June 7, 1966 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, D. C., on Tuesday, June 7, 1966, at 9:30 a.m. PRESENT: Mr. Martin, Chairman Mr. Brimmer Mr. Clay Mr. Daane¹ Mr. Irons Mr. Maisel Mr. Mitchell Mr. Robertson Mr. Shepardson Mr. Scanlon, Alternate for Mr. Hickman Mr. Treiber, Alternate for Mr. Hayes Mr. Wayne, Alternate for Mr. Bopp Mr. Swan, Alternate Member of the Federal Open Market Committee Messrs. Ellis, Patterson, and Galusha, Presidents of the Federal Reserve Banks of Boston, Atlanta, and Minneapolis, respectively Mr. Holland, Secretary Mr. Sherman, Assistant Secretary Mr. Kenyon, Assistant Secretary Mr. Broida, Assistant Secretary Mr. Molony, Assistant Secretary Mr. Hackley, General Counsel Mr. Brill, Economist Messrs. Eastburn, Green, Koch, Mann, Partee, Tow, and Young, Associate Economists Mr. Holmes, Manager, System Open Market Account Special Manager, System Open Market Mr. Coombs, Account Legislative Counsel, Board of Governors Mr. Cardon, Assistant to the Board, Board of Mr. Fauver, Governors Adviser, Division of Research and Mr. Williams, Statistics, Board of Governors Left the meeting at the point indicated in these minutes. 1/
Mr. Reynolds, Adviser, Division of International Finance, Board of Governors Mr. Axilrod, Associate Adviser, Division of Research and Statistics, Board of Governors Miss Eaton, General Assistant, Office of the Secretary, Board of Governors Mr. Forrestal, Senior Attorney, Legal Division, Board of Governors Messrs. Hilkert, MacDonald, and Lewis, First Vice Presidents of the Federal Reserve Banks of Philadelphia, Cleveland, and St. Louis, respectively Messrs. Eisenmenger, Link, Ratchford, Brandt, Baughman, Jones, and Craven, Vice Presidents of the Federal Reserve Banks of Boston, New York, Richmond, Atlanta, Chicago, St. Louis, and San Francisco, respectively Mr. Meek, Manager, Securities Department, Federal Reserve Bank of New York Mr. Kareken, Consultant, Federal Reserve Bank of Minneapolis Upon motion duly made and seconded, and by unanimous vote, the minutes of the meeting of the Federal Open Market Committee held on May 10, 1966 were approved. meeting there had been distributed to the members Before this a report from the Special Manager of the System of the Committee Account on foreign exchange market conditions and on Open Market operations in foreign currencies Open Market Account and Treasury June 1, 1966, and a supplemental report for the period May 10 through of these reports have been placed for June 2 through 6, 1966. Copies in the files of the Committee. supplementing the written reports, Mr. Coombs In comments gold stock would remain unchanged this week. The said the Treasury
Stabilization Fund had acquired $50 million in gold from Canada, which increased its holdings to nearly $100 million, but that entire amount seemed likely to be used up over the next few weeks by a sale of $75 million to France, plus other miscellaneous sales. Consequently, it probably would be necessary to show another reduction in the gold stock of $75 or $100 million before midyear. The way things were if the gold stock declined below going, it would not be surprising the $13 billion level by year-end. In fact, recent balance of payments that might occur sooner rather than later. trends suggested On the London gold market, Mr. Coombs said, demand had been by the very tight money market conditions prevailing restrained financial markets. Nevertheless, the resources of throughout world been drawn down by $94 million since the beginning the gold pool had to be a growing impression that the of the year, and there seemed selling until the latter part of might be able to hold off Russians remained dangerous; serious situation in that market the year. The from one day to the next. pressures could materialize speculative there had been a wave of past two days, for example, During the of the British maritime arising out buying apparently speculative of the Indian rupee. strike and the devaluation continued, at the beginning of On the exchanges, Mr. Coombs swaps totaling $100 million England paid off month-end May the Bank of German Federal Bank, and in the course with the U.S. Treasury and the
of the month it paid off another $50 million of short-term central bank credit to the Bank for International Settlements. In addition to such debt repayments of $150 million, the Bank of England suffered further reserve losses of about $100 million and thus at month-end was down a total $250 million. Their published reserve statistics showed the true loss of $106 million as of the month-end; the remaining $150 million, reflecting central bank debt repayments, was refinanced by new borrowings of $50 million from the System under the standby swap line and $100 million from the U.S. Treasury on a one-day swap. May was the third month in succession in which the published figures had shown Britain's actual reserve loss, with drawings on credit lines limited to refinancing central bank debt. The main feature in the sterling market, of course, had been the effects of the maritime strike, Mr. Coombs commented. Although negotiations seemed to be more or less on dead center at the moment, the market had been sustained by the hope that the British Government might finally be taking a firm line against a continuation of the Meanwhile, however, the payments deficit was wage-price spiral. deepening as exports were choked off, and the longer the strike greater the danger of a new speculative outburst. In continued the of the last few days might reflect the beginnings fact, developments of a speculative drive. The Bank of England had allowed the rate to drift down in response to selling pressure, and yesterday the rate
went through the $2.79 level which had been firmly defended last summer. This morning it was $2.7884. On Friday the British lost $50 million of reserves; on Monday somewhat more than $100 million; and thus far today about $50 million. The New York market had been quiet on Friday and Monday but there was some indication that selling might now develop--the market had been alerted to the fact that there was a problem and might react accordingly. With respect to other markets, Mr. Coombs continued, the earlier capital outflows from Switzerland had reversed themselves as the Swiss market had tightened, and the Swiss National Bank had taken in $135 million during the past few weeks. That inflow had increased the Bank's uncovered dollar holdings to a level $70 million in excess of their usual ceiling, and further large inflows might occur in connection with window-dressing operations in Switzerland at the end of June. Accordingly, it might be necessary for the System to draw upon the Swiss franc swap line before long. Also, he anticipated very sizable dollar accruals by the Bank of Italy during the summer tourist season, which might necessitate drawing upon the lira swap line again. In response to a question by Mr. Mitchell, Mr. Coombs said assistance from central banks other that Britain had not received the past month. At the end of May than the Federal Reserve during attempting to raise some funds considered the possibility of they and Germans. They decided against that from the Italians, Swiss, that it might muddy the waters at course, however, on the grounds
a time when agreement on the new sterling balance credit package appeared close. Instead, they drew on the System and U.S. Treasury. If their reserves were still down at the end of June, which seemed likely, and if the sterling package was approved, the British probably would draw on the new credit lines, with parallel drawings on the U.S. equaling 31 per cent of the total. Thereupon, upon motion duly made and seconded, and by unanimous vote, the System open market transactions in foreign currencies during the period May 10 through June 6, 1966, were approved, ratified, and confirmed. Mr. Coombs then recommended renewal of a $50 million drawing on the swap facility with the National Bank of Belgium, which would mature on June 22. As the Committee would recall, the arrangement with the Belgium Bank was unique in that it provided for that $50 million to be fully drawn at all times, with renewals at six-month intervals. There was no use of the swap line at present in the sense of disbursements from the amount drawn. In response to questions, Mr. Coombs indicated that while the drawing in question was for six months, the underlying swap agreement had a term of twelve months. He had not been able to to change the terms of the agreement to conform persuade the Belgians to those of the System's other swap arrangements, which were wholly basis until activated by three-month drawings. on a standby
Renewal of the drawing on the swap arrangement with the National Bank of Belgium, for a further period of six months, was noted without objection. Chairman Martin then noted that on June 3 Mr. Coombs had distributed a memorandum to the Committee concerning the Basle negotiations on the British sterling balance credit package as well as copies of the final draft of the agreement itself, and he asked Mr. Coombs to comment on the negotiations.1/ Mr. Coombs observed that, as the Committee knew, it had been hoped for some time that it might be possible for the United Kingdom to negotiate a swap network similar to the System's which would assure that other central banks would join the U.S. in in the event of a sterling crisis, making it providing support unnecessary to rely on last-inute negotiations. The Committee would recall that the November 1964 package of credit assistance period, and that it was not renewed at the was for a six-month Thus, in the summer of 1965 the Bank of England expiration date. entirely upon the Federal Reserve and the U.S. Treasury was dependent had been underway since last fall for any necessary credits. Efforts network with central banks under to develop a supplementary British which credits would be made available for any purpose. referred to have been placed in 1/ Copies of the documents the Committee's files.
The new package that had been negotiated went only part way toward that objective, Mr. Coombs said. Partly as a result of the record of the continuing problems of sterling over the past twenty months, the attitudes of the European central banks toward sterling had hardened. They had taken the line that they would be willing to make credits available to the Bank of England but only to protect sterling against drains resulting from its role as a reserve currency-- i.e., drains occasioned by liquidation of foreign-held sterling balances. They were not prepared to offer assured financing for purposes. In effect, they would underwrite the institutional other role of sterling but not Britain's balance of payments deficits. Staff York Bank and at the U.S. Treasury thought that those terms at the New but they--as well as the Bank of England were undesirably restrictive, the choice was between such arrangements people--were persuaded that or none at all. to the nature of the arrangements-- Mr. Coombs saw one advantage the likelihood that they the link to a long-run problem increased And whatever restrictions might be would be renewed at maturity. event of a real crisis the into the agreement, in the written to permit use of the credits for European central banks were likely be a real advantage in having purposes. There would more general the credit lines in being, even if under terms that limited their would not exclude other special ad hoc credits use. The agreement that might be arranged if circumstances justified them.
In conclusion, Mr. Coombs noted that with the latest turn in the sterling situation the System had a real interest in seeing the agreement adopted. The British were likely to have to draw on credit lines in some volume, and existence of the new arrangements would substantially reduce the amounts they would have to draw on the U.S. Treasury and the Federal Reserve. As he had mentioned, the U.S. share under the package would be 31 per cent. At the Basle meeting next weekend Mr. Hayes presumably would be expected to indicate whether or not the proposed arrangements were acceptable to the Federal Reserve, and he (Mr. Coombs) recommended that the Committee note them without objection. Chairman Martin observed that the negotiations in question had been going on for some time, and he suggested that the Committee members raise any questions they had concerning the proposed agreement. asked whether there was any doubt as to whether Mr. Mitchell would be approved, and whether the total the sterling credit package amount of credits it provided for, which Mr. Coombs' memorandum $1 billion, was likely to prove adequate to the foreindicated was seeable need. it was his impression that the Mr. Coombs replied that as well as the Canadians and Japanese, had decided to go Europeans, could not say whether recent sterling along with the package, but he their attitudes. The British might find developments would change of questioning when the subject to a certain amount themselves
agreement came up for approval at Basle on June 11-12. As to the adequacy of the package, it was quite unlikely that the British would lose $1 billion of reserves in a single month. It was true that they had lost $500 million in a few days in November 1964, but at that time foreign sterling balances were much larger than they were now. He would hope they could get through the month of June with the European credit lines available. There was no question but that the attitudes of the Europeans had hardened with respect to assisting the British, and he was afraid that some of that hardening also was beginning to be reflected in their attitudes toward the United States. In response to questions by Messrs. Brimmer and Ellis, Mr. Coombs indicated that the duration of the propsed standby arrangements was nine months, with three-month renewable drawings. There was a provision all swaps would be terminated by mid-June, 1967, to accommodate that drawings made at the end of the term of the standby arrangements. No new credit extensions by the U.S. were involved; the $1 billion total was made up of $75 million from the BIS, $525 million channeled through by the participating central banks, and parallel arrangements the BIS the Bank of France and an $90 million facility with involving a new existing U.S. credit lines to the earmarking of $310 million of the with drawings on the other central for proportionate use along British consisted of the $750 million swap banks. The U.S. lines, of course,
arrangement with the System, which had been renewed for another twelve-month term on May 31, 1966, and the $400 million authorized by the Committee and the U.S. Treasury in September 1965. The question of the source of any U.K. reserve loss--and thus the availability of the new credits as a means of financing the loss-- would be left to the judgment of the British but, of course, at the following meeting in Basle they would be expected to defend their judgments with data on changes in sterling balances. It was his hope that interpretations in that connection would be reasonably flexible. Mr. Irons asked whether the earmarked portion of the U.S. lines would be increased by $90 million if the French decided not to extend a new facility to the British. Mr. Coombs replied that he would recommend against such a procedure. It would be better to have the total package cut back to $910 million if the French did not participate. Of course, if the banks agreed to increase their contributions the other central earmarked part of the U.S. lines might be increased proportionately. Mr. Galusha asked whether there were indications that the British would adopt policies that would effectively restrain their wage-price spiral. Mr. Coombs responded that the British authorities obviously were working on that problem, although he did not know what particular they were considering. A great deal of pressure was converging measures
on them to take effective steps, and conceivably something might be done by the United States to encourage them further. It was his opinion that they were under no illusions with respect to the seriousness of the situation. Thereupon, the proposed new sterling balance credit arrangements were noted without objection. Mr. Ellis then remarked that it had been about a year since the Committee had last discussed the possibility of negotiating reciprocal currency arrangements with Venezuela and Mexico. Those two countries had made substantial progress in improving their financial positions and he asked whether the Committee should not consider the question again. In response to the Chairman's request for comment, Mr. Coombs said the main development in the area since the Committee's earlier discussion was that the U.S. Treasury had negotiated swap arrangements with the central banks of Venezuela and Mexico. It would be useful to learn what the Treasury's experience had been under those arrangements, and whether the Treasury intended to maintain the relationships or might prefer to have the Federal Reserve share in them. To his mind, however, the key question was whether negotiation of swap lines with the two countries would expose the System to pressures for similar arrangements with other countries in Latin America that were in less strong positions. If there was some basis on which a clear
line could be drawn separating Venezuela and Mexico from the rest of Latin America, a good case might be made for having swap lines with the two countries. If not, the System might be well advised not to enter into such arrangements. In any case, he thought a study would be useful. Chairman Martin agreed that such a study should be made. The Chairman then suggested that the Committee consider further the proposed new instruments governing foreign currency operations that had been discussed at the past several meetings. He asked Mr. Holland to comment on the memorandum on the subject distributed by the Secretariat on June 1, 1966.1/ Mr. Holland said that on the basis of the discussion at the meeting of the Committee on May 10 and subsequent conversations with Mr. Mitchell, the staff had recommended a revision of paragraph 2(B) of the proposed new foreign currency directive distributed on April 28, 1966. In addition, the staff had noted a possible alternative revision in which the second sentence of paragraph 2(B) would be deleted and a new paragraph 5 added. The revision recommended in 2(B) was as follows: B. To temper and smooth out abrupt changes in spot exchange rates, and to moderate forward premiums and discounts judged to be disequilibrating. Whenever supply or demand persists in influencing exchange rates in one direction, System transactions shall be modified, OR 1/ A copy of this memorandum has been placed in the Committee's files.
curtailed, [DEL: or eventually discontinued pending a] UNLESS UPON REVIEW AND reassessment OF THE SITUATION by the Committee [DEL: of supply and demand forces] DIRECTS OTHERWISE; Mr. Treiber remarked that the provisions of paragraph 2(B) represented a statement of general principles relating to conditions under which operations in foreign currencies should be undertaken. In his judgment the language of the paragraph contained in the staff's April 28 draft was more appropriate than the new language now suggested. Mr. Daane noted that his view was similar to Mr. Treiber's. He did not think any useful purpose would be accomplished by the suggested change and if adopted he would be concerned about the possibility of adverse reactions when the new language was published. Mr. Mitchell commented that he felt the proposed revision of paragraph 2(B) did not involve a substantive change. He thought that it did involve an improvement in language, and that the Committee had to lose by adopting it. In his judgment, however, the principal nothing concerned the possible new paragraph 5 noted in the Secretariat's issue memorandum. That paragraph read as follows: foreign currency operations are not 5. The System's to counter the effects of basic and persistent designed of international payments or on economic forces on flows rates. Operations undertaken to movements of exchange or transitional shall with forces deemed temporary deal curtailed, unless upon review and reassessbe modified or situation the Committee directs otherwise, if ment of the persist (a) for six months, or (b) for a lesser the forces Manager concludes that they can no period if the Special longer be considered temporary.
