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A meeting of the Board of Governors of the Federal Reserve 8Ystem . INIth the Federal Advisory Council was held in the offices of the 13 , 'ard of Governors in Washington on Monday, December 4, 1944, at 1.0:30 a.m. PRESENT: Mr. Mr. Mr. Mr. Mr. Eccles, Chairman Ransom, Vice Chairman Szymczak McKee Draper Mr. Morrill, Secretary Mr. Carpenter, Assistant Secretary Mr. Hammond, Assistant Secretary Mr. Clayton, Assistant to the Chairman Mr. Thurston, Special Assistant to the Chairman Mr. Goldenweiser, Director of the Division of Research and Statistics Mr. Smead, Director of the Division of Bank Operations Mr. Paulger, Director of the Division of Examinations Mr. Parry, Director of the Division of Security Loans Mr. Dreibelbis, General Attorney Mr. Leonard, Director of the Division of Personnel Administration Mr. Vest, Assistant General Attorney Mr. Wyatt, General Counsel Messrs. Charles E. Spencer, Jr., John C. Traphagen, William F. Kurtz, B. C. Huntington, Robert V. Fleming, Keehn W. Berry, Ralph C. Gifford, Lyman E. Wakefield, A. E. Bradshaw, Ed. H. Winton, and George M. Wallace, members of the Federal Advisory Council representing the First, Second, Third, Fourth, Fifth, Sixth, Eighth, Ninth, Tenth, Eleventh, and Twelfth Federal Reserve Districts, respectively 1785 12/4/44 -2Mr. Walter S. MbLucas, Chairman of the Board of the National Bank of Detroit, was designated by the Federal Reserve Bank of Chicago to attend this meeting in the absence of Mr. Edward E. Brown who was unable to be present. Mr. Walter Lichtenstein, Secretary of the Federal Advisory Council Mr. Spencer stated that Mr. Brown was in Mexico and for that re4(111 was unable to attend this meeting. Mr. Spencer also said that the first item on the agenda for the meeting Of the Council was developments in connection with the ab8°rPtiori of exchange and collection charges as an indirect payment of ttlterest violation of the law and the Board's Regulation Q, Payment "Interest on Deposits. He said the Council discussed the matter yes- tell4Yand would like to know whether the Board had any further inr°1111ation with respect to it. Mr. , D Lansom stated that the Board received informal word from clerk _ 0r the Senate Banking and Currency Committee last week end that the Co mmittee was planning to hold hearings on the Brown-Maybank 411 the erakilencing Thursday of this week; that the proponents of the bill 11,01Q4 be heard from first, and that although there was no information ItIra'llable yet as to how long the hearings would be or how many witnesses It°1111ibe asked to testify it was hoped that before the dgy was over 41c141(11141 info e it tion would be available. Mr. Ransom also said that, was his expectation that the bill would not be reported out IL7S6 b7 -3the Senate committee, if it were found that it was the intention of the committee to have a full hearing, the Board proposed to notify mp„.... eve" - le who had indicated a desire to testify in opposition to the btu.. Re went on to say that it now appeared that Congress would not adjourn until Christmas so that there was time for a hearing before theco ttee if that should be its decision, and that the length and ,11,1 leteness of the hearing might depend on the willingness of bank reloresentatives and others to come to Washington at this time. Mr. aftrepeated the comment made at earlier meetings with the Council that'll) the opinion of the Board the Brown—Maybank bill was in no Illse4 solution of the problem and would weaken the position of the ?ederaiReserve System at a time when it should be strengthened, that tliel'er°re the bill should be opposed as completely as possible, and that it would be necessary that the Board have the cooperation of the b4lIket'e to make it clear to the committee that much more was involved the bill than the mere question of earnings of small banks. He re— brierlY the information in the Board's files as to the attitude "bkkerst a that it was ssociations and others in opposition to the bill and said assumed that the position of the Federal Advisory Council, in opposition to the enactment of the bill, had not changed. 1'4118 11-8 n° general response on the part of the members of the Council, appear_ ea from individual remarks that the members present were still 1)14 it_ 44 °I3P0eed to the passage of the bill. 1 —4— Spencer stated that another matter discussed by the Council 1148 the decline of the ratio of gold to member bank reserve balances aluiPed eral Reserve notes in circulation, and he asked if the Board had ' 411Yc°Mment to make on that subject. Chairman Eccles stated that it was expected that legislation Wc411c1 be requested sometime after the first of the yeE- to reduce the eqd, ' eeerve required to be maintained by the Federal Reserve Banks 4ge.irlat deposits and Federal Reserve notes in circulation. He also kid that the legislation had not been drawn but that there was unaniril°118 ae"reenlerlt that on the part of the Board and the Federal Reserve Banks the c4L-Ly effective solution of the problem was legislation, and that 4. 