Evening star., 1938-01-02
G0VERNMENTBOND
HOLDINGS SREDUCED
Losses Threaten to Offset
Benefits of Revival in
Business Field.
BY EDWARD b. HUBBARD.

Post-depression prosperity has giver
to the banking system with one hane
while taking with the other. The
shrewdest financial genius could not
hope to predict which hand will be
the more active in 1888. For 1887
witnessed the establishment of trend
OF growth in commercial loans for
the first time since the '2Os, but
also revealed possibilities of disastrous
loss as result of a long g-delayed
deflationary policy on the part of the
United States Government.
Commercial loans, with their attrac-
tive interest rates, are much appre-
ciated by bankers. 1t was only year
ago when prominent members of the
profession were declaring that the
Nations banks must accustom them
selves to investment in business enter
prise through the ownership Of
securities rather than through the
direct extension of loans
That the suggestion of another
business depression should come so
soon after the incipient revival of
business loans is unfortunate; it
throws into doubt the persistence of
the upward trend.
Nevertheless, if the current lack of
confidence in the ability of business
to take up the load that the Govern
ment is dropping resolves itself into
nothing more than temporary affair,
1t Is likely that the banks will benefit
thereby. and come to assume their
proper relationship to the financing
of expansions and extensions In new
era of prosperity.
Yield at 2.5 Per Cent.
This view is comforting even when
conditioned on the hypothesis that the
current depression can be termed
minor For the evidence seems in
controvertibly in support of an early
resumption of the upward phase of the
cycle. But now that the banking sys-
tenn is geared to the economic system
as whole through the raising of
reserve requirements, necessary con-
comitant of expansion in loans is a
contraction in investments, which, if
conducted on any widespread scale,
must result in capital losses.
How serious the prospect of declin-
Ing prices in Government bonds may
become can be readily appreciated
from the fact that the current average
rate of earnings on all classes of bank
investments is now around 2.5 per
cent per annum. A deflationary move
ment such as that which took place
in the early part of 1887 is sufficient
to reduce the average price of high
grade bonds of near maturity by an
equivalent amount, and of distant
maturities by some per cent. Many
banks have over so per cent of their
earnings assets invested in securities.
Security Losses Theat.
Thus even though prosperous 1888
should return operating earnings to
the banks in good volume, there is at
the present time no assurance that
these earnings will not be completely
wiped out by forced sale of securities
at prices well below their cost. Truly
the banks have reaped small rewards
for the essential part they have played
in financing recovery attempts. 1t
goes without saying that the longer
range significance of cessation of
deficit financing and expansion of
commercial loans can outweigh these
losses, even though the result be a
postponement of earnings recovery.
The most important event affecting
the banking system in the year 1887
was the final increase of reserve re-
Quirements, together with program
of sterilization of new gold, to give
teeth to the open market policy OF
the Federal Reserve Board. For the
first time since the recovery began
the board now finds it possible to
actively regulate the maximum
amount of credit. The close corre-
spondence of the dates of the Reserve
action and the halting Of the upward
spiral of commodity prices and busi-
ness activity suggests that the weight
which the administration threw on
the side of deflation had a telling
effect. The correction might have
taken place without such action, but
it is more likely to have been delayed
and more serious in consequence.
Government Holdings on.
The peak of holding of United
States Government obligations by the
banking system was reached in the
latter part of 1886, when reporting
member banks in 101 leading cities
showed a total of nearly S11,0O0000,-
000 Deposits continued to rise into
January, 1887, but before the close
OF the first quarter a definite down.
trend had been established in both
totals. BY the close of 1887 holdings
of Government securities had de-
clined nearly $2,000,000,000 and de-
posits had dropped over $5O0,000, 900.
From the beginning of 1886 to the
close of 1887 commercial loans in
creased over $1,500,0OO0OO The net
result of these three movements was
the extinguishing of half a billion
dollars of earnings assets and the
conversion of billion and a half from
Government securities to loans. A
more encouraging trend could not be
imagined save for the painfulness of
the transition process. The pressure
Of funds seeking investment in sound
short-term media drove interest rates
on this class of obligations to record
lows, and the sharp declines in tile
security markets in the fall of the
year only accentuated the wide spread
between top grades and secondary
issues.