August 21, 1956 FOMC Minutes: Full Text
A meeting of the Federal Open Market Committee was held in the offices of the Board of Governors of the Federal Reserve System in Washington on Tuesday, August 21, 1956, at 10:00 a.m. PRESENT: Mr. Martin, Chairman Mr. Hayes, Vice Chairman Mr. Erickson Mr. Johns Mr. Mills Mr. Powell Mr. Robertson Mr. Shepardson Mr. Vardaman Mr. Fulton, Alternate Messrs. Bryan, Leedy, Treiber, and Williams, Alternate Members, Federal Open Market Committee Messrs. Irons and Mangels, Presidents of the Federal Reserve Banks of Dallas and San Francisco, respectively Mr. Harris, First Vice President, Federal Reserve Bank of Chicago Mr. Riefler, Secretary Mr. Thurston, Assistant Secretary Mr. Solomon, Assistant General Counsel Mr. Thomas, Economist Messrs. Abbott, Parsons, Roelse, Willis, and Young, Associate Economists Mr. Carpenter, Secretary, Board of Governors Mr. Sherman, Assistant Secretary, Board of Governors Mr. Miller, Chief, Government Finance Section, Division of Research and Statistics, Board of Governors Mr. Gaines, Manager, Securities Department, Federal Reserve Bank of New York Upon motion duly made and seconded, and by unanimous vote, the minutes of the of the Federal Open Market Com meeting mittee held on August 7, 1956, were ap proved.
Before this meeting there had been distributed to the members of the Committee a report covering open market operations during the period August 7, 1956, through August 15, 1956, and at this meeting a supplementary report covering commitments executed August 16, 1956, through August 20, 1956, was distributed. Copies of both reports have been placed in the files of the Committee. Mr. Treiber stated that Mr. Rouse had not come to this meeting because he felt it desirable to remain in New York in view of the dis turbed situation in the Government securities market. He went on to say that net borrowed reserves had been larger than anticipated and that one of the reasons for this was a greater decline in the volume of float than had been expected. Government securities prices de clined sharply during the last few days on the rumor that credit policy might become more restrictive, although the market steadied yesterday after purchases of $69.5 million of bills for the System account Mr. Treiber suggested that these declines were related to recent increases that had taken place in yields on corporate, State, and municipal obligations. If no further System actions were taken, projections of the New York Bank indicated that average net borrowed reserves during would approximate $331 million. Mr. Treiber the week ending August 22 trading desk that morning indicated a added that a report from the the discussion as uncertainty in the market, reflecting great deal of and higher interest rates in the New York papers, and to tight money that the First National Bank of Boston the reaction to the announcement
had increased its prime loan rate to 4 per cent. Chairman Martin referred to Mr. Treiber's comment on float, noting that in accordance with the authorization at the preceding meeting a committee on float comprised of Messrs. Erickson, Johns, and Robertson, Chairman, had been appointed. Mr. Robertson added that the committee would meet today with a subcommittee that had been appointed to assist in its study of float. Mr. Mills referred to Mr. Treiber's comment on the assumption that the increase in yields for U. S. Government securities was a natural alignment with the increase in yields for corporation, State, and municipal securites and [sic] raised the question whether it was not more accurate to interpret the increase in yields on corporation, obligations as the result of a supply and demand State, and municipal in which market demands far exceeded the supply of invest situation of a similar supply and demand situa ment funds. He cited the fact bills were forced down sharply at the time that yields on Treasury tion interest rates, but in the general structure of and out of line with exceeding their avail for Treasury bills with the demand this instance if there Mr. Mills wondered these circumstances, supply. Under able high yields on corporation, believing that present were grounds for result of a special supply obligations are the State, and municipal therefore, it market and, in the investment and demand situation on U. S. Government that the yields correct to assume might not be
securities should increase in direct relationship with rising yields on corporation, State, and municipal obligations. Mr. Mills stated that it was his belief that recent increases in yields on U. S. Govern ment securities were a direct reflection of tight money market condi tions. Mr. Treiber responded that corporate, State, and municipal obligations were alternative investments for U. S. Government securi ties to an extent and that there was some shifting from one type of investment to another. Mr. Hayes commented that it was difficult to separate the factors influencing these types of investments since they were closely related. He mentioned especially the tendency for higher rates on corporate bonds to lead to additional bank loans as an alternative source of financing, with the further result that banks were likely to liquidate Government securities to raise the required funds. Mr. Mills suggested that the Committee should avoid a too facile conclusion in explaining the changes in the Government securi ties market. Upon motion duly made and seconded, and by unanimous vote, the open market transactions during the period August 7 through August 20, 1956, were approved, ratified, and confirmed. made a statement on request, Mr. Young At Chairman Martin's the staff memorandum distributed economic situation, supplementing the 1956. Mr. Young's statement was substantially under date of August 17,
as follows: Since the last meeting of the Committee, domestic economic activity has featured three developments of special note: (1) Price advances in the industrial commodity area, especially for metals and metal products, have been numerous and sizable. (2) Industrial output has rebounded sharply from the July steel strike reaction. (3) In the central money markets interest rates have risen appreciably. The round of industrial price advances was tipped off by the general increase of about 7 per cent in steel prices. Prices of pig iron, coke, stampings and steel parts, and some machinery were promptly raised. About this time and also fol lowing wage settlements, prices of aluminum, magnesium and their products were advanced. Among materials, scrap copper recovered some, steel scrap attained a new high, rubber and tin rose a bit, and glass and brick were marked up further. At the consumer goods level, various metal product items, tires, and gasoline have risen. While the general industrial price picture has had a noteworthy upward tilt, two significant areas, namely textiles and lumber, have been showing weakness. Farm prices have changed little since May, with grain prices evidencing fair strength and livestock prices, espe cially for cattle, a definitely rising trend. Consumer prices, which rose about 2 per cent from early spring to June, are expected to show a further rise to mid-July, reflecting higher food costs and further rise in rents and prices of services. With over-all activity in metal fabricating activity up in July, rather than down as a result of the steel shutdown, the rebound in steel activity has carried quickly to 95 per cent of capacity this week. While textile activity has been off further this month and auto assemblies have been off considerably for model changeover, other manufacturing areas have been operat ing at advanced levels. Thus, a better over-all performance for is likely this month than was expected two industrial production weeks ago. advanced further, with resi Construction activity in July construction about unchanged and industrial construction dential for military installations up. Construction and construction but with some slackening in rise costs continue to rise, observable in residential building costs. about the strength of have arisen recently Some questions seasonally adjusted contract the construction area because
