frsbog_mim_v15_1321.pdf

"THE FEDERAL RESERVE SYSTEM AS RELATED TO AMERICAN BUSINESS"

Address by

W. p , .G . HARDING'

GOVERNOR, FEDERAL RESERVE BOARD

before the

WASHINGTON CHAMBER OF COMMERCE

December 13, 1921

For r e l ea se in rrrr-^n? -nepers, Wednesday, December 14, 1921.

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Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

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"THE FEDERAL RESERVE SYSTEM AS RELATED TO AMERICAN BUSINESS11

Although more than seven years have elapsed s ince the e s t ab -

l ishment of the Federal Reserve Banks, t he re i s s t i l l a s u r p r i s i n g

lack of knowledge of what they r e a l l y are and of what t h e i r proper

func t ions a re , not only on the p a r t of the pub l i c a t l a r g e but

among bus iness men and bankers as wel1* Much has been said and

w r i t t e n regard ing the Federal Reserve System, which i s ca lcu la ted

to c rea te e n t i r e l y f a l s e impressions, and in order t o p resen t the

sub jec t in a f a i r and proper l i g h t , an e f f o r t w i l l be made to de-

sc r ibe concise ly the fundamental charac te r and some of the d i s t i n c t i v e

f u n c t i o n s of the Federal Reserve Banks and t h e Federal Reserve

System,

The Federal Reserve Act, which i s r e spons ib le fo r the ex-

i s t ence of the Federal Reserve Board and the Federal Reserve Banks,

was approved on December 23, 1913> and has, a t va r ious t imes s ince ,

been amended by Congress, The amendments, f o r the most p a r t , have

been the r e s u l t of suggest ions made by the Federal Reserve Board

and were designed to render the Act more e f f e c t i v e .

The general purposes of the Act are ou t l ined i n i t s caption

or short t i t l e , which i s as fo l lows:

HAn Act t o provide fo r the es tabl ishment of Federal r e se rve banks, t o f u r n i s h an e l a s t i c currency, to a f f o r d means of r ed i scoun t ing commercial paper , to e s t a b l i s h a more e f f e c t i v e supervis ion of banking in the United S ta tes , and for o ther pu rposes . "


' - ft.

X-32G7

The need f o r a more e f f i c i e n t banking system in the United S ta tes

had been f e l t for many years . Ever s ince the year IS90 the subjec t was

one which was discussed f r equen t ly a t bankers 1 conventions and a t

ga the r ings of commercial 'bodies, but the event which gave grea t impetus

to the movement fo r banking reform along cons t ruc t i ve l i n e s was the

panic of 1907* The fo l lowing year Congress created a Monetary Com-

mission, which a f t e r a long and thorough study of the banking systems

of the world submitted an exhaust ive r epo r t - During the years 1911

and 1912 a committee of the House of Represen ta t ives , commonly known

as the "Pujo Committee,n i nves t iga ted banking methods in t h i s country

and submitted a r e p o r t .

With t h i s wealth of informat ion in hand, Congress ea r ly in the

year I913 took up the mat ter of banking reform in ea rnes t and the

Federal Reserve Act was put upon the s t a t u t e books before the close of

the year,

^This Act i s very general ly admitted t o be a grea t cons t ruc t ive

p iece of l e g i s l a t i o n and i s pra ised both by f r i e n d s and c r i t i c s of the

Federal Reserve System; f r equen t ly by those who do not understand the

Act, as well as by those who do* I t i s because so many have no r ea l

conception of the purposes or meaning of t he Act t h a t much of the

c r i t i c i s m which has been d i r ec t ed agains t i t s admin i s t r a t ion has oeen

given a cons ide ra t ion e n t i r e l y unwarranted by the ac tua l f a c t s .

The Federal Reserve Act did not e s t a b l i s h a cen t r a l bank. On

the cont rary , i t made pos s ib l e the es tabl ishment of as many as twelve

Federal Reserve Banks, each almost wholly independent of the others in

operat ion, as wel l as i n l oca l po l i c i e s* From a l e g a l s tandpoint these


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banks are p r iva te corporations, organized under a special act of

Congress, namely, the Federal Reserve Act. They are not in the s t r i c t

sense of the word Government banks, but are only quasi-Government in -

s t i t u t i o n s , in tha t they are under the general supervision of the

Federal Reserve Board and have on t he i r boards of d i r e c t o r s three men,

represent ing the public, who are appointed by the Federal Reserve

Board,

Each bank has nine d i r ec to r s and the other six are chosen by

the member banks, which are the sole stockholders of the Federal Rcjer* 3

Bank. The law does not contemplate act ive competition by the Federal

Reserve Banks for business with each other or with National banks, s t a t e

banks, t r u s t companies and savings banks. Federal Reserve ^Banks are

not allowed to receive deposi ts from the public and can accept deposits

only from t h e i r member banks, from the United States Government and,

solely for the purposes of exchange or co l lec t ion , from non-member banks

or t r u s t companies. They are not allowed to make loans or advances

d i r ec t to tne public, but can lend only to the United S ta tes , t o t h e i r

member banks and, subject to cer ta in conditions, f o r per iods not exceed-

ing six months, in an t i c ipa t ion of the co l l ec t ion of taxes or the receipt

of assured revenues, to s t a t e s , counties, munic ipa l i t i es and other

p o l i t i c a l subdivisions in the United Sta tes .

The Federal Reserve Banks are not permitted by law to make loans

d i rec t to individuals , f irms and corporations, and while they can, under

cer ta in r e s t r i c t i o n s , purchase b i l l s of exchange and bankers acceptances

in the open market, the i r deal ings with the public in the matter of . loans

are l imited to the discounting of notes, d r a f t s , and b i l l s of exchange for


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member banks, a l l such paper to be indorsed by the member bank o f f e r i n g

i t , In l end ing in t h i s way to t h e i r member banks, the Federal Reserve

Banks are not authorized by l aw. to use the same d i s c r e t i o n and freedom

of a c t i o n t h a t are allowed na t iona l banks, s t a t e banks and t r u s t

companies, but they must observe the l i m i t a t i o n s p rescr ibed by law

as to the cha rac t e r and matur i ty of the no tes o f f e r e d them by member

banks f o r d i scount , except as to notes , d r a f t s and b i l l s drawn or

i ssued f o r a g r i c u l t u r a l purposes or based on l i v e stock, which a

Federal Reserve Bank may discount for a member bank if t he maturi ty

does not exceed s ix months*, a Federal Reserve Bank cannot discount

any paper fo r a member bank which has longer than th ree months to run,

exclus ive of days of grace.

