126

p The problems of raising additional funds in the money and capital markets to cover the excess of budget expenditures over receipts occupies an important place in the fiscal strategy of the US Government. The problem became very acute during the Second World War when the US public debt annually increased by tens of thousands of milions of dollars. After the war there appeared a new problem of managing the huge debt. At the same time the chronic deficit of the federal budget, which was largely due to preserving military spending at a high level made impossible any substantial reduction of the government debt. At the beginning of June 1972, the total amount of federal securities outstanding reached an all-time peak in the history of US public finance—$427,300 million. Together with the issues of government agencies the debt outstanding amounted to $438,200 million. On March 17, 1971, the US Congress enacted Public Law 92-5, which raised the statutory federal debt limit to $400,000 million and the temporary limit (up to October 1972) by another $30,000 million. Then the temporary maximum limit was raised by another $20,000 million, i.e., to $450,000 million.  [126•1  This is more than 40 per cent above the record figure reached during the Second World War.

127

p The practice of fixing the maximum volume of the federal debt was introduced in the United States in 1917 on the basis of the Second Liberty Bond Act.  [127•1 

p The purpose of fixing a debt limit was to give to the legislative authority means of control over the total borrowings of the government. But gradually this procedure became a mere formality. This was clearly revealed during the last 15 years when Congress almost automatically satisfied all the requests of the Treasury to raise the federal debt limit. During this period the limit was increased 17 times, following the steady growth of the federal debt.

p The increase of the public debt in the USA indicates the serious financial difficulties faced by the federal authorities. Although the long-term historical tendency, outlined earlier, consists in the increase of the tax rates, as a result of which an ever growing share of the national income was placed at the disposal of the government, the revenue failed to keep pace with expenditure. The point is that at any time the possibility of mobilising part of the money income into the budget through the tax channels is limited by a number of economic and social factors. Tax increases reduce the purchasing power of the population and exacerbate the most “painful” problem of capitalism, that of marketing the produced goods. At the same time, the tax burden, shifted chiefly onto the population in the lower brackets, is a constant source of social conflicts and growing intensity of the class struggle. That is why a substantial (and in some periods even the bigger) part of the expenditure has to be financed by the government in a more costly way, by the issue of securities and their sale in the money and capital markets.

p Table V-I shows that the present federal debt is a product of Treasury operations carried out over a long period of time.

p The First World War increased the federal debt by more than eight times. Budget revenue covered only part of the tremendous military expenditure. The deficit reached up to 70 per cent of the expenditure. After the end of the war 128

Table V-1

Federal Debt of the USA, 1917-1972 (million dollars) End of fiscal year Total outstanding Increase (+) or decrease (—) 1917 2,976 1919 25,482 + 22,506 1929 16,931 —8,551 1939 40,440 + 23,509 1946 269,422 +228,982 1950 257,367 —12,065 1955 274,374 + 17,017 1960 286,331 + 11,957 1965 317,274 + 30,943 1970 370,919 + 53,645 1972 427,260 + 56,341 Sources: Historical Statistics of the United States, Treasury Bulletin, August 1972, p. 22. the debt was reduced ($16,900 million) as a result of the relatively stable economic activity.

p The Great Depression of 1929-1933 marked a kind of a turning point in the history of US public finance. A deficit has become a regular feature of the budget since the 1931 fiscal year and there has been, since then, a chronic imbalance of the federal budget in non-war years. Although the budget deficit of that period was largely determined by uncontrolled economic factors (specifically, the sharp decrease in taxable incomes of the population and corporations), the government by its “anti-depression” actions initiated a policy of a “deliberately unbalanced" budget. We have referred in earlier chapters to a basic shift in the function of the capitalist state which changed the strategy and forms of economic policy. Perhaps in no other sphere has the shift been so pronounced as in governmental financial operations.  [128•1  Prior to the outbreak of the deep economic crisis in 129 the 1930s, the concept of “sound finance" and of an annually balanced budget dominated US academic circles, public opinion and governmental policy. US presidents, Coolidge (1923-1929) and Hoover (1929-1933), consistently supported the principles of a “cheap government" and a small public debt. Lewis Kimmel writes in his study of the historical aspects of fiscal policy that “when the depression began in 1929, federal budget policy was firmly anchored to the idea that the budget should be balanced annually. A balanced budget was regarded as the principal test of sound fiscal management."  [129•1 

p A sharp change in budgetary concepts and, accordingly, in the nature of governmental actions, occurred during the Administration of President Franklin Delano Roosevelt, although even before that time a number of US and West European authors voiced ideas justifying the violation of “fiscal discipline" in conditions of deep depression.