awards have been declining since January. This is an erratic series and a satisfactory seasonal adjustment is difficult to effect. Taking the performance of contract awards for the year to date, it is of interest that awards have run 8 per cent above a year earlier. While considerably below early in-the-year figures, awards for the past two months have only been slightly below the all-time record for these months set last year. Recent wage settlements as well as other labor market data confirm the continuation of strength for the labor mar ket. While nonfarm employment was off in July, the decline represented mainly the direct effects of the steel strike, The average work week in manufacturing was unchanged at 40.1 hours, though it usually declines in July, and average hourly and weekly earnings experienced only a small decline as a re sult of the steel strike. Farm production reports, reflecting improved agricultural conditions, now indicate a total output about the same as last year's, with livestock production up moderately and crop pro duction off moderately. If the average of farm prices holds at current levels and with soil bank payments of a quarter of a billion dollars realized farm income should be maintained close to last year's total. Credit extensions to farmers have expanded further this year, but growth in nonreal-estate borrowing has been at a slower rate than last year. Personal income is estimated to have shown a slight de cline in July from the record June level, resulting mainly from the effects of the steel strike, but the rebound in industrial activity should put the August total ahead of June. In addition to the recovered flow of wage payments, income figures will commence to register recent wage settlements as well as upward cost-of-living adjustments. Reflecting sustained strength in personal income and also favorable shopping weather, as well as widespread consumer optimism, retail sales for July were up 3 per cent over a year ago. Durable goods sales were off mainly because of reduced automobile sales. Sales at furniture, appliance, and depart ment stores were in record volume, and sales gains at non durable goods stores showed a very large increase from a year ago. Department store sales in August thus far have held at for early August have run about July levels. New car sales at the same rate as July, but used car sales have been up some. Stocks of new cars were up some, but for used cars down further. Outstanding instalment credit, seasonally ad justed, continues to show a small rise--about $125 a month, durable goods paper and personal loans Diversified consumer are now accounting for more of the rise than automobile paper.
In major countries abroad, most recent information continues to show intensive utilization of productive resources and upward price and balance of payments pressures. Some European experts are commencing to feel that world-wide boom is losing momentum and tapering off, and are asking whether this development, if actually occurring, may not make more critical various persisting imbalances as well as uncovering new and unsuspected weaknesses. Foreign economic trends in these circum stances will warrant specially close attention by System observers. Mr. Thomas reviewed important developments in the financial area since the preceding meeting, stating that the most striking of these was the sharp rise in interest rates of all kinds. Pressure on capital markets had continued and several offerings had been de ferred or withdrawn. A moderate seasonal increase had taken place in bank loans. The first phase of the Treasury's cash financing had been completed with much of the offering having been placed in temporarily. The reserve position of banks had banks, at least easy situation that existed in June and tightened from the unduly had been resumed within the July. Operations for the System account policy of meeting seasonal needs for re past week, in line with the serve funds. 2-/ per cent in July rates rose from around Treasury bill said, and this week's cent last week, Mr. Thomas to above 2-3/ per on three to five year 2.82 per cent. Rates bill auction averaged 3-1/2 per cent, a had risen to nearly issues currently Government also had on long-term securities 1930. Yields high level since new Thomas also noted 1953 peak. Mr. close to their and were now risen
that a Boston bank had increased its prime rate to 4 per cent. The rise in money rates appeared to be partly seasonal and was related to the Treasury's financing, Mr. Thomas said, and it also reflected a growing recognition of demand pressures, actual and prospective, in money markets; expectation of an increase in the discount rate; the cash offering by the Treasury; and the tighter reserve position. Of the $3.2 billion total of Treasury tax anticipation certifi cates paid for on August 15, about $2 billion were subscribed for by banks, but many of these were sold immediately to nonbank customers. The Treasury balance was expected to be around $5.6 billion by August 22--an amount adequate to meet needs until late October, after which perhaps $2 billion of new financing would be needed to cover require ments during the remainder of this year. Reporting member banks showed an increase of over 3/4 of a billion dollars in total loans and investments during the last five weeks, Mr. Thomas said, compared with an increase of $200 million in the corresponding period of 1955. Most of this increase was in hold ings of U. S. securities reflecting the tax anticipation certificates acquired last week; loans increased less than last year. Demand deposits adjusted showed a bigger decrease during the past week than a year ago but this followed increases in immediately preceding weeks larger than a year ago. The reserve position of banks was that were week than had been contemplated, partly because float tighter last normal level after the abnormal increase declined to a more nearly
during June and July. Mr. Thomas stated that in the absence of further System action, net borrowed reserves might rise to around $600 million in the week ending August 29 because of a further de cline in float and because of a run off in repurchase agreements. Assuming normal seasonal changes and moderate growth in deposits, the September average would be above $600 million and the October average would be above $700 million. Mr. Thomas then referred to a development since the end of 1954 in credit extensions by banks, stating that there had been a steady increase in loans and a decrease in holdings of Government securities that had resulted in a rise in the ratio of loans to total loans and investments to the highest levels since the early 1930's. While this ratio was only the roughest sort of an index, the recent development raised the question whether the higher current ratio of loans to total loans and investments would cause banks to restrict of the availability of reserves. Mr. Thomas also lending regardless that the sales of Government securities by banks meant pointed out purchased them when they had not been willing that other investors had that this might indicate securities, and he suggested to buy corporate latter. Higher bill rates interest rate on the a need for a higher banks to acquire and hold volume of bills might induce and a larger Also, higher interest to make fewer loans. Treasury bills and more to go to capital markets might encourage borrowers rates on bank loans rates. Mr. Thomas even at higher capital purposes for long-term