The law pu t s a l i m i t a t i o n a lso upon the charac te r of a note which

a Federal Reserve Bank may discount for a member bank. A Federal Re-

serve Bank may make advances to i t s member banks on t n c i r piomjcsory

no tes f o r a per iod not exceeding f i f t e e n days, provided, such promissory

notes are secured by the deposi t or pledge of bonds or notes of the

United S ta tes , or by notes , d r a f t s and b i l l s of exchange or bankers '

acceptances which are themselves e l i g i b l e f o r red i scount or purchase by

a Federal Reserve Bank. To be t e c h n i c a l l y e l i g i b l e fo r rediscount a

note must be endorsed by a member bank, i t s matur i ty must be wi th in the

time l i m i t p resc r ibed by law and i t must have been i s sued or drawn fo r

a g r i c u l t u r a l , i n d u s t r i a l or commercial purposes, and i t must a l so be

shoarn t ha t the proceeds of the note have been used or a re t o be used

fo r such purposes .

As Federal Reserve Banks are not permi t ted by law t o rediscount

any paper which does not bear the endorsement of a member bank, i t As Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

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clear that in order f o r a Federal Reserve Bank to render f inanc ia l

a ss i s tance to those engaged in commerce and indus t ry , in ag r i cu l tu re

or in the r a i s i n g of l i v e stock, the loans must f i r s t be negot ia ted

with member banks. There are many loans, however, which member banks

may l ega l ly and properly make which cannot be rediscounted with Federal

Reserve Banks for the reason tha t the law does not admit of the c l a s s i -

f i c a t i o n of such paper as e l i g i b l e . A Federal Reserve Bank, there fore ,

cannot discount any paper, however good i t may be, which i s net tech-

n i ca l ly e l i g i b l e under the terms of the Federal Reserve Act; and, on

the other hand, i t i s en t i r e ly within i t s r igh t in dec l in ing to discount

no tes which, even though technica l ly e l i g i b l e , are not s a t i s f a c t o r y from

a c r ed i t s tandpoint .

Federal Reserve Banks are forbidden by law from discount ing notes,

d r a f t s or b i l l s , covering merely investments, or issued or drawn for

the purpose of carrying or t rading in stocks, bonds or other investment

s e c u r i t i e s , except bonds and notes of the Government of the United Sta tes

The Federal Reserve Act, as amended, has changed both t he amount

and character of the reserves which a l l na t ional banks and s t a t e member

banks must carry against t h e i r deposi t l i a b i l i t i e s . For a long period

of years, i t has been the p rac t i ce of American banks to carry as a r e -

serve in cash and on deposit with other banks, a c e r t a i n proport ion of

t h e i r depos i t s . Before the passage of the Federal Reserve Act, the

nat ional banks in the th ree central reserve c i t i e s were required to

keep in t h e i r own vaul t s as reserve in gold or lawful money an amount

equal to 25% of t h e i r net deposi ts , and in other c i t i e s and towns they

were required to keep a pa r t of t h e i r required reserves in cash in t h e i r


X-3267

ovm vau l t s and a pa r t on deposi t with other banks. The laws regard-

ing the reserves of s t a t e banks var ied in the d i f f e r e n t s t a t e s . Under

the Federal Reserve Act the percentage of reserve required has been

subs t an t i a l l y reduced, and as amended, no na t iona l bank and no s t a t e

member bank i s required to keep any d e f i n i t e amount of cash in i t s

own vaul t s and whatever amount of cash i s kept on hand by the member

banks, as deemed necessary by the judgment and experience of t h e i r

o f f i c e r s , does not count as pa r t of the banks' lawful rese rve .

The e n t i r e lega l reserves of a l l member banks must be kept

on deposit with the Federal Reserve Banks. As a consequence, the cash f resources of the Federal.Reserve Banks are necessar i ly very l a rge and

t h e i r holdings of gold, in p a r t i c u l a r , cons t i t u t e a very l a r g e propor-

t i o n of a l l the gold in the country. The gold neld by the Federal

Reserve Banks i s equal subs t an t i a l ly to a l l the gold t h a t might have .

been held by a l l the banks throughout the country if there had been

no Federal Reserve Banks e s t ab l i shed .

As the Federal Reserve Banks are made the sole custodians of

the legal reserves of a l l member banks, the object of Congress in

throwing safeguards and l i m i t a t i o n s around t h e i r loan t r ansac t i ons i s

evident . I t i s necessary t h a t Federal Reserve Banks should keep

themselves in a " l iqu id" pos i t ion , tha t i s , t n e i r b i l l s discounted

must be of short maturity and should be read i ly c o l l e c t i b l e . The

s t rength of the e n t i r e banking system of the United S ta tes i s d i r ec t ly

r e l a t ed to the s t rength of the Federal Reserve Banks. If the Federal

Reserve Banks should allow themselves to get in to a weak, over-extended

and unsafe pos i t i on , a l l member and non-member banks would be seriously

a f f e c t e d . Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

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while Congress has placed upon the Federal Reserve Board the

r e s p o n s i b i l i t y of de f in ing e l i g i b l e paper, wi th in the meaning of the

Federal Reserve Act, i t has entrusted the management of the Federal

Reserve Banks, under the general supervision of the Federal Reserve

Board, to t h e i r own d i r e c t o r s . Each Federal Reserve Bank has power

to appoint> by i t s board of d i r ec to r s , such o f f i c e r s and employees

as are not otherwise provided for in the Federal Reserve Act and t o

def ine t h e i r du t i e s , to p resc r ibe by-laws, not incons i s t en t with the

law, r egu la t ing the manner in which i t s general business may be con-

ducted, and to exercise , by i t s board of d i r e c t o r s , or duly authorized

o f f i c e r s or agents , a l l powers s p e c i f i c a l l y granted by law and such

inc iden ta l powers as may be necessary to carry on the business of

banking wi th in the l i m i t a t i o n s prescr ibed by law.

Each Federal Reserve Bank i s conducted under the supervision

and control of i t s board of d i r e c t o r s , who are charged by law to pe r -

form the du t i e s usual ly apper ta ining to the o f f i c e of d i r e c t o r s of

banking a s soc ia t ions and to administer the a f f a i r s of the bank f a i r l y

and impar t i a l ly and without d i s c r im ina t i on ' i n favor of or agains t my

member bank or banks and, subject to the provis ions of law and the

orders of the Federal Reserve Board, to extend to each member bank

such discounts , advancements and accommodations as may be safe ly and

reasonably made with due regard for the claims and demands of other

member banks.

