Speech

STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE AUGUST 2, 1948 * Chairman Wolcott and Members of the Committee: serves that may be necessary to combat this inflationary situation. As an Emergency measure, I deeply appreciate the consideration your Chair- however, the bill would be adequate to meet the man has extended to me in making the time of my immediate need for additional authority to deal appearance here as convenient as possible. Although with reserves. Congressman Wolcott had asked me to come be- In thus stating the views of the Board on these fore you earlier, he kindly consented in deference to two titles of direct concern to the System, I do my request to wait until this morning. I therefore not want to create the impression that action acceded to the urgent request of Senator Tobey to in the credit field alone will solve our inflationary appear before the Senate Banking and Currency problems. Other areas, particularly a budgetary surplus, are more important. Committee last Thursday morning. Since your Committee has been fully occupied with the testi- Since I presented that statement to the Senate mony of Mr. Porter, I trust that the postponement Committee, {he Board has this morning had an until this morning has not caused you incon- opportunity to meet and to discuss the proposed venience. legislation at fength. The Board is agreed that On the evening before going to the Senate Com- the inclusion of the nonmember banks is essential mittee, I canvassed the members of the Board by to make the proposed legislation fully effective. I telephone to ascertain their views on the two titles have also been in touch with several of the Presi- of the proposed anti-inflation bill which relate to dents of the Federal Reserve Banks, and others. consumer credit and bank reserves. The members There is strong concurrence with the statement that of the Board agreed unanimously to the following it would be very unfair to single out member banks statement: to carry the additional reserves to combat this ANTI-INFLATION ACT OF 1948 inflationary situation. This is particularly true of the Presidents from those districts where there are The proposed "Anti-Inflation Act of 1948" in- large numbers of nonmember banks, which would cludes two titles relating to credit controls. Both be given a competitive advantage as against mem- are, in substance, part of the comprehensive anti- inflationary program which the Board of Gov- ber banks. It might result in a serious loss of ernors has previously recommended to Congress. membership in the System and weaken the effective- Title One relates to regulation of consumer credit ness of its policies. As you know, the effective and Title Two relates to bank reserves. As you reserve requirements in most states are substan- gentlemen know, the proposed regulation of con- tially below those carried by member banks, and sumer credit is identical, except for the date, with thus nonmember banks have greater latitude and the bill passed by the Senate, and acceptable to earning power. the Board of Governors as one part of an overall program. The question of the inclusion of nonmember . The proposal with respect to bank reserves is banks is very important and we would appreciate similar to that advanced by the Board in April, it greatly if the Committee would give this prob- except that the increased requirements would be lem serious consideration. Unquestionably from applicable only to member banks, whereas the the point of view of effectiveness as well as equity Board had recommended that they be made the proposed legislation should apply to all com- applicable to all commercial banks. This is a mercial banks. significant difference. We feel deeply that it Now, I would like to give you some of my per- is not fair to member banks in their competitive sonal observations concerning the impact of the relations to nonmember banks to require that they be singled out to carry the additional re* inflationary forces oh our credit control mechanism. These remarks are substantially the same as those * Presented by Thomas 1?. McGabe, Chairman, Board of I made last week before the Senate Banking and Governors of the Federal Reserve System. 904 FEDERAL RESERVE BULLETIN Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE Currency Committee, except for elaborations on a these forms of money and potential money is now few points on which questions were asked by the more than three times the prewar total. Senators. •The productive capacity of the nation was largely Consideration of the pressures now at work in devoted to war purposes for almost five years. At our cconomy must be based on an understanding of the peak more than 50 per cent of our record pro- the fact that the financial forces generated in a duction was for war use. While millions of people great war are among the most disrupting factors were coming into possession of more money than that can afTect the economic system. We are now any people had ever had to spend and save, there dealing, and for years shall be forced to deal, with was a scarcity of things to spend it for. Conse- the monetary backwash of the greatest and most quently two great backlogs rapidly accumulated—a costly war of all time. We are faced with the backlog of unfilled wants and a backlog of money problems of