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    "title": "Liquidity",
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    "ocrText": "The original documents are located in Box B77, folder \"Liquidity\" of the Arthur F. Burns\nPapers at the Gerald R. Ford Presidential Library.\nCopyright Notice\nThe copyright law of the United States (Title 17, United States Code) governs the making of\nphotocopies or other reproductions of copyrighted material. Arthur Burns donated to the\nUnited States of America his copyrights in all of his unpublished writings in National Archives\ncollections. Works prepared by U.S. Government employees as part of their official duties are in\nthe public domain. The copyrights to materials written by other individuals or organizations are\npresumed to remain with them. If you think any of the information displayed in the PDF is subject\nto a valid copyright claim, please contact the Gerald R. Ford Presidential Library.\nNational /estminster Bank Limited\nNational Westminster House\n326 High Holborn\nLondon WC1\nTelephone 01-242 3399\nDERALO FORD LIBRARY\nWith the compliments of the Economic Adviser\nPresented at The Eur ollar & Eurobond Internat al Seminar: London\n10 and 11 December 1969\nINTERNATIONAL LIQUIDITY\nRussell J. Clark\nFORD & GERALO LIBRARY\nINTRODUCTION\nIn the pamphlet inviting attendance at these meetings,\nthe objective of the seminar was said to be to establish the\ncurrent and future prospects of the Eurodollar and Eurobond\nmarkets and their implications for the industrialist as well\nas for the banking community. No-one will question the\ncomplexity of the subject before us, nor, I think, is there\nany doubt about its importance. My task, as I understand 1t,\nis not to discuss the mechanism of either the Eurodollar or\ntheEurobond markets but rather to set the scene by talking\nabout the international financial situation as it has developed\nand some of the factors that will influence its future progress.\nOne of the significant aspects of the picture, and one directly\nrelevant to the Eurodollar market, is international liquidity.\nThe Euro-currency, and in the particular the Euro-dollar,\nmarket is something that frequently arouses strong feelings.\nThere are those who regard it as the source of very great dangers.\nWe have, for example, recently been reminded by no less\nan authority than the former Governor of the Bank of England\nthat this is a market in which there is no lender of last resort.\nThere are also those who see in the Euro-dollar market evidence\nof the success of the U.S. in getting the world on to a dollar\nstandard, and this arouses opposition on political and emotional,\nas well as on economic, grounds.\n1.\n2.\nOn the other hand, during the past month I have heard the\nEuro-dollar market described by two eminent authorities in most\nglowing terms. One, a representative of the City, spoke of\nit as the salvation of our monetary system. The other, a\nContinental banker, described it as the greatest private\nenterprise institution in the world, more important than many\nofficial institutions.\nThe size of the market 1s largely a matter for conjecture\nfor the very good reason that, because it operates outside\nofficial jurisdiction, it is nobody's business either to make\nor collect returns of transactions.\nIt is also a matter of\ndispute as to whether or not there is an important element of\ncredit creation in this market. Milton Friedman, whose words\non monetary matters command widespread respect, has recently\naccepted the size of the Euro-dollar market as around $30,000 million.\nSince he finds that no more than $9000 million can be accounted\nfor as resulting from the U.S. balance-of-payments deficit\nand a further $5000 million as having come from official reserves,\nhe attributes the remaining $15000 million - $16000 million\nin the market to the creation of credit by the participating\nfinancial institutions.\nIf this were so, with no lender of\nlast resort and the possibility of sudden surges of interest rates,\nthere would certainly be a serious danger of instability,\nand even of disaster.\nThe probability is, however, that\nFORD is LIBRARY GERALD\nthough there has been some credit creation, it has been on\nnothing like the scale suggested by Professor Friedman.\nMost\n3.\nMost of the dollars for which he cannot account may well have\ncome, over a long period, from non-official holdings in\ncommercial banks and elsewhere. Be that as it may, whatever\none's view of the disadvantages and dangers of this market,\nthis at least can be said - it has facilitated a greathdeal of\nbusiness that would otherwise have been frustrated for lack\nof funds.\nTEMPORARY PHENOMENON?\nThe question then arises as to whether this very large\nand important market is to be regarded as a permanent, or only\na temporary, feature of the international monetary scene.\nIn part one's answer to this question depends on the view\none takes of the future of the U.S. dollar as both a reserve\nand a vehicle currency.\nLeaving that on one side, however,\nperhaps one can be helped in finding the answer by recollecting\nthe main factors that have given rise to the Euro-currency market.\nIt came into existence essentially as a commercial response\nto two things. First, restrictions imposed by national\ngovernments on the convertibility of other currencies, and\nhence on liquidity for international commercial transactions.\nThis meant that there was potential import and export business\nround the world frustrated at the absence of suitable means\nof payment.\nGERALD FORD LIBRARY\n4.\nThe second factor is that there were in the hands of\nnon-residents big currency balances, primarily dollars, arising\nout of the deficit on the U.S. balance of payments, the holders\nof which were seeking more profitable employment for their\nfunds than they could obtain by employing them in the U.S.\nIt was the bringing of these two things together by foreign\nexchange dealers and brokers that resulted in the market\nwhich has now grown to such large proportions.\nBERALD FORD LIBRARY\nIt seems to follow that if either of these factors\ndisappeared the market would come to an end, or at least be\nseverely curtailed. Thus, if all currencies were made completely\nconvertible, the market in its present form would be unnecessary.\nIf, on the other hand, foreign exchange restrictions of the\nseverity that existed in the immediate post-war years were\nto be introduced, the market would be impossible.\nShould the U.S. balance of payments swing from its present\nsubstantial deficit into surplus, dollar balances in the\nhands of non-residents would obviously be considerably reduced.\nShould the pattern of interest rates change markedly, it might\nbecome more profitable to employ dollar balances within the U.S.\nrather than use them externally.\nToo much, however, should not be made of a possible shrinkage\nin the size of the market arising out of a correction of the U.S.\ndeficit.\nIn the hey-day of sterling, long before the expression\n\"sterling balances\" was invented, there were plenty of pounds\n5.\nin the hands of non-residents of the United Kingdom.\nThese\nwere due, not to a British balance-of-payments deficit -\nwe had a surplus - but to the fact that because people all\nover the world were doing business with Britain, they had to\nkeep balances in sterling in London.\nThese\nwere\nalso\nemployed\nfor the finance of trade between third countries.\nSurely the same will be true of the dollar.\nThe volume\nof the overseas trade of the U.S. and the place that the dollar\nhas already acquired as a vehicle currency will ensure that\nthere are always a lot of dollars innon-American ownership.\nNevertheless, if the measures already taken and those\nunder discussion give us a reformed international monetary system,\nand if policies adopted by individual countries result in\nbalance-of-payments equilibrium, there should be some easing\nof controls. In that case there would be a change in the\nEuro-currency market as we now know it which should, therefore,\nbe regarded as having a limited, though not necessarily a\nvery short, life.\nGERALD FORD\n6.\nTHE MONETARY SYSTEM IN WHICH THE MARKET DEVELOPED\nReference to monetary restrictions and balance-of-payments\ndeficits leads naturally to a consideration of the way in\nwhich the monetary system has developed. If a monetary system\nis to be judged by the extent to which it facilitates the\ninternational movement of goods and services, the arrangements\nmade at Bretton Woods may be considered to have been remarkably\nsuccessful.\nIn the period since the War, the level of\nworld trade has increased year by year almost without interruption,\nthough not always at the same pace. Recently, however, some\ndoubts have arisen as to whether the Bretton Woods system would,\nwithout modification, continue to meet the needs of the\ninternational business community. At times there has seemed\nto be the danger that trade and payments might be restricted\nin order to preserve a system that was intended to result in\nincreased freedom of movement.\nGERALD FORD LIBRARY\nTo understand why this should be necessary, look at the\nBretton Woods arrangements and the assumptions that underlay\nthem. An essential feature of the system is the fixing,\nwithin narrow limits, of rates of exchange. To meet the\ninevitable variations in the fortunes of the countries participating\nin the Bretton Woods arrangements, rates were permitted to move\neither side of their agreed parities by something like 1%.\nOf equal importance was the establishment of the International\nMonetary Fund itself, with reserves which, on conditions, it\ncould lend to member countries to tide them over temporary\ndeficits in their balances of payment.\n7.\nThere were three assumptions underlying these very practical\narrangements for international monetary co-operation.\nThese\nwere that imbalances would normally be relatively small,\nthat countries, both deficit and surplus, would take prompt\ndomestic action to correct these imbalances, and that national\nreserves, supplemented by modest assistance from the I.M.F.,\nwould be sufficient to provide bridging finance.\nIt was, of course, recognised that occasionally things\nwould not be normal. For one reason or another, the economy\nof a country, and consequently the exchange rate for its\ncurrency, might get seriously out of line with those of the\nrest of the world.\nThis state of affairs was known as\nfundamental disequilibrium, for which the appropriate remedy\nwas agreed to be the devaluation or revaluation of the currency\nconcerned.\nIn this connection it was assumed that, in\nconsultation with the I.M.F., countries would readily recognise\nfundamental disequilibrium when it existed and would take the\nappropriate, and early, action with regard to their currencies.\nAll these underlying assumptions have, to a greater or less\ndegree, proved false.\nFor one reason or another, countries\nhave not been willing to take prompt domestic action to correct\na deficit or a surplus on their balance of payments.\nThey have frequently been more concerned with maintaining\nfull employment and growth than with correcting their balance\nof payments.\nFORD i LIBRARY GERALD\n8.\nThen, with the growth of world trade, imbalances have,\nperhaps naturally, tended to become larger and national reserves\nhave proved insufficient to finance them, especially in view\nof the dilatoriness of countries, surplus and deficit, in\napplying corrective measures.\nFurthermore, again for a variety of reasons, there has\nbeen an unwillingness to make adjustments in exchange rates.