FOMC Minutes

A meeting of the Federal Open Market Committee was held in

the offices of the Board of Governors of the Federal Reserve System

in Washington, D. C.,

PRESENT:

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

Mr.

on Tuesday, January 10, 1967, at 9:30 a.m.

Martin, Chairman

Brimmer

Clay

Daane

Hickman

Irons

Maisel

Mitchell

Robertson

Shepardson

Treiber, Alternate for Mr. Hayes

Wayne, Alternate for Mr. Bopp

Messrs. Scanlon, Francis, and Swan, Alternate

Members of the Federal Open Market Committee

Messrs. Ellis, Patterson, and Galusha, Presidents

of the Federal Reserve Banks of Boston, Atlanta,

and Minneapolis, respectively

Mr. Holland, Secretary

Mr. Sherman, Assistant Secretary

Mr. Kenyon, Assistant Secretary

Mr. Broida, Assistant Secretary

Mr. Molony, Assistant Secretary

Mr. Hackley, General Counsel

Mr. Brill, Economist

Messrs. Eastburn, Green, Koch, Mann, Partee,

Solomon, Tow, and Young, Associate Economists

Mr. Holmes, Manager, System Open Market Account

Mr. Coombs, Special Manager, System Open Market

Account

Mr. Fauver, Assistant to the Board of Governors

Mr. Williams, Adviser, Division of Research and

Statistics, Board of Governors

Messrs. Hersey and Reynolds, Advisers, Division

of International Finance, Board of Governors

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Mr. Axilrod, Associate Adviser, Division of

Research and Statistics, Board of Governors

Miss Eaton, General Assistant, Office of the

Secretary, Board of Governors

Mr. Hilkert, First Vice President, Federal

Reserve Bank of Philadelphia

Messrs. Eisenmenger, Link, Taylor, Baughman,

Jones, Andersen, and Craven, Vice Presidents

of the Federal Reserve Banks of Boston,

New York, Atlanta, Chicago, St. Louis,

St. Louis, and San Francisco, respectively

Messrs. Meek and Monhollon, Assistant Vice

Presidents of the Federal Reserve Banks

of New York and Richmond, respectively

Mr. Kareken, Consultant, Federal Reserve Bank

of Minneapolis

Chairman Martin said that at this, the first Committee meeting

of the new year, it might be well once again to offer a word of

caution to those in attendance in reminder that the discussions and

decisions of the Committee were confidential until officially made

public.

Upon motion duly made and seconded,

and by unanimous vote, the minutes of the

meeting of the Federal Open Market Committee

held on December 13, 1966, were approved.

Before this meeting there had been distributed to the members

of the Committee a report from the Special Manager of the System

Open Market Account on foreign exchange market conditions and on

Open Market Account and Treasury operations in foreign currencies

for the period December 13, 1966, through January 4, 1967, and a

supplemental report for January 5 through 9, 1967.

Copies of these

reports have been placed in the files of the Committee.

1/10/67

In comments supplementing the written reports, Mr. Coombs

said that the Treasury gold stock would remain unchanged this week.

Holdings of the Stabilization Fund were about $50 million, and at

the moment there were no sizable central bank orders in sight.

On the London gold market, however, serious trouble appeared to

be shaping up.

During 1966 the gold pool lost $300 million, leaving

resources at the end of the year of only $60 million.

In addition,

and this was not generally appreciated, during 1966 the U.S. sold

$150 million for domestic uses.

Thus, over the year the total drain

into market uses from official stocks was $450 million--a very large

figure and, as he had indicated at previous meetings, one that

threatened to grow in future years.

Toward the year-end, Mr. Coombs continued, a good deal of

gold had been bought for window-dressing purposes, some of which

might flow back; indeed, in the first few days of the year the gold

pool picked up about $11

events recently.

million.

But there had been two disturbing

One was the First National City Bank letter which

pointed up the deterioration in the supply-demand situation for gold

and concluded that all new production in 1966 had gone into private

hands, with none left for official stocks.

The true situation was

worse than that, but the publication of the National City Bank's

analysis had had a highly unsettling effect on the market, which

now was beginning to realize the underlying situation.

A second,

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and more disturbing, development was the French campaign 1/

which was now directed at raising doubts about the

official price of gold.

Of course, the French were well aware of

the nature of the supply-demand situation through their participation

in the London gold pool.

Their campaign moved into higher gear

last weekend with the French Finance Minister, Mr. Debre, calling

for multilateral consideration of the official price of gold.

His

statement was taken by the market as an official suggestion that the

price of gold should be increased.

Mr. Debre would meet with the

other Common Market Finance Ministers on January 16 and if past

experience was a guide the communique issued after that meeting

might well stir up still further speculation.

There had been very

heavy buying of gold in London today, and thus far the pool had

lost $9 million.

That situation could get worse.

There had been quite a bit of discussion of Mr. Debre's

press conference at the Basle meeting this past weekend, Mr. Coombs

continued,

2/

He hoped, however, that it would

be possible to get the cooperation of other central banks in devising

some sort of contingency plan for dealing with a possible breakout

1/ Part of a sentence has been deleted at this point for one of the

reasons cited in the preface. The deleted material was descriptive of

the "campaign" under discussion.

2/ Two sentences and part of a third have been deleted at this point

for one of the reasons cited in the preface. The deleted material

related to views expressed at the Basle meeting.

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1/10/67

of the London gold price.

As he had said many times before, he

thought that was the single most serious threat facing the U.S.

in the area of international finance, and it was more dangerous

today than it had been earlier.

On the exchange markets, Mr. Coombs reported, sterling

continued to be depressed by uncertainties with respect to both

short- and long-run prospects.

For each of the past three months

the British had managed to squeeze out some small reserve gainson the order of $40 or $50 million--but those gains were highly

inadequate in relation to the volume of their debts falling due

this year.

They owed well over $1 billion in short-term (6 - 9 month)

debt that had been on the books since last summer.

In addition,

they owed about $900 million to the International Monetary Fund,

on which the payment date was the end of November.

Thus, they had

over $2 billion to be paid off within about ten months.

Unless

they got a major swing in their favor they were not going to make

it, and their failure to do so could have very serious consequences

for the international payments system.

He hoped that in such an

eventuality the System would be able to protect itself, but much

of the answer lay in what the British themselves could do in the

way of policy to bring about a significant turnaround in the situation.

1/10/67

There was some hope for sterling

in a general easing of

international credit conditions, Mr. Coombs said.

The discount

rate reduction by the German Federal Bank had been helpful, and

it was quite possible that the Bank might cut the rate again during

the next few weeks.

More importantly, the Germans might reduce

their reserve requirements and thus bring about some easing in

their credit markets.

difficulties of last

The British took the position that their

summer were attributable largely to general

monetary tightness, and that argument undoubtedly had some merit.

If they now were to recoup the losses they incurred beginning last

fall they probably would have to maintain some competitive advantage

in interest rates and credit availability, in order to attract some

part of the funds from the U.S. and other countries flowing back

into the Euro-dollar market.

On balance, he thought it would be

to the advantage of the U.S. to have those

funds flow to Britain-

not only in permitting the British to pay off their loans on time,

but also because the safest place for the money to go that was being

returned to the Euro-dollar market by U.S. banks was to the U.K.

Regarding System swap operations, Mr. Coombs reported that

at present the System owed $85 million to the Bundesbank, $35 million

to the Netherlands Bank, and a total of $90 million to the Bank for

International

Settlements and the National Bank of Switzerland.

hoped that the debt in marks could be cleaned up in the next

few

He

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weeks; it had been incurred in connection with year-end pressures

which had already moderated.

Repayment of the Swiss franc debt

might be delayed somewhat because the Swiss took in a large volume

of dollars over the year-end both outright and in one-month swaps,

and the reversal of those reserve accruals had priority over

System acquisitions of francs as Switzerland moved into its seasonal

deficit.

There was a chance that repayment of the System drawings

would not begin until near the end of February, but he hoped for

some repayments in February and full liquidation by the end of

March.

That would mean that the System's Swiss franc borrowings

would be extended beyond the 6-month period usually thought of as

a limit, perhaps to 7-1/2 or 8 months, but he did not see much

possibility of accelerating repayment.

The Treasury might be asked

to issue a franc-denominated bond to the Swiss to permit more rapid

repayment, but in his judgment it would be better to save that

device for possible future needs.

to clean up the guilder debt.

It might prove more difficult

In part, the problem resulted from

the fact that the Dutch had no means of increasing their money

supply except by running a balance of payments surplus or by main

taining domestic money market conditions that pulled money in from

abroad.

This primitive monetary policy was an important factor in

the frequency of Federal Reserve drawings of Dutch guilders and

similarly tended to obstruct the repayment process.

To repay the

$35 million now outstanding, it might be well either for the U.S.

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to make a drawing on the IMF or for the Treasury to issue a

guilder bond to the Dutch.

Both possibilities were now under

consideration.

On the other side of the accounts, Mr. Coombs continued,

the BIS still owed the System $49 million of the $200 million they

had borrowed to deal with year-end window-dressing, and he thought

they would be able to liquidate that remaining debt within the next

week or two.

The Bank of England had paid off $100 million of its

drawings under the swap line with the System and he thought that

in using any reserve accruals they would give priority to repaying

their remaining debt.

The System swap line was the most important

source of credit the British had, and thus far they had been scrupu

lous in paying off their borrowings.

Unless some severe problems

arose over the next month or two--and that was conceivable, given

the pressures in the gold market--there was a reasonable chance

that their debt to the System would be liquidated within roughly

six months from the time it was incurred.

Mr. Brimmer noted that Mr. Coombs had said it might be

helpful to the U.S. if Britain maintained some differential in

interest rates.

Did that imply that the U.S. should not encourage

the Bank of England to lower their Bank rate?

Mr. Coombs replied that he thought the British would have

a difficult problem in working out the precise means for taking

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advantage of an easing of credit in international markets.

He

felt that it would be appropriate to offer a very general comment

to the effect that it might be desirable for them to maintain some

differential.

But it probably would be undesirable to suggest any

specific ways of doing so, since some delicate political questions

might well be involved.

Thereupon, upon motion duly made

and seconded, and by unanimous vote,

the System open market transactions in

foreign currencies during the period

December 13, 1966, through January 9,

1967, were approved, ratified, and

confirmed.

Mr. Coombs reported that the two swap arrangements with

the German Federal Bank--the original $250 million, six-month

arrangement and the $150 million, five-month arrangement negotiated

on a temporary basis in September--matured on February 9, 1967.

At the last Basle meeting President Blessing of the Bundesbank

indicated that they would be prepared to renew the temporary arrange

ment and to consolidate it with the original arrangement.

Mr. Coombs

recommended renewal of the combined arrangement with the German

Federal Bank, totaling $400 million, for a period of six months.

Renewal of the $400 million swap

arrangement with the German Federal

Bank for a period of six months was

approved.

Mr. Coombs then reported that the $100 million arrangement

with the Bank of France would come to the end of its three-month

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term on February 10, 1967.

That arrangement was inoperative, and

it was becoming somewhat anomalous in view of the French Government's

attitude, but he thought there was some advantage in continuing to

maintain it as a bridge to the future when the French might be

somewhat more amenable to international cooperation than they were

at the moment.

Accordingly, he recommended renewal of the arrange

ment.

Renewal of the $100 million swap

arrangement with the Bank of France

for a period of three months was

approved.

Mr. Coombs noted that several drawings under the swap lines

would reach maturity soon.

On January 25, 1967 two Swiss franc

drawings would mature--one for $25 million with the BIS and one for

$15

million with the Swiss National Bank.

If renewed, both would

be second renewals, thus extending their terms beyond the usual

six-month period.

As he had indicated earlier, he hoped that the

seasonal weakening of the franc in the spring months would enable

the System to clean up those drawings in February and March.

Mr. Shepardson expressed continuing reservations with regard

to the extension of swap drawings beyond a six-month period.

Chairman Martin observed that Mr. Shepardson's reservations

were well taken.

He thought, however, that the Committee could

approve second renewals since it was still operating on an experi

mental basis in this area.

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Renewal of the two Swiss franc

drawings was noted without objection.

Finally, Mr. Coombs noted that two drawings on the Netherlands

Bank would mature soon--a $10 million drawing on January 23, and a

$25 million drawing on February 7, 1967.

Both of those drawings

also had already been renewed once, but as he had mentioned earlier

the possibilities of cleaning them up either by going to the IMF

or by issuing a guilder bond to the Dutch were under consideration.

In his view the guilder bond might be the more satisfactory method

since the flows of funds to the Netherlands resulted from their

tight credit policies, and did not reflect a basic balance of payments

surplus.

