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FEDERAL RESERVE ACT AMENDMENTS
HEARING
BEFORE THE

SUBCOMMITTEE ON
DOMESTIC MONETARY POLICY
OF THE

COMMITTEE ON
BANKING, FINANCE AND URBAN AFFAIRS
HOUSE OE REPRESENTATIVES
N IN E T Y -F IF T H CO N G RESS
SECOND SESSION
ON

H.R. 12621
A BILL TO EXPAND THE CLASS OF COLLATERAL ELIGIBLE
FOR USE AS SECURITY FOR FEDERAL RESERVE NOfTES

H.R. 13148
A BILL TO INCREASE THE NUMBER OF CLASS C DIRECTORS
OF FEDERAL RESERVE BANKS

JULY 14, 1978

Printed for the use of the
Committee on Banking, Finance and Urban Affairs

U.S. GOVERNMENT PRINTING OFFICE
31-321 o




WASHINGTON : 1978

HOUSE COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS
HENRY S. REUSS, Wisconsin, Chairman
THOMAS L. ASHLEY, Ohio
WILLIAM S. MOORHEAD, Pennsylvania
FERNAND J. ST GERMAIN, Rhode Island
HENRY B. GONZALEZ, Texas
JOSEPH G. MINISH, New Jersey
FRANK ANNUNZIO, Illinois
JAMES M. HANLEY, New York
PARREN J. MITCHELL, Maryland
WALTER E. FAUNTROY,
District of Columbia
STEPHEN L. NEAL, North Carolina
JERRY M. PATTERSON, California
JAMES J. BLANCHARD, Michigan
CARROLL HUBBARD, Jr ., Kentucky
JOHN J. La FALCE, New York
GLADYS NOON SPELLMAN, Maryland
LESS AuCOIN, Oregon
PAUL E. TSONGAS, Massachusetts
BUTLER DERRICK, South Carolina
MARK W. HANNAFORD, California
DAVID W. EVANS, Indiana
NORMAN E. D’AMOURS, New Hampshire
STANLEY N. LUNDINE, New York
EDWARD W. PATTISON, New York
JOHN J. CAVANAUGH, Nebraska
MARY ROSE OAKAR, Ohio
JIM MATTOX, Texas
BRUCE F. VENTO, Minnesota
DOUG BARNARD, Georgia
WES WATKINS, Oklahoma
ROBERT GARCIA, New York

J. WILLIAM STANTON, Ohio
GARRY BROWN, Michigan
CHALMERS P. WYLIE, Ohio
JOHN H. ROUSSELOT, California
STEWART B. McKINNEY, Connecticut
GEORGE HANSEN, Idaho
HENRY J. HYDE, Illinois
RICHARD KELLY, Florida
CHARLES E. GRASSLEY, Iowa
MILLICENT FENWICK, New Jersey
JIM LEACH, Iowa
NEWTON I. STEERS, Jr ., Maryland
THOMAS B. EVANS, JR., Delaware
BRUCE F. CAPUTO, New York
HAROLD C. HOLLENBECK, New Jersey
S. WILLIAM GREEN, New York

P a u l N e l s o n , Clerk and S ta ff Director
M i c h a e l P. F l a h e r t y , Counsel
G r a s t y C r e w s II, Counsel
M e r c e r L. J a c k s o n , Minority S ta ff Director
G r a h a m T. N o r t h u p , Deputy Minority S ta ff Director

S u b c o m m it t e e

on

D o m e s t ic M

onetary

P o l ic y

PARREN J. MITCHELL, Maryland, Chairman
STEPHEN L. NEAL, North Carolina
NORMAN E. D’AMOURS, New Hampshire
DOUG BARNARD, Georgia
WES WATKINS, Oklahoma
BUTLER DERRICK, South Carolina
MARK W. HANNAFORD, California




GEORGE HANSEN, Idaho
HAROLD C. HOLLENBECK, New Jersey
BRUCE F. CAPUTO, New York

(II)

CONTENTS
Page

Text of—
H.R. 12621..................................................................................................................
H.R. 13148..................................................................................................................
State m e n t

of

Partee, Hon. J. Charles, member, Board of Governors, Federal Reserve System..
A

d d it io n a l

I n f o r m a t io n S u b m it t e d

for th e




5

R ecord

Partee, Hon. J. Charles:
Condensed balance sheet of the Federal Reserve banks.................................
Letter dated July 21, 1978, with attached record of policy actions taken by
the Federal Open Market Committee, June 20, 1978, with emphasis in
the discussion of “Operations in Federal Agency Securities” ....................
Treasury Department, letter dated August 3, 1978, in regard to H.R. 12621.....
(H i)

2
3

6
17
40

FEDERAL RESERVE ACT AMENDMENTS
FRIDAY, JULY 14, 1978
H o u se of R e p r e s e n t a t iv e s ,
S u b c o m m i t t e e o n D o m e s t ic M o n e t a r y P o l i c y o f t h e
C o m m it t e e o n B a n k i n g , F i n a n c e a n d U r b a n A f f a i r s ,

Washington, D.C.
The subcommittee met, pursuant to notice, at 8:34 a.m., in room
2220, Rayburn House Office Building, Hon. Parren J. Mitchell
(chairman of the subcommittee) presiding.
Present: Representatives Mitchell, Neal, Watkins, Hannaford,
and Hansen.
Chairman M i t c h e l l . The hearing will come to order. It is now
8:34. It was called for 8:30. We are 4 minutes late.
This morning, the Subcommittee on Domestic Monetary Policy
meets to consider H.R. 12621, a bill to expand the class of collateral
eligible for use as security for Federal Reserve notes, and H.R.
13148, a bill to increase the number of class C directors of Federal
Reserve banks from 3 to 6, which would increase the total number
of directors from 9 to 12.
The first of these two bills would correct a small deficiency in
current law regarding eligible collateral. The latter would help the
Federal Reserve implement the spirit of the Federal Reserve
Reform Act of 1977. In this legislation, Congress calls upon the
Federal Reserve to expand both public and minority participation
in Federal Reserve bank affairs.
[The texts of H.R. 12621 and H.R. 13148 follow:]




(l)

2

2““ H. R. 12621
’s

95t h

c o n g r e ss

v

v

4

IN THE HOUSE OF REPRESENTATIVES
M a t 9,1978

Mr.

of Maryland introduced the following bill; which was referred
to the Committee on Banking, Finance and Urban Affairs

M itc h e ll

A BILL
To expand the class of collateral eligible for use as security for
Federal Reserve notes.

1

Be it enacted by the Senate and House of Representa-

2 tives of the United States of America in Congress assembled,
3 That the third sentence of the second paragraph of section
4 16 of the Federal Reserve Act (12 U.S.C. 412) is am
ended
5 by striking the words “direct obligations of the United
6 States” and inserting in lieu thereof the words “any obliga7 tions which are direct obligations of, or are fully guaranteed
8 as to principal and interest by, the United States or any
9 agency thereof”.
I




3

h.

95t h CONGRESS W T

R. 13148
1 r k <«

A f\

IN THE HOUSE OF REPRESENTATIVES
J u n e 1 5 ,1 9 7 8

Mr.

(by req u est) ( f o r h im s e lf, Mr. M i t c h e l l o f Maryland, Mr. A n n t j n z i o , Mr. P a t t e r s o n o f California, Mr. L u n d i n e , Mrs. S p e l l m a n , Mr.
P a t t i s o n o f New Y o r k , and M r . V e n t o ) introduced the f o llo w in g b i l l ;
w h ich w as refe rre d to the Committee on Banking, Finance and Urban
Affairs
R eu ss

A BILL
To increase the num
ber of class C directors of Federal Reserve
banks.

1

Be it enacted by the Senate and House of Representa-

2 tives of the United States of America in Congress assembled,
3

SHORT TITLE

4

S e c t io n 1. This Act may be cited as the “Federal Re-

5 serve Bank Public Directors Act”.
6

BOARDS OF DIRECTORS OF FEDERAL RESERVE BANKS

7

S e c . 2. (a) The ninth paragraph of section 4 of the

8 Federal Reserve Act (12 U.S.C. 302) is am
ended by
9 striking out “nine” and inserting in lieu thereof “twelve”.
10

(b) The twelfth paragraph of section 4 of the Federal

11 Reserve Act (12 U.S.C. 302) is am
ended as follows:
I




4

2
(1) by striking out “three” in the first sentence

1
2

and inserting in lieu thereof “six”.

3

(2) by adding at the end thereof the following:

4

“Of the three new class C m bers appointed by the
em

5

Board of Governors of the Federal Reserve System after

6

the date of enactm
ent of the Federal Reserve Bank

7

Public Directors Act, initially one shall be designated to

8

serve for a term ending December 31, 1979, one for a

9

term ending December 31, 1980, and one for a term

10

ending December 31, 1981, and thereafter each member

11

so appointed shall serve for a term of three years as

12

provided in paragraph 9 of section 4 of this Act (12

13

U.S.C. 302).”.

