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REVERBERATIONS OF «55 Address by Delos C. Johns P r e s i d e n t , F e d e r a l R e s e r v e Bank of St. Louis Before the Eighth National Credit Conference Sponsored by the A m e r i c a n B a n k e r s Association Conrad Hilton Hotel, Chicago, Illinois Tuesday afternoon, J a n u a r y 17, 1956 REVERBERATIONS OF '55 1. At the turn of each y e a r it is the habit of thoughtful o b s e r v e r s to reflect on the events of the p a s t year and to a s s e s s the gains or l o s s e s , a s the c a s e may be- The r e v e r b e r a t i o n s of the old y e a r s continue for i n d e t e r m i n a t e p e r i o d s of t i m e . They a r e of many tones and overtones blending into a complex which i s p e r h a p s beyond the capacity of m o s t e a r s to h e a r and minds to comprehend in its e n t i r e t y . a r e attuned to different components. Different e a r s Different minds select different a s p e c t s of the whole upon which to m e d i t a t e . As senior officers of major c o m m e r c i a l banks throughout the country your e a r s a r e , of c o u r s e , m o s t sensitively tuned to the economic and b u s i n e s s tones in the r e v e r b e r a t i o n s of 1955, to the overtones of c r e d i t demand and supply, to the throbbing r h y t h m s of economic growth and development. As attention is focused for the next few m i n u t e s on some of t h e s e things, we shall not be slighting all the r e s t that happened in 1955. We shall be doing what c o m e s n a t u r a l l y to A m e r i c a n b a n k e r s convened in a National C r e d i t Conference. I hardly need say to this audience that the y e a r 1955 was one of r e m a r k a b l e achievement. It w a s , of c o u r s e , a year of p r o s p e r i t y , of pulsing activity in which s c a r c e l y a significant b u s i n e s s indicator took an a d v e r s e turn. It was m o r e than t h i s , however. 1955 was a y e a r in - 2 which the t r e m e n d o u s r e g e n e r a t i v e power of the economy i m p r e s s e d even the l e a s t optimistic o b s e r v e r s . What I call r e g e n e r a t i v e power, let m e h a s t e n to add, is not the same as r e c u p e r a t i v e power. The economy h a s always been able eventually to r e c o v e r from d e p r e s s i o n . What was of special i n t e r e s t in 1955 was the ability not only to r e c o v e r lost ground but beyond that to achieve n e a r l y 100 p e r cent of an expanding potential in so short a t i m e . By way of c o m p a r i s o n , our e m e r g e n c e from the 1948-49 r e c e s s i o n , though apparently accomplished by e a r l y 1950, h a s always been clouded by the possibility that the Korean war strongly a s s i s t e d the outcome. No s i m i l a r doubt could be r a i s e d about our e m e r g e n c e from the r e c e s s i o n of 1953-54. Only a t r e m e n d o u s , spontaneous vitality of the economy could account for it. F r o m the third q u a r t e r of 1954 to the fourth q u a r t e r of 1955 the g r o s s national product s o a r e d from an annual r a t e of $355 billion to an e s t i m a t e d r a t e of $398 billion, a r i s e of 12 p e r cent. During five s u c c e s s i v e q u a r t e r s t h e r e was a jump in GNP averaging m o r e than $8 billion p e r quarter. Total product for the y e a r 1955 approximated $387 billion, a gain of $27 billion over 1954. w e r e likewise s p e c t a c u l a r . Changes in the volume of physical production F r o m a low point of 123 in July and August of 1954 the seasonally adjusted F e d e r a l R e s e r v e Index r o s e to 144 late in 1955, an i n c r e a s e of one-sixth. At the y e a r ' s end, though i n c r e a s e s in - 3 output w e r e still p o s s i b l e in many l i n e s , some key i n d u s t r i e s had r a m m e d up against capacity. Toward the end of 1955 we all looked intently behind these g r e a t economic a g g r e g a t e s to see what had made the economic machine a c c e l e r a t e with such power. To which of the major c a t e g o r i e s of i n c o m e - g e n e r a t i n g expenditures could so brilliant a r e c o v e r y be a t t r i b u t e d ? to government p u r c h a s e s of goods and s e r v i c e s . C e r t a i n l y not Outlays of the F e d e r a l Government fell a little from the 1954 figure, being about offset by a slight i n c r e a s e in state and local e x p e n d i t u r e s . M o r e o v e r , the F e d e r a l budget was c l o s e r to being in balance than it had been in s e v e r a l y e a r s , p r e l i m i n a r y e s t i m a t e s indicating that the c a s h deficit for the year was probably under a billion d o l l a r s . Although exports and i m p o r t s both r o s e during the y e a r , the net effect of the change on economic activity was not g r e a t . The 1955 addition to income can be accounted for only by g r e a t l y enlarged consumption expenditures and by i n c r e a s e s in p r i v a t e investment, p a r t i c u l a r l y outlays on new capital goods. A c l o s e r inspection of the data t e l l s us that 1955 was in a s e n s e dominated by the c o n s u m e r . Of the some $27 billion of new g r o s s product c r e a t e d during the y e a r , m o r e than one-half r e s u l t e d from i n c r e a s e d - 4~ expenditures of households for durable and nondurable goods and for services. And if outlays on r e s i d e n t i a l construction also a r e c o n s i d e r e d as consumption expenditures, p e r h a p s t w o - t h i r d s of 1955 f s new g r o s s product was accounted for by the r i s i n g budgets of A m e r i c a n f a m i l i e s . Changes in business expenditures w e r e also important, to be s u r e . Especially was this t r u e of amounts spent on p r o d u c e r s 1 durable equipment, which moved up sharply from the second q u a r t e r on. But the m o s t noteworthy c h a r a c t e r i s t i c of 1955 b u s i n e s s expenditures was the r e l a t i v e l y low r a t e of inventory investment during m o s t of the y e a r . In fact, in m o s t major manufacturing i n d u s t r i e s sales advanced at a m o r e rapid r a t e than i n v e n t o r i e s , so that in the l a t t e r months of 1955 s t o c k - s a l e s r a t i o s in some lines w e r e at their lowest levels in y e a r s . C o n s u m e r s simply took final p r o d u c t s from the m a r k e t in g r e a t e r quantities than ever before. In the brief m i n u t e s available to m e this afternoon we can not examine in detail the v a r i o u s r e a s o n s for the boom in c o n s u m e r spending. After g e n e r a l l y surveying the m o r e i m p o r t a n t ones - r i s i n g i n c o m e s , a p e r s i s t e n t postwar tendency on the p a r t of households to budget m o r e for durable goods, intensified selling efforts, and so on - one c e n t r a l fact stands out: a l a r g e proportion of A m e r i c a n families d e m o n s t r a t e d an unprecedented willingness to go into debt. Total c o n s u m e r c r e d i t outstanding at the end - 5 - of the y e a r , according to p r e l i m i n a r y e s t i m a t e s , amounted to about $36 billion, of which at l e a s t $28 billion was i n s t a l m e n t c r e d i t . An i n c r e a s e in i n s t a l m e n t c r e d i t of m o r e than $5 billion, or 20 per cent, over the past y e a r g r e a t l y exceeded e s t i m a t e s as of the end of 1954. S c a r c e l y l e s s i m p r e s s i v e was the i n c r e a s e of about 18 p e r cent (to $89 billion) in m o r t g a g e debt outstanding on u r b a n r e s i d e n t i a l p r o p e r t i e s . These l a r g e upswings in c o n s u m e r and m o r t g a g e c r e d i t have given r i s e to some concern. It is t r u e that the stimulus they gave to household spending h a s not produced a sharp r i s e in c o n s u m e r p r i c e s , which r e m a i n e d a l m o s t constant throughout 1955. Also t h e r e was no c l e a r evidence that c o n s u m e r and r e s i d e n t i a l m o r t g a g e debt, at p r e s e n t levels of disposable income, had s e r i o u s l y aggravated collection p r o b l e m s . N e v e r t h e l e s s , some s e r i o u s doubt does a r i s e a s a r e s u l t of t h e s e l a r g e expansions of debt. Encouraged by c r e d i t so r e a d i l y available, w e r e not c o n s u m e r s , as distinguished from b u s i n e s s f i r m s , too rapidly accumulating " i n v e n t o r i e s " ( i . e . , holdings) of durable goods? Periods of swift durable goods formation, whether at the p r o d u c e r or c o n s u m e r level, have in the p a s t been followed by p e r i o d s of r e t a r d a t i o n in the r a t e of accumulation. A question which has been asked so frequently of l a t e , and which i s still r e v e r b e r a t i n g in 1956, is t h i s : can c o n s u m e r s continue - 6 - to add to their p r e s e n t huge stocks of d u r a b l e s at anything like the r a t e they maintained in 1955? In the p r o d u c e r s 1 m a r k e t , a s I have a l r e a d y said, inventory accumulation p r e s e n t e d no s e r i o u s p r o b l e m in 1955 with the exception of a few lines toward y e a r f s end. Indeed, in this m a r k e t the boom was manifested in quite a different way. As production g e n e r a l l y i n c r e a s e d throughout the y e a r , m a n u f a c t u r e r s at f i r s t utilized m o r e fully their existing plant and their a l r e a d y employed work force, and p r i c e s of industrial m a t e r i a l s r e m a i n e d quite stable until about m i d - y e a r . But as activity went on a p a c e , unemployment fell, and in many i n d u s t r i e s , especially in those supplying e s s e n t i a l m a t e r i a l s , output approached the l i m i t s of existing capacity. The r e s u l t was a slow but nonetheless p e r s i s t e n t upward p r e s s u r e on i n d u s t r i a l p r i c e s . F u r t h e r m o r e , by the third q u a r t e r of the y e a r , world i n d u s t r i a l production was up m o r e than 10 p e r cent from a y e a r before, and in world m a r k e t s , p a r t i c u l a r l y in m e t a l s , p r i c e s r o s e rapidly. The stability of the p r i c e r e c o r d for 1955 as shown by the index of wholesale p r i c e s is i l l u s o r y , for the index of all commodities r o s e l e s s than two points during the y e a r . However, the r a t h e r s e v e r e downward - 7 - movement of f a r m p r i c e s and the somewhat l e s s pronounced fall in the p r i c e s of p r o c e s s e d foods exerted a d r a g on the whole index. F r o m June through October i n d u s t r i a l p r i c e s r o s e by approximately one index point p e r month. The r i s e has since been g e n t l e r , but the i n c r e a s e for the y e a r was in the neighborhood of 4 per cent, with some further i n c r e a s e s pending in i n d u s t r i e s which have r e a c h e d capacity output. No one familiar with the facts of economic life would argue that in a period of g r e a t p r o s p e r i t y all p r i c e s should r e m a i n rigid. If the pricing m e c h a n i s m is to p e r f o r m its e s s e n t i a l function of allocating s c a r c e r e s o u r c e s , an i n c r e a s e in the p r i c e of a m a t e r i a l for which t h e r e is heavy demand s e r v e s to m o d e r a t e the demand and thus to a s s i s t in keeping the productive p r o c e s s in balance. Yet p r i c e r i s e s of the magnitude o b s e r v e d in late f 55 r e m i n d us of a familiar proposition in economics: once r e s o u r c e s a r e utilized a s fully as may be consistent with n o r m a l efficiency, increasing money demand for goods g e n e r a l l y r e s u l t s in p r i c e i n c r e a s e s proportionately g r e a t e r than production i n c r e a s e s . To date it m a y be thought that inflationary p r e s s u r e s have been contained fairly well. N e v e r t h e l e s s , a second question sounds loud and c l e a r in the r e v e r b e r a t i o n s of 1955: if growth in demand for goods continues in the n e a r future as it did in the l a s t y e a r , can the r e c e n t r e l a t i v e stability of c o n s u m e r and wholesale p r i c e s be maintained? - 8 How the two p r e s s i n g economic questions of the day, which we have stated, will be a n s w e r e d depends on a v a r i e t y of f a c t o r s . I wish to speak of but two of them during the r e m a i n d e r of this talk: f i r s t , the actions of the c e n t r a l bank, and, second, the actions and r e a c t i o n s of commercial bankers. In coming months these f o r c e s will influence strongly the c o u r s e of economic life in this country. Indeed, in the events of the p a s t twelve months we can see how they helped shape the t r e n d s of 1955. The broad outlines of F e d e r a l R e s e r v e policy in 1955 a r e by now familiar. When the magnitude of the r e c o v e r y in the fourth q u a r t e r of 1954 became apparent, in D e c e m b e r of that y e a r , the F e d e r a l R e s e r v e shifted away from a policy of active e a s e . B u s i n e s s , of c o u r s e , continued to show strong expansionary force as the y e a r advanced, and System policy gradually became m o r e r e s t r i c t i v e . You all know what actions w e r e taken. Member bank borrowings w e r e made p r o g r e s s i v e l y m o r e costly a s the discount r a t e was r a i s e d four t i m e s , from 1 1/2 p e r cent in April to 2 p e r cent in August, to 2 1/4 p e r c e n t in September, and to 2 1/2 p e r cent in November, Open m a r k e t operations w e r e conducted with a view of r e s t r i c t i n g the total supply of r e s e r v e s available to the c o m m e r c i a l banks. The r e s u l t s of System policy and action coupled with the i n c r e a s i n g demand for c r e d i t w e r e reflected in money r a t e s and c r e d i t availability. - 9 - Short i n t e r e s t r a t e s responded to the upward m o v e m e n t s of the discount r a t e and r o s e r a t h e r sharply r e l a t i v e to long r a t e s . The slope of the yield c u r v e thus changed substantially, a development which apparently c a m e as a s u r p r i s e to some people who had forgotten, or had never seen, a yield curve that was n e a r l y h o r i z o n t a l . And yet such a development is quite n a t u r a l in a period of rapid expansion w h e r e a t t e m p t s a r e m a d e to hold down the supply of r e s e r v e s . Let me interpolate a point h e r e which m o s t , if not all, of you know. T h e r e is some lack of understanding as to the r e s p o n s i v e n e s s of c o m m e r c i a l banks to a c e n t r a l banking policy of c r e d i t r e s t r a i n t . C o m m e r c i a l bank lending in its d a y - t o - d a y operation is r e s p o n s i v e to F e d e r a l R e s e r v e r e s t r a i n t , but as a p r a c t i c a l m a t t e r that r e s t r a i n t does not, and should not, bring the financial community to a sudden standstill. F e d e r a l R e s e r v e r e s t r a i n t of the flow of c r e d i t i s something like the slowing of an automobile in motion. "Adjustment of the volume, availability, and cost of bank c r e d i t " i s a meaningful p h r a s e only if the economy i s in motion. Given that p r e m i s e , F e d e r a l R e s e r v e r e s t r a i n i n g actions can and do affect the flow of bank c r e d i t ; r e s t r a i n t tends to r e t a r d the flow. Existing m o m e n t u m alone will c a r r y the economy forward even after the b r a k e s have been applied, and in some boom p e r i o d s it s e e m s that factors other than c r e d i t , or at l e a s t f a c t o r s other than F e d e r a l R e s e r v e action, still keep a fairly heavy foot on the a c c e l e r a t o r even - 10 while the c r e d i t brake is being applied. During 1955, F e d e r a l R e s e r v e policy and action w e r e designed to furnish some net additions to bank r e s e r v e s and t h e r e b y to p e r m i t additions to the nation 1 s c r e d i t supply coming from c o m m e r c i a l banks. In other w o r d s , System policy did not a i m at reducing outstanding c r e d i t , but did aim to keep the r a t e of c r e d i t expansion within r e a s o n a b l e bounds. The policy of m o n e t a r y r e s t r a i n t s e e m e d to attain i t s i m m e d i a t e objectives. The money supply i n c r e a s e d by l e s s than 3 p e r cent in 1955. Such a modest growth in the money supply during a boom period would not of itself g u a r a n t e e the abatement of inflationary p r e s s u r e s , but taken in conjunction with other data it was helpful. The r e l a t i v e s c a r c i t y of money was evidenced in p a r t by a m o d e r a t e i n c r e a s e in deposit t u r n o v e r , an indication that a given amount of money was being put to m o r e intensive use. P e r h a p s a m o r e significant indicator of the r e s t r a i n t upon the c o m m e r c i a l banking s y s t e m was the d e c r e a s i n g liquidity of m e m b e r banks. As total a s s e t s and total deposits r o s e slightly during the y e a r , banks disposed of liquid a s s e t s , so that the r a t i o s of liquid a s s e t s to total a s s e t s and of liquid a s s e t s to total deposits continued a decline which has been going on with only minor i n t e r r u p t i o n s since 1952. So much for F e d e r a l R e s e r v e policy and action. Now, let us - 11 consider the second influence: the actions and r e a c t i o n s of c o m m e r c i a l b a n k e r s who play their r o l e against this background. I want to come at this second point in a s o r t of roundabout way and begin by a simple d e s c r i p t i o n of the study of e c o n o m i c s . field is concerned with the allocation of s c a r c e r e s o u r c e s . This intellectual Scarcity, of c o u r s e , is a r e l a t i v e t e r m ; it implies that supply is l e s s than demand, r e g a r d l e s s of how l a r g e the absolute supply i s . And s c a r c i t y also i m p l i e s that r e s o u r c e s be used in the best way, that i s , that we economize in their u s e . In a time of m o n e t a r y r e s t r a i n t bank c r e d i t i s a s c a r c e r e s o u r c e , and it i s the job of bank lending officers to allocate it. A r e a l i s t i c view of the bank lending p r o c e s s r e c o g n i z e s that t h e r e a r e a number of other forces influencing the bank lending officer in addition to the c u r r e n t legal r e s e r v e position of the lending bank, i t s probable inflow of funds and the cost and s o u r c e of additional r e s e r v e s . E v e r y lending officer wants to make loans that will be repaid; he wants to see the economy grow; he wants to s e r v e his c u s t o m e r s and make new o n e s ; he wants to make profits for his bank. In short, he i s motivated by n o r m a l , competitive f o r c e s . He does his job by screening b o r r o w e r s , by meeting c r e d i t worthy needs in his community and, p e r h a p s , e l s e w h e r e a s well. He t r i e s to - 12 - take c a r e of good c u s t o m e r s of long standing and to take c a r e of new b o r r o w e r s who have p r o s p e c t s for growth and who can in t i m e become good c u s t o m e r s of long standing. He t r i e s to pick the best b o r r o w e r s to a c c o m m o d a t e first simply because they can u s e the funds m o s t efficiently and thereby contribute to community growth and g e n e r a l economic expansion. Let us put together F e d e r a l R e s e r v e policy, the need to economize in the u s e of a r e l a t i v e l y s c a r c e r e s o u r c e (in this c a s e , lendable funds) and the motives and actions of bank lending officers during 1955. Federal attempted to keep the supply, c o s t and availability of bank r e s e r v e s in line with sound and sustainable high level economic activity. Demand for funds was l a r g e r than supply and thus the r e s o u r c e w a s , and b e c a m e , more scarce. The lending officer's job of allocating this s c a r c e r e s o u r c e b e c a m e p r o g r e s s i v e l y h a r d e r to c a r r y out in 1955 because of the p r e s s u r e of demand. By and l a r g e , however, he s e e m s to have done his job r e a s o n a b l y well. I a m s u r e that m o s t or all of you r e c o g n i z e that by m e r e l y p e r f o r m i n g your economic function you aid in effectuating m o n e t a r y policy. In fact, under our economic s y s t e m m o n e t a r y policy simply cannot be applied smoothly except when the nation 1 s c o m m e r c i a l b a n k e r s do a good job a s bankers. Their multitudes of individual d e c i s i o n s , the e s s e n c e of a free - 13 - m a r k e t , bring about b e t t e r allocations of funds than any other s y s t e m yet devised. In this past y e a r we have bent our efforts, in c o m m e r c i a l banking and in c e n t r a l banking, to r e s t r a i n i n g a headlong r u s h of the economy into p o s s i b l e inflationary d a n g e r s . We m u s t m a k e the m o n e t a r y and c r e d i t i n s t r u m e n t s do t h e i r p a r t in sustaining c o n s u m e r demand and halting the r i s e of i n d u s t r i a l p r i c e s . If we d i s c h a r g e our r e s p o n s i b i l i t i e s well, the r e v e r b e r a t i o n s of '55 will m e r g e with the quiet sounds of an economy undergoing capacity changes consistent with the maintenance of stable p r i c e s . 000OOO000
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