Full text of Review (Federal Reserve Bank of St. Louis) : May 1968

The full text on this page is automatically extracted from the file linked above and may contain errors and inconsistencies.

FEDER AL RESERVE BAfIK




eviev
Volume 50

Number 5

Recent Monetary Actions
S I N C E LATE 1967 the Federal Reserve System
has moved in the direction of a less expansionary
monetary policy. The Federal Reserve Banks raised
their discount rates from 4 per cent to 4% per cent in
late November. At the December 12 meeting of the
Federal Open Market Committee a decision was
reached to move toward a modestly tighter open mar­
ket policy. At this meeting the trading desk at the
New York Federal Reserve Bank was given the direc­
tive that “System open market operations until the
next meeting of the Committee shall be conducted
with a view to moving slightly beyond the firmer
conditions that have developed in the money market.”
However, a proviso clause was added “that operations
shall be modified as needed to moderate any ap­
parently significant deviation of bank credit from cur­
rent expectations or any unusual liquidity pressures.”
In mid-January of this year reserve requirements
on member bank demand deposits in excess of $5
million were increased from 16V2 to 17 per cent for
reserve city banks and from 12 to 12% per cent for
other member banks. In mid-March, in response to
developments in the international monetary area and
in an effort to bring the discount rate more nearly
in line with prevailing market interest rates, the Fed­
eral Reserve Banks raised their discount rates from
4% to 5 per cent. On April 18 a further increase in
the discount rate was announced, this time to 5% per
cent, the highest level since October 31, 1929.

eral Reserve Banks. Over the last three months of
1967 the System’s holdings of Government securities
averaged $48.5 billion. In the first four months of 1968
holdings have averaged $49.3 billion, $49.2 billion,
$49.8 billion, and an estimated $50.5 billion, respec­
tively. The increase in Federal Reserve holdings of
Government securities partly reflected System actions
offsetting the impact on member bank reserves of the
recent heavy outflow of gold. The gold stock de­
clined from an average of $12.4 billion in December
to about $10.5 billion at the end of March.
The most rapidly increasing component of Federal
Reserve credit since December has been member
bank borrowings from Reserve Banks. Two major
sources of borrowing available to member banks to
meet their short-term cash needs are borrowings
from the Federal Reserve Banks, and borrowings from
other commercial banks in the Federal funds market.

R e s e rv e s of M e m b e r Banks*
Ratio S cale
M o n t h l y A v e r a g e s of D a i l y F i g u r e s
Ratio S cale
B illions of D o lla r s _____________S e a s o n a l l y A d j u s t e d ____________ Billions of D o lla rs

T Reserves
otal

Indications of Monetary Restraint
Although the recent month-to-month movements
in the major monetary aggregates, such as money and
bank credit, have been somewhat erratic, it appears
that since last November most of the monetary ag­
gregates have grown at slower rates than during the
previous ten months.

+3.67,

D
eposits ***
A pr.66

Federal Reserve credit outstanding has grown at a
13 per cent annual rate since November, compared to
a 12.2 per cent rate during the January-November
period of 1967. Federal Reserve credit is composed of
two major items, Federal Reserve holdings of Govern­
ment securities and member bank borrowings at Fed­
Page 2



Jon.'67

l l Ill I
I

Federal Reserve Credit

t

1965

1966

---------1-------Nov. 6 7 Apr. 68

1111 iti 111.Itu-L
1967

1968

* A d j u s t e d fo re s tim a te d e ff e cto f r es erv e r e q u i r e m e n t c h a n g e s .
** U . S . G o v e r n m e n t d e m a n d d e p o s i t s , d e p o s i t s d u e t o d o m e s t i c c o m m e r c i a l b a n k s ,
a n d t i me a n d s a v i n g s d e p o s i t s .
• • ♦ D e p o s i t s o f m e m b e r b a n k s i n c l u d e d in t he u s u a l d e f i n i t i o n o f t he m o n e y s u p p l y .
P e r c e n t a g e s a r e a n n u a l r at es o f c h a n g e b e t w e e n p e r i o d s i n d i c a t e d . T h e y a r e p r e s e n t e d
to a i d in c o m p a r i n g m o s t r e c e n t d e v e l o p m e n t s w i t h p a s f t r e n d s . "
D a t a p rio r to F e b r u a r y 1968 h a v e b e e n a d j u s t e d fo re s tim a te d effecto f r es erv e
req uirementchanges.
Latest d a t a p lo t t e d : A p r i l esti mated

In mid-December the rate on Federal funds moved
above the 4Vz per cent discount rate. As a conse­
quence, borrowings at Federal Reserve Banks became
a much more attractive source of short-term funds
for the member banks.
Federal funds, which had traded in the 4 to 4%
per cent range during most of December, traded at
an average of 4.72 per cent during February, and
then rose to an average of 4.79 per cent during the
first two weeks in March. Around mid-March the
Federal Reserve Banks raised their discount rates to
5 per cent. However, the rate on Federal funds
quickly moved above the 5 per cent level, averaging
5.28 per cent in the last half of March. In early April
the rate on Federal funds continued to rise, averaging
5.69 per cent over the first eighteen days. From April
19, when the discount rate was increased to 5/ per
2
cent, to April 30 Federal funds traded at an average
of 5.81 per cent. Member bank borrowings from Fed­
eral Reserve Banks, which averaged $166 million over
the last three months of 1967, in the first four months
of 1968 averaged $237 million, $361 million, $671 mil­
lion, and about $690 million, respectively.

Total Reserves
The rate of increase in Federal Reserve credit since
November has permitted an estimated 4 per cent rate
of increase in total reserves of member banks over the
period. This rate of growth is considerably below the
rapid rate of 10.5 per cent experienced in the January
to November period of 1967, and is about the same
as the trend rate of 3 per cent over the period 19571966, but well above the average rate of 2.7 per cent
over the 1957-1966 period. The increase in total re­
serves during February and March was used primarily
to support a major increase in U.S. Government de­
mand deposits at member banks. From January to
March government demand deposits rose at a 217 per
cent annual rate.

credit. Since November the money stock has grown
at an estimated 5 per cent annual rate. The rate of
increase in money represents a slowing from the
growth rate of 7.7 per cent occurring over the previous
ten months. However, this growth rate of money is
considerably above the average annual rate of 2.4 per
cent experienced over the nine-year period from
1957 to 1966.
Over the January to November period of 1967 total
bank credit grew at a rapid 12 per cent annual rate.
From last November to April of this year bank credit
grew at an estimated 6 per cent rate, about the same
as the average growth rate of 7 per cent occurring
over the period 1957-1966. Since November, while
bank loans have grown at about the same rate as over
the first ten months of 1967, banks’ holdings of secur­
ities have grown at a sharply reduced rate compared
to the previous ten months. From November to April
bank investments grew at an estimated 4.3 per cent
annual rate and bank loans rose at an estimated 7 per
cent annual rate, compared to growth rates of 22 per
cent and 7.3 per cent, respectively, over the previous
ten months. The more rapid growth of the loan com­
ponent of total bank credit relative to the investment
component, marks a return to the relation between
the longer term growth rates of these two components.
Over the 1957-1966 period the investment component
of total bank credit rose at an average annual rate of
3.3 per cent, and the loan component grew at a 9.3
per cent rate.

Time Deposits
The broader aggregate, the money supply defined
to include time deposits, has likewise shown a slower
growth trend in recent months. Since November this

M oney Stock
Ratio Scale
Billions of D o lla rs
500

Reserves available for private checking accounts
(total reserves less reserves required for government,
time, and net interbank deposits) rose at an estimated
3.6 per cent annual rate from November to April. By
comparison, these reserves increased at a 1.5 per cent
rate from 1957 to 1966, and then grew at an acceler­
ated 7.7 per cent annual rate from January to Novem­
ber of 1967.

