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Monetary Policies in the United States since 1950: Some Implications of the Retreat to Orthodoxy*

Published online by Cambridge University Press:  07 November 2014

Ervin Miller
Ervin Miller*
Affiliation:
University of Pennsylvania
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Extract

Monetary policy in the United States since 1950 has involved the abdication of fairly traditional powers by the authorities and a retreat to an orthodoxy reminiscent of the earlier years of this century. In the course of this retreat the monetary (and fiscal) authorities have sought to reduce federal debt to a quasi-private character, while, in contrast, the government has elevated vast amounts of private debt to a quasi-federal status. It will be argued here that in the light of the changing institutional environment, the drive to monetary orthodoxy plus an undue preoccupation with inflation are in large measure responsible for making exasperatingly difficult the maintenance of orderly Treasury finances and may be self-defeating with respect to the control of inflation.

For our purposes, modern Federal Reserve policy has its roots in the bond support policy of the Second World War. Actions taken after the War until 1950 showed an attitude of increasing restiveness with that policy and involved “chipping away” at individual items in the policy. With the outbreak of the Korean War in 1950, Federal Reserve relations with the Treasury, which sought to maintain a “pegged” market, reached a low point. In March, 1951, came the famous Accord, with virtually unconditional surrender by the Treasury in matters of the level and structure of interest rates. In 1952 came the revival of large-scale discounting and the fostering of its use by the authorities.

Type
Articles
Information
Canadian Journal of Economics and Political Science/Revue canadienne de economiques et science politique , Volume 27 , Issue 2 , May 1961 , pp. 205 - 222
Copyright
Copyright © Canadian Political Science Association 1961

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Footnotes

*

This paper was written while the author held a Ford Foundation fellowship. The Foundation, of course, has no responsibility for the conclusions, opinions or other statements in it.

References

1 For a detailed discussion of the period beginning with the Accord, see Achinstein, Asher, Federal Reserve Policy and Economic Stability, 1951–1957, Report prepared for the Committee on Banking and Currency, Senate (Washington, 1958).Google Scholar

2 Annual Report of the Board of Governors of the Federal Reserve System, 1953, 103.Google Scholar See also 6–8, 86–105.

3 Although the Reserve Board chairman has denied having this goal, he in fact has virtually acknowledged it by indirection. (See Employment, Growth, and Price Levels, Hearings, Joint Economic Committee, part 6C (Washington, 1959), 1777 Google Scholar; see also part 6A, 1458, 1465–6.)

4 See US Dept. of Commerce, Business Statistics, 1959 (Washington), 59.Google Scholar The recession “had been preceded by a major expansion in productive capacity without a corresponding increase in utilization. … In manufacturing alone spending on new plant and equipment between 1953 and 1957 had increased capacity by about one-fourth, but production had increased by only 7 per cent.” Economic Report of the President, 01, 1959 (Washington), 3, 12.Google Scholar

5 Federal Reserve Bulletin, 12, 1959, p. 1536.Google Scholar

6 See, e.g., Federal Reserve Bulletin, 12, 1960, p. 1376 Google Scholar; Parks, R. H., “Portfolio Operations of Commercial Banks and the Level of Treasury Security Prices,” Journal of Finance, XIV, 03, 1959, 52–5.CrossRefGoogle Scholar

7 See Internal Revenue Code of 1954, sec. 582 (C); Parks, R. H., “Income and Tax Aspects of Commercial Bank Portfolio Operations in Treasury Securities,” National Tax Journal, XI, 03, 1958, 21–34 Google Scholar; Miller, Ervin, “Monetary Policy in a Changing World,” Quarterly Journal of Economics, LXX, 02, 1956, 31.Google Scholar For an interesting empirical study of tax losses of banks see Federal Reserve Bank of Kansas City Monthly Review, 06, 1960, 9–16.Google Scholar

8 See Whittlesey, C. R., “Monetary Policy and Economic Change,” Review of Economic Statistics, XXXIX, 02, 1957, 34.Google Scholar

9 See Parks, R. H., Portfolio Operations of Commercial Banks in the U.S. Treasury Securities Market, unpublished PhD thesis, University of Pennsylvania, 1958, chaps. 2, 5, and Appendix B.Google Scholar

10 For a picture of recent shifts in the relative importance of the various forms of financial assets held by specific sectors of the US economy, see flow of funds data, Federal Reserve Bulletin, 08, 1960, 941–6.Google Scholar

11 Industry assets grew from $1.3 billions at the end of 1945 to $15.8 billions at the end of 1959. (Wiesenberger, Arthur, Investment Companies, 1960 ed. (New York), 94.)Google Scholar

12 Admittedly, mutual funds also acquire US government securities, but the holdings tend to be minor in volume. For example, the largest mutual fund, Massachusetts Investors Trust, held only 0.1 per cent ($2.0 millions) of its assets in Treasury obligations at the end of 1959. On the other hand, another large unit, the Wellington Fund at the same time held 12.7 per cent ($128.7 millions) of its assets in Treasury obligations. The industry as a whole had an aggregate in cash, short-term holdings and US securities of $988.2 millions at the end of October, 1960. (See ibid., 389, 405, and National Association of Investment Companies, Open-End Company Monthly Statistics, Oct., 1960.)

