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Mr. BLACK. We have made recommendations a number of times that reserve requirements of member banks be changed, and be based upon velocity of turn-over rather than to be fixed. It has been studied very exhaustively. During the consideration of the Glass bill we sent up a proposed bill to that end.

By basing reserves upon velocity of turn-over we would automatically correct a great many of these abuses. I would like very much to leave a report of our committee on that with your committee and have your committee give study to that, either in connection with this bill or independent of this bill.

Senator McAdoo. What is that, the velocity of what?

Mr. BLACK. The velocity of turn-over of a bank, instead of having fixed reserve requirements.

Senator GORE. Now, Governor, on that point, don't you think it would be a good idea to allow the Federal Reserve Board to have the power to enforce either requirement? I have understood that the velocity of circulation might be prejudicial to the small banks of the country, whereas it would be applicable to the big banks in the big cities.

Mr. BLACK. I think it would be prejudicial to the big banks, if you want to use the word “ prejudicial.”

Senator GORE. Yes.

Mr. BLACK. I think it would be more restrictive of the big banks and a great deal less restrictive of the small banks.

Senator GORE. The point has been made that the velocity of circulation taken as a basis of the bank would not be equally applicable, but if the board had the power to apply one standard in one particular set of banks and another in another, it would meet the varying circumstances of the the two categories. Don't you think that would be better than tying our hands and limiting it to either one and excluding it from the other.

Mr. BLACK. Senator, I think this is a scientific way to do it for all banks.

Senator ADAMS. Governor Black, what do you mean there by “ velocity of turn-over"?

Mr. BLACK. Well, suppose, like times are now, banks are doing very little, very little business going on, very little speculation going

You will find a small turn-over for most banks. The drawing on accounts by customers is very small.

. Senator ADAMS. You mean the total amount of business in relation to the total resources of the banks?

Mr. BLACK. To the total deposits of the banks.
Senator Adams. Total deposits.

Mr. BLACK. In times of excessive speculation that turn-over is very rapid; and, gaged by the turn-over, if the reserve requirements automatically followed the turn-over as it went up or went down, you would have a very good check on the use of credit in speculation.

Senator Adams. Then you would increase the reserve requirements as the turn-over increased in velocity?

Mr. BLACK. That is correct, sir. I would like very much to be allowed to leave that memorandum with the committee and ask that they give study to it, because the Board is very strongly committed to the view that it aids very largely in the solution of the problem we have before us.

on.

Senator GORE. Do you have copies of it, Governor?
Mr. BLACK. Senator Gore, I will be glad to send you copies.
Senator KEAN. Will you send one to me, too?

Mr. BLACK. I will, Senator. I am not suggesting that so much in connection with this bill, because I would hate very much to be put in the position of thinking that I have thrown some other factor in this bill, but I would like very much for the committee and counsel for the committee to study this problem, because it can be done just as well independent of this bill as in connection with the bill.

The CHAIRMAN. I doubt if it is relevant to this particular matter, but the committee as a whole will receive it and it may be in the record so as to preserve it.

Senator Adams. It would have the effect of operating as a deterrent to excessive speculation ?

Mr. BLACK. Automatically.

I am asking you now, please, not to be misunderstood; to consider that this is suggested in connection not with this bill necessarily but simply that the committee will study it, because we believe that it is an automatic check on this kind of speculation.

(The matter submitted by Mr. Black at this point will be found. in the record at the end of Governor Black's testimony.)

Senator TOWNSEND. What treatment is given to savings banks under this bill; the same as the Federal Reserve banks!

Mr. BLACK. The same as any other bank.
Senator TOWNSEND. The same as any other bank?
Mr. BLACK. In reference to brokers' loans or loans on equities.

The CHAIRMAN. Governor, our plan is to close the hearings entirely on this bill and the proposed amendment to the bill tomorrow. You suggest in your statement that you may have something further to submit as a result of further study. Could you let us have that early next week?

Mr. BLACK. Yes; I will.
The CHAIRMAN. Is there anything else!
Senator McAdoo. Just one question I would like to ask the Gov-

It is not altogether germane to this bill but relating to the question of reserves and the liquidity of banks, which is always a troublesome problem. I again wish to say that I am not expressing an opinion in this question; I am merely asking for information.

Would you think, Governor, that there was any virtue in the idea that all reserves for banks be dispensed with, and in lieu thereof that they should be required to keep liquid by making loans to the extent of their deposits only on eligible paper, the definition of which might be expanded or enlarged, and they be permitted to invest their capital and surplus in other forms of securities?

Mr. BLACK. I think they should keep their reserves, Senator.

Senator McAdoo. I mean if they were required to make their loans only on a liquid basis.

År. BLACK. I think they should keep their reserves.

Senator McAdoo. Suppose they keep their reserves as they are required and are permitted to make loans to the extent of their deposits on eligible paper only, the definition of which might be enlarged?