liquidating the effects of that war upon savings. With removal of controls this pent-up our own economy, and indeed upon the economy spending power, plus an unprecedented volume of of the world. If history is a guide, we must realize current income were turned loose in a market that these problems will not be solved in a day. characterized by scarcities and shortages. Prices, They will extend over a number of years—how wages, and profits rose rapidly, and the spiral of many depends upon how wisely and how coura- inflation was on its way. geously we devote ourselves to the task. At present, with a supply of money or potential The financial cost of the last war, if all con- money readily available to buy the current output ceivable items of cost were included,* perhaps of goods and services about three times the prewar could never be accurately summed up. Suffice it to level, the overall physical volume of production say that our national debt rose to approximately of goods and services, so far as it can be measured, 280 billion dollars and is still above 250 billion. is probably little over a half larger than the prewar The solution of our present problems does not maximum. Production, it is important to empha- require us to determine whether the debt should size, is practically at capacity; there has been little have risen so high, whether we should have spent increase in its physical volume during the past so much, whether we should have taxed ourselves year and a half, notwithstanding the great pressure more and borrowed less, or whether the pattern of of unsatisfied demands, expanding credit, and our borrowing was well conceived. What has been rising prices. done is in the realm of fact and the consequences Prices on the average have risen by nearly three- must be dealt with accordingly. One of the im- fourths since before the war and two-thirds of this portant facts is that the creation of our national increase has occurred in the past two years. The debt resulted in a tremendous expansion of the dollar value of the total national product, at nearly money supply. While the Government borrowed 250 billion dollars a year, is over two and half vast sums from nonbank lenders, other vast sums times the prewar maximum. On the basis of the were supplied by the commercial banking system. present volume of money, the turnover of which is And let me say right here that this nation owes low relative to past periods of high activity and a debt of gratitude to commercial bankers generally could be greatly increased, prices could rise even for their service in the task of financing the war. further. Further expansion of bank credit, the The rapid expansion of the money supply which capacity for which is tremendous, would add to the resulted from their contributions must not be per- already excessive money supply and could do little mitted to rise and plague them as if they had to increase output. cunningly contrived it for their own selfish ends. PUBLIC DEBT HOLDINGS PROVIDE BASIS FOR Nevertheless, as a net result of war financing, POSTWAR CREDIT EXPANSION there were increases in the public's holdings of demand deposits and currency from less than 40 Capacity for still further credit expansion also billion in 1940 to 110 billion at present; of time grew out of war finance. In helping to finance the deposits from less than 30 billion to nearly 60 Government's large war expenditures and to pro- billion; of United States Government securities, vide the money supply demanded by the expanding which are readily convertible into money, from a and abnormal war economy, the commercial banks few billion to over 90 billion. The total supply of of the country and also the Federal Reserve Banks AUGUST 1948 905 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE greatly expanded their holdings of Government regulate the supply of money and credit to the securities. Commercial bank holdings of Govern- justifiable needs of a stable, full-employment ment securities of all types increased from about 16 economy. As long as various holders of Govern- billion in 1940 to a peak of 90 billion at the end of ment securities endeavor to sell more of their hold- 1945 and then were reduced during 1946 to 70 ings than other investors are willing to buy, the billion, largely by Treasury use of its excess bank Federal Reserve Banks must purchase the balance deposits to retire debt. Subsequently, to meet the and these purchases create bank reserves. demands of rapidly expanding private economy in It is my view that the System is obligated to the postwar period, banks have further reduced maintain a market for Government securities and their^holdings of Government securities, but they to assure orderly conditions in that market, not still hold 65 billion dollars of them. Other in- primarily because of an implied commitment to vestors have also sold or redeemed some of the wartime investors that their savings would be holdings of Government securities in order to obtain protected, nor to aid the Treasury in refunding funds for other uses. maturing debt, but because of the widespread Sales of U. S. Government securities in the mar- repercussions^that would ensue throughout the ket by banks and others have not been absorbed by economy if the vast holdings of the public debt purchases on the part of other