The substance of the meeting with the president was less important than its aftermath.220 The president talked about the seriousness of the wartime emergency and the importance of maintaining confidence in government securities. He recalled his experience in 1920 when the value of government bonds fell to 80 before rising to a premium. He thanked the committee members for their past cooperation, then told them that he wanted to finance the war with taxes and that he would ask for $16.5 billion of new revenues to balance the fiscal 1952 budget (Minutes, FOMC, January 31, 1951, 25).
McCabe explained that the Federal Reserve shared his concern about maintaining the government’s credit, but that it had responsibility for economic stability. Its decisions were made by a committee of public-spirited men who might, however, disagree. He did not touch on the dispute with the Treasury, nor did the president. He promised to continue consultation with the secretary. If they failed to reach agreement, he would discuss the issue with the president.
The president said that was “entirely satisfactory.” He concluded the meeting by again stressing the importance of maintaining confidence in the government’s credit and in the securities market. The president said the White House would issue a statement saying that “we discussed the general emergency situation, the defense effort, budget and taxes, and that he had stressed the need for public confidence in the Government’s credit” (ibid., 27).
The meeting with the president smothered the conflict in ambiguity. Everyone seemed to agree, but no one changed position. Some members of the FOMC complained that they had wasted an opportunity.
219. Governor Vardaman then read a memo he had presented to the Board the previous day. The memo criticized McCabe and the other members for opposing the Treasury. The decision about interest rates and debt finance was the secretary’s. “This Board has nothing further to say on the question involved other than to state quite firmly and clearly that the Board will support to the fullest extent of its authority the program as officially promulgated by the United States Treasury” (Board Minutes, January 30, 1951, 7–8).
220. The text is based on a memo prepared by Governor Evans after the meeting, probably based on notes made during the meeting, and on Eccles 1951, 487–90.
Press reports at the time said that the FOMC voted eight to four against a motion to support the 2.5 percent rate. This is an error. There is no mention of a vote, only a statement by McCabe that the price of the long-term bond would remain 10021/32. Although Snyder was not present when the FOMC met with the president, the Treasury began to tell the press its version of what had taken place. In the Treasury’s version, the Federal Reserve had agreed to support Treasury issues and maintain the 2.5 percent rate. These stories infuriated Sproul and other Federal Reserve officials. But there was more to come. As Sproul and McCabe discussed the Treasury’s leaks to the press and debated whether to respond, McCabe received a letter from the president thanking the FOMC for its cooperation and for its “assurance that you would fully support the Treasury . . . financing program” (Minutes, FOMC, February 6, 1951, 3). McCabe then said that there were two courses of action: one, get the president to take back the letter or, two, deny that the FOMC had given any such assurances.
At noon on February 1, the White House released a press statement that took the Federal Reserve by surprise. Instead of the bland statement that President Truman had given at the meeting, the White House press office announced: “The Federal Reserve Board has pledged its support to President Truman to maintain the stability of Government securities as long as the emergency lasts.” Soon after, a statement from the Treasury said that the White House announcement meant that interest rate levels would be maintained during the Korean emergency.
These efforts to force the System to remain subservient accomplished in a few days what most of the members had been unwilling to consider in the previous five and a half years. The Treasury had lied publicly. In Sproul’s words, “publicity concerning yesterday’s meeting with the President. . . doesn’t accord with the facts” (Sproul Papers, February 1, 1951, 1).
At the February 2 Board meeting, McCabe circulated the letter from the president and asked for discussion of a response. The Board decided that McCabe should ask to meet with the president to show him Governor Evans’s summary of the January 31 meeting. Then McCabe would ask the president to withdraw the letter. Before a meeting could be arranged, the White House released the letter to the press late on Friday afternoon.221
That was too much for Eccles.222 After thinking about his response overnight, he released a copy of Evans’s memo, summarizing the January 31 meeting at the White House, that the Board had agreed to unanimously. The memo, published in the press on February 4, showed that the White House and the Treasury had released false information to give the impression that the Federal Reserve had capitulated. The press and much public opinion supported the Federal Reserve.
221. Eccles (1951, 492) claims the Treasury drafted the letter.
222. Eccles (1951, 495) had decided to resign and return to Utah. He held his letter of resignation until after the controversy ended. He left the Federal Reserve on July 14, 1951. His last days were among his best. Eccles recognized that what he did next was irregular and improper. At the FOMC meeting on February 6, only Sproul supported Eccles’s action, although he agreed that it was improper to discuss publicly what happened at meetings with the president. No other member of the FOMC took a position (Minutes, FOMC, February 6, 1951, 10). Sproul described the conflict with the Treasury as “violent,” the FOMC record of the meeting with the president as “fair and accurate,” and the White House statement and the president’s letter as inaccurate and a misrepresentation (9–10).
