and that German policy would be an important
consideration.
Mr. Daane remarked that in Basle he had made fairly
strong representations that at some point or points, it might
be desirable to have some outflow of dollars from official hold
ings, especially in view of the repeated comments at earlier Basle
meetings about the problem of the overhang of dollars.
Mr. Mitchell observed that Mr. Klasen had said two or
three times that because of the uncertainties with respect to
the oil situation and the need to buy oil with dollars, he would
not use dollars to defend the exchange rate for the mark.

He

had also said, however, that he would defend the rate for the
mark a little bit here and a little bit there, and at some point
he would defend the rate strongly--to which Mr. Coombs had
responded that they might wait too long.

But he (Mr. Mitchell)

was inclined to discount the remarks about intervention made at
that meeting because of the environment in which they were made.
Chairman Burns commented that the subject of intervention
was discussed thoroughly at the meeting in France.

He had gotten

the impression that while the Germans might hesitate, being
deeply concerned about the oil situation, they would defend their
currency.

He would be surprised if they did not.

-33-

12/18/73

Mr. Coombs remarked that he too would be surprised if
they did not.
Mr. Hayes asked whether recent events had thrown any
doubt on the longer-range viability of the central rates estab
lished last February and whether it now appeared that the second
devaluation of the dollar had gone too far.
In response, Mr. Coombs observed that participants in
the foreign exchange markets felt that the dollar definitely
was undervalued even though other major currencies had returned
to about the central rates established last February.
Mr. Bryant remarked that the Board's staff was quite
unsure whether those central rates were now appropriate; argu
ments could be advanced on either side of the question.
Mr. Daane commented that the general view among the
participants in the Basle meeting was that they could not be
sure what the right pattern of rates now might be.
Mr. MacLaury said the discussion pointed once again to
the dilemma posed by a system of fixed rates.

While the February

change in rates might have resulted in the mark being appreciated
too much in relation to the dollar, allowing it to float back
down to a level that might appear appropriate was likely, as
Mr. Coombs had remarked, to generate instability in markets for

12/18/73

-34-

other currencies.

There never seemed to be a good time to allow

the rate for a currency to move because such a move always had
implications for other currencies.
Mr. Coombs remarked that the dilemma could be resolved
by thinking in terms of the effect that intervention to defend
the rate would have on the dollar overhang.
Chairman Burns observed that in view of the enormous
reserves held by Germany, the current rate for the mark could
be regarded as a way station.

It was not necessarily a rate to

be held for a very long time.
Mr. Holland commented that the strengthening of the dollar
from an undervalued position afforded an ideal opportunity to
reduce the dollar overhang.

To allow exchange rates to move

back to equilibrium without taking advantage of that opportunity
would be to forego a chance to improve prospects for interna
tional monetary reform over the longer run.
Chairman Burns remarked that not many months ago when
the United States was flooding the world with dollars and was
exporting inflation, the dollar overhang was a serious problem.
Reserves in some countries had been growing so rapidly that even
central bankers became uncomfortable. However, now that the
United States could no longer be charged with creating a flood of

-35

12/18/73

international liquidity or with exporting inflation, concern
about the dollar overhang issue had vanished.

The natural desire

of central bankers to maintain large reserves had been reinforced
by the oil crisis; they had come to like having the reserves, and
any sizable losses made them uncomfortable.

As a result, the

United States was no longer the target for criticism that it had
been; nor was the dollar overhang viewed any longer as a problem.
However, the shift in attitude about reserves did not augur well
for longer-run international monetary stability.
By unanimous vote, the System
open market transactions in foreign
currencies during the period November 20
through December 17, 1973, were approved,
ratified, and confirmed.
Mr. Coombs then said he would recommend renewal of three
swap drawings on the National Bank of Belgium, totaling $86.8
million, that would mature for the ninth time on January 18 and
25 and February 1.

Since the Belgian swap line had been in con

tinuous use for more than a year, renewal of the drawings required
specific authorization by the Committee under the terms of para
graph 1D of the foreign currency authorization.
Mr. Coombs noted that at the request of the Treasury the
System was still refraining from market purchases of both Belgian
and Swiss francs.

In the case of the Belgian franc debt, the

Treasury was now focusing

on the de facto Belgian revaluation

-36-

12/18/73

of 2-3/4 per cent at the time of the Smithsonian meeting in
December 1971.

The swap agreement provided full protection

against a formal revaluation of the Belgian franc.

However,

the action taken by the Belgians at the Smithsonian meeting
was not a formal parity adjustment but rather was part of a
joint

Common Market move to so-called central rates.

In early

1972 when the System had pressed the Belgian National Bank to
honor the revaluation guarantee, they had replied, first, that
they were dependent on their Treasury for financing the revalua
tion guarantee; second, that their Treasury took the legal position
that a move to a central rate did not constitute a formal revalua
tion; and third, that the Common Market group seemed unlikely to
move from central rates to formal parities for the foreseeable
future.

Against the background of that impasse, the Treasury

had urged market purchases of Belgian francs to pay down the debt.
Mr. Coombs said that at the Treasury's request he raised
with the Belgians once again, at the recent BIS meeting, the ques
tion of whether they could now honor the revaluation guarantee.
They replied in the same manner that they had in early 1972, but
they did agree to take the matter up with the Common Market
governors, who were meeting on the day after the BIS meeting.
The governors, in turn, referred the issue to the Finance

-37-

12/18/73

Ministers of the Common Market, with a recommendation for
favorable action.

However, the Belgians gave him the impres

sion that the recommendation was perfunctory and that they had
little hope or expectation that the Finance Ministers would
approve it.

From the standpoint of the Belgian Treasury, there

was a legal question concerning the distinction between a formal
revaluation and a joint Common Market move to central rates, and
the distinction had implications for prices and for the payment
of subsidies under the Common Market's agricultural policy.
Therefore, he doubted that the issue would be settled soon.
Meanwhile, interest charges were accumulating at a rate of $1.5
million per month.

Nevertheless, he proposed to delay making any

purchases in the market at least until after the year-end because
the Belgian franc was on a weakening trend.

The Swiss franc was

also likely to be cheaper after the end of the year when the
period of window dressing was over.

Continuing the debts beyond

that time probably would incur more cost in terms of interest pay
ments than could possibly be recovered through any special
arrangements that might be negotiated with the two countries
after an extended period.
Mr. Daane commented that no direct conversations had yet
been held between the U.S. and Belgian Treasuries and that he

-38-

12/18/73

was not quite so pessimistic as Mr. Coombs about the prospects

of reaching an agreement.
Chairman Burns suggested that he and Messrs. Daane and
Coombs meet with Under Secretary Volcker at an early date to

work out a plan for attempting to resolve the issue.
Mr. Brimmer, noting Mr. Coombs' statement that issues
of Common Market policy were involved in any decision made by
the Belgian Treasury, asked whether the System's swap network
in fact had been converted from an arrangement with individual
central banks to one with the Common

Market as a group.

Mr. Coombs replied that he thought not, that the only

issue involved was the revaluation guarantee.
dollar convertibility in August 1971

The suspension of

and the Common Market's

move to central rates and then to a joint float had made the
original guarantee a dead letter, and an effort was being made
to deal with the drawings covered by the old guarantee.

Now,

of course, there was an agreement to share profits and losses
on a 50-50 basis, and there was no issue affecting current draw
ings on the swap network.
By unanimous vote, renewal for
further periods of 3 months of System
drawings on the National Bank of Belgium,
maturing in the period January 18 through

February 1, 1974, was authorized.

-39-

12/18/73

Mr. Coombs then noted that at the last meeting the
Committee had approved renewal of all the swap lines for another
year, and all but three of the swap partners had since agreed to
renewal for that term.

However, France, the Netherlands, and

Belgium preferred to renew their lines for only 3 months.

They

seemed to feel that events were moving swiftly and that inter
national flows of funds and conditions in the exchange markets
might be on the verge of major changes.

Consequently, they would

like to reconsider the provisions of the swap arrangements after
3 months.

He did not think any harm would be done and, therefore,

recommended approval of renewal of those three lines for a period
of 3 months.

On

a number of occasions in the past, some swap

lines had been renewed for only 3 or 6 months while others had
been renewed for a full year.
In response to a question by Mr. Kimbrel, Mr. Coombs
remarked that the three countries probably were acting in unison.
The three, along with Germany, had a more direct interest in the
matter because their currencies had been selected as the ones
in which the System might intervene.
By unanimous vote, renewal of the
swap arrangements with the National Bank
of Belgium, the Bank of France, and the
Netherlands Bank for periods of less than
one year, if desired by those Banks, was
approved.

-40-

12/18/73

Chairman Burns called for a staff report on balance of
payments developments for the United States and other major
countries and on economic activity abroad, and Mr. Bryant made
the following statement:
Abroad, as well as in this country, there is
much confusion about the likely extent and duration
of the reductions in petroleum supply, about their
probable effects, and about the appropriate policy
responses. The general dimensions of the problem,
however, are beginning to clarify.
A first commanding fact, now well established,
is the cutback in production of petroleum. Actual
production figures show that the output of petroleum

in Arab countries had already in November been cut
by 5 million barrels a day, or 25 per cent, from the
peak September level. There was apparently no further
cut in December. But a further 5 per cent cut is
scheduled for January, and that would bring the cut

since September to 6 million barrels a day.

If,

instead, Arab output had continued to increase at the
previous rate, it would have increased by some 1-1/2
million barrels a day between September and January.
There is only marginal scope for increasing petroleum
production from non-Arab sources. So the January short
fall of actual world output below what might have been

expected will be roughly 7-1/2 million barrels a day.
A figure of about 7 to 8 million barrels a day
is now rather widely accepted as the likely free-world
shortage for the first quarter of 1974. And most
governments are now assuming--or at least planning
for the possibility of--a continued shortage of this

sort through the second quarter as well.

This would

represent a shortage of about 15 per cent of total
free-world petroleum supplies, and a shortage of about
9 per cent of total free-world energy supplies. These
are very substantial numbers. They are bound to gen
erate considerable worldwide economic dislocations.
A second commanding fact is that the average price
of imported crude oil--from non-Arab as well as Arab

12/18/73

-41-

countries--has roughly doubled over the past six
months, from $3 to some $6 a barrel. The price may
well rise further; marginal amounts have recently
been auctioned by Iran and Nigeria at prices as high
as $17.
For the United States, the first-quarter shortage
of petroleum is now officially reckoned at 3.3 million
barrels a day, or 17 per cent. For Europe and Japan,
the percentage shortfall will be similar--say, 15 to
20 per cent--but it will represent a substantially
greater shortage of total energy supplies, and partic
ularly of industrial energy, since those countries
depend much more heavily on petroleum than we do and
have less scope for cutting automobile transport and
space heating. Estimates vary greatly for individual
countries. Japan expects to be particularly hard hit,
with a petroleum shortage of 25 per cent. Germany
and the Netherlands, too, seem likely to be hit hard,
but there the possibility of using more coal or natural
gas will afford some relief. Britain and France are
examples of countries that foresee somewhat smaller
cuts.
How severe an impact may these energy shortfalls
have on the growth of real GNP?
For the United States, as Mr. Gramley will be
explaining in a few minutes, the projected rate of
growth in real GNP during the first half of 1974 has
been revised downward by 3-3/4 percentage points from
what we had in the November chart show. At least
this large a downward revision seems required for
Europe and Japan, and even larger effects are cer
tainly possible. Official Japanese planners foresee
the worst setback to production since World War II,
with the real GNP growth rate cut by around 7 per
centage points to zero or less. The general view of
those making projections for Western Europe seems to
be that the growth rate in Western Europe will fall
to around zero in the first half of 1974, compared
with the 4 per cent rate of increase earlier antici
pated. All in all, it seems increasingly likely that
we are on the verge of the first general world-wide
recession since 1958.
If things do develop along these lines, however,
this will be a very special kind of recession, and it

