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Authorized for public release by the FOMC Secretariat on 2/25/2020 May 21, 1956 Memorandum: To the Members of the Federal Open Market Committee From J. L. Robertson Subject: Proposal pending before the Open Market Committee to authorize the Account Management to make swaps in Treasury bills. The proposal before us seems harmless enough, particularly in the light of Mr. Sproul's memorandum of May 16. are stressed: (1) These specific objectives the acquisition of a sufficient volume of bills matur- ing in January, e.g., to enable us to absorb redundant reserves during that month by run-off of maturing bills rather than by selling bills of a later maturity, and (2) to enable as to sell bills to foreign central banks more conveniently. However, Mr. Sproul's summary makes clear that swaps would be considered appropriate "to maintain a balanced distribution in the Acccunt" as well as "to provide for specific need, such as the January runoffs". The policy drawbacks that led us to lean against the making of swaps except upon specific direction of the Committee are not particularly forceful where applied to swaps confined to bills. I would not object to this proposal if Consequently, it promised material advantages attainable in no other way, despite the possibility that, over a period of time, swapping among bills might prove to be an entering wedge to swapping in the longer maturities. Accordingly, the nub of this matter is whether it promises substantial benefits that cannot be achieved unless we depart to this extent from our policy of avoiding swap transactions. It is not clear to me, Authorized for public release by the FOMC Secretariat on 2/25/2020 -2- however, why we cannot, over the coming months during which we will be on the buying side of the market, acquire bills of the maturities we think we will want for run-off purposes early next year. Is there any serious objection to the Account's purchasing bills of the maturities we need even though our concentration of purchases may drive up the prices and lower the yields of those maturities? Mr. Sproul's memo- randum says that "the Account Management may be unable to purchase enough of the January maturities to provide for the System's January needs." What will prevent such purchases? Surely not the factor of price from the earnings point of view, since the System is not in the market for profit. If the reason is said to be the effect on the bill market, I think the Committee should have an explanation of what that effect would be and wherein its evil would lie, Is the Authority to Make Swaps in For the following reasons, Bills Needed at This Time? it is questionable whether the present distribution of bills in the System portfolio is likely to interfere seriously with the effectuation of appropriate credit policies in the near future: (a) In a few weeks we will reach the period of seasonal expansion in reserve needs when purchases by the Account, be appropriate. folio of bills, it If it is advisable to balance and fill If the course without resorting to swaps. any sales of bills are needed for purely temporary purposes in the near future, I doubt if will out our port- should be feasible to accomplish this in of our purchases over the coming months, (b) rather than sales, we will encounter any real Authorized for public release by the FOMC Secretariat on 2/25/2020 difficulty in (c) making such sales from bills now held in The aggregate amount of bills now held in the portfolio. the Account is so limited that an evening out of maturities might make our holdings of individual issues so small in amount that we could not bring about a desired reduction in reserves through run-off of our holding of the current maturity. (d) Short-term variations in reserve needs resulting from end- of-month tightness and midmonth surpluses of reserves can probably be largely offset by the appropriate use of repurchase contracts. (e) If, at any time in the future, substantial sales of securi- ties from the System portfolio are needed to reduce the availability of reserves, the existing holdings of bills would be inadequate in any event. In such a case, it would probably be desirable either to sellother shortterm securities or to make arrangements with the Treasury for obtaining more bills in exchange for such securities. If other securities are sold to absorb reserves, then the bill portfolio could be increased at a time when reserves need to be supplied to the market. With respect to the handling of foreign account transactions, a better balanced distribution of the Account would no doubt be helpful under the existing practice. Some question may be raised, however, as to the propriety of effecting foreign account orders through the System Account without entering the market. It is not always certain, moreover, whether over a long period of time foreign account operations do influence the supply of reserves since most of them merely reflect portfolio shifts or shifts of unds within the market. To the extent that they represent Authorized for public release by the FOMC Secretariat on 2/25/2020 net additions to the supply of reserves in the market, they could appropriately be offset where deemed desirable by outright System transactions. Would the Practice of Swapping Interfere with the Proper Functions of the Market? Limited swaps confined to Treasury bills of the nature and for the purpose apparently envisaged by the present proposal probably would not seriously interfere with the depth, Government securities market. breadth, and resiliency of the This is not certain, however, dealers and other market professionals since carry out a lot of fairly profit- able transactions for arbitrage or other purposes through shifting holdings of Treasury bills. These operations might be handicapped at times by entrance of the System Account into the market with operations that change the distribution of maturities available, even though the total supply of securities andof reserve funds remains unchanged. If swap transactions were carried out frequently in large amount by the Account Management, they could have the effect of interfering with the free play of market forces. in This would be particularly true case of swaps involving issues differing considerably in When the System Account sells one issue and buys another, it the availability of the different issues in tends to affect the rate structure. maturity. changes the market and therefore Such operations at times might prevent adjustments in the rate structure that reflect market preferences. They might also scare off professional operations in the market because of uncertainty as to when and how and for what purposes the System might choose to enter the market. Authorized for public release by the FOMC Secretariat on 2/25/2020 -5In summary, it is my opinion that the present proposal appears fairly innocuous within its limitations, but it would constitute a first step away from one of our current policy principles. In view of my opinion that the benefits do not promise to be sufficiently substantial to justify it, I prefer that we do not make even this minor departure from a sound general principle except in a situation where it seems more clearly desirable than now or is likely to exist in the near future.
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