Speech

The Problem of Credit Regulation and Control Address by • P- G. Harding, Governor, Federal Reserve Board Delivered at Washington, D. C. Tuesday, May 18,1920 before the Federal Advisory Council, the Class A" Directors of the Federal Reserve Banks and the Orderly Deflation Committee of the American Bankers' Association ^he Problem of Credit Regulation and Control Jv Div^Ures comP^ocl by the Board's Statistical ta hl0n indicatG that sinee June 30> 1914> tliere s tlii'f an exPansi°n °f banking credit in the 1 ec* States, properly attributable to the war, has h 1 ^000,000,000. Since that date there tion Gen an ^ncreaso money in actual circula- ted °t> ab°Ut 000,000. When it is consid- er. our Government has during the past ee years floated $20,000,000,000 of securities to t ^s war requirements and its advances 0 associated with it in the war, H ^jCI>edit expansion which has taken place is e « ler excessive nor alarming when viewed ern tv> ijii tn° standpoint of war necessity. °c e c°ntinued expansion, however, which has W \recl Since tlle flotatiorl of tlie Victory Loan " ^ay i of n the face of a decreased production of ®Sentials is one of the disquieting features tj ® Present situation. The expansion of na- 0 10\/o, ank credits was 16%, or at the rate of the a yoar> during the nineteen months of the From APril 1919> t0 APril 1» 1920' 25%lQCreaso m bank loans was approximately during the same period the rise in i j m°dity prices was about 26 %> Assuming an n( ex number of 100 for the year 1918 for each of t } Petrol following—-livestock, grain, lumber, coal, cott ° GUm' iron> steel in&ots> copper, and 0 n and wool actually consumed—the aver- 1*95 age index number for the same articles m I9 is 89.07. While neither of these indices can ^ accepted as definitive evidence of the trend ^ production in this country, they do indicate falling off of at least 10% in the actual outpu or marketing of goods in ten important no• ' While production figures for the first Quar c}l of the present year in some leading lines, su as soft coal, steel, cotton and wool, are indicatt of greater industrial effort, the difficulties the transportation field which became acute a ing April are bound to affect both the Prodl w0 tion and shipment figures for the last months. It is this tendency of production to decli^ particularly in some essential lines, which co stitutes a very unsatisfactory element in present outlook. It is evident that the counW cannot continue to advance prices and to curtail production, to expand credits and attempt to enrich itself by non-productive ope1 tions and transactions without fostering disco^ tent and radicalism, and that such a course, ^ persisted in, will eventually bring on a re< crisis. There is a world-wide lack of capital, aa with calls upon the investment market whic cannot be met, there is an unprecedented t ma rid for bank credits. The fact must be recog- nized that however desirable on general priocl pies continued expansion of trade and industry may be, such developments must accommoda the actual supply of capital and ^t available. ^cial bank rates now in force in the leading e the riGS are higher than at any time during .Present century, except during the war Onl Wee.k at the beginning of August, 1914. in the last few weeks the official rate ^aly has been raised from 5 to 5y , the Bank o 2 ^np-ilance rate from to 6 and the Bank ot> gland rate from 6 to 7 per cent. nee VGry effort should be made to stimulate UctsSSary Prodnction, especially of food prod- in ni avoid waste. Planting operations adv sec^ons have been delayed because of -erse leather conditions, and should there be an si^n?^0clllate yield of crops this year the neces- 0r conservation and conservatism will be ac . uated. War waste and war financing re- Sult and !nev^ably in diminished supplies of goods ^ncreased volume of credits. The normal t}j lonship between the volume of goods and e 0'ume of money and credits thus unsettled ean dra r restored in either of two ways: one, the oth tlC method contraction of credit, and the e K Pro • more desirable way, increased the 10n- In the same way progress towards h ^estoration of the normal relationship may e Prod • ^ reducing credit more rapidly than ^nef'110^1011 diminished, or by increasing pro- pa^01) at a greater rate than credit is ex- existi ^ ^ prove impracticable in the d circumstances to increase essential pro- u °n, then we must through economy in con- e sumption and through moderation in the use o credit check the tendency towards a furtne^ widening of the margin between goods an credit. Our problem, therefore, is to check furthe expansion and to bring about a normal an^ healthy liquidation without curtailing essentia production and without shock to industry, an > as far as possible, without disturbance of leg11 