investors. In order were felt to be of unstable value. to keep the prices of Government securities from declining, the Federal Reserve System has con- POLICIES ADOPTED TO RESTRAIN INFLATIONARY tinued to carry out its wartime responsibility of sup- CREDIT EXPANSION porting the market by buying at relatively stable The Federal Reserve System and the Treasury prices securities offered for sale and not purchased have, nevertheless, been able to adopt some policies by others. The result of these purchases by the designed to offset the expansive effect on bank Federal Reserve Banks is to supply additional re- reserves of market purchases of Government se- serve funds to banks. Because of the fractional curities by the Federal Reserve System. The first system of reserve requirements, these new reserves and quantitatively more effective of these measures in turn provide the basis for an increase in bank has been the use of the Treasury surplus to retire credit that may be many times the amount of new maturing securities, particularly those held by the reserves obtained. Federal Reserve Banks. The debt retirement pro- In the postwar period these reserves supplied the gram was made possible first by a large cash bal- basis for an increase in bank credit in response to ance built up by the Treasury in the Victory Loan an active demand for loans to finance the operations drive in 1945 and later by a substantial surplus of and expansion of the business system in an era of cash receipts over expenditures. In paying out a high demand, accelerated activity, rising costs, and large part of the excess cash collected from the pub- rising prices. There is ample evidence that bank lic to the Federal Reserve for retirement of debt, credit is also being used for purposes ordinarily that amount of money was eliminated from the served by the capital market. As a result, despite a money supply and also from bank reserves. reduction of 25 billion dollars in the volume of Gov- As a second measure of restraint, about a year ernment securities held by commercial banks, de- ago the Federal Reserve and the Treasury em- posits and currency held by the public have in- barked upon a program of permitting yield rates creased by an additional 15 billion since the end of on short-term Government securities to rise from 1945. This has been largely the result of an in- the very low levels at which they had been pegged crease of 15 billion in bank loans. during the war.. The purpose of this action was to The Board of Governors has kept the Congress encourage banks and others to invest available funds and the public informed concerning these results in short-term securities. This enabled the Federal of supporting the market for Government securities. Reserve to reduce its holdings of short-term secu- It has repeatedly pointed out that the effect has been rities and thus offset the effect on reserves of its to increase significantly, and it may be dangerously, purchases of longer term bonds. The rate on 90- the money supply. The need for market support day Treasury bills rose from % of one per cent to of Government securities has greatly increased the about 1 per cent, and that on one-year Treasury problem faced by the System in adopting policies to certificates from % to \% per cent. The Federal 906 FEDERAL RESERVE BULLETIN Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE Reserve Banks early in 1948 raised their discount mortgages and investments other than U. S. Gov- rates from 1 per cent to 114 per cent. ernment securities during the past year. In the Late in 1947, market yields on Government bonds aggregate, these assets of selected groups of financial also rose, that is, prices of bonds, which had been institutions increased by 8.6 billion dollars in the selling at large premiums, declined in the market. period, of which 6.4 billion was met by receipts of This adjustment was in large part inaugurated by new savings from the public and 2.2 billion by a sales by financial institutions to obtain funds to reduction in their holdings of Government secu- invest in corporate securities and mortgages, but it rities. Nonbank investors, as a group, sold and re- was accelerated by sales made in fear of further de- deemed bonds, but purchased certificates and bills, clines in prices of bonds from their high levels. In reflecting increased popularity of these issues with order to check this decline, the Federal Reserve the rise in rates. Life insurance companies sub- System adopted a policy of freely purchasing bonds stantially increased their holding of Government at an established series of prices, which maintained securities during the war and then in the postwar yields in accordance with a pattern ranging from period reduced these holdings while increasing 1 % per cent for one-year issues to 2 l/i per cent for their mortgages and other investments. the longest-term bonds. This pattern kept the Sales of Treasury bonds by nonbank investors prices of all except a few very short issues of secu- and by banks in the past year have been largely rities at par or higher. purchased by the Federal Reserve System. The It may be of interest to review credit develop- System purchased 5.7 billion dollars of Treasury ments and the effects of these policies during the bonds in the market and also purchased in the