But whatever the method used, he thought he could assure

the Committee that the System's guilder debt would be repaid within

a month or six weeks.

Mr. Shepardson expressed reservations about second renewals

of these drawings also.

Renewal of the two drawings

on the Netherlands Bank was noted

without objection.

Before this meeting there had been distributed to the members

of the Committee a report from the Manager of the System Open Market

Account covering open market operations in U.S. Government securities

and bankers' acceptances for the period December 13, 1966, through

January 4, 1967, and a supplemental report covering the period

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January 5 through 9, 1967.

Copies of both reports have been

placed in the files of the Committee.

In supplementation of the written reports, Mr. Holmes

commented as

follows:

Since the Committee last met the capital markets

have turned in a strong performance in a buoyant

atmosphere, bank credit has showed renewed strength,

and the money market has weathered the stresses and

strains of the tax and year-end statement dates with

out undue problems. In general, bank credit expansion

moved ahead more rapidly and market interest rates

declined further than had been anticipated at the time

of the last meeting without a need to push net borrowed

reserves to zero or the Federal funds rate to 5 per

cent or below. And with market rates moving lower,

banks were able to add to their outstanding CD's in

December in contrast to the $700 million-$l billion

decline anticipated a month ago.

Market expectations--shaped by additional evidence

of less restraint in monetary policy, by weakness in

some economic indicators, and to some extent, by develop

ments in Vietnam--in effect succeeded in changing the

relationships among the short-run monetary variables

with which we are most concerned in our day-to-day

operations. As the various written reports to the

Committee have indicated, much of the rise in bank credit

can be traced to increased borrowing by dealers to finance

their substantial inventories of securities and to in

creases in bank portfolios of Government and municipal

securities, Dealer financing needs have exerted pressure

on the money market, but with the major New York City

banks maintaining their dealer loan rates at high levels,

there has been some restraint recently on dealers'

willingness to add to their holdings. I would not now

characterize dealer positions as being dangerously

over-extended, but they could become a source of market

pressure if the anticipated flow of corporate and public

fund money to the market and continued bank demand fail

to materialize at a time when there is little seasonal

need for the System to supply reserves.

Open market operations, as the written reports to

the Committee have detailed, were frequent and large, as

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they usually are in December, and were complicated more

than usually by the tendency for reserves to fall short

of expectations, by the shift in market expectations,

and by year-end developments involving international

money flows. Outright purchases of Government securities

approached $1 billion, and very heavy use was made of

repurchase agreements against Government and agency

securities over the period. Over $4 billion in repurchase

agreements were made, with the average daily balance

amounting to $575 million.

Repurchase agreements were a particularly useful

tool during this period in view of the many uncertainties

in the reserve picture. They enabled the System to make

heavy injections of reserves in order to head off money

market tightness on individual days, when it seemed

likely that the operation would have to be shortly

reversed. With dealer financing needs a source of

recurrent pressure in the money markets, the repurchase

agreement was a natural instrument for injecting reserves

at the point of greatest need. A comparable volume of

outright purchases and sales of securities would

undoubtedly have subjected the markets to a series of

unnecessary shocks and could have had unpredictable

effects on interest rates during a difficult period.

Moreover, we learned early in the period that very sizable

sales of Treasury bills by foreign monetary authorities

would be involved at the year-end in regular and special

debt repayments to the United States. Although the

precise amounts and the timing were not clear at that

early date, it appeared advisable to conduct operations

in such a way as to leave open an option for the System

to acquire at least part of these bills, rather than be

forced to sell as much as $1/2 billion or more Treasury

bills in the market at the very end of the year. Quite

obviously the nonbank Government securities dealers

welcomed the opportunity to sell securities to the System

under repurchase agreements made at the discount rate,

but we did not consider it wise to give out a signal that

could easily have been misinterpreted in the market by

raising the rate at this particular time.

Rates on three- and six-month Treasury bills declined

about 1/4 per cent over the interval, with some tendency

for rates to level off at the end of the period. In

yesterday's regular weekly Treasury bill auction, average

rates of 4.82 and 4.89 per cent, respectively, were set

1/10/67

on the three- and six-month bills. Rates on bankers'

acceptances, commercial paper, and FNMA discount notes

also moved lower over the period. Yields on intermediate

and long-term Treasury obligations declined by 20 to 50

basis points, and by the close of the period yields in

the 3- to 5-year area were 1 - 1-1/2 percentage points

below their August peaks, while long-term bond yields

were about back to where they were at the time of the

December 1965 discount rate change. Despite the build-up

of the calendar of new issues, the corporate and municipal

markets have maintained a confident tone.

The $250

million A.T. & T. issue, which is up for bidding this

morning, was expected last night to be reoffered at

about 5-3/8 - 5-1/2 per cent, compared with a 5.83 yield

in the last Aaa telephone issue brought to market on

December 6. The new FNMA 5, 10, and 15-year participation

certificates--brought to market at a uniform 5.20 per

cent--received an excellent reception. The 15-year

issue rose to a premium of as much as 20/32 bid, until

late yesterday when the price dropped 1/2 point reflecting

market rumors of an early Export-Import Bank participation

certificate announcement.

The next few weeks are apt to be a testing period

in the market for the pattern of interest rate relation

ships and financial flows that have been emerging since

monetary policy entered a phase of less restraint. It

will also be a period in which the markets will be

assessing the implications of the various Presidential

messages for the monetary-fiscal policy mix in 1967, and

will be reassessing the economic outlook as each new

bit of information becomes available. As the blue book1/

indicates, monetary expansion is expected to be vigorous

in January, but there are at least the usual number of

uncertainties in the picture. The Treasury will be

announcing in about two weeks the terms of its February

refunding, and the usual "even keel" considerations will

come into play in the latter part of the interval before

the Committee meets again.

In response to a question by Mr. Mitchell, Mr. Holmes said

that he thought that dealers' positions were not dangerously

1/ The report, "Money Market and Reserve Relationships,"

prepared for the Committee by the Board's staff.

1/10/67

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overextended partly because they were not unusually large relative

to other recent years; for example, dealer financing needs

currently were only about 10 per cent larger than they had been

two years ago.

Dealers with whom the Desk had talked appeared

confident of the market.

They were concerned about the high level

of marginal borrowing costs at New York banks, but were willing

to incur some negative carry in the expectation that they would

make out quite well.

Their holdings of coupon issues had not

expanded substantially, which was rather surprising in view of

the change in expectations.

Dealer financing needs had been a

source of money market pressure recently, as he had noted, and

they could pose a problem if the flows anticipated this month did

not take place.

In reply to another question by Mr. Mitchell, Mr. Holmes

said that the volume of System repurchase agreements with dealers

had been quite high recently, but it usually was high in December.

In December 1966 the System had financed about 12 per cent of

dealer positions in Governments, compared to 7 per cent in

December 1965 and 10 per cent in December 1964.

Thus, the Desk

had been doing a bit more through RP's recently than in earlier

years, but not markedly more.

Mr. Mitchell then referred to Mr. Holmes' comment that it

had been considered unwise to raise the rate charged on RP's in

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the recent period on the ground that such a signal could be easily

misconstrued in the market.

He asked whether the same situation

would hold in the coming period.

Mr. Holmes replied that RP's were not likely to be made in

large volume in the coming weeks of January, when the Desk probably

would not be supplying reserves.

He thought that a higher rate on

RP's could be adequately explained to dealers.

Mr. Brimmer asked whether debt management activity was

likely to interfere with achievement of Committee objectives over

the next month or two, apart from sales of participation certificates

and agency issues.

There had been reports to the effect that as

monetary conditions eased the Treasury would tend increasingly to

step into the market with the objective of achieving some lengthening

of the debt.

In particular, did the Manager expect that the February

refunding would impose a greater burden on the market than had been

anticipated?

Mr. Holmes replied that it was obvious, given the 4-1/4

per cent interest rate ceiling on new bond issues, that the Treasury

would not be offering a maturity beyond 5 years in the February

refunding.

Thinking had not yet focused on the terms of the refund

ing, and probably would not until the end of January approached.

It was possible that the Treasury might make a split offering,

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involving a short-term security and one with a maturity in the

neighborhood of 4 or 5 years, but no decision had been reached.

Mr. Hickman asked whether the Committee was not relatively

free of an even keel restraint, at least for the first part of the

coming period, in view of the facts that the refunding involved

less than $4 billion in publicly-held maturing issues and that

its terms were not to be announced until near the end of January.

Mr. Holmes replied that he thought the refunding would

not be an especially difficult one, and accordingly that it should

not constrain the Committee from changing policy today if it was

inclined to do so.

In reply to a question by Mr. Swan, Mr. Holmes said that

the next Treasury financing after the forthcoming refunding was

likely to be a cash offering for payment in the second half of

February.

Thereupon, upon motion duly made

and seconded, and by unanimous vote,

the open market transactions in Govern

ment securities and bankers' acceptances

during the period December 13, 1966,

through January 9, 1967, were approved,

ratified, and confirmed.

Chairman Martin then called for the staff economic and

financial reports, supplementing the written reports that had been

distributed prior to the meeting, copies of which have been placed

in the files of the Committee.

Mr. Koch made the following statement on economic conditions:

The new information on domestic nonfinancial develop

ments that has become available since our last meeting

confirms the deceleration in the pace of the economic

expansion. The staff now estimates an increase of only

$7 billion in the GNP in the current quarter, despite

the fact that the fourth-quarter 1966 increase has been

raised to over $14 billion.

The most disturbing aspect of recent economic

developments is the sharply increased extent to which

production is going into inventories. Business inventory

accumulation has apparently been even greater than assumed

earlier and final takings smaller. Christmas sales were

generally disappointing to retailers and the rise of

consumer expenditures in the fourth quarter as a whole

was relatively small. To lagging sales of autos and

construction materials has been added less strength in

furniture, appliances, textiles, and other goods.

As for prices, recent developments have been mixed,

as indicated in the green book,1/ but the net result has

been a slowdown in the rate of rise of the broad price

indices. In the new year, prospects are for further

advances, but at a slower pace.

The future course of consumption and of the whole

economy for that matter will depend importantly on

developments in the three main areas of more or less

exogenous spending, namely, business outlays on plant

and equipment and on inventories and defense spending.

This is particularly true since consumption has been high

relative to income for several quarters.

We have no additional direct information today on

business fixed expenditures, but the data on new orders

for durable goods support the finding of the November

Commerce-SEC survey, namely, that the rise is decelerating.

New orders were down in both October and November, in part

due to lower defense orders. The level of new orders in

November was the lowest in a year and the backlog of

outstanding orders declined for the first time in three

years. The National Association of Purchasing Agents

1/ The report, "Current Economic and Financial Conditions,"

prepared for the Committee by the Board's staff.

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also states that the number of its members reporting

improved new orders and higher production in December

was the smallest since the 1960-61 recession.

Definitive information on the Federal budget and

defense spending is still not available, but the informa

tion from the Daily Treasury Statement on recent months'

spending confirms staff projections of a tapering off

in the rate of increase of defense outlays beginning

last quarter. But, despite a tapering off in the rate

of defense spending and even if a tax increase is enacted,

the Federal budget deficit for both this fiscal year

and next is likely to be large. Of particular relevance

to economic developments, though, is the fact that part

of the deficit for the next few quarters at least is

likely to be a passive reflection of a reduced rate of

growth in tax revenues resulting from the projected

slowdown in the economic expansion rather than of increased

spending. We shall learn more about the fiscal picture

shortly in the State of the Union and Budget messages.

Since business inventory developments are a key

factor in the likely course of the economy in the near

term future, let me turn back to them for a second and

closer look.

I mentioned earlier that recent inventory accumulation

had been larger than anticipated earlier. Despite better

accounting controls and higher financing costs, stock-sales

ratios have been on a sharp rise since early 1966,

particularly in the durable goods manufacturing industries.

The rise in stocks has been largest in work-in-process

in the areas of consumer durable goods, defense goods,

and machinery and equipment.

What does this mean for the likely future course of

inventories in particular and of the total economy in

general? As for consumer durable goods, the recent rise

in stocks has been in household durables as well as in

autos. Production has already been cut back in many of

these lines, in autos to approximately the 8-million-car

current annual rate of sales. In the defense area, the

rise in new orders dropped off rather sharply in October

and November, and, with output of defense equipment now

rising much less rapidly than earlier in 1966, defense

work-in-process stocks may also be rising less rapidly

from now on, particularly if some production bottlenecks

are broken. Finally, in the area of machinery and

equipment, the tapering off of the plant and equipment

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investment boom should mean a pronounced deceleration

in the rise of stocks in these industries in coming

months, even though the order backlog in this area is

still large.