mate commerce and business. As a rule there is a substantial reduction & the volume of commercial loans during the his quarter of the year. This liquidation is entu^ J natural and healthy and is necessary in orctf that the banks may be prepared to meet the ^ mands made upon them during the crop makme and harvesting seasons. There has been no sue ^ liquidation during the present year; on the con trary, commercial loans have steadily increase • Thus the public has anticipated demands banking credit which are usually made later o in the year. The average reserves of the Fe ^ eral Reserve Banks are now about 42% against 45% at the beginning of the year an about 51% twelve months ago. The solution of the problems confronting will require the co-operation of all banks an the public. Whatever personal sacrifices ma) be necessary for the general economic g°° should be made. The war-time spirit to d things that are worth while must be revived, an there should be the fullest co-operation in a effort to produce more, save more, and consuin |ess. The banks should lean less heavily upon the Federal Reserve Banks, and rely more upon their own resources. Unnecessary and habitual borrowings should be discouraged, and the ll(luidation of long-standing non-essential loans should proceed. Drastic steps, however, should avoided and the methods adopted should be orderly. Gradual liquidation will result in per- c e nt improvement, while too rapid deflation Would be injurious and must be avoided. Tllere should be a clear understanding of the ^arts to be played by the Board, the Federal Reserve Banks, and by the member and non- member banks and trust companies. With re- ject to credits, the problems of the Federal Re- ®erve Board, the Federal Reserve Banks, and jae member banks, while inter-related, are dis- tinctive. The Federal Reserve Board has but attic direct contact with the member banks; it aeals with general conditions and principles father than with individual cases and details, ae Federal Reserve Banks, on the other hand, in daily contact with their member banks and !*ave constant dealings with them. Between the * ederal Reserve Banks and the Federal Re- ?erve Board, as the supervisory and co-ordinat- body, there is necessarily a close and inti- mate relationship. The member banks transact the greater part of the primary banking busi- es of the country. They receive the deposits the public and are the media through which °rdinary commercial credits are extended. The primary duty of the Federal Reserve Board is to see that the Federal Reserve Banks function normally in the manner prescribed by the Federal Reserve Act. The character of business which may be engaged in by the Fed- eral Reserve Banks is described in detail in Sec- tions 13 and 14 of the Federal Reserve Act, and all regulations of the Board bearing upon the loans and investments of the Federal Reserve Banks must be in conformity with the provisions of the law. Regardless of the extent of its leg*1* powers, it would be a most difficult task for the Federal Reserve Board sitting in Washington) to attempt by general rule of country-wide ap- plication to distinguish between ''essential" "non-essential" loans. During the war there was a broad underlying principle that essentials must be " necessary or contributory to the con- duct of the war," but notwithstanding the sharp outline of this principle, much difficulty experienced by the various war boards in de- fining essentials and non-essentials. All tlic more difficult would it be for the Federal Re' serve Board to make such a general definition now when there is no longer that purpose as a guide. The Federal Reserve Board is not a temp0' rary organization. It is a permanent board, and it must be guided by the terms of the Fed- eral Reserve Act. Section 13 in defining the eligibility of paper for discount by Federal serve Banks lays down the general rule that any paper maturing within the time prescribed, and issued or drawn for commercial, agricultural of ha USv»rial PurP°ses» or Procoeds of which Ve "pen used or are to be used for such pur- SGS> eligible. No express condition is made ter f osson^a' or non-essential charac- the transaction giving rise to a note which 1)6 offered for discount, and the Federal Serve Board is not required and properly 1 d not be expected generally to adopt such ^criterion of eligibil ity. It is too much a mat- . pf local conditions and local knowledge to tity at this time any general country-wide ,UUng by the Board even if such a ruling were *ee*ed helpful. p^11 the other hand, there is nothing in the fleral Reserve Act which requires a Federal reserve Bank to make any investment or to re- scoimt any particular paper or class of paper. . Janguage of both Sections 13 and 14 is per- «lssiv only. Section 4 of the