mar- past twelve months. In the year ending June 30, ket a net amount of about 2.6 billion dollars of notes 1948, commercial banks showed a small increase and certificates, but sold on balance nearly 4 billion in their deposits and their total loans and invest- dollars of bills to banks and other investors. In the ments, although there were some wide fluctuations same period the Treasury redeemed for cash about during the period. In the twelve months, com- 5 billion dollars of maturing issues of various kinds mercial banks increased their total loans and their held by the Federal Reserve Banks. With all of holdings of corporate and State and local Govern- these wide shifts in holdings of different types of ment securities by a total of 7 billion dollars. Most securities, there was only a small net decline in the of this growth occurred in the latter half of 1947 System's aggregate holdings of Government secu- and was accompanied by an expansion in bank de- rities, although the total fluctuated considerably posits and reserves. In the early months of 1948, from time to time. however, deposits were withdrawn to make seasonal The purpose of this detailed survey of figures is heavy tax payments, which were not offset by Treas- to illustrate how shifts in holdings of the public ury expenditures. Banks met these needs largely by debt are being used to finance inflationary spend- reducing their holdings of Treasury bonds. Some ing, and how Federal Reserve and Treasury policies maturing bonds were exchanged for certificates and endeavor to offset these tendencies. Treasury use of a part of these issues were sold. At the same time surplus funds to retire securities held by the Fed- banks in general purchased added amounts of eral Reserve drains reserves from banks and makes Treasury bills, an indication of the effect of the it necessary for them to sell securities if they wish higher short-term rates in attracting available funds. to maintain their loans, and even more so if they Banks also continued to increase their loans in the want to expand credit. The higher rate on Treas- first half of 1948 by about 1.7 billion dollars—a ury bills encourages banks and other holders of somewhat slower rate of growth than in 1947. liquid funds to buy bills rather than invest in other Most of the dollar increase in bank loans during assets. Since most of the bills have been held by 1947, particularly in the last half, was in commercial the Federal Reserve, a reduction in System holdings and industrial loans, but the increases in consumer is made possible and bank reserves are thereby loans and real estate loans showed larger percentage absorbed. Nevertheless, sales of bonds to the Fed- increases in 1947 and have continued to expand in eral Reserve, primarily by nonbank investors, have 1948. been so large that* the restrictive effect of the other Savings institutions, particularly insurance com- policies has been fully offset. panies, also considerably expanded their holdings of A third method of restraint used by the Federal AUGUST 1948 907 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE Reserve authorities during the past year was to in- by flotation of new securities. Overall demands crease reserve requirements at central reserve city for funds may continue in excess of the current banks in New York and Chicago by 2 per cent of volume of savings readily available for lending for demand deposits in February and again in June. such purposes. To help meet the demands for This added about a billion dollars to member bank credit and capital, corporations, individuals, and required reserves and immobilized that amount of financial institutions will sell some of their holdings bank assets. The effects of these changes, however, of Government securities and also increase their were concentrated on New York City and Chicago borrowings from banks. banks, where loan expansion has been less than If these tendencies continue, sales of Government at other banks. Under existing law there is no securities by nonbank investors may exceed 1.5 bil- further power to increase requirements except in lion in the last half of 1948 and perhaps be much central reserve cities. greater early in 1949. These sales will keep the It should be mentioned that bank reserves have Government bond market under pressure and re- been supplied in the past year by an inflow of gold quire support purchases by the Federal Reserve, if amounting to 2.2 billion dollars and also by a de- the policy of maintaining the 2l/ z per cent yield cline of about half a billion in currency in circu- level on long-jprm Treasury bonds is continued. lation. A temporary increase of 1.3 billion in Treas- Thus additional reserve funds would be made avail- ury deposits at the Federal Reserve offset in part able to banks which, unless otherwise offset, could these factors. The total growth in reserves was 1.4 sustain a further very large inflationary expansion billion, sufficient to cover the increases in reserve of bank credit. Additional reserves supplied requirements at central reserve city banks and through the gold inflow may be approximately off- also increased requirements resulting from deposit set by the drain resulting from seasonal currency growth. The Federal Reserve System was not able demands. through its policies to prevent some