Mr. Black. I do not think you could restrict a bank's operations that way, Senator. You and I are not in business. Of course, this

is, as far as I am concerned, rather a far-flown thought, but I might be perfectly good for a thousand dollars.

Senator McAdoo. Well, you have the capital and surplus at the bank to be employed in such loans.

Mr. BLACK. But I do not think they would take care of what I would term personal loans.

Senator McAdoo. There are not any of those any more, are there? Mr. BLACK. Senator, you are discouraging me in my thoughts.

Senator Adams. In the small outside banks the personal loans are a very substantial percent, and the smaller percent is eligible paper?

Mr. BLACK. That is true. You could not do that, because you cannot obtain eligible paper.

Senator McAdoo. You would have to enlarge the definition, of course.

Senator KEAN. I am going to ask Governor Black a disagreeable question.

Mr. BLACK. I have had so many since I got to Washington it does not make any difference.

Senator KEAN. The law says that you shall discount, rediscount or discount, eligible paper and buy eligible paper. It specifies that it shall be commercial paper given for a transaction. Now, then, how much paper of that kind is there?

Mr. BLACK. Very little, sir.

Senator KEAN. In other words, you are discounting paper every day which is not in strict compliance with the law?

Mr. BLACK. Senator, I am not going to confess here about it. [Laughter.]

Senator KEAN. I told you it was a disagreeable question. It was brought out by another Senator.

Senator McAdoo. I recognize the necessity in any such idea as this of enlarging the definition of “ eligible paper."

The CHAIRMAN. This does not apply to this bill. Let us discuss that later. Let us go on with this hearing. Any other questions? That is all very interesting, but we have other witnesses here to hear on this subject. If there are no other questions, Governor, we are very much obliged to you.

FEDERAL RESERVE BOARD,

Washington, March 24, 1934. Hon. DUNCAN U. FLETCHER, Chairman Senate Committee on Banking and Currency,

United States Senate, Washington, D.C. DEAR SENATOR FLETCHER: At the hearing before the Banking and Currency Committee of the Senate yesterday on the so-called “stock-exchange bill”, Governor Black of the Federal Reserve Board referred to a report on Member Bank Reserves submitted by the Committee on Bank Reserves of the Federal Reserve System and approved by the Federal Reserve Board. He also read to the Committee a memorandum containing a brief review of the proposal to change reserve requirements as recommended by the Committee on Bank Reserves.

With the thought that each member of the Banking and Currency Committee would desire copies of the material above referred to, Governor Black has requested me to send you a copy of the committee report and a copy of the statement which he read before your committee. While there is included in the report of the Committee on Bank Reserves a proposed amendment to Section 19 of the Federal Reserve Act which would give effect to the committee's recommendations, it has been necessary to revise the amendment by reason of changes made in the law since the committee report was submitted, and, therefore, a revised draft of amendment to Section 19 of the Federal Reserve Act in accordance with the committee's recommendations is also inclosed. Very truly yours,

CHESTER MORRILL, Secretary.

MEMORANDUM REGARDING PROPOSED REVISION OF RESERVE REQUIREMENTS AS TO

MEMBER BANKS

As an amendment to the bill regulating security exchanges, the Federal Reserve Board wishes to reiterate its recommendation made two years ago for basing member bank reserve requirements not solely on the volume of deposits but also on the rapidity of their turnover, in other words, on the extent to which the deposits are utilized.

Member bank reserve balances are high-power money. On the basis of one billion dollars of excess reserves, member banks can extend credit amounting to between ten and fifteen billion dollars without having to resort to borrowing at the Federal Reserve banks. The volume of excess reserves at the present time is one and one-half billion dollars, and these excess reserves furthermore may increase greatly when a period of credit expansion sets in. Under existing law national banks can issue an additional seven hundred million dollars of bank notes, which when deposited with the Federal Reserve banks add to the reserves of member banks. There is also still a billion or a billion and one-half of currency that has not returned from hoarding but is likely to be utilized and thus flow back into the banks when an expansion sets in. In these circumstances if an expansion of credit should get under way, the member banks will have a large volume of reserves without recourse to the Federal Reserve banks. These banks therefore would be out of touch with the market and thus not in a position to exert a restraining influence through discount policy.

The Board's proposal carries out to its logical conclusion the existing distinction between time deposits, which require a 3 percent reserve, and demand deposits, which require a 7, 10, or 13 percent reserve, depending upon the location of the bank. The proposal would result in an automatic increase of reserve requirements when boom conditions arise and an automatic decrease of reserve requirements in times of depression. The proposal furthermore has the advantage of making the increase in reserves applicable not to all banks in all localities alike, but rather to those banks in those communities only where excessive speculative activity is manifesting itself. If this proposal were adopted, its operation, together with the authority existing under the Thomas Amendment to raise reserve requirements with the consent of the President when an emergency arises from excessive credit expansion, would make it possible for the Federal Reserve Board to combat the recurrence of speculative excesses. The proposal, therefore, presents a logical complement to the bill for the regulation of security exchanges.

