CONTENTS WITNESSES MARCH 25, 1969 Page William McChesney Martin, Jr., Chairman, Board of Governors, Federal Paul W. McCracken, Chairman, Council of Economic Advisers_ MARCH 26, 1969 Charls E. Walker, Under Secretary of the Treasury, accompanied by Duane Saunders, Special Assistant to the Secretary for Debt Management. 6 13 41 67 Jacob K. Javits, U.S. Senator from the State of New York. 81 Rex J. Morthland, representing the American Bankers Association, and president, Peoples Bank and Trust Co., Selma, Ala. 81 APRIL 1, 1969 Robert Eisner, professor, Department of Economics, Northwestern 97 Irwin Friend, professor, Wharton School of Finance, University of Pennsylvania 114 James J. O'Leary, executive vice president, U.S. Trust Co., New York, 119 Leif H. Olsen, senior vice president and economist, First National City 139, 146 Warren L. Smith, professor, Department of Economics, University of 151 ALPHABETICAL LIST OF WITNESSES Friend, Irwin, professor, Wharton School of Finance, University of Pennsylvania.... Eisner, Robert, professor, Department of Economics, Northwestern 97 114 Fauver, Clark, Director, Office of Federal Home Loan Bank operations.. 71 67 Leach, Ralph F., vice chairman of the board, Morgan Guaranty Trust Co. McCracken, Paul W., Chairman, Council of Economic Advisers.. Martin, William McChesney, Jr., Chairman, Board of Governors, Federal Morthland, Rex J., American Bankers Association_ 81 13 71, 79 6 81 119 Olsen, Leif H., senior vice president and economist, First National City 139, 146 Partee, J. T., Assistant Director of Research, Federal Reserve System. Saunders, Duane, Special Assistant for Debt Management, Treasury Department_ 6 41 Smith, Warren L., professor, Department of Economics, University of Walker, Charls E., Under Secretary of the Treasury-. MISCELLANEOUS DATA SUBMITTED FOR THE RECORD American Bankers Association, statement of Rex J. Morthland_. Charts: Assets and capital accounts of commercial banks in the United States.. Page 151 41 132 81 181 125 124 124 Disabled American Veterans, letter to Senator John Sparkman, from 195 Eddy, George A., prepared statement of 198 "Factors Affecting the Level of Interest Rates-part II," reprint of paper by Prof. Robert Eisner.__ _ 102 First National City Bank, New Jersey, statement of Leif H. Olsen, senior vice president... 139, 146 Morgan Guaranty Trust Co., statement of Ralph F. Leach, vice chairman of the board. Newsweek, articles reprinted from, entitled: "The Great U.S. Housing Shortage". 81 "The More It Costs, the More You Want". New York Times, article reprinted from, entitled "Investment Tax CreditPossible Suspension Sparks Advance in Spending on Plant and Equipment". Eleven major banks' percentage share of weekly reporting banks' selected assets and liabilities-recent periods of attrition in certificates of deposit. 194 Eleven major banks' percentage share of weekly reporting banks' selected assets and liabilities-recent periods of expansion in certificates of deposit. - 195 Net change in major balance sheet items for selected categories of banks, second half year, 1966–68--. 191 Net change in major balance sheet items for selected categories of banks, second quarter, 1966–68--- 190 Net change in major balance sheet items for weekly reporting banks.. 189 12 192 Sources and uses of funds by selected weekly reporting banks during periods of expansion in certificates of deposit. 193 United States Trust Co. of New York, statement of James J. O'Leary, executive vice president. 119 Wall Street Journal, article reprinted from, entitled "Business Indicate 46 HIGH INTEREST RATES TUESDAY, MARCH 25, 1969 U.S. SENATE, COMMITTEE ON BANKING AND CURRENCY, Washington, D.C. The committee met at 10 a.m. in room 5302, New Senate Office Building, Senator William Proxmire presiding. Present: Senators Proxmire, McIntyre, Hughes, Bennett, Percy, and Packwood. Senator PROXMIRE. The committee will come to order. Chairman Sparkman, unfortunately, has to be out of town until this afternoon, but other members of the committee have notified us that they will be here a little later. Chairman Sparkman had a statement, which I will place in the record at this point. STATEMENT OF SENATOR JOHN SPARKMAN, CHAIRMAN OF THE COMMITTEE "We commence hearings today on the subject of high interest rates and their impact on the economy. We hope to find what can be done to reduce interest rates to normal and more reasonable levels without adversely affecting the fight against inflation. The hearings will continue tomorrow and on April 1, so that the committee can receive testimony from both Government and private witnesses on this subject. We hope these hearings will suggest some real solutions to this problem. "I, as well as many other Senators, have been concerned for some time about our overheated economy and the corollary problem of the rising cost of money. In the last 18 months, the commercial bank prime interest rate has gone up by 134 percent-from 534 percent in May 1967 to 712 percent in March 1969. This means, of course, that the average small businessman, the small borrower-the American people-must pay an interest rate in excess of the prime rate, which is given only to the most credit worthy customers. "Any consideration of the cost of money cannot ignore the problem of inflation, and I would certainly be the last to propose a reduction of interest rates if it aggravated inflation. "I agree with the objectives of the Federal Reserve Board in attempting to reduce inflation. At the same time, I feel that it is absolutely necessary that we look at the methods employed by the Federal Reserve Board to determine whether they are the most effective means that can be used to achieve the desired objectives. (1) "Hopefully, the discussions that will be carried on in the next few days may suggest solutions to our problems." Senator PROXMIRE. I have a statement, which I will read. It is a little longer than usual, but will only take a few minutes. Today the Committee on Banking and Currency will hold hearings on the impact of high-interest rates on the economy. We are fortunate in having as our leadoff witness, Mr. William McChesney Martin, the Chairman of the Federal