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llllproving tl1e Monetary Aggregates Report of the Advisory Committee on Monetary Statistics Board of Governors of the Federal Rcsc1 ve S,·stcrn https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Published in June 1976 Library of Congress Catalog Card Number 76- 14517 Copies of this report may be obtained from Publications Services, Division of Adm inistrative Services, Board of Governors of the Federal Reserve System, Washington , D.C. 20551. The price is 1.00 per copy; in quantities of IO or more sent to one address, 85 cents ea h. Remittances should be made payable to the Board of Governors of the Federal Reserve System in a form collectible at par in U.S. currency. (Stamps and coupons arc not accepted.) https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis IIllproving the Monetary Aggregates Report of the Advisory Committee on Monetary Statistics Washington, D. C. https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Preface In early 1974, the Board of Governors of the Federal Reserve System asked a group of promment economists to review the monetary aggregates used by the Federal Reserve m the formulation and implementation of monetary policy The experts were asked to focus their mvestigation on a techmcal evaluation of the quality of the monetary statistics m question The Advisory Committee on Monetary Statistics was chaired by Professor G L Bach (Stanford Umversity), Professor Phillip D Cagan (Columbia Umversity) served as Executive Secretary Other members of the Committee were Professor Milton Friedman (Umversity of Clucago), Professor Clifford G Hildreth (Umversity of Mmnesota), Professor Franco Modigham (Massachusetts Institute of Technology), and Dr Arthur Okun (the Brookmgs Institution) Professor Paul McCracken '(Umversity of Michigan) was a member of the Committee origmally, but withdrew because of the pressures of other duties The Committee's report contams seven prmcipal recommendations that relate to the measurement, defimtion, adjustment for seasonal variation, and publication of the several statistical series on the monetary aggregates In selectmg the monetary aggregates to be https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis exammed, the Committee was gmded, as its i eport mdicates, by "received doctrine among leadmg monetary economists and practitioners m monetary policy " The Board's research staff prepared a number of studies for the Committee A compamon volume to this Report, contammg eight staff papers drawmg on these origmal studies, will be published by the Board at an early date Board staff support of the work of the Advisory Committee on Monetary Statistics was supervised throughout most of the period by James L Pierce, who at the time was Associate Director of the Division of Research and Statistics, and, subsequently, by Edward C Ettm, Adviser m the Div1S1on of Research and Statistics Members of the staff of the Division of Research and Statistics and the Division of International Fmance workmg with the Committee were Darwm L Beck, Helen T Farr, Arthur B Hersey, Darrel W Parke, David Pierce, Richard D Porter, Henry S Terrell, Thomas Thomson, and Neva Van Peski In addition, Anton S Nissen, Assistant Vice President at the New York Federal Reserve Bank, contributed to the work of the Committee The Board of Governors greatly appreciates the contribution made by the Committee and will carefully conside1 its recommendations Arthur F Burns, Chairman Board of Governors of the Federal Reserve System Contents Preface SECTION 1 1 Introduct10n SECTION 2 3 Summary of Recommendat10ns SECTION 3 7 Conceptual and Defin1t10nal Issues Alternative aggregates _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 8 Recent financial developments _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 9 Problems of consohdat10n _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 12 How to define the "pubhc" What holders? _ _ _ _ _ _ _ _ _ _ _ __ 14 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Contents-continued SECTION 4 21 Measurement Issues and Recommendat10ns How M1 1s constructed now _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 21 Very short-run (transitory) variations m the monetary aggregates _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 25 Nonmember bank deposits _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 28 Consolidation of data from different financial mst1tut10ns _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 31 Seasonal adjustment _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 37 Ownership of demand deposits _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ __ 40 Appendix Summanes of Staff Papers https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 41 SECTION 1 I Introduction The Board of Governors requested tlus Committee to review the basic monetary stat1st1cs (especially the so-called monetary aggregates) used by the Federal Reserve m formulatmg and conductmg monetary policy, to evaluate the1r adequacy, and to present suggest10ns for the1r improvement It asked the Committee to study and make recommendat10ns only on the stat1st1cs m quest10n-not to evaluate monetary policy or to mvest1gate the s1grnficance of the aggregates relative to mterest rates or credit market md1cators We have adhered ngorously to this d1rect1ve It 1s 1mposs1ble, however, to select the monetary totals, or aggregates, to examme without 1udgmg to some extent the1r usefulness for policy purposes (for example, decidmg that the "money stock" as usually defined to mclude ad1usted demand deposits plus currency m the hands of the public-generally termed M 1may be important for policy purposes) In makmg these dec1s10ns, we have been gmded as far as possible by received doctrme among leadmg monetary economists and pract1t1oners m monetary policy, rather than 1mposmg our views as to the optimal theoretical approach to policy issues Indeed, the views of members of the Committee differ substantially on these issues The present basic monetary stat1st1cs of the Federal Reserve are the product of many years of mtens1ve work-by mdependent research workers as well as by Federal Reserve staff members The stat1st1cs have been steadily improved over the years by repeated https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis rev1S1ons We have been impressed by the care and qualt1y of work devoted to collectmg and combmmg the data that comprise these senes Yet conceptual ddiiculties have led to contmumg debates over some of the senes, and techrncal problems of data collect10n and processmg have prevented compilat10n of senes m full accord with the conceptual foundat10ns In view of the substantial weight given monetary aggregates m recent years, it is important that the data used be the best that 1t is possible to obtam As we emphasize m the sect10n on conceptual issues, no one monetary aggregate 1s clearly preferable to all others on all scores, each has its theoretical and practical strengths and weaknesses as a gmde to, or mtermediate target for, monetary policy operat10ns, and as a measure of the effectiveness of such operat10ns Given our terms of reference and the limitat10ns imposed by the time available, we have concentrated mamly on the reserve base, or "high-powered" money, and on the mam deposit-based senes (M 1 , M 2 , M 3 , M 4 , and M 5 ), suggestmg changes that we believe are feasible at a reasonable cost and that could substantially improve the conceptual validity and measurement accuracy of the aggregates mvolved We provide first a summary of our ma1or recommendations, with very bnef explanat10ns of each, then a more complete analysis of the conceptual and defirnt10nal issues mvolved, and finally a detailed rat10nale for the specific statistical recommendat10ns made by tlus Committee 2 Improvmg the Monetary Aggregates Committee Report While, withm the broad framework of our assignment, we have had complete mdependence as to topics to consider, approaches to issues mvolved, and recommendat10ns, we wish to acknowledge the extensive and mvaluable assistance provided by members of the Board's economic and statistical staff They have been fully cooperative and have produced several dozen special studies at our request, many of them of very substantial magmtude Without this staff work we would have faced a vastly https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis longer task of contractmg out such studies to others, mdeed no outsider could have accomplished a number of the detailed tasks we assigned m exammmg both present statistical procedures and alternatives we wished to consider We deeply appreciate this assistance The staff has combmed these studies mto eight Staff Papers, which are published as a separate volume The Appendix at the end of this report lists and briefly summarizes the Staff Papers 3 SECTION 2 Summary of Recommendations 1 Alternative concepts of money Since no one monetary aggregate is clearly preferable to all others on all scores, we recommend that the Federal Reserve publish regularly the "reserve base," and the ma1or monetary aggregates currently designated M 1, M 2 , M 3, M 4 , and M 5 , although with substantial modifications as indicated below 2 Nonmember bank deposits To reduce large errors zn preliminary estimates of deposits at nonmember banks, we recommend prompt establishment of a weekly reporting sample of large and small nonmember banks and collection of weekly-average-ofdazly-deposits data from nonmember banks four times annually in connection with call reports Recent experiments with a weekly reportmg sample of large and small nonmember banks convmce us that regular collection of such add1t10nal mformat10n could dramatically reduce the large errors now often made m est1matmg nonmember bank deposits between call report dates, and that such data could be obtamed and processed without unreasonable cost to either reportmg banks or to the Federal Reserve In add1t10n, the present hm1tat10n of call report data to a smgle day 1s a substantial add1t10nal source of error that could be eliminated by collectmg weekly-average data on call reports In combmat1on, these two reforms could substantially ehmmate the errors now faced m estimatmg nonmember bank deposits 1 1 As this report 1s bemg completed, we are mformed that the Federal Deposit Insurance Corporation (FDIC) will begm to collect from nonmember banks 7 days of deposit data for the week surroundmg each call report date, begmnmg m March 1976 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 3 Consolidation of accounts at different financial mst1tut10ns We tentatively recommend a new, simpler process of handling interbank deposits and cash items in process of collection when consolidating data from different financial institutions, in order to eliminate certain biases and to obtain a more accurate measure of M 1 and other aggregates. There 1s general agreement that cash items m process of collect10n (mamly checks) should be deducted from demand deposits on banks' books, m order to avoid the double countmg of deposits already credited to accounts of rec1p1ents but not yet deducted from accounts of payers However, serious problems arise m makmg tlus ad3ustment, because some banks that clear checks through correspondents show checks m process of collect10n on their balance sheets as "due from banks" mstead of "cash items m process of collect10n (CIPC)", because cash items mclude checks not drawn on private accounts (for example, checks on U S Treasury, mterbank, and some foreign accounts not mcluded m Mi, as well as money orders, redeemed Government bond coupons, and food stamps), and for other reasons to be detailed later To ehmmate this apparent bias (overstatement), we tentatively propose an alternative means of consohdatmg the accounts of the banks mvolved-bas1cally by deductmg directly from gross demand deposits (wluch mclude "due to banks") both "due from banks" and "cash items," m lieu of the present more elaborate set of ad3ustments made to obtam ad3usted demand deposits Prehmmary calculatwns made at our request by the Board's staff suggest that tlus change would reduce the 4 lmprovmg the Monetary Aggregates Committee Report level of M 1 by some $8 billion from presently reported figures and would reduce week-toweek and month-to-month variat10ns m the reported money stock, which may now reflect spurious fluctuations m the volume of domestic and foreign checks m process of collect10n Smee the reasons for the large reduct10n m the reported level of M 1 under this new method as compared with the method now used are not entirely clear, however, we recommend adoption of the proposed change only tentatively, sub1ect to further mvest1gat10n by the Board along the Imes currently bemg undertaken 4 Foreign deposits in the Umted States and U .S dollars held abroad To obtain the most useful aggregates for U S policy decisions and actions, we recommend elimination from the U S monetary aggregates of deposits held in the United States by foreign commercial and central banks and other official institutions, and continued exclusion of U.S. dollars (Euro-dollars) held abroad. In an open economy hke that of the Umted States, mteractions between domestic and mternat10nal transactions on trade and capital accounts make 1t 1mposs1ble for the monetary authorities to consider only domestic consequences of their act10ns-and by the same token make any purely domestic measure of the money stock to a degree unsatisfactory as an mtermediate target variable As there 1s no one ideal concept of money for domestic monetary control purposes, so there 1s no one ideal concept for an open economy or for the world economy, the existence of mternat10nal transact10ns that mteract with domestic transact10ns m the Umted States makes the defimt10n problem more difficult than for a purely domestic economy However, given the theoretical difficulty of prescribmg any ideal amount of foreign or mternat10nal money to be mcluded m the U S money stock, the practical difficulties m obtammg the desired data even 1£ they could be conceptually specified, and the relatively https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis modest role played by mternat1onal transact10ns m the U S economy-we recommend, as a practical matter, use of a concept of money focused primarily on the domestic economy At present, all depas1ts of foreign md1v1duals and busmesses, foreign commercial banks, and foreign central banks and other official mstitut1ons at banks m the Umted States are mcluded m the U S money stock, and no US dollar deposits abroad (for example, Euro-dollars) are mcluded, no matter who, owns them We recommend mclud10g foreigners' deposits m the Umted States where these are likely to be used primarily for purchases of US goods, services, and securities and exclud10g all U S dollar deposits abroad -mamly because there 1s no practical way of mcorporatmg these data mto current US money stock series even though some such balances may be held pnmanly with a view to purchases m the Umted States Applymg these criteria, we recommend that depas1ts of foreign commercial banks and foreign central banks and other official mstitut10ns 10 the Umted States be excluded from the US money stock, smce these are apparently held primanly for clearing Euro-dollar transactions, for financmg foreign exchange transactions, and as mternat10nal monetary reserves, but that deposits of foreign md1v1duals and busmesses contmue to be mcluded The Federal Reserve should, however, contmue to publish, as memorandum Items, data on deposits of foreign commercial and central banks and other official mstitutions m the Umted States and US dollar deposits abroad, so that those wishmg to mclude them 10 the U S monetary aggregates, or to use them for other purposes, will be able to do so 5 Seasonal adjustment of monetary aggregates We recommend that the Federal Reserve authorities publish periodically the seasonal ad1ustment factors they propose to use in arriving at the desired money stock throughout the year ahead (the "policy" seasonal), so that 5 Summary of Recommendations the Fed's attempts to eliminate seasonal variations will not be confused with more basic determination of the desired money stock or other monetary aggregates We further recommend that, in estimating seasonal ad1ustment factors for the money stock, looking backward (the "descriptive" seasonal), the Fed substitute for the so-called Census Bureau X-11 seasonal adjustment method a modified method that more effectively uses the daily data available The Federal Reserve authont1es and most other users of monetary statistics work pnmar1ly with seasonally adjusted senes Because the Federal Reserve itself to a substantial extent controls the amount of money, to isolate any "natural" seasonal m the money stock-mdependent of Federal Reserve policy act10ns-is very difficult To a considerable degree the Fed produces the seasonal vanat10ns that exist m observed Mi, partly m order to reduce or elimmate seasonal vanat10ns in interest rates Thus, when the Fed publishes h1stoncal money stock senes, seasonally adJUsted by usmg a "descriptive" seasonal reflectmg seasonal patterns m the money stock after Federal Reserve policy act10ns, users should recogmze that such seasonally adjusted data are not necessanly those that were used by Federal Reserve authont1es m makmg their policy dec1S1ons The Fed should also contmue to publish seasonally unadjusted data for the monetary aggregates 6 Short-run (transitory) variations m the monetary aggregates To highlight the dangers of overemphasizing short-run variations in the monetary aggregates, we recommend that the Fed publish further information on the short-run, nonsystematic or transitory, variability of the monetary aggregates Apart from seasonal and basic longer-term movements, the monetary aggregates are sub11ect to a variety of shoi t-term day-to-day and week-to-week vanat10ns that anse from fluctuatmg payments among the Treasury, the public, and the banks, items m process of collec- https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis t10n, reportmg and tabulatmg errors, and the like Our analysis suggests that such day-to-day transitory vanat10ns alone can mtroduce a substantial, nonsystematic variability, or error, m reported growth rates From month to month the transitory component m the annualized growth rate of M 1 is likely to exceed 2½ percentage pomts one-third of the time, from quarter to quarter, to exceed ½ percentage pomt one-third of the time The comparable transitory component, or error, m M 2 will be about half as large Users should be aware of the dangers of placmg too much emphasis on reported short-term vanat10ns m the monetary aggregates, especially on less than quarterly changes 7 Recent financial developments and the monetary aggregates Recent financial developments suggest the possibility of radical changes in the Nation's payment order or withdrawal accounts and we do not recommend changes in the definition of M 1 or other monetary aggregates now, we do recommend that the Federal Reserve begin to collect and publish systematically data on new close substitutes for demand deposits ( such as negotiable order of withdrawal and payment order of withdrawal accounts and overdraft facilities if possible), and that it develop experimental aggregates that combine demand deposits with those savings accounts that are readily convertible to a demand basis Fmancial mnovat10n and regulatory changes have been rapid m recent years Combmed with the prolubit10n of payment of explicit mterest on demand deposits and other regulatory changes, high mterest rates have stimulated the development of vanous close substitutes for demand deposits These substitutes are still relatively small m dollar amounts, but they may be begmnmg to have substantial effects on the rate at which the currently defined money stock turns over If these developments contmue, they may change substantially the lustoncal 6 Improvmg the Monetary Aggregates Committee Report relat10nships between the present monetary aggregates and aggregate demand for goods and services Thus, the Federal Reserve and other supervisory agencies should begm now to col- https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis lect and analyze the data needed to understand these new relationships as they develop, mcludmg the possible introduction of new aggregates to take new developments mto account 7 SECTION J Conceptual and Definitional Issues In conductmg monetary policy, the Federal Reserve should use as an mtermediate target that monetary total (aggregate), or those totals, through which it can most reliably affect the behav10r of its ultimate ob1ectives-the price level, employment, output, and the like