12/18/73

-42-

is not at all clear whether orthodox anti-recession
policies will be appropriate. The question in Europe
and Japan, as in the United States, is how to weigh
the inflationary effects of petroleum price increases

and of supply-induced shortages of other goods against
the secondary deflationary effects that will result
indirectly from shocks to confidence and general uncer
tainty, and how to cope with both of these. Thus in
Europe and Japan, policy makers now face much the same
unpleasant tasks and dilemmas that we face in this
country. In addition, several large countries face
serious balance of payments problems--from which we,
for a change, seem to be fairly free. Our present
view is that the U.S. balance of payments may not be
greatly affected one way or another by the petroleum
shortage, since export cuts as a result of lower
demands abroad are likely to be offset, or more than
offset, by a reduction in imports and some increase
in net capital inflows.
The general view of foreign officials in mid
November at the meeting of the Economic Policy
Committee of the OECD was that inflationary forces
still predominated in Europe and Japan, and that fuel
shortages would add, on balance, to these inflationary
forces by cutting supply more sharply than demand,
Hence it was felt that additional anti-inflationary
actions might be needed.
This is still the prevailing view in most countries.
France announced a new set of credit and fiscal restraints
in late November. The British yesterday announced cuts
in public spending, an increase in taxes on large incomes,
hire-purchase controls, and restraints on bank credit
expansion. Japan is reported to be considering a further
monetary tightening.
In Germany, however, where monetary and fiscal
policy have been strongly anti-inflationary, the case
for restraint is now being reconsidered, for two reasons.
First, it now appears that the economic boom was level
ing off somewhat more rapidly in October and November
than was earlier supposed. Secondly, it is thought that
shocks to confidence and general uncertainty as a result
of the petroleum shortage may lead to some reconsidera
tion of investment plans, some further weakening of

-43-

12/18/73

consumer spending, and perhaps an erosion of export
orders. The German government has begun to move
cautiously toward a relaxation of fiscal restraint,
and seems to be pressing the Bundesbank to move in
the same direction.
It may be that in other countries, too, the
possibility of slackening demand will need to be
given greater weight as the winter goes on.
In this rapidly changing situation, where each
country is separately assessing the situation and fend
ing for itself as best it can, there are serious dangers
of cumulative error, and particularly of divisive actions
that could undermine international cooperation. The
danger is clearest in connection with an intensified

nationalistic scramble for oil.

But it exists also in

connection with general monetary and fiscal policies.
As countries separately assess their own prospects,

and those of their trading partners, all could end up
by being too restrictive--or too easy--with the collec
tive errors in either case generating enhanced diffi
culties for the world economy as a whole. It will be
very difficult, too, to judge the appropriateness of
particular exchange rates, and countries could turn
out to be working at cross purposes in this area. Some
countries may be tempted to resort to mutually damaging
export or import controls.
In this environment, it may be necessary for the
United States to take the lead in promoting a coopera
tive, multilateral approach--as Mr. Kissinger has already
tried to do with energy, and as our earlier discussion
this morning suggests might become urgent with respect

to official intervention in exchange markets. And it
will be especially important that we assess our own
economic situation correctly and take promptly any
policy actions that are judged appropriate.

Chairman Burns then called for the staff report on the
domestic economic and financial situation, supplementing the
written reports that had been distributed prior to the meeting.
Copies of the written reports have been placed in the files of

the Committee.

12/18/73

-44-

Mr. Partee made the following statement:
The economy is now in transition between the
course it previously appeared to be charting and one

dominated by the shortage of oil. The incoming
economic data, by and large, have held up reasonably
well, though they tend to confirm the slowing in
growth that we had anticipated. But the daily news
is full of reports of materials scarcities, fuel
shortages, current and planned layoffs, and curtail
ments in buying. And responding to fears as to the
implications of the energy crisis on sales and business
profits, the stock market has been notably weak.
Thus far, the only clear evidence we have of a
fuel-related weakening in sales is in automobiles and
gasoline. New car sales have dropped off only moder
ately into early December, but this has been at the
cost of a drawing down in compact car inventories to
minimal levels; stocks of intermediate- and larger
size models have built up further, to a 60-day supply.
Sales of new houses by merchant builders declined
further in October, when they were more than one-third
below the year earlier level. This decline probably
reflected mainly the mortgage situation, but anxiety
about heating oil and gasoline supplies may also have
been a factor; certainly that has been emphasized in
reports of very poor sales traffic in the outlying
subdivisions since then. The much smaller rise in the
industrial production index over recent months, on the
other hand, seems attributable to shortages of other
materials and component parts more than to shortages
of fuel. The slowing in growth was especially notable
in industrial materials and in business equipment,
where we believe that customer demands have remained
exceptionally strong.
The staff has made a major effort over the past
month to revise our GNP projection in light of the
continued embargo on shipments of Mid-East oil to the
United States. You have already seen the results of
that new projection in the green book,1/ and I have
asked Mr. Gramley to amplify on that projection and
on the reasoning underlying it, as a part of our presen
tation today.
1/ The report, "Current Economic and Financial Conditions,"
prepared for the Committee by the Board's staff.

12/18/73

-45-

Mr. Gramley made the following statement:
Since the last meeting of the Committee, the staff
has been grappling with the oil shortage and its impli
cations for economic activity. The results of our
efforts are reflected in the significantly weaker GNP
projection for 1974 presented in the green book. The
uncertainties in this area are, of course, enormous.
Let me outline briefly our assessment of the problem,
beginning with two key assumptions.
First, we believe a figure of some 3 to 3.5
million barrels a day is a reasonable estimate of the
supply shortfall, in line with the Administration's
thinking. For purposes of our projection, we postulate
a continuance of the Arab embargo throughout all of
next year for oil to the United States, but a resump
tion of oil shipments to Europe and Japan by about
midyear.
Second, we assume the Administration will largely
succeed in its attempt to ensure adequate supplies of
petroleum for production inputs and process heating by
industry. Further conservation measures will need to
be taken to accomplish this objective--including addition
al steps to curtail gasoline consumption in passenger
cars by roughly 30 per cent in all. The reduction in
gasoline consumption by consumers is expected to be
accomplished.mainly by some form of non-price ration
ing, but the retail price of gasoline is also projected
to rise about 30 per cent over the next four quarters.
This second assumption implies that any direct
supply effects on GNP next year would be small, and that
bottleneck problems would not be of sufficient conse
quence to curb aggregate output. Outside of petroleum
refining, production would be cut back by around 10
to 12 per cent because of the shortage of crude, and

this would reduce real GNP by a little less than one
half of 1 per cent. We have made only a minimal
allowance--around one-quarter to one-half of 1 per
cent--for other direct supply effects. If this second
assumption proves wrong, output and employment would
likely decline more--possibly much more--than we have
projected.
The biggest part of the curtailment of real GNP we
foresee comes from reductions in demand for goods and

12/18/73

-46-

services that are complements to the use of gasoline
for travel. There is a long list of items for which
demands are likely to be adversely affected beginning
with autos (for which the problem is aggravated by
a limited capacity to produce small cars), but also
including tires and auto parts, auto repair services,
mobile homes (which generally are located in outlying
areas), campers, boats and other recreational vehicles,
food away from home, and motel and hotel services. In
the area of investment goods, we are likely to see
adverse effects on homebuilding in the more remote
suburban areas and on construction of vacation homes,
on jet aircraft purchases by commercial airlines, and
on construction of motels and shopping centers, with
only minor offsets in investment in mining and railroads.
We have made estimates--very crude ones--of how
much decline in expenditures might take place in each
of these areas. The most important of these estimates
is for autos, where we have projected unit sales of
domestic-type cars to decline to around a 6.5 million
annual rate, a cutback which is worth around $7 billion
in terms of current dollar GNP. Other consumer expen
ditures related to travel might fall as much as $8 to
$10 billion, but we think that consumers might substitute
other purchases for around three-fourths of this amount.
For gross private domestic investment, we have reduced
estimated outlays due to the oil shortage on net by
around $4 billion, mainly reflecting lower residential
construction.
We ran these estimates through our econometric
model, and also through our judgmental forecasting
procedures, to assess the secondary effects on income,
employment, and expenditures. The outcome, as shown
in the new GNP projection in the green book, is dis
quieting. Growth in real GNP over the four quarters
of 1974 averages 2 percentage points less than our
previous estimate, and there are declines projected
in the first two quarters of next year. The unemploy
ment rate is projected to increase to 6 per cent by
year end. The rate of increase in the fixed-weight
price index for private GNP, meanwhile, is raised
almost three-fourths of a percentage point, and this
index is projected to be rising at a 5.5 per cent annual
rate in the last half of next year.

12/18/73

-47-

The configuration in output and employment we
foresee for next year does not, however, have the cumu
lative cyclical characteristics of a typical business
recession. We are impressed by the underlying strength
of business demands for capital goods, which should
help to ward off the threat of a cumulative decline.
And, as time goes on, adjustments to the oil shortage
will likely reduce the severity of the impact on economic
activity. These adaptations could, we think, set the
stage for a resumption of growth in real GNP--albeit
at a subdued pace--in the second half of next year.
Our current projection could prove to be overly
pessimistic if the oil shortage turns out to be of
smaller magnitude than we have assumed, or if the pro
cess of adaptation by businesses and consumers goes on
more quickly. But there is an equally likely prospectin my judgment--that our projection understates the
economic consequences of the oil crisis. In particular,
if the allocation program does not assure adequate
industrial supplies of oil, or if economic activity
in Europe is affected more adversely than we have
supposed--threatening our export markets--or if business
capital expenditure plans are revised downward for expec
tational reasons, production and employment next year
could go much lower.
In developing this new projection, we did not
assume any major economic policy changes designed to
cushion the economic impact of the oil shortage. As
before, the narrowly defined money supply was assumed
to grow at a rate of around 5 per cent next year. For
fiscal policy, we assumed only a modest increase in expen
ditures later in 1974 reflecting the beginning of a long
range program aimed at self-sufficiency in the energy
field and the increase in unemployment benefits that
comes automatically with a rise in the level of unem
ployment. Even so, the Federal deficit as measured
in the NIA accounts is projected to increase to around
a $17 billion annual rate by the fourth quarter, largely
reflecting the curtailment of growth in receipts that
accompanies an economic slowdown.
From this base projection, we have tried to assess
the possible effects of compensatory policy actions, as
Mr. Partee will now indicate.

12/18/73

-48Mr. Partee concluded the report with the following statement:

In view of the quite unsatisfactory results of our
new GNP projection for 1974, it is reasonable to ask
what public policy can do to cushion the weakness that
we believe to be in immediate prospect. The problem
is complicated by the fact that the inflation rate
is now expected to be significantly higher, due mainly
to higher oil prices, and that supply constraints in
some areas pose the danger that a generalized bolster
ing of demand could add more to inflationary pressures
than to real output. Nevertheless, with the growth
rate in real GNP dropping to minimal levels over the
next year--probably negative in the first two quarters
and only mildly positive in the second two--and with
the unemployment rate likely to climb to as high as 6
per cent or more, the case for some ameliorative action
by the Government seems to me compelling.
Therefore, we have tried to see what the effects
might be of a moderately stimulative program, involv
ing both fiscal and monetary elements. On the fiscal
side, we have assumed that Government expenditures for
grants and transfer payments would be increased grad
ually, and would be running at an annual rate $5 billion
larger than otherwise by the fourth quarter of 1974.
Some of this spending is assumed to go for a revital
ization of the public employment program, which would
tend directly to reduce unemployment, and some would
be for programs that reduce the social costs of unem
ployment, including larger unemployment compensation
benefits and welfare payments. As for monetary policy,
we have increased the assumed rate of growth in the
narrow money stock by 1 percentage point--to 6 per
cent--which just about compensates for the faster
increase in the price level projected now as compared
with four weeks ago. Interest rates, on this assump
tion, would nevertheless decline appreciably--especially
short-term rates--since the projected growth in nominal
GNP would still be a good deal less than that expected
in the chart show presentation four weeks ago.
The results of our econometric model suggest that
the impact of these policy initiatives, over the course
of a year, could be appreciable. As compared with our

12/18/73

-49-

judgmental projection, the model shows real GNP by
the fourth quarter as being $5 billion higher, and
the unemployment rate at 5.5 per cent, one-half point
lower, than in the judgmental projection, the latter
reflecting in part the direct effect of governmental
programs in taking people off the unemployment rolls.
Looking into 1975, the effects are even more signifi
cant, as residential building and plant and equipment
expenditures are stimulated with a lag by lower interest
rates and the greater availability of credit.
Unfortunately, these policy changes would also
involve some cost. Stronger market demands and lower
unemployment would further intensify inflationary pres
sures, and the model indicates that the GNP deflator
might be around three-tenths of a percentage point
higher by mid-1975 as a result of the assumed policy
initiatives. But the trade-off as against unemploy
ment is a reasonable one, I believe, when the alterna
tive is an unemployment rate as high as 6 per cent.
Stronger actions, of course, could do proportionately
more to limit the rise in unemployment, but the result

would be to add still more to inflationary pressures
and to run the risk that demands in numerous product

markets would be in excess of the constrained supply
available. What is assumed in our alternative GNP pro
jection, then, represents a minimal program, but one
that we think would show meaningful results in dampening

the impact of the fuel shortage and in providing added
insurance against a cumulative and self-reinforcing decline.
Chairman Burns asked whether the members had any questions
they would like to direct to the staff.
Mr. Kimbrel asked what assumptions about defense expendi
tures had been made by the staff in preparing the projections.
Mr. Partee replied that in the latest projections defense
outlays were essentially the same as those presented at the
November meeting, which had been raised somewhat on the expecta
tion that inventories drawn down because of the Mid-East war

-50-

12/18/73

would be replaced.