14

(c) The last sentence of the twentieth paragraph of

15

section 4 of the Federal Reserve Act (12 U.S.C. 305) is

16

am
ended by striking out “third class C director” and insert­

17

ing in lieu thereof “class C director designated by the
chairm
an”.




5

Chairman M it c h e l l . This morning we have as our witness Gov.
J. Charles Partee of the Federal Reserve Board, who is certainly no
stranger to us, because of his frequent appearances before this
subcommittee. As always, Governor, we are delighted to have you
here, and we welcome you to the hearing. I want to thank you for
an early-morning awakening, an early-morning departure from
your house, and a prompt arrival at the subcommittee hearings.
STATEMENT OF HON. J. CHARLES PARTEE, MEMBER, BOARD
OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM
Governor P a r t e e . Thank you, Mr. Chairman. I am pleased to
have the opportunity to present to the subcommittee the views of
the Board of Governors of the Federal Reserve System on H.R.
12621 and H.R. 13148. The Board appreciates particularly your
timely consideration of these two amendments that we have pro­
posed to the Federal Reserve Act.
Let me begin with H.R. 12621, a proposal to expand the class of
collateral eligible to secure Federal Reserve notes. As this subcom­
mittee is aware, the currency of the United States consists almost
entirely of Federal Reserve notes, which are liabilities of the Feder­
al Reserve banks. By law, these notes must be collateralized dollarfor-dollar by assets of the Federal Reserve, and only those assets
specified in section 16 of the Federal Reserve Act are eligible as
collateral. At present, the list of eligible assets is restricted to gold
certificates and Special Drawing Rights certificates, direct obliga­
tions of the United States, bankers acceptances and other paper
eligible for discount, and certain loans to member banks. H.R.
12621 would add the obligations of Federal agencies to the class of
assets eligible to secure Federal Reserve notes.
A brief review of the balance sheet that follows of the Federal
Reserve banks may help to illustrate the increasing need for the
expansion of eligible assets. The major liabilities are member bank
reserve balances, the deposits of the Treasury, and Federal Reserve
notes. By far the largest and fastest growing item is the liability
for currency outstanding, which represented 72 percent of total
liabilities and capital of the Federal Reserve banks at the end of
1977, compared with about 59 percent of the total 10 years ago.
Since total assets must by definition equal liabilities and capital
accounts, this means the proportion of our assets pledged to secure
Federal Reserve notes has also been growing significantly.
[The balance sheet referred to by Governor Partee follows:]




6

CONDENSED BALANCE SHEET OF THE FEDERAL RESERVE BANKS

In millions of dollars
ASSETS

Gold certificates---------------------------------------

December 31
1967
1977
11 ,480

11,719

Special Drawing Rights Certificates---------------------

0

1,250

Loans to member banks secured by eligible paper----------

143

262

Acceptances--------------------------------------------

164

954

U.S. government securities------------------------- ----

49,112

102,819

Federal agency obligations------------------------------

38

8,455

Other Assets-------------------------------------------

14,393

14,267

Total assets------------

75,331

139,726

Federal Reserve Notes:
Outstanding (issued to Reserve Banks)----------------Less: Held by Reserve Banks--------------------------

44,311
1,940

100,535
7,382

Federal Reserve notes, net--------------------------

42,370

93,154

Member bank reserve accounts---- -----------------------

21,000

26,709

U.S. Treasury deposits----------------------------------

1 ,123

7,164

Other deposits-----------------------------------------

797

1 ,514

Other liabilities--------------------------------------

8,841

9,126

Capital accounts---------------------------------------

1 ,200

2,058

Total liabilities and capital accounts---------------

75,331

139,726

LIABILITIES AND CAPITAL ACCOUNTS

Details may not sum to totals due to rounding.

Governor P a r t e e . Among the items on the asset side of the
Federal Reserved balance sheet are gold certificates, Special Draw­
ing Rights certificates, U.S. Government and Federal agency secu­
rities, banker's acceptances, loans to member banks, and other
miscellaneous assets. The largest single entry is, of course, the
System's holdings of U.S. Government securities, which represent­
ed about 74 percent of total assets at the end of 1977.
Virtually all of the increase in the assets of the Federal Reserve
over the past decade is accounted for by net acquisitions of U.S.
Government and agency issues. In recent years, we have been able
to conduct limited open market operations in the growing secondary
market for agency issues, so that our holdings of such obligations—
which under existing law are not eligible to secure Federal Reserve
notes—now total about $8.5 billion, compared with only $38 million




7

a decade ago. The net result is that, over the last decade, while
Federal Reserve notes outstanding have increased at an 8y2-percent annual rate on average, eligible collateral has grown only at a
6%-percent annual rate.
In the past few years, moreover, growth in the currency needs of
the economy appears to have accelerated to an annual rate of
about 10 percent on average. Experience has shown that the econo­
my’s currency requirements tend to be a fairly stable proportion of
GNP. Thus, if nominal GNP—which reflects inflation as well as
real growth— continues to rise at its recent rate of 10 to 11 percent
per year, and if eligible assets grow at the 7-percent rate of recent
years, it can be projected that the Federal Reserve’s stock of eligi­
ble collateral will be completely pledged in 3 to 4 years, other
things being equal.
A shortage of collateral is thus a very real possibility. Indeed,
over the past IV2 years, the excess of eligible assets above collateral
requirements has declined sharply. Excess Reserve note collateral
averaged more than $20 billion at yearend for the years 1970-76. It
averaged only $11 billion in the first half of this year. And with the
introduction of the new note option to the Treasury’s tax and loan
account program at depositary institutions, expected to become
effective this fall, excess Federal Reserve note collateral is likely to
decline considerably further. This will result from a reduction in
the System’s portfolio of Government securities associated with the
transfer of Treasury balances from the Reserve banks to commer­
cial banks and other depositary institutions. If agency issues were
to be made eligible to secure Federal Reserve notes, the more
ample excess collateral cushion would permit greater operating
flexibility during this transition.
It should be emphasized that the Federal Reserve holds assets far
in excess of its notes outstanding. However, with a diminished level
of excess eligible collateral, some technical operating difficulties
can arise. For example, since each Reserve bank must individually
secure its notes outstanding, the recent sharp decline in excess
collateral has meant that, on occasion, a Reserve bank runs short
of eligible assets. In such an event, that bank has had to borrow
Government securities from another Reserve bank in order to meet
collateral requirements. The System’s operational flexibility would
be enhanced by the passage of H.R. 12621, as the proposed expan­
sion of collateral assets would likely eliminate the need for these
loans between Reserve banks.
On occasion also, excess collateral can be reduced sharply by the
need to offset sudden and unexpected increases in Federal Reserve
float. Such an episode occurred this past January, when harsh
winter weather conditions interrupted the transport of checks
through the clearing process. As a result, float rose by about $10
billion above its average level in a matter of just a few days. In
such a situation, open market operations are automatically under­
taken to offset the reserve effect of the increase in float. With the
excess collateral cushion shrinking, there is growing danger that
such smoothing operations might have to be constrained at times
in order to avoid a corresponding reduction of assets eligible to
secure Federal Reserve notes.




8

If the authorization to secure Federal Reserve notes with agency
obligations is not enacted, we will have no alternative other than
to take measures necessary to insure compliance with the law. The
inventory of currency at Federal Reserve banks may have to be cut
back, thereby reducing flexibility to meet unanticipated increases
in the public’s demand for cash. A developing shortage of eligible
collateral could well force the System to cease purchases of Federal
agency issues for the open market account, and to replace agency
securities with other assets eligible as collateral. Since the volume
of agency obligations has been increasing rapidly of late, it would
not seem desirable, as a matter of public policy, to substantially
curtail the Federal Reserve’s participation in this active and grow­
ing secondary market. And in the extreme case, if all eligible
collateral were to be pledged, the System would find itself unable
to issue additional currency in response to the public’s need, since
the issuance of notes without collateral is unlawful.
The Board urges that H.R. 12621 receive the prompt attention of
the Congress in order to avoid the unnecessary potential difficulties
related to currency issuance that I have outlined. Passage of this
bill will remove the inconsistencies in treatment that now exist in
the Federal Reserve Act so that all securities eligible for open
market operations would also be eligible to secure Federal Reserve
notes. Moreover, it will correct the current anomalous situation
whereby loans to member banks that are secured by agency obliga­
tions are eligible collateral for Federal Reserve notes, but direct
System holdings of the agency securities are not.
Let me turn now to H.R. 13148, a bill to expand the number of
class C directors of Federal Reserve banks from three to six.
Each of the 12 regional Federal Reserve banks has a board
consisting of 9 directors who are to be chosen without discrimina­
tion on the basis of race, creed, color, sex, or national origin. The
three class A directors are elected by, and must by law be, “repre­
sentative o f’ the member banks of the district. The three class B
directors, who represent the public, are also elected by member
banks with due, but not exclusive, consideration to the interests of
agriculture, commerce, industry, services, labor, and consumers.
Class C directors are appointed by the Board of Governors to
represent the public and are chosen with due but not exclusive
consideration to the interests of agriculture, commerce, industry,
services, labor, and consumers. All Reserve bank directors are
elected for 3-year terms.
By statute, class C directors must have been residents of their
Federal Reserve district for 2 years, and cannot be officers, direc­
tors, employees or stockholders in any bank. Beyond these statuto­
ry guidelines, the Board of Governors typically seeks other attri­
butes in candidates for class C directors. Each of the bank boards
need members with experience in managing an organization, since
directors must oversee the operations of their respective Reserve
banks. Other important responsibilities include voting on changes
in the discount rate, reviewing loans and discounts to member
banks in their respective districts, and providing important, timely,
and valuable intelligence about economic conditions in their re­
gions of the country. The Board believes it highly desirable to




