September 11, 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, September 11, 1956, at 10:00 a.m. PRESENT: Mr. Martin, Chairman Mr. Hayes, Vice Chairman Mr. Balderston Mr. Erickson Mr. Johns Mr. Mills Mr. Powell Mr. Robertson Mr. Shepardson Mr. Szymczak Mr. Fulton, Alternate Messrs. Bryan, Leedy, Treiber, and Williams, Alternate Members, Federal Open Market Committee Messrs. Leach, Irons, and Mangels, Presidents of the Federal Reserve Banks of Richmond, Dallas, and San Francisco, respectively Mr. Riefler, Secretary Mr. Vest, General Counsel Mr. Solomon, Assistant General Counsel Mr. Thomas, Economist Messrs. Abbott, Parsons, Willis, and Young, Associate Economists Mr. Rouse, Manager, System Open Market Account 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 Mr. Mitchell, Vice President, Federal Reserve Bank of Chicago Upon motion duly made and seconded, and by unanimous vote, the minutes of the
meeting of the Federal Open Market Com mittee held on August 21, 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 21, 1956, through September 5, 1956, and at this meeting a supplementary report covering commitments executed September through September 10, 1956, was distributed. Copies of both reports have been placed in the files of the Committee. Mr. Rouse called attention to projections prepared by the New York Bank and by the Board's staff which indicated that a fairly easy situation would develop during the next ten days, largely because of a mid-month rise in float, and which might require some selling of bills by the System account. He thought that the relative ease that might develop need not concern the Committee especially, believing that the situation in the capital markets, including uncertainties the general atmosphere this would in the minds of underwriters and create, would offset any statistical ease that might develop during this period. Mr. Shepardson, Mr. Rouse stated In response to a question from occasion for selling some securi still would contemplate that an that he arise, perhaps beginning tomorrow, in ties from the System account would to run off during the current week addition to permitting maturing bills as well as next week.
Upon motion duly made and seconded, and by unanimous vote, the open market transactions during the period August 21 through September 10, 1956, were approved, ratified, and confirmed. Mr. Young made a statement on the economic situation substantially as follows: The composite of most recent economic data confirms a rising trend for aggregate demand and supply, sustained vigor in the demands for credit and capital, and a confident busi ness and financial psychology. The wholesale price drift of fabricated industrial products appears still to have an up slant, but for materials and farm products a levelling-off tendency has been evident. Upward drift of consumer prices has been further extended. Abroad, although rates of output expansion have been slackening because of resource limitations, the situation remains generally strong, with price levels firm or rising. International markets continue alert to possible worsening of the Suez crisis. Recent developments meriting highlight comment include the following (1) The Commerce-SEC survey of business plant and equip ment expenditures for the fourth quarter shows a further rise of about the same average quarterly amount as during the past year and a half. These expectations, if realized, will result in an annual rate of expenditure for the fourth quarter of about $38 billion and in an annual expenditure for the year as a whole of $35.5 billion, one-fourth higher than for the year further rise in expenditures will be gen 1955. The indicated eral for all industry groups except mining which expects to about maintain a record volume of investment. index of industrial production for August (2) The Board's recovered its May-June level and is now estimated to have about is expected to exceed it. Steel output is pressing in September output is close to earlier ad against rated capacity; minerals equipment activity (except farm vanced levels; producers' machinery) is rising; automobile parts manufacturing is expand which has been stable at and nondurable goods output, ing; to be under stimulus some months, is reported reduced levels for of an increased flow of orders. have been for new automobiles markets except (3) Retail of household durable goods considerable strength. Sales showing at least close to in July and were reached a new high at retail
the June rate in August. New auto sales in August were down per cent further from July to 27 per cent under a year ago, but used car sales continued at the July rate (about 15 per cent under last year) and used car prices after allowance for depre ciation rose slightly further. Department store sales over-all in August held at a seasonally adjusted rate of 127, down point from the record July level but well above August a year ago. Consumer instalment credit has apparently continued to rise in the third quarter at about the same monthly rate, seasonally adjusted, as in the second quarter, (4) Construction activity in August maintained but did not exceed the record annual rate of July. Industrial construction held steady for the first time this year. Commercial construc tion rose, but was under its spring peak. Residential construc tion continued stable at about 12 per cent under the record level of last year. (5) Employment for August showed a record high and unem ployment showed more than the usual seasonal decline. The level of unemployment was about at the year-ago level--2.2 million. Average hours of work remained close to the level of the past three months, but average hourly earnings and weekly earnings were up. (6) Price increases of finished industrial items and some manufactured materials have been numerous in recent weeks and further markups, notably an increase of perhaps 7 per cent on new model cars and trucks, are soon to be announced. Outside of metal lines, further price increases for cement and a few industrial chemicals are worthy of note. Industrial material prices, after rising in early August, have been offsetting in recent weeks. Farm prices, reflecting sharp declines in vegetable and fruit prices, have been off from July, but reflecting strength in livestock, grains, and dairy products have averaged above a year earlier. larger marketings and price developments, with (7) Farm still point to a higher net realized income soil bank payments, for farm operators than last year. of .7 per cent for July consumer price index rise (8) The so surprised the Bureau of Labor Statistics that a complete of data was felt necessary before release of the double check reflected higher food prices figures. The rise particularly edged up. Since mid-July, prices of many but other prices also have advanced further so fabricated consumer items and services may be expected to mid increases for the index that additional September. against resource continues to press (9) Abroad, demand bank and fiscal actions to cope limitations, and both central
with financial pressures continue to be reported. In such key countries as Germany and Great Britain the evidence of recent data suggests that financial actions to contain in flationary pressures have been progressively effective in bringing about a better balanced demand-supply situation domestically and a better balanced payments position inter nationally. Mr. Thomas said that financial markets have now crossed the threshold of fall seasonal demands which will be added to already exist ing large cyclical and growth demands for credit. The interest rate structure as well as the level of interest rates is close to that characteristic of a high level economy, the first time such a relation ship has existed except for temporary emergencies in twenty-five years per cent Federal Reserve discount rate is more a mani or more. The 3 situation than a factor in bringing it about. In festation of this the economy threatening to burst it is questionable whether, with fact, can be justified. There is no evidence at the seams, so low a bank rate said, noting that credit de are too severe, Mr. Thomas that restraints are indications that the restraints are being met although there mands policy questions are how down expansion. The current may be keeping fall period of seasonal during the should be maintained much restraint restraint be exerted. and how should this demands needs are Treasury borrowing that prospective Thomas noted Mr. it now expected earlier; larger than was to be a little now estimated billion of new additional $3 will need an that the Treasury appearing for this half of $6.2 billion a total and perhaps in October funds
year, compared with $9 billion in the 1955 period. The Treasury will be in position to retire perhaps $8 billion of marketable debt in the period from January to June 1957, and the careful planning of current borrowing as to types and maturities of issues will have a bearing upon the program of debt retirement that will be possible. Capital markets continue under pressure of past, current, and prospective offerings, Mr. Thomas said, and there is a heavy schedule for the remainder of the current month. Corporate issues for the third quarter of this year will total about a third more than in the third quarters of 1954 and 1955, although State and local issues are expected to be less than in previous years. Interest rates have not risen much further since discount rates were increased in late August although long-term bond yields have continued a tendency to rise. Long term Treasurys are now yielding about 3-1/4 per cent and high grade are above 3-1/2 per cent, with new offerings corporate bond yields Treasury bill yields recently have bringing close to 4 per cent. per cent, with this week's auction at fluctuated between 2.65 and 2.80 2.77 per cent. at city banks increased during the Total loans and investments Taking the ten weeks since following a decrease in July. past six weeks showed little total loans and investments of June as a whole, the end period of during the corresponding this total declined change, whereas banks sold year, when than last much less has been Loan expansion