'he matter had been discussed with Under Secretary of the Treasury agreed that steps should be taken shortly after the first of the "c'r to get the necessary legislation. UP°n inquiry as to the amount of the contemplated reduction c4 the l'eqUired reserve, Chairman Eccles stated that, with the use of 4611eta gold being limited to international payments, a gold reserve that 8- dePosits and currency in circulation was largely academic, and Perso,,, „ "a-L.1Y he would like to see the requirement eliminated alto gother ,E, lor the reason that its position had adverse effects on the 411'ket f -01' Government securities. He said that as long as the requireke ia the law there was always the question whether, when the tti "2 NI imposed by the requirement were being approached, the Fed- It System would be able to continue to support the market 1W44 —5— t°11 GOVertlIllent 1 &3reteill 8 securities, and that if the limits were removed the policy would not be changed thereby, as the System would not 147 allY more Government securities than were necessary. He also said that the authority to pledge Government securities as collateral for Neral Reserve notes would expire on June 30 of next year, and that that autthority should be made permanent. Mr. Fleming, who had suggested that the Advisory Council con— the matter of the reserve ratio, stated that there did not appear to be eV question but that legislation was required and that an effort to Meet the problem in any other way would be more disturbing than ac— ti°11 in the form of Congressional legislation. Mr. Spencer then referred to a third topic on the agenda for the Council Which suggested that the proposed amendment to section 13b 411thorizing Federal Reserve Banks to guarantee loans should define the teN "loan" to include a loan, discount, advance, or a participation thel'°111 'and the term "guarantee" to include a commitment to make such `le.razitee. Wallace, who had raised the question, stated that in con— 4renees connection with V—loans the suggestion had been made that it wo, tadbe well to have these definitions included in the amendment that the lavers Lere pretty well agreed on them. In that response to a request for his comments, Mr. Vest stated Was his feeling that, while there might be some room for 1W10+4 —6— differences of opinion, the amendment in its present form would mean the sa'beviith or without the definitions, that early drafts of the anlendment had contained a provision that would authorize the Board of G°Irerlic)rs to define the terms used in the amendment, but that an eftort had been made to make the amendment as short and as simple as possible a it was felt that if these terms were defined it would be ilece8sarY to define additional terms as McKee suggested that the proposed definitions be left with the board for further study and this was agreed to by all of the memaera c)f the Council present. In connection with a discussion of the prospects regarding the Da.ssa ga of the amendment to section 13b, Chairman Eccles said that he 41(1 not 41,4 '"-Lnk that anything more would be done on it at this session of Cor *ess that if it were taken up at the next session it would have to ritroduced and that he doubted that that would be done particularly 14 view of the passage by the House on December 1 of the bill (3-2004) 6.13Prciori d— ing additional funds for the Smaller War Plants Corporation. liella-at e the further statement that the amendment to section 13b had le tion,0beeause of both the opposition of the American Bankers Associa'' th is amendment, and its failure to oppose the Smaller War Plants °Ipotion . billy and that so far as he was concerned he was not going to cio Nrt etctiorl 1 hing further to bring about the passage of the amendment to the b. 313. He also said that unless the bankers took steps to oppose which Was now before Congress to appropriate one billion lJt) 12/4 /44 —7— dollars for the Smaller War Plants Corporation that bill might also be enacted into law. Mr. Fleming stated that, so far as the Council was concerned, it atil] favored the amendment to section 13b, that the position of the Ataerican Bankers Association was expressed in a resolution adopted ill 1943 in opposition to guaranteed loans, that that position could llot be changed until the subsequent meeting of the Association, and that riot When the matter came up the opposition was so strong that it was Pc)ssible to change the position of the Association to favor the al4ericklent to section 13b. Reference was made during the discussion to statements by flibell8 of the House of Representatives when the Smaller War Plants 411 was under discussion in the House last week, and some of these atatelents were read by Mr. Clayton. Mr. Morrill said that copies of the 11°118e hearings on the bill were being sent to the members of the C°111ell today. Chairman Eccles stated that, in view of the passage of the Nitt.act Se ttlement Act of 1944 requiring the Director of Contract ettlenlent to confer with the Smaller War Plants Corporation and the 411thorit given to the Smaller War Plants Corporation in that Act to 1111ehase surplus properties for resale to small business concerns, it .44 tafficult to see how Congress could refuse to make additional funds al'atlabie to t4rita a the Corporation and that in the absence of further develop— her expansion in the activities of the Corporation and an 1791 -8e4en8i°11 of its existence as a permanent organization could be exPeeted. 