Speech

THE CURRENT INFLATION PROBLEM—CAUSES AND C*ONTROLS by Marriner S. Eccles Mr. Chairman and Members of the Committee: In high level. It is running at a rate of 200 billions appearing before you today I wish to make clear a year, or about two and a half times the total for that I am speaking for the Board of Governors of 1940, the highest year prior to the war. It is due the Federal Reserve System, an agency of Congress, to a record high agricultural income, high wages of and I am not undertaking to speak for the Adminis­ organized labor and other workers, but not all of tration or the Presidents of the 12 Federal Reserve them, and unprecedented business profits. This Banks. is augmented by a readily available supply of ex­ You have requested me to testify, I take it, as to cessively easy credit for consumers’ goods of all what might be done in the monetary and credit kinds, for housing, for short- and long-term busi­ field to deal with inflationary forces, which have ness loans, for State and municipal expenditures, already gone so far as to cause very serious malad­ and for foreign credits and grants. The notable justments within the economy. Correction is over­ exception is loans to buy listed stocks, which are due. The longer it is postponed, the more severe sharply restricted by the Board’s margin require­ will be the inevitable reaction. ments. I am sure this Committee recognizes that a great In the face of these large and expanding demands, many factors and forces contributed to the infla­ production is practically at capacity and further tionary problem and that there is no easy, simple, growth will necessarily be slow. The physical or single remedy. We are already in the advanced volume of output of manufactured goods and min­ stages of this disease. It is no longer a question of erals in 1947 has averaged 186 per cent of the preventing it, but of moderating so far as possible 1935-39 average. Current output is about one-fifth its ultimate ravages. below the wartime level, largely because of the re­ At best, monetary and credit policy can have only duction in weekly working hours. Agricultural a supplemental influence in any effective treatment output in physical terms has continued for the of either inflation or deflation. In considering what past three years at record levels of about a third can be done so far as monetary and credit action is above the maximum of any prewar year. This concerned, it is necessary to make a correct diag­ volume reflects general favorable weather and fur­ nosis of the multiple causes of the situation with ther growth can hardly be expected. Construction which we are now confronted. of all kinds, including residential building, is close What is inflation? It is the condition which ex­ to any previous peacetime peak. Expansion in ists when effective demand exceeds the overall building is now being retarded by shortages of essen­ supply of goods and services. Potential overall de­ tial labor and materials. Railroad transportation mand always exceeds supply. What is lacking in is limited by the shortages of railroad cars and other deflation is effective demand. We are witnessing equipment. Employment is at very high levels with effective demand today when individuals and busi­ acute shortages in many fields and with a minimum nesses, together with State and local governments, of unemployment. as well as the Federal Government, generally have The source of the present inflation is war fi­ money which they are trying to spend, bidding for nancing and the enormous Federal deficits incurred an insufficient supply of goods and services. This in preparation for and prosecution of global war. effective purchasing power is composed of past During the six-year period, June 30, 1940 through savings, current income, or future credit. The sav­ June 30, 1946, the Government raised about 398 ings were largely accumulated during the war billion dollars, but only 176 billion dollars, or 44 years in the form of currency, bank deposits and per cent came from taxes. The remainder of 222 Government securities. billions, or about 56 per cent, was raised by bor­ At the end of 1946, individuals and businesses rowing. And of this total which was borrowed, held about 223 billion dollars of such liquid sav­ approximately 90 billion dollars, or 23 per cent ings, or more than three times the prewar total. of total needs, was raised by selling Government Similarly, current national income is at an all-time securities to the commercial banking system, in­ * Statement by Chairman Eccles before the Joint Committee cluding those purchased by the Federal Reserve on the Economic Report, Special Session of Congress, Nov. 25, Banks. 1947. 