Chapter 4 The International Economy
- International Monetary Fund
- Published Date:
- September 1962
The year 1961 witnessed an easing of some of the more important payments problems which the world was facing at the end of 1960, but developments during the year had rather mixed consequences. Some factors tended to increase the imbalance in international payments; among them were the influence on imports and exports of the divergent trends of activity in various industrial countries—in particular, the greater rate of economic expansion in the United States than elsewhere. Other influences had the opposite effect; among these were, notably, changes in relative costs and some actions of national monetary authorities, including significant steps toward greater international coordination of monetary policy. For the less industrialized countries, the year was again one of difficulty. There were scarcely any increases in the prices of primary products; on the average these prices declined slightly, and the fall in some was substantial. It was also noticeable that, while only a small number of countries were faced with serious inflationary pressures, the strong stand against inflation taken by most of the less industrialized countries in recent years showed signs of being relaxed.
Production, Employment, and Prices in the Industrial Countries
In 1961, world industrial production (excluding the U.S.S.R. and other eastern bloc countries) rose rather steadily and was about 3½ per cent greater than in 1960, following a 7 per cent increase from 1959 to 1960 (Table 6).
|Cost of Living||Wage Rates||Product||Industrial Production|
|1962, 1st||1962, 1st||1962, 1st|
|Germany, Federal Republic of||1||3||4||9||11||13||9||5||10||6||1|
|Industrial countries, total6||—||—||—||—||—||—||—||—||6-7||3-4||8|
For the year as a whole, industrial output in North America (United States and Canada) was only about 1 per cent higher than during 1960; from 1959 to 1960 there had been an increase of 3 per cent. The combined output of the other industrial countries rose by 6 per cent, compared with about 11 per cent from 1959 to 1960.
During 1961 and the early months of 1962 the combined industrial output of Western Europe and Japan continued to expand, though more slowly than during 1960 (Chart 3). In these industrial countries, output rose most rapidly in the first quarter of 1961, principally reflecting increases in the Federal Republic of Germany, Italy, and Japan. In the second and third quarter the rate of growth declined; thereafter it accelerated, owing to relatively high increases in these three countries and in the Netherlands that more than offset a reduction in the United Kingdom.
Chart 3.Manufacturing Countries: Indices of Industrial Production, Seasonally Adjusted, Last Quarter 1958-First Quarter 1962
1Countries in the European Economic Community and the European Free Trade Association, plus Japan.
In North America industrial output continued to decline through the first quarter of 1961, increased sharply in the following two quarters, and rose more moderately thereafter; this upward trend was in contrast to the slight decline during 1960. By mid-1961, industrial production and income had exceeded the peak reached before the mild recession of 1960, while prices remained remarkably stable. The recovery in output was associated with increasing employment, but unemployment remained high. In the United States, unemployment did not decline significantly from its recession maximum until the last two months of 1961, and the rate of unemployment over the year as a whole was almost equal to that in 1958, which was the highest in any postwar year. Unemployment in Canada, which was at a postwar record height in December 1960, had by the end of 1961 been somewhat reduced, and was at approximately the same percentage of the labor force as in the United States.
The recovery in the United States started early in 1961 and was associated with an increase in all the major components of national expenditure. A shift of inventory investment, from a decumulation at an annual rate of $4.0 billion in the first quarter to a net increase at an annual rate of $2.8 billion in the second, was the most significant change in the first half of the year. In the last quarter of the year, inventory accumulation reached an annual rate of $5.3 billion. A resurgence of private consumption expenditures during the last three quarters of 1961 contributed somewhat more to the increase in final sales than both the rise in total government expenditures on goods and services and the improvement in private fixed investment. In Canada, the revival of economic activity after the first quarter of 1961 stemmed from a substantial increase in government expenditures, an expansion of consumer expenditure (particularly in durable goods), a further rise in exports, and a rather modest build-up of inventories. The downward trend in private fixed investment was reversed in the third quarter, and inventories rose substantially late in the year.
In the industrial countries of Continental Europe, the declines in rates of growth reflected shortages of capacity rather than a failure of final demand to rise. Productivity in these countries rose in general much less than during recent years and there were also substantial wage increases, which in several cases appreciably exceeded the growth in productivity. In most of these countries, unemployment, which was already very low at the beginning of 1961, declined further during the year. In Belgium, unemployment, which had still been a problem in 1960, was reduced to very moderate proportions, mainly as a result of the economic upswing; and in Italy, where the rate of unemployment continued to be higher than in the other industrial countries in Europe, certain shortages of labor were experienced in the course of 1961, as the rapid economic expansion and migration again reduced unemployment sharply. The high degree of mobility of labor in Europe in recent years has indeed been a major factor in reducing unemployment in some countries, and mitigating the scarcity of labor in others. For instance, in Germany the number of foreign workers has increased by about half a million over the last two years; and in Switzerland a similar number of foreign workers have been employed, representing about one fourth of the labor force in 1961.