All this tends to confirm the staff estimate of a

sharp fall-off in business inventory building in the

current quarter, perhaps by $5 billion or more. Even

such a drop is not likely to lower stock-sales ratios

and as a result pressure for further curtailment of

additions to inventories is apt to continue.

A sharp decline in inventory accumulation would in

and of itself create another pause in the economic expan

sion similar to those we have experienced several times

since World War II.

This is a common economic forecast

for the first half of 1967.

It is shared by some

Administration economists and by most of our staff.

The inventory deceleration will reduce market

demands and put to a test the underlying strength of

business capital spending programs, that is, the extent

to which such programs are supported by longer-run as

contrasted with short-run market prospects. The rate

of increase in business capital spending is already

decelerating, and if such spending actually begins to

decline we shall have a situation calling for major

policy alterations.

In the meantime, though, even the

near-term prospects for moderately reduced economic

growth call for a continuation of the gradual process

of overt monetary easing on which the Committee embarked

two meetings ago.

Mr. Axilrod made the following statement concerning financial

developments:

The policy of reduced monetary restraint initiated

by this Committee in the fall appears to be gradually

taking hold in financial markets.

This is evidenced

mainly by the increased flow of time deposit funds to

banks, including negotiable CD money to large banks,

and also by the more comfortable position of nonbank

savings institutions. It is also seen in the further

declines of market interest rates, both short- and

long-term, during the past several weeks.

But in many ways the impact of the new policy on

markets and the economy is not yet fully secure.

1/10/67

-21-

For one, the substantial rise in the money supply

its recent mid-November low point appears to have

in large part a short-run response to a decline in

Government deposits. We have not yet had evidence

at current levels of interest rates the privately

money stock is capable of sustained moderate growthat a rate much above the 2 per cent of 1966.

For a second, the lending policies of banks and

other financial institutions do not yet appear to have

altered definitively toward less restraint.

Some probing

in that direction is probably in train, but our contacts

with banks in recent weeks suggest that a wait-and-see

attitude still predominates.

And for a third, the recent interest rate declines

were in part based on expectations--expectations not

only that monetary policy was easing but that domestic

business expansion was weakening and that fiscal policy

would in one way or another not be a very massive

expansionary force in the period ahead. I would not rule

out the possibility that interest rates could rise, at

least temporarily, over the weeks ahead. On the other

hand, if expectations of business weakening prove correct,

even current interest rate levels may turn out to be too

high to provide the needed encouragement to economic

demand.

While one's view as to the likely strength of demands

for goods and services is fundamental to one's appraisal

of the appropriateness of current interest rate levels,

the condition of lending institutions is also a highly

relevant factor. The stringency that developed in these

institutions along with the 40-year record market interest

rates of last year resulted in a marked further erosion

of their liquidity positions. For commercial banks this

is most dramatically illustrated by the rise last year

in loan-deposit ratios (with dealer loans excluded) at

New York City banks from around 70 per cent to 80 per

cent. The adverse experience of such banks, savings

and loan associations, and life insurance companies

suggests that a significant relaxation of lending policies

depends in good part on at least a partial restoration of

their liquidity positions. And for both of those

developments to proximate each other in time might require

not only clearer signals as to prospective economic and

fiscal events but also clearer signals from the monetary

authority as might be indicated by some further reduction

from

been

U.S.

that

held

say,

1/10/67

-22-

in interest rates--or, at a minimum, efforts to forestall

any reversal of the recent interest rate declines.

The need to encourage a relatively prompt relaxation

of lending standards at financial institutions is based

in part on the nature of the economic imbalances that at

the moment appear to be developing. A principal danger

to the economy, as Mr. Koch has pointed out, seems to

come from a probable relatively sharp decrease in inven

tory accumulation over the period ahead. While some

inventory readjustment appears to be unavoidable, its

speed and scope might be modified somewhat if banks

were more accommodative of business loans. The inventory

adjustment might also be tempered if consumer spending

on goods, both durable and nondurable, could be relatively

well maintained; and given the University of Michigan

consumer survey evaluation that consumers are gloomy,

but not outright pessimists, an easing of bank lending

terms on loans directly to consumers and indirectly

through finance companies might just make additional

spending attractive or possible for some of the less

dour consumers.

Construction and home-building is, of course, the

area which might be encouraged to provide most of the

offset to any developing weakness in other economic

sectors; and it is an area which has traditionally--and

very recently--been quite responsive to changes in the

financial environment. Recent monetary policy actions

appear to have stopped the deterioration in mortgage

markets, and set in motion forces--such as the renewed

flow of savings funds to nonbank institutions--which

should eventually yield an actual easing of conditions.

This will depend on a continued good experience for

savings and loan associations. But, if a prompter

reversal of present market tightness is desired, it

will depend on further declines in long-term market

interest rates so as to increase the relative attrac

tiveness of mortgages to other financial institutions

such as banks and insurance companies.

It would appear that the easing of lending terms and

conditions that major financial institutions seem to be

approaching could be made more secure, and probably

usefully hastened, if open market operations were conducted

in such a way as to sustain continued bank reserve growth

and to risk a temporarily rather rapid expansion. In

this context, it may be desirable to attain a somewhat

1/10/67

-23-

lower Federal funds rate and a lower level of member

bank borrowings than has prevailed on average in recent

weeks--perhaps even a level of borrowings that would

bring the net reserve position of banks close to zero

and the Federal funds rate to around 5 per cent. If

that were done, it is possible, but by no means certain,

that the resulting expansion of reserves would be

fairly rapid on average. But such an expansion would

be desirable during the turn-around phase of monetary

policy in the degree that it permits a decline of

interest rates, a restoration of bank liquidity, and

some relaxation of bank lending standards ahead of,

rather than merely in reaction to, a reduction in loan

demands.

It is, however, particularly difficult to anticipate

and quantify the interrelations among aggregate reserves,

marginal reserve measures, and interest rates in the

period ahead--given the diversity of economic forecasts

and pressures and the unknown credit market reaction to

tonight's State of the Union message and the forthcoming

Federal budget. It is not difficult to conceive, for

example, of upward bill rate pressures if dealers were

to run from their current extended bill positions. On

the other hand, it is also not difficult to envision

circumstances--such as worsening business news--which

might even make it desirable for open market operations

at some stage to be conducted so as to give more direct

encouragement to the flow of funds in long-term markets

by including significant purchases of intermediate- or

The slackening of the invest

longer-term coupon issues.

ment boom appears to indicate that this winter's burst

of corporate security issues is likely to fade in the

spring; as a result, investor funds might be relatively

quickly channeled to the mortgage market once it became

clear that interest rates on other long-term securities

would be substantially reduced. I put forth the suggestion

for System purchases of coupon issues with some tentative

ness, but as indicative of the kind of flexibility in

approach that monetary policy might wish to keep in

reserve as some of the current uncertainties are resolved.

Mr. Mitchell asked which, if any, of the alternative draft

directives submitted by the staff 1 / Mr. Axilrod thought was

consistent with the policy course he was recommending.

1/

Appended to these minutes as Attachment A.

1/10/67

-24

Mr. Axilrod replied that alternative B could be consistent

with the course he recommended, depending on the interpretation the

Committee placed on the phrase, "somewhat easier conditions in the

money market."

Mr. Brimmer commented that by adopting alternative B the

Committee would not necessarily be implying that it wanted to go

as far as Mr. Axilrod recommended, and the latter agreed.

Mr. Daane referred to Mr. Axilrod's comments about possible

System purchases of coupon issues, and asked whether he thought

that present conditions were parallel to those in the latter part

of 1961 when "operation twist" was begun.

Mr. Axilrod replied that he had not had such a parallel in

mind.

In the 1961 period the U.S. balance of payments was an

important factor in the decision to begin purchases of coupon issues.

While balance of payments considerations might again be relevant

to the question, he had been addressing himself to the fact that

it might be desirable to get a more rapid reversal of conditions

in the mortgage market, and he had thought of open market operations

in coupon issues as a possible means of reducing the typically

long leads and lags in that area.

Mr. Wayne commented that the policy course Mr. Axilrod had

recommended seemed to him to be more closely represented by

alternative C of the draft directives than by alternative B.

-25

1/10/67

Mr. Axilrod remarked that such a policy could be consistent

with either of those alternatives, depending on what interpretations

the Committee placed on their language.

The problem he had seen

with alternative C was that it called for "expansion in bank credit

at a moderate rate," and under the course he recommended the expan

sion rate in the short run probably would be quite rapid.

But

that alternative might be taken as consistent with his policy

recommendation if the Committee interpreted the word "moderate" as

applying to the longer run, and was prepared to tolerate a rapid

short-run expansion as banks acted to improve their liquidity

positions.

Mr. Swan observed that, as he had interpreted the analysis

in the blue book, a shift to somewhat greater ease might well mean

more rapid bank credit expansion over the longer run but at the

same time it might have little effect on the January growth rate.

Mr. Axilrod said his interpretation of the blue book

discussion was that a move toward further ease at this meeting

might result in bank credit expansion on average in January at an

annual rate higher than the 7 - 9 per cent projected under unchanged

money market conditions, as banks seized the opportunity to capture

CD money and to restore their liquidity positions, but that the

growth rate in the following months of the winter would be lower.

-26

1/10/67

Mr. Maisel asked whether the matter might not be clarified

by concentrating on expected future developments rather than on

what had already happened.

As he understood it, much of the expan

sion included in the projection of a 7 - 9 per cent growth rate

on average in January reflected strength in the latter part of

December, rather than expected strength in the weeks ahead.

Mr. Axilrod agreed.

He noted that the blue book projected

a 4 - 6 per cent growth rate between the end of December and the

end of January, and that it implied no strengthening in February.

Mr. Maisel asked whether it was not also expected that

over the period from this meeting to the next bank credit would

grow at a rather low rate.

In reply, Mr. Axilrod said that that would be his guess.

Mr. Reynolds then presented the following statement on the

balance of payments and related matters:

In the fourth quarter of 1966, two new tendencies

appeared in U.S. international transactions. The trade

surplus began to improve. And the capital accounts

began to deteriorate. Both tendencies had been expected,

though perhaps not so soon.

In anticipating these tendencies, all of us have

felt concern about the possibility that the trade im

provement might come more slowly than the capital account

deterioration, so that the over-all position would get

worse before it got better. We have also felt concern

that even over the longer span of a year or more, the

payments position might not show any significant

improvement.

Recent events offer no comfort on either score, but

neither do they add to the gloom. The fact that the

1/10/67

capital account deterioration outweighed the trade

improvement between the third and fourth quarters seems

to have resulted so much from special and erratic

influences that it tells us little that is new about

future prospects.

The only recent changes in capital flows that we

can yet identify relate to U.S. bank credit and to U.S.

liabilities to the Euro-dollar market. The renewed

moderate outflow of bank credit in October-November

probably did not reflect much change in the lending

attitudes of U.S. banks. Instead, it seems likely to

have resulted from more active foreign use of existing

lines of credit, perhaps because of year-end stringencies,

and some bunching of term-loan disbursements without

significant change in the rate of new commitments. One

would expect that large U.S. banks, as their reserve and

liquidity positions ease, would begin to make foreign

loans more readily at about the same time that they ease

their domestic lending. But the October-November out

flows seem to have come too soon to be related to any

such general change.

The leveling off and subsequent decline of U.S.

banks' liabilities to their foreign branches since mid

November is more likely to have reflected the first

effects of reduced tightness in domestic financial markets

But year-end influences play such

and in bank positions.

a large role in these flows that we cannot yet judge

whether the repayments to the Euro-dollar market came

mainly at U.S. initiative or instead reflected mainly

year-end difficulties in attracting wanted funds. Hence

in this case, too, the recent experience provides little

It does seem

guide to the magnitude of future flows.

likely, however, that given the large banks' preoccupation

with their liquidity positions, they will want to make

further repayments to the Euro-dollar market before giving

the green light to their loan officers.

These available data on fourth-quarter capital flows

by no means explain what happened in that quarter. There

must also have been a substantial deterioration on other

items. One can only guess at the possibilities. Direct

investment outflows, having fallen below the expected

yearly average in the third quarter, may have increased in

There may well have been a reversal in the

the fourth.

errors and omissions item, which had turned unusually

favorable in the third quarter, presumably reflecting

unrecorded capital inflows generated by the sterling crisis

1/10/67

and by the extreme tightness of credit here during the

summer. There could also have been some further

deterioration in military and service transactions, but

these transactions as a group do not often show large

quarterly changes.