suggested that higher rates on private security issues might attract savers away from Government securities. In concluding his comments, Mr. Thomas referred to the continued heavy demand for capital funds which was putting pressure on banks. In his view, this indicated a need for continuation of the policy of restraint that the Committee has been following. Mr. Johns referred to a discussion he had had with a business man within the past few days and to some of the comments Mr. Young had made in his review of the economic situation. This businessman indi cated a growing concern that the capital expenditure boom might be "tailing off", Mr. Johns said, and he inquired of Mr. Young regarding information bearing on this question. Mr. Young responded that figures on plans for plant expansion for the United States would not be available until September. However, recent similar data for Canada which would be affected by much the same factors as data for the United States showed quite an increase in capital expenditure plans of businessmen, compared with figures of expectations compiled last spring. Mr. Thomas commented that postponement of plans for plant expansion would be a desirable development, in view of the near-capacity level of activity that now exists. Martin then called on Mr. Hayes who made a statement Chairman substantially as follows, 1. Most of the measures of production, consumption, confirm that the economy is still and prices seem to
definitely in an expanding phase. There are a few indications, however, that consumer demand may have lost some of its forward momentum. Sales of new homes in some areas have fallen off rather sharply in recent weeks, and a further decline in resi dential building appears likely. Also, the current boom has been in progress for about two years and, with the exception of the highway program and perhaps heavier defense expenditures, there are no major new forces of expansion in sight. 2. The tendency toward price increases is spreading both in raw materials and in finished goods. This trend results primarily from recent wage increases rather than capacity limi tations or demand pressures. Eventual offsets to rising costs through increasing productivity are only a long range possibility and are no remedy for the inflationary threat in the near future. 3. Pressure of demand for long-term capital funds is more pronounced than pressure on physical resources. With business and personal savings insufficient to match this demand, the latter is tending to "slop-over" into demand for bank credit, and this is accentuated by the reluctance of borrowers to accept sharply higher long-term interest rates. The recent deferring of a number of long-term offerings points up this problem. We cannot look with equanimity on the use of a large volume of bank credit for capital purposes. 4. Bank credit is expected to increase substantially this autumn, though probably less than a year ago. A large amount of reserve funds will have to be supplied during the remainder of the year to meet normal seasonal requirements. been and remains very tight. The 5. The money market has generally restrictive policy that the System has been following a year has already created a notable degree of for more than credit restraint and has been successful in restricting the money supply during the past year. Banks are very growth of the short of liquid assets and are already "rationing" credit to a Fears have been expressed in some quarters considerable extent. might become unobtainable by many prospective that credit borrowers at any price. while continuance of a 6. Under these circumstances, we are inclined to of restraint is justified, general policy operations to effect ap whether the use of open market doubt be justified. Net borrowed greater restraint would preciably $300 to $400 million and have recently been around reserves $900 million to $1 billion. bank borrowings around gross member above the $1 bil borrowings much be risks in forcing There may the System should probably be lion level. In other words, most of the through open market operations prepared to supply purposes in the next few months, reserves needed for seasonal borrowed reserves and gross borrowings in order to leave net Our tentative projections their recent levels. somewhere near
suggest that moderate purchases of Treasury bills might be required in the next few weeks. 7. It is problematical whether corporations and indi viduals remote from the money market are sufficiently aware of the desirability of resisting price increases, deferring borrowing programs, stretching out capital spending programs, and expanding corporate savings as much as possible. (Parenthetically, it may be noted that equity financing has tended to be neglected in favor of debt increases, despite the new highs in the stock market.) 8. An increase in the discount rate would appear called for at this time. The way has been paved by continued imposi tion of strong credit restraints through open market operations. A rate rise would very probably not result in a more serious credit stringency than is desired. It would serve as a clear signal to the general public that the System is concerned over the inflationary outlook and is trying to resist this trend. We would hope that any action on the rate by the Federal Reserve Bank of New York would be coordinated with similar moves by other Reserve Banks (other than those whose rates are already in excess of 2-3/4 per cent). For this reason our Directors decided to defer action at last Thursday's meeting--although majority sentiment seemed to favor an increase now or in the very near future--so that the subject could be discussed fully here today. 9. In regard to timing of any rate increases, the prospective Treasury cash financing in October and a large re funding in November seem to mark the next six weeks as the only favorable period during the remainder of 1956. 10. As for the amount by which the rate should be raised, we recognize that a case might be made for an increase of 1/2 per cent, one argument being that the market has already dis counted a rise of 1/4 per cent by the ten Banks whose rate is now 2-3/4 per cent. However, we are afraid that a rise of 1/2 per cent might constitute too severe a "shock" to the market and might touch off a disorderly erosion of bond prices that would necessitate System intervention. Also there is at least a possibility that present boom tendencies may be more temporary than current business reports might suggest. Moreover, it might be a mistake to take rather drastic action when monetary measures at best are probably of only limited effectiveness against a cost inflation such as we now face. Also, a sudden large change create undue difficulties for the Treas in interest rates might ury. The substantial adjustment now going on in market rates intermediate maturities and also in the Treasury bill on long and much that might be accomplished by a very rate is accomplishing rate. This reduces the need for sharp increase in the discount more dramatic rate action.