As the increases in output in Continental Europe were, in general, smaller than those of 1960, the range of the increases was narrower; in most countries, the increase in real national income was close to 5 per cent. At the two extremes were Italy, where national product in real terms rose at an even higher rate (8 per cent) than from 1959 to 1960 (7 per cent), and the Netherlands, where real national income rose by only 2–3 per cent (against 8 per cent a year earlier). The slower growth in the Netherlands was associated with the introduction of the five-day week, which resulted in an effective reduction in the supply of labor. The rate of growth in Germany (5 per cent) was equal to the average, but represented a considerable slowing down from the spectacular increases in real income in other recent years. In most of the countries of Continental Europe, private consumption, stimulated by rapidly rising wages, rose by a higher percentage than did production. On the other hand, the growth in fixed investment from 1960 to 1961 was smaller in some of these countries (for example, Germany and the Netherlands) than the increase from 1959 to 1960. Moreover, exports in general rose less rapidly; and as the rate of increase in output slowed down, investment in inventories was either reduced or followed by a decumulation.
In the United Kingdom, industrial production resumed its growth in the first half of 1961, stimulated by rising investment in plant and equipment, increased private consumption and, through the first quarter, a moderate rise in exports. After the middle of the year, total expenditure and output declined when the pressures of demand, which had induced a balance of payments deficit, were eased as a result of the official restraint discussed elsewhere in this Report. This change was reflected mainly in a fall in private consumption and a continued reduction in the rate of inventory accumulation, combined with a failure of exports to rise after the first quarter of the year; fixed investments declined in the last quarter. After July the rise in wage rates and prices slowed down.
In Japan, industrial production continued to rise during 1961 at a faster rate than elsewhere, although the increase slowed down somewhat toward the end of the year and in the early part of 1962. The expansion was generated by an intense domestic demand, especially for investment goods, which caused a sharp rise in imports. However, the expansion was not, as in recent years, supported by a substantial rise in exports. The cost of living rose more in Japan than in any other industrial country, and wages rose slightly more than the cost of living. As a balance of payments deficit developed in the course of 1961, the authorities introduced measures to curb the domestic expansion.
The movements in prices and wages, shown in Table 6, appear, on the whole, to have been in the direction of easing the payments problem, although their full effect will take some time to work itself out. In general, in both 1960 and 1961, wage increases in Continental Europe—the main surplus area—considerably exceeded those in the major deficit countries—the United States and the United Kingdom. There were particularly marked increases in the two countries which in recent years have had the largest surpluses, France and Germany, but, until recently, a relatively modest rise in the other major surplus country, Italy. The impact on international transactions of the rise in wages was reinforced in both Germany and the Netherlands by an appreciation of the national currency by about 5 per cent. The divergent changes in prices and costs, combined with those in the rate of economic activity, brought about significant changes in the surpluses and deficits in individual countries’ balances of payments; these are discussed in Chapter 5.
Main Trends in World Trade
World trade, like world industrial production, increased much less from 1960 to 1961 than from 1959 to 1960, the volume of exports rising by about 5 per cent, compared with 12 per cent in the earlier period. A rapid expansion of world exports in the first half of 1960 slackened considerably in the latter half of that year. The changes in the value of trade between the full years 1960 and 1961 shown in Table 7, being strongly influenced by the growth of trade in the early part of 1960, do not provide a clear indication of more recent developments.
|Value f.o.b.||Percentage Change from|
|(billion U.S. dollars)||Preceding Year1|
|Exports of United States3||16.4||16.4||19.6||20.1||−16||—||19||2|
|Exports of other manufacturing countries4|
|Exports of primary producing countries6,7||36.5||38.5||40.7||41.8||−4||5||5||3|
|Trade of manufacturing countries with each other|
|Exports of United States to other manufacturing countries3||5.0||5.2||7.4||7.7||−24||4||43||4|
|Exports of other manufacturing countries to United States||3.7||5.1||4.9||4.7||12||40||−5||−4|
|Trade between other manufacturing countries||18.5||20.8||25.0||28.0||−4||13||20||12|
|Of which, Trade between EEC countries|
|Exports of manufacturing countries to primary producing countries|
|From United States3||11.2||11.2||12.0||12.3||−12||−1||8||2|
|From other manufacturing countries|
|Exports of primary producing countries to manufacturing countries|
|To United States7||9.2||9.8||9.4||9.5||−4||7||−4||1|
|To other manufacturing countries7|
|Trade of manufacturing countries with Soviet area and Mainland China|
|Exports of manufacturing countries||1.8||1.7||2.3||2.3||15||−3||28||—|
|Exports of Soviet area and Mainland China7||1.5||1.8||2.0||2.3||5||18||9||16|
The slowing down of the expansion of world trade in 1960 followed the appearance of a declining trend in U.S. industrial production after the first quarter and a diminution of the rate of growth of total industrial production in the other manufacturing countries in the second half of 1960 (Chart 3). During 1961, as has been seen, there were offsetting changes in the growth of production in North America and in other industrial countries. A slowing down of expansion in Western Europe after the first quarter moderated the effect of the recovery in the United States in stimulating a further expansion of world trade. In these circumstances, the moderate but steady growth of world trade during the 18 months to December 1961 resulted from divergent changes in the imports of the United States, the other manufacturing countries, and the primary producing areas. While the seasonally adjusted value of U.S. imports fell by 7 per cent between the first and second half of 1960, imports of the other manufacturing countries rose by 3½ per cent and those of the primary producing countries by about the same proportion. Between the second half of 1960 and the first half of 1961, the decline in U.S. imports moderated and imports of the other manufacturing countries rose considerably; but these improvements were partly offset by a slight decline in imports of the primary producing areas. In the latter half of 1961, the value of U.S. imports was 13 per cent greater than during the first half year, but the imports of industrial Europe and Japan were only about 2½ per cent higher, and total imports of primary producing areas seem to have increased somewhat less.