Federal Reserve e Gt> however, requires the directors of a Fed- fra\ Reserve Bank to administer its affairs c airly and impartially and without discrimi- ahon in favor of or against any member bank," ail(l subject to the provisions of law and the ers of the Federal Reserve Board to extend 0 each member bank such discounts, advance- rs and accommodations as may be safely reasonably made with due regard for the aims and demands of other member banks." i Us the directors of a Federal Reserve Bank av® the power to limit the volume and charac- r °f loans which in their judgment may be safely and reasonably made to any member bank. The recent amendment to paragraph (d) 0 Section 14 distinctly authorizes each Federal Reserve Bank on its own account, without ref- erence to action taken by any other Federa Reserve Bank, to establish a normal discount or credit line for each member bank, and pe1' mits the imposition of graduated rates on dis- count lines in excess of the normal lines. r-TJllS amendment, however, does not repeal or modify Sections 4 and 13, and a Federal Reserve Bank is still free to decline to discount any pape1 which in its judgment does not constitute a de- sirable investment for it or which in its opinion would not constitute a safe and reasonable investment within the meaning of Section 4. It is the view of the Board, however, that while Federal Reserve Banks may properly undertake in their transactions with member banks to discriminate between essential and non-essential loans, nevertheless that discrimi- nation might much better be made at the source by the member banks themselves. The indi* vidual banker comes in direct contact with his customers; he is better qualified than anyone else to advise the customer because of his fa' miliarity, not only with the customer's business, but with the general business conditions and needs in his immediate locality. In making loans he is bound by no general rule of law as to the character of the purpose for which a loan is being asked. He is entirely free to exercise anTl n can make one loan and decline est° lGr aS 'iud^ment may dictate. He can WV a degree of accuracy the to h demands for credit which are liable in th made Upori llim' as wel1 as the fluctuations ind Volume of llis deposits. He knows what pSir^es sus^ain his community, and is thus ess • pass uPon ^he essential or non- ku entlal character of loans offered him. He o he WS' °r know, what rediscount line may reasonably expect of his Federal Re- Ser H V° Bank, and he ought not to regard this n as a permanent addition to his capital, put knowledge of the limitations or penalties ser ^is borrowings from the Federal Ee- to V° banker may be depended upon Use a niore discriminating judgment in grant- eredit accommodations to his customers, a ent «judSment he must exercise if the pres- situation is to be remedied fundamentally. Vol 18 ^rue UQder existing conditions the lme of credit required in any transaction is tirn greater than was the case in pre-war a, es> but it is also true that the resources of ue yv arn f embor and non-member banks would be ^ P'e to take care of the essential business of tial COUn^ry and to a large extent of non-essen- an iS US ^ there were a freer flow of goods am If "frozen loans" were liquefied, j> ^ commodities which are held back either ^ speculative purposes or because of lack of /^asportation facilities should go to the mar- s> and if large stocks of merchandise should be reduced, the resultant release of credit wou have a most beneficial effect upon the gene situation. In the meantime everything must done to expedite the release of these credits a to restrict non-essential credits in future. While the problem of credit regulation a^ control is national and even international m ^ scope, yet in the last analysis it is merely^ aggregation of individual problems, and ^ proper working out of the situation must dope upon the public and upon the banks which ( ^ with the public. The public must be mjVr rcS realize the necessity of economy in expenditu^ and in consequent demands for banking cre cSg The banks themselves are best able to imp blic> the importance of this policy upon the pu ' The Federal Reserve Banks may be depena^ upon to do their duty to the member banks a the public, but to accomplish results the ba and the public must do their part in accelerat.^ the processes of production and distribu and in restricting waste and extravagance.

W. P. G. Harding (1920, May 17). Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/speech_19200518_harding_3

@misc{wtfs_speech_19200518_harding_3,
  author = {W. P. G. Harding},
  title = {Speech},
  year = {1920},
  month = {May},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/speech_19200518_harding_3},
  note = {Retrieved via When the Fed Speaks corpus}
}