In Mr. Mitchell's opinion that suggested paragraph reflected a position that the Committee should take publicly, and he recommended its addition to the directive. Mr. Daane agreed that the suggestion to add the new paragraph 5 represented the more important issue, but observed that there were differences in judgment concerning it. In his opinion, to whatever degree the paragraph would affect the flexibility of operations it would work in the wrong direction, and he did not think it should be adopted. Mr. Treiber concurred in Mr. Daane's view. It was highly difficult, he said, to distinguish between forces that were temporary and transitional, on the one hand, and those that were basic and persistent, on the other; the duration of particular forces often would depend on the actions of the Governments involved. It had been the practice of the Committee to review all credit extensions every and to get the judgments of the Special Manager concerning three months to him that the workability of the them at those times. It seemed and he preferred them to arrangements had been demonstrated present for under the suggested paragraph 5. those that would be called agreed that the key issue concerned the proposed Mr. Coombs in paragraph 2(B) was the language revision suggested paragraph 5; that foreign central banks issue. He would note first a subsidiary the exchange rates of primary responsibility for influencing had
against the dollar. The System could intervene in their currencies the exchange markets, but it did so only in rather extreme circumstances. The only two occasions on which strong actions had been taken to influence exchange rates were at the times of the Cuban crisis and of the assassination of President Kennedy. In sum, he thought the Committee need not be overly concerned about possible efforts by the Account Management to influence exchange rates. Thus, Mr. Coombs continued, the issue to which the proposed paragraph 5 was essentially directed was the duration of swap agreed with Mr. Treiber that there was a certain ambiguity drawings. He in terms such as "temporary" and "persistent" because the nature of decisive in determining whether particular Governmental policy was lasted two months or twenty. At the outset of a particular forces development it often would be impossible to predict its duration. The real question was how much breathing space should be provided for effective Governmental actions to deal with the development. The general policy of the Committee, which he thought was a proper one, six-month breathing space, and to become progressively was to allow a on the books for a longer period. more concerned if drawings stayed other form of financing as were made to shift to some Preparations Some 94 per cent of all a six-month term. drawings approached six months and none had gone on for drawings had been repaid within more than a year.
Mr. Mitchell remarked that he thought the paragraph in question said essentially what Mr. Coombs had been saying. The Committee should be prepared to defend itself against critics by indicating in the directive that it was not trying to rig markets when there were basic forces at work that should be dealt with by appropriate Government policies. If, for example, it appeared that some foreign country's basic situation was deteriorating, the responsibility for deciding whether to offer support should lie with the Committee rather than with the Special Manager. The proposed paragraph said, in effect, that the Committee should make the decision in such cases. Mr. Shepardson observed that he did not read the proposed language to call for a determination at the outset that a particular development was temporary. Mr. Coombs said that the opening phrase of the second sentence-- "Operations undertaken to deal with forces deemed temporary or transitional"--conveyed such an implication to him. In a typical case, central bank in the swap network might take in a however, some substantial volume of dollars in a short period and suggest that the System absorb those dollars by a swap drawing, as an alternative to sale. It was appropriate, he thought, to make the drawing to a gold absorb the initial impact of the development and then to study the to determine whether it reflected a temporary phenomenon. situation
It was his practice to report to the Committee before renewing central bank drawings at the end of their three-month terms. Mr. Mitchell commented that the procedure Mr. Coombs described was much like that followed when a domestic bank came to the discount window; the Reserve Bank accommodated the bank automatically and then studied the situation. The fact that Mr. Coombs reported to the Committee on proposed renewals of drawings seemed to him to have nothing to do with the matter at issue, which concerned publishing a statement of the principle under which the Committee operated. Mr. Robertson indicated that he shared Mr. Mitchell's position. Mr. Coombs remarked that if the proposed paragraph appeared in print it could be used against the United States by foreign countries who might ask, for example, why the U.S. was still employing short-term credit facilities when its balance of payments deficit had persisted for nine years. Borrowing as well as lending by the U.S. was involved, and he would hope that the Committee could preserve a reasonable degree of flexibility for dealing with possible developments. By way of illustration, he recalled that early in 1966 System credits to the Bank of England were reaching the end of their sixmonth terms. In the immediately preceding period the System put considerable pressure on the British to pay off their drawings. That for them because it required liquidation of a was rather difficult
large part of their portfolio of U.S. securities. Under other circumstances he could visualize the U.S. having to borrow and--if the suggested language was adopted and published--being pressed by foreign central banks to clear up its debt within a certain time and under certain conditions that could prove to be highly inconvenient. Hence, he would not recommend hardening the requirement that credits be kept short and repaid within some specific period such as six months. He thought there should be a general understanding within the Committee to that effect, but if the Committee could avoid printing such a rule it would be in a better position to deal with possible emergencies in which some departure from general rules might be desirable. Mr. Daane referred to the final clause of the proposed which read, "or for a lesser period if the Special Manager paragraph, concludes that they can no longer be considered temporary." In his clause imposed an unreasonable burden on the Special judgment that Europeans were extremely sensitive with Manager. Moreover, the nature of swap drawings, and to adopt the respect to the short-term more ammunition to use against the paragraph would simply give them the Committee had adhered to United States. If, as he believed, were short-term credit that the swap arrangements the principle facilities and had maintained proper surveillance over their use, directive. To do so, in his opinion. he saw no reason to change the would be hurtful rather than helpful.
Mr. Mitchell replied that the purpose of the proposed paragraph was to set forth the practice the Committee had in fact followed so that the public would be aware of it. He thought the point was not adequately stated in the record. Mr. Ellis said he had found that academicians tended to rely on the Committee's published instruments for an understanding of the objectives of its foreign currency operations. He had some sympathy for the proposed paragraph because it provided a clearer description of the nature of the forces with which the Committee was attempting to deal. It was true that one could not know at the outset of a development whether it would prove temporary but whether or not operations were continued would depend on a subsequent judgment on that point. Chairman Martin remarked that he thought the Committee was dealing largely with questions of intentions and language. Mr. Mitchell was correct in noting that the suggested paragraph described the Committee's general policy, and there was merit in Mr. Ellis' point regarding academicians. It was difficult, however, to formulate policy statement in precise terms and he was not persuaded such a it was necessary to incorporate the paragraph. that Mr. Wayne noted that the network of swap arrangements had been primarily because of problems with respect to developed originally payments of the United States, and that the proposed international
paragraph would apply to drawings by the U.S. as well as by the other parties to the arrangements. He thought those facts warranted careful consideration, and he wondered whether the Committee ought to put the proposed paragraph into the directive. He personally had been impressed by the points Mr. Coombs had made today. Mr. Mitchell remarked that he considered odd the argument that the Committee should do the right thing in limiting the duration of swap drawings but at the same time it should avoid saying it was doing the right thing. The Committee did in fact extend swap drawings beyond six months only with great reluctance, and it did look to more basic policy measures to deal with persistent problems. The proposed paragraph specified exactly what the Committee had been doing. Chairman Martin observed that in view of the differences of opinion expressed today the Committee probably would not want to change the substance of the directive unless it was convinced that the change involved an improvement. He then suggested that the Committee members indicate whether or not they favored adding the proposed paragraph. Robertson, and Shepardson noted that they did and Messrs. Mitchell, members indicated that they did not. the other then asked whether there would be any objection Chairman Martin revisions in paragraph 2(B) recommended by the to incorporating the staff in its June 1 memorandum, and no objections were heard.
The Chairman then observed that, as indicated in the Secretariat's memorandum of June 6, 1966, Mr. Swan had offered some suggestions for change in the language of the proposed authoriza/ tion and the proposed directive.1 He invited Mr. Swan to comment. Mr. Swan said his suggestion for the authorization involved some small changes in wording in paragraph 1B(2) that he thought were clarifying, as follows: (2) ADDITIONAL [DEL: other] currencies held spot or purchased forward, up to the amount necessary for System operations to exert a market influence BUT [DEL: and] not exceeding $150 million equivalent; and His suggestion for the directive was simply to omit from the list of purposes of System foreign currency operations the statement in paragraph 1(B), which read "To aid in making the system of international payments more efficient." The meaning of that statement, taken by itself, was not clear to him, and unintended implications might be read into it. The intended meaning seemed to be covered adequately by paragraphs 1(C) and 1(D). Mr. Treiber said he thought the System's operations did the efficiency of the international payments system contribute to sources of credit available. The statement in by making additional had been included in the Committee's existing 1(B) of the directive some time and he would prefer to retain it in the authorization for new directive. 1/ A copy of the memorandum referred to has been placed in the Committee's files.
Mr. Daane remarked that the revision in the proposed authorization that Mr. Swan had suggested seemed to be an improvement. He agreed with Mr. Treiber, however, that it would be desirable to retain paragraph 1(B) of the directive, noting that the forthcoming report of the Deputies of the Group of Ten would make a statement along the same lines. Chairman Martin proposed that the Committee accept Mr. Swan's suggested revisions in paragraph 1(B)(2) of the proposed authorization but not his suggestion for the directive, and no objections were heard. Thereupon, upon motion duly made and seconded, and by unanimous vote, the Committee replaced its previously existing instruments governing foreign currency operations, namely, the authorization regarding open market transactions in foreign currencies, the guidelines for System foreign currency operations, and the continuing authority directive with respect to foreign currency operations, with two new instruments, namely, an authorization for System foreign currency operations and a foreign currency directive, reading as follows: AUTHORIZATION FOR SYSTEM FOREIGN CURRENCY OPERATIONS 1. The Federal Open Market Committee authorizes and directs the Federal Reserve Bank of New York, for System Open Market Account, to the extent necessary to carry out the Committee's foreign currency directive: A. To purchase and sell the following foreign currencies in the form of cable transfers through spot or forward transactions on the open market at home and abroad, including transactions with the U.S. Stabilization Fund established by Section 10 of the Gold Reserve Act of 1934, with foreign monetary authorities, and with the Bank for International Settlements:
Austrian schillings Belgian francs Canadian dollars Pounds sterling French francs German marks Italian lire Japanese yen Netherlands guilders Swedish kronor Swiss francs B. To hold foreign currencies listed in paragraph A above, up to the following limits: (1) Currencies held spot or purchased forward, up to the amounts necessary to fulfill outstanding forward commitments; (2) Additional currencies held spot or purchased forward, up to the amount necessary for System operations to exert a market influence but not exceeding $150 million equivalent; and (3) Sterling purchased on a covered or guaranteed basis in terms of the dollar, under agreement with the Bank of England, up to $200 million equivalent. C. To have outstanding forward commitments undertaken under paragraph A above to deliver foreign currencies, up to the following limits: (1) Commitments to deliver to the Stabilization Fund foreign currencies in which the United States Treasury has outstanding indebtedness, up to $200 million equivalent; (2) Commitments to deliver Italian lire, under special arrangements with the Bank of Italy, up to $500 million equivalent; and forward commitments to (3) Other deliver foreign currencies, up to $275 million equivalent. D. To draw foreign currencies and to permit foreign banks to draw dollars under the reciprocal currency arrangements listed in paragraph 2 below, provided that drawings by either party to any such arrangement shall be
fully liquidated within 12 months after any amount outstanding at that time was first drawn, unless the Committee, because of exceptional circumstances, specifically authorizes a delay. 2. The Federal Open Market Committee directs the Federal Reserve Bank of New York to maintain reciprocal currency arrangements ("swap" arrangements) for System Open Market Account with the following foreign banks, which are among those designated by the Board of Governors of the Federal Reserve System under Section 214.5 of Regulation N, Relations with Foreign Banks and Bankers, and with the approval of the Committee to renew such arrangements on maturity: Amount of Arrangement (millions of Period of dollars Arrangement Foreign Bank equivalent) (months) Austrian National Bank 50 12 National Bank of Belgium 100 12 Bank of Canada 250 12 Bank of England Bank of France 100 3 German Federal Bank 250 6 Bank of Italy Bank of Japan Netherlands Bank 100 3 Bank of Sweden 50 12 Bank 150 6 Swiss National Bank for International Settlements drawings in Swiss francs) (System Bank for International Settlements (System drawings in authorized other than European currencies Swiss francs) foreign currencies undertaken All transactions in at prevailing market rates 1(A) above shall be under paragraph rates that appear to shall be made to establish and no attempt forces. Insofar as is line with underlying market be out of shall be purchased through practicable, foreign currencies are at or rates for those currencies transactions when spot
below par and sold through spot transactions when such rates are at or above par, except when transactions at other rates (i) are specifically authorized by the Committee, (ii) are necessary to acquire currencies to meet System commitments, or (iii) are necessary to acquire currencies for the Stabilization Fund, provided that these currencies are resold forward to the Stabilization Fund at the same rate. 4. It shall be the practice to arrange with foreign central banks for the coordination of foreign currency transactions. In making operating arrangements with foreign central banks on System holdings of foreign currencies, the Federal Reserve Bank of New York shall itself to maintain any specific balance, unless not commit authorized by the Federal Open Market Committee. Any agreements or understandings concerning the administration of the accounts maintained by the Federal Reserve Bank of New York with the foreign banks designated by the Board of Governors under Section 214.5 of Regulation N shall be referred for review and approval to the Committee. 5. Foreign currency holdings shall be invested insofar as practicable, considering needs for minimum working balances. Such investments shall be in accordance 14(e) of the Federal Reserve Act. with Section consisting of the Chairman and 6. A Subcommittee the Vice Chairman of the Committee and the Vice Chairman of Board of Governors (or in the absence of the Chairman the of the Board of Governors the or of the Vice Chairman members of the Board designated by the Chairman as alternates, Vice Chairman of the Committee his and in the absence of the act on behalf of the Committee is authorized to alternate) necessary to enable the Federal Reserve Bank of when it is in foreign currency operations before New York to engage All actions taken by the the Committee can be consulted. under this paragraph shall be reported promptly Subcommittee to the Committee. Chairman (and in his absence the Vice 7. The of the Committee, and in the absence of both, the Chairman Chairman of the Board of Governors) is authorized: Vice
A. With the approval of the Committee, to enter into any needed agreement or understanding with the Secretary of the Treasury about the division of responsibility for foreign currency operations between the System and the Secretary; B. To keep the Secretary of the Treasury fully advised concerning System foreign currency operations, and to consult with the Secretary on such policy matters as may relate to the Secretary's responsibilities; and C. From time to time, to transmit appropriate reports and information to the National Advisory Council on International Monetary and Financial Policies. 8. Staff officers of the Committee are authorized to transmit pertinent information on System foreign currency operations to appropriate officials of the Treasury Department. 9. All Federal Reserve Banks shall participate in the foreign currenty operations for System Account in accordance with paragraph 3 G (1) of the Board of Governors' Statement of Procedure with Respect to Foreign Relationships of Federal Reserve Banks dated January 1, 1944. Special Manager of the System Open Market 10. The Account for foreign currency operations shall keep the Committee informed on conditions in foreign exchange markets and on transactions he has made and shall render such reports as the Committee may specify. FOREIGN CURRENCY DIRECTIVE purposes of System operations in 1. The basic foreign currencies are: safeguard the value of the A. To help exchange markets; dollar in international the system of B. To aid in making international payments more efficient; monetary cooperation C. To further central banks of other countries having with
convertible currencies, with the International Monetary Fund, and with other international payments institutions; D. To help insure that market movements in exchange rates, within the limits stated in the International Monetary Fund Agreement or established by central bank practices, reflect the interaction of underlying economic forces and thus serve as efficient guides to current financial decisions, private and public; and E. To facilitate growth in international liquidity in accordance with the needs of an expanding world economy. 2. Unless otherwise expressly authorized by the Federal Open Market Committee, System operations in foreign currencies shall be undertaken only when necessary: A. To cushion or moderate fluctuations in the flows of international payments, if such fluctuations (1) are deemed to reflect transitional market unsettlement or other temporary forces and therefore are expected to be reversed in the foreseeable future; and (2) are deemed to be disequilibrating or otherwise to have potentially destabilizing effects on U.S. or foreign official reserves or on exchange markets, for example, by occasioning market anxieties, undesirable speculative activity, or excessive leads and lags in international payments; B. To temper and smooth out abrupt changes in spot exchange rates, and to moderate forward premiums to be disequilibrating. Whenever and discounts judged in influencing exchange rates supply or demand persists in one direction, System transactions should be or curtailed unless upon review and reassessment modified of the situation the Committee directs otherwise; C. To aid in avoiding disorderly conditions in exchange markets. Special factors that might make for exchange market instabilities include (1) responses to short-run increases in international political tension,
(2) differences in phasing of international economic activity that give rise to unusually large interest rate differentials between major markets, and (3) market rumors of a character likely to stimulate speculative transactions. Whenever exchange market instability threatens to produce disorderly conditions, System transactions may be undertaken if the Special Manager reaches a judgment that they may help to reestablish supply and demand balance at a level more consistent with the prevailing flow of underlying payments. In such cases, the Special Manager shall consult as soon as practicable with the Committee or, in an emergency, with the members of the Subcommittee designated for that purpose in paragraph 6 of the Authorization for System foreign currency operations; and D. To adjust System balances within the limits established in the Authorization for System foreign currency operations in light of probable future needs for currencies. 3. System drawings under the swap arrangements are appropriate when necessary to obtain foreign currencies for the purposes stated in paragraph 2 above. 4. Unless otherwise expressly authorized by the Committee, transactions in forward exchange, either outright or in conjunction with spot transactions, may be undertaken only (i) to prevent forward premiums or discounts from giving rise to disequilibrating movements of short-term funds; (ii) to minimize speculative disturbances; (iii) to supplement existing market supplies of forward cover, directly or indirectly, as a means of encouraging the retention or accumulation of dollar holdings by private foreign holders; (iv) to allow greater flexibility in covering System or Treasury commitments, including commitments under swap arrangements; (v) to facilitate the use of one currency for the settlement of System or Treasury commitments denominated in other currencies; and (vi) to provide cover for System holdings of foreign currencies.
