versant with the law and regulations governing acceptances and While the instances cited were perhaps the most flagrant cases, there is no doubt, nevertheless, that the acceptance was misused. In order that the abuses prevalent in acceptance practice might be eliminated we should expect the Federal Reserve Board to revoke those of its rulings which had served to broaden the use of the acceptance and to revert to its early regulations. This step would of necessity have to be taken if the acceptance were to be more of a commercial and less of a finance bill. The Board acted in an exactly opposite manner. In December of 1922 its acceptance regulations were broadened to allow Reserve Banks to purchase acceptances with maturities not in excess of six months drawn by growers or by coöperative marketing associations composed exclusively of growers of staple agricultural products. This ruling was promulgated, so the Board affirmed, to assist in the orderly marketing of agricultural products.98 In March the Board revoked its former elaborate regulations covering purchases of acceptances by the Reserve Banks growing out of the importation and exportation of goods and delegated such control and oversight to the Reserve Banks themselves.99 In explanation of this innovation the Board declared that detailed regulations were no longer necessary, as American banks had had considerable experience in the granting of acceptance credits. Further, they declared that the ruling would facilitate foreign trade. It is true that American banks had had some experience, but most of this unfortunately had been of the wrong type. The Question of a Discount Market. The System's efforts to build up a discount market in New York have been disappointing. The Reserve Banks have given faithful support to the acceptance, have been ready to absorb all the bills which 98 Ninth Annual Report of the Federal Reserve Board, pp. 253-254. 99 Ibid., pp. 249–253. were not taken by the investing market,100 and yet the market has not made the gains anticipated. The competition of the stock market for funds, intensified by the practice of daily settlements, the competition afforded by certificates of indebtedness and by Treasury notes exempt from taxes, the competition of London banks in keeping acceptance rates low, and the selfishness of large banks, which desired to retain the acceptance business themselves and prevent small banks from putting out their acceptances, has prevented this. The adoption of a scheme for term settlements on the Stock Exchange 101 and the flotation of taxable securities by the Government are reforms which should be made and which would materially aid in the building up of a discount market. in New York. By reason of the widespread abuse of the bankers' acceptance and the unwillingness of the majority of commercial banks to do their bit in the development of the discount market, the Reserve Banks should cease giving acceptances preferential treatment. All but those which can meet the strictest credit tests should be purchased and discounted at the rates prevalent for commercial paper.102 The discount market should no longer, as has been the case in the past, be artificially supported by the Reserve Banks. The dependence of the acceptance market upon the Reserve Banks is shown in the table on p. 451.103 104 The time has come when the acceptance market should be made to stand on its own feet. The Federal Reserve Banks should not, as the Advisory Council urges, buy acceptances aggressively,' but should purchase only those of good credit standing and to an amount they deem expedient in the light of contemporary economic events. In the upward sweep of the cycle purchases should be curtailed while on the downward sweep the Reserve Banks should follow a more liberal policy. 100 See Seventh Annual Report of the Federal Reserve Board, p. 382. 101 This is urged by Governor Strong in testifying before the Joint Commission of Agricultural Inquiry. See Hearings before, etc., Part 13, p. 637. See, also, statement by Mr. Pierre Jay, of the Federal Reserve Bank of New York. (The Commercial and Financial Chronicle, April 3, 1920, p. 1368.) 102 This was urged by Mr. Forgan of Chicago at the May 18, 1920, conference, p. 56. Preferential rates established during and since 1920 on bankers' acceptances discounted for member banks apply only to acceptances presented for rediscount by a bank other than the acceptor, the commercial paper rate being applicable on acceptances rediscounted by the acceptor. (Discount Rates of the Federal Reserve Banks, p. 31.) 103 Ninth Annual Report of the Federal Reserve Bank of New York, p. 21 104 Ninth Annual Report of the Federal Reserve Board, pp. 410 and 421. As illustrative of the fact that the growth of the acceptance during the war period was largely of a mushroom character, and was the result of the absence of foreign competition, a comparison might be made between fluctuations in the amount of commercial paper and of acceptances outstanding. As reported by a number of dealers (varying from twenty-six to thirty) to the Federal Reserve Bank of New York, the paper dealt in by commercial paper houses reached a maximum of 1296 millions of dollars in January 1920, declined to 663 millions by December of 1921, and had by the middle of 1923 increased to 870 millions. The increase from the low point has been about 31%. The amount of bankers' acceptances, on the other hand, reached the billion dollar mark during 1919 and 1920, fell later to 600 millions, a decline of 40% and has not as yet advanced materially from this low point. If the dollar draft is to become an attractive investment for surplus foreign and domestic capital its liquidity and safety must be beyond reproach. American banks in granting acceptance credits must follow those principles and practices which contributed to the development of the London discount market. Deviations from sound practice will but impair the standing of the market. Comparative Importance of the Discount and Open-Market Operations of the Reserve System. Prior to 1917 the openmarket operations of the Reserve Banks were of much greater importance than their discount operations. Through this period member banks had not been forced to rediscount. During the war, by reason of the fiscal policies of the Government, the re discounts of the System grew to vast proportions. Their openmarket operations were dwarfed. Through 1920 and 1921 the discount operations of the Reserve Banks, as during the war period, were still large relative to their open-market operations. Beginning in 1922, however, their open-market operations increased in importance and amounted to nearly a fourth of their total investments. Discount and Open-Market Operations of the Reserve Banks Credit Curves of the Federal Reserve Banks and of the Member Banks. In the following chart is depicted the credit curves of the Reserve Banks and of member banks, comparing the total earning assets of the System with the total loans and investments (including rediscounts with the Federal Reserve Banks) of the reporting member banks. The fluctuations of these items we have represented by index numbers with the base equal to the average of the weekly figures for 1919.105 It will be noted that through 1919, 1920 and 1921 the earning assets of the Reserve Banks were much more reponsive to business changes than the loans and investments of member banks. Thus the index number, reflective of changes in the earning assets of the Reserve Banks, rose from eighty-six in January 1919, to one hundred and thirty-four in October 1920, and then fell to forty-seven in January of 1922. The loans and investments of the reporting member banks rose from a minimum of ninety-two to a maximum of one hundred and fourteen and later fell to ninetyseven. The range of variability in this index, then, was much less than in that representing the earning assets of the Reserve Banks. The Board claimed that this was due to: 1) The fact that the discounts of the Reserve Banks represent increments and decrements in the total supply of credit and that the loans of member banks are of a more permanent character. 105 See Eighth Annual Report of the Federal Reserve Board, pp. 3-11; also, Miller, Curves of Expansion and Contraction, 1919–1921. 1919 1922 1923 1920 1921 CHART XXIV: FLUCTUATIONS IN THE LOANS AND INVESTMENTS OF MEMBER BANKS (INCLUDING REDISCOUNTS WITH THE RESERVE BANKS) COMPARED WITH THE FLUCTUATIONS IN THE EARNING ASSETS OF ALL THE RESERVE BANKS. In time of need, the Board explained when the ordinary supply of credit is inadequate, banks resort to the credit facilities of the Reserve Banks. At such periods the resources of the Reserve Banks supplement those of member banks. 2) The "freezing" of a large proportion of member bank credit through 1920 and 1921, which made deflation much more gradual than it would otherwise have been. During 1922-1923 it will be noted that the earning assets of the Reserve Banks increased proportionately less than did the loans and investments of member banks, and, unlike the previous period of expansion, they were not so reflective of changes in business conditions. The reason is that member banks through 1922, as in 1915 and 1916, expanded upon the basis of gold imports and not upon rediscounts, as in 1919. The imports of gold in 1921 |