continued ex- To avoid an abundance of reserves, an easy short- pansion of bank credit. term money market, and continued inflationary credit expansion, positive measures to absorb re- PROSPECTIVE DEMANDS FOR CREDIT serves will be needed. In view of the pressure of Economic prospects indicate a continuation of current demands, the continued shortages of many strong inflationary pressures during the next sev- goods, the limited capacity for increased output, and eral months and perhaps for a much longer period. the available accumulations of liquid assets, further Individual incomes have continued at a high level, credit expansion will add to the pressure for rising with a tendency to increase as prices and wages prices. Continued credit expansion will store up have risen and employment has grown with the trouble for the future and make the inevitable ad- labor force. Consumer spending, based on current justment more dangerous for the stability of the incomes, the use of past savings, and borrowing, economy. also has continued to expand. Construction vol- This course of economic and monetary develop- umes seem likely to remain for a while at capacity ments has been the source of increasing concern to levels, with possible further rises in prices. Business th Federal Reserve authorities. We are convinced expenditures are also expected to continue in large that, so long as the present situation lasts, it is im- volume. Government expenditures are increasing, portant to restrict further credit expansion and to while the recent income tax reduction will lower promote a psychology of restraint on the part of receipts, thereby sharply reducing the Treasury both borrowers and lenders. To keep the reserve surplus. position of banks under pressure and discourage Continuation of these tendencies will call forth further inflationary credit expansion will require further credit expansion. Borrowing by consumers carefully coordinated operating measures on the and home-owners will no doubt continue to expand part of both the Treasury and the Federal Reserve and thereby add to consumer spending and to de- System. mands for housing, which are already excessive. Of the three sets of measures used to restrain the Prospective large outlays by business for expansion growth of bank reserves during the past year— of inventories and plants will probably exceed in- namely (1) use of the Treasury cash surplus to re- ternal funds available and also amounts obtained tire Federal Reserve-held securities, (2) reduction 908 FEDERAL RESERVE BULLETIN Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE in Federal Reserve holdings of Treasury bills may merely enable the borrower to secure parts that through a rise in short-term rates, and (3) increases otherwise would have been bought by another firm. in reserve requirements at central reserve city banks From the point of view of the economy as a whole, —the first and most important has been greatly the loan has increased the demand for goods but it reduced in its potency and the third has been almost may not have increased total supply at all, with a wholly exhausted. bidding up of prices as the only result. Basically, Whereas the Treasury showed an excess of cash that is why I believe that self restraint, though im- income over cash outgo of 9 billion dollars in the portant, is inadequate to check a strong inflationary fiscal year 1947-48, the prospects for the current development. year, on the basis of very tentative and unofficial Another reason is the force of competition not estimates, are for a cash surplus of only about 3 only among banks but among all lenders. We have billion; most of which will be concentrated in the in the United States 14,000 commercial banks and first quarter of 1949. This difference in the sur- many thousands of other letting agencies. If, be- plus reduces considerably the most important anti- cause of concern for the general interest, a bank inflationary influence in the situation during the should refuse to lend even to c^good customer, this past year. The Treasury cash surplus was a par- does not mean that the customer will not secure the ticularly effective device because it exercised a drain funds. It may merely result in a permanent loss of on bank reserves. As a result the banks losing the customer to some other lender. And unfortu- reserves had to sell securities in order to maintain nately the new lender may secure the funds from their reserve positions. While under these pres- sale of Government securities, with the result that sures they are less likely to be seeking new loans the loan may be just as inflationary as if the bank and in some cases less willing to meet loan appli- had made it in the first instance. cations. I want to emphasize that I support strongly the POSSIBLE MEASURES OF RESTRAINT self-restraint program developed by the American This brings us to the various ways in which re- Bankers Association and would like to see it straint may be exercised over credit expansion. pursued aggressively, not only by banks but by all The first means is voluntary self restraint on the lenders. It is an important step in the right direc- part of borrowers and lenders. I am convinced that tion. Primarily for the reasons I have mentioned, th.e voluntary program originated and actively de- however, I do not