1 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS As the Reserve Board stated in its 1945 Annual scarce materials, construction permits, price and Report to Congress, it is important to bear in mind wage ceilings, rationing, and the excess profits that borrowing from the banking system, whether tax. When the harness of controls was prema­ by the Government or by others, creates an equiva­ turely removed and no effective substitute was lent addition to the country’s money supply. To devised to hold back the flood of effective de­ the extent that the Government did not finance its mand, it was apparent, or at least it should have war program by taxation, it was obliged to borrow, been apparent, that a sharp rise in prices was and to the extent that it did not borrow from non­ inevitable. bank investors, it relied upon the banks and thus As a result, the economy was caught in a dan­ created new supplies of money. The Federal Re­ gerous wage-price-profit-credit spiral, acutely in­ serve by purchasing Government securities, supplied tensified by short farm crops abroad, and reduced the commercial banks with reserves needed as a corn and cotton crops at home. Critical conditions basis for the increased money supply. abroad, in part resulting from our rising prices, As a result, the country’s money supply, as meas­ impose upon us obligations which must be met ured by privately held demand deposits and cur­ even though they add to our inflationary difficul­ rency in circulation, increased more than two and ties. one-half times, rising from less than 40 billion dol­ It would be blindly and foolishly optimistic to lars in June of 1940 to 106 billions at the end of believe that the spiral of inflation can continue June 1946. In the same period, time or savings through further general wage, price and profit deposits nearly doubled. In addition, the general increases and further overall expansion of credit public, outside of banks, insurance companies, and without ultimate serious deflation. The longer Government agencies, accumulated or increased the necessary readjustment is delayed, the longer holdings of Government securities to 100 billion it will take to reach a stable condition of employ­ dollars, or nearly seven times as much as in June of ment and production. The most serious malad­ 1940. These Government securities in the hands justments are evidenced by the increasing numbers of the public are the equivalent of money because of our people whose incomes do not keep pace with they are readily convertible into cash. the rising cost of living. They are being priced It should be strongly emphasized that the bank­ out of the market for housing and many other ing system was the instrument, and not the insti­ things, and in countless instances their savings gator, of this swollen money supply. The bankers and credit have already been exhausted. The performed a vital service in the financing of the war higher prices rise and credit expands, the greater and particularly in the sale and distribution of the subsequent liquidation and downward pressure savings bonds and of other Government securities. on prices is bound to be. As the November letter If it were possible to finance a great war entirely of the National City Bank of New York correctly by taxation there would, of course, be no increase in states, “Rapidly accumulating debt is both a cause the public debt. Or if it were possible to do the and a consequence of the inflationary pressures, financing by a combination of taxation and borrow­ for in a wage-price spiral, business constantly ing outside of the banking system, there would be needs more and more money to keep going and no increase in the money supply. In retrospect, this leads to the incurrence of more and more debt we can see that we could have and probably should by business and more and more spending by the have taxed more and borrowed more from non­ individual. To check this kind of spiralling— bank investors and less from the banking system. which is to the ultimate benefit of no one and to We are suffering the consequences today of an ex­ the injury of all—is not simple.” cessively swollen money supply which neither the The problem we all face now is what can bankers individually nor Government authorities be done at this late stage, if necessary, to curb have adequate means at present of controlling. further inflationary developments. As a practical In order to enable the banks to purchase Gov­ matter, we cannot now put back the elaborate ernment securities essential to the financing of the harness of wartime controls, and it seems that war, the Federal Reserve System maintained easy we are left only with the choice of certain curbs money conditions and made Federal Reserve or restraints selectively applied at some of the credit and reserves readily available to the banks. more critical points of danger. The vast money supply thus created was held In the absence of a comprehensive scheme of in check by an elaborate harness of controls con­ controls we must continue to put our main sisting, among other things, of allocations of reliance on fiscal policy, which is by far the 2 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS most effective way to deal with the demand 2. Suspension of future demands for wage side of the equation, while we do everything increases, especially those of organized labor where possible to maintain and increase production. We the increases have been greatest, is necessary if should have the largest possible budgetary