\nBritain is, of course, one example of a country unwilling\nto devalue its currency, even after it had become pretty\nevident that the economy was in a state of fundamental\ndisequilibrium.\nFor a long time we defended the indefensible\nand in the process incurred an unmanageable burden of short-term\ndebt and distorted the economy away from, rather than towards,\nexport markets.\nWe were not alone to blame for this, in that\nthe other major countries were only too willing to provide\nthe credits that permitted us to stave off a change in the\nparity.\nHad we had very much larger reserves, we could\nhave run these down and at least have avoided incurring\nsuch substantial indebtedness.\nGERALD LIBRARY GERALD FORD\nAlthough the U.K. is the great example of a country\nsticking to the agreed parity far longer than was desirable,\nother countries have done the same.\nThe result has been\na series of international monetary crises, each more serious\nthan its predecessor.\nChanges in parities have, more often\nthan not, been made in crisis conditions and, because of the delays\n9.\nin making them, have tended to be greater than was strictly\nspeaking necessary.\nIt is this failure of the Bretton Woods\nadjustable-peg system to work satisfactorily that has given rise\nto a call for greater flexibility in exchange rates.\nEFFECTS OF THE EURO-CURRENCY MARKET IN THIS CONTEXT\nIt has now been conceded by most of the worlds international\nmonetary experts that the system needs to be reformed.\nFirst there\nis agreement that, in the sense that national reserves plus\nborrowing facilities are insufficient, there is a shortage of\ninternational liquidity. This by itself may not be important\nfor businessmen, since commercial transactions are not financed\nfrom national reserves.\nFinance for commercial transactions\nis provided by commercial banks.\nThat, however, is not the\nwhole story.\nAs I have already indicated, with the expansion\nin world trade, swings in national balances of payments have\nwidened and if national reserves, either owned or borrowed,\nare insufficient to meet these, governments feel empowered\nto apply restrictions of one kind or another.\nThis has\ncertainly been the case with the U.K., with the result that\nmany transactions can no longer be financed in sterling.\nThus,\nat one remove, a shortage of liquidity in the national reserve\nsense, certainly affects business.\nThe existence of the\nEuro-currency market has undoubtedly eased the problem\nGERALD FORD LIRRARY\n10.\nfrom the point of view of private enterprise.\nThis is what\nthe London banker meant when he said that the Euro-currency\nmarket had been the salvation of the system.\nBy the same token, the existence of this market has made\nit more difficult for governments to control domestic inflation.\nThis may be bad from a central bank or treasury point of view.\nbut meanwhile it is good for private enterprise, at least in\nthe short run.\nLess desirable from every point of view is\nthe existence of a reservoir from which de-stabilising flows of\nfunds can move rapidly from weak to strong currencies.\nAnother effect attributed to this international market\nin liquidity is some easing of the pressure on the U.S. balance\nof payments, certainly as measured on an official settlements\nbasis.\nTo the extent that this is true, it has permitted\nthe U.S. to continue to run a deficit, which in their case\nGERALD ReFORD\ninvolves a transfer of real resources from relatively poorer\ncountries to the U.S.\nThe market has also been the means\nby which American companies have been able, in spite of\nrestrictions on the export of capital from the U.S., to purchase\nan ever-growing stake in Western Europe.\nFor obvious reasons\nthese effects do not command themselves to Europeans.\nThe Euro-currency market is also often condemned as being\nthe channel through which high interest rates in one country\nare transmitted to another. While this may be true, it seems\nto me evident that even if there were no Euro-currency market\n11.\nas we know it, the introduction of a tight monetary policy and\nhigh interest rates in the most important financial centre in\nthe world would, by one means or another, make itself felt\nin other countries.\nThus adverse criticism of the Euro-ddlar\nmarket on this ground seems misplaced.\nPRESENT CALM\nThe monetary system is at the moment enjoying a period of\nquite unexpected calm.\nThis is a welcome change after the\nfinancial crises of the past two years and more.\nHow long\nthe present lull will last no-one can tell, but it may help\nin forming a judgment if one considers some of the factors\nthat have produced it.\nUndoubtedly the most important element is the exchange\nrate adjustments that have occurred, starting with the\ndevaluation of the pound in November 1967 and ending with the\nrevaluation of the D. Mark two months ago.\nThese adjustments\nhave resulted in all the major currencies looking far more\ncredible than they have done for a long time, and this\ncredibility has made speculation, particularly at current\nGERALD FORD LIBRARY\nrates of inteest, somewhat unattractive.\nSecondly, in both the two main deficit countries, a measure\nof monetary and fiscal discipline has been introduced.\nIn\nneither is it working as quickly as the authorities would like\nbut in both there seems, for the moment at least, a political\ndetermination to see the policy through.\nWhether or not we\n12.\nWhether or not we shall like the results of hard-hitting deflationary\npolicies, particularly in the U.S., remains to be seen.\nThirdly, there has been concerted action via the I.M.F.\nto increase international liquidity.\nA decision was taken\nat the I.M.F. Meetings in Washington at the end of September to\nactivate the scheme for S.D.R.s. Thus on 1 January next\nthe I.M.F. will make the first allocation of these,\nthe\ntotal of the first issue being $3500 million, of which\nBritain's allocation will be something in excess of £400 million.\nThis is significant in that it is the first sizeable addition\nto our owned reserves for a very long time.\nOther countries who are participating in the scheme,\nand this means most, if not all, the 100 and more member\ncountries of the I.M.F., will also receive allocations of\nS.D.R.s in accordance with the size of their quotas in the Fund.\nReserves will from now on consist of gold, foreign exchange,\nreserve positions with the I.M.F. and S.D.R.s. After the\nallocation of S.D.R.s, the total reserves for all member\ncountries will on current figures be held in the following\nproportions: gold 49%, foreign exchange 39%, reserve positions\nin the I.M.F. 7½, and S.D.R.s 41%.\nThe 4½ for S.D.R.s makes them appear rather unimportant,\nyet 1 January will be an exciting day because something new in\nthe way of international monetary collaboration will have begun.\nGERALD FORD LIBRARY\n13.\nInternational liquidity is to be deliberately created and the\nincreases are to be jointly managed through the I.M.F.\nWhatever\nthe ultimate outcome, the decision taken last September has\ncertainly contributed to the measure of stability we now enjoy.\nOne can hardly refer to the present calm without some\nreference to gold.\nThe behaviour of the free gold market\nis important both as a symptom of the calm and also as a promoter\nof continuing calm.\nWhat will happen if the free market\nprice falls below $35, even for a short time, isbeing debated\nby the experts.\nPerhaps, for the purposes of national\nreserves, gold may become a sort of metallic S.D.R.\nTHE FUTURE\nIn thinking about the future of the Euro-currency market\na number of factors require brief consideration.\nHaving\nreferred to S.D.R.s, one must raise the obvious question\nas to the prospects for this experiment.\nOne may hope that\nit will be successful and that its success will help to make\nit possible for national governments to relax or even ultimately\nremove, their exchange controls; but will the experiment succeed?\nTo me the omens seem good.\nS.D.R.s have not been hastily\nintroduced as a stop-gap arrangement.\nThey are the product\nof discussions between the I.M.F. and national governments\nover a period of five years and more.\nGERALD LIBRARY\n14.\nThey have been endorsed by all the major trading countries\nof the free world and their value in terms of gold is\nguaranteed jointly by the members of the I.M.F.\nNow we may\nexpect that they will be accepted by governments in settlement\nof deficits and will be held by them in reserves on a par\nwith the other main constituents, gold and foreign exchange.\nIf this proves to be the case the resultant addition to\nGERALD FORD LIBRARY\ninternational liquidity should increase confidence.\nA second element in the present situation that must have\na bearing on the future of the international monetary system\nis the study being conducted by the I.M.F. on the possibility\nof introducing greater flexibility into exchange rates.\nThe ability of exchange rates to move would have the effect\nof making balance-of-payments deficits and surpluses to some\nextent self-correcting.\nMoreover, as there occurred a\npersistent movement, downwards or upwards, in anexchange rate\nit would be evidence to the entire world that some internal\nadjustment was required in the economy of the country concerned;\nand one might hope that governments might thereby be induced\nto take earlier corrective measures.\nIf they did so,\nsuch measures would need to be less punitive than if they were\nleft to the last possible moment, as has so often been the case\nin the past.\nWith some flexibility in the exchange rate,\naccompanied by appropriate domestic policies, we in Britain\nmight even get away from the abrupt stop-go policies that have\nplagued us for so long.\n15.\nWhen thinking about the future of the Euro-currency market,\none must include the prospects for the U.S. balance of payments.\nEven with an unprecedentedly severe monetary policy, this\nproblem is proving very difficult of solution, and few people\neither inside or outside the U.S. seem to expect that the\ncoming year will see anything other than a still larger deficit.\nOne can only wish the Administration success in their endeavours\nwhile hoping that they will not produce a recession of\nexportable dimensions, nor allow balance-of-payments\nconsiderations to draw them into isolationist economic and\nfinancial policies.\nMeanwhile, as I have already indicated, the tight monetary\npolicy in the U.S. is bound to result in high rates of interest\nin the Euro-currency market.\nIt also seems likely that\nwhen and if domestic policies in the U.S. are successful in\nreducing their deficit, some curtailment of the market may\nwell result, with a consequent pressure on interest rates.\nThat is unless some other country begins to run a deficit and\nits currency thereby becomes available to take the place of\ndollars.\nFORD & LIBRARY GERALD\n16.\nThere is one other factor of which brief account should\nbe taken in this context.\nI refer to the European Economic\nCommunity and the efforts being made to carry integration\nfurther by monetary means.\nFor many within the Community\nthe goal is not only the further unification of monetary and\nfiscal policies, but also a single currency.\nThis is\nundoubtedly a long way off but asa halfway house many would\nwelcome an agreement that would permanently fix exchange rates\nbetween the currencies of the Six.\nTo the extent that the\nSix are successful in achieving this aim, they will clearly\nhave introduced a considerable element of stability into the\nworld's monetary arrangements.\nIn the process they may\nwell have provided the world with a new reserve and vehicle\ncurrency to operate alongside the dollar, especially if the U.K.