The improvement in the trade balance from the third

quarter to October-November is a good deal easier to

interpret than the changes on capital account; it probably

represented the beginning of a new trend that will continue

through at least several calendar quarters. Merchandise

imports in October-November were little higher than in the

third quarter. Imports of materials, which account for

about two-fifths of the total, actually declined, even

though within that category steel imports remained at

record highs. Imports of materials tend to fluctuate like

domestic production of materials, but with wider cyclical

amplitude. If GNP develops as projected in the first

half of 1967, with a sharp reduction in the rate of

inventory accumulation and some decline in production of

materials, there is likely to be a substantial decline in

imports of materials.

Imports of capital equipment increased further in

October-November, but they should level off soon if the

domestic projections of a leveling off in business spending

and an easing of capacity pressures are fulfilled. Thus,

even if imports of some consumer goods continue buoyant,

I would not expect total merchandise imports to increase

appreciably in the months ahead.

Exports, meanwhile, should continue to advance. The

pace will probably slow down from the 13 per cent annual

rate registered from the third quarter to October-November.

There were temporary elements in that advance, and there

may be some weakening in Canadian demand for U.S. products.

Demand has also been weakening in Britain and Germany, but

our exports to those countries have already declined and

may not fall much further.

With shipments still rising to most other countries,

the rate of growth in total U.S. exports ought not to fall

below, say, an 8 per cent annual rate over the months

ahead. This rate, with imports level, would raise the

annual rate of trade surplus from about $3-1/2 billion in

the low second half of 1966 to perhaps $5 billion or so

in the first half of 1967.

Since net outflows of capital (excluding foreign

liquid funds) may increase by a roughly offsetting amount

1/10/67

-29-

between these two half-years, the liquidity balance seems

likely to remain above a $2 billion annual rate. In

addition, there will probably be outflows of foreign

liquid funds. So the official settlements deficit also

will probably exceed a $2 billion rate, in marked contrast

to the exceptional surplus registered during the half-year

just ended.

These guesses, as I suggested earlier, are not signifi

cantly different from those of a month ago. What, if

anything, do they imply for monetary policy, when taken

together with domestic prospects?

My answer is the same one that Mr. Hersey gave you

at the last meeting. I can see no way in which monetary

policy actions can improve the near-term payments outlookgloomy though it is--without jeopardizing the longer-term

outlook. If for balance of payments reasons, monetary

policy should seek to minimize capital outflows by denying

an easing that domestic conditions seemed to require,

the resultant further weakening of the domestic economy

would be likely eventually to have adverse repercussions

on activity abroad and hence on U.S. exports. In

particular, if we should hesitate to ease as economic

activity slackens, Britain would have to hesitate also,

and the German authorities too might move more slowly

than seems desirable. These three countries together have

a decisive influence on the world economic climate.

It remains essential, of course, to minimize domestic

inflation of prices and costs, since these are the

touchstone of the longer-run payments adjustment. But

within that constraint, the objective of working toward

long-run equilibrium in international payments is probably

best served at this time by policies aimed at the domestic

objective of sustaining growth.

Chairman Martin then called for the go-around of comments

and views on economic conditions and monetary policy, beginning with

Mr. Treiber, who made the following statement:

As we enter a new year it should be helpful to look

back over the old year and see how successful we have

been as a nation in attaining our broad national economic

goals of: (1) maximum sustainable growth, (2) reasonable

price stability, (3) maximum practicable employment, and

(4) equilibrium in international payments.

1/10/67

-30-

We have done best on the employment goal. Indeed,

there have been many shortages of skilled labor, and even

of unskilled labor in a number of places. Economic growth

was high in 1966 but the high rate was not sustainable.

After several years of relative price stability, 1966 was

marked by upward price pressures, and as the year ended,

further price increases appeared in prospect. A severe

balance-of-payments problem has become even more acute.

The combination of strong private demand and an

additional stimulus from Federal fiscal policy put heavy,

indeed excessive, pressure on our resources of men and

equipment. Not only did the boom bring price increases

at home, but it also contributed to a deterioration of

our international trade surplus. Monetary policy was left

with too much of the burden of fighting inflation. Money

was tighter than it had been in decades.

As the year-end approached, the hectic pace of busi

ness and credit expansion subsided, interest rates declined

from their peaks, and there was some relaxation in the

severe credit pressures of the summer.

How about 1967? Some forecasters see a business slow

down or recession in 1967. Housing is in a slump, the

capital boom is moderating, and consumers appear more

hesitant. But the question is basically whether we are

in a pause, or about to take a definite and cumulative

turn downward. The growth in business spending for fixed

investment and for inventories will doubtless be slower

in 1967. On the other hand, we may expect a revival in

residential construction. In any analysis of the economic

outlook defense spending is a vital factor; indeed it is

now a major factor. Although we will have to wait a week

or so before we see the President's budget message it i,

reasonable to assume that in the coming year there wil1

be a substantial increase in such expenditures over last

year. With continued over-all investment demand and high

Government spending, a continued uptrend in consumer

spending seems likely. It seems to us, on balance, that

in 1967 as a whole an excessive expansion in demand is

a greater danger than recession. In this connection, I

note that the staff's analysis concentrated on the early

part of the year.

Although food prices have declined recently, the

consumer has seen a persistent rise in the prices of

nonfood commodities and especially of services. Labor cost

per unit of output has been rising, and despite the relative

stability of wholesale prices during the last couple of

1/10/67

months, a cost-price push seems likely. The demands of

organized labor are likely to be high, and there are

likely to be greater pressures on corporate profits.

Our balance-of-payments record for 1966 is again

discouraging. The deficit on a liquidity basis is likely

to be well over $1-1/2 billion, compared with $1.3 billion

in 1965.

Had it not been for special transactions which

were more than twice as great in 1966 as in 1965, the 1966

deficit would have exceeded $3 billion. Every effort

should be made to improve our trade balance. A determined

effort to check inflation at home is essential to keep

our exports competitive and to dampen the high demand for

imports. It is difficult to see an improvement in our

international balance of payments in 1967.

Indeed, without

a large amount of special transactions, the deficit on a

liquidity basis is likely to be worse, and it is hard to

foresee such a large amount of special transactions.

The problem of financing the deficit is likely to

become more acute in 1967. On an official settlements

basis we had a surplus of perhaps $1/2 billion in 1966.

But this good showing depended essentially on high

interest rates in the United States which provided foreign

private holders of dollars with an incentive to hold on

to, and to increase, their dollar holdings because of the

good return on them. Thus Euro-dollar lending to American

banks through their foreign branches increased by $2-1/2

billion last year and helped finance the deficit. It is

inconceivable that additional lending of this magnitude

could occur this year. Any substantial decline in interest

rates in the United States relative to rates abroad could

well bring a reversal of these flows. In any case the

implications for our gold stock are ominous.

The resumed advance in bank credit in December and

the projections suggesting a further rise in January are

encouraging. A persistence of the earlier declines in

bank credit would have been incompatible with our goals.

It is worth emphasizing, however, that the loan-deposit

ratios of banks are still very high--much higher than they

were at the beginning of 1966. Many bankers tell us that

they want to improve their liquidity position before they

seek a substantial expansion in loans.

Over the coming months the mix of monetary policy

and fiscal policy will be of particular importance. We

may have to wait, however, for the President's budget

message to learn of the Government's proposed expenditures

1/10/67

-32-

and the way in which the Administration expects them

to be financed. In the meantime, it seems to us, there

should be no change in credit policy. We believe that,

until the next meeting of the Committee, open market

operations should be conducted with a view to maintain

ing about the currently prevailing conditions in the

money market. Under such a policy one might expect the

Federal funds rate to fluctuate above the 5 per cent

level, with rates on three-month Treasury bills near

their present levels.

The range of net borrowed reserves

could be wide, but free reserves should be avoided,

because their appearance would be likely to bolster

market expectations of further monetary ease; these

expectations are already strong, in part because the

rescinding of the System's statement of September 1 on

business loans and discount administration has been

widely interpreted as an overt act emphasizing a System

intent to continue easing pressure on bank reserves.

Since I think that the proper policy prescription

is "no change," I favor alternative A of the draft

directives prepared by the staff. I have difficulty in

trying to comprehend alternative C and its implications

for the conduct of operations. It originally seemed to

me that it raised more issues than it settled, and the

discussion following Mr. Axilrod's remarks confirmed that

view. Even if it means no change, I would prefer to use

language similar to that used in the past to indicate no

change. I think that the meaning of alternative A is

clear. I endorse it.

Mr. Francis observed that growth in total demand for goods

and services had slowed somewhat.

In view of that moderation and

of a restrictive trend in most aggregate measures of monetary

action, the Committee at its last two meetings adopted a less

restrictive course.

Beginning in November the Manager of the

Account had been asked to attain somewhat easier conditions in the

money market with an objective of fostering moderate growth in

money and credit.

Subsequently, lower interest rates, lower net

-33

1/10/67

borrowed reserves, and other indications of ease developed in

the money market.

However, it was not certain that the aggregate

monetary measures had evidenced less restriction.

In the last few weeks, Mr. Francis continued, commercial

banks had obtained more funds and were probably lending or investing

more.

Both time deposits and demand deposits had gone up, and it

appeared that total bank credit had expanded.

However, one hesi

tated to conclude at this point that expansion in those magnitudes

and the evidence of ease resulted primarily from System actions

or that they were having an expansionary effect on economic activity.

The rise in time deposits might merely reflect the facts that, with

declining market interest rates, banks were now able to compete for

CD funds, and that the disintermediation of last fall was now being

reversed without any net gain of funds to borrowers.

The rise in demand deposits and bank reserves in the last

several weeks might also be misleading, Mr. Francis said.

Around

the middle of the final month of each of the last ten quarters, there

had been a marked increase in demand deposits.

Hence, the current

rise might reflect in large measure a problem of seasonal adjustment.

Mr. Francis recalled that Mr. Partee, in his review of recent

financial developments at the last meeting of the Committee, had

noted that despite some easing of money market conditions banking

aggregates had consistently shown shortfalls from projected levels

1/10/67

-34

for some months.

Although increases in reserves and money had been

recorded since mid-December, there was no reason to believe that

the problem of obtaining a moderate amount of monetary growth, which

had been the desire of the Committee, had been solved.

Mr. Francis noted that the staff projected a marked rise in

total reserves from December to January, but those reserves were

expected to be utilized in supporting Government demand deposits

and time deposits, as the reversal of the disintermediation was

expected to continue.

Private demand deposits, according to projec

tions, would decline and money would remain about unchanged.

With

those projections, and with the experience since last summer of

shortfalls in final data from projected levels, special effort

might be required in order to move toward a less restrictive course

including expansion of the money supply.

If the prospects for total demand were as weak as the staff

indicated, Mr. Francis concluded, it behooved the monetary authority

to do all it could to alter that situation.

The Committee should

not be satisfied with "a gradual reduction in the degree of monetary

restraint" mentioned on page 6 of the blue book.

Assuming the

relation among variables which was outlined on page 6 of the blue

book, he suggested the Committee should aim for positive free

reserves, a Federal funds rate below 5 per cent, and a bill rate

1/10/67

-35

about at the discount rate.

It should strive for an upward trend

of the money supply at about a 3 per cent rate.

Mr. Francis thought that alternative B of the staff drafts,

with some alteration, would fit his approach to the situation.

would alter its language to read ". .

He

. System open market operations

until the next meeting of the Committee shall be conducted with a

view to attaining such conditions in the money market and such an

increase in total reserves as are necessary to assure a moderate

rise in the money supply. .

."

Mr. Patterson remarked that most of the bankers in the Sixth

District with whom he talked had told him that requests for loans

from their good customers were still greater than they could satisfy

and that they saw no signs of a general letdown in the pressures for

credit.

However, the statistics they reported told a somewhat

different story.

Loans at all member banks had been practically unchanged

for three months after account was taken of seasonal influences,

Mr. Patterson noted.

actually lower.

In some areas of the District loans were

Average interest rates on new business loans charged

by the banks in Atlanta and New Orleans were unchanged between

September and December, after a 38-basis point gain between June and

December and a 30-basis point gain during the spring quarter.

In

December Sixth District member bank borrowing was the lowest since

-36

1/10/67

July 1966, and much less reliance was placed by District banks on

the Federal funds market.

Of the banks included in the Quarterly

Survey of Bank Lending Practices, as of December 15 only a minority

reported loan demand as moderately stronger.

The rest reported

loan demand as essentially unchanged or moderately weaker.

District bankers were inclined to attribute those develop

ments to their having adopted firmer lending practices, Mr. Patterson

said.

They inferred that any slight reduction in requests for loans

at their banks resulted partly from the realization by potential

borrowers that it would be fruitless to apply for a loan.