The FOMC met on February 6–8. Sproul proposed a confidential response to the president and another to Secretary Snyder. The letter to the president was polite, but firm and carefully reasoned. The committee stressed its responsibility to control inflation and argued that control of inflation was essential for achieving the president’s goal of maintaining confidence in the “integrity of the dollar and therefore in Government securities” (Minutes, FOMC, February 6–8, 1951, 26). The letter reminded the president of his own frequent statements on the importance of controlling inflation. Confidence would be destroyed, however, “by a flood of newly created dollars [that] will overwhelm whatever price, wage, and similar controls, including selective credit controls, that might be contrived” (26).
The letter then explained the differences between 1941 and 1951 to show why higher interest rates must be part of the 1951 program. The FOMC did not want high interest rates: “We favor the lowest rate of interest on Government securities that will cause true investors to buy and hold these securities” (ibid., 27). Then, at last, the committee took up the president’s press statements and releases: “The inevitable result [of supporting bond prices] is more and more money and cheaper and cheaper dollars. This means less and less public confidence. Mr. President, you did not ask us in our recent meeting to commit ourselves to continue on this dangerous road. Such a course would seriously weaken the financial stability of the United States and encourage a further flight from money into goods” (27).223 The letter closed with an assurance that the FOMC would seek to work out an agreement with the secretary to protect both the credit of the United States and the purchasing power of the dollar.224
223. The letter then reminded the president of the difference between the bonds he bought in World War I and the series E bonds sold to the general public in World War II. The latter were protected against loss of nominal value.
224. The Board approved the letter eleven to one. Vardaman dissented on grounds that the committee had not adopted a program. He agreed to have his dissent recorded along with his reason, but McCabe said he would not include the dissent when he sent the letter to the president. Vardaman wanted to remain on good terms with the president and the administration, so he insisted that the staff tell the president’s press secretary he had dissented.
There were several exchanges with other Board members at about this time accusing Vardaman of leaking confidential information to the press and the administration. Vardaman denied these charges. He also sided with the White House and Treasury interpretation that McCabe had agreed to support government bonds at the January 31 meeting (Board Minutes, February 6, 1951, 1–6). He was the only one.
The importance of the letter lay not so much in what it said to the president as in what it said about the FOMC. The committee was now on record favoring an anti-inflationary policy, even if that meant that long-term rates would rise. Money growth had to be controlled. It is of interest, also, that nowhere does the letter, or the discussion, suggest that if inflation persisted interest rates would rise.225
The committee turned next to the letter it would send to the secretary. By unanimous vote, it approved a letter outlining a coordinated program to control inflation and finance Treasury borrowing. The Federal Reserve offered to hold the price of long-term debt above par “for the present.” If this required a substantial increase in reserves, the Treasury could issue a “longer-term bond with a coupon sufficiently attractive” to investors. Holders of outstanding long-term bonds would be permitted to exchange them for the new bond. This exchange would remove any debt overhang. The Federal Reserve would maintain an orderly market for short-term securities but would not maintain fixed interest rates. Returning to its 1920s procedures, “banks would be expected to obtain needed reserves primarily by borrowing” (ibid., 30–31).226
All that remained was to work out an agreement with the Treasury. On February 7, Senators Robertson and Maybank asked McCabe and Sproul to meet with Snyder. They both agreed, but they refused to accept Snyder’s suggestion that bankers and outsiders should be present. Snyder agreed to think about it. The first meeting was held the following day.
At the February 8 meeting, both sides repeated their grievances. Snyder was angry. He claimed that McCabe had agreed to support the 2.5 percent rate at the January 17 meeting with President Truman. He charged that the FOMC had given him an ultimatum in August 1950 and that he had not been asked to express a view. Sproul criticized Snyder for not conducting a dialogue, for listening to the Federal Reserve’s position but refusing to discuss his plans. The only progress that was made came at the end, when McCabe read a letter to Snyder outlining the Federal Reserve’s position on future monetary and debt management policy. The secretary “expressed strong reservations.” He thought they should just let markets settle down, but he agreed to study the letter and meet again (ibid., 34).227
225. The change in attitudes is reflected in a long statement that Governor Eccles made at the time. “We are almost solely responsible for this inflation. It is not deficit financing that is responsible because there has been a surplus in the Treasury right along; the whole question of having rationing and price controls is due to the fact that we have this monetary inflation, and this Committee is the only agency in existence that can curb and stop the growth of money” (Board Minutes, February 6, 1951, 18). Later he added: “I believe we have been derelict; . . . I think I have not made the record I should have. . . . If we had had a row [in 1946–47] I could have resigned” (19).
226. The committee also approved a motion to ask the president to fire any Board member who leaked information about meetings. There is a reference to a member who had called the Wall Street Journal and also offered to confer with members of Congress. This is apparently a reference to Governor Vardaman.
The FOMC proposal became the basis for the Treasury–Federal Reserve Accord. The Federal Reserve agreed to remove support of the 2.5 percent rate gradually. It would regain its independence only after the market stabilized at a new level of interest rates. The Treasury would assist the adjustment by offering to refund outstanding 2.5 percent bonds at a higher interest rate and would absorb the cost of removing the excess supply of bonds.