We therefore feel that an increase of 1/4 per cent to 3 per cent is indicated, as it should provide the needed signal to the business community, should probably cause relatively little disturbance to the market, and should help to establish a new rate plateau on which dealers and underwriters could base their rate quotations and break the present log-jam in the capital markets. In response to a question from Mr. Vardaman, Mr. Hayes said that it was difficult to name any figure of net borrowed reserves that should be used as a guide to open market operations although he had used the figures of $300-$400 million as a rough indication of his thinking. However, operations should be governed more by the feel of the market than by any figures. Mr. Erickson said that the economic state of New England did not differ from the general description given in the economic review meeting. Sales, production, and employment are up. presented at this In June, loans of reporting member banks went up moderately, but during weeks they had increased very markedly. Mr. Erickson re the past two at the preceding meeting of the Committee he reported a called that of the discount window in the First District. That had smaller use last two weeks, he said, when borrowings not been the case during the million. In speaking of screen to an average around $50 had increased the Boston bankers who had told of a comment by one of ing loans, he 5 per cent large term loan application. turned down an attractive discount rate should be in view was that the Mr. Erickson's to recommend such an increase and he stated that he planned creased, on September 10 to be held Boston Bank's directors the meeting of the at
although he would attempt to have a special meeting called to con sider the question if action was taken by other Reserve Banks prior to that time. He hesitated to suggest any figure of net borrowed reserves to be used as a guide to open market operations, stating that these should be judged by the feel of the market. He hoped, however, that negative free reserves in the $300-$400 million range would do the job. Mr. Irons said that conditions in the Dallas District did not differ greatly from the reports he had given in other recent weeks. There had been further improvement in the petroleum industry, in retail trade, and in nonagricultural employment. While there had been some decline in residential building and drought continued to worsen the outlook somewhat in nonirrigated areas, on the whole the same high level of activity that had been maintained for many weeks continued in the Eleventh District, with such changes as were occurring being largely seasonal in nature. In the credit area, reporting member bank loans increased last week after several weeks of rather little change. Mr. Irons judged that there was less pressure than was true somewhat earlier and he noted that member bank borrowings at the the $18-$25 million area in Reserve Bank were running in Federal contrast with $40-$50 million a couple of months ago. As he had indicated at earlier meetings, relatively few banks were borrowing and only four or five of these were country banks. had reached the point where Mr. Irons said that he felt we
the discount rate should be increased to 3 per cent but he would dis like going to a higher level at this time. He did not think action should be delayed much longer and he planned to recommend an increase at the next meeting of the directors of the Dallas Bank. This was scheduled for September 13, but if another Reserve Bank acted before then, Mr. Irons stated that he would attempt to have a special meeting of the Dallas directors arranged to consider the question of the dis count rate as soon as possible. He concurred in the view that this was a period in which open market operations should complement the discount action. He would not use any figure of net borrowed reserves, feeling that operations should be left to the management of the account, which should take actions with respect to the availability of reserves on the basis of needs, in accordance with the current general policy of the Committee. Mr. Mangels said that the Twelfth District had given little of change in economic activity since the preceding meeting. evidence strong and banks still give assurance Demand for bank credit continues although they state that no are screening loans carefully, that they turned down. Bank loans in demands for credit are being legitimate and early August at a increased during July the Twelfth District for the national total, Mr. rate than Mr. Thomas had reported lesser of this year or July a or than the increase in June Mangels said, loans to reflected additional moderate net increase year ago. The
mining and manufacturing firms as well as some increase in construction loans, while consumer loans declined. Mr. Mangels suggested that the policy agreed upon by the Com mittee two weeks ago was about what should be continued for the present, with negative free reserves somewhere in the $300-$400 million range, depending upon the feel of the market. As to the discount rate, con trary to his report of two weeks ago, the directors of the San Francisco Bank at their most recent meeting unanimously acted to maintain the existing 3 per cent rate. Another meeting of the executive committee which would be attended by almost all directors of the San Francisco Bank would be held tomorrow, and Mr. Mangels said that he presumed the existing rate would be maintained at that time. Mr. Powell said that the pattern of business conditions in the Ninth District was becoming fixed for the rest of this year. While the wheat crop is running about a quarter below that of last year, other crops are turning out to be large and livestock prices have risen since last winter, with the result that the farm sections of the district will have at least an average income this year. In the city area, retail trade is just about holding even with a year ago, which the experience of the last several months is quite a reduction from showing some of the largest gains in when the Ninth District was retail trade. Banks are considerably more comfortable than they were, and sales of sizable amounts of Government with some reduction in loans
8/21/6 -17 securities. They are not borrowing heavily at this time. Mr. Powell stated that nationally he felt the situation was delicate and that we might be on the verge of a disorderly market, although it had not yet reached that stage. An increase in discount rates for other districts seemed to be in order, and there was no expectation of a move to reduce the rate in the Ninth District. Open market operations should be conducted rather aggressively, Mr. Powell said, noting that this was the beginning of the peak of demand in the agricultural areas and that an increase in reserves through the open market could result in little danger at the present time, especially since such reserves would be needed shortly in any event to meet the seasonal demands. His preference would be to purchase bills to meet attempt to offset nervousness and uncertainty in the this need and to money market. the tone of economic activity in the Mr. Harris said that Seventh District was similar to that described for other areas. The were nowhere near as great as had been steel strike repercussions likely to exceed 6 million of automobiles was not feared. Production this year, compared with a total cars and 1.1 million trucks passenger car stocks are expected to vehicles last year. New of 9.2 million less than a 31, about 100 thousand 550 thousand by August be down to to be about the inventories are expected earlier, and year-end year as a whole is The automobile industry the August 31 figure. same as