14r. Spencer stated that the Council had discussed the questio4 ellbtted by the Board whether the short-term Government debt 11c41.1d be refunded and if so on what basis, and felt that as long as tile Iva 1" drives and the Gove ent's need for additional funds continued 40t mu eh could be accomplished in the way of refunding securities in 44ger-t erm obligations, particularly since the great majority of corP°ratio ns other than insurance companies were interested only in shortterm n _ eourities and could not be expected to buy long-term bonds. f, mn Eccles stated that the question was not directed to Chair.te wax 'period but rather to the period following the war when the need ‘c)r additional funds would be much smaller. Peerec, He said that there ap- tc) be an erroneous impression as to the need of refunding the term debt and that in the circumstances the contrary course was 41dieeted. 14r- Fleming suggested that corporations were interested in 11°I'Ltermsecurities with the idea that they could be disposed of qter th -e war and the funds made available for reconversion purposes, kCi ^ i4 tht f: would be undesirable to extend the maturity on these is- Nthaa the reason that it was probable that they would have to be e°1 bY the banks. Mr. If c..Kee raised a question as to the desirability of increasing 1792 12/4/44 —9— the issues with three or four year maturities and reducing the number issues in the very short field so as to provide greater flexibility illtha tarea of the market to meet any situation that might arise. Chairman Eccles said that he would be opposed to increasing thevolume of the three or four year maturities at this time because efthe increased interest cost, that in view of the present earning Poeition of the banks there was no reason why they should receive 4/4 or 11/2 per cent on short-term paper, and that if any change e—itiadLe it should be to replace outstanding certificates with a 314 per cent obligation- *. McKee said that he did not disagree with Chairman Eccles' 13°81tin -n but that he had in mind the possibility of some difficulty gwactA-on with the sale by present holders of securities follow- 11le the war when it might be desirable to be in a position to issue a 4.aree Mount of short-term Government obligations. Chai-man Eccles questioned whether there would be a widespread reconire.ti°11 of GOvernment securities by corporations in connection with 44y el,.ersi°11 and production for the postwar period, and stated that in 440 ent the situation was so completely controlled that there would Material difficulty from that source. 174ct 11r. Wakefield said that it appeared to him that the question Woillci e reOf the welfare of the Government and what the banking system cillire after the war. He thought that the banks should hold :3 12/4/44 -10very. " "Large amounts of short-term issues both from the standpoint of the dity of their position and the cost of servicing the public debt, a nd that, therefore, it would be entirely undesirable to take the abort-term debt out of the picture now or at any time in the future that ±t should be increased Re felt that we debt but should for the reasons which he had stated. should not be alarmed at the outstanding short-term accept it and cultivate it as the most desirable way of financing the war. At this point Chairman Eccles read an excerpt from a memowhich he had sent to the Treasury in September of this year, hich " ()ng other things, referred to the refunding of short-term %Ire , 'unent obligations. The excerpt read as follows: wh,„ "Traditionally, it has been considered good policy te4leirer conditions permit to refund short-term into longandt to reserve short-term instruments for emertoller use. The main purpose of such a policy has been of, cIlstribute maturities and to avoid the possibility timilaving to meet large and unuieldly maturities at a pr e When conditions were unfavorable. This may be the Per Policy to follow in refinancing private debt, since prn?,, debtors have no control over and no responsibility or raarket market conditions. In the management of the Governdebt, haaever, the monetary and fiscal authorities 4111 4rgelY control the terms and conditions of refinancpof! .rld they have responsibility for the adoption of Icles that will be in the general public interest. "To follow the traditional policy of refunding the a...ort-terni ws" Government debt into long-term debt as rapidly (4%Po8sible would lead to a number of undesirable ccpse7 (;t2lcses, particularly in view of the size and distribution ' Aie Present debt. Such a policy, by lengthening the 1794 12111/44 -11— ".average maturity of the Government debt, would result an increased interest cost and in less flexibility to the Treasury in managing the debt. The consequent inease in commercial bank holdings of longer-term securit les would further increase commercial bank earnings, which re already large. This would make the Treasury and the ,Tlkang system more vulnerable to political attack on the ounds that banks were making unreasonable profits from '40 public debt. In addition, an increase in the out; anding amount of long-term securities is inherently not erhl the best public interest if interest