\nand sterling become a part of the European system.\nGERALD FORD LIBRARY\n17.\nCONCLUSION\nThese then are some of the aspects of the international\nmonetary scene that affect the future of the Euro-currency\nmarket, itself an important feature of that scene.\nIf the\nS.D.R. scheme succeeds in being a useful improvement in\ninternational liquidity, if greater flexibility is introduced\ninto exchange rates, and if balance-of-payments disequilibria\nare brought under control, the need for national exchange controls\nwill be reduced.\nWith a relaxation of controls there would\nbe a correspondingly reduced need for the Euro-currency market.\nI think the prospects for some relaxation, while not bright,\nare considerably better than they were only a few months ago.\nShould the hoped-for improvements not materialise, however,\nand national controls be intensified, the Euro-currency market\nwould become much more restricted. There might also be\nan attempt on the part of governments to secure some official\ncontrol of the market.\nThus changes of some kind seem a distinct possibility.\nIt would be surprising if the market simply went on getting bigger.\nThough these and other changes may occur, it seems safe to\npredict that for the foreseeable future the Euro-currency\nmarket will continue to provide a useful addition to liquidity\nand thus facilitate the international movement of goods and\nservices.\nBERALD FORD LIBRARY\n[1970?]\nA small group of the staff met at 12 Noon, Monday, May 18,\nin Mr. Holland's office preparatory to a meeting to be held in Chairman\nBurns' office on May 19. Those present were:\nMessrs. Holland\nR. Solomon\nF. Solomon\nMolony\nPartee\nAxilrod\nGramley\nKeir\nEttin\nGrimwood, Secretary\nThere was a discussion of the nature of any liquidity crisis\nthat might arise, and the ways in which the crisis might affect broad\nsectors of financial markets. There was general agreement that insti-\ntutions holding money or near money -- commercial banks, savings and\nloan associations, and mutual savings banks -- in the aggregate were\nnot in a weak position and that contingency plans to aid institutions\nFORD i LIBRARY 07V839\nof this type are adequate.\nInsurance companies are making policy loans at a record\nlevel, but cash flows apparently are adequate. Commitments out to\nsix months are holding up and do not give any indication of a sharp\npinch.\nSome commercial paper issuers could find the market shrinking\nto the extent that rollovers of outstanding paper might be difficult;\nhowever, it is believed that most corporations have bank lines of credit\nwhich would cushion the immediate effects. This would have effects on\nbank loan expansion that would need to be taken account of by monetary\npolicy.\n-2-\nTwo sectors of the market were identified as vulnerable --\nstock brokerage houses and mutual funds. Both are closely tied in\nwith the stock market and are threatened with problems that are more\nof confidence than of liquidity.\nStock Brokerage Houses. These institutions are vulnerable to\ncontinued erosion of asset value. Currently there is no plan in place\neyel\nto meet a liquidity crises in the industry. A bill introduced by\nregist\nSenator Muskie would provide protection to customers by insuring brokers'\nliabilities to customers.\nContingent plans to funnel bank funds to brokerage firms\nwould face two problems: (1) lack of a suitable asset against which\nto lend; and (2) a reluctance on the part of brokerage firms to acquire\na fixed-dollar liability when asset value was declining.\nMutual funds. There was no indication that mutual funds are\nsuffering net redemptions at this time, but it was recognized that\nlarge-scale and prolonged redemptions might force liquidations on a\nfalling market. There is no plan in place to meet this possibility.\nPlans to make conduit loans through banks would face the same\nproblems described above.\nIt was recognized that some marginal alleviation of liquidity\npressures could be provided by somewhat greater provision of reserves to\nsupport a moderate expansion of bank credit and deposits, but that such\nan action would have to be considered in the context of other objectives\nof monetary policy.\nFORD & LIBRARY GERALD\nBOARD C - GOVERNORS OF THE FEDERAL RESERVE SYSTE\n2/13/70\nDATE\nTO\nChairman Burns\nFROM J. CHARLES PARTEE go\nThis report, prepared under the\nsupervision of Ed Ettin, Chief of our\nCapital Markets Section, is in response\nto your request for an analysis of the\nliquidity situation relayed to me by\nBob Holland. A Wall Street Journal\nroundup on the subject had appeared\nabout 2 weeks ago.\nGERAL FORD LIBRANIA\nKolea\nBOARD OF GOVERNORS\nOF THE\nFEDERAL RESERVE SYSTEM\nOffice Correspondence\nDate February 12, 1970.\nTo\nMr. J. Charles Partee\nSubject: Current liquidity and debt\nFrom Edward C. Ettin\nburden in the U.S. economy.\nAs requested by you, the attached paper represents the\nstaff's evaluation of the current state of liquidity and debt\nin the U.S. economy. While numerous tables summarize the available\nstatistical information, the analysis was severely restricted by\nthe lack of adequately disaggregated data. However, it is the\nconclusion of the paper that generally there seems to be no risk\nof widespread debt defaults or a liquidity crisis, although\nsome savings and loan associations and, possibly, some nonfinanci al\ncorporations are now in a very exposed position. This conclusion\nrests on the twin assumptions of a less restrictive monetary\npolicy in 1970 and a recession no longer or deeper than those that\nhave already occurred in the postwar period.\nMessdames Stockwell and Opper and Messrs. Fisher, Struble and\nStone joined me in preparing this paper.\nEmail CG\nGERALD FORD LIBRARY\nCURRENT LIQUIDITY AND DEBT BURDEN IN THE U.S. ECONOMY\nA continuing concern of economists interested in the business\ncycle and stabilization policies has been the potential risks of a\nliquidity crisis both during periods of monetary restraint\nand the initial phase of recessions. Specific concern centers on the\nability of both financial institutions and the nonfinancial sector to\nmeet their commitments, and the effect of any inability to do so on\nboth the economic structure and general confidence.\nWhile no liquidity crisis has, in fact, developed in the U.S.\neconomy in the postwar years, concerns regarding liquidity and failures\nby financial and nonfinancial institutions have become more pronounced\nin both the \"credit crunch\" of 1966 and during the current period.\nThis paper, by reviewing selected major economic sectors, will discuss\nthe state of current liquidity and debt burden in the U.S. economy in\norder to evaluate the risk of a liquidity crisis in 1970.\nThree general qualifying factors, however, should be emphasized\nat the outset. First, the micro-data needed to disaggregate totals\nand averages do not generally exist, or at least are not available\nto Board staff. Thus, aggregate trends and ratios must be used for\nillumination, but they restrict the analyst to general, qualitative,\nstatements.\nFORD DERALOR & GERALD LIBRARY\n-2-\nSecond, the analysis presented in this paper assumes that\nmonetary policy will not be as restrictive in 1970 as in 1969. It\nalso assumes that if a recession develops, it will not be any more\nsevere than those that have occurred in the postwar period.\nThird, there is a presumption that the Federal Reserve\nSystem stands willing and able to be a true \"lender of last resort\" to\nthe entire financial system. Emergency credit procedures for the\nsavings and loan industry already exist, and contingency plans have\nbeen considered for the savings banks and life insurance companies.\nWith the long standing procedures for emergency loans to both member\nand nonmember commercial banks, it thus seems clear that those\nfinancial institutions most likely to face a liquidity crisis will\nbe directly assisted by the Central Bank if and as assistance is\nneeded. This does not mean that very marginal financial institutions\nwill be immune from failure--although most of the depositors are\ninsured. It does suggest that spiraling failures among financial\ninstitutions is not a likely event. It also suggests that the greatest\nrisk may be in nonfinancial sectors, where, unfortunately, the least\ndisaggregated data exist.\nI.\nFINANCIAL INSTITUTIONS\nIn this section, developments at commercial banks, mutual\nsavings banks, savings and loan associations, and life insurance companies\nGERALD FORD LIBRARY\n-3-\nwill be considered. By recent historical standards, each of these\ninstitutional groups is operating with far less than normal liquidity\nand flexibility, and--for some -pronounced further policy restraint\n1/\ncould have serious repercussions. But, for this group of institutions,\nthe onset of a modest recession--accompanied by a relaxation of\nmonetary policy--would rather quickly improve their liquidity. Deposit\ninflows would expand as market rates decline, loan demands would moderate,\nloan repayments would probably accelerate as businesses converted some\nworking capital to cash, and life insurance companies would face a\nsmaller demand for policy loans.\nCommercial Banks\nCommercial bank liquidity declined considerably further\nduring the 1960's. This is clearly suggested by the two measures of\nbank liquidity presented in Table 1. As may be observed, the ratio\nof loans to deposits rose from about 53 per cent at the end of 1960\nto nearly 68 per cent by the end of 1969. A similar uptrend, although\nsomewhat more moderate in slope, was displayed by the ratio of loans\nto total bank liabilities. The smaller advance in this latter ratio\nreflects the much greater use of non-deposit sources of funds that\nbanks have made in recent years.\n1/ Most--if not all--financial institutions are probably insolvent in\nan economic sense (i.e. the market value of their assets is less than\ntheir liabilities). They are not insolvent in a regulatory sense because\ngovernmental authority permits assets to be carried at cost. The\nquestions of solvency are ignored in this paper.\nFORD is LIBRARY 076839\n-4-\nTable 1\nSELECTED LIQUIDITY MEASURES\nAll Commercial Banks\n*\nTotal loans as a per cent of:\nTotal Deposits\nTotal Liabilities\n1929\n73.0\n67.0\n1933\n51.0\n48.0\n1946\n19.0\n19.0\n1960\n53.0\n51.0\n1966\n65.0\n61.0\n1967\n60.0\n57.0\n1968\n61.0\n57.0\n1969\n68.0\n60.0\n* - All ratios computed with year-end data except 1966 ratios which\nare based on end-of-September data. This latter date was se-\nlected to give some indication of conditions during the period of\nfinancial strain in 1966. All ratios have been rounded to the\nnearest decimal point.\nThe decline in bank liquidity during the 1960's extended a\ndowntrend that was begun soon after World War II. At the close of the\nWar total loans amounted to only 19 per cent of total deposits and to\na slightly smaller proportion of total liabilities. These early post-\nWar levels were exceptionally low by historical standards, and each\nratioshas risen almost steadily since the end of the War, except during\nperiods of recession when Federal Reserve monetary policy was easy and\nloan demand was weak. However, despite the nearly continuous rise,\nFORD is GERALD LIBRARY\n-5-\nboth ratios remain below their 1929 values, and the banking system\nappears to be in a somewhat more liquid condition than before the\nfinancial collapse of 1929-1933.