very happy with the rate of clean-up of 1956 models and has complete confidence in the outlook for the 1957 models. The subject causing most comment in the Seventh District during the past few days, Mr. Harris said, has been the state of the bond market. Some bankers feel that the market is disorderly and have wondered why the System does not do something about it by way of putting in reserves. One of the directors of the Chicago Bank indicated he would be loath to vote for an increase in the discount rate unless posi tive action were taken by the System to put reserves into the market to relieve the situation. Another banker had indicated that he no longer subscribed to Treasury bond issues because the market price would be below his subscription price before the securities were de livered. Mr. Harris felt that the uncertainty indicated by these and other statements was important. At the same time, many have already discounted an increase in the discount rate and have projected condi tions that might exist based on increases in that rate to 3 per cent, It might be desirable to increase 3-1/4 per cent, or 3-1/2 per cent. the discount rate to 3 per cent to indicate an awareness on the part price level, Mr. Harris said, but before of the System of the rising the System put some reserves into the doing so he would like to see of bills. He would like to see net borrowed market through purchases area or less. In other words, the Com reserves in the $200 million reassess its present policy with a view to adding re mittee should serves to the market.
Mr. Leedy said he had no material changes to report for economic activity in the Kansas City District since the meeting two weeks ago except that agricultural conditions had worsened in certain areas because of the drouth. On credit policy, Mr. Leedy felt that in the period immediately ahead the System should move promptly on the discount rate, especially in view of the fact that the prime rate and other money rates have already been moved up. Committee might continue with the policy agreed upon The Open Market at the meeting two weeks ago of applying pressure on bank reserves. Perhaps it should aim in the direction of reducing net borrowed re serves somewhat while adjustments to an increase in the discount rate were taking place. on to say that the question in his mind was Mr. Leedy went be in position to move further toward restric whether the System would increase in the discount and whether an additional tion a little later, be required this fall. If beyond a rise of 1/4 per cent would rate he felt the System would be in further increase were to be necessary, One reason for first step were taken promptly. difficulty unless the market settled a time was to get the per cent at this a move of 1/4 rate. Mr. Leedy over the discount by eliminating uncertainty little speaking in the light suggestion he was that in making this emphasized Kansas City District conditions in the inasmuch as of national conditions discount rate. action on the to require immediate not such as were
Mr. Vardaman said that he felt about the same as he did two weeks ago when he thought somewhere in the neighborhood of $200 million negative free reserves would be proper, with the understanding that the Committee might go as high as $400 million if that seemed necessary in the light of any special circumstances that might develop. He was not conscious of any circumstances that had developed that had warranted more than $200 million of negative free reserves. He agreed that no single figure could be used as a guide and that the management of the account had to "play by ear" but he would prefer now to have a policy that would call for negative free reserves somewhere in the $200-$250 million to zero area at this particular time as a means of reestablish ing confidence. Mr. Vardaman added he was not particularly concerned with the apparently chaotic conditions in the Government securities market, believing that this situation would straighten itself out. As to the discount rate, he did not feel that bringing the 10 Banks now per cent level up to that rate would have any effect in the below the 3 market, and he thought Mr. Leedy might have a point in suggesting that should be poised to go above a 3 per cent rate a little the Committee later if that seemed necessary. Mr. Mills said that as he looked at the problems of the Com that occurred in the level of negative mittee, the abrupt increase superimposed heavy pressure $400 million had free reserves to around responsible for the market and has been an already tight money on an indication of tightness he disturbing market situation. As
referred to the approximately $11 million of bankers' acceptances reported by the Federal Reserve Bank of New York to be overhanging the market. The fact that the commercial banks took up $2.2 billion of the Treasury's recent $3.2 billion offering of tax anticipation certificates was also held by Mr. Mills to be a significant indication of tightness in that corporations and other types of investors did not participate more broadly in the offering. Considering the illiquid positions of the commercial banks, the possibility could now be raised that unless supplied with some new reserves they would be compelled rapidly to sell off their holdings of the new tax anticipation certifi further to the difficult position of cates and, in so doing, contribute the U. S. Government securities market. opinion the System was presently Mr. Mills stated that in his credit policy which, unless following a destructively restrictive lead to waves of unemployment would in its logical conclusions changed, System and the economy both to the Federal Reserve with consequences time. It was his be to discuss at the present that would be too many of bringing the level be made, to the end that a retreat should lief but on a million level, toward a $200 reserves down of negative free to such actions of the market test the response basis that would gradual at which the to the point guide the System in that way the System and by It was Mr. would stabilize. securities for U. S. Government market would fall realistically a point of stability opinion that such Mills' thought that it was his rate, and per cent discount with a 3 in line
that discount rate at the Federal Reserve Banks was in order. Mr. Robertson said that perhaps he was more fearful of infla tion than some others had indicated by their comments this morning. Policy has not been too restrictive, he felt, and the results that have flowed from carrying on that policy have been just about what should have been expected. Mr. Robertson said that he would not be concerned with the market, and he would align himself with the view expressed by Mr. Leedy that pressure should be kept on. He doubted the adequacy of a 3 per cent discount rate and, while it was probable the System would go to that figure rather than to a higher rate at this time, he thought we might be better off to go to a higher rate now. He agreed that the System should be poised for a higher rate later on. Mr. Robertson referred to the continuous borrowing showing Reserve Banks, stating that he felt the Committee and the up at the study the desirability of a penalty rate to be applied System should borrowers. While banks might be screening loan applica to continuous was still being created and this tions, a very large volume of credit In reiterating the view that pressure should be kept was inflationary. Mr. Robertson said he would not on through the open market window, to offset some of the need for additional reserves by supply hesitate the next two weeks so long as them through the open market during ing from the level of restriction was done to indicate a retreat nothing that had been attained.