rates subsequently i,a11P; if interest rates rise the investor will be receiva- -Less than the current rate of interest and will suffer te °88 on any securities that he may sell, while if inn rates decline the Treasury will be paying more Since tterest than is necessary at the current rate. heaverage maturity of bank holdings of Government sewould be lengthened, the depreciation of the value et ul s of bank holdings would be larger if interest rates rise. Because of this, the Federal Reserve might hesitant to pursue a policy of credit restraint, even ec such a course should appear to be desirable on general °n°11lio grounds." Re als 0 referred to a speech delivered by Secretary Morgenthau at Los kgeles on October 14, 1944, in which Mr. Morgenthau stated that he 4.11 n° need for a wholesale postwar refunding of the public debt into j t 1°4-terbill bonds since it would cost the taxpayer more in interest and 11°1114 shift whatever risk was inherent in fluctuating interest rates 4°174 the Government, which was able to bear it, to individuals, institutioris, arid corporations• Chai 1‘1*°111 n Eccles said that the point he wanted to make was that bezicinp standpoint it was highly desirable that the proportion °t01.1tetanding Government debt in the form of bills and certificates co ntinue, and that if there were some way by which bank holdings W11/44 -120f Goys rnment securities could be confined to bills and certificates that would be a desirable thing to do, but that the banks already held elibetaritial amounts of long-term bonds and there was a tendency to ellift additional amounts from short to long maturities. Mr. Wallace said he thought of short-term as anything within hhe year. He did not think it would be wise to refund these issues irit 44ger-term securities as it would increase the cost to the Govbent and it would be difficult to do it in any event as the public ,1 78 81"-term • ded and would continue to be. He referred to the ''act that the short-te debt in England constituted 1/2 of the total 414as c ompared to 1/3 in this country. Chairman Eccles referred to the strong demand for 2 per cent bOrids and stated that during the period since the Fifth War Loan Drive, 14 sPte of the increased reserve requirements of member banks, they hnerad . eased their holdings of 2 per cent bonds on balance and had sold 41)Prodrr., ---u"telY three billion dollars of bills and certificates. betv,een the 1411% Berry suggested that there was a fundamental difference our approach and the approach in England where the rate paid barilts was based on a return that would meet the overhead requirements °11 banks• In this country, he said, we have set up a program that ilr' bh : 1114 securities to meet the overhead requirements of large banks „ not of the man banks, which situation could be corrected by inq4 % the supply of maturities in the three-year area that would 12/4/44 —13— be av ailable to the banks. Chairman Eccles stated that it appeared that both the large and the small banks were taken care of now in that, while the larger barks had larger earnings than the smaller ones, generally speaking banks had adequate earnings. Mr. Berry thought that that was because of their having pur414edl°ng-term securities, and Chairman Eccles' response was that t41at eoulanot be prevented. He added that, if two or three years 4g0 the Present situation could have been foreseen, it would have been t° Prohibit the banks from taking any securities with maturities citt. than were necessary to yield a return of 1-1/4 or 1-1/2 per 111'. Wakefield said that in the group of banks with which he 174 e°1111ected only five had excess profits, that these banks had ex- :ill e eed 4 very large increase in deposits, and that the policy of tratiageruent with respect to them was to have them hold only shorttes in order to meet possible deposit losses. tel that He also after the present war loan drive there would be a much demand for the 2 per cent bonds. Mr. Zin Spencer commented that there was no point in investing in ' elrscen't b°nds if a substantial portion of the return would be taken eX eceQ profit taxes. 12/4/44 —14— Mr. McKee suggested that, while it was desirable not to in— cl ' ease the interest cost to the Government, the failure to meet the demand for intermediate issues of securities forced the banks to in— in longer maturities which pushed these issues to a premium. He els° Pointed out that the amount of bonds held in the System open mar— ket a ca°1I11t was not sufficient to supply any substantial market demand °413alance and that if the pressure on these issues continued they thtadvaace to a point where the interest rate structure would be ged. Chairman Eccles expressed the opinion that the present rate on Treas,, "17bills was too low in relation to the 7/8 per cent rate on cer— tit4_ 'eates which caused the certificates to sell at a premium immediately Re : 8811e and the rate on the longer—term securities to be pulled down. -4c1 this could be corrected only by issuing additional long—term Obligat1(3 "which would increase the cost to the Governmnt. Referring particularly to the question of bank earnings, Chair8 c4 ky a stated that he felt that banks should use their increased to in bank employees' salaries as soon as possible, to arger rate on savings deposits, and to reduce service charges. 