Over the year as a whole, there was a slight growth in the imports of the primary producing countries. Manufacturing countries’ imports from the primary producing areas, after rising by more than 5 per cent from the second half of 1959 to the first half of 1960, declined appreciably in value in the second half of 1960, and remained at about the same level during the first half of 1961. However, they recovered in the second half year, and over the year 1961 as a whole were slightly higher than in 1960.
Trade between the manufacturing countries increased by about 10 per cent from mid-1960 to mid-1961, and somewhat more rapidly in the latter half of 1961, when U.S. imports from manufacturing countries were about the same as during the first half of 1960, after having been about 15 per cent lower in each of the two intervening half years. The imports of other manufacturing countries from the United States failed to increase between the second half of 1960 and the first half of 1961, and declined slightly in the second half of 1961. Trade between the manufacturing countries other than the United States rose by about 16 per cent from the first half of 1960 to the first half of 1961, and continued to expand, though at a slower rate, from the first to the second half of 1961. The slowing down was mainly a reflection of a reduced rate of expansion of trade within the European Economic Community (EEC); there was also a decline in the United Kingdom’s imports from Western Europe following a marked increase in the first half of 1961. The imports of countries in the EEC from the European Free Trade Association (EFTA) rose about twice as fast as their exports to EFTA between the first and second half of 1961.
There have recently been some interesting contrasts in the development of trade of major manufacturing countries which, if maintained, could lessen the problem of persistent balance of payments surpluses and deficits for these countries. As indicated in Chart 4 (which shows seasonally adjusted figures), the imports of the principal surplus countries have shown a strong upward trend since the beginning of 1960; and for each country except Italy (whose exports rose rapidly in 1961), the value of imports has risen proportionately more than that of exports. The two main deficit countries, the United States and the United Kingdom, are the only major manufacturing countries whose imports have not increased substantially since the beginning of 1960. However, their exports have also risen less rapidly than those of most of the other manufacturing countries.
Chart 4.Exports and Imports of Manufacturing Countries: Seasonally Adjusted Values
1Excluding military shipments.
These contrasts became less marked during 1961. The expansion of exports from all the Common Market countries except Italy, and from Japan, either flattened out or gave way to slight declines in the latter part of the year. The exports of the United Kingdom showed little change. The United States, whose exports had dipped as industrial expansion in Western Europe slowed down in the middle of the year, was the only major manufacturing country, apart from Italy, whose exports increased in the latter part of 1961; however, this rise was due almost entirely to an increase in aid shipments.
The most marked changes in trade in the first quarter of 1962 were, perhaps, the slight fall in Italy’s exports and in Japan’s imports—each change following a sharp rise in the course of 1961—and the accompanying acceleration in the increase of Italy’s imports and Japan’s exports. The contrast in the development of the exports of the United States and the United Kingdom, and of those of most other manufacturing countries, again became very evident as U.S. and U.K. exports failed to expand, unlike those of most of the other manufacturing countries.
The competitive position of the deficit countries vis-à-vis some of the countries that had the largest surpluses in 1960 was improved in 1961 by relative price changes and the appreciation of the deutsche mark and the guilder. Dollar prices for German exports of manufactures seem to have risen by the full 5 per cent of the exchange appreciation; those of the Netherlands may have risen somewhat less. The competitive strength of the United States and the United Kingdom vis-à-vis these two countries appears to have increased quite substantially between 1960 and 1961, as the unit value of U.S. and U.K. exports scarcely increased; to judge from the admittedly imperfect indicator of average unit values for exports, their competitive position now is also considerably stronger in relation to France than it was immediately following the devaluation of the franc at the end of 1958 (Table 8). On the other hand, the prices of exports of manufactures from both Italy and Japan seem to have fallen from 1960 to 1961 after having increased from 1959 to 1960.
|Countries Ranked in Descending|
|Order of Percentage Increase|
|Between 1957 and Fourth||1961, Fourth|
|Quarter of 1961||1958||1959||1960||1961||Quarter|
|Germany, Federal Republic of||101.0||99.1||100.0||105.7||107.0|
|Total, 10 countries||99.6||98.0||99.81||100.91||100.81|
The declines in the U.S. and U.K. shares in world exports of manufactures have moderated in the last year or two. As Chart 5 shows, the U.K. share in total exports of manufactures from ten major manufacturing countries changed little from 1960 to 1961, in contrast to preceding years when it declined; and the U.S. share fell much less steeply from 1959 to 1961 than from 1957 to 1959. Indeed, from 1959 to 1960 the U.S. share actually increased; while this was due in part to a marked rise in its share in exports of chemicals and machinery and transport equipment (especially aircraft) to Western Europe, following considerable declines in 1958 and 1959, it was also influenced by the fact that the United States was, of course, the only country whose exports were not affected by the decline in U.S. imports of manufactures between 1959 and 1960. (Conversely, the fact that U.S. imports of manufactures were rising much more rapidly than total world trade in manufactures from 1957 to 1959 was responsible for part of the decline in the U.S. share of exports in that period.) The rise in the combined shares of Germany, Italy, France, and Japan, whose exports have expanded rapidly in recent years, has also moderated somewhat since 1959. The shares of France and Japan declined very slightly from 1960 to 1961, but that of Italy has risen even more steeply since 1959 than previously. The fact that Germany’s share did not increase from 1959 to 1960 seems to have been partly due to the sharp rise in U.S. exports to Western Europe (which is also reflected in the unusually steep decline of the U.K. share at that time). While Germany’s share again rose markedly from 1960 to 1961, it did not show any strong upward tendency in the course of 1961.