\nTo shift to a more recent period for comparison, according\nto most traditional measures of liquidity, the banking system appears\nto be in roughly the same liquidity position today as it was in during\nthe credit crunch period of 1966. As may be seen in Table 1, the\nratio of loans to deposits for all commercial banks was somewhat\nhigher at the end of last year than during the fall of 1966. Con-\nversely, the ratio of loans to total liabilities for all commercial\nbanks was somewhat lower on the recent date than in 1966.\nEssentially the same impression is conveyed by the data\npresented in Table 2. The present liquidity position at large\nweekly reporting banks appears somewhat lower if the ratio of liquid\nassets to total liabilities is used as a measure and somewhat higher\nif the ratio of loans to total liabilities is used. Both ratios\nsuggest that country bank liquidity is presently somewhat lower than\nin 1966.\nGERALD R. FORD LIBRAPA\n-6-\nTable 2\nSELECTED LIQUIDITY MEASURES\nLarge Banks and All other Banks\n2/\n1966\n1967\n1968\n1969\nLarge weekly reporting banks\nTotal loans/total liabilities\n64.0\n58.0\n59.0\n62.0\nTotal liquid assets 1/ /total\nliabilities\n20.0\n20.0\n19.0\n16.0\nAll other commercial banks\nTotal loans/total liabilities\n55.0\n54.0\n55.0\n58.0\nTotal liquid assets-total\nliabilities\n28.0\n27.0\n26.0\n22.0\n1/ Total liquid assets include assets that serve as legal reserves for\nFederal Reserve member bank, total U.S. Treasury securities, and\nshort-term municipal securities.\n2/ Data for 1966 are as of the end of September. Data for all other\nyears are as of the end of the year.\nIt is a well recognized fact that a single liquidity measure,\nor for that matter even a group of measures, cannot provide a precise\nindication of the state of bank liquidity and changes therein. Between\n1966 and 1969, for example, large banks in the United States discovered\nseveral new sources of funds of which the Euro-dollar market and the\ncommercial paper market are the most important. Since these markets\nhave enabled banks to weather a rather substantial deposit decline during\nGERALD LIBRARY\n-7-\na period of considerable financial strain, it appears prudent to view\nthe new ability of banks to tap these markets for supplementary funds\nas at least a partial offset to -- if not a partial cause of -- the\nfurther erosion in conventional portfolio liquidity. To be sure, only\nlarge banks have the capability of using these markets, but as the data\nin Table 2 suggest, liquidity conditions at smaller commercial banks are\nnot quite as depleted as those at large banks.\nThe recent further decline in liquidity has not, of course,\nfundamentally affected the ability of the banking system to meet a\nserious currency drain, for this depends not on the composition of\nbank assets but rather on the willingness of the Federal Reserve System\nto act decisevely under such circumstances. Nonetheless, the depleted\nstate of bank liquidity would no doubt make the System's job more\ndifficult if a period of serious financial strain were to develop.\nThe reduced state of bank liquidity should also be of some\nconcern for another reason. With asset portfolios already heavily\nweighted with loans, it seems unlikely that banks will be willing to\ncontinue making loans with funds obtained from the sale of securities,\nat least not at the same pace as in other recent months. Therefore,\nunless the total volume of bank credit begins to expand again, it\nappears that some bank borrowers may be hard pressed to find the credit\non which their own planning had been based. Indeed, the increased use\nof high-cost non-deposit funds by banks suggests that when large deposit\ninflows once again materalize, they would first be allocated to repaying\nnon-deposit borrowings, rather than to new loans.\nFORD & LIBRARY GLRALD\n-8-\nSavings and Loan Associations\nThe quality and adequacy of liquidity at savings and loan\nassociations is particularly difficult to document. Data on the term\nstructure of liquid assets are virtually non-existent. Moreover, the\nadequacy of liquidity must be measured not only against outstanding\ndeposit claims, but also against binding commitments to acquire\nfuture investments--again, something that in practice cannot be\ndocumented with precision.\nIn terms simply of \"liquid assets 1/ held, the savings and\nloan industry is probably in an adequate position even though its\ncurrent situation is low by historic standards. Relative to the\nFHLBB's minimum requirements for liquid holdings-- which have been\nreduced in three steps since mid-1968 in order to bolster the volume\nof funds available for mortgage lending--the industry in aggregate\nhas held a fairly steady dollar volume of \"excess\" liquid assets\nexcept for the 1966 lows, and currently is only marginally below the\nhighs of the 1960's (Table 3).\nHowever, as with all financial institutions, some of the\nliquid assets held by savings and loans could only be sold at substantial\nlosses, even though they are carried on balance sheets at cost.\n1/ S&L liquid assets are defined here as their holdings of cash and all\nU.S. Government securities. This is not entirely satisfactory because\nthere is no indication available as to the maturity structure of their\nGovernments; furthermore, FHLBB minimum liquidity regulations allow\n\"liquid assets\" to include holdings of US Government Agency issues of less\nthan 5 years, although in fact these are not included in the \"US Government\"\nholdings and cannot be isolated out of the aggregate data.\nGERALD FORD LIBRARY\n-9-\nMoreover, paralleling the FHLBB regulatory reductions, liquid holdings\nrelative to deposit liabilities are now at record lows (Table 4).\nTABLE 3\nLIQUID ASSET HOLDINGS\nSAVINGS AND LOAN ASSOCIATIONS\n($ billions, not seasonally adjusted)\n2/\nCash + U.S. Governments\nExcess Over Required\n1966\n1967\n1968\n1969\n1966\n1967\n1968\n1969\nEnd of\nQ I\n11.1\n11.6\n12.9\n12.7\n3.3\n3.5\n4.0\n4.0\nQ II\n10.7\n12.0\n12.9\n12.0\n2.8\n3.6\n3.9\n3.9\nQ III\n10.1\n12.1\n12.1\n10.9\n2.3\n3.6\n3.7\n2.9\n3/\n3/\nQ IV\n11.1\n12.7\n12.5\n11.2\n3.1\n4.0\n3.9\n3.7\n/ All U.S. Government securities excluding Agency issues.\n2/ Required liquid assets consist of the minimum volume of cash and\nGovernment securities that must be held based on deposit levels.\n(The ratio was 7 per cent until 1968 and has been reduced in\nthree steps to the current 5.5 per cent.)\n3/ High dollar level for the 1960's.\nIn an attempt to measure truly unencumbered funds, the \"net\" liquidity\nmeasure of Table 4 has been developed which relates liquid holdings\nless outstanding FHLBB advances. to total deposit liabilities. By this\nmeasure which reflects the reductions in required minimum liquid holdings,\nbut primarily the record volume of funds advanced by the FHLBB during\nFORD & 076830 LIBRARY\nTable 4\nSAVINGS AND LOAN ASSOCIATIONS\nLIQUIDITY RATIOS\n(Per Cent)\nLegal 1/\nNet 2/\nHigh\nHigh\nFor The\nFor The\nEnd Of\n1960's 3/\n1966\n1967\n1968\n1969\n1960's 3/\n1966\n1967\n1968\n1969\nQ I\n12.0\n9.9\n10.0\n10.2\n9.5\n9.4\n4.5\n5.3\n6.6\n5.3\nQ II\n11.9\n9.5\n10.0\n10.0\n8.9- 5/\n5\n8.9\n3.0\n6.2\n6.0\n/\n3.9\n4/\n/\nQ III\n11.4\n9.1\n9.9\n9.4\n8.1\n8.1\n2.2\n6.3\n5.3\n2.0\n6/\nQ IV\n12.0\n9.8\n10.2\n9.5\n8.2-\n8.2\n3.2\n6.4\n5.2\n6/\n1.0\n-10-\n/\nRatio of cash and U.S. Governments to share capital.\n/\n[Cash and U.S. Governments - Borrowing] / Share Capital.\n/\nAll highs occured in the 1960-62 period.\n/\nRequired minimum decreased from 7% to 6.5%.\n/\nRequired minimum decreased to 6.0%.\nRequired minimum decreased to 5.5%\nGERALD\nR\n0804\nLIBRARY\n-11-\n1969--the industry's net liquidity is at an all-time low. This is\nan extremely harsh test, of course, because in the event of any\nemergency the FHLB Board could waive repayment of at least some portion\nof these outstanding loans.\nIn addition, however, California S&L's have been a special\nproblem case for some time; as indicated in Table 5, since 1964 they\nhave placed extraordinary reliance on borrowed funds--which by the\nend of 1969 amounted to double their holdings of cash and US Governments.\nThese particular associations have characteristically been aggressively\ngrowth-and profit-motivated--many are stock, as opposed to mutual\ncompanies--and they had used borrowed funds not so much for liquidity\npurposes as for profit-oriented leverage. This behavior was fairly\nlucrative in the financial environment in which they had operated--with\nhigher-than-average mortgage yields as well as above average offering\nrates. Since the adoption of rate ceilings in 1966, these institutions\nhave had particular difficulty in maintaining deposits since they had\ncounted heavily on out-of-State funds attracted at above average rates.\nTheir resultant lower deposit growth has, consequently, accelerated\ntheir need to borrow from the FHLB; as opposed to pre-1966 borrowing,\nwhich had been used for aggressive growth, more recent borrowing has\nbeen required to supplement lost deposits.\nFORD & GERALD LIBRARY\n-12-\nTABLE 5\nCALIFORNIA INSURED S&L's\nLIQUIDITY AND BORROWED FUNDS\n(billions of dollars held at year end)\n1/\nBorrowed\nLiquid\nExcess\n2/\nEnd of\nFunds\nAssets\nLiquid Assets\n1960\n.6\n1.0\n.4\n1961\n.9\n1.3\n.5\n1962\n1.0\n1.6\n.7\n1963\n1.4\n1.8\n.6\n1964\n1.9\n1.9\n.5\n1965\n2.2\n1.9\n.4\n1966\n2.9\n1.9\n.4\n1967\n1.9\n2.1\n.5\n1968\n2.3\n2.1\n.5\n1969\n3.7\n1.8\n.5\n1/ Cash plus U.S. Governments of any maturity.\n2/ Holdings of \"liquid assets\" (as defined above) in excess of the\nminimum required by the FHLBB.\nFORD de GERALD LIBRARY\n-13-\nThe Federal Home Loan Bank System during 1969 provided an\nunprecendented volume of funds to the entire savings and loan industry\nin order to maintain mortgage activity. As indicated in Table 6, such\nlending was equal to deposit growth at the S&L's in 1969. The FHLB\ncurrently holds about $1 billion in liquid assets available for future\nlending (Table 7). This amount is somewhat below recent \"normal\" levels,\nbut probably represents an adequate working balance--particularly in\nlight of the FHLBB's market borrowing scheduled for the first quarter,\nthe maximum $4 billion special borrowing privilege it now has with the\nTreasury, and the emergency credit agreement arranged with the FRB. It\nshould be noted that the FHLBB's own obligations are very short term,\non average, and maintenance of anything like the recent pace of advances\nto the S&L industry will require not only additional borrowing of new\nmoney but also a considerable amount of refunding over the near future.\nDespite the ability of the FHLB to maintain or increase the\naggregate volume of advances, the distribution of lending presents some\nspecial problems. While 40 per cent of insured savings and loans had no\nborrowed funds outstandings as of November 1969, fully 12 per cent--\nholding nearly one-fourth of industry deposits--had advances outstanding\nthat amounted to more than 10 per cent of their deposits (Table 8)\nFORD\nGERALD\nLIBRARY\nUnder existing FHLBB regulations, these is a 17.5 per cent maximum on\nthe allowable ratio to savings capital of advances for expansion purposes;\nadvances to meet withdrawals are currently limited by FHLBB regulation\nto a maximum of 50 per cent\n8\nIf\nThese associations are not exclusively located in California; there\nare some in Illinois and in the Southeastern states that also have high\nborrowed funds ratios.\n-14-\nTable 6\nINSURED SAVINGS AND LOAN ASSOCIATIONS\nSOURCES AND USES OF FUNDS\n(Billions of Dollars)\n1964\n1965\n1966\n1967\n1968\n1969\nDeposit accounts 1/\n10.3\n8.2\n3.5\n10.5\n7.3\n4.0\nBorrowed funds\n.6\n.8\n1.0\n-2.8\n1.0\n4.1\nSubtotal\n10.9\n9.0\n4.5\n7.7\n8.3\n8.1\nMortgage sales and\n14.5\nrepayments 2/\n16.0\n17.0\n13.8\n14.2\n14.5\n14.1\nReduction in liquid\nassets 3/\n-.6\n-.7\n.1\n-1.6\n--\n1.3\nOther sources, net 4/\n-.1\n.4\n-.9\n1.3\n.8\n--\nGross mortgage acquisitions\n26.2\n25.7\n17.5\n21.6\n23.6\n23.4\n1/\nIncludes interest credited.