9
select directors who will contribute to the fulfillment of these
responsibilities.
The chairman of the board of each Reserve bank, as well as the
deputy chairman, who serves in the chairman’s absence, must be
designated by the Board of Governors from among the class C
directors. Thus, at present, most or all of the class C directors must
assume— or have the potential for assuming—one of these roles.
Under these circumstances, it is of particular importance that class
C directors bring to the Federal Reserve a record of managerial
capacity that is essential to the effective supervision of an oper­
ation as large and complex as a Federal Reserve bank.
The Board is keenly aware of the additional criteria for class C
director selection specified by the Federal Reserve Reform Act of
1977. We fully support the intent of the Congress to broaden the
representation of interests on Reserve bank boards. But in practice,
we have come to recognize that it is difficult to provide representa­
tion of a wide diversity of interests among only three class C
directors.
Moreover, since the directors serve staggered terms, only one
class C vacancy occurs each year at each Reserve bank. And be­
cause the complexity of the bank’s business has given special value
to on-the-job experience, Board-appointed directors are typically
reappointed to a second 3-year term. Thus, throughout the System
only about six new class C directors are chosen in any given year.
The Board’s commitment to broader representation can be
achieved only very gradually with such a limited number of new
appointments. O f course, the class B director appointments also
may well include persons of diverse backgrounds and interests, but
their selection is a process over which the Board of Governors has
no direct control.
In the interest of promoting broader representation of agricul­
ture, labor, services, consumers and other groups among Reserve
bank directors, the Board of Governors recommends the passage of
H.R. 13148. The increase from 3 to 6 class C directors at each
Federal Reserve bank will provide 36 immediate openings for
which the Board can consider individuals with a variety of back­
grounds and interests. And with the greater number of class C
directors at each Reserve bank, it will be more feasible to carry out
the provisions of the Federal Reserve Act that call for both broader
representation among, and selection of the chairman and deputy
chairman from, the class C directors.
In summary, I want to convey the Board’s recommendation for
prompt passage of these two bills. If enacted, the first of these
proposals will enhance greatly the Federal Reserve’s flexibility in
meeting the collateral requirements for Federal Reserve notes, and
the second will be of substantial benefit in helping to broaden
promptly the diversity of backgrounds and interests represented on
the boards of directors of our regional Federal Reserve banks.
Thank you, Mr. Chairman.
Chairman M it c h e l l . Thank you very much, Governor Partee.
Just one quick question on H.R. 12621. I assume there has been
consultation between the Federal Reserve and the Treasury on
this. I know of no problems that Treasury has with it.
Governor P a r t e e . I know of no problems either, Mr. Chairman.




10

Chairman M it c h e l l . Has there been consultation with Treasury?
Governor P a r t e e . I just cannot recall. I will have to check that.
Chairman M it c h e l l . I think for the sake of the record we ought
to have correspondence from Treasury inserted. I know that the
Treasury has no problems with the bill.
Governor P a r t e e . I see no difficulty for the Treasury. But I just
cannot recall specifically that the issue has been discussed in terms
that can be referred to as consultation, Mr. Chairman.
Chairman Mitchell. For the matter of the record of the subcom­
mittee, we will direct correspondence to the Treasury and ask that
they reply for the record. (See page 40.)
Now, with reference to our second bill, H.R. 13148, I am encour­
aged by the statement you made this morning, and I must say it
offsets a great deal of discouragement that I experienced earlier
this year. I think the Congress was quite sincere when it said it
wanted greater diversity of representation.
Governor P a r t e e . Yes.
Chairman M it c h e l l . At the beginning of 1977, I thought we had
an excellent opportunity to increase the diversification of the Fed­
eral Reserve bank's boards of directors. Some selections were made
for openings. But in my opinion, the selections that were made fell
far short of the expectations of the Congress in terms of the kind of
balance we hoped would follow passage of the Federal Reserve
Reform Act of 1977.
If you will recall January 1 of this year, the 12 Federal Reserve
banks had 37 directorships vacant; 12 were in class A, 12 in class B,
and 13 in class C; 21 have been filled by new persons, 7 in each
class. One class A directorship and one class B directorship are still
vacant.
Governor P a r t e e . Yes.
Chairman M it c h e l l . What was so very discouraging to me, and
seemed on its face to be in contradiction to what the Congress
sought, was that there was no increased diversification at all in the
class A directors.
Governor P a r t e e . No.
Chairman M it c h e l l . The information I have is that all seven
selections—they have to be bankers—were white males.
Governor P a r t e e . I am not aware of any women or minorities.
Chairman M it c h e l l . That flies in the face of diversification. We
also had an opportunity to diversify in class B director level. How­
ever, of the seven persons newly elected this year, there was only
one woman.
Governor P a r t e e . Yes.
Chairman M it c h e l l . In that class B group, there were no blacks,
no Hispanics, or any other minority elected. I am not at all sure
that the present composition at that class B level can legitimately
be said to represent the interests of services, labor, and consumers.
Finally, of the seven persons newly appointed as class C directors
by the Board this year, only one is a woman. She also can be
termed a consumer representative. But even at that level as of this
year there are no blacks, no Hispanics, no other minorities. I
suppose only one can be said to represent labor.
Now, I do not intend to lecture you, but it seems to me that that
kind of selection process at least violates the spirit of section 203;




11

certainly, in terms of appearance, it seems to violate it. Let us hope
that if we can move expeditiously to pass H.R. 13148— now that we
have your full support for it. Let us hope we can begin to redress
these kinds of inequities that I alluded to among the class A, class
B, and class C directors.
Governor P a r t e e . Mr. Chairman, I agree with what you have
said. In defense of the record, I would point out that the Federal
Reserve Reform Act was not passed until November 1977, at which
time the representation for class B directors was expanded. You
see, before then, effectively they all had to be businessmen. And
the selection process for this year's director vacancies was pretty
well completed by last November because of this process of the
bankers voting for the class B members. Therefore, there was not a
great deal of opportunity to turn around the situation in that class
B group.
In class C, as I say, we are certainly doing everything we can to
find good, eligible candidates representing a wide variety of inter­
ests in the country. But the difficulty, as I pointed out, is that we
have only those three spots; and we have to have a chairman and a
deputy chairman among the three designated, for which we think
managerial experience is important. So we feel so constrained that
it is difficult to move significantly in the direction of broader
representation. Now, if we had these 36 new positions, I think we
could bring about quite quickly a very considerable change in the
composition of the directorships, while still paying very careful
attention to the quality of people and the quality of advice we
would likely be getting from the group.
Chairman M it c h e l l . I think we ought to make the record clear
that class B directors, in your interpretation, have in effect to be
businessmen.
Governor P a r t e e . Commerce, agriculture, and industry, I be­
lieve.
Mr. H a n s e n . Men or persons?
Governor P a r t e e . Persons.
Chairman M it c h e l l . If I may recapture my time, I am trying to
use the language that the Governor used. He said “must in effect
be businessmen.” I merely wanted to make the record very clear
that even the present language does not make it so narrow, that
persons in business, agriculture, services, labor, and others were
included.
Governor P a r t e e . That is right. Agriculture was included.
Chairman M it c h e l l . M r . Hansen, any questions?
Mr. H a n s e n . Thank you, Mr. Chairman.
Governor Partee, I think that we need to have balanced repre­
sentation so that we get1the proper input, to serve any given area
in the best way possible. I guess I am wondering where you really
achieve balance. Can you have representation and balance at the
same time without including the total population? What I am
getting to is, take any example, the National Collegiate Athletic
Association or anything else. They have boards. Fans are affected,
just like the consumers. But how far can you go to gain a balance
before you take the operation away from the pros in the business,
so to speak? How far do you go to gain a balance before you end up
with that so-called balance having people appointed arbitrarily