13 Mutual funds are also probably partly responsible for the mushrooming of investment clubs all over the country. In essence these are miniature mutual funds devoted to the investment of members' funds in common stocks on a regular basis. In a recent report (New York Times, 01 10, 1960, sec. 3, pp. 1, 7)Google Scholar it was estimated that there were about 16,000 clubs in the US of which 56 per cent were less than two years old. Although total holdings (estimated to exceed $130,000,000) were not great, the “demonstration effect” may be an important stimulus to direct purchases of stocks by individuals.

14 Total investment under this plan was over $154 million on Jan. 25, 1960 (New York Stock Exchange Fact Book, 1960, 30).Google Scholar

15 Assets of these funds at book values at the end of 1959 were reported to be $25.3 billions by the SEC. Common stocks at book values represented 30 per cent of the portfolio, compared to 12 per cent in 1951. At market value common stocks at the end of 1959 represented 43 per cent of the total portfolio value. In 1959, 50 per cent of net receipts were used to buy common stocks. (US Securities and Exchange Commission, Statistical Bulletin, 06, 1960, 3–6 Google Scholar; June, 1959, 5.)

16 A recent survey (American Bankers Association, 1958) of personal trust funds administered by US banks and trust companies indicated assets of nearly $50 billion. 61.7 per cent was in common stocks, 5.1 per cent in Treasury securities and 15.7 per cent in state and municipal securities. (See “$50 Billion in Personal Trusts,” Trusts and Estates, 98, 08, 1959, 736.)Google Scholar Fully comparable figures for earlier years are not available. However, an estimate of growth has been made by linking this recent estimate to earlier ones (see Federal Reserve Bank of Philadelphia, Business Review, 10, 1959, insert).Google Scholar

On the assumption that the proportionate asset mixes indicated in earlier estimates are reasonably accurate and that they may fairly be compared with the proportionate asset mix shown in the 1958 survey, the shift from Treasury securities may be shown. In 1949, it was estimated that 30 per cent of the assets of personal trust funds were in government securities, in contrast to the 5.1 per cent indicated for 1958. Meanwhile, the proportions of stocks held have moved up from 40 per cent to over 64 per cent. (See Goldsmith, R. W., Financial Intermediaries in the American Economy (Princeton, 1958), Table A-16, 384–5.)Google Scholar Obviously some of this movement is explained by capital gains.

17 See Shattuck, M. A. and Farr, J. F., An Estate Planner's Handbook (2nd ed., Boston, 1953), 157–64Google Scholar, for a brief account of the development of the “prudent man” rule in the United States.

18 Common stocks held by life insurance companies increased from $357 million to $2,954 billion between the end of 1947 and the end of 1959 at market values. (Institute of Life Insurance, 1960 Life Insurance Fact Book (New York), 79.)Google Scholar In 1959 the gain in common stocks held was $406 million of which roughly one-third represented capital gains.

19 See Johnson, G. E., “The Future of Variable Annuities” in Trusts and Estates, 98, 11, 1959, pp. 1086–8.Google Scholar

20 Internal Revenue Code of 1954, sees. 34, 116.

21 Insured and guaranteed mortgages outstanding on non-farm 1- to 4-family properties as of September, 1960, were estimated to be $55.8 billion. (Federal Reserve Bulletin, 12, 1960, p. 1383.)Google Scholar Insured project mortgages outstanding were estimated to be $5.4 billion at the end of 1959 (Housing and Home Finance Agency, Thirteenth Annual Report, 1959, 330).Google Scholar

22 A dramatic illustration of the de facto acknowledgment of this may be seen in the attempt of the Treasury to exchange guaranteed and insured mortgages held by the Federal National Mortgage Association for outstanding Treasury debt. (See New York Times, 12 5, 1959, 31, 36.)Google Scholar

23 As of Dec. 31, 1959, there were $2.5 billion in New Housing Authority bonds outstanding. They were first issued in 1951. (See Housing and Home Finance Agency, 13th Annual Report, 207.)Google Scholar

24 The holding of Treasury securities by “personal trust accounts and individuals in the upper income brackets … declined … from $34 billion in December 1946 to $21 billion now. It is in this group where competition with tax-exempt state and local obligations becomes most important.” Secretary of the Treasury Anderson, Public Debt Ceiling and Interest Rate Ceiling on Bonds, Hearings, Committee on Ways and Means, House of Representatives, 06, 10–12, 1959 (Washington, 1959), 6.Google Scholar Meanwhile between 1946 and 1959 the net volume of state and local government debt outstanding rose from $13.6 billion to an estimated $55.6 billion (June 30 figures. See Survey of Current Business, 07, 1960, 35).Google Scholar

25 See ibid. and Economic Report of the President, Jan., 1960, 210. These figures overstate the case somewhat, since logically only high-grade corporate bonds should be compared with government bonds.