Some

bankers stressed their desire to get into a more liquid position.

Indeed, there actually was some shifting in the security portfolios

of the large banks in December, and loan-deposit ratios at all

member banks had declined since September.

Moreover, some restriction

in their lending and investment volume had resulted from a less-than

seasonal increase in demand and time deposits at the larger banks

and a downtrend in deposits, on a seasonally adjusted basis, in the

last three months in some areas of the Sixth District.

Some change

in deposit trends, however, was suggested by the statistics for the

large District banks in late December, when time deposits rose

slightly.

On the other hand, Mr. Patterson continued, the behavior

of the latest available economic indicators continued to confirm

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1/10/67

the slowing in the District's economic activity that was reported

at previous meetings.

Employment apparently picked up a little

toward the end of the year in contrast to the slackness during the

months of mid-1966, and the unemployment rate in November fell to

3.5 per cent, the lowest since May.

However, the District was

sharing in the slower pace of auto sales and in the auto production

cutbacks.

Weakness persisted in some types of construction, and

the tabulation of announcements of proposed new or expanded manufac

turing plants for the fourth quarter promised a slower rate of

capital expenditures in the future.

Mr. Patterson thought a reasonable conclusion that could

be drawn from that mixed collection of information seemed to be

something like the following:

There was a strong demand for loans,

although some potential borrowers were being excluded because of

high interest rates and bank lending policies.

The slackening in

loan expansion resulted from both a slowdown in demand, reflecting

a slower rate of economic expansion, and the efforts of banks to

get into more liquid positions.

Since many bankers were uneasy

about their declining liquidity, they seemed to be welcoming any

respite, no matter how small.

So far as he could determine, Mr. Patterson said, much the

same conclusion could be reached in respect to the national scene.

That meant that member banks now were likely to be less responsive

1/10/67

-38

to increased availability of reserves in expanding their loans and

investments than they would have been early last year.

Thus,

insofar as net borrowed reserves or free reserves reflected reserve

availability, a net borrowed reserve figure of, say, $100 million

was much less stimulative now than it would have been at this time

last year or during a considerable part of 1966.

That might explain

why, despite the turn toward greater ease initiated several meetings

ago by the Committee, the declining trend in the bank credit proxy

had not been reversed until very recently.

In order to be sure that the recent rise in the bank credit

proxy did not prove to be temporary, therefore, Mr. Patterson

favored continuing to move gently toward greater ease.

Currently,

the net borrowed reserve figure was especially suspect as a guide

to reserve availability.

But if that figure was to be used, he would

favor moving toward a zero position.

With that understanding, he

would favor alternative C of the draft directives.

Mr. Hilkert remarked that indicators for the real sector of

the economy seemed to him increasingly to be pointing to a lessening

of demand pressures.

Conditions in the Third District continued to

be generally good, as they were in the nation.

of softening were appearing in the District.

However, indications

Manufacturing employ

ment was off a little, and steel production had been declining, as

had construction contract awards and auto registrations.

1/10/67

-39

On the national scene, Mr. Hilkert found it difficult to

discover any new sources of significant strength.

and attitudes seemed relatively lethargic.

Consumer demands

Although there might be

some point to the fact that construction could hardly go much lower,

that did not stir hope for new strength.

But most of all, he was

disturbed--as apparently was the Board's staff--by the recent move

ment of new orders, backlogs, and inventories.

The latter pointed

quite clearly to involuntary accumulation.

To Mr. Hilkert, the resulting projection by the staff of a

substantial cutback in the rate of gain in GNP during the first

quarter was significant.

Forecasts appearing daily in the press

did not now generally support the view that a recession was ahead.

But if the staff's projection for the first quarter proved correct,

forecasts might soon become much more bearish.

Other things being equal, facts like those argued for another

move toward ease, Mr. Hilkert said.

about the increase

this year.

He was, of course, concerned

in wages now taking place and likely to continue

Credit ease should not proceed so fast and so far as

to aggravate that development.

Yet, it seemed to him there was

little that monetary policy could do now to halt the trend, let

alone roll it back.

In the financial sector of the economy, Mr. Hilkert noted,

substantial and rapid easing in money market conditions had taken

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1/10/67

place.

As pointed out in the blue book, bank credit and the money

supply now seemed to be responding.

not been overdone.

In his view, that

Information coming

Bank from the larger banks

easing had

to the Philadelphia Reserve

in the District indicated that they were

not yet anxious to seek more customers, had not changed

ing policies, and were concerned about

their liquidity.

their lend

Rescinding

the September 1 letter had had relatively little effect on their

attitudes.

Another signal of the Federal Reserve's

intent to ease,

therefore, seemed to Mr. Hilkert to be called for if those attitudes

were to be changed.

On balance, he believed alternative B would be

appropriate in accomplishing the desired purposes.

Although he

would think of the implementation of the directive as being accom

plished somewhat gradually, the changes contemplated by alternative B

should be sufficient to impress

the market and banks that a further

change was being made.

The balance of payments

implications of further ease did,

of course, concern him, Mr. Hilkert said.

However, he looked for

further improvement in the trade account as domestic expansion

slackened.

And, hopefully, easier credit conditions abroad might

make it possible for the Committee to proceed toward easier

conditions domestically without adverse effect.

1/10/67

-41

Mr. Hickman commented that recent economic news revealed

further moderation in some sectors and increased weakness in

others.

Notable developments in December were the increase in

insured unemployment (reflecting mainly the cutbacks in autos and

steel), the disappointing performance of retail sales, and the

further (probably involuntary) buildup in business inventories.

The industrial production index, on the basis of very preliminary

estimates made at his Bank, showed little, if any, increase in

December.

At the last quarterly meeting of Fourth District business

economists in mid-December, Mr. Hickman continued, the general

theme was one of increased anxiety about the economic outlook,

which was reflected in a lowering of the group's forecasts--the

third successive time that that had occurred.

The group was con

cerned about the hazy outlook for defense spending, the tapering

of capital spending, the profit squeeze, the erosion of new orders

and backlogs, and general imbalances among major economic sectors.

Their median forecast for GNP in 1967 in current dollars was $783

billion, a year-to-year gain of 6 per cent, with moderate and

diminishing quarterly increases.

That implied a modest increase

in real GNP, something on the order of 3 per cent.

Median forecasts

for industrial production showed fractional quarterly increases,

with the annual gain in 1967 amounting only to 3 per cent.

1/10/67

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Mr. Hickman noted that the Fourth District business

economists expected appreciable increases in unit labor costs

in manufacturing in each quarter of 1967, with the average of

the medians for the year up 2.5 per cent.

The group expected

corporate profits after taxes to remain level in the first half

and to decline in the second half, with a year-to-year decline

of about 1-1/2 per cent.

Only about one-fourth of the group

expected that taxes would be increased in 1967, and almost all

thought that a tax increase was undesirable.

Since he was no

longer a dues-paying member in the union of business economists,

he was not allowed to vote.

If he could have voted, he would

have been one of those voting against a tax increase at this time,

largely for domestic economic reasons, but partly also because of

glimmerings of hope that tensions were easing in Vietnam.

In regard to monetary policy, Mr. Hickman was pleased to

note the substantial increase in both the money supply and the

bank credit proxy that occurred in December.

He would like to

think that that reflected the economy's prompt response to the

Committee's recent modest shift in policy, although the usual

seasonal churning in December made it quite difficult to determine

if that actually was the case.

The staff's projection of no change

in the money supply for January suggested to him some further eas

ing was still needed.

1/10/67

-43

Mr. Hickman's prescription for policy until the next meeting

was to provide whatever reserves were needed to produce an increase

in the money supply in the range of 3 to 6 per cent (seasonally

adjusted annual rate), as well as to bring about some further modest

reduction in interest rates.

To achieve those objectives, he thought

the Committee should not be constrained by the public's reaction to

the published figures on the net reserve position of banks, and

should permit positive free reserves to develop, if necessary.

In

view of the imminence of the Treasury refunding, he would prefer to

move promptly in the direction of further ease.

The recent reduction

in the German bank rate from 5 to 4-1/2 per cent provided some basis

for hope that a further modest reduction in interest rates in the

U.S. would not trigger a flight of hot money from this country.

He

favored alternative B of the draft directives, and would be receptive

to System purchase of intermediate- and long-term issues.

Mr. Brimmer said that the direction in which the Committee

should move in the next few weeks seemed reasonably clear to him.

He agreed with Mr. Reynolds' conclusion that the objective of long

run improvement in the balance of payments would be served best by

policies that sustained domestic growth, and he thought the Committee

was fortunate in having so smooth a meshing of policy requirements

for the balance of payments and the domestic economy.

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1/10/67

As he looked back at financial developments in the past few

weeks, Mr. Brimmer continued, he was impressed with the strength of

the markets and the magnitude of the change in expectations follow

ing the Committee's shift toward less restraint.

He thought it was

now incumbent upon the Committee to validate the present expectations.

As some observers had noted, there had been a large reaction to a

relatively moderate change in open market policy and the rescission

of the September 1 letter.

He thought the Committee should now do

much more to insure that the money supply and bank credit would

expand at rates approaching those that members had suggested were

desirable at recent meetings.

He was impressed by the degree of

inertia existing in the banking system but he was not surprised by

it, given the desire of banks to restore their liquidity positions.

Nevertheless, low bank liquidity did impede the Committee's efforts

to affect the economy through changes in money market conditions.

It

was important that bank loan expansion not rest simply on increases

in loans to security dealers; it should also reflect rising loans to

business.

Mr. Brimmer said he had been particularly impressed with the

policy course Mr. Axilrod had suggested, and he thought that by the

time of its next meeting the Committee might want to give serious

consideration to that proposal for a more overt change.

For the

time being, however, in view of the uncertainties regarding the

1/10/67

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Administration's tax and expenditure recommendations, he thought

the proper course for the Committee was to proceed along the path

it had been following recently.

of the draft directives.

That led him to favor alternative B

At the same time, he would not want to have

the level of interest rates taken as the sole key to the operations

of the Desk.

He would not be disturbed if the three-month bill rate

declined to the neighborhood of 4-1/2 per cent.

Nor would he be

disturbed very much if net borrowed reserves approached the zero

level or even if free reserves emerged.

But it should not be the

main objective of the Manager to produce those results; the main

objective should be to achieve increases in bank credit and the

money supply.

In the preceding discussion, Mr. Brimmer continued, a

question had been implied as to whether the period with which the

Committee was most properly concerned was the first half of 1967

or the whole year.

He thought it was appropriate for the Committee

to do all that it could to insure that economic conditions in the

first half did not deteriorate to the point that the second-half

conditions would be much weaker.

In his judgment, unless there was

sufficient easing of terms in mortgage markets, the economy was not

likely to display strength in the second half.

In sum, Mr. Brimmer concluded, he favored alternative B

today, and he hoped that by the time of the next meeting the

1/10/67

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Committee would be in a better position to decide whether the course

suggested by Mr. Axilroad was appropriate.

Mr. Maisel agreed with the staff analysis of the current

situation.

It seemed to him, therefore, that the Committee had to

make clear its current goal--namely, a monetary policy that over

the course of this year would help in increasing, rather than decreas

ing, total demand in the economy.

Given that ultimate goal, Mr. Maisel said, what influence

could monetary policy have?

Either through increased credit avail

ability or through lower interest rates, monetary policy might

influence those making spending decisions to add somewhat to their

expenditures.

More specifically, liquidity could be rebuilt, credit

availability might rise so that easier mortgage terms might aid

housing and that, plus some direct impact through instalment credit,

might add an incremental amount to expenditures on consumer durables.

There might also be marginal credit users who had been forced to run

with lower inventories than they desired and with less investment

in plant and equipment, but the impacts in those areas would probably

not be great.

Given that basic role for monetary policy, Mr. Maisel asked,

what sort of intermediate policy index could the Committee use in

directing its action for the next two or three months?

The

Committee's main indexes could, as indicated in the alternative

1/10/67

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draft directives, be concerned primarily with either quantities

or rates.

The Committee could use the total increase in the amount

of credit flows, or, since it had only slight current knowledge

of total credit flows, it could use as a proxy either bank credit

expansion or reserves furnished by the Federal Reserve--adjusting

the amount aimed at for either proxy with time, if the proxy seemed

to vary from the total credit movement desired.

On the other hand,

obviously the Committee could also set an interest rate goal on

the assumption that it would require particular changes in the

interest rate to bring about the desired over-all goal for spending

in the economy.

It seemed to Mr. Maisel that, at the moment, the Committee

would be better off if it chose as its major policy variable changes

in credit and reserves, using interest rates as a subsidiary guide.