p The initial budgetary measures of the Roosevelt Administration (1933-1934) and the “pump-priming” policy it conducted, had no consistent theoretical foundations. It was assumed that large budget appropriations for public works and other programmes were of strictly temporary nature. They were viewed as emergency measures which would be phased out with the economy’s transition to the stage of recovery and growth. The budget appropriations for these purposes were called emergency expenditures which were placed in opposition to general expenditures.

p The situation, however, changed at the end of the 1930s after the publication of The General Theory of Employment, Interest and Money (1936) by John Maynard Keynes and the works of Alvin Hansen, a leading defender of Keynesian ideas in the United States. The fiscal policy received justification within the limits of a more general theoretical concept. Popularity was gained by Hansen’s thesis on the capitalist economy’s tendency towards secular stagnation, and also by his notion of the governmental fiscal policy as the chief and, in fact, the only method for 130 eliminating the chronic lack of effective demand.  [130•1  According to John Williams, deficit spending gained recognition in academic circles, and considerations of a balanced budget were relegated to the background in elaborating government measures.  [130•2 

p As a result of the chronic imbalance of the US budget in the 1930s the federal debt in the 1941 fiscal year was three times as large as in 1930.

p The public debt mounted tremendously during the Second World War. The screws of the taxation press were tightened to the utmost and even that, by far, did not cover war expenditures. The total budgetary deficit in the fiscal years between 1941 and 1946 reached $204,900 million. During this period the increase in the debt amounted to $220,500 million. Governmental borrowings were the main method for financing the cost of the war. They covered, in some years, more than 50 per cent and in the 1943 fiscal year, more than 70 per cent of the budget expenditures.

p After the end of the Second World War, the size of the US budget deficit decreased. But instances of an excess of revenue over expenditure were merely episodic. The US budget is influenced to a decisive degree by the cyclical process of reproduction as well as by militarism and the arms race.

p The forms and operational principles of fiscal policy have changed in recent decades. Although the sharp increase in inflationary pressure has moderated the predilection for deficit financing, the release of the government from the duty to fit expenditures in the budget to the amount of tax collections, is now regarded as a prerequisite for a modern fiscal policy.

p A deliberately unbalanced budget serves as a practical expression of neo-Keynesian concepts of a “high-pressure economy" and “activism”, where big government spending is regarded as an indispensable stimulus for maintaining stable economic growth rates. The principles of a “free” 131 and flexible budgetary policy were revealed most clearly in the 1960s under the Kennedy and Johnson administrations.

p The influence exerted by professional economists on the process of government decision-making rose sharply during those years. Among President Kennedy’s closest advisers were such well-known proponents of “activism” and expansionist measures as John Galbraith and Seymour Harris of Harvard University, Paul Samuelson of the Massachusetts Institute of Technology and James Tobin of Yale University.

p “The Kennedy economists,” Herbert Stein wrote, “like most American economists of 1960, believed that the chief economic problem of the country was to achieve and maintain high and rapidly rising total output. That is, the problem was full employment and economic growth. The keys to the management of that problem was fiscal policy and monetary policy, with fiscal policy being the senior partner in the combination. Full employment—or economic stabilization—and economic growth were the main objectives and guides of fiscal policy; budget-balancing was an irrelevancy."  [131•1 

p This brief historical survey shows that in conditions of the contemporary American economy a budget deficit is in effect a constant feature of federal finance. The result is that the government piles up a huge debt.

p Let us examine in greater detail the composition of the US public debt. All the issues of the US Treasury Department are divided into three big categories: 1) marketable securities; 2) nonmarketable securities; 3) special issues.

p Marketable securities can be freely bought and sold in the public securities market but cannot be presented for redemption prior to maturity. Nonmarketable securities cannot be sold or transferred by their original holders but, with some exceptions, can at any time be presented for redemption.