Chart 5.Percentage Share of Each of Ten Major Countries in Exports of Manufactures from These Countries
1Excluding military shipments.
The value of total world trade in manufactures was only about 5 per cent greater in 1961 than in 1960—about half the average annual rate of increase since the mid-1950’s. Export prices for manufactures rose by a little over 1 per cent, following a somewhat larger rise from 1959 to 1960.
Primary Producing Countries
The terms of trade of primary producing countries deteriorated further during 1961, as the average unit value of their exports fell while that of industrial countries’ exports rose slightly. For the year as a whole, the prices of primary products were, on the average, some 4 per cent below their level in 1960, foodstuffs and industrial materials being equally affected. Between the end of 1960 and the end of 1961, these prices declined by 2 per cent, compared with a decrease of 6 per cent in each of the two preceding years. Early in 1961, the prices of industrial materials rallied, producing a slight advance in the global index; in the second quarter, however, the movement leveled off; and later in the year, the downward movement was resumed, reflecting to some extent the slackening of demand from some major European industrial countries.
The prices of individual primary products, and of major groups of products, moved diversely from 1960 to 1961, in contrast to their rather uniform movements from 1959 to 1960. These changes, in turn, were reflected in the divergent behavior of exports of countries in the various groups shown in Table 9. The prices of most tropical foodstuffs were lower in 1961 than in 1960 and some of them, notably cocoa, copra, and African robusta coffee, fell by as much as 20 per cent. There was consequently a decline in the total receipts of countries exporting mainly tropical foods (other than coffee). Prices of coffee, except for African robustas, were comparatively well maintained in spite of another large crop; quota restrictions, under the Agreement between producing countries, were successful in averting a stronger response of prices to mounting surpluses. A minor rise in the volume of coffee exported tended to maintain receipts from that product at the same level as in 1960; some of the coffee-exporting countries, indeed, increased their total receipts by expanding other exports.
|Exports f.o.b.||Imports c.i.f.|
|Countries exporting mainly|
|Other tropical foods3|
|Other agricultural products5|
|United Arab Republic||550||462||−16||646||662||2|
|Metals and rubber|
|Rhodesia and Nyasaland||576||579||1||495||489||−1|
|Other major exporters|
|All other countries1,9||4,100||4,250||4||6,910||7,050||2|
With the notable exceptions of long-staple cotton and butter, for which prices sagged, prices for nontropical crops and for livestock products were firm. Several advanced, reflecting either strong demand or (like jute) a continued shortage of supplies. Exports of the group of countries exporting mainly nontropical agricultural and livestock products showed an increase of some 5 per cent.
Prices of nonferrous metals, except tin, and of rubber were considerably lower in 1961 than in 1960; therefore, the export receipts of the countries largely dependent on these exports were adversely affected. Tin prices continued to rise, as further shortages appeared.
Quoted prices of crude oil were not changed between 1960 and 1961, but discounts to major importers continued to be given. Preliminary data suggest that there was little change in the export receipts of major crude oil exporters.
Financial Policies in the Industrial Countries
The problems which the national authorities of the industrial countries encountered in formulating financial policies in 1961 differed greatly from one country to another. In the United States, the domestic situation pointed to a policy of stimulating economic expansion, but the continued balance of payments deficit created difficulties for the implementation of such a policy. The situation was somewhat similar in Canada, where the authorities wished to stimulate economic expansion and at the same time to reduce the large deficit on current account. Most of the countries in Continental Europe had comfortable balance of payments positions, and several were running large surpluses in their international transactions. Their most pressing problem was to dampen excessive demand so as to avoid large rises in prices and costs; however, domestic monetary and fiscal policies directed toward this end were apt to increase the imbalance in international transactions. In the United Kingdom and Japan, both of which were running deficits on their basic international accounts, the need for measures to adjust the balance of payments led to various remedial steps being taken as the year progressed.
Apart from a few changes in the positions of individual countries, the problems with which the authorities were faced at the beginning of 1961 were in many respects similar to those that had existed a year earlier. However, a fundamental change in policy attitudes had taken place. Developments during 1960 had demonstrated that policies directed to influencing economic activity primarily through changes in the level of short-term interest rates were, in the existing situation, likely to stimulate large disequilibrating international movements of funds, which not only might aggravate imbalances in international transactions but also might subvert domestic economic policies. It was increasingly realized that, in determining the appropriate level of interest rates, it would be necessary to consider their effect on the international movements of funds. It was seen, therefore, that greater reliance would have to be placed on policies which influenced demand directly, rather than indirectly through changes in interest rates, and that other steps to offset the international repercussions of interest rate changes might be appropriate, such as intervention in the forward markets.