Wluch total or totals best satisfy that requirement depends m turn on (I) how accurately the total can be measured, (2) how precisely, and at what costs mcludmg unwanted side effects, the Fed can control the total, and (3) how closely and reliably changes m the total are related to the ultimate policy ob1ectives If a total cannot be measured, it cannot be used effectively as an mtermediate target for policy purposes At the same time, for the purposes of Federal Reserve policy there is little pomt to measurmg precisely some total that the Fed cannot control or that has no mfluence on ultimate policy objectives Accordmgly, there is no way to tackle the problem of measurement without implicitly or explicitly reachmg conclus10ns about the feas1b1lity of control and the closeness of mfluence We have done so mostly by relymg on our prior general mformat10n and the preva1lmg views of experts on monetary policy rather than by special studies, though we have made some special calculat10ns m trymg to decide how to handle borderlme items To avoid havmg to go more deeply mto the problems of control and mfluence, we have not tried to select a smgle aggregate but rather have dealt with a number of alternative monetary aggregates and exammed how the measurement of those aggregates could be improved Considerat10ns of feasibility have narrowed our task by ruhng out some totals that economic analysis suggests would be superior to https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis the totals that can actually be measured Here the mam issue is between measuring monetary totals (1) as they are recorded on the books of the ultimate owners or holders of money (md1v1duals m their capacity as ultimate wealth holders, busmess enterprises, governmental bodies other than the monetary authorities), or (2) as they are recorded on the books of financial mstitut10ns On analytical grounds, we would prefer to measure the total amount of currency and various categories of deposits held by the "public" m whatever form or mst1tut10n or place If possible, of course, 1t would be desirable to subdivide monetary totals among various groups and locat10ns of holders However, 1t 1s currently impractical to measure such totals directly The basic available data are reported by the issuers of US currency (the US Treasury and the Federal Reserve) and by the financial mstitut1ons whose liabilities are generally labeled "deposits" (commercial banks, mutual savmgs banks, savmgs and loan associat10ns, and credit umons), rather than by the owners of the currency and deposits As a result, we have been forced to restrict ourselves to totals that can be constructed from the books of financial mst1tut10ns That 1s, we have been forced to accept data correspondmg to the characteristics and nat10nal locat10n of the issuers of currency and of the financial mst1tu t10ns, or correspondmg to the character of their hab1ht1es or assets, rather than, as we should prefer, data directly from money holders on their monetary assets However, the data from the issuers do permit some distmct10ns among holders, so one important question 1s what holders of money to mclude m the public 8 lmprovmg the Monetary Aggregates Committee Report In considermg conceptual and definitional issues, four topics deserve particular attention (1) alternative aggregates, (2) effects of recent financial developments on these totals, 1 (3) problems of consolidation of accounts, and (4) how to define the public Alternative aggregates Three distmct1ve bases for definmg monetary totals have played an important role m monetary literature In addition, there has been much mterest m credit, as d1stmgmshed from money Measurmg credit totals mvolves problems that differ from those m measurmg monetary totals For banks, mformat1on on credit totals comes from the asset side rather than from the liability side of the balance sheet Further, "bank credit" can be viewed as part of much broader totals, which could also mclude commercial paper, Treasury bills, longer-term Government securities, corporate bonds, mortgages, and so on m great diversity Some elements of these totals are held by mstitutions whose liabilities are mcluded m one or another monetary total, other elements are not In our Judgment, there 1s substantial mformational value m credit totals and components, but we have not been able to consider their measurement adequately Hence, we make no specific recommendations concernmg them With respect to monetary aggregates, one basis for definmg such a total 1s to regard money as correspondmg to assets that are generally used to discharge obhgat1ons and that are not the explicit liability of nongovernmental entities m the soCiety Traditionally such assets have corresponded to specie In the Umted States today they correspond pnmarily to the non-mterest-bearing fiat issues of the ultimate monetary authority The terms "lughpowe1 ed money" and "monetary base" have been used to refer to tlus total We shall refer to 1t as "the base " For the Umted States today the base mcludes all currency outside the Federal Reserve and the Treasury plus all bank deposits at Federal https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Reserve Banks It 1s the total among those considered here that can probably be most accurately measured a1~d most p1ec1sely controlled by the Fed There are a few (but relatively mmor) amb1gmt1es about its measurement Moreover, Federal Reserve control 1s not complete and immediate Commercial banks may, at their option, borrow some additional reserves at the Fed The laggmg of actual reserve reqmrements behmd the deposits to wluch they are related means that the Fed m effect must provide additional reserves when banks run short, smce 1t 1s impossible for the banks to alter the deposits they had held I or 2 weeks prev10usly But the maJor defect of the base arises from the widespread belief, based on both empirical studies and theoretical analyses, that this total m the Umted States 1s less closely and reliably lmked to the ultimate obJecuves of policy (employment, prices, and so on) than are some other aggregates However, there are some bits of evidence m the opposite direction, and this total does have the great advantage of bemg less subJect to mfluence by financial mnovations than are broader totals Hence, we recommend that the Fed regularly publish figures on the base, as defined above-probably on a weekly basis along with the current money stock data A second basis 1s to regard money as correspondmg to assets generally used to discharge debts, that 1s, those assets that are used as "media of exchange" Tlus criterion 1s sometimes hard to apply (for example, 1s a $10,000 bill to be regaided as a medmm of exchange, are postal money orders,), but these problems of classification are, m practice, mmor There 1s little dispute that-at the present time m the Umted States-currency, commercial bank demand deposits, and t1aveler's checks are the only maJor items generally used as media of exchange and that the bulk of these items can be so used However, as we note m the next sect10n, recent developments-such as "checkless" computerized payments and, m effect, permittmg checks to be written on savmgs accounts at commercial banks, savmgs and loan mstitutions, and mutual savmgs banks-may 9 Conceptual and Definitional Issues be changing tlus s1tuat10n so substantially as to reqmre a revised definit10n of the ma1or monetary aggregates The symbol M 1 rs generally used to refer to tlus concept of money as a medmm of exchange P1oblems of measuring M 1 , as 1t has ordina1 ily been defined, anse pnmanly from the necessity of estimating the amounts held from bank records, these d1fficult1es will be considered late1 Problems of controlling M 1 anse from changes in the rat10 of currency held by the pubhc to its demand deposits and from changes in the rat10 of demand deposits to bank 1eserves, the latter in turn reflect shifts of funds among different categories of bank deposits, changes in excess reserves held by banks, and the lag in reserve reqmrements Such changes alter what 1s termed the "money mult1pher"-that 1s, the rat10 of M 1 to the base They also ause from inadequate data on nonmember banks, and on cash items and related transact10ns Most students regard M 1 as more closely and more reliably related to ultimate ob1ect1ves than rs the base But there 1s some concern that financial innovat10n 1s changing, and probably loosening, the relat10nsh1p between M 1 , as 1t 1s ordinanly defined, and such ultimate pohcy goals as employment, output, and pnces A tlurd basis 1s to regard money as assets that serve as a "temporary abode of purchasing power"-in wluch sellers of goods, services, or financial assets hold the proceeds in the intenm between sale and subsequent purchase of other goods, services, or assets-and that are, or are readily convertible into, media of exchange Tlus hqmd asset concept 1s regarded by some scholars as coming closest to capturing the essential feature of money and as more closely and 1ehably ielated to ultimate ob1ect1ves than the other concepts Unfortunately, tlus concept has the most ambiguous em pineal content of the three measures It can correspond to M 1 plus time and savings deposits of commercial banks other than large certificates of deposit (CD's) (now defined as M 2), or M 2 plus deposits at mutual savings banks, savings and loan associat10ns, https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis and credit un10ns (now defined as M 3), or either M 2 or M 3 plus large CD's (now defined as M 4 and M 5) Each of these totals, in turn, could be constructed differently by, for example, d1stingu1shing time from savings deposits, as suggested in the following sect10ns And still broader aggregates could be constructed by including such items as Treasury bills, Senes E Government bonds, cash surrender value of hfe insurance pohc1es, and so on In general, though by no means umformly, the broader the concept, the greater the problems of measurement and cont10l Recent financial developments ' This IS a particularly difficult time at wluch to determine definitively the precise empmcal counterparts to the alternative aggregate concepts hsted in the preceding sect10n Financial innovat10n and regulatory changes affecting the payments mechanism have been particularly rapid in iecent yeais, stimulated by the very high rates of interest Given the p1olub1t10n on the payment of exphot interest on demand deposits and the inab1hty of savings and loan associat10ns, mutual savings banks, and credit unions to hold demand deposits, these lugh interest rates have stimulated the development of substitutes fo1 demand deposits Combined with the differential ceilings on interest rates that may be paid on vanous categories of time and savings deposits and the changes in these ceilings over time, the lugh interest rates have stimulated d1ffe1ent1at10n of deposit categories and alterat10ns in their cha1actenst1cs The base 1s the only total about whose empineal counterpart these developments raise no problems, though, of course, these developments may have affected the demand for the base However, future developments may affect tlus concept as well For example, some economists have proposed that the Federal Reserve pay interest on deposits at Federal Reserve Banks If tlus were to occur, the quest10n would anse as to whether the base should be narrowed to correspond solely to non-interest- IO Improvmg the Monetary Aggregates Committee Report bearmg currency or broadened to mclude other mterest-bearmg obligations of the Government Certificates of deposit The large negotiable CD's mtroduced m the 1960's seem very different from the earlier time and savmgs deposits at commercial banks and more like open market commercial paper Accordmgly, some scholars have elimmated them from the monetary totals that they have used m their studies, and the Fed has done the same by excludmg marketable CD's m denommations larger than $100,000 from the time and savmgs deposits that 1t adds to M 1 to ob tam M 2 However, the formal d1stmction between negotiable and nonnegotiable seems largely techmcal, smce banks generally permit large purchasers to convert from one to the other at will Moreover, the $100,000 d1vmon 1s clearly arbitrary and has a different s1gmficance at different pnce levels Hence, the present procedure must be regarded as makeshift until enough ev1dence.1s accumulated to permit a more satisfactory resolution We have made a number of tests to determme whether M 2 or M 4 1s more closely related to nommal mcome and to the Fed's ultimate policy obJect1ves On the whole, the evidence favors M 2 But the evidence 1s weak, and it may be that the results reflect simply the trans1t10nal effect of the mtroduction and rapid growth of CD's Negotiable CD's have been important for too few years to provide an adequate test Hence we recommend emphas1zmg M 2 and M 3 , but contmumg to mom tor the performance of M 4 and M 5 NOW, POW, and similar accounts There has recently been a proliferation of expenments designed to provide the eqmvalent of checkmg services to holders of what are techmcally classed as savmgs deposits at commercial banks, mutual savmgs banks, savmgs and loan associations, and credit umons, or of accounts at so-called money market funds The https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis NOW (negotiable order of withdrawal) accounts permitted m Massachusetts and New Hampslure are a dramatic example In addition, some savmgs and loan associations have made arrangements to make telegraphic transfers of Federal funds at the order of holders of larger accounts, and banks have been permitted by the Federal Reserve and the FDIC to transfer savmgs to demand accounts on telephomc order smce Apnl 1975 Many of the rapidly expandmg money market funds, which belong to a group of mstitut10ns heretofore entirely outside the scope of the usual monetary totals, have arranged with cooperatmg banks to permit the transfer of funds by check or its eqmvalent Moreover, smce November 1975 profitmakmg busmess corporat10ns have been permitted by the Federal Reserve and the FDIC to hold savmgs accounts of up to $150,000 per account, and they apparently shift funds frequently between demand and savmgs accounts To date, NOW accounts and closely related substitutes for demand deposits apparently total only about 1 per cent of M 1 , but they are mcreasmg rapidly m importance Estimates of such accounts are now mcluded m M 2 and M 3 Some observers believe they should be mcluded m M 1 In our Judgment it is too soon to make a defimte decision on how to treat these accounts, especially smce there may be substantial changes m their character or sigmficance m the next few years, mcludmg possible changes m regulat10ns applymg to them and related bank deposits Because many such substitutes are claims on mstitutions not subject to regulat10n by the Federal Reserve, collection of data on them will reqmre the active cooperation and assistance of other Government agencies that now obtam data from the relevant mstitutions We urge such agencies to cooperate with the Fed for tlus purpose If present trends contmue, we suspect that w1thm not more than 2 or 3 years it will be desirable for the Federal Reserve to re-examme the treatment of such accounts and possibly to alter the defimt10ns of some of the present aggregates to take them more specifically mto account Conceptual and Definitional Issues II Distinction between time and savings accounts cons1derat10n of the treatment of savmgs and time deposits The development of CD's on the one hand and of substitutes for demand deposits on the other, plus the differential ceilmgs on mterest rates that may be paid on savmgs and time deposits, have mcreased the practical importance of the distmct10n between time and savmgs accounts Tlus distmct10n was for many years purely formal, and such accounts are combmed m such aggregates as M 2 and M 3 But more recently, the distmct10n has become more sigmficant Smee July 1973, banks have been requrred to impose relatively large mterest penalties on the withdrawal of time deposits before maturity, and as a result holders of such deposits now have reason to take the maturity more seriously In effect, savmgs deposits have become much more similar to demand and checkmg deposits, as noted above, and time deposits more similar to securities Thus, 1t may well be that a better empmcal counterpart than M 2 or M 3 to the concept of a temporary abode of purchasmg power will be totals that add to M 1 only savmgs deposits at commercial banks as an alternate to M 2 , and at mutual savmgs banks and savmgs and loan associat10ns as an alternate to M 3, and that exclude time deposits at both Or, 1t may be that such a demand-plus-savmgs-depos1t total will be a replacement for M 1, correspondmg to the "media of circulation" concept, and that a broader total, which mcludes not only time deposits but also CD's, money market funds, and perhaps other items, will be a replacement for M 4 and M 5 to correspond to the concept of a "temporary abode of purchasmg power" Here agam, 1t 1s too soon to recommend a change But we commend the Board's staff for some prehmmary studies that explore new totals constructed along these Imes We recommend strongly that such studies be contmued, and that the recons1derat10n of monetary aggregates some 2 or 3 years from now as we suggested above be accompamed by a parallel re- Nonbank traveler's checks https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Liability for traveler's checks issued by banks 1s now mcluded m M 1 as part of demand deposits In prmciple, hab1hty for traveler's checks issued by nonbanks should also be mcluded, but 1t 1s not, simply for lack of data This 1s not a new problem, but 1t 1s mcluded here because 1t 1s the same kmd of problem as those raised by recent financial mnovat10ns However, its importance 1s changmg, partly because of w1demng compet1t10n m the issuance of traveler's checks Unfortunately, we see no practical way to remedy this defect now Credit cards and the ((checkless society" An mcreasmg volume of purchases 1s bemg made on credit cards, and direct credits of wages and salanes to bank accounts and debits to purchasers' bank accounts by sellers through computer networks will probably spread m the years ahead, perhaps movmg the economy toward an mcreasmgly "checkless society" m the foreseeable future Insofar as credit-card purchases and the ehmmat10n of physical bank checks merely provide more convement and efficrent means of transferring demand deposits, they do not call for any redefimt10n of the money stock-although they may lead to a lugher velocity of crrculat10n Insofar as they actually mvolve creat10n of new transferable money by sellers who temporarily mcrease the spendmg power of buyers, they certamly mcrease the volume of credit, although they do not mcrease M 1 as now defined or as 1t might be defined m response to the financial developments so far considered If credit cards and a checkless socrety largely supplant present methods of payment, 1t will become desirable to redefine M 1 and the other deposit totals based on 1t m a more fundamental way For the time bemg, however, we recommend no change m the defimt10n of the totals based on the growmg use of credit cards and direct cred1tmg and deb1tmg of deposit 12 lmprovmg the Monetary Aggregates Committee Report accounts through computerized systems that elimmate or postpone use of physical checks Increasmg use of these payments methods may raise measurement problems because they may mcrease such items as bank float (considered later) and mterbank deposits relative to net holder balances, but they do not yet raise ma3or defimt10nal problems Problems of consolidation A ma3or techmcal problem m constructmg estimates of M 1 through M 5 1s the correct consolidat10n of the accounts of mdividual financial mst1tut10ns and their depositors The most obv10us example 1s mterbank deposits The sum of all deposit liabilities on the books of banks will exceed the correspondmg assets of the nonbank public by the deposit liabilities of some banks to other banks Consolidatmg, 1ather than simply combmmg, the books of the banks reqmres the ehmmat10n of such mterbank deposits This general prmc1ple 1s clear, but its applicat10n raises difficult problems, wluch we will consider after first dealmg with bank float Bank float A less obv10us example is cash items m the process of collect10n When X deposits to his account m Bank A a check drawn by Y on Bank B, he 1s given immediate credit by Bank A, wluch matches its mcreased liability by an mcrease m the asset category, CIPC Bank A forwa1ds the check to a Federal Reserve Bank for collect10n The Federal Reserve Bank credits Bank A's account