the rate increases, and thus to avoid the threat of competitive rate escalation.

If the legislation before you were permitted to expire, of course, the Federal Reserve and the Federal Deposit Insurance Corporation would retain authority to establish ceiling rates on the interest rates offered on savings and time deposits by member and nonmember insured banks, respectively. But we would lose a great deal of flexibility in distinguishing among types of deposits, and it was this flexibility that permitted us to establish a lower rate ceiling on time deposits under $100,000. No matter what you think of such a distinction philosophicallyand I, for one, find it objectionable the realities of today's market absolutely require some scaling in maximum rates by size of deposits if banks are to compete for funds in the money market without at the same time disrupting the more traditional markets for small savings. Moreover, as a practical matter, I think that we would find it very difficult to continue limiting the interest rates paid by banks for sav ings if their competitors-the savings banks and savings and loan associations were left free to post any rate they wished.

For these reasons, the Board believes it essential that Public Law 89-597 be extended, and we recommend that the authority be made permanent. The need for effective rate limitation is especially acute under present circumstances, but the case of extending this legislation need not rest on current market conditions. Indeed, it is difficult to envision circumstances under which the Congress would find it advisable to allow this statute to terminate. If the underlying causes of today's stresses in financial markets are corrected, and rate ceilings are no longer needed, the statute contains authority for their suspension. On the other hand, as long as ceilings are needed, it seems advisable to continue the flexible, coordinated approach embodied in the statute for establishing them.

If the rate ceiling authority is made permanent, the present statutory exemption for foreign official time deposits should be allowed to expire as scheduled on October 15 of this year. This exemption was originally adopted in 1962, before enactment of the present flexible authority over rate ceilings, and it was intended to permit banks to compete for foreign official funds and thereby to help alleviate the balance-ofpayments situation. Since that situation has not improved during the intervening years, the exemption of foreign official deposits from interest-rate ceilings continues to be justified. In recent amendments of their regulations, the Federal Reserve and the Federal Deposit Insurance Corporation have made clear their conviction that in present circumstances foreign official deposits should be free from interest-rate ceilings. As improvements in the international payments position of the United States are achieved, however, the need for special treatment for foreign official deposits should be reviewed from time to time in order to make sure that the discrimination involved is continued only as long as it is needed. If Public Law 89-597 becomes permanent law, the Board will then have the authority to continue, modify, or terminate this exemption administratively in the light of changing circum

stances.

The authority in Public Law 89-597 for Federal Reserve purchases and sales of agency issues in the open market should also be made permanent. The objectives of this authority-to "increase the potential

flexibility of open market transactions and **make these securities somewhat more attractive to investors" (S. Rept. 1601, 89th Cong., second sess.)—are long range, and would be better served by eliminating uncertainty as to how long the authority may be exercised.

The Board proposes also that two minor related amendments be added to S. 3133. The first would amend the eighth paragraph of section 13 of the Federal Reserve Act to permit advances to member banks to be secured by any obligation eligible for rediscount or for purchase by Federal Reserve banks. This would broaden such lending authority to include as eligible collateral all of the direct obligations of Federal agencies, as well as obligations fully guaranteed as to principal and interest by such agencies. Since the Federal Reserve banks are authorized by Public Law 89-597 to purchase all such Federal agency obligations, we can see no reason why similar authority should not be granted as to their use as collateral for advances by Reserve banks to member banks.

The second amendment we propose would broaden in similar fashion the types of collateral authorized for Federal Reserve bank loans to individuals, partnerships, and corporations under the last paragraph of section 13 of the Federal Reserve Act. The collateral for such advances now may consist only of the direct obligations of the United States, and we propose to include also the obligations of Federal agencies. This provision of the act is seldom used, but it could provide important protection to the business community under highly unusual or emergency conditions in financial markets. In June 1966, for example, we had made arrangements for the possible extension of credit to mutual savings banks, savings and loan associations, and other depositary-type institutions under this authority, though none proved to be necessary. Addition of Federal agency issues would give wider latitude in such contingency planning, and we can see no reason why the types of assets made eligible for collateral should not, in this instance also, parallel the Reserve banks' purchase authority.