12

from Washington and have your institutions, your local representa­
tives and your local situations outnumbered and hanging? Where
does balance end and manipulation begin when you are appointing
members to these boards? Is there not perhaps some merit to
increasing each category by one person or something like this? Are
you going to give away professionalism for tokenism or for a num­
bers game? I think there are some answers that we have to come
up with here before we arbitrarily change what has been a fairly
workable situation right now. Maybe you would like to address
yourself to that.
Governor Partee. I think, Mr. Hansen, that we do have to pay
careful attention to seeing that class C directors have the kind of
managerial record that will make it possible for these boards to
work effectively in overseeing the operations of the Reserve banks.
That is a first requirement that we have for our director groups. I
think it is also important that the group of directors be prepared to
discuss intelligently and with some experience the question of
proper discount rate setting, to discuss economic conditions in their
region as they are developing and are likely to develop in the
future, and in that way to be able to provide advice to their
presidents and also—when they communicate on discount rates— to
the Board of Governors. But I think that these functions can be
performed with a more diverse group of people than we typically
have had on many of the Reserve bank boards.
Mr. Hansen. Forgive my interruption, but can we not also make
some efforts toward insisting that maybe they broaden the variety
of people in categories A and B? It seems to me that to load it with
category C may not be as wise as to insist that maybe we do a
better job in some of the other categories. I know some areas have
pretty good representation of women, others don't. I just wonder if
we are loading it too much in one category in an area of weakness
where you do not have your expertise and overloading the exper­
tise area of your board in order to achieve the so-called racial,
ethnic or whatever balance we are talking about?
Governor Partee. I would not particularly favor an increase in
class A, because those directors are bankers and I think we ought
to keep it restricted to bankers. That is, those are the people who
use in the first instance the services of the Reserve banks. I think
that ought to be a banker group. Directors could be as easily added
to class B as class C, but class C seemed the most reasonable thing
to increase. We took this up with the presidents of the Reserve
banks, and they approved this initiative. And, of course, you do
recognize that as a practical matter there is involvement by the
Reserve banks in proposing names for class C.
Mr. Hansen. Are the member banks pretty much in accord with
this?
Governor Partee. I really do not know about the views of the
member banks?
Mr. Hansen. All you know about is the Reserve banks?
Governor Partee. The presidents of the Federal Reserve banks,
that is right.
Mr. Hansen. Don't you think they are engaging in a little token­
ism in this effort in category C in order just to kind of wave away a
problem instead of really, again, as I say, doing the job of trying to




13
encourage a broader representation of races and ethnics, Mr.
Chairman? By this, I mean in category B, as you mentioned, Gover­
nor Partee, or even category A? They are developing more exper­
tise in category A across the country now, more people are moving
into those areas, as we have insisted that they do so. I am wonder­
ing if, in a sense, this emphasis in category C is a copout.
Chairman Mitchell. W ill the gentleman yield to me just before
the Governor responds?
Mr. Hansen. Please.
Chairman Mitchell. Thank you. I thought about this problem,
too. Quite frankly, the Chair's opinion, and I would hope the opin­
ion of the subcommittee and the full committee, would be to go
further and expand the other classes at a later date. I look on this
bill as the first step, the beginning of some impetus to show by
model demonstration what can be accomplished at the C director­
ship level. Also, I asked the gentleman to yield because we have
problems with words; semantic difficulties are frequently present.
But I think rather than use the word “balance, ’ what we are
looking for is diversification. That is the term that we are really
seeking. Because in the Chair’s humble opinion, there is a differ­
ence between balance and diversification. I just wanted the record
to be clear on that, that we are going for diversification.
I thank the gentleman for yielding.
Governor Partee. I was only going to say in response to Mr.
Hansen that with class A, there is a limit on the variety of things
to be represented. Typically, we expect the three class A directors,
who represent the member banks, to represent large banks,
medium-size banks, and small banks. As a matter of fact, in most
districts one class A director is elected by each of those member
bank size groups. The size groupings are determined by the Federal
Reserve— that is, what constitutes large, medium, or small banks.
It is pretty hard to also get broader diversity, while also achieving
that kind of a size distribution.
I would anticipate in class B we will have more diversity. For
example, just yesterday we received word that Chairman Miller’s
position on the Boston Reserve Bank board, which was a class B
directorship, has been filled by vote of the member banks with a
woman who is a businesswoman in New England.
We have many other cases where class B directors are coming to
represent more broadly various groups. But I think it somewhat
unlikely that we would have many class B directors at the banks
who, say, represented consumer groups or other organizations of
that kind. So I would think that we would just have more latitude
to see that we get a better diversity if more directors were to be
added to class C.
I might also say, Mr. Hansen, as to the matter of tokenism—you
used the term—we expect everyone that we appoint to the Reserve
banks to do a full, responsible, experienced job; to make a contribu­
tion to the work of the boards of directors.
Mr. Hansen. I do not think, Governor Partee, that is the kind of
tokenism I was talking about. I am talking about the tokenism of
numbers that goes on in this country. We have gone to a system
questioned by the Bakke case in some of these things, where we see
the controversiality and the problems that are involved in playing

31-321 0 - 78 -3




14
numbers games. What we really want is the full spirit of the law
and the full spirit of participation. Mr. Chairman, to respectfully
take issue with you, you mentioned that balance was not the word,
that diversification was. W ell, I see here, in a sense, still lingering
the game of balance. We expand one general category in order to
get more minority people there, and you get a balance—though
only token balance.
If you really want diversification, it seems to me we must get
minorities into the areas of expertise where you really can get the
input you want, rather than only in the area of category C, which
is weak as far as expertise is concerned. And I guess every one of
us may be in the majority in some ways and in the minority in
other ways. There are some minorities, because of the emphasis of
the law and the times and so forth, that get more attention than
others. But we all experience situations where we are in the minor­
ity.
Maybe it is from size. I can only shop in one men s store out of
10,000 because of the problem of size. People say go on, we can't do
anything for you. It is just one of those things. Everybody has this
kind of an experience in one way or another. I think we all have to
be sensitive of the problems and situations of others, I think we
have to be sensitive to including others. Fighting this battle is a
struggle, Mr. Chairman, and as a leader here in the Congress to try
to get things evened out, I know you recognize that. However, I
think that sometimes because of this constant effort that many
have to go through, that maybe there are times when you accept
too little when you could take more, where you could move farther
and faster.
I guess my only concern here is that this may be one of those
times where you are taking a pat on the head, in a sense, when we
really could be addressing ourselves effectively to solving the prob­
lem in this situation, which is to include minority people in the
area of expertise as well as the general category so they can
participate properly and get the banking situation properly broad­
ened. We are talking about minority bank inclusion, the input of
women, the input of ethnic groups. With this dwelling on category
C, I am sure we are getting this done properly. I am hoping we can
look at this legislation in broader perspective as we consider it and
see if there is not a possibility to put emphasis on some of these
other categories without getting into the problem of allocations
addressed by the court so we can get this problem solved or at least
on track, once and for all.
Chairman Mitchell. W ill the gentleman yield?
Mr. Hansen. Yes.
Chairman Mitchell. The Chair tried to state his position in
relatively diplomatic terms.
Mr. Hansen. Y ou usually do.
Chairman Mitchell. The Chair will try to be a bit more specific.
Let me speak to two issues. First, the matter of balance and diver­
sification. You took issue with my use of the word “diversification,”
giving that a higher preference. Although the House of Representa­
tives is certainly not analogous to the situation that we are con­
fronted with here, I think you would agree that there is not a
balance in terms of the population of women in this country, as




15
represented in the House, nor blacks, nor Hispanics. Certainly,
hopefully we are moving in that direction. Meanwhile, while
moving in that direction, I think we seek diversification in repre­
sentation rather than attempting to achieve the rigid balance
which could only be accomplished by somehow changing the meth­
ods by which people are elected to the House of Representatives.
I said earlier that I tried to couch my response in very diplomat­
ic terms. Let me assure the distinguished gentleman, Mr. Hansen,
that for as long as at least one member of this subcommittee stays
in the Congress, there will be a continuous push from at least one
Member, that is this Member, to do something about class C, class
B, and class A. I think my record is very clear that I will not
countenance nor be a party to any part of tokenism, nor continu­
ous exclusionary practice, and remain silent on it. I thank the
gentleman for yielding.
Mr. Hansen. I think my time is about up.
Chairman Mitchell. Yes.
Mr. Hansen. I might just make one statement, Mr. Chairman,
that is, I do not think it is a healthy game to get into numbers,
because there are certain types of people who by various patterns
in this country have developed in ways where to include them by a
numbers game in certain areas, whether it is banking or something
else, still will not necessarily provide equitable or proper diversifi­
cation. So I think it is a problem to rigidly call for quotas or
whatever, because this does not allow for the flexibility of the
system that ought to be there. But I do think that somehow we
need to encourage areas where it has been rather stifled to move,
without the force of law necessarily, more into the area of diversifi­
cation, if that is the word, in representation on the various levels.
My point is whatever we do here—and I don’t believe loading the
one area is the answer—but whatever we do, I think we ought to
be saying this is not the end—we want the job of inclusiveness
carried out successfully.
Mr. Chairman, I would not expect you to be one who would sit
back on this vital matter so I think we as a committee ought to be
saying we want you to be working more in these other areas to
gain full diversification. I know there are current efforts but some­
times they get sidetracked and do not work as fast as if they were
more conscious of these things. I would like to see that the empha­
sis remains on the front burner.
Chairman Mitchell. Thank you.
Mr. Hannaford.
Mr. Hannaford. Mr. Chairman, I am a newcomer to this bill, so
if I could ask a question: The legislation we are talking about is
H.R. 13148 and its purpose is to expand the Federal Reserve bank
boards to 12, allowing for 6 instead of 3 class C directors?
Governor Partee. That is right.
Mr. Hannaford. The present legislation requires class C be cate­
gorized as consumer—what is the category?
Governor Partee. It is a wide variety. It is a broad list.
Mr. Hannaford. Including minorities, women, consumers, so on?
Governor Partee. Service organizations and labor as well.
Mr. Hannaford. Well, I might comment on the difference be­
tween balance and diversification. I guess if you diversify with