M onthly A ve ra g e s of Daily Figures
Seasonally Adjusted

Ratio Scale
Billions o f D o llars
500

M o n e y P lu s T im e

150

Money and Bank Credit
Reserves of member banks, which include member
bank deposits at Federal Reserve Banks and vault
cash, provide the base for the money supply and bank



June'64

July 5 9 -3 .

ho

A pr.’65

__i Li—
__

Apr.'66 Jon.'67

2 Apr.68

J_i_ I___ tu __
_

1960
1961
1962
1963
1964
1965
1966
1967
1968
Percentages are annual rates of change between periods indicated. They are presented to aid in
comparing mostrecentdevelopments with past "tr«n d i."
Latest data plotted: April estimated

Page 3

broader concept of money has grown at an estimated
annual rate of 5.5 per cent, considerably below the
rate of 12 per cent occurring in the previous ten
months.
This slower rate of growth of money plus time
deposits reflected primarily the slower growth rate of
the time deposit component. Time deposits rose at
an estimated 6 per cent annual rate in the period from
November through the first four months of 1968, com­
pared with a 16 per cent annual rate over the January
to November period of 1967, and a trend rate of 12
per cent over the longer period 1957-1966.
The slower growth rate of time deposits has been
especially evident in the slower growth of negotiable
time certificates of deposit in denominations of
$100,000 or more. Commercial banks are restricted
by Regulation Q on the maximum rates they can pay
on different classes of time deposits. Since available
yields on competitive market assets have risen relative
to these fixed ceiling rates, the slower growth of time
deposits may reflect the increased attractiveness of
other financial assets. Until April 19 commercial
banks could pay a maximum rate of 5% per cent on
these certificates. In mid-March the market rates on
outstanding large CDs trading in the secondary mar­
ket moved above the 5V2 per cent ceiling rate payable
on newly issued CDs. With outstanding large CDs
selling at a discount, commercial banks had an in­
creasingly difficult time in attracting and holding these
types of funds. From mid-March to mid-April the
amount of certificates of deposit in denominations of
$100,000 or more issued by large commercial banks
decreased by $1.5 billion. Effective April 19, the
ceiling rates on large denomination CDs were raised
by the Board of Governors. The maximum rate
payable on large CDs, which was previously 5V per
2
cent on all maturities of 30 days or more, was changed
to:
M aturity

at an estimated 10.3 per cent annual rate. In com­
parison, total spending increased 6 per cent during
1967. Consumer spending accelerated in the first
quarter to a 13 per cent annual rate, with purchases
of durable goods up at a 24 per cent rate. In com­
parison, consumer spending increased by 6 per cent
during 1967.
Business spending for capital expansion and Gov­
ernment spending for goods and services both in­
creased at rapid rates in the first quarter of this year.
Business capital expenditures for structures and
durable equipment rose at a 16 per cent annual rate
in the first quarter, compared to an increase of 1.4
per cent from the fourth quarter of 1966 to the fourth
quarter of 1967. Government spending rose at a 13
per cent annual rate, compared to an increase of 12
per cent during 1967.
Industrial production in the first quarter was up at
an annual rate of 5.4 per cent from the previous
quarter, and nonfarm payroll employment rose 5 per
cent during the period. These rates of increase reflect
a continuation of the upturn in industrial production
and employment which began last summer. Despite
the rise in industrial production and payroll employ­
ment, demands for goods and services rose more
rapidly. Reflecting these demand pressures on the
productive capacity of the economy, prices continued
to rise sharply. From December to March the con­
sumer price index rose at a 4.5 per cent annual rate,
and the wholesale price index of industrial commod­
ities rose at the same rapid rate.
In the first quarter substantial gains were recorded
in personal income, reflecting a rise in employment,
a higher minimum wage, and wide-spread gains in

D e m a n d a n d Production
R a tio

S ca le

QuarterlyTotals at Annual Rates

R a tio

M axim um rate
in per cent

30 - 59 days ________________ _5%
60 - 89 days ________________ 5%
90 -179 days _______________ _6
180 days and over ___________ 6^4

Total Spending and Prices
Inflationary pressures still remain prominent in the
economy. From the last quarter of 1967 to the first
quarter of 1968, real GNP rose at an annual rate of
6 per cent and the implicit price indicator increased
at a 4 per cent rate.
From the fourth quarter of 1967 to the first quarter
of this year, total spending on goods and services rose
Page 4



[2 G N P in 1958 dollars.
Percentages are annual rates of change between periods indicated.They are presented to aid in
comparing most recentdevelopments with past "trends."
Latest data p lo tte d:lstq u a rte rl9 6 8 p re lim in a ry

S ca le

wage rates and salaries. Wages and salaries rose at
an estimated annual rate of 11 per cent during the
first quarter of 1968.

period. As a result, more proximate indicators of
monetary actions are used to judge actions in rela­
tively short time periods.

In the first quarter an estimated 30 million persons
received an increase in income as a result of new
Government laws. An increase of at least 13 per cent
in Social Security payments became effective with the
monthly payments made by the Government in March.
In February approximately 6 million individuals re­
ceived pay increases as the result of an increase in
the minimum wage rate from $1.40 to $1.60 an hour,
and an additional one million individuals received an
increase in wages to $1.15 an hour.

Growth rates in money have been used frequently
as a proximate measure of the effect of monetary
actions on the economy. Last year money rose at a
rapid 7 per cent rate, and the economy developed
excesses. Since last November the growth rate in
money has slowed to a 5 per cent rate. To the extent
that the growth rate of money is a good measure of
the effect of monetary actions on the economy, some
lessening of the excesses should occur. But in view of
an average trend rate of growth in money of 2.4 per
cent over the nine-year period 1957-1966, it may
be that monetary actions remain unduly expansive.
By use of other monetary aggregates as a guide to
policy actions, such as bank credit, or measures of
money market conditions, such as interest rates, some­
what different conclusions might result.

Has Monetary Policy Tightened Enough?
Monetary policy is only one of the two major sets
of actions that may be taken by policymakers to
encourage or restrict the growth rates of total spend­
ing, output, employment, and prices in the economy.
The other important set of policy actions is broadly
labeled fiscal policy and includes Government spend­
ing and tax policies. These two sets of actions are not
mutually exclusive. A change in the operations of
the fiscal authorities has an effect on the environment
in which monetary policy actions are implemented.
Later last year, in the face of rising inflationary
pressures, monetary policymakers adopted a more
restrictive policy. This move toward less monetary
ease has shown up, since last November, in some
slowing of the growth rates of the major monetary
aggregates compared to their respective growth rates
over most of 1967. During the first four months of
1968, as shown by the continued rapid rise of total
spending, especially by the Government sector and
the apparent resurgence of consumer demand, it
appears that inflationary pressures are still present
and increasing in 1968.
Few economists claim that the impact of a given
set of monetary policy actions has an immediate
effect on the amount of total spending and prices.
Intuitively, one would expect that it takes time for
individuals and firms in the economy to adjust to
changes in existing monetary conditions, and empirical
studies lend support to these beliefs. Nevertheless,
the end goal of monetary policy actions should be to
affect total spending, output, employment, and prices.
When attempting to assess whether their policy
measures are appropriate, monetary policymakers
should ultimately base their assessment on the ob­
served growth rates of these real variables. However,
information on these developments are available only
after a time lag, and the impact of monetary actions
affects the real variables only after another time



A set of policy actions aimed at maintaining one
constellation of money market conditions and a set
of growth rates of certain monetary aggregates such
as bank reserves, money, and bank credit may, under
one set of conditions existing in the economy, have
the effect desired by policymakers on total spending,
output, employment, and prices. Under a different
set of conditions, these same policies may not have
their desired effects. As a hypothetical example,
policies aimed at maintaining the present set of money
market conditions and attempting to restrict the
growth rate of money to a 3 to 6 per cent rate, and
the growth rate of bank credit to a 6 to 8 per cent
rate may, under conditions of a 10 per cent income
surtax, have the desired effect of restraining the
growth of total spending and prices. In the absence
of such a tax increase and/or with the resurgence of
the rate of consumer spending, a monetary policy may
be required that is directed toward maintaining a
different set of money market conditions and slower
growth rates of the monetary aggregates.
Different sets of underlying structural relations in
the economy may require different monetary policy
actions. The two statements, “Compared to past ex­
perience, short-term interest rates are at very high
levels” and “The recent growth rates of money and/or
bank credit are both slower than over the previous
ten months,” by themselves, or taken together, may
imply the conclusion that monetary policy is having
the desired effect of reducing the growth rates of total
spending and prices. However, either statement, taken
by itself, or the two statements taken together, does
not necessarily imply that monetary policy is having
the desired effect of reducing the growth rates of total
spending and prices.
Page 5

1967-A Year of Constraints
on Monetary Management

- M lONETARY ACTIONS in 1967 were very expansionary until the last few weeks of the year. These
actions followed a period of very strong monetary re­
straint during the last half of 1966. The pace of eco­
nomic activity slowed during the first half of 1967
and, in response, the Federal Open Market Committee
(FOMC) continued the expansionary monetary pol­
icy adopted in late 1966. During the second half of
1967 prices resumed their rapid upward advance of
late 1966. Nevertheless, FOMC policy was not
changed significantly until late in the year; prior to
then a majority of the Committee accepted several
constraints on its ability to adopt a restrictive mone­
tary policy.
This article is a review and interpretation of the
record of the Federal Open Market Committee dur­
ing 1967. The article is divided into two parts; part
one a review of monetary management in 1967, and
part two a detailed discussion of several constraints
that influenced the Committee in its monetary policy
actions during the second half of the year. The bases
for the article are, for the most part, the policy records
of the FOMC and its policy directives. In 1967 the
FOMC adopted a new procedure for informing the
public of its actions. About ninety days after a Com­
mittee meeting, a summary of its deliberations is
released; these summaries are called the policy record
of the FOMC. At the same time, the Committee’s
current economic policy directive to the New York
Federal Reserve Bank is released. Both of these docu­
ments are readily available to the public in the
Federal Reserve Bulletin. A summary of these direc­
tives for 1967 is presented below in Exhibit 1, while

Page 6


some of the factors which influenced the formulation
of the directives are presented in Exhibit 2.

PART ONE

M O N ETA RY M A N A G EM EN T IN 1967

The procedures used by the FOMC for monetary
management during 1967 were little changed from
long-established traditions.1 At each meeting, the
Committee issued a current economic policy directive
which usually consisted of two paragraphs. The first
paragraph contained a statement of economic goals
sought by the Committee, along with a summary of
important economic developments. The second para­
graph contained general operating instructions to the
Federal Reserve Bank of New York for the implemen­
tation of the Committee’s monetary policy until the
time of its next meeting. The Manager of the Fed­
eral Reserve System’s open market account has the
day-to-day responsibility for carrying out these
operating instructions.
As has been the practice for many years, the Com­
mittee’s operating instructions dining 1967 were
framed primarily in terms of money market condi­
tions. In arriving at a directive, members of the FOMC

1For a detailed discussion of these procedures, see the
following articles in the Federal Reserve Bank of St. Louis
Review: “1966 — A Year of Challenge for Monetary Man­
agement,” April, 1967; “Federal Reserve Open Market
Operations in 1965: Objectives, Actions and Accomplish­
ments,” June, 1966; and “Implementation of Federal Reserve
Open Market Policy in 1964,” June, 1965.

D e m a n d a n d Production
R a t io S c a l e
B illio n s o f D o lla r s

Q uarterly Total* at Annual Rote*
Seasonally Adjusted

R a t io S c a l e
B illio n s o f D o lla r s

about the state of the economy, and policy remained
easy. From August through mid-November inflation­
ary pressures emerged once again, but policy
remained largely unchanged. After December the
FOMC moved toward moderate restraint.

January through April
Movement Toward Ease.
—

The first four months of 1967 may be characterized
as a period of slackened economic activity and some
fear of recession. Growth in total demand and real
output slowed while industrial production and em­
ployment declined. Federal tax policy remained un­
certain, and the nation’s balance of payments problem
persisted.
L LG N P in current dollar*.
Source: U.S. Department of Commerce
12 G N P in 1958 dollar*.
Percentages are annual rates of change between periods indicated.They are presented to aid in
comparing most recent development* with past "trend*.”
Latest data p lotted:lstquarter196ttprelim inary

have taken into consideration many measures of mar­
ket conditions. One measure is the difference between
member bank excess reserves and borrowings from
Reserve banks, a positive difference being called free
reserves and a negative difference net borrowed re­
serves. Various short-term interest rates, such as the
Federal funds rate, the Treasury bill rate, and lending
rates charged on loans to Government securities deal­
ers by large money market banks, also are used as
measures of money market conditions; an increase in
short-term interest rates is taken to indicate “tighter”
money market conditions, and a decline to indicate
“easier” conditions.
Most FOMC directives for last year continued the
practice, started in 1966, of having a proviso clause
included in the directive to the Federal Reserve Bank
of New York. The proviso clause instructs the manager
to alter money market conditions in the event that
a monetary aggregate does not move in a prescribed
manner; the aggregate measure used most frequently
last year was bank credit. Since both Federal Re­
serve actions and economic activity affect measures
of money market conditions, the proviso clause assists
in gauging the impact of System’s monetary manage­
ment efforts on money market conditions.
An examination of the policy record and directives
adopted by the FOMC during 1967 indicates that
the year might be usefully divided into four periods.
From January through April the FOMC moved to­
ward monetary ease in response to slower growth
in economic activity. A revival of economic expansion
seemingly was apparent by early summer; therefore,
from May through July there was cautious optimism



There was general agreement among Committee
members that economic developments during the
period called for policy designed first to promote noninflationary economic expansion and then to counter­
act weakening tendencies in the economy. To achieve
these objectives the System employed its three gen­
eral tools of control: open market operations, dis­
count rate policy, and adjustment of member bank
reserve requirements.
Early in 1967 the Committee was following policy
designed to “foster money and credit conditions
conducive to noninflationary economic expansion and
progress towards reasonable equilibrium in the coun­
try’s balance of payments.” To achieve these broad
policy goals, the New York Reserve Bank trading
desk had been instructed in the final directive of 1966
that open market operations were to be conducted
in a manner designed “to achieve somewhat easier
conditions in the money market, unless bank credit
In d ustrial Production
R a tio S c a le
1 9 5 7-59=100

R a tio S c a le

180

1 9 5 7 -5 9= 1 0 0
180

170

170

S easonally Adjusted

I960
1961
1962
1963
1964
1965
1966
1967
1968
Percentages are annual rates of change between periods indicated. They are presented to aid in
comparing most recentdevelopments with past''trends."
Latest data plotted: M arch preliminary

Page 7

M o n e y Stock
R a tio S c a le
B illio n s o f D o lla r s

Monthly Average* of Daily Figure
Seasonally Adjusted

R a tio S c a le
B illio n s o f D o lla r s

comparing most recentdevelopments with past "trends."

At the meeting on February 7 the operating policy
instructions stated that open market operations
should be conducted with a view “to maintaining the
prevailing conditions of ease in the money market.”
It was further added that operations should be modi­
fied as necessary “to moderate any apparently signi­
ficant deviations of bank credit from current expecta­
tions.”3 The inclusion of a two-way proviso clause
empowered the manager to alter open market oper­
ations to provide further ease should bank credit grow
more slowly than expected, or to tighten if bank credit
rose more rapidly than anticipated. The Board of
Governors announced on February 28 a reduction
in reserve requirements for member bank savings
deposits and certain time deposits for the purpose of
meeting developing credit needs throughout the
country.

Latestdata plotted: A p ril estimated

appears to be resuming a rapid rate of expansion.”
At the first meeting of 1967 (January 10) the
Committee noted that, although GNP rose sharply in
the fourth quarter of 1966 as the rate of inventory
accumulation increased sharply, growth had slack­
ened in consumer spending for goods, business cap­
ital oudays, and in Federal defense expenditures.
Furthermore, housing was still relatively weak and
industrial production was litde changed from August.
Staff projections suggested a marked slowing in the
growth of GNP and industrial production during the
first quarter of 1967, and a moderate increase in the
unemployment rate.
The majority of the Committee felt that some
further easing of money market conditions was ap­
propriate. Others expressed concern, however, about
the effects of any move toward further monetary ease
on the grounds that the balance of payments re­
mained a serious problem and that, although some
economic indicators were showing softness, the longer
run prospects for the economy were strong. Under
these circumstances, the manager was instructed to
attain somewhat easier market conditions ( Exhibit 1).
The proviso clause was changed to read that opera­
tions should be modified if “bank credit appears to be
expanding significantly faster than currently antici­
pated.”2
2Dissenters to this action included: President Irons of the
Dallas Reserve Bank; Governor Shepardson of the Board
of Governors; and First Vice President Treiber of the
New York Reserve Bank. Among the considerations ad­
vanced were the continuing balance of payments problem
and the desirability of awaiting further information on
prospective Federal taxes and expenditures before chang­
ing monetary policy further.
Page 8



At the March 7 meeting the Committee voted in
favor of a policy “to foster money and credit condi­
tions, including bank credit growth, conducive to
combating the effects of weakening tendencies in the
economy . . . ” To implement this policy, open market
operations until the next meeting were to “be con­
ducted with a view to attaining somewhat easier
conditions in the money market, and to attaining
still easier conditions if bank credit appears to be ex­
panding significantly less than currendy anticipated.”
Information reviewed at this meeting suggested
that the apparent pause in economic activity recog­
nized in previous meetings was indeed real, and the
Committee agreed that actions should be geared to
fighting weakening tendencies in the economy. This
feeling carried over to the April 4 meeting when the
Committee agreed to maintain substantially the exist­
ing set of policy goals and directive. Shordy there­
after, in order to align the discount rate with most
short-term market rates of interest and to assure an
adequate availability of credit to provide for orderly
economic growth, the Reserve Banks reduced the
rate charged on discounts to member banks from
4.5 per cent to 4 per cent.
Reflecting System reserve supplying operations,
money market conditions eased markedly from Janu­
ary through April. Net reserve availability, as meas­
ured by “free” reserves, rose from a minus (net

3Govemor Mitchell dissented from this action because he
favored moving somewhat further toward ease. He was
“inclined to give more credence to the present expecta­
tions for a weaker economic performance in the first half
of the year than to those for a stronger performance in
the second half . . .”

borrowed) $100 million early in the year to a range
of around $275 million by early May. Member bank
borrowing from Reserve Banks declined from an av­
erage of about $560 million per week in December
1966 to around $100 million in early May. The Federal
funds rate, which had averaged about 5.3 per cent
as the year opened, fell to around 4.5 per cent by
late March and to 4 per cent in early May. The
smaller spread between the Federal funds rate and
the discount rate probably contributed to the decline
in member bank borrowing from the System during
the first four months of 1967.
Long-term and short-term interest rates moved in
divergent patterns from the end of January through
April. Short-term rates declined generally about a
percentage point, while a large volume of capital
market floatations by corporations and state and local
governments put upward pressure on long-term rates.
The 91-day Treasury bill rate closed the period at
about 3.75 per cent, compared with 4.72 per cent in
January; while the yield on long-term Government
bonds reached about 4.60 per cent, compared with
4.40 per cent in January.
Coincident to the easing in the money market, ag­
gregate monetary indicators expanded rapidly. Mem­
ber bank reserves rose at a 12 per cent annual rate
from January through April, the money stock at a
6 per cent rate, and money plus time deposits at a
12 per cent rate. Bank credit rose at a rapid 15 per
cent annual rate, while the monetary base (total
member bank reserves adjusted for reserve require-

Extended M o n e ta ry B a s e *
R a tio S c a le
B illio n s o f D o lla r s

R a tio S c a le
1 ion s o f D o lla r s
1

M onthly A v e ra g e s of Daily Figure

85

85

Interest Ra te s
ent
7 .0

6 .5

6.0
5 .5

5 .0

4 .5

4 .0

3 .5

3.0

2 .5

Sources: Board of Governors of the Federal Reserve System and M oody's Investors Service.

ment changes plus currency in the hands of the pub­
lic) rose at a 6.8 per cent rate.4 All of these rates
were generally well above their respective trend
rates of the early 1960’s.

May through July

—

Cautious Optimism

Beginning in early May, the Committee’s policy
shifted from seeking progressively easier conditions in
the money market to maintaining prevailing condi­
tions; the prospects for renewed economic expan­
sion had improved. However, in the process of main­
taining an existing constellation of money market
rates during a period when the demand for credit
was particularly intense, aggregate monetary meas­
ures —reserves, money, bank credit — expanded at
rapid rates.
At the FOMC meeting on May 2 it was generally
recognized that factors which had contributed to the
pause in economic activity during the early months
of the year were fading. The adjustment to excessive
inventories was being facilitated by reduced indus-

A p r.66

Jan .'67

J J ___I__
1960
1961
1962
1963
1964
1965
1966
1967
1968
•Member bank reserves at the Federal Reserve, plus currency in circulation, adjustment for reserve
req uirem ent changes, and shifts in deposits am ong classes of banks. Data are computed by this
bank.
Percentages are annual rates of change between periods indicated. They are presented to aid in
comparing mostrecentdevelopments with past "trends."
Latestdata plotted: Aprilestim ated




4The monetary base consists of the net of several items on
the Federal Reserve’s balance sheet. The base is calculated
by summing: member bank borrowings from the Federal
Reserve, other Federal Reserve credit, and the gold
stock; less the sum of: Treasury currency outstanding,
Treasury deposits at the Federal Reserve Treasury cash
holdings, and other deposits plus other Federal Reserve
accounts. The base has been adjusted for reserve require­
ment changes and shifts in deposits among classes of banks
and types of deposits. This measure provides a useful
indicator of monetary policy because it is not affected by
random movements of funds between private deposits
and Government accounts at commercial banks.
Page 9

Exhibit

1

Page

FEDERAL OPEN MARKET COMMITTEE ECONOMIC POLICY DIRECTIVES

10
(i i

A move to som ewhat more ease

1 9 67
Ja n u a ry

Operating Instructions

Dissents:
Messrs. Irons
Shepardson
Tre ib er

10

February 7

N o change
Dissents:
M r. M itchell

March 7

A move to som ewhat more ease
Dissents:
N o ne

A p ril 4

A move to som ewhat more ease
Dissents:
N o ne

M ay

2

N o change
Dissents:
N one

M ay

23

N o change
Dissents:
M r. Francis

Ju n e 20

N o change




(3 )

(2 )

Policy Consensus

Date of
FOM C
M eeting

Dissents:
N o ne

Proviso Clause of Directive

To implement this policy, and taking account of forthcoming
Treasury financing. System open market operations until the
next meeting of the Committee shall be conducted with a view
to attaining som ewhat easier conditions in the m oney market, . . .

unless bank credit appears to be e x pa ndin g significantly
faster than currently anticipated.

. . . and taking account of the current Tre asury financing, System
open market operations until the next meeting of the Committee
shall be conducted with a vie w to m aintaining the prevailing
conditions of ease in the m oney market, . . .

but operations shall be modified as necessary to
m oderate a n y a p p a re n tly significant deviations of bank
credit from current expectations.

. . . against the background of the current reductions in reserve
requirements. System open m arket operations until the next
meeting of the Comm ittee shall be conducted with a view to
attaining somewhat easier conditions in the m oney market, . . .

and to attaining still easier conditions if bank credit
appears to be e x pa ndin g significantly less than currently
anticipated.

. . . System open market operations until the next meeting of
the Committee shall be conducted with a view to attaining some­
w h at easier conditions in the m oney market, . . .

and to attaining still easier conditions if bank credit
appears to be e x pa ndin g significantly less than currently
anticipated.

. . . w hile taking account of the current Treasury financing. Sys­
tem open m arket operations until the next meeting of the
Committee shall be conducted with a view to m aintaining the
prevailing conditions in the m oney market.

Proviso clause deleted

. . . System open market operations until the next meeting of
the Committee shall be conducted with a view to m aintaining
the prevailing conditions in the m oney market, w hile utilizing
operations in coupon issues in supp lyin g part of reserve needs.

Proviso clause deleted

. . . w hile taking account of expected Treasury financing activity,
the tim ing and q uan tity of which are still uncertain. System open
market operations until the next meeting of the Comm ittee shall
be conducted with a view to m aintaining about the same condi­
tions in the m oney market as have prevailed since the preceding
meeting of the Comm ittee, . . .

Proviso clause deleted

J u ly

18

N o change

. . . w hile taking account of forthcom ing Treasury financing
activity. System open market operations until the next meeting
of the Committee shall be conducted with a view to m aintaining
about the prevailing conditions in the m oney m arket; . . .

. . . w hile taking account of expected Treasury financing activity.
System open market operations until the next meeting of the
Committee shall be conducted with a view to m aintaining about
the pre va ilin g conditions in the m oney m arket; . . .

A ugust 15

Septem ber 1 2

Dissents:
Messrs. Hayes
Francis
Scanlon

O c to b e r 3

N o change
Dissents:
Messrs. Francis
Scanlon

O c to b e r 24

No Change
Dissents:
M r. Francis

N o ve m b er 14

N o change
Dissents:
N o ne

N o ve m b er 27

Facilitate o rd e rly market
ments to the increase in
Reserve discount rates

adjustFederal

but operations shall be modified, to the extent
permitted by Treasury financing, to moderate a n y a p ­
parent tendency for bank credit to expand significantly
more than currently expected.

. . . System open market operations until the next meeting of the
Committee shall be conducted with a vie w to m aintaining about
the prevailing conditions in the m oney m arket, . . .

N o change

but operations shall be modified, to the extent per­
mitted by Treasury financing, to moderate a n y apparent
tendency for bank credit to expand significantly more
than currently expected.

. . . w h ile taking account of forthcom ing Tre a s u ry financing
activity, System open market operations until the next m eeting of
the Comm ittee shall be conducted w ith a view to m aintaining
about the pre va ilin g conditions in the m oney m arket; . . .

Dissents:
N one

but operations shall be modified as necessary
moderate a n y ap p a re n t tendency for bank credit
expa nd significantly more than currently expected.

. . . System open market operations until the next m eeting of the
Committee shall be conducted with a vie w to m aintaining about
the prevailing conditions in the m oney m arket; . . .

N o change

but operations shall be m odified, insofar as Treasury
financing permits, to m oderate a n y apparent tendency
for bank credit to expand more than currently expected.

. . . System open market operations until the next meeting of
the Comm ittee shall be conducted with a view to m aintaining
about the prevailing conditions in the m oney m arket; . . .

Dissents:
N one

but operations shall be modified insofar as the Treasury
financing permits to m oderate a n y apparent tendency
for bank credit and m oney to expand more than
currently expected.

but operations shall be modified as necessary
m oderate a n y ap pare nt tendency for bank credit
expand significantly more than currently expected.

System open market operations until the next meeting of the
Committee shall be conducted with a view to facilitating o rd erly
market adjustments to the increase in the Federal Reserve discount
rates; . . .

but operations m ay be modified as needed to moderate
a n y unusual pressures stemming from international
financial uncertainties.

. . . System open market operations until the next meeting of
the Committee shall be conducted w ith a view to m oving slightly
beyond the firmer conditions that have de veloped in m oney
markets p a rtly as a result of the increase in Federal Reserve
discount rates; . . .

p rovide d, however, that operations shall be modified
as needed to m oderate a n y a p pare ntly significant
deviations of bank credit from current expectations or
a n y unusual liq u id ity pressures.

to
to

to
to

Dissents:
None

Decem ber 1 2

M ove to w a rd modest restraint

Page

Dissents:
M r. Maisel

11

S O U R C E : Federal Open Market Committee
Policy Record Entries , Current

Economic Policy Directive




trial output and strengthened consumer purchasing.
Real GNP was projected to rise slightly in the second
quarter and sharply in the third.

Federal R eserve C re d it*
R a t io S c a le
B illio n s o f D o llc r s

R a tio S c a le

Monthly A v e ra g e s of D a ily Figures
S e as o n a lly Adjusted

B llllO n S O f D o ll a r S
60

60

In this situation, the Committee voted for policy
to foster money and credit conditions “conducive to
renewed economic expansion.” For the first time in
1967, the proviso clause was deleted. The broad policy
directive was not altered substantially at the following
three meetings: May 23,5 June 20, or July 18,
although the proviso clause was reintroduced at the
July meeting.
Money market conditions from May through July
generally remained easy. Federal funds traded
around the discount rate, more often below it than
above. Free reserves averaged around $280 million,
about the same figure that prevailed at the close of
the previous period. Excess reserves remained rela­
tively unchanged, while borrowing from Reserve
Banks stayed near $100 million.
Reflecting in part the rapid rate of monetary ex­
pansion earlier in 1967 and the unprecedented de­
mands for funds by corporations, interest rates in
the capital market moved sharply higher. In early
summer the 91-day Treasury bill rate reversed its
earlier downward trend and rose about half a per­
centage point from April through July. Yields on long­
term Government bonds and prime corporate securi­
ties in late July were about 5 per cent and 5.6 per
cent, respectively, somewhat above the highs of late
1966.
In attempting to maintain existing money market
conditions in the face of strong demands for credit,
Federal Reserve actions provided sizable amounts of
credit to the banking system. From May through
July Federal Reserve credit rose at a rapid 9 per cent
annual rate, with most of the impetus provided by
System acquisitions of Government securities, includ­
ing coupon issues. Other aggregate measures also ex­
panded rapidly. Bank reserves rose at a 10 per cent
rate, money at a 12 per cent rate, money plus time
deposits at a 15 per cent rate, and total bank credit
at a 12 per cent rate. Finally, the monetary base rose
at a 4.4 per cent annual rate during the period. All
these rates of growth were quite high by historical
standards.

5President Francis of the St. Louis Reserve Bank dissented
to this action on the grounds that a marked increase in
demands for goods and services was likely later in the
year and that monetary policy actions had their main
effects after some time lag. He thought some firming in
the money market should be sought now to guard against
the development later of excessive demand and associated
inflationary pressures.
Page 12



20
I960
1961
1962
1963
1964
1965
1966
1967
1968
* Federal Reserve holdings of U .S . G o v e rn m e n t securities seasonally adjusted a n d adjusted for
estimated effect of reserve req uirem ent changes, plus borrow ings from F e de ra l Reserve,
excluding float and a few minor items. D a ta are com puted by this bank.
Percentages areannual rates of change between periods indicated. They are presented to aid in
com paring mostrecentdevelopments with past "trends."
Latest data plotted: A p ril estimated

August through Mid-November
Pressures E m erge Again

—

Inflationary

Underlying economic conditions strengthened dur­
ing the fall, despite the adverse effects of strikes in
the automobile industry and elsewhere. Real GNP,
final sales, and employment rose sharply. At the same
time, however, inflationary pressures began to emerge
and the general price level rose rapidly.
Interest rates rose, reflecting in part the impact of
previous expansionary monetary policy and the ac­
celerated supply of corporate and U.S. Government
securities. Inflationary expectations induced borrowers
to pay, and lenders to demand, higher rates for funds.
The underlying balance of payments position de­
teriorated, and there was concern over the condition
of the British overseas payments position.
There was a general feeling among the FOMC
during this period that inflationary pressures, the
rapid rate of bank credit growth, and the balance of
payments problem all warranted a move toward
monetary restraint. However, the constraints of “even
keel,” financial “disintermediation,” the proposed tax
legislation, and the position of sterling in the foreign
exchange markets militated against any move toward
restraint. Monetary policy was conducted with a view
to maintaining prevailing conditions in the money
market.
The Committee voted at the August 15 meeting to
maintain substantially the same set of policy goals
adopted at the previous meeting. Most members
thought that recent rates of growth in bank credit
were higher than should be sustained in light of the
existing economic outlook. However, the feeling

B a n k Cre dit*
A ll C o m m e r c ia l B a n k s
R a tio S c a le
B illio n s o f D o lla r s

R a tio S c a le
B illio n s o f D o lla r s

. ---------------of Daily Figures

500

500

July'66 Dec.'66

t I

A p r.'66

t

1960
1961
1962
1963
1964
1965
1966
1967
1968
*Datoare estimated by the Federal Reserve Bank of St. Louis.
Percentages are annual rates of change between periods indicated. They are presented to aid in
comparing most recent developments with past "tre n d s.”
Latestdata plotted-. Aprilestim ated

was expressed that the upcoming Treasury financing,
together with uncertainty concerning the fiscal pro­
gram then being discussed in Congress, precluded
any move toward monetary restraint at that time.
At the following meeting (September 12) the Com­
mittee voted to maintain prevailing conditions in the
money market, and to promote “sustainable” rather
than “continuing” economic expansion.6 The majority
supported the decision to avoid a movement toward
restraint while awaiting clarification with respect to
likely Congressional action on the President’s tax pack­
age. Moreover, it was again argued that even a
modest move toward restraint might cause a further
rise in market interest rates, with possible adverse
effects on depository type financial intermediaries and
on the position of the pound sterling in the foreign
exchange markets.
6Members who dissented from this action included: Presi­
dent Hayes of the New York Reserve Bank- President
Francis of the St. Louis Reserve Bank; and President
Scanlon of the Chicago Reserve Bank. Mr. Hayes and Mr.
Scanlon felt that “greater monetary restraint was required in
bank credit, required in light of recent rates of growth in bank
credit, present and prospective inflationary pressures, and the
unsatisfactory balance of payments situation.” Mr. Francis
favored seeking “significantly firmer money market conditions
and firming still further if growth in bank credit did not
moderate substantially. He judged that “both monetary policy
and fiscal policy were characterized by excessive ease at
present, the lagged effects of which would magnify the pres­
sures on the economy expected in the months ahead.” Mr.
Francis observed that “fiscal policy was likely to remain ex­
traordinarily stimulative even if the President’s tax proposals
were enacted in the form recommended.” He expressed the
view that “the limitation by appropriate monetary action of
excessive demand, inflation, speculation, and further deteriora­
tion in the U.S. balance of payments appeared to be more
crucial than any temporary hardships on the Treasury, finan­
cial intermediaries, and long-term borrowers resulting from
higher interest rates.”



The policy goals were not altered significandy at
the two meetings during October7 and the one on No­
vember 14, although some Committee members felt
that underlying economic conditions called for a
movement toward a firmer policy stance. The majority
again felt that these factors were outweighed by
other factors, including the continued need to await
clearer indications of Congressional action with regard
to Federal taxes and expenditures, uncertainties with
respect to the extent and duration of the auto in­
dustry strike, and the fear that firmer policy might
lead to sharply higher interest rates with undesired
domestic and international economic impacts. Im­
pending Treasury financings and the position of the
pound sterling were also mentioned as factors militat­
ing against a policy change.
Conditions in the money market remained quite
easy during the late summer and fall of last year, as
the Federal Reserve provided reserves rapidly to the
banking system through open market operations.
Federal funds traded at or near the discount rate,
and member bank borrowings at the discount window
remained at an average of about $100 million. Net
7Those who dissented from the action taken on October 3
included President Francis and President Scanlon. In
their judgment, “in view of the prospects for further price
inflation the risks in not acting at this time to moderate the
rapid growth of bank credit outweighed the various con­
siderations seen as militating against a firmer monetary
policy.” President Francis dissented from the action taken
on October 24, and stated that he favored “seeking what­
ever degree of firming in the money market conditions
would be required to moderate substantially the growth in
bank credit and the money supply by the end of the
year.” He felt that “the national interest called for greater
monetary restraint now to curb inflationary pressures and to
protect the foreign trade component of the U.S. balance of
payments.”

G e n e r a l Price In d e x *

R a tio S c a le

R a tio S c a le

1958=100

1958=100
130

95
1960

1961

1962

1963

1964

1965

1966

1967

1968

' As used in N ational Income Accounts
Source :U.S .D e p a rtm ento f Commerce
Percentages are annual rates of change between periods indicated.They are presented to aid in
comparing most recentdevelopments with p a s ftre n d s ."
late stda ta plotted: ls tq u a rte r!9 6 8 prelim inary

Page 13

reserve availability, reflected by the level of free
reserves, averaged about $250 million, very much in
line with what the Committee had expected.
Developments in the capital market continued to
be dominated by the unprecedented demands for
fluids, as borrowers accelerated security offerings. By
the end of October the 91-day Treasury bill rate
was about 4.6 per cent, while rates on long-term
Government bonds and high-grade corporate securi­
ties reached about 5.3 per cent and 6 per cent,
respectively. These rates were in sharp contrast to
the bill rate of 3.6 per cent, Government bond rate
of 4.9 per cent, and high-grade corporate yield of 5.4
per cent which had prevailed in mid-June.
Aggregate monetary measures rose quite rapidly
during the late summer and fall. Reserves rose at an
11 per cent rate, the money stock at a 5 per cent rate,
and money plus time deposits at a 9 per cent rate.
Bank credit rose at a 9 per cent annual rate, despite
the fact that interest rates were rising. Finally, the
monetary base rose at about a 7 per cent rate.

Mid-November through D ecem ber
Toward Moderate Restraint

—

Move

Following the British devaluation of the pound
sterling on November 18, monetary policy moved to­
ward moderate restraint. To implement a more re­
strictive policy, the Federal Reserve employed a dis­
count rate increase, announced adjustments in re­
serve requirements, and, to an extent, open market
operations. In the process of accommodating yearend demands for credit, policy action resulted in a
rapid increase in most monetary aggregates. The ac­
celeration proved temporary, however, and the
growth in most monetary aggregates abated in early
1968.
In the wake of the sterling devaluation and the
increase in the British bank rate to 8 per cent, the
Federal Reserve discount rate was raised from 4 to 4.5
per cent, in part to moderate an expected outflow of
short-term capital from the United States. At a meeting
of the Committee on November 27, it was noted that
“various cross currents were likely to be at work be
cause of the increase in the discount rate and of re­
cent events abroad, and because of the uncertain
impact of these events on domestic financial mar­
kets.” A current economic policy directive was issued
instructing the Desk to conduct open market opera­
tions until the next meeting with a view toward
“facilitating orderly market adjustments to the in­
crease in Federal Reserve discount rates.” But opera­
tions were to “be modified as needed to moderate
any unusual pressures stemming from international
Page 14



financial uncertainties.”
At the final meeting of 1967 it was noted that the
business outlook for early 1968 appeared strong. Con­
sumer spending was expected to rise. Plant and
equipment expenditures were expected to rise con­
siderably during the first half of 1968, and outlays for
residential construction appeared likely to continue
upward. The fourth quarter balance of payments on
liquidity basis had deteriorated sharply, partly re­
flecting the rapid rise in domestic prices. The inter­
national payments problem was intensified by heavy
speculation against the dollar in the London gold
market following the sterling devaluation. This spec­
ulation had led to a sizable decline in the U.S.
Treasury gold stock.
The Committee concluded at the December 12
meeting that events of the recent weeks had shifted
the balance of considerations in favor of a firming of
monetary policy. It was decided that open market
operations until the next meeting should be con­
ducted with a view to moving “slightly beyond the
firmer conditions that have developed in money mar­
kets partly as a result of the increase in Federal Re­
serve discount rates . . .”8 The Board of Governors,
on December 27, announced a selective increase of
reserves required as backing for commercial bank
demand deposits.
The money market showed indications of firmness
from mid-November through December. Free re­
serves ranged around $150 million, down about $50
million from the level of early November. The Fed­
eral funds rate moved higher, and funds generally
traded above the 4.5 per cent discount rate after midDecember. During this period, the three-month Treas­
ury bill rate moved sharply higher to about 5 per cent
by year-end.
From November 1967 thru April 1968, growth in
monetary aggregates slowed relative to the rates
during the first eleven months of last year. Bank
reserves rose at an estimated 4.2 per cent annual rate,
money at an estimated 5.5 per cent rate, and money
plus time deposits at an estimated 5.8 per cent rate.
The monetary base increased at a 5.7 per cent rate
from January 1968 through April.

8Govemor Maisel dissented from this action “in part be­
cause he thought the directive was susceptible to an
interpretation under which growth in member bank re­
serves and bank deposits would be slowed too abruptly,
and perhaps succeeded by contraction.” He favored
“seeking growth rates in reserves, deposits, and bank
credit considerably below the average rates thus far in
1967, but still high enough to facilitate expansion in GNP
at a somewhat faster rate than had prevailed on average
in the first three quarters of the year. ’

PART II

CONSTRAINTS ON M O N ETA RY M A N A G EM EN T
L A ST H A L F 1967

Monetary management operates within the context
of national economic stabilization policy, which in­
cludes fiscal actions of the Federal Government.
This policy has three general goals: rising output, a
high level of employment, and relatively stable prices.
In addition, stabilization actions are often used to
achieve a viable position in the nation’s international
balance of payments. The tools most frequently used
for achieving these goals are fiscal actions and mone­
tary management.. Fiscal actions refer to the taxing
and spending programs adopted by the Federal gov­
ernment. Monetary management refers to actions of
the Federal Reserve System designed to achieve na­
tional economic goals. These actions involve changes
in monetary aggregates such as member bank reserves,
the monetary base, the money stock, and commercial
bank credit, along with changes in market interest
rates.
During last year an impasse was reached in the
adoption of fiscal restraint, and several constraints pre­
vented the adoption of restrictive monetary actions
until late in the year. The balance of this article is
devoted to an examination of these constraints on
monetary management. There is little literature avail­
able on these constraints, and the FOMC has given
very little public information justifying their imposi­
tion. Therefore, the views and interpretations pre­
sented here are those of the authors.