at the Federal Reserve Bank (Bank A m turn transfers the correspondmg sum "Items m process of collect10n" to "deposits at Federal Reserve Bank"), debits Bank B's account, and forwards the check to Bank B, wluch subsequently debits Y's account there During any time mterval that elapses between cred1tmg the check to X's account and debitmg it to Y's account, total deposit liabilities m the system are lugher m tlus account by the amount of the check In the usual https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis termmology, that sum is double counted by the amount of the bank float This assumes that X views the check as added to his cash balance as soon as he deposits 1t and that Y deducts the check from lus balance when he estimates that X will have deposited it This 1s by no means the only possible assumpt10n Another 1s that Y deducts the check when he writes it-wluch adds mail float to bank float as double countmg The other extreme 1s that Y does not deduct the check until he estimates it has been debited agamst lus account-m wluch case check-kitmg offsets bank float The1e 1s no completely convmcmg evidence as to how transactors view the t1mmg of debits and credits to their accounts, but various earlier studies have suggested that deductmg bank float (but not mail float, wluch m any case cannot be estimated sat1sfactonly) produces an M 1 total that 1s more closely related to nommal nat10nal mcome (an mtermediate ob3ect1ve of Federal Reserve policy) than 1s the total obtamed without the deduct10n Special calculat10ns made at the request of the Committee gave the same result Hence we have accepted this concept m analyzmg the problem of bank float The est1mat10n and deduct10n of bank float 1 a1se measurement problems because of the d1£fe1 ent treatment of similar items by different banks (for example, entermg a check en route to a correspondent bank as "due from banks" rather than CIPC) and because of the possible mclus10n m CIPC of items that have no counterpart m the deposit total and hence cannot be regarded as double countmg (for e~ample, food stamps or checks on other banks whose deposits are already deducted when mterbank deposits are subtracted) These measurement items are discussed further m Sect10n 4 "Bank" versus "public" The various aggregates 1mphc1tly mvolve drawmg different Imes between banks and the public, which m turn call m principle for different consolidat10ns of accounts The most Conceptual and Definitional Issues obv10us example is the difference between M 4 and M 5 M 4 treats commercial banks as banks but mutual savmgs banks, savmgs and loan associat10ns, and credit umons as part of the public Hence, deposits of the thnft mst1tut10ns at commeroal banks are not treated as mterbank deposits and are not excluded m estimatmg M 4 They do not duplicate any of the commercial bank liabilities to the public mcluded m M 4 For M 5 , on the other hand, the deposits of the public (now defined to exclude the thnft mstitut10ns) at the thnft mstitut10ns are mcluded But it would be double countmg to mclude both these deposits and the deposits of thnft mstitut10ns at the commercial banks These should be regarded as mterbank deposits-a treatment that is not now followed This problem anses for every total, and we shall consider them one at a time, after which we shall give our recommendat10ns for all totals Base For the base, only the Federal Reserve and the Treasury are banks, everythmg else is the public Hence, the base correctly elimmates only Treasury deposits at Federal Reserve Banks and cmrency held by the Treasury and the Federal Reserve It correctly mcludes all cash m the vaults of commercial banks and thnft mstitut10ns and all non-Treasury deposits at Federal Reserve Banks because these do not duplicate any other element m the base 13 not be counted twice Smularly, deposits held by commercial banks at other commeicial banks or at the Federal Reserve on account of demand deposits should be treated as mterbank deposits smce they do not correspond to liabilities to the public On the other hand, vault cash or deposits at other banks held by commercial banks on account of time deposits a1e, for the M 1 total, m the same category as cash or deposits at other banks held by mutual savmgs banks or savmgs and loan mst1tut10ns They do not duplicate any other item mcluded m M 1 and hence should not be subtracted The conceptual issue is clear Howeve1, it is not easy to carry out the conect treatment m practice because there is no way to connect particular asset items with particular liability items How can we determme what fract10n of commercial banks' vault cash and deposits at other banks 1s held on account of demand deposits and what fract10n on account of other liabilities? Because of tlus difficulty, the d1stmct10n 1s not made now All vault cash and deposits of commercial banks at othe1 banks are subtracted m calculatmg M 1 The result 1s, on tlus account, an underestimate of the conceptually valid total M2 The part of bank vault cash and of deposits at other banks held by commercial banks on account of large negotiable CD's should not be, but 1s, subtracted m calrulatmg M 2 The error 1s m the same dnect10n as for M 1 but of course 1t 1s much smaller m magmtude M1 In some ways M 1 raises the most troublesome problem For this total, banks mclude, m add1t10n to the Federal Reserve and Treasury, only that part of commeroal banks that corresponds to their demand deposit liabilities Any vault cash held by commercial banks on account of demand deposit liabilities should be deducted m computmg the currency holdmgs of the public smce the public holds this cash mdirectly through its demand deposit holdmgs at commercial banks, and it should https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis M1 The cash held by thuft mst1tut10ns and then deposits at commercial banks other than any large CD's held should be subtracted m computmg Ms because these items duplicate their liab1lit1es to the public Smee tlus 1s not done now, Ms 1s accordmgly overstated M4 Tlus total 1s the only one other than the base that 1s now conceptually correct For tlus total, 14 Improvmg the Monetary Aggregates Committee Report all vault cash and deposits at other banks held by commercial banks should be and are subtracted M5 Like Ma, the total 1s currently overstated because vault cash and deposits of the thnft mstitut10ns at other banks are not subtracted The accounts of the thnft mstitut10ns are combmed, rather than consolidated, with the accounts of the commercial banks Recommendations We recommend that m computmg Ma and M 5 the Federal Reserve consolidate rather than combme the accounts of commernal banks and thnft mstitut10ns This means that currency holdmgs of thnft mstitut10ns plus their deposits at commercial banks should be subtracted from Ma as currently calculated, and that this sum plus large CD's held by thnft mstitut10ns should be subtracted from M 5 as currently calculated In order for this consolidation to be feasible, 1t will be necessary that the agencies now collectmg data from thnft mst1tut1ons reqmre them to report a more detailed breakdown of the category "liqmd assets" than they now report At a mmimum, mformat10n will be reqmred separately on currency plus demand and time deposits at commercial banks, large CD's, and other Iiqmd assets While we recogmze that M 1 and M 2 as currently calculated are not conceptually precise, we do not propose any change m present procedures because of (l) the arbitranness of any div1Sion of commercial bank holdmgs of currency and deposits at other banks mto the parts held on account of demand deposits, large CD's, and other time and savmgs deposits, and (2) the belief that the error mvolved m the present procedure is reasonably stable over time and hence does not affect seriously estimates of changes over time 2 •Dissenting footnote by Milton Friedman, m which Ph1ll1p Cagan concurs I believe 1t would be desirable to attempt to correct the error m M 1 and M 2, despite https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis How to define the public What holders? As currently defined, M 1 , M 2 , Ma, M 4 , and M 5 all attempt to measure holdmgs of the relevant categones of assets by the nonbank pubhc-mdividuals, partnerships, corporat10ns (IPC), States, counties, mumcipahties, and Government agencies other than the Federal Reserve and the Treasury-with some except10ns Though holdmgs of the U S Treasury and the Federal Reserve are excluded as holdmgs of banks rather than of the public, mmor amounts of currency held by U S Government agencies are mcluded The totals mclude currency held abroad and deposits held m the Umted States at commercial banks and Federal Reserve Banks by the foreign public, foreign banks, and foreign governments, central banks, and mternat10nal mstitut10ns They exclude dollar deposits held by the US public at banks (mcludmg U S banks and branches) located m foreign countnes or m US terntones and possess10ns Some of the deviat10ns of current practice from the ideal concept are necessitated by lack the two valid pomts made m this paragraph The error 1s substantial m absolute size and unless an attempt 1s made to ellmmate 1t, we shall not know when and 1f 1t vanes over time The procedure I recommend as a mmimum is to allocate to deposits other than demand deposits, m computmg M 1 , an amount of cash and deposits at other banks equal to reqmred reserves on deposits other than demand deposits, and m computmg M 2 , to allocate to large CD's reqmred reserves on such CD s The 1mpllc1t assumpt10n that banks hold zero precaut10nary or free reserves on account of deposits other than demand deposits 1s no doubt extreme, so not all error would be ellmmated, but It seems to me far more reasonable than the current imphc1t assumpt10n that they hold zero reqmred reserves agamst these deposits A more senous error 1s to regard no demand deposits at other commercial banks, and no items m process of collect1on, as allocable to deposits other than demand deposits The amounts mvolved are substantial For example, reqmred reserves on ume and savmgs deposits m June 1975 were more than $10 billion when M 1 as currently estimated totaled a bit under $300 b1lhon Hence, the understatement of M 1 on this account 1s a m1mmum of 3 per cent True, this understatement is not likely to change much over time, but also the cost of mtroducmg this correct10n mto the estimates, 1f done as I suggest, 1s tnvial The reqmred mformat1on is all now available, so only extra computation 1s reqmred Conceptual and Definitional Issues of data This is clearly the case for currency held abroad, which cannot be estimated separately from that held m the United States With respect to the other items, current practice raises two mam issues that we wish to explore (I) treatment of US Treasury and other Federal Government agencies, and (2) treatment of deposits of foreigners m the United States and of dollar deposits of US residents outside the United States Federal Government Insofar as the U S Treasury 1s part of the ultimate monetary authority, its accounts should be consolidated with those of the Fed and its holdmgs excluded as part of bank assets and of M 1 through M 5 The real quest10n arises m regard to the U S Treasury as an operatmg entity and about other Federal Government operatmg agencies On the whole, we recommend the contmued exclus10n, so far as possible, of all U S Government holdmgs of currency and deposits on two grounds First, it 1s somewhat arbitrary to separate the holdmgs of the Treasury m its capacity as an ultimate monetary authority from its holdmgs as an operatmg agency or as the fiscal agent for other operatmg agencies Second, even as an operatmg entity, the relat10n between money balances of the Federal Government and how 1t spends the money cannot be regarded as homogeneous with this relat10n for the rest of the public, given the Federal Government's unique power to create money Foreign deposits in the United States and dollar-denominated deposits abroad US currency and deposit liabilities of banks m the Umted States are held by a variety of domestic and foreign holders Furthermore, m recent years there has been a vigorous growth of what may be labeled "offshore" dollar deposits, that 1s, dollar-denommated deposits that are hab1lit1es of foreign branches of U S banks or foreign banks located abroad These deposits are also held by a variety of domestic and foreign holders Table 1 portrays systematically these various categories of dollar- https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 15 denommated deposits as of December 31, 1974, msofar as the mformat10n 1s available The table does not mclude US currency, smce no reliable mformat1on 1s available on the amount and d1stnbut10n of such currency held domestically and abroad Components presently mcluded m the aggregates As presently defined, M 1 mcludes, first, all outstandmg US currency outside the Treasury, Federal Reserve Banks, and U S commernal banks Thus, M 1 mcludes currency held abroad by the foreign public and foreign banks, there bemg no mformat10n for excludmg this component even 1f 1t were deemed desirable to do so M 1 mcludes, second, all demand deposit hab1hties of banks m the Umted States (mcludmg not only US banks but also branches and agennes of foreign banks) except those due to the U S Government and to other banks m the United States (so-called mterbank deposits) It also excludes nondepos1t liabilities of U S banks to their related head offices or branches abroad (column 2 of Table I) that may serve funct10ns s1m1lar to mterbank demand deposits Thus, as presently defined, M 1 mcludes the deposits at U S banks of all nonresidents, mcludmg foreign governments and (unrelated) foreign banks, even though deposits of the US Government and US banks are excluded The broader aggregates, too, are defined as mcludmg the deposits at US commercial banks of foreign nonbanks, official mst1tut10ns, and (unrelated) commercial banks and (for M 3 and M 5 ) such savmgs accounts as these orgamzat10ns may have at US savmgs mst1tut1ons No dollar-denommated deposits at bankmg offices outside the Umted States, covered m the nght-hand port10n of Table I on page 17, are now mcluded m any of the standard US monetary aggregates Critena for recommendat10ns We have taken a fresh look at the current defimt10n of the aggregates with two questions 16 Improvmg the Monetary Aggregates Committee Report m mmd Whether 1t might be appropriate to change tlus defimt10n with regard to the types of deposit holders and/or types of issuers to be mcluded m one or more of the aggregates, and whether 1t would be desirable to collect add1t10nal mformat10n, on a contmumg basis, for any types of dollar-denommated deposits In reachmg our recommendat10n as to which of the entries m Table I should be mcluded m the aggregates at this time, we have been gmded by two mam cntena 1 Would mclus10n of the category make the U S monetary aggregates more useful to monetary policymakers concerned with settmg, 1mplementmg, or momtonng policies aimed at acluevmg final pohcy ob1ect1ves, such as pnces, output, and employment~ In an open economy (one that has trade and financial relat10nsh1ps with other economies), no purely domestic defimt10n of the money stock can logically be completely satisfactory, JUSt as the monetary authont1es m such an economy cannot completely disregard foreign trade and capital movements m makmg their stab1hzat10n dec1s10ns How much weight monetary authont1es may wish to put on such foreign transact10ns will presumably depend on how important these transact10ns are relative to domestic economic act1v1ty m the country concerned The weight may also vary accordmg to currently accepted practices regardmg the stability or vanabihty of exchange rates The more weight monetary authont1es place on mternat10nal cons1derat10ns, the less satisfactory any domestic defimt10n of the money stock will be as an mtermediate target for monetary act10n aimed at mfluencmg final ob1ect1ves such as employment and pnces, smce m an open economy there 1s no way of neatly separatmg the mteractmg domestic and mternat10nal effects of monetary policies Unfortunately, no precise tests are feasible to determme how useful different concepts of money are as mtermediate target variables for monetary policy act10ns m the Umted States or m other open economies Given the theoretical difficulty of prescnbmg the "ideal" mclus10n of foreign-or mternat10nal-money m the U S money stock, the practical d1ffi https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis cult1es m obtammg the desired data even 1f they could be conceptually defined, and the relatively small role played by mternat10nal transact10ns m the US economy, as a practical matter we recommend use of a concept of money focused pnmanly on the domestic economy For the American economy, the followmg operat10nal cntena seem reasonably consistent with a broad spectrum of views about the nature of the transm1ss10n mechamsm between money and various final economic ob1ect1ve variables, mcludmg the views that money affects mcome directly and that 1t works through the !mks of market mterest rates and the ava1lab1hty of credit (a) If the demand for dollar deposits by any group of holders is controlled pnmanly by forces other than those that control the demand for money by the U S pubhc (basically the volume of domestic transact10ns, wealth, and mterest rates), there rs a pnma fac1e case for the exclus10n of that group of holders and holdmgs For example, 1f dollar deposits of foreign central banks m the Umted States are controlled by fluctuat10ns m reserves and by balance of payments cons1derat10ns, rather than by their associat10n with payments m U S goods and secunt1es markets, then these deposits should be excluded from the US monetary aggregates (b) A closely related entenon is whether some broad measure of U S mcome rs more closely associated with M 1 defined to mclude or exclude the given component Generally, cntena l(a) and l(b) will yield the same conclus10n, although tlus may not always be the case (c) Beyond these tests, as a practical matter, 1f a category represents at all times a small and reasonably stable proportion of the aggregate, its treatment will not have an important effect on the usefulness of the resultmg aggregate 2 Costs of data collect10n are relevant, and such costs should be considered m relation to the expected usefulness of data collected Recommendat10ns Relymg pnmanly on these cntena, the Committee makes the followmg recommendat10ns 17 Conceptual and 1Jefinitwnal Issues TABLE I Dollar Liab1ht1es of Banks and Banlung Offices, December 31, 1974 In bdhons of dollars In the UmtedStates 1 Outside the Umted States Gross t1me and savings deposits Nondeposit habihues to related bank offices abroad Gross demand depostts Item Commer c1al banks (I) To U S restdents Nonbanks US Govt Banks To Non US residents s Nonbanks 277 5 38 (2) ' Commercial banks Unrelated Foreign branches of U S banks ' Incl udmg U S ID 8 4 Umted States 14 branches and agencies of foreign banks (1 hetr habihties to head offices and other related offices abroad are 1n column 2 thetr deposit hab1ht1es to vanous holders 1n columns I and 3 ) 2 Includmg US bank branches ID those countries Data exclude 1Dterbanl habihties of one bank to another withm the same country 3 Data include mterbank habihties of a branch to other banks withm the same country The breakdown of habiht,es to US residents bet\\ een banks and nonbanks 1s approximate ' Less than $1 bilhon 'Data sholln m columns I through 3 are from (monthly) reports to US Treasury for balance of payments statistics Datly data are also avatlable for demand depos,t habihties to the three categories of US residents, to foreign official 1nst1tut1ons, and to Foreign deposits at US domestic banks As m the case of domestic transactors, one can d1stmgmsh three types of foreign depositors (1) private nonbanks (IPC), (2) nat10nal governments and official mstitut10ns, and (3) commercial banks Deposits of foreign individuals, partnerships, and corporations We recommend contmuat10n of the present practice of mcludmg IPC deposits m M 1 and the other aggregates This recommendat10n rests on a combmat10n of cntena I and 2 Empirical tests for cntenon l(a) failed to provide clear support for either mclus10n or exclus10n of this component Tests for cntenon l(b)-comparmg the correlat10n of changes m mcome with distributed lags of changes m M 1 mcludmg and excludmg foreign IPC deposits as estimated from balance of payments data-were also not very conclusive lncludmg foreign IPC deposits raises the correlat10n between M 1 and mcome-suggestmg that these deposits be mcludedthough the difference is small