think it can do the joo alone. veloped by the American Bankers Association has Another approach to the problem is through con- had a significant effect in developing a more trol over member bank reserves. Bank credit car- cautious and critical attitude on the part of bankers not expand unless banks acquire or have reserves toward so-called unproductive or speculative loans. on which to expand. One way in which the System If inflationary pressures were mild, voluntary re- has supplied reserves has been through purchases straint might be adequate to hold them in check. of long-term Government securities. A means of Continued and intensified voluntary restraint will restraint would be for the System to limit its pur- make our joint task easier. chases of such securities either by refusal to buy or There are a number of reasons, however, why by reducing its prices sufficiently to attract other voluntary restraint cannot be relied upon to do the purchasers. As you know, the System has made a whole job alone when inflationary pressures are as public commitment to support the 2l/ 2 per cent yield strong as they are at the present time. Perhaps the level on long-term Government bonds for the fore- most important reason is that a loan which may ap- seeable future. I gave my reasons for subscribing to pear productive when viewed by itself may not add that commitment when my confirmation was under to the total output of the economy as a whole. For consideration by the Senate Committee on Banking example, a customer may increase his production by and Currency. Although that commitment sub- borrowing funds to purchase needed parts that are stantially limits our freedom of action, I believe in short supply. Such a loan would appear to be there is a better way to operate against credit ex- productive from the individual point of view of pansion than now to abandon that commitment. both the borrower and the lender. But will the Our basic problem is to absorb reserves. In- loan increase the supply of the parts or total output? creases in reserves may be anticipated from three If all resources are being used to capacity, the loan principal sources: (1) imports of gold, (2) return AUGUST 1948 909 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE of currcncy from circulation, and (3) purchases of that had been withdrawn through the disposal by Government bonds by the Federal Reserve Banks the Reserve System of short-term Governments. to support the long-term yield level. The principal An increase in the discount rate has great psy- problem before the System is to absorb or offset chological effect. Each increase repeats the warn- reserves arising from these sources. The only way ing that credit is in need of continued restraint. it could do this effectively under present authority is Changes in the Federal Reserve discount rate and to liquidate part of its holdings of Government secu- open market operations supplement each other as rities. It would be necessary, of course, to sell them necessary parts of an overall credit policy. at prices the market would pay. These two related instruments influence the total The System has a large portfolio of bills, cer- volume of reserves of member banks. The third tificates, and other short maturities that it could general instrument—reserve requirements—is de- use. If the inflationary demand for bank credit is signed to influence the amount of bank credit that strong, sale of these holdings to absorb reserves can be based on a given volume of reserves. An in- would result in a further stiffening of short-term crease in requirements immobilizes reserves and interest rates. The Open Market Committee of the makes them unavailable for further lending and Federal Reserve System feel that a policy of en- investing. As you know, the Board of Governors deavoring to sell short-term securities in order to has on prevteus occasions presented various ways absorb any additions to reserves is a necessary and of dealing with the problem of reserves or immo- desirable step. If an increase in the short rate bilizing certain bank assets. should result, it would tend to attract funds from The method proposed in the bill before you is other uses to investment in short-term Government simple and direct, and involves no departures from securities. As I have pointed out, the policy of existing principles. The bill would authorize the allowing short-term rates to rise was begun about Board of Governors to increase by 10 and 4 per- a year ago and has had some success. centage points the reserves that member banks may At this point the necessity for teamwork between be required to maintain against their demand and the Treasury and the Federal Reserve becomes ap- time deposits, respectively. The authorization parent. I am keenly sensitive to the necessities of wpuld be granted for a period of two years. As I the Treasury in its task of managing the public have already explained, we feel deeply that it is debt. I thoroughly understand the Treasury's re- not fair to member banks in their competitive re- sponsibility to keep the interest cost of the debt as lations with nonmember banks to require that they low as possible consistent with all relevant factors. be singled out to carry the additional reserves that I know that the Treasury Department is equally may be