The Federal Reserve Board i s not authorized by law t o pass upon

the paper which i s of fe red fo r discount t o Federal Reserve Banks. This


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i s a func t ion which must be exercised by t h e d i r e c t o r s of t he

Federal Reserve Bank or by t h e i r duly author ized o f f i c e r s or agents*

While the law does not p r e sc r i be any f ixed l i m i t as t o t he amount of

loans t h a t a Federal Reserve Sank may make t o a member bank, i t does

r equ i re t h a t due regard must be given to the claims and demands of

other member banks, t h a t i s , to t h e i r p o s s i b l e needs f o r c r e d i t ac -

commodation* I t a l so provides t h a t a Federal Reserve Bank must extend

to each member bank such d iscounts and accommodations as may be "sa fe ly

and reasonably made". This means tha t the d i r e c t o r s of a Federal Re-

serve Bank and the o f f i c e r s appointed by them must exe rc i s e t h e i r best

judgment i n g ran t ing discount accommodations- They must assiire them?

se lves t h a t t h e d i scounts are such as can be sa fe ly made, and reasonably

made, wi th due regard to the p o s s i b l e requirements of other member banks

which may ask f o r accommodations l a t e r on.

The lending power i s not vested i n the Federal Reserve Board and

the reason fo r t h i s i s probably two-fo ld . F i r s t : the Federal Reserve

System i s not a c en t r a l bank. I t i s a regional system comprising twelve

banks* Congress did not intend tha t t h e r e should be a c en t r a l i z ed

control of c r e d i t s . Second: i n a country embracing so vas t an area as

the United S t a t e s , i t would be a very d i f f i c u l t t a sk , i f not an im-

p o s s i b i l i t y , f o r a cen t r a l Board to pass i n t e l l i g e n t l y upon the

secu r i ty of the paper o f f e r ed f o r d i scount , which must nece s sa r i l y

come from a l l s ec t ions of the country.

While the Federal Reserve Act was intended to s t r eng then the

banking system of the United S t a t e s and to provide ready meand of r e -

d i scoun t ing c e r t a i n c l a s s e s of paper , i t i s a l so the evident i n t e n t i o n


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of the Act to d i s t u r b as l i t t l e as p o s s i b l e the b u s i n e s s of the member and

non-member banks, or the i r 1 dea l ings wi th t h e i r customers * There is nothing

in the Federal Reserve Act which gives either* the Federal Reserve Board or a

Federal ' Reserve Bank any con t ro l over the loan p o l i c y of any member bank#

A Federal Reserve Bank can not compel a member bank to make a loan which i t

does not d e s i r e to make, nor r e s t r a i n i t from making a loan which i t wishes

to make even though i t i s forbidden by law4

A Federal Reserve B^nk c^n not lend d i r e c t l y to the customers of a

member bank, nor does i t , in f a c t , take the i n i t i a t i v e in making loans to a

member bank f o r the purpose of enabling the member bank ti> d i s t r i b u t e the

funds so advanced t o i t s customers * The Federal Reserve Bank lends to the

member bank aga ins t t r a n s a c t i o n s a l ready m^de, f o r the purpose of enabling

the member bank to r e s t o r e i t s reserve to the l e g a l requirement , a f t e r the

reserve has been impaired or i s about to be itnp&ired because of increased

loans and d e p o s i t s ,

There i s a very genera l popular misconception regarding t h i s and i t may

be tha t some of the member banks are respons ib le f o r t h i s misunderstanding

without being ac tua ted , however, by s i n i s t e r motives« Banks, as a ru^e, do

not l i k e to admit to customers tha t they are shor t of loanable funds nor GO

they wish to arouse enmity i n dec l in ing to make loans or i n asking f o r a

reduct ion of a loan alreadymmade.

She re are some b n nk o f f i c e r s who are able f r a n k l y to d e c l i n e an

a p p l i c a t i o n f o r a loan i n a way which leaves no s t i n g , but which on the

cont ra ry gives the app l i can t the impression tha t the r e j e c t i o n of h i s

a p p l i c a t i o n i s a f avor to him. But not a l l bank o f f i c e r s have such t ac t*

Some are f r a n k enough but t h e i r b lun tness hur ts the f e e l i n g s of the would-be


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borrower* I t i s not unusual, t he re fo re , f o r bank o f f i c e r s in decl in ing

loans to look for a b u f f e r , or some one to whom they can "pass the buck,f

In the old days, the board of d i r e c t o r s was made use fu l in t h i s capacity

Nowadays, however, bank o f f i c e r s f ind in the Federal Reserve

Board or the Federal Reserve Bank a much more s a t i s f a c t o r y buf fe r than

a local board of d i r ec to r s . In many cases, i n a g r i c u l t u r a l sect ions

p a r t i c u l a r l y , banks have found i t very convenient to "pass the buck", to

the Federal Reserve Bank or thd Federal Reserve Board, and have stated

to a borrower or would-be borrower that they would l i k e to grant the

extension asked f o r or make the loan desired, but the Federal Reserve

would not permit i t* Such a procedure has a tendency to r e l i eve the

s i t u a t i o n as f a r as the loca l bank i s concerned but i t i s c e r t a in ly

u n f a i r to the Federal Reserve System. This evasion of r e s p o n s i b i l i t y

has subjected the Federal Reserve Banks to a great amount of un jus t

c r i t i c i sm and has given the publ ic a wrong impression of the author i ty

and a t t i t u d e of the Federal Reserve Banks and the Federal Reserve Board,

I t has aroused indignat ion which i s e n t i r e l y na tu ra l in the circum-

stances and has caused much correspondence with the Federal Reserve

Board d i rec t and with Congressmen and United S ta tes Senators, whose i r e

has been aroused because of these alleged a r b i t r a r y methods.

I t i s e n t i r e l y t r u e that a Federal Reserve Bank, mindful of i t s

r e s p o n s i b i l i t y under the law and ac t ing in accordance with the d i c t a t e s

of ordinary banking prudence, may have had occasion to ca l l the a t t e n t i o n

of some of i t s l a r g e r borrowing banks t o t h e i r l a r g e discount l i n e s ,

which have run in some cases over a period of years, , without being r e -

duced, and have ca l led t he a t t e n t i o n of the borrowing banks t o the

necess i ty of working themselves in to a s tronger p o s i t i o n . But in no Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

cace wi th in t h s knowledge of the Federal Reserve Board has any Federal

Reserve Bank undertaken to say to a member bank what p a r t i c u l a r loans

i t should ca l l or ask to have reduced.

I w i l l give you a concrete example. In a southern s t a t e , thc^e

i s a na t iona l bank which has for aMong time been a l a rge and ccnttuvous

borrower at the Federal Reserve Bank, the amount of i t s red iscounts

being several times grea ter than i t s cap i t a l stock and i t s f a i r propor-

t ion of the loanable funds of the ^Reserve Bank. I t seems t h a t t h i s

bank has made frequent promises to reduce i t s discount l i n e to a more

reasonable sum, but as i t col lected notes i t would constant ly send in

others for red iscount .