Before this meeting there had been distributed to the members of the Committee a report from the Manager of the System Open Market Account covering open market operations in U.S. Government securities and bankers' acceptances for the period May 10 through June 1, 1966, and a supplemental report for June 2 through 6, 1966. Copies of both reports have been placed in the files of the Committee. In supplementation of the written reports, Mr. Holmes commented as follows: The Committee directive adopted at the last meeting has, I believe, generated a constructive dialogue within the System on the nature of staff reserve projections and their use in helping to shape day-to-day open market operations. Over the recent period, actual results have been in line with the staff estimates of a reversal during May of the sharp increases in aggregate reserves that had occurred in April. In fact, over most of the period required reserves tended to fall a bit short of the estimates, suggesting no need to speed up the process of attaining gradual reduction in net reserve availability. Thus, net borrowed reserves and borrowings from the Reserve Banks each increased by about $50 million in the weekly averages. I believe most of the staff would agree that we need much more work and experience before a judgment can be reached about the effectiveness of permitting short-run in aggregate reserve measures to influence fluctuations the course of open market operations between Committee meetings. June, for example, may prove a more difficult month than May because of the uncertainties spelled out in the blue book.1/ The changed pattern of tax payments, the problems that face the thrift institutions as they report, "Money Market and Reserve Relationships," prepared 1/ The for the Committee by the Board's staff.
come into their midyear interest payment period, and the continued pressure of Government agency financing are all factors to be reckoned with in coming weeks. With bank reserve positions under greater pressure, the Federal funds rate has moved into new high ground. Last Friday the effective rate reached 5-1/4 per cent, and offerings at 5-3/8 per cent made their appearance for the first time. The funds rate continues to be influenced by CD and other short-term money rates, and by the desire of many banks to avoid borrowing at the discount window. The discount rate is exerting little influence. Given the taut reserve situation, banks have tended to manage their positions cautiously, with considerable pressure in the funds market and heavy borrowing before the weekend a typical, but not exclusive, pattern. Over the long Memorial Day weekend borrowing from the Reserve Banks exceeded $1 billion, and very large excesses were built up, particularly at New York City banks. In fact, the New York City banks ended that statement week with more than $0.5 billion in surplus reserves, even though country banks took advantage of the break in the Federal funds rate to accumulate $1.3 billion in excess reserves on Wednesday to carry over into the final week of their statement period or to resell on subsequent days to their sophisticated city cousins at higher rates. Rates on bankers' acceptances, finance paper, commercial paper, and short-term agency issues, and dealer financing rates have all pushed into new high ground over the period. Treasury bills, on the other hand, have been on a course of their own despite dealer financing rates that have touched as high as 5-5/8 per cent. Strong demand from corporations and public funds, together with System buying and the investment in bills by investors seeking a liquidity haven until the course of long-term rates becomes clearer, has pressed on market yesterday's auction, average rates of 4.57 supplies. In and 4.74 on three- and six-month bills, respectively, were established. however, dealers were cautious in At these levels, their bidding and there was an unusually wide spread average price bid and the lowest price accepted between the by the Treasury.
A heavy atmosphere pervaded the capital markets for most of the period as investors were choosy in the light of the growing calendar, and only very attractively priced issues were well received. The corporate market was under particularly heavy pressure, with yields on both new and outstanding issues pushing into new high ground. Some improvement in atmosphere occurred late in the period when a triple-A telephone issue with 5-year call protection priced to yield 5.45 per cent--nearly 30 basis points above yields on a comparable issue a month ago--was well received. The weakness in the corporate market adversely influenced the market for Treasury notes and bonds, as did the diminishing expectations of a tax increase and Secretary Fowler's remarks about the possibility of some revision of the 4-1/4 interest rate ceiling. Despite these developments, there was a considerable body of sentiment in the Government market that the February-March interest rate peaks might be tested, but that rates might be in the process of bottoming out. Uncertainties about the future course of monetary and fiscal policy together with Congressional and Administration expressions of concern about the competitive position of the savings and loan associations and the mutual savings banks have tended to produce an air of caution but no firm sense of direction in the Government bond market. In the meantime, the relentless pressure of new offerings has created a number of problems in the market for Government agency issues. Prices have given ground and it has become increasingly difficult to place each succeeding new issue in investors' hands. On Thursday, FNMA will be pricing an offering of $350 million Small Business Administration participation certificates maturing in 1-5 years and $180 million of their own new participation certificates maturing in 13-15 years. Current market talk is for a 5.70 - 5.75 rate on the shorter issues, with underwriters having only moderate success in lining up buyers at these rates. For the longer maturities there appears even demand at a 5-3/8 - 5.40 per cent yield range. to be good rates on shorter agency issues is becoming a The very high matter of increasing concern to the Administration, but is the natural outcome of the crowded calendar of issues that has been forced into the market. Given the continued pressure on bank reserve positions, the coming weeks--which include the dividend and tax dates, a substantial calendar of Government agency, corporate, and municipal offerings,
possible Congressional action on CD rates, the midyear interest payment period for savings and loan associations and mutual saving banks, and the current pressure on sterling mentioned by Mr. Coombs--will provide a considerable test for both the money and capital markets. Mr. Swan asked whether the Manager expected the large disparity between the bill rate and other short-term rates to continue indefinitely or whether he thought bill rates would advance and narrow the gap. Mr. Holmes replied that at current levels of other short-term rates there was an air of caution about the bill rate, as evidenced in yesterday's auction. It was hard to forecast bill rates at present because of uncertainties about the volume of funds seeking havens in bills. It was known, for example, that some corporations their treasurers to place funds only in bills, and were instructing keep rates depressed for some time. He if that continued it could would imagine, however, that with all of the other pressures existing would move up sooner or later. in short-term markets bill rates Mr. Mitchell noted that System purchases had contributed to and asked whether the Desk should downward pressures on bill rates, For example, would it be be buying other types of securities. not purchases of agency issues? for the Committee to authorize desirable had contributed to Holmes agreed that System purchases Mr. bill rates, although he thought such the recent downward pressure on As to trading in other securities, purchases were not the main factor. from time to time. There were a the Desk had bought coupon issues
number of problems connected with buying agency issues. First was the legal question of the System's authority to buy particular types of issues. Secondly, there were difficulties relating to the issues themselves; most were small and were not tradable on any scale. Third, what might be called an "even keel" problem existed. Five or six agency issues might be offered in a single month, as well as issues of the new participation certificates, and there was likely to be a serious risk of giving false signals to the market by trading in them. Both purchases and sales by the System could affect rate expectations and operations might have an undesirably large influence on the market. Finally, the present period, with the crowded agency calendar and with the problems being encountered in pricing some issues, would be a difficult one in which to begin operations in agencies. In response to a question by Mr. Mitchell as to whether the Committee should consider operating in commercial paper, Mr. Holmes replied that the System could, of course, trade in any obligations authorized by law if that served its purposes. He would not want to make an off-hand judgment on the desirability of trading in commercial paper; the question warranted careful study. Mr. Mitchell then asked what was known about the sources of funds that were being invested in agency issues.
Mr. Holmes replied the dealers handling such issues had made good progress in broadening the market, although further broadening would be desirable. Recent participants included corporations and financial institutions such as savings banks and commercial banks. Good strides also had been made in interesting pension and trust funds as well as other institutional investors, and there had been some foreign buying. Mr. Mitchell then referred to the draft directives1/ the staff had prepared for this meeting, particularly to the phrase in alternative A for the second paragraph reading "provided, however, that if required reserves expand sharply more than seasonally expected . . . ." He asked how the Manager would interpret that phrase. Mr. Holmes said the first problem would be to specify what expected in June. Seasonal factors based on experience was seasonally of prior years would be of only limited usefulness this year because of tax payments. As the blue book indicated, of the changed pattern average bank credit proxy to be Board's staff expected the daily the at an annual rate, in June than in May, about 6-1/2 per cent higher, the end of May to the rise about 10 per cent from and bank credit to end of June. The New York Bank staff was projecting increases of 7-1/2 and 15 per cent respectively, in the two series. Those as Attachment A. 1/ Appended to these minutes
differences reflected the degree of uncertainty in expectations. Mr. Daane noted that the blue book indicated that a deepening in net borrowed reserves beyond $400 million could lead to pressure on the discount rate and Regulation Q ceilings. He asked whether the Manager thought there was much room left to reduce net reserve availability further without forcing an increase in the discount rate. Mr. Holmes replied that, while it was difficult to judge how much such room existed, he did not think it was very much in view of the many pressures in the market. He was inclined to agree that net borrowed reserves consistently deeper than $400 million would affect expectations and might lead the market to conclude that a change in the discount rate was inevitable. That was a personal judgment, of course, and one that might be changed by developments. Thereupon, upon motion duly made and seconded, and by unanimous vote, the open market transactions in Government securities and bankers' acceptances during the period May 10 through June 6, 1966, were approved, ratified, and confirmed. Martin called at this point for the staff economic Chairman the written reports that had and financial reports, supplementing
been distributed prior to the meeting, copies of which have been placed in the files of the Committee. Mr. Brill made the following statement on economic conditions: My predecessor in this job, Mr. Noyes, was always a source of sage advice. But the soundest of his counsel was a parting message to me, warning against the perennial risk of overstaying a tight monetary policy. I have taken this message to heart and searched each nugget of information for signs of economic weakening that should trigger a change in policy. The slowdown in auto sales beginning in April caused my antennae to quiver, and their vibrations intensified with news of the drop in new orders, the further cutbacks in auto production, and the reports of housing construction grinding to a halt. They shook violently when the May rise in the unemployment rate was reported. What does it add up to? Is the economy really slowing down? I think the answer to this is a qualified yes. Is the Fed overstaying its tightening? I think the answer to this is an unqualified no. Let me elaborate on this paradox, first giving some reasons for qualifying the answer on the state of the economy. The weak spot in current economic activity is autos. Soon residential will be in this category, but, at the construction the slowdown in activity and spending is moment, largely limited to the auto sector. It's showing up in a variety of economic indicators, however, followers of driblets of economic intelligence and a tendency to add these fragments, rather than have question whether they often are multiple reflecto phenomenon. For example, autos tions of the same for the April-May drop in retail sales, account the workweek, and the second-quarter the May drop in from autos, retail in GNP. If one abstracts slowing sales in May continued to rise as rapidly as earlier, peak, and the stayed at its postwar the workweek
second-quarter rise in GNP is proceeding as fast as that in the first quarter. One has to be cautious, therefore, to avoid going overboard about the auto slowdown, particularly when consumer anticipation surveys suggest the possibility of some rebound in auto sales later this year, and particularly because consumers currently are showing no signs of keeping their wallets closed with respect to other types of spending. Appliance and furniture sales have been very strong, and consumer purchases of nondurable goods continue to rise steadily. Buttressing consumer spending plans in the months ahead is the scheduled introduction of Medicare payments at midyear, and the likely rise in Federal civilian and military pay. Even if auto sales do no better than level off at current rates--a more pessimistic outlook, indeed, than that held by most observers--the rise in other consumer spending should keep businessmen happy with their plans for new plant and additional stocks. On the other hand, the housing dip lies ahead of us. Housing activity currently is being maintained on the basis of financial commitments made earlier. Judging from Reserve Bank reports on new commitment flows, we should expect the residential construction figures to slide more rapidly and by autumn to show a decided reduction. Some temporary relief may be afforded by an enlarged FNMA purchase program, if Congress appropriates the funds, and by possible actions to limit commercial bank invasion of savings and loan fund sources. But short of a major shift in the posture of policy, or an unexpected decline in other credit demands, housing will probably turn out to be a area of activity over the balance of much weaker this year than our current worry--automobiles. Now let's turn to some of the bright spots (depending upon what one construes as a good omen these days). The new plant and equipment survey shows no indication of a cutback in capital outlays. True, during booms business have gotten accustomed to expecting business we
spending plans to rise in successive surveys, and the fact that the two most recent surveys are not far from the February reading suggests somewhat less than usual ebullience, cyclically adjusted. Perhaps monetary restraint is having some effect--along with Presidential exhortations, delivery delays, and rising machinery prices and construction costs. But before chalking up plant and equipment as another victim of tight money, let's keep in mind that at close to midyear, business plans call for plant spending to remain a driving force for economic expansion over the next two quarters. One always hesitates to go out on a limb about so volatile an area as business inventories, but at the moment it's hard to see this as a major drag on the economy. Some involuntary accumulation of auto stocks at dealers is in process, but these should be worked off during the model changeover period. Outside of autos, inventory-sales ratios continue low and favorable of the recent pace of inventory to maintenance investment. Hovering over all judgments as to the economic the question of defense spending. The future is January Budget Message implied a pattern for defense spending of a fast rise in the first quarter, in the second quarter, and an abrupt a slowing leveling off after midyear. Such an abrupt change would undoubtedly give private in the defense tempo it appears unlikely to plans a jolt, but spending Not that we as yet have any definite develop. the course of military needs. But clues on available information on piecing together the and on draft calls, it seems new defense orders defense spending will continue more likely that as rapidly as it next quarter at least to rise has in the current quarter. this to the prospects for private Adding and abstracting from spending noted earlier, financial crisis stemming possibility of a the to savings and with respect from the situation up with a picture one comes loan associations, economy, one in which real of a still-strong rapidly than in would be rising less output
the first half of the year, but with resource use sufficiently intense to maintain pressure on costs and prices. Even with capacity continuing to grow, manufacturing plant would continue to be used intensively--a 92 per cent rate is our guess for the third quarter. With unemployment among experienced workers continuing at rockbottom levels, wages would likely continue to drift up and productivity to drift down, and, as a result, unit labor costs to rise further. In the context of continuing strong over-all demand, it would not be surprising if these cost increases were passed through into rising prices. It's hard for me to see any significant slackening in the rate of advance in industrial prices over the summer and fall. In time, we might expect a deceleration in defense spending, substantial growth in industrial capacity, and the training of new workers--all factors favoring a return to price stability. Unfortunately, neither the domestic nor the international situation affords the time to permit natural forces to work their way through the economy. Important wage contract negotiations begin this summer and carry through next year; the price and profits background surrounding these negotiations will not be conducive to moderate settlements. Monetary policy may be a poor tool to use to ward off a cost-push inflation threat, but in the absence of more efficient restraints, it doesn't seem to me that the Fed can abdicate its responsibilities. Indeed, if it weren't for the financial market conditions Mr. Axilrod will be discussing in a moment, I would submit that this would be an appropriate time to tighten the policy screw another notch. his presentation Mr. Brill responded to questions Following consumer savings rate. on the then noted that the first sentence of the Mr. Mitchell directive read, "The economic and financial developstaff's draft at this meeting indicate that the domestic economy ments reviewed