Moreover, https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Savings Foreign branches of US banks 3 8 1n countries report1Dg to BIS' st1tut1ons 8 Euro pean coun tnes (5) (4) (3) 4 3 (') (') (') 2 ( l 124 Other (7) 3 (') 5 1 9 14 9 28 369 I (6) 404 5 12 Foreign banks with agencies and branches I ID European 9 3 3 Official mst1tut1ons Banks (1Dclud1Dg CD's) and similar accounts t 32 3 3 t 31 unrelated foreign banks, but not for demand dcpoS!ts of foreign IPC SOURCE -Seasonally unadiusted s1Dgle date figures from the call report for domestic U S banks and U S branches of foreign banks, from Federal Reserve data (forms FR 886 (a) and (b)) for U S agencies of foreign banks, and Edge Act corporations engaged m bankmg, from Treasury balance of payments data for habihttes to related bank offices and for CD's issued to foreign holders, from daLl of Nat10nal Associat10n of Mutual Savmgs Banks, Federal Home Loan Bank Board, and National Credit Umon Admmistrat10n, from BIS Annual Report and unpubhshed breakdown for Euro dollars held m Umted States and from rederal Reserve data (form FR 502) for habihues of foreign branches of US banks foreign IPC deposits are small (cnterion l(c) ), m recent years they have accounted for less than I per cent of M 1 or other relevant aggregates, so handlmg them m the cheapest way seems appropriate And the cost of ehmmatmg them from domestic IPC deposits on a daily-average basis would, accordmg to the staff, be substantial Deposits of foreign central banks and other official znstitutwns We recommend that these deposits of foreign central banks and other official mst1tut10ns hereafter be omitted from M 1 and the other monetary aggregates They are small compared with the relevant monetary aggregates-such demand deposits are currently about I per cent of Mi, while total deposits (mcludn~g CD's) are about 2 per cent of M 4 , havmg mcreased sharply m the last 2 years Thus, their treatment is not an issue of ma1or importance Nonetheless, we feel they should be excluded, though this recommendat10n does not rest on a simple analogy with the treatment of the deposits of the U S Government It rests, mstead, pnmanly on cntenon I 18 lmprovmg the Monetary Aggregates. Committee Report The term "foreign official" covers a diverse array of transactors, mcludmg central banks, governments and their d1plomat1c and consular establishments, purchasmg m1ss10ns, and mternat10nal orgamzat10ns such as the Umted Nat10ns The deposits of foreign central banks and exchange stab1hzat10n funds are not used to any substantial extent for payments m goods, services, and private capital markets m the Umted States, though they may be related to US mterest rates, at times s12able shifts apparently unrelated to this country's gross nat10nal product (GNP) occur between these deposits and foreign central banks' holdmgs of Treasury bills and other securities For the other foreign official mst1tut10ns, spendmg behav10r analogous to that of the U S pubhc is conceivable However, our empirical tests mdicate that only about threefourths of the movement of foreign official deposits (as measured by the variance) 1s accounted for by GNP, personal mcome, and mterest rates, and even the latter effect 1s not clear cut, by contrast, those variables explam 99 per cent of the variance for M 1 as now defined Thus, cntenon l(a) pomts margmally to the om1ss10n of tlus component Empmcal tests usmg cntenon l(b) pomt slightly m the opposite direction Inclus10n of foreign official mst1tut10ns m M 1 mcreased the correlat10n with mcome, although the mcrease was very small On balance, then, the empirical evidence pomts margmally toward the ehmmat10n of foreign official deposits, and this conclus10n 1s strengthened by the potential for erratic movements of deposits of foreign official mst1tut10ns Foreign commercial banks' deposits m the United States These claims of foreign commercial banks on banks m the Umted States, which amounted to $28 billion at the end of 1974, consist of two d1stmct components The largest-not now mcluded m the monetary aggregates-mcludes nondeposit habihties of U S banks to their foreign branches, and habil1t1es of branches or agencies of foreign banks m the Umted States to their head offices or other offices abroad (bottom entries m column 2 of Table I) We recommend contmued https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis exclus10n of these habihties on the general prmciple of excludmg from the aggregates claims and habihties between branches of the same banks The other component consists of deposit habihties of banks m the Umted States to unrelated foreign banks, shown as the last items m columns I and 3 of Table I Such demand deposits, which are now mcluded m M 1, have grown rapidly m recent years and represent by far the largest portion of foreign demand deposits m the Umted States (about 3 per cent of M 1) Empmcal tests for cntena l(a) and l(b) failed to produce readily mterpretable results, partly because of the extraordmary growth trend of this aggregate These tests did, however, show that the size of these demand balances vanes negatively with short-term U S mterest rates Time deposits of unrelated foreign banks m the Umted States are small In an effort to obtam more direct mformat10n on the purposes for which these balances are typically held and on the factors controllmg their s12e and movement, we requested the staff to mterview offinals of ma1or US banks that hold such deposits and also officials of foreign banks The respondents were consistent m the view that foreign commercial banks mamtam demand deposits at U S banks pnmanly to clear their Euro-dollar transact10ns, and secondarily to settle foreign exchange transact10ns (of which only a small percentage directly mvolves the foreign commerce of the Umted States) Respondents also agreed that the demand deposits mamtamed m the Umted States by foreign commercial banks are mamly compensatmg balances, that is, they are mamtamed at the level reqmred to compensate the 3 This general prmciple is obviously applicable m the case of two domestic offices of the same bank However, smce banking offices abroad can be regarded as belongmg to the national banking systems of the countries m which they are respectively located-and also since an mcrease or decrease m an mternatlonal claim implies an mternauonal capital flow-it can be argued that this general principle 1s not automatically extendable to the mternational field Alternatively, one can start from a presumption that defimt10ns of national money stocks should be consistent with each other and with the defimtion of a world money stock and logically argue for exclusion of all mternational mterbank claims-those on unrelated as well as on related bankmg offices Conceptual and Definitional Issues U S bank for services rendered to that account Some (notably Japanese) banks were reported to hold compensatmg balances agamst Imes of credit, with the deposits play! mg essentially the role of commitment fees This mformat10n provides a plausible explanat10n for the rapid growth of foreign commercial banks' demand deposits m the Umted States durmg the past decade It also is consistent with the responsiveness of such deposits to mterest rates, noted earlier On the basis of this limited evidence, we conclude that the usefulness of M 1 and other aggregates would, on the whole, be improved 1f foreign commercial banks' demand deposits m the Umted States were deleted But we recommend that data on such deposits be published monthly to permit analysts who wish to do so to mclude them m the money stock We recommend a similar exclus10n from M 2 and the broader aggregates (and similar separate publicat10n) of foreign commercial banks' time deposits m the Umted States This treatment appears desirable for consistency with the exclusion (as recommended above) of the claims of related banks abroad, a large part of which are well known to be mterest-bearmg placements of funds analogous to mterbank time deposits Dollar deposits at banks zn foreign countries One of the most strikmg developments m the mternat10nal capital markets m the past decade has been the spectacular growth m dollar-denommated depasits at banks outside the Umted States, mcludmg the foreign branches of U S banks These deposits are frequently referred to as Euro-dollar deposits because they were first issued by European banks, though the termmology is mISleadmg because such deposits are now accepted by banks at a variety of other locat10ns Unfortunately, existmg mformat10n about these deposits is limited The right-hand port10n of Table 1 summarizes the available mformat10n on offshore dollar liabilities-at bankmg offices located m eight European coun https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 19 tries and at U S bank branches abroad, mcludmg Europe (overlappmg with the other group) and other areas The Euro-dollar liabilities of the eight countries have grown more than 16fold m the past decade, and at the end of 1974 amounted to about $165 bill10n Tlus total mcludes interbank dollar deposits by commercial banks outside the country of a reportmg bank and all dollar deposits of nonbanks and central banks (Interbank deposits m dollars within the London market are thus omitted) The total amount of offshore dollar deposits, mcludmg the London mterbank liabilities and also deposits m Canada, Japan, the Bahamas, Panama, and Smgapore, was near $300 billion at the end of 1974, accordmg to some estimates All Euro-dollar deposits are mterest bearing and they resemble negotiable CD's issued m the Umted States m that transact10ns occur only m large amounts The bulk of the liabilities are to other banks Of the $165 billion Euro-dollar total, for example, four-fifths was mterbank More than nme-tenths of the $165 billion was due to asset holders outside the Umted States Informat10n on the maturity distnbut10n of Euro-currency liabilities is published from time to time by the Bank of England for the liabilities of banks m the Umted Kmgdom denominated m dollars and other non-sterlmg currencies (Dollar liabilities make up about fourfifths of these) Data for February 19, 1975, are summarized m Table 2 As column 4 shows, more than half of the London Euro-currency habihties to nonbanks outside Britam have remammg maturities of 1 month or longer (The proport10n of outstandmg deposits havmg original maturities of 1 month or longer would of course be greater) Among the various types of offshore dollar deposits, those that deserve closest consideration as candidates for mclus10n m some U S aggregate such as M 4 or M 6 are the deposits of U S residents As Table 1 shows, at the end of 1974 there were $6 billion of such deposits outstandmg at foreign branches of U S banks and $1 bill10n at other European banks There was also some unspecified quantity at foreign banks outside Europe, of wluch the largest part 20 Improvmg the Monetary Aggregates Committee Report TABLE 2 Matunty D1stnbutJ.on of UK Banks' Non sterling L1abtlJ.tJ.es, February 19, 1975 Item To UK inter bank market (1) To UK residents To To banks other others abroad than abroad banks (2) (3) (4) B1lhons of dollars (and dollar eqmvalents) Amonnts 39 2 97 3 53 19 2 Percentage d1stnbut1on Matunt1es Less than 8 days 8 days to less than 1 month I month to less than 3 months 3 months to less than 6 months 6 months to less than 1 year 1 year to less than 3 years 3 years and over Total SOURCE 15 4 22 4 50 2 19 7 17 2 19 4 19 0 32 2 28 9 14 5 24 6 20 3 18 2 54 14 5 69 58 35 56 30 25 100 0 26 49 100 0 30 40 100 0 29 58 100 0 27 6 -Bank of England Quarter/" Bulletin, June 1975 is undoubtedly the U S dollar deposits m Canada of U S residents other than banks, which were $2 billion at the end of 1974, accordmg to published Canadian statistics These amounts are not negligible, but m total they still represent only about 1 per cent of M 4 orM5 It is possible that some of these deposits are related to domestic operat10ns but are held abroad because of the higher yield m cash or services thus obtamable There are, however, reasons for doubtmg this hypothesis-at least with respect to the port10n held at foreign branches of US banks, which is the ma1or part of the total Smee 1969 it has been the stated pohcy of the Federal Reserve Board of Governors that U S banks should not accept deposits from U S residents at overseas offices unless ~uch deposits are kept abroad for a defimte mternat10nal purpose It is known that proceeds of Euro-bond issues by U S corporat10ns to finance operat10ns abroad have at times been held m Euro-dollar deposits pendmg disbursement When the Federal Reserve staff a few years ago mterviewed finance officers of several large corporat10ns with extensive mternat10nal operat10ns, the respondents reported almost unammously that they did not https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis keep abroad balances that were to be used for transact10ns m the Umted States On the basis of these considerat10ns, we recommend, for the present, contmuat10n of the current practice of not mcludmg m US monetary aggregates the dollar deposits held at banks abroad by nonbank US residents We do recommend, however, that data on such deposits be collected and published monthly and that a breakdown of such deposits by maturities be obtamed and published As to IPC dollar deposits of foreign businesses and mvestors held at foreign banks, we have no satisfactory evidence on owners or the purposes for wluch such deposits are held Undoubtedly the holders mclude some foreign affiliates of US corporat10ns, but lt is likely that these and other holdmgs are not sigmfican tl y related to transactions m the Umted States Thus, we recommend that they not be mcluded m the US monetary aggregates Some recent research suggests that Eurodollar deposits, as components of a world monetary aggregate, play some role m determmmg world output and pnces Moreover, as we emphasized above, m any open economy the hne between money held for domestic and mternat10nal transact10ns is not a clear one Thus, we recommend that Euro-dollar deposits be momtored closely, that the summary Euro-dollar data presently collected on a quarterly basis by the Bank for Internat10nal Settlements for banks m Europe, Canada, and Japan be supplemented periodically by data for banks m other areas, that the quarterly data be broken down by classes of holders (nonbanks, commercial banks, and central banks), and that further mformation be gathered on the maturity composit10n of the deposits of nonbanks This recommendat10n will permit further study of the data and their relat10nship to both US and mternat10nal economic activity Fmally, on the general prmciple that monetary aggregates should measure the stock held by the nonbank public, we see no reason to mclude any mterbank offshore dollar deposits m the US aggregates, or, for that matter, m world monetary aggregates SECTION 4 21 Measurement Issues and Recommendations How M 1 1s constructed now 4 M 1 , the measure of narrow money stock, 1s defined as currency m circulat10n plus private demand deposits ad1usted at all commercial banks The components of this measure are shown m Table 3 Currency The currency component of M 1 1s relatively easy to construct It 1s defined as all currency and com outside the Treasury, Federal Reserve Banks, and commercial banks Dally data on currency m orculat10n outside the Treasury and the Federal Reserve System are available from daily statements issued by the Treasury Department Smee member banks' vault cash can be used to meet reserve reqmrements, member bank holdmgs are mcluded on member banks' reports subm1tted to the Federal Reserve for determmat10n of member bank reqmred reserves Consequently, the amount of vault cash held at member banks 1s available on a daily basis, but vault cash at nonmember banks must be estimated Estimates of vault cash held at nonmember banks are based on the ratio of vault cash of nonmember banks to vault cash of memoer banks on call report dates Currently these benchmark relat10nsh1ps are available four times each year for smgle days Pnor to March 1973, call report benchmark data were available only twice a year-on June 30 and December 31 Estimates of the vault cash rat10 for each week between call report dates are based on a straight-lme mterpolat10n Weekly estimates 1 4 Th1s section 1s based directly on a statement pro v1ded by the Board's staff https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis of nonmember vault cash are then denved by muluplymg the estimated weekly vault cash rat10 times the reported weekly-average member bank vault cash Monthly-average vault cash 1s denved from a prorat10n of the weekly estimates Beyond the latest call report penod, the current call report rat10 1s held constant until another call report 1s available It should be noted that the defimt10n of "currency m circulat10n outside the Treasury and Federal Reserve banks, less vault cash held at commercial banks" mcludes an unknown amount of currency held m safe deposit boxes, sent out of this country, or lost or destroyed Thus, the measure overstates the true amount of currency 1n orculauon m the Umted States Member bank demand deposits Data for the demand deposit component of of the money stock are not so readily available as for the currency component The demand deposit component must be constructed from a number of different sources These sources include data available each day, as of a smgle day once a week, as of a smgle day once a month, and as of a smgle day on call reports available four times each year As shown m Table 3, by far the largest part of the demand deposit component of the money stock 1s demand deposits at member banks The basJC source of data on member bank deposits is the report of deposits submitted by member banks for determmat10n of reserve reqmrements Unfortunately, because the purpose of this report is to measure deposits sub1ect to reserve reqmrements and not deposits to be mcluded m the money stock, the deposit breakdowns available from Improvmg the Monetary Aggregates Committee Report 22 TABLE 3 Construction of M1 Amounts m IDllhons of dollars, monthly averages, not seasonally adiusted Line, item I Currency ID c1rculat10n 2 Less Member bank vault cash 3 Nonmember bank vault cash 4 Equals Currency component of Af 1 5 Demand deposits at member banks' 6 \ Less F R float Plus 7 Demand deposits at nonmember banks' 8 9 10 11 12 13 14 15 1 Contnbut10n to M,, December 1974 Source of data Daily data reported by F R Banks and Treasury Dept Daily data reported by all member banks Estimated, based on member banks and call report data 78,933 7,488 2,399 69,046 151,315 2,732 Daily data reported by all member banks Daily data reported by F R Banks 57,954 Estimated, based on daily data reported by small member banks and call report data CIPC associated with foreign agency and branch transfers 3,519 Daily data reported by foreign related mstltut10ns m New York City Demand deposits due to foreign commercial banks 6,004 Demand deposits due to mutual sav1Dgs banks 1,124 Estimated, based on smgle day (Wednesday) data for large banks and call report data for other banks Estimated, based on smgle day (Wednesday) data for large banks and call report data for other banks Demand deposits due to banks ID terntones and possessions Af 1 type balances at foreign related mst1tutions ID New York City Deposits due to foreign official 1Dslltut1ons at FR Banks Equals Demand deposits component of M, 568 222,224 Money stock (M,) - currency plus demand deposits adiusted 291,270 Estimated, based on call report data 116 Estimated, based on last Wednesday of month reports 4,356 Daily data reported by F R Banks Gross demand deposits less demand deposits due to the U S Govt , 1Dterbank deposits, and CIPC See text for explanation this report do not match the deposit defimtlons that are needed for the money stock Consequently, a number of ad1ustments must be made to the basic data reported by member banks M 1 does not mclude demand deposits due to the U S Government nor demand deposits due to domestic commercial banks These items must, therefore, be deducted from gross demand deposits reported on the reserve reqmrements reports as a first step m determmmg the demand deposit component of the money stock This causes no problem smce deposits "due to the US Government" and "due to all commercial banks" are shown as separate categories on the report of deposits To av01d double countmg of demand deposits that are simultaneously shown on the books of two banks at the same time, CIPC's are also deducted from gross demand deposits to derive the demand deposit component of M 1 CIPC's are allowed as a deduct10n Item m the computat10n of deposits sub1ect to reserve reqmrements and are therefore available on a daily basis from the report