Here i s a not ice t h a t t h i s bank appears to have been sending t o

some of i t s borrowing customers, which reads as fo l lows:

"Your note fo r $. . . f a l l s due

"Our FEDERAL RESERVE BANK owns t h i s note, having rediscounted i t

for us . As i t has been rene.ved several times, they are I5SIGTI2.G ON A

P/YMENT of $ or more. I t i s to

arrange t h i s note on the day of i t s matur i ty . Yours truxy Cashier."

when the Federal Reserve Bank was informed t n a t these not ices

were being sent out, i t immediately cal led the a t t e n t i o n of the member

bank to the f a c t t h a t i t had not i n s i s t ed upon the payment of any p a r t i c u -

l a r note and d i rec ted t h a t t h i s form of not ice be discontinued. The

Federal Reserve Board has received many complaints growing out of i n c i -

dents of t h i s kind.

I t i s g r a t i f y i n g , however, t o know that the general sentiment

toward the Federal Reserve System i s ^ot moulded by ignorant or prejudiced


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c r i t i c s , but tha t there i s throughout the country a high app rec i a t i on

of t h e splendid se rv ice i t has rendered dur ing the t r y i n g t imes through

which we have passed. I wish t o ava i l myself of t h i s opportuni ty to say

a word of commendation of the manner in which the o f f i c e r s and d i r e c t o r s

of the twelve Federal Reserve Banks have performed t h e i r arduous d u t i e s

and of t h e i r s k i l l and courage in deal ing wi th the many grave and complex

problems, some l o c a l , o thers na t iona l i n scope, wi th which they have

been confronted during the acute world c r i s i s , which happi ly i s now a

t h ing of t he pas t as f a r as t h i s country i s concerned.

I t i s my sober convic t ion t ha t bas ic f i n a n c i a l cond i t ions i n

t h i s country are very much b e t t e r than they were twelve months ago.

There a re many sur face i n d i c a t i o n s which bear out t h i s s tatement and

those who know the general s i t u a t i o n apprec ia te t h i s f a c t .

Business has passed through the primary s tage , t h e acute per iod

of r e a c t i o n , but we have not ye t reached "normalcy" f o r t h e readjus tment

has not been uniform and there i s not ye t e s t ab l i shed a na tu ra l and

equ i t ab le b a s i s for the exchange of goods fo r goods or goods f o r s e rv i ces .

For example, farm products in many cases are now below t h e pre-war leve^.

and in some ins t ances below the cost of product ion . P r i c e s of some

manufactured goods have decl ined sharply, while o thers have n o t , and

general p r i c e index and the cost of l i v i n g are s t i l l much above the 1 ^ 3

l e v e l . Manufacturers and merchants a re v i t a l l y i n t e r e s t e d i n cond i t ions

in the a g r i c u l t u r a l s ec t i ons . The farmer i s t he g rea t consumer of manu-

fac tu red goods. His purchasing power a t p resen t i s much impaired, p a r t l y

because of the lower exchange value of h i s p roduc ts and p a r t l y because

of un l iqu ida ted indebtedness# Unt i l t he purchas ing power of t h e farmer


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improves i t w i l l , of course, be id le to look fo r any rapid or substantia

improvement in domestic t rade ,

I th ink , however, t h a t the outlook for the farmers i s more

hopeful . They have, no doubt, been benef i ted through the a c t i v i t i e s of

the War Finance Corporation which, although i t cannot make d i r ec t ]oans

tp ind iv idua ls , i s rediscount ing paper for banks which because of long

maturity i s not e l i g i b l e for rediscount with the Federal Reserve Banks.

While the a g r i c u l t u r a l s i t u a t i o n i s a most important f a c t o r in our

domestic t rade , tnere are other things which must be taken in to account.

The dec l ine in p r i c e s of manufactured goods has not been as great as

the shrinkage in value of raw mater ia l s , and the r e t a i l p r i ce index does

not show a drop corresponding to tha t of the wholesale p r i ce index. This

i n d i c a t e s tha t manufacturing cos ts have not declined i n propor t ion to

primary product ion costs and tha t the cos t s of d i s t r i b u t i o n and of doing

business are d i spropor t iona te ly high.

The remuneration of farm labor depends mainly upon the p r i c e of

farm products, but in manufacturing i ndus t r i e s labor cos t s are not always

immediately re la ted to the cost of the raw mater ia l used in those indus-

t r i e s nor, indeed, t o the pr ice of the f in i shed product . Other important

elements of cost are taxes , f r e i g h t r a t e s , r e n t s and f u e l , The Federal

Government must necessar i ly r a i s e l a rge revenues i n order to meet o b l i -

gat ions incurred as a r e s u l t of the war and our system of taxa t ion i s

designed to levy the highest r a t e s on l a r g e incomes.

This t axa t ion can be escaped a l toge ther or in p a r t by inves t ing i n

State and municipal bonds, which are exempt from the income tax, and tne

a b i l i t y of mun ic ipa l i t i e s to s e l l the i r ob l iga t ions more read i ly oecauss


-14 - X-32&7

of t h i s f a c t has had a tendency t o inc rease the volume of

t h e i r indebtedness . Consequently loca l t a x a t i o n has increased

m a t e r i a l l y , and unless the i s s u e of t a x exempt o b l i g a t i o n s i s

checked, the u l t ima te r e s u l t s a re l i k e l y t o be ser ious*

Operating cos t s of the r a i l r o a d s a r e much above normal and

t r a n s p o r t a t i o n r a t e s have been increased as an o f f s e t .

Rents are hi^h because of increased t a x e s , h igher up-keep

cos t s and the inadequate supply of houses occasioned by the r e -

duced bu i ld ing opera t ions during the pa s t four or f i v e yea r s .

Fuel i s high, due p a r t l y to increased t axes , h igher cos t s of

product ion and increased cos t s of t r a n s p o r t a t i o n and d i s t r i b u t i o n *

The r e s t o r a t i o n of normal cond i t ions i n a g r i c u l t u r e , com-

merce and indus t ry depends t o a g rea t ex ten t upon the r educ t ion of

these e s s e n t i a l items of expense.

Much depends a l so upon the r e s u l t s of the Conference f o r

L imi ta t ion of Armaments now being held i n t h i s c i t y . This Conf e* e<.-.e

i s t h e most important which has ever been held i n t h i s country ana -

the program submitted by the Secretary of S ta te i s adopted

have a profound e f f e c t upon the f inances of t he world. In f a c t the

proceedings of the Conference up to t h i s time and the proposed t r e a ty

between the four great powers which cont ro l t he P a c i f i c are accepted

as ha rb ingers of peace and have had a l ready a s t a b i l i z i n g e f i e c t . The

notable advance i n s t e r l i n g exchange, which began wi th the assembling

of t h e Conference, i s not a mere coincidence.


