Regional President Speech

• Statement submitte~ by Allan Sproul, President of the Federal Reserve Bank of New York, to the Banking and Currency Conunittee of the United States Senate, May 11, 19490 You have asked me to testify on Joint Resolution 87 to extend the author- , U, 3r. i.ty of the Board of Governors of the Federal Reserve System to exercise consumer credit controls until June 30, 1951, and on So 1775 to provide supplemental reserve requirements for all insured commercial bankso I am in favor of the first of these proposals and, with qualifications, in favor of the secondo The question of whether control of consumer installment credit should be extended is part of a much broader question, namely, what you expect of credit control, as a whole, in terms of its contribution to economic stability at high . levels of production and employmento I take it as established American policy that a principal means of Government intervention in the economic processes of the country is the administration of broad credit powers by the Federal Reserve Systemo By this means a pervasive influence may be brought to bear on our economy, without intrusion upon specific transactions between individua.ls,which is likely to be the consequence of more 'detailed physical controls, anct which could spell the end of democratic capitalism as we have known ito w'hen the Federal Reserve System was established thirty five years ago, it .was generally believed that this influence could best -be brought to bear through overall quantitative credit controlso Such controls exercised by reason of our powers to lend or withhold reserve funds, to or from the banks of the country, and to raise or lower the price of our accommodation were the principal instruments of credit administrationo They still are, although we now use open market operations in Government securities and, at times, changes in reserve requirements, more largely than discounts and rediscounts, to make our policies effectiveo ~"1- u Experience has taught us, however, that such quantitative credit controls -~~d o be supplemented by qualitative credit controls in certain areaso A specific i le is the experience of the decade of the twentiese We then found that even a •-l........,,eu ;rrous use of general instruments of credit control might not prevent excessive nsi.on of credit in particular areas, and that this expansion might be dangerous whole economyo That experience led to those provisions of the Securities ~ r~~+-~e Act which gave the Board of Governors of the Federal Reserve System ~-~to regulate margin requirements on security loans I do not think you would o .. ~.-.-t revoke that powero At the present moment,~ believe we can al1 be thankful W e t t > 0 i rs .., FQrll!l~rne!'t"e has not been unrestrained speculation in securities during the post war xJ c· tm r and that we do not face the possibility of the liquidation of several billion 'K G les . rs of credit in that area, at a time when deflationary tendencies are already 9 ~ l n ~ . ~ Doi .c~ specific example is in the field of consumer installment credit, ~ 8~~ 'wit · ich you are now concernedo Here I must draw more on theory than on practice, ~ Chr 11 t ecause I do not think the war years were a fair test, and because the experience ~Wot. ~~1 L••---past year, since the power of the Federal Reserve System to control consumer ~ Young~~"-•~ht:nt credit was revived, is too brief to be entirely convincingo ~- £!'1 ~ I think it is generally admitted, however, that instability in our national or ATl, ~~omy may well be increased by our ability and propensity to purchase consumer ,t'Jl ' 3 fvr I ('("1, •l /. , -~ Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis • • 2 durable goods on credito In times of maximum production and high employment, such as 1948, an unrestrained expansion of consumer· installment credit can and will accentuate inflationary tendencieso It cannot increase production, but it can contribute to a spiral of price and wage increaseso And in a period such as we are now going through, a swollen volume of consumer installment credit, which has to be liquidated, might well accentuate deflationary tendencieso With some slackening of business and some reduction of employment, the diversion of a large volume of current income to the repayment of old debts, could dangerously reduce currently available consumer purchas ing power. I do not wish to be understood as conderrning consumer installment credit; it is a necessary part of our financial machineryo But it operates in an area where special restraint may be necessaryo In a sense, it is marginal credit in a partic ularly volatile part of our economy, and some measure of control over it is desirable. Fortunately, it seems to me, that control can be exercised. in a way which is consistent vdth our economic and governmental system, and which is administratively practicalo The terms of the control can be made clear enough and precise enough to do the job, without interfering too much as between buyer and seller, and without trespassing upon individual determinations as to who is to get credit and who isn't. The concern of such regulation is the aggregate volume of credit in use in this field, as related to the general state of our economy, not the credit worthiness of the individual buyer or borrower nor the trade practices of the individual seller or creditor. I have cited two specific examples of the need for qualitative credit con trols to supplement our quantitative control powerso There is a further general argument for these powers, which may be more persuasive than either of the other two, at least to those who rebel against all special controls. Our general control powers have been greatly weakened in recent years, by the emergence of a tremendous public debt, and the obstacle which that has placed in the way of a vigorous us~ of our general control powerso I am not going to argue here the case for our support of the Government security market. I think that support has had the approval of the Congress and the country. Otherwise you would have done something about it. But it has interfered seriously, during the recent past, with the use of the disconnt rate, open market operations, and even changes in reserve requirements - which are the ordinary means of quantitative credit control - and it may do so againo If the scope of action open to the Federal Reserve System is to oe narrowed by public debt considerations, and if effective credit policy is to be possiblej we shall· need to have the help of those supplemental instruments of control which are administratively feasible, and not repugnant to our econo~ic oystemo I believe the control of consumer iI1s tallment ere dit , in the terms of this legislation, is such an instru:ment. I would prefer, in principlej that the authority granted to the Federal Reserve System to control such credit be made permanent. I recognize, however, that mine may not be the generally accepted view, ar·d I can see advantages in a Congressional review of such a new administrative power, at a pre scribed time. The l~t of two years which you have fixed is, I should say, the minimum to permit administrative development, without the handicap of undesirable reaction, by those controlled, to the possibility of early expiration of the author ity. When I come to s. 1775, relating to reserve requirements, I must repeat 'What I said about this legislation when it was being considered last yearo I am not so clear about it as I am about extension of our powers to control consumer install ment credi.t., Personally, I believe that as a means of cor.1batting short run or Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis • · .. .,. 