In the first place, Mr. Maisel feared that by adopting

interest rates or money market conditions alone, the Committee was

likely to pay too much attention to most recent events.

As the

green book showed, in many money market areas rates still were

running 100 basis points or more over November 1965.

Even while

others had come down sharply, a large gap still remained.

At the

same time, the Committee was uncertain as to whether it was the

level of rates or their change that would make the critical differ

ences in reaching any desired spending goal.

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During a period of rapid change, Mr. Maisel also feared

the Committee was too likely to be bemused by the rate of change

rather than by the actual level of interest rates.

That was partic

ularly true since the real demand for credit during this period was

uncertain and little was known as to how much it could be expected

to affect spending.

There might be strong pressures to accommodate

some of the backlog which had been postponed from recent periods

in order simply to improve liquidity without any spending impact.

In addition, if a major inventory run-off actually occurred, demand

for funds might fall far below normal.

In either case interest

rates would not be an adequate guide of the Federal Reserve's

actions or influence.

They would represent a mixture of special

supply and demand factors and would not mirror the total impact.

Clearly, Mr. Maisel continued, the same argument might be

made against using the amount of credit as an index, but here the

problems were likely to be less strong.

The Committee knew that

the economy had been through a period in which credit had expanded

far less than normal.

It should be simpler to get agreement for

credit expansion to return to a normal rate.

When such an expansion

was achieved, it could then be determined whether that normal

expansion was sufficient in terms of related interest rates, credit

expansion, and liquidity to achieve the Committee's ultimate goal.

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With respect to the draft directives, Mr. Maisel said,

obviously he preferred the third alternative--C.

He assumed that

by "moderate" the Committee would, following the dictionary defini

tion, mean avoiding extremes.

Therefore, the directive should mean

that the Committee was aiming at a normal or adequate movement in

total deposits to achieve its goal.

It seemed clear the Committee's

goal should be a bank credit proxy that grew at about a 7 per cent

annual rate.

The blue book projection for the next four weeks showed

required reserves expanding at far less than a normal rate and one

not sufficient to achieve a desirable rate of expansion in total

credit.

Thus, to achieve the moderate expansion in bank credit

called for in the directive, conditions would be needed under which

required reserves would expand at a more rapid rate than that pro

jected in the blue book.

That should be the index for action used

during the next four weeks.

Reserves should be added unless or

until required reserves were showing a far smaller run-off than

indicated in the blue book.

Positive free reserves might well be

needed to achieve that aim and, as indicated by Mr. Axilrod, a

considerably lower Federal funds rate.

If the Committee was getting

that expansion it should, as indicated in alternative C's proviso

clause, be less concerned with rates.

Mr. Daane said that the course of System policy in recent

weeks seemed to him to have been clearly appropriate as to direction.

1/10/67

-50

His position at the last two meetings had reflected reservations

regarding the overtness of the change and the degree of ease the

Committee sought as it moved down the road toward greater ease.

Those reservations, in turn, reflected confidence in the underlying

strength of the economy, his skepticism as to whether public spend

ing might not exceed current estimates in a period of war, and his

concern about the balance of payments.

Those considerations had

led him to feel more cautious than the majority regarding the

aggressiveness with which the Committee should move toward ease.

Today, Mr. Daane continued, he still felt concern about the

balance of payments--he shared Mr. Treiber's views on possible

deterioration on capital account--and he was no more assured than

he had been earlier as to the course of public spending.

He was

impressed, however, by the increasing signs of deceleration in the

private economy, and he thought it was necessary for the Committee

to continue to move--and to demonstrate that it was moving--toward

somewhat greater ease.

Accordingly, he favored alternative B, in

the moderate sense in which he would interpret it.

He had some

sympathy with the view that later in 1967 the Committee might again

be confronted with a need to restrain the economy, but it seemed

to him that the immediate problem was the reverse.

Mr. Daane added that he was not so sanguine as the staff,

or Mr. Brimmer, that longer-run strength in the domestic economy

1/10/67

-51

and in the world economy would insure against a rather rapid

deterioration in the balance of payments in 1967, whether on the

liquidity basis or the official settlements basis.

That was why he

would interpret alternative B as calling for a gradual and moderate

movement.

Operationally, he thought there was some parallel between

the current situation and that of early 1961 and thus he would favor

some System purchases in the coupon area.

Such purchases seemed

desirable not only on the domestic grounds that Mr. Axilrod had

mentioned but also for balance of payments reasons.

He did not think

the Committee could take great comfort in the 1/2 per cent reduction

in the German discount rate in terms of the totality of international

flows.

Mr. Mitchell remarked that while several people had talked

about the longer-run problem for monetary policy he thought the

basic problem lay in the short run, because the lags in transmitting

the effects of policy changes through commercial banks to the economy

at large were rather substantial.

The Committee's task was to

satisfy the banks' desire to rebuild liquidity so that they would

reverse the loan policies they had been following--and to do so on

a cautious basis, so that if there were a bounce-back in loan growth

it would not get out of hand.

The economic analysis presented

today suggested that there would not be such a bounce-back.

From

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1/10/67

his conversations with bankers, however, he gathered that they

thought underlying loan demands remained strong, and that if they

turned their loan officers loose the volume would build up fast.

He did not think that the bankers were completely confident in

their view, and he personally did not know the answer.

But he

thought that any policy the Committee adopted for the next four

weeks should have an element of caution in it.

As to the directive, Mr. Mitchell said, he had some sympathy

with the modification Mr. Francis had proposed in alternative B,

which introduced a reference to the money supply.

He noted that

Mr. Axilrod had said that the money supply was not likely to show

sustained growth, although he (Mr. Mitchell) was not persuaded that

that was the case.

Mr. Axilrod commented that the money supply projection was

based on an assumption of no change in money market conditions.

Mr. Mitchell went on to say that while he could accept

alternative B as written, he would prefer to delete the word "some

what," and to replace the words "significantly faster" with "very much

faster," so that the paragraph would read, ". . . with a view to

attaining easier conditions in the money market, unless bank credit

appears to be expanding very much faster than currently anticipated."

He also could accept alternative C if the final clause was deleted.

Whatever the language, however, he favored continuing the trend of

1/10/67

-53

deliberate and steady easing, but with a readiness to pull back

if and when the liquidity barrier was broken and bank credit

growth became excessive.

Mr. Shepardson said there was no need to elaborate on the

reports of economic conditions that had been made.

He thought

the main consideration influencing the Committee's decision on

monetary policy for the period until the next meeting was the contin

uing uncertainty regarding fiscal policy.

There had been some

expansion in bank credit recently and the projections made on the

assumption of no change in money market conditions--as contemplated

in alternative A of the draft directives--were for further bank

credit expansion on average in January at a 7 to 9 per cent annual

rate.

That seemed to him to be an appropriate growth rate at this

time.

In his judgment the Committee had to be concerned about the

more serious implications presently evident for balance of payments

developments.

That fact, together with the uncertainty about

fiscal policy, clearly called for the type of action contemplated

under alternative A.

The projections indicated that there might

be no change in the money supply if that alternative was adopted.

It seemed to him, however, that experience indicated that the money

supply tended to fluctuate widely in the short run regardless of

the Committee's policy objectives.

Accordingly, he felt that the

Committee should not be overly concerned about the expected lack

1/10/67

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of money supply growth at the moment, as long as there was reason

able growth in bank credit.

Mr. Wayne reported that business activity showed more signs

of slowing and that expectations were definitely less optimistic

in the Fifth District.

In November both nonfarm employment and

man-hours in manufacturing scored gains, but more recent information

was quite uniformly on the weak side.

On balance, manufacturers

in all categories reported for December lower levels of shipments,

new orders, and backlogs, and significantly higher inventories of

finished goods.

The insured unemployment rate rose throughout the

District but remained below the level of a year ago.

It appeared

that a slump in demand might have caused a postponement or cancel

lation of price increases which had been expected in the furniture

industry.

In the country as a whole, Mr. Wayne said, a gradual slowing

of economic activity was becoming increasingly apparent.

He had to

confess that he was impressed with the pervasive downward movement

of the statistical indicators.

The rise in housing starts in

November was about the only increase which had been reported in

recent weeks.

Even if that should signal a bottoming out of the

housing cycle, it would still be several months before housing became

a source of strength.

Sales of United States automobiles in both

domestic and foreign markets continued weak and production schedules

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1/10/67

were being cut back to trim new car inventories, which totaled

well over 1.4 million units.

Inventory accumulation by manufac

turers accelerated in November, inventory-sales ratios continued

to rise, and increases in finished stocks suggested that some of

the recent accumulation might have been involuntary.

Easing of

materials prices and slower growth of order backlogs in recent

months would probably reduce voluntary accumulation.

To Mr. Wayne, those widespread signs of moderation in the

pace of economic advance were hopefully the signs of adjustment

toward a noninflationary rate of economic growth and not the signs

of emerging recession.

Much depended on the degree of fiscal stimu

lation which the economy received in the weeks and months ahead.

But the level of expenditures associated with the war effort and

the question of a tax increase remained the principal uncertainties

on the economic scene.

While recent figures indicated a leveling

off in military contract awards and defense orders, those series

might provide only a hazy indication of future expenditures.

Despite the uncertainties surrounding the degree of fiscal

stimulation in coming months, it seemed to Mr. Wayne that in view

of increasing signs of weakness in the private sector and absence

of growth in important financial variables in the second half of

last year, monetary policy should continue to promote the moderate

growth in the money supply, bank credit, and time deposits indicated

by the preliminary figures for December.

He would not like to see

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a rapid acceleration in the growth of those variables, but neither

would he like to see the plus signs of December washed out by

negative signs in January.

Encouraged by the behavior of interest

rates and marginal reserve measures and by the rescission of the

September 1 letter, banks were perhaps becoming somewhat more willing

lenders, a welcome response in view of recent slow growth in bank

credit.

While recognizing that in conducting day-to-day operations

the Desk found it difficult to focus on aggregative measures, he

believed the objective should be to encourage growth in required

reserves and the bank credit proxy at something close to the

December rate.

Alternative B of the staff draft directives, as defined by

Mr. Axilrod, seemed to Mr. Wayne appropriate.

Mr. Clay commented that in recent weeks monetary policy

implementation generally had attained the financial variables goals

sought by the Committee.

In view of the economic information that

had become available, those monetary policy goals and attainments

had been appropriate to the prevailing economic situation.

Mr. Clay said that the timing of this morning's meeting relative

to the President's message and other Administration messages to follow

placed the Committee under a handicap in formulating monetary policy

for the next four weeks.

Nevertheless, the information available

concerning the prospective economic situation appeared to justify a

continuation of the policy currently prevailing.

More specifically,

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it appeared desirable that sufficient reserves be provided so that

bank credit could continue to expand.

mean that loan volume would expand.

That would not necessarily

Conversations with bankers

confirmed that current loan behavior was only partially explained

by lessened loan demand and limited availability of funds.

Bankers

were reluctant to relax their own credit restraints in a desire to

improve their banks' liquidity positions.

Mr. Clay thought it was by no means clear what targets should

be set in endeavoring to continue the recent improvement in the

financial aggregates.

One could begin by accepting the projections

of financial aggregates in the blue book, as developed from page 3

to the middle of page 6,1/ and the money market conditions specified

1/ This section of the blue book read in part as follows:

"Bank credit expansion is likely to continue in January, but at

a slower pace than indicated by the large recent week-to-week

increases. The increase in the January average of outstanding

bank credit over the December average may be in a 7 - 9 per cent

(annual rate) range, but this includes the carry-over effect on

the monthly averages of the strength in the latter part of

December. From the end of December through the end of January,

a growth rate in the 4 - 6 per cent range appears likely . . . .

The interest rate and credit demand assumptions appear consistent

with expansion of time and savings deposits at all commercial banks

by about 12 per cent in January on a monthly average basis . .

Money supply in January is expected to show little or no net change

on average. Private demand deposits may decline somewhat, partly

because of a projected rise of almost $1 billion in U.S. Government

deposits. But private demand deposits are not assumed to decline

by as much as Government deposits rise

. .

. .

These deposit pro

jections imply a sizable expansion in aggregate reserves in January

on average--in the order of 10 - 12 per cent for nonborrowed and

total reserves. For December-January together, nonborrowed

reserves may show an increase around the 5 - 7 per cent range."

1/10/67

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at the top of page 4 1/ of the blue book.

If those projections

of financial aggregates did not generally materialize, it should

be understood that instructions to the Manager would call for a

modification of the money market targets such as those suggested

on page 6 of the blue book.

2/

Alternative A of the draft economic policy directive, as

defined in the accompanying staff notes,3/ appeared to Mr. Clay

to be appropriate for the period ahead.