large amounts of Government securities to make loans. They have been unable or unwilling to effect such sales in any quantity this year. This change probably reflects the impact of restraint measures. The money supply appears to have declined in August this year, Mr. Thomas said, contrary to the usual seasonal lack of change, but the decline followed seasonally adjusted increases in June and July. Over the been barely 1 per cent, but in the money supply has past year, growth velocity has been at an increased level and continued high through also during August. Time deposits increased by July and apparently are temporarily higher. U. S. Government deposits 5 per cent and System has made substantial purchases Mr. Thomas noted that the past three weeks in order to United States securities during the of and credit expan seasonal needs for currency supply reserves to meet around $350 million but pres borrowed reserves have ranged sion. Net been especially severe. on banks have not sures weekly varia chart slides showing Thomas then presented Mr. have affected them principal factors that in reserves and the tions covering the remaining years, with projections over the past three the monthly pro was also shown with of this year. Comparison weeks 1956, and the in March of by the staff had been made jections that indicated both projected figures from the of the actual variations period. The in the of policies followed for and consequences reasons that seasonal year indicated of this for the remainder projections
needs along with some growth in deposits and currency would call for around three-fourths of a billion dollars of reserves to meet addi tional reserve requirements and for about the same amount to meet added currency demands, including a growth factor of around $300 million. To maintain net borrowed reserves at around $350 million and to provide for the seasonal and growth demands assumed, Mr. Thomas suggested that System purchases of securities of around $1.1 billion would be needed after allowing for a considerable expansion in float during November and December. He felt that it was neither necessary nor desirable to offset completely the mid-month or end-of-month in creases in float that would be expected. Policy questions presented, Mr. Thomas suggested, were: Whether these demands for bank reserves should be met entirely through open market operations? Whether in view of the strength of demand pressures banks should be required to borrow more to cover their re serve needs? Whether the reduced liquidity of banks might make them more sensitive to a small volume of borrowing? If complacent borrow Mr. Thomas expressed the view that a further increase ing is evident, in the discount rate would be appropriate. then called upon Mr. Hayes, who made a state Chairman Martin ment substantially as follows: last three weeks to has occurred in the 1. Nothing of the business and our appraisal alter fundamentally still appear to Inflationary tendencies credit outlook. be dominant.
2. Indications are that demands from business, con sumers, and governmental bodies will continue to increase through the remainder of 1956. With the labor force already at a record level, and with many industries operating at near-capacity rates, it is not surprising that we have seen so many price increases, not only for basic raw materials and for capital goods in general, but also for many con sumers' items. 3. Our most recent estimates of Treasury financing indi cate a smaller cash surplus than was expected earlier. In addition the redemption of Series F and G Savings Bonds and Investment Series A Bonds has been accelerating rapidly as the yields on marketable issues have advanced. It now appears that the Treasury will have to borrow a minimum of $3 billion addi tional in 1956. If there is high attrition on the December certificate refunding and if the redemption of nonmarketable issues increases further, the Treasury may have to borrow more. We expect that they will have to borrow early in October, and possibly again in December. 4. While it is impossible to gauge accurately the fall demand for bank credit, the latest figures on bank loans sug gest gains at least equal to normal seasonal expectations, and in addition there is some tendency for borrowers to shift from the capital markets to the commercial banks. At the same time the backlog of new corporate and municipal bond offerings re mains very large. Parenthetically, we have been told by a number of leading New York bankers that they are fully aware of the need, under present conditions, to resist the trend toward use of bank credit for capital purposes. However, they have also stressed the difficulty of turning down good customers, especially in view of competitive considerations. Some of the bankers would apparently like more moral support from the System to meet this problem, but we feel that such support has been given adequately by our actions themselves. 5. Evidence of the general effectiveness of the Federal policy of credit restraint may be found in the Reserve System's stability of the total money supply, and in the con relative tinuing upward trend of medium- and long-term interest rates. 6. The market's reaction to the recent increase in Fed discount rates was about as expected. There was eral Reserve effect, which has not, however, prevented a some "settling" of lower bond prices and higher interest continued expectation rates. discount rate would not another increase in the 7. While time, the inflationary outlook to be called for at this seem
warrants a policy of continued credit restraint, with a gradual probing approach toward increased restraint. This could take the form of permitting seasonal needs to emerge first at the discount window and then to be replaced only partially through open market operations. Recognizing that the current needs for reserves are in large part seasonal, the banks might be less reluctant to borrow than at other periods of the year. In this way additional restraint could be developed through the natural activities of the banking system itself. 8. The next two weeks present some difficulties in getting started with such a program, chiefly because very large gains in float will tend to cut net borrowed reserves to about zero, in the absence of open market operations, as compared with a recent level of around $350 million of net borrowed reserves. Sizeable sales of Treasury bills for System account will probably be necessary in the next week or so. The extent and timing of these sales will of course have to depend to a considerable extent on the "feel" of the market. Recognition of the temporary nature of the bulge in float may make it possible to maintain the present degree of restraint even with a lower figure of net borrowed reserves, but in any case additional member bank borrowing is not likely under these conditions. After this two-week period of above-average float has been dealt with, there be opportunities for application of gradually increasing may pressure in the form of larger member bank borrowings, sub ject of course to the need for considering the Treasury cash financing which is expected in October. said that much of what he had in mind to say had al Mr. Johns ready been suggested this morning. He recalled that three weeks ago expressed the opinion that it would be undesirable to attempt he had apply more pressure by further restric under existing circumstances to added pressure could be and that he hoped tions on credit availability credit. The net result increasing the cost of brought about through weeks had led him during the past three study of the situation of his now and the end of this in the period between to the conclusion that
year, the figure of net borrowed reserves would be less reliable as an indicator of the degree of pressure under which the commercial banking system should be placed. The liquidity of the banking system has been impaired and bankers are concerned about that factor, Mr. Johns said. In addition, the proportion of loans to deposits and of loans to assets has reached such a stage that bankers are actively concerned about that situation. As a result, there is a very sub stantial amount of restraint at present and a considerable reluctance on the part of banks to make loans and to do the things that are neces sary unless banks can count on additions to their reserves. Mr. Johns noted that his conclusion that the net borrowed reserve figure would not serve as a satisfactory indicator of restraint for the banking not solve the Committee's problem. However, discussions system did of his staff had brought him to the conclusion that there with members should be accommodated during the rest is a seasonal loan demand that not fear to accommodate. It year and which the System should of this represented desirable expansion to sort out credit that was difficult the spillover of should be inhibited, particularly from that which he felt that the markets. Nevertheless, into the capital bank credit volume and that behavior of loan closely the should observe Committee loan volume that developed. partly by the should be gauged pressure apply more that it not inadvertently should be careful The Committee than wanted. pressure
Mr. Johns also noted earlier comments regarding fluctuations in float and, while he did not wish to minimize the importance of studying that question, he suggested that officers of commercial banks either consciously or unconsciously make allowance for float and, for the most part, rule out brief monthly increases in its volume as a source of reserves for credit extensions, recognizing them as temporary additions only. The Committee should not make frantic attempts to off set these fluctuations in float, Mr. Johns said, lest it attempt to adjust for something that the commercial banking system adjusts for in stride. He therefore would concur with the suggestion that the Com mittee not be too concerned about the bulge in float that would come in the next two weeks, and he would not be too eager to offset such a bulge through open market operations. Mr. Bryan made a statement substantially as follows: The major economic shift in the Sixth District has been a quickening pace of consumer spending, reflecting record breaking payrolls. This development has been aided by the settlement of scattered labor disputes, which in August prob ably sent nonfarm employment to a new high. Earlier gains over a year ago in agriculture, however, have been reduced by lack of moisture in many areas. There are also increasing reports that the restraining monetary policy is having the slowing down planned investment expenditures. desired effect of On the financial side, total loans increased slightly in August, but the rise was probably less than seasonal. Dis estate loans were the only types to trict security and real and we have the impression that a con gain significantly, siderable amount of real estate speculation is continuingcredit is scarce and builders despite the fact that mortgage report difficulty in arranging permanent financing generally and construction loans as well.