of deposits CIPC's shown on this report, how- https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis ever, are not broken down by those cash items associated with private demand deposits and those cash Items associated with all other operat10ns of the bank, only a gross cash item figure 1s available From past mvest1gat10ns 1t 1s known that gross CIPC's overstate those items that should properly be deducted from money stock deposits For example, cash Items associated with mterbank deposits, with US Government deposits, with redeemed coupons of US Government securities, and with bank credit cards are mcluded m the gross cash items data It 1s believed, based m part on past mvest1gat10n and m part on contacts with bank accountants, that the size of the d1stort10ns noted above are not large, and further that these d1stort10ns remam a fairly constant proport10n of total deposits Therefore, while the level of the money stock may be distorted slightly, money stock growth rates are probably not affected m a s1gmficant way because of the overstatement of cash items from these sources 5 5 Th1s note appears on opposite page Measurement Issues and Recommendations The subtotal denved from these first subtract10ns for member banks, as shown m Table 3, is defined as gross demand deposits less demand deposits due to the US Government and all commercial banks less CIPC's That item is not the demand deposit component of the money stock, however, smce still other ad3ustments are necessary to obtam statistical estimates of demand deposits as a component of M 1 Federal Reserve float is very similar to CIPC's and is also deducted from pnvate demand deposits adjusted to move toward the demand deposits component of M 1 FR float is deducted because on some items cleared through Federal Reserve Banks, credit is passed to the sendmg bank before the paymg bank has received the item and reduced deposits When the sendmg bank receives credit, the CIPC's are reduced on that bank's books even though deposit liabilities on the books of the paymg bank have not been reduced The amount of this double countmg is reflected m the float created by Federal Reserve Banks Therefore, a deduct10n for float is made to offset this double-countmg effect Daily float data can be denved from the dally reports of condit10n submitted to the Board by each Federal Reserve Bank While float can fluctuate widely from day to day, 1t is a relatively small component of M 1 and averaged about $2 7 billion m December 1974 Nonmember bank demand deposits The second largest deposit component of the domestic money stock is the domestic non6A much more senous problem, and one that will be discussed m more detail later, concerns a sigmficant portrnn of the CIPC's related to mterbank transfer of funds associated m large part with the cleanng of Euro dollar transact10ns m the New York City money market These cash items should not be deducted from money stock deposits, because the deposits to which they apply are not part of M1 Therefore, smce they are mcluded m total cash items, an estimate of their amount 1s added back through a special ad1ustment, item 8 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 23 member bank component, "demand deposits at nonmember banks" m Table 3 Data for nonmember banks are available four times a year from call reports In order to estimate the deposits of nonmember banks for other penods, the rat10 of the nonmember bank demand deposit component of M 1 to that of the smaller member banks' demand deposit component of M 1 1s computed on each call report date A straight-lme mterpolat10n of tlus rat10, ad3usted for bank structure changes, 6 1s made between call report dates The weekly rat10s so denved are then applied to weeklyaverage deposits data reported by smaller member banks, m order to obtam weekly and monthly average estimates of the demand deposit component of the money stock at nonmember banks (Monthly average estimates are denved by proratmg the weekly estimates ) Beyond the penod of the most recent call report, rat10s are estimated based on a regress10n equat10n and 3udgment As new call report data become available, these nonmember bank estimates are revised and "benchmarked" to the umverse data available from the call report Further adjustments A s1gmficant part of gross CIPC's (deducted to obtam demand deposits at member banks m Table 3) 1s related to the transfer of mterbank funds related to Euro-dollar transact10ns 1n the New York money market and should not be deducted from the deposits properly mcluded m M 1 These mterbank fund transfers create mterbank demand deposits, deposits not mcluded m the money stock measure Smee cash i terns generated from the transfer of Euro-dollar funds are not associated with money stock deposits, their deduction from money stock deposits would cause an understatement of the level of the M 1 senes And, if these cash items were "Bankmg structure changes reflect shifts m me)llbership status, mergers, hquidatrnns, and the like 24 Improvmg the Monetary Aggregates Committee Report growmg rapidly relative to total deposits (as they apparently have m recent year~) the growth rate of the senes would also be distorted In order to adjust for the CIPC's associated with mterbank transactions m New York City, data reflectmg the volume of these transfers are collected from Edge Act corporations, agencies and branches of foreign banks operatmg m the Umted States, and other foreignrelated mst1tut10ns m New York City These data are used as a proxy measure for the amount of cash items that are recorded on the books of member banks and improperly deducted from member bank demand deposits The deduct10n 1s improper because these cash items have no correspondmg money stock habih ty on the books of the reportmg banks These data are available on a daily baSIS and are reported to the Federal Reserve Bank of New York In December 1974, as shown m Table 3, this adjustment amounted to more than $3 5 b1ll10n The money stock as currently defined does not mclude demand deposits due to domestic commercial banks but does mclude demand deposits due to foreign commeroal banks, mutual savmgs banks, and banks m U S terntones and possessions In order to obtam items 5 and 7 (demand deposits at member and nonmember banks), demand deposits due to banks were subtracted from gross demand deposits Deposits due to banks as reported on the report of deposits, however, mclude not only deposits due to domestic commercial banks-which must be subtracted from gross demand deposits to get the demand deposit component of the money stock-but also deposits due to mutual savmgs banks, foreign commercial banks, and banks m terntones and possessions 7 But the last three items, smce they are defined as part of the money stock, 7 lt should be noted that deposit hab1ht1es of banks in US terntones and possess10ns are not part of the money stock It 1s deposit liab11It1es of banks m the Umted States to banks m US terntones and possessions that are part of the money stock https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis should not be deducted from gross demand deposits Thus, estimates of the deposits due to these mst1tut1ons must be denved from other data sources and added back to demand depos1 ts m order to obtam the demand deposits adJusted component of M 1 The bulk of deposits due to foreign commercial banks and to mutual savmgs banks 1s held at weekly reportmg banks These banks report full balance sheets each Wednesday-mcludmg deposits due to foreign commercial banks and mutual savmgs banks These smgle-day data are used as a proxy measure for the weekly-average level of such deposits at the weekly reportmg banks Monthly-average estimates are based on prorat10ns of the weekly-average estimates Estimates of deposits due to foreign commeroal banks and to mutual savmgs banks at nonweekly reportmg banks are denved from call report data Between call report dates these deposits are estimated on the basis of a stra1ght-lme mterpolation Estimates of these deposits for December 1974 are shown m Table 3 Demand deposits due to banks m terntones and possess10ns must be estimated differently In order to estimate this component, 1t 1s necessary to make a special tabulat10n of the call report showmg balance-sheet data for banks located outside the Umted States, sometimes referred to as "other areas" Included m this tabulat10n is an item on the asset side "demand deposits due from US banks" This item is assumed to be eqmvalent to the demand deposits due to banks m terntones and possess10ns that are mcluded m demand deposits due to banks on the books of US commercial banks, it 1s used as a proxy measure for that item As shown m Table 3, the amount of such deposits is small In add1t10n to demand deposits at domestic commercial banks, Mi-type deposits at Edge Act corporat10ns, agencies and branches of foreign commercial banks, and other fore1gnrela ted mstitutions are mcluded m the money stock For reserve reqmrement purposes, Edge Act corporations must file a report of deposits Measurement Issues and Recommendations on a weekly basis, as member banks do These weekly reports, showmg darly data, are the source of the Edge Act component of M 1 From 1972 through early 1975, estimates of M 1 deposits at agencies and branches of foreign banks and other foreign-related mst1tut10ns were based on last-Wednesday-of-themonth reports filed by these mst1tut10ns Smee Apnl 1975, darly deposit data have been collected from each of these mst1tut10ns by the New York Federal Reserve Bank 8 The final component of the money stock 1s demand deposits of foreign central banks and other official mstitut10ns at Federal Reserve Banks This amount 1s shown dally on the Federal Reserve Banks' daily statements of conditron The amount is usually relatively small (about $500 m1lhon m December 1974) Very short-run (transitory) variations in the monetary aggregates Apart from seasonal and longer-term movements, the monetary aggregates are subject to substantial short-run (transitory) vanat1ons for two mam reasons Frrst, prelimmary senes often exh1b1t vanatrons that are smoothed as more complete data become available from different financial mst1tut10ns that report at different mtervals, and as reportmg errors are corrected Second, unsystematic vanat10ns occur-from day to day and over slightly longer penods-m payments among the public, the Treasury, and banks, and other transitory vanatrons are caused by reportmg errors and delays of items m transit These transitory vanat10ns tend to average out over the longer run, but they often produce consequential vanat10ns m the weekly, monthly, and even quarterly data It rs possible to estimate statrstrcally the size of such "Pnor to 1972, M1 deposits at these foreign-related mst1tut10ns were estimated on the basis of call reports and monthly reports filed with the New York State Bankmg Department In some cases back data were not readily available, and estimates had to be made based on end of-year call report data and other mfonnat10n that could be gathered by the staff of the Federal Reserve https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 25 vanat10ns We recommend that the Fed regularly publish the range of revlSlons m data and uncorrected transitory vanatrons-to warn users of the pubhshed aggregates agamst unnecessarily confusmg the systematic part of observed changes m the monetary aggregates with transitory short-run vanat10ns Published money stock data that may appear to represent large changes m growth rates often m fact reflect only transitory changes Revisions of preliminary estimates of the money stock Data on the money stock are compiled from reports of banks and other financial mst1tut1ons that become available with varymg delays A prehmmary estimate for each month rs published about 10 days after the end of the month As add1t1onal reports are received, new estimates are substituted for the mrtial estimates, and a revised M 1 figure 1s published about 3 weeks after the end of each month Tlus figure is sub1ect to add1t1onal rev1s10ns when call report data for nonmember banks become available, when the seasonal ad1ustment rs revised, or when special correct10ns are made retrospectively (for example, that m 1970 to ehmmate a cash item bias for previous years) These successive rev1s10ns can be sIZable Table 4 summarizes the successive revis10ns m M 1 smce 1968, showmg monthly, quarterly, and annual estimates The differences shown for monthly estimates, for example, are for (1) the first rev1S1on (about 3 weeks after first pubhcat10n) mmus the mitially published estimate made 20 days earlier, (2) the final estimate as of August 1975 (mcludmg benchmarkmg for nonmember bank data, latest seasonal ad1ustment, and other special corrections) compared with the first revIS1on, (3) the final estimate compared with the mrtial estimate, and (4) the total rev1s10n due to changes m the seasonal ad1ustment only The final estimates used here, particularly those for 1974 and 1975, may be revised strll further for seasonal adjustment and special cor- Improvmg the Monetary Aggregates Committee Report 26 TABLE 4 Differences ID Estrmates of Growth ID M1 Between Imtially Published, First, and FIDal Revmons, January 1968 to August 1975 Annnal rates of change m per cent Difference between - Successive monthly averages I First rev1s1on minus 1n1trnl estimate 2 Final estimate minus first rev1s1on 3 Final estimate mznur 1n1tial estimate 4 Lme 3 due to seasonal adjustment• Monthly averages a quarter apart I First rev1s10n minus 1n1t1al estimate 2 Final estimate minus first re,1s10n 3 Final estimate minus 1n1ual estimate 4 Lme 3 due to seasonal adjustment• Monthly averages a year apart 1 First rev1s1on minus 1n1tial estimate 2 Final estimate minus first rev1s1on 3 Final estimate minus 1n1t1al estimate 4 Lme 3 due to seasonal adjustment• Mean dev1at10n Range (±) w1thm which 95 per cent of rev1s10ns m growth rates will fall• -36 80 44 01 125 2 90 3 20 213 25 58 64 42 -05 74 b9 01 65 I 54 I 73 I 26 I 3 3i 35 25 02 61 64 01 34 69 77 12 7 14 I5 Standard 2 Assumes differences are normally distributed around the mean Estimated from the 1mphed seasonal factors for the total money stock used at the time of the mmal pubhcat10n and m August 1975, as applied to the final estimate of the unad.Justed stock 1 2 rect10ns, so the differences on the second, third, and fourth Imes may not be entirely accurate The differences shown for the period as a whole, however, are reasonably mdicative of the magnitude of successive revis10ns The comparable differences for quarterly and annual data are smaller than for monthly data because most of the rev1s10ns pertam to only the later month and not the base month of the changes shown The mean differences throughout do not equal zero, as would rev1s10ns for unbiased errors m est1matmg unavailable items, because the benchmark rev1s10ns and the special correct10ns have tended upward over this period As 1s apparent from the standard dev1at10ns, both first and final rev1s10ns have been substantial, primarily because of revIS1ons of the seasonal ad3ustments and of benchmarkmg when late data for nonmember banks become available Unsystematic day-to-day variations The monetary aggregates exhibit systematic movements attributable to mtraweekly and seasonal fluctuations plus the more basic movements mtroduced by Federal Reserve policy After allowances are made for the systematic movements, unsystematic (transitory) variations remam m the data To assess https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis the importance of these unsystematic vanat10ns, the Committee requested the Board's staff to make estimates based on a simple analysis of variance The staff also explored more soplusticated methods of estimat10n noted later, which do not reqmre the same assumpt10ns as the analysis of variance In the imtial analysis of variance estimates it was assumed that systematic mtraweekly variat10ns are the same for all weeks m a year (this 1s eqmvalent to no mteract10n between days and weeks) and that unsystematic day-to-day variat10ns are not serially correlated The analysis begms by takmg the difference between the money stock each day and the average level for the week The average of these differences over the year for Mondays, Tuesdays, and so on gives the average mtraweekly vanat1on Then these average differences are subtracted from the correspondmg difference for each day of the year The subtraction gives the daily residuals from the average mtraweekly vanat10n and the week's average The standard deviat10n of these residuals 1s an estimate of the day-to-day variat10n m the money stock The standard deviat10ns of the residuals for demand deposits, currency, time deposits, and two aggregates are shown m Table 5 for the separate years 1968-74 and for the full 27 Measurement Issues and Recommendations TABLE!, Standard Deviation of Day-to-Day Vanation m Monetary Time Series devrnt10n (square root of the variance) for the monthly growth rate 1s Percentage of series level Demand Currency deposits Period 1968 1969 1970 1971 1972 1973 1974 1968-74 637 776 747 658 651 708 755 711 495 506 481 518 551 566 566 527 M, Time deposits M, 503 615 585 522 509 564 595 561 103 077 105 096 088 125 106 Ill 253 317 314 235 213 233 225 261 TABLE 6 Analysis of Variance of Log, M,., 1968-74 In thousands of dollars Source of variation Weeks Days of week Residual Total df 1 363 4 1,452 1,819 Sum of squares 28 07335 01078 04564 28 12978 2 Mean square Frat10 07734 00270 00003143 01546 2460 295 85 76026 Mult1phcat1ve day effect Thursday Fnd&, Mon ay Tuesday Wednesday 99993 99615 I 00334 I 00161 99899 1 Degrees of freedom Standard deviation of residual m per cent 1s 2 v 00003143 X 100 = 561 per10d The ongmal data were converted to natural loganthms m order to express the standard devrnt10n as a percentage of the level of the monetary data The analys1s of vanance on wl11ch Table 5 1s based is 1llustrated for the 1968-74 figure for M 1 m Table 6 From these standard devrnuons we can calculate the vanat10n m money growth rates due to the day-to-day variat10n On the assumpt10n of no serial correlat10n, the variance of the residual variation m a 5-day weekly average would be one-fifth of that m I-day figures But the weekly average as currently calculated 1s a 7-day average with the Friday figure counted three times For this 7-day average the variance is V (¾) !~ 2 (and then multiplied by 12 to express m terms of annual rates) and for the rate between successive quarterly averages (13 weeks m each quarter) 1s V (1D 13 u 202u 49 (and then muluphed by 4 to express m terms of annual rates) These and similar formulas were used to derive the implied transltory vanat10ns m growth rates m Table 7 On the average, roughly 95 per cent of all growth rates as measured will be w1thm two standard devrnt10ns above or below the systematic component For M 1 this range is +5 percentage pomts for month-to-month growth expressed as an annual rate, + 1 percentage pomt for growth between success1ve quarterly averages expressed as an annual rate, and +0 1 percentage pomt for year-to-year growth These ranges are about one-half as large for M 2 Given the usual magmtude of money growth rates of about 3 to 8 per cent per year, only the quarterly and yearly rates are reasonably mdicat1ve of systematic movements m the aggregates The quarterly and yearly rates have a where u is the standard devrnt10n of the daily residuals For a month (assumed for s1mphc1ty to be exactly 4 weeks) the variance 1s one-fourth as large Thus the formula for the standard https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis = 2 TABLE 7 Vanation m Monetary Growth Rates Due to Transitory Fluctuations' Annual percentage rate Designated Standard growth rates dev1at1on Successive monthly averages M, M, Successive quarterly averages 13 49 u= 364u M, M, Successive annual averages M, M, Monthly averages A quarter apart - Range (±) w1thm which 95 per cent of growth rates WIii fall 2 45 I 14 49 23 45 21 4 06 03 12 06 9 M, 82 38 I6 8 M, M, 20 4 2 M, A year apart - 10 1 u for M 1 1s 561 and for M, 1s 261 28 Improvmg the Monetary Aggregates Committee Report smaller range of variat10n, m part because the rates for the longer penod average out more of the day-to-day variatxon and m part because there 1s less blow-up m annuahzmg these growth rates These ranges of vanat10n are estimated to be somewhat smaller when the serial correlatxon still remammg m the daily residuals of the analysis of variance 1s removed This serial correlat10n reflects systematic short-run vanat10ns that last longer than a day but less than a week and systematic vanations due to holidays and other particular days of s1gmficance m the payments and clearmg process Estimates made by the Board's staff of these mfluences on the money stock account for one-fourth of the variations shown m Tables 5 and 6 Consequently, the range of variat10ns shown m Table 7 would, accordmg to these estimates of the residual vanat10ns, be reduced by a quarter The danger exists, however, that these more wph1st1cated methods of est1matmg the residual vanatxon may overstate the systematic component of movements m the aggregates While we recommend that estimates of the range of transitory variat10n m the various money growth rates be published regularly, we are not prepared to recommend one specific method of estimation as necessarily best among the reasonable alternatives available Averaging of daily data Weekly money stock data are now calculated as an average of 7 days Smee most banks are closed on Saturday and Sunday, they report the precedmg Friday figure for Saturday and Sunday The Friday figure receives a weight of 3 /7 and each of the other 4 days of the week a weight of l /7 The Committee discussed the advisabihty of an alternative weekly average based on 5 days, m which each day Monday through Friday would receive a weight of 1/5-on the ground that this might reduce transitory vanab1hty m the monetary aggregates and brmg them mto closer correspondence with the pubhc's spendmg dec1s10ns The day-to-day vanabihty 1s larger m the https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 7-day average As shown above, the standard 13 of the deviation of this variab1hty 1s 49 standard deviatxon of the day-to day variatxon, V while m the 5-day average 1t 1s V; Hence a 5-day weekly average mstead of a 7-day average would reduce this variabihty by a small amount (V!