3 cyclical inflationary or deflati~nary pressures, increases or decreases in reserve requirements are, at best, pretty clumsy for effective and equitable useo At worst, or so long as the Federal Reserve System continues to bear responsibility for support of the Government security market at something like fixed prices, changes in reserve requirements are pretty futile as an anti-inflationary weapon, and not much better ·as an anti-deflationary weapono On balance, I come out in favor of the continuance of the present authority with respect to supplementing reserve requirements for three reasonso First, I believe that if the power is a clumsy one for the Federal Reserve System to use, it is an even clumsier power for the Con~ess to useo In other words, I do not think a reduction in present reserve requirements should be brought about by Congressional refusal to extend this authority. It should be brought about, when appropriate, by administrative actiono If such action should be taken before June Joth, of course, this argument would fallo My second reason is that there are occasions when an increase in reserve requirements may be an appropriate method of combatting-a long term trend as distin= guished from short term or cyclical fluctuationso Such a long term trend might be a renewed large inflow of gold to this country, such as occurred during the thirtie9 when excess reserves of the banks were driven up to several billion dollars. You may remember that, in January 1941, in order to try to meet this situation, ·the Board of Governors of the Federal Reserve System, the Federal Advisory Council, and the Presidents of the Federal Reserve Banks, jointly urged that statutory reserve require ments for demand deposits be increased to 26 per cent (central reserve cities), 20 per cent (reserve cities) and 14 per cent (country banks) and 6 per cent for time deposits; and that they further urged that the Federal Open Market Committee be empowered to increase reserve requirements to not more than double these percentages. Admittedly the situation which existed then does not exist now~-the member banks do not have several billion dollars of excess reserves, and we do have large holdings of Government securities in the System portfolio which could be sold to offset a gold inflow. But _it is not inconceivable that, at some future time, some similar · need might arise. Finally, I have a more fundamental bias toward the ·continuance of this authority. I again repeat something I said at your hearings last Augusto "There may well be reasonsj taking the long view$ for an increase in the reserve requirements of the commercial banks of the country, and of the limits within which those ~equirements can be varied by the Federal Reserve Systemo I am inclined to believe that this could be a progressive step in our monetary=banking org~nization, especially if there should continue tb be a persistent and substantial . inflow of gold. With a modern central banking system operating in a highly developed deposit banking system~ and with a decreasing reliance upon gold, much of the·need for low reserve requirements and consequent economizing in the provision of money by commercial. banks has dis appearedo .In these c'ircumstances there may weli' be a· balance of : adyantage in higher reserve requirements, as a means of reducing the dangerous· expansibility and, at times, destructive ·contractability of a money supply based on low reserve ratios of commercial banks There 0 may be too great an element of leverage in our present system to be left at the disposal of 14.9000 bankso" Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis • • .,. 4 This is a long term improvementj not a short term device~ howevero It suggests a general overhauling of the present antiquated system of assessing reservesj not an immediate credit control programo My suggestion, therefore, would be that you continue the present powers of the Federal Reserve System, as contemplated in So 1775, leaving it to administrative action to bring about whatever reductions in reserve requirements the present business and credit situation seems to requireo Such a course can do no present harm, as I see it, may have some future usefulness, and should fit into the longer range con sideration of the problem of reserve requirements, which I have advocatedo ~he latter, I urge most stronglyo I think it is high time that we shifted the tasis of reserve classification from type of city to type of deposito This is particularly so, if we are now going to bring within the apparatus of nationally fixed reserve requirements, thousands of insured nonmember bankso It would be too bad to perpetuate for long, with them, a reserve classification which was outdated at-least as soon as the Federal Reserve System was established thirty five years agoo When I make this statement~ I assume that you are going to include non= member insured banks in this legislation if you adopt ito It should be made applicable to such banksj not merely to members of the Federal Reserve System, if it is to be capable of having its maximum effectj if it is to be fair to the banks which are members of the System, and if it is to protect the System against unwarranted withdrawals from its voluntary membershipo Whenever action is taken under this author ity, you may be sure that it is in terms of the national situation and national needso That means that. all insured banks should feel its restraints~ when restraint is necessary, and should have the encouragement of its relaxationj when relaxation is in ordero That means that whatever temporary sacrifices of earnings and profits its use may entail, should be borne by all of the banksj and by the whole national community, which are the beneficiaries of the action takeno If the insured non= member banks are now to be permitted t·o continue to avoid this small share in national credit policyj I would let the legislation lapsej and await the outcome of the more fundamental study of reserve requireme~ts which I have suggestedQ Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis

Allan Sproul (1949, May 10). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_19490511_allan_sproul

@misc{wtfs_regional_speeche_19490511_allan_sproul,
  author = {Allan Sproul},
  title = {Regional President Speech},
  year = {1949},
  month = {May},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_19490511_allan_sproul},
  note = {Retrieved via When the Fed Speaks corpus}
}