Special issues are designated in each case for placement among definite government institutions and funds. They cannot be sold at the market either.

132 Table V-2 Composition of the Public Debt in the USA (end of selected fiscal years, in ’000 million dollars) 1938 1946 1950 1960 1972 Marketable securities Nonmarketable securities Special issues Others 32.3 1.6 2.7 5.4 189.6 56.2 22.3 1.8 155.3 67.5 32.4 2.1 183.8 54.5 44.9 3.1 257.2 78.6 89.6 1.9 Total amount of the public debt 42.0 269.9 257.3 286.3 427.3 Percentage of the marketable debt in the total 76.9 70.2 60.4 64.1 60.2 Source: Treasury Bulletin, various issues.

p The tendency to reduce the share of marketable securities and to increase the share of nonmarketable and special issues reflects the desire of the Treasury to utilise accumulations of different population groups and to extend to the utmost the number of holders of the public debt. Fourfifths of all the issues which do not circulate in the market are US savings bonds which are designated especially for small bondholders and savings institutions.

p Special issues are placed among government institutions, government pension and insurance trust funds. Their sum is steadily rising—$2,700 million in 1938; $32,400 million in 1950; $89,600 million in 1972. Large amounts are invested in government securities by federal employees pension funds, federal old-age insurance fund and other trust funds. So a considerable part of the money mobilised through the channels of the social security system are used for Treasury financing.

The huge size of the US public debt extremely complicates the offering of the new issues of securities. The main difficulties are connected with the marketable part of the debt which is quite mobile and sensitive to changes in the 133 money market. Of interest in this connection is the change of the maturity distribution of the marketable part of the debt during the post-war years.

Table V-3 Maturity Distribution and Average Length of Marketable Public Debt (1939-1972) Maturity classes 20  End of fiscal Amount outstand- within 1 year 1-5 years 5-10 years 10-20 years years and more Average length year ing Sum at the end of the fiscal year. ’000 million dollars 1939 32.8 4.3 9.3 8.8 9.9 1.5 no data 1946 189.5 62.0 35.1 32.8 37.2 22.4 7 years 11 months 1955 155.2 49.7 39.1 34.3 28.6 3.5 5 » 10 » 1960 183.8 70.5 72.8 20.2 12.6 7.7 4 » 4 » 1965 208.7 87.7 56.2 39.2 8.4 17.2 5 » 4 » 1972 257.2 121.9 89.0 26.9 9.3 10.1 3 » 3 » Percentage, distribution 1939 100.0 12.7 27.6 26.0 29.3 4.4 1946 100.0 32.7 18.5 17.3 19.7 11.8 1955 100.0 32.0 25.2 22.1 18.4 2.3 1960 100.0 38.4 39.6 11.0 6.8 4.2 1965 100.0 42.0 26.9 18.8 4.0 8.3 1972 100.0 47.4 34.6 10.5 3.6 3.9 Source: Treasury Bulletin, various issues.

p At the end of the war the most mobile part of the debt (issues with a maturity up to one year) amounted to onethird of the entire debt. Subsequently their share continued to rise, reaching 47.4 per cent in 1972. The share of the next maturity group (1-5 years) has also been steadily rising. In 1972, the part of the debt subject to repayment in the next five years, exceeded four-fifths of the entire marketable debt (in 1946 it equaled one-half). On the whole the average length of the entire marketable public debt decreased in the post-war period from nearly 8 to 3 years and 3 months.

134

p Such a shortening of the average maturity of indebtedness created exceedingly difficult problems for the Treasury. The higher the share of the short-term issues the more often the need arises for “refinancing” (refund or rollover), i.e., for redeeming the old issues by placing new securities on the market. This greatly hinders the management of the public debt, especially in view of the keen competition which has been existing in the capital market during the last twenty years.

p Since the 1950s, the Treasury has been unsuccessfully trying to change the composition of the debt, to raise the share of securities with a longer term to maturity. The report of the Commission on Money and Credit contains a special recommendation which requires “that we arrest the shortening of the outstanding publicly held marketable debt___The Treasury should pursue a program which over a period of time would lead to a more balanced maturity structure for the debt."  [134•1  But the share of short-term issues continues to rise. The adverse consequences of this shift are felt not only by the Treasury: as a result of greater liquidity of the economy the possibilities for monetary and credit management are consequently hindered, particularly, the struggle against inflation.

p Many difficulties in respect to placing marketable issues are linked with the fact that the government, acting as a borrower in the money and capital markets, competes with numerous groups of private investors. The degree of this competition is particularly demonstrated by the comparative growth of the public and private debt.

p While in 1950 the federal debt approximately equalled the debt of the private sector, in 1971 the latter exceeded the amount of the federal debt almost four times. The result was stiffer competition in the credit market. Moreover, the Treasury’s interest payments on the new issues are steadily increasing.