Mr. Shepardson said he felt much as Mr. Robertson had indi cated. There were definite indications of rising prices and there was no indication of assuaging that trend. The comment had been made that possibly credit restraint could not do much toward stopping in flation, but his view was that this was no reason for the Federal Re serve System to fail to use all the restraint that was proper in an effort to keep balance in the economy. An attrition of the dollar was most unfortunate and it was almost impossible to regain its purchasing inflationary influences had been felt. Mr. Shepardson's power once rate should be increased as soon as feeling was that the discount the System probably would need to go higher possible and he thought year was over. The System should, 3 per cent level before this than the fall seasonal demands but the reserves needed to meet of course, supply or in a way that would appear to should not be supplied freely these by an increase in System that would be suggested negate the aims of the reserves that might In other words, the additional the discount rate. be needed should be supplied sparingly. things in the one of the surprising Mr. Fulton said that which the steel industry was the rapidity with Cleveland District settlement. Mills following the strike come back into production had of this year for the fourth quarter booked almost solid report they are Tool steel orders for steel. to take on more express reluctance and said. Other Mr. Fulton in record backlog, shapes are and structural and hugh backlogs high levels of activity are also reporting industries
8/21/6 of orders. Unemployment is very moderate and the situation as a whole is one in which all employable persons are able to find jobs readily. Loan demands in the Cleveland District are continuing strong and bankers look for further moderate increases in applications for short-term credit this fall. They state that demand for term loans is far beyond what they can handle. Some bankers have indicated that interest rates for bond financing have risen to a level that has caused corporations to turn to bank credit instead of floating new issues for capital expenditures. Bankers state that they are being selective but that demand is very insistent and large in total. It would be in appropriate for the System to supply funds through the open market in such quantity as to permit price pressures to build up further, Mr. should be maintained, there Fulton said. He believed that restraint and discount rates should be brought up to should be no relaxation, the 3 per cent level. of the Philadelphia Bank said that the directors Mr. Williams discount rate by 1/4 of one per acted a few days ago to increase the full staff presentation of 3 per cent level, following a cent to the which showed that pressure of demand for banking and economic data stronger than in the Third District was relatively credit in the The directors also discussed the situation United States as a whole. the directors from the utili as a whole. Two of in the United States emphasized the discount rate, for the increased ties field, in voting
view that the market needed some certainty and while they were not enthusiastic about higher rates, they felt such a move would be de sirable. Bankers in the Philadelphia District are concerned that they will not be able to meet the legitimate needs of business for credit this fall. Mr. Williams said that he felt the System should move to a higher discount rate. The Manager of the System Account would have to handle the situation skillfully during the period of adjustment to that rate, but the general objective should be to main tain pressure on the market. The country was obviously in the throes of uncertainty but this was only in terms of the internal situation and there was more to be lost by postponing action on the discount rate than by moving in the direction of putting pressure against the inflationary influences. Mr. Bryan reported little change in the Atlanta District since the meeting two weeks ago noting that consumer spending continued to increase and that loans at commercial banks had risen rather contra Several banks which had been out of debt at the Reserve seasonally. Bank a few weeks ago have now come back in. On the national picture, before us included not only Mr. Bryan said that the difficult problems but also what techniques it the Committee should follow what policy restraint had to be applied. His view was that further should use. time, he was not At the same with us are inflationary. The pressures us, and his concern was trying to tell as to what the market clear
was that the situation be handled without precipitating a disorderly market if that was possible. If a disorderly market were to develop, the Committee might be compelled to undertake some support operations to prevent a panic, and that might result in loss of control to effect policy for some period of time. Mr. Bryan felt that the System should flag down borrowing banks by telling them that borrowing is going to cost them more, that they would have to police their loans more rigidly, and that they would have to try to avoid making capital loans in so far as that was possible. After borrowing banks had been flagged down by an increase in the discount rate, the account would have to be extremely adept if it were to avoid creating a disorderly situation in the market. The past has demonstrated that a given level of free reserves means one thing at one time and another thing at another time, so that policy decisions aimed at a given level of free reserves often produce un predictable money rate effects; and that fundamental difficulty is compounded because the factors affecting free reserves often exhibit erratic and unpredictable behavior from day to day, so that, regardless of our difficulty in appraising the monetary effect of an aimed-at level of free reserves, we are even unable in the short-run to effect the intended level of free reserves with any substantial degree of precision. Mr. Bryan hoped that the management of the account in trying to estimate its actions would not have in mind any level of free reserves but would have in mind the behavior of the market which be related to the interest rate. If large adjustments are indi should rate, action should be taken to cated by an increase in the discount
supply reserves freely to avoid precipitating a panicky decline in the Government securities market. Mr. Johns said that in attempting to present the comments of a businessman earlier during this meeting, he did not intend to associate himself, at least without grave qualifications, with the position that had been indicated. He, along with members of his staff at the St. Louis Bank, had been greatly concerned recently about the techniques that should be followed at this time in conducting credit policy. Yesterday afternoon he had read an announcement in Business Week to the effect that credit policy decisions have been taken, not only as to content but as to timing. Mr. Johns said that on the side of timidity this announcement generated relief, but on the side of his responsibility as a member of the Open Market Committee he felt some resentment that he was not to participate in the decisions. He recognized how ingenious writers are but in this case he wondered whether there was a basis for appeared in Business Week. Mr. Johns said that he the story that had Market Committee were entitled to know felt the members of the Open basis there was for the statement. what, if any, Johns said that he was inclined respect to policy, Mr. With He also felt it could greater restraint was necessary. to believe cost of credit rather than by by increasing the best be accomplished Restrictions on the on credit availability. further restriction are already well known. in the capital markets availability of credit