It now seemed likely that the defense

establishment would have to reduce its consumption of fuels,
but projected expenditures for fuel would be about the same as
before because of increased fuel prices.
Mr. Mitchell commented that the assumption that the oil
crisis would persist throughout 1974 was an arbitrary one, and
he wondered about the economic consequences of a resolution of
the crisis at an early date--say, by midyear.
Chairman Burns asked what the effect might be if the
crisis ended in a month.
Mr. Gramley observed that the staff assumption of a con
tinuing crisis throughout 1974 had been made for the purpose of
providing an assessment of the magnitude of the effects of a
sustained shortage.

However, if the Arab embargo on shipments

of oil to the United States were terminated in June, the shortages'
negative effects on real GNP during 1974 would be reduced.

If

the embargo were ended in a month, markets for automobiles and
housing probably would not be nearly so weak as suggested in
the projections presented today; over all, growth in real GNP in
1974 would be only a little less than suggested in the projections
of a month ago, which did not take the oil shortage into account.

-51-

12/18/73

Mr. Mitchell remarked that he was in search of the
implications for today's policy decision of the possibility of
an early end to the embargo.
In response, Mr. Partee noted that the projections made
a month earlier--without allowance for the effects of an oil
shortage--had suggested a low rate of growth in real GNP
and a rising rate of unemployment in 1974.

That prospect had

been regarded as minimally satisfactory because of the strength
of inflationary pressures.

Announcement of an early end to the

oil embargo--with the prospect of improvement in supplies of
refined products some 6 weeks later--would have an immediate
effect in improving expectations.

In their second thoughts, how

ever, people would recognize that the energy problem had been
developing before the embargo was imposed and that oil would
remain in short supply.

They would realize that it would still

be expensive to drive large cars and that there were risks in
buying vacation and suburban homes.

Business managers contemplat

ing plant construction would still be faced with difficulties in
getting hookups of utilities and allocations of propane, which
they had been reporting even before the embargo was imposed.

Con

sequently, he would not expect economic activity to reach the higher
levels that had been projected a month earlier, before the
oil crisis was taken into account.

-52-

12/18/73

Mr. Partee added that notwithstanding a resumption of
the flow of Arab oil to the United States, the price of oil
would be much higher than had been contemplated earlier.

In

the latest projections, the higher price for oil contributed
three-fourths of a percentage point to the rate of increase in
the fixed-weight price index for private GNP by the fourth quarter
of 1974; the price index was projected to be rising then at a rate
of 5.5 per cent.

The stepped-up rate of increase in prices had

implications for the real stock of money and, therefore, for
monetary policy.
Chairman Burns commented that very difficult questions of
judgment were involved in appraising the effects of a termination
of the embargo in a month or two.

In his view--and it was only

a guess--it would have enormous and lasting effects on attitudes,
and the investment boom that was currently under way would be
greatly intensified.
Mr. Coldwell asked if there was any information to indicate
whether industry had been stockpiling significant amounts of fuels
and raw materials.

Mr. Partee replied that data were not available in suf
ficient detail to indicate what might be happening to stocks of
fuels.

However, there were frequent reports--for example, in

-53-

12/18/73

the latest red book 1 / and at the recent Conference of Chairmenthat business had been stockpiling fuels.

With respect to materials,

the available data--which measured manufacturers' inventories of
purchased materials rather than strictly raw materials--indicated only
a moderate increase over the past year.

However, the ratio of

purchased materials to shipments actually had declined over the
year.
Mr. Black noted that at this time a year ago the unusually
large refunds of income taxes in prospect for early 1973 had gen
erated a great deal of concern about their effect on consumption
expenditures, and he asked what the staff anticipated with
respect to refunds and their effects in early 1974.
Mr. Partee said the income tax refunds in early 1974 might
be about 10 per cent larger than the $22 billion of 1973.

Assessing

the effect of the refunds on consumption expenditures next year was
complicated by two factors,

First, the recurring phenomenon of

large tax refunds in the first half of the year had been reflected
in the seasonal adjustment factors for disposable personal income,
with the result that the refunds were spread through the year;
there was no longer a first-half bulge in the Commerce Department

1/ The report, "Current Economic Comment by District," prepared
for the Committee by the staff.

-54-

12/18/73

series.

Seasonal adjustment factors for consumption expenditures

also would be affected to a limited extent, so that a part of the
spending related to the refunds would be adjusted out.

Secondly,

the oil crisis made it doubtful that consumers would use the
refunds to purchase such luxury durable goods as automobiles and
boats to the extent they had in 1973.

Therefore, he expected that

the refunds would have a good deal less impact on consumption
expenditures in the first half of next year than they had in the
first half of 1973.
Mr. Brimmer asked, first, whether the moderately stimula
tive policies that the staff had appraised--involving a 6 per cent
rate of monetary growth--were sufficient to eliminate the reces
sion that otherwise was projected for early 1974, and secondly,
what the implications were for the level of short-term interest
rates.

In his view, the answers to both questions were important

elements in appraising the trade-off between the improvement in
the unemployment rate and the faster rate of increase in prices
associated with the more expansive policies.
Mr. Partee replied that even with monetary growth at a
rate of 6 per cent, rather than 5 per cent, growth in real GNP
was projected to be negative in the first half of next year
because of the lags with which

monetary policy affected economic

-55-

12/18/73

activity.

Taking both the faster rate of monetary growth and

somewhat higher Government spending into account, real GNP in
the fourth quarter of 1974 would be only about $5 billion or
six-tenths of a per cent higher than otherwise.

However, the

expansive effects of those policies would be greater in 1975.
With respect to interest rates, Mr. Partee noted that
in the staff presentation of 4 weeks earlier, the rate for 3
month Treasury bills had been projected to average about 8-1/2
per cent in 1974.

He would guess that the weaker economic situa

tion suggested by the latest projections would reduce the bill
rate to an average of about 7 per cent next year.

In those cir

cumstances, a step-up of the rate of monetary growth to 6 per
cent might gradually reduce the bill rate to about 6-1/2 per
cent in the latter part of the year.
Mr. Eastburn asked whether Mr. Partee or Chairman Burns
could assess the probabilities that Government action would be
taken to increase transfer payments and otherwise to reduce the
social costs of rising unemployment in 1974.
In response, Chairman Burns observed that the Administra
tion was developing systematic and comprehensive contingency
plans for supplementary unemployment compensation, for local
government spending in certain regions of high unemployment, and

-56-

12/18/73
for public works construction.

With a longer perspective, the

Administration was developing a massive project--along the lines
of the war-time Manhattan Project--to deal with the energy
problem.
Mr. Balles asked whether input-output tables could be
of much use in appraising the effects of the energy shortage.
Mr. Gramley replied that the staff had only recently
begun to analyze the specific effects of supply shortages and
had not made use of the input-output tables in developing its
projections.

In his judgment, the tables would help in making

some crude estimates, but they could not help in appraising the
possibilities for substitution and the effects of changes in
the geographic distribution of supply.
Mr. Morris remarked that an executive of one of the auto
mobile manufacturers had indicated that the ability of his company
to shift its product mix in favor of small cars was very limited
over the next 18 months, prior to introduction of 1976 models,
and that around the first of the year, the company would announce
massive cuts in production of the larger cars.

For the interim,

the company was concentrating on improving the efficiency of its
engines.

In the view of that executive, termination of the Arab

embargo at an early date could improve the situation, provided

-57-

12/18/73

that consumers were then willing to continue to buy the larger
automobiles.

However, he conveyed a lack of conviction that the

change in consumer tastes in automobiles was only a temporary one.
Mr. Sheehan remarked that another executive of an auto
mobile company had told him essentially the same thing.
Chairman Burns commented that still another executive
in the automobile industry had described the reconversion problem
to him in a different way.

In the circumstances, he thought it

would be useful for the staff to investigate the industry's
potential to alter its product mix within the next few months.
Mr. MacLaury noted that Mr. Bryant had concluded his
report by suggesting that the United States needed to exert
leadership with respect to international economic developments
and that it needed to follow the right domestic policies.

He

asked Mr. Bryant to comment further on those issues.
Mr. Bryant said the staff was in the process of apprais
ing the appropriateness of the economic policies being followed
in major foreign countries, and did not yet have an assessment
they held with confidence.

Nonetheless, at present he and other

members of the staff were concerned that the policies being followed
by some countries were too restrictive and that recessionary pres
sures might build up around the world.

Because of this uncertain

outlook for the world economy, it was especially important at
this time for international as well as for domestic reasons,

-58-

12/18/73

that the United States pursue policies that were not too restric
tive.

With respect to international leadership and cooperation,

he noted that the Secretary of State had already proposed an initia

tive concerning the energy problem.

Exchange market intervention,

which Mr. Coombs had discussed, was another important area for
international cooperation.

No useful purpose would be served by

exchange rate and intervention policies which resulted in a general
devaluation of the industrial countries against the oil-producing
countries.

Mr. MacLaury observed that he was in general agreement
with Mr. Partee's presentation on the domestic situation, but

he would have expected the oil problem to cause a larger increase
in the rate of rise in the GNP deflator.

He asked about the

assumptions the staff had made in projecting prices.
Mr. Gramley replied that the projections reflected an
assumption that the rationing of scarce gasoline would be
accomplished in large part by nonprice means.

To perform a

market clearing role, the rise in gasoline prices would have
to be much more than the 30 per cent increase from the fourth

quarter of 1973 to the fourth quarter of 1974 assumed for the
projections.

In effect, therefore, the reduction in demands

for such things as recreational vehicles and suburban housing

12/18/73

-59-

resulted much more from demand complementarities than from the
negative effects of rising prices on real income.
Mr. Partee added that the limited growth in real GNP
projected for 1974 slowed the advance in productivity and
stepped up the rise in unit labor costs.

In the projections,

much of the increase in unit labor costs was reflected in a
reduction in profit margins, rather than in higher prices, but
there was the further question of the size of wage advances that
would be demanded at a time when prices of gasoline and of home
heating oil were rising substantially.

It seemed possible that

the staff's assumptions with respect to wage increases might have
given too much weight to the influence of the weakening in economic
activity and in the demand for labor and not enough weight to the
impact of sharply rising consumer prices.
Mr. Winn remarked that according to businessmen with whom
he had talked, prices for a great many things other than petro
leum products, especially nondurable goods, were already being
raised substantially. With respect to the ramifications of a
weakening in demands, he noted that a sizable decline in auto
mobile sales and production usually led a decrease in production
of steel and some other important materials.

In the current

-60-

12/18/73

situation, however, the steel and other materials made available
by the decline in auto output would be readily absorbed because
of an upsurge in demands for various kinds of capital equipment.
Mr. Partee commented that the staff had assumed that
wages and prices would be decontrolled gradually and that a
surge in prices would be avoided, but the projected rise in
the deflator next year was substantial.

With respect to the

improvement in the availability of steel and other materials
growing out of the reduction in demands for automobiles, there
was a question of whether producers could obtain the required
amounts of fuels.
Mr. Winn said it had been reported at the last meeting
of the directors at the Cleveland Bank that some technological
break-throughs had been made to permit electric cars to go at
90 miles an hour for a distance of 500 miles.

The thought was

advanced that the battery could be exchanged at a service station
in much the same way as the gas tank now was refilled.