is continuing to expand, with industrial prices rising further and credit demands remaining strong." He asked whether, in view of the projection for a lower rate of growth in GNP in the second quarter, it would not be more accurate to say, " . . . although the domestic economy is expanding at a less rapid rate than in the first quarter, industrial prices are rising further and credit demands remain strong." Mr. Brill replied that he would be reluctant to see the directive cast in terms of projections because they often were highly uncertain. Moreover, it appeared likely that GNP growth would return to the first-quarter pace in the third quarter. In view of the apparent slowdown in the second quarter, however, the staff did suggest dropping the word "vigorously" in describing the current pace of the expansion. In response to questions by Mr. Maisel, Mr. Brill said that the latest survey results on planned business capital outlays implied less of an increase in real investment than the the rise in machinery prices and previous survey because of costs. Capital spending was still expected to be construction GNP price deflator was force, however. The a strong expansive quarter, from about in the third projected to rise substantially to 4.2 per cent. That was per cent annual rate of increase a 3 Federal pay raise and the mainly because of the expected
inauguration of the Medicare program, which together contributed significantly to the third-quarter figure. Mr. Maisel then asked whether growth in real GNP in the second quarter was less than the staff had projected early in the year. Mr. Brill indicated that he was not certain, but would undertake to determine the facts on the question. (Note: Following the meeting Mr. Brill informed Mr. Maisel that the staff's estimate of second-quarter GNP in current dollar terms had proved accurate but growth in real GNP had been overestimated; there had been a larger than expected rise in the price deflator.) Mr. Axilrod made the following statement concerning financial developments: Since around mid-April interest rates on virtually all securities and financing instruments outside the Government securities market have either regained earlier highs or continued their advance to new highs for the year. Demand pressures have been a driving force in some markets, but restraints on supply appear to be more pervasive than earlier, particularly in the mortgage market. Yields on U.S. Government securities have recently lagged behind the rise in other market rates. Apart from the impact of the 4-1/4 per cent interest ceiling on Treasury bond yields, the relatively low level of U.S. Government security rates can be mostly explained by the unusually large cash surplus the Federal Government is running in the second quarter--projected $9 billion, or $4 billion more than a to be about year ago--and the consequent relatively large reduction in debt outstanding--some inadvertent, as in the May refunding--which has been only partially
replaced by new agency issues for cash. Part of this large surplus is the result of tax speedups and some is the result of a faster growth in GNP than was anticipated in the January budget document. But while tax speed-ups and the more rapid GNP growth have taken some pressure off the Government securities market, they have generated additional private credit demands in the market and hence a widening of rate spreads between private and U.S. Government securities. The general upward movement in the over-all level of rates has been accompanied by a reshaping of the yield curve. It now once again shows yields relatively high at the short end and lower at the long end. In the U.S. Government securities market, this is the result of the rise of yields in the 1 - 3 year area to new high levels for the year. That was the end of the market hit hardest by the recent rash of agency issues and it also was the area of the May refunding. And at the very short end of credit markets, while the 3- month Treasury bill rate is relatively low, yields on commercial paper and bankers' acceptances have risen over 1 percentage point since the December discount rate increase and are more representative of pressures in the short-term sector. Barring any change in the economic weather or in the outlook for fiscal policy, I would suspect that over the next few weeks there will be a tendency for the yield curve to flatten more as a result of an upward rate movement out long end rather than a downward movement at the and intermediate-end. Such a at the shortconclusion is consistent with what we know about the corporate, municipal, and Federal agency calendar ahead and with the generally of investment funds at restrained availability some major financial institutions. also consistent with the view that It is short-term funds to relatively high cost of the as it did in early winter banks may impel them, prime loan rate was raised), to (before the or to tighten loan make portfolio adjustments terms as strong loan demand continues. This, upward pressures on long-term too, would add to own lending rates. rates, not to say on banks' market
The pressure for banks to undertake further portfolio adjustments and to restrain lending would become very intense if growth in aggregate reserves was considerably restrained. The leeway banks have under Regulation Q ceilings to become aggressive in competing for short-term funds in the CD market has been progressively reduced and the competition of other short-term instruments is becoming more fierce. Banks have been offering the 5-1/2 per cent ceiling rate on shorter maturities (some reported in the 3 to 4 month area) and secondary market trading in CD's is taking place above the ceiling rate in the 3 to 6 month area. Thus, banks are close to becoming very cramped in their ability to accommodate loan demand, especially if investors find it increasingly preferable or necessary to utilize competing instruments such as Treasury bills for liquidity purposes. By combining the picture described above with uncertainties facing nonbank savings institutions after midyear interest crediting, with legislative uncertainties overhanging banks, with the possibility that credit demands in June and July will be very large partly for temporary reasons, with the need for the agency market to digest a very large supply in a very short period, and with sizable bank CD maturities, one is driven to the conclusion that open market policy should chart an unusually cautious course in the period immediately ahead--recognizing that a considerable amount of restraint is already in the financial system. It is possible, though, that net borrowed reserves could be deepened somewhat further--say closer to $400 million--in the face of a tendency for reserve aggregates to grow rapidly without leading to a substantial risk of a short-run bind in the money markets. Any significant further tightening beyond that point threatens to bring up a whole host of problems very similar to those the Committee, and monetary policy generally, faced last December. In principle, the problem is that the availability of bank reserves cannot be very much more constrained
without raising very difficult further issues about the sustainability of time deposit ceilings and the discount rate--and all the complicated questions of timing that are involved in the relationship of such rates to open market policy and to other actions by the Administration and the Congress. I think the problem of relationships between official and market rates is most dramatically seen in the Federal funds market, where the trading level recently has often been 50 basis points or more above the discount rate as large city banks have used this market rather than the discount window to obtain additional reserve funds. If the flow of nonborrowed reserves to the banking system is reduced while loan demand stays large, it is very likely that the availability of Federal funds will decline. The volume of Federal funds transactions has shown signs of declining in May even with the Federal funds rate rising to 5-1/4 per cent at times. Intensification of such a development would make it more necessary for large city banks to borrow at the discount window. Thus, a further tightening of monetary policy will be accompanied by stronger demands on the discount window from all classes of member banks at the same time as market interest rate adjustments are occurring--and time deposits are becoming harder to buy. It seems clear, therefore, that open market policy's next significant step toward restraint will mean that Regulation Q will produce from banks, as they find their CD's squeezed anguish and shorter maturities, as well as from into shorter savings institutions. And the discount nonbank and discount administration will become even rate more of a problem than they are now. the following statement on the Mr. Reynolds then presented balance of payments: to this ComMr. Hersey reported Last March, foresaw a that Government technicians mittee the liquidity basis of as much payments deficit on
as $2-1/2 billion this year--double last year's deficit--if aggregate demand were allowed to produce a GNP of $735 billion. At the time, the $2-1/2 billion figure seemed startling. And such an outcome still seemed avoidable, provided that the domestic boom were brought promptly under control by an appropriate mixture of fiscal and monetary restraints. But this was not done. And now we are having to become accustomed to the $2-1/2 billion figure, and even to brace ourselves for the possibility of a larger figure. The liquidity deficit in the first four months of the year was already at a rate of about $2-1/2 billion. It would have exceeded a $3 billion rate if the Treasury had not persuaded some foreign central banks and international institutions to shift from liquid dollar assets into over-one-year time deposits and into Federal agency securities--items that are classified in the statistics as nonliquid. The alternative measure of the deficit, based on official reserve transactions, is not a suitable one for identifying recent trends, because special influence have caused it to swing widely from quarter to quarter. In the fourth quarter of last year, it was the largest it had been in nearly three years. Not only were private holders giving up dollars to shift back into sterling, but there were very large year-end shifts by foreign commercial banks out of dollars into their own currencies, with consequent accretions to central bank holdings of claims on the United States. In January-April of this year, the rate of deficit measured by official reserve transactions was $1-1/2 billion, but it would have been roughly higher if there had not been reversals of the previous year-end shifts. domestic boom should roar ahead in If the second half-year after the current slight the passes, as projected in the green hesitation to expect some further book,1/ it would be prudent "Current Economic and Financial Conditions," 1/ The report, for the Committee by the Board's staff. prepared
increase in the payments deficit, on either basis of calculation. The only source of improvement about which one can now feel at all confident is a decline in new Canadian security issues, following the January-April bulge. Against that, and probably outweighing it, further deterioration seems likely on at least five fronts. (1) Further shrinkage of the surplus on merchandise trade is a strong possibility. The trade surplus was already down to an annual rate of less than $4 billion in January-April, compared with more than $5 billion in the fourth quarter of (2) Direct investment outflows are thought to have fallen off to an annual rate of about $2-1/2 billion in the first quarter; they will probably be larger than that during the rest of the year. evidence points toward a (3) The available expansion of U.S. military expenditures further and economic aid outlays in Asia. encouragement, shifts (4) Even with Treasury from liquid to nonliquid assets of foreign funds will not continue at the April-May rate of some $200 million a month. U.S. bank credit may not be (5) The reflow of billion annual rate that has sustained at the $1 last fall, at least not without a prevailed since substantial tightening of domestic credit further The recent sharp tightening of credit conditions. countries, reported in the green in several foreign makes a relative tightening in the United book, States more difficult to achieve. all that were at stake was another one-year If toward payments equilibrium-- setback in our progress to a war that will attributable mainly this time that is sure to fade--one someday end and a boom with equanimity. One might hope to ride it out in the fact that some other could take comfort have also been experiencing leading countries Also, reserves are now accelerated inflation. and less developing countries more to the accruing countries (although to the traditional gold-buying also buy gold). developing countries sometimes International Monetary recourse to the Further U.S. for a time, as it limit our gold losses Fund could permitting other countries during the past year, has
to exchange unwanted dollars for claims on the IMF instead of for gold. But, unfortunately, much more than a oneyear setback is likely to be at stake. If, as seems possible, we are now seeing the beginning of a domestic price-wage spiral that could gather momentum right into the next recession, as happened in the late 1950's, and if some other leading countries are about to be successful in slowing down their inflations, also as in the late 1950's, then we may be risking a ten-year setback rather than a one-year setback. It is unlikely that we shall be allowed to repeat the gradual, one-decade approach to payments adjustment. We would be starting this time from a much weaker reserve position than in 1957, and against a long background of doubt and disappointment. It seems to me that the risk of a lasting setback on the payments front is very much more serious than the opposite risk of stepping a little too hard on the brake. Chairman Martin reported briefly on the recent meeting of the American Bankers Association in Madrid, which he had attended along with Messrs. Bopp, Daane, and Hayes. The meeting was the Monetary Conference. About 125 people had ABA's thirteenth attended, including about 30--a larger than usual number--from foreign countries. There was an underlying note of concern at the meeting of a kind that he had not seen for some time, the Chairman remarked. on the belief that the balance of payments The concern was hinged out of hand. A number of foreigners had problem of the U.S. was commented during the course of the meeting about the necessity for
increasing the gold holdings of their countries and reducing their dollar holdings. While it would not be right to say there was any real distrust of the dollar in Europe as yet, the seeds of such distrust were there. And the latest sterling developments might well have been forecast from the discussions at the meeting. One competent commentator had remarked, Chairman Martin said, that America's present problem in Vietnam was analogous to France's problem in Algeria; despite French claims that the Algerian hostilities were not a real war, they eventually led to the devaluation of the franc. The Chairman did not think the analogy was necessarily an accurate one, but it pointed up European apprehensions about the U.S. situation. Those apprehensions should be borne in mind because they could lead to serious consequences unless some means was found for dealing with inflationary pressures in the U.S. It was possible that the crest of the domestic boom had been passed, although he personally to pass a judgment on that question. But the was not ready virtually all of the Europeans who interesting point was that experience were convinced that whatever had been through a similar now was just a prelude to pause was occurring in the economy borne in mind was the upswing. Also to be another strong developing over the next of real financial pressures possibility several months.
In response to an inquiry by Chairman Martin, Mr. Daane said he had nothing to add regarding the Madrid meeting. He thought the Chairman's report reflected accurately the feeling of pessimism in Europe regarding U.S. efforts to resolve its balance of payments problem. The Chairman then invited Mr. Daane to comment on the Rome meeting of the Deputies of the Group of Ten that had been held prior to the ABA meeting in Madrid. Mr. Daane noted that the Deputies had met in Rome on May 17, 18, and 19. The meeting was held against the background of a rather sharp exchange of views, which had been reported in the press, between Chairman Emminger of the Deputies and Mr. Schweitzer of the International Monetary Fund. Mr. Schweitzer had charged publicly that the Group of Ten was dragging its feet on the whole question of international monetary reform. Also, he had scathingly compared the proposal for a set-aside, for the use of countries outside the Group, of any new reserve assets created to the outmoded "separate but equal" accommodations treatment of minority groups in the U.S. In his reply Chairman Emminger had emphasized that, because the Deputies were engaged on a long-run task, the difference of a few months one way or the other in completing preparatory work was not of great importance. With respect their but equal" charge, he observed that the ten countries to the "separate
of the Group would always have to bear the main responsibility and financial burden involved in the functioning of the system. Mr. Daane noted that Chairman Emminger had prepared a draft report, organized into five chapters, for the consideration of the Deputies. The introductory chapter referred to the need for a better balance of payments adjustment mechanism, the instability in the present system related to shifts in composition of reserve assets, and the probable inadequacy of gold for future reserve needs. The flavor of the introduction was that there was no general shortage of international liquidity now but that it was the consensus of the Group that there was likely to be a problem in the future. The introduction also referred to the and the contribution made by short-term credit role played facilities, and to their potential for further development. dealt with possible improvements in The second chapter payments system, Mr. Daane said. It included the international discussion of the need for strengthening the process considerable of multilateral surveillance to bring about better adjustments, as suggesting review and coordination perhaps even going as far Chapter 3 dealt with the elements of national reserve policies. creation of reserve assets. There of various proposals for the chapters at the Rome of the first three was little discussion meeting.