surplus the present unbalanced relationship is to be cor­ while the inflation danger exists. And this, means rected without severe deflation. Business profits taking from the public in taxes money that after taxes are more than double what they were otherwise would continue in the spending stream. in any prewar year and almost double the profits in It means rigid Government economy. It means any war year, and therefore business should hold deferment of all expenditures, Federal, State, or prices down or should reduce them, in accordance local, to the greatest extent consistent with public with what would be reasonable earnings. obligations at home and abroad. Using the budg­ 3. A fiscal policy to produce the largest pos­ etary surplus to pay off bank-held public debt as it sible surplus to be used to pay off bank-held becomes due will reduce the money supply by an Government debt and thus reduce the money equivalent amount. This is a reversal of the process supply. This means the greatest possible economy by which the money supply was expanded. In an in all Government expenditures. It means more inflationary boom such as we are experiencing the adequate financial support of the tax collection Government should pay off as much of its debt as machinery of the Government to prevent tax possible. evasion. It means no general decrease in tax Public debt cannot be reduced during deflation. rates at this time. It should also mean the elimina­ Budgetary deficits, not surpluses, are an in­ tion of the agricultural price support program evitable consequence of serious deflation. Tax unless price ceilings are reimposed. reduction would be appropriate after deflation sets 4. Legislation giving the Federal Reserve Sys­ in, not during an inflationary period. If a re­ tem such authority as may be necessary to restrict duction of taxes at this time would, in fact, further overall expansion of bank credit. The need call forth more production, then it would be for this authority would be less if Congress au­ justified. Today we still have acute scarcities of thorized other anti-inflationary measures such as labor and materials. Adding to existing buying restoration of consumer instalment credit restric­ power either by tax reduction or aggregate ex­ tions and if stricter appraisals and less liberal pansidn of credit can only have the effect of credit terms were applied under the Veterans’ bidding up the prices paid for both labor and Administration, the FHA, and the Home Loan materials. If conditions were reversed and we Bank programs of housing finance. had idle labor and a surplus of materials and 5. Continuation and expansion of the Treasury’s productive facilities coupled with a shortage of Savings Bond campaign, with adequate financial capital and insufficient purchasing power, then support by Congress. Funds so raised have a two­ reductions in taxes, particularly those which fold effect. It removes these funds from the would stimulate mass buying power, would be in spending stream and makes them available to pay order. off bank-held debt, thus reducing the money supply. If I were to outline a program to meet the situa­ Other actions have been proposed which, how­ tion with which we are now faced, I would list the ever, deal with the effects rather than the causes. following steps to deal with the causes rather Allocations, construction permits, price and wage than with the effects of inflationary pressures. They ceilings, commodity margin requirements, instal­ are listed in what I consider their order ot im­ ment credit regulation, export and rent controls, portance. and similar devices are all in the category of 1. Increased productivity both at home and curbs rather than cures. Where they can be abroad. Production is the ultimate solution for applied as a practical matter and enforced, they inflation. Nothing could be more effective than can be useful, but they do not go to the sources of increased productivity of labor and longer hours the problem. of work by everyone. In short, if all who are I should like to summarize what the Federal engaged in producing goods and essential services Reserve Board believes might be done in the were to work more, and save more, and spend less, monetary and credit field. In its 1945 and 1946 the unbalanced relationship between demand and Annual Reports to Congress the Federal Reserve supply would most effectively be corrected and Board described the situation in which those with prices would come down. responsibility for monetary policy find themselves 3 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS as a consequence of the war. As the Board stated high to make the borrowing unprofitable. It could in the 1945 report: refuse to buy Government securities and shut off that source of reserves. It has no powers to deal “In common with other nations whose energies with reserves arising from gold acquisitions. were devoted primarily to winning the victory, Why, then, doesn’t the System simply make the the United States had no choice, under the exigen­ discount rate prohibitive and at the same time cies of a global war, except