- 1 5 - 2-3267

When g r e a t n a t i o n s e n t e r i n t o compet i t ion wi th each o the r i n t h e ex tens ion

of huge naval and m i l i t a r y e s t ab l i shmen t s , t h e l a r g e sums necessary; f o r

t he se a d d i t i o n s and maintenance must be met by t a x a t i o n i n some form or

o t h e r . Money expended f o r armament i s devoted t o non-produc t ive and de -

s t r u c t i v e pu rposes . These sums re leased f o r c o n s t r u c t i v e or p roduc t ive

use in t h e c r e a t i o n of new weal th w i l l s t i m u l a t e t h e r e v i v a l of bus ine s s

a c t i v i t y .

The p o s i t i o n of t h e United S t a t e s w i t h r e s p e c t t o world a f f a i r s we

has e n t i r e l y changed s ince l^ lU. Up t o t h a t t ime/were a deb to r n a t i o n .

When t h e war broke out i n Europe the United S t a t e s was a deb tor on t h e

w o r l d ' s ba lance sheet t o t h e ex ten t of probably fou r b i l l i o n d o l l a r s ,

r e p r e s e n t i n g amounts due on cu r r en t account p l u s f o r e i g n inves tments in

t h i s count ry . Now we a r e a, c r e d i t o r n a t i o n i n a l a r g e amount. Bes ides

t h e sum of t e n b i l l i o n d o l l a r s advanced by the United S t a t e s t o n a t i o n s

a s s o c i a t e d wi th lis i n t h e war, t h e r e i s a l a r g e ba lance due t h i s country

a s a r e s u l t of p r i v a t e t r a d e t r a n s a c t i o n s , which has been v a r i o u s l y e s -

t imated fromr.a b i l l i o n and a half t o t h r e e and one-half b i l l i o n d o l l a r s .

A g r i c u l t u r e , i ndus t ry and commerce i n t h e United S t a t e s a l l have a

v i t a l i n t e r e s t i n f o r e i g n t r a d e . We produce a l a r g e expor t ab l e su rp lus of

farm p roduc t s and of manufactured goods and any c u r t a i l m e n t in t h e f o r e i g n

demand f o r t h e s e p roduc t s i s immediately r e f l e c t e d i n our domestic t r a d e .

During the p a s t year we have rece ived l a r g e a d d i t i o n s t o our s tock

of gold by reason of impor ta t ions from f o r e i g n c o u n t r i e s . These impor t a t i ons

do not r e p r e s e n t sums f o r account of c e n t r a l banks, which have as a r u l e

increased t h e i r gold f o l d i n g s s ince the outbreak of the war, but they r e p r e -sent widely s c a t t e r e d ho ld ings from p r a c t i c a l l y a l l c o u n t r i e s which have been sen t he re i n payment of p r e s s i n g o b l i g a t i o n s or f o r the purchase of s u p p l i e s u r g e n t l y needed.


' 1 6 - Jt-52 65

I t i s ev iden t , however, t h a t a normal volume of f o r e i g n t rade can not

be suppor ted by shipments of gold from abroad. In o rd ina ry c i rcumstances

i n t e r n a t i o n a l t r ade i s bs&ed upon the exchange of goods and s e r v i c e s ,

a c t u a l t r a n s f e r s of gold r ep re sen t ing only a very small p r o p o r t i o n of the

t o t a l volume of bus ine s s and being made merely f o r the purpose of s t a b i l i z i n g

the exchanges,

Most of the bus ine s s t roub le s through which we have passed and which

s t i l l con f ron t us today can be a t t r i b u t e d e i t h e r t o the war or to the

course of events dur ing the year 1319* I t was r e a l i z e d t h a t the s ign ing of

the .Armistice which ended the war from a m i l i t a r y s t a n d p o i n t d id no t end i t

in a f i n a n c i a l sense and dur ing the e a r l y months of the yea r 1919 there

was a l u l l and much h e s i t a t i o n in b u s i n e s s . The s u c c e s s f u l f l o t a t i o n , how-

eve r , of the Victory Loan i n May of t h a t yea r was regarded as the end of the

war i n a f i n a n c i a l sense and a pe r iod of g r e a t a c t i v i t y s e t i n .

I t was ev iden t t h a t f o u r years of war had g r e a t l y impaired the produc-

t i v e c a p a c i t y of Europe and had reduced, a lmost to the van i sh ing p o i n t , s t o c k s

of goods and supp l i e s of a l l k i n d s . There was a g e n e r a l impress ion t h a t

t he re was a world-wide shor tage of goods and t h a t Europe i n r e p l e n i s h i n g her

supp l i e s must con t inue to draw heav i ly upon the p roduc t ive c a p a c i t y of the

United S t a t e s , j u s t as had been the case ever s ince the yea r 1915• This

impress ion was deeply e n g r a f t e d upon the minds of the p u b l i c and f o r a t h a t

European needs were so u r g e n t / t h e y had to be suppl ied a t any s a c r i f i c e .

At the same time a s u b s t a n t i a l p a r t of the sum which du r ing the war the

United S t a t e s had agreed to advance t o f o r e i g n n a t i o n s was s t i l l unexpended

and these funds were used dur ing the yea r 1919 . in payment of goods exported

to Europe«


- 1 7 - X - 3 2 6 7

Many shrewd business men looked forward conf ident ly to several years

of commercial and i n d u s t r i a l a c t i v i t y and made t h e i r plans upon the asumption

that p r i c e s would e i t h e r advance or remain s tab le and tha t a re tu rn to the

pre-war l eve l or a ser ious decl ine in the immediate f u t u r e was most improbable

Farmers incurred obl igat ions f o r addi t iona l land a t a va lua t ion based upon

the commodity -orices then ex i s t ing , merchants extended t h e i r business and man-

u f a c t u r e r s prepared to increase t h e i r productive capaci ty by making addi t ions

to t h e i r p l a n t s , regardless of the f a c t tha t such addi t ions could be made

only a t cos ts much h i sher than normal.

The consensus of publ ic opinion was tha t we had entered in to an era of

h i eh -orices and t> a t there would be f o r some time a ser ious shortage of goods,

Many jobbers ca l led in t h e i r salesmen and were obliged to scale down the or-

ders which poured in by every mail. Pr ices advanced week by week and many

producers and merchants were re luc tan t to s e l l , f o r advancing p r i ces were

accompanied by higher wages and greater production cos ts .

Credi t was f r e e l y used, not only in production a t high cost but in with-

holding goods from the market, and inventor ies and bank statements everywhere

showed an expanded condition which would have been regarded as unthinkable a

few years be fore .