Chapter 4, Mr. Daane continued, involved an attempt to get away from a simple cataloguing of views on individual elements of various proposals and to put forward the most desirable "package plan" or plans. Most of the attention at the meeting was centered on a draft of chapter 4 prepared by the British delegation in an effort to get the Group to coalesce around a proposal for a reserve unit for the limited group, setting aside for future discussion appropriate provision for other members of the IMF. While the British proposal would retain the principle that an expansible inner group would have responsibility for insuring the acceptability of the new reserve units, it would permit units to be issued to nonparticipating countries. On the unresolved issue of acceptability the proposal provided for a compromise involving upper and lower holding limits. If a country accumulated new units above an upper holding limit it could convert them, 100 per cent, into gold. Transfer of units below the lower limit would be at a ratio to either gold or dollars. Thus, the proposal contained some of the acceptability elements of both the U.S. proposal and that of Chairman Emminger. The Group did not coalesce around the British proposal, took their usual position that Mr. Daane remarked. The French need to do anything at present, particularly in view there was no of the continuing U.S. balance of payments deficit. The U.S.
delegates demurred on the grounds that they still preferred their own "dual" proposal, which included provisions for drawing rights as well as new reserve units. The conclusion was that chapter would still leave open the options of going toward drawing rights, new units, or some combination of the two. The European view now involves new units for the limited group and possible drawing rights for others, while the U.S. proposal involves drawing rights for everyone. The issue of universality was definitely in the minds of the Deputies as well as of the people at the IMF. There was some discussion also of the form and content of chapter 5 on Conclusions and Recommendations, Mr. Daane observed. An understanding was reached that a new draft of this Conclusions chapter would be prepared by Chairman Emminger on the basis of suggestions sent in to him before the next meeting of the Group, scheduled for Frankiurt, Germany, June 21-24, 1966. The other question discussed, Mr. Daane reported, was how and when to move ahead into the second stage. His personal view U.S. balance of payments picture might well affect was that the to take that step. The U.S. the willingness of the Europeans into a second stage involving an Advisory had proposed moving in the Fund, with about 38 of Ministers and Governors Committee Fund membership. He Governors to cover the whole Ministers and
understood that in Fund Board discussions subsequent to the Group of Ten meeting the IMF Executive Directors had resisted that idea. He might note one other point, Mr. Daane said, that might have partly reflected the effects of the current U.S. balance of payments position. When the Deputies turned to chapter 3, dealing with elements of reserve asset creation, the discussion brought out clearly the considerable interest on the part of the continental Europeans in establishing preconditions, both procedural and substantive, that would prevent early or excessive activation of machinery set up to create reserves. In that respect they were moving in the direction of the French position. Among the suggestions made for preconditions for activation were a rule of unanimity, an initial date not earlier than 1970, or a two-year period in which there were no net additions to world gold stocks. In addition, the Europeans talked about setting up some qualitative criteria that would very rigidly limit the amount of reserves created. The restrictive flavor of the discussion of activation was similar to that evident in the questioning of the desirability of moving into the second stage and in the repeated emphasis on the need for tighter multilateral surveillance. Chairman Martin then called for the go-around of comments and views on economic conditions and monetary policy, beginning with Mr. Treiber, who made the following statement:
Business activity continues strong. The demand for autos is less intense than earlier, but it is too soon to say whether this is more than a temporary dip. More striking are the indications that capital spending plans continue to be very strong--despite moral suasion, tighter credit, shortages of labor, and slower deliveries. A rapidly growing aggregate demand for goods and services continues to press on the limitations imposed by more slowly growing capacity. The most recent survey of consumers' buying intentions shows no significant change; while consumers have reduced their automobile buying plans from the very high level of the previous survey, their buying plans still are at the high level of a year ago. On the price front, nonfood prices--at both wholesale and retail--moved sharply higher in April. The highly tentative May figures indicate that industrial wholesale prices have held about constant. There has perhaps been some reduction in inflationary psychology, but the inflationary pressure of demand on resources continues to be present. The balance of payments outlook is unsatisfactory, and the prospects are gloomy. The annual rate of the deficit for the first quarter of 1966 greater than the deficit for the year 1965. was much trade balance has deteriorated and could deteriorate The a good deal more unless inflationary forces at home are checked. There appears to be little prospect of any significant reduction in direct investment outflows, likely to widen. The Vietnam and the tourist gap is a continuing drain. It seems conflict promises to be a substantial increase in that there will be probable deficit for 1966 as compared the balance of payments in the Treasury's effort to induce with 1965. Success foreign official and international a further shift of instruments into nonliquid funds out of liquid dollar to improve the balance of assets will serve merely worsening of our balance statistics. The payments foreign confidence in of payments could undermine of the United States the ability and determination of payments problem; and to rectify its balance are not likely to help attempts at window-dressing the situation.
Bank credit growth slowed in May. The rise so far this year is still very substantial, though less so than in 1965. In April the loss of funds at thrift institutions was large. The mortgage market is very tight. But so far the effects on residential construction activity have not been great. Bank liquidity has dropped further as banks have continued to liquidate U.S. Government securities. The demand for business loans continues strong. There is concern about financial strains that may occur at the June tax payment date and at the end of the first half of the year when thrift institutions will be crediting interest on savings accounts. The present situation calls for coordinated restraint by fiscal policy and monetary policy. Monetary policy has been working. The big policy issue, it seems to me, continues to be fiscal policy. The Federal Government is still providing a considerable fiscal stimulus in a setting marked by excess demand. It seems to me that the prompt announcement and enactment of a program for a simple increase in Federal individual and corporate income taxes would help to reduce the inflationary pressures and to promote the maintenance of an orderly and balanced economy now, thus contributing over the long run to sustainable economic growth and the expansion of employment. More fiscal restraint would, of course, lessen the need to great an anti-inflationary burden on place too monetary policy, and would reduce the inevitable pressure on interest rates. Continuing monetary restraint is called for. With interest rates on time deposits pressing closer to Regulation Q ceilings, with the recent advance in several money market interest rates, and with a generally taut tone in the money market, there is not much room for increasing the pressure on bank reserve positions without endangering the viability of the discount rate and Regucurrent Q ceilings. It seems to me that it would lation be desirable to maintain as much restraint as is without creating strong expectations of feasible discount rate. Such a course a change in the would involve continued firm conditions in the
money market and continued pressure on bank reserve positions, with net borrowed reserves perhaps in the $350-$400 million range. Alternative A of the draft directives prepared by the staff with the proviso clause would seem to fit the prescription I have in mind. The proviso clause constitutes a fitting reminder in the directive of the basic thrust of policy. Under the proviso, we should move toward lesser reserve availability Land firmer money market conditions if bank credit expands more rapidly than expected. Yet the Manager should not be expected to react automatically to purely statistical short-range changes in required reserves. With the stresses of the tax date and the approaching interest payment date for thrift institutions, a further increase in restraint under the proviso clause should be approached with caution. I will now comment on member bank borrowing in the Second Federal Reserve District.1/ As regards borrowing by country banks, the System's program of monetary restraint is now finally reaching down into the country banks, and beginning to bite. The country banks, like the reserve city banks, are faced with a continuing heavy demand for loans, which the have met and are continuing to meet through whatever means are available. Traditionally, country banks have maintained an excess of reserves over Lorroings or a net free reserve position. Since the middle of March, however, country banks have been showing a net borrowed reserve position. Since large correspondent banks are no longer in a position to meet the needs of the country banks, the country banks are relying more and more on the discount window to avoid for this meeting the In transmitting the agenda 1/ "interest has been had indicated that of the Committee Secretary might care to comments the Presidents in hearing any expressed the recent substantial the factors underlying make concerning Federal Reserve Banks, borrowing at the in country bank increase window were at the discount any banks borrowing and whether during the same period." Federal funds to others al-o selling
liquidating securities, in the face of continuing high loan demand. As our discount window policy begins to be applied to these borrowings, a restrictive effect upon expansion of credit by country member banks should follow. As regards banks borrowing at the discount window and selling Federal funds to others, we have taken the position that the large correspondent banks who are acting as dealers in Federal funds should not borrow from the discount window during any reserve period in which they are net sellers of Federal funds. Recognizing the fact that in order to maintain a market in Federal funds these banks must be sellers of Federal funds as well as purchasers, we have not considered borrowing inappropriate as long as the bank was a net purchaser of Federal funds. On only three occasions (one country bank and two city banks) were banks borrowers at the discount window and net sellers of Federal funds in the same reserve period. We satisfied ourselves in each instance by direct contact that the situation was inadvertent and not for the purpose of obtaining a rate differential. In none of the three cases has the practice been repeated. We have seen no instance of a net sale of Federal funds by a bank which has borrowed from us with the objective of gaining the benefit of a rate differential. There is still another matter in which I think the Committee would be interested. It concerns the problem of possible withdrawals from savings banks at midyear. Yesterday the President of the Savings Banks Trust Company, which serves as a kind of central bank for the mutual savings banks of New York State, and the Presidents of three of the large New York City savings banks called at the Federal Reserve Bank of New York to discuss a possible savings bank crisis in July. At the end of the first quarter of 1966 the savings banks of New York State experienced rather large withdrawals; they fear even larger withdrawals at midyear. The savings banks are comparatively illiquid, with limited access to commercial bank credit and the capital markets. Emergency sales of their holdings of U.S. Government securities and agency securities would not only bring them substantial losses but could disrupt the U.S. Government securities market.
While they do not predict a crisis, they think that a crisis is possible unless there are alternative means for prompt relief, possibly through the Federal Reserve System, in the event of the withdrawal from the savings banks of several hundred million dollars in a couple of days. A crisis for the savings banks would, of course, have adverse repercussions on the entire banking and financial system. There was a discussion of the possibility of setting up a mechanism whereby the Federal Reserve System could provide relief, if needed, to avoid a crisis. For example, to the extent that the larger savings banks in New York City have available for pledge direct obligations of the United States, such banks might, after exhausting their normal borrowing facilities, borrow from the Federal Reserve Bank of New York on the security of those obligations, pursuant to the thirteenth paragraph of Section 13 of the If additional borrowings from Federal Reserve Act. Reserve Bank become necessary on the part the Federal banks or any other New York State savings of those banks whose needs cannot be satisfied by the Savings Trust Company, an arrangement might be made Banks member bank in New York City could act as whereby a a medium or agent for the Savings Banks Trust Company in borrowing from the Federal Reserve Bank of New York, contemplated that the collateral would not it being use in connection with advances under qualify for Section 13, but rather under Section 10(b), of the Act. Permission of the Board of Federal Reserve be necessary for such a Governors would, of course, the ninth paragraph of Section 19 borrowing under of the Federal Reserve Act and Section 201.5 of Regulation A. agreed to The savings bank representatives memorandum outlining the us promptly with a furnish to the end that problem and possible solutions, further discussions had meeting be held and another placed on the days. Stress was the next ten within up the machinery for handling desirability of setting and also in advance as possible, problem as far the of having the operating rules clearly understood by as the way is open. We indicated a all, as soon attitude toward the savings generally sympathetic
banks' problem, and will be working closely with them and the Superintendent of Banks of New York. As soon as we receive the memorandum we will be discussing the subject further with the Board of Governors. Last week we met with the President of the Federal Home Loan Bank of New York. He was not alarmed about the savings and loan situation in his district. The Federal Home Loan Bank of New York is prepared to provide financial assistance to associations to help them meet any unusual withdrawals that may arise at midyear. From the supervisor's viewpoint he saw much to be gained in the current experience; higher standards of lending and operations are being promoted. Mr. Ellis reported that the basic posture of the First District economy continued to be one of firm pressure against available resources. With factory output rising, with capital expenditures rising, with construction activity rising and jobs seeking workers, more attention was being directed toward reflection of such pressures and their immediate the financial outlook. Mr. Ellis said, new contracts during In construction, this year were 43 per cent above the first four months of levels. Nonresidential building contracts in April year-ago registered a 45 per cent year-to-year gain. Residential cent gain, mostly due to a sharp contracts posted a 47 per In partial reflection of those rise in apartment buildings. loans of the District's weekly reporting trends, real estate 12 per cent higher than a year ago, and in member banks stood cent annual rate. It increasing at a 10 per late May were
seemed fair to conclude that financing had been available in New England. There was some evidence, Mr. Ellis continued, that the first quarter brought a rush of loan commitments that would require a period of digestion. At least one insurance company reported that during the first quarter it committed all the funds it expected to have available during 1966. A period of reduced loan commitments also faced the mutual savings banks-- considered as a group. While some individual banks still had funds to invest out of State at net yields of 6 per cent or better, others found their slight dip in deposits during April brought their loan-deposit ratios up to or even above the 85 per cent legal loan limit in Massachusetts. If presently scheduled deposit withdrawal notifications for July materialized in historical patterns, several more of the mutuals would be pushed above their loan ceilings, and would be under the same kind of pressure as Mr. Treiber had indicated was possible in New York. The mutuals had been "refreshing" their loan commitments for member banks. Mr. Ellis went on to say that the Boston Reserve Bank's May 11 survey of time deposits at New England member banks provided evidence of continued efforts to attract time and savings deposits. One-quarter of the member banks now issued
non-negotiable CD's, and their outstanding volume had increased since December. A full third issued negotiable 15 per cent than $100,000 and had lifted the CD's in denominations of less outstanding level by 25 per cent since December. cent year-to-year gain in Along with their 23 per total savings deposits (and 2 per cent gain in demand deposits), weekly reporting member banks in New England had found increasing difficulty in meeting their reserve requirements. In the three statement weeks ending last Wednesday (June 1), the banks were borrowing on average four times more than a year ago. The green book indicated that "the factors occasioning the recent sharp increase in borrowing by country banks . . . are not completely clear." In the First District's case, the number of country banks borrowing had doubled in the past three weeks. As the large correspondent banks drew near the limits of their borrowing at the Federal Reserve acceptable Bank they had curtailed their willingness to provide Federal funds on call of their small correspondent banks, who in turn showed up at the discount window. Bank had reviewed the borrowing and Federal The Boston funds activities of those banks making daily reports to it, to the fact that the funds Mr. Ellis said. Having regard borrowings occurred at different times sales and Reserve Bank
in a reserve period, no convincing evidence was found of banks making a deliberate policy of borrowing at the discount window to sell Federal funds. Borrowing seemed directly related to the basic factors of peak seasonal deposit and loan pressures superimposed on cyclical conditions of strong loan demand and tightening monetary policy. About the same words came to his mind, Mr. Ellis said, in appraising the national scene. Concern seemed greatest in the financial reflections of a surging economy. Capital investment was surging ahead in spite of the Presidential plea. Vietnam impacts were showing up ever more broadly as the effects of defense spending were imposed on top of business and consumer demands. However slight its real effect on release of the pressures on resources, he was inclined to regard the cutback in auto production as a welcome relief from a prevalence of excesses. the premise that the strong upward thrust of Starting with continuing, as he did, Mr. Ellis continued, it the economy was issue as to whether a a critical but still unresolved remained be forthcoming. Facing that uncertainty, the tax increase might policy lay in holding the present major alternatives of monetary to move gradually in firming degree of tightness or continuing he was persuaded that reluctant to lose momentum, further. While process. Three factors time for a pause in the tightening it was
predominated in his conclusion: first, the projected tightness in money markets in June and early July as corporations had to meet accelerated tax payments out of reduced liquidity; second, the exposed position of savings institutions having deposit losses and July dividend payments while the Government enlarged its enticements for savers' funds by issue of attractively priced participations; and third, recent moves in policy that added another degree of tightness in a market increasingly affected by cumulative effects of past tightening. Those factors persuaded him, Mr. Ellis said, to urge a pause in which further tightening would be foregone to allow the markets to work their way through present difficulties and to allow the Committee another assessment of what it could accomplish by Those views led him to select alternative A of further moves. the second paragraph of the draft directive, with the proviso in order to forestall loss of ground. As to the clause included to substitute the word "the" for first paragraph, he would prefer "our" in the references to the U.S. foreign trade surplus and the deficit in international payments. conditions in the Eleventh District Mr. Irons reported that moderation as perhaps, some slight strong. There was, continued and automobiles, as was the of developments in housing a result other hand, employment, production, and case nationally. On the
distribution (as reflected by department store sales) had continued to show steady increases, with indications of further moderate increases in the months ahead. Employment had been rising at a rate of about one per cent a month. The advance was rather general and the total had reached a new record. Production in the District was up about 0.8 per cent in the past month, with increases outnumbering declines in about a two-to-one ratio. Construction contracts were down; cumulatively, for the year to date, they were about 6 per cent below the same period a year ago. Department store sales were running seven to eight per cent over a year ago and were continuing to show strength. For the first time in a long while, however, there had been a slight decline in new car registrations. The agricultural situation was quite favorable. Moisture conditions were generally good, although there were some spotty areas, and the livestock conditions were good. Cash farm receipts in the first quarter were 22 per cent above a year ago, with livestock accounting for about 30 per cent of the rise and crops the remainder. In the financial area, Mr. Irons continued, bankers continued to talk about the lack of liquidity and the strength loans in total and in most individual of loan demand, although categories declined in the period and were running below the same period a year ago. Investments showed a slight decrease as
holdings of Governments were reduced and other securities were acquired at a low rate. As in the preceding period both time and demand deposits declined, but negotiable CD's advanced to a record level for the District. Federal funds purchases were down a bit but still exceeded sales. Both the number of member banks borrowing at the discount window and the amount of borrowings had shown increases, Mr. Irons said. In reviewing recent discount window activity he had found that two reserve city banks borrowing from the Reserve Bank sold Federal funds in the same period. That was not a regular practice, however; the banks in question happened to be caught with surplus funds at the end of the period. He believed that some of the District's small country banks, although not a great many as yet, probably were coming to the discount window because their city correspondents were suggesting that conditions were tighter. Three or four of the banks that had come to the window in the last few weeks had not borrowed from the Reserve Bank for several years, and he suspected that they were giving their correspondents spell. Still, the number of banks borrowing and the a breathing borrowings in the District were not large; in the total volume of banks and one reserve city bank were week ending June 1, 17 country at the window for a total of $18 million.