I have suggested reasons for making permanent the rate ceiling and open market authority in Public Law 89-597. The Board believes also that the authority in that statute to raise reserve requirements on time deposits should be made permanent if it is to be effectively exercised. Statutory expiration dates confront the Board with the prospect that if they should raise reserve requirements on time deposits about 6 percent, the action might be automatically reversed, thereby reducing reserve requirements, at a time when such a reduction would have undesirable consequences.

Let me turn now to S. 2923, which authorizes the Federal Reserve System to purchase up to $5 billion of U.S. obligations directly from the Treasury. As your committee has heard before in the course of numerous extensions of this authority over the past 26 years, the authority has been used sparingly but affords the Treasury a useful measure of leeway in managing its cash balances and borrowing operations. Although one may question whether any purpose is served by the 2-year limitation on this authority, presumably it has become so much a part of our traditions that there is little prospect that it will be abandoned. Moreover, a 2-year extension has passed the House and I recognize that your committee may be reluctant to adopt a different version. Therefore, even though a forceful case could be made for

striking out the expiration date, I recommend, on behalf of the Board, that you report S. 2923 without amendment.

AMENDMENTS TO CARRY OUT FEDERAL RESERVE RECOMMENDATIONS

1. To make Public Law 89-597 permanent: Strike out section 7 of that statute (S. 3133 as introduced amends section 7 to extend expiration date).

2. Collateral for advances by Federal Reserve banks:

(a) Advances to member banks: Amend the eighth paragraph of section 13 of the Federal Reserve Act by striking out "secured by such notes, drafts, bills of exchange, or bankers' acceptances as are eligible for rediscount or for purchase by Federal Reserve Banks" and inserting "secured by such obligations as are eligible for rediscount or for purchase by Federal Reserve Banks."

(b) Advances to individuals, partnerships, and corporations: Amend the first sentence of the last paragraph of section 13 of the Federal Reserve Act by inserting after "secured by direct obligations of the United States" the following: "or by any obligation which is a direct obligation of, or fully guaranteed as to principal and interest by, any agency of the United States". Senator PROXMIRE. Thank you very much.

Secretary Deming?

I should identify Secretary Deming. He is Under Secretary of the Treasury for Monetary Affairs. We are glad to have you.

STATEMENT OF FREDERICK L. DEMING, UNDER SECRETARY OF THE TREASURY FOR MONETARY AFFAIRS

Mr. DEMING. I have a short statement which I should like to read. Senator PROXMIRE. Very good.

Mr. DEMING. The Treasury Department strongly urges that favorable action be taken on S. 3133 which would extend for 2 more years the flexible authority under which the appropriate financial agencies can regulate maximum rates of interest or dividends payable on savings accounts. This legislation has amply demonstrated its worth. In view of the present and prospective pressures on financial markets, a further temporary extension of this valuable authority would be an act of ordinary prudence. In the absence of this legislation, we could face a return to the potentially destructive form of competition among financial institutions which contributed to mortgage market difficulties and the escalation of interest rates during 1966.

This bill would also extend the authority of the Federal Reserve to (a) vary reserve requirements on time and savings deposits between 3 and 10 percent, and (b) conduct open market operations in securities issued or guaranteed by any agency of the United States. Both are valuable potential tools to promote financial stability and the efficient functioning of our financial markets. Some limited use has already been made of the broadened authority to conduct open market operations. While reserve requirements on time and savings deposits have not been raised beyond the 3- to 6-percent range permitted under earlier legislation, the reserve required on time deposits in excess of $5 million is presently at 6 percent. The broader latitude inherent in the 3- to 10-percent range is clearly desirable.

This same legislation was originally enacted September 21, 1966, for a period of 1 year. A request for its extension for 2 years was favorably reported by your committee last July and the bill passed the Senate in that form. As finally enacted, shortly before it was to expire, the extension was for 1-year period, with no other changes in the basic legislation. A 2-year extension is again requested. A permanent extension is not requested because the interest-rate ceiling part of the authority was only intended initially to meet a special set of circumstances. The need for, and desirability of, such ceilings under more normal circumstances remains an open question.