Who are the holders of government securities? What changes occurred in the post-war period in the ownership of the federal debt?

135 T a b l e V-4 Public and Private Debt in the USA, 1929-1971 (in ’000 million dollars) Public debt End of Total out- Private year standing Total Federal* State and local Other debt 1929 214.4 34.8 17.5 17.2 179.6 1939 208.9 70.1 50.1 20.0 — 138.9 1945 464.2 309.2 292.6 16.6 — 155.0 1950 561.1 290.6 266.4 24.2 — 270.5 1960 997.0 372.1 296.6 72.0 3.5 624.9 1965 1,401.8 442.7 330.7 103.1 8.9 959.1 1970 2,104.3 591.5 401.6 151.1 38.8 1,512.9 1971 2,276.2 646.7 435.2 171.7 39.8 1,629.6 * As of the end of calendar year. Source: Survey of. Current Business, September 1957, May 1969, May 1972.

p An answer to this question is given in Table V-5.

p It is interesting to point to the steady rise in the share of the federal debt distributed among government agencies, government pension and insurance trust funds and Federal Reserve Banks. In 1946 this group accounted for 17.5 per cent of the debt, whereas in 1972 it increased to 42.8 per cent. An especially noticeable change occurred in the last decade when the security holdings of these institutions doubled. Changes of the securities portfolio with each of the two main categories of this group influence the economy in different ways. Particularly adverse effects result from the purchase of government securities by the Federal Reserve Banks. This point will be examined in greater detail later on.

Essential shifts have also occurred among the groups of private investors. The part of the debt held by credit institutions has been reduced.  [135•1 

136 Table V-5 Distribution of the Public Debt by Classes of Investors (in ’000 million dollars) Holders of securities 1946 1960 1972 amount per cent amount per cent amount per cent Official Institutions US Government agencies and trust funds 27.4 23.4 10.6 9.0 55.1 27.4 19.0 9.4 111.5 71.4 26.1 16.7 Federal Reserve Banks Total 50.8 19.6 82.5 28.4 182.9 42.8 Private Investors Commercial banks 74.5 28.8 62.1 21.4 59.9 14.0 Mutual savings banks Insurance companies Corporations State and local governments 11.8 24.9 15.3 6.3 4.5 9.5 5.9 2.4 6.3 11.9 19.7 18.7 2.2 4.1 6.8 6.4 2.7 6.2 10.4 21.8 0.6 1.4 2.4 5.1 Individuals 64.2 24.8 65.0 22.4 77.8 18.2 Foreign and international Other investors 2.1 9.3 0.8 3.6 13.0 11.2 4.5 3.8 50.0 16.7 11.7 3.8 Total 208.3 80.4 207.9 71.6 244.4 57.2 Total public debt outstanding 259.1 100.0 290.4 100.0 427.3 100.0 Note: The holdings of commercial banks do not include securities kept in their trust departments. The figures for all years are as of December, for 1972 as of June. Sources: Federal Reserve Bulletin, February 1963, p. 264; August 1972, p. A 44.

p Federal securities holdings of state and local governments are steadily rising. Lastly, in recent years the share of the federal debt distributed among foreign investors has sharply increased.

