Credit and the Federal Reserve Part 2

HESITATING to use force, our banking authorities have fallen back on reason. They and their allies have been trying to argue credit out of the stock market, placing before professional and amateur traders reasons why they should sell securities held on margin. If the dangers inherent in the present speculative enthusiasm are as great as the conservatives believe, the authorities are wise to use any corrective methods available. The bombardment of words, nevertheless, has its ridiculous aspects. This is especially true because of the tendency in Wall Street to interpret some statements which seem on their face to be warnings as bullish.

Mr. Paul M. Warburg, one of the original members of the Federal Reserve Board, thinks the credit situation dangerous and has said so. “Present conditions,” he warned, “recall to our mind the painful events of the years 1919-21 …. People who express the fear that increases in the Federal Reserve Bank’s rediscount rates might hurt business overlook the far greater hurt the country will have to suffer if their advice to permit the situation ‘to work itself out’ were followed.”

The whole tenor of Mr. Warburg’s statement was thoroughly bearish but many of its readers singled out his charge that the rudder of the American credit market had passed into the hands of Stock Exchange operators “who have for months governed the flow of money, not only in the United States, but in the principal marts of the world.”

These readers hailed the assertion as an implication that speculators would maintain control of the money market and could drive prices higher.

Mr. Warburg’s statement was rather critical of the Reserve authorities but it was probably issued, nevertheless, as part of their educational campaign to stop speculation. It must have sur-prised them when they heard of market letters which hailed it as a bullish argument.

Then came Mr. Melton’s famous advice to the investing public to buy bonds. Mr. Mellon is ex-officio chairman of the Federal Reserve Board and the other members undoubtedly hoped that investors would interpret his advice as a warning that stock prices are too high. But quite the contrary was the case. If bond prices seemed attractive, the speculative community urged, the Secretary of the Treasury could not expect money rates to go higher.

“Business is undoubtedly on as sound a basis as it ever has been,” the bullish propagandists insisted. “If money rates are going no higher it is safe to buy stocks.”

Source: Outlook and Independent, April 3 1929

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