~ _V~ ) = u 068u There would be a correspondmg reduction of such vanabihty m the growth rates The _reductxon 1s slight, but the necessary computat10nal cost 1s also small Although 1t would be desirable to reduce tlus source of vanab1hty, the ch01ce between 7-day and 5-day weekly averages also depend~ upon the appropriate treatment of the systematic component m the data A 7-day average appears appropriate 1f the pubhc takes 1ts Saturday and Sunday holdmgs of M 1 mto account m dec1dmg whether to purchase goods and services or to acqmre other financial assets In view of the fact that deposits cannot actually be transferred on Saturdays and Sundays (except that many banks are n,ow open on Saturdays for makmg deposits and withdrawals), 1t might appear that the weekend amounts are not a part of transact10ns balances (that 1s, Fnday balances count once) and so do not affect spendmg Yet they may affect the holder's assessment of the average amount of his money balances over a week or a month and m that way mfluence his spendmg declSlons The Committee did not find that a clear case could be established, or that the potential benefits would be sufficiently large, to JUSt1£y changmg the standard practice of averagmg the monetary aggregates from a period of 7 days to a 5-day period Nonmember bank deposits The estimat10n of demand deposits adJusted for commercial banks that are not members of the Federal Reserve System has been a particularly significant source of error and uncertamty m current statistics of M 1 Wlule nonmember Measurement Issues and Recommendations deposits account for only about one-fifth of the money stock, large rev1s10ns of early estimates of M 1 have repeatedly been reqmred because of revis10ns m the nonmember bank deposit senes Even after rev1S1on, the Iustoncal estimates for nonmember banks are much less reliable than those for member banks, except for two to four call report days each year The problem arises because reportmg by nonmember banks is so mfrequent, the umverse reports on deposits are for only 2 days each year-call reports at the end of June and December-although FDIC-msured banks also report on one day m sprmg and one m autumn Moreover, about 4 months elapse between the date of each call report and the availability of processed mformat10n from the report that can be mcorporated mto money ~tock estimates Usmg histoncal mformation on nonmember bank deposits for those mfrequent reportmg dates, the Federal Reserve staff has found that the rat10 of such deposits to those of smaller (country) member banks can be approximated roughly by a regress10n relat10nship that uses, as explanatory variables, lmear and quadratic time trends and the 90-day Treasury bill rate (the sigmficance of the latter bemg that nonmember banks are not affected m the same way as country member banks by changmg credit market condit10ns) When any weekly or monthly estimate of M 1 is mitially made-say, monthly for Julythe nonmember bank demand deposit component is simply extrapolated from the latest available reported nonmember bank data, which at that time would be for the last day of December, usmg that regress10n estimate (with a Judgmental ad1ustment) and the known total for country member banks m July Experience has demonstrated that these extrapolat10ns often produce substantial errors, m recent years they have averaged more than $1 billion When the actual data for msured nonmember banks for the next call report date-which, m the example, would be durmg the spnng-become available about August, a benchmark revis10n is made Some https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 29 of the recent revis10m m M 1 reqmred by the call report data have been especially large, mcludmg ones of $1 7 bill10n (upward) for mid-1973, $1 2 billion (downward) for mid1974, and $2 4 billion (downward) for sprmg 1975 Moreover, use of the current-or any alternat1ve-extrapolat10n procedure might become sub1ect to even greater errors m the event of more structural changes m the bankmg system Once the spnng call report benchmark data are available, the level of nonmember bank deposits for the entire 8-month mterval srnce the precedmg report date m December must be mterpolated to match a new estimated ielat10nship of the rat10 of nonmember bank demand deposits to country-member bank demand deposits usmg the sprmg call data Moreover, M 1 and related aggregates are estimated as weekly or monthly averages Thus, because the "final" nonmember call report data cover only a smgle day, some assumption must be made as a basis for estimatrng the weekly average of nonmember bank demand deposits, even for the week of the call report It is currently assumed that the rat10 of the weekly average for that week to the known I-day figure for nonmember banks is the same as it is for country member banks The same procedures and thus the same kmds of problems apply to the estimat10n of nonmember bank time deposits for mclus10n m M 2 In practice, however, the size of benchmark revis10ns for time deposits has been significantly smaller, although far from tnvrnl For a penod from summer 1974 to sprmg 1975, the FDIC asked (although 1t did not reqmre) a sample of 573 rnsured nonmember banks to report dally aggregates of selected balance sheet items, and it transmitted summary mformat10n from tlus sample to the Federal Reserve,' although with a lag of at least 2 months The sample was stratified by size, mcludmg (m prmciple) universal coverage of about 177 nonmember banks with total deposits rn excess of .$100 mill10n (large nonmember banks) Explorat10ns with the sample data pomt to several revealmg conclus10ns First, under present procedures the problem of mferrrng a weekly average from a 1-day 30 lmprovmg the Monetary Aggregates Committee Report report is itself s1gmficant Day-to-day vanat10ns m demand deposits are sizable When the ratio of weekly-average deposits to callreport-day deposits for the sample (mstead of the correspondmg weekly-average to 1-daydeposit rat10 of country member banks) 1s used to convert the I-day figure for the umverse of nonmember banks to a weekly average, the estimates differ by amounts between $200 million and $1 b1lhon There 1s every reason to beheve that the estimate based on the sample 1s more reliable These discrepancies produce permanent errors m the h1stoncal senes on M 1 as now constructed Second, demand deposits of small nonmember banks behave differently from those of large nonmember banks, hence, the sample data for the large nonmember banks cannot be used to improve sigmficantly the estimates for the smaller nonmember banks Third, the pattern of weekly changes (as distmct from levels) m demand deposits for the sample 1s not drastically different from the pattern estimated for nonmembers by ex1stmg procedures on the basis of changes at country member banks Fourth, the statistical properties of the FDIC sample imply that, when the sample 1s used to extrapolate data from the latest call report date, 1t should provide m1tial estimates of the umverse total of nonmember demand deposits with a standard error of a little more than $300 million When the sample 1s used to mterpolate between data from the precedmg and succeedmg call report dates, the "final" estimate should be obtamed with a standard error of at the most $240 mill10n Fifth, the sample improves accuracy to a maJor degree The evidence from three call report dates 1s reasonably consistent with the a priori estimate of the standard error If the data from the sample had been available on a current basis and If they had been mcorporated mto the mitial estimates of Mv the benchmark revis10ns for the reportmg dates m the fall and m December 1974 and m the sprmg of 1975 would have been no more than $200 million mstead of rangmg up to $2 4 b1lhon https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis After reviewmg current procedures, the sample explorations, and various alternative proposals, the Committee concluded that the maccuracies m the estimate of demand deposits of nonmember banks represent a maJor defect m up-to-date monetary statistics and a sigmficant defect m historical statistics of M 1 and that marked improvements are feasible at reasonable costs for both reportmg nonmembe1 banks and the Federal agencies mvolved Encouraged by the results obtamed from the daily reportmg sample of nonmember banks, the Committee urges the resumptron of such a procedure on a contmumg basis and the development of techmques to permit the sample reports to be processed as rapidly as are data from country member banks The Committee has considered carefully the possibihties of improvmg prov1s10nal estimates and mterpolauons of nonmember bank deposits by new methods that rely on currently available data from member banks We recogmze that such methods would be less costly, but m our Judgment they would be far less reliable We are convmced that a currently reportmg sample of nonmember banks 1s essential to develop up-to-date estimates for the nonmember umverse with a reasonable standard of accuracy-which, m our Judgment, would be met by a standard error of around $300 millron The Committee also recommends that all nonmember banks be asked to report weekly data m addition to I-day figures on call report dates, and that the processmg period for the call report data be shortened substantially from its current 4-month length It 1s our understandmg that tlus change would not be costly to either the reportmg banks or the Federal data processors In combmauon, these two reforms would, for practical purposes, substantially solve the currently sigmficant problem of maccurate estimates of nonmember bank deposits m the monetary aggregates 9 0 As this report 1s bemg completed, we are mformed that begmnmg m March 1976, the FDIC plans to col lect 7 days of deposit data for each call report week We Measurement Issues and Recommendations Consolidation of data from different financial institutions Conceptual issues m definmg monetary aggregates discussed above pomt to special problems of measurement m av01dmg double countmg The Committee paid special attention to the problems that anse m the treatment of bank fl.oat Present treatment of -fl,oat The elapsed time between sendmg, depos1tmg, and collectmg checks gives nse to changes m bank deposits that are referred to as fl.oat As we noted earlier, there are two kmds of fl.oat-mail float and bank fl.oat When A wntes a check, he records a debit to his checkbook balance Until B receives the check and deposits it m his bank, deposits on the books of the banks have not been affected Dunng this period the check IS m transit between A and B, and the dollar amount of such checks 1s called "mail fl.oat " When B receives and deposits the check, his deposit balance IS mcreased, and his bank sends the check for collect10n to A's bank, recordmg a CIPC as an asset on its books When the check clears, A's deposit account 1s debited, and reserves are transferred from A's bank to B's In the mtenm between B's deposit of this check and its debit to A's account, B's deposits are higher and A's have not yet been reduced, thus total recorded deposits m the bankmg system are higher by the amount of the CIPC This mcrease m recorded deposits, or double countmg, due to checks m process of collection between banks 1s called bank float As noted prev10usly, we have accepted the trad1t10nal procedure of deductmg bank float but not mail fl.oat, for the reasons mdicated If all banks kept their records properly, bank note that the FDIC staff 1s convmced, rev1ewmg the same evidence we have used, that availab1hty of this improved regular call report data plus mformat10n pro v1ded by the expenmental sample will make 1t possible to meet our standards of accuracy without mst1tut10n of a regularly reportmg sample of nonmember banks We doubt that this 1s possible https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 31 float would be measured by the CIPC between banks Current errors in the treatment of bank float The process of ehmmatmg double countmg of deposits by deductmg bank float can lead to error when checks are drawn on accounts that are not mcluded m the money stock or when checks m process of collect10n are not reported as CIPC The first error anses from checks drawn on US Government, mterbank, and foreign accounts, as well as collections of nondeposlt Items, compnsmg mamly postal money orders and nonbank traveler's checks, redeemed savmgs bonds and coupons on Government securities, food stamps, and credit-card shps Inclus10n of these items m the CIPC produces an overly large subtraction from gross deposits and hence an understatement of domestic demand deposits held by the pubhc It would be very costly for banks to count these Items separately, and no attempt 1s made to do so m calculatmg M 1 The second error anses from the practice of many banks of clearmg checks through correspondents and of reportmg checks m process of collect10n as "due from banks" rather than as CIPC Suppose, for example, a check drawn on Bank B 1s deposited m Bank A and collected through correspondent Bank C Instead of creditmg "due from banks," Bank A should credit CIPC unul the next day when its account at Bank C 1s credited, but 1t has no mcenuve to do this Indeed, some nonmember banks have a special mcentive not to do so (Whereas for member banks, both due from banks and CIPC are deducted from gross deposits m calculatmg reserve reqmrements, for some nonmember banks the amount due from banks, but not CIPC, 1s counted as part of the bank's legal reserves) In addition, Bank A relieves Itself of the bookkeepmg cost ot transferring Items from CIPC to due from banks by shortcuttmg the CIPC stage of accountmg Once Bank C receives the check and credits Its CIPC, the 32 Improvmg the Monetary Aggregates Committee Report money stock adJusted for CIPC 1s agam the same as 1t was before the check was depos1 ted m Bank A On the first day, however, the calculated money stock adJusted for CIPC 1s higher than 1t should be because Bank A does not record a CIPC Pr10r to November 9, 1972, there was another source of error that was opposite to the due-from-banks bias Just noted-the Federal Reserve gave Bank B I day to remit payment This pertamed to all checks that cleared through the Federal Reserve payments system In that I-day grace penod, Bank B debited the payer's deposits and credited, not its CIPC, but a nondepos1t hab1hty to the Federal Reserve (which reduced Bank B's reserve reqmrements) On this day total deposits were as they had been before the check was depos1 ted m Bank A, but Bank C still earned a CIPC Hence the money stock was measured as bemg lower than 1t should have been Smee 1t was too high the first day and too low the third day, on the average durmg the full transaction 1t was correct A change m Regulation J on November 9, 1972, reqmred banks to remit payment to Federal Reserve Banks on the same day 10 This produced the present clearmg process and thus removed the offset to the due-frombanks bias on the first day described above As the check-clearmg process speeds up m the future, the overstatement of the money stock because of due-from-banks bias will disappear smce all the transact10ns m the threebank clearmg process will be completed on the same day However, the attamment of sameday clearmg 1s some years away In add1t10n to the change m Regulat10n J, two other steps have been taken m recent years to correct maJor errors m the measurement of bank float First, effective July 31, 1969, Regulat10n D was changed to reqmre member banks to mclude m their deposits subJect to reserve reqmrements any checks sent by them m pay10 "Revmon of the Money Stock Measures and Member Bank Reserves and Deposits " Federal Reserve Bulletin, February 1973, pp 62---o4 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis ment of foreign Euro-dollar transact10ns Such deposits serve as an offset to the mcrease m CIPC that 1s produced when the rece1vmg banks remit the checks for payment 11 Second, a s1m1lar kmd of bias ongmated m the checks sent by agencies of foreign banks and Edge Act corporat10ns Pnor to 1970, deposits with these mst1tut10ns were not mcluded m the money stock, so subtract10n of float generated by checks drawn on these deposits improperly reduced the calculated money stock This understatement was corrected m 1970 by mcorporatmg mto Mi the deposits and officers' checks reported by these mst1tut10ns 12 Tentatively recommended alternative calculation of Mi We tentatively recommend an alternative method of ehmmatmg bank float m calculatmg M 1, which we believe will produce s1gmficantly improved estimates of M 1 and related aggregates To remove the due-from-banks bias resultmg from madequate use of CIPC, we recommend that amounts due to banks be mcluded m gross deposits and then those due from banks be subtracted In this way, net domestic commercial mterbank deposits would be ehmmated from the gross deposits on banks' books Usmg this net figure ex11"Rev1s10n of Money Supply Senes," Federal Reserve Bulletin, October 1969, pp 788-89 12 "Revis10n of the Money Stock," Federal Reserve Bulletin, December 1970, pp 890-92 In further mvestigauons of CIPC problems for this Committee, the Board staff discovered that the cashitems bias adjustment has been overstated m some cases One source of overstatement is that some banks have been accountmg for checks deposited by agencies of foreign banks and Edge Act corporations m a different manner In these banks these checks are not credited to the accounts of the receivmg mst1tut10ns on the day of deposit and therefore do not produce a CIPC that day, as is assumed by the bias adjustment, rather they are credited on the next day, when the officers' checks drawn agamst these deposits clear A second source of overstatement is that the checks deposited by these mstitu uons m New York City banks for collection do not give nse to CIPC if, as 1s true to some extent, the checks are drawn on the same bank m which they are deposited The Board's staff has undertaken to correct this overstatement of the cash items bias adjustment m the pub llshed data Measurement Issues and Recommendations eludes from M 1 any CIPC mappropnately reported by banks as due from banks Under this recommendat10n M 1 would thus be calculated by deductmg amounts due from domestic commercial banks and CIPC from gross deposits exclusive of Treasury deposits but mclus1ve of amounts due to US banks (As recommended earlier, amounts due to foreign commercial and central banks would also be excluded) The recommendat10n has the further advantage of makmg data collect10n easier than 1t 1s now, because the separate estimates now reqmred of deposits of mutual savmgs banks and banks m terntones and possess10ns would no longer be necessary (Such deposits would be mcluded m the dueto-banks item of the recommended defimt10n ) The reasons why we propose this recommendat10n only tentatively are explamed m the followmg d1scuss10n Table 3 illustrates m detail how M 1 1s currently estimated Table 8 repeats that calculat10n m the first column and shows m the second column how M 1 