In the United States, fiscal policy was directed primarily toward expansion. There was a deficit of $6.8 billion in the Federal Government’s cash accounts in 1961, compared with a surplus of $3.6 billion in 1960. On a national accounts basis, the surplus in 1960 was $3.3 billion and the deficit in 1961 was $3.6 billion—almost ¾ of 1 per cent of the gross national product. Basically, monetary policy also was directed toward expansion; but the Federal Reserve System’s open market operations were changed so as to minimize the effect of its actions on short-term interest rates. The effect on bank reserves of the gold outflow of approximately $ 1 billion was more than offset by net open market purchases of $1.5 billion, together with other factors, and there was a rise of about $1 billion in the reserves of the banks. At the same time, there was a large increase in time deposits. As a result, the banks were able to increase their loans and investments by $16 billion, and the money supply rose by $4.1 billion, while time deposits rose by $9 billion. In 1960, loans and investments had increased by $9 billion, and the money supply had decreased by $1 billion.
If the Federal Reserve System, following its open market policy of earlier years, had confined its operations almost exclusively to Treasury bills, its purchases during 1961 might well have led to a decline in short-term interest rates, and the outflow of short-term capital would have been further stimulated. Instead, the System bought longer-term securities, both in order to avoid downward pressure on short-term rates and to help to stimulate the flow of long-term funds into private investment. During 1961, the System purchased $2.6 billion of government securities with a maturity of more than one year; nearly $800 million of these securities had maturities exceeding five years. The purchases were greater than the System’s total net purchases during 1961; on balance, therefore, short-term securities sold or maturing during the year were replaced by longer-term issues. At the same time, the Treasury, in administering the portfolios of various government investment and trust accounts, made substantial purchases of securities of more than ten years’ maturity. As a result, the yield on Treasury bills fell less than might have been expected, given the total amount of open market operations. Whereas it had averaged a little less than 3 per cent in 1960, it was maintained between 2¼ and 2½ per cent through most of 1961, and rose to 2¾ per cent early in 1962. On the other hand, the average yield on government securities maturing in more than ten years, which had declined from a high point of 4.4 per cent at the beginning of 1960 to 3.9 per cent at the beginning of 1961, was reduced further, to 3.7 per cent at the end of May. However, by the end of the year it had risen to 4.1 per cent and remained at this level during the early part of 1962.
In Canada, fiscal and monetary policies in 1961 were directed toward the expansion of economic activity, the policies being strengthened at midyear. On a national accounts basis, the deficit of the Federal Government during 1961 was $446 million, compared with $251 million in 1960. The Bank of Canada’s policies encouraged stability in the chartered banks’ statutory cash reserves during the first half of the year, but in the second half allowed them to rise by approximately $60 million. During the year, the money supply together with personal savings deposits rose by 9 per cent; if personal savings are disregarded it rose by 12 per cent. The Treasury bill rate fell from an average of 3.2 per cent in the first five months of 1961 to an average of 2.6 per cent during the rest of the year; however, toward the year-end it rose and early in 1962 it reached about 3.1 per cent. These policies were supplemented by the exchange rate changes discussed in the preceding chapter.
In the Federal Republic of Germany a large balance of payments surplus in 1960, coinciding with strong pressures on domestic resources, had created difficult problems of reconciling internal and external policy objectives. The policies adopted in 1961, however, resulted in considerable progress in the course of the year toward the reduction of excessive demand pressures, on the one hand, and the correction of external imbalance, on the other. The most important factor in the attainment of a better balance between supply and demand in the economy, and in the dampening of inflationary pressures, was the appreciation of the deutsche mark by 5 per cent in March 1961. While this measure, and the almost simultaneous appreciation of the Netherlands guilder, could not at once put an end to the prevailing distrust of exchange rate relationships, and a new wave of speculative movements of short-term capital started which temporarily aggravated the German balance of payments surplus, their long-term effect was undoubtedly in the opposite direction.
In 1960, the authorities had endeavored to dampen domestic demand by raising interest rates; but, despite the imposition of direct restrictions on foreign short-term investment in Germany, this policy had resulted in an inflow of capital that temporarily aggravated the German surplus problem and frustrated the conduct of monetary policy. Accordingly, a change of tactics was initiated in November 1960, when the Bundesbank reduced its discount rate from 5 per cent to 4 per cent; further reductions in January and May 1961 lowered the rate to 3 per cent. The Bundesbank also followed an open-market policy designed to maintain low interest rates. It lowered the discount on its sales of short-term securities. By the beginning of 1962, 3-month Treasury bills were being offered at a discount of 1⅞ per cent, the lowest in the postwar period, and, contrary to the previous practice, the selling rate for 2-year Treasury bonds was ¼ per cent below the Bank’s discount rate. These interest policies were supplemented by steps to ease the domestic liquidity of the banks, inter alia in order to offset the effects of the surplus in the Government’s domestic cash transactions. The minimum reserve requirements against the banks’ domestic liabilities were successively reduced. Whereas the required reserves on the average were equal to 12.3 per cent of the banks’ total liabilities subject to reserve requirements at the end of 1960, the comparable figure at the end of 1961 was 8.0 per cent. Moreover, in November 1961 the rediscount quotas were increased, and in August 1961 the banks were permitted to sell DM 1 billion of 2-year “mobilization” Treasury bonds, which at the Bundesbank’s request had been taken by the larger institutions for the purpose of “sterilizing” a part of their liquidity reserves.