Reserve Board. As the chief architect of our monetary policy, Chairman Martin is in a good position to assess what impact the rapid rise in interest rates will have on our economy. While monetary policy is an esoteric and difficult subject, the meaning of high-interest rates is quite clear to the average home buyer. small businessman, or consumer. When a home buyer borrows $20,000 on a 30-year mortgage at 8 percent interest, he must pay nearly $33.000 in interest over the life of the mortgage. This is a tremendous burden for a young couple to be saddled with over the next 30 years. In many areas of the country home buyers are paying 8 percent or even more. In addition to the high cost of money, the availability of mortgage credit is also a serious problem. We all recall the disastrous credit crunch of 1966 when mortgage credit simply could not be had on any terms. Interest rates rose so high and so fast that thrift institutions were unable to obtain deposit inflows and were forced to bring their mortgage lending to a virtual halt. Governor Maisel of the Federal Reserve Board has estimated the housing sector accounted for about 70 percent of the drop in expenditures dictated by the 1966 tight money policy. When an industry comprising only 3 percent of GNP must take 70 percent of the cutback, something is wrong with the way monetary policy works. Today we are faced with a potential repetition of the 1966 credit crunch. If the Federal Reserve Board maintains the same policies it has thus far pursued, I do not see how we can avoid another disastrous year for the housing industry. Other borrowers highly dependent on credit are also likely to suffer, including small business firms and State and local governments. If the rapid rise in interest rates continues, funds may be once more siphoned away from thrift institutions and smaller banks. Today, many interest rates have hit all-time highs. The Treasury bill rate is 6.108 percent, up 62 basis points from last November; the rate on Treasury bonds is 6.06 percent, up 70 basis points; triple A corporate bonds are 6.75 percent, up 56 basis points and tax-exempt. municipals are at a record 5.30 percent, up 62 basis points. The commercial bank prime lending rate was raised three times since last December when it was 614 percent to an unprecedented 72 percent, up 125 basis points. The recent reports of the Kaiser and Douglas Commissions both highlight the importance of monetary policy in achieving the Nation's housing goals set forth by Congress in the 1968 Housing Act. Tight money not only frustrates the achievement of our total housing goals. but it hits low and moderate income housing the hardest. This can be shown by comparing the percentage change in new homes sold during the tight money year of 1966 with 1965. The sale of homes priced under $12,500 dropped 51 percent: homes priced between $12,500 and $15,000 dropped 42 percent; homes priced between $15,000 and $17,500 dropped 20 percent; but the sale of homes priced $30,000 or over actually rose 10 percent. Not only does tight money discriminate against housing, but within housing, it discriminates against the poor. Just as minority groups are the first to be laid off during a recession, so low-income housing is the first to be cut during a credit shortage. Another credit crunch will condemn thousands of low-income families to still another year of living in rat infested slum tenements. In theory, a tight money policy is supposed to cool down an overheated economy by raising the cost of credit, thus discouraging new investment financed through credit markets. In practice the corporatebusiness sector of the economy has been able to evade tight money and transfer the entire burden of adjustment to the housing sector. This would not be so bad if corporations had a shortage of plant and equipment, and housing were overbuilt. But in 1969, just the opposite is true. We are in the middle of an unsustainable investment boom while housing markets are extremely tight as evidenced by low vacancy rates and rising household formations. The main inflationary component of our economy is not housing, but rather corporate spending on plant and equipment and Government spending on military and public works. While other sectors have moderated inflation, business planned expenditures for plant and equipment have skyrocketed. A survey by the National Industrial Conference Board last October showed that corporations planned to increase their expenditures for plant and equipment in 1969 by 6.3 percent. Another survey by McGraw-Hill in October put the increase at 8 percent. Still another survey by the Department of Commerce and the Securities and Exchange Commission in November showed planned expenditures for plant and equipment rising by 9 percent in the first half of 1969. And the most recent Commerce-SEC survey of February shows a whopping 13.9 percent increase in planned business investment spending for 1969. In terms of dollars, this will add about $9 billion to final demand, or about as much as the surtax is taking out of the economy. There are several points which should be noted about this inflationary business investment boom: First, monetary policy has utterly failed to restrain corporate investment demand. During the period from November 1968 through February 1969 when monetary policy was tightening, corporations were more than doubling their planned percentage increase in investment spending. One reason for the increase in planned spending might be due to the expectation of even tighter credit conditions in the future. If this is true, a tight money policy is not merely ineffective, it is perverse. Second, the rampant increase in interest rates has no significant deterrent effect on corporate investment because the higher costs can always be passed on to the consumer. This in itself is inflationary. A recent article in the Wall Street Journal following the hike in the prime rate carried the following headline: "Businesses Indicate They Must, and Will Maintain Borrowing Pace Despite Price." Third, an increase in investment demand of the magnitude planned by corporations has serious repercussions on financial markets. Much |