would be estimated for December 1974 by usmg the tentatively recommended alternative approach The more 33 simple method recommended should eliminate the CIPC bias that has troubled the ex1stmg method, and should avoid the necessity of makmg the difficult estimates shown m Imes 7-10 under the present method On the other hand, the alternative method reqmres special data on Edge Act corporat10ns and their CIPC's that are not required under the present method, but the sums mvolved are relatively small As Table 8 md1cates, M 1 calculated by the tentatively recommended alternative 1s $8 billion less than when estimated by the currently used method In pnnc1ple, the current and the tentatively recommended alternative methods should give 1dent1cal figures for M 1 Thus, the choice 1s not one of concept, but rather a stat1st1cal issue as to which method makes possible the closest approx1mat10n to the concept mvolved Detailed staff analysis suggests that the precise reasons for the discrepancy are centered m the recordmg of foreign transact10ns, mamly at large New York City banks, and that they have developed mamly over the years smce 1970, although there was a s1gmficant difference m the late 1960's TABLE 8 Comparison of Methods1 for Calculat10n of Demand Deposit Component of M 1 Monthly average, m1lbons of dollars December 1974 Line, item I 2 3 4 5 6 7 8 9 10 II 12 13 14 15 16 17 18 19 20 Current Gross demand deposits at commercial banks Less Demand deposits due to commercial banks U S Govt demand deposits ClPC 291,789 CIPC adJustment Demand depos1 ts due to foreign banks Demand deposits due to mutual savmgs banks Demand deposits due to banks tn territories and possessions Equals Commercial banks' component of M, Plus foreign related institutions M 1 type balances at Edge Act corporations, agencies, and mvestment compan1es2 Foreign demand deposits at FR Banks Gross demand deposits of Edge Act corporat10ns, agencies and investment compames2 Less CIPC at Edge Act corporations, agencies, and mvestmcnt compames' Demand deposits due from banks at Edge Act corporations and agencies Equals Total demand deposits Plus Currency Equals Total M 1 Difference Recommended less current 3,519 6,004 1,124 116 217,300 r R float Demand deposits due from domestic commercial banks Plus 34,792 4,875 42,853 2,732 4,356 568 Recommended 291,789 4,875 42,853 2,732 30,482 210,847 568 8,619 222,224 69,046 291,270 1 For an explanat10n of the method currently used, see Table 3 and the accompanymg text 'Branches mcluded m 1974 data https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis I 1,169 4,615 214,250 69,046 283,296 -7,974 34 lmprovmg the Monetary Aggregates· Committee Report TABLE9 Alternative Estunates of M,, 1968--74 Averages of daily figures for December In bill1ons of dollars 1968 Line, item I 2 3 4 Current M, Plus Net interbank deposits Minus Adiustment for cash llems bias Minus Adiustment for overstatement of remittance payments bias 5 Equals Recommended M 1 6 DJlference (5) mmus (1) 208 I 6 I 8 1973 1974 214 8 225 7 240 4 262 6 278 6 2 -20 -42 12 7 26 47 37 29 24 291 3 -45 35 1969 1970 1972 13 14 I5 I6 205 6 212 0 220 2 235 3 257 7 272 0 283 3 -25 -28 -55 -51 -49 -66 -80 Table 9 shows annually for the period 196874 the maJor items mvolved m estlmatmg M 1 by the tentatively recommended alternative, m comparison with M 1 as currently estimated M 1 under the alternative method (lme 5) 1s derived from the current M 1 by addmg net mterbank deposits and subtractmg two adjustments The first, shown on lme 3, removes the current cash-items-bias adjustment because the mclus10n of amounts due to banks provides an offset to the Euro-dollar transfers and other checks that may now be improperly mcluded m the CIPC The second, shown on lme 4, adJusts for the fact that the remittance-bias correction m the money stock, made for the period before the change m Regulat10n J m November 1972, 1s too large for the recommended defimt10n Prior to November 1972 the I-day grace period for rem1ttmg payment to Federal Reserve Banks created a CIPC bias because the rem1ttmg bank debited the deposit account on which the check was drawn and at the same ume credited, not a CIPC, but a nondepos1t liability to the Federal Reserve This resulted man understatement of CIPC However, some nonmember banks, which remitted through correspondents, debited their due-from-banks account on the day before their correspondent simultaneously remitted to the Federal Reserve and debited the due-to-banks account, which offset the understatement of CIPC Because of this offset, adjustment of CIPC for the remittance bias 1s too large for the recommended alternative method that deducts due-frombanks deposits directly The Board's staff has estimated the amount of this remittance bias prior to November 1972 that is not applicable to the recommended defimt10n These estimates, on lme 4 of Table 9, are subtracted https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 1971 from the current M 1 to obtam the alternative estimate of M 1 Lme 6 shows that M 1 estimated by the alternative method is persistently smaller than M 1 as now estimated The difference before I 970, which is m the $2 5 billion to $3 bilhon range, appears to reflect largely the exclus10n of checks m transit that were mappropriately reported as due from banks, exclus10n of these cash items as proposed should remove this sigmficant source of spurious vanat10n m the money stock Begmnmg m 1970, however, the difference between the current and alternative methods becomes much larger for reasons that have not yet been fully determmed In 1972 agencies of foreign banks and Edge Act corporat10ns mst1tuted the Paper Exchange Payments System (PEPS) to facilitate the clearmg of Euro-dollar transact10ns, and it seems likely that this system accounts for most or all of the recent mcrease m the hne 6 difference, smce data for banks outside New York City do not exlubit a comparable mcrease In addit10n, the mstitut10n of the New York Clearmg House Interbank Payments System (CHIPS) m 1970 may account for some of the sharp mcrease, m the difference m 1970-71 M 1 senes as estimated by the current and alternative methods are compared on monthly and quarterly bases m Tables 10 and 11 Both were seasonally adjusted by the same Census Bureau X-11 program without any Judgmental adjustments These tables were constructed m early 1975 and so do not mclude recent revis10ns m the data The comparison should thus be considered tentative pendmg mcorporat10n of these revised data The differences between the two M 1 senes 35 TABLE 10 Comparison of Current and Recommended Mi-Monthly Seasonally adjnsted, amounts m uullions of dollars Demand deposits m Date Current M, I Current Recommended Column5 minus column4 Annual growth rates (m per cent) Recom mended M 1 Currency (3) 40,699 40,809 41,081 41,273 41,427 41,770 41,975 42,276 42,705 42,843 43,284 43,528 (4) 188,407 188,980 189,574 190,269 191,698 193,264 194,347 195,995 197,399 198,736 200,819 202,464 (5) 188,486 189,112 189,732 190,385 191,459 193,104 194 655 195,796 197,194 198,740 200,592 201,904 (6) 79 132 158 116 -239 -160 308 -199 -205 4 -227 -560 (7) (8) 3 65 3 77 4 40 9 01 9 80 6 72 10 18 8 60 8 13 12 58 9 83 3 99 3 93 4 13 6 77 10 31 9 64 7 03 8 57 9 41 II 18 7 85 M, M, Current I R m:~d::'d I Columns mmus column 7 1968-Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 147,708 148,171 148,493 148,996 150,271 151,494 152,372 153,719 154,694 155,893 157,535 158,936 (2) 147,787 148,303 148,651 149,112 150,032 151,334 152,680 153,520 154,489 155,897 157,308 158,376 1969-Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 159,789 160,248 160,675 161,184 161,163 161,607 161,843 161,692 162,328 162,760 163,058 163,213 159,057 159,521 159,723 160,252 160,265 160,702 160,739 160,600 161,423 161,819 162,308 162,216 43,653 43,916 44,102 44,090 44,329 44,632 44,837 45,171 45,323 45,674 46,036 46,127 203,442 204,164 204,777 205,274 205,492 206,239 206,680 206,863 207,651 208,434 209,094 209,340 202,710 203,437 203,825 204,342 204,594 205,334 205,576 205,771 206,746 207,493 208,344 208,343 -732 -727 -952 -932 -898 -905 -1,104 -1,092 -905 -941 -750 -997 5 80 4 26 3 60 2 91 l 27 4 36 2 57 l 06 4 57 4 52 3 80 I 41 4 7!:I 4 30 2 29 3 04 I 48 4 34 141 I 14 5 69 4 34 4 92 01 -I 01 04 -131 13 21 - 02 -115 08 I II 19 112 -142 1970-Jan reb Mar Apr May June July Aug Sept Oct Nov Dec 164,971 163,606 165,047 166,160 166,361 166,726 167,035 169,028 170,916 171,294 171,916 172,630 163,090 161,525 162,633 163,928 163,196 162,363 163,391 164,557 165,379 166,083 166,117 167,333 46,304 46,491 46,728 46,898 47,464 47,605 47,901 48,099 48,290 48,523 48,789 49,060 211,275 210,097 211,775 213,058 213,825 214,331 214,936 217,127 219,206 219,817 220,705 221,690 209,394 208,016 209,361 210,826 210,660 209,968 211,292 212,656 213,669 214,606 214,906 216,393 -1,881 -2,081 -2,414 -2,232 -3,165 -4,363 -3,644 -4,471 -5,537 -5,211 -5,799 -5,297 11 09 -6 69 9 58 7 27 4 32 2 84 3 39 12 23 JI 49 3 34 4 85 5 36 6 or; -790 7 76 8 40 94 -3 94 7 57 7 75 5 72 5 26 I 68 8 30 -5 04 -121 -1 83 I 13 -5 26 -678 4 18 -449 -5 77 I 92 -3 17 2 95 1971-Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 173,653 174,814 176,320 177,248 I 79,270 180,502 181,007 181,956 182,359 182,655 182,703 183,076 168,513 170,110 171,550 172,664 174,374 175,221 176,034 176,696 177,295 177,590 178,370 179,244 49,453 49,781 49,969 50,345 50,648 50,931 51,516 51,725 51,994 52,301 52,384 52,596 223,106 224,595 226,289 227,593 229,918 231,433 232,523 233,681 234,353 234,956 235,087 235,672 217,966 219,891 221,519 223,009 225,022 226,152 227,550 228,421 229,289 229,891 230,754 231,840 -5,140 -4,704 -4,770 -4,584 -4,896 -5,281 -4,973 -5,260 -5,064 -5,065 -4,3&3 -3,832 7 66 8 01 9 05 6 92 12 26 7 91 5 65 5 98 3 45 3 09 67 2 99 8 72 10 60 8 88 8 07 10 83 6 03 7 42 4 59 4 56 3 15 4 50 5 65 I 06 2 59 17 I 16 -143 -1 88 I 77 -1 38 I JI 06 3 84 2 66 1972-Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 183,800 185,244 187,129 188,067 188,396 188,910 190,821 192,657 194,328 195,496 196,287 198,988 179,471 181,322 183,760 184,706 185,135 185,941 187,799 189,294 190,880 191,948 191,404 193,841 52,860 53,192 53,546 53,732 53,989 54,292 54,661 54,905 55,387 55,842 56,329 56,871 236,660 238,436 240,675 241,799 242,385 243,202 245,482 247,562 249,715 251,338 252,616 255,859 232,331 234,514 237,306 238,438 239,124 240,233 242,460 244,199 246,267 247,790 247,733 250,712 -4,329 -3,922 -3,369 -3,361 -3,261 -2,969 -3,022 -3,363 -3,448 -1,548 -4,883 -5,147 5 03 9 01 11 27 5 60 2 91 4 04 11 25 JO 17 JO 44 7 80 6 10 15 41 2 54 11 28 14 29 5 72 345 5 57 11 12 8 61 10 16 7 42 - 28 14 43 -249 2 27 3 02 12 54 I 52 13 -1 ,6 - 27 - 38 -6 38 98 1973--Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 200,895 200,936 200,468 200,806 203,260 205,119 205,776 205,985 205,461 206,117 208,203 209,728 195,040 195,234 194,834 195,082 196,899 198,478 199,410 200,244 200,002 200,790 202,386 202,868 57,197 57,523 57,910 58,504 58,806 59,281 59,506 59,857 60,274 60,569 61,005 61,539 258,092 258,459 258,378 259,310 262,066 264,400 265,282 265,842 265,735 266,686 269,208 271,267 252,237 252,757 252,744 253,586 255,705 257,759 258,916 260,101 260,276 261,359 263,391 264,407 -5,855 -5,702 -5,634 -5,724 -6,361 -6,641 -6,366 -5,741 -5,459 -5,327 -5,817 -6,860 10 47 l 71 38 4 33 12 75 10 69 4 00 2 53 - 48 4 29 11 35 9 18 7 30 2 47 06 4 00 10 03 9 64 5 39 5 49 81 4 99 9 33 4 63 -317 77 31 - 33 -2 73 -I 05 I 38 2 96 I 29 70 -202 -455 1974-Jan Feb Mar Apr May June July Aug Sept Oct Nov Dec 210,245 211,054 212,081 212,771 213,162 214,380 214,947 215,057 215,321 215,902 216,264 216,469 203,110 204,632 205,783 207,960 206,722 207,858 208,084 207,234 207,633 208,413 208,691 210,020 62,053 62,644 63,230 63,774 64,246 64,584 64,825 65,534 66,014 66,636 67,337 67,698 272,298 273,698 275,311 276,545 277,408 278,964 279,772 280,591 281,335 282,538 283,601 284,167 265,163 267,276 269,013 271,734 270,968 272,442 272,909 272,768 273,647 275,049 276,028 277,718 -7,135 -6,422 -6,298 -4,811 -6,440 -6,522 -6,863 -7,823 -7,688 -7,489 -7,573 -6,449 4 56 6 17 7 07 5 38 3 74 6 73 3 48 3 51 3 18 5 13 4 51 2 39 343 9 56 7 80 12 14 -3 38 6 53 2 06 - 62 3 87 6 15 4 27 7 35 -113 3 3<) 73 6 76 -713 - 20 -142 -413 69 1 02 24 4 95 (I) https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis - - (9) 34 16 27 --224 51 2 91 -314 - 03 I 28 -140 -198 - - - lmprovmg the Monetary Aggregates Committee Report 36 the current mvest1gat10n by the Board's staff of the effects of PEPS and CHIPS, and of other possibly important factors, m est1matmg M 1 13 were tested for two kmds of economic relat10nslups First, the rate of change of personal mcome was regressed on the rate of change of each Mi, lagged 1 to 12 months m 12 different regress10ns, where the rates of change of both vanables covered 6 months at a time Second, a standard money-demand equat10n was used to regress each Mi senes on the 3-month Treasury bill rate, gross nat10nal product, and a 1penod lagged money stock, where the vanables were loganthms of quarterly averages In both sets of regress10ns, Mi calculated by the recommended alternative method gave a slightly better fit Although not stat1st1cally srgmficant, the differences between the regress10n fits could be mterpreted as margmally supportmg the 1ecommended method of calculatmg M 1 Thus, on both theoretical and emp1ncal grounds, the alternative method of consohdat10n of accounts that we suggest seems preferable to the current method However, smce we are not yet sure of all the reasons for the growmg discrepancy m M 1 as estimated by the two methods, we recommend the new alternative only tentatively, contmgent on the outcome of Remaining sources of error in the treatment of float It would be desirable to correct float to exclude the amount of cash items not ansmg from checks wntten on 1pnvate demand deposits This correct10n 1s not made under our tentatively recommended calculat10n because of the unava1lab1hty of the needed data There 1s reason to believe, however, that the resultmg understatement of the money stock 1s small Most of the nondeposit cash items (food stamps, coupons, and credit slips) are quant1tat1vely small The only large item is U S 13Estimatmg complex concepts by alternative methods often provides d1ffermg results, although the figure obtamed should be the same whichever way 1t 1s estimated For example, somewhat different estimates of GNP are generally obtamed by usmg the value-added and finalexpenditures approaches In such cases (mcludmg M1) , 1t 1s difficult to say which 1s the true amount of the concept bemg calculated TABLE 11 Companson of Current and Recommended M1-Quarterly Seasonally ad111sted, amounts m m111ions of dollars Demand deposits m Period Current M, (I) 1968-Ql Q2 Q3 Q4 1969-Ql Q2 Q3 Q4 1970-QI Q2 Q3 Q4 1971-Ql Q2 Q3 Q4 1972-QI Q2 Q3 Q4 1973-Ql Q2 Q3 Q4 1974-Q) Q2 Q3 Q4 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 148,493 151,494 154,694 158,936 160,675 161,607 162,328 163,213 165,047 166,726 170,916 172,630 176,320 180,502 182,359 183,076 187,J2q 188,910 194,328 198,988 200,468 205,119 205,461 209,728 212,081 214,380 215,321 216,469 Rccom Currcncv I mended kt, (2) 148,651 151,334 154,489 158,376 159,723 160,702 161,423 162,216 162,633 162,363 165,379 167,333 171,550 175,221 177,29'> 179,244 183,760 185,941 190,880 193,841 194,834 198,478 200,002 202,868 205,783 207,858 207,633 210,020 Current M, Recommended M, Column5 minus co1umn4 <\nnual grol\ th rates (m per cent) Recom Current mended I (3) 41,081 41,770 42,705 43,528 44,102 44,632 45,323 46,127 46,728 47,605 48,290 49,060 49,969 50,931 51,994 52,596 53,546 54,292 55,387 56,871 57,910 59,281 60,274 61,539 63,230 64,584 66,014 67,698 (4) 189,574 193,264 197,399 202,464 204,777 206,239 207,651 209,340 2Il,775 214,331 219,206 221,690 226,289 231,433 234,353 235,672 240,675 243,202 249,715 255,859 258,378 264,400 265,735 271,267 275,311 278,964 281,335 284,167 (5) 189 732 Jq3,104 197,194 201,904 203,825 205,334 206,746 208,343 209,361 209,968 213,669 216,393 221,519 226,152 229,289 231,840 237,306 240,233 246,267 250,712 252,744 257,759 260,276 264,407 269,013 272,442 273,647 277,718 (6) 158 160 - 205 560 - 952 905 - 905 - 997 -2,414 -4,363 -5,537 -5,297 -4,770 -5,281 -5,064 -3,832 -3,369 -2,969 -3,448 -5,147 -5,634 -6,641 -5,459 -6,860 -6,298 -6,522 -7,688 -6,449 - (7) (8) 7 79 8 56 10 26 457 2 86 274 3 25 4 65 4 83 910 4 53 8 30 9 09 5 05 2 25 8 49 4 20 10 71 9 84 3 94 9 32 2 02 8 33 5 96 5 31 3 40 4 03 7 II 8 47 9 55 3 81 2 96 2 75 3 09 I 95 I 16 7 05 5 IO 9 48 8 37 5 55 4 45 9 43 4 93 JO 05 7 22 3 24 7 94 3 91 6 35 6 97 5 10 I 77 5 95 I Column 8 minus column 7 (9) - 68 oq 71 76 II 01 - 16 -270 -367 -2 05 57 I 18 - 73 50 2 20 94 73 - 67 -2 62 - 70 -1 39 I 89 -198 I 00 - 21 -I 63 I 92 Measurement Issues and Recommendations Treasury check!f Although tlus quantity vanes between $0 5 billion and $1 5 billion per day, the Board's staff estimates that up to 70 per cent of these checks do not give nse to cash items m collect10n because they clear the same day, the cash items that Treasury checks do generate are apparently on the order of only $300 m1ll10n per day Because of the difficulty of obtammg separate data on these items, no attempt to correct for this overstatement of float 1s recommended Smee these errors would still remam m the treatment of float, we considered the alternative of not deductmg float at all That process would overstate the level of the money stock on a bank-record basis but might give more accurate rates of change through the elimmat10n of fluctuatmg errors m the float component A test of this suppos1t10n 1s whether variat10ns m the money stock are reduced by elimmatmg the ad1ustment for float Tlus test was conducted for monthly money stock data for 1960-73 The standard deviat10ns and coefficients of vanat10n were calculated for M 1 , both mcludmg and excludmg the various components of float For both levels and rates of change, M 1 ad1usted to elimmate float shows substantially smaller vanat10n Other evidence based on fittmg standard money-demand regress10ns for gross and ad1usted-for-float concepts of money also leads to a shght preference for the ad1usted money stock 14 Seasonal adjustment Basic approach In many economic senes, seasonal vanat10n results from natural causes changes m temperature or ramfall In others, 1t 1s a consequence of stable sonal mst1tut10ns number of workmg days m a month, consumer purchases of Christmas tree ornaments In still 14These regressions followed the form of those presented m Stephen Goldfeld, "Money Demand Revis Ited," Brookings Papers on Economic Activity, 1973 3 The regress10ns cited m the text above were performed for the Committee by Professor Goldfeld The regress10ns m which the standard defimt10n of M 1 were used had marginally lower standard errors than those not adJusted for various components of float https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 37 others, 1t 1s a mixture, m part a result of natural causes or of stable social mst1tut10ns and m part a consequence of human act10ns m response to natural phenomena crop yields, fuel consumpt10n, product10n of Christmas tree ornaments The approach to the mixed type of seasonal depends on the user's purpose If the analyst 1s the economic agent who 1s reactmg-the producer of Christmas tree ornaments, for example-he will want to separate clearly the "natural" or "exogenous" seasonal (which 1s typically outside his own control) from his own react10n to 1t Given the seasonal 1n consumer demand for Christmas tree ornaments, he will set his product10n schedule m light of costs of storage versus costs of bunchmg product10n The seasonal m his product10n schedule will be a "policy" seasonal deliberately arrived at, not a natural seasonal, but 1t will of course be strongly mfluenced by the natural seasonal m consumer demand If a stat1st1cian 1s analyzmg busmess act1v1ty, employment, and the like, he will observe the end result of the combined natural and policy seasonals of purchasers and producers-for example, m the product10n of Christmas tree ornaments Insofar as this pattern 1s repetitive, he may want to abstract from 1t m order to isolate more sharply the effect of longer-term changes m the output of Christmas tree ornaments If so, he will want to construct a descriptive seasonal, which applies to the actual performance of the senes mcludmg the results of both natural and policy seasonals The admixture of "natural," "policy," and "descnptrve" seasonals rs particularly troublesome for the Federal Reserve's seasonal ad1ustments of monetary aggregates On the one hand, the Fed 1s faced with such natural seasonals-from its pomt of view-as fluctuat10ns m i etarl sales and the associated fluctuat10n m the desired rat10 of currency to demand