Looking backward i t i s easy to point out the essential* a^-^ a c-7 the

pos i t i on which was taken and to explain the log ica l and inev i t ab le reac t ion

which took p lace , a reac t ion , however, which many did not foresee u n t i l

too l a t e . This f a l l a c y lay in the incor rec t est imate of the shortage of

goods* The normal r e l a t i onsh ip between production end consumption was

accepted a t a time when condit ions were anything but normal. There was, .

indeed, no question -as to the desperate need of Europe f o r American goods


" 1 5 " A- 32 67

and suppl ies bu t proper cons ide ra t ion was not given to the f?.ex.Voi"'i by of

consumptive requirements . Whet a man can no t get a t a l l he mis L do with-

out , and when he can not ob ta in a l l t h a t he needs he must be s a t i s f i e d

with a moiety. The mere need f o r goods, however u rgen t , does not c r e a t e

an economic demand. There must be an a b i l i t y on the p a r t of those need-

ing goods to s a t i s f y the need, e i t h e r by exchanging o ther goods, by

rendering s e r v i c e , by paying cash or by tendering some acceptable form

of c r e d i t o b l i g a t i o n .

Mi l l ions of people in Europe were obliged t o deny themselves a p a r t

of t h e i r accustomed food supply, to fo rego purchases of c lo th ing and

o the r t h ings which o r d i n a r i l y would be regarded as a b s o l u t e l y necessary«

Luxuries were impossible and in many cases a r t i c l e s so c lassed were

s a c r i f i c e d in order to provide n e c e s s i t i e s .

The e f f e c t of h igh p r i c e s i n t h i s country was r e f l e c t e d f i n a l l y

in reduced consumption and in the l a t t e r p a r t of March, 1920 those who

had dreams of a long continuance of the condi t ions wldch had ex i s t ed up

to t h a t time were rudely awakened by the co l l apse of the s i l k market in

Japan- Publ ic opinion began t o undergo a change and publ ic opinion i s a

powerful force ,mors po t en t than banking boards , than " legis la t ive bodies

and Government i t s e l f . The cur ta i lment of btitying became more and more

n o t i c e a b l e . What has s ince been r e f e r r e d to as the " b u y e r s ' s t r i k e "

manifes ted i t s e l f throughout the country and i n quick succession the

d r a s t i c r eac t ions i n commodity p r i c e s began to take p l a c e . Many who had

been eager t o buy withdrew from the market and many who had. been r e l u c t a n t

to s e l l became anxious to disjpose of t h e i r goods.

Banks began to f i n d t h a t loans which they had t hc igh t could be repaid

a t any time des i red could not be c o l l e c t e d i n the new circumstances and

must be c a r r i e d a long . Recourse was had in inc reas ing degree to the Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

Federal Reserve System, which responded to a l l l eg i t imate demaads and

which should he c red i ted with preventing what would otherwise have

developed i n t o a most d i sas t rous money pan ic .

During the year 1920, when these d r a s t i c changes i n p r i ce leve ls

were taking p lace , the t o t a l earning as se t s of the Federal Reserve Banks,

which include rediscounts f o r member "banks, increased from $3,039)000,000

at the end of January to $3,39 000,000 at the end of October. At the

same time there was not only no cont rac t ion i n Federal Reserve note cur-

rency, but on the contrary there was an almost continuous increase in

the volume of Federal Reserve notes in c i r c u l a t i o n , the amount increasing

from $2,844,000,000 on January 23%"d to $3 > 404,000,000 on December 23rd,

1920, a record high m=>rk.

These f i gu re s should be impressed upon the minds of the pub l ic , f o r

the reckless and unwarranted statement is o f ten made tha t the Federal Re-

serve a u t h o r i t i e s d e l i b e r a t e l y set out to br ing about d e f l a t i o n and to

accomplish t h i s purpose caused sharp curtai lment of cjreciit and d r a s t i c

cont rac t ion of the currency.

The events of the pas t two years have demonstrated the f a c t tha t

_there is no una l te rab le r e l a t ionsh ip between commodity p r i ces and the

volume of c r ed i t and currency. I t i s not the func t ion of the Federal

Reserve System nor of any banking system to attempt to f i x or control

p r i ce s and Federal Reserve discount ra tes hsve never been es tabl i shed

with tha t idea in view. Banks should be concerned with p r i ces only in

so f a r as the s ecu r i t y of t h e i r loans may be involved and they are

i n t e r e s t e d more in the s t a b i l i t y of p r ices and t h e i r margin of c o l l a t e r a l

than in the p r i ce l eve l i t s e l f . Banks do not c rea te general condi t ions ,

but they must ad jus t themselves to changing condi t ions , which, in recent Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

- 2 0 - X - 3 2 6 ?

even t fu l months, have been brougjtit about by unseen and i r r e s i s t i b l e

fo rces throughout the world.

Early in September the re was much r e j o i c i n g throughout the Southern

S t a t e s because of the marked advance i n the p r i c e of co t ton . This advance

i s ntit due to any increase in the loans of the Federal Reserve Banks nor

to any expansion of the currency. -As a mat ter of f a c t the amount of

Federal Reserve no te s in c i r c u l a t i o n on September 15* when cot ton w&a

s e l l i n g a t about 21 cents a pound, was about $500,000,000 l e s s than when

cot ton was s e l l i n g a t 11 cen ts a pound e a r l y l a s t Spring. Tue advance

in t he p r i c e of co t ton was due t o economic causes and t o the opera t ion

of the i n e v i t a b l e law of supply and demand, Af t e r t he r epor t of the

Department of Agr icul ture ea r ly in September, t h e world awakened t o the

f a c t t h a t the present cot ton crop i s abnormally small , and i t was

thought a t one time tha t l e s s than seven mi l l i on b a l e s would be p r o -

duced. As the ginners* r e p o r t s were made, i t became ev iden t t h a t t h e

Department of Agr icul ture had under-est imated the s i z e of t h e p re sen t

crop of co t ton and the p r i c e declined f o u r or f i v e cen ts a pound.

This dec l ine took p lace notwi ths tanding the r educ t ion which was made

about the same time in the discount r a t e s of a l l Federal Reserve Banks,

inc luding those i n the South. The f a c t should be emphasized t h a t the

net advance which has t aken p lace in t h e p r i c e of co t ton has been due no».

t o c red i t or currency expansion but r a t h e r to the d e f l a t i o n of the a n t i c i -

pated supply of cot ton and t o the p r o b a b i l i t y of increased consumption.