These domestic policy measures were largely designed to discourage capital funds from moving to Germany, and to encourage a capital outflow. The Bank also took more direct steps toward this end. The reserve requirements against the banks’ foreign liabilities were changed in two directions. To encourage them to hold foreign rather than domestic liquid assets, foreign holdings were made deductible from foreign liabilities in determining the base for the minimum reserve requirements. To make this measure more effective, the reserve requirements against foreign liabilities were raised to the legal maximum. Further, the Bundes-bank continued to provide forward cover for U.S. dollar short-term assets held by the commercial banks. In the twelve months following the change of policy in November 1960, the banks’ foreign assets rose by more than DM 3.5 billion.
By the end of 1961, it was apparent that Germany was attaining a more balanced position in its international transactions; accordingly, in February 1962 the Bundesbank lowered the requirements for reserves against the banks’ foreign liabilities to the ratios applied to domestic liabilities. In March and April, the discount on the Bank’s sales of short-term securities was slightly increased, and in May the prohibition of the payment of interest on nonresident-owned time deposits was canceled.
The Netherlands, whose problems were similar to those of Germany, had similar policies. Early in 1961, the guilder was appreciated by 5 per cent, practically concurrently with the German revaluation. In 1960, low interest rates in the money market had been maintained in order to encourage an outflow of short-term capital. Even though, at the beginning of 1961, interest rates were lower than in any other major money market, monetary policies induced a further reduction in these rates during the year. The authorities also decided to reopen to a limited extent the domestic capital market for foreign bond issues. In other respects, however, steps were taken to restrain the public’s liquidity. In 1960, these had included successful efforts to consolidate the short-term public debt. From July 1961, the Netherlands Bank implemented an agreement between itself and the commercial banks and agricultural credit institutions designed to limit credit to the private sector. Under this agreement, short-term credit was not to be increased by more than 1 per cent a month in 1961 or by more than ½ per cent a month in the first eight months of 1962. If the total volume of credit granted by all private banks and agricultural credit institutions collectively exceeded these limits, those banks which had individually exceeded them were to be required to hold supplementary interest-free deposits with the Netherlands Bank. In the early months of 1962 the limits were exceeded, and for that reason the discount rate was increased from 3½ per cent to 4 per cent in April. The authorities decided also to reduce the extent to which the capital market this year would be open to foreign bond issues.
The authorities in Switzerland were likewise faced with a conflict between the requirements of external and internal balance. Although the balance on Swiss current international transactions changed from surplus in 1960 to deficit in 1961, the inflow of capital increased even more, so that the rise in official reserves was somewhat greater in 1961 than in 1960. The authorities wished to restrain domestic expansion and to discourage a capital inflow. To achieve the latter end, they maintained interest rates at levels below those in nearly all other capital markets, and continued the requirement that short-term foreign deposits in Swiss banks carry a negative rate of interest. In order to restrain domestic demand, the authorities offset the major part of the increase in the National Bank’s foreign assets, which amounted to almost Sw F 2 billion, by blocking more than Sw F 1 billion of the increase in the cash reserves of the banks, and by increasing the Government’s deposits by almost Sw F 0.2 billion. In addition, in April 1962 the National Bank requested the commercial banks to limit credit to domestic borrowers to a prescribed rate of increase, and subjected credits granted in excess of this rate to supplementary reserve requirements.
In Belgium-Luxembourg, the balance of payments position gave rise to a decision, in August, to start lowering short-term rates. The National Bank reduced its basic discount rate from 5 per cent to 4 per cent in four steps between August 1961 and March 1962. The reduction was limited because of the high level of economic activity which was maintained. On January 1, 1962 the money market was reorganized by a number of measures aimed at increasing the flexibility as well as the efficacy of monetary controls.
France emerged in the course of 1961 as the major surplus country in the world, but pressures on French domestic resources were, at the beginning of the year, probably less than in Germany, the Netherlands, or Switzerland. The continued rise in foreign exchange reserves was not offset by the Bank of France, and the resulting increase in the cash reserves of the commercial banks induced a rise in credit to the private sector which was accompanied by a slight decline in short-term interest rates. In January 1961, a new instrument of monetary control was introduced by requiring the banks to maintain a certain ratio between their liquid assets (cash holdings, Treasury bills, medium-term paper, export bills, and short-term paper for the financing of trade in cereals) and their sight and time deposit liabilities. The ratio was established at 30 per cent, roughly corresponding to the actual position of the banks. In January 1962, as demand pressures in the economy were rising, the ratio was increased to 32 per cent. Previously, the National Credit Council had advised banks to be cautious in their granting of credits. The over-all budgetary deficit of the Government remained in 1961 about the same as in each of the two preceding years, and the average length of its debt was shortened, so that long-term interest rates eased slightly.