necessary to combat this inflationary situ- sensitive to the responsibilities of the Federal Re- ation. I earnestly hope that Congress will, during serve in the field of monetary and credit policy. this interval, reconsider the whole structure of The problems of mutual concern to the Treasury reserve requirements, possibly along the lines de- and the Reserve System in their respective fields are veloped recently before the Joint Committee on the being approached in a continued spirit of coop- Economic Report. eration. I should like to indicate briefly what can and The rediscount rate is another instrument of cannot be accomplished through increases in reserve policy in the short-term market. It should not be requirements. Changes in requirements cannot, of written off. Although its effectiveness is dimin- course, be considered in isolation. They must be ished in times like these when the volume of mem- related to other instruments of policy. In practice ber bank borrowings is small, and when banks can they are closely related to open market operations. readily obtain needed funds by selling some of their One method that banks use to adjust their positions large holdings of Governmnt securities, higher dis- to the pressure exerted by an increase in require- count rates would have some restrictive effect. If, ments is to sell Government securities. To the ex- for example, the yield on short-term Government tent that these are purchased by the Federal Reserve, rises, it would become appropriate under these cir- new reserves are created which meet the higher re- cumstances to increase the discount rate. This quirements. This is not the whole story, nor does action would discourage the market from re- it happen invariably, but it does illustrate the com- acquiring through the discount window any funds plexity of our problem. An increase in require- 910 FEDERAL RESERVE BULLETIN: Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis STATEMENT BEFORE THE HOUSE BANKING AND CURRENCY COMMITTEE ments immobilizes a larger portion of the assets of of restraint over credit expansion. The proper member banks and makes them unavailable for sale handling of this problem requires the most careful in order to obtain funds to increase loans. It, there- management. It can be facilitated by the extension fore, reduces the licjuidity of banks and lowers the of the System's powers, as proposed in the bill be- ratio of multiple credit expansion that can occur fore you, which extension is thoroughly consistent on the basis of any increase in available reserves. with existing powers and traditional methods. The purpose of increasing authority over reserve As I have pointed out, there are possibilities and requirements is not to obviate the possible need for prospects for a continuation of inflationary pres- open market operations and a rise in short-term sures which will call forth additional demands for rates. That problem would still be with us. credit. I feel confident that the Federal Reserve authorities will use their existing powers to the CONCLUSION fullest extent possible to,restrain these tendencies "In conclusion, I should like to state emphatically without depriving the ectfhomy of the credit needed the Board's view that the use of its powers over the to maintain production and employment at the supply of reserves under present conditions should highest sustainable levels. •We would endeavor to be directed toward restraining further credit ex- use the additional powers proposed in the same way. pansion and not toward forcing liquidation of the Finally, it should be emphasized as strongly as outstanding volume of credit. The Federal Reserve possible that action in the monetary field alone System was established to provide for flexibility in cannot readjust the unbalanced relationships within our monetary system. It was not designed to make available any amount of money that borrowers the economic structure which have already been might demand without regard to the productive created by inflationary forces, and cannot check capacity of the economy and the speculative nature further inflationary pressures arising from non- of the commitments. The System would be derelict monetary causes. in its duty if it did not exercise a proper measure The additional powers sought would enable the of restraint. Reserve System to exert a very necessary degree of Expansion of the public debt because of war and restraint upon the now unrestrained expansion of the necessity of maintaining a degree of stability in credit. For that reason they are urgently needed, the value of the vast holdings of that debt by finan- even though they are not and should not be re- cial institutions and individuals has confronted the garded by the Congress or by the public generally System with formidable difficulties in the exercise as a cure-all. AUGUST 1948 911 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

Thomas B. McCabe (1948, August 1). Speech. Speeches, Federal Reserve. https://whenthefedspeaks.com/doc/speech_19480802_mccabe

@misc{wtfs_speech_19480802_mccabe,
  author = {Thomas B. McCabe},
  title = {Speech},
  year = {1948},
  month = {Aug},
  howpublished = {Speeches, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/speech_19480802_mccabe},
  note = {Retrieved via When the Fed Speaks corpus}
}