Borrowing from the Federal Reserve Bank has declined and excess reserves have risen. Unborrowed reserves in August averaged a small positive figure. With regard to the problem of policy, Atlanta is im pressed by the following considerations: 1. Recent news continues to confirm the mid-summer price bulge; and the weight of logical expectation is for a further upward slant in final-user prices during the next few months. 2. The appearance of other background factors that may be of importance: a) An apparent dampening, as it seems to us, of the wildly ebullient mood so universally in evidence some weeks ago; b) Some evidence that capital expansion plans are being cancelled in a few cases, fringe items eliminated in other cases, and fulfillment stretched out in still other cases; c) The declines in new orders for heavy equipment and an apparent hesitation in construction and residen tial building. 3. An apparently weak, as it appears thus far, fall ex pansion in loans. This appears to us related to the fact that total reserves of the banking system in August were, practically speaking, identical with the reserves a year ago; and, hence, an expansion of loans can only be accomplished by means that are becoming increasingly distasteful to the banking system. At the same time, the privately held money supply, as distinguished from bank reserves, is apparently now no higher than it was a year ago. In trying to evaluate the foregoing and other considerations, some of them largely intuitive, I come to the following conclusions: 1. There is no adequate, present evidence justifying a change of monetary policy. For the immediate present, mone tary policy should remain as is, neither easing or tightening its money-rate effects, and being especially careful to guard against an inadvertent easing or tightening. 2. Monetary policy has by now placed the economy in a illusory restraint. I believe situation of genuine rather than by its dampening effect on the economic that present policy, boom, is serving the public interest. failure to meet a developing 3. I also believe that place the economy under for reserves could easily seasonal need and that we do not that is undesirable a degree of restraint There is at the moment, in my view, no presently intend. quantity as would weaken the to supply reserves in such reason
general structure of money rates and there likewise is no present reason to contemplate so niggardly a supply of reserves that money rates, by an increase in yields, would signal an increased tightening. In the light of these ideas, and the substantial estimated changes in float, first increasing and then decreasing in the weeks immediately ahead, and in the light of the imponderable reactions of the money market to a given level of negative free reserves, it would seem to me wise not to aim at a particular level of negative free reserves nor to base the account's sales or purchases on our statistically adept, but so often mistaken, estimates of float behavior. Instead, it would seem to me wise to base account action, not on preconceptions--if I may be forgiven for so calling themof float or negative free reserves, but on the actual behavior of the market. The consensus of the market, by the behavior of price changes over the whole range of the yield curves, is likely to be a more revealing guide to a developing ease or tightness than are our seasonal derivations of float or our aimed-at level of free reserves. It seems to me that we may want in the next weeks or months to shift policy in the light of developing eco nomic conditions, either easing or tightening as a developing complex of economic and financial factors may indicate; but we will want to avoid inadvertence in our action; and so it would seem to me best to keep in mind the fact that money availability and money demand take effect in money rates, which are the equat ing price that clears the supply and demand sides of the market. Thus, if float makes it necessary to sell bills from the portfolio in the next few weeks, I would wait until the consensus of yield changes in the yield curve tells us that money rates are easing and that, if we do not want ease, which I do not at this time, we should be taking countervailing action. Likewise, if purchases are called for later on, it would seem to me prudent to wait until the consensus of the market, by the behavior of price changes throughout the yield curve, tells us that money rates are tightening and that, if we do not want tightening, we should take countervailing action. By pursuing policy in would seem to me possible to avoid in a measure that way it an ease or a tightness that we do the risk that we will create not intend, that we have sometimes effected in the past, and occur in the next weeks and months. that I think could easily up for further considera I would like to bring In closing, advanced, and that is a suggestion that I have previously tion before this body. That is, I should like to raise not, I know, or not, beginning sometime in the again the question of whether few weeks, it might be wise to schedule a one-percent next deposits. The follow requirements on time reduction in reserve ing thoughts occur to me in that connection:
1. The seasonal requirements for reserves are going to be massive. The reserves released by the suggested reduction on time deposits, about $400,000,000, would leave ample room for Open Account maneuver, so that we would in no sense lose command of the reserve situation. 2. The reductions could be announced but scheduled a quarter of a per cent per week over a four-week period, or even at longer intervals, thus putting no large volume of reserves in the banking system at one time. 3. Over forty-eight per cent (48.4 per cent) of the re serves thus released would be placed in country banks, which account for only 27.5 per cent of the seasonal loan expansion. a) There would thus be no sudden easing in the market; b) The reserves would not go in major part into the banks where the capital loans of large corporate borrowers are coming to rest; c) The reserves would eventually become available to the banking system; but the process would require a good deal of scrambling by the commercial banking system to get the reserves to the places most needed. This factor, coupled with the modest amount of the reduction, and the scheduling of the reduction over a period of time would give double assurance that no sudden ease would appear, 4. The action would be taken as an approbation of those banks that are struggling to maintain their place in the savings field. I believe, for a variety of reasons not here pertinent, that that struggle on the part of many banks is in the long-run best interest of the banking system and in the national interest. what with its present portfolio and addi 5. The account, tional necessary purchases of bills through the fall season, would seem to possess sufficient bills to restrain an excess easing tendency after the year-end if monetary restraint still seems called for by economic conditions at that time. said that the evidence available in the Third Dis Mr. Williams by Mr. Bryan for the Sixth Dis was at variance with that presented trict had made ago U. S. Steel Corporation that a few days trict. He noted $95 million expansion in its Fairless plant known plans for an additional steel company also had months, and a smaller during the next eighteen million in its plant. expansion of $16 announced an additional
Mr. Williams said that the Philadelphia Reserve Bank had made another of its quick surveys of firms that sell industrial equipment. His report of the information thus received indicated that, except in the case of a textile firm, these companies were going ahead with capital expenditure plans, that backlogs were still large, that one important suppliers orders now on the books are suf ficient to make the company' s 1956 sales budget, and that a pickup in activity during the fourth quarter of this year is anticipated. How ever, the thought was expressed by one individual that the peak of new orders may have been passed. Mr. Williams stated that in agri culture this year's results were turning out better than anticipated somewhat earlier; production would be very good and income might rise cent above that of last year. Factory construction contracts 5 per were up substantially during the first seven months of this year as compared with last. Taking the situation as a whole, Mr. Williams said that the economy of the Third Federal Reserve District was at a high level, that demand for bank credit was continuing strong, and that borrowings from the Federal Reserve Bank continued high. He was in the seasonal credit demands concerned about their participation from other districts. One of the large that could be anticipated Philadelphia banks which over the years has participated in moving that it its Memphis correspondent crop, recently notified the cotton those needs this year. Some funds available to meet would not have