However,

production of such cars probably was still several years in
the future.
Before this meeting there had been distributed to the
members of the Committee a report from the Manager of System

12/18/73
Open Market Account covering domestic open market operations
for the period November 20 through December 12, 1973, and a
supplemental report covering the period December 13 through 17,
1973.

Copies of both reports have been placed in the files of

the Committee.
In supplementation of the written reports, Mr. Holmes
made the following statement:
Concern about the energy crisis and its implica
tions for the economy and speculation over the course
of monetary policy tended to dominate financial markets
over the period since the Committee last met. Interest
rates fluctuated considerably over the period. Early
in the period rates, particularly on Treasury bills,
tended to move lower as strong market sentiment antici
pated an easing in monetary policy. As the period wore
on, the rally lost steam as dealer financing costs
remained high. Chairman Burns' statement on December 5,
indicating that monetary policy would be of limited use
fulness in the energy crisis, led to a further back-up
in rates. The back-up was short-lived, however, and
the reduction of marginal reserve requirements on
large CD's was generally viewed as a market easing
action. The rally that ensued continued through yes
terday as market participants have been focusing closely
on open market operations, exhibiting a fervent desire
to read signs of easing in our every move. In yester
day's regular Treasury bill auction average rates of
7.37 and 7.16 per cent were established for 3- and 6
month bills, down 33 and 64 basis points from the rates
established just prior to the last meeting.
The Treasury, as you know, raised $3 billion in
cash through the sale of tax-anticipation bills in an

12/18/73

-62-

auction that attracted good market interest.

The

expiration on November 30 of the temporary debt
ceiling of $465 billion necessitated some fast foot

work by the Treasury, including the delivery of the
tax bills to the Exchange Stabilization Fund on
November 30 before the debt ceiling dropped to its
permanent level of $400 billion. The ESF then
delivered the bills to the auction winners on the
normal delivery day--December 3--and all went smoothly.
The temporary postponement of the regular Treasury bill
auction on December 3 caused some confusion, but with
passage on that day of a clean bill extending the $465
billion debt ceiling the confusion was short-lived.
System open market operations over the period
aimed at a reserve supply that would meet the Committee's
2-month target ranges for M1 and M 2 . Strong growth in
the two measures--despite another shortfall in RPD'skept the funds rate in the upper end of the 9 to 10-1/2
per cent range adopted by the Committee. Had the Com
mittee not instructed the Desk on November 30 to stay
around 10-1/4 per cent, the full extent of the funds
rate range would have been used. Reserve projections
were particularly uncertain over the period, and there
was some tendency for the funds rate to fall off toward
the end of several of the statement weeks in the period.
All in all, the rate averaged about 10-1/8 per cent,
although there were substantial day-to-day fluctuations.
Over the entire period there was a substantial
volume of orders to buy and sell securities from foreign
accounts, part of which fell in rather well with the
System's need to supply or withdraw reserves. Gross
bill transactions with foreign central banks amounted
to nearly $800 million, with System purchases outweigh
ing sales by only $38 million. The System also acquired
$200-odd million of coupon and agency securities from
a foreign official account which is continuing to move
to a more liquid position because of continuing exchange
losses.
The current statement week has been something of
a problem. While all the reserve projections before
the weekend indicated a substantial reserve need, this
was not reflected in the money market where the funds
rate tended towards the easy side. It was quite apparent

-63-

12/18/73

that many large banks, convinced that the System was
easing, were postponing covering their reserve needs
in the expectation that they would be bailed out by
System operations. Given the sensitivity of market
expectations, we were quite reluctant to make a sub
stantial overt entry into the market to supply reserves
while the Federal funds rate was at the 10'per cent
level. We were able to supply some reserves by pur
chases from foreign accounts, but a large reserve
deficit did accumulate over the weekend. Yesterday,
the reserve shortage showed through in the money market
and the Desk made a large injection of reserves, includ
ing outright purchases of about $670 million Treasury
bills and $1.2 billion of 3-day RP's. Also, we learned
this morning that reserves were about $700 million
higher than expected, probably as a result of float.
There may be more to do this statement week, but cur
rent projections--which are subject to rapid changeindicate little need for much Desk activity over the
balance of the year.
Mr. Holmes added that the Government securities market
would be virtually closed on Monday, December 24.

However, in

light of the anticipated churning that was customary around year
end, the Account Management had asked that the market remain open
on Monday, December 31.
Mr. Holland noted that one factor contributing to the
rise in M

in November had been a build-up of foreign central

bank balances at the Federal Reserve.

He asked about the current

status of those balances.
Mr. Holmes replied that the balances had now been reduced
to normal levels.

-64-

12/18/73

In response to a question by Mr. Daane, Mr. Axilrod said
that the temporary increase in official account balances at the
Federal Reserve had added about one percentage point to the
November growth rate in M 1.

There also had been some temporary

build-up in foreign official balances at commercial banks.
By unanimous vote, the open market
transactions in Government securities,
agency obligations, and bankers' accept
ances during the period November 20
through December 17, 1973 were approved,
ratified, and confirmed.
Mr. Axilrod made the following statement on prospective
financial relationships:
As compared with specifications presented by the

staff at the last Committee meeting, the al trnatives
presented for Committee consideration today 1/generally
indicate lower interest rates for any desired rate of
growth in monetary aggregates. This reflects the sub
stantial downward revision in staff projections of
growth in nominal GNP to allow for the impact of the
oil shortage.
Recently,market expectations have led to some
decline in short-term market rates following the
Board's announcement of a reduction in the marginal
reserve requirements on large CD's and related bank
liabilities. In particular, U.S. Government securities
dealers have been building up positions in both short
and long-term securities.
Thus, market rates appear poised either to back
up if the money market remains tight, or to decline
further, perhaps considerably further, if the money
1/ The alternative draft directives submitted by the staff for
Committee consideration are appended to this memorandum as Attachment A.

12/18/73

-65-

market clearly begins to ease. Monetary policy always
has to contend with expectations, and I do not see at
this time that there is anything to be gained by per
mitting policy to be significantly influenced by market
attitudes toward interest rates.
If the Committee were to permit the money market
to ease, for example, any ensuing decline in market
interest rates could, in practical terms, only be of
some help to the mortgage market by ensuring continued
good inflows to thrift institutions in early 1974, when
fairly large amounts of certificates will be maturing.
With fears of recession fairly widespread, I would
doubt that declining interest rates in the near-term
would significantly worsen inflationary expectations,
since most of the public is already convinced that the
energy shortage itself will do that.
In considering its policy toward money market
rates, the Committee may, however, wish to take account
of possible shifts in the public's attitude toward
liquidity. There may have been some shift in demand
for liquidity, including cash, in the fourth quarter,
reflecting economic and financial uncertainties here
and abroad. The alternative B path offsets that fairly
promptly by targeting only a 4 per cent growth rate for
M in the first quarter. The Committee may wish to con
sider whether it would be desirable to tolerate a some
what higher growth rate on the grounds that the increased
demands for cash of the fourth quarter do not reflect
cash that is likely to be spent over the next few months.
In part the money provided in the fourth quarter
may represent funds that will later be invested in other
financial assets, and in part, it may reflect at least
the first signs of a longer-term shift in cash demands.
The larger increase in prices for the first half of 1974
now forecast would argue that there will be an increase
in the public's demand for cash merely in an effort to
keep the real value of cash balances from falling. With
the private fixed-weight GNP price index rising at
about a 6-1/2 per cent annual rate from the fourth
quarter of 1973 to the second quarter of 1974, money
growth in real terms would be declining under alterna
tive B, and it also would decline slightly even under
alternative A.

12/18/73

-66-

If there is any conflict between the Committee's
objectives for the monetary aggregates and interest
rates, these various considerations would tend to
argue for resolving doubts in favor of permitting
somewhat greater growth in the aggregates, at least
over the near term, while the economy is adapting
to the energy shortage.
Mr. Balles noted that the three alternatives for the
operational paragraph of the directive distributed late yester
day called, respectively, for "more," "somewhat more," and
"slightly less" growth in the monetary aggregates over the months
ahead "than is currently estimated for the second half of 1973."
In the notes attached to the drafts, the estimated second-half
growth rates for M1, M 2 , and the credit proxy were indicated to
be 3.5, 7.7, and 5.8 per cent, respectively.

Those figures

appeared to be based on comparisons of estimated levels for
December with the levels recorded for June.

As he had indicated

at other recent meetings, he preferred to consider such growth
rates in terms of quarterly-average levels, and he wondered
whether figures for the estimated growth rates over the second
half of the year had been calculated on that basis.
Mr. Axilrod replied that the figures in question would be
made available later in the meeting.
Mr. Morris noted that the blue book 1 / contained a chart
captioned "Money supply and longer-run target path" in which the
1/ The report, "Monetary Aggregates and Money Market Conditions,"
prepared for the Committee by the Board's staff.

-67-

12/18/73

preliminary revised series for M 1 from April 1973 through the
level estimated for December was plotted in the form of a solid
line.

The chart also included an upward-sloping dashed line

labeled "5 per cent growth" that started with the level of M 1 in
September 1973 and extended through June 1974.

He asked Mr. Axilrod

to explain the significance of the dashed line.
In reply, Mr. Axilrod observed that the GNP projections
presented in the chart show at the November meeting, as well as
those given in the current green book and discussed by Mr. Gramley
today, were based on an assumption of growth in M

at a 5 per cent

annual rate, starting from the September 1973 level of the pre
liminary revised money supply series.

Moreover, the specifica

tions adopted by the Committee at the November meeting included
a target growth rate for M

of 5 per cent over the fourth and

first quarters combined--that is, from September 1973 through
March 1974.

The dashed line labeled "5 per cent growth" in the

blue book chart was identical to one shown in a chart in the
previous blue book, except that it had been extended from the
previous terminal date of March 1974 through June--in accordance
with the expectation that the Committee would formulate its longer
run targets today in terms of growth rates over the first and
second quarters of 1974.

The level of the dashed line shown for

-68-

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June 1974 was consistent with the M
1

growth rate for the first

half of 1974 shown under alternative B in the current blue book.
That growth rate was below 5 per cent--specifically, it was 4-1/2
per cent--because current estimates indicated that in December 1973
the level of M
1

would be about $1 billion above the 5 per cent growth

path measured from September.
Mr. Hayes asked whether the September 1973 level of the
preliminary revised money supply series was not substantially
above that of the currently published unrevised series.
Mr. Axilrod replied that the September level of M1 would
indeed be revised upward, by about $2-1/2 billion according to

the latest estimates.

Such an upward revision had, of course,

been allowed for in the GNP projections presented at the November
meeting.
Mr. Mitchell asked whether it would not be better to use
a period longer than a single month as a base for measuring
longer-run growth paths.

September 1973 in particular appeared

to be an artificial starting point, since the series dipped tem
porarily in that month.
In reply, Mr. Partee said he agreed that it would be
undesirable to use an unusual month as the base.

He might note,

however, that the September level of M1 was not as unusual as

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the dip shown in the chart might suggest.

As the Committee would

recall, during the second and third quarters of 1973 the money
supply had first overshot and then undershot the Committee's
earlier target paths based on the unrevised series, and in
September it was quite close to the path level.
Chairman Burns noted that, while charts such as the one
under discussion had been included in the blue books for the past
6 months or so, the Committee had never agreed to adopt such
charts as a guide to policy; it had explicitly formulated its
longer-run targets for the aggregates in terms of growth rates
over 6-month periods.

Any member was, of course, free to inter

pret such charts as he chose, but they would not constitute policy
guides until the Committee deliberately decided that they should
serve that function.
Mr. Bucher referred to Mr. Axilrod's suggestion, at the
conclusion of his earlier statement, that in the event of con
flicts between objectives for the aggregates and interest rates,
the Committee might want to resolve doubts in favor of permitting
somewhat greater growth in the aggregates over the near term.

He

asked whether that suggestion was reflected in the specifications
under any of the alternatives shown in the blue book.

-70-

12/18/73

In reply, Mr. Axilrod said the blue book specifications
did not include any allowance for the possibility that the public
might decide to increase its cash holdings temporarily because of
uncertainty, say, about the course the Government would follow in
dealing with the energy crisis.
In response to a further question by Mr. Bucher, Mr. Axilrod
said that, if the Committee decided to make such allowance, it
might add at least one percentage point to the upper limits of the
ranges shown in the blue book for growth rates in the aggregates
over the December-January period.
Chairman Burns then noted that the Committee would be
recessing for luncheon shortly.