137

p Between 1960 and 1969, the total amount of US government securities held by foreigners fluctuated around $11,000- 17,000 million. But in recent years foreign security holdings more than trebled. By mid-1972 foreigners held US government securities for $50,000 million, which amounted to 11.7 per cent of the entire federal debt.

p It sounds as a paradox that the increase in US government securities held abroad is connected with the massive “flight from the dollar" which started in 1970-1971 due to fear of its devaluation. The chronic deficit in the US balance of payments and the depreciation of the dollar in the US domestic market prompted foreign dollar holders to “switch over" to other, relatively more stable currencies. But the central banks, tied to the International Monetary Fund through the system of foreign exchange parties, were compelled to buy dollars offered by private holders to prevent a sharp rise in the exchange rates of their own national currencies. As a result the huge mass of dollars in international circulation began to shift from private holders to official institutions, central banks, treasuries and directly to the governments of foreign states. Thus, in May 1971 the dollar holdings of this group rose to $31,300 million as compared with $11,100 million at the end of 1969. Correspondingly, private dollar holdings during this period decreased from $28,700 million to $17,300 million.  [137•1 

p This change led to an increased demand by foreign governments and official institutions for US government securities which this group of holders regarded as the most safe and profitable means for investing the accumulated dollars. As a result, the US Treasury was able to sell abroad large sums of short-term issues, treasury notes and nonmarketable bonds specially designated for sale to foreign official institutions. Between June 1970 and June 1971 the holdings of American short-term treasury notes and certificates in foreign official institutions (including the Bank for International Settlements) rose from $7,000 million to $20,100 million and up to $33,000 million at the beginning of 1972. The amount of nonmarketable bonds and notes sold directly to foreign official institutions did not change 138 throughout 1970 and the first months of 1971. But after the May international monetary crisis of 1971 it sharply increased from $3,500 million at the end of May to $8,600 million at the end of July. The growth in these category of securities held by foreigners continued and the figure reached $15,900 in June 1972.  [138•1  The purchase of US government bonds by foreign holders, in principle, was advantageous for the United States because this made it easier for the Treasury to finance the tremendous budget deficit resulting from the emergency economic measures of the Nixon Administration. But the extremely speculative nature of the demand for securities creates the threat of a sharp change in the situation in the future.

p Credit and financial institutions, and the banking system in the first place play an important role in the functioning of system of US government borrowings. In 1972 financial institutions (including Federal Reserve Banks) held government securities totalling $140,200 million, more than onethird of the total federal debt. Although the role of commercial banks and other private financial institutions as holders of federal securities decreased somewhat, the banks provide a unique mechanism which ensures “ administration" of the debt and the placing of new issues in the market. All operations for the subscription and primary offering of government securities are performed by the Federal Reserve Banks. This is closely linked with another of their functions, that of cash payments and settlements of Treasury accounts. A considerable part of the new issues of government bonds are bought by commercial banks for their own account and for subsequent redistribution among the ultimate holders.  [138•2  Here are some figures illustrating the scale of these operations. According to materials submitted at the beginning of the 1960s by the American Bankers Association to the Commission on Money and Credit, between February 1953 and July 1960, the sum of the new issues of government bonds with a maturity of more than 139 one year, exceeded $250,000 million. Of them, securities for $165,000 million (65 per cent of the entire subscription) were purchased by commercial banks.  [139•1  These figures do not include subscriptions for short-term (3- and 6-months) treasury notes and certificates which are issued to the amount of $130,000-150,000 million annually.

p The purchase and sale of government securities in the United States is not made at the stock exchange. The “market” for them is formed by a small group of dealers which includes six large commercial banks (in New York— The Morgan Guaranty Trust Company, Bankers Trust Company, Chemical Bank New York Trust Company and the First National City Bank; in Chicago—The Continental Illinois National Bank and the First National Bank). There are also 13 investment houses (Blyth and Co., The First Boston Corporation and others).  [139•2  Formally, any firm can announce itself to be a dealer in federal securities, that is, it undertakes the obligation to buy and sell systematically these securities at the prices prevailing in the market. But practically only the biggest commercial and investment banks which have the necessary staff of specialists, free money resources and are closely connected with government circles, are able regularly to engage in such operations. All buyers and sellers of government securities (banks, specialised credit institutions, industrial corporations and private individuals) have to resort to the services of dealers.