to use monetary powers refuse to buy any more Government securities? in furtherance of essential war financing and not Let me say that if the Congress disagrees with us as an anti-inflationary weapon. There has been and feels, as do some bankers and insurance com­ a widespread assumption that, with the coming of pany executives, that we should more fully use ex­ peace, such statutory [lowers as the Reserve System isting powers, we would welcome such an expres­ possesses should be exerted in the traditional way sion from the Congress. In that case, there would against the heavy inflationary forces at present be no need to consider any alternative powers. On confronting the country. The Board believes the other hand, if Congress agrees that our exist­ that such an assumption does not take sufficiently ing powers are not appropriate under present cir­ into account either the inherent limitations of the cumstances, full consideration should be given to System's existing statutory powers, under present­ any proposal that would help to meet the situation. day conditions, or the inevitable repercussions on First, let us consider what the effect would be of the economy generally and on the Government’s raising the discount rate by itself. Actually, the financing operations in particular of an exercise effect would be negligible, except for possible psy­ of such existing powers to the degree necessary chological reaction, because as long as the System to be an effective anti-inflationary influence.” stands ready to buy Government securities in the Of late the Federal Reserve System has been open market, banks can obtain reserves at will by increasingly criticized for not adequately using selling such securities out of their portfolios. Sup­ its existing statutory powers to restrain bank credit pose, then, that the System refused to buy the securi­ expansion. It is very important, therefore, that ties—and that is the heart of the matter—what the Congress understand what those powers are and would the consequences be? Bear in mind that why the Board does not believe they can be used the total interest-bearing debt of the Government to deal with the credit problem, and why we sug­ is 256 billion dollars, more than five times what gested in the 1945 and 1946 reports, and suggest it was before the war. The public debt at the now, that Congress consider providing other au­ beginning of 1940 was about one-fifth of the total thority that may be necessary to cope with the public and private debt of the country, whereas situation. We did not then and we do not now at the present time it is nearly two-thirds of the seek power, but we feel that we would be remiss, entire indebtedness of the country. About one- as an agency of Congress, if we failed to report third of the total Government debt is short-term the situation as we see it and to propose alterna­ marketable debt and would need to be refunded tive means of dealing with it inasmuch as we into higher-rate securities. This would raise the feel that our existing powers are insufficient. cost to the Government, and therefore to the tax­ The Reserve System has always had broad payers, of carrying the public debt. Already the na­ powers to influence the supply and cost of bank tion’s tax bill for interest cost is approximately 5 credit. Through open market operations, that is, billion dollars or nearly one-seventh of the total buying and selling of Government securities, the Federal budget. System either gives reserves to the banks or Just how high would interest rates have to rise to absorbs reserves. Reserves are the foundation on deter business and individuals from borrowing which bank credit is built. If banks have no re­ from banks? Higher interest rates do not deter serves they cannot lend. But they can obtain the lender. Rising interest rates are like rising reserves when they borrow from the Federal prices. At some point they do deter the borrower Reserve Banks or sell Government securities to the or the buyer. They do not deter the lender or the Reserve Banks. And the banking system auto­ seller. I doubt if anybody knows how high interest matically receives reserves through gold acquisi­ rates, especially short-term rates, would have to rise tions, and also when the Federal Reserve Banks to discourage borrowers. Certainly the rates would buy Government securities from nonbank investors. have to be substantially above the present relatively The Reserve System can restrain banks from bor­ low levels. Bank customers, particularly business, rowing by raising the discount rate sufficiently with seemingly insatiable markets awaiting their 4 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS products, are hardly to be deterred by one or two these securities and the Federal Reserve System, in points of increase in bank interest rates. providing an ultimate market, should buy them, the The additional costs to the Government in carry­ banks would acquire an equivalent volume of new ing the public debt would be difficult to estimate, reserves. On the basis of these reserves, the banks but they would amount to