Regional President Speech

CONFESSIONS OF A NEW CENTRAL _____ BANKER REMARKS BY John J. Balles PRESIDENT FEDERAL RESERVE BANK OF SAN FRANCISCO Dinner Meeting Federal Reserve Bank Directors and Commercial Bankers Los Angeles, California October 5, 1972 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis 53*^ ft \ 5 l'7'L' John J. Balles It is a real pleasure to be here this evening with the Directors of the Federal Reserve Bank of San Francisco and its branches and with a group of leading bankers from the Los Angeles area. It is certainly an honor to serve in my new job as the ninth chief execu­ tive of the Federal Reserve Bank of San Francisco, which I have always regarded as one of the leading Reserve Banks. To be sure, I came here from the East, and most of us recognize that there are some dif­ ferences between eastern and western banks and bankers. Nevertheless, the similarities are also important. Thus, I don’t feel like a total stranger in this environment—especially since I have been closely acquainted with some of you for years. I am looking forward to getting better acquainted with the rest of you. Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis I view my new position as an opportunity to become a part of the dynamic and innova­ tive financial community of the West. Having come from an area of the country character­ ized by limited-area branch banking, one of the major differences I already have noted in this part of the country is that, despite the prevalence of state-wide branching, there is obviously an opportunity for small and medium-size banks to play a role in the regional economy, particularly in quick adap­ tations to local circumstances. The number of such banks represented here tonight testi­ fies to the fact that they can prosper even in the shadow of large branch systems. Commercial to Central Banker It is certainly a challenge to share the plat­ form tonight with the illustrious Chairman of the Board of Governors of the Federal Re­ serve System. This is particularly true in view of the fact that I have not attended a meeting of the Federal Open Market Committee since 1959 and am now about to begin a refresher course in central banking. Perhaps I could rise to the challenge and do something spec­ tacular for the Federal Reserve System if 1 could get the cooperation of an old friend who is here tonight. He is Lee Atwood, a former director of the Los Angeles Branch of our Bank and the retired President of North American Rockwell Corporation, on whose Board of Directors 1 was privileged to serve until I accepted my present position. When Rockwell-Standard was merged with North American Aviation to form North American Rockwell, a technology-transfer committee was established, whose main purpose was to explore ways of applying spage-age technol­ ogy to commercial products. Now that Lee is retired and has a lot of time to think about such matters, I may ask him to consider ways of applying space-age technology to the ad­ ministration of a Federal Reserve Bank and to the formulation of monetary policy! Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Having so recently come from commercial banking, where I was privileged to serve for the last thirteen years with Mellon Bank, I would have to admit that I haven’t yet fully shifted back to the point of view of a central banker. In recent years, I have spent consid­ erable time on the affairs of the American Bankers Association, including service last year as Chairman of the Special ABA Com­ mittee on the Presidential Commission on Financial Structure and Regulation, and also including service until recently as a member of the Administrative Committee of the Gov­ ernment Relations Council and as a member of the Economic Advisory Committee. Just before resigning recently from the Trustees of the Banking Research Fund of the Association of Reserve City Bankers, I was managing trustee for a study, which I had proposed, of loan commitments by banks. This study is still in preparation and is being done by a well-qualified professor at Harvard, who was formerly on my staff at Mellon Bank. It was aimed at answering the general questions of what constitutes a pru­ dent upper limit to loan commitments and how such commitments can be better man­ aged. Among other things, we were attempt­ ing to test the feasibility of a suggestion made by Arthur F. Burns, in an April 1970 address to the Association of Reserve City Bankers, that banks should limit their loan commit­ ments to amounts they reasonably believe can be financed in periods of tight money and that banks should charge at least as much for take-downs under commitments as they are paying for additional funds at that time. Needless to say, I will be very interested in seeing the study when it is finally published. The only purpose in mentioning my back­ ground in such an immodest fashion is to make the point, for those of you who don’t yet know me, that if I don’t understand the problems of commercial banks, it has not been for lack of opportunity. There is the Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis further point that your views and problems will always receive a sympathetic hearing at the Federal Reserve Bank of San Francisco —whether or not we end up agreeing with you about any proposed course of action or remedies. In the same breath, I should also mention—as Chairman Burns reminded me during a visit in Washington before I as­ sumed office—that I am now working for all the people, and should solicit views