deposits, corporate tax payment dates, and, on an even more subtle level, the effect on all of these magmtudes of such variables as fluctuat10ns m pnces and mterest rates On the other hand, it has nearly complete control 38 Improvrng the Monetary Aggregates Committee Report over the monetary base and through the base over other monetary totals, so 1t can mtroduce any policy seasonal 1t wishes mto some one total For example, 1t could decide that the base should have no seasonal, m that case, Mi, M 2 , and so on would have whatever seasonals are produced m them by the natural seasonals m the relat10nslups lmkmg the base with the other totals Or alternatively, 1t could decide that M 1 should have no seasonal, m which case 1t would have to mtroduce whatever seasonal m the base 1s reqmred to elimmate the seasonal m M 1 Or to be more general, 1t could use its control over the base to modify seasonals m several totals, given that with one mstrument (the base) 1t can control only some combmat10n of seasonals Or on an even more general level, 1t could use other mstruments, such as discount rates or reserve reqmrements, to widen the policy alterat10ns 1t could mtroduce mto the several seasonals In principle, the policy seasonal and the monetary total mto wluch 1t 1s to be mtroduced should be chosen m terms of the obJeCtives one wants to aclueve We have not found any explicit discuss10n m Federal Reserve releases of the cntena for choosmg a policy seasonal That om1ss10n should be remedied The evidence suggests that the Fed's policy on seasonals has been designed mamly to offset a natural seasonal in the demand funct10n for money-that 1s, m the relat10n among the quantity of money demanded, mcome, and mterest rates The mam policy ob1ect1ve of mtroducmg a seasonal m money has apparently been to reduce the amplitude of the seasonal m mterest rates 1 ~ However, the actual seasonal m the base or other monetary aggregates has apparently not been an explicit policy decmon arnved at by combmmg an explicit, desired, muted seasonal m mterest rates with a determmat10n of the seasonal m money reqmred to produce such a seasonal m mterest rates The actual seasonals m the monetary aggregates appear rather to have ansen almost advent115 Th1s view 1s supported by the decidedly smaller amphtude of the seasonal m mterest rates after the estabhshment of the Fed m 1914 https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis t10usly Insofar as the Open Market Committee has stated its ob1ect1ves m terms of monetary totals, 1t has done so m terms of desired rates of change m seasonally ad1usted totals The staff has then computed the changes m seasonally unad3usted totals reqmred to achieve the targets m seasonally adjusted totals It has done so primarily by calculatmg a descriptive seasonal for the past and extrapolatmg mto the future Tlus procedure may mtroduce umntended changes m monetary policy, particularly 1f the descnpt1ve seasonal 1s calculated by a strictly mechamcal movmg seasonal empirical, method such as the Census X-11 method Suppose, for example, a monetary total 1s expanded m March for several years m sequence by substantially more than the prior seasonal amount-whether because of random disturbances or because nonseasonal policy considerat10ns happen to call for a more rapid expans10n A mechamcal seasonal ad3ustment would tend to mcorporate this deviat10n m the movmg seasonal for subsequent years, and the deviat10n would then be validated by policy dec1S1ons expressed m terms of seasonally ad3usted totals The staff has been aware of this problem and for this reason has not simply accepted the X-11 seasonal ad3ustment, but has made Judgmental correct10ns designed to av01d umntended policy results of the sort JUSt described However, this seems to us an unsatisfactory procedure A more satisfactory procedure would identify explicitly the followmg items (1) the seasonal policy ob1ect1ves-the target seasonals m nommal mcome or mterest rates, (2) the seasonals m Mi or other totals reqmred to achieve that ob1ect1ve, and (3) the seasonals m Federal Reserve open market operat10ns or other policy mstruments reqmred to aclueve item (2) At the moment, our knowledge of the relauonslup between items (1) and (2) 1s too meager to enable us to allow for anytlung but ma3or developments altermg that relat10nship For example, a number of tax law changes culmmatmg m 1968 produced a ma3or alterat10n m payment dates that clearly reqmred a change m Measurement Issues and Recommendations item (2) to achieve any specified policy ob1ective of the kmd listed m item (1) Makmg use of the hmited available evidence bearmg on these issues, the Committee mvestigated the descriptive seasonal for past years m currency, demand deposits, Mi, and M 2 We conclude that, smce the changes m tax payment dates culmmatmg m 1968, there has been no economically substantial change m the descriptive seasonal We therefore regard this average descriptive seasonal as mcorporatmg the Federal Reserve System's present policy 16 Individual members of this Committee have divergent views about what the seasonal policy ob1ective of the Fed should be However, that policy decis10n 1s not withm the scope of our assignment In the context of our assignment, we are convmced of the importance of distmgmshmg the policy seasonal from the descn ptive seasonal Failure to distmgush between the two may lead to mcorporat10n m future monetary changes of seasonal vanat10ns from the past that may have been mtended or unmtended, desirable or undesirable In this way, the mechamcs of seasonal ad1ustment may unmtent10nally become determmants of monetary policy Recommendations Accordmgly, we recommend the followmg I The Fed should choose and publish m advance its best estimate of the seasonals that 1t mtends to use as its gmde to policy decis10ns for some substantial penod ahead (say, a year) We suggest also that further research be mstituted on the relat10n between seasonal movements m policy mstruments and m monetary totals, and on the relat10n between seasonal movements m monetary totals and m the more basic ob1ect1ves of nommal mcome, real mcome, and mterest rates-m order to improve the basis for policymakmg and to permit a more prompt and more accurate allowance for changes m the natural seasonals lmkmg policy mstruments with monetary totals, and monetary totals with basic ob1ect1ves 2 As a service to persons usmg such data 1 •More detailed mformation supportmg this conclu https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 39 for research and other purposes, the Federal Reserve should mclude m its retrospective publicat10n of monetary data seasonally ad1usted senes mcorporatmg Its best estimates of descriptive seasonals 3 Seasonally unadjusted data should also be published retrospectively for those who want to study past pohcy or to use other approaches to adJustmg for seasonal vanat10n These statistical reforms would establish a clear distmct10n between the policy seasonals and the descriptive seasonals Any change m the policy seasonals would reflect an exphot dec1S1on by the Federal Reserve to change its seasonal ob1ect1ve or to ad1ust to perceived ma1or changes m natural seasonal forces (as m 1968) But the policy seasonals would not change JUSt because the descriptive seasonal recorded a change m the seasonal pattern of the money stock over recent years Suggested technical change In mvestigatmg past seasonal movements, the Committee developed a statistical method of computmg a descriptive seasonal that takes advantage of the availability of daily data and therefore permits allowance m a rather simple fash10n for changes m weekly and monthly seasonal factors that reflect the occurrence of holidays, different number of days m the month, and the like The fost step m the piocedme is to allow for the mtraweek seasonal, that is, a systematic patte1n that makes Monday systematically different from the other days of the week, and so on This was done by first expressmg observat10ns for each day as a rat10 to the average for the week of wluch 1t is the central day 17 The averages of these rat10s for all Mondays, Tuesdays, and so on, give a day-of-the-week seasonal Vanous tests were made to determme whether the day-of-the-week effect vaned over s1on is provided m a staff memorandum m the second volume of this Report 1 -Because most banks are closed on Saturday and Sunday, daily figures for Saturday and Sunday are essen tially identical with Fnday Hence, we experimented with both 7 day averages and 5 day averages, which explams the roundabout statement m the text 40 Improving the Monetary Aggregates Committee Report the course of the year or from year to year The evidence thus far md1cates essentially constant day-of-the-week effects, so a smgle correct10n was used throughout The second step was to d1v1de each daily observat10n by the relevant day-of-the-week factor The ad1usted value for each day was then expressed as a rat10 to the average of the 365 days of which 1t 1s the central day A Fourier series was then fitted to these daily rat10s, the Fourier terms were arranged 1n order of amplitude, and the 30 sme or cosme terms with the largest amplitudes were retamed A multiple regress10n was then fitted expressmg the daily ratios as a funct10n of these 30 terms plus 11 dummy variables for days either precedmg or on holidays The value for each day calculated from this regress10n and then multiplied by the relevant day-of-the-week factor 1s the seasonal ad1ustment factor for that day The rat10 of the observed value to the seasonal ad1ustment factor 1s the seasonally ad1usted daily value It can be summed for weeks or months to get seasonally ad1usted weekly or monthly values This procedure was applied for various periods and for md1v1dual years There was a clear break at 1968, but year-to-year differences after 1968 were very small The Committee believes that the above procedure offers a number of advantages and that 1t should be seriously considered as an alternative to the present Judgmentally adJusted Census X-11 method of seasonally ad1ustmg money stock data Each step 1s clear and simple, which should aid m mterpretmg and adaptmg to puzzlmg circumstances that might be encountered The use of daily data offers the opportumty to develop efficient stat1st1cal estimates and tests and makes 1t easy to mcorporate knowledge of holidays and special events mto the procedure This should make 1t possible to https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis reduce substantially troublesome ex-post rev1s10ns of historical adJusted data This procedure, first suggested by Professor Friedman, was developed m detail by the Board's staff The Committee encourages contmued analysis of this method by the Board's staff and recogmzes that useful mod1ficat10ns of 1t may be found 1s Ownership of demand deposits Informat10n on ownership of demand deposits by different groups m the economy 1s also important m un~erstandmg the uses made of such deposits by these groups of spenders In order to understand the role of money m the economy,· 1t 1s necessary to analyze the demand for money balances While a great deal of research has been done m this area, 1t has been seriously hampered by the lack of adequate ownership data The Federal Reserve mterm1ttently before 1970 and regularly smce that time has collected and published mformat10n on the ownership of demand deposits by broad classes of private owners Although these data do not yet form a long enough historical series to be of great analytical value, their contmued collect10n and publicat10n seem to us important m order to bmld up an historical senes extensive enough to be of analytical value We recommend, therefore, contmued collect10n of these data and improvement of the series bemg collected They should be mcreasmgly valuable over the years ahead 19 18 Further details of the method and the results of applymg 1t to past data are provided m a staff memorandum published m the second volume of this Report 19 The case for contmuat10n of the demand deposit ownership survey and suggestions for its improvement are presented m a staff memorandum on this topic m the second volume of this Report Appendix 41 Summaries of Staff Papers During the course of dehberat10ns by the Advisory Committee on Monetary Statistics, a large number of staff papers were prepared for the Committee by members of the staff of the Board of Governors Some were written to provide general background mformat10n, while others were directed at specific issues The Committee suggested that some of the studies should be made available to the public Consequently, the Board of Governors of the Federal Reserve System plans to publish the s1gmficant staff papers m a compamon volume to this Report of the Advisory Committee on Monetary Statistics The staff papers to be published draw on those prepared for the Committee, most reflect an mtegrat10n of md1v1dual studies In preparmg the papers for pubhcat1on, the Board's staff attempted to mclude only those materials that had been presented by the staff to the Committee The staff papers, of course, do not necessarily reflect the op1mons of the Board of Governors of the Federal Reserve System The eight papers to be published are summarized below Transitory Variations in the Monetary Aggregates by Agustm Maravall, Darrel W Parke, and Richard D Porter The monetary aggregates are sub1ect to a variety of very short-term transitory mfluences that impart day-to day variauons (noise) m the series Though these variations are unrelated to longer term movements m the series, It 1s useful to isolate their impact on measured growth rates, and this paper explores two empmcal methods of estlmatmg such impacts One method utibzes daily data, together with a simple analysis of a variance model, to estimate the transitory variance The second approach 1s based on a time series analysis of the series It 1s https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis shown that under relatively weak assumptions, the transitory variance can be estimated from the autocovanances of the observed time series Advantages and pitfalls of each method are exammed and illustrated Foreign Demand Deposits at Commercial Banks in the United States by Helen T Farr, Lance Girton, Henry S Terrell, and Thomas Turner The paper 1s d1v1ded mto two parts The first provides a general descript10n of foreign banks, foreign md1v1duals, partnerships, and corporat10ns, and foreign official demand balances at banks m the Umted States This section pays particular attent10n to mst1tut10nal arrangements m which foreign commercial banks hold demand balances with commercial banks m the Umted States to compensate for the clearmg and other services provided to these foreign banks by domestic commercial banks The second part of the paper attempts to estimate empmcal demand relat1onsh1ps for the three types of foreign deposits at commercial banks m the Umted States The general empmcal results suggest that the three categories of foreign deposits are not emp1ncally related to domestic macroeconomic variables m the same way as domestically owned deposits Nonmember Banks and Estimation of the Aggregates by Darrel W Parke Rev1s10ns of the estimates of nonmember bank deposits have, m recent years, led to substanual benchmark rev1S1ons of the money stock By usmg 8 months of daily deposit data for a sample of nonmember banks collected on an experimental 42 lmprovmg the Monetary Aggregates Committee Report basis by the Federal Deposit Insurance Corporauon, this paper explores ways of 1mprovmg the Federal Reserve's esumatmg procedure It 1s concluded that not enough mformauon 1s presently available to the Federal Reserve staff on a contmuous basis to improve the esumates but that s1gmficant improvements could be obtamed 1f more data were available Such data mclude (a) deposit data reported on a weekly basis by a sample of nonmember banks s1m1lar to those mvolved m the FDIC experiment, and (b) 7 days of deposit data reported by all nonmember banks on each call report Seasonal Ad1ustment of the Monetary Aggregates by David Pierce, Neva Van Peski, and Edward R Fry This paper discusses the problems and concepts mvolved m seasonally adJustmg the money stock and compares alternauve methods for domg this, mcludmg the development of a daily seasonal adjustment procedure The paper mcludes a d1scuss1on of the concept of movmg seasonality, mcludmg tests on the money stock to examme whether s1gmficant changes m seasonal factors have occurred over recent years A new daily seasonal adjustment procedure 1s then presented and analyzed It has the feature that once daily seasonally adjusted data are determmed, weekly, monthly, or quarterly seasonal adjustments can immediately be calculated and are consistent with each other Fmally, there 1s a comparison of four seasonal adjustment pro cedures the current procedure, the ordmary and the "fixed-factor" X-11 procedures, and the daily procedure Demand Deposit Ownership Survey by Eleanor M Prmtt, Helen T Farr, and Arthur Havenner This paper gives a brief techmcal description of the demand deposit ownership survey, reviewmg the System's experience with the survey over the past 5 years and its potenual usefulness for analytical purposes The paper also presents the results of recent staff research on money demand / functions for the various ownership categories https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Sources of Data and Method of Construction of the Monetary Aggregates by Darwm L Beck Information on the various sources of data used m the construcuon of the historical monetary aggregate measures (1959 to 1975) 1s provided This paper describes the vanous methods used to estimate components of these measures that are not reported or are reported only mfrequently The construct10n of the narrow money stock measure, M 1, 1s discussed m the greatest detail, but mformat1on 1s also provided on the M 2-M 5 measures The report also mcludes mformat1on on the mstituuons and types of holders mcluded m each of the monetary aggregate measures An Alternative Method of Calculating M 1 by Anton S Nissen (Federal Reserve Bank of New York) and Darwm L Beck The first part of this paper discusses the theoretical nature of the alternative method proposed by the Committee for calculatmg the money stock and presents reasons why 1t should yield essentially the same results as the current method It explams how the alternative method should correct for both "cash items bias" and "due from banks bias" m the money stock and, therefore, should s1mphfy the construction of Mi The second part of the paper describes the alternative senes constructed by the Board's staff and the dilemma produced by the nearly $8 0 billion d1fferei{ce between the two series m December 1974 Developing Money Substitutes Current Trends and Their Implications for Redefining the Monetary Aggregates by Steven M Roberts In the past seveTal years financial mnovat1ons and regulatory changes have mcreasmgly blurred the d1stmcuon between demand deposits and savmgs-type deposits at both bank and nonbank financial mst1tut10ns To cite a few of these mno- Summaries of Staff Papers vat1ons 1s sufficient to md1cate the trend NOW (negotiable orders of withdrawal) accounts, telephone and third-party transfers from savmgs accounts, shares of money market mutual funds that can be transferred by check or wire, and transfers via CBCT's (customer bank communication termmals) directly from the customer's to the merchant's savmgs account for purchases of goods and services In add1t10n, smce mid-1973 banks have been required to impose mterest penalties for early withdrawal of time deposits prior to maturity, a requirement that has sharpened the d1stmct10n between savmgs and Ume deposits The drivmg forces behmd the changes that have taken place have been mcreased competltlon among financial mstituuons for deposits https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 43 (fueled by the lack of demand deposit authority for most thnft mstituuons) relatively high mterest rates that have mcreased the cost of foregone mterest on demand deposits, and the existence of mterest rate ceilmgs on time deposits In add1uon to documentmg both the changes and their apparent causes, this paper discusses the 1mphcauons of recent developments for the mterpretat10n of the monetary aggregates as currently defined In the future M 1 may well tend to reflect a decreasmg share of transactions balances while the time deposit share of M 2 will consist of an mcreasmg amount of deposits that are more like secunues Such changes suggest that a new array of monetary aggregates will need to be considered by both monetary policymakers and economists https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis