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THE VOLUNTARY CREDIT RESTRAINT PROGRAM

:

An /-Address^by Oliver S. ^Powell, Member,
Board of Governors o? the Federal Reserve System,
Before Eastern Pennsylvania Group
of the
Investment Bankers Association of America,
The Bellevue-Stratford, Philadelphia, Pennsylvania

April 13, 1951^

THE VOLUNTARY CREDIT RESTRAINT PROGRAM
(Oliver S. Powell)
The title of this talk might have been labeled, "Learning to Live With
C l o n a l Defense."

Outside of actual war-time conditions, the United States for

^ r a t i o n s has found it possible almost to forget defense against outside enemies
to devote its energies completely to developing a higher standard of living at
home

*

Now we find ourselves the most powerful non-communist country in the World,

able

rac

to depend on other countries for protection only in very limited ways and

e d with the problem of rebuilding a strong national defense.
The problem resolves itself into one of increasing the production of

aef

e n s e items while maintaining the supply of civilian goods at as high a level

as

Possible.
If the total demand for goods exceeds the supply, prices go up.

inf

Iati0n.

pr

°gramt

K

°

rean

This is

It hurts the civilian economy and increases the cost of the defense
a considerable amount of price increase has already occurred since the

war began.
The r e s t r a i n t s a g a i n s t i n f l a t i o n a r y p r i c e a d v a n c e s m u s t c o v e r a b r o a d

nt

° *
t o

F i r s t of a l l is an a d e q u a t e t a x p r o g r a m .

Urease

their savings.

T h e n , people should be encouraged

A b n o r m a l p r o f i t m a r g i n s s h o u l d be d i s c o u r a g e d .

If commodity prices can be held in check, further rounds of wage
lncr

nc

eases should be avoided. Above all, individuals and businesses should be

°Uraged not to buy more than their normal requirements.
This address deals with one particular phase of inflation control.
As a beginning, I want to take you back to some elementary economics 0

n

e

° ^

°

CcUr

are dealing with inflation, we should recall that an increase in prices

s when the money supply increases more rapidly than the volume of business

Whe

n the rate of turnover of money increases to a point where the monetary work

-

d

°

ne

Stor

2

~

by the money supply is greater than needed for the Nation's business. This

y really starts back in 1934 with the devaluation of the dollar. That event

Mediately created an enormous increase in gold reserves which are the base of
th6
bank credit pyramid. In the next few years after devaluation, world events
°aused a tremendous inflow of gold into the United States, adding further to the
gold reserves. From that time on, the problem of monetary authorities has
Ce

ntered largely around the management of these large gold reserves in such a way

as to

prevent undue manufacture of credit and an inflation in commodity prices,

3

holds true t o d a y in spite of t h e g o l d e x p o r t s i n t h e l a s t y e a r and a h a l f .

There was a respite in the problem during World War II, In fact we were
er

f

y thankful to have such large gold reserves for these reserves made it possible
r

° th e banks of the United States to purchase Government securities in huge quanes

to provide for money for war over and above the amount provided out of
savings and taxes. However, at the close of the war the Nation found

tse

l f with bank investments and bank deposits greatly increased and as these bank

e p 0 s

i t s w e n t t o work for t h e p u r c h a s e of c i v i l i a n g o o d s , p r i c e a d v a n c e s

occurred

as g
o n

gre

as controls were removed. These price advances would have been much

ater except for a little-understood phenomenon in the behavior of bank deposits,
e 1

31 t

the fact that the turnover of bank deposits had declined steadily from
920's until 1945, In the 1920's an annual turnover of demand deposits from

0

t i m e s w a s c o n s i d e r e d n o r m a l for l e a d i n g c i t i e s .

By 1 9 4 5 t h i s

turnover

Had
e n

ne

rn

reduced to 16 so that a dollar of deposits was doing only half of the

tary work that it did in the 1920's. There has been some increase in deposit
over during the post-war years, but even the sharp increase since the Korean

Parted has not brought the turnover rate above 23 turns a year. If the owners
of b a n k
deposits were to use these deposits with the efficiency shov/n in the 1920's,

3
pric

-

e s could increase substantially from present levels without any further

U r e a s e in bank loans or investments,
/

Thus, we have two difficult factors in the money supply to deal with:
fire

t , large basic reserves which make it possible to increase the amount of bank

l

and bank deposits, and second, a rate of turnover of deposits which it has
demonstrated in former years can grow substantially above today's levels.
Both

bank credit and the turnover of bank deposits increased sharply in 1950 and

in
the early months of 1951.
The monetary authorities have made important moves in their field of
acti

°n to contract the inflationary effects of these increases. Last August, the

s

°ount rates of the Federal Reserve Banks were raised somewhat. The consumer

Cre

<Ut regulation was reestablishedc

A new regulation dealing with real estate

recl;

i-t
J
tigJ-i was imposed. Reserve requirements of member banks were raised to SUbstan-y their upper legal limits.
One of the most important tools of inflation restraint was practically
nUs

a b l e for several months. This was the employment of open market operations
were devoted almost solely to maintaining a pegged price for long-term

QVe

^nment securities. The pegging of the Government bond market had deep-seated
Psrnicious effects. Holders of long-term bonds instead of treating those

Cities
as true investments came to consider them equal to cash in liquidity,
they were the equivalent of cash so long as they could be sold to the
at a fixed rate and the market could be sure that it could sell them to the
6cier

al Reserve Banks at the same price. This caused the Federal Reserve Banks to
^facture
bank reserves at the whim of the holders of Government securities.
ft
e

ent

° ly, it became possible for the Federal Reserve authorities to cease their
at

" <ions in a pegged bond market and to change to support of an orderly Govern^nt
security market. The recent reduction in prices of long-term Government

-

4

konds has had far-reaching effects in the control of inflation.
Sec

~

Holders of those

Uriti e s have been reluctant to dump them on the market and as a result supplies

of

funds for mortgage loans and for many other types of credit have been reduced.
To complete the picture of moves toward inflation control in the

^ e t a r y and credit field, there is the Voluntary Credit Restraint Program.

This

°gram has been inaugurated under the provisions of Section 708 of the Defense
Auction Act, The authority to set up the Program was delegated to the Federal
He erv Board, which body must consult with the Federal Trade Commission and the
e
es

Att

orney General of the United States and the Program must have the approval of

th e

latter. A tentative Program was drafted by a group of investment bankers, com-

Jnerc

ial bankers and insurance company executives at the request of the Federal

HeS e r V e

Board, This Program, with certain changes, was approved by the Attorney

Ge
ner

ra

a l on March 9, 1951. The organization of the Program has been proceeding

Pidly since that date.
The first step was for the Federal Reserve Board to request all lenders

l n th

e United States to take part in the Voluntary Program. For this purpose a

Ler

was sent to some 90,000 lenders, the broadest list available to the Federal

S S e r v e

Scier

a n

Banks,

The next step was the appointment of a national Committee by the

al Reserve Board. In its original form, it consisted of four investment

W s , f o u r co^erciai bankers and four insurance company representatives, with
it

speaker as chairman. Further additions to the national Committee can be made
seems desirable to include spokesmen for other types of lenders on this

Q0lriIIl
ittee. Mo additions to the national Committee have been made up to the present
^ m e since many types of lending are already under various Government regulations,
fh
U s

are excluded from the Voluntary Program.

-

5

~

The national Committee has set u p regional committees to deal w i t h
^ b l e m s in three major lending f i e l d s .

There are four regional committees for

V e s t m e n t banking p r o b l e m s , four for life insurance and twelve for commercial
ba

nking%

Investment banking regional committees have their headquarters at New

Chicago, Dallas and San F r a n c i s c o .
h a s

The n a t i o n a l Committee feels that it

been extremely fortunate to obtain as regional committee m e m b e r s a group of

S t a n d i n g m e n representing l a r g e , m e d i u m and small institutions and w i d e l y
^»
s

tributed

geographically.

The national Committee has held t w o meetings and w i l l hold a third on
^ n e s d a y and Thursday of next w e e k .
re

On Thursday the chairmen of all of the

§ional committees w i l l m e e t w i t h the n a t i o n a l Committee for a discussion of
future plans of the P r o g r a m .
Considerable progress has been made in other d i r e c t i o n s .

Corn

The national

mittee has issued the first of a series of bulletins on credit problems i n

N a t i o n to the Voluntary Credit Restraint P r o g r a m .
W i t h

the subject of inventory l o a n s .

The first bulletin dealt

In view of the rapid increase in inventor-

Iqo

' Particularly at the retail and wholesale l e v e l , the Committee decided that
th •
s

v

'as its number one p r o b l e m .

Progress has also been made in collecting

bett
L e r

statistics to measure the developments in the credit f i e l d .

The largest

in the United States have already begun reporting w e e k l y to the Federal
e r v

as

e Banks a detailed breakdown of their loans so that the national Committee
c e r t a i n periodically w h e t h e r the volume of bank credit is rising or fall-

* and the cross currents due to the rising volume of defense lending and the
ecl

decrease in other types of l o a n s .

Excellent figures are already available from New York City commercial
b

anks. For the three weeks ending April 11, New York City commercial and indus-

tri

a l loans decreased $41 million. This is not a large decrease compared with

the

*2 billion increase in commercial and industrial loans at these banks during

the

Past year. However, it is a move in the right direction. Furthermore, a

b a i l e d analysis of these loans showed that loans to heavy industry presumably
f

r

° defense in large measure increased

Apri

million during the three weeks ending

l 11, whereas loans to commodity dealers, retail trade and light industry

leased

million.
Within the next two or three weeks similar information will be avail-

for the larger banks across the country. The national Committee has also
a3k

Cre

ed the Federal Reserve Board to obtain similar improved statistics on the
dit operations of insurance companies and on the issues entering the capital

^kets.
5U

Thus, we will know where the trouble spots are and will be able to

re currently the progress of the Program,

While the development of the Voluntary Credit Restraint Program up to
dat

e has revolved principally around the Commercial banking aspects, investment

bankers have an important task to do which will grow in relation to other parts
of

"the Program until the peak of the defense effort is passed. The estimates of

&ant expansion by American industries for the year 1951 total up to the stagger3ri

2 sum of $24 billion. A portion of this capital outlay will come from internal

Sav

ings of business, but with higher taxes and higher costs of operation, it seems

like

l y that internal savings will be less in 1951 than in 1950, Thus, the capital

^ k e t will be called on for a large amount of new money if this program goes forWarc3

without restraint.
Even assuming that strategic materials were available for this great

M-ant expansion, the inflationary pressures would bo tremendous.

To quote from a

"^tter which I received yesterday from an eminent banker-economist;
Se

"I just don't

° how we could add that much pressure to the situation without inflation, and if

thls

Program goes forward it would go a long way toward defeating our credit proOne reason is that these long-term undertakings all involve the use of bank

Cl>edi

t at one time or another by plumbers, and contractors, and equipment manufacand so forth."
It is at this point that the investment banking committees of the Volun-

A
^

Credit

Restraint Program will find much work to do.

The Statement of Princi-

Pip
S o f

fi

the plan sets forth certain priorities for all types of credits which by

^ n i t i o n include equity issues as well as true credit flotations.
Plan

Since the

is entirely voluntary, the screening of issues and the postponement of less

0]?

* tant issues will depend entirely on the persuasive powers of investment bankers
a n d

b e ho

the understanding of the national problem by would-be borrowers.

It is to

Ped that all major prospective issues will bo submitted for approval to the

re

Sional committees.

I vrould suggest to avoid over-burdening these committees

that for the beginning at least some minimum size of issue should be adopted

—

Si mill.ion.
Judging from the experience of World War I, a great deal of moral prcsSUr

e can be generated. Under the Capital Issues Plan of 3.918, it became practi-

C a

% essential for the flotation of an issue for it to boar the statement that
had been approved bf the Capital Issues Committee.

that

ann

It would seem possible

a similar badge of desirability could become an important part of the

°uncoment of future issues under today's conditions.
Borrowing again from the experience of 1913, the Capital Issues Commitcarefully refrained from passing on the soundness of a proposed issue.

^•tement used was this:

The

"Passed by the Capital Issues Committee as not incorri-

g i b l e with the National interest, but without approval of legality, validity,
rf

r

° th or security."
In checking issues for essentiality, the committee relied upon (a) the

cla

-ims of the applicant supported by such evidence as contracts with war agencies,
^ the opinions of interested Government agencies, (c) the knowledge and invest!l

• ens of the district committees.
A special problem arises in the case of public issues.

It is fully

c

°gni3ed that states and municipalities arc autonomous in their handling of their

0Vn

finances. At the same time, public officials are as much interested in the

C l o n a l welfare as any private citizen.

Investment bankers are frequently the

fin
Uncial advisers of public officials.

It should be possible in many cases for

^ b e r s of the investment banking profession to advise effectively for the postc e m e n t of public projects which use scarce materials or where the projects are
n

°t immediately essential to the defense effort.

-9-

From the standpoint of the mechanics of inflation, municipal issues are
Particularly attractive to banks. The purchase of securities by a bank adds to
the

total of bank credit and bank deposits just as effectively as the granting of

i
a

business loan. Thus, the smaller the supply of municipal securities available

fo

- bank investment, the less increase there will be in the money supply from this

source.
I have necessarily talked this evening in generalities. The Voluntary
Gl,

edit Restraint Program is just getting under way. The national Committee and

the

four regional committees set up to deal with investment banking problems will

be

s

going into action immediately, and you will hear much more from them^in a very

hort time.

tar

I wish to close with two comments. First, the success of the Volun-

y Credit Restraint Program depends on the fullest public understanding of the

neec

* for credit restraint in this period of expanding national defense. We shall

be

fostering this understanding by press releases, public addresses and by other

^ans. The members of your Association can play an even more important role by
ex

Plainin g fully and carefully to youi' clients the inflationary problems of the

%
n

''
y

and the relation of capital issues to this problem. Second, the Program will
ed

the full cooperation of borrower, underwriter and lender.

I can illustrate

Point by a little story.
Down South a shiftless colored man proudly .informed his minister that he

had got religion."
,
"Dat's fine, brothah," the parson remarked, "but is you sure that you is
Soin

S to lay aside sin?"
"Yessuh, Ah'so done it already."
"An

1

is you gwine to pay up all yo' debts?"

"Jest wait a minute, parson. You ain't talking religion now—you is
diking business."

- 1 0 -

Applying this story to today's problem, we must all recognize that infla

tion control is not somebody else's business.

It is ours.