Following the recess, the members

might express their views on the economic outlook and on the
appropriate course for monetary policy at this juncture, includ
ing any views they might have on policy instruments that lay
within the province of the Board of Governors rather than the
Committee.

All of the members, including himself, had been think

ing hard about the task of monetary policy in the present difficult
and unusual period, and he might indicate the nature of his own
thinking in the brief period remaining before luncheon.
Whether or not they accepted the staff's prognosis,
the Chairman continued, most of the members would probably

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agree that the economic outlook for the new year was less bright
than it had been 2 months ago, and that a recession in 1974 now
had to be considered a distinct possibility--perhaps even a prob
In a classical business recession, the task of monetary

ability.

policy had in recent decades been quite clear; that task was to
carry out a major easing of credit conditions in order to lay
the foundation, to the extent that was possible through monetary
policy, for a business recovery.

However, the recession that

might develop next year would differ from a classical recession
in several major respects.

First, such a recession would occur

at a time when the price level would probably be rising sharply,
Secondly, such a reces

rather than remaining stable or declining.

sion would occur at a time when the nation's capacity to produce
would probably be declining, or at best rising at an abnormally
low rate.

Third, it would occur at a time when many types of

economic activity in many localities would probably be booming.
In view of those three peculiarities of any 1974 business
recession, Chairman Burns observed, the task of monetary policy
could not be the same as in a classical recession.

The continu

ance of sharp inflation clearly required caution and some restraint
in carrying out a policy of monetary easing.

The need for caution

and restraint also was indicated by the energy shortage; at such

-72-

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a time monetary policy might indeed be able to stimulate--or
restimulate--aggregate demand, but it was doubtful whether it
could do much to overcome the short-run limitation on the nation's
capacity to produce.

Finally, a need for caution in carrying

out a policy of monetary easing was indicated by the sharp diver
gence that was likely to occur in the fortunes of individual
communities across the nation.

That type of recession, in his

judgment, could be handled much better by a policy of localized
governmental spending than by a policy of over-all monetary easing.
Accordingly, the Chairman remarked, it was highly important
for the Committee to bear in mind the need for caution.

Neverthe

less, he would still argue that monetary policy could be a mar
ginally constructive force in an energy-induced recession.

A

decline in output because of restrictions on the capacity to

produce would surely

lead, after some time had elapsed, to a

reduction in aggregate demand.

True, monetary and fiscal policy

might be unable at such a time to do much to expand output by
restimulating aggregate demand.

Monetary and fiscal policy could,

however, seek to limit the decline in aggregate demand, so that
it did not fall significantly below the nation's capacity to
produce.

To put the same thought in another way, at a time of

energy shortage, monetary policy--instead of aiming to bring a

-73-

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recession to an end--should merely aim to keep the recession
from becoming deeper than the restricted capacity to produce in
itself required.
On balance, the Chairman concluded, he believed that
some easing of monetary policy was indicated today, but that it
should take the form of a modest and cautious step.

He was aware

of the possibility that the oil embargo might not last more than
another few weeks.
another year.

On the other hand, the embargo might last

He would leave for the members to evaluate as

they saw fit the suggestion that they consider some slight easing
as the next policy move.

Thereupon the meeting recessed for luncheon.

It recon

vened at 2:30 p.m., with the same attendance as at the morning
session.
Mr. Mayo observed that he agreed with the views expressed
by the Chairman before the luncheon recess.

In particular, he

concurred in the points that monetary policy could play only a
marginal role in an energy-induced recession, but that it should
nevertheless not remain rigid because of the expected continuation
of sharp inflation.

He commended the Board of Governors for

the recent reduction in marginal reserve requirements on large
denomination CD's; that was a step in the right direction, and it

-74-

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would prove helpful to the Committee in implementing the kind of
change in open market policy which he favored--namely, a slight
shift toward ease.

He would not want to go further than that,

in view of the declines in short-term market rates that had
already occurred and the further declines in rates which he,
along with the authors of the blue book, would expect to be
associated with some reduction in the Federal funds rate.
On the whole, Mr. Mayo continued, he thought the specifi
cations of alternative B were consistent with the policy course
he favored.

He would, however, widen the ranges for growth rates

in the aggregates for the December-January period from 2 to 3
percentage points, primarily because of the great uncertainty
with regard to linkages in the present unusual period.

Specifi

cally, in place of the ranges of 8-1/4 to 10-1/4 per cent for RPD's,
3 to 5 per cent for M1 , and 5 to 7 per cent for M 2 , he would favor
ranges of 8 to 11, 2-1/2 to 5-1/2, and 4-1/2 to 7-1/2 per cent,
respectively, for those aggregates.

A corresponding widening

of the range for the Federal funds rate did not seem to be required,
and he considered the range shown under B in the blue book--9 to
10-1/4 per cent--to be satisfactory.

He would not be disturbed

by a quarter-point reduction in the lower limit, to 8-3/4 per cent,
but he would not want to go further than that.

-75-

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Mr. Hayes observed that it was especially difficult to
assess whether fears of shortages and supply-induced cutbacks in
real output would result in a significant downward shift in business

and consumer sentiment and spending plans.

Apart from consumer

demand for automobiles, there seemed to be little indication of
such a shift to date.

The latest red book, for example, did not

indicate a significant change in business capital spending plans.
Mr. Hayes said his views on the impact of the energy
shortage on real output and unemployment were reasonably close
to those set forth by the staff this morning.
more pessimistic on the price outlook.

However, he was

Even with some formal or

informal system of gasoline rationing, it was difficult to see
how an energy price "explosion" could be avoided over the coming
months.

Indeed, the latest wholesale price figures indicated

that an explosive rise in energy prices was already under way.
As was true when the Committee met a month ago, Mr. Hayes
continued, a cautious approach to policy formulation seemed highly
appropriate today.
could

While there was not much that monetary policy

do to relieve the economic problems arising from the oil

shortage, an unwise policy could exacerbate the problems.

The

rate of inflation, actual and prospective, had been sharply
increased, and inflation remained the number one economic problem.

-76-

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While a cumulative downswing in aggregate demand was one possible
result of the fuel situation, there was as yet no evidence that

it was taking place.
Thus, Mr. Hayes remarked, he continued to believe that the
present posture of restraint should be maintained, although the
System should, of course, be alert to any clear sign of real weak
ness in the economy and should be prepared to move vigorously toward
ease if such weakness became evident.
Continuing, Mr. Hayes noted that credit demands had been
swinging back to the banks from the commercial paper market in
recent weeks.
strengthen.

Also, demands on the capital market had tended to
Incidentally, to the extent that interest rates

included some reflection of current and prospective rates of
inflation, any given nominal interest rate today embodied a lower
real rate than it would have a few months ago.

The behavior of

the aggregates this year gave some cause for concern, with M 1
likely to show nearly 6-1/2 per cent growth on a revised basis
for the last three quarters of the year, following the Committee's
decision in March to set a 5-1/4 per cent longer-run target.

He

would deemphasize the shorter-run growth of the aggregates as a
criterion for policy and would aim at a longer-run M

not more than 5 per cent.

target of

The rapid increase in income velocity

-77-

12/18/73

of M1 over the last four quarters pointed up the risks in looking
only at the growth rates of the aggregates while making no allow
ance for velocity changes.

A reasonably steady Federal funds

rate close to the recent level would seem to be the best current
guide for the Manager, with a funds range of perhaps 9-1/2 to
10-1/2 per cent.
Mr. Hayes suggested the addition of a sentence in the
first paragraph of the draft directive to provide a little better
balance to the discussion of the energy crisis, pointing out that
the crisis would undoubtedly bring sharper price rises.

He liked

the B specifications except that, as he had indicated, he would
change the range for the funds rate to 9-1/2 to 10-1/2 per cent,
and he would revert to the original draft language of alternative
B as set forth in the blue book, which called for "somewhat slower
growth in monetary aggregates over the months ahead than has
occurred so far this year."
the discount rate.

He could see no reason to change

A good case could be made for lowering margin

requirements in the light of the stock market's acute weakness,
but some delay might be desirable to avoid adding to whatever
impression of general credit easing might have been created by
the recent reduction of marginal reserve requirements on large CD's.

-78-

12/18/73

Mr. Eastburn said he thought the Chairman's statement
was excellent.

He agreed particularly with two points, of which

the first was that selective approaches were required in specific
areas.
sionary

Selectivity was needed in dealing not only with reces
tendencies but also with inflationary developments, and

in that connection he hoped that any proposals to remove existing
controls on prices and wages would be considered carefully.

Secondly,

he concurred in the view that any move toward ease in monetary
policy should be moderate, partly because of the many prevailing
uncertainties.

One great uncertainty related to the degree of

substitution that would take place in the spending patterns of
consumers and businesses in reaction to the energy problem, and
he hoped the staff would keep a close watch on developments in
that area.

Another reason for moderation in moving toward ease

was the recent high rate of monetary growth.

He would like to see

the Committee act at an opportune time to reduce the growth rate
to a more reasonable level.
Against that background, Mr. Eastburn continued, he
favored the language of alternative A for the operational para
graph of the directive and specifications intermediate to those
of alternatives A and B. For M1, he would prefer a target growth
rate for the first and second quarters combined in the neighborhood

-79-

12/18/73

of 5-1/4 per cent and a range of tolerance for the December
January period of 3 to 5-1/4 per cent.

Whatever range for the

Federal funds rate was believed to be consistent with those
growth rates would be acceptable to him.
Mr. MacLaury remarked that he also would subscribe to
the views the Chairman had expressed.

The key question facing

the Committee, in his judgment, was how a "modest and cautious"
shift in policy should be interpreted.

He believed that there

had been a fundamental change in the economic outlook, and that
the change would probably persist whether or not the oil embargo
was relaxed.

Some observers viewed the change primarily in

terms of constraints on supply, about which monetary policy could
do very little.

While it was, admittedly, a question of emphasis,

he would be inclined to put as much emphasis on the potential
slackening of demand as the staff had in its presentation this
morning.

He anticipated major sectoral dislocations, great

uncertainty, and a sharp reduction in consumer demands.

While

he expected more inflation than the staff did, much of the increase
would be a one-time adjustment to higher-cost energy.

He recog

nized the risk of cost-push inflationary forces developing as a
result of demands for higher wages to compensate for the result
ing rise in living costs; nevertheless, he thought that monetary

-80-

12/18/73

policy should not do very much about a one-time price adjustment,
and that it probably could not do very much about cost-push
inflation.
If it were agreed that there had been a fundamental
change in the economic outlook, Mr. MacLaury continued, it
certainly would be appropriate for the Committee to reconsider
its longer-term target path for monetary growth.

Although, as

the Chairman had indicated, paths such as that depicted by the
"5 per cent growth" line in the blue book chart had no official
status, he found them to be a very helpful device in policy
deliberations.

As a procedural matter, he would prefer to have

such paths formulated in terms of M 2 rather than M1, and like
Mr. Mitchell he would want the possibility to be carefully con
sidered of basing such paths on a period longer than one month.
Setting such questions aside for the time being, he believed
the change in the economic outlook called for a longer-run growth
path for M

in the range of 5-1/2 to 6 per cent rather than one

in the range of 4-1/2 to 5 per cent.

He favored

the specifica

tions of alternative A, on the ground that they were consistent
with the objective of reaching the steeper growth path in time.
The only change he would favor in the alternative A specifica
tions would be to increase the lower limit of the range for the

-81-

12/18/73

funds rate by a quarter of a percentage point, which would
yield a range of 8-1/2 to 10 per cent.
In concluding, Mr. MacLaury said it was his impres
sion that the Committee had been concerned last winter about
possible reactions in the Congress if interest rates had been
allowed to rise rapidly at that time.

It seemed to him that

there would be even greater grounds for concern about reactions
if the Committee should fail to evidence in some way its recogni
tion of the change in the economic outlook.

The directors of

the Minneapolis Reserve Bank did not believe that discount rate
action would be appropriate at this time, but they did feel that
--to use the words of Chairman Burns--a modest and cautious eas
ing of monetary policy would be desirable.
Mr. Kimbrel said he also agreed with the Chairman's state
ment of the reasons for cautious easing.

