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(Approximately 4?15 p.m.
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Friday» March 2, 1962)
CHANGES IN MONETARY AFFAIRS
Remarks of C. Canby Balderston,
Vice Chairman, Board of Governors of the Federal Reserve System,
Before the Fourth Annual Regional Conference of Student Chapters,
Society for the Advancement of Management,
Fordham University,
New York, New York.
C I W G E S IN MONETARY AFFAIRS
The meal you are about to be served has the following menu:
(1)
Bank competition and bank regulation.
(2)
Direct controls over materials, wages and prices and selective
credit controls.
(3)
General financial controls, both monetary and fiscal.
(4)
Differences in the impact of monetary and fiscal policies.
(5)
The adverse balance of payments.
Both here and in other parts of the world the pervasive role of banking
has long been recognized.
Banks have, therefore, attracted governmental regula
tion to an unusual degree.
In our country, entry into the industry requires a
federal or State charter.
The establishment of branches must have official ap
proval, except where State law prohibits branching entirely.
banks is controlled by law.
The merging of our
Their soundness is checked by examiners.
How much
may be loaned to a single customer or upon real estate collateral is regulated.
Although an effective monopoly in the holding of demand deposits has been given
to commercial banks, they are not allowed to bid for such deposits by the payment
of interest.
Moreover, they are limited as to the interest they may pay on savings
and time deposits, which hinders their competition for such deposits with rivals.
The reserves they are required to keep are higher than those required of other
financial institutions, and banks that belong to the Federal Reserve System must
keep these reserves in non-earning form.
Doubtless banks have needed the restraints
placed upon them to prevent recurrence of the abuses of an earlier day; the bank
failures of the 1930's were not the first outbreak of such economic sickness.
Not
only do banks handle other people's money, but the credit operations of the banking
system as a whole influence economic activity.
But banks, bound around by so much regulation, have also faced new and
vigorous competition in recent decades.
These competing institutions serve to
- 2 -
further mortgage and other long-term lending.
Except for their time deposits,—
usually not subject to unexpected withdrawals— banks have to eschew tying up an
undue proportion of short-term funds in longer-term investments.
And so there
is a place for mutual savings banks and for savings and loan associations.
The
latter's share capital has grown 340 per cent during the past decade, while the
savings deposits of commercial banks were growing only 115 per cent.
Savings and
loan associations bid actively for long-term savings to place in mortgages.
Some
also advertise for short-term funds that flow from all points of the compass to
the highest bidder.
The quick withdrawal of such "hot money" would teach once
more the lesson that adequate liquidity should be maintained against any holdings
of such volatile funds.
enter.
There are other areas that banks at first disdained to
In one of these, consumer credit, finance companies and credit unions led
the way and banks followed belatedly.
unions has grown over 400 per cent.
Since 1951, the share capital of credit
Thus banks face sterner competition both in
making loans and in securing deposits.
One cannot deny the necessity for legal and supervisory restraints upon
banks to prevent the repetition of past evils.
how much regulation is optimal.
It is opportune, however, to ask
Are banks likely to suffer from supervision to
the point where their social functioning is impaired?
too much?
How much regulation is
Excessive regulation may hold back progress by stifling initiative and
the willingness to venture.
It gives one pause that some commercial bankers pre
fer relatively riskless investments to the making of business loans needed by
their communities.
In contrast, some— but not all— bankers have long wished to be permitted
to pay higher rates of interest on savings and time deposits.
They have wished
to become more competitive at home and abroad to attract and retain savings.
The
recent lifting of the previous ceiling helps such banks to woo the saver, to reward
-
3
-
him, and perhaps to stimulate the saving process.
This permissive relaxation of
a ceiling that had been unchanged for five years called forth sincere, pained pro
tests.
The previous restriction had been clutched by some bankers as a protective
cloak against the competitive winds.
It is to be noted, however, that half of the
banks increased their rates on savings deposits shortly after the effective date of
the relaxation.
savings.
Over two-thirds raised their rates on time deposits other than
Some wished to-court savers and depositorsj others acted merely to meet
competition.
This recent history is recited to point up the question as to how much
bank regulation is just enough to prevent abuses that endanger bank solvency with
out being too burdensome on the banks themselves or upon those they should serve.
While the rivals of commercial banks have been growing in number and
size, the credit furnished by all types of institutions has multiplied.
In 1945
mortgage debt on all properties amounted to $35.5 billion, of which $5*4 billion
was held by savings and loan associations.
billion and $68 billion, respectively.
sumer instalment credit.
The current figures are over $220
Another spectacular rise has been in con
At the end of 1945, it amounted to less than $2.5 billionj
now, to over $42.5 billion.
Of these amounts, credit unions furnished only $100
million in 1945 as compared with nearly $4.5 billion at present.
Whatever one’
s
views as to the social desirability of so much consumer credit, of which about
$17 billion is in automobile paper, or from such heavy mortgage debt, of which
$150 billion is on houses ("one- to four-familyM), such credit introduces us to
that form of financial control labelled "selective”.
During World War II, selective control over consumer credit was employed
along with direct controls, such as rationing, and price and wage controls.
