Speech

X-9057 (REMARKS OF MR. MARRINER S. ECCLES, GOVERNOR OF THE FEDERAL RESERVE BOARD, AT A MEETING OF THE FEDERAL RESERVE BOARD WTIH REPRESENTATIVES OF THE INDUSTRIAL ADVISORY COMMITTEES IN WASHINGTON ON DECEMBER 18, 1934 There are many who feel that the making of direct loans to in­ dustry does not belong in the Federal reserve banks. There are others who feel that the Federal Reserve System can perform a useful func- tion in this undertaking, but whatever the opinions may be with refer- ence to the problem. Congress decided that issue last session and delegated the responsibility to the Federal Reserve System of making such loans. The Industrial Advisory Committees have been chosen to undertake this important responsibility, and are in a position which requires the patriotic giving of their time, effort and thought with­ out compensation in this emergency. Their efforts in this connection are greatly appreciated by the Board. The results up to the present time are indicative of the fine work the committees have done in their respective communities, and while the results are disappointing to some it is not the fault of the Industrial Advisory Committees or of the Federal reserve banks. It is a difficult thing to create credit where there is no basis for credit. It is perfectly natural after four or five years of the most devastating depression this country has ever seen that there would be many businesses in a state of financial collapse, which would immediately grasp at every effort of the Government toward Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis The principal measures contemplated in the proposed legislation, therefore, are designed to remedy deficiencies now inherent in the banking structure itself. In this connection it is proposed to make the Federal Reserve System, which is the cornerstone of the banking structure, more responsive to our national economic needs. It is also proposed to make our commercial banks better adapted to meeting the credit requirements of industry, commerce, and agriculture under the changes that have taken place in our economic system since most of our present banking laws were enacted. Underlying the proposed changes in the banking laws are fundamental economic and monetary considerations, the widespread influence of which has not been ade­ quately understood. In fact, the lack of an adequate understanding of these fundamental considerations was an important factor in bringing about the disastrous collapse of our economy which culminated in the closing of all ths banks in the spring of 1933. Fluctuations in production and employment, and in the national income, are conditioned upon changes in the available supply of cash and deposit currency, and upon the rate and character of monetary expenditures. The effect of an in­ creased rate of spending may be modified by decreasing the supply of money, and Intensified by increasing the supply of money. Experience shows that, without conscious control, the supply of money tends to expand when the rate of spending Increases and to contract when the rate of spending diminishes.' During the depression the supply of money did not expand and thus moderate effect of decreased rates of spending, but contracted rapidly and so intensified the depression. This is one part of the economy in which automatic adjustments tend to have an intensifying rather than a moderating effect. If the monetary mechanism is to be used as an instrument for the promotion of business stability, conscious control and management are essential. At the present stage of economic developments, main reliance for bringing about a rise in the national income must be placed upon increased governmental and private expenditures. The most important role of monetary control at the moment, therefore, is assuring that adequate support is available whenever needed for promoting and accelerating recovery. Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis Two supremely important duties are likely to devolve upon the reserve ad­ ministration in the future. The first is assuring that a recovery does not re- sult in an undesirable inflation, The second is assuring that a recovery is not followed by a depression. If recovery is allowed to develop into inflation, it is certain ultimately to lead to another depression. To regain prosperity without excesses and thereafter to maintain business stability, are the two immediate objectives of monetary policy. In order that the reserve administration may endeavor, with some prospect success, to render prompt support for emergency financing in case of need, to Prevent the recovery from getting out of hand, and to prevent the recurrence of dsaistrous depressions in the future, it is essential that the authority of the Federal Reserve Board be strengthened.' As matters now stand, the Board is charged with responsibility for monetary developments in this country, but lacks the clear and explicit authority for determining the country’s monetary policies, An essential step in giving the Board this authority is to give it a control- ling influence over the System’s open-market operations, for these are by far the most important instrument of Reserve