In meetings with groups

of businessmen in various parts of the Sixth District he had
found relatively little concern about the energy problem as
recently as 3 weeks ago.

Last week, however, he found con

siderably more pessimism, relating particularly to concern about
accelerating inflation.

He was beginning to wonder if many

businessmen were not reacting to shortages and slower deliveries
in a way that would tend to validate their own forecasts; they

-82-

12/18/73

appeared to be willing to pay almost any price for goods in
short supply, and they were placing orders for far more merchandise
Many were now

than they could use if deliveries were made.

prepared to hold inventories on a scale that would have been
completely unacceptable to them a short time ago; one fast food
chain, for example, had accumulated a 12-month supply of frozen
fish and a 6-month supply of potatoes.

The shortages they complained

of were of materials and labor, not money.

Even in the construction

industry there was greater concern about the availability of
plumbing fixtures than about the availability of funds.
Since such behavior was, of course, influenced by
inflationary expectations, Mr. Kimbrel continued, he would very
much regret any monetary policy actions that suggested an
attempt by the System to stimulate demand.

That would be

particularly unfortunate at the moment because, at least in
the Sixth District, demand still appeared to be adequate.
Judging from the review of developments in the blue book, in
cluding the report that M1 had grown at an 11 per cent rate in
November and was estimated to be growing at a 6-1/2 per cent rate
over November and December together, it seemed to him that recent
monetary policy had not been restrictive.

Accordingly, he saw

no reason for the Committee to revise its longer-run targets
for the aggregates.

At the same time, he would not want to see the

-83-

12/18/73

Federal funds rate rise.

He would favor concentrating on keeping

money market rates from advancing, even at the risk of some un
desired expansion of the aggregates.

For the near term, at

least, he thought the specifications and the language of alter
native B were appropriate.
Mr. Black observed that his own views had been expressed
very well by Chairman Burns.

He subscribed not only to the

Chairman's comments but also to those of a number of other
speakers today.

In his judgment, the safest policy course now

would be to hold rather closely to the longer-run target growth
rate for M1 of 5 per cent.

If the expected slowdown in activity

that now appeared to be almost inevitable did develop, the trans
actions demand for money would decline, so that maintenance of
monetary growth at the target rate would automatically involve
an easing of money market conditions.

At the same time, adherence

to the target growth rate would provide some insurance against
premature easing, in the event that activity was better sustained
by substitutions than seemed likely at the moment.
Mr. Black remarked that he favored the directive language
of alternative B.
little

However, he would shade the specifications a

towards those of alternative A, largely because he saw

no great advantage in trying to compensate for the fourth-quarter

-84-

12/18/73

overshoot in the aggregates, to which special factors had con
tributed.

Specifically, he would set the 6-month targets for

M1 and M2, respectively, at 5 and 7-1/2 per cent, and the
December-January ranges of tolerance for those aggregates at 3

to 6 and 5 to 8 per cent.
Mr. Balles said he wanted to associate himself not only

with Chairman Burns' remarks of this morning but also with the
Chairman's recent statement to a Congressional committee to the
effect that the country at present was suffering from a shortage
of oil, not money.

He concurred in the view that fiscal rather

than monetary tools would have to be the main means of coping
with the pending economic problems and that the contribution of
monetary policy would necessarily be limited.

On the one hand,

it was vital that monetary policy not exacerbate rising inflationary
pressures by adding excessively to aggregate demand.

On the

other hand, it seemed clear to him that monetary policy should
not be tightened in an effort to offset the price increases

that stemmed from supply shortages, of which oil was the most
spectacular instance.

He concluded that, however painful it

might sound, the System had no choice but to validate price
increases that stemmed from supply shortages, because a failure
to do so would probably result in unacceptable declines in
production, income, and employment.

-85-

12/18/73

In his view, Mr. Balles continued, some moderate increase
in the growth rate of money from that recently experienced was
necessary, in order to avoid a shrinkage in the real money supply.
In response to his earlier request, Mr. Axilrod had given him
figures indicating the annual rate of growth for the second half
of 1973, calculated

by relating the estimated average level in

the fourth quarter to the level in the second quarter.

On that

basis, M 1 and M 2 grew over the second half at annual rates of 5.1
and 8.6 per cent, respectively, compared with the rates of 3.5
and 7.7 per cent calculated by relating the estimated December
level to that of June.

He favored the language of alternative

B, which called for "somewhat more growth" in the aggregates
than currently estimated for the second half of 1973.

On the

basis of quarterly-average calculations, however, that statement
would be consistent with the growth paths for the first half
of 1974 associated with alternative A rather than with those of
B.

Accordingly, he was inclined toward the specifications of

alternative A for the aggregates, both the longer-run targets
and the 2-month ranges of tolerance.

As to the range for the

Federal funds rate, however, he thought the lower limit shown
under A--8-1/4 per cent--was lower than necessary.

-86-

12/18/73

Mr. Holland said it now appeared that economic activity

in the year ahead would be subject to a little more disruption
in supply, a little more shrinkage in demand, and a little more
cost-push pressure on prices than he, at least, had considered
likely a month ago.

In his opinion, the likely recession in

economic activity was sufficiently large to call for some
monetary adaptation, and the likely post-embargo snap-back would
not be so abrupt as to render any monetary easing during this
interval ill-advised.

He would, however, want to move cautiously,

because of the uncertainties in the present situation and the
possibility of a snap-back.
In his view, Mr. Holland continued, moderate growth in
the monetary aggregates, together with gently declining interest
rates, would be a useful prescription for policy at this point.
He would be inclined to place greater stress on the desirability
of achieving more ample growth in M2 and M3 than in M1, because
the former aggregates were more closely related to the areas
of economic activity on which a little monetary easing was
likely to have a salutary effect.

As to the 6-month target for

M1, he favored the 4-1/2 per cent figure of alternative B, which
was consistent with the longer-run growth path adopted by the
Committee at its previous meeting. While he was not persuaded

-87-

12/18/73

that that path would remain proper for long, one of the virtues
of retaining it at this juncture was that it would mean a some
what more ample supply of money relative to the level of activity
if as the staff projected, nominal GNP grew less in coming quarters
than had been anticipated earlier.
Mr. Holland observed that he was prepared to apply a touch
of easing now--to take what amounted to a beginning step in that
direction.

With respect to directive language, he had planned

to express a preference for alternative B until Mr. Balles
had commented on the rates of growth in the monetary aggregates
calculated on a quarterly-average basis.

He was now inclined to

believe that the safest, if not the most imaginative, course would
be to call for "moderate growth in monetary aggregates," as the
Committee had often done in the past.

As to short-run specifica

tions, he would favor those of alternative B with the upper limits
of the December-January ranges of tolerance for the aggregates
raised by one percentage point, so that the Desk would not be
obliged to tighten conditions if the rate of decay of some of
the recent temporary bulges should prove to be a little slower
than expected.

In particular, for M1 and M 2 he would favor 2

month ranges of 3 to 6 and 5 to 8 per cent, respectively.

He

would also counsel the Manager to discount any changes in RPD

-88-

12/18/73

growth that were attributable to a larger-than-expected expansion
in CD's because such a development, in his view, would be of
secondary importance.
Finally, Mr. Holland observed, he would, like to achieve
the modest easing he advocated by instructing the Manager to take
the initiative in starting to move the Federal funds rate down
within the alternative B range, so long as the growth rates in
the aggregates were not crowding the upper limits of the widened
ranges specified for them. A shading down of the funds rate from
10-1/4 to about 9-3/4 per cent by the time of the Committee's next
meeting would seem about right to him in the current environment.
There was a possibility, although probably not a strong one, that
such a course might set off another rally in the securities market
of the kind that developed in response to the System's easing
actions following the September meeting.

In that event, he would

be agreeable to halting the move toward ease.

He would not want

to lose the sense that some easing had occurred, however, and
accordingly would not want the Desk to move vigorously against
any rally that might develop.
Mr. Coldwell remarked that the oil shortage was having a
favorable effect on all activities in the Eleventh District
associated with oil.

Well drilling, especially in West Texas,

-89-

12/18/73

was being limited only by the availability of drilling rigs
and crews, abandoned wells were being uncapped, and refineries
were operating at full capacity.

There was a shortage of

labor in the District that was becoming quite troublesome;
the unemployment rate had fallen to the neighborhood of 2 per
cent in most of the major cities, and even along the Mexican
border, where the unemployment rate typically was in the 10 to
12 per cent range, it had fallen to the neighborhood of 5 or 6

per cent.
Nationally, Mr. Coldwell continued, there were great
uncertainties with respect to the impact of the oil shortage.
One certainty, however, was that prices would rise further.

He

thought it was likely that the stimulus to price advances would
proliferate beyond the oil-related areas.

That, at least, was

suggested by a brief survey of 200 Texas companies recently
made by the Dallas Reserve Bank.

The survey indicated that stock

piling, not only of oil but of almost all raw materials used in
production, was proceeding on a massive scale.

As far as monetary policy was concerned, Mr. Coldwell
observed, he was reluctant to move very far very fast in light
of the many prevailing uncertainties and in light of the certainty
that prices would be under upward pressure.

In considering the

-90-

12/18/73

short-run specifications shown in the blue book under the various
alternatives, he had been struck by the small spread of the 2
month ranges of tolerance for the aggregates; indeed, one could
almost make a case for specifying ranges that extended from the
lower limits shown under alternative C to the upper limits shown
under A.

If he were to choose among the alternatives, however,

he would favor the specifications of alternative B with a wider band.
Like Mr. Holland, he would prefer a directive that called for "moderate
growth in monetary aggregates," primarily because he was concerned
about the risk of fostering the view in financial markets that the
Federal Reserve was opening the monetary spigot wide in reaction
to the energy crisis.

Some feeling to that effect was already

discernible, not only in the markets but also among Reserve
Bank directors.
Chairman Burns commented that it would be helpful at
this point to have the policy recommendation of the Committee's
Senior Economist.
Mr. Partee said he thought it would be desirable at
this juncture for the System to become somewhat more liberal in
the provision of money and credit to the economy than it had
been earlier.

Specifically, he would recommend that the Com

mittee adopt as its longer-run target for M

the 6 per cent

-91-

12/18/73

growth rate which was assumed in the alternative projection he
had discussed in his statement earlier today.

One reason for

that view was that the increase in oil prices was likely to
add nearly a full percentage point to the rate of increase in
the GNP deflator.

Assuming that the Committee would want to

accommodate the advance in oil prices--that is, assuming it would
not seek to offset that advance by putting downward pressure on
other prices--the oil price increase alone would call for raising
the targeted M

growth rate from 5 to nearly 6 per cent.

In his

judgment, such an adjustment should be viewed not as a shift to
a more expansive policy but simply as an allowance for an advance
in one segment of the price structure that, while regrettable,
had to be permitted.
Secondly, Mr. Partee continued, it was true, as Mr. Hayes
had observed, that hard evidence was not yet in hand of emerging
weakness in economic activity.
development were very strong.

However, the omens of such a
The red book was compiled in part

to provide clues to the likely course of activity in advance of
statistical evidence, and the current edition reflected concerns
about weakness in such areas as housing in subdivisions far from
central cities, vacation housing, and recreational vehicles, as
well as in the auto market.

It seemed to him that every logical

-92-

12/18/73

power one might apply to the question suggested that the expecta
tion of weakness in such areas would shortly be confirmed by
statistical evidence.

In his judgment, there was not much time

to be lost in modifying policy in view of existing lags--partic
ularly, in the present situation, the lag that would occur before
the residential construction industry could make such adaptations
as building close to central cities rather than at a distance
and building high-rise apartments rather than single-family homes.
For those reasons, Mr. Partee observed, he felt rather
strongly that the alternative A specifications would be appro
priate at this time.

The Committee might prefer to raise the

lower limit for the funds rate from the 8-1/4 per cent figure
of alternative A on the grounds that a reduction to that level
in a 5-week period would be too abrupt a move.

But a consider

able reduction in the funds rate might be necessary if, as he
expected, weakness in the monetary aggregates began to develop
early in the weeks and months ahead.
Mr. Morris said he wanted to associate himself with the
views expressed by Mr. Partee as well as with those offered
earlier by Messrs. MacLaury and Balles. He believed the Committee
should gear its policy to the extremely high probability that the
economy was moving into a recession, although that recession

-93-

12/18/73

would be of a peculiar sort in which monetary policy could play
a less powerful role than in the classical kind.