The proposal would counteract two abuses that have developed under existing law and have created serious obstacles to credit control. One is the evasion of reserve requirements by classifying as time deposits many deposits that to all intents and purposes are demand deposits, a practice that has developed since the classification of deposits in one or the other category has determined the volume of reserves that a bank must carry. And the other, the reduction of actual reserves carried through diminishing the volume of till money which under existing law does not count as reserve. The proposal would permit banks within certain limitations to count their vault cash as reserves and would therefore close the door to the practice of greatly reducing actual reserves by diminishing cash holdings to a nominal amount.

In times of great speculative activity, such as 1928 and 1929, the banks under a law like the one proposed would have had to carry three or four hundred millions of additional reserves and would, therefore, have had to increase their borrowings at the Reserve banks by that amount. This would have greatly increased the power of the System to exercise a restraining influence at an early date. On the other hand in times of depression when deposits are inactive member bank reserve requirements would diminish and there would be a decrease in the volume of idle funds that the banks would be required to carry as reserves. In effect, the plan would supplement open-market operations by the Reserve banks, by withdrawing funds from the market under boom conditions and furnishing additional funds at times of depression.

The plan would also work for a more equitable distribution of reserves as between city banks and country banks. City banks, owing to their proximity to the Reserve banks, have been able to reduce their vault cash to a veri small proportion of their deposits, while at country banks a much more considerable proportion has been necessary. As a consequence the actual distribution of effective reserves differs from that contemplated by the law and is much more favorable to banks in financial centers. The Board's proposal would do away with this disparity.

Most important of all, however, the proposed plan would result in an increase of reserve requirements not only at the time when such an increase will be in the interests of sound banking conditions but also at the spot where speculative excesses get under way, and at the banks where enhanced activity of deposits will be caused by a rising tide of speculation. Big nation-wide booms develop at financial centers, and this proposal by imposing, restraints on speculation in these centers without increasing the burden of idle reserves for banks in those communities to which the boom has not penetrated, will not only be more equitable but will serve the purpose of applying restraining influences automatically at the right time, in the right places, and to the right institutions.

With the heavy responsibilities imposed upon the Federal Reserve System in connection with the possibilities of speculative expansion, the adoption of this plan would place into their hands an instrunient that would be of great assistance in serving the interests of trade and industry by restraining the use of credit for speculative purposes.

Concretely under the proposal, member banks would be required to carry 5 percent reserves against their net deposits plus 50 percent of the amount of the bank's average daily debits to deposit accounts. In order to avoid too heavy burdens in extreme cases, the proposal provides that in no case shall agggregate reserves required of a bank exceed 15 percent of its gross deposits.

In computing their reserves, the member banks would be permitted to count as reserves a certain proportion of their vault cash. At banks in cities near the Federal Reserve banks or branches, the banks would be required to carry four-fifths of their total reserves as deposits with the Federal Reserve banks, while at other banks they would only be required to carry two-fifths of their reserves as balances with the Reserve banks.

As an exhibit in connection with this statement I should like to submit the report of a committee of the Federal Reserve System on bank reserves pre sented to the Federal Reserve Board in 1931. Your attention is particularly called to the chart on page 10 of this report which shows that demand deposits and consequently reserve balances of member banks showed practically no increase during the period of the greatest credit expansion in 1928 and 1929, while bank debits during that period increased at a very rapid rate. Another chart on page 19 of the report shows how under the proposed plan reserve requirements would have risen rapidly during the expansion and would have declined much more rapidly than actual reserves after the depression set in.

A BILL TO amend Section 19 of the Federal Reserve Act as amended.

Be it enacted by the Senate and House of Representatives of the United States of America in Congress assembled, That Section 19 of the Federal Reserve Act, as amended, is further amended and reenacted to read as follows:

RESERVES OF MEMBER BANKS

“ SEC. 19. (a) Each member bank shall establish and maintain reserves equal to five per centum (5%) of the amount of its net deposits, plus fifty per centum (50%) of the amount of its average daily debits to deposit accounts: Provided, That any member bank, at its option, for any period not less than 90 days, may omit any specific deposit account or accounts from such computation of its reserve requirements if such account or accounts are reported separately to the Federal reserve bank and if a reserve of 50% is maintained against such account or accounts: Provided, howeverThat, in no event, shall the aggregate reserves required to be maintained by any member bank exceed fifteen per centum (15%) of its gross deposits.

“(b) Each member bank located in the vicinity of a Federal reserve bank or branch thereof shall maintain not less than four-fifths of its total required

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