There is an imbalance between the supply of investment funds and de mand for such funds, he said, and he was inclined to think that if any thing could be done to redress that imbalance, action should be taken on the cost side calculated to dampen the increasing demand for credit, realizing that whatever the System did about the supply side would be a slow process. Mr. Johns went on to say that he was concerned about the spill over of capital demands into the banking sector. Restraint needed to be applied on the cost side with the objective of inhibiting borrowers rather than of inhibiting lenders. He was inclined to think that a moderate rise in short-term interest rates would not restrict lenders very much. Mr. Johns said that, as indicated by Mr. Hayes, a case could be the discount rate by more than 1/4 per cent. How made for increasing ever, he was timid about making a greater increase at one time and would increase of 1/4 per cent at first, although he would be go along with an without delay. He would not increase the ready to take the next step permit the net borrowed reserve pressure on reserves and would not wish to see it decline from go higher. If anything, he would figure to effects should be feeling that the desired the $400 million level, in the cost of credit. gotten by an increase in Mr. Robertson's suggestion Mr. Johns said he was interested borrowers. He against continuous rate to be assessed as to a penalty
would be reluctant at the present time, however, to apply such a rate in the Memphis area where banks would be borrowing continuously for legitimate reasons at this time of year. In response to a question from Mr. Vardaman, Mr. Hayes stated that during a transitional stage in which the market might be adjusting to a higher discount rate, he would not contemplate using open market operations as a means of applying additional restraint. In fact, it might be desirable to supply additional reserves through the open market. He would not hesitate to provide reserves, based on the feel of the market from day to day, especially if in the transition to a 3 per cent rate it was found that near-disorderly conditions developed. Chairman Martin said that his views had not shifted since the previous meeting of the Committee. What he had said at that time would still apply, except for the recent developments in the money market the Committee some responsibility for endeavor which he felt placed on not disorderly. His personal view was ing to keep conditions that are up to the present time, although that conditions have not been disorderly that this was a matter of judgment. he recognized question whether the boom in Martin referred to the Chairman the fundamental point mentioned coming to an end and to capital goods was of economic re having to do with misdirection at the preceding meeting had made, which that Mr. Harris specifically a comment sources. He noted persons in the automobile the attitude of his fears regarding confirmed be expected to activity might time of year, business industry. At this
be seasonally slow and a real push in production would not be anticipated until mid- or late-September. Without intending to be critical of auto mobile company managements, he was fearful that they were again mis judging the market. We are dealing with a very difficult virus, the Chairman said, and there are indications already of overcapacity in some segments of the economy that have been created over a long period of defense build-up. In the long run, this build-up of capacity in certain lines would have important effects, and one of the problems would be to minimize undesirable effects. The System wished to preserve employment and prevent or minimize unemployment that would come from an excess of capacity created indiscriminately under the impression that industry could pass increased costs on to the public in the form of higher prices. One of the reasons it has been impossible to keep discussions that have gone on in this room from the public is that the public is participating of what they see every day. This should be in these discussions because inflation are as clear as they are now. Chair expected when the signs of receiving bearing out this fear on Martin referred to letters he was man that the disease of inflation of the public, adding the comment the part that they were frightened by it. This was recognized by many persons and or 1958, if the unemployment in mid-1957 leaders who fear included labor present trend continues. that it could to be trying to do everything The System should it could not be arising in a way in which unemployment from prevent comment that He recalled the closing Martin said. handled, Chairman
Mr. Young had made in his economic review at the meeting two weeks ago to the effect that the problem faced by the economy at this time is inflation fed by the competitive spending, investing, and borrow ing propensities of a highly optimistic business and consumer public, and that the dangers lie partly in misdirected use of resources. The Chairman emphasized the need for the System to use monetary and credit policy to produce an efficient allocation of the country's resources, including savings, as far as that reasonably could be done by market processes. He said that he was completely familiar with the fact that credit policy was inhibiting the lender more than the borrower, but he did not know how to achieve the other objective. of a change in the discount rate was The question of timing said, and he referred to the action taken important, Chairman Martin Bank to increase its rate to the 3 per by the Philadelphia Reserve additional Banks would soon be cent level, stating that he assumed asked for comments as to the timing taking similar action. He then in the discount rate the Board of an increase of an announcement by to be made for such announcement it would be preferable and whether this week or a little later. that under the the view Mr. Hayes expressed On this question, action was taken the sooner the at this meeting, conditions discussed business community to the of clarifying from the standpoint the better the System's policy. Martin referred Chairman of this question, After discussion regarding the during the meeting comment earlier to Mr. Johns'