The Constraints
Despite a general recognition in the fall of 1967
that monetary policy should have become restrictive,
the Policy Record of the FOMC indicates that four
major considerations constrained the Committee from
making a major shift in its policy (Exhibit 2). These
considerations were a belief that “even keeling” is
necessary during Treaury financings, a fear of causing
renewal of disintermediation, a desire to await the out­
come of pending tax legislation, and a concern over
the position of the British pound sterling.

should cause neither a decrease nor an increase in
the price of Government securities. Presumably, other
market forces would be allowed to change market
prices of securities. Even keel, therefore, precludes
any changes in monetary policy during major Treas­
ury financings, although market interest rates may
fluctuate in response to other market forces.
An even keel policy has been justified on grounds
that Government security dealers and other under­
writers of new Treasury securities should be able to
enter a bid for a new Treasury issue and to retail
the issue to ultimate buyers at the offered price plus
a normal mark-up. If, as a result of Federal Reserve
actions, they should receive a price less than the
acquisition price plus normal mark-up, dealers would
have a capital loss and would be discouraged from
bidding on future issues. On the other hand, if they
should receive a price higher than their acquisition
cost plus normal mark-up, dealers would have re­
ceived an unnecessary capital gain. A policy of even
keel evidently is based on a concern over the viability
of the Government securities market and the success
of Treasury financings.
A period of even keel usually extends for many
days. Generally, the FOMC has felt constrained from
changing its policy from the formal announcement of
a Treasury financing to a date when most of the new
issue has been distributed to ultimate holders. Hence,
this constraint may be operative for most of the time
between two meetings of the FOMC.
There seems to be a scale regarding the importance
of even keel according to the types of securities
involved in a financing and the amount of net new
money being raised by the Treasury. Even keel is
never invoked during a Treasury bill financing inF e d e r a l B u d g e t In fluen ce*
S tim ulu s o r R e stra in t

Even K eel During Treasury Financing
During 1967 “even keel” considerations played an
important role in the FOMC directives adopted at
eight out of its 14 regularly scheduled meetings. The
term “even keel” is a nebulous concept which has
played an important role in FOMC discussions during
the 1950’s and 1960’s. Basically, it means that from
a few days before an announcement of a Treasury
financing until a few days after final distribution of
the securities, Federal Reserve actions by themselves



Source: Federal Reserve Bank of St. Louis
•The High-Em ploym ent Budget, first published by the Council of Economic Advisers.
Latest data plotted: 1st quarter 1968 estimated

Page 15

Exhibit

7

CONSTRAINTS ON MONETARY MANAGEMENT
D ate of
FOM C
M eeting

(1 )

(2 )

Even Keel

Financial Disintermediation

(3 )

Pending Fiscal Action

(4 )

(5 )

The Pound Sterling

Knowledge Factor

1967
J a n u a ry

10

The current Tre asury financing also was m entioned (as a factor
m ilitating against a further deliberate relaxation of m onetary
policy at present) . . .

February 7

. . . it was noted that approp riate m onetary policy
over coming months w ould d e p e n d im p orta ntly on
the nature of Federal fiscal policies.

Th e Comm ittee agreed that the forthcom ing Treasury financing
should be taken into account in the conduct of open-m arket
operations . . .
. . . efforts should be m ade to resist a n y sharp rises in
interest rates but that rates should be permitted to decline
if market forces w orked in that direction.

March 7
N o constraints cited
A p ril 4
N o constraints cited
. . . the desirab ility of m aintaining an "e v e n k e e l" in the
m oney market du rin g the current Treasury financing (w a s )
advanced as grounds for such a policy course.

M ay 2

. . . the current (econom ic)
situation was characterized by
various cross-currents and un­
certainties.

M a y 23

June 20

. . . it w o u ld be ap prop riate at that time to m aintain about
the same conditions in the m oney market as had prevailed
since the preceding m eeting, pa rtly because of the expected
Tre asury financing.

. . . a num ber (o f m em bers) expressed concern about the
continued uptrend in lo ng-term interest rates, pa rticularly in
light of the risk that higher rates m ight slow the recovery
in the housing industry and in the econom y ge n e ra lly.

. . . the prospect, which some members thought
has been enhanced recently, that action to raise
Federal income taxes m ight be taken soon.

Ju ly

It was ge ne ra lly agreed that the
financing militated against seeking
market conditions at present.

. . . the possibility that a n y significant further increases in
market interest rates m ight reduce the flow of funds into
m ortgages and slow the recovery u n d e rw a y in residential
construction activity.

. . . some members also referred in this connection
to the g row in g expectation that the A dm inistration
w ould press for measures of fiscal restraint.

18

August 1 5

Tre a s u ry’s forthcoming
a change in m oney

. . . the absence to date of
firm evidence that the w id e ly
expected upsurge in economic
activity had alre ad y begun.

. . . uncertainties about the outcome w ith respect
to the fiscal program now under active consideration
by Congress militated against a change in m onetary
policy at present.

. . . im pending Treasury financing . . . m ilitated against a
change in m onetary policy at present.

. . . the risks that under present conditions in financial
markets even a modest move tow ard grea te r m onetary re­
straint at this time m ight have an exagg erated impact on
market expectations and result in sharp further increases
in interest rates, with attendant adverse effects on depositary
type financial interm ediaries . . .

Septem ber 1 2

Members of the m ajority advanced various reasons in
support of this course, including the desirab ility of
w aitin g for firmer indications of the likely nature of
action b y Congress with regard to the President’s
tax proposals.

. . . greater m onetary restraint at this time might
have an exaggerated impact on market expectations
and result in sharp further increases in interest rates,
w ith attendant adverse effects on . . . the position
of sterling in the foreign exchange markets.

. . . existing uncertainties with
respect to the extent, du ration ,
and ultimate economic effects
of the strike in the autom obile
industry.

. . . the uncertainties rega rding
the extent and duration of the
autom obile industry strike.

O cto ber 3

The Tre a s u ry’s current bill financing a n d , more im portantly,
the No ve m b er refun din g soon to fo llo w also were cited as
considerations arg u in g against a change in m onetary policy
at this juncture.

. . . the risk that under present financial m arket conditions
a n y firm ing action at this time w ou ld lead to sha rply higher
interest rates, w ith possible undesired effects on financial
interm ediaries . . .

. . . the desirab ility of aw a itin g firmer indications
of the prob ab le actions b y Congress with respect to
Federal taxes and expenditures . . .

. . . a n y firm ing action at this time w o u ld lead to
sharply higher interest rates . . . w ith possible u n ­
desired effects . . .
on the position of sterling in
foreign exchange markets.

O cto ber 24

. . . the forthcom ing Treasury financing precluded a n y change
in m onetary policy at this time.

In a d d itio n , it was noted that further increases in market
interest rates at this time m ight well have undesired effects
on flows of funds to financial interm ediaries . . .

. . . the continuing uncertainties rega rding the
probable outcome of the current congressional debate
on fiscal policy measures.

. . . further increases in market interest rates at this
time m ight well have undesired effects . . . on the
position of sterling in foreign exchange markets.

N o ve m b er 1 4

. . . the Comm ittee agreed that no change should
be m ade in m onetary policy at this time, in vie w of
the sensitive state of conditions in foreign exchange
markets and of the international negotiations now
un de rw a y.

N o ve m b er 27

December 12

Th e Comm ittee took note . . .
of the continuing uncertainties
with respect to international
developm ents and their possible
impact on domestic financial
markets.
. . .
the constraint imposed from time to time b y Treasury
financing activity w as absent for the time being.

. . . the decision to move tow ard o n ly s ligh tly firmer c on di­
tions — a n d to provide for modifications of operations in
the event that unusual liq u id ity pressure developed — re­
flected in part continuing concern about the possible adverse
effects of higher interest rates on financial interm ediaries . . .

Efforts to achieve a measure of fiscal restraint through
enactment of a surcharge on income taxes had
proved un availing in the 1 9 6 7 session of Congress.

The constraint on m onetary policy resulting from the
pressures on sterling in foreign exchange markets had
been rela xe d, although not com pletely rem oved, by
the devaluation of the po u n d ; . . .

S O U R C E : Federal Open Market Committee

Policy Record Entries.


Page 16


Page 17

volving merely a roll-over of maturing securities into
new issues. Even keel may be invoked when a sizable
amount of new cash is involved, such as in an offering
of tax anticipation bills. Whenever a coupon issue is
involved, the even keel constraint virtually always is
invoked.
In the second half of 1967 the even keel constraint
was cited in four FOMC directives: July 18, August
15, October 3, and October 24. At the December 12
meeting it was cited as being, at that time, absent
as a constraining factor. In the first two cases the
proviso clause read, “. . . but operations shall be modi­
fied insofar as the Treasury financing permits to mod­
erate any apparent tendency for bank credit and
money to expand more than currently expected.” In
the October directives the proviso clause read, “. . . but
operations shall be modified, to the extent permitted
by Treasury financing, to moderate any apparent
tendency for bank credit to expand significantly more
than currently expected.”
Bank credit, as noted previously, continued to rise
rapidly throughout the last half of 1967 until late in
the period. At most of the FOMC meetings the Com­
mittee staff’s near term projections were for rapid,
bank credit expansion. One interpretation of this con­
tinued expansion in bank credit suggests that bank
credit was allowed to expand in line with these
projections so there was no need to invoke the proviso
clause. Another interpretation would be that even
keel considerations during the Treasury financings
were viewed as not permitting any change in the
rate of bank credit expansion because actions to
reduce the rate of expansion would have resulted in
higher interest rates, with possible undesired economic
effects.

