The Fed's Surprise

To the surprise of Wall Street, the Federal Reserve Board last week tightened up on credit again--and immediately stirred up a controversy. In the third such move since last summer, the Fed permitted four district banks (New York, Chicago, Philadelphia, Dallas) to raise their discount rates to member banks from 2 1/2% to 3%, thus allowing others to follow.

The move came as a surprise, because only one day earlier, Federal Reserve Board Member M. S. Szymczak told a Washington audience that the Fed might have followed a tougher money policy were it not for the 4,700,000 U.S. workers still unemployed. His remark was interpreted to rule out any quick discount hike, and the bond market spurted up on the strength of it; after the announcement, the market slipped back again.

Later, Board Member Szymczak insisted that he had been misunderstood, declared that he had simply meant to say that the Fed would adopt an even tougher policy except for unemployment. Summed up a Fed spokesman: "Unemployment is a distressing fact. But we feel that we have to develop a sound economy so that we won't fall into a slump again and have even more unemployment." By raising the lending rate to member banks, the Fed showed its confidence that the U.S. economic recovery is steadily picking up steam--and its fear that inflation is once more a major danger.

On top of its concern about inflation, the Fed worries about the U.S. Treasury's money-raising problems. The Treasury has been forced to hike interest rates on-its short-term Treasury bills to above 2 1/2%, thus tempting commercial banks to "play the spread" by borrowing money from the Federal Reserve at 2 1/2% and putting it into Government securities that yield more. The Fed's discount-rate increase will stop this practice, was timed to take place between Treasury financings so as not to upset the market.

Whether the Fed's move was justified was loudly disputed. Certain congressional Democrats lined up against the rate hike. "Extraordinary." said Illinois' Senator Paul Douglas. "An awful thing," said Chairman Wright Patman of the House Small Business Committee, who issued a new call for a sweeping inquiry into federal fiscal and monetary policies. The Fed's move, said A.F.L.-C.I.O. President George Meany, "represents a further tight-money dampener to economic recovery, while 6% of the labor force is still unemployed, and about 20% of productive capacity is idle."

Actually, the Fed's move will probably have little effect on credit. Money is not very scarce. Although banks have more of their deposits out on loans now than they did at the end of the last recession in early 1955 (largely because of a tremendous two-year growth in loans), the demand for loans has dropped off. With capital spending down and profits edging up, many industries have built up a good cash fund, do not need loans.

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