\n2/\nIncludes funds from sales of loans and participations, loan repayments,\nand miscellaneous credits. Excludes interest, taxes, etc.\n3/ A drawdown of liquid assets (cash and government holdings) is shown as a\npositive source of funds and an increase as a negative source.\n4/\n\"Other\" includes the net amount of loans in process, allocations to\nreserves and surplus, accruals of dividends and other loans and invest-\nments.\nNote: Components may not add to totals because of rounding.\nTable 7\nLIQUIDITY OF THE FHLB SYSTEM\n(Billions of Dollars)\nEnd Of\n1966\n1967-\n1968\n1969\nQ I\n.9\n2.5\n1.8\n1.4\nQ II\n1.3\n2.4\n1.9\n1.1\nQ III\n1.2\n2.0\n1.4\n1.1\nQ IV\n1.8\n1.6\n1.5\n1.2\n1/ The highest level of FHLB liquidity in the 1960's.\nFORD is LIBRARY GERALD\n-15-\nTABLE 8\nRATIO OF FHLB ADVANCES TO SAVINGS CAPITAL\nINSURED SAVINGS & LOAN ASSOCIATIONS\nNovember, 1969\nRatio of FHLB\nPer cent of\nAdvances to Savings Capital\nNumber of\nPer cent of\nTotal\nPercent of Total\n(Per cent)\nAssociations\nTotal\nAdvances\nSavings Capital\nover 17.5\n90\n2.0\n23.3\n5.8\n15.1-17.4\n61\n1.4\n6.6\n2.8\n10.1-15.0\n385\n8.7\n29.5\n15.5\n5.0 - 10.0\n840\n18.9\n29.4\n26.5\nless than 4.9\n1,286\n29.0\n11.2\n27.8\nno borrowing\n1,778\n40.0\n0\n21.6\nTotal\n4,440\n100.0\n100.0\n100.0\nSource: FHLBB\nof savings capital. It can be seen in Table 8 that associations\nholding nearly 6 per cent of industry deposits had already exceeded\nthe 17.5 per cent-of-savings limitation; this is not only increased\nsignificantly from a year earlier, but given the large volume of funds\nadvanced during December, it is very likely that current data would\nshow an even more serious situation. To be sure, some of the associa-\ntions included in this upper category are \"supervisory cases\" not\nnecessarily borrowing heavily because of current financial conditions.\nGERALD FORD LIBRARY\n-16-\nHowever, even allowing for this and assuming the FHLBB would relax\nits maximum limitations, there is probably a practical limit on\nthe amount of borrowed funds that could be absorbed in the near\nfuture by those individual S&L's that probably have the most need\nfor external funds--those currently in the over-10-per cent borrowing/\ndeposit category. Thus, while aggregated ratios indicate a fair\namount of borrowing leeway for the industry, there appears to be\nfar less flexibility when consideration is made of the already high\nborrowing by those S&L's most likely to continue to need borrowed funds.\nMoreover, the industry's commitment position is such that\nin the absence of a significant improvement in deposit inflows,\nsavings and loans will soon have to draw down their liquid asset balances\nfurther and/or continue their large volume of borrowings from the FHLB\nSystem. Despite a steady reduction since mid-1969, the total amount\nof commitments currently outstanding for future acquisition of mort-\ngages looms quite large relative to recent cash flows (Table 9).\nUnless takedowns of these commitments are scheduled further into the\nfuture than the normal 3-month average, this factor represents a\npotentially significant drain on the liquid resources of either the\nS&L's or the FHLB System.\nGERALD FORD LIBRASA\n-17-\nTable 9\nSAVINGS AND LOAN ASSOCIATIONS\nRATIO OF OUTSTANDING MORTGAGE COMMITMENTS\nTO RECENT CASH FLOW 1/\nQI\nQ II\nQ III\nQ IV\n2/\n1966\n.92\n1.03\n1.13\n1.09\n1967\n.89\n.93\n.91\n.99\n1968\n1.09\n1.13\n1.14\n1.12\n1969\n1.19\n1.20\n1.23\n1.26\nMemo:\nOutstanding mortgage commitments\n(average outstanding over the\nquarter) (Billions of dollars).\n1966\n5.4\n4.8\n3.8\n3.3\n1967\n3.5\n4.3\n5.3\n5.8\n1968\n5.9\n6.0\n6.1\n6.5\n1969\n6.9\n7.1\n6.5\n6.0\n1/ Ratios computed from seasonally adjusted quarterly data.\nAverage outstanding mortgage commitments divided by total\ncash flow during the same quarter. This measure is dis-\ntorted to the extent that there is a difference between\ncash flow expected at the time the commitments are scheduled\nfor disbursement and the current quarter cash flow used for these\nratios.\nThe second quarter of 1966 marked the first time that this\nratio exceeded 1.0 in the 1960's (the period for which these data\nhave been maintained).\nFORD & 039470 LIBRARY\nR.\nGERALD\nFORD\n-18-\nLIGUARY\nMutual savings banks\nThe kind of detailed analysis just presented for the savings\nand loan industry is not possible for the mutual savings banks because\nof limited data availability. However, mutúal savings banks tend to\noperate on a far more self-sufficient basis than do savings and loan\nassociations. Very few savings banks have exercised their option to\njoin the FHLB System, and very limited use is made of borrowed funds,\neven though nearly all have arranged lines of credit with commercial\nbanks. New York and Massachusetts institutions, in addition, have\naccess to state-established liquid sources.\nAs has been the case with commercial banks, liquidity ratios\nat savings banks have declined throughout the postwar period essentially\nwithout interruption (Table 10). In large part, of course, this trend\nreflects a basic adjustment in portfolio management from war inflated\nfinance, accelerated by the rising level of market yields in the\n1960's. The liquidity measurements in Table 10 do not reflect all of\nthe portfolio liquidity of the savings banks. In the last few years,\nthe savings banks have acquired some Agency securities and since 1967\nhave acquired almost $4 billion of corporate bonds. While, of course,\nnot all of the latter can be readily sold without loss, these securities\ndo augment the general marketability of their portfolios.\n1/ The Mutual Savings Central Fund, operating for Massachusetts savings\nbanks as both an insuring agency and a lender of last resort, has a small\nfund available for loans to savings banks which has not been used since\nthe late 1930's. In New York, the Saving Bank Trust Company operates as\na central bank for savings banks in the state and typically has a moderate\nvolume of repurchase arrangements on loans held by these institutions.\n-19-\n18\nTABLE 10\n1/\nLIQUID ASSETS\nHELD BY ALL MUTUAL SAVINGS BANKS\nDecember\nLiquid assets\n$ billions\nas % of deposits\n1945\n11.3\n73.4\n1950\n11.8\n58.8\n1955\n9.4\n33.5\n1960\n7.1\n19.6\n1963\n6.8\n15.2\n1964\n6.8\n13.9\n1965\n6.5\n12.4\n1966\n5.7\n10.4\n1967\n5.3\n8.9\n1968\n4.8\n7.5\n1969\n4.2\n6.3\n1/ Cash plus U.S. Government securities.\nData are available, since 1966, for all securities maturing\nin less than one year held by the New York State mutual savings banks,\nin\na group accounting for 60 per cent of the industry's deposits. As\nindicated in Table 11, this ratio, while declining, has been relatively\nmore stable than the total holdings of cash and government securities\nheld by all savings banks.\nWith their recent relative stability in short-term liquid\nasset holdings, their more marketable portfolio, and access to borrowing\nat commercial banks and state-established liquid sources, savings banks\nas a group do not appear to be overly exposed at this time.\nFORD i LIBRARY 038470\n-20-\nTABLE 11\nNEW YORK STATE MUTUAL SAVINGS BANKS¹/\nCash plus Securities 3/ Maturing Within 1 Year\n2/\nas Per cent of Total Assets\nEnd of\n1966\n1967\n1968\n1969\nQ I\n3.5\n3.9\n3.6\n3.4\nQ II\n3.3\n3.6\n3.5\n3.1\nQ III\n3.5\n3.2\n3.4\n2.8\nQ IV\n3.7\n3.5\n3.1\n3.0\n/\nThese banks account for about 60 per cent of industry deposits.\n2/\nCash and due from banks.\n3/\nIncludes any securities--Governments, corporates, etc. -maturing\nwithin one year.\nLife insurance companies.\nThe life insurance industry's holdings of liquid assets are\nnot particularly relevant. The unique and generally predictable nature\nof their cash flows suggests that analysis of the liquidity position\nof life insurance companies is appropriately directed to their com-\nmitments to acquire investments relative to reasonable estimates of\nthe funds available for such acquisitions. Thus, the industry's\ndisruption during the 1966 \"credit crunch\" was a result primarily of\nunexpectedly large policy loan claims diverting loanable funds at a\ntime when life insurance companies were relatively \"fully committed\".\nGERALD FORD LIBRARY\n-21-\nAs indicated in Table 12, in late 1965 and early 1966\nthe industry had allowed very little flexibility for unexpected\nshortfalls in its projected fund flows. Since that time, however,\nthe industry has been quite careful in maintaining a margin between\nprojected claims on its cash flow and its best estimates of the\nTABLE 12\nLIFE INSURANCE COMPANIES\nSIX-MONTH PROJECTIONS\nCOMMITMENT DISBURSEMENTS AS PER CENT OF EXPECTED AVAILABLE FUNDS\nI\nII\nIII\nIV\n1965\n76\n82\n82\n89\n1966\n89\n89\n89\n84\n1967\n75\n74\n74\n79\n1968\n79\n75\n72\n75\n1969\n71\n75\n76\n78p/\n1/\nThis represents what the reporting companies expected in takedowns\nof commitments as a per cent of funds available for investment.\nThe sample represents about two-thirds of life insurance industry\nassets.\np/ preliminary\nfunds that would be available for lending. Since 1966, life insurance\ncompanies have been able to meet unprecedented policy loan demands and\ncope with other shortfalls in their loanable funds without resorting to\nextraordinary cash sources, primarily because of this conscious leeway\nmaintained in their commitment scheduling.\nGLRALD FORD LIBRARY\n-22-\nIn 1969, the industry had experienced a marked retardation\nin its loanable funds, as shown in Table 13. It can be seen that\ndespite the large drain from policy loans, sales of securities have\nnot been as large in any one year as they were in 1966. However,\ncumulatively they have sold a very large volume of securities in\nrecent years to provide funds for new lending, and there is evidence\nthat these sales have entailed considerable loss. It is probable\nthat there now remains an increasingly limited degree of marketability\nof securities still in portfolio.\nThe latest evidence suggests that, although the volume of\npolicy loans remain high, it appears to have stablized. With the\nflexibility now built into the temporal pattern of their commitment\nschedules, and with the likelihood of no further unexpected shortfall\nin their loanable funds, life companies will probably not have to\nresort to their own portfolios to any great extent to meet their\ncommitments.\nII.\nNONFINANCIAL SECTOR\nIn this section, the household and nonfinancial sectors,\nand financing of non-residential properties, will be discussed. As\nin the financial sectors, the impact of restrictive monetary policies\nis readily apparent.\nGERALD FORD LIBRARY\n-23-\nTable 13\nSOURCES OF FUNDS INVESTED BY LIFE INSURANCE COMPANIES\n(Billions of Dollars)\n1964\n1965\n1966\n1967\n1968\n1969p/\nLedger assets 2/\n7.0\n8.0\n7.8\n8.4\n8.5\n8.0\nReturn flows 3/\n7.7\n8.4\n7.3\n7.4\n7.8\n7.9\nSecurity sales 4/\n1.8\n2.4\n3.4\n2.0\n2.2\n2.0\nPolicy loans\n-.7\n-.7\n-1.7\n-1.2\n-1.4\n-2.7\nOther 5/\n.9\n.1\n.1\n.2\n.2\n.5\nTOTAL\n16.7\n18.2\n16.9\n16.8\n17.3\n15.7\n1/\nEstimated for the entire industry, with the components derived from\na sample representing 80 per cent of industry assets.\n2/\nNet increase in ledger assets reflects primarily receipts from insurance\npremiums and net investment income (including net gain or loss from from\nsecurities sold).\n3/\nReturn flows from existing mortgage and securities holdings.\n4/\nConsists only of sales out of long-term portfolio; reflects primarily\nsales of non-Government securities.