In his view

it would be appropriate at this juncture, as a short-term matter,
for the Committee to place primary emphasis on interest rates
and to promote gradual downward pressure on rates.

He agreed

with the Chairman on the need for proceeding cautiously

in

the sense that he would not want to pursue such an interest rate
policy to the point of risking loss of control over the rate of
growth of the monetary aggregates.

If, however, the staff's

economic projections were at all close to the mark, the risk of
generating excessive growth in the aggregates in the first half
of 1974 was very low.

The real risk, in his view, was that

growth in the aggregates would fall short of the Committee's
objectives because of a mistaken effort to oppose a natural down
ward tendency in interest rates

of the kind that had typically

been associated with slackening economic activity in the past.
In that connection, he was inclined to believe that the reduc
tion in interest rates needed to generate growth in the money
supply at a 5 or 6 per cent annual rate would prove to be greater
than suggested in the blue book.
Against that background, Mr. Morris observed, he would
support alternative A, except that he would set the upper limit

-94-

12/18/73

for the Federal funds rate at 9-3/4 per cent.

By so doing the

Committee would, in effect, be instructing the Manager to begin
in a small way to place downward pressure on interest rates; sub
sequently, he would be expected to gear the change in the funds
rate to developments in the monetary aggregates.
Mr. Morris added that he was a little confused about
the position of those speakers who had indicated that they con
curred in the Chairman's acute analysis of the present situation
and then expressed a preference for the alternative B specifica
tions.

As he interpreted those specifications, they represented

a status quo policy, not even the type of modest change the
Chairman had recommended.
Mr. Bucher said he had little to add to the fine state
ments just made by Mr. Partee and Mr. Morris.

He concurred in

their view that a serious recession was a good possibility, and
he expected that recession to be associated with many dislocations.
He also thought the Chairman's statement of this morning was an
excellent one.

Like the Chairman, he would favor a cautious policy

move, but he wanted to make sure that that move took place.

He

would be inclined to stress the matter of public psychology more
than other speakers had.

Earlie; the Chairman had referred to

the strong positive effects on attitudes that would flow from a

-95-

12/18/73

near-term end to the oil embargo.

But attitudes could also have

negative effects, and he thought that current attitudes were
accurately reflected by the recent declines in stock market
prices.
Mr. Bucher remarked that, while an easing of credit would
not resolve problems of shortages, it could have other useful con
sequences, particularly in the mortgage market.

He would like to

see increased residential construction activity as an offset to
some of the spending lags in other areas.
Mr. Bucher observed that he wholeheartedly supported the
specifications of alternative A, except that--like Mr. Morrishe would reduce the upper limit for the funds rate a bit in order
to make clear to the Manager that the Committee wanted him to
move in the direction of easing money market rates.

He also

found the alternative A directive language satisfactory.

With

respect to Mr. Holland's suggestion for the directive, he had
never been particularly happy about language calling for "moderate
growth" in the aggregates.

However, he did not feel strongly

about the matter at this point.
Mr. Mitchell said he shared Mr. Morris' confusion about
the position of some of those who had concurred in the Chairman's
statement, which he had interpreted as calling for a cautious--

-96-

12/18/73

but definite--move in the direction of easing.

He preferred the

directive language of alternative A because it indicated more
clearly than B that the Committee was changing policy, but he
was less sure about the appropriate specifications.

He was more

pessimistic about the economic outlook than most, and he would
favor giving the market some kind of signal that would set in
motion forces working in the proper direction.

A move toward

ease would be useful in stimulating increased flows of savings
funds to banks and other thrift institutions, and he would not
be greatly disturbed at this point by a sharp acceleration in
the growth of M1, M2, or

M3

.

At a minimum, he would want to raise

the upper limits of the short-run ranges for the monetary aggre
gates shown under alternative B, as Mr. Holland had suggested.
As to the Federal funds rate, he would be inclined to set the
lower limit at 8-3/4 per cent and to instruct the Manager to aim
at a rate a little below 10 per cent in the near term.
Mr. Mitchell added that almost all members appeared
to favor giving some kind of signal of easing, differing only
on the question of the precise form of that signal.

He suspected

that the Committee might have been able to conclude its delibera
tions quickly this morning if the Chairman had followed his state
ment with a description of the specifications he thought were
implied by his general policy prescription.

-97-

12/18/73

Chairman Burns remarked that he might indicate the speci
fications he had in mind at this point.

In general, they fell

between those shown under alternatives A and B in the blue book,
and were as follows:

the 6-month targets for annual rates of

growth in M, M2 , and the credit proxy would be 5-1/4, 8, and
9-1/4 per cent, respectively; the December-January ranges of
tolerance for growth rates in RPD's, M1, and M2 would be 8-1/4
to 10-3/4, 3 to 5-1/2, and 5 to 7-1/2 per cent, respectively;
and the range for the Federal funds rate would be 8-3/4 to 10
per cent.
Mr. Brimmer observed that, as the members knew, he had
cautioned at recent meetings against pressing toward ease because
he thought such action would have been premature.

He no longer

held that view. The choice now facing the Committee was between
letting monetary policy act as a constraint on an economy that
was struggling to adjust or using policy to facilitate the adjust
ment, and he favored the latter course.

When the Board had met

with its academic consultants in early December, the latteralthough speaking from a variety of viewpoints--had reached a
consensus about appropriate policy essentially the same as that
which was emerging among Committee members today.

The Economic

Policy Committee of the OECD had struggled with a similar question

-98-

12/18/73

at its meeting in mid-November, but in his opinion it had arrived
at the wrong conclusion.

In his view, there was a chance of a

generalized recession, affecting not only the United States but

the rest of the world as well.
Mr. Brimmer commented that some analytical work he had
been doing suggested that a longer-run growth rate in the money
supply of 5 per cent would be inadequate if the GNP deflator
were rising at a rate a little over 5 per cent, as now appeared

likely for the year 1973.

Such a growth rate would be even more

inadequate if the deflator were to rise at a rate well in excess
of 6 per cent, as was projected for 1974.

Accordingly, he

thought the Committee should take the deliberate step of increas
ing its longer-run targets.

It was important that the Committee

not restrict its vision to the evidence in hand about current
economic developments; it should be looking ahead to the time
when events now in train would be having their effects on the
economy.

He thought the time to act had come.
In conclusion, Mr. Brimmer said he had originally inter

preted the Chairman's earlier comments on policy to call for the
adoption of the alternative A specifications.

He was fully pre

pared, however, to subscribe to the specifications intermediate

to those of A and B which the Chairman had just suggested.

-99-

12/18/73

Mr. Daane remarked that he had been impressed on his
recent trip to Europe with the fact that foreign central bankers
were generally striving to determine the appropriate role for
monetary policy in the unique situation facing industrial countries
at present.

He was completely in accord with the Chairman's des

cription of the appropriate role for U.S. monetary policy at
this juncture, particularly with the suggestion that the Federal
Reserve should begin to move now in a cautious and restrained
way.

To his mind, the language of both alternative A and B,

calling respectively for "more" and "somewhat more" growth in
the monetary aggregates than in the second half of the year,
failed to capture the desired connotation of caution.

After

thinking about that problem, and also about the comments made
by Mr. Morris, he had concluded that the Committee's intent
would be reflected better in a directive which called for prob
ing cautiously toward slightly easier money and credit condi
tions,

Specifically, he would suggest the following language

for the operational paragraph:

"To implement this policy, while

taking account of international and domestic financial market
developments, the Committee seeks to probe cautiously toward
slightly easier bank reserve and money market conditions consis
tent with more growth in monetary aggregates over the months

-100-

12/18/73

ahead than is currently estimated for the second half of 1973."
Specifications between those of alternatives A and B, such as the
Chairman had suggested, would be consistent with such a directive,
but in his view the language in itself captured the essence of
the Committee's consensus as he interpreted it.
Mr. Clay said he concurred in the Chairman's statement
about the appropriate role of monetary policy under present
circumstances. What the Committee should be trying to do at
this time could be summarized as feeding the nation's economy to
the extent it had the capacity to produce and starving the infla
tion. That extraordinarily difficult assignment would require
not only caution but also a great deal of both skill and good
fortune.

And, in his judgment, it suggested the adoption of

the alternative B policy course today. Contrary to the views of
Messrs. Morris and Mitchell, he saw no inconsistency between the
statement the Chairman had made before luncheon and the specifi
cations of alternative B, because the growth rates of the monetary
aggregates recently had been running above the Committee's longer
run targets.

Under those circumstances, it could not be said that

the Committee was starving the economy of money and credit.
Mr. Sheehan remarked that he was somewhat troubled by
the specifications the Chairman had proposed because it was not

-101-

12/18/73

obvious to him that they would result in a movement toward ease
of the kind most members had indicated they favored.

One ques

tion in his mind was how the Manager would interpret those speci
fications.

At the September meeting, he recalled, the Committee

also had concluded that some easing would be desirable.

However,

the Manager's subsequent efforts to accomplish that objective
had been constrained by a clause in the directive instructing
him to take account of conditions in domestic financial markets.
A second question was whether a short-run target range of 3 to
5-1/2 per cent for growth in M1 would actually constitute easing;
it was his impression that M1 recently had been growing at a sub
stantially faster rate.
In reply to a question by the Chairman, Mr. Axilrod
noted that M

had, indeed, grown rapidly in November--at a rate

close to 11 per cent.

If current interest rates were maintained,

however, the staff would expect the growth rate to fall sharply
in December--to the neighborhood of 2 per cent--and to remain
quite modest over the first quarter.

That was the basis for the

staff's conclusion that a decline in interest rates would be
required if the aggregates were to grow at the rates called for
under either alternative A or B.

-102-

12/18/73

Chairman Burns remarked that it might be helpful if he
were to indicate his thinking with respect to the Federal funds
rate.

As of today, at least, he would like to see the funds rate

decline by the time of the next meeting to the 9-1/2 to 9-3/4
per cent area.
Mr. Sheehan commented that he would find such an outcome
acceptable.

What had troubled him was the possibility that the

temporary phenomena which produced strong M

growth in November

might persist for another 6 to 10 weeks and that, as a consequence,
the funds rate might be kept at the top of the specified range.
The Chairman then asked Mr. Holmes for his response to
Mr. Sheehan's question concerning the manner in which he would
interpret the proposed specifications.
Mr. Holmes replied that, in accordance with his under
standing of the discussion thus far, the Desk would be expected
over the next 10 days or so to lower the funds rate progressively
from its current level near 10-1/8 to about 9-3/4 per cent.

If

at that point the monetary aggregates appeared to be weak, some
further reduction in the funds rate would be sought; if they
appeared to be strong, the reduction would be brought to a stop.
If the aggregates were extremely strong, the Chairman presumably
would consider the desirability of Committee consultation.

-103-

12/18/73

Mr. Hayes said he was puzzled by the Chairman's proposal
of an 8-3/4 per cent lower limit for the funds rate in view of
the latter's statement that he would like to see the rate in
the 9-1/2 to 9-3/4 per cent area at the time of the next meeting.
Chairman Burns observed that, while he considered such an
outcome for the funds rate desirable at the moment, developments
during the period with respect to the monetary aggregates would
have to be taken into account.

If, for example, the aggregates

were to begin growing at explosive rates he would not favor a
funds rate below 10 per cent, at least in the absence of some
other overriding consideration.
Mr. Winn said he concurred in the Chairman's statement
about the role of monetary policy at this time and he agreed with
the specifications the latter had suggested.

He would take the

time now only to call attention to two problems he thought lay
ahead.

First, float was likely to be highly volatile in coming

months because of transportation problems.

Since that would

increase the difficulties of projecting the relationships with
which the Manager worked, the Committee should be prepared to
widen the ranges of tolerance it specified for the Manager's
guidance.

Secondly, retailers were reporting a considerable

increase in the ratio of cash to credit sales during the current

-104-

12/18/73

Christmas shopping season.