In trying to trace the reasons for country bank borrowings, Mr. Irons continued, he found that seasonal agricultural demands were a contributing factor, and were likely to continue to be so. There was no evidence that the small banks were dealing in Federal funds one way or the other. He did not find the increase in discounting activity to pose a particularly difficult problem, and in some respects it was desirable for a few more banks that had not borrowed in some time to come to the window. The present level of discounting reflected a combination of seasonal, cyclical, and money market considerations, and he saw no evidence of efforts to arbitrage interest rate differentials. Mr. Irons commented that the national economic situation had already been discussed fully, and all members were aware of the balance of payments problem. With respect to policy, his position was quite close to that taken by Mr. Ellis. The next three weeks would be a period of rather intense uncertainties or four in the money market. The Committee had and severe pressures available and had contributed to the made reserves less readily interest rates. It was not possible to say what rise in market achieved a considerable bite but the Committee had lay ahead, time, he thought, caution policy actions. At this with its recent to see net reserve availability be prudent. He would like would
not deepened further but held at about its recent level. He did not believe that the Committee could strain the existing position much further without giving rise to pressures for action with respect to the discount rate and Regulation Q ceilings. He agreed that coordination of fiscal and monetary policies would be desirable to relieve financial pressures, but he saw no indications that fiscal policy action would be taken. Mr. Irons favored alternative A of the draft directives which, he noted, called for maintaining net reserve availability and related money market conditions in about their recent ranges. He would interpret that language to call for net borrowed reserves of around $350 million. While he did not feel strongly on the matter, he would prefer to omit the parenthetical clause in the staff's draft. Mr. Daane left the meeting during the course of Mr. Irons' remarks. Mr. Swan reported that in April the unemployment rate in again, to 4.3 from 4.5 per cent, the Twelfth District had declined to a considerable extent as a result of another substantial increase continued to do less well employment. Retail sales in aerospace country and, of course, residential than in the rest of the declined in mid-May following was weak. Lumber prices construction purchases were off and it further decline in orders; Government a
had become evident that new labor contracts would be negotiated without strikes. District agriculture seemed to be in good shape, although the annual question of the availability of labor for the summer and fall was again being raised. The first authorization for Mexican labor, issued in May, called for 1,000 workers to be brought in for the strawberry harvest. In that connection, it was interesting to note that strawberry plantings were up sharply in Mexico this year. During the first quarter of 1966 imports of fresh strawberries from Mexico were double those of a year ago and frozen strawberry imports were up about one-third. Mr. Swan said he would not take the time to review recent developments with respect to the mortgage market and nonbank savings institutions in the District because they had been covered report on the recent special survey.1/ He would add in his Bank's Reserve Bank had obtained for the first only that the figures the ten days of May indicated a further loss in the share accounts savings and loan associations, which of California State-chartered cent of total share accounts in the accounted for about 70 per Market Conditions as entitled "Current Mortgage 1/ A report Special Surveys by the Federal Reserve Banks" had I quoted in prior to this meeting in the been distributed to the Committee appendix to the report, "Current form of a special supplemental Economic and Financial Conditions."
State. The decrease amounted to $28 million, much less than the loss in the corresponding period in April. While the decline was far from welcome and there still was a good deal of concern about what might happen in early July, there was some feeling of relief that it was not larger. Mr. Swan went on to say that the Home Loan Bank Board's recent ruling raised to 5 per cent the rate that California savings and loan associations could pay on share accounts without having their borrowing privileges at the Bank restricted. That ruling was followed by widespread announcements by the associations not already paying 5 per cent that they would begin doing so on July 1. The associations that had gone to 5 per cent in April came out much better in terms of changes in their share accounts than others, although it was not clear whether their experience reflected the higher rate or their greater strength. There naturally was some hope on the part of other associations that 5 per cent would prove to be a viable rate. deposits at weekly reporting member banks continued Savings to decline in May, Mr. Swan said, although the decrease in that case Other time deposits of individuals, also was much less than in April. rose substantially more than savings partnerships, and corporations growth in total time and savings accounts declined. The net greater than in April, although both deposits in May was somewhat
gross amounts were considerably smaller. The District's larger banks finally appeared as net interbank purchasers of Federal funds for two weeks in May, although the amounts involved were not large. In the other weeks of the month they were net sellers, as they had been previously, but in relatively small amounts. In checking on the questions that had been raised regarding borrowing banks, Mr. Swan continued, he had not learned of any such banks in the District that also were net sellers of Federal funds in the same period. Some borrowers had operated on both sides of the funds market, but that was not a concern as long as they Borrowings by country banks were somewhat were not net sellers. they also were higher in the two higher in May than in April, and half of May; but the total June 1 than in the first weeks ending June 1 saw a larger number not large. The week ending still was than any other recent week, but that of country banks borrowing banks accounted for only only five, and those country number was the Reserve Bank in the week. of total borrowings from 20 per cent their reasons for thread in to find any common It was difficult been two cases resulting month there had In the past borrowing. in harvesting, and such as delays agricultural developments, from of public deposits. unexpected losses or two cases reflecting one institutions whose country banks were large Two of the five those of the large different from were not markedly positions reserve city banks.
Turning to monetary policy, Mr. Swan said that national developments since the last meeting of the Committee seemed to be about in line with what had been anticipated. He gathered from Mr. Holmes' remarks that despite problems of measurement operations had worked out rather well under a directive that referred to aggregate reserves as well as to net reserve availability. He found it was not easy to reach a conclusion regarding policy for the period ahead. The balance of payments situation was serious; indeed, if that were the only consideration before the Committee it probably would call not for gradual tightening but rather for overt action that would affect attitudes abroad. However, in light of the domestic situation--the uncertainties the seasonal needs, the problems facing savings in credit markets, institutions, and so forth--he came out about about where had, with the feeling that the Committee should avoid Mr. Irons at least until its next meeting. He any further tightening, alternative A of the draft directives and would would accept include the parenthetical phrase. He thought the definitely to recognize the aggregate reserve Committee should continue of measurement, and though there was some problem question even seasonally expected change despite that it should refer to the with Mr. Treiber on the need problem of definition. He agreed the in applying more restraint under the proviso clause, for caution
and he would favor a rather liberal interpretation of seasonal changes. It was necessary, he thought, to meet the additional demands that were expected in the next few weeks. Mr. Galusha said that except for developments in the Ninth District mortgage market, on which a report had been distributed, there were no District developments of such interest as to require being reported at this time. As to country bank borrowing, Mr. Galusha said there appeared to be nothing unusual going on in the District. The volume of such borrowing was considerably higher in May of this year than in May of last year, and quite a bit higher than in April. But the increase from April to May was just about what the established seasonal pattern would have led one to expect. If anything, Ninth District country bank borrowing was surprisingly low in May, for the loss in total deposits was much greater than seasonal. Nor had any evidence been found that during May District country banks, whether in debt to the Reserve Bank or not, entered the funds the selling side. The country banks had not yet become market on active in the funds market. generally Reserve Bank's recent effort Mr. Galusha mentioned that the from using the discount window to dissuade a few of the city banks they had been was crowned with considerable success. as much as Those banks which were, by the Reserve Bank's standards, being a bit too free with discount credit had stopped being so.
Turning to open market policy, Mr. Galusha said it appeared to him that the Committee could do no better for the present than to aim at maintaining the status quo in money and credit markets. In his judgment, the objective from now until the next meeting should be to hold short-term rates about where they had been lately, on average, and not pay too much attention to the level of the bill rate, to net borrowed reserves, or, for that matter, to aggregate reserves or bank credit. Fortunately, a holding action against pronounced changes in the complex of short-term rates should not involve sharp deviations from recent average values for the bill rate or the level of net borrowed reserves. Medium- and long-term rates could well move somewhat higher, but that would not seem to be an implication from which the Committee ought to shrink. Mr. Galusha noted the concern about the upcoming tax date important, the implications of generally and markedly and, more higher interest rates for nonbank intermediaries and the residential construction industry. In his opinion, the need for further restraint, as measured by purely economic criteria, had monetary valued in current prices, would undoubtedly not lessened. GNP, as this quarter than it had in the last two, increase a good deal less must be for a return, whether but at the moment the expectation in the fourth quarter, to unsustainably in the next quarter or likelihood of a rebound in auto sales large increases. Even if the
were to decrease and the likelihood of the worst fears about residential construction being realized were to increase, there would still be the twin problems of a clearly unsustainable pattern of investment demand and sectoral inflation. He observed, in that connection, that the upcoming Governmental sale of financial assets could hardly be thought of as making the Committee's task easier. For unsustainably high investment demand, greater monetary restraint was an obvious solution, Mr. Galusha continued. It could not be an inviting one, however, nor even a realistic one, until ways of lessening the effects on nonbank intermediaries and the residential construction industry were found. The System could therefore do worse than to lead the search for such ways. He did not know what answers there might be, but there was a legitimacy and urgency in the questioning. Mr. Galusha favored alternative A of the draft directives. he was assuming that the But in opting for that alternative, the Committee's next meeting would emphasis over the period until He objected to the proviso because be on money market conditions. restraint on the it seemed to him, an unreasonable it presented, that would have effects things could happen Desk because so many on required reserves.
Mr. Scanlon reported that with the exception of passenger cars, output of all major Seventh District industries either increased further in May or held at the high levels of earlier months. While fears of accelerating inflation appeared to have been dampened somewhat in recent weeks, no significant apprehension was detected among observers in the Seventh District concerning a possible early end to the current boom. Automobile people were projecting auto assemblies for the calendar year 1966 at 8.7 million, 7 per cent less than in 1965 but substantially more than in any previous year. They pointed out that the figure was close to projections made last fall shortly after the 1966 models were introduced. Truck production was still pressed to capacity, and June output was expected to reach a new high of 175,000 units. Promised delivery times on most types of flat-rolled steel products had been reduced sharply, Mr. Scanlon noted, mainly because of curtailed requirements of auto firms. As yet, there was no indication of reduced shipments of steel to other users. For the year as a whole, local steel experts estimated total ingot tonnage at a record 134 million tons, with output in the four quarters as follows: 33, 35, 32, and 35 million tons. Additional capacity should ease supply schedules further by year-end, finishing assuming that sufficient workers were available.
Labor markets in the Seventh District evidently tightened further in the second quarter, and it was apparent that heavy demands for labor were strengthening the hands of unions in negotiations with management. It was said that fear of a wage freeze was often given as one reason for the higher labor demands. In the construction trades, recent three-year contracts called for 30 to 40 cents per hour additional each year in wages and fringe benefits, and some contracts were for even longer terms, with annual wage increments. The Chicago Reserve Bank's recent survey, Mr. Scanlon said, indicated sharp cutbacks in most areas in new commitments for residential and nonresidential properties, as mortgages on both However, demand for construction was the case in other Districts. While housing permits were District was very strong. in the Seventh region, that was caused, in April in the north central off sharply heavy rainfall. The at least, by strikes and unusually in part such as copper and brass of labor and of materials availability products, as well and some aluminum and fittings, plywood, conduits determine the funds, would largely and cost of is the availability Seventh District this summer. activity in the Level of construction in the Chicago savings and loan associations Several of the major this week, with the loan rates, effective area had boosted to 20 years, with a family mortgage now limited "standard" single of 6-1/4 per cent. interest rate and a contract 25 per cent downpayment
In that connection, Mr. Scanlon commented that while savings and loan associations in the Chicago area had generally indicated sharp cutbacks in forward commitments for mortgage funds, the reason for the cutbacks was not illiquidity in all cases. For example, the head of one of the largest associations in the middle west said that while his association had funds to lend to qualified borrowers it had cut back forward commitments more than 25 per cent because, with all the talk and press comment about was going to happen July 1, he wanted to build up substantial what so he could operate on his own resources under the most liquidity severe conditions foreseeable at this time. The savings and loan executive mentioned particularly that he could not be certain what from the Federal Home Loan Bank, so he help would be forthcoming wanted to play it safe. to weekly reporting banks, Mr. Scanlon reported Turning to manufacturing firms had been rising strongly while that loans and finance companies had not new loans to trade establishments no evidence to date of with repayments. He found kept pace or consumer loans. The in either real estate significant slowing to liquidate Governments during reporting banks continued weekly but they acquired a though at a moderate pace, most of May, securities, probably agencies. large amount of other relatively
Through mid-May, Mr. Scanlon continued, the smaller banks in the District continued to show more rapid loan growth and faster liquidation of Governments than the weekly reporters. Borrowing at the discount window in recent weeks had been largely by country banks, and the number of such banks seeking accommodation had risen to a new high. It was understood that some country member banks were being encouraged by their city correspondents to use the discount window in preference to their correspondent. The Reserve Bank knew of one correspondent bank that loaned to nonmembers at the discount rate but charged the prime rate to member banks. It was not aware of any unusual amount of downstream participation of loans. The recent survey of time deposits had confirmed the longstanding practice of many small banks in the Seventh District to of deposit as well as passbook savings as use time certificates In Iowa, for example, 44 per cent vehicles for acquiring deposits. in certificates, and only a negligible of total time deposits were of $100,000 or more. were negotiable certificates amount ($3 million) rates were revealed by Aggressive postures on interest Only 38 per cent of banks, Mr. Scanlon said. relatively few much as 4 per cent on savings member banks paid as District of 4-1/2 per cent on 11 per cent paid in excess deposits, only account time deposits, only of deposit and open time certificates
4 per cent paid in excess of 4-1/2 per cent on savings certificates, and only 2 per cent paid in excess of 4-1/2 per cent on other nonnegotiable certificates. Excluding negotiable CD's of $100,000 or more, only 8 per cent of the District member banks paid more than 4-1/2 per cent on any type of time deposit. Slightly more than half the member banks--532--paid 4-1/2 per cent on some kind of time deposit, excluding large negotiable CD's. Reserve positions of the money market banks in the Seventh District still were not showing strong pressure, although they were less easy than a month ago. The amount of their CD's maturing in June was smaller than in March. Judging by past experience, those banks appeared in a position to meet any reasonable volume of credit demands in the period just ahead. As to policy, it appeared desirable to Mr. Scanlon to limit monetary and credit expansion to not much more than normal seasonal If such expansion became inconsistent with the existing growth. he would like to see some rate of net reserve availability, in the latter. He realized that the Committee further reduction a great deal of elbow room, and he certainly would not did not have if staff projections were move overtly, but he believed, want to must continue gradually to exercise correct, that the Committee could accept alternative A, with the more restraint. While he directives best B of the draft he believed alternative proviso, suited the objectives for which he would strive.