p Until recently, operations of dealers with government securities were made in conditions of absolute secrecy. Dealers published no statistics and their activity in fact was uncontrolled. After the sudden stock-market drop of government securities in 1958, largely as a result of speculative buying and selling, the demands of US public opinion for an investigation of dealer operations became very strong. Many economists pointed out that these operations increased 140 stock-market fluctuations of government securities and often aimed at ensuring the selfish interests of a narrow group of big banks to the detriment of the country’s interests. During a stock-market drop of government securities prices, dealers instead of “supporting” the market by buying additional securities, tried to quickly unload their own holdings. This naturally intensified the instability of the market. Moreover, since dealer profits rise with the expansion of the gap between price quotations of their purchase and sale, dealers are interested in sharp changes. Thus, they often deliberately advise their clients to buy or sell securities to manipulate quotations in a way advantageous to them. The results of a special joint study made by the US Treasury and the Federal Reserve System at the end of the 1950s, proved that these charges against US government securities dealers were justified.  [140•1 

p Thus, the government securities market has been monopolised by a small group of banks which gain large profits from the fluctuations of the market prices. At the end of the 1950s the income of a dealer from the resale of the ordinary lot of short-term government securities ($10,000,000) was in the range of $1,000 to $6,000 and from the transaction with the lot of medium-term securities ($3-5 million)—$1,300 to $2,500. The average daily turnover of dealer operations amounted to $600-2,000 million and for the entire year of 1958 up to $350,000 million.  [140•2 

p Banks not only perform the functions of dealers in government securities but also provide tremendous resources for financing these operations. Major New York commercial banks regularly offer loans to dealers.

p Government financing is a profitable business for the big banks. Each stage in the issuance and subsequent resale of government securities brings millions with it in profits. We pointed out earlier how dealer banks make money on the resale of treasury issues. Moreover, the procedure of paying for purchased securities permits dealers to make entries to the Treasury’s tax and loan account without immediate 141 transfer of funds. This is one of the ways of getting an additional profit. Ronald Robertson, a well-known banking specialist, cites the following example: “An eighteen-day delay in paying for a $1,000 bond with a 3 per cent coupon is worth about $1.50—-At this rate the profit is $1,500 per million bought and paid for in the tax and loan account."  [141•1  If we consider that operations of this kind are made by the banks every day with securities which amount to hundreds of millions of dollars, it is clear that this is a source of considerable income.

p The banks also receive large amounts in the form of interest payments on the government debt. Between 1950 and 1970 the annual income from the investments in US government securities of the members of the Federal Reserve System increased from $1,015 million to $3,067 million and the total interest paid to the banks during this period only on federal securities (not including securities of government agencies and state and local authorities) to $49,200 million dollars. Three-hundred of the largest banks regularly receive from 50 to 60 per cent of the entire income which the US banking system yields on government obligations.

p In the light of these facts the claims of banking circles that servicing of the US Treasury operations is “ disadvantageous" for them can hardly be taken seriously.

p Under certain conditions government borrowings tend to stimulate inflation. A decisive role in this process is played by the offering of government issues through the banking system, especially if these operations are conducted systematically and on a large scale.

p The purchase of government securities by the central bank directly from the Treasury or US government securiities dealers leads to inflationary results. In buying securities from a dealer the Federal Reserve Bank credits a corresponding amount to the reserve account of the bank in which the deposit account of the dealer is maintained. Deposits and the circulation of cheques based on them are enlarged without any additional need in the exchange media.

142

The Federal Reserve System was prepared for wide operations in the purchase of government securities long before the beginning of the Second World War. When the United States entered the war the task of “maintaining the market of government securities" became the main task of the Federal Reserve policy. In 1942, the Federal Reserve System and the Treasury reached an agreement to maintain stable interest rates on the new government issues. The Federal Reserve System undertook to buy government securities not placed among ordinary holders. This enabled the owner of government securities to convert them into cash at any time. The influence of these operations on money circulation can be judged from the following data.

Table V-6 Open Market Operations of the Federal Reserve System and the Federal Reserve Notes in Circulation (million dollars) US Government securities holdings with the Federal Reserve System Federal Reserve notes in circulation Years Sum at the end of the Increase during the year Sum at the end of the Increase during the year 1941 2,254 +70 8,192 +2,261 1942 6,189 +3,935 12,193 +4,001 1943 11,543 -1-5,354 16,906 +4,713 1944 18,846 +7,303 21,731 +4,825 1945 24,262 +5,416 24,649 +2,918 Source: Federal Reserve Banks. Supplement to Banking and Monetary Statistics, Board of Governors of the Federal Reserve System, Washington, 1965, p. 5.

p An increase by $22,000 million of the Federal Reserve holdings of government securities during the war years had its counterpart in the increase of the Federal Reserve notes outstanding by $16,500 million. The Federal Reserve notes were backed by government securities and issued in amounts greatly exceeding the needs of circulation. This led to inflationary consequences.