and opin­ ions not only from the banking and business communities, but from other segments of society as well. I am certain that you will appreciate the desirability of doing this. Role of Federal Reserve Bank of San Francisco In this age of specialization, I certainly don’t pretend to be knowledgeable on all phases of banking—far from it. But I believe that we have in the combined staff of this Bank such knowledge and expertise as is necessary to carry out our functions. I know that if I can’t answer your questions on some bank operating matters, such as check col­ lections or cash operations, we have people who can—a group headed by our very able First Vice President, A. B. Merritt, and in­ cluding Paul W. Cavan, Senior Vice Presi­ dent and Manager of our Los Angeles Branch, who is one of our hosts tonight. With the team we now have and will de­ velop, it is my hope to make the Federal Reserve Bank of San Francisco an active partner with the banking and business com­ munities in improving the financial and eco­ nomic climate of the Twelfth District. I don’t yet have a blueprint on how to do this, and it would be premature to even mention some possibilities I have in mind until they have been studied more thoroughly. Pending com­ pletion of such studies, however, we would welcome now or at any time any suggestions or proposals which you might have along these lines. Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Federal Reserve System— Key Problems Let me now turn to several other matters having to do with the Federal Reserve Sys­ tem. In so doing, I propose to dig back into past history, feeling that this offers valuable perspective on the present. It is especially appropriate to do this in view of the fact that the Chairman of our Board of Directors, Dr. O. Meredith Wilson, was a distinguished historian before he became President of the University of Oregon and later the Univer­ sity of Minnesota. Incidentally, he informs me (presumably with tongue in cheek) that in his current position as President and Di­ rector of the Center for Advanced Studies in the Behavioral Sciences at Stanford, he is running a monastery for scholars—but without celibacy! There are two general points I want to make. First, to the extent that there have been “mistakes” in past monetary policy, as viewed by impartial observers, the most fre­ quent cause has been deficit financing by the U. S. Government. The second point has to do with the vital necessity of main­ taining an independent central bank. First, as to monetary policy, second-guess­ ing the Fed is a popular pastime. Some peo­ ple have even made a career of it. And I would have to admit that I have done my share over the years, starting with a doctoral dissertation in 1950 on the subject of mone­ tary policy during World War II and the im­ mediate postwar years. If there was one lesson that was indelibly impressed upon me in preparing that disser­ tation and in subsequent studies, it was that efforts to maintain a predetermined and rel­ atively low level of interest rates necessarily immobilize monetary policy as an instrument of economic stabilization—and indeed make the central bank an “engine of inflation.” Further, the use of fiscal policy as an instru­ ment of restraint also becomes unworkable Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis under such conditions. It now seems so clear in retrospect. Yet, it was not so clear at the time, as I was reminded recently when rem­ iniscing with Cecil Earhart, my predecessor twice removed, who served as President of the Federal Reserve Bank in those years. We recalled the agonizing debates which took place on the subject in the postwar years— i.e., could the level of interest rates be al­ lowed to rise from the artificially low levels maintained during the war without serious risk of a financial and economic collapse? Along with many others at that time, I urged the necessity of restoring timely and flexible monetary policy, in conjunction with fiscal and debt-management policies, as indispens­ able in a broad program of vigorous eco­ nomic growth without inflation. When the Government securities market was finally un­ pegged in March, 1951, in the now famous Treasury-Federal Reserve Accord, the econ­ omy and the financial markets did not col­ lapse, and monetary policy was restored to a viable role in combatting the inflationary pressures that arose with the Korean War. It was true then, and is true today, that if monetary, credit, and fiscal policies are used in a coordinated manner, they are ca­ pable of exerting a powerful influence on in­ come, production, and prices. Moreover, since these instruments of policy operate to influence the general economic environment in an indirect fashion, they are more com­ patible with a private enterprise economy than the main alternative approach—namely, a system of direct economic controls involv­ ing detailed regulation of markets and prices. It seems that we have to keep re-learning the lesson that the principal obstacle to suc­ cessful use of monetary, credit and fiscal pol­ icies has been the failure to use them in a coordinated fashion. In that case, they are likely to offset and defeat each other. In­ deed, much of our economic history is mark­ ed by inappropriate budget deficits defeating Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis efforts to combat inflation through credit re­ straint. The problem that we are faced with at present—namely, a huge Federal deficit in a period of strong economic