billions a year over a could expand credit by about six times, or by more period of time. If that were the only consequence, than 200 billion dollars. This is nearly double the it might be argued that the extra cost to the Gov­ present amount of demand deposits and currency. ernment would be justified because inflationary bor­ While it is unlikely that the banks would dispose of rowings would cease. so large a proportion of their holdings, it neverthe­ However, this is only one aspect of the matter. less is a measure of the potential bank credit expan­ In the process of leaving Government securities to sion that can occur if the banks are left with com­ the free play of variable forces in the market, the plete freedom to convert their Government secur­ Treasury would be confronted with a continuing ity holdings into reserves at will. puzzle in all of its constantly recurrent refunding This bank credit expansion potential is apart operations. It could not tell from day to day at from other sources of bank reserves. Gold is now what price it could sell its securities. It would be flowing into our banking system in large quanti­ entirely at the mercy of uncontrolled factors in the ties from foreign holdings. As a result, deposits market, if, indeed, conditions did not become so are increased and on the asset side banks gain an confused and chaotic as to demoralize completely equal amount of reserves. Over the next year, the any refunding operations. gold inflow is estimated at from 2 to 3 billion I recently saw a prediction by a very keen bond dollars. Multiplied by six, this would permit an market analyst that failure of the Reserve System expansion of bank credit of from 12 to 18 billions. to support the 2% per cent rate on marketable Gov­ There are two other important potential sources ernment bonds would lead to a wholesale liquida­ of increased bank reserves. Nonbank investors, tion of all Government bonds, including the non- mainly business corporations, hold about 13 billion marketable E, F and G bonds. He declared that it dollars of short-term Government securities. Busi­ would be the most dramatically inflationary move nesses face increasing needs for working capital that could be made at this time, the repercussions under prevailing inflationary conditions. To some of which would be, as he put it, so catastrophic as extent, these needs will be met by sales of short­ to make present fears appear as one raindrop in term Government securities, which the Reserve a storm. That is strong language. Nobody can System may have to buy. say with certainty that it is too exaggerated. The second possible source of bank reserves is In any case, I think it is fairly clear that withdraw­ the 59 billions of marketable, medium- and long­ ing support from the Government securities market term Government securities held by nonbank in­ and letting interest rates rise on Government securi­ vestors. With widening opportunities for the ties would not increase the power of the Federal placement of funds in private investment at in­ Reserve System to offset increases in bank reserves creasingly attractive yields, there is a small amount from gold acquisitions. Sales of System holdings of of' shifting by investors of their holdings of Government securities for this purpose would have marketable long-term Government securities. If to compete with private credit demands. Private inflation continues, this shifting will likely in­ borrowers might outbid us for these reserves. crease. Such sales have to be met by Federal There would be no certain level of security prices Reserve support of the prices of marketable Gov­ or interest rates at which we could dispose of ernment bonds so as to protect the 2 1/2 per cent rate enough Government securities to offset gold im­ on long-term issues. The result of these support ports. operations is to increase bank reserves arid thus On the other hand, we have to recognize what to support further inflation. would happen if we follow the present course of Under present and prospective conditions, it is policy in order to maintain the public’s confidence not only desirable but essential, in the opinion of in Government credit and avoid any unnecessary the Treasury and of the Reserve System, that the increase in the interest cost to the Government established 2 1/2 per cent rate on long-term market­ for carrying the public debt. Commercial banks able Government securities be maintained. currently hold about 70 billion dollars of Govern­ The Federal Reserve Board has one other ment securities. This sum is about 50 per cent power that it has been criticized by some for of their total deposits. If they should sell half of not using. That is the power to raise the reserve 5 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS requirements of the banks in New York and bonds to other securities. The undesirable aspect of Chicago from 20 to 26 per cent of their net de­ the situation, from the standpoint of inflationary mand deposits. This is a relatively minor matter credit conditions, is that support of Government and does not in any way go to the heart