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FEDERAL RESERVE BANK OF ST. L O U IS MARCH 1977 : The FOMC in 1976: Progress Against Inflation ..................... Free Trade: A Major Factor in U.S. Farm Income.................. LITiTLE R O C K | V- Vol. 59, No. 3 The FOMC in 1976: Prog ress Against Inflation A L B E R T E . B U R G E R and D O U G L A S R . M U D D T - H E prim ary objective of m onetary policy in 1976 was to redu ce inflationary pressures w hile sustaining th e recovery w hich began in early 1975. T h e monetary authorities expressed concern that, in an inflationary environm ent such as prevailed in late-1975 and early1976, attem pts to quicken th e p ace of econom ic re covery through stim ulative policy actions could yield undesirable results. As expressed by Chairm an Burns in February, R e c e n t exp erien ce . . . suggests th a t o n ce inflation has b eco m e ingrain ed in th e thinking o f a n atio n ’s businessm en and consum ers, high ly expansionist m on etary and fiscal p olicies do not h av e th e ir in ten d ed e ffe ct . . . th e y m ay lead to larg er p re ca u tion ary savings and sluggish con su m er b u y in g .1 Thus, w ith the pace of inflation a m ajor concern, the m onetary authorities began the year w ith . . the firm intention of staying w ith a course of m oderation in m onetary policy.”2 On balance, over 1976 the money stock ( M j ) grew 5.5 percent, a rate th at was “m oderate,” at least by com parison w ith the growth rates of money experi enced since th e early 1970 s. T h e growth rate of m oney did not sharply reaccelerate this second year of econom ic recovery, as it had in some previous re covery periods. W hen the money stock accelerated sharply, as in April and M ay, the F ed eral O pen M ar ket C om m ittee (F O M C ) adopted a m ore restrictive policy and the growth of M j fell back. Associated w ith this policy w ere falling interest rates and strong growth of deposits at thrift institutions. T h ere was no increase in the trend growth of money — the m ajor influence on the trend growth of prices — and the stage was set for a possible reduction in the trend growth of M j in 1977. In 1976, for the second consecutive year, the F O M C publicly announced longer-run ranges for the m ajor m onetary aggregates, M 1; M 2, and M ;i. T h e policy of announcing longer-run ranges was begun in early 1975 at the request of Congress as expressed in House NOTE: Unless otherwise stated citations throughout this paper are from either the “Record of Policy Actions of the Federal Open Market Committee” or “Statements to Congress,” Federal Reserve Bulletin (February 1976-February 1977). ’ “Statements” (March 1976), p. 233. 2Arthur F. Burns, “Statements” (February 1976), p. 112. Digitized for Page 2 FRASER Concurrent Resolution 133 passed on M arch 24, 1975. This resolution requested that th e B oard of Governors consult w ith C om m ittees of th e Congress on a quar terly basis w ith respect to its objectives and plans for the ranges of growth of the m onetary aggregates over the next tw elve m onths.3 D uring 1976 Chairm an Burns m et w ith C ongres sional C om m ittees at about 90 day intervals to present th e intended longer-run growth rates for the m onetary aggregates that had b een decided upon at th e F O M C m eeting about 15 days earlier. T h ese yearly ranges w ere based on th e quarterly average for th e m ost recent quarter to the quarterly average for one year in the future. T h e F ed era l R eserve repeatedly em pha sized th at targets of this nature m ust b e su b ject to review and adm inistered with flexibility. T h e F O M C in 1976 also decided to release its short-run operating targets for the m onetary aggre gates and the F ed eral funds rate w ith a shorter delay than had previously been the case. T h e “R ecord of Policy A ctions” for each F O M C m eeting contains the short-run operating targets for the m onetary aggre gates and the F ed era l funds rate. From m id -1967 to early 1975 th ere had been a delay of about 90 days in releasing the “R ecord ” for each F O M C m eeting. In early 1975 this interval was shortened to 45 days. At the M ay 18, 1976 F O M C m eeting the Com m ittee voted to release this record w ith a delay of only about a month. T h e extent to w hich the F ed era l R eserve was hold ing th e growth of the aggregates w ithin th e an nounced longer-run ranges was su b ject to very close scrutiny by Congress and the public. W hereas in previous years the behavior of M , was considered significant by some, in 1976 alm ost every financial report and the bulk of Congressional testim ony was devoted to movem ents in M j relative to th e ranges announced by th e F O M C . T h is article reviews th e operation of th e F O M C during this second year of announced longer-run ranges of growth for m onetary aggregates. A Supple m ent at the end of th e article presents a detailed m eeting-by-m eeting summary of F O M C decisions. 3See Nancy Jianakoplos, “The FOMC in 1975: Announcing Monetary Targets,” this Review (March 1976), pp. 9-10. FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 T a b le I FO M C O perating Ranges 1975-1976 Sh o tt-R u n T olerance R a n g e s 1 renuu D a le of M e e tin g Fed e ral Funds Rate iu wniiii R a n g e s Specified M l & M2 R a n g e s A p p ly R PD 2 Ml A ctu a l G ro w th Rates M2 Ml M2 1 1 .0 % Decem ber 16, 1 9 7 5 4 '/ , - 5 % % 4 -7 % Dec.-Jan. 4 -7 % 7 -1 0 % 6 .8 % Ja n u a ry 20, 1 9 7 6 4 % -5 2 -7 Jan.-Feb. 4 -9 7 -1 1 % 4.1 1 2 .6 F e b ru a ry 1 7 - 1 8 , 1 9 7 6 4 'A -5 % ( - % ) - (-4 % ) Fe b .-M a r. 5 -9 9 -1 3 5 .7 11.0 M a rc h 1 5 - 1 6 , 1 9 7 6 4 % -5 % ( - M a r .-A p r. 4 -8 7 -1 1 10.1 1 1 .0 A p ril 2 0 , 1 9 7 6 4 % -5 % A p r.-M a y 4 % -8 % 8 -1 2 1 0 .9 1 1 .5 2 ) - ( + 2) M a y -J u n e 4 -7 % 5- 9 2.8 6 .6 Ju n e 2 2 , 1 9 7 6 5 % -5 % Ju n e -J u ly 3 % -7 % 6 -1 0 3 .0 8.2 J u ly 1 9 - 2 0 , 1 9 7 6 4 y 4 - 5 3/4 J u ly -A u g . 4 -8 7 % -11 % 6.1 1 0 .6 A u g .-Se p t. 4 -8 7 % -1 1 % 3.1 9 .6 8 -1 2 7 .4 1 3 .0 M a y 18, 1 9 7 6 A u g u s t 17, 1 9 7 6 5 - 5 3/4 5 -5 % Sep tem b er 2 1 , 1 9 7 6 4 3 / 4 -5 % Sept.-O ct. 4 -8 O cto b e r 1 9 , 1 9 7 6 4 % - 5 '/ 4 O c t.-N o v . 5 -9 9 -1 3 6 .8 1 3 .0 N o v e m b e r 1 6, 1 9 7 6 4i/2 - 5 ’/4 N ov.-D e c. 3 -7 9 % -1 3 % 4.1 1 1 .4 D ecem ber 2 0 - 2 1 , 1 9 7 6 4> / 4-5 Dec.-Jan. 2 % -6 % 9 -1 3 6 .8 1 1 .0 lo n g e r -R u n T ole ra nce R a n g e s 3 Date Announced T arget Period N o v e m b e r 4, 1 9 7 5 111/75-111/76 F e b ru a ry 3, 1 9 7 6 IV / 7 5 - IV / 7 6 Ml M2 5 -7 % % M3 C re d it P ro x y 4 7 % -1 0 % % 9 -1 2 % 6 -9 % 4 % -7 % 7 % -1 0 % 9-1 2 6 -9 M a y 3, 1 9 7 6 1 / 7 6 -1 / 7 7 4 % -7 7 % -1 0 9 -1 2 6 -9 J u ly 27 , 1 9 7 6 11/76-11/77 4 % -7 7% - 9 -1 1 5 -8 Novem ber 1 1 ,1 9 7 6 111/76-111/77 4 % -6 % 7 % -1 0 9 -1 1 % 5 -8 9% 1Short-i*un to leran ce ran g es w ere adopted a t each o f th e FO M C ’s regularly scheduled m eetin g s. T h e ra n g es fo r th e m on etary and reserve a g g reg a tes w ere specified in term s o f tw o-m onth sim ple an n u al rates o f ch an g e fro m th e m onth p rio r to th e m eetin g a t w hich the ra n g es w ere established to th e m onth follow ing th e m eetin g . T h e ran g es fo r th e F ed eral funds ra te w ere specified to cover th e period fro m th e m eetin g a t w hich th e ran ges w ere adopted to th e follow ing reg u larly scheduled m eetin g . S h o rt-ru n ran g es w ere m ade av ailable in th e “ R ecord o f P olicy A ction s o f th e F ed eral Open M ark et C om m ittee” ap p roxim ately 30 days a fte r each m eetin g . 2A t a special m eetin g held on M arch 29, 1976, th e C om m ittee reached th e u n d erstan d in g th a t several reserve ag g reg a te s (in clu d in g nonborrow ed reserves, to tal reserves, and “m on etary base” — to tal reserves plus cu rre n cy ) should be considered in fo rm u la tin g th e ir in stru ctio n s to th e M anager o f th e System Open M ark et A ccount. H ence, th e C om m ittee agreed to n o lon g er sp ecify exp ected grow th ra te s fo r reserves a v ailable to support p riv a te nonbank deposits (R P D ’s ) . 3C h airm an o f th e F ed eral R eserv e B o ard A rth u r F . B u rn s announced intended grow th ra tes o f m on etary ag g reg a te s over th e indicated one y ear periods in statem en ts p resented b efo re Congressional C om m ittees a t in terv a ls o f a p p roxim ately 90 days. 4D aily av erag e m em ber b an k deposits, adjusted to include funds fro m n ondeposit sources. Aggregate Targets T h e F O M C decided upon both longer-run and short-run ranges for the m onetary aggregates. These ranges for 1976 are presented in T a b le I, and the longer-run ranges are shown graphically in C hart I. T h e longer-run ranges cover a period of one year, stretching from th e most recent qu arter to the cor responding qu arter one year in th e future. These longer-run ranges w ere review ed by the F O M C at th e end of each quarter, and w ere su b ject to modifi cation at any tim e based on new inform ation about the likely course of the econom y. T herefore, as m em bers of th e F O M C have repeatedly pointed out, the F O M C does not consider itself ‘lo c k e d in ” to previ ously announced growth ranges for the w hole year period. M onetary targets are expressed as ranges, rather than single num bers. Once basic decisions have been made about rates of money growth, problems arise concerning the manner of specifying the targets. There is the choice between a single number and a range. A single number virtually guarantees a miss but by virtue of that fact also provides a reasonable excuse for miss ing. The uncompromising character of a single number target, however, is also more apt to provoke controversy. A target range is easier to hit but, by the same token, a miss may be more severely criticized. At the same time, a range is likely to be less con troversial because it is less specific.4 4Henry C. W allich, “Innovations in Monetary Policy” (paper presented at the Southern Econom ic Association meeting, Atlanta, Georgia, November 18, 1 9 7 6 ), p. 7. Page 3 FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 C ha rt I T w e lv e -M o n th M ] Tolerance R a n g e s A n no un ce d D uring 1976 1975 1976 N o te : T h e l o n g e r - r u n r a n g e s a n d a c tu a l M i l e v e ls r e p r e s e n t t h e m o s t c u r r e n t s e a s o n a l l y a d ju s t e d m o n t h ly d a ta . Page 4 1977 FEDERAL RESERVE BANK OF ST. LOUIS T h e F O M C also chooses short-run ranges fo r the m onetary aggregates th at are thought to b e consistent w ith longer-run ranges. T h ese short-run ranges are specified over m oving 2-m onth periods. F o r exam ple at the January m eeting the F O M C specified short-run operating targets for the 2-m onth period January F ebru ary. Th en at th e F ebru ary m eeting, new targets w ere set for th e Febru ary - M arch period. Also, at each m onthly m eeting th e F O M C sets desired ranges for the F ed eral funds rate that cover the period until th e next m eeting. T h e funds rate range is chosen to b e broadly consistent w ith the short-run ranges for the aggregates. On a m eeting-to-m eeting basis, control of the funds rate becom es the prim ary operating o b jec tive of the Trad ing Desk. Longer-R un R an g es — T h e F O M C began 1976 operating w ith longer-run ranges of 5 - 7% percent for M j and 7% -1 0 % percent for M 2. T h ese ranges, w hich had been announced in N ovem ber 1975, covered the period from third quarter 1975 to third quarter 1976. At its January m eeting the F O M C review ed its longerrun ranges and decided to redu ce th e low er range in M t growth from 5 to 4Vz percent for the period from fourth quarter 1975 to fourth quarter 1976. After announcing the new longer-run range to Congress, Chairm an Bum s further stated th at “. . . th e growth rates of money and credit presently desired by the F ed era l R eserve cannot b e m aintained indefinitely w ithout running a serious risk of releasing new infla tionary pressures.”5 Throughout 1976 the F O M C ’s longer-run ranges for M i growth w ere further reduced. In th e first quarter of 1976 M j grew at only a 2.9 p ercen t annual rate, considerably below the low er range of 4Vz percent. However, real output growth had b een very strong in the first quarter and staff projections indicated that prices would rise m ore rapidly during the rem ainder of th e year. At the April m eeting, It was stressed during the discussion that the rate of growth in M l needed to accommodate a good economic recovery had been overestimated earlier: Although M l growth in the past two quarters had fallen short of the lower limit of the range that had been specified by the Committee, it obviously had been sufficient to accommodate a strong recovery.6 Therefore, the F O M C voted to reduce the upper range on growth of M j from IVz to 7 percent. It was noted that the recovery in economic activity had been under way for 1 year and that the end of MARCH 1977 the new period for the growth ranges would fall 2 years after the recession trough. Moreover, the re covery recently had gained strength. Accordingly, it was observed that this might be an opportune time for the Committee to take a small step toward its longer-range objective of returning growth in the monetary aggregates toward rates consistent with general price stability.7 Although real output growth slowed substantially in th e second quarter of 1976, th e F O M C decided at its July m eeting to retain its longer-run ranges for money growth. In reaching the decision to m aintain the previous one-year range for M j, the C om m ittee noted that even w ith th e second qu arter slowing in th e rate of econom ic expansion, real output had increased at about a 7 percen t annual rate over the first h alf of the year. “A staff analysis of the econom ic outlook sug gested th at th e advance in business activity would soon im prove from the relatively slow pace of recen t m onths.”8 Staff projections suggested a “m oderately rapid pace” for output growth over the next tw o quar ters, and favorable prospects for . . continuation of a good rate of expansion in real output into 1977.”9 Since th e outlook for econom ic activity was generally view ed as favorable, there was some sentim ent among m em bers of the F O M C to low er th e longer-run range for M j. However, the C om m ittee concluded th at . . . this did not appear to be an appropriate time to reduce the [longer-run target] range [for M l growth] in view of the recent hesitation in the course of the economic expansion.10 D uring the third quarter th e F O M C continued to b e satisfied w ith th e pace of econom ic activity and expected a halt to the tem porary “pause” and some pick up in the growth of real output later in 1976. At the C om m ittee’s August m eeting, Staff projections continued to suggest diat real GNP would expand at a moderate pace in the current quarter and that moderate growth in output would continue well into 1977. Staff projections for the second half of 1 9 7 6 dif fered little from those of 4 weeks earlier; they con tinued to suggest that the slackening in economic growth in recent months would prove to be temporary. In general, Committee members felt that the pace of expansion in over-all economic activity would soon pick up again.11 7Ibid., pp. 516-17. 8“Record” (Septem ber 1 9 7 6 ), p. 776. “Ibid., p. 774. 5“Statements” (February 1 9 7 6 ), pp. 124-25. 10Ibid., p. 781. 6“Record” (Ju n e 1 9 7 6 ), p. 517. ^ “Record” (O ctober 1 9 7 6 ), pp. 837, 839-40, and 844. Page 5 Page 6 EXHIBIT I FOMC ECONOM IC POLICY DIRECTIVES — 1976 D ate o f FOMC M e e t in g Jan uary 20 Policy Consensus . . . to fo ste r e n c o u ra g e re sistin g to a fin a n cia l co n tin u e d co n d itio n s econ om ic O perating Instructions that recovery, will w hile in fla tio n a ry p re ssu re s a n d contributing s u s ta in a b le pattern of in te rn ation a l tran saction s. . . . w h ile an d to ta k in g account in te rn a tio n a l finan cial m aintain p re v a ilin g co nd itio ns ove r the of d eve lop m en ts Dissents in dom estic None m arkets, the C om m ittee seeks bank p e rio d reserve and im m e d ia tely m on ey ahead, m arket p ro vid e d that m on e ta ry a g g re g a te s a p p e a r to be g r o w in g at a b o u t the rates currently expected. F e b ru a ry 1 7 -1 8 N o Change No C hange N one A b se n t a n d not v o tin g : M r. G a rd n e r. M a rch 1 5 -1 6 N o Change . . . w h ile financial ta k in g m arkets ch a n ge m arkets, reserve and account of d eve lop m en ts and the m on ey the sen sitive C om m ittee m arket in dom estic state o f fo re ig n seeks co n d itio n s to None ex a ch ie ve bank consiste nt with m oderate gro w th in m on eta ry a g g re g a te s ove r the p erio d ahead . A p ril 2 0 N o Change . . . w h ile ta k in g account o f d eve lop m en ts in dom estic a n d None in te rn a tion a l A b se n t a n d not v o tin g : M r. H o lla n d . achieve bank fina n cia l m arkets, reserve a n d the Com m ittee seeks to m o n e y m arket co n d itio n s c o n sistent with m oderate grow th in m on etary a g g re g a te s over the p erio d a h e a d . M a y 18 N o Change No C hange M r. C o ld w e ll d isse nted b e c a u se he d id not w a n t to p ro v id e for the p o ssib ility of a rise o f a s much a s p erce nta ge p o in t in the Fed eral fu n d s rate . . . . % In his o p in io n , a further rise of that a m ou n t could h a ve an e x a g g e ra t e d effect on expe cta tion s in the financial m arkets, p ro v o k in g excessive in crea ses in interest rates. J u n e 22 . . . to fo ste r fin a n cia l co n d itio n s that will N o Change N one e n c o u ra g e co n tin u e d econ om ic e x p a n sio n , w h ile A b se n t a n d re sistin g voted a s altern ate fo r M r. Kim brel.) to a in fla tio n a ry p re ssu re s a n d contributing su s ta in a b le tran saction s. pattern of in te rn ation a l not v o tin g : M r. Kim brel. (M r. B a u g h m a n J u ly 1 9 - 2 0 No Change N o Change M r. V o lk e r d isse n te d from this action p re sen t w o u ld circum stances he not b eca use in the w ish to or lo w e r the Fed e ral fu n d s rate b y a s much a s a p e rce n ta ge p oin t — raise % of a c h a n g e that m ight be inter preted a s a stro n g s ig n a l o f a c h a n g e in p olicy a n d that co uld in re sp o n se h a ve rep e rcu ssio n s m erely to in fina n cia l m arkets — short-term fluctuations in the m o n e ta ry a g g re g a te s that m ight well p rove transient. A u gu st 17 N o Change . . . w h ile t a k in g and to in te rn a tio n a l m a in ta in co n d itio n s account of d ev e lo p m e n ts in dom estic fina n cia l m arkets, the C om m ittee seeks p re v a ilin g o v e r the bank p e rio d reserve and im m e d ia tely m on e y ahead, m arket N one A b s e n t a n d not v o tin g : M r. Balles. (M r. G u ffe y voted a s altern a te fo r M r. B alles.) p ro v id e d that m on e ta ry a g g re g a te s a p p e a r to be g r o w in g at a b o u t the rates cu rrently expected. S e p te m b e r 21 N o Change . . . w h ile ta k in g and account of in te rn a tio n a l fina n cia l d eve lop m en ts in dom estic m arkets, the Com m ittee seeks None A b se n t a n d not v o tin g : M r. Partee to a ch ie ve b a n k reserve a n d m o n e y m arket co n d itio n s c o n sistent with m od erate grow th in m on eta ry a g g re g a te s over the p e rio d a h e a d . O c to b e r 1 9 N o Change N o Change None Novem ber 16 N o Change N o Change None A b s e n t a n d not v o tin g : M r. Balles. a s a n altern ate fo r M r. B alles.) Decem ber 2 0 > 2 1 N o C h a n g e . . . w h ile and to ta k in g account o f in te rn a tio n a l fina n cia l m a inta in co n d itio n s p re v a ilin g bank ove r the p e rio d d eve lop m en ts in dom estic m arkets, the Com m ittee seeks reserve and im m e d ia tely m on e y ahead, m arket p ro v id e d that m on eta ry a g g r e g a t e s a p p e a r to be g r o w in g at a b o u t the rates cu rrently expected. Page 7 None (M r . G u ffe y voted FEDERAL RESERVE BANK OF ST. LOUIS T his view was again expressed by th e F O M C in Septem ber: Staff projections suggested that growth in real GNP would pick up somewhat in the fourth quarter and would remain at a good rate well into 1977. Staff projections for the period through the second quarter of 1977 suggested that growth in real out put of goods and services would be at a somewhat higher rate than in the second and third quarters of 1976. During the Committee’s discussion of the eco nomic situation at this meeting no member expressed substantial disagreement with the staff projection of stronger growth in real GNP over the quarters immediately ahead.12 At the O ctober 19 F O M C m eeting the prelim inary estim ates of growth in real G N P showed a further slowing to about a 4 percent rate in the third quarter of 1976 from the 4.5 rate recorded in the second quarter. T h e F O M C , although somewhat concerned about th e slower than anticipated growth of real GN P, expected some im provem ent in real output growth in the future and retained their serious con cern about inflation. Staff in real quarter quarter projections continued to suggest that growth GNP would pick up somewhat in the fourth and would be sustained at about the fourthrate well into 1977. No member suggested that a decline in economic activity was likely, but some of the members ex pressed concern that the rate of growth in coming quarters would not achieve a sufficient reduction in unemployment. Serious concern was also expressed by various members about the persistence of a high rate of inflation.13 At th e O ctober m eeting the longer-run ranges were discussed, but since it would b e 23 days before C hair m an B um s testified before Congress, the F O M C de cided to postpone its decision on the appropriate ranges from third quarter 1976 to third quarter 1977 until early November. On N ovem ber 8 the C om m it tee held a telephone conference m eeting w here it was decided to low er the upper range on M j from 7 to 6 V percent. T h e C om m ittee decided th at such a 2 ran ge . . would provide am ple scope for faster m onetary growth, w hile still seeking a gradual return to general p rice stability.”14 C onsequently, the F O M C was operating at the end of 1976 w ith an upper target boundary for M 1 growth that was one full p ercentage point low er than at the end of 1975. MARCH T h e F O M C also m ade some downward adjust m ents in its target ranges for the broader m onetary aggregate M 2. T h ese adjustm ents w ere less m arked than those in th e M 1 ranges. T h e low er ban d of the Mo range was le ft unchanged at 7 ¥2 p ercen t through out 1976. T h e upper band was reduced at the April m eeting by V2 percen tage point, and then was further reduced b y V p ercen tage point at th e July m eeting. 2 H ow ever, in N ovem ber w hen th e upper band o f the M | targ et range was low ered, th e upper band on the M 2 range was raised V p ercentage point. T his up 2 w ard adjustm ent in the Mo target range was m ade because: Expansion in the types of time and savings deposits included in the broader aggregates had been larger than expected mainly because short-term market interest rates had proved to be lower than antici pated while rates offered by bank and nonbank thrift institutions had remained generally at regulatory ceilings. Under such circumstances, it was observed, it would be appropriate to accommodate higher rates of growth in M 2 and M 3 than contemplated in July, if they should develop.15 Short-Run R an ges — At each of its m onthly m eet ings th e F O M C decided upon short-run ranges for M i, M 2, and the F ed era l funds rate th at w ere thought to b e consistent w ith the longer-run goals of policy. B ecause of the sharp m onth-to-m onth variation in the growth rates of th e m onetary aggregates, th e F O M C has ( 1 ) stated its short-run objectives in term s of average growth rates over tw o-m onth periods and ( 2 ) specified m uch w ider short-run ranges for the growth rates of the aggregates than longer-run ranges. Th e tw o-m onth periods cover the m onth in w hich the m eeting is held and the follow ing m onth. T h e shortrun ranges, as shown in T a b le I, w ere usually about 4 p ercentage points in width. T h e short-run im plem entation of policy rem ained, as it had been in the past, keyed to control of the F ed era l funds rate. The Federal Reserve policy strategy is based in large part on the monetary aggregates, but its shortrun tactical instrument is the Federal funds rate. Under the funds rate approach, the Federal Reserve estimates the level of short-term interest rates, in cluding the funds rate, at which the public, given projections of income, will want to hold the amount of money the Federal Reserve intends to supply. Then reserves are supplied in an amount that will maintain that level of the funds rate, and that will cause the banks to generate the targeted amount of money.16 12“Record” (Novem ber 1 9 7 6 ), pp. 916, 919, and 922. 13“Record” (D ecem ber 1 9 7 6 ), pp. 1019 and 1025. 15Ibid., pp. 1031-32. 14Ibid., p. 1031. u;Wallich, “Innovations in Monetary Policy,” p. 12. Page 8 1977 Organization of the Committee in 1976 The Federal Open Market Committee (F O M C ) consists of the seven members of the Federal Reserve Board of Governors and five of the twelve Federal Reserve Presidents. T he Chairman of the Board of Governors is also, by tradition, Chairman of the Com mittee. The President of the New York Federal Re serve Bank is a permanent member of the Committee and, also by tradition, its Vice Chairman. All other Federal Reserve Bank Presidents attend the meetings and present their views, but only the four Presidents who are members of the Committee may cast votes. These four memberships rotate among the Bank Presi dents and are held for one-year terms beginning March 1. Members of the Board of Governors in 1976 in cluded Chairman Arthur F . Bums, Vice Chairman Stephen S. Gardner, Philip E . Coldwell, Philip C. Jackson, Jr., David M. Lilly, J. Charles Partee, and Henry C. Wallich. Mr. Gardner succeeded George W . Mitchell, whose term expired January 31, as Vice Chairman of the Committee effective February 13. Mr. Lilly assumed his duties June 1, replacing Robert C. Holland who resigned effective May 15. In addi tion to Paul A. Volcker, President of the Federal Re serve Bank of New York, the following Presidents served on the Committee during January and Febru ary 1976: Ernest T. Baughman (D allas), David P. Eastbum (Philadelphia), Bruce K. M acLaury (M in neapolis), and Robert P. Mayo (C h icago). In March the Committee was reorganized and the four rotating positions were filled by: John J. Balles (San F ran cisco), Robert P. Black (R ichm ond), Monroe Kimbrel (A tlan ta), and Willis J. Winn (C leveland). The Committee met regularly once each month during 1976 to discuss, among other things, economic trends and to decide upon the future course of open market operations.1 However, as in previous years, occasional telephone or telegram consultations were held between scheduled meetings.2 During each regu larly scheduled meeting, a directive was issued to the Federal Reserve Bank of New York stating the general economic goals of the Committee and providing gen eral guidelines as to how the Manager of the System Open Market Account at the New York Federal Re serve Bank should conduct open market operations to achieve these goals. E ach directive contained a short review of economic developments and the general economic goals sought by the Committee. The last paragraph gave operating instructions to the Account Manager. These instructions were stated in terms of bank reserve and money market conditions which were considered consistent with the achievement of iT h e Committee held a special meeting on M arch 29, 1976 for the purpose of reappraising the methods employed in formulating and implementing the directives issued to the Manager of the System Open Market Account. 2On November 8, 1976 the Committee held a telephone meeting for the purpose of establishing monetary aggre gate growth ranges over the year ending third quarter 1977. desired growth rates of monetary aggregates. Special factors, such as Treasury financing operations, were also taken into account. Decisions regarding the exact timing and amount of daily buying and selling of securities in fulfilling the Committee’s directive are the responsibility of the Sys tem Open Market Account Manager at the Trading Desk of the New York Bank. E ach morning, the Account Manager and his staff decide on a plan for open market operations to be undertaken that day. In developing this plan, money and credit market condi tions and aggregate targets desired by the Committee are considered, as well as other factors which may be of concern at the time. E ach morning, the Account Manager, in a conference call, informs one voting President and staff members of the Board of Gover nors about present market conditions and open market operations which he proposes to execute that day. Other members of the Committee are informed of the daily program by wire summary. A summary of the Committee’s actions is presented to the public in the “Record of Policy Actions of the Federal Open Market Committee." Following the Committee’s decision at the May 18, 1 9 7 6 meeting, the “Record” was released approximately 30 days after each meeting, beginning with the “Record” of the April 20, 1 9 7 6 meeting. Soon after it is released, the “Record” appears in the Federal Reserve Bulletin and, in addition, “Records” for the entire year are published in the Annual Report of the Board of Gover nors. The “Record” for each meeting during 1976 generally included: 1) a staff summary of recent economic develop ments, such as prices, employment, industrial production, and components of the national in come accounts; projections concerning real out put growth for two or three quarters ahead; and prospective financial developments; 2 ) a discussion of recent international financial de velopments and the U. S. foreign trade balance; 3 ) a discussion of credit market conditions and recent interest rate movements; 4 ) a discussion of open market operations, the growth of monetary aggregates, and bank re serve and money market conditions since the previous meeting; 5 ) a discussion of current policy considerations, in cluding money market conditions and the move ments of monetary aggregates; 6 ) conclusions of the FO M C ; 7 ) a policy directive issued by the Committee to the Federal Reserve Bank of New York; 8 ) a list of the members’ voting positions and any dissenting comments; 9 ) a description of any actions and consultations that may have occurred between the regularly scheduled meetings. Page 9 FEDERAL RESERVE BANK OF ST. LOUIS Periodically during 1976 prim ary im portance was assigned to control of th e F ed eral funds rate as an operating target. F o r exam ple, m oney m arket condi tions received prim ary em phasis at th e January, Au gust, and D ecem ber m eetings: MARCH 1977 F O M C R a n g e for F ed e ra l Fu nd s Rate In view of the current uncertainties regarding the behavior of the monetary aggregates, many members advocated that the Committee continue to give greater weight than usual to money market condi tions in conducting open market operations in the period until the next meeting and that it specify 2-month ranges of tolerance for growth in the mone tary aggregates that were wider than usual.17 Most members favored directing operations toward maintaining about the current Federal funds rate. Accordingly, they preferred to give more weight than usual to money market conditions in formulating the operating instructions contained in the last paragraph of the domestic policy directive, and they advocated specifying a relatively narrow range for the Federal funds rate centered on the prevailing rate of 5Vi per cent.18 Most members favored giving greater weight than usual to money market conditions in conducting open market operations in the period until the next meeting, in part because projections of growth in monetary aggregates around the year-end were highly uncertain.19 As shown in C hart I I and T a b le I, the F ed eral R e serve in 1976 consistently held the F ed eral funds rate w ithin its short-run target ranges, usually at about th e m id-point of the target ranges. E ven though the tw o-m onth growth targets for the aggregates were specified w ith w ide ranges, th e actual growth rates of the aggregates w ere frequently above or below the specified ranges, as shown in C hart I I I . How ever, as noted at th e January m eeting, “It was . . . understood [by th e F O M C ] that, as a result of short-run factors, growth rates from m onth to m onth m ight well fa ll outside the ranges contem plated for annual periods.”20 At each m eeting th e F O M C review ed the short-run behavior of the aggregates relative to their expected behavior. W hen the aggregates w ere grow ing above their expected ranges, th e F O M C in 1976 generally raised its short-run specification for the F ed eral funds rate. F o r example, th e growth of M j accelerated rapidly in April and May. At the April m eeting the F O M C voted to raise th e low er band on th e funds rate by 25 basis points. '" “Record” (March 1976), p. 243. 18“Record” (October 1976), p. 845. ronaei ora indicoled for the firs* full week during which they were in effect. In view of their assessment that the pace of eco nomic expansion would be relatively strong, most members favored directing operations in the period immediately ahead toward restraining growth of the monetary aggregates within ranges not very much higher than the longer-run ranges agreed upon at this meeting and indicated that they would toler ate some modest firming in money market condi tions. It was observed that some firming in money market conditions in this period would reduce the likelihood of excessive monetary growth in subse quent months.21 T h en a t th e M ay 18 m eeting, The members agreed that growth in monetary aggregates recently had been at unacceptably high rates, especially in view of the longer-run ranges for growth that had been adopted at the preceding meeting. . . . to sustain confidence it was important for the System to demonstrate its intention to resist unduly rapid growth in the monetary aggregates; and that pursuit of that objective would run little or no risk of aborting the recovery in economic activity. In general, Committee members favored directing operations in the period immediately ahead toward moderating growth of the monetary aggregates, and they indicated that in pursuit of that end they would accept some modest further finning in money market conditions.22 C onsequently, the F O M C adopted a F e d era l funds range of 5-5% percent, com pared to the 4% - 5V* per cent range adopted in April. Mr. Coldw ell dissented from th e C om m ittee’s d eci sion a t th e M ay m eeting to raise th e F ed era l funds rate range by % percent. An increase in th e funds rate of as m uch as % percen t over th e next inter-m eeting 19“Record” (February 1977), p. 137. 21“Record” (June 1976), p. 518. 20“Record” (March 1976), p. 243. 22“Record” (July 1976), pp. 586-87. Page 10 FEDERAL RESERVE BANK OF ST. LOUIS F O M C R a n g e s of T ole rance for M o n e t a r y A g g r e g a t e s 1976 MARCH 1977 gates, th e D esk was initially directed to aim for a 4% percen t funds rate. T h is was later raised to 5 percent as th ere appeared evidence of renew ed strength in the aggregates. At th e N ovem ber F O M C m eeting it appeared th at real output was currently expanding at an even slower rate than the 4 percent prelim inary estim ate for the third quarter. M em bers of the F O M C w ere generally agreed th at the pause in real output growth was still in force. T h e C om m ittee was concerned th at nearterm real output growth would not b e adequate to m ake any progress tow ard reducing the unem ploy m ent rate. C onsequently, the F O M C decided to ease money m arket conditions at the N ovem ber m eeting. In the discussion of current policy at this meeting, members of the Committee in general favored some easing in money market conditions in the period immediately ahead, so long as growth in the mone tary aggregates did not appear to be unduly rapid.25 period, in M r. C oldw ell’s opinion, . . could have an exaggerated effect on expectations in the financial m arkets, provoking excessive increases in interest rates.”23 As th e summer progressed it becam e evident th at money growth was low relative to th e short-run tar gets. T h e D esk operated in early July to reduce the F ed eral funds rate to its low er band of 5 Vi percent established at the Ju n e F O M C m eeting. At the July F O M C m eeting the low er band on th e funds rate was low ered V percentage point to 4% percent. 2 Mr. V olker dissented from the C om m ittee’s action at this m eeting. In his view, allow ing a change in the F ed eral funds rate of as m uch as % percentage point in response to short-run variations in m onetary aggre gates “. . . m ight b e interpreted as a strong signal of a change in policy and that could have repercussions in financial m arkets. . . .”24 T h e gradual reduction in the F ed eral funds rate continued throughout the rest of 1976. By the end of the year th e range on the F ed eral funds rate had been reduced to 4V4 to 5 percent. At th e August F O M C m eeting the D esk was directed to aim for a funds rate of 5V* percent, and this d irective was continued at th e Septem ber m eeting. At the O ctober m eeting, in view of the slow growth of the m onetary aggre . . .System operations were conducted pursuant to the Committee’s decision that the Manager should aim to reduce the Federal funds rate to about 4% per cent within the first week after the meeting and to 4% per cent within the following week — pro vided that growth in the monetary aggregates did not appear to be strong relative to the specified ranges.26 In N ovem ber and early D ecem ber the projections for the growth of M ) and Mo over the NovemberD ecem ber period w ere revised downward. By early D ecem b er it appeared that M i growth m ight fall below its low er short-run target band. T h e Desk b e cam e “somewhat m ore accom m odative in the provi sion of reserves” and by the tim e of the D ecem ber 20 F O M C m eeting the Fed eral funds rate was at about 4% percent. Summary and Conclusions T h e F O M C began 1976 with the firm intention of avoiding a reacceleration of inflation w hile continuing to encourage econom ic recovery. In pursuit of this pol icy, throughout the year the F O M C moved to gradu ally reduce its longer-run ranges for the growth rate of th e money stock ( M , ). Although these ranges were reduced, th e actual growth rate of the money stock was only reduced slightly, com pared to its rate during the first three quarters of the current econom ic recov ery. M ,, w hich had grown at a 5.6 percent rate from the first quarter of 1975 to the fourth quarter of 1975, ss Ibid., p. 589. - 5“Record” (January 1977), p. 23. - 4“Record” (Septem ber 1 9 7 6 ), p. 786. -•’“Record” (February 1 9 7 7 ), p. 133. Page 11 FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 continued to grow at the same rate over the first two quarters of 1976. Over the last half of 1976, the growth o f m oney was reduced slightly to 5.4 percent. Al though th e actual growth rate of money was hardly reduced over 1976, relative to its past trend of about 6 p ercen t it grew at a som ew hat slower rate. B y thus avoiding a reacceleration in m oney growth th e F O M C m ade a first step tow ard reducing inflation. SUPPLEMENT FOMC Decisions in 1976 T his supplem ent consists of selected excerpts from the “R ecord of Policy Actions” for each of th e F O M C m eetings in 1976. T h e excerpts are selected to high light key factors influencing F O M C decisions. They include analyses of current and projected econom ic developments, discussions of current policy actions, and long- and short-run operating instructions issued by th e F O M C to th e Trad ing Desk. T h e full text of each “R ecord of Policy Actions” appears in issues of th e F ed eral R eserve Bulletin. M eeting H eld on January 20, 1976 Staff projections suggested that growth in output would moderate somewhat further in the first half of 1976 and that the rate of increase in prices would change little. System open market operations in the inter-meet ing period had been guided by the Committee’s decision to maintain the bank reserve and money market conditions prevailing at the time of the D e cember meeting, provided that monetary aggre gates appeared to be growing at about the rates then expected. Data that became available week by week after the December meeting suggested that in the December-January period M l and M2 would grow at rates below the lower limits of the ranges of tolerance that had been specified by the Committee. Accordingly, near the end of December, the System began to direct operations toward some easing in bank reserve and money market conditions. By January 12 the Federal funds rate had declined from the neighborhood of 5V* per cent — the level pre vailing at the time of the December meeting — to an area of 4% to 4% per cent. Subsequently, a majority of Committee members concurred in Chairman Bums’ recommendation of January 12 that the Manager be instructed to hold the weekly-average Federal funds rate at the ap proximate level of 4% per cent until the time of this meeting. . . .part of the fourth-quarter shortfall in growth of M l appeared to be attributable to a decline in the Page 12 demand for checking deposits, especially because of the shift in business deposits from demand accounts to savings accounts. Businesses were expected to continue to substitute savings accounts for demand deposits over the year ahead, although at a slower pace than in recent weeks. For that reason, and also because of other indications that demand deposits were being used more efficiendy, the Committee decided to reduce the lower limit of the longer-run range specified for M l from 5 per cent to 4% per cent. The ranges specified for M2 and M3 . . . were unchanged from those adopted in October. In the discussion of current policy at this meeting, the Committee took note of a staff analysis suggest ing that for the period immediately ahead uncer tainty about the behavior of the demand for money was greater than usual. In view of the current uncertainties regarding the behavior of the monetary aggregates, many members advocated that the Committee continue to give greater weight than usual to money market condi tions in conducting open market operations in the period until the next meeting and that it specify 2-month ranges of tolerance for growth in the mone tary aggregates that were wider than usual. Some members preferred to give greater emphasis to variations in the behavior of the monetary aggre gates relative to expectations, and the suggestion was also made that more weight be given to the behavior of M2 relative to that of M l than had been the case in the past. M eeting H eld on February 17-18, 1976 Staff projections for the second quarter of this year suggested that growth in output would remain mod erate and that the rate of increase in prices would change litde. Staff projections for the first half of 1976 sug gested that growth in real output would be some what stronger than had been suggested 4 weeks earlier. System open market operations in the inter-meeting period had been guided by the Committee’s FEDERAL RESERVE BANK OF ST. LOUIS decision to maintain the bank reserve and money market conditions prevailing at the time of the Janu ary meeting, provided that monetary aggregates appeared to be growing at about the rates then expected. Data that became available week by week suggested that in the January-February period M l would grow at a rate near the lower limit of the range of tolerance that had been specified by the Committee but that M2 would grow at a rate near the upper limit of its range of tolerance. Therefore, operations were directed toward maintaining the Federal funds rate close to 4% per cent, the level prevailing at the time of the January meeting. In the discussion of current policy at this meeting, the Committee took note of a staff analysis suggest ing that in the period immediately ahead transac tions demands for money — at current levels of short-term interest rates -— might be expected to pick up in association with expansion in economic activity. During the discussion it was noted that the eco nomic situation and outlook had improved in recent weeks, and almost all Committee members indicated that they favored essentially no change in policy. M eeting H eld on March 15-16, 1976 Staff projections for the second quarter of 1976 were similar to those of 4 weeks earlier. System open market operations in the inter-meeting period had been guided by the Committee’s decision that open market operations should be directed toward maintaining the bank reserve and money market conditions prevailing at the time of the February meeting — characterized by a Federal funds rate of about 4% per cent — provided that monetary aggregates appeared to be growing at about the rates then expected. Data that became available near the end of Feb ruary suggested that both M l and M2 were grow ing faster than had been expected, and open market operations permitted a slight firming in bank reserve and money market conditions. However, data that became available toward the end of the first week in March suggested that the monetary aggregates were growing at rates closer to those that had been originally expected, and money market conditions eased. In the discussion of current policy at this meeting, the Committee took note of a staff analysis suggest ing that in the period immediately ahead transac tions demands for money — at current levels of short-term interest rates — might be expected to increase in association with expansion in nominal GNP; in view of recent experience, however, the analysis also suggested that the increase might be less than would be expected on the basis of histori cal relationships. During the discussion it was noted that the recov ery in economic activity had remained orderly, that liquidity had improved, and that the outlook for MARCH 1977 activity was satisfactory —■ although inflation re mained a problem. Against that background, Com mittee members indicated that they favored essen tially no change in policy. M eeting H eld on April 20, 1976 Staff projections for the remaining quarters of this year suggested that growth in output would be moderate and that the rise in prices would be above the relatively low first-quarter pace. System open market operations since the March 15-16 meeting had been guided by the Committee’s decision to seek bank reserve and money market conditions consistent with moderate growth in mone tary aggregates over the period ahead. Data that became available week by week during the inter meeting period suggested that in the March-April period M l and M2 would grow at rates near the midpoints of the ranges that had been specified by the Committee. Accordingly, System operations were directed toward maintaining conditions of re serve availability consistent with a Federal funds rate of about 4% per cent — the rate prevailing at the time of the March meeting and the midpoint of the operating range that the Committee had speci fied for the inter-meeting period. During the discussion, the view was expressed that an appreciable tightening in money market con ditions in the period immediately ahead would be premature. . . . . . . financial markets were particularly sensitive at this time, and any appreciable tightening in money market conditions could have a substantial effect on short-term interest rates and could adversely affect flows of time and savings deposits at both banks and nonbank thrift institutions. M eeting H eld on May 18, 1976 Staff projections suggested that growth in real out put was continuing at a vigorous, although slightly less rapid, pace in the current quarter and that it was likely to be more moderate in the second half of the year. The projections also suggested that the rise in prices would be above the relatively low first-quarter rate. Immediately after the April meeting the System became less accommodative in the provision of re serves. Operations were directed toward achieving conditions of reserve availability consistent with a Federal funds rate of 4% per cent — the midpoint of the 4x to 5V* per cent operating range that the k Committee had specified for the inter-meeting period and V percentage point above the rate s prevailing at the time of the April meeting. Data that had become available soon after that meeting and in each subsequent week suggested that in the April-May period growth in M l and M2 would be strong relative to the ranges that had been specified by the Committee. Accordingly, the System Page 13 FEDERAL RESERVE BANK OF ST. LOUIS gradually became still less accommodative in the provision of reserves. By the end of the inter-meeting period the Federal funds rate was around 5Y 4 per cent, the upper limit of the specified range. . . . In the discussion of current policy at this meeting, the Committee took note of a staff analysis suggest ing that over the May-June period the rate of growth in M l was likely to subside from the rapid pace in April. . . . During the Committee’s discussion, it was ob served that the recovery in economic activity had proceeded in a satisfactory way, although the rate of unemployment remained high and re-intensification of inflationary pressures was a serious threat. Altogether, the outlook for economic activity was strong; to some members of the Committee, it appeared stronger than suggested by the staff projections. The members agreed that growth in monetary aggregates recently had been at unacceptably high rates. . . . It was observed that the moderate monetary policy that the System had been pursuing had contributed to a return of confidence; that to sustain confidence it was important for the System to demonstrate its intention to resist unduly rapid growth in the mone tary aggregates; and that pursuit of that objective would run little or no risk of aborting the recovery in economic activity. MARCH 1977 During the Committee’s policy discussion, it was observed that the apparent moderation in the rate of growth in real GNP in the second quarter was, by and large, a healthy development, in the sense that continuation of the rapid first-quarter rate of expan sion would soon have generated undesirable boom conditions. On the whole, the members were of the view that the economic expansion was proceeding satisfactorily and that the outlook was favorable. At the same time, some concern was expressed about the possibility that inflationary pressures would strengthen as the expansion proceeded. The Committee agreed that it would be desirable to maintain relative stability in money market con ditions at this juncture, in light of the current slow ing of the economic expansion and the moderation of growth in the monetary aggregates since April. A substantial majority favored a relatively narrow range of 5V* to 5% per cent, on the grounds that a significant easing of money market conditions would be undesirable at this time in view of the likelihood that it might have to be reversed shordy, and that a significant finning would be inappropriate in view of the element of uncertainty in the economic oudook. As at other recent meetings, they decided that approximately equal weight should be given to M l and M2 in assessing the behavior of the aggregates. M eeting H eld on July 19-20, 1976 M eeting H eld on June 22, 1976 Staff projections suggested that during the second half of the year real GNP would expand at a good pace and that prices would continue to rise some what faster than they had in the first quarter. A staff analysis of the economic situation indi cated that the economic expansion had slowed somewhat more in the second quarter than had been anticipated a month earlier. . . . Immediately following the May meeting, the System had become a little less accommodative in the provi sion of reserves, as it aimed at reserve conditions consistent with a Federal funds rate averaging around 5% per cent. Data becoming available in the latter part of May suggested that the May-June rates of growth in both M l and M2 would be near the upper ends of the Committee’s ranges of tolerance. Accordingly, the System sought reserve conditions consistent with a Federal funds rate of about 5% per cent. . . .the Committee took note of a staff analysis sug gesting that. . . growth in M l would be influenced by increasing demands for money associated with expansion in nominal GNP, but that the rise in June was likely to be somewhat smaller than in July be cause of continuing adjustments of cash balances built up during the April bulge in money growth. Page 14 Staff projections continued to suggest that during the second half of the year real GNP would expand at a moderately rapid pace and that prices would rise somewhat faster than they had during the first half. Moreover, prospects appeared favorable for continuation of a good rate of expansion in real output into 1977. . . .in early July, data becoming available suggested that in the June-July period growth in M l would be below the lower end of the specified range while growth in M2 would be close to the lower limit of its range. In those circumstances, the System became a litde more accommodative in the provision of re serves, and by midmonth the Federal funds rate had declined to around 5Vi per cent, the lower limit of the specified range. During the Committee discussion at this meeting, some members stressed the signs of hesitation in the economic expansion in the second quarter. . . . Several members expressed a belief that the pace of economic expansion would pick up again from the reduced rate in the second quarter, and a num ber anticipated that in the quarters immediately ahead growth in real GNP would be faster than that suggested by the staff projections. In the discussion of current policy at this meeting, the Committee took note of a staff analysis suggest ing that in the July-August period various factors FEDERAL RESERVE BANK OF ST. LOUIS that appeared to have depressed M l balances in June would no longer be operating and, therefore, that M l would expand appreciably. As to policy for the period immediately ahead, members differed little in their preferences for ranges of growth in the monetary aggregates over the July-August period and for the midpoint of the inter-meeting range of tolerance for the Federal funds rate. Differences of view were more marked with re spect to the appropriate width of the range for the Federal funds rate. At its previous meeting, the Committee had agreed upon a relatively narrow range. . . . Most members, however, favored specifying a somewhat wider range for the Federal funds rate . . . .Some of these members also stressed the existing uncertainty about the forces influencing the behavior of the monetary aggregates. . . . . . .in their view this uncertainty was a reason for specifying a wider range for the Federal funds rate and for continuing to base operating decisions in the period immediately ahead primarily on the be havior of the aggregates. It was agreed that until the next meeting the weekly-average Federal funds rate might be ex pected to vary in an orderly way within a range of 4% to 5% per cent. M eeting H eld on August 17, 1976 Staff projections continued to suggest that real GNP would expand at a moderate pace in the current quarter and that moderate growth in output would continue well into 1977. The projections also sug gested that average prices in the current quarter and in subsequent quarters would rise somewhat faster than they had during the second quarter. Staff projections for the second half of 1976 dif fered little from those of 4 weeks earlier; they con tinued to suggest that the slackening in economic growth in recent months would prove to be temporary. As the inter-meeting period progressed, incoming data suggested that in the July-August period growth in M l and M2 would be close to the midpoints of the ranges specified by the Committee. In these circumstances, System open market operations were directed toward maintaining conditions of reserve availability consistent with a Federal funds rate of about 5 V per cent — the rate prevailing at the * time of the July meeting and the midpoint of the operating range that the Committee had specified for the inter-meeting period. In the discussion of current policy at this meeting, it was brought out that the accelerated expansion in M l since early this year, taken in conjunction with the reduced rate of growth in nominal GNP and with relatively little change in interest rates, could indicate that the downward shift in the demand for MARCH 1977 money that was so evident in the latter part of 1975 was proceeding much more slowly. During the Committee’s discussion at this meeting no member expressed substantial disagreement with the staff projection of moderate growth in real GNP, although several members did stress the elements of weakness that had developed in the past few months. It was felt that uncertainty about the precise course of economic developments had increased. . . . In general, Committee members felt that the pace of expansion in over-all economic activity would soon pick up again. As to policy for the period immediately ahead, Committee members in general advocated continua tion of the current stance. Most members favored directing operations toward maintaining about the current Federal funds rate. Accordingly, they pre ferred to give more weight than usual to money market conditions in formulating the operating in structions contained in the last paragraph of the do mestic policy directive, and they advocated specifying a relatively narrow range for the Federal funds rate. . . . It was agreed that System operations until the next meeting would be directed toward maintaining the weekly-average Federal funds rate at about its current level of 5'A per cent. The members also agreed that, if growth in the aggregates should ap pear to be deviating significantly from the rates expected, the weekly-average Federal funds rate might be expected to vary in an orderly fashion within a range of 5 to 5 ¥2 per cent. M eeting H eld on Septem ber 21, 1976 Staff projections suggested that growth in real GNP would pick up somewhat in the fourth quarter and would remain at a good rate well into 1977. The projections also suggested that average prices would continue to rise at about the recent pace. The rate of increase in M l thus far in 1976 was consistent with the view that the downward shift in the demand for currency and demand deposits that was so evident in 1975 may have slowed. As a result, the velocity of M l increased on the average over the second and third quarters of 1976 at a much slower rate than over the preceding three quarters. . . . During the inter-meeting period the Federal funds rate deviated litde from the 5*4 per cent mid point of the operating range that had been specified by the Committee. As to policy for the period immediately ahead, Committee members in general advocated continua tion of the current stance. Interest rates, especially on long-term debt, had been adjusting downward, it was observed, in good measure because of improving confidence that the rate of inflation was being re duced, and also because of stability in the Federal funds rate. Page 15 FEDERAL RESERVE BANK OF ST. LOUIS There was near unanimity in the preferences ex pressed for ranges of growth in the monetary aggre gates over the September-October period. It was suggested that the relatively rapid growth in M2 ought to be accommodated. With respect to the Federal funds rate, the mem bers agreed that it would be appropriate to maintain the prevailing level of 5Vt per cent so long as the monetary aggregates were growing at about the rates expected. They differed, however, in their preferences for the width of the range for the funds rate. It was observed, that if the Committee specified a wider range for the Federal funds rate than it had at the August meeting, it would be appropriate to place greater emphasis than at that meeting on the behavior of the aggregates in formulating the operat ing instructions contained in the last paragraph of the domestic policy directive issued to the Federal Reserve Bank of New York. Meeting H eld on October 19, 1976 Staff projections continued to suggest that growth in real GNP would pick up somewhat in the fourth quarter and would be sustained at about the fourthquarter rate well into 1977. However, the projected rates of growth were slightly below those of a month earlier. . . . Data that became available at the end of Septem ber indicated a substantial weakening in the growth of demand deposits. It appeared that in the Sep tember-October period growth in M l would be below the lower end of the specified range while growth in M2 would be close to the midpoint of its range. In those circumstances the System began to be a little more accommodative in the provision of reserves, and the Federal funds rate eased to about 5 per cent. During the Committee’s discussion of the eco nomic situation, several members expressed the view that the economic outlook was less favorable now than it had been a month or two ago, and that the risk of a shortfall from expected growth rates in real GNP had increased. In the course of the discussion, it was pointed out that uncertainty about the fiscal policy that would be pursued in the months ahead — and about pro jections of economic activity for coming quarters — was greater than usual. With respect to annual rates of growth in the aggregates over the October-November period, most members favored a range of 5 to 9 per cent for M l, given the rebound in growth already in train for October. For M2, most members favored a range of 9 to 13 per cent. While it was noted that these ranges were high in relation to the Committee’s 12-month ranges for growth in these aggregates, it was argued that the Committee should consider that M l had not grown at all in September and that Page 16 MARCH 1977 recent and prospective rates of growth in M 2 — and in M3 as well — reflected the temporary stimulus provided by recent declines in yields on market securities to levels below the rates being offered on deposits. With respect to money market conditions in the period until the next meeting, most members favored a slight easing. It was agreed that until the next meeting the weekly-average Federal funds rate might be ex pected to vary in an orderly way within a range of 4% to 5Vi per cent. It was also agreed that the Manager should aim to reduce the Federal funds rate to about 4% per cent within the next week, and to decide on subsequent objectives on the basis of incoming data on the monetary aggregates. M eeting H eld on November 16, 1976 The information reviewed at this meeting suggested that real output of goods and services . . . might be expanding at a somewhat slower pace in the current quarter. The rise in average prices . . . appeared to be somewhat faster than in the third quarter. . . . Staff projections suggested . . . that growth in real GNP would pick up somewhat in the first quarter of 1977 and that it would be sustained at about the first-quarter rate well into the new year. On October 21, 2 days after the October meeting, incoming data suggested that over the OctoberNovember period rates of growth in both M l and M2 would be at about the upper limits of the ranges specified by the Committee. Therefore, it appeared likely that any reduction in the Federal funds rate in that week — pursuant to the Committee’s con sensus at the October meeting — would have to be quickly reversed. In those circumstances the Com mittee concurred in Chairman Bums’ recommenda tion of October 21 that the Manager be instructed to continue to aim during that week for a Federal funds rate at about the prevailing level of 5 per cent. Data becoming available during the following week continued to suggest unexpected strength in growth of the monetary aggregates. In response to an inquiry from the Manager concerning the appro priate interpretation of the Committee’s instructions, Chairman Bums . . . . advised that in his judgment any significant increase in the Federal funds rate at that time from the prevailing level of 5 per cent would be inconsistent with the Committee’s intent. No member of the Committee expressed the view that a rise in the Federal funds rate would be appropriate. In their discussion of the economic situation, members of the Committee were in agreement that the sluggishness or “pause” in the growth of real output was continuing. As at the mid-October meet ing, no member suggested that a recession was likely. In the discussion of current policy at this meeting, members of the Committee in general favored some FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 easing in money market conditions in the period im mediately ahead, so long as growth in the monetary aggregates did not appear to be unduly rapid. recent sluggishness appeared to have been only a “pause” in the growth of real output rather than the forerunner of a new recession. It was agreed that until the next meeting the weekly-average Federal funds rate might be ex pected to vary in an orderly way within a range of 4 V to 514 per cent. It was also agreed that the 2 Manager should aim to reduce the Federal funds rate to about 4% per cent within the next week and to about 4% per cent within the following week — provided that growth in the monetary aggregates did not appear to be strong relative to the specified ranges — and to decide on subsequent objectives on the basis of incoming data for the monetary aggregates. Moreover, it was suggested that confidence had improved. . . . M eeting H eld on D ecem ber 20-21, 1976 The information reviewed at this meeting suggested that growth in real output of goods and services in the fourth quarter had remained close to the pace in the third quarter. . . . Projections of economic activity for the rest of 1977, it was noted, depended on the assumptions made with respect to the economic policies that would be pursued by the new administration taking office on January 20. After the first week of December, incoming data suggested that in the November-December period growth in M l would be below its specified range while growth in M2 would be at about the midpoint of its range. Therefore, System operations became somewhat more accommodative in the provision of reserves, and at the time of this meeting the Federal funds rate was about 4% per cent ■ near the lower — limit of the specified range. . . . In their discussion of economic developments and prospects at this meeting, Committee members gen erally agreed that the latest business statistics in dicated a strengthening in the situation and that the Although Committee members in general viewed the business situation and outlook as having im proved, some noted that the strengthening thus far had not been great and that it was not certain that the pause had ended. Inflation also continued to be a source of concern Some concern was expressed that fiscal stimulus might foster new inflationary expectations or that, as at times in the past, its effects might come so late in the expansion as to cause growth of real output to accelerate at a time when it should be moving gradually toward the longer-term rate of growth in potential output. The view was also expressed, how ever, that a degree of fiscal stimulus was desirable. Most members favored giving greater weight than usual to money market conditions in conducting open market operations in the period until the next meeting, in part because projections of growth in monetary aggregates around the year-end were highly uncertain. A majority favored directing opera tions toward maintaining the Federal funds rate at about its prevailing level of 4% per cent for the time being, unless growth in the monetary aggregates appeared to be deviating significantiy from the rates currently expected. The members agreed that, if growth in the aggre gates should appear to be strong or weak relative to the specified ranges, the weekly-average Federal funds rate might be expected to vary in an orderly fashion within a range of 4lA to 5 per cent. As at other recent meetings, the Committee decided that approximately equal weight should be given to M l and M2 in assessing the behavior of the aggregates. Page 17 Free Trade: A Major Factor in U.S. Farm Income C L IF T O N B . L U T T R E L L I . j X P O R T S of U.S. farm com m odities totaled $23 billion in 1976 and are expected to exceed that amount this year. Exports in the past year accounted fo r alm ost 25 percent of the dollar value of all farm comm odity sales, and the 100 m illion acres of land utilized in producing this volum e of exports repre sented 30 percent of the total acreage harvested. Thus, exports play a significant role in determ ining the n a tion’s farm incom e. Since 1970 farm exports have increased both in dollar value and as a share of total farm commodity sales. T h e 1975-76 m arketing year was the seventh successive year of record agricultural exports in nom inal terms. T h e $23 billion of farm products ex ported last year was alm ost four tim es the dollar value of farm exports in 1969 and m ore than double the value of 1972. T h e nom inal value o f farm exports rose at a 21 percen t annual rate during the seven-year period since 1969, w hile in real terms (a t constant p rices) they rose at a 12 percen t rate. T h e value of such exports rose from 14 p ercent of farm commodity sales in 1970 to 24 percen t in 1976. Furtherm ore, in 1976 a sm aller proportion of the exports was sold on concessional terms (aided by G overnm ent subsidies). C oncessional sales abroad declined from two percent of total farm commodity sales in 1972 to one percent in 1976. RESTRICTIVE WORLD TRADE PRACTICES T h e downturn in farm exports in the 1920s can b e largely traced to substantia] increases in artificial re strictions on w orld trade in general. T h e relatively free trade era beginning in the m id-1800s — trade w ithout high tariffs, quotas, and other governm ent restrictions — was generally on the w ane follow ing W orld W ar I. In the 1920s th ere was an observable worldw ide trend tow ard increased international trade restrictions. B ritain, a traditionally free trade n a tion, levied the K ey industries D uty in 1921 w hich im posed a 33.33 p ercen t a d v alorem tariff rate on many item s. In addition, w artim e duties w ere reim posed on a num ber of “luxuries” in 1925, a fter their lapse in 1924. T h e U nited States enacted th e FordneyM cC um ber T ariff in 1924 raising im port duties on numerous item s. Still h igher duties w ere levied by the United States in 1930 w ith the passing of the H aw leySm oot Act. This A ct authorized tariff rate increases on m ore than 800 item s during the early stages of the great depression. O th er nations im m ediately re ta li ated by increasing th eir im port duties.1 W ith in two years general tariff increases w ere en acted in nine nations w hich com prised the m ajor w orld m arket for U.S. farm products, including C anada, C uba, M exico, F ran ce, Italy , Spain, India, A rgentina, and Brazil. F arm exports as a p ercen t of farm com m odity sales have m oved in a U-shaped pattern since W orld W ar I (see accom panying ch art). In the early 1920s such exports exceeded 20 p ercent of gross farm receipts. B y the late 1920s farm exports had declined to 17 percent of sales; they averaged 11 p ercent of sales during the 1930s, 10 p ercen t in the 1940s, and 12 percent in the 1950s. In the 1960s exports rose to 15 p ercen t of sales and continued upward in the 1970s, averaging 24 p ercen t of sales in th e three calendar years 1974-76 inclusive — alm ost the same as in the As a consequence of these trade restrictions and a worldw ide depression, w hich began in 1929, w orld trade both in nom inal terms and relative to G N P declined sharply. From 1929 to 1932, the dollar value of world trade dropped 61 percent, and the value of U.S. foreign trade fell 69 p ercen t.2 T o ta l U .S. exports early 1920s. -Statistical Y ea rb o o k o f th e L e a g u e o f N ations, 1934-35. Page 18 1For a more comprehensive discussion of the-im pact of the Hawley-Smoot Act, sse Allan H. Meltzer, “Monetary and Other Explanations of the Start of the Great Depression,” Jou rn al o f M onetary E con om ics (Novem ber 1 9 7 6 ), pp. 459-461. FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 Farm Exports A s Percent o f Farm C o m m o d i t y S a le s 1920 1924 1928 1932 1936 1940 1944 1 94 8 1952 1 95 6 1960 1964 1968 1972 19 7 6 So urce: U.S. D e p a rtm e n t of A g ric u lt u re d eclined from 4.9 percent to 2.7 percen t of G N P dur ing the period. F arm com m odity exports declined from $1.8 billion to $0.75 billion during the three fiscal years ending in 1932. Farm exports as a share of total farm production, how ever, rem ained relatively stable during the early depression years despite the h igher tariff rates. In 1930, the first full year of the depression, farm exports am ounted to 13 percent of farm commodity sales, and at the trough o f the d e pression in 1933 such exports, w hile declining sharply in nom inal value, still totaled about 13 p ercen t of sales. F ree International Trade Espoused . . . W ith a new Adm inistration in 1933, the political clim ate changed, and this nation began to espouse the cause of free international trade. T h e H ull Reciprocal T rad e Agreem ents A ct was passed in 1934, the first of a series o f legislative attem pts to expand international trade. O ther tariff reduction acts and international agreem ents further contributed to free trade practices. E specially significant w ere the G eneral A greem ent on Tariffs and T rad e in 1947 and the T rad e Expansion A ct of 1962 w hich authorized the President to negoti ate numerous tariff reductions. W h ile attem pts w ere being m ade to expand in ter national trade through tariff reductions, Congress en acted special legislation in a num ber ot instances w hich was designed to expand farm exports through the use of export subsidies. T h e expansion of farm exports through the use of G overnm ent subsidies was a m ajor factor in the post W orld W ar I I assistance to Europe and Japan under the United Nations R elief and R ehabilitation Administration, the M arshall Plan, and other relief and recovery programs. A fixed por tion of the foreign econom ic aid funds in 1954 was earm arked to buy surplus farm com m odities from the U nited States. P u b lic Law 480, passed in 1954, was specifically designed to provide a foreign outlet for “surplus” farm products. W h ile these programs were not restrictive within them selves, they tended to pro duce retaliatory restrictive actions by other nations. . . . Blit Restrictive Farm Programs Enacted D espite the stated free trade objectives in the for eign trade legislation and international agreem ents of the 1930s and the follow ing decades, the m ajor farm programs enacted during this period tended to re strict farm product exports. In 1943 Professor Theodore W . Schultz, in a study o f dom estic farm programs, pointed out that m ost o f the agricultural agencies established during the 1930s w ere designed to do one thing — provide “parity” (h ig h er than freePage 19 FEDERAL RESERVE BANK OF ST. LOUIS m arket) prices fo r farm products.3 T h e m ethods used to attain this objective w ere supply and production controls, price supports, com m odity storage, and sur plus disposal programs. Production Controls and Price Supports In 1933, w hen the New D e a l cam e into being direct legislative action was taken to increase farm product prices to levels above those dictated by the free m arket. T h e Agricultural Adjustm ent Adminis tration was established to curtail production of most m ajor crops. A specific num ber of acres was allocated to the key crops on each farm . P rice supports w ere set through Com m odity C redit C orporation (C C C ) non recourse loans to farm ers on stored commodities. T h e loan and storage programs, financed at taxpayer ex pense, w ere designed to guarantee a specific price, usually above the free m arket level, to farm pro ducers by restricting the flow of com m odities to both dom estic and export markets. T h e surplus disposal programs — P ublic Law 480, school lunches, food stamps, and other food disposal schem es — w ere all designed to increase total dem and for farm products and thereby enhance prices. T h e P ublic L aw 480 program, w hich subsidized exports of farm com m odi ties to the less developed nations, may have increased farm exports somewhat. How ever, such programs w ere disruptive of norm al trade flows, and gener ally have been regarded as “dumping” when used by other nations to export products to the U nited States. MARCH 1977 of total U .S. exports during the eight years prior to the programs (1 9 2 6 -3 3 ). F arm exports declined to an average of 29 percen t of total exports from 1934 to 1940 and to 23 p ercen t of total exports from the end of W orld W ar I I until 1971, despite the governm ent subsidies on a sizable portion of th e farm com m odities exported.4 T h e artificially high farm product prices resulting from the production controls and p rice supports caused the rest of the w orld to increase the produc tion of farm products from the am ounts th at would have otherw ise been produced. T h e h igher farm pro duct prices increased the returns to resources in agriculture and caused increased resources to move into the industry in the rest of the world. C on se quently, farm production outside the U nited States was enhanced and U.S. farm exports reduced. In ad dition, increased resources m oved into th e production of farm com m odity substitutes bo th here and abroad leading to a further reduction in world dem and for U .S. farm products. Cotton Production controls and price supports have been a m ajor d eterrent to the expansion of international trade in farm products over m ost of the period since the early 1930s. T hey reduced dom estic farm out put and led to increased prices for farm products to all users, both dom estic and foreign. T h e average price of U.S. farm products rose at the rate of 15 per cen t per year from 1932, the last year prior to the programs, to 1935. In comparison, the average price of industrial com m odities rose at a 3.4 percent rate during this period. O ne prim e exam ple o f the consequences o f the U.S. farm production controls and subsidies was the sharp decline in the usage of dom estic cotton. In 1930, prior to the acreage controls and p rice supports, this nation supplied m ore than 5 0 p ercen t o f the w orld’s cotton production. At the beginning of W orld W ar II, after seven years of the program s, cotton production in the U nited States had declined to 40 percent of the world total, and the nation’s share con tinued down to less than 20 percen t o f th e world total in 1970. In 1930 the U nited States exported 7.1 m illion bales of cotton, or m ore than 50 percen t of total world cotton exports. By 1940 U .S. cotton exports had declined to 1.2 million bales or about 15 p ercen t of the world total. T h e volum e o f dom estic cotton ex ports rose follow ing W orld W ar II, bu t in 1970 U.S. exports totaled only 3.7 m illion bales, or 22 percen t of the world total. Follow ing the production controls and price sup ports, U .S. farm com m odity exports declined both relative to farm commodity sales and as a share of total U .S. exports. Farm exports, w hich accounted for 14 percen t of farm com m odity sales in 1932, dropped to 11 percent of such sales in 1934 follow ing the re strictions, and continued downward to 8.5 percent in 1936 (see ch art). Farm exports averaged 38 percent T h e cotton programs had a m ajor im pact on world land resource use as indicated by shifts in the acreage used for cotton production. D uring the 1930s cotton harvested in the U nited States declined 43 percent, from 42 m illion to 24 m illion acres. In contrast, cotton harvested in foreign countries rose 24 percent, from 43 million to 53 m illion acres during the period. In the 40 years from 1930 to 1970, during m ost o f w hich pro ^Theodore W . Schultz, R ed irectin g F arm P olicy (N ew York: The Macmillan Company, 1 9 4 3 ), p. 6. 4U,S. Department of Agriculture, A gricultural Statistics, 1972, p. 698. Digitized Page 20 for FRASER FEDERAL RESERVE BANK OF ST. LOUIS duction controls and p rice supports w ere in effect, acres of cotton harvested in the U nited States fell 74 percent, w hereas the acreage harvested in the rest of the w orld rose 57 percent. Although part of the re duction in cotton acreage in the U nited States reflected rising dom estic yields and technological developm ents in the synthetic fiber industry, a large part of the shift can be attributed to the restrictive cotton programs. W h ile the im pact of the cotton restrictions on the use o f synthetic fiber substitutes is difficult to assess, the h igher prices for cotton resulting from the re strictions w ere no doubt a factor contributing to the sharp increase in synthetic fiber usage. At the b eg in ning of the controls in 1933, synthetic fiber substitutes w ere virtually unknown. Follow ing W orld W ar II such fibers began to com pete aggressively w ith cotton, and by 1975 the poundage of such fibers used by dom estic mills was m ore than double th at of cotton. Wheat C otton is only one exam ple of export m arkets being underm ined by dom estic farm production restrictions and p rice supports. T h e w heat acreage controls and p rice supports had a sim ilar im pact. T h e G overnm ent began to hold w heat off the m arket in m id-1929 through loans to farm ers by the F ed eral F arm Board. In 1933 dom estic acreage controls and the In tern a tional W h eat A greem ent furth er contributed to rising w h eat prices and a reduction in w heat exports. W h ile the downward adjustm ent in dom estic w heat acreage was not as m uch as was planned during the early years of the controls, because o f the drought in 1933 and 1934, the controls did reduce production, and w heat prices rose.5 T h e prices received by farm ers rose from an average of $0.48 per bushel during the three years 1930-32 to $0.82 during the six years 1934-39. Exports declined from an average of 103 m illion bushels per year during 1930-32 to an average o f 56 m illion bushels per year during 1934-39. T h e adjustm ents in resource use in some of the m ajor w heat im porting nations as a result of the higher prices took a p red ictable route. T h e largest w heat im porter, the U nited Kingdom, increased its w heat acreage by plow ing up some grassland and planting it to w heat. Italy expanded her acreage by clearing and draining the Pontine M arshes. F ra n ce 5In 1934 Sherman Johnson estimated that the wheat programs had resulted in prices 10 to 15 cents per bushel higher than they otherwise would have been. See W h ea t U nder th e Agri cultural A djustm ent A ct (T h e Brookings Institution, 1934), p . 90. MARCH 1977 m ade m ore extensive use o f h er North A frican pos sessions for w heat growing, thereby reducing both dom estic w heat production and im ports from the U nited States. In the U nited Kingdom w heat prices in 1933 had declined to 67 percen t of the 1930 level; they d e clined further in 1934 but rose sharply in the next three years and during the two years 1937-38 they averaged 51 percen t above the 1933 level. T h e cereal portion of the food price index likew ise rose sharply, increasing by 42 p ercen t from 1933 to the average for 1937-38. In contrast to the sharp increase in cereal prices, the m eat-fish and other food sectors of the consum er p rice index rose only 12 and 13 percent, respectively. In response to these changing p rice re lationships B ritish farm ers found it profitable to plow up grazing land on w hich m eat was being produced and seed it to w heat. T h e acreage seeded to w heat rose from 1.34 m illion in 1932 to 1.92 m illion in 1938, an increase of 43 percent. W h ea t production in the nation rose 67 p ercen t during the period, and imports of w heat declined. T o ta l w heat and flour imports by the United Kingdom declined 12 p ercen t from the 1931-33 average to the 1937-38 average.6 Exports of most other m ajor crops, including feed grains, tobacco, rice and peanuts have likew ise been affected by the farm programs, bu t not to the same extent as w heat and cotton. T h e unfavorable im pact of the farm price supports and controls on exports was pointed out by Professor D ale H athaw ay in 1963: Suddenly in the m id-1950’s the impact of our domestic programs upon foreign trade in farm prod ucts came home to roost with a vengeance. Exports of farm products fell precipitously, aggravating the do mestic stocks problem and threatening us with a permanent loss of foreign markets as foreign supplies expanded to fill the gap.7 Controls Relaxed and Exports Rose In recen t years G overnm ent controls on agriculture have been relaxed, and greater reliance has been placed on free m arket forces in the use of farm pro duction resources and the pricing of farm com m odi ties. Sin ce the enactm ent of the Agricultural A ct of 1970, m ost of the dom estic farm restrictions have been 1 B. R. Mitchell, A bstract o f British H istorical Statistics (C am 1 bridge: Cambridge University Press, 1 9 6 2 ), p. 99. "D ale E. Hathaway, “Evaluation of Agricultural Programs in Terms of Econom ic Growth, Foreign Trade, and Political Feasibility: A General Appraisal,” Increasing U nderstanding o f P u blic P rogram s a n d P olicy (Chicago: Farm Foundation, 1969), p. 73. Page 21 FEDERAL RESERVE BANK OF ST. LOUIS redesigned to perm it com petitive pricing o f m ost crops including w heat, feed grains, the m ajor oilseeds, and cotton. A creage controls fo r m ost crops w ere largely rem oved in 1974 w ith the elim ination o f the set-aside