expansion, is in fact new wine in an old bottle—and there have been many such “old bottles” over the years. Monetary-Fiscal Mismatch, 1965 By way of illustration, in the latter part of 1965, when the “new economics” was still calling for expansive policies on aggre­ gate demand, with a view to pushing the un­ employment rate below 4%, there were some observers who recognized the emerging in­ flationary threat. One of these was Arthur F. Burns, then President of the National Bu­ reau of Economic Research and John Bates Clark Professor of Economics at Columbia University. In his Benjamin Fairless Memo­ rial Lectures in Pittsburgh at Carnegie In­ stitute of Technology (now Carnegie Mellon University), Dr. Burns recognized the con­ tributions made by the “new economists.” But he observed that their favorite instru­ ments of policy, if pushed beyond a point, may bring on inflation and undermine pros­ perity. Specifically, he observed that such a point was close at hand, if not already reached, and he called for less liberal mone­ tary and fiscal policies, in the interests of both the domestic economy and our inter­ national balance of payments. Following a luncheon that Mellon Bank gave for Dr. Burns, I recall a discussion 1 had with some “new economists” who believed that it was too early to start fighting inflation. That view proved clearly wrong, as illustrated by subse­ quent developments. Meanwhile, the Federal Reserve System had also correctly diagnosed the emerging inflationary pressures stemming from the es­ calation of the Viet Nam War in mid-1965 and from the concurrent expansion in “Great Society” welfare expenditures. By Decem­ Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis ber 1965, the System increased the discount rate as a public signal. Prior to the increase, strong public statements were made by vari­ ous high-ranking members of the Adminis­ tration, including the Secretary of the Treas­ ury, warning against such action. After the increase, there was strong denunciation of the move, including a statement by the Chair­ man of the Council of Economic Advisers to the effect that it represented a serious breach in coordination of monetary and fiscal policy. However, by the spring of 1966, it was clear that the Council of Economic Advisers had seriously underestimated the strength of the inflationary boom that was developing. Not only did the Administration fail to re­ vise its fiscal stance at the time, but it at­ tempted to dissuade the Federal Reserve from meeting the threat through a modest measure of credit restraint. With the benefit of hindsight, it appears that the December 1965 increase in the discount rate and the associated move toward credit restraint was not only appropriate but overdue. Lessons from Abroad. At this point, I would like to digress for a moment. In 1959, I happened to be in London on Mellon Bank business at the time when the Report of the Committee on the Workings of the Monetary System—better known as the Radcliffe Re­ port—was scheduled for debate in the House of Commons. In the course of that debate, I heard the Chancellor of the Exchequer an­ nounce that one of the principal recommen­ dations of the Radcliffe Report had been im­ plemented — namely, that henceforth any proposed change in Bank rate by the Bank of England would have to be submitted in writing by the Governor to the Chancellor and approved by the Chancellor before be­ coming effective. Actually, of course, this new procedure simply formalized a practice which had been followed since 1946 when the Bank of England was nationalized. Can there be any doubt of the outcome Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis had such a system prevailed in the United States in 1965—i.e., any doubt that the Sec­ retary of the Treasury would have refused to ratify the proposed increase in the discount rate by the Federal Reserve? Can there be any doubt that our economic situation would have ended up even more unbalanced than it did, in the “credit crunch” in the summer and fall of 1966? Perhaps this one illustration will serve to buttress the case of those of us who believe that the independence of the central bank within government—but certainly not from the government — is a vital protection to sound economic policy in a free society. The world’s largest debtor—i.e., the U.S. Trea­ sury—at times has not taken an unbiased and objective view on measures affecting the cost and availability of money. Independence of the Federal Reserve Sys­ tem. This point has special relevance in view of repeated efforts in certain quarters in the Congress to undermine the indepen­ dence of the Federal Reserve within govern­ ment. Most recently, this effort has taken the form of an amendment to an omnibus housing bill (H.R. 16704) which calls for an annual audit by the General Accounting Office of the Board of Governors and the Federal Reserve Banks. It would give the G.A.O. access to all books and records of the Federal Reserve System. At first blush, this appears to be something that is hard to argue about—who can be against audits? In point of fact, it happens that the Board of Governors of the Federal Reserve is already audited by a reputable private firm (Ly- brand, Ross Bros. & Montgomery); in turn, the Board’s staff thoroughly audits the Re­ serve Banks. The real point of the amendment in ques­ tion is that it would not be confined to a fi­ nancial audit. Instead, it would include an appraisal of operations, not only in regards to compliance with law, but