of the bonds adds to bank reserves. These developments problem. Any action taken would have an indicate that a policy of permitting interest rates on effect on banking conditions only in two cities in short-term Government securities to rise has gone which the credit expansion, as well as deposit about as far as can be justified under present cir­ growth, has been relatively less than for the rest cumstances. of the country. We have, therefore, been compelled to seek some We have given a great deal of study to this better alternative than higher interest rates to re­ admittedly difficult and complex problem. We are strain further bank credit expansion. We believe convinced that the remedy of letting interest rates that one is available which will not make the Gov­ on Government debt go up on the theory that ernment and the taxpayer bear the added cost of the this would bring an end to inflationary borrowing restraint, that will impose very little, if any, hard­ is dubious at best, as has been demonstrated in ship on the banks, that will, in fact, have a compen­ past monetary history, notably in the 20’s when high sating aspect in that the restraint imposed would rates were unsuccessful in restraining speculation in increase interest rates on private borrowings with­ the stock markets, real estate, or otherwise. out additional cost to the Government. As was made clear in the Annual Report for I refer to the second alternative proposed in the 1946, we are not opposed in principle to higher 1945 Annual Report. We recommend for consid­ interest rates if some desirable ends and the public eration, as the best alternative we have been able to interest can be served by such a policy. In fact, in devise, that all commercial banks be required as a recent months we have cooperated with the Treas­ temporary measure to hold some percentage of ury in permitting some moderate, corrective rise their demand and time deposits, in addition to from wartime levels of interest rates on short-term present reserves, in a special reserve in the form of Government securities. This adjustment was made Treasury bills, certificates and notes or cash, cash to reduce the wide differential prevailing between items, interbank balances, or balances with Federal short-term and long-term interest rates. Such Reserve Banks. a large differential was having the effect of en­ Such a requirement would be far less onerous couraging banks to sell short-term securities, which for the banking system than any other effective the Federal Reserve bought, and to buy long-term method that has been suggested in the long period securities in the process, thereby encouraging in which this problem has been discussed by bank­ multiple credit expansion. The differential in ers, by economists, and public officials. Manifestly, rates was also exerting a strong downward pres­ such a requirement would have to be imposed sure on yields of long-term securities. We were gradually, if at all, as an offset, for example, to bank aware that this decline was artificially induced by reserves created by gold acquisitions and by the investment policies of the banking system known purchase of Government securities from nonbank as monetization of the public debt, and resulted in investors, and also to limit the too ready availability bank credit expansion. We also recognized the im­ of reserves, now enabling banks to obtain them at portance of checking the decline in long-term in­ will. A multiple expansion of credit can be built terest rates to protect educational, charitable, and on these reserves at a ratio of fully six dollars pension funds, as well as insurance institutions, of lending for every dollar of reserves. We would savings banks, and individuals depending upon in­ propose that the special reserve requirement be terest for income. limited by law to a maximum of 25 per cent on de­ The action permitting a moderate rise in short­ mand and 10 per cent on time deposits. It should term interest rates coincided, however, with strong be made applicable to all commercial banks. It demands for long-term funds, which put consider­ would not be effective if applied only to member able strain on the market for corporate and munici­ banks of the Federal Reserve System, and would be pal securities. As a consequence, these issues have an unjustifiable discrimination. been made more attractive as investments. They We recognize that this proposal is no panacea, are thus somewhat more competitive with long­ but it would be an important, available restraint, term Governments than before. We have to face now lacking, to be applied equally to all commer­ this fact of the market place and be prepared to off­ cial banks so that the individual banker would be set any shifts in investor holdings from Government in the same competitive situation he is in today. 