Mr. Clay commented that some sectors of the economy, principally automobiles and housing, had slackened their pace somewhat. At the same time, the over-all level of economic activity was increasing at such a rate that the growth in aggregate demand for goods and services pressed hard on the economy's resources and capacity to produce. As a reflection of those developments, nonagricultural prices continued their upward movement at the more rapid rate of recent months. The future pattern of economic activity could not be known Mr. Clay observed, particularly without full knowwith certainty, ledge of the course of defense expenditures. What was known about probable economic developments, however, suggested that the pressure of demand on resources and capacity would continue and that price inflation would also remain a problem. Under the circumstances, continue to apply pressure on the commercial monetary policy should banks and the financial markets. aggregates and monetary variables Developments in reserve during May had placed those measures in a more satisfactory position relative to monetary policy objectives for recent months, Mr. Clay continued. Staff projections indicated a substantial in aggregate financial measures in June. However, expansion developments surrounded the period with considerable forthcoming uncertainty as to financial pressures in view of the large volume
of scheduled private and public financing, the tax and dividend requirements in the period, and the problem of the pattern of savings flows in the economy. The uncertainty probably would be intensified if Congress should pass restrictive legislation with respect to time deposits. Draft directive A appeared to Mr. Clay appropriate for the period ahead, provided a less emphatic word such as "considerably" the word "sharply" in the provisional clause. was substituted for or not specified in the directive itself, it also seemed Whether be an interest rate or money market to him that there should policy actions that would precipitate constraint to avoid monetary rate increase at this time. a discount Reserve Bank did not have Mr. Clay said the Kansas City were net sellers of at the discount window evidence that borrowers underlying the recent substantial Federal funds. The factor appeared to be the high demand in country bank borrowing increase during a period of tight and business credit for agricultural that situation because felt the bite in The country banks money. and (2) city coraccess to the CD market, (1) they lacked equal by their country were limiting borrowing respondent banks Reserve Bank. A them to the and were referring correspondents the Kansas City Bank this banks had borrowed from total of 172 those did not borrow Forty-two of to 120 last year. year compared
at any time during 1965, and several had never borrowed before from the Federal Reserve. That might be proving that there was some real advantage to System membership. Mr. Wayne said that the latest information contained rather definite evidence of slower growth in some sectors of Fifth District business. Building permits, curbed by a dwindling supply of mortgage money, dropped in April to the lowest level in nearly a year. In the Richmond Reserve Bank's latest survey, manufacturers' showed virtually no increase for the first time since new orders shipments was considerably smaller last July, and the rise in factory continued high, however, and than earlier this year. Backlogs and wages showed further gains. Upward factory employment, hours, pressure on prices also continued. there had been some rise in country Mr. Wayne reported that although the total thus far borrowings in the Fifth District, bank A number of banks had been contacted, remained relatively small. for borrowing it seemed of the reasons they advanced but regardless was one that should the general pattern of borrowings to him that money with limited opportunities in a period of tight be expected had been found of banks selling obtaining funds. No evidence for period in which they were borrowing. Federal funds during a that had been made regarding With respect to the comments there were a few large savings banks, Mr. Wayne noted that savings
banks in the Fifth District, in the Baltimore area. Several of them had expressed some concern about possible developments in the period ahead, but thus far none had raised the question of obtaining relief through the Reserve Bank. In the policy area, Mr. Wayne said, the Committee probably was now in the critical phase of the difficult and delicate task of slowing the present boom to a sustainable pace without reversing the direction of the economy. For that difficult period, he a policy of holding about the present level of reserve suggested availability but with a safeguard to insure against inadvertent in reserves, bank credit, and the money supply. He would increases do that by again gearing the directive to required reserves. Mr. Wayne noted that excess demand continued to show itself places. Unfilled orders for durable goods continued in several Plans for business investment showed their steady and strong rise. off but still were too high to be sustained. some signs of leveling other inflationary factors should not be discounted, but Those and time they would yield to a continuation perhaps with a little more of present monetary pressures. that the directive adopted last time Mr. Wayne commented the aid of favorable market have worked well, perhaps with seemed to like to keep that format good projections. He would conditions and of reserve availability unless and maintain about the same level
required reserves should rise appreciably. If the latter should happen, a move should be made toward larger net borrowed reserves. Alternative A of the draft directives, with the parenthetical phrase included, expressed a position that seemed appropriate, but he would like to see some reference in the first paragraph to the situation in the mortgage market and its implications for housing. Without some such reference, the first paragraph seemed to support alternative B for the second paragraph rather than A. Mr. Shepardson commented that while there were indications of a slowdown in some sectors of the economy the general level of activity was still advancing, with heavy pressure of demands a tight labor market, scarcity of skilled labor against resources, in prices. At the same time many areas, and a continuing rise in ahead around the tax and dividend dates, there were pressures and concern about the effects concern about the mortgage market, of funds among financial a possible excessive shifting of factors presented somewhat conflicting intermediaries. Those the balance of payments report on Mr. Reynolds' indications. Current price developments seemed highly significant. situation negotiations, and any for subsequent wage would have implications could have and wage situation in the price further deterioration the U.S., on the position of on the competitive serious effects balance of payments. and on the total trade balance,
Mr. Shepardson thought that those considerations, on ba warranted pursuing a policy of further restraint while avoiding overt action. As he understood the discussion, the Committee st had some leeway available to move toward the $400 million level net borrowed reserves. Mr. Treiber had mentioned moving toward that level within the framework of alternative A of the draft directives. However, it seemed to him (Mr. Shepardson) that such a policy was better described in alternative B, and he preferred that alternative. Mr. Mitchell said he would make just one remark about borrowings before turning to the language of the directive. It seemed to him that the System was not using the discount rate as a restraint; at present levels of the Federal funds rate the discount rate would have to be raised to 5-1/2 or 6 per cent to offer important restraint, and no one advocated such an increase. Thus, it was up to the Reserve Banks to exercise as much restraint as possible by persuading member banks to turn borrowers away. Denying discounting facilities to banks that were selling Federal funds was one means of doing so. He hoped the Reserve Banks would continue their efforts to restrain member bank lending and perhaps might be the only way to them, because such efforts intensify the discount rate, which could prove avoid an increase in catastrophic.
Mr. Mitchell agreed with much of what Mr. Wayne had said about the directive. He thought it was important to guard against a repetition of the banking developments of March and April, and he would favor some further reduction in net reserve availability if required reserves expanded significantly more than seasonally expected. Unless that happened, however, he would go along without much further change in net borrowed reserves. He still favored the revision in the first sentence of the directive that he had suggested earlier today, and he agreed that it would be advisable to include a statement about the mortgage market. Mr. Maisel reported that Mr. Daane, who had withdrawn from the meeting earlier to keep another engagement, had indicated favored alternative A of the draft directives. before leaving that he matter referred to earlier by On the savings bank said he hoped there could be a System Mr. Treiber, Mr. Maisel which was an important one. approach to the problem, Mr. Maisel that banking it seemed to As to the directive, path, and he interpreted were now on the right developments against leaving that path. A as calling for guarding alternative with respect to the major A. Conditions now Therefore he preferred had expected. what the Committee were just about monetary variables to face up to would have or two the Committee Over the next month to achieve. monetary policy it expected of what goals the question
In his opinion the goals that some people were setting up were not properly goals of monetary policy; the country could not be run through monetary policy alone. Mr. Brimmer said he favored alternative A of the drafts for the second paragraph of the directive and would leave open for the time being the question of whether to include the proviso. Regarding the balance of payments, Mr. Brimmer thought the problems involved were for the most part beyond the reach of monetary policy. Of the five problem areas noted by Mr. Reynolds, there was only one about which the Committee could do much in the near future--it might be able to induce commercial banks to lend less abroad. He detected nothing in the Administration's attitude to indicate that it regarded the previously announced balance of payments target as serious. On the contrary, recent speeches by officials suggested that the Administration had decided to run the risk of further losses of gold in preference to calling for unpopular measures. He would prefer not to see corrective but try to make up for the lack of Administration the Committee of payments problem. Thus, unlike responsiveness to the balance that the deterioration in the U.S. Mr. Shepardson, he thought of payments position was not a good reason for a further balance tightening of policy.
With respect to the domestic scene, Mr. Brimmer expressed particular interest in Mr. Brill's opening remark reporting Mr. Noyes' advice not to let the Committee overstay a tight policy. The present was a particularly troublesome time for forecasters. The evidence was mixed, and while he personally believed that the economy was in for another upswing, he was not certain of his judgment. Given the lags in the available data, the Committee might fail to recognize quickly a weakening in the underpinnings of the economy. Accordingly, he would want to be a little cautious. There were various other reasons for caution, including conditions in the mortgage market, concerning which he had a sentence to propose for inclusion in the directive. The financial problems ahead might be more serious than any that had been faced by the present generation, and the Committee should keep in mind its responsibility for the financial system as a whole and not just the commercial banks. In that connection, he was impressed by the imagination shown in New York, and perhaps elsewhere, in the steps that might be taken to deal with the savings looking into agreed with Mr. Maisel that a System-wide bank problem. He to that problem would be desirable. approach Mr. Brimmer suggested retaining Turning to the directive, paragraph as drafted by the staff, the opening sentence of the first reading, "There is also much it with a new sentence and following
uncertainty about the mortgage market and the liquidity of nonbank financial institutions." As he had indicated, he preferred alternative A for the second paragraph and he thought the Manager might focus on $350 million as his target for net borrowed reserve He had not taken a position with respect to the proviso because he was inclined to suggest that the Manager be given substantial leeway to depart from the net borrowed reserve target if unusual circumstances developed in financial markets, letting them fall away from the $350 million figure if necessary. He doubted that the seasonal factors available were adequate for dealing with the situation that lay ahead. Mr. MacDonald observed that the flow of business news suggested that the economic expansion was proceeding, momentarily, at a less frenetic pace than in the first quarter. Confirmation could be found in the recent behavior of such series as retail sales, new orders and shipments of durable goods, industrial construction, industrial prices, and personal income. production, were erratic--one swallow did not make Nevertheless, those series not make a trend. To the extent that a summer and one month did it had been helped by the slide in auto there had been moderation, in car production, which were likely to have sales and cutbacks industries such as as they spread into ancillary further effects steel, rubber, and glass.
Whether it would be possible to recapture the balance in the economy that prevailed earlier in the business expansion remained to be seen, Mr. MacDonald noted. In any event, there seemed to be less inflationary pressure at the moment than earlier this year. He was glad to see that the restrained performance of monetary measures in May largely counteracted the inflationary April showing, and that projections for June indicated figures to the Committee's objective. The desired degree reasonably close have been reached, at least for of monetary restraint might thus the time being. developments in reported that most economic Mr. MacDonald with the national pattern, District had been consistent the Fourth by no means behaved uniformly. the regional measures had although activity appeared gains in manufacturing the side of moderation, On District centers. in several major have slackened recently to but new orders had remained high, steel production District slightly in May, producers declined the reporting steel received by department store Auto sales and adjusted basis. on a seasonally the second quarter, thus far in District had slipped sales in the through February, after climbing construction contracts, and months. down in succeeding turned insured unemployMacDonald added, note, Mr. On a stronger had continued Fourth District of the labor markets ment in major
to edge down, reaching the low figure of 1.1 per cent; in 5 of the 14 major labor markets the rate was less than 1 per cent. The Reserve Bank's spring survey of capital spending plans in Cleveland and Cincinnati found that business firms had upgraded their estimates of spending for 1966 since the fall survey. The change in part reflected a carryover of capital outlays from 1965 into this year. Mr. MacDonald reported that banking statistics for January through April showed that credit expansion in the District had been considerably larger at banks outside major cities than at weekly reporting banks, which suggested that, as of April, the full effects of tighter monetary policy were still to be felt by country banks. With reference to the borrowing of country banks at the discount window, Mr. MacDonald said that during the first five months of 1966 such borrowing was up 40 per cent from the year-earlier period--about the same as in the nation. Daily average borrowings of the District's country banks had more than doubled since March, but still accounted for only about 1 per cent of total country bank Ten of the banks that borrowed this year had not borrowing. the Reserve Bank in the past three years. In borrowed from cases the borrowing reportedly was caused by increased several loan demand stemming from use of credit lines by branches of
national corporations that had been unable to obtain sufficient funds in money market centers. Recent data provided no evidence of a significant shift in the pattern of banks' use of the discount window and transactions in Federal funds. Occasionally, large banks found themselves oversold on Federal funds and turned to the discount window. No country banks had been found that simultaneously borrowed from the Reserve Bank and sold Federal funds. As for monetary policy during the next three weeks, Mr. MacDonald expressed a preference for alternative A, as drafted by the staff, for reasons already given by others. that several indicators pointed to Mr. Hilkert reported on economic resources in the Third some slackening of pressures force in the District was more fully District. Although the labor the Korean War, gains in manufacthan at any time since employed labor (reflected in and demand for employment had lessened turing to expand. Also, nonresidential indexes) had ceased help-wanted so far this year, and in the District had lagged construction were under 1965 totals. for the year to date auto registrations Superimposed upon those factors in the real economy, building rapidly in market had been pressures in the mortgage Bank made a survey Philadelphia Reserve Inasmuch as the intensity. recently updated it, weeks ago and just conditions four of mortgage
it had been able to observe that build-up. The surveys indicated the same kind of cuts in new mortgage commitments that had already for most other Districts. One difference observed been reported surveys, however, was in the reasons given for in the Bank's two the abrupt change in policy with respect to mortgages. Around 1, savings and loan officials blamed CD's, nearly exclusively, May savings outflow. But since then few had found for the net convincing evidence that the money did go to the commercial admitted frankly they did not know banks. Almost all interviewed the money was going. Another difference was in connection where mortgage discounts were 2 points with mortgage rates. FHA average 4-1/2 near the end of May. When in March, 3 in April, and May 1, FHA did not expect lenders were surveyed around mortgage discount until midsummer. an average 4-1/2 point Reserve Bank also had During the past week the Philadelphia and finance companies to inquire in touch with several banks been added. The banks and larger financing, Mr. Hilkert about automobile roughly similar to a volume of business companies reported finance borrowers were being a bit higher, though last year's, or perhaps smaller-sized finance The medium and screened more carefully. business off considerably, the other hand, reported companies, on more importantly because slipping demand but partly because of accurately reflected If those findings was harder to get. money
developments throughout the nation, further complaints might soon be expressed--this time in the area of consumer financing--about intense competition from the commercial banks. On the banking front in the Third District, country banks had experienced slower growth in loans and investments so far this year than in 1965, with little pressure on the deposit side of the ledger. That was one reason, together with heavy participation in the Federal funds market, why there had not been the bulge in borrowing at the discount window that had characterized some other Reserve Banks. The number of country banks borrowing in recent weeks had not been out of line with comparable periods of the past two years, and though there had been some pickup in amounts borrowed the increase had not been substantial. The banks that had been borrowing at the window appeared to have done so for a variety of reasons, Mr. Hilkert said. For example, a few larger country banks had experienced a rising loan large firms that formerly borrowed in the money centers demand from conditions there relatively tight. Also, the but now were finding funds rate (and at times reduced substantial increase in the Federal several banks to seek of such funds) had encouraged availability discount accommodation. It had been possible, Mr. Hilkert said, to keep close track of borrowing at the discount window in relation to activity in
Federal funds and other borrowing because the Reserve Bank had been getting daily figures since February from all country banks on Federal funds transactions and other borrowing. Among country banks during the last four bi-weekly reserve periods, some sold Federal funds during the same reserve period in which they were borrowing at the discount window, and a few sold small amounts on days when they were borrowing. However, there was no evidence of that being a regular practice by any country bank. Two of the six city banks that made a market in Federal funds for correspondents had borrowed during the past eight weekly reserve periods. Each bank sold Federal funds during periods, and on days during which they were borrowing. those city banks reduced their sales of Federal funds when Typically, borrowed at the window. they Although no pattern had emerged, Mr. Hilkert added, the Bank had noticed some factors responsible on occasion Reserve Federal funds sales and borrowing from the for simultaneous by country banks. There had been a case in which Federal Reserve bank had an agreement with its correspondent to sell the country Federal funds daily; then, when a need arose, it borrowed from the Reserve Bank instead of cutting back Federal funds sales. A second case was one in which the country bank used an inflow of funds to sell Federal funds instead of paying off an existing note at the Reserve Bank.
Mr. Hilkert observed that the Reserve Bank would be in a position to see whether or not those practices increased as it obtained more experience with the Federal funds and other borrowing figures on a daily reporting basis. No doubt questions would arise as to proper administration of the discount window. It seemed obvious, however, that uniformity in policing those practices would be desirable. Mr. Patterson submitted the following statement for the record: In the Sixth District we note the same moderating influences evident in the rest of the country. These have extended to a variety of economic and financial series. Declines have shown up not only in retail sales and construction contracts, but also in employment. It may be that some of the employment gains in the early part of the year borrowed from the most recent period. Of course, we still find a considerable shortage of labor, especially skilled help. Nevertheless, it seems to us that the pressures, even for labor, have abated somewhat. Having said this, I don't want to attach undue importance to the declines that have occurred. The dip in auto sales has not been large. And even in the case of construction the drop has been small, although our survey would indicate that the worst is yet to come. That there has been a decided change in underlying District developments is quite clear, however. It shows up, for instance, in a reduction in the willingness of to borrow, not only for autos but for other consumers cities there has been as well. In our large purposes down in the over-all loan expansion. It is a slowing traceable to a degree that is hard to tell to what in credit demands. It may well be partly softening also reflect the impact of self-imposed, and it may our own policy actions.