of the country banks that had been steady borrowers but which had gotten out of debt are now back at the discount window on a seasonal basis. Seasonal demands plus demands for other than seasonal require ments indicate a need for the Reserve Bank to increase pressure, Mr. Williams said, and he had in mind calling in some of the country banks to discuss the situation with them, the outlook having reached a point where discounting must be tailored to the individual bank's needs. The Reserve Bank is watching the situation carefully to avoid affect ing adversely the seasonal demands, he said, since failure to create such credit might result in a public press that could make more diffi cult the handling of the total situation. Mr. Fulton said that if there were any pessimists in the Cleveland District they were very quiet at the present time. The whole tone of business is one of expectation for a very high fourth quarter. Steel mills in the area are operating at a very high capacity and are reluctant to take additional orders. He also noted large plans recently announced in the Cleveland District. capital expenditure demand for loans in was a large and continuing Mr. Fulton said there had described as insatiable. District which bankers the Cleveland loans are for fixed asset loans classed as commercial Many of these some of the borrowers said, noting that for long terms, he purposes as much as five years. to the banks for in debt had been continually some cases did loans in so-called commercial other words, the In
not have liquidity because they were in fact for fixed asset purposes, and he felt this a dangerous aspect of the situation. The question of what was a reasonable way in which to handle the kind of demands that were coming up, along with the seasonal expansion which necessarily must be met, was thus presented, Mr. Fulton said. His view was that between now and the next meeting reserves should be supplied rather reluctantly. Seasonal factors should be permitted to tighten the situation and banks should be permitted to borrow to obtain needed reserves--he could see no evidence that banks were reluctant to come into the Reserve Bank to borrow for that purpose. If the System supplied the reserves to meet these various demands without restraint, it would be adding to the forces making for price increases. The major source of any added re serves in this situation should be the discount window rather than open market operations. Mr. Shepardson said that it seemed to him that the general picture was much the same as it has been for some time and that there was still need for the same level of restraint that has existed recently. In fact, he had wondered whether the restraint had been as great as it should have been. Some of the comments this morning indicated an encouraging situation in his view by suggesting that perhaps the restraint was beginning to take hold; it would be un System now let the complaints as to restraint lead fortunate if the in the situation. Upward price pressures were still it to any easing
strong and probably would increase, and the System should try to curb those pressures and to keep bank credit from going into the capital markets. Mr. Shepardson agreed that normal seasonal demands should be met, but there should be sufficient restraint in doing so to try to avoid having the credit dissipated into other areas. He felt there was merit to the suggestion that reserves be supplied at least in large part through the discount window rather than through the System account. Whatever could be done to bring further pressure and to discourage continuous borrowing by banks at the discount window should be done. Perhaps there should be closer screening of discount window activities, and consideration should be given to a differential dis count rate that would discourage continuous borrowing. Mr. Robertson said that it seemed to him that the biggest factor in the picture today was the increase in inflationary pressures. The System has not been tight enough, he said, and it is continuing to credit available. The economy is reaching a point where make too much country as a whole are inclined to want to the mass of people over the are going higher and higher. At the moment, buy things for fear prices we are edging further towards not become too bad, but the situation has for a long time, he too easy in its policy it. The System has been with respect to the cries of bankers very glad to hear felt, and he was exists. He hoped that in the future, the degree of tightness that now between now and the next meeting, nothing at least during the period
would be done to ease the situation. He agreed that the Committee need not offset the entire amount of float that would arise during September but it should offset a sufficient part of it to maintain the degree of tightness that exists at the moment. As soon as this period of ease has passed the Committee should tighten up the situa tion. Tightening should develop through permitting increased borrow ings at the Federal Reserve Banks, with the pressures that that would bring. Perhaps we were approaching the point where a shock treatment was needed. Mr. Robertson said he did not care what criteria were used in judging the situation, so long as the System did not make so much money available as to feed the inflation that is taking place. He did not feel that we were near the point where the Committee should consider a turn about, believing that the great fear now is that too little action will be taken and that the public will become frightened with respect to inflation and will increase its buying activity. Mr. Mills said that his view of the situation was decidedly at variance with the views expressed by Mr. Robertson and was in complete agreement with the analysis submitted by Mr. Johns. There is a restrictiveness in the present banking situation that does not through any level of free reserves or through any other show up the case, Mr. Mills said that he had welcomed criterion. That being what seemed to be a moderation in System action over the past two weeks, free reserves fell. He was still during which the level of negative
fearful of an overly severe monetary and credit policy which could ultimately place a heavy burden on the consumer elements in the economy through failure to take into account the lag between System action and economic reaction. Such an overly restrictive credit policy could result in shrinking the very markets that must be relied upon to pick up the output of the increased productive capacity that is coming into operation. Without that output going through the mar kets and on into the hands of consumers, we could aggravate a problem that would be difficult to handle through future policy actions. There fore, the attempted correction of any potentially surplus productive capacity might better be left to itselt rather than risk unduly shrink ing markets by means of restricting the availability of credit. Mr. Mills said that he shared the opinion that the Committee concerned about fluctuations in should not allow itself to be greatly fraternity understands those changes the volume of float. The banking fluctuations in either should not seek fully to offset and the Committee on the threshold of a new at present when we are direction, especially Committee must take some responsibility financing program. The Treasury of the last two Treasury financing opera for the indifferent success fluctuations we hard to offset float and if we try too tions, he said, confusing investors plans by Treasury's financing handicap the might a policy of moderation, We should follow as to System intentions. money markets. of the condition on the general eye a watchful keeping
In that connection, Mr. Mills felt that the Committee had a special obligation, within the limits of a policy of prudent credit restraint, to foster stability in the U. S. Government securities market. Mr. Leach said that economic conditions in the Fifth District have been following about the same pattern as in the country as a whole. Production of bituminous coal is running about 11 per cent above a year ago. Shipyards at Newport News and Baltimore have recently received new contracts for six tankers and three ammunition ships. Department store sales for August approximated the new high reached in July. On the other hand, the textile industry which is very important in that district continues to evidence no boom. Informed people in the industry state that new orders during the next three weeks will be crucial for the state of the industry during the remainder of this year. Mr. Leach referred to the action taken by the Richmond Bank in increasing the discount rate last month, noting that the directors at that time had asked that the First Vice President (in Mr. Leach's ab convey to the Board of Governors the suggestion that the Board sence) of approval a statement to the consider including in its announcement in the rate could be a limit to what this change effect that there was directors were con said that the accomplish. Mr. Leach expected to that this discount rate change cerned over any possible implications price pressures to reverse the probable could or was intended by itself Mr. Leach went on to say recent labor cost increases. resulting from