6 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM---CAUSES AND CONTROLS Over the next four months there is likely to be even without action being taken by the Reserve little need for the suggested special reserve be­ authorities, would have a very restraining influence. cause of the large amount of Treasury surplus 6. The plan would restore use of the customary funds, taken from the market through taxes, which instruments of Reserve influence on bank credit will be available to retire bank-held public debt. expansion, namely, discount rates and open mar­ This would temporarily exert pressure against bank ket operations. Support of these instruments by credit expansion. the special reserve requirement would enable the The proposed special reserve requirement has Federal Reserve to make it more difficult and a number of important advantages over other costly for banks to borrow Federal Reserve funds. methods of dealing with the problem of restricting 7. No alterations in the banking structure, in the the banks’ expansion of credit: authority of the supervisors, in customary methods of bank operations, or in established interbank re­ 1. The plan would have about the same effect lationships would be introduced as a result of in limiting credit expansion as an increase in imposing the requirement. primary reserve requirements, which was pro­ 8. The banks would be left by the plan with posed as the third alternative in the 1945 Annual sufficient latitude to meet essential needs of the Report. It would enable the banks to retain the economy for credit, and the public would be as­ same volume of earning assets that they now hold, sured of a high degree of liquidity and safety for whereas an increase in basic reserve requirements the banking system. would make it necessary tor them to reduce earn­ Many bankers argue that this proposed require­ ing assets, with adverse effects upon the earnings ment is unnecessary because the banks themselves position of banks. have a vital interest in the conservative extension of 2. The ratio of potential credit expansion on a credit, and will prevent excessive credit expansion as given increase in reserves would be narrowed to the a matter of ordinary banking prudence. The banks, extent that the special reserve was required. At however, are confronted by a situation in which the maximum requirement proposed, it would be they can readily meet unlimited private credit de­ lowered from six to one to nearly two and one- mands and in which such demands are vigorously half to one. sustained by inflation while, at the same time, these 3. It would bring about an increase in interest demands are contributing to inflation. They are rates on private debt and would increase earnings both a cause and effect. The banks are not in a of the banks from this source where rates on loans position to refuse legitimate, sound credit demands are comparatively low. It would accomplish this of individual customers, and current loans, taken purpose, moreover, without increasing the in­ separately, which in the light of the customer's terest cost on the public debt or permitting un­ satisfactory credit risk, do appear to represent legiti­ stable prices in the Government securities market. mate credit needs. But in accommodating these The plan, in effect, would divorce the market for credit demands freely, the banks as a system are private debt from the market for Government expanding bank deposits and adding to the money securities. supply. 4. The plan would not rely on higher interest From the beginning of 1946 through October of rates to restrain private borrowing, but to the this year, the banking system as a whole has in­ extent higher interest rates restrain such borrow­ creased its loans and investments—other than Treas­ ing, the proposal would make use of the interest ury obligations—by an estimated 12 billion dollars. rate mechanism. Hence, the cost of restraining This has added a like amount to the money supply, credit would be borne by private borrowers who which, together with gold acquisitions, is largely are incurring additional debt, anil not by the responsible tor an increase in privately held deposits Government which is reducing its debt. of 14 billion dollars. 5. The main effect of the plan would be to reduce Reconversion of the economy from war to peace the availability of hank credit. This would be required aggressive bank financing of agriculture, accomplished by putting the restraint on the lend­ commerce, and industry in order to facilitate the ers, that is, the banks. They would be less willing earliest possible attainment of peacetime activity to sell Government securities in order to expand on a much higher level than prevailed before the credit because the amount of such liquid assets war. Some of this bank credit expansion lor private as they held as secondary reserves could be greatly purposes, therefore, was justified. High levels of reduced by the requirement. Such an authority, peacetime activity have long since been attained, 7 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis THE CURRENT INFLATION PROBLEM----CAUSES AND CONTROLS however; yet, hank credit expansion is continuing they were making should not be made. A short and in recent months has gained rapid momentum. time later they were trying desperately to liquidate None of us likes restraints. I am sympathetic some of these