16

precision it would be balanced, maybe. I do think that this is an
important element to have. And I think, as to the chairman’s
concern, it is a fact that probably a black woman could understand
the world of banking very well, but perhaps a white male banker
could not understand the problems in the world of being a black
woman. I think we could have a balanced board with all the
diversification that the legislation calls for and still have it quite
competent to deal with problems that the Board must deal with. I
regret that I was not here for your testimony.
I have no further questions, Mr. Chairman.
Chairman Mitchell. Thank you, Mr. Hannaford.
Governor Partee, we will move expeditiously to mark up both of
these bills. I am unable to set a time today for their markup.
However, I can assure the members of the subcommittee that the
markup will not be on a Friday, because we will have not sufficient
membership here, apparently, to mark up the Solar Bank Act bill.
But we will move expeditiously on them.
Thank you very much for being here.
Governor Partee. Thank you.
Chairman Mitchell. If I may have the attention of the members
of the subcommittee for just a moment. On close checking, it ap­
pears that none of the Republican members of the subcommittee
can be here for the markup. Though I might want to try to do it
with all of them being absent, I do not think I could do it under the
rules of the House. Anyway, I think there is a general consensus
that we are moving in the right direction on the solar bill. Howev­
er, in light of the fact that a quorum of the members are not
present, I do not believe we can mark up the solar bill today. We
will reschedule the markup for next Thursday, July 20, 1978, at 10
a.m.
Thank you very much. The hearing is now adjourned.
[Whereupon, at 9:15 a.m., the subcommittee was adjourned, to
reconvene upon the call of the Chair.]
[The following letter with attached record of policy actions taken
by the Federal Open Market Committee at its meeting on June 20,
1978, with emphasis in the discussion of “Operations in Federal
Agency Securities” on pages 16 and 17, was submitted by Governor
Partee for inclusion in the record:]




17

BO A R D OF G O V E R N O R S
O F THE

FEDERAL RESERVE SYSTEM
W A S H IN G T O N

J. C H AR LES PARTEE
M E M B E R OF TH E BOARD

July 21, 1978

The Honorable Parren J. Mitchell
Chairman
Subcommittee on Domestic Monetary
Policy
Committee on Banking, Finance
and Urban Affairs
U. S. House of Representatives
Washington, D. C.
20515
Dear Mr. Chairman:
You will recall that in my statement on H.R. 12621 before your
Committee last week, I indicated that defensive actions might need to be
taken by the Federal Reserve because of the recent marked decline in the
"cushion" of excess collateral eligible to secure Federal Reserve notes.
Among other measures necessary to ensure compliance with the law, I
mentioned that the System might well be forced to cease purchases of
Federal agency issues for the Open Market Account, and to replace
agency securities with other assets eligible as collateral.
In this connection, you may be interested in the discussion
of open market operations in Federal agency securities that appears on
pages 16 and 17 of the enclosed record of policy actions of the June
meeting of the Federal Open Market Committee. The need to de-emphasize
open market operations in the secondary market for Federal agency issues
would not have arisen if such obligations were eligible to secure Federal
Reserve notes.
I want to express again the Board's appreciation for your
Committee's prompt attention to this matter,
Sincerely,

Enclosure




V

18

FEDERAL

RESERVE

July 21, 1978
The Board o f Governors o f the Federal Reserve System
and the Federal Open Market Committee today released the attached
record o f p o lic y action s taken by the Federal Open Market Committee
at it s meeting on June 20, 1978.
Such records fo r each meeting o f the Committee are made
ava ila b le a few days a fte r the next reg u larly scheduled meeting
and are published in the Federal Reserve B u lletin and the Board's
Annual Report.

The sumnary d escrip tio n s o f economic and fin a n cia l

condition s they contain are based s o le ly on the inform ation that
was a v a ila b le to the Committee at the time o f the meeting.

Attachment




19
July 21, 1978

R C R O POLICY ACTIONS
EOD F
O TH FEDERAL OPEN M K
F
E
AR ET COM ITTEE
M
Meeting held on June 20. 1978
1•

Domestic policy directive
The information reviewed at th is meeting suggested

that output of goods and services had expanded rapidly on the
average in the second quarter, re fle c tin g the economy's rebound
in la te winter and early spring from the e ffe c ts of the unusually
severe winter weather and the lengthy coal s tr ik e .

More recently,

however, the rate of expansion appeared to have slowed.

The rise

in average p r ic e s--a s measured by the fixed-weighted price index
for gross domestic business product--accelerated markedly in the
second quarter, due in large measure to substantial increases in
food p rice s.
S ta ff projections continued to suggest moderate expan­
sion in output over the year ahead.

The anticipated rate of

growth was slig h tly lower than that projected a month e a r lie r ,
mainly because the assumptions regarding f is c a l p olicy were modified
to r e fle c t the adm inistration's decision to delay the proposed tax
cut from October 1 to January 1 and to reduce i t s s iz e .

The pro­

jected rate of price advance had been raised s lig h tly from that of
a month e a r lie r , but i t was s t i l l well below the rate in the second
quarter.

The projections also suggested that the unemployment rate

would decline a b it further over the coming year.




20

6/20/78

-2-

Growth in production and employment moderated in May from
the rapid rates of preceding months.

Thus, the industrial pro­

duction index increased 0 .6 per cent, compared with gains of 1 .2
and 1 .4 per cent in March and A p ril, resp ectiv ely; and the rise in
nonfarm payroll employment in May was le ss than one-half the average
increase e a rlier in the year.

In manufacturing, the gain in employ­

ment was re la tiv ely small and the average workweek declined.

The

labor force continued to grow substan tially and the unemployment
rate edged up to 6 .1 per cent from 6 .0 per cent in A p ril.
Total r e ta il sales were about unchanged in May, following
3 months of exceptionally large gains.

Unit sales of new auto­

mobiles rose slig h tly further to a new high for the current expan­
sion .

I t appeared that some consumers were buying new cars in

anticipation of further price increases.
The la te st Department of Commerce survey of business spend­
ing plans, taken in la te A pril and May, suggested that outlays for
plant and equipment would expand 11.2 per cent in 1978; this rate
was marginally above that reported in the February survey.

Other

indicators of capital spending plans, such as manufacturers’ capital
appropriations, contracts for commercial and industrial buildings,
and new orders for nondefense capital goods, appeared generally
consistent with continued moderate expansion in investment outlays.
The index of average hourly earnings for private nonfarm
production workers rose at an annual rate of about 3 per cent in




21

6/20/78

-3-

Hay, following increases averaging close to 10 per cent in e a rlier
months of 1978.

For the f i r s t 5 months o f the year the index had

increased at a somewhat faster rate than i t had on the average in
1977.

The advance in the wholesale price index for a l l commodities

also slowed in May, re fle c tin g smaller increases in prices of farm
and food products as of the time of the survey.

Later in the month,

however, prices of a number of farm products advanced.

In April

the consumer price index for a l l urban consumers rose at an accel­
erated annual rate of nearly 11 per cent, owing to further large
increases in food prices and to higher service co sts, especially
those relating to home ownership.

In general, prices had increased

considerably faster in early 1978 than during the year 1977.
In foreign exchange markets the trade-weighted value of
the d ollar reached a peak for 1978 in la te May.

Subsequently the

dollar declined by about 2 per cent, but i t remained above the low
for the year that had been recorded in early A p ril.
The renewed downward pressure on the dollar appeared to
r e fle c t market concern about the high rate of in fla tio n in the
United States re la tiv e to rates in other industrial countries and
about the continuation of large d e fic its in U.S. foreign trade and
surpluses in the trade of Germany and Japan.

The d e fic it in April

was about the same as that in March but lower than the high le v e l of
the f i r s t quarter.
A p r il.




Both exports and imports rose considerably in

22

6/20/78

-4-

The rate of expansion in to ta l bank c re d it, which had
accelerated sharply in A p ril, slackened somewhat in May but remained
above the average for other recent months.

Bank holdings of secur­

it ie s changed li t t le ,b u t to ta l loans, led by a surge in business
loans, grew at an exceptional pace.

Outstanding commercial paper

of nonfinancial businesses declined s lig h tly in May.
Growth in the narrowly defined money supply (M-l) moder­
ated in May to an annual rate of about 6 -1 /2 per cent from the
extraordinarily rapid 19 per cent in A p r il.

Growth in M-2 and M-3

also slowed in May, reflectin g the deceleration in M -l.

Inflows

of the interest-bearing deposits included in M-2 generally were
greater than in April as commercial banks issued a substantial volume
of large-denomination time deposits to finance the sharp increase in
business loans.

However, inflows of funds into savings deposits and

small-denomination time deposits remained slow both at banks and at
th r ift in s titu tio n s .