26 The competition faced by the Treasury is shown by the shifts in the portfolios of the insurance sector of the flow of funds accounts. Between year-end 1946 and year-end 1959 federal obligations (in billions) fell from $27.0 to $16.6 while corporate bonds (in billions) rose from $15.1 to $62.6. (See Federal Reserve Bulletin, 08, 1960, 945.)Google Scholar

27 “Yield spreads between corporate and long-term Treasury bonds narrowed significantly during the postwar period as a whole and averaged very much less than spreads during the war or prewar period. Moody's indexes show that yields on long-term corporate Baa bonds averaged roughly 2–5 per cent in excess of yields on long-term Treasury bonds before World War II; the spread between corporate Aaa bonds and Treasury bonds averaged about 1 per cent. In contrast, by the 1950's the spread between corporate Baa bonds and Treasury bonds had narrowed to average a little over 1 per cent, while the spread between corporate Aaa bonds and Treasury bonds had narrowed to average less than one-half of 1 per cent.” Parks, , “Portfolio Operation,” 60.Google Scholar

28 See Rees, A. E., “Price Level Stability and Economic Policy” in The Relationship of Prices to Economic Stability and Growth, Compendium, Joint Economic Committee (Washington, 1958), 651–3Google Scholar; Richard Ruggles and N. D. Ruggles, “Prices, Costs, Demand and Output in the United States, 1947–57” in ibid., 297–308; Staff Report on Employment, Growth, and Price Levels, Joint Economic Committee (Washington, 1959), 106–9.Google Scholar

29 For discussions of the instability in the government bond market, see Parks, Portfolio Operations of Commercial Banks in the U. S. Treasury Securities Market, chap, iv; Treasury–Federal Reserve Study of the Government Securities Market, Part I (Washington, 1959), 2–5, and Part II (Washington, 1960), 78Google Scholar; Smith, W. L., Debt Management in the United States, Study Paper No. 19, Joint Economic Committee (Washington, 1960), 63–4, 123–4.Google Scholar

30 As of September 1960, US Government agencies and trust funds held $55.6 billion of Treasury obligations (Federal Reserve Bulletin, 12, 1960, p. 1376).Google Scholar

31 For a discussion of the late and limited Federal Reserve intervention in the disorderly bond market of the summer of 1958, see Treasury-Federal Reserve Study of the Government Securities Market, Part I, 14–16, and Part II, 80–4.

32 Cf. ibid., Part I, 3.

33 In the 1958 “turnabout” US bill rates rose from 0.881 to 2.814 between June and December! Yields on 3–5 year taxable government securities rose from 2.25 to 3.65 in the same period. Yields on long-term taxable government bonds rose from a low of 3.12 per cent in April to 3.84 per cent in December (Business Statistics, 1959, 86, 102).Google Scholar

In this connection, cf. the following from Committee on the Working of the Monetary System, Report, Cmnd. 827 (London, 1959), 208 Google Scholar: “The importance of expectations in influencing the structure of interest rates and the level of interest rates has been stressed in economic literature, and the arguments commonly developed there afford some support for the monetary authorities in their stress on expectations. Our view is that expectations have been overrated as independent market forces, and that at times the influence of the authorities themselves on those expectations has been correspondingly underrated.” (Italics mine) Cf. also Smith, , Debt Management, 72–3.Google Scholar

34 Estimates of the number of individual shareowners for 1952, 1956, and 1959, respectively are 6.5 million, 8.6 million, and 12.5 million (US Bureau of the Census, Statistical Abstract of the United States: 1960 (Washington, 1960), 469).Google Scholar

35 An examination of total financial assets of the consumer and non-profit organizations sector in the flow of funds accounts shows corporate stock to have increased from 27.5 per cent at year-end 1946 to 44.1 per cent at year-end 1959, at market values. Disproportionate growth of stock holdings is also shown in the holdings of other important sectors. (See Federal Reserve Bulletin, 08, 1960, 941–6.)Google Scholar

As indicated earlier, this situation reflects important amounts of capital gains on common stock which could be succeeded by capital losses. However, the pervasive nature of the movements over a considerable period of time helps to confirm the judgment that a secular realignment in the proportionate composition of the financial assets of society has been taking place.