loans. The individual banker is with the bankers who resent seeming to be singled judging by standards applying to the individual out for a special restraint on their wares, which borrower and risk. are loans and investments. To the uninformed, it The Reserve Board, the Congress, and all re­ might appear that the banking system has been or sponsible for public policy must necessarily ap­ is now to blame for the oversupply of money. This proach the whole problem from a different stand­ is not the case. point. The question we must ask is whether any Instinctively and naturally, bankers do not relish further expansion in the aggregate amount of restrictions on their activities any more than labor credit is desirable or dangerous. If it, in fact, likes wage controls, or agriculture likes price ceil­ calls forth more production it will be desirable. ings. We realize that the special reserve proposal If it only permits one borrower to bid against an­ which we consider the best alternative, after con­ other would-be buyer for scarce goods and thus sidering all of the circumstances, will be very adds to upward pressures on prices, it is dangerous. strongly resisted by those bankers who fear that It is our best judgment that overall expansion of the it points accusingly at them, or that it is more regi­ money supply at this time is inflationary and dan­ mentation, more bureaucratic reaching for power, gerous. or an encroachment on State rights, or an opening It is unfortunate, I think, that banking leaders wedge to force nonmember banks into the Reserve oppose protective measures against inflationary System. All these things have been said to us pri­ forces arising in the credit field. They seem to vately or publicly—and we can only say that if a forget that in order to assist in war financing, the better alternative can be devised, we would wel­ Government provided the banking system with come it. additional reserves which enabled the banks to buy The Board recommends that the administration Government securities; that this created new of the special reserve plan be placed in the Federal deposits in the banks; and that banks have also had Open Market Committee, whose members, in ad­ the benefit of interest received on the Government dition to the Reserve Board, are five presidents of securities they have held and will continue to hold the Federal Reserve Blinks. This should help to for an indefinite period. They object even to a remove some of the misgivings of bankers. temporary limitation on the further use of these The opposition of some very prominent bankers funds as a basis for loans to private borrowers, to any new power for the Federal Reserve is ex­ which would in turn create more and more deposits. pressed in a statement which they have asked me The Government has an obligation and a duty to to submit for the record. It is a statement of the step in at this time of national danger to say to Federal Advisory Council, composed of twelve the banks, “We are not proposing to deprive you bankers, one from each Federal Reserve district. of benefits you have already derived and will con­ Often we agree. In this case they unitedly oppose tinue to derive from the vast increase in bank the remedy we advocate. They contend that banks deposits resulting from your purchases of Govern­ are not indulging in inflationary expansion of ment securities, but we do say that you should credit; that, therefore, the problem should be at­ be willing to accept a reasonable limitation on tacked on other fronts, and that no legislation is using a war-created situation to multiply private required on the banking front. They differ with us loans in peacetime when they serve to intensify also in unanimously opposing reinstatement of in­ inflationary pressures.” stalment credit regulation. I am sure the Council’s views reflect the opinion To sum up, the proposed special reserve require­ of a great many bankers, who are entirely sin­ ment is only a part, though a necessary part, of any cere in the belief that the loans they are extending effective anti-inflationary program. As I have are safe, deserving risks necessary to sustain full indicated, action on other fronts, by far the most production. That conviction, honestly held, is important of which is fiscal policy, is necessary to unhappily characteristic of boom psychology. In the success of that program. And the need for 1920, or in the latter part of that decade, bankers action on the monetary and credit front would be would have made the same replies that they give reduced to the extent that needed action is taken today if asked whether they thought the loans on other fronts. 8 Digitized for FRASER https://fraser.stlouisfed.org Federal Reserve Bank of St. Louis

Marriner S. Eccles (1947, November 24). Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/speech_19471125_eccles

@misc{wtfs_speech_19471125_eccles,
  author = {Marriner S. Eccles},
  title = {Speech},
  year = {1947},
  month = {Nov},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/speech_19471125_eccles},
  note = {Retrieved via When the Fed Speaks corpus}
}