Preliminary data for the f i r s t part of June

suggested that growth in M-l and M-2 would accelerate in that
month.
At it s meeting on May 16 the Committee had decided that the
ranges of tolerance for the annual rates of growth in M-l and M-2
during the May-June period should be 3 to 8 per cent and 4 to 9
per cent, respectively, and i t had judged that such growth rates
were lik e ly to be associated with a wedcly-average Federal funds
rate slig h tly above the level of 7 -1 /4 to 7 -3 /8 per cent prevailing




23

6/20/78

-5-

at that time.

The Committee had agreed that i f growth rates in

the aggregates over the 2-month period appeared to be deviating
sig n ific a n tly from the midpoints of the indicated ranges, the
operational objective for the weekly-average Federal funds rate
should be modified in an orderly fashion within a range of 7 -1 /4
to 7 -3 /4 per cent.
In accordance with the Committee's decision, the Manager
of the System Open Market Account began a fte r the May meeting to
seek bank reserve conditions consistent with a firming of the Federal
funds rate to around 7 -1 /2 per cent.

Incoming data throughout most

of the inter-meeting period suggested that growth in the monetary
aggregates would be well within the ranges specified by the Committee,
and the Manager continued to seek conditions consistent with a Federal
funds rate of 7 -1 /2 per cent.
Data that became available a few days before this meeting
suggested that M-l would grow in the May-June period at an annual
rate of about 7 -1 /2 per cent, close to the upper lim it of it s range.
M-2 also was projected to grow in the 2-month period at a 7 -1 /2 per
cent ra te, in the upper half of the range specified for that aggre­
gate.

These data suggested the need for Committee consultation, and

on June 16, in view of the proximity of the meeting scheduled for
June 20, the Committee voted to direct the Manager to continue for
the time being to aim for a Federal funds rate of 7 -1 /2 per cent.




24

6/20/78

-6-

Other market in terest rates had risen further in
recent weeks.

R eflecting not only the r ise in the funds rate but

a lso substantial business credit demands, market rates on short­
term secu rities had

increased from 30 to 60 basis points since

mid-May, and conmercial banks had raised the rate on loans to prime
business borrowers in two steps from 8 -1 /4 to 8 -3 /4 per cent.
Y ields on long-term se cu ritie s rose 5 to 20 basis points over the
same period, apparently in response to the ris e in short-term rates
and investor concerns about the prospects for in fla tio n .
Conditions in mortgage markets had continued to tighten
recently as strong demands for credit pressed against reduced a v a il­
a b ility of funds at lending in stitu tio n s.

At savings and loan asso­

c ia tio n s, net mortgage lending a c tiv ity in A p ril— the la te st month
for which data were availab le—was close to i t s reduced rate
in the weather-affected f i r s t quarter, and mortgage conznitments
outstanding declined further.

During the inter-meeting period there

were further increases in in terest rates on new commitments for con­
ventional home loans at the associations and, in most regions, a
tightening of nonrate terms as w e ll.

Yields in the secondary market

for home mortgages also had generally increased in recent weeks.
In the Conmittee's discussion of the economic situation
and outlook, the members generally agreed that the growth in real
output of goods and services over the coming three quarters would be
substantially slower on the average than i t had been in the unusually




25

6/20/78

-7-

strong quarter ju st ending.

However, they s t i l l expected real G P
N

to grow at a moderate average rate during the year ending with the
second quarter of 1979.

While some members thought that average

growth for that period would probably be at or a l i t t l e below the
rate projected by the s t a f f , others expected somewhat faster growth,
A majority feared that the r ise in prices would be greater than the
s t a f f anticipated.

Most members thought that the unemployment rate

a t.th e end of the period would be l i t t l e changed from the rates
recently prevailing.
With respect to the months immediately ahead, a majority
of the Committee members thought that the economy was lik e ly to show
more strength than the s t a f f projection suggested.

These members

noted that both consumer and business sentiment appeared to be strong,
and they interpreted the la te s t data on consumer behavior as evidence
that many households were adopting a speculative approach to spending—
anticipating needs for housing and other durables, and in the
process adding w illin g ly to already heavy debt burdens.

While these

members acknowledged that national economic data did not yet suggest
sim ilar anticipatory spending on the part of businesses, several
noted that many businessmen appeared to be optim istic about the
prospects for their own firms and industries and that such optimism
might soon be reflected in a step-up in o v e r-a ll business inventory
accumulation and investment outlays.

31-321 0 - 78 -2




A number of these members expressed

26

6/20/78

-8-

concern about the indications that in flationary expectations were
strengthening and that both business and labor were in tensifying their
e ffo r ts to protect themselves through price and wage increases.
Two of the members who anticipated re la tiv e ly strong growth
in the near term thought that the economy was lik e ly to generate suf­
fic ie n t momentum to maintain a favorable rate of expansion beyond
mid-1979.

Others in this group were concerned, however, that insofar

as near-term spending of consumers and businesses embodied specula­
tive tendencies, the resulting economic distortion s might lead to
sig n ific a n tly slower growth in 1979.
Of the Committee members who anticipated le s s near-term
strength in the economy, some suggested that current business optimism
might w ell r e fle c t an overemphasis on the sharp rebound that had
occurred in recent months rather than a considered assessment by busi­
nessmen of prospects for the future.

These members thought i t unlikely

that growth in consumer outlays would continue at the recent ra te,
and they saw no obvious source of o ffse ttin g strength.

They expected

outlays for housing to slacken; they noted that surveys o f business
investment plans did not r e fle c t much ebullience; and they thought
businessmen would follow a cautious approach to inventory expansion.
F in a lly , they noted that Federal fis c a l policy would be le s s stimula­
tive than anticipated e a rlier in the year.




27

6/20/78

-9-

Several members of the Committee observed that re la tiv e ly
slow economic growth would tend to dampen in flation ary pressures and
to bolster the position of the dollar in foreign exchange markets.
One of these members noted that economic a c tiv ity in major industrial
countries abroad was expected to strengthen, and that such a develop­
ment would help to lim it any deceleration in the U .S. expansion.

He

added that a fa ilu re of a c tiv ity abroad to strengthen as expected
would increase the chances of unsatisfactory growth in the United
States and would create additional problems with respect to the U.S.
current account.
At i t s meeting in April the Committee had agreed that
from the f i r s t quarter of 1978 to the f i r s t quarter o f 1979 average
rates of growth in the monetary aggregates within the following ranges
appeared to be consistent with broad economic aims:

M -l, 4 to 6 -1 /2

per cent; M-2, 6 -1 /2 to 9 per cent; and M-3, 7 -1 /2 to 10 per cent.
The associated range for the rate of growth in commercial bank credit
was 7 -1 /2 to 1 0 -1 /2 per cent.

I t had also been agreed that the

longer-run ranges, as well as the particular aggregates for which
such ranges were sp ecified , would be subject to review and modifica­
tion at subsequent meetings.
At this meeting, in discussing policy for the period
immediately ahead, Committee members expressed considerable concern
about recent rates of growth in the monetary aggregates, particularly
in lig h t of the continuing strength of in flationary pressures and




28

6/20/78

expectations.

-10-

The members agreed that open market operations in the

inter-meeting period should be directed i n i t i a lly toward achieving
slig h tly firmer money market conditions, and that la te r in the period
the objectives of operations should depend on incoming data for M-l
and

M-2.
As at the preceding meeting, there were differences of

view with respect to the degree of firming that might be undertaken.
These differences were reflected in opinions on such issues as the
magnitude and speed of the in i t i a l move toward firmer money market
conditions and the amount of leew ay--in terms of the inter-meeting
range specified for the Federal funds r a t e --fo r further firming
la te r in the period.
As to the in i t i a l move, most members favored seeking
an increase in the Federal funds rate to 7 -3 /4 per cent from the
prevailing le v e l of 7 -1 /2 per cent within a few days a fter this
meeting.. However, one member suggested that th is quarter-point
increase be achieved over a somewhat longer period, and another pro­
posed that the in i t i a l increase be lim ited to one-eighth of a p oin t.
With respect to the inter-meeting range for the Federal funds ra te ,
most members favored 7 -1 /2 to 8 per cent, but a number preferred
7 -1 /2 to 8 -1 /4 per cent.
There was greater d iv e rsity of views with respect to
the ranges of tolerance to be specified for the annual rates of
growth in M-l and M-2 in the June-July period.




Of the ranges

29

6/20/78

-11-

suggested for M -l, the lowest was 3 -1 /2 to 8 -1 /2 per cent, and the
highest was 6 -1 /2 to 1 0 -1 /2 per cent; for M-2 the suggestions covered
a sim ilar span.

I t was noted during the discussion that i f the mone­

tary aggregates accelerated in June, as suggested by the early data,
growth over the June-July period at rates near the midpoints of some
of the lower ranges proposed could be achieved only i f there were to
be a sharp slowing in July.

Some members, who were inclined to stress

the risks to the economy of rapid firming of money market conditions,
saw this circumstance as an argument for specifying re la tiv e ly high
2-month ranges for M-l and M-2.