Mr. Scanlon commented that economic developments in the

Seventh Federal Reserve District in recent weeks had presented no

surprises.

There were indications that excessive pressures on

productive resources had eased further.

Unemployment compensation

1/ This material read as follows: "These projections

assume that the 3-month bill rate stays roughly within the

recent 4.75 - 4.85 per cent range over the period ahead,

that net borrowed reserves fluctuate around $100 million,

and that Federal funds and dealer loan rates back down some

what from recent high levels of around year-end."

"If the Committee

2/

This material read as follows:

wishes to continue a gradual reduction in the degree of

monetary restraint, it might call for open market operations

to achieve a set of money market conditions that might include

a net borrowed reserve position averaging close to zero and

Federal funds averaging near 5 per cent. This would, in all

likelihood, bring the 3-month bill rate down to a 4.60 - 4.75

per cent range."

3/ The staff notes suggested using the complex of money

market conditions cited in note 1/ as a description of the

general kinds of conditions to be maintained if alternative A

were to be adopted by the Committee.

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claims in December were somewhat higher in each of the District

States than in December 1965, but were still at very low levels.

The increases had been particularly evident in automobile manufac

turing centers.

Also, the rise in help-wanted advertisements in

major newspapers, while increasing somewhat further, had not

maintained the spectacularly large increases of earlier months.

Price increases continued to be announced in a variety of

goods and services, Mr. Scanlon noted, notwithstanding the evidence

of better balance in the over-all supply-demand situation.

The

demand for construction equipment had weakened further and major

firms in that industry did not see an early end to that development.

In conversations with businessmen, Mr. Scanlon said, he

detected a greater sensitivity to the possibility of their finding

themselves with excessively large inventories.

had reported plans to reduce inventories.

A number of firms

That had been noted

especially in steel-using firms, even though there had been some

evidence recently of strengthening demand for steel.

But thus far,

the transition to a more balanced supply-demand situation had been

orderly and had not engendered excessive pessimism.

On the banking scene, Mr. Scanlon remarked, District banks

shared in the rather sharp increase in credit during December.

Loan expansion reflected mainly the temporary needs of securities

dealers and finance companies.

Increases in business and consumer

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loans were relatively small compared with other recent Decembers.

The recent growth in deposits which had accompanied the easier

money market had made it possible for the large banks to acquire

some Governments as well as to make additional money market loans,

and the largest banks had shown a significant reduction in their

loan ratios since early December.

Some rebuilding of liquidity

was to be expected, and banks as well as dealers might find many

Governments and municipals attractively priced, given the expecta

tion of further declines in interest rates in the period ahead.

Mr. Scanlon reported that large District banks had acquired

more than $150 million through net sales of negotiable CD's since

mid-December, and had shown substantial gains through savings-type

certificates following their recent boost in rates offered on

those instruments.

While they had attracted some new money, large

banks in Chicago estimated that about three-fourths of the gain

in CD's under $100,000 denomination resulted from the transfer of

other deposits in the bank.

Current rate relationships appeared

conducive to continued growth in deposits and credit.

As to policy, while Mr. Scanlon would not be satisfied with

the large magnitude of the increase in bank credit and reserves pro

jected for January if there were reason to expect it to continue,

he was happy to see them both on the plus side again.

Even after

the sizable increase projected for January, total reserves would

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still be below the levels of last September.

In view of the signs

of hesitancy in the private sector of the economy, he thought it

desirable to continue the upward momentum in total reserves,

possibly over the longer range at a somewhat slower rate than pro

jected for January, but hopefully at a sustained rate.

Mr. Scanlon said that his views on policy closely paralleled

those of Mr. Mitchell.

While he could accept alternative B of the

draft directives in light of Mr. Axilrod's explanation, he favored

alternative C since it provided for a wider range of fluctuation

in money market conditions if that proved to be a necessary conse

quence of operations directed at maintaining the desired rates of

growth in monetary aggregates.

He believed that the Committee

could stabilize either aggregate reserve measures or money market

conditions, but that it probably could not stabilize both concurrently.

Mr. Galusha reported that the indices of economic activity

in the Ninth District confirmed the District's historic lagging

role, for most of those measures reflected a considerable momentum.

Recent personal interviews indicated a developing pessimism, however.

In the Ninth District, no less than in the nation, the

situation of banks eased appreciably during December, Mr. Galusha

said.

Total deposits of District banks increased more than

seasonally; for weekly reporting banks, the rise in total loans and

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investments was double the usual seasonal increase.

The December

drop in the average loan-deposit ratio was very sharp at weekly

reporting banks, and those banks ended 1966 with a lower average

ratio than they had at the end of 1965.

The largest Ninth District

banks were able to increase the average maturity of their CD's

somewhat.

And, finally, he might mention that among Twin Cities

bankers speculation had turned to when a reduction in the prime rate

would come.

In a way, Mr. Galusha observed, all that was gratifying.

Banking developments, both in his District and in the nation, could

be interpreted as showing that Committee policy was having the

desired effect.

But the Committee was perhaps some way still from

getting the supply-side loan response that appeared to be needed.

That suggested that pressing further--continuing the trend to lower

market interest rates--would be appropriate.

In that regard, it was

of considerable importance that the Bundesbank had been so obliging.

Possibly now the Bank of England would follow the Bundesbank's lead.

For himself, then, Mr. Galusha favored a slight--and he

would emphasize the word slight--further reduction in market interest

rates at this time.

He recognized, though, that there was something

to be said for pausing now--for holding to the status quo at least

briefly--although with a Treasury financing to be announced late in

January, that hold could be too lengthy.

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But one thing was clear, Mr. Galusha said.

The Committee

could not afford a return of market rates to previous, higher levels.

According to the blue book, the recent welcome decline in the bill

rate was in considerable measure the result of expectations.

But

from tonight on, and for the next few weeks, expectations could

prove quite volatile.

And the Committee should not, he believed,

allow any change in expectations to result in higher interest rates.

It could be that, to maintain the present structure of rates, the

level of net borrowed reserves would have to be reduced somewhatpossibly to between zero and $100 million.

Without knowing what the President was going to say tonight

and in messages to come, Mr. Galusha continued, it was not easy to

talk of policy targets.

But perhaps it was enough for the Committee

to agree that, at the very least, the Manager should be given all

the latitude possible to resist fully any trend to higher interest

rates stemming possibly from disappointments about announced fiscal

policies.

Either alternative B or C of the draft directives appeared

appropriate.

In concluding, Mr. Galusha said he might replow an old furrow

and urge again that further thought be given to structural reform of

reserve requirements and, more particularly, to lower requirements

for small banks.

At the moment he was at least as concerned with the

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System's image in Sleepy Eye as in Zurich.

Lest that appear exces

sively parochial, it might have further usefulness for the System

because--depending upon what the Administration decided about taxesthe Committee might want some way of dramatizing a switch to still

greater monetary ease and, unfortunately, a reduction in discount

rates would seem out of the question at present.

Mr. Swan said that in December business loans of Twelfth

District weekly reporting banks again rose considerably more than

in the rest of the country, as they had in November, although the

increase was somewhat less than in the same month last year.

Also

continuing in December was a greater than national increase in total

time and savings deposits at commercial banks, as large negotiable

CD's outstanding increased somewhat more than elsewhere.

Some

indications were appearing that the larger banks were reluctant to

go beyond six months' maturity in their large CD's.

Although most

banks still indicated that the matter was subject to negotiation,

one bank had adopted a definite policy of not going beyond six months.

Also, one bank had announced a reduction in maximum rate, from 5-1/2

to 5-1/4 per cent, on long maturity CD's.

There were strong indications in the latest survey, Mr. Swan

continued, that in both the District and the nation the lending

practices of most banks were unchanged from three months earlier.

Four of the 17 reporting banks in the District indicated that loan

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demands had weakened in the past three months, but none reported

that they expected demands to be weaker in the first quarter of

1967.

Similarly, their willingness to make loans remained essen

tially unchanged.

The only cases of increased willingness to lend

involved two banks, which expressed that attitude with respect to

consumer instalment loans.

At the other extreme, eight of the 17

District banks indicated reduced willingness to make mortgage loans

on multifamily structures.

Those findings suggested to him there

was still some question of the availability of supply to be worked

out before much reaction could be expected in the lending policies

of banks.

Like Mr. Mitchell, he was somewhat concerned about

banks' attitudes regarding the strength of underlying loan demands.

As to monetary policy, Mr. Swan said, it seemed to him that

the relatively gloomy cast of both the green book analysis and the

discussion today suggested that the Committee perhaps should move

somewhat further in the direction of ease.

However, he did not

believe that the evidence was sufficiently clear to justify a marked

move at this juncture.

In view of the balance of payments situation,

the still relatively tight labor market, the fact that the Adminis

tration would be announcing its current economic policy views before

the Committee's next meeting, and the fact that a Treasury financing,

even though not a major one, lay ahead, he would prefer to see a

rather gradual change over the next two weeks, rather than a more

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abrupt move that might lead to various kinds of undesired market

interpretations.

He would certainly like to see some increase in

bank credit, and also in the money supply.

He favored alternative

B, but because he would interpret "somewhat easier conditions"

rather conservatively, he was not sure that he advocated the same

specific targets as others who also favored that alternative.

He

would hope to see the bill rate around 4-3/4 per cent, the Federal

funds rate around 5 per cent, and marginal reserves ranging from

$100 million net borrowed reserves to zero, but not becoming positive.

He agreed with Mr. Brimmer that if much easier money market conditions

developed and interest rates moved down further the Desk should not

try to offset those changes, but that such conditions should not be

actively sought.

He also saw no objections to operations in the

longer term area on a fairly small scale.

Mr. Swan noted that some sentiment had been expressed in

favor of adopting alternative C, which called for fostering moderate

bank credit expansion, for the second paragraph of the directive.

The second paragraph specified the Committee's immediate goal, and

he thought that it should be formulated in terms of conditions in

the money market, as in alternative B.

However, he would suggest

including a reference to the objective of accommodating bank credit

expansion since it had been the Committee's practice during most of

last year to refer to bank credit in the concluding "policy" sentence

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of the first paragraph.

The third sentence of the staff's draft

of the first paragraph noted that "bank credit expansion has resumed";

the last sentence of that paragraph might be revised to say that

it was the Committee's policy to foster money and credit conditions,

"including bank credit expansion", conducive to noninflationary

economic expansion.

In a final comment on the first paragraph, Mr. Swan said

he appreciated the staff's suggestion that the language of the

balance of payments reference should be changed even though no

change in

substance was proposed,

in order--as the notes attached

to the draft said--to indicate that the payments balance was receiv

ing the continuing attention of the Committee.

But the new language

the staff proposed, by referring to "trends in international trans

actions", seemed to imply a more basic change in the situation than

in fact there had been.

Accordingly, he would suggest continuing

the reference used in the previous directive.

Mr. Irons reported that economic conditions were generally

strong in the Eleventh District.

At the same time there were the

cross-currents and the indications of slowing rates of growth that

were evident in the national economy.

Slackening in autos,

construction, and other areas was partially offset by the generally

high level of activity prevailing.

Employment was up in virtually

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all categories, and the unemployment rate was low--about 2 per

cent.

There were signs that labor market pressures might have

lessened somewhat, but not significantly.

District also was up.

Production in the

On the other hand, department store sales

had not been as favorable as had been hoped.

Construction activ

ity was a little lower than might have been expected, but the

difference was not of large magnitude.

Sales of automobiles had

been relatively favorable; in December they were within 1 per cent

of the year-ago volume.

As to District financial conditions, Mr. Irons continued,

there were increases in the past month in commercial and industrial

loans, demand deposits, and both total time deposits and CD's.

The reserve positions of District banks were somewhat less strained

than earlier.

Banks still were borrowing through the Federal funds

market but in smaller volume.

Borrowings from the Reserve Bank for

window-dressing purposes normally were expected over the year-end,

but this year there had been virtually no activity at the discount

window in that period.

The national picture had already been well described,

Mr. Irons said.

He recognized that most indicators showed a

tendency towards slower growth, but here again the differences were

small.

The major uncertainty continued to be the nature of the

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actions that would be taken in the public sector.

Some of the

answers on that subject would be obtained from the President's

State of the Union message this evening, and more would be forth

coming in messages to be delivered over the next few weeks.

The

markets seemed to have adjusted to the considerable shift toward

ease that had been made by the System.

It was the general feeling

in his District that credit policy had become easier; the question

was how much easier policy would be.

Mr. Irons commented that he was disturbed by the deteriora

tion in the balance of payments and the possibility of worsening

in the gold situation.