Two days later, Secretary Snyder told McCabe he was going into the hospital for eye surgery. He expected to be away for two weeks and asked that the status quo be maintained during that time. McCabe told Snyder that “unless there was someone at the Treasury who could work out a prompt and definitive agreement with us as to a mutually satisfactory course of action, we would have to take unilateral action” (Subcommittee on General Credit Control and Debt Management (1951, 520).228 Secretary Snyder then appointed assistant secretaries Edward F. Bartelt and William McChesney Martin Jr. to negotiate with the Federal Reserve.229 The System appointed Riefler, Thomas, and Rouse.230
227. McCabe questioned Snyder about why he had not mentioned his January 18 speech in New York when they met with the president on January 17. Snyder said that the president knew what he planned to do, but McCabe replied that the president had denied any knowledge of the speech. Snyder agreed to keep McCabe informed in the future, but McCabe was not mollified. The meeting permitted both sides to complain and respond to the other side’s complaints, but it made no progress toward agreement.
228. To support the long-term rate at a slight premium (2.4 percent) the System bought (net) $700 million in the first two weeks of February. Market pressure slowed after mid-February. For the month as a whole, the System purchased (net) $400 million, of which $200 million had ten or more years to maturity (Board of Governors of the Federal Reserve System 1976, 488, 536). Holdings of long-term bonds were $2 billion lower than a year earlier.
229. Sproul’s papers (February 10, 1951, 2) report a conversation with McCabe. McCabe wanted to agree to a postponement, but Sproul was opposed. McCabe said, “As long as the Treasury [sic] is supporting the longest term restricted 21/2 there wouldn’t be anything for us to do. I said yes, there is continued purchase of short-term securities to prevent the rate from going above 11/2 percent for one year—we ought to quit that right away.” They agreed to discuss their next move at the executive committee meeting on February 12.
230. The Federal Reserve came under almost immediate pressure to delay discussion and withdraw its letter to the president. Senator Maybank and others urged delay. They reported that Congressman Wright Patman “was very critical of the Federal Reserve” and eager to conduct public hearings on the controversy (Minutes, FOMC, February 14, 1951, 2). McCabe asked other members of the executive committee. Sproul favored sending the letter but not releasing it to the press. He opposed a commitment to maintain rates. Young (Chicago) and Evans agreed with Sproul about the letter but were willing to postpone action on interest rates. Eccles sided with Sproul. McCabe told the senators that the System was buying long-term bonds at a premium above par. This, he said, encouraged additional sales, further increasing reserves.
Snyder’s stay in the hospital lasted a month. He asked for more time before reaching agreement so that the discussions at the technical level, led by Martin and Riefler, could consider alternatives other than those proposed by the Federal Reserve. McCabe declined because, he said, the FOMC continued to buy government bonds in “very substantial amounts” (Minutes, Executive Committee, FOMC, February 26, 1951, 3).
One reason the Federal Reserve’s position hardened was that the staff had almost completed the technical discussions with the Treasury. At meetings between Riefler, Martin, and their associates between February 20 and 23, the Federal Reserve insisted on ending the monetization of long-term debt, a rise in short-term rates to 1.75 percent, and reliance on member bank discounting to supply reserves.231 The Treasury team agreed to all of this. It asked only that the Federal Reserve maintain discount rates at 1.75 percent until December to facilitate Treasury planning of future issues. Riefler proposed, also, that the Treasury issue a 2.75 percent non-marketable long-term bond in exchange for the 2.5 percent bonds of 1967–72. The bond would not be redeemable before maturity but could be exchanged for a marketable 1.5 percent five-year note (Minutes, FOMC, March 1–2, 1951, 4–11).
The main difference between the two sides had been reduced to different speculations about what would happen if they agreed on the program and how to les
sen the market response. “The Federal Reserve’s position was firm that this could be done without repercussions in the money market while the Treasury view has been that it could be minimized through direct controls which were preferable to increases in interest rates” (Martin memo in Minutes, FOMC, March 1–2, 1951, 11).232
At its next meeting, the executive committee voted unanimously not to withdraw the letter to the president. Negotiations with the Treasury were under way based on the System’s recommendations in their letter to the secretary, so the committee decided not to raise rates provided it was not required to purchase heavily to support the rate structure. If it had to buy, McCabe would discuss the decision with Martin and Bartelt before acting.
The Board asked the Federal Advisory Council for support. The council was reluctant to take a stand. Meeting with the Board on February 20, the council recognized the threat of inflation, but it concluded “that small changes in interest rates will not have any important effect on the volume of loans made” (Board Minutes, February 20, 1951, 3). Citing the large government debt outstanding, it called for “a flexible attitude” by the Treasury and the Federal Reserve. (At the time, commercial banks held about $9 billion of government securities with five or more years to maturity, and insurance companies held about $15 billion.) McCabe tried to get a stronger statement, but the bankers were unwilling. Eccles took them to task and accused them of lacking courage, but he did not sway them.
231. Riefler’s case for discounting is along the lines of his book (Riefler 1930). Banks were reluctant to borrow, so increased borrowing is contractive.
A History of the Federal Reserve, Volume 1 Page 103