\n5/ \"Other\" includes miscellaneous sources of funds and adjustments to\nliquid assets (cash, commercial paper, and short-term Governments).\np/\nPreliminary.\nGERALD FORD LIBRARY\n-24-\nMortgage Debt on Multifamily and Commercial Properties.\nA slowdown in general economic growth could impinge on some\n$128 billion in mortgage debt outstanding against multifamily and\ncommercial properties, on which average default rates are probably\nunusually low at the present time. This debt covers a broad range\nof types of structures (such as apartment houses, office buildings,\nindustrial facilities, and churches), and is distributed among a\nwide variety of types of borrowers (individuals, partnerships, and\ncorporations, including nonprofit institutions).\nVirtually no information exists about the incidence of this\ndebt, whether in the aggregate or in detail. There are also few\nstatistics bearing on the ability of the various types of borrowers\nto meet scheduled debt payments. In the absence of reliable data\nwhich would illuminate these aspects of the issue directly, some\nbroad observations of an indirect nature must suffice.\nDuring 1969, mortgage debt secured by multifamily and\ncommercial properties expanded at rates of 9 and 11 per cent, respectively\n(Table 14). These rates of growth were essentially unchanged from\nthe annual averages prevailing since the mid-1960's for mortgages on\nmultifamily properties, and over the entire postwar period for mortgages\non commercial properties. By the end of last year, about a third of the\ntotal outstanding amount of both types of indebtedness had apparently\nbeen added in the preceding 5 years, and hence was relatively unseasoned\nand prone to default.\nGERALD R. FORD LIBRARY\n-25-\nTable 14 14\nMortgage Dept on Multifamily\nAnd Commercial Properties\n(Dollar Amounts in Billions)\nMultifamily\nCommercial\nEnd of\nAmount\nAnnual Percentage\nAmount\nAnnual Percentage\nYear\nOutstanding\nRate of Growth\nOutstanding\nRate of Growth\n1945\n$ 5.7\n--\n$ 6.4\n--\n1950\n10.1\n12\n11.4\n12\n1955\n14.3\n7\n18.3\n10\n1960\n20.3\n7\n32.4\n12\n1965\n37.2\n13\n54.4\n11\n1966\n40.3\n8\n60.1\n10\n1967\n43.9\n9\n64.8\n11\n1968\n47.3\n8\n71.4\n10\n1969p/\n51.7\n9\n76.5\n11\np/ Preliminary.\nSource: Federal Reserve estimates. \"Commercial\" includes commercial, industrial,\ninstitutional, and other types of private nonfarm nonresidential properties.\nAs a rule, multifamily and commercial properties securing mort-\ngage debt are rather small in size, despite the dramatic exceptions of sky-\nscrapers and shopping centers. Their modest scale can expose them to\nsharp change in occupancy rates whenever a few occupants moverin or out.\nAs a result, gross operating revenues available to meet operating ex-\npenses and principal and interest payments are inherently volatile.\nEven so, it is common trade practice to set aside reserves against only\nGERALD FORD LIBRARY\n-26-\nthose debt service payments due in the period immediately ahead.\nWhile there is no statistical evidence bearing on the\npoint, mortgaged multifamily properties may, on balance, be somewhat\nmore subject to volatile earnings than mortgaged commercial properties.\nNearly all owners of apartment houses depend solely on the course of\nmarket rents and occupancy to generate revenues to meet their current\nand capital expenses. While the short term of apartment leases makes\nfor flexibility in adjusting scheduled rents to market conditions\n(including hopefully changes in operating expenses), it also makes\nearnings available for debt service more vulnerable to any curtailment\nin demand for apartment space.\nUnder current conditions of unusually low vacancy rates\nhowever, the problem of reduced demand for apartment space has not\nbeen pressing during a period when consumer incomes, in general, have\nbeen rising. In fact, vacancy rates in rental-type residential units\nhave recently been running at the lowest average level in more than\na decade.\nGERALD R. FORD LIBRARY\n-27-\nTABLE 15\nVACANCY RATES IN RENTAL\nHOUSING\n(in per cent)\nAverage by Type of Structure\n5-or-more\nQuarter\nAll types\nunits only\n1957\nII\n4.9\nn.a.\n1958\nII\n6.0\nn.a.\n1960\nII\n7.3\n8.3ᵃ\n1961\nI\n8.0\nn.a.\n1968\nIII\n5.4\n6.4\n1969\nIII\n5.0\n6.6\na) Census of Housing, April.\nSource: Census Bureau, current housing vacancy reports, series beginning\nin 1956.\nCommercial properties, in contrast, include a large number of\nstructures occupied by their owners, who can draw on income from\nsources other than property operation in order to pay current and capital\noutlays on the real estate. Leases of space in rented structures often\nspan a number of years, and can thus assure greater stability in\noccupancy and gross income during the term of the lease. On the other\nhand, such leases may make it more difficult to pass on quickly (in\nhigher rents) any increases in expenses of operating the structure.\nBut use of escalation-type clauses in longer-term leases, under which\nFORD & GERALD LIBRARY\n-28-\nrents are tied to designated operating expenses, has become a\nwidespread practice in the 1960's, reducing the volalitity of the\ncash flow available for mortgage payments.\nData on new mortgage commitments of $100,000 and over, approved\nby certain life insurance companies on multifamily and commercial\nproperties, indicate that the average debt-coverage ratio on rental\nstructures has drifted down since 1965. Rather than a weakening in\nborrower ability to pay, the downtrend has reflected primarily the\nrationing of commitments among stronger borrowers eligible for larger\nloans that typically carry debt-coverage ratios that are lower than\nthose associated with smaller-sized loans. By the third quarter of\n1969 (the latest available data), an average margin of 27 per cent\nstill remained between the level of expected annual property earnings\nand the amount of scheduled annual payments for debt service.\nTABLE 16\nNew Commitments of $100,000 and over on Multifamily and\nNonresidential Mortgages Made by 15 Life Insurance Companies\nAverage amount of\nloan commitment\nAverage debt\nThird quarter\n(millions of dollars)\ncoverage ratio\n1965\n0.9\n1.45\n1966\n0.9\n1.34\n1967\n1.0\n1.32\n1968\n1.2\n1.29\n1969\n1.7\n1.27\nSource: Confidential LIAA series for companies with slightly more than\nhalf of the nonfarm mortgages held by all U.S. life insurance companies.\nThe average debt coverage ratio applies only to fully amortized level-\npayment loans for which an estimate of prospective net stabilized earnings\n(earnings after vacancy allowance+operating expenses but before income\ntaxes, depreciation and debt service) is available.\nGERALD FORD LIBRARY\n-29-\nThe burden of mortgage indebtedness against multifamily and\ncommercial properties has been accentuated in recent years by a growing,\nbut still probably quite limited, volume of mortgage agreements incor-\nporating so-called \"equity kickers.\" These agreements typically call\nfor interest, in addition to the contract interest rate, to be paid\ncontingent on future increases in property earnings. The most common\npractice appears to require some increase in contingent interest pay-\nments over and above a specific level of gross earnings. For multi-\nfamily properties on which operating expenses often absorb considerably\nmore than half of gross earnings, even at full occupancy, \"equity\nkickers\" may pose more of a threat than in the case of rental com-\nmercial properties with typically lower operating expense ratios. In\neither case, it seems probable that in event of borrower difficulty in\nmeeting these contingent payments, lenders would likely modify the\nagreement rather than foreclose the mortgage. Such modification\nagreements are not uncommon in the trade even on mortgages bearing no\nequity kickers.\nA moderate slowdown in the rate of economic growth would\ncome at a time when delinquency rates on multifamily and commercial\nmortgages appear to be historically low, judging from information from\na limited number of life insurance companies. The higher average for\nmultifamily properties, indicated in Table 17, primarily reflects greater-\nthan-average difficulties with FHA-insured mortgages. Such loans may\nFORD is LIBRARY GERALD\n-30-\nrelate, in a significant number of cases, to apartment houses in\nslum areas or to properties in which occupancy is limited to dis-\nadvantaged families.\nTABLE 17\nMortgage Delinquency Rates by Type of Structure,\nReporting Life Insurance Companies\n(in per cent)\nType of Structure\n1-4\nThird quarter\nFamily\nMultifamily\nNonresidential\n1965\n1.11\n2.00\n.68\n1966\n.95\n2.28\n.47\n1967\n1.01\n.94\n.76\n1968\n.72\n.99\n.64\n1969\n.75\n.92\n.36\nSource: LIAA confidential reports for companies holding from 75 to 80\nper cent of the total assets of all U.S. life insurance companies.\nData not available prior to 1965. A delinquent loan is a city (nonfarm)\nmortgage with two or more monthly interest payments past due.\nBut with demand for space in both apartment houses and\nnonresidential structures apparently strong and with costs of buying\nand operating owner-occupied homes continuing to increase, a moderate\nslackening in general economic growth, of limited duration, would not\nappear to pose any undue threat, on the average, to either type of\nproperty. Experience with vacancy rates in rental housing in the 1957-58\nand 1960-61 recession periods tend to support this generalization.\nFORD\nGERALD\nLIBRARY\n-31-\nOne remaining unknown in the picture, however, is how large\na volume of newly-completed space is likely to come onto the market\nover the near term. A record number of new dwellings in apartment\nhouses was started last year. Trade reports emphasize that substantial\nnew office-building construction is coming to completion in a number\nof major cities. These newly-completed units will, of course, provide\nan important test of local markets, for both new and existing properties.\nNonfinancial Corporations\nIn the years since 1964, nonfinancial corporations have relied\nmuch more heavily on funds raised in credit markets than they did in the\nlate 1950's and early sixties. As may be seen from Table 18, net new\nborrowing-- in the form of bonds, mortgages, commercial paper, and\nloans from banks and other lenders--have financed 29 per cent of cor-\nporate outlays in each year since 1967, compared with only 17 per cent in\n1964. In the past five years, the nonfinancial corporate sector has on\nbalance incurred about $140 billion of additional interest-bearing debt\nand another $70 billion through increases in other liabilities--\nprimarily trade debt; undistributed profits and net new stock issues,\non the other hand, have together totaled only about one-half the increase\nin total liabilities over this period.\nThe increased reliance on borrowed funds has of course changed\nthe structuredof corporate balance sheets. Table 19 shows a percentage\ndistribution of total resources of manufacturing corporations (the only\npart of the nonfiancial corporate sector for which full balance sheet\nFORD & GERALD LIBRARY\n-32-\nTable 18\nPercentage Distribution of Corporate Sources of Funds\nFlow-of-Funds, Nonfinancial Corporations\n1950-\nSource\n1963\n1964\n1965\n1966\n1967\n1968\n1969\nAverage\nInternal sources\n63.8\n70.3\n60.8\n60.8\n65.0\n57.2\n53.0\n2/\nNet stock issues\n3.2\n1.9\n1.2\n2.4\n-.7\n2.2\nNet borrowing\n18.7\n17.1\n22.0\n24.1\n28.7\n28.8\n29.1\nBonds & mortgages\n13.4\n10.6\n10.0\n14.3\n20.4\n16.9\n14.3\nBank loans n.e.c.\n4.7\n5.3\n11.4\n8.3\n6.8\n8.7\n7.2\nOther loans\n0.6\n1.3\n0.6\n1.4\n1.5\n3.3\n7.7\nloans\n1.3\n1.4\n1.5\n3.3\n7.7\n3/\nOther liabilities\n14.3\n10.6\n17.1\n13.9\n3.9\n14.8\n15.6\n1/\nUndistributed profits (after allowance for inventory valuation adjustment and\ninclusion of foreign branch profits), plus capital consumption allowances.