If, as that suggested, a basic shift

was under way in the payments practices of the public, there
obviously would be implications for the Committee's longer-run
targets for monetary aggregates.
Chairman Burns remarked that the System should be alert
to the possibility of a change in payments practices.
The Chairman then referred to the language Mr. Daane
had suggested earlier for the operational paragraph of the
directive and asked whether the members had any reactions they
cared to express.
Mr. Mitchell said he was not happy with the proposed
instruction to "probe cautiously" toward slightly easier conditions.
Mr. Sheehan remarked that the language in question struck
him as much too mild.
Mr. Daane observed that he held no particular brief for
the specific phrasing.

His interest was in arriving at a formula

tion for the directive which captured the sentiment of the Committee
better than any of the staff's drafts.
Chairman Burns remarked that his thinking had been running
along similar lines; indeed, before Mr. Daane had made his sug
gestion he had been considering the possibility of proposing the
following directive language:

"To implement this policy, while

-105-

12/18/73

taking account of international and domestic financial market
developments, the Committee seeks to achieve some easing in
bank reserve and money market conditions, provided that the
monetary aggregates do not appear to be growing excessively."
In his judgment, either Mr. Daane's proposal or his own would
convey the Committee's consensus today more accurately than
either alternative A or B.

His only reason for hesitation in

recommending such language was that it would involve a shift
from the kind of directive--in which primary emphasis was
placed on the monetary aggregates--that the Committee had
If

been employing more or less successfully for some time.
he were confident that the Committee would be prepared to

return to the customary type of directive at subsequent meetings,
he would strongly urge the adoption today of language along the

lines of Mr. Daane's proposal or his own.
Mr. Daane expressed the view that the language the
Chairman had read would serve the purpose he had in mind.

He

added that at times in the past the Committee had shifted back
and forth between directives placing primary emphasis on the
aggregates and on money market conditions.
After some further discussion, the Chairman called for
expressions of preference among the various proposals under con
sideration for the operational paragraph of the directive.

It

-106-

12/18/73

developed that a majority of the members preferred the language
the Chairman had read.
In the ensuing discussion of specifications, Mr. Hayes
said he was still troubled by the proposal that the lower limit
for the Federal funds rate be set at 8-3/4 per cent.

He asked

about the circumstances that would be expected to require a
reduction in

the funds rate to that level by the time of the

next meeting.
Mr. Holmes said it was his understanding that the lower
end of the proposed range for the funds rate would be used only
if the monetary aggregates were extremely weak.
Mr. Daane concurred in the Manager's statement.
Mr. Mitchell said he thought the more likely possibility
was that the aggregates--particularly M --would grow at rates
above the upper limit of the 2-month ranges the Chairman had
proposed.

He would favor increasing those upper limits somewhat.

Mr. Holland noted that, given the proposed directive
language, the upper limits of the 2-month ranges would in effect,
demarcate the range of growth rates defined as "excessive."

He

agreed with Mr. Mitchell that those proposed by the Chairman were
a little low.

12/18/73

-107-

Chairman Burns remarked that the upper limits of the 2
month ranges for the monetary aggregates might each be raised
by one-half of a percentage point, so that the ranges of tolerance
for M1 and M2 would be 3 to 6 and 5 to 8 per cent, respectively.
The upper limit of the RPD range might be set at 11 per cent,
yielding a range of 8-1/4 to 11 per cent.
In response to the Chairman's inquiry, a majority of the
members indicated that they would favor such an adjustment of
the 2-month ranges for the aggregates.
Mr.

Brimmer said it

was not clear to him whether the

Committee would expect the Manager to act vigorously in

reducing

the Federal funds rate or to proceed more cautiously.
Mr. Sheehan referred to the statement he had made earlier
that a reduction in the Federal funds rate to the 9-1/2 to 9-3/4
area by the time of the next meeting would be acceptable to him.
He wondered, however, whether that would be a sufficiently large
move.

As he sensed the feelings of a majority of the members,

they would favor a funds rate closer to 9 per cent by mid-January
unless the monetary aggregates were growing at explosive rates.
Mr. Daane remarked that that was not consistent with his
own interpretation of the sentiment of the majority.

-108-

12/18/73

Mr. Mitchell commented that the particular funds rate
sought should depend on developments with respect to the aggre
gates.
Chairman Burns observed that Mr. Brimmer's question might
be answered by considering the upper limit set for the funds rate.
He asked for expressions of preference between the 10 per cent
limit he had originally proposed and a limit of 9-3/4 per cent.
A majority of the members indicated that they preferred
to set the upper limit at 10 per cent.
The Chairman then referred to Mr. Hayes' earlier suggestion
that language be added to the first paragraph of the draft directive
regarding the likely effect of the oil crisis on prices.

That

might be done by revising the sentence reading "Further weakening
is in prospect because of the curtailment of oil supplies" to
read "A further weakening in activity and an appreciable rise
in prices are in prospect because of the curtailment in oil
supplies."
There was general agreement with the suggested revision.
Chairman Burns proposed that the Committee vote on a
directive consisting of the staff's draft of the general paragraphs,
with the revision just agreed upon, and the language he had read
for the operational paragraph.

It would be understood that that

-109-

12/18/73

directive would be interpreted in accordance with the following
specifications.

The longer-run targets--namely, growth rates

for the first and second quarters combined--would be 5-1/4, 8,
and 9-1/4 per cent for M , M2, and the bank credit proxy,
1
respectively.

The associated ranges of tolerance for growth

rates in the December-January period would be 8-1/4 to 11 per
cent for RPD's, 3 to 6 per cent for M1, and 5 to 8 per cent for
M2 .

The range for the weekly-average Federal funds rate in the

inter-meeting period would be 8-3/4 to 10 per cent.
Mr. Hayes said he planned to cast a dissenting vote.
With Mr. Hayes dissenting,
the Federal Reserve Bank of New
York was authorized and directed,
until otherwise directed by the
Committee, to execute transactions
for the System Account in accordance
with the following domestic policy
directive:
The information reviewed at this meeting--including
recent developments in industrial production, residential
construction, and retail sales--suggests that growth in
economic activity is slowing in the fourth quarter. A
further weakening in activity and an appreciable rise in
prices are in prospect because of the curtailment in oil
supplies. In November nonfarm payroll employment expanded
further, but the unemployment rate, which had dropped in
October, rose again to about the level that had prevailed
since midyear. Wholesale prices of industrial commodities
continued to rise sharply in November, reflecting large
additional increases for petroleum products and widespread
advances among other commodities; farm and food prices
declined further.

12/18/73

-110-

In nearly all industrial countries abroad, concern
has grown that a sustained cut in oil supplies will dis
rupt economic activity. Major foreign currencies have
depreciated further against the dollar, and intervention
sales of dollars by foreign monetary authorities have
continued. The U.S. merchandise trade balance registered
a strong surplus in the September-October period.
The narrowly defined money stock, following little
net change over the third quarter, has grown at a rela
tively rapid pace over the past 2 months. Growth in the
more broadly defined money stock has also been substantial,
as net inflows at banks of consumer-type time deposits
have been large. Net deposit inflows at nonbank thrift
institutions improved somewhat further. Bank credit
expansion remained moderate in November, although busi
ness loans increased after 2 months of little or no growth.
On December 7 the Federal Reserve announced a reduction
from 11 to 8 per cent in marginal reserve requirements
on large-denomination CD's. Most short-term market
interest rates have declined somewhat on balance in
recent weeks, while movements in long-term market
rates have been mixed.
In light of the foregoing developments, it is
the policy of the Federal Open Market Committee to
foster financial conditions conducive to resisting
inflationary pressures, cushioning the effects on
production and employment growing out of the oil short
age, and maintaining equilibrium in the country's bal
ance of payments.
To implement this policy, while taking account
of international and domestic financial market develop
ments, the Committee seeks to achieve some easing in
bank reserve and money market conditions, provided that
the monetary aggregates do not appear to be growing
excessively.
Secretary's note: The specifications agreed
upon by the Committee, in the form distributed
following the meeting, are appended to this
memorandum as Attachment B.

12/18/73

-111-

Secretary's note: Following the meeting Mr. Hayes
submitted a summary statement of his reasons for
dissenting from the directive, which he asked be
incorporated in the record. He indicated that,
with inflation still the number one problem, and
with the aggregates apparently growing more rapidly
in 1973 than the Committee had considered desirable,
he favored a continuation of the current degree of
monetary restraint without noticeable relaxation
unless signs of weakening in the economy become more
apparent. There was not much monetary policy could do
to relieve the economic problems arising from the oil
shortage, but a premature easing of policy could
exacerbate the problems of inflation.
Chairman Burns expressed the view that the Committee had
reached a sound decision today.

He added that the present period

was a critically important one, and that during the next few weeks
the members should stand ready to communicate with one another
concerning any new developments or new thoughts.
It was agreed that the next meeting of the Committee
would be held on January 22, 1974, at 9:30 a.m.
Thereupon the meeting adjourned.

Secretary

ATTACHMENT A
December 17, 1973
Drafts of Domestic Policy Directive for Consideration by the
Federal Open Market Committee at its Meeting on December 17-18, 1973
GENERAL PARAGRAPHS
The information reviewed at this meeting--including recent
developments in industrial production, residential construction,
and retail sales--suggests that growth in economic activity is
slowing in the fourth quarter. Further weakening is in prospect
because of the curtailment of oil supplies. In November nonfarm
payroll employment expanded further, but the unemployment rate,
which had dropped in October, rose again to about the level that
had prevailed since midyear. Wholesale prices of industrial
commodities continued to rise sharply in November, reflecting
large additional increases for petroleum products and widespread
advances among other commodities; farm and food prices declined
further.
In nearly all industrial countries abroad, concern has
grown that a sustained cut in oil supplies will disrupt economic
activity. Major foreign currencies have depreciated further
against the dollar, and intervention sales of dollars by foreign
monetary authorities have continued. The U.S. merchandise trade
balance registered a strong surplus in the September-October
period.
The narrowly defined money stock, following little net
change over the third quarter, has grown at a relatively rapid
pace over the past 2 months. Growth in the more broadly defined
money stock has also been substantial, as net inflows at banks
of consumer-type time deposits have been large. Net deposit
inflows at nonbank thrift institutions improved somewhat further.
Bank credit expansion remained moderate in November, although
business loans increased after 2 months of little or no growth.
On December 7 the Federal Reserve announced a reduction from 11
to 8 per cent in marginal reserve requirements on large-denomination
CD's. Most short-term market interest rates have declined somewhat
on balance in recent weeks, while movements in long-term market
rates have been mixed.
In light of the foregoing developments, it is the policy
of the Federal Open Market Committee to foster financial conditions
conducive to resisting inflationary pressures, cushioning the effects
on production and employment growing out of the oil shortage, and
maintaining equilibrium in the country's balance of payments.

OPERATIONAL PARAGRAPH
Alternative A
To implement this policy, while taking account of inter
national and domestic financial market developments, the Committee

seeks to achieve bank reserve and money market conditions consistent
with more growth in monetary aggregates over the months ahead
than is currently estimated for the second half of 1973.
Alternative B
To implement this policy, while taking account of inter
national and domestic financial market developments, the Com
mittee seeks to achieve bank reserve and money market conditions
consistent with somewhat more growth in monetary aggregates over
the months ahead than is currently estimated for the second half
of 1973.
Alternative C
To implement this policy, while taking account of inter
national and domestic financial market developments, the Com
mittee seeks to achieve bank reserve and money market conditions
consistent with slightly less growth in monetary aggregates over
the months ahead than is currently estimated for the second half
of 1973.

ATTACHMENT B

December 18, 1973
Points for FOMC guidance to Manager
in implementation of directive

A,

Specifications
(As agreed, 12/18/73)

Longer-run targets (SAAR):
(first and second quarters combined)

5-1/4%
M

2

Proxy
B.

8%
9-1/4%

Short-run operating constraints:
1.

2.

Range of tolerance for RPD growth
rate (December-January average):

8-1/4 to 11%

Ranges of tolerance for monetary
aggregates (December-January average):

3-6%
5-8%

3.

Range of tolerance for Federal funds
rate (daily average in statement
weeks between meetings):

8-3/4 to 10%

4.

5.

C.

Federal funds rate to be moved in an
orderly way within range of toleration.
Other considerations:
account to be taken of international and
domestic financial market developments.

If it appears that the Committee's various operating constraints are
proving to be significantly inconsistent in the period between meetings,
the Manager is promptly to notify the Chairman, who will then promptly
decide whether the situation calls for special Committee action to give
supplementary instructions.

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