that he personally did not think the announcement of the discount rate increase would have been the best occasion for such a statement although he agreed that the System might intensify its informal efforts to dispel the idea that monetary policy by itself could correct any and every dis tortion in the economy. Mr. Leach emphasized that this did not mean that either the directors of his Bank or he had a defeatist attitude, To the contrary, they favored continuing a restrictive credit policy directed toward dampening expansion. The System's present policy was having that effect, Mr. Leach said, and he was convinced that member banks, particularly the larger ones, are quite aware of the importance of screening loans and are actively doing so. At the same time, he recognized that some of the reserves being furnished for seasonal needs inevitably are being channeled into additional capital loans and other loans. Mr. Leach did not think this could be types of undesired the System could not carry restriction to the point avoided because the Government securities market or of permitting of demoralizing to develop under which funds for appropriate purposes conditions not be secured at some price. could Leach favored con two weeks, Mr. policy for the next As to using "feel" of the market as tinuing the same degree of pressure, posture of market consistent and obvious in maintaining a a guide have no objection to circumstances he would restraint. Under these if necessary, although ordinarily operations in the market, in and out
he did not like to see such operations for the System account. Mr. Leedy said he saw no signs whatsoever of any abatement of inflationary pressures. Capital expenditures during the last quarter of the year are indicated at an unprecedented level. A very large volume of capital issues still apparently would be offered in the market, despite the fact that rates have increased and that there has been ample publicity as to the tight money situation. Many companies seem to feel that in order to retain what they consider their share of competitive markets they must go ahead with plans for capital outlays. At the same time, there is virtually full employ ment and, most disturbing, Mr. Leedy said, the price level is increas ing. Against this background, he felt that the System was called on to whatever extent it could do so to attempt to exercise further re couple of weeks, projections indicated that straint. In the next substantial in the market unless action was taken to ease would be offset it. Mr. Leedy said he would subscribe to the view that the ease, but if his feeling that need not completely offset this System is being watched closely is correct, the net borrowed reserve figure to indicate clearly a should attempt to continue he felt the System liked Mr. Hayes' suggestion Mr. Leedy said he policy of restraint. some of the seasonal with respect to having that there be probing the discount borrowings through an increase in met by requirements the System should be applying some window. His conclusion was that without too much could be done to the extent that additional pressure
risk of doing unintended damage, while at the same time responding to seasonal needs. Chairman Martin noted that Mr. Mitchell had attended this meeting on behalf of the Chicago Bank, and called upon him for a statement at this point. Mr. Mitchell said that economic conditions in the Seventh District were good. He could not say very good because the district still has two problems, namely, the automobile situation in Michigan and the general farm situation. The farm outlook has improved con siderably during the current year, and in Eastern Michigan automobile manufacturers are now filled with great expectations believing that there will be a 10 per cent increase in sales next year rather than a loss of better than 25 per cent as had occurred during 1956. The 25 per cent decline during the current year has had important secondary Michigan, Mr. Mitchell noted, having affected total effects in Eastern that a decline of around 12 per cent was retail sales to the extent of this year and probably a during the first five months indicated and July. Booming sections had occurred during June greater decline in the Milwaukee and if there are any, are of the Seventh District, of capital goods production. noted, which are centers Peoria areas, he particularly steel and earth moving machinery Mr. Mitchell mentioned implement company had merged that one large farm manufacturers, noting as a means of improving of earth moving equipment with a manufacturer in the future. its position
Turning to agriculture, Mr. Mitchell said that the improvement in farm prices, including cattle prices, had encouraged farmers. A seasonal decline in hog prices is in the offing but farmers do not ex pect anything like the 40 per cent decline in prices that occurred last year. Mr. Mitchell also commented upon agricultural loan figures available for four types of farming areas in the Seventh District, expressing the opinion that a decline in loan renewal rates did not necessarily indicate that farmers were being denied credit that they needed. Bank loans to seasonal borrowers (retail and wholesale trade, commodity dealers, textile, food, liquor, and tobacco firms) were not being extended by Seventh District banks in as great volume this year as last, Mr. Mitchell said, and the evidence as to whether seasonal borrowers are demanding less accommodation or being cut back by lenders is still not clear. Mr. Powell commented on agricultural conditions in the Ninth District, stating that while this had not been a bumper crop year generally and while the wheat crop was quite small, agricultural in come would prove to be fairly satisfactory. Industrial employment is very strong and retail trade is running at a higher rate than the is very low. Mr. Powell said that national averages. Unemployment with the views expressed by Mr. Mills that the he was in agreement United States economy a real disservice System might do itself and the
if it tightened conditions too much in the face of seasonal demands for credit. He was more concerned about the need for meeting seasonal factors than he was about excesses in the use of bank credit in attempt ing to provide capital goods. Mr. Powell said that he would favor the System supplying part of the reserves that would be needed to meet these seasonal demands through a reduction in reserve requirements against time deposits, such as Mr. Bryan had mentioned. This would be a way of supplying reserves to most of the banks of the country without their going through the discount window or through the open market account, neither of which would supply reserves to all banks except indirectly. The timing of such a reduction was important, however, and Mr. Powell recognized that this was not a decision within the scope of responsibilities of the Open Market Committee. Mr. Powell stated that the price increases taking place were partly in the agricultural field, which he felt to be good, and partly the System had no control and which are not due to factors over which monetary in their origin. He felt that the System had had its effect in ameliorating these price increases last spring when a firm monetary Now that the wage demands have policy tended to soften wage demands. for price increases and the the economy is inevitably in been granted, be to create a condition of they can be offset would only way that was not prepared to his opinion, the System which, in unemployment that while he was Mr. Powell said For these reasons, undertake.
concerned about the price increases he felt it was necessary to accept them, and to recognize that there will be more and that there is nothing that the System can expect to do to offset them. Under these circumstances, the System should do what it could to permit the seasonal factors to have their normal play and it should not be too ready to put additional pressure on the money market at this time. The Committee might wish to change its policy to one of greater restraint when the seasonal rise in need for reserve funds has passed. Mr. Mangels said that the Pacific Northwest was still bothered by softness in the lumber situation. Demand is still down, and prices have consistently declined for several months due in no small measure to a reduction in residential housing construction. There is no evidence yet of improvement in that demand. On the other hand, the general economy of the Twelfth District continues strong. Retail trade is progressing quite satisfactorily and over-all employment is at high levels with some areas reporting an acute employment situation. The over-all anticipation is for a booming fourth quarter this year. De mand for bank credit continues extremely heavy and reports are that seasonal demands for the rest of this year will be heavy. Neverthe less, member bank borrowings from the Reserve Bank continue at a reduced level, he said, and one of the large member banks recently informed him that it would hope to get through the remainder of this year with only intermittent use of the discount window.