There is no need to review in any detail the circumstances which initially brought this legislation into being. During 1966, a very aggressive competition for funds developed among financial institutions. This aggravated an already difficult situation in the money and credit markets. Thrift institutions could not, in all cases, safely pay the higher rates on savings which were required to attract new funds and hold old ones. The flow of savings into mortgage markets fell off abruptly, and the housing industry suffered a sharp decline. Not all of these difficulties were due to uninhibited interest-rate competition, but it was an important factor in the total picture.

These interest-rate ceilings were one part of a coordinated program which successfully alleviated strains and reduced upward rate pressures in the financial markets by late 1966. As soon as the enabling legislation was passed, the regulatory authorities moved promptly to apply interest-rate ceilings. They found it possible to reduce some of the highest rates that had developed during 1966. At the same time, care was taken not to press the ceiling rates down in a fashion which might have choked off the reflow of funds to thrift institutions. The regulatory agencies, themselves, will be in a better position to comment upon the details of their experience with the administration of these ceilings.

During 1967, there was a remarkable improvement in savings flows. The total inflow at commercial banks, mutual savings banks, and savings and loan associations was around $39 billion. This was about double the inflow in 1966 and exceeded the $32 billion inflow in 1965 and the $29 billion inflows in the previous 2 years. As a result, the position of lending institutions was greatly improved. Savings and loan associations were able to repay a large volume of advances to the Federal Home Loan Bank System which is, itself, now in a much better position to render assistance to member associations.

With the improvement in savings flows, the housing industry made a vigorous recovery. New private housing starts rose from a seasonally adjusted annual rate of a little over 900,000 units in the fourth quarter of 1966 to a rate of more than 1,400,000 units in the fourth quarter of 1967. Residential construction expenditures rose from a seasonally adjusted annual rate of $20.9 to $27.6 billion-a rise of nearly one-third. Housing starts and permits have shown further strength this year.

But there is another side to the story. The rate of gain in savings inflows slackened more or less steadily during the course of 1967 although monetary policy was generally expansionary. In January of this year, while savings and loan associates fared better than many had expected, they did experience a net outflow of some $250 million,

the largest on record for a January. Mutual savings banks and commercial banks did somewhat better in January. Savings flows held up rather well in February. But, in view of recent financial developments here and abroad, it would be foolish to assume that this will necessarily last. Market interest rates have been rising significantly and in many areas are already nearing, or have passed, the peak yields of August-September 1966. The threat of a large-scale movement of funds into market instruments and a competitive scramble among financial institutions is by no means remote.

As your committee is well aware, the legislative authority for ceiling interest rates is far from a panacea, and ceilings may not be a desirable long-term feature of the financial landscape. In particular, these ceilings will not prevent rising market rates of interest from exerting their pull. It is possible to conceive of a situation in which market rates were rising so significantly that the regulatory authorities would have little option but to make some upward adjustments in ceiling rates. But, even then, this authority could be used so as to promote an orderly adjustment.

The best insurance against further rises in market rates and a tightening credit situation would be prompt enactment of the President's tax proposals and rigorous restraint of expenditures. In the absence of that broader action, this particular legislative authority, while still useful, cannot be expected to work wonders. We would be better off with this authority than without it, but the home financing and housing industries would still face difficult adjustments.

With fiscal restraint and reasonable balance in financial markets, a substantial savings inflow to mortgage lenders should continue. In such a setting, the extension of authority in S. 3133 will provide the regulatory authorities with tools that have proven their value in the past year and a half. If a more difficult situation is encountered, these tools will still be useful. Your prompt and favorable action is requested on a 2-year extension of the existing authority.

With respect to S. 2923, Mr. Chairman, I have a short statement here. I think the point of it is that we have had this authority since 1942, renewed at 2-year intervals. It has proved useful, and has been exercised with restraint. In the last 2 years we have had it, it has been used four times.

The maximum outstanding at the Federal Reserve held on direct purchase from the Federal Treasury was $169 million for a period in 1966. We used it three times for a total of 7 days in 1967, and so far not at all in 1968.

It is a very useful adjunct to the Treasury. I hope you will renew it for 2 years.

I will put the statement in the record, Mr. Chairman, if it is agreeable.

Senator PROXMIRE. Thank you very much.