36 Cf. Staff Report on Employment, Growth, and Price Levels, 415–16, 426; cf. also Smith, , Debt Management, 64–8.Google Scholar

37 Net interest paid by the federal Government (i.e., total paid less total received) as shown in the national income accounts rose from $4.7 billion in 1951 to an annual rate (seasonally adjusted) of $7.3 billion in the third quarter of 1960 (preliminary). Net public debt (i.e., gross public debt minus holdings of agencies and trust funds) was $217.1 billion at year-end 1951 and $233.0 billion at the end of August, 1960. (See Treasury Bulletin, 11, 1960, 1, 56 Google Scholar; US Dept. of Commerce, U.S. Income and Output (Washington, 1958), 164 Google Scholar; Survey of Current Business, 11, 1960, 13.)Google Scholar

Highest grade state and local tax-exempt bonds have been selling in recent years at interest levels just a shade under those on US government bonds, which, of course, are fully taxable. For example, between October, 1958 and October, 1959, yields on long-term (ten years or more to maturity or call date) Treasury securities varied from a low of 3.76 per cent to a high of 4.26 per cent. Yields of highest grade (Moody's Aaa) state and local bonds during this period varied from a low of 3.06 per cent to a high of 3.60 per cent (Federal Reserve Bulletin, 11, 1959, p. 1380).Google Scholar Implied here for the state and local government bonds are equivalent yields on taxable bonds of 6 to well over 7 per cent for corporate investors in the typical 52 per cent tax bracket! Cf. Staff Report on Employment, Growth, and Price Levels, which suggests that “tight money, by keeping the bank market from expanding more rapidly, has made it necessary for State and local governments to obtain funds from investors subject to lower tax rates than the 52 per cent applicable to commercial banks” (p. 385).

38 See Hansen, A. H., “Bankers and Subsidies,” Review of Economics and Statistics, XL, 02, 1958, 50–1.CrossRefGoogle Scholar

39 As pointed out by Parks in “Income and Tax Aspects of Commercial Bank Operations in Treasury Securities,” taxable profits and taxes paid by banks were both substantially less in prosperous 1955 than in recession-ridden 1954 (pp. 30–2). A comparison of the prosperous first half of 1959 (with tight money) with the recession-ridden first half of 1958 (with easy money) shows similar results. For all member banks in the United States in the more prosperous period total current earnings rose 9.4 per cent, total current expenses rose 9.9 per cent and net current earnings rose 8.6 per cent. In contrast, net profits before income taxes fell 33.6 per cent, taxes on net income fell 40.6 per cent, net profits after taxes fell 27.8 per cent, while cash dividends declared rose 6.2 per cent! (See Federal Reserve Bank of San Francisco, Monthly Review, 09, 1959, 130–5.)Google Scholar

40 Payments by the Reserve Banks to the Treasury rose from $255 million in 1951 to $897 million in 1960. Treasury obligations held rose from $23.8 billion at year-end 1951 to $27.2 billion at year-end (December 28) 1960. (Federal Reserve Bulletin, 01, 1952, 31, 45 Google Scholar; New York Times, 01 6, 1961, 35, 41.)Google Scholar

41 Between Dec. 1955, and Nov., 1960, the volume of savings bonds outstanding declined from $57.9 billion to $47.4 billion (Federal Reserve Bulletin, 12, 1960, p. 1376).Google Scholar

42 This was essentially the state of affairs faced by the Treasury in mid-1958. Unemployment (seasonally adjusted) reached a peak of 7.6 per cent in August, a cash deficit of about $13 billion was developing for the fiscal year 1959 and tight money was viewed as on the way back! (See Economic Report of the President, 01, 1959, 159 Google Scholar; and Federal Reserve Bulletin, 11, 1959, p. 1390.)Google Scholar

43 See New York Times, 02 21, 1961, 49, 58.Google Scholar

44 See McCleod, A. N., “Security-Reserve Requirements in the United States and the United Kingdom: A Comment,” Journal of Finance, XIV, 12, 1959, 532.Google Scholar

45 For a discussion of some of the issues in the level of reserve requirements see the exchange between Senator Douglas and Reserve Board Chairman Martin in Employment, Growth, and Price Levels, Part 6A, 1455–66, 1493–1500; see also 1483–92.

46 Cf. ibid., 1250–1.

47 See Miller, , “Monetary Policy,” 38–42.Google Scholar That security reserve requirements have limitations is undeniable. However, it is difficult to find any single control without limitations. Moreover, no one would expect any single control to do the whole job. Critics of security reserve proposals have in essence failed to appreciate these points.

48 See ibid., 34–8. See also Staff Report on Employment, Growth and Price Levels, 398–401, where it is recommended that selective controls be extended to include inventory loans through a variable asset reserve requirement.