Mr. Mangels said that he was glad that Messrs. Powell and Mills had commented as they had since he, too, felt that the infla tionary situation with increasing costs was pretty well frozen into the economy until there could be an increase in productive capacity. The increase in credit needs that goes with a normal seasonal demand for goods faces us, and everything indicates that trade during the rest of this year, including the holiday business, will be extremely heavy. This will require more credit even though it does not repre sent an expansion in business other than seasonal. An additional credit demand on top of all other so-called legitimate purposes also can be expected when the 1957 automobile models come on the market. Over all, Mr. Mangels felt that the System would be well advised to modify the degree of restraint that it has exercised during the past weeks, and he would be inclined to be a little more liberal several in furnishing reserves to member banks in the period immediately the several factors he had mentioned. ahead because of to the comments of Messrs. he had nothing to add Mr. Irons said Young and Thomas on the national economic picture, his appraisal being District, tendencies are as theirs. In the Dallas about the same and other in in the petroleum, construction, toward further strength available. Unemployment is low and the dustries for which data are is very favorable. Housing is tight. Retail trade labor situation
starts are holding about steady at the level that has existed for the past few months. Automobile sales have been slightly on the slow side lately. While some crop production is off because of the drought in certain areas, there is a tendency for the more favorable conditions in irrigated sections to help average out total farm in come. Bankers continue to report strong loan demands, Mr. Irons said, with some indication that some out-of-district firms would now like to obtain loans from Texas banks that would be in the nature of capital credit. Unfortunately, some of these demands are coming from con cerns that the Dallas District banks have been trying for years to get as customers. The banks express the hope that the System will make available the reserves to meet seasonal and essential and legiti mate requirements, Mr. Irons said, and while a reasonably satisfactory definition of seasonal needs might be arrived at, the "essential and requirements are not so readily recognized. While it could legitimate" the discount window is always open for appropriate and be said that did not make a satisfactory answer to banks discontinuous use, this wishing assurance that they could obtain funds they might need. Banks said that there was a considerable heavily loaned and Mr. Irons are in the so-called commercial loan figures amount of term credit included in the meeting, banks are in an illiquid and, as indicated earlier because of such loans. position with the policy of restraint, and that, Mr. Irons said he agreed
although the discount window should be open for appropriate and dis continuous use, the discount policy should be administered firmly toward the end of helping to meet seasonal requirements, but avoiding inappropriate or continuous use of the privilege. In terms of policy, he felt that the System should continue the degree of restraint that it has been maintaining. If anything, he would be inclined, at least during the next few weeks, to be persistently and gradually moving toward more restraint with respect to bank reserves, recognizing that the System could not be wholly accurate in supplying reserves that might be needed in the market. His inclination, however, would be to resolve doubts on the side of reluctantly supplying needed reserves or of being almost niggardly. There should be judicious use of the window on a case-by-case basis. He would place the System discount in the position of following closely all factors account management the needs of the market, without use of that might be indicative of other specific figure as net borrowed reserves or any any figure of a guide. the Boston District re that conditions in Mr. Erickson said In July, nonagricultural employ main very strong in almost all lines. covered all areas except on record, and this was the highest July ment the spring and fall in July is between and leather; leather textiles a 13 per cent increase very strong with is still runs. Construction in residential per cent increase and a 7 August 1955, in August over
construction in August over last year. Mr. Erickson commented on the recent increase in the prime rate of the First National Bank of Boston to 4 per cent, stating that that bank had hoped that some of the demand for credit would be shifted from it to other areas at the time the in crease in the rate was announced. Mr. Erickson said he would not make a change in reserve require ments of member banks at this time, and that he agreed with Mr. Irons that the same degree of restraint that has existed recently should be maintained; if anything, there should be an increase in the next few weeks, although seasonal requirements should be supplied. Mr. Erickson suggested that financial writers and others might misinterpret actions of the System if it permitted net borrowed reserves to get down to the zero figure through failing to offset the mid-month rise in float, and his inclination would be to do enough in this period to keep the net borrowed reserve figure somewhere around the $300 million level. He would have no objection to going in and out of the market when that seemed desirable to the management of the account. Mr. Szymczak said that since all of the facts and figures pre sented at this meeting indicated a high level of economic conditions for the balance of this year, since prices were continuing at least upward, and since the System had taken action to offset the influences of a shift in float when it declined, he felt it quite natural that the System should now take action to offset float when it went up. would assume that the it. Otherwise, it The market would expect
System only intended to offset float on the one side. By the very nature of the situation, he felt that the account should sell securi ties at least for the next two weeks and observe the market in order to get a better perspective. The System would, of course, have to supply some reserves during October and no doubt during November and December to take care of the seasonal needs that would arise, but Mr. Szymczak would rather not supply these through the discount window so much as through the open market. If banks get the impression that the System expects them to borrow in order to make loans, difficulties might be presented for administering the discount function later on. Mr. Balderston said that it seemed to him that the policies of commercial banks are becoming less and less sound. On the one hand, are permitting short-term money to be used for capital expansion they which should be financed from savings; on the other hand, they are of liquidity. He was concerned that losing sight of the importance collateral on their own initiative when the banks were now pledging retaining it to protect their deposit liabilities. This they should be loan ratio, which had risen to 60 per cent tendency and the level of the believe that the System should in some cases, led him to or above availability by seeking effective tackle the problem of credit vigorously of bank funds for long-term uses. means of discouraging the use said he had policy, Mr. Balderston Turning to the Committee's Mills had brought to our problems of timing that Mr. sympathy for the
attention. However, it seemed to him that the price rises were in part the result of mistaken policies by corporate borrowers a year ago and in part the result of a too lax credit policy by the System at that time. As we approach the crest of this wave of economic activity, the problem of timing would become more and more of concern to the System; what we do now will of course affect business a year hence. Despite that, consumer prices are rising as a result of cost increases that have taken place since June a year ago, and these may trigger another crop of wage advances. Moreover, plans for capital expansion are now pressing both on supplies of critical materials and on manpower resources, as well as on capacity of capital goods industries. The Treasury will have to come to the market in October in the face of a very strong corporate demand for credit. In sum, his feeling was that short-run policy of the Committee should be that expressed by Mr. Leach. While the System should not permit positive reserves to develop and in the main the decisions should be left to the desk, he hoped that operations could prevent outside interpreters from being deceived and that, in general, the same of System policy would be maintained that now exists. Mr, Balderston degree of tightness we dare not become less tight because said that he had a feeling that and are going to continue to the price rises that are occurring of he was not sure that the System occur this fall. On the other hand, the picture became clearer greater tightness until should move toward later on.