143

p After the war, the practice of “pegging” the government securities prices did not stop. With some modifications it continued up to 1951. The Treasury objected to the introduction of the free market for its obligations, fearing this would cause serious difficulties in placing new issues and would raise the cost of servicing the government debt.

p But the preservation of inflationary methods of financing the Treasury aroused wide opposition.

p After a number of meetings, in which the US President participated, an agreement was reached on March 4, 1951, between the Treasury and the Federal Reserve System to stop “pegging” US government securities prices and release the Federal Reserve System from unconditionally buying government securities which find no buyers in the market. Two years later, in March 1953, the Federal Open Market Committee of the Federal Reserve System adopted a decision to confine its activity to the purchase and sale only of short-term bills and to render assistance to the Treasury only if abnormal conditions threatened the government securities market.  [143•1  The US press proclaimed the agreement of March 4, 1951, a “new landmark" in the history of interrelations between the Federal Reserve System and the Treasury. Many commentators assessed this measure as the complete triumph of the principle of “absolute independence" of the Federal Reserve System and its transformation from an “engine of inflation" into a powerful instrument of credit control. Later events demonstrated that this conclusion was wrong. The US Government, as before, was greatly in need of attracting capital through the credit system. In these conditions the purchase by the Federal Reserve Banks of treasury bills served as a kind of valve which enabled it over a definite period to prevent a panic on the oversaturated government securities market. So the support given by the Federal Reserve System to Treasury operations cannot be regarded as a temporary phenomenon determined by emergency wartime conditions. The interest of the Treasury, as hitherto, remained one of the primary criteria in decisionmaking by the Board of Governors of the Federal Reserve System.

144

p Differences between the Federal Reserve System and the Treasury pertain not to the substance of the principle of supporting the government securities market, but to the forms and timing of this support. The inflationary consequences of buying of government securities by the Federal Reserve Banks became particularly pronounced in the 1960s. Federal Reserve holdings rose steadily from $27,200 million at the end of the 1950s to $40,900 million in 1965 and $71,400 million in June 1972. At the initial stage, the price index was stable, but then the purchase of government securities by the banking system and the resulting growth in the money stock, combined with other factors of an economic and political nature, led to a dangerous escalation of prices. The rate of money depreciation in the United States measured by the consumer price index averaged 2.6 per cent annually in the decade of 1960-1970. Moreover, the process became more intense at the end of this period. In 1970 prices rose 5.6 per cent and in 1971, 4.4 per cent.  [144•1  In recent years, rates of price growth in the United States outstripped those of many West European countries, especially the Federal Republic of Germany, France and Italy.

p When the Nixon Administration came into office, an attempt was made to break the vicious inflationary circle by utilising deflationary measures for this purpose. In 1969, the Federal Reserve System sharply slowed the rate of credit expansion by restricting the amount of securities bought at the open market from the member banks. While from December 1966 to May 1969 Federal Reserve credit to member banks increased at an annual rate of 9.3 per cent, the growth slowed down to 2.9 per cent  [144•2  from May 1969 to February 1970. The brief period of decline in the growth of the money stock did not exert a noticeable influence on the price level. On encountering serious economic difficulties, the Nixon Administration carried out a new series of expansionist measures in 1970-1971. An active part in financing these measures was taken by the Federal Reserve System which bought government security. From April 1970 to July 145 1971 government securities holdings of the Federal Reserve System increased by $10,000 million or 18 per cent, which undoubtedly increased the economy’s inflation potential.

The introduction of price and wage controls slowed down somewhat but did not halt the rise of prices. The consumer price index rose by 3.2 per cent during the year ending August 1972. But the credit expansion maintained by the Federal Reserve System continued: since the mid-1971 the Federal Reserve Banks bought government securities for another $6,000 million and the money stock increased by 6-7 per cent in 1972.