It is always difficult to see the effects of credit restraint when first applied. But as we all know, those become cumulative and eventually show sizable results. We are now seeing some evidence of this in the national housing sector, although the root of the problem there seems to be also partly a matter of bank competition and a decline in the demand for housing per se. Rather than feeling uncomfortable that there has been a slowing up in theeconomy, I would think that this is what we hoped would happen, especially since no tax increase seems to be in the offing. If the economy had not responded, I would have been very much disappointed. Therefore, I think it would be a distinct mistake if we were to ease our policy now. On the other hand, I wonder if housing is not feeling more of an impact than we anticipated and bargained for. This consideration, plus the fact that theeconomy seems less overheated than it has been, suggests that this is not the time for additional credit restraint. I am further persuaded in this conclusion by the agencies' marketing problems, the mid-June money market pressures, and the Treasury's prospective borrowing requirements. My feeling is that while caution is the watchword today, some difficult decisions on the discount rate and Regulation Q lie ahead. The number of banks paying 5 per cent on savings certificates seems to have increased sharply, in our District at least, and in some cases banks have gone to 5-1/2 per cent. We, too, have found an increasing number of country banks using the discount window. This increase--only partly seasonal--seems to reflect a certain amount of unwillingness to take capital losses on securities in the face of still relatively strong loan demands and moderating deposit increases. There is little evidence that banks are trying to borrow at the discount window and are also selling Federal funds, but policing may become a problem. For this reason, discount rate action may well become a necessity. On the matter of open market policy, Mr. Patterson said that in general he favored the approach taken in the directive at the last meeting. Today, however, he would not resist the increase in required reserves for June projected by the staff, unless that
increase turned out much greater than presently anticipated. He would go along with alternative A of the draft directives. Mr. Lewis reported that economic activity in the Eighth District continued to show great strength. Personal income had risen at about a 10 per cent annual rate since last fall, and spending, as measured by the flow of check payments, had increased The greater demand for goods and at a 7-1/2 per cent rate. production and credit facilities and placing services was straining as estimated from induson prices. Real output, upward pressure at about a 5 per cent power, had increased trial use of electric employment had risen last year, and total annual rate since late rapid gains cent rate. Particularly a very sharp 7 per at St. Louis and Memphis. employment at occurred in manufacturing cent of the District about 3.4 per which averaged Unemployment, 3.1 per cent been down to about in late 1965, had labor force since March. reporting banks District weekly Total credit at Eighth December, compared annual rate since an 11 per cent had expanded at risen at a Loans had rate in the nation. an 8 per cent with increased slightly. had and bank investments 15 per cent rate large at an unusually had advanced in the District Business loans strong growth with an especially since December, annual rate 25 per cent large net were categories in most industrial Louis. Firms in St.
borrowers. Bank deposits had expanded at a 6 per cent rate since December, with much of the growth in demand deposits. An exception to the strong growth in bank deposits and loans had occurred in the Memphis area. Deposits in Memphis had shown only a slight rise over the past two years, evidently because those banks had been less competitive in rates paid on time deposits due to a 4 per cent Tennessee limitation. With a lack of growth in funds available, outstanding business loans at Memphis banks had changed little on balance in nearly two years. Mr. Lewis reported that 25 country banks had borrowed in the first five months of 1966. That was three and one-half times the number that borrowed in the first five months of 1965. The in the past three months had averaged about double amount borrowed the average of last winter. Reasons given for the greater borrowing included strong loan demands and increased difficulty of getting banks. One bank reported that accommodation from correspondent lost some deposits because competitors were offering higher it had on time accounts. Only one country bank had sold Federal rates funds in the same period in which it borrowed; that bank sold on days of the reserve period but then paid out. Several the last two during periods in which had sold Federal funds reserve city banks they borrowed, but were heavy net buyers rather than net sellers.
Upward pressure continued on prices, Mr. Lewis noted. For example, in the St. Louis area there had been marked increases in wages of construction workers, the cost of building materials had risen sharply, and the delivery period on certain key items had lengthened considerably. As a result, builders reported that the cost of constructing a residence was 5 to 10 per cent higher than just a few months ago. Over-all consumer prices in the St. Louis area had risen at a 4 per cent annual rate since last September. In summary, Mr. Lewis said, demands for goods and services had been unusually strong, probably excessive, in the Eighth District, as in the rest of the nation. Mr. Robertson submitted the following statement for the record after presenting a brief oral summary: It seems to me we are in a continuing strong basic economic situation, but one in which monetary restraint can finally be said to be having some real bite on for resources. This is obviously true in the demands field; it may also turn out to be one of construction contributing factors to the lower level of automobile the sales; and in numerous other areas of spending we hear at least an occasional story of some spending decision altered by the money situation. As a matter of fact, there is an increased outcry from some of these areas that tight money is biting too much. A good part of this is special pleading, of course, but some of the results of restraint--particularly in housing--may be drastic enough to deserve some attention. I, myself, would prefer any remedial action on this front to come through appropriate amendment of Regulation Q, rather than any easing of our general policy of restraint. But I think such developments do suggest that we might
have carried our progressive tightening about far enough at this juncture, and that a policy of holding firm about where we are might be the best decision for us to reach today. I am reinforced in this view by the behavior of the banking aggregates during May, when we finally managed to achieve some wiping out of the big MarchApril bulge. I hope our present degree of tightness will suffice to keep any June bulge smaller in size and more temporary in duration. To guard against any new wave of outsize expansion in bank credit, however, I would again like to tell the Manager to be guided in part by the strength of over-all bank expansion. To be more explicit, thinking of his general operating target as net borrowed reserves in the neighborhood of $350 million, I would have him run net borrowed reserves up to $100 million deeper than that if required reserves should expand substantially more than seasonally expected; and, by the same token, I would be ready to see him work net borrowed reserves down to as little as $250 million if required reserves should be so much weaker than expectations as to produce a seasonally adjusted decline. I should add that I recognize the month of June may also bring some special money market pressures-- from such things as tax date borrowing needs and Federal agency financings--that will complicate the Manager's job. As I said last time, I am sure no one here wants to be recommending actions that would disrupt the markets, and the Manager may have to occasionally take this possibility into account in shaping his operations. But I think this kind of instruction is and always has been implicit in the Committee's directive, and needs no spelling out. Indeed, it would be a very complex job even to try to express its scope and limitations in black and white, and it would be misleading if we tried to subsume all such complexities in the shorthand of a pet phrase like "taking account of money market conditions." Therefore, I would not favor inserting an explicit reference to "money market conditions" in the directive. I think we are better advised in this area to rely upon the Manager's discretion, meanwhile keeping our formal directive aimed consistently at the target of reserve availability.
All things considered, I would favor alternative A of the directive drafts presented to us by the staff, but I would want to see the phrases referring to money market conditions stricken on the grounds that they either imply too much or are not necessary, depending on which of their two possible meanings one might want to stress. I would, of course, want to see included the parenthetical reference to adjusting operations in the light of the movement of required reserves. Mr. Robertson added that he shared the view that some reference be made in the first sentence of the directive to factors that would argue for holding the present degree of firmness at this juncture rather than tightening further. He would suggest language such as "the mortgage market is tight, automobile sales have fallen off, and concern exists about the liquidity of nonbank financial institutions." of the Committee had noted that a majority Chairman Martin for alternative A for the second paragraph expressed a preference the members did not and that, on the whole, of the directive He proposed that their views on policy. to be far apart in appear suggestions that by considering the various the Committee proceed A discussion of the draft directive. been made for revising had of the directive ensued. wording motion duly made Thereupon, upon and by unanimous vote, and seconded, Bank of New York the Federal Reserve and directed, until was authorized otherwise directed by the Committee, in the System to execute transactions with the followAccount in accordance policy directive: current economic ing
The economic and financial developments reviewed at indicate that, while the mortgage market is this meeting tight, automobile sales have fallen off, and some concern liquidity of nonbank financial instituexists about the tions, the domestic economy is continuing to expand, rising further and credit demands with industrial prices remaining strong. The foreign trade surplus has declined and the international payments deficit has increased. In this situation, it is the Federal Open Market Committee's policy to resist inflationary pressures and to strengthen efforts to restore reasonable equilibrium in the country's balance of payments, by restricting the growth in the reserve base, bank credit, and the money supply. To implement this policy, System open market operations until the next meeting of the Committee shall be conducted with a view to maintaing net reserve availability and related money market conditions in about their recent ranges; provided, however, that if required reserves expand considerably more than seasonally expected, operations shall be conducted with a view to attaining some further gradual reduction in net reserve availability and firming of money market conditions. Chairman Martin then observed that the members of the Board of Governors were to appear before the Committee on Banking and Currency of the House of Representatives tomorrow (June 8) regarding legislative proposals affecting financial institutions. A letter dated June 6 had been received from Chairman Wright Patman of the Committee asking for an expression of views on a four-part proposal, one part of which had to do with permitting open market purchases by the Federal Reserve System of any obligation which was a direct of, or fully guaranteed as to principal and interest obligation by, any Federal Home Loan Bank. The Chairman thought that matter should be discussed today since it related to the Committee's responsibilities.
Mr. Treiber inquired about the present eligibility for purchase by the System of Federal Home Loan Bank obilgations. Mr. Hackley replied that under section 14(b) of the Federal Reserve Act the Reserve Banks could operate only in direct or fully guaranteed obligations of the U.S. Since there was a specific statutory provision that Federal Home Loan Bank obligations were not obligations of, and were not guaranteed by, the U.S. they were not eligible. Mr. Maisel remarked that if the Board was to comment favorably on any legislation in the area he would hope that it including a broader list of agency issues than simply would urge FHLB obligations. said he thought everyone would agree on Chairman Martin that his initial reaction and Mr. Treiber indicated that point, approach to the question. also was against a piece-meal in testimony before the House Mr. Cardon noted that Treasury Barr had submitted Secretary of the Committee today Under not eligible for purchase obligations that were a list of agency had expressed the view Banks. Mr. Barr by the Federal Reserve eligible and to make FHLB obligations it would be consistent that no objection to would have that the Administration had indicated such legislation. Martin, Mr. Hackley a question by Chairman In reply to
categorically how many agency issues were now eligible. Mr. Forrestal of the Board's Legal Division had prepared a memorandum for the Board on April 13, 1966, listing a number of obligations believed to be eligible either because of specific statutory provisions for full guarantee by the U.S. or because they fell within a 1961 opinion by the Attorney General concerning obligations guaranteed by Government agencies. (Note: Subsequent to the meeting copies of Mr. Forrestal's memorandum were distributed to the Committee and a copy was placed in the Committee's files.) that while the list of eligible issues Mr. Maisel commented was long, it consisted mainly of obligations of minor agencies small percentage of all agency issues. accounting for a relatively question should be approached in Mr. Swan agreed that the terms of all agency issues rather than FHLB obligations alone. of the subject and the likeHowever, in view of the importance issues in lieu of direct that heavy reliance on agency lihood prove to be a temporary procedure, obligations would not Treasury should give very careful consideration he thought the Committee eligible, and of making all agency issues to the desirability of in them along with operations conducting open market operations of the Treasury. in direct obligations the Federal Home Loan Banks had Mr. Treiber remarked that from the Treasury, and presumably authority to borrow directly
would do so if they were unable to raise needed funds in the market. The System probably would be less subject to pressures if it confined its operations to Treasury securities. Of course, if purchases of FHLB obligations were begun the Committee could still maintain its desired credit policy by not acquiring an equivalent amount of Treasury securities. Mr. Swan noted that there was a statutory limit of $1 billion on Home Loan Bank borrowing from the Treasury. Mr. Robertson said that it was difficult to oppose making all agency issues eligible for System purchase on grounds of principle. He agreed, however, that if they were made eligible was likely to be subject to a good deal of continuing the System pressure to buy them. Mr. Mitchell referred to Mr. Holmes' earlier comment problems in operating in small issues, and asked whether regarding it would not be desirable to have some lower limit on the size of issues that would be made eligible. indicated, there would be Holmes said that, as he had Mr. issues, including that which problems in operating in agency many of "even keel." He questioned referred to as the problem he had agencies to avoid should be used to enable whether the System issues in the market. to float their paying the rates necessary
Mr. Maisel noted that even if the law was changed the Committee would still have to revise its Regulation and its continuing authority directive before the Account Management would be authorized to operate in agency issues. In the process of formulating those revisions the Committee would have an opportunity to carefully consider the various kinds of operating problems. Mr. Brimmer commented that the matter of agency issues had been under discussion for some time and he asked if Mr. Holmes had given thought to possible procedures. Mr. Holmes replied that it probably would be desirable for the System to have standing authority to buy agency issues, and that it was hard to justify having some issues eligible and some not. If the agency market continued to develop it was quite possible that transactions in agency issues would prove workable as long as it was understood that they would be kept moderate in size and that they would be supplemental to operations in Treasury securities. A study might show that it would be easier to arrange repurchase agreements against such securities than to deal in them on an outright basis. The use of RP's would give some support to underwriters carrying enlarged positions, and from a technical it would be much easier to relate RP's to reserve standpoint objectives than would be the case with outright transactions.
Mr. Wayne said he understood that the System could not engage in repurchase agreements involving particular types of securities unless it had the authority to buy such securities outright. The alternatives would appear to be engaging in RP's against agency issues or operating through the discount window, and of the two he would prefer the former. Accordingly, he did not think the System should oppose the legislation in question. Chairman Martin remarked that he had considerable trepidation about the proposal because the System dealt in high-powered money. He would expect pressures for the System to operate in a wide range of agency issues regardless of possible consequences for the money markets. He doubted that that would be a wise course to follow if it could be avoided. In any case, the question had to be thought through carefully. Swan commented that the suggestion that the legislative Mr. issues rather than the specific should cover all agency authority open the major question of Federal Home Loan Banks left issues of done if those Banks exhausted their the moment, as to what might be to borrow directly from the Treasury. $1 billion authority another alternative was noted in response that Mr. Maisel to deposit funds in had legal authority available; the Treasury the Home Loan Banks.
Mr. Brimmer suggested that it would be helpful if the Manager prepared a memorandum on the general subject of operations for the Committee's use. It was agreed that such in agency issues a memorandum would be desirable. the next meeting of the Committee would be It was agreed June 28, 1966, at 9:30 a.m. held on Tuesday, Thereupon the meeting adjourned. Secretary
ATTACHMENT A CONFIDENTIAL (FR) June 6, 1966 Drafts of Current Economic Policy Directive for Consideration by the Federal Open Market Committee at its Meeting on June 7, 1966. First paragraph The economic and financial developments reviewed at this meeting indicate that the domestic economy is continuing to expand, with industrial prices rising further and credit demands remaining strong. Our foreign trade surplus has declined and the deficit in our international payments has increased. In this situation, it is the Federal Open Market Committee's policy to resist inflationary pressures and to strengthen efforts to restore reasonable equilibrium in the country's balance of payments, by restricting the growth in the reserve base, bank credit, and the money supply. Second paragraph Alternative A (preserving current firmness, with possible qualification To implement this policy, System open market operations until the next meeting of the Committee shall be conducted with a view to maintaining net reserve availability and related money market conditions in about their recent ranges (; provided, however, that if required reserves expand sharply more than seasonally expected, operations shall be conducted with a view to attaining some further gradual reduction in net reserve availability and firming of money market conditions). Alternative B (continued firming, with degree conditioned by movement in required reserves) policy, System open market operations To implement this meeting of the Committee shall be conducted with a until the next view to attaining some further gradual reduction in net reserve of money market conditions, and availability and attendant firming restraint if required reserves expand to attaining somewhat greater sharply more than seasonally expected.
Also: Record of Policy Actions