Other members, who placed more stress

on the importance at this time of lim itin g growth in the aggregates for
the sake of moderating in flationary pressures and expectations, thought
such firming would be called for i f the growth in the aggregates did
not in fact slow sharply.
At the conclusion of the discussion the Committee
decided that the ranges of tolerance for the annual rates of growth
over the June-July period should be 5 to 10 per cent for M-l and
6 to 10 per cent for M-2.

The Committee agreed that during the

coming inter-meeting period operations should be directed in it i a lly
toward a Federal funds rate of 7 -3 /4 per cent, s lig h tly above the
prevailing le ve l of 7 -1 /2 per cent.

Subsequently, i f the 2-month

growth rates of M-l and M-2 appeared to be sig n ific a n tly above or
below the midpoints of the indicated ranges, the objective for the
funds rate was to be raised or lowered in an orderly fashion within




30

6/20/78

-12-

a range of 7 -1 /2 to 8 per cent.

I t was understood that in assess­

ing the behavior of the aggregates the Manager should continue to
give approximately equal weight to the behavior of M-l and M-2.
I t was also understood that the Chairman might c a ll upon
the Committee to consider the need for supplementary instructions
i f the rates of growth in the aggregates appeared to be above the
upper lim it or below the lower lim it of the indicated ranges at a
time when the objective for the funds rate had already been moved
to the corresponding lim it of it s range.
At this meeting the Committee considered certain proposed
modifications in the language customarily employed in the concluding
paragraphs of the domestic policy d ir e c tiv e .

I t was noted that,

perhaps because of the manner in which the d ire ctiv e was worded, the
2-month ranges of tolerance for M-l and M-2 were subject to m isinter­
pretation as embodying the Committee's short-run targets for these
aggregates, intended to be achieved by appropriate changes in the
Federal funds ra te .

In f a c t, however, the Manager could not be

expected regularly to achieve 2-month growth rates in M-l and M-2
within the specified ranges for various reasons--Including the lag
between changes in the Federal funds rate and changes in these growth
ra te s, and the brevity of the period to which the operational para­
graphs of any sin gle d irective applied.
I t was noted in the discussion that the Committee's
objectives for the monetary aggregates were embodied in the 1-year




31

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-13-

ranges established at quarterly in te rv a ls, and that the adjustments
made from time to time in the Federal funds rate were intended to
increase the likelihood that the longer-run growth rates would f a l l
within these ranges.

The purpose of the 2-month ranges was to pro­

vide the Manager with an indicator for determining when changes in
the funds rate were appropriate; s p e c ific a lly , the Manager was
expected to adjust the funds rate within it s range when the la te st
projections of 2-month growth rates in M-l and M-2 deviated s ig n if i­
cantly from the midpoints of their ranges (o r, i f the Committee so
indicated in the d ire ctiv e , when the projections for the aggregates
approached or moved beyond the lim its of their ranges).
At the May meeting, following a preliminary discussion
of th is matter, the Committee had deleted one p o te n tia lly misleading
phrase from the language previously employed, to the e ffe c t that the
Committee "exp ects" the 2-month growth rates to be within the indi­
cated ranges.

At this meeting the Committee agreed upon a more

thorough revision of the customary language, in an e ffo r t to reduce
the chances of m isinterpretations.
The following domestic policy d irective was issued to
the Federal Reserve Bank of New York:
The information reviewed at this meeting suggests
that real output of goods and services has grown rapidly
on the average in the current quarter as a c tiv ity rebounded
from the e ffe c ts of the unusually severe winter weather and
the lengthy coal strik e , but the rate of advance most recently
appears to be slowing. Following substantial gains in March
and A p r il, increases in in dustrial production and nonfarm




32

6/20/78




-14-

payroll employment moderated in May and r e ta il sales
changed l i t t l e . The unemployment rate edged up from
6 .0 to 6 .1 per cent in association with a large
increase in the c iv ilia n labor force . Average whole­
sale prices rose somewhat le ss rapidly in May than
earlier in 1978, re fle c tin g smaller reported increases
in farm products and processed foods. So far this year
prices have increased at a considerably faster rate than
they had on average during 1977. The index of average
hourly earnings also has increased at a somewhat faster
pace so far in 1978 than during 1977.
Since the end of May the trade-weighted value of
the dollar against major foreign currencies has declined
about 2 per cent, but i t remains above i t s early-A p ril
low. The trade d e fic it in April was down somewhat from
i t s very high first-q u a rte r ra te .
Growth in M-l moderated in May from the extra­
ordinarily rapid pace in A p ril, and as a resu lt growth
in M-2 and M-3 a lso slowed. Inflows of the in te re stbearing deposits included in M-2 picked up somewhat as
commercial banks increased their reliance on largedenomination time deposits to finance an unusually sharp
increase in business loans. Market in terest rates have
risen somewhat further in recent weeks.
In lig h t of the foregoing developments, i t is the
policy of the Federal Open Market Committee to foster
monetary and financial conditions that w ill r e s is t
in flationary pressures while encouraging continued
moderate economic expansion and contributing to a sus­
tainable pattern of international transactions. At
i t s meeting on A pril 18, 1978, the Committee agreed
that these objectives would be furthered by growth of
M -l, M-2, and M-3 fron the f i r s t quarter o f 1978 to
the f i r s t quarter of 1979 at rates within ranges of
4 to 6 -1 /2 per cent, 6 -1 /2 to 9 per cent, and 7 -1 /2
to 10 per cent, resp ectiv ely. The associated range
for bank credit is 7 -1 /2 to 1 0 -1 /2 per cent. These
ranges are subject to reconsideration at any time as
conditions warrant.
In the short run, the Committee sedcs to achieve
bank reserve and money market conditions that are
broadly consistent with the longer-run ranges for
monetary aggregates cited above, while giving due

33

6/20/78

-15regard to developing conditions in fin an cial markets
more generally. During the period u n til the next
regular meeting, System open market operations shall
be directed i n i t i a l l y at attaining a weekly-average
Federal funds rate s lig h tly a ove the current le v e l.
Subsequently, operations sh a ll be directed at maintain­
ing the weekly Federal funds rate within the range of
7 -1 /2 to 8 per cent. In deciding on his s p e c ific objec­
tiv e for the Federal funds rate the Manager sh a ll be
guided mainly by the relationship between the la te s t
estimates of annual rates of growth in the June-July
period of M-l and M-2 and the following ranges of
tolerance: 5 to 10 per cent for M-l and 6 to 10 per
cent for M-2. I f , giving approximately equal weight
to M-l and M-2, their rates o f growth appear to be
sig n ific a n tly above or below the midpoints of the
indicated ranges, the objective for the funds rate
sh a ll be raised or lowered in an orderly fashion
within i t s range.
I f the rates of growth in the aggregates appear
to be above the upper lim it or below the lower lim it
o f the indicated ranges at a time when the objective
for the funds rate has already been moved to the
corresponding lim it of i t s range, the Manager is
promptly to n o tify the Chairman who w ill then decide
whether the situ ation c a lls for supplementary instruc­
tions from the Committee.
Votes for this action: Messrs.
M ille r , Volcker, Baughman, Coldwell,
Eastburn, Gardner, Jackson, Partee,
and W allich. Votes against this
action: Messrs. W ille s and Winn.
Messrs. W ille s and Winn dissented from this action

because they favored more vigorous measures to curb the rate of
growth in the monetary aggregates.

Both preferred ranges of to le r ­

ance for the 2-month growth rates in M-l and M-2 lower than those
approved by the m ajority; in addition, Mr. W illes favored an upper
lim it for the funds rate range of 8 -1 /4 per cent.




34
6/20/78

-16-

Mr. W ille s , c itin g strong consumer and business credit
demands at prevailing in terest ra te s, f e lt that a further rise in
short-term in terest rates would not sig n ific a n tly damage economic
prospects and that, to the extent that such a ris e tended to moderate
in flationary expectations, i t would have a p ositiv e impact on the
economy.

Mr. Winn f e l t that i f the Committee did not act now to

assure a reduction in the rates of growth of the aggregates, an
excessively r e str ic tiv e policy would be required la te r on i f the
Committee's longer-range objectives were to be achieved.
2.

Operations in Federal agency securities
At this meeting the Committee discussed i t s procedures

with respect to open market operations in Federal agency s e c u ritie s.
The discussion arose because of a potential problem posed by a sta­
tutory requirement that Federal Reserve note l i a b i l i t i e s be c o lla ­
teralized by e lig ib le a sse ts, which included direct obligations of
the Treasury but not Federal agency issu e s.

At times recently, the

margin of actual c ollate ral over that required had been re la tiv e ly
sm all.

The Board of Governors had proposed le g is la tio n that would

make Federal agency issues e lig ib le as c o lla te r a l, but Congress had
not yet acted on the proposal.
I t was noted that the problem of maintaining su ffic ie n t
c o lla te ra l for Federal Reserve notes could become c r it ic a l at seme
point before the enactment of such le g isla tio n i f , for example, a
need arose to s e ll a substantial volume of Treasury se cu rities to
absorb redundant member bank reserves.