The problems in those areas were serious,

and they probably deserved an increasing amount of thought and

attention on the part of the Committee.

Today, Mr. Irons said, he would favor maintaining an even

keel, continuing the present conditions in the money market.

The

figures that a number of other members had indicated they would

like to see emerge seemed appropriate to him.

He was not sure that

it would matter a great deal which of the three alternative

directives the Committee adopted.

He thought the staff had done

an excellent drafting job, formulating each alternative to

incorporate a concluding phrase that appropriately modified the

earlier language.

On balance, however, in view of various

considerations--including the Treasury financing, the basic economic

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situation and outlook as he saw it, the uncertainties with regard

to the public sector, and the balance of payments situation--he

favored alternative A.

Mr. Ellis said that the New England economy, measured in

real terms, appeared to have slowed its rate of advance.

Manufac

turing workweeks shortened slightly in November, and the man hour

index declined a fraction.

The index of factory output likewise

leveled in November from its October peak.

Manufacturers' shipments

in the fourth quarter declined from the previous quarter, as they

had projected, but were scheduled to rise sharply in the current

quarter.

Bankers continued to report strong loan demand, Mr. Ellis

noted, but they were taking moves to restore liquidity before

expanding lending.

Liquidity ratios had risen more than seasonally

and loan-deposit ratios had dropped noticeably since late November.

At least one bank had cut its interest rate on large short-term

business loans by 53 basis points, and the average for the large

Boston banks had been a cut of 43 basis points in their lending

rates between the September and December surveys.

Meanwhile, they

had become more selective in the rates they would pay for long-term

CD money.

Mr. Ellis reported having listened to some very direct

language about the inequity of the revised voluntary foreign credit

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-71

restraint program.

The thrust of one protest was against the 10

per cent limit on loans to developed countries since they were the

countries most likely to be able to qualify for non-export related

loans.

The thrust of another protest was directed to the inequity

of delaying access to the 109 per cent quota.

Those "less cooper

ative" banks who by last fall had reached their ceilings seemed free

to disburse repayments without regard to the 10 per cent limit.

Insofar as the banks felt they had been penalized for not having

used their quotas, and insofar as they might be expected to have

more lendable funds during 1967, it seemed only logical to expect

them to move to and hold at their ceilings for fear of losing their

quotas permanently.

If that course was followed, it would naturally

have a substantial negative impact on the U.S. balance of payments.

He thought that was important if the Committee had any inclination

to view the VFCR program as a shelter against an outflow of the

funds it was putting into the economy.

Turning to monetary policy, Mr. Ellis said that the weight

of evidence emerging since the Committee's last meeting had served

to confirm the short-run forecasts of the staff that the temperature

of the economic climate had been slowly cooling, which had been a

clear objective of the Committee's policy only six months ago.

The

evidence also revealed that the shift in monetary policy commenced

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in mid-November had introduced a changed--and more optimisticoutlook for credit availability and effective market performance

in the months immediately ahead.

The paramount issue of policy

was whether the easing trend should be accelerated or the present

posture maintained.

As Mr. Axilrod had noted, fundamental to one's

judgment on that score was his evaluation of the underlying strength

of the economy.

His (Mr. Ellis') own resolution of that issue was

that the economy was unlikely to experience anything more than a

temporary "inventory" pause--a helpful consolidation period--if

the country was committed to support a continuing war effort in

Vietnam and continued expansion of other Government services at

Federal, State, and local levels.

He was inclined to view consumers

as ready to utilize their enlarged incomes to expand spending when

credit was available and uncertainties were reduced--conditions that

seemed likely to prevail increasingly in the next several months,

especially when the outlines of the Federal budget became clear.

Mr. Ellis confessed to a considerable difficulty in persist

ing in such an optimistic viewpoint while studying the well-presented

analysis of the green book.

By the same token, he found no difficulty

in believing that the Committee had already obtained perhaps 80 per

cent of the impact associated with public recognition of its change

in policy.

20 per cent?

How hard should the Committee push to obtain the other

Should it flood the reservoir to insure leakage to the

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-73

economy?

To postpone any further moves toward easing while awaiting

the fiscal counterpart to the Committee's monetary actions seemed

almost costless in terms of monetary effect to be achieved in the

interim, and yet it would preserve a greater range of policy alter

natives for selection when better information was available.

In

common with Mr. Mitchell he did not rule out the possibility of a

bounce-back in bank lending.

His premise that a "wait and see" posture would be virtually

costless in a policy sense rested, Mr. Ellis observed, on the blue

book evaluation of the manner in which bank credit expansion had

resumed.

The bank credit proxy had expanded at an annual rate of

7 per cent since the Committee's policy shift of mid-November and

it was projected to expand at 7-9 per cent average rate in January

without a further change in policy.

Time deposit growth had resumed

since mid-November at an annual rate of 10.3 per cent, which was

equal to the growth rate in the first half of last year--and was

a rate that the Committee used to think of as excessive.

Without

further policy change, growth in time deposits was projected to

accelerate to 12 per cent in January.

The staff opened its blue

book discussion of prospective developments, absent further policy

actions, by indicating that "Bank credit expansion is likely to

continue in January, but at a slower pace than indicated by the

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-74

large recent week-to-week increases."

From the end of December

to the end of January the staff expectation was for bank credit

expansion at a rate in the 4 to 6 per cent range, with net borrowed

reserves averaging around recent levels.

Total reserves were

projected to rise at a 10 - 12 per cent annual rate on average in

January.

In his judgment those projections were an entirely accept

able prospect and they encouraged him to specify as "targets"

the

underlying assumptions of a 90-day bill rate in the 4.75 - 4.85

per cent range, net borrowed reserves fluctuating around $100 million,

and Federal funds and dealer loan rates somewhat below their high

year-end levels.

As he considered the three alternative directives, Mr. Ellis

said, he had somewhat the same feeling as Mr. Irons had expressedtheir implications were rather similar.

That led him to wonder why

the Committee should accept any alternative other than A, which

provided for modification of operations if bank credit growth deviated

significantly from expectations.

Adoption of either of the other

alternatives would logically mean that the Committee sought expansion

in bank credit at a rate in excess of 7 - 9 per cent, in reserves at

a rate in excess of 10 - 12 per cent, and in time deposits at a rate

in excess of 12 per cent.

To seek such growth rates would seem to

him to go beyond what might be called a "gradual" change.

he favored alternative A.

Accordingly,

1/10/67

-75Mr. Robertson then made the following statement:

It is obvious that the effects of our easing of

monetary policy are gradually spreading through the

financial system, even though responses have been

exaggerated in some markets by expectational influences,

while being restrained in others by overhangs of caution,

uncertainty, and institutional inertia.

As yet, there have been few signs of any effects

of such credit easing on actual spending decisions--they

could hardly have been expected so quickly, given what

we know about monetary lags. The business statistics

flowing in seem to be indicating greater and greater

moderation of underlying expansive forces, leaving

us with a present rate of deceleration of growth that

we would not want to see continued for very long. None

theless, the economy still possesses significant elements

of strength, to which some added buoyancy will be given

as the easier credit climate begins to affect business

decisions. I see no need, therefore, for aggressive

further monetary easing today (particularly with the

Government's fiscal program for calendar 1967 still up

in the air). Furthermore, I am not sufficiently complacent

about future price increases to be willing to push hard

on the monetary accelerator at the first signs that the

economy might slow down more than we contemplated when

restrictive policies were formulated last year.

I do think it is essential, however, for us to

continue the gradual relaxation of monetary restraint

that we launched a few weeks ago. We should be trying

to create an environment in which we foster an orderly

and moderate bank credit expansion, with some moderate

recovery in large CD outstandings, a continued reasonable

growth in consumer-type time and savings deposits (but

not so vigorous as to pull funds away again from other

savings intermediaries), and a money supply expansion

that is neither so large nor so small as to have import

for a significant change from the current flow of spending.

To foster these intermediate objectives, we should

seek some further easing of net reserve availability

and related money market conditions in the interval

between now and late January when "even keel" consider

ations come to the fore. This means that I would like

to see net borrowed reserves running regularly below

$100 million (and perhaps occasionally positive), and

1/10/67

that I would dislike to see the Federal funds rate

hanging up around 5-1/2 per cent or higher, or the

bill rate running up appreciably and giving off confus

ing signals to the market. But I want to emphasize,

as I have in the past, that these money market factors

should not be looked at as ends in themselves, and we

should be quick to take moderating action as suggested

by the "proviso" clause in the directive if our aggre

gate credit objectives are not being fostered.

As a practical matter, I know the Manager cannot

reasonably expect to hit all the targets I have cited.

Deviations in individual measures will inevitably occur,

and they can even be positively helpful, so long as

they are not disruptively large, because they will serve

to keep both us and the market from settling into ruts.

If, therefore, the Manager can manage to achieve some

kind of average of the results I have been describing,

I will be satisfied.

With these views in mind, I would be prepared to

vote for alternative B for the directive, as drafted

by the staff.

Chairman Martin commented that the Committee members seemed

for the most part to be in agreement today.

He personally was quite

well satisfied with the way policy had gone since the decision to

change; the Committee had been pursuing an easier, but not an easy,

policy--a distinction he thought was significant--and he would want

to continue on that course.

Adoption of alternative B today would

seem to him to be quite clearly consistent with such a policy.

He

thought some rather disturbing operational problems could be

encountered if the Committee adopted alternative C.

At its next

meeting the Committee would have more information on prospective

fiscal policy that could be taken into consideration, but for the

time being he would propose adoption of alternative B as drafted.

1/10/67

-77The Chairman then suggested that the Committee vote on a

directive consisting of the staff's draft for the first paragraph

and alternative B for the second paragraph.

Thereupon, upon motion duly made

and seconded, and with Messrs. Irons,

Shepardson, and Treiber dissenting, the

Federal Reserve Bank of New York was

authorized and directed, until otherwise

directed by the Committee, to execute

transactions in the System Account in

accordance with the following current

economic policy directive:

The economic and financial developments reviewed

at this meeting indicate further moderation in various

expansionary forces and sharply increased inventory

accumulation. The pace of advance of broad price

measures has slowed, although upward price and cost

pressures persist for many finished goods and services.

Partly reflecting the recent modification of monetary

policy, financial market conditions have become less

taut than earlier and bank credit expansion has resumed.

With respect to the balance of payments, trends in

international transactions indicate a continuing serious

problem. In this situation, it is the Federal Open

Market Committee's policy to foster money and credit

conditions conducive to noninflationary economic expansion

and progress toward reasonable equilibrium in the country's

balance of payments.

To implement this policy, and taking account of

forthcoming Treasury financing, System open market opera

tions until the next meeting of the Committee shall be

conducted with a view to attaining somewhat easier

conditions in the money market, unless bank credit appears

to be expanding significantly faster than currently

anticipated.

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It was agreed that the next meeting of the Committee would

be held on Tuesday, February 7, 1967, at 9:30 a.m.

Thereupon the meeting adjourned.

Secretary

ATTACHMENT A

CONFIDENTIAL (FR)

January 9, 1967

Drafts of Current Economic Policy Directive for Consideration by the

Federal Open Market Committee at its Meeting on January 10, 1967

FIRST PARAGRAPH

The economic and financial developments reviewed at this

meeting indicate further moderation in various expansionary forces

and sharply increased inventory accumulation. The pace of advance

of broad price measures has slowed, although upward price and cost

pressures persist for many finished goods and services. Partly

reflecting the recent modification of monetary policy, financial

market conditions have become less taut than earlier and bank credit

expansion has resumed. With respect to the balance of payments, trends

in international transactions indicate a continuing serious problem.

In this situation, it is the Federal Open Market Committee's policy to

foster money and credit conditions conducive to noninflationary economic

expansion and progress toward reasonable equilibrium in the country's

balance of payments.

SECOND PARAGRAPH

Alternative A:

To implement this policy, and taking account of forthcoming

Treasury financing, System open market operations until the next

meeting of the Committee shall be conducted with a view to maintaining

about the currently prevailing conditions in the money market, but

operations shall be modified as necessary to moderate any apparently

significant deviation of bank credit from current expectations.

Alternative B:

To implement this policy, and taking account of forthcoming

Treasury financing, System open market operations until the next

meeting of the Committee shall be conducted with a view to attaining

somewhat easier conditions in the money market, unless bank credit

appears to be expanding significantly faster than currently antic

ipated.

Alternative C:

To implement this policy, and taking account of forthcoming

Treasury financing, System open market operations until the next

-2

meeting of the Committee shall be conducted with a view to fostering

expansion in bank credit at a moderate rate, but operations shall be

modified as necessary to limit any sharp easing or firming of money

market conditions.