policy. By these operations reserves may be given to or taken away from member banks; and it is on these reserves that deposits based. It is not too much to say that the power to control open-market opera- tions is the power to control the expansion and contraction of bank credit, and thus in large measure to control the country’s supply of money.' In the present administrative organization, the power to initiate open- market policy rests with the twelve Federal Reserve banks, which act jointly through the Federal Open Market Committee established by the Banking Act of 1933. The Federal Reserve Board has no representation on this Committee. It is given only the power to approve or disapprove open-market policies recommended by the Committee, and to prescribe the regulations under which the open-market operations are to be carried out. However much the Board may desire an energetic buying and selling policy it has no authority under the law to initiate such a policy. On the other hand, the ability of the Open Market Committee to give effect to policies that it recommends is dependent both on the approval of the Board and on the willingness of the Reserve banks individually to participate in the Digitized for FRASER htotppse://rfraasteir.ostnlosui.sfed.org Federal Reserve Bank of St. Louis u. The existing arrangement is cumbersome and. wieldly. To what extent it has prevented, the proper functioning of the Federal Reserve System, it is im­ possible to tell. But it is clear that, if it is retained, there is no reason to suppose that the System will in the future be more effective in bringing about business stability than it has been in the past. It is, therefore, obviously necessary to concentrate the authority and re- sponsibility for open-market operations in a body representing a national point of view. This is provided for in the proposed legislation without in any way impairing the autonomy of the Federal Reserve banks in matters of local or regional concern. Another anomaly in the present administrative organization of the Federal Reserve System is the arrangement in respect of the Reserve bank Governors. The Governors are the principal executive officers of the Reserve banks, and their Positions are of major importance in the System; yet they are not even mentioned in the Federal Reserve Act, nor is their appointment subject to the approval of the Federal Reserve Board. It is, therefore, proposed to recognize the office of Governor in the law, to combine this office with that of Chairman of the Board of Directors, and to make the appointment subject to the approval of the Federal Reserve Board.* To facilitate the carrying out of national policies, it is proposed to remove Certain of the restrictions that are now imposed on the Federal Reserve System by the Federal Reserve Act, but that experience has shown to be detrimental and impracticable. These restrictions are largely predicated on conditions that Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 5. prevailed when the Federal Reserve Act was adopted in 1913, and were wisely imposed on a system that was new and untried; but in the course of time the circumstances that gave rise to them have diminished in importance or greatly altered. A conspicuous example in this respect is the rigid definition of the kinds of paper that the Federal Reserve banks are permitted to discount. Changes in the country’s economic life, notably in the methods of financing business enter- prise, have materially reduced the volume of short-term, self-liquidating paper of the classes to which the discount privileges of the Reserve banks are largely Restricted by law. In times of stress, therefore, when the help of the Federal Re serve System has been most urgently needed, many banks, though holding sound assets in their portfolios, have been devoid of the particular kinds available under the law for borrowing at the Reserve banks.' The undue severity of the limitations on eligible paper was finally recog- nized, and they were removed temporarily by emergency legislation; but this action was not taken until much harm had been done to the business of the country and un— warranted hardship and loss suffered by bank depositors. Furthermore, there is at Present considerable evidence that these limitations are proving an impediment recovery. New loans of a type that commercial banks have customarily made in the past are now refused, not because the applicants do not possess sound assets, but because the sound assets that they do possess are technically ineligible for Rediscount. There is also still a tendency among many banks to remove from their Portfolios paper that cannot be immediately liquefied by recourse to the Federal Reserve banks. For these reasons it is proposed that the legal limitations on eligibility removed and authority be given to the Federal Reserve Board to determine by regulation the character of paper that shall be eligible for discount at the Reserve banks. Another of the proposed changes in the Federal Reserve Act would dispense the requirement for segregation of collateral behind Federal Reserve notes, without in any way altering the present requirement of 40 per cent reserve of Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 6. gold certificates. When there was a foreign drain on the country’s gold in 1931-. 