I t was a lso noted that the

35

6/20/78

-17-

problem would be mitigated by some slowing of the rate of growth in
System holdings of agency secu rities and a correspondingly larger
increase in holdings of Treasury se c u ritie s.
Paragraph 1(a) of the Committee's authorization for
domestic open market operations authorizes the Federal Reserve Bank
of New York to s e l l , as well as to buy, Federal agency securities
for the System Open Market Account.

H isto r ic a lly , however, sales

of such secu rities have been quite infrequent.

I t was the sense of

the Committee that modest sales of agency issues would be appropriate
from time to time, but only when market circumstances permitted and
when sales of secu rities were consistent with the objectives of
open market operations.

I t was noted in the discussion that, even

apart from the problem of co lla te ra l requirements, occasional sales
of agency issues would help enhance the f le x i b i li t y o f open market
operations.

The Committee also agreed that the Desk should reduce

somewhat the volume of agency issues i t purchased when supplying
reserves, and that occasionally, when there was a need to absorb
reserves, i t should redeem maturing agency issues for cash rather
than routinely exchange them for new issu e s.
3.

Authorization for foreign currency operations
At this meeting the Committee approved a technical

amendment to paragraph ID of the authorization for foreign currency
operations, under which the de fin ition contained in the second sen­
tence o f that paragraph of "o v e r -a ll open position in a l l foreign




36

6/20/78

-18-

currencies" is given as "th e sum (disregarding signs) of net positions
in individual currencies" rather than as "th e sum (disregarding signs)
o f open positions in each currency."

This change was approved in the

in terest of c la r ity , and to make the language of this paragraph con­
form to certain new language concurrently introduced in the procedural
instructions governing foreign currency operations, as described below.
With this amendment, paragraph ID read as follow s:
To maintain an o v e r-a ll open position in a l l foreign
currencies not exceeding $ 1 .0 b illio n , unless a larger
position is expressly authorized by the Committee. For
this purpose, the o v e r-a ll open position in a l l foreign
currencies is defined as the sum (disregarding signs) of
net positions in individual currencies. The net position
in a single foreign currency is defined as holdings of
balances in that currency, plus outstanding contracts for
future receip t, minus outstanding contracts for future
delivery of that currency, i . e . , as the sum of these e le ­
ments with due regard to sign.
Votes for this action: Messrs.
M ille r, Volcker, Baughman, Coldwell,
Eastburn, Jackson, Partee, W allich,
W ille s, and Winn. Votes against this
action: None. Absent and not voting:
Mr. Gardner.
Under the f i r s t sentence of paragraph ID, which was not
affected by the foregoing amendment, the Federal Reserve Bank of New
York is authorized, for System Open Market Account, to maintain an
o v e r-a ll open position in a l l foreign currencies not exceeding $ 1.0
b i l l i o n , unless a larger position i s expressly authorized by the Com
­
m ittee.

On March 21, 1978, the Committee had authorized an open

position of $2.25 b illio n in view o f the scale of recent and poten­
t i a l System operations in foreign currencies.




On May 16, 1978, the

37

6/20/78

-19-

Committee had reduced this lim it to $2 .0 b illio n , in lig h t of decreases
in the System's open p ositio n .

Against the background of further

decreases in the open p ositio n , the Committee reduced the lim it to
$ 1 .5 b illio n at this meeting.
Votes for th is action: Messrs.
M ille r, Volcker, Baughman, Coldwell,
Eastburn, Jackson, Partee, W allich,
W ille s, and Winn. Votes against this
action: None. Absent and not voting:
Mr. Gardner.
4.

Procedural instructions with respect to operations under the
foreign currency documents
In December 1976 the Committee had adopted certain

procedural instructions for the purpose of c larifyin g the respec­
tiv e roles of the Committee, the Foreign Currency Subcommittee
designated in paragraph 6 of the authorization for foreign currency
operations, and the Chairman in providing guidance to the Manager
of the System Open Market Account with respect to proposed or on­
going foreign currency operations under the authorization and the
foreign currency d ire ctiv e .

Paragraph IB of the instructions called

for clearance of any transactions that would result in gross trans­
actions in a sin gle foreign currency exceeding $100 m illion on any
day or $300 m illion since the most recent regular meeting of the Com
­
m ittee.

At it s meeting in March 1978 the Committee amended paragraph

IB to increase these d ollar lim its , which had occasionally hampered
ongoing operations, and to remove an ambiguity in the language.




38

6/20/78

-20-

At this meeting the Committee decided to discontinue
the use of the concept of gross transactions in the procedural
in structions.

In i t s stead i t introduced (a) a clearance require­

ment formulated in terms of daily and inter-meeting changes in the
System's net position in a single foreign currency and (b) a require­
ment for clearance of any operation that might generate a substan­
t i a l volume of trading in a particular currency by the System,
regardless of the e ffe c t on the System's net position in that cur­
rency.

The purpose of these changes was to improve the e ffe c tiv e ­

ness of the consultation procedure.

In addition, for the sake of

c la r ity the word ’'transaction" was replaced by the word "operation"
wherever the former had occurred in the in structions.
The two new provisions were iden tified as paragraphs
IB and 1C.

Paragraph 1A, which refers to d aily and inter-meeting

changes in the System's ov e r-a ll open position in foreign currencies,
was retained, and the paragraph previously designated 1C, which
re la te s to swap drawings by foreign central banks, was redesignated ID.
With these changes, the procedural instructions read
as follow s:
In conducting operations pursuant to the authorization
and direction of the Federal Open Market Comnittee as set
forth in the Authorization for Foreign Currency Operations
and the Foreign Currency D irective, the Federal Reserve
Bank of New York, through the Manager of the System Open
Market Account, shall be guided by the following procedural
understandings with respect to consultations and clearance
with the Committee, the Foreign Currency Subcommittee, and
the Chairman of the Committee. A ll operations undertaken
pursuant to such clearances sh all be reported promptly to
the Committee.




39

6/20/78

-21-

1 . The Manager sh all cle a r with the Subcommittee (o r with
the Chairman, i f the Chairman b e lie v e s that con su lta tion
with the Subcommittee is not fe a s ib le in the time a v a ila b le ):
A . Any operation which would re su lt in a change in
the System’ s o v e r-a ll open p ositio n in foreign cur­
rencies exceeding $100 m illion on any day or $300
m illion since the most recent regular meeting of
the Conmittee.
B. Any operation which would re su lt in a change in
the System1s net position in a sin gle foreign cur­
rency exceeding $100 m illion on any day or $300 m il­
lio n since the most recent regular meeting o f the
Committee.
C. Any operation which might generate a substan tial
volume of trading in a particular currency by the
System, even though the change in the System* s net
positio n in that currency might be le s s than the
lim its specified in IB.
D. Any swap drawing proposed by a foreign bank not
exceeding the larger of ( i ) $200 m illion or ( i i ) 15
per cent of the size of the swap arrangement.
2 . The Manager shall clear with the Coranittee (or with the
Subcommittee, i f the Subcommittee b elieves that consultation
with the f u ll Conmittee is not fe a sib le in the time a v a ila b le ,
or with the Chairman, i f the Chairman believes that consultation
with the Subcommittee is not fe a sib le in the time availab le) :
A . Any operation which would re su lt in a change in
the System's ov e r-a ll open p ositio n in foreign cur­
rencies exceeding $500 m illion since the most recent
regular meeting of the Committee.
B. Any swap drawing proposed by a foreign bank
exceeding the larger of ( i ) $200 m illion or ( i i ) 15
per cent o f the size of the swap arrangement.
3* The Manager sh all also consult with the Subcommittee or the
Chairman about proposed swap drawings by the System, and about
any operations that are not of a routine character.




Votes for this action : Messrs.
M ille r , Volcker, Baughman, Coldwell,
Eastburn, Jackson, Partee, W allich,
W ille s , and Winn. Votes against this
action : None. Absent and not voting:
Mr. Gardner.

40

[The following letter was received from the Department of the
Treasury in regard to H.R. 12621. See also page 10 of the Hearing.]

DEPARTM ENT O F TH E TREASURY
O F F IC E O F T H E G E N E R A L C O U N S E L
W A S H IN G T O N . D .C . 20220

AUG

3 1978

Dear Mr. Chairman:
Reference is made to your request for the views of the
Department of the Treasury concerning H.R. 12621, a bill "To
expand the class of collateral eligible for use as security for
Federal Reserve notes."
Under the second paragraph of section 16 of the Federal
Reserve Act (12 U.S.C. 412) a Federal Reserve Bank applying for
Federal Reserve notes must post collateral in an amount equal to
the Federal Reserve notes applied for and issued. The collateral
may consist of, among other things, "direct obligations of the
United States." H.R, 12621 would amend that paragraph to expand
the list of eligible collateral to include any obligations which
are fully guaranteed as to principal and interest by the United
States or any agency thereof.
This Department has no objection to the enactment of H.R.
12621.
The Office of Management and Budget has advised that there is
no objection from the standpoint of the Administration's program
to the submission of this report to your Committee.
S in c e r e ly

y o u rs ,

Deputy General Counsel

The Honorable
Parren Mitchell, Chairman
Subcommittee on Domestic Monetary
Policy
House of Representatives
Washington, D. C. 20515




o

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