C oncern Over R enew ed Disintermediation
Market interest rates rose markedly in the fall of
last year, and concern was expressed by a majority
of the FOMC that deposit type financial intermedi­
aries again could be in the same undesirable position
they were during the period of monetary restraint in
1966. Regulatory agencies have imposed ceilings on
interest rates paid on commercial bank time and
savings deposits, mutual savings bank deposits, and
savings and loan association share accounts. In the
last half of 1966 market interest rates exceeded by
a substantial margin these ceiling rates. As a result,
these financial intermediaries lost funds to the money
and debt markets, and the construction industry,
which is a major outlet for funds acquired by these
intermediaries, was severely depressed.
The Policy Record of the October meetings of the

Page 18


FOMC indicate a prevailing concern on the part of a
majority that a similar situation for financial inter­
mediaries and the construction industry possibly
could develop if a policy of restraint was adopted.
Furthermore, even though a policy of restraint was
adopted at the December 12 meeting, die proviso
clause called for modification in open market opera­
tions if there developed
. . any unusual liquidity
pressures.” Deposit type financial intermediaries make
quarterly or semi-annual interest and dividend pay­
ments at the end of a calendar year and are subject
to withdrawals of funds by depositors at that time.
In the event that funds flowed out of these institu­
tions in great amounts, restraint was to be abated.

Pending Fiscal Actions
The President’s January budget message for the
1968 fiscal year called for a 6 per cent surtax on both
personal and corporate incomes. Action on this pro­
posal was not taken by Congress, and in August of
last year the President requested a 10 per cent surtax.
The FOMC directives of August 15 and September
12 cited this proposal as one “which would make
a substantial contribution to balanced economic
growth.” The October 3 directive said, “The Presi­
dent’s new fiscal program is still pending before
Congress.”
A major argument advanced against a shift toward
a more restrictive monetary policy early last fall was
that a marked change should wait until there was
evidence that there would be some measure of fiscal
restraint. In addition to restraining inflation, it was
argued by various individuals in the Federal Reserve
System and in the Administration that a tax raise was
needed to avoid higher interest rates. The tax in­
crease would tend to limit the demand for funds by
businesses and consumers competing with Treasury
financings of a sizable deficit Also, greater govern­
ment revenues would reduce the size of the deficit
requiring financing. The Committee chose to delay a
move toward monetary restraint when there was the
possibility of fiscal restraint.

Position of the British Pound
The position of British pound in foreign exchange
markets, according to FOMC records, was of con­
tinuing concern during the last half of 1967. Again,
the expectation that monetary restraint would result
in markedly higher interest rates caused some mem­
bers of the Committee to caution against a policy
change. It was argued by some that higher interest
rates in this country would cause a capital outflow
from the United Kingdom, with corresponding pres­
sure on the British international reserve position.

Two Other Constraints
There are two constraints on monetary management
which have been of constant concern for many years.
One is a knowledge constraint and the other is an
orderly money market constraint. Both of these con­
straints were present in the last half of 1967.
The knowledge constraint refers to a lack of knowl­
edge of the precise state of the economy and of the
specific impact on economic activity resulting from a
change in monetary policy. Since economic data are
reported with a considerable time lag, are frequently
revised, and are subject to random forces, it is diffi­
cult to recognize a turning point in economic activity
until much time has lapsed. Moreover, the scientific
underpinnings of monetary management are still very
inadequate. There are major debates over the channels
of monetary influence on economic activity, as well as
debates over the relative strengths of different policy
prescriptions.
As a result, in the early summer of last year there
was disagreement in the Committee over the precise
direction in which economic activity was moving.
Then, when agreement was reached that inflation
was prevalent, lack of precise knowledge led to cau­
tious probing; that is, small changes in policy and in
its implementation.
The second constraint is the desire for preventing
disorderly money market conditions. Such conditions
are characterized by a movement in prices of govern­
ment securities, either up or down, which tend to be
self-aggravating. Expectations of market participants
are cited as causes of such price movements. There
was little need to be concerned over this constraint
last year, but it was cited in the last directive of the
year which marked a change in emphasis toward
monetary restraint. The proviso clause in that directive
allowed for modification in open market operations to
“moderate any apparently significant devitions of bank
credit from current expectations or any unusual liquid­
ity pressures.”

Results of Constraints
The result of constraining monetary actions during
most of the last half of 1967 was continuation of
very expansionary monetary policy during the period
of emerging inflation. Our interpretation of these
events is that the factor underlying each con­
straint was a concern over interest rates rising too
high. There appears to have been concern that inter­
est rates should not rise sharply during even keel
periods, that market interest rates above ceiling rates
would cause disintermediation, that fiscal restraint
was needed to avoid a marked rise in interest rates,



and that a marked rise in this country’s interest rates
could further weaken the position of the pound sterl­
ing.
In retrospect, the imposition of these constraints on
monetary management in some instances was not
necessary, in other instances was not successful, and
in the longer run was self-defeating. Interest rates
were markedly higher in late 1967 than in the early
fall, reflecting, in part, the stimulus given to economic
activity during early 1967 by expansionary monetary
actions. Nevertheless, the Treasury financings were
successful, and substantial disintermediation did not
occur. Despite efforts to dampen the upward trend in
this country’s interest rates, the United Kingdom de­
valued its monetary unit.
CO N CLUSIO N S

In the early 1960’s the term “fine tuning” was de­
veloped with reference to economic stabilization ac­
tions. It was believed that the science of economics
had progressed to the point where carefully designed
adjustments in fiscal actions and monetary manage­
ment could keep the economy moving over time in
such a manner as to be consistent with its over-all
economic goals. In this process of “fine-tuning,” fiscal
policy was usually assumed to play the major role,
with monetary management assigned a subsidiary
role.
The record of stabilization actions during the last
half of 1967 indicates that the potential for fine tuning
was not achieved. In theory, both fiscal actions and
monetary management have the potential for readily
being reversed when there are major changes in
economic activity; but the achievement of needed
economic restraint through either fiscal actions or
monetary management was not realized until late in
1967. There was no conflict during the period be­
tween domestic and balance of payments goals be­
cause economic restraint was consistent with the
achievement of both.
Stabilization authorities recognized the need for
policy changes during the period. The President’s
budget message in early 1967 called for a 6 per cent
surtax on incomes as a means of combating anticipated
inflation later in the year. A 10 per cent surtax was
recommended in August. Despite the recognition of
serious inflationary pressures at that time by most
experts, the tax proposals were not adopted by Con­
gress. On the other hand, prominent members of
Congress called for reductions in Government ex­
penditures along with a hike in taxes, but such reduc­
tions were not forthcoming. This impasse demon­
strates that the potential for fine tuning by fiscal
Page 19

actions is very difficult to achieve in our present
environment.
According to the discussions presented in its policy
record, the desirability of restraint was recognized by
members of the Federal Open Market Committee in
early fall. However, several constraints on adoption of
a restrictive monetary policy were invoked by a
majority of the Committee. Thus, the FOMC chose
not to exercise monetary management’s potential for
fine tuning during a period when monetary restraint
was appropriate.
The economy paid a price as the result of delaying
a move toward a more restrictive stabilization policy.
Inflationary pressure increased greatly late in the year
and has continued well into 1968. There was a wor­
sening in the U.S. balance of payments position and
an accompanying gold problem. By attempting to hold
back interest rate increases, the Federal Reserve Sys­
tem both validated and stimulated demands for credit
by businesses and the Federal government. Conse­
quently, such monetary aggregates as the monetary
base, bank credit, and the money stock rose rapidly
up to almost the year’s end. The rapid monetary
expansion contributed further to inflationary pressures.

Several lessons for economists, analysts, and policy
makers also are available from the stabilization exper­
ience in the second half of 1967. First, appropriate
fiscal action during a period of needed restraint seems
to be at times most difficult to achieve. Second, de­
laying the implementation of monetary restraint in
order to realize intermediate goals or objectives in­
volves a cost to the economy in terms of price
stability. Finally, the fact that rapid increases in
interest rates during 1967 did not lead to appreciable
financial disintermediation, or did not significantly
interfere with Treasury financing activities, suggests
that the threshold for such developments might have
been underestimated.
The developments in 1967 carry important implica­
tions for the theory of economic stabilization policy.
Stabilization theory generally has ignored, up to now,
the problems related to adopting and implementing
a policy change, particularly a move toward restraint.
Until these two problems are solved, the following
question should be kept in mind: What changes within
our present economic, political, and social environ­
ment are necessary in order to carry out a rational
economic stabilization policy?

L

eon a ll

M

This article is available as reprint series No. 28.


Page 20


)

ic h a e l

C . An d ersen

O.

R ig g