Again,
during the Korean war, along with the revival of direct controls, the regulation of
consumer instalment loans was reimposed to restrict the purchase of consumer durables,
- 4 like autos and radios.
The administrative difficulties growing out of the imposi
tion of such detailed regulation may be visualized from the fact that it covered
200,000 retail firms.
The latter were not all imbued with the requisite patriotism
for voluntary adherence to regulation, and although selective credit control did
help to dam up consumer demand during the War, it did not prevent an eventual out
burst of higher prices.
Close relatives of selective credit control are the direct controls
already mentioned.
controls.
Once World War II had ended, nations began to shake off such
One outcome was the progress achieved toward currency convertibility by
Britain and the nations of Western Europe.
purposes an accomplished fact.
By 1959, it was for all practical
For importers to be able to pay, in the currencies
of their own countries, for goods they had bought was a boon to international trade.
The discarding of wartime controls in favor of general controls, both
fiscal and monetary, marked a return to free enterprise, and to the decentralized
decision making it permits.
The freedom to make private economic decisions is a
vital part of our system of economic and governmental organization.
It is essen
tial to freedom of the individual, which can be preserved only so long as it is
accompanied by wisdom and restraint.
The role of monetary policy is to regulate the reserves available to
commercial banks so as to promote economic growth, high levels of employment,
and reasonable stability of prices.
It is this responsibility, so vital to the
protection of the integrity of the dollar, that has been delegated by Congress
to the Federal Reserve.
Yet the latter regulates money and bank credit only as
to their total supply, not their allocation to firms and individuals.
Such al
location is left to the competitive forces of the market, except where Congress
intervenes through taxes, appropriations, or governmental guarantees, or where
supervisory regulations govern bank liquidity and soundness.
Thus, in the main,
- 5decentralized decision making of individual borrowers and lenders determines the
use of the economy's resources.
The great value of monetary policy as a contra-cyclical device is its
flexibility.
This flexibility makes the timing of monetary actions more precise
and manageable than is the case with fiscal policy.
Fiscal policy embraces debt management, federal spending, and taxing.
Although in the long run it may be even more potent in helping promote economic
growth and stability than is monetary policy, inability to time its impact makes
difficult its effective implementation to combat cyclical variations.
It may be
said that our present fiscal structure possesses tremendous contra-cyclical automaticity, with substantial deficits developing even in mild recessions, and dis
appearing with recovery to nearly full utilization of resources.
Yet any more
delicate adjustment to combat cyclical movements through changes in governmental
spending and taxing is difficult, because the impact is so delayed that the
stimulation is likely to be felt after the private sector has already recovered.
The result is to pyramid demands to the point where resources— human and other—
are placed under strain, and costs and prices are pushed upward.
For example, the Congressional appropriations of 1958, whose effects
were intended to be contra-cyclical, actually accentuated the boom in the pri
vate sector of the economy a year later, even though the anticipation of Federal
spending may have shortened the decline that came to an end in April 1958.
More
over, this governmental spending in excess of receipts forced the Treasury to
borrow $11 billion (net) in the capital markets during 1959, a reminder that
spending decisions should take into account how the bill will be paid.
This
competition for savings with large and growing borrowing demands from private
industry, and from State and municipal governments, forced interest rates to
peak levels in the fall of 1959.
The magic 5's issued by the Treasury at that
- 6 time mark the high level to which interest rates were pushed.
U. S. interest rates
then were at the highest level in three decades because of the pressure of the de
mand for funds.
The efficient flow of funds from savers to borrowers, directly and
through intermediaries, does not come about without a price.
This price, i.e., the
rate of interest, represents a penalty to those who use someone else's money, and a
reward to those who save and risk their funds in loans and investments.
Now I turn to recent shifts in emphasis in the management of the monetary
and fiscal affairs of our country.
Other industrialized nations, such as Great
Britain, have long recognized the necessity of maintaining international equilibrium
in their balance of payments.
But in the United States the problem was different
because this country held the major portion of the gold stock of the western world
and also possessed the productive capacity to re-equip the devastated nations.
And
so, until 1958, the United States was concerned about a problem diametrically
opposite to our present international worry.
The two wars had so dissipated the
productive capacities of industrialized nations and their financial stability as
to create a "dollar gap".
The w a r - t o m countries, though they needed our exports
of material and of American-made equipment to rebuild their economies, did not have
the dollars with which to pay for them.
The problem of the United States was to
make cur allies and former enemies into viable customers again.
We sought to bridge
the dollar gap through private investments in, and governmental loans and guarantees
to, these countries.
So well did we succeed that the Marshall Plan is recognized
as a signal success.
By the late 1950's, the other industrialized countries had rebuilt their
manufacturing plants and had improved their management techniques so greatly that
they were not only in a position to supply more of their own rapidly-growing
domestic demands, but to compete vigorously for the export markets of the world.
One effect of the emergence of new productive capacity here and abroad
is downward pressure upon the prices of such physical goods as move in world trade.
- 7Our firms have begun to appreciate that excess, or even ample, productive capacity
is a powerful brake upon price advances.