provisions for cotton, w heat, and feed grains. T his action freed about 60 m illion additional acres for crop production. C C C loans on basic crops have been continued, b u t the rates have generally b een set b e low w orld-price levels and subsidies on the production o f m any farm com m odities have b een elim inated. T h e decline in the im pact of the G overnm ent pricesupport programs on the p rice o f farm com m odities is indicated by the reduced volume of C C C loans and holdings. In 1965 the value of farm com m odities owned by the C C C totaled $4.1 billion and the co r poration had an additional $2.6 billion of loans out standing on farm com m odities through p rice support operations. B y 1974 the value o f com m odities owned by the C C C had declined to $188 million, and C C C loans outstanding w ere down to $681 million. T h e freeing of agriculture from excessive production re strictions and the return to the price m echanism as the m ajor instrum ent in m anaging th e farm econom y has no doubt been a m ajor facto r in the sharp increase in farm exports in recen t years. Other Factors Contributed to Rising Farm Exports A rising volum e of w orld trade in recen t years has contributed to the sharp increase in U.S. farm exports. Since 1970 exports of the eight m ajor com m ercial n a tions listed in T ab le I have increased faster than their Gross National Product (G N P ), and in m ost cases export growth has more than doubled the rate of G N P growth. In contrast, from 1960 to 1964 exports rose at about the sam e rate as GNP. In addition to the relaxation of farm programs w hich has contributed to rising w orld trade in recen t years, other factors affecting the rising volume o f farm exports include: a relatively p eacefu l international situation, the move to more flexible exchange rates, som e further tariff reductions, the O P E C oil cartel, and rising real incomes. F o r centuries the threat of w ar and the alleged demands for national defense have b een used as argum ents fo r g reater self suffi ciency. T h e m ilitary strength of a nation is believed by many people to be enhanced by self-sufficiency in econom ic production, particularly food. C onsequently, during periods of m ajor threats to world p eace and im m ediately after m ajor international disturbances the proponents o f self sufficiency are likely to influPage 22 MARCH 1977 T a b le 1 G R O S S N A T IO N A L PRODUCT A N D EXPORT G R O W T H IN LARGE C O M M ER C IA L N A T IO N S (C o m p o u n d e d A n n u a l Rates o f C h a n g e ) 1 9 6 0 -6 4 Canada GNP Exports 7 .0 % 5 .9 France G N P Exports 1 9 7 0 -7 4 1 3 .2 % 2 4 .4 10.1 1 3 .4 13.1 2 9 .2 8 .7 9.5 9 .7 2 4 .7 Ita ly G N P Exports 1 1 .9 10.5 1 3 .9 28.1 Japan G N P Exports 1 6 .0 1 5 .0 1 7 .0 3 6 .5 1 0 .3 1 1 .7 1 2 .9 2 6 .5 6.5 3.8 1 2 .5 2 6 .9 5 .9 5 .4 9 .2 2 5 .9 G e rm a n y G N P Exports N e th e rla n d s Exports GNP U nited K in g d o m Exports GNP U nited Sta te s G N P Exports S o u rc e : U n ited N ation s, Monthly Bulletin of Statistics (A u gu st 1 9 7 6 ), pp. 186-189, (M ay 1 9 6 8 ), pp. 176-179, and In te r n a tio n a l M on etary Fund, D irection o f Trade 1966-70, p. 2, and D irection o f Trade 1960-64, p . 2. ence national trading policy, especially in those n a tions w hich im port a large p ercen t o f th eir food supply. T h ese proponents of self sufficiency hold that it is safer in an uncertain world to provide th e basic necessities at hom e even at higher costs.8 T h e move to m ore flexible exchange rates in 1971 probably contributed to the rise in total international trade by the U nited States and, th ereby, to an in crease in farm exports. D uring th e late 1960s the dollar was overvalued in international trade — th at is, at the fixed exchange rate A m erican produced goods w ere less attractive in the international m arket than foreign produced goods. C onsequently, foreign pur chases of goods and services from the U nited States declined relative to foreign sales to the U nited States. H ow ever, w ith the establishm ent of the floating ex change rates w hich em erged from the so-called crisis of 1971, the dollar was no longer overvalued relative to other currencies and, as a result, U .S. exports of goods and services rose. W h ile it is argued by some that flexible exchange rates increase th e risks o f international trade, others point out th at the m arket pricing of currencies leads to a reduction in trade restrictions. G overnm ents often attem pt to m aintain th eir currency values by lim iting im ports and thereby lim iting th e am ount of dom estic currency flowing into international exchange markets. Such restrictions reduce the volum e o f trade 8Charles P. Kindelberger, F o reig n T ra d e a n d th e N ational E con om y (N ew Haven: Yale University Press, 1 9 6 2 ), p. 142. FEDERAL RESERVE BANK OF ST. LOUIS MARCH 1977 and the consum ption and investm ent opportunities of the people. N evertheless, the tendency to restrict trade for purposes of m aintaining artificial exchange rates is w ell entrenched in the political arena.9 W ith the demise of fixed rates this reason fo r erectin g trade barriers no longer exists. tend to m ake resource adjustm ents m ore nearly in accord w ith production efficiencies and w orld m ar kets. W orld resources m ove to those uses w hich w ill provide maxim um returns. C onsequently, each nation produces those products in w hich it has th e greatest relative advantage. N egotiations b y the G eneral A greem ent on Tariffs and T rad e (G A T T ) m em bers tow ard fu rth er tariff reductions have continued in recen t years. In 1973 the m em bers adopted a new M ultifiber T extile A gree m ent w hich is expected to liberalize and expand w orld textile trade. T h e T rad e A ct of 1974 further expanded the President’s negotiating authority to re duce tariffs. Also the nation’s econom y is probably still adjusting to reduced tariff barriers negotiated follow ing th e K ennedy round o f tariff reductions in the 1960s. On the other hand, an increasing amount of the trade negotiations in recen t years appears to have b een negative. T h e agreem ents contain num er ous safeguards and relief provisions for real or im ag ined dam age to specific industries or labor, and safe guards to national security. Such actions, taken to reverse earlier free trade practices, tend to offset a c tions intended to further liberalize trade. T h e U nited States has a relative advantage in the production o f agricultural com m odities. This nation has an abundance of fertile soil, generally favorable w eather, and relatively high technological develop m ent in agriculture. C onsequently, by specializing in agricultural production and trading farm products for the products of other nations, such as petroleum , m etals, tropical fruits, coffee, and other im ports, we have m ore goods available for consum ption than would b e available w ithout the specialization of pro duction and trading. O ur increase in farm exports is thus m ore than m atched b y a gain in our ability to purchase goods and services produced b y other n a tions. Conversely, the gain in exports to the United States by other nations increases th eir ability to pur chase our farm products and provides them w ith more goods for consumption. C onsequently, any restrictions w hich dampen our im ports or in terfere w ith in ter national trade in any w ay reduce the d egree of m utually profitable international specialization and th ereby restrict the export m arket for dom estic farm products. W h ile th e higher oil prices follow ing the actions of th e O P E C cartel cu t tw o ways in the export picture, they probably contributed to increased U .S. farm ex ports on balance. U.S. oil purchases from abroad have increased several fold since the cartel was formed, and a larger quantity of farm com m odities are re quired to purchase a given quantity o f oil. O n the negative side, how ever, a num ber of the m ajor im porters of U.S. farm com m odities, such as Jap an and G erm any, now use a larger portion of their foreign exchange to purchase oil from the O P E C nations. A pparently these nations w ill have less foreign ex change to purchase farm products from the U nited States. F ree Trade — A Boon to American Agriculture T h e sharp increase in U .S. exports w ithin the free m arket setting of recen t years reflects a furth er co n centration of resources in those sectors of the nation’s econom y having the greatest relative advantage. W orld trade rises as a result o f further specialization in resource use. E ach trading nation specializes in the production of those com m odities in w hich it has a relative advantage over the rest of the world. Nations 9See Gerald M. Meier, P roblem s o f T ra d e P olicy ( Oxford Uni versity Press, 1 9 7 3 ), p. 16. E xtern al world trade and U.S. farm exports can b e expected to in crease furth er as the m ajor econom ies of the world accep t freer trade policies. F o r trade to continue to expand, how ever, free trade policies are necessary for both exports and imports. Restrictions on imports of foreign goods and services, farm price supports and production controls, and quotas on ex ports are not conducive to w orld trade growth. N a tions w hich follow such arbitrary trade restricting practices and production controls cause im porting nations to lose confidence in them as a source of supply. Im porters w ill thus becom e more self suffi cien t or look elsew here for a m ore reliab le supply for the sam e reason that th e U nited States hopes to gain greater self sufficiency in petroleum production and usage. If the U nited States can avoid such restrictions, our farm exports should continue to expand. Farm ers will experience gains from the expansion. Im ports of nonfarm products should increase and som ew hat slow er growth w ill occur in the dom estic production of those types of products that are im ported. H ow ever, greater expansion w ill occur in the farm sector and in the farm supply industries such as fertilizer and farm m achinery. H ence, the rise in specialization Page 23 and foreign trade will not cause any net loss of jobs or reduce the overall returns to labor and other re sources. In contrast, all trading nations should gain from the greater output and consumption resulting from further world specialization of resource use and production. CONCLUSION Since 1970 U.S. farm exports have risen sharply, both in dollar value and relative to total farm com modity sales. Farm exports now account for almost 25 percent of the value of all farm com m odity sales, about the same percent as in the early 1920s — a period of relatively free trade. D uring the four decades from 1933 to 1972, farm exports averaged less than 12 percent of farm com modity sales. D uring most of this period, farm product prices w ere m aintained above free m arket levels through Governm ent production control and price support programs. T hese programs lim ited the expan sion of farm exports by raising the costs of such com modities to foreign purchasers. At the higher prices, foreign producers had greater incentive to increase production of these and substitute products. In addi tion, the support prices contributed to the rep lace m ent of cotton by synthetic fibers in both dom estic and foreign markets. W ith the elim ination of m ost p rice supports and production controls on farm products in the early 1970s, farm exports relative to total sales again clim bed to about their 1920-30 levels. W h ile a portion of the recen t farm export gains can b e attributed to reduced tariffs and other factors, such as the m ove to more flexible exchange rates and a relatively peacefu l international scene, part of the gain is attribu table to the relaxed dom estic p rice support and production control programs. If the restrictive farm programs are not reim posed, and free trade practices are m aintained, a high p e r centage of the nation’s farm production w ill probably continue to be exported. This nation has a relative advantage in the production of most farm products and under a free trade regim e farm exports w ill rise. A rising volume of farm exports under free m arket conditions is beneficial to A m erican farm ers and at the sam e time increases the goods and services avail able to all people in the trading nations.