There i s perhaps even g r e a t e r confvsi in the pub l i c *rrd r-C-

the i s sue of Federal Reserve no tes than the re i s regarding the red i scoun t -

ing func t i ons of the Federal Reserve Banks. There a re some who appear t o

have an impression tha t the Federal Reserve Board has power t o expand or


- 21 - X-3^67

c o n t r a c t the cur rency of the country a t w i l l and t h a t i t has exerc i sed i i i is

power i n a reck less and a r b i t r a r y manner. While the law p r e s c r i b e s tha t

the Federal Reserve Board s h a l l have the r i g h t , ac t ing through the Federal

Reserve Agent, to grant in whole or i n p a r t or to r e j e c t e n t i r e l y the

a p p l i c a t i o n of any Federal Reserve B^nk f o r Federal Reserve n o t e s , i t has

neve r , exe rc i sed t h i s r i g h t • On the con t r a ry , i t has always approved promptly

every a p p l i c a t i o n which has been made f o r the i s sue of Federa l Reserve notes*

One of the purposes of the Federal Reserve Act, as s t a t e d i n i t s cap t ion , i s

to f u r n i s h an e l a s t i c currency, but there are many whose idea of e l a s t i c i t y

i s continuous s t r e t c h i n g .

Currency to be r e a l l y e l a s t i c must be suscep t ib l e of expansion or the

reverse , as the needs of indus t ry and commerce may requi re * Many b e l i e v e

tha t there was a preordained con t r ac t i on of the currency dur ing the year 1920,

determined upon i n order t o reduce p r i c e s . The expansion of n e a r l y

$600,C00,CC0 Li Federal Reserve note c i r c u l a t i o n which a c t u a l l y too^ p .^ce

during tha t year shows tha t the impression i s abso lu t e ly unwarranted*

An increase or decrease in the volume of Federal Reserve notes outs tand-

ing i s not the r e s u l t of any preordained p o l i c y or premedi ta ted des ign , f o r

the volume of Federal Reserve notes in c i r c u l a t i o n depends e n t i r e l y upon the

a c t i v i t y of bus iness or upon the kind of a c t i v i t y which c a l l s f o r currency

ra the r than book c r e d i t s .

Federal Reserve notes c°n be issued only aga ins t c o l l a t e r a l in an

amount equal t o the sum of the Federal Reserve notes appl ied f o r , which

c o l l a t e r a l s ecu r i t y must be notes and b i l l s discounted or acquired by the

banks or gold or gold c e r t i f i c a t e s . The law re qui res each Federal Reserve

Bank to main ta in a reserve of 40 per cent i n gold aga in s t i t s Federal Reserve

notes in a c tua l c i r c u l a t i o n .


During the present yemr the loons of the Federal Reserve Banks to

t h e i r member banks have decreased by about $1,550,OOC,CCO tmd aa the notes

discounted with Federal Reserve B&nks have been paid off Federal Reserve

note currency has come back t o the Banks and in the absence of a demand

f o r i t , has not been reissued- Upon payment of commercial paper which

has been deposi ted to secure Federal Reserve notes , there neces sa r i l y

r e s u l t s e i t h e r an immediate re turn of an equivalent amount of notes to

the Bank or an automatic increase in the percentage of gold reserve, ava i l -

able f o r t h e i r redemption. Federal Reserve notes are not l ega l tender,

nor do they count as reserve money f o r member banks. They are issued only

as a need f o r them develops and as they become redundant in any l o c a l i t y

they are returned f o r c r e d i t or f o r redemption to the Federal Reserve Banks

or to the Treasury a t Washington. Thus, there can not be a t any time

more Federal Reserve notes in c i r c u l a t i o n than the needs of the country at

the p reva i l i ng level of p r ices and wages require , and as t h e demand abates

the volume of notes outstanding wi l l be correspondingly reduced through

redemption- The increased volume of Federal Reserve notes in c i r c u l a t i o n

from 1917 to the end of the year 1$20 was, i n so f a r as i t was not the

r e s u l t of d i r e c t exchanges f o r gold and gold c e r t i f i c a t e s , the e f f e c t of

advancing wages and p r i ce s and not t h e i r cause, j u s t as the reduct ion

which has taken place during the present year i s the r e s u l t of lower

p r i ces and smaller volume of bus iness , r a the r than t h e i r cause.

Under the Federal Reserve System, as business expands, as labor i s

more f u l l y employed and as production increases and d i s t r i b u t i o n becomes

more a c t i v e , there fol lows a demand f o r g r ea t e r discount accommodations

and a need f o r more currency, and the increased volume of discounts f u r * i

nishes a means of providing the increased volume of currency requ i red .


The Federal Reserve Banks hold today a gold reserve of about

$2,850,000,000 and a combined reserve agains t member banks ' depos i t s end

note issues of s l i g h t l y more t h m 73 per cent- Or i f the legal minimum

reserve of 35 per cent be s e t up against depos i t s , the re would remain a gold

reserve of s l i g h t l y more than 100 per cent agains t Federal Reserve notes

outs tanding.

For some months pas t there has been a marked easing i n domestic ra tes

of i n t e r e s t - Notwithstanding unfavorable f ea tu res in our revenue laws, the

investment market i s now absorbing s e c u r i t i e s a t reasonable r a t e s which

could not have been considered a few months ago. Market quotat ions of

Liberty Bonds have s t ead i ly advanced u n t i l they are now approaching pa r .

Good ra i l road and i n d u s t r i a l bonds have also appreciated and there have been

some no t iceab le advances in standard s tocks .

In h i s annual repor t j u s t sent to Congress, the Secretary of t he

Treasury remarks t h a t the advance in the p r i ce of Liber ty Bonds and Victory

Notes i s in p a r t a r e f l e c t i o n of e a s i e r c r e d i t condi t ions and lower i n t e r e s t

r a t e s , though increased buying on the par t of inves tors and b e t t e r d i s t r i b u -

t ion of the publ ic debt doubtless account f o r much of the improvement• High

commodity p r i ces and great business a c t i v i t y usua l ly mean, lower p r i c e s f o r

bonds and other s e c u r i t i e s y ie ld ing a f ixed income, while reduced commodity

p r i ces and lower money ra tes br ing higher market p r i c e s f o r bonds.

The quest ion i s o f t en asked - why in view of our enormous s tock of

gold -American bankers do not ava i l themselves of the opportuni ty of making

the United States the wor ld ' s banker . There is no ques t ion tha t our present

gold supply i s f a r beyond our domestic requirements, nor i s there any doubt

tha t a great st imulus would be given to our fo re ign trade were i t p r ac t i cab le

f o r American bankers to engage in world f inance i n a la rge way. Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis

x - 1 2 6 7 '

As high grade American s e c u r i t i e s y i e ld a lower income r a t e , the

a t t e n t i o n of i nves to r s w i l l he d i r e c t e d more toward European s e c u r i t i e s .