Chairman Martin said that it encouraged him a great deal to observe the amount of thought and time and effort that each of the members of the group had been putting into the problems facing the System, as evidenced by this morning's discussion. The forces we are dealing with are large, and we must try to keep in perspective what the System is trying to accomplish. We must also constantly keep in mind the question of how much money and credit policy can do in dealing with these forces. They are as large in their nature as the tides, and monetary and credit policy can possibly not do more than wave a red flag at the dangers presented. The Committee should wave this red flag, the Chairman said, but against the Juggernaut of Government spending, and against the Juggernaut of inflationary prices, it should not persuade itself that monetary and credit policy will be what is occurring. And, he added, this is not successful in halting defeatism. went on to say that he thought it would be a The Chairman the pressure on the market sub mistake for the Committee to reduce thought it would be a by overt action, but he likewise stantially by overt action. The pressure in the market mistake to increase the and should endeavor we are facing recognize the problems System should possible within the conditions as is as reasonably stable to develop for example, as a situation that is developing, framework of the Treasury financing be the most difficult to what will probably prelude
in years to come. That is something all of us should consider. Mr. Mills had mentioned the two preceding Treasury financings, and the Committee should recognize a certain degree of responsibility. There should be no misunderstanding of the situation the Com mittee faces. We are within eight weeks of an important political decision, the Chairman said, and while it is the Committee's duty to be uninfluenced in either direction by that fact, it is also its duty not to ignore it. However much the System might wish to avoid mention ing that fact, it could not avoid recognizing that it existed and that it colored whatever the System may do. Chairman Martin thought this should be brought out on the table. Chairman Martin referred to letters of criticism that he re ceived from time to time, stating that one of the things he was hearing was that the System lived in an ivory tower, that it was not completely aware of the forces that are developing around us. This point of view irritated him: the System and its staff are not isolated, and we do not live in an ivory tower. Nevertheless, there is a tendency not to mention politics because of the possible implications. While the System is not political in its actions, it should recognize the political situation in the spirit that he had mentioned. reiterated the view that the Reverting to policy, the Chairman move either to tighten credit or to System should not by overt action loosen it at this time. The degree of probing that Mr. Hayes had sug had to be evaluated against respect to further tightening gested with
the feel of developments in the market and would have to take into account the Treasury's financing which would total roughly $3 billion, probably early in October. It was his hope, although it was not his expectation, that that financing would be out of politics. While there were shades of difference to be recognized in the comments at this meeting, the Chairman said that his appraisal of the group's feeling was that no one wished to change the Committee's directive at the present time, either as to wording or as to amount, and in the absence of comment to the contrary, he suggested that the Committee approve the directive to the Federal Reserve Bank of New York. Thereupon, upon motion duly made and seconded, the Committee voted unanimously to direct the Federal Re serve Bank of New York until otherwise 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 of the account; provided that the aggregate administration amount of securities held in the System account (including or sale of securities for the commitments for the purchase at the close of this date, other than special account) certificates of indebtedness purchased from short-term for the temporary accommodation of the time to time decreased by more than shall not be increased or Treasury, $1 billion;
(2) To purchase direct from the Treasury for the account of the Federal Reserve Bank of New York (with discretion, in cases where it seems desirable, to issue participations to one or more Federal Reserve Banks) such amounts of special short-term certificates of in debtedness as may be necessary from time to time for the temporary accommodation of the Treasury; provided that the total amount of such certificates held at any one time by the Federal Reserve Banks shall not exceed in the aggregate $500 million) (3) To sell direct to the Treasury from the System account for gold certificates such amounts of Treasury securities maturing within one year as may be necessary from time to time for the accommodation of the Treasury; provided that the total amount of such s ecurities so sold shall not exceed in the aggregate $500 million face amount, and such sales shall be made as nearly as may be practicable at the prices currently quoted in the open market. Turning to the consensus as to guides to be given to the trading desk, Chairman Martin said that some of the comments tended toward ease, others (which he thought represented a majority) would stay somewhat in the middle ground, some would stay on the side of tightness in resolving doubts, and one or two would overtly move toward greater tightness. Mr. Hayes suggested that a good deal of the discussion and a good deal of the difference in views pointed out by Chairman Martin in volved suggestions relating to a somewhat longer run than the next two week period. Most of the program that he (Mr. Hayes) would contemplate for credit would be during the rise in seasonal demands as desirable after the next meeting of the Committee. He doubted deferred until the System account could do enough sell whether as a practical matter ing during the next two weeks while float is supplying reserves, to probing actions he had that would lead to the create the tightness
suggested--probably most of the probing would have to be deferred until the October Treasury financing is out of the way. Following some discussion of Mr. Hayes' comments, Chairman Martin suggested that until the next meeting of the Committee, which would be held on September 25, 1956, it would appear to be the majority consensus that the Committee wished to maintain a degree of stability in the market with doubts being resolved on the side of tightness rather than of ease, but with the understanding that the Account Management would not make conscious moves on the side of tightness. In response to a question from Mr. Shepardson, the Chairman stated that this would contemplate some selling of bills in the near term but that such sales would be with the idea of not permitting negative free reserves to go to the zero level. None of the members of the Committee indicated disagreement with Chairman Martin's statement as to the policy guides to be followed until the next meeting. Chairman Martin called upon Mr. Hayes in connection with the proposal that had been made by Mr. Sproul in his memorandum of May 3, that had been referred in subsequent memoranda 1956, and discussed of the Committee since that date under to at a number of meetings give limited authority to the which proposal the Committee would make swaps in Treasury bills. Account Management to
Mr. Hayes noted that a memorandum had been distributed by Mr. Rouse under date of August 14, 1956, covering interviews held with representative dealer firms in accordance with the suggestion made at the meeting of the Committee on August 7, 1956, regarding the possibility of making swaps in Treasury bills for the System account. He stated that, as Mr. Rouse's memorandum pointed out, not only did these dealers have no objection to the proposal but they indicated considerable optimism as to the assistance the suggested procedure might give to the functioning of the Treasury bill market. Mr. Hayes stated that since the August 7 meeting he had taken occasion to review the whole proposal and to consider further the reasons why it was be lieved to be desirable. While it was not a matter of major signifi cance, Mr. Hayes said he had concluded that benefits would obtain from the proposal and he hoped the Committee would act favorably on it. At Mr. Hayes' suggestion, Mr. Rouse commented on the proposal, stating that if it was approved, he would expect to notify the market initially of its adoption by the Committee with the thought that dealers would come to the System account when they desired to engage very occasionally the System account might wish in swaps, although to go to the market. Martin said that he would like to reiterate for the Chairman record his thinking on this proposal. He still thought that as a
matter of principle the Committee would be wiser not to engage in did not want to stand in the way of swaps. However, he certainly circumstances might be helpful in carry anything that under certain ing out the Committee's objectives. His judgment on principle might be wrong in this particular instance, he said, but if swaps were to be undertaken it was important that it be in a way that would not lead to misunderstanding; the procedure should make it clear that the swaps were at the initiative of the Committee and not at the beck and call of the dealers who might take the initiative away from the Committee, Mr. Szymczak said he had no objection to the proposal for swaps in Treasury bills, that he thought it was something the Com mittee should engage in eventually. He questioned the advisability of undertaking it at this time, however, and suggested that it might be deferred until next January. Mr. Rouse stated that the proposal had been made sometime would prefer to have the matter settled one way or ago and that he the other. Mr, Mills said that to him adoption of the proposal except when the Committee's holdings of bills under unusual circumstances would be putting a foot in the doorway were reduced to a very minimum account to general trading. He to opening the System open market felt the action would point of view but that was an extreme recognized