statement that appeared in the current issue of Business Week, The Chairman said that while he had not read this statement, he had been following the press very closely for the past week or ten days and that he had observed positive statements in several different publica tions that the System was going to increase the discount rate. He was particularly anxious to state for the record, he said, that he had talked with a reporter for Business Week recently but that he did not discuss the question of current action on the discount rate, although he did discuss the action that had been taken last April. If the reporter deduced from this discussion anything as to action that might be taken at the present time he did so entirely on his own, Chairman Martin said. However, the timing of such action was entirely in the hands of the System. It was necessary always to keep in mind that a large number of persons was present at these meetings when the subject of a change in the discount rate was under discussion. It was impossible to keep conjecture from occurring, the Chairman said, must be extremely careful to remember that he has a but each of us special responsibility, vis-a-vis the press. then turned to the wording of the Committee's Chairman Martin of New York, inquiring whether the Federal Reserve Bank directive to a modification of that of the Committee wished to suggest any members were no suggestions for change. at the present time. There wording the views as to difference in there was some noted that The Chairman should be maintained during net borrowed reserves that the volume of
the period between now and the next meeting of the Committee.. He did not know how these different views could be resolved, but he was glad to note that more and more the members of the Committee were moving away from the use of a figure of net borrowed reserves as a guide. In attempting to sum up the majority view as to policy for the immediate future, the Chairman said that he gathered that none of the members of the Committee wished an appreciable relaxation of pressure in the market and that for the most part they did not wish to use open market opera tions to increase pressure on reserves during a period of discount rate adjustments. At Mr. Vardaman's suggestion, Mr. Hayes reiterated his comments as to the policy that might be followed, stating that he would favor maintaining restraint somewhere near its present level, that he would not have in mind increasing the restraint, and that he would be ready to reduce pressure at least temporarily if the Account Management felt that the tone of the market seemed to require such action during the transitional period of an increase in the discount rate. would understand this to mean Mr. Shepardson stated that he reserves might be reduced, this that while the level of net borrowed the same pressure that of maintaining about be done as a means would avoiding a further build-up in pressure, existed in the market and of Hayes also stated in was correct. Mr. Hayes stated that this and Mr. would not have in Robertson that he a comment from Mr. response to the next few the market during put reserves into action to mind taking
days in a way that would indicate relaxation, subject to the reserva tion that if the market seemed to be getting out of hand it might be desirable to put in some reserves. However, on the basis of projec tions it looked as though net borrowed reserves this week would average around $250 million and it probably would not be necessary to take any further action until early next week. Chairman Martin noted that Messrs. Erickson and Irons had emphasized the point that the Account Management should use the "feel" of the market in its operations in this particular period. He agreed that it was necessary to depend on the Account Management to do the best it could within the framework of the Committee's general policy. In the immediate future, this should be with tho understanding that the Committee wished the Account Management to make every effort to avoid indicating an appreciable change in policy through open market operations, recognizing that it would be very difficult to carry out None of the members of the Committee indicated dis this program. Martin's statement of policy or of procedures agreement with Chairman to be followed in carrying it out. whether he would inquired of Mr. Treiber The Chairman then amounts specified in the directive, and recommend any change in the that he had no change to suggest. Mr. Treiber stated Thereupon, upon motion duly made the Comittee voted and seconded, to direct the Federal Re unanimously of New York until otherwise serve Bank directed by the Committee:
(1) To make such purchases, sales, or exchanges (in cluding replacement of maturing securities, and allowing maturities to run off without replacement) for the System open market account in the open market or, in the case of maturing securities, by direct exchange with the Treasury, as may be necessary in the light of current and prospective economic conditions and the general credit situation of the country, with a view (a) to relating the supply of funds in the market to the needs of commerce and business, (b) to restraining inflationary developments in the interest of sustainable economic growth, and (c) to the practical ad ministration of the account; provided that the aggregate amount of securities held in the System account (including commitments for the purchase or sale of securities for the account) at the close of this date, other than special short term certificates of indebtedness purchased from time to time for the temporary accommodation of the Treasury, shall not be increased or decreased by more than $1 billion; the Treasury for the ac To purchase direct from (2) Reserve Bank of New York (with dis count of the Federal cases where it seems desirable, to issue cretion, in or more Federal Reserve Banks) such participations to one of special short-term certificates of indebtedness amounts time to time for the temporary as may be necessary from provided that the total accommodation of the Treasury; such certificates held at any one time by the amount of shall not exceed in the aggregate Federal Reserve Banks $500 million; from the System to the Treasury To sell direct (3) such amounts of Treasury account for gold certificates as may be necessary within one year securities maturing the accommodation of the Treasury; from time to time for such securities so sold the total amount of provided that $500 million face amount, not exceed in the aggregate shall as may be practicable be made as nearly such sales shall and in the open market. currently quoted at the prices for a discussion the agenda provided noted that Chairman Martin that the System the New York Bank the proposal of this meeting of at bills. He stated in swaps of Treasury to engage be authorized account until be postponed of this topic that discussion he would prefer that with was no disagreement and there of the Committee, next meeting the
this suggestion. It was agreed that the next meeting of the Committee should be held on Tuesday, September 11, 1956. Thereupon the meeting adjourned. Secretary
Also: Record of Policy Actions