also in reference to Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis recommendations “for attaining a more eco­ nomical and efficient administration” of the Federal Reserve. The authority is so broad­ ly described that it could include a review of System open-market and foreign operations. In my judgment, this could lead to intimida­ tion of the Federal Reserve and to efforts to influence its policy. Fortunately, it now ap­ pears that the amendment is dead for this session of Congress, mostly because of the clogged legislative calendar, but the pro­ posal is almost certain to be raised again. Eternal vigilance is the price necessary to avoid “political money,” and I urge that you be alert to such proposals in the future. Budget Deficits — the Main Barrier to Monetary Policy. To return to the subject of Federal Reserve policy, I recall my par­ ticipation in President Nixon's pre-inaugural Task Force on Inflation in 1968. On this task force. I associated myself with the crit­ icism of “stop-and-go” monetary policy, as evidenced by the “credit crunch” of 1966 and the unduly rapid monetary expansion in the second half of 1968—which, subse­ quent to our report, led to the “credit squeeze” of 1969. However, 1 managed to see that our report recognized the fact that large budget deficits are the most likely fac­ tor to pull monetary policy off course toward over-expansion, leading later to the necessity of tromping hard on the credit brakes. Politically, while it is not too difficult to use fiscal policy for purposes of economic stimulus, it is very difficult to use it on the side of restraint. Recently, we have again heard words of warning on this subject. In view of the huge deficit in the Federal budget, which threatens to get still larger, Chairman Burns has stated before the Joint Economic Committee his fear that the Federal budget is out of control, and has called for support of current Administration and bi-partisan Congressional efforts to secure passage of a $250 billion ceiling on Federal expendi­ Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis tures in the current fiscal year. I was pleased to note that the American Bankers Associa­ tion also called for such a ceiling in its action of August 22, and proposed other measures to arrest the alarming uptrend in Government expenditures. A vote on the expenditure ceiling is scheduled in the House this week, and a great deal depends on the outcome. The fundamental problem is to re-estab- lish a sense of fiscal discipline in Congress, and especially to regain control over Fed­ eral spending. Otherwise, fiscal policy will not only fail to live up to its potential, but is likely to defeat monetary policy as well. Unfortunately, some of those prominently associated with the “new economics” are calling for a different approach than the one I have outlined. In a recent article in the Wall Street Journal, one such represen­ tative warned against “prematurely” cutting off the monetary and fiscal lifeblood of the current economic expansion, stating that we need not start throttling down until mid- 1973. In my personal judgment, this would be too late to re-establish fiscal discipline for purposes of economic stabilization, given current circumstances. In Conclusion In closing, I would like to indicate the challenge I see in my new job which drew me to it, despite the attractiveness of a ca­ reer in commercial banking. I see an op­ portunity, which I hope I can fulfill, to serve the community as a whole by accepting a po­ sition where I can work closely with bankers and businessmen from a huge and dynamic region—the Twelfth Federal Reserve Dis­ trict—to help solve some of the trying finan­ cial and economic problems now besetting society. The kinds of problems I have in mind in­ clude: (1) the world’s apparent inability to come to grips with inflation; (2) the acceler­ Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis ating need for capital, based on rising ma­ terial expectations, especially from those groups in society which have tended to be by-passed by the promise of technology; (3) the exacerbation of the capital shortage by the need to refurbish existing capital facili­ ties and to improve the quality of the envi­ ronment; and (4) the need to use financial institutions in our society in a way which will benefit all of the people, through in­ creasing opportunities for them to earn their own livelihoods and lead the “good life.” That is a tall order—and is a challenge to all of us. Unless we succeed, the future of private enterprise is in danger. In striving for these goals, let us recall the words of Woodrow Wilson's first inaugural address, which happen to be inscribed on a plaque at the entrance to the Federal Reserve Bank of Cleveland, where I first began my tour of duty in central banking: “We shall deal with our economic system as it is and as it may he modified, not as it might he if we had a clean sheet of paper to write upon, and step by step we shall make it what it should be” Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

John J. Balles (1972, October 4). Regional President Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/regional_speeche_19721005_john_j_balles

@misc{wtfs_regional_speeche_19721005_john_j_balles,
  author = {John J. Balles},
  title = {Regional President Speech},
  year = {1972},
  month = {Oct},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/regional_speeche_19721005_john_j_balles},
  note = {Retrieved via When the Fed Speaks corpus}
}