2 Pe In a further discussion it was suggested that the demand for cent bonds might be aggravated by the thought on the Dart of the baliks that these issues might not continue to be eligible for bank kehaae. 1['9S -15• Wakefield felt that the Government security holdings of l''°uld increase, that, therefore, deposits would continue to inand that if that were true interest rates could not be expected to increase. He thought that these deposits might be highly volatile ef• 41c1er -ore could not be invested in long-term securities, and that this would intensify the demend for short-term securities. Mr. Berry thought that the pressure on the 2 per cent bonds 17°111cl be reduced if there were an increase in the supply of maturities &lithe three year area. Chairman Eccles stated that it appeared that approximately 50 cent of war and other Government costs this year would be financed °Ilt of taxes and that it might be found desirable to issue a 3/4 per Nit cert ificate, to extend the maturity of the 2 per cent bonds to 12 to 15 years, and to issue 10-year maturities at a 1-1/2 per cent ' l4te, which would be more nearly in line with the present short-term re,te, In connection with the question asked by the Board whether 141-ler Portion of bank earnings should be retained for additions to 11311ba1 and surplus, Mr. Spencer stated that it was the feeling of the e°11tiell• that the capital structure of the banking system was not adetilltate r elation to what it used to be, and he inquired whether the '°4ricl had any views on that point. Chairman Eccles stated that he disagreed completely with the I7 12/11/44 -16- P4iti0n. of the Comptroller of the Currency and the Federal Deposit itisuralice Corporation on the adequacy of bank capital. He felt that order to arrive at a ratio that would have any meaning there should be subtracted from a bank's deposits its cash and Government securities, are without risk, and that the remaining deposits should be corn— Pared with the total capital funds of the bank after subtracting there— 4°111 bankiag house, furniture and fixtures, and other real estate. On that basis) he said, the ratio for all banks in this country is about 37Pet'ceat, which is higher than at any previous time. At the same titas the banks have reduced or eliminated questionable assets and their risk assets are superior in quality to those previously held. 41414 situation he did not think that any case could be made for con— l'.11-111Z bank earnings for the purpose of increasing capital accounts 141 relation to total deposits unless our faith in Government securi— tleawas to be questioned. Mr. Spencer commented that Chairman Eccles' statement might Inte rPreted as a suggestion that the banks should pay higher divi4tici i t° which he responded that he thought they should. be. 14r- McKee said that in the future the banks with the largest c °lad attract the greatest volume of deposits and that the 411% ow were not in the hands of the supervisors but of their depositors". Theretore b 'he felt that if a bank could set up a statement to show a 8 c -Mal was in relation to its risk assets it would be able '4114t it —17— t° attract a considerable amount of corporate deposits and would avoid the unnecessary movement of funds to New York, Chicago, and other large centers. He felt that it was necessary that the banks educate their cUatomers as to the capital funds that were available to protect de13°81t8 and that this could be done if the banks would set up a condi— tion statement which would show the bank's liquidity in much the same ilar a the position of a customer was shown when he borrowed from a While he agreed with Chairman Eccles' statement with respect to 4Pital ratios, he felt that it would be desirable in the future for the Pederal Deposit Insurance Corporation assessment to be based on sets rather than total deposits, with an allowance deduction r(Ir eaPital funds. The concluding statement of the discussion was made by Chair— bkit celes) who said that no matter how the situation with respect to ea.illings was viewed it was fraught with a great deal of difficulty kilti that the banks were largely out of the banking business in the real 4telle and °Ill% : 414 11 c't Were agents of the Government in selling securities and per— other Government functions. He did not see how there could be increase in borrowing from banks in the future but on the ()-hel' hand there might well be some reduction. 1)411k He felt that since the haci a franchise from the Government to create money in the form eheeke the banking system was vulnerable to the trend throughout the 11°I'lci to soc ialize the banking system. 1801 12/4/44 —18— Mi. Traphagen asked if it would be possible to have a copy of theme 111D/randum Which Chairman Eccles said he had sent to the Treasury arid fr Which he had read an excerpt. Chairman Eccles responded that them eill°randum covered a n ber of other matters which he would not be ertY to make available but that he had covered all of the coments &li the --'"Qrandum with respect to refunding the Government debt. Thereupon the meeting adjourned. Secretary. Chairman.
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