Investments in f o r e i g n p r o p e r t i e s and s e c u r i t i e s and long time loans abroad

w i l l improve fo r e ign exchange cond i t ions , bu t be fo re such investments or

loans w i l l be made in very l a rge volume i t w i l l be necessary to i n s p i r e Amer-

ican i n v e s t o r s with confidence i n the p o l i t i c a l and economic s t a b i l i t y of

Europe.

A succes s fu l outcome of the Conference f o r the L imi ta t ion of Armaments

should do much to i n s p i r e confidence in the p o l i t i c a l s t a b i l i t y of the

^ o r l d and when the Governments of the va r ious coun t r i e s in Europe balance

t h e i r budgets by l i m i t i n g the amount of t h e i r expendi tures to the revenues

rece ived from taxa t ion and other sources, and d i scon t inue the emission of

new i s s u e s of uncovered paper money, there should fo l low a r e s t o r a t i o n of

conf idence in the economic and f i n a n c i a l condi t ion of Europe, Judging from

our own h i s t o r y a f t e r the Civi l "far, many years w i l l doubt less e lapse before

some European c o u n t r i e s can r e s t o r e the normal value of t h e i r cu r r enc ie s , bu t

i f the v i o l e n t f l u c t u a t i o n s in exchange which have marked the p a s t two years

can be Prevented in f u t u r e and a s t a b i l i z a t i o n en some b a s i s accomplished, i t

w i l l be p o s s i b l e to engage in commercial and f i n a n c i a l t r a n s a c t i o n s with

Europe on a much l a r g e r sca le than a t p r e s e n t . I f we wish to s e l l our surplus

products abroad, i t i s evident t h a t we must cont inue to exchange commodities

with fo r e ign coun t r i e s , f o r where we s e l l we must buy, A cur ta i lment of p r o -

duct ion to meet merely American reouirements would involve wide-spread unem-

ployment and would i n v i t e d i s a s t e r . On the other hand, because of the great fo re ign

d e p r e c i a t i o n in the cu r renc ies of many/countries t h e i r l abor c o s t s are much

l e s s than ours and p a r t l y because of t h i s f a c t and p a r t l y because of the


- 25 » ' ' ^ x - 3 2 6 7

high premium on d o l l a r exchange, they are able to unde r se l l us in our own

markets. One of the great problems of our nat ional l e g i s l a t o r s today i s

to frame a t a r i f f which w i l l prevent the durrroing upon our markets of fore ign

-oods, without a t the same time e rec t ing a t a r i f f wall so hidh tha t our . ^

exports w i l l be great ly reduced because of the i n a b i l i t y of fo re ign na t ions

to t rade with us .

In conclusion, a word more may be added concerning the Federal Reserve

System, A Federal Beserve Bank i s what i t s name implies* I t i s a reserve

bank. I t holds on deposi t the e n t i r e l ega l reserve of i t s member banks# I t

i s not authorized by law to receive depos i t s from the publ ic , nor to lend

d i r e c t l y to ind iv idua ls , f i rms or corporat ions . I t can rediscount paper of

short matur i ty f o r member ban>s with t h e i r endorsement, tha t i s , no tes , dr^f•

and b i l l s of exchange issued or drawn f o r a g r i c u l t u r a l , i n d u s t r i a l or cornier

c i a l purposes, or the proceeds of which have been used or are to be used fo r

such purposes* Based in p a r t on the secur i ty of such paper, i t can put in

c i r c u l a t i o n Federal Reserve notes in s u f f i c i e n t volume to meet the r equ i r e -

ments of ordinary business t ransac t ions or of an acute emergency.

But the Federal Reserve System should not be expected to accomplish

the impossible. I t i s not a panacea f o r a l l economic and f i n a n c i a l i l l s and

i t cannot, however s k i l l f u l i t s adminis t ra t ion may be, prevent Periods of

degression in the f u t u r e , although i t can do much to modify them* Other

na t ions , such as Great B r i t a in and France, with t h e i r grea t cen t r a l banking

i n s t i t u t i o n s , have always had the i r years of p rosper i ty and the i r per iods of

depression, although they have been f r e e frem the money panicsywe^forrrerly

had in t h i s country as a r e s u l t of our inadequate banking system and which

we would, no doubt, have had In3 the most aggravated degree a year or so aeo


X-32b7

"but f o r the e f f i c i e n c y and s t a b i l i z i n g i n f l u e n c e of the Federa l Reserve

System.

There a r e wel l de f ined cyc les in "business* We have the s h o r t and

f r e q u e n t l y r e c u r r i n g cyc les i n c i d e n t to the changes of the seasons and a l l

h i s t o r y shows t h a t t he re a re longer swings or p e r i o d s of p r o s p e r i t y and

deg re s s ion , the r o t a t i o n be ing about as f o l l o w s : ( l ) Business a c t i v i t y and

i n c r e a s i n g p roduc t ion , (8) Excess ive ex-oansion and s p e c u l a t i o n , fo l lowed

h i t h e r t o by panic and f o r c e d l i q u i d a t i o n , (3) A long pe r i od of slow l i q u i d a -

t i o n , b u s i n e s s depress ion and s t agna t ion , and (4) Reviva l .

There a re many i n d i c a t i o n s t h a t the beginning of r e v i v a l i s not f a r

d i s t a n t * When i t does d e f i n i t e l y s e t in , i t w i l l be fo l lowed i n due course

by a new e r a of p r o s p e r i t y , ^ h i l e the l o s s e s du r ing the p a t t two years

have been g rea t much experience has been gained and whi le exper ience i s not

t r a n s f e r a b l e , except perhaps to a l i m i t e d e x t e n t , the p r e s e n t genera t ion of

b u s i n e s s men has seve ra l years of b u s i n e s s a c t i v i t y ahead of i t .

In the l i g h t of t h i s exper ience , we should remember, when we again en-f u l l

t e r i n t o a pe r iod o f / n r o s p e r i t y t h a t a r e a c t i o n w i l l f o l l o w sooner or l a t e r

and i f the f low of the incoming t i d e can be c o n t r o l l e d so t h a t the c r e s t may

n o t be reached too r a p i d l y nor r i s e too h igh , the subsequent r e a c t i o n w i l l

be l e s s severe and the nex t pe r iod of i n d u s t r i a l and commercial a c t i v i t y and

general p r o s p e r i t y w i l l be marked by saner methods, g r e a t e r achievement alon^

c o n s t r u c t i v e l i n e s and by a longer du ra t i on than any which we have had b e f o r e .

w e should n o t f o r g e t t h a t the ebb of the t i d e i s always equal to the f low and

t h a t the ebb i n the Bay of Fundy, where the t i d e r i s e s h i g h e s t , i s f a r g r ea t e r

than i n s a f e r ha rbo r s where the t i d a l f l u c t u a t i o n s a re more moderate*