Fiscal and monetary policies in Italy, also a major surplus country, were again directed toward the encouragement of a moderate degree of expansion. Government cash transactions continued to be in approximate balance. Part of the liquidity arising from the balance of payments surplus was absorbed by government borrowing, so that the Government could reduce its net indebtedness to the Bank of Italy. However, these operations were smaller than the increase in official foreign exchange reserves, and the supply of money and of other forms of liquidity continued to grow.
The bank rate in the United Kingdom was lowered in October and December 1960, largely to help in curtailing an inflow of short-term funds, but general monetary conditions remained tight. Meanwhile, fiscal policy was changed in the direction of restriction: the budget for the fiscal year 1961–62 provided for a much smaller over-all deficit than in recent years. Toward the middle of 1961, renewed shortages of labor and the disappointing progress of the basic balance of payments, combined with speculative outflows of capital, made a further strengthening of this policy necessary, and in July, the bank rate was raised from 5 per cent to 7 per cent. This measure was part of a general program of restraint, announced prior to the Government’s request for a drawing on, and a stand-by arrangement with, the Fund. The London clearing banks and the Scottish banks were required to increase their “special deposits” with the Bank of England by 1 per cent and by 1/2 per cent of their deposit liabilities, respectively. At the same time, these banks and other financial institutions were requested to restrict advances for financing personal consumption or for speculative purposes, but to continue to provide finance which would promote exports. Most indirect tax rates were administratively raised by the legal maximum of one tenth in order to restrain personal consumption, and a temporary halt in wage increases in the Civil Service and in the nationalized industries was announced, with an appeal to labor and management in private industry to follow this lead, pending the evolution of a longer-term wage policy. The Government announced its intention to contain its own expenditures, including expenditures abroad, to examine requests for approval of private investment outside the sterling area more stringently, and to encourage domestic firms to repatriate higher proportions of their foreign earnings. Largely because of a marked improvement in the balance of payments, the bank rate was reduced to 6½ per cent in October, to 6 per cent in November, by two steps to 5 per cent in March 1962, and to 4½ per cent in April 1962. The budget submitted in April 1962, again providing for an over-all deficit less than the normal growth of savings in government securities, continued the general policy of leaving room within the economy for an expansion in exports necessary to improve the basic external balance.
During 1961, Japan faced a continued rise in domestic demand. As a consequence, the demand for imports accelerated, while exports were restrained both by the domestic boom and by a failure of foreign demand to rise as much as in earlier years. To meet these difficulties, fiscal and monetary policies were directed toward limiting domestic expenditures. The Government’s cash surplus, which was large in 1960, further increased in 1961. The Bank of Japan’s discount rate was raised in two steps from 6.6 per cent to 7.3 per cent. The penalty rate for banks’ borrowings above their credit ceilings was increased, and reserve requirements and importers’ advance deposit requirements were raised. To bridge the period until these measures might be expected to affect the balance of payments, the Japanese authorities obtained substantial loans from U.S. commercial banks and entered into a stand-by arrangement with the Fund.
The general movement toward greater international cooperation in the monetary field, discussed in the Introduction to this Report, was supplemented by a number of specific transactions. These took two forms. In the first place, a number of short-term credits were arranged between national monetary authorities for the purpose of easing international payments. In the second place, central banks and treasuries intervened on a larger scale in the forward markets. Since large discounts or premiums on forward transactions in foreign exchange may tend to influence international movements of capital in a way similar to interest differentials between countries, coordinated intervention in the forward markets has an effect on such capital movements similar to that of the coordination of monetary policies.
The most significant of the short-term credits were those granted to the United Kingdom under the “Basle arrangements.” These credits, totaling some $900 million, were repaid by the end of the year. Part of the repayment was made by the transfer of currencies obtained from the United Kingdom’s drawing on the Fund, part was made possible by a renewed inflow of capital to the United Kingdom, and Sw F 215 million was funded under an arrangement with the Government of Switzerland.
During 1961 and early 1962, for the first time in 25 years, the United States entered into foreign exchange transactions for monetary purposes, as distinct from the more or less routine handling of foreign exchange to meet the Government’s operating needs abroad. The Treasury began limited operations in March 1961, and in February 1962 the Federal Reserve System announced its decision to enter the exchange markets for its own account. A number of arrangements have been made between the European countries and the United States, permitting the United States in cooperation with the European central banks to operate in the spot and forward exchange markets. The first of these arrangements was with the German authorities and provided for operations in New York in deutsche mark. This was followed later by the acquisition of deutsche mark by the U.S. Treasury as a part of a German debt prepayment. In October 1961 the United States borrowed Sw F 200 million from the Swiss Government. The equivalent of $75 million in Italian lire was borrowed early in 1962. In addition, during the first half of 1962, reciprocal currency arrangements were entered into between the Federal Reserve System and the Bank of England, the Bank of France, the Netherlands Bank, and the National Bank of Belgium, in each case for amounts up to the equivalent of $50 million. Late in June a similar arrangement was entered into between the Federal Reserve System and the Bank of Canada for $250 million.