1932, the requirement for segregation of collateral caused serious difficulty by tying up gold over and above the 40 per cent required reserve. The situation was met for the emergency by permitting the pledge of United States Government obliga- tions as collateral against Federal Reserve notes; but the authority of the Reserve banks in this matter is only temporary. Since Federal Reserve notes are prior liens on all the assets of the issuing Reserve bank, and are in addition obligations of the United States Government, the requirement for segregation of collateral serves no useful purpose and adds Nothing to the safety of the notes. It has been erroneously asserted that to dispense with the requirement for segregation would give the Reserve banks power to issue notes without adequate backing. This is not the case. The Reserve banks have two principal classes of liabilities: deposits and notes. Back of these, in addition to gold and lawful money, are the Reserve banks’ bills and securities. Either notes or deposits can be increased through the acquisition by the Reserve banks of an acceptable asset. Their total can be increased in no other way. It is at the time the asset is ac- quired that the determination is made that it is good enough to be held by the Federal Reserve bank; and this determination is made without reference to whether the asset is ultimately to become backing for a deposit liability or for a note liability. The deposits of the Federal Reserve banks are the reserves back of all deposits of member banks. Assets that are good enough to constitute the backing for deposits of the Reserve banks are also good enough to back Federal Reserve notes. Furthermore, a holder of a deposit with a Federal Reserve bank has the right to Withdraw it in notes at any time, and consequently the Federal Reserve bank should be in a position to use the asset acquired at the time the deposit was created as backing for the notes into which this deposit is convertible. Neither the elasticity of our currency supply nor the safety of Federal Reserve currency is in any way affected by the proposed change in the law. Its only prac- tical effect is to eliminate the cumbersome and useless requirement that certain specific collateral be segregated, and held at considerable expense and in a privileged position, as backing exclusively for Federal Reserve notes. Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis 7. The proposals relating directly to member banks of the Federal Reserve System are few in number, but vital to speeding recovery. Their purpose is to make it more feasible for banks to meet the present requirements of mortgage borrowers and to participate more aggressively in a revival of activity and employment in the construction industry, The changes proposed would authorize banks to use a larger Proportion of their assets for mortgage loans than is permitted by existing law, to lend up to 75 Per cent of the property value and for a term up to twenty years on properly amortized first mortgages, and to make such loans without regard to the local geographical limits to which the existing law confines them. Member banks of the Federal Reserve System hold nearly ten billion dollars of time deposits that represent in large part the people’s savings. These are 1ong-time funds. Their use for long-time purposes is proper from every point of view. The release of member bank long-time funds for use in the mortgage market wil1 help the banks to meet the local needs of their communities and will do away with the necessity of having other institutions take over a service that the banks are equipped to render. The problem of finding profitable use for their funds is a vital one with the banks at the present time, and a relaxation of restrictions on real estate loans will provide such a use without impairing the soundness of the banks’ condition. It should be noted that long-time mortgages, with provision for amortization, are sounder than short-time mortgages without amortization, and that the introduction of amortized mortgages into the holdings of member banks contribute to the stability of the mortgage market. These changes would put an end to restrictions in the existing law that prac­ tical experience has plainly shown to be injurious to banks and mortgage borrowers alike. The effect of these proposed changes would enable commercial banks to take an effective part in the reopening of the mortgage market, and to give their unstinted support, in a manner not now possible for them, to that branch of industry in which the opportunity for meeting both a social and an economic need is now greatest. Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis

Marriner S. Eccles (1934, December 17). Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/speech_19341218_eccles

@misc{wtfs_speech_19341218_eccles,
  author = {Marriner S. Eccles},
  title = {Speech},
  year = {1934},
  month = {Dec},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/speech_19341218_eccles},
  note = {Retrieved via When the Fed Speaks corpus}
}