\n2/\nLess than 0.5 per cent.\n3/\nAccrued income tax liabilities, trade debt, and miscellaneous liabilities.\nFORD i LIBRARY 076839\nR.\nGERALD\nOROA\nTable 19\nLIBRATA\nLiabilities and Equity of Manufacturing Corporations\nPercentage Distribution, End of Year\n1960\n1961\n1962\n1963\n1964\n1965\n1966\n1967\n1968\n1969\n1/\nShort-term bank\nloans 2/\n3.9\n3.6\n3.6\n3.5\n3.6\n4.1\n4.9\n4.9\n5.0\n5.8\nTrade debt & Federal\ntax liabilities\n12.3\n12.7\n12.9\n13.3\n13.5\n13.2\n13.2\n12.0\n12.3\n11.6\nOther short-term\nliabilities\n4.6\n4.8\n4.9\n5.1\n5.1\n6.1\n6.4\n6.5\n6.7\n7.1\n-33-\nTotal Curr. Liabilities\n20.8\n21.2\n21.5\n21.9\n22.3\n23.4\n24.4\n23.3\n23.9\n24.5\nLong-term debt\n12.2\n12.5\n12.6\n12.6\n12.6\n13.1\n14.0\n15.5\n16.3\n16.7\nOther non-curr. liabilities\n1.4\n1.6\n1.8\n2.0\n2.2\n2.7\n2.8\n3.0\n3.6\n3.7\nTotal long-term liabilities\n13.6\n14.1\n14.4\n14.6\n14.8\n15.8\n16.8\n18.5\n19.9\n20\nTotal Liabilities\n34.5\n35.2\n35.8\n36.4\n37.0\n39.2\n41.1\n41.8\n43.8\n44.9\nEquity\n65.5\n64.8\n64.2\n63.6\n63.0\n60.8\n58.9\n58.2\n56.2\n55.1\n1/ End of third quarter (latest available).\n2/ Includes current instalments of long-term bank and nonbank debt.\nSource: Quarterly Financial Report, U.S. Manufacturing Corporations.\n-34-\ndata are available for recent years). As may be seen from the table,\nthe relative importance of equity in manufacturing capital accounts\ndeclined gradually during the early sixties and more rapidly after\n1964, though the growth in the dollar volume of manufacturer's equity\ncompared more favorably with the expansion in their total liabilities\nthan was the case for all nonfiancial corporations.\nAt some point, a sharply reduced margin of equity for\ncorporations as a group means that the number of individual companies\ndangerously over-burdened with debt has become disturbingly large.\nWhether the decline in the equity share from 63 per cent of total\nmanufacturing resources at the end of 1964 to 55 per cent in late\n1969 means that such a point has been reached is impossible to say,\nthough a mitigating factor may be that the corresponding rise in the\nliabilities proportion has been largely in long-rather than short-\nterm debt. On the other hand, flow-of-funds estimates for all non-\nfinancial corporations (Table 20) show an increased importance of\nshorter-term borrowing; moreover, 1969--a year when many borrowers\nattempted to avoid being locked in to high interest rates--was marked\nby substantial reliance on sources of relatively short-term credit\n(e.g. banks and the commercial paper market) to finance fixed investment,\nwhich will only gradually generate the return flows to retire the debts.\nThe staff expects a considerable share of this short-term debt to be\nfunded in capital markets in 1970.\nFORD LIBRARY is GERALD\nTable 20\nPercentage Distribution of Corporate Liabilities\nFlow-of-Funds, Nonfinancial Corporations\n1955\n1960\n1961\n1962\n1963\n1964\n1965\n1966\n1967\n1968\n1969\nCredit market instr.\n50.2\n54.2\n57.1\n56.8\n56.6\n56.8\n56.7\n57.1\n59.2\n59.7\n60.3\nBonds & Mtges.\n36.7\n39.2\n41.8\n41.7\n41.3\n41.1\n39.6\n39.4\n41.0\n40.7\n39.9\nBank loans, n.e.c.\n12.4\n13.4\n13.5\n13.4\n13.7\n13.9\n15.4\n15.8\n16.2\n16.5\n16.5\nOther loans\n1.1\n1.6\n1.8\n1.7\n1.6\n1.7\n1.8\n1.9\n2.1\n2.5\n3.9\nOther liabilities\n49.8\n45.8\n42.9\n43.2\n43.4\n43.2\n43.3\n42.9\n40.8\n40.3\n39.8\n-35-\nFederal tax liabilities\n10.0\n5.0\n5.4\n5.2\n5.4\n5.4\n5.4\n5.0\n3.7\n4.1\n4.0\nTrade debt\n24.5\n23.8\n24.5\n24.2\n24.0\n23.7\n23.8\n23.5\n22.4\n21.4\n21.1\nOther\n15.2\n17.0\n13.0\n13.8\n14.0\n14.2\n14.1\n14.4\n14.7\n14.8\n14.6\n1/ Based on end-of-year outstandings.\nGERALD\n?\nFORD\nLIBRARY\n-36-\nMany corporations are also reported to be planning issues of\nequity securities this year, to moderate the problem of refinancing short-\nterm debt, to redress the structure of their balance sheets, and to\nlessen the drain of interest payments on their profits. The latter\ndrain has apparently become quite substantial. While data on gross\ninterest payments are not presently available, even the ratio of net\ninterest payments (estimated amount of interest paid less interest\nreceived) to profits before such net payments and before taxes has\nrisen dramatically since 1965 (Table 21). Similar ratios based on gross\ninterest payments would undoubtedly show an even faster rise to a\nsignificantly higher level. For some companies--particularly certain\nconglomerates--interest payments in 1969 exceeded current profits,\nas the assets acquired with borrowed funds failed to generate the\nexpected income.\nThe ability of corporations to carry their debt burden is\nadversely affected by the erosion in their liquidity positions. Cor\nporate liquidity ratios reached new lows in 1969--as they did in every\nrecent year except 1968 (Table 22). It is impossible to say what level\nof relative liquidity is dangerously low; throughout the whole post-war\nperiod, liquidity ratios have levelled off from time to time but there\nhas been no floor they did not eventually pierce--without disaster.\nReflecting the more aggressive money management of corporate\ntreasurers, innovations in available liquid financial assets, and rising\nyields, the composition of corporate liquid assets has changed dramatically\nFORD & LIBRARY GERALD\n-37-\nTable 21\n1/\nNet Interest Paid by Nonfiancial Corporations\nAs per cent of:\nNonfin. Corp.\nNonfin. corp. profits.\nYear.\nAmount\nGNP\nbef. int. & taxes\n(Bill.$)\n1955\n1.6\n0.7\n2.0\n1956\n1.7\n0.7\n3.9\n1957\n2.2\n0.9\n5.2\n1958\n2.7\n1.1\n7.4\n1959\n2.7\n1.0\n5.9\n1960\n3.0\n1.1\n7.0\n1961\n3.5\n1.3\n8.0\n1962\n4.1\n1.4\n8.4\n1963\n4.5\n1.4\n8.4\n1964\n5.1\n1.5\n8.4\n1965\n6.0\n1.6\n8.4\n1966\n7.3\n1.8\n9.3\n1967\n9.1\n2.1\n12.1\n1968\n10.9\n2.3\n12.6\n1969P\n12.0\n2.4\n13.4\n1/ Net interest = interest paid less interest received.\nSource: Department of Commerce\nFORD is LIBRARY GERALD\n-38-\nTable 22\nCorporate Liquidity Ratios\n(per cent)\nEnd of year\nLiquid Assets (F.O.F.)\nDep. & US Govts.\nDep., Govts. & Misc.\nNonfin. Corp. GNP\nTotal Curr. Liab. Total Curr. Liab.\n(Securities & Exchange Comm.)\n1955\n27.1\n48.0\n51.5\n1956\n23.6\n41.3\n45.8\n1957\n22.5\n40.2\n45.2\n1958\n24.2\n41.1\n46.6\n1959\n23.8\n38.6\n44.6\n1960\n21.8\n35.8\n42.4\n1961\n22.6\n35.6\n42.3\n(new series)\n1961\n38.4\n46.7\n1962\n21.9\n37.0\n45.6\n1963\n22.2\n35.4\n44.8\n1964\n20.9\n32.6\n42.3\n1965\n19.6\n29.1\n38.9\n1966\n18.4\n25.4\n35.3\n1967\n18.0\n24.1\n34.5\n1968\n18.4\n23.4\n34.4\n1/\n1969\n17.9\n19.6\n30.6 /\n1/ Ratios for end of third quarter, not seasonally adjusted. Ratios usually\nrise in fourth quarter. Third quarter 1968: 22.8 and 33.7 resp.\nFORD is LIBRARY 938470\n-39-\nin the last 10 years (Table 23). Holdings of money and Treasury\nissues now account for a smaller share of the total and--reflecting\nRegulation Q ceilings--the sharp increase in corporate holdings of\nbank CD's, which began in the early 1960's, was reversed in 1969.\nIncreased holdings of the short-term notes of other corporations, together\nwith holdings of short-term tax-exempt obligations, are now estimated\nto account for a sizable proportion of corporate liquidity, although\nthese estimates are necessarily a little shaky. However, since no\nsecondary market for commercial paper exists and municipal notes can\n/\noften be liquidated only at substantial losses, about one-third of\ncorporate liquid assets are probably not very liquid for emergency\npurposes--an increase over the one-tenth of such asses held in this\nform in the early 1960's.\nCommercial paper dealers will sometimes take back this paper before\nmaturity as a favor. Discount tax-exempt obligations of less than 6\nmonths maturity must fetch a price to compensate the buyer for the\nlack of capital gains treatment for the difference between purchase\nprice and par.\nFORD & GERALD LIBRARY\nTable 23\n1/\nPercentage Distribution of Corporate Liquid Assets\nFlow-of-Funds, Nonfinancial Corporations\n1955\n1960\n1961\n1962\n1963\n1964\n1965\n1966\n1967\n1968\n1969\nDemand dep. & curr.\n54.5\n54.0\n53.7\n49.4\n45.0\n41.2\n38.1\n38.1\n35.9\n33.5\n34.8\nU.S. Government securities\n39.7\n32.8\n30.5\n29.5\n28.4\n25.7\n23.0\n20.8\n17.3\n16.7\n14.7\nTime deposits\n1.7\n4.7\n7.3\n12.5\n17.2\n21.3\n25.9\n24.5\n29.3\n28.5\n18.5\nState & local government sec.\n2.0\n4.0\n3.8\n3.2\n3.2\n3.5\n4.1\n5.3\n4.7\n4.6\n6.9\n-40-\nOpen market paper\n2.0\n4.5\n4.8\n5.3\n6.2\n8.3\n8.8\n11.2\n12.8\n16.7\n25.1\n1/ Based on holdings at end of year.\nGERALD\nR.\nLIBRARY FORD\n-41-\nConsumer debt.\nLiquidity and debt burden have not proven to be a serious\ngeneral problem to the household sector in the postwar period,\ndespite the large increase in consumer debt. Both mortgage and\nconsumer instalment debt have increased rapidly since the end of\nWorld War II; non-instalment debt has also increased but less rapidly\n(Table 24).\nThe largest share of consumer debt reflects mortgages against\nowner occupied homes. While homeownership involves fixed costs,\nthere is flexibility in the timing of maintenance and repair expendi-\ntures, and some measure of leeway in timing even for mortgage pay-\nments and taxes. Moreover, mortgage debt has the offset of asset\nownership, which may be substantial, especially following a period\nof rising house prices.\nFigures from the Michigan Survey of Consumer Finances\nindicate that in 1967 (the latest available data), 97 per cent of\nall homeowners had equities of $1,000 or more, and 76 per cent had\nequities of $5,000 or more. With rising house prices and the more\nrestrictive terms of recent mortgages, homeowner equities are\nprobably larger today. The protection afforded lenders by these\nmargins could, of course, decline during a recession. Moreover, in\nevaluating the protection offered the mortgagor by this margin,\nallowance should be made for real estate commissions in the event of\nsale, and the present difficulty of a subsequent purchasor's obtaining\nGERALD FORD LIBRARY\n-42-\nTable 24\nMortgage and Consumer Debt\n(Billions of Dollars)\nEnd Of\nMortgage\nConsumer\nConsumer\nYear\nDebt *\nInstalment Debt\nNon-Instalment Debt\n1945\n18.6\n2.5\n3.2\n1950\n45.2\n14.7\n6.8\n1955\n88.2\n28.9\n9.9\n1960\n141.3\n43.0\n13.2\n1965\n212.9\n71.3\n19.0\n1966\n223.6\n77.5\n77.5\n20.0\n20.0\n1967\n236.1\n80.9\n80.9\n21.2\n21.2\n1968\n251.2\n89.9\n89.9\n23.3\n23.3\n1969\n266.8\n98.1\n24.1\n24.1\n* One-to-four family houses, including those held for rental. No\nsimilar mortgage series for owner-occupied houses is available.\nFORD if GERALD LIBRARY\n-43-\nfinancing if the existing mortgage cannot be assumed.\nLiquidation values implied by equity measures, while\nimportant, are not especially indicative of debt burden and sensitivity\nto restrictive public policies and recessions. Unfortunately, however,\nno satisfactory series on the ratio of scheduled debt service payments\non residential mortgages to the income of the mortgagor exist.\n/\nSome empirical indication of ability to carry home mortgages can be\ndetermined from delinquency and foreclosure rates, although the\navailable information in this area is statistically suspect. Table 25\npresents the best available series on delinquencies and foreclosures;\nit is based on a very small sample and is overly weighted by VA and\nFHA mortgages. These data suggest that there has been some general\nincrease in the last 15 years in the rate of delinquencies on home\nmortgages, and noticable sensitivity of delinquencies to recessions.