represent a step in the direction stated. He could not reconcile such a step with the idea of a free market, and he did not think it a policy that the System should countenance. Mr. Robertson said he held exactly the same views that the Chairman had stated and that he also had some of the feeling expressed by Mr. Mills. However, he did not think the matter of principle of sufficient importance one way or the other to throw road blocks in the way of the management of the System account in trying to make the Committee's operations more effective. He did think, however, that the Committee should do everything possible to see to it that the initiative for swaps remained in its hands. Consequently, he had prepared a draft of a resolution which he felt would assure that the initiative remained with the Committee, and he read the resolu tion as follows: If at any time it appears to the Manager of the Market Account that a different maturity distribu Open tion of Treasury bills in the account would facilitate future action in supplying or absorbing reserves, the Manager may make exchanges of Treasury bills of differ ent maturities. Such transactions shall be undertaken only for the purpose indicated above and only if, in judgment, they will not distort the the Manager's functioning of the market. Before effectuating any the Manager shall give notice to such transactions, securities with whom the all dealers in Government account regularly transacts business of the purpose extent of such transactions. and proposed Mr. Rouse proposed resolution, Mr. Robertson's In discussing market before every swap notification to the said he felt that prior
transaction would not be feasible for several reasons. First, to present swaps to the market as suggested would create operational problems. Some dealers would bid on one side of the proposed swap, some on the other side, and other dealers would bid for both sides on the understanding that either price would hold only if both sides of the transaction were done with him. In short, attempts to determine best prices would involve endless negotiation by the staff of the Trading Desk. Second, by advising the market of the swap it intended to work out, the System would call unnecessary attention to its particular interest in certain maturities and would en courage a movement of interest rates on these maturities to its own disadvantage (not only on the swap but perhaps on subsequent outright purchases as well). Mr. Rouse added that, as a general principle, the more nearly the System account handles its operations on the basis of best prices and without regard to maturity, the less distorting effect it will have on the structure of rates. The authority to enter into piecemeal swaps in response to the opportunities that arise daily in the market--without forcing the securi ties we want out of the market--would make it possible for the Trading Desk to be less interested in maturity at the times it is buying Treasury bills outright for reserve purposes. Third, dealers for purely business reasons supply the Trading Desk with valuable information on transactions they are attempting to work out in the market since there is a possibility that the Trading Desk might react to this infor mation by executing one side or another of the transaction in filling a foreign account or Treasury order. If the System account were able to respond to bill swapping oppor flow of information could be increased, but tunities, this not if the full go-around technique were used since this to dealers that failures to keep the desk would demonstrate informed would not cost them any business. should be presented to if an attractive swap Fourth, the Trading Desk by one dealer and the Account Management, the swap directly, first showed it rather than executing to the rest of the market, the System would be guilty of of confidence and it might be assumed a serious breach be shown to the desk in the future. that such swap would not
In summary, Mr. Rouse said that if it were necessary to employ the go-around technique in doing a swap, the resulting dis turbance to the market and distortion of rates would probably off set the modest operating advantages that swaps are intended to achieve. On the other hand, if the management were allowed to react to swap propositions coming to it from the market, it should be possible to work toward an orderly attainment of particular maturity distribution objectives while at the same time facilitating the functioning of the market by providing maturities that dealers need to complete trans actions. In the latter case the Trading Desk would simply react to situations as they develop and there would be no forcing of the market to promote System portfolio objectives. In closing, Mr. Rouse said that although he would prefer that most swaps originate in the marketwith final initiative resting, of course, with the Trading Desk-he would like to leave open the possibility that swaps might occasionally originate with the System. Even in the latter case, however, it would be better business practice for the Trading Desk to direct swap in quiries to dealers known to hold the maturity the System account wanted, rather than to direct them into the market on a full "go-around". In be contemplated, however, that no swap would be all cases it would the price involved were in line with quotations cur executed unless Desk, and unless several dealers being reported to the Trading rently were specifically canvassed for bids and offers on the maturity in actually executed on a "best price" basis. volved, with transactions
Mr. Robertson responded by stating that on the basis of the comments Mr. Rouse had made, he would be completely opposed to authorizing swaps on the grounds that they really would prevent a free market. Chairman Martin noted that under Mr. Rouse's proposal, the initiative for swaps would be in the market. Mr. Rouse concurred, stating, however, that the fact that a dealer might initiate a proposal for a swap did not mean that the System account would follow the market. Mr. Hayes stated that this was a very cogent point. It seemed to him that it was necessary to clarify what was meant by "initiative." The opening move might be by a dealer but the Account Management would have every right, and would certainly use it, to refuse a given trans action if it felt that should be done. Mr. Hayes did not think the Committee would be giving up its initiative because a given transaction market. The entire proposal before the Committee was originated in the he said, to be used as an operating tool, and if an operating matter, were to implement the idea, if the idea had merit, the the Committee out largely by those who were on the details of it should be worked the tool. He still felt that and who would have to apply firing line be handled sensibly with desirable and that it would the proposal was that the way in which the any damage to the market. He believed out the lines Mr. Rouse had in mind, be used probably was along tool should
rather than with the restrictions that Mr. Robertson had proposed. Mr. Robertson said that he would not attempt to force on the Management of the Account the proposal he had made because if it appeared that swaps would distort the market, the Committee should not deviate at all from principle. Mr. Hayes said that he was not arguing the question on the basis of general principle but was thinking of the proposal entirely as a useful tool to be considered on its merits. Chairman Martin suggested that copies of Mr. Robertson's pro posed resolution be made available to the Committee for further study and that the matter be taken up again at the next meeting, and there was agreement with this suggestion. Chairman Martin said that he wished to bring to the attention of the members of the Committee a letter dated August 28, 1956, that he had received from Congressman Wright Patman, Chairman of the Sub committee on Economic Stabilization of the Joint Economic Committee, in which Mr. Patman recalled the hearing held in December 1954 on recent and current experience with monetary policy at which members of the Board of Governors and Presidents of the Reserve Banks met with the committee. Chairman Martin said that Mr. Patman's letter was for the purpose of informing him that he proposed to arrange a similar meeting next December at a time that would fit in with a meeting of Presidents in Washington and that he hoped the mem the Reserve Bank bers of the Board and the Presidents could meet with his committee at
that time. Chairman Martin also said that Senator Robertson and members of the staff of the Senate Banking and Currency Committee meet with the members of the Board tomorrow in connection with the proposed hearings on banking legislation. Mr. Young noted that it was customary for members of the staff to give an economic review in the form of a chart-slide presentation at meetings of the Federal Open Market Committee held in conjunction with meetings of the Conference of Presidents of the Federal Reserve Banks four times a year. This would call for such a presentation at the meeting to be held on September 25, and Mr. Young inquired whether it would be satisfactory to defer such a presentation until October. None of the members of the Committee indicated any objection to post ponement of the review as suggested. It was understood that the next meeting of the Committee would be held at 10:00 a.m. on September 25, 1956. Thereupon the meeting adjourned. Secretary.
Also: Record of Policy Actions