No longer can they float off the effects
of imprudent wage-setting in the form of higher prices, because new choices have
been opened up to the consumer in the form of alternative sources and substitute
products.
Gradually the idea that an upward price drift is inevitable has been
dissipated as wholesale prices have moved slightly downward.
The disappearance,
for the time at least, of the expectation of price inflation has permitted the
Federal Reserve to continue to foster the expansion of bank credit in a way that
would not have been prudent for our country if price advances had stimulated in
ventory building and other forms of speculative ebullience.
Although the removal of direct and selective controls by other countries,
as they recovered from the damages of war, was a great advance for them and for
world trade in general, it created fresh problems and challenges for the United
States.
Once the currencies of leading countries became convertible, funds could
flow from one financial capital to another with alacrity.
Their movement may be
impelled by such forces as interest-rate differentials and speculation.
And so
this basic change has caused our fiscal and monetary policy-making to reflect the
need to maintain world confidence in the integrity of the dollar.
Serving as a
reserve currency and therefore as an alternative to gold, the dollar plays such
a vital role in lubricating international trade that loss of confidence in it
would be damaging both to the western world as a whole and to the United States.
An adverse balance of payments means to a foreign observer that our exporting is
not large enough to pay for the investing, lending and spending that our govern
ment and its citizens do abroad, and that our industry is failing to attract the
dollars that are available in the world.
The imperative need to improve our adverse balance of payments means
that either the United States must have more help from the industrialized nations
- 8in carrying the military and economic burdens of the western world, or our margin
of exports over imports must be increased.
Our country has had an adverse balance
in each year since 1950 except for the one year of 1957.
During each of the last
four years the red figure has been between $3 and $U billion, excluding prepayment
of debt.
The consequent accumulation of foreign claims upon our liquid dollar as
sets has increased especially fast when interest differentials induced American
and foreign holders of funds to invest them elsewhere, or when speculators pre
ferred to hold gold or some foreign currency instead of dollars, or some foreigner
delayed debt repayment to an American firm in the expectation that the dollar would
become cheaper or that his own currency would be revalued upward.
At times the
outflow of gold was strong, as in 1958, when the figure reached $2.3 billion; at
other times, as in 1959, the outflow was small even though foreign claims continued
to mount.
Fortunately, our exports have been exceeding our imports by a healthy
margin, thanks to the boom in Europe and in Japan.
But this sizable balance in
our current accounts has not been sufficient to offset the outflow of private
capital that has resulted from American investment abroad, and from the borrowing
by foreigners from our American banks, plus our vast governmental expenditures and
lending abroad.
Inducing other nations to assume a significant portion of the military
expenses of the western world, and of the capital needs of underdeveloped countries,
is a task for our Defense and State Departments.
It is beyond the compass of my
discussion, and so I shall return to the other side of the equation— the increasing
of our trade balance so that we can improve our ability to pay for our foreign
investing, spending, and lending.
The essential point is that our exports must
exceed our imports sufficiently to pay for our new investments abroad, plus the
military expenditures and economic aid across the seas that our world leadership
seems to entail.
This means products of the right design and quality offered at
- 9 the right terms and prices.
It is important to encourage American inventiveness
to create new products for the markets overseas.
and in management know-how.
Our country is rich in resources
But how much it can invest, spend, and lend abroad
depends basically upon how much more it exports than it imports.
This means that our firms must be competitive in world markets.
Foreign
customers will not remain wedded for long to American suppliers because of past
favors, if they fail to offer a better product at a lesser price.
It is time,
therefore, to take stock of our wage-setting and pricing policies to the end
that the prices quoted may promote the export trade needed to finance our country’
s
obligations.
If we inflate more than other countries, American firms stand to
lose an increasing share of the world market.
to imports entering our own markets.
The problem is similar with respect
To export freely we must import freely for
the raising of tariff and other barriers would not only invite retaliation, but
conceal the basic problem of keeping competitive.
Since America's goals will
not be achieved by inefficiency, the essential task is to keep down our costs by
investing, managing and working effectively.
Dr, Arthur F. Burns gave a prescription as to how to meet our economic
challenge in his talk last May to the American Iron and Steel Institute:
"--- - unless the government moves prudently in increasing the money
supply and its own rate of spending; unless trade union officials
keep their demands for wage increases from exceeding improvements
in general productivity; unless the government refrains from passing
laws that raise wages or prices; unless business firms and trade
unions join in efforts to remove restrictive labor practices and
the featherbedding in which both executives and workers sometimes
indulge; unless the government reforms our tax system in the in
terest of stimulating greater effort, more productive investment
- 10 "and higher efficiency; unless business men innovate vigorously and
lower prices whenever possible; unless these things are done and a
liberal policy toward imports is continued, we will not avoid new and
successive rounds of inflation."
A more immediate threat, however, is the risk that if these steps are
not taken, funds will flow abroad that otherwise would seek investment at home
and thereby help to create jobs.
This outcome would not be remedied, but
worsened, by an overly liberal fiscal policy and by too easy money.
On the
contrary, the task that faces our country involves hard thinking and hard de
cisions both for government and for business and labor.
@FedFRASER