\nOn the other hand mortgage loans in foreclosure, data for which are\nonly available in the 1960's, have shown a general down-trend.\nOn balance, given the fixed nature of mortgage debt service\npayments contrasted with the secular trend of rising money incomes,\nthe ratios of income to debt service on \"seasoned\" home mortgages\nare probably considerably higher than at the time the loans were made--\n1/ The Commerce Deparment does keep an unpublished estimate on\naggregate scheduled debt service on 1-to 4-family properties. Both the\nCommerce and Board staffs, however, do not think the estimated data are\naccurate enough to be analytically useful. Among other problems, the\ndata probably include mortgage liabilities of partnerships and syndicates.\nFor what it is worth, the ratio of these scheduled payments to aggregate\ndisposable income has been stable at about 6 per cent since the mid-1960's,\nup from 5 per cent in 1960.\nGERALD FORD LIBRARY\nTable 25\nDelinquency and in Foreclosure Rates on Home Mortgages\n(Per Cent of Loans)\nDelinquent 30 Days\nDelinquent 31-90 Days\nIn Process of Being Foreclosed\nQI\nQII\nIIIÒ\nQIV\nQI\nQII\nIIIÒ\nQIV\nQI\nQII\nQIII\nQIV\n1953\nn.a.\nn.a.\nn.a.\n2.00\nn.a.\nn.a.\nn.a.\n0.53\nn.a.\nn.a.\nn.a.\nn.a.\n1954\n1.76\n1.74\n1.76\n1.89\n0.56\n0.54\n0.56\n0.55\nn.a.\nn.a.\nn.a.\nn.a.\n1955\n1.63\n1.55\n1.65\n1.71\n0.49\n0.43\n0.45\n0.47\nn.a.\nn.a.\nn.a.\nn.a.\n1956\n1.71\n1.66\n1.71\n1.77\n0.52\n0.47\n0.51\n0.50\nn.a.\nn.a.\nn.a.\nn.a.\n1957\n1.60\n1.59\n1.56\n1.63\n0.49\n0.42\n0.48\n0.52\nn.a.\nn.a.\nn.a.\nn.a.\n1958\n1.67\n1.63\n1.64\n1.71\n0.59\n0.56\n0.59\n0.62\nn.a.\nn.a.\nn.a.\nn.a.\n1959\n1.61\n1.47\n1.64\n1.74\n0.63\n0.51\n0.59\n0.57\nn.a.\nn.a.\nn.a.\nn.a.\n1960\n1.56\n1.63\n1.73\n2.01\n0.65\n0.60\n0.68\n0.79\nn.a.\nn.a.\nn.a.\nn.a.\n1961\n1.82\n1.82\n2.09\n2.27\n0.91\n0.84\n0.93\n0.83\nn.a.\nn.a.\nn.a.\n0.29\n1962\n1.92\n1.99\n2.14\n2.26\n0.77\n0.68\n0.73\n0.79\n0.34\n0.32\n0.30\n0.30\n1963\n2.14\n2.29\n2.27\n2.37\n0.89\n0.80\n0.90\n0.98\n0.34\n0.36\n0.33\n0.34\n1964\n2.12\n2.08\n2.20\n2.35\n0.90\n0.75\n0.84\n0.86\n0.41\n0.39\n0.38\n0.38\n-44-\n1965\n2.06\n2.18\n2.30\n2.40\n0.88\n0.82\n0.90\n0.89\n0.37\n0.38\n0.38\n0.40\n1966\n2.13\n2.16\n2.25\n2.54\n0.89\n0.79\n0.84\n0.86\n0.38\n0.38\n0.36\n0.36\n1967\n2.17\n2.14\n2.36\n2.66\n0.87\n0.71\n0.79\n0.81\n0.38\n0.34\n0.31\n0.32\n1968\n2.11\n2.23\n2.23\n2.43\n0.73\n0.66\n0.70\n0.74\n0.32\n0.28\n0.26\n0.26\n1969\n2.04\n2.06\n2.18\nn.a.\n0.73\n0.62\n0.73\nn.a.\n0.26\n0.25\n0.25\nn.a.\nNote: Mortgage Bankers Association of America data from reports on 1-to-4 family FHA insured, VA guaranteed,\nand conventional mortgages held by more than 400 respondents, including mortgage bankers (chiefly)\ncommercial banks, savings banks, and savings and loan associations,\nGERALD\nFORD\nLIBRARY\n-45-\neven adjusted for the long-run rise in costs of other goods and\nservices which would tend to have increased the difference between\nmoney income and the actual net income available for debt service.\nAssuming no severe recession in 1970, the staff does not see any\nreason to expect a pronounced rise in residential mortgage delinquencies\nand foreclosures.\nIn the case of consumer instalment debt, the postwar period\nhas not experienced widespread delinquencies and defaults or a\ncollapse of consumer credit, even during periods when unemployment\nexceeded 7 per cent. Delinquency figures for instalment credit at\ncommercial banks collected by the American Bankers Association have\nnot shown a secular uptrend since World War II, but do show that\nthe proportion of delinquent loans has risen during past periods of\nbusiness slowdown, and that a rise has been taking place recently\n(Table 26). While loss rates are not available, most of these\ndelinquent loans are ultimately paid, so anticipated losses are\nlow. No comparable overall delinquency series exists for finance\n/ Unlike delinquencies, personal bankruptcies have risen throughout\nmost of the post-war period with a strong secular trend. However, this\npattern of growth was reversed in late 1967, and present filings con-\ntinue to run well below 1967 levels. It is not clear the extent to\nwhich the postwar growth in these bankruptcies was due to increases\nin the number of people in financial difficulty, and the extent it\nwas due to greater public awareness of bankruptcy precedures.\nFORD & GERALD LIBRARY\n-46-\nTable 26\nDelinquency Experience at Commercial Banks\nConsumer Instalment Credit\n(Per Cent of Loans Delinquent 30-89 Days)\n(Not Seasonally Adjusted)\nYear\nFeb.\nApril\nJune\nAug.\nOct.\nDec.\n1948\n1.64\n1.59\n1.43\n1.45\n1.50\n1.55\n1949\n2.10\n1.90\n1.73\n1.65\n1.80\n1.88\n1950\n1.91\n1.66\n1.34\n1.47\n1.46\n1.62\n1951\n1.55\n1.40\n1.32\n1.41\n1.30\n1.59\n1952\n1.44\n1.36\n1.52\n1.58\n1.44\n1.65\n1953\n1.54\n1.40\n1.45\n1.58\n1.58\n1.78\n1954\n1.88\n1.53\n1.52\n1.51\n1.49\n1.49\n1955\n1.50\n1.29\n1.23\n1.23\n1.21\n1.42\n1956\n1.31\n1.28\n1.23\n1.27\n1.20\n1.46\n1957\n1.39\n1.25\n1.26\n1.22\n1.24\n1.49\n1958\n1.53\n1.41\n1.41\n1.45\n1.24\n1.43\n1959\n1.40\n1.17\n1.13\n1.21\n1.35\n1.51\n1960\n1.46\n1.32\n1.32\n1.36\n1.44\n1.66\n1961\n1.69\n1.49\n1.38\n1.39\n1.34\n1.55\n1962\n1.51\n1.27\n1.25\n1.26\n1.26\n1.54\n1963\n1.48\n1.28\n1.32\n1.34\n1.29\n1.67\n1964\n1.51\n1.22\n1.26\n1.35\n1.34\n1.56\n1965\n1.57\n1.28\n1.30\n1.45\n1.46\n1.51\n1966\n1.59\n1.37\n1.34\n1.44\n1.42\n1.62\n1967\n1.68\n1.45\n1.30\n1.33\n1.37\n1.59\n1968\n1.35\n1.20\n1.20\n1.30\n1.22\n1.56\n1969\n1.41\n1.27\n1.28\n1.43\n1.40\n1.76\nSource:\nBi-Monthly American Bankers Association data, sum of component loan\ncategories weighted by amounts outstanding.\nFORD & 076839 LIBRARY\n-47-\ncompanies, but reports from individual companies indicate a generally\nsimilar situation.\nsimilar situation.\nA factor reducing the impact of increasing debt levels is\nthe corresponding increase in prices and incomes. The ratio of\ndebt repayments on instalment credit to income has shown little\nchange since 1965, halting an upward trend over the earlier part of\nthe postwar era (Table 27). Furthermore this relationship does not\nappear likely to worsen during the coming year, assuming that repay-\nments continue to grow at the same rate as in 1969, and disposable\nincome according to the Division's projections. These assumptions\nindicate quarterly repayments ratios for 1970 of 14.7 to 14.8, com-\npared to last year's rates of 14.8 to 15.2.\nAggregate measures such as these can be misleading in that\nthe distribution of debt by consumer income differs. Instalment debt\nis most heavily used in the middle income brackets, but some lower\nincome families do have heavy cómmitments according to the University\nof Michigan Survey Research Center data comparing repayments with\nprevious year's income (Table 28). In recent years there has been\nsome shift in the more heavily indebted group towards higher income\nclasses.\nR.\nGERALD\nFORD\nLIBRARY\n-48-\nTable 27\nRatios of Consumer Credit To\nDisposable Personal Income\n(In per cent)\nOutstanding consumer credit\nInstalment credit\nYear\nTotal\nInstal.\nNoninstal.\nExtended\nRepaid\n1945\n3.3\n1.4\n1.9\n3.6\n3.4\n1950\n9.2\n6.4\n2.8\n10.4\n8.9\n1955\n12.6\n9.5\n3.1\n14.2\n12.2\n1960\n15.2\n11.7\n3.4\n14.2\n13.2\n1965\n17.7\n14.0\n3.7\n16.6\n14.8\n1966\n18.1\n14.4\n3.7\n16.1\n14.9\n1967\n17.9\n14.2\n3.6\n15.5\n14.9\n1968\n17.9\n14.3\n3.6\n16.4\n14.9\n1st quarter\n17.6\n14.0\n3.6\n16.1\n14.9\n2nd quarter\n17.6\n14.0\n3.6\n16.3\n14.9\n3rd quarter\n18.0\n14.4\n3.6\n16.8\n15.1\n4th quarter\n18.3\n14.6\n3.7\n16.6\n14.9\n1969 p/\n18.4\n14.8\n3.6\n16.3\n16.3\n15.0\n15.0\n1st quarter\n18.3\n14.7\n3.7\n16.5\n15.1\n2nd quarter\n18.4\n14.8\n3.7\n16.8\n15.2\n3rd quarter\n18.4\n14.8\n3.6\n16.2\n15.0\n4th quarter p/18.6\n15.0\n3.6\n15.8\n14.8\n3.6\n1500\nNote: Ratios of consumer credit to Department of Commerce estimates\nof disposable income, both series seasonally adjusted.\n/\nPreliminary\nR.\nGERAL\nCADA\n-49-\nTable 28\nRatio of Annual Instalment Debt Payment Rate to\nPrevious Years Disposable Income\n1969 Survey of Consumer Finances, University of Michigan\n(Percentage Distribution of Families)\nNo debt\nLess than 10%\n10-19%\n20% or more\nTotal\nAll families\n49\n21\n19\n11\n100\nAnnual family income:\nLess than $3,000\n77\n7\n7\n8\n100\n$3,00-4,999\n62\n17\n7\n14\n100\n$5,000-7,499\n39\n18\n26\n17\n100\n$7,500-9,999\n35\n24\n29\n12\n100\n$10,000-14,999\n32\n30\n29\n9\n100\n$15,000 or more\n52\n31\n11\n6\n100\nNote: Percentages may not add due to rounding.\nLiquid assets of families have also been increasing somewhat,\nbut most of the increase has come in the highest asset group. (Table 29).\nThe distribution of debt by size of liquid asset holding, shown in\nTable 30, suggests that families with the largest liquid assets are the\nleast likely to have instalment debt; conversely, 53 per cent of\nfamilies with debt show no liquid assets at all.\nR.\nGERALD\nFORD\nLIBRARY\n-50-\nTable 29\nLiquid Asset Holdings* in 1963, 1965, 1968 and 1969\n(Percentage distribution of families)\nAmount of Liquid Assets\n1963\n1965\n1968\n1969\nNone\n22\n20\n19\n19\n$1 - 199\n15\n17\n15\n14\n$200 - 499\n14\n11\n12\n12\n$500 - 1,999\n21\n21\n24\n22\n$2,000 - 4,999\n14\n14\n13\n15\n$5,000 - 9,999\n8\n9\n8\n8\n$10,000 or more\n6\n8\n9\n10\nTOTAL\n100\n100\n100\n100\nMedian (all families)\n$490\n$570\n$660\n$730\n* Liquid assets include savings accounts, certificates of deposit,\nchecking accounts and bonds.\nGERALD R. FORD\nLIBERTY\n-51-\nTable 30\nRELATION OF LIQUID ASSET HOLDINGS TO INSTALMENT DEBT\n(Percentage distribution of families)\nLiquid Assets\nAll\n$500-\n$2,000\nTotal Installment Debt\nfamilies\nNone\n$1-499\n1,999\nand over\nNone\n49\n47\n27\n41\n69\n$1-499\n15\n30\n17\n14\n8\n$500-1,999\n23\n15\n35\n28\n14\n$2,000 and over\n13\n8\n21\n17\n9\nTotal\n100\n100\n100\n100\n100\nMedian debt\nfor those who owe\n$1,020\n$430\n$1,140\n$1,280\n1,080\n1969 Survey of Consumer Finances, University of Michigan, SRC\nThe likely effect of an economic slowdown on consumer debt\nreally relates to the extent to which a recession would depress incomes\nand employment--and the distribution of the impact and the extent to\nwhich those most affected would have significant debt burdens. Under\nthe assumption of only a modest recession in 1970 there is no evidence\nto suggest a substantial increase in consumer credit delinquencies or\ndefaults can be expected.\nFORD & LIBRARY 938870\n-52-\nIII. CONCLUSION\nWhile liquidity throughout the U.S. economy has been eroded\nby the restrictive monetary policies of 1969, available data do not\nsuggest that a liquidity crisis and accelerated debt defaults are\nnear--assuming that in 1970 financial restraint does not continue to\nthe same degree as in 1969, and that any recession is no longer or\ndeeper than those of the postwar years.\nTwo exceptions do stand out as possible areas of concern.\nFirst, some savings and loan associations--particularly those in\nCalifornia--appear extremely vulnerable to further deposit attrition.\nWith Federal Reserve emergency lending procedures as a supplement to\nFHLBB resources and the Treasury tap, no broad increase in failures\ncan be expected- given the assumption above. But some S&L failures\ncannot be ruled out, and the attendant publicity can hardly be helpful\nto the S&L industry.\nSecond, it is possible that some business corporations may\nface difficulties in funding short-term debt and meeting other com-\nmitments. The staff, however, is unable to be any more precise than\nthis because of the unavailability of disaggregated current data in\nsufficient detail to evaluate the distribution of business liquidity\nand debt.\nFORD is 938870 LIBRARY"
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