All transactions have been carried out in close consultation with, and usually jointly with, the financial authorities of the other countries involved. The operations thus far have been largely exploratory in character, designed to limit temporary disturbances in the exchange markets. There have been some minor selling operations in the spot market, using foreign exchange acquired in Switzerland and Italy chiefly by borrowing; but operations have been mainly concentrated in forward exchange. As mentioned above, the first and most important of these latter operations took place, in conjunction with the Bundesbank, in the forward market for deutsche mark in March 1961. U.S. forward sales of deutsche mark reached a peak equivalent to about $350 million in mid-June, and, including renewals, aggregated considerably more over the period as a whole. They have all been settled. Total forward exchange operations undertaken by the Treasury in deutsche mark, Swiss francs, Netherlands guilders, and Italian lire amounted to about $1.5 billion in the 14 months to May 1962.
Throughout the past year the Bundesbank continued to intervene in the forward mark-dollar market, by agreeing to provide forward cover for the foreign balances of German commercial banks. It is known that other countries, although they do not publish information on such transactions, have also intervened in the exchange markets to limit the spreads between spot and forward quotations.
Reference to international cooperation in the London gold market is made in Chapter 6.
Interest Rates and Forward Exchange Rates
Speculation apart, two factors are as a rule indicative of the inducements for international movements of short-term capital between the main financial centers under conditions of convertibility: the differences in short-term interest rates from country to country, and the premiums or discounts on forward exchange rates. As discussed in earlier sections of this chapter, the past year witnessed efforts to limit the disequilibrating movements of short-term capital arising from each of these two factors. The effect of these efforts is illustrated in Charts 6, 7, and 8.
Chart 6.Money Market Rates in Selected Countries1
1 For Canada, the Netherlands, the United Kingdom, and the United States, 3-month Treasury bill rate; Germany, discount on the Bundesbank’s sales of 3-month Treasury bills; Switzerland, call money rate.
Data are for end of quarter, December 1959-December 1960, and end of month, January 1961-May 1962.
Chart 7.Forward Premiums or Discounts on Major Currencies Against the U.S. Dollar1
1 Data are for end of quarter, December 1959-December 1960, and end of month, January 1961-May 1962.
Chart 8.Interest Rate Differentials, Adjusted for Premiums or Discounts, Between the United States and Selected Countries1
1 The yield on 3-month U.S. Treasury bills is taken as a base line. The difference between this yield and the money market rates in other countries shown in Chart 6, minus the discount (or plus the premium) shown in Chart 7, is plotted relative to the base line. Distances between the curves measure the incentive to move funds on a covered basis between the national markets. See text, pages 100–103.
Data are for end of quarter, December 1959-December 1960, and end of month, January 1961-May 1962.
Chart 6 shows the most nearly comparable published interest rates in five countries. Except for Switzerland, where the call money rate is quoted, this chart records the interest rates on 3-month Treasury bills. The premiums or discounts on 3-month forward exchange rates, expressed at annual rates, with the U.S. dollar rate chosen as the base, are plotted in Chart 7. Chart 8, which combines the two preceding charts, provides indices of the profitability of moving funds from the United States to other countries on a covered basis. Subject to the limitations discussed below, the differences between the net yields may be regarded as an indication of the incentives to move funds on a covered basis from one market to another outside the United States.
Whenever possible, the Treasury bill rates have been used because Treasury bills in different money markets are alternative forms of investment for those wishing to place funds on a short-term basis, and because there is more similarity between the Treasury bills issued in different countries than there is between other financial instruments, even though they may have the same or similar titles. Hence, a comparison of Treasury bill quotations is likely to provide a measure of interest rate differentials, unimpaired by differences in risk, terms of payment, or other attributes of the documents compared.
For a number of reasons, these charts should not be interpreted too literally. They cover only part of the short-term capital market. In the first place, there are other forms of money market investments which carry comparable risks, but between which the interest differentials are not the same as they are between Treasury bills. Some examples of this are three-month deposits with banks (mainly in the United Kingdom, but also in Continental Europe and Canada) denominated in dollars (so-called Euro-dollars); three-month deposits with local authorities in the United Kingdom; and three-month deposits, mainly with French banks, denominated in sterling (so-called Euro-sterling). However, the differences in yields on such investments moved similarly to Treasury bill differentials in 1961, and it may perhaps be assumed that, in general, the rates selected for the comparison made here are representative of the broad movements in interest rates in the money markets of the five countries. Nevertheless, there have been changes in relative interest rates for individual types of investments, and the rates shown in Chart 6 should therefore be regarded as indicative of ranges only.
In the second place, part of the international movements of short-term capital takes the form of borrowing and lending rather than of transactions in money market instruments. While most comparisons of borrowing rates indicate net differentials similar to those in the money market, there were during 1961 some important rates to which this did not apply. Bank lending rates in the United Kingdom tended to be higher than those in the United States and, if cover in the forward market were not sought (as, for a substantial volume of international short-term borrowing, it was not) it would have been more profitable for borrowers to seek accommodation in the United States than in the United Kingdom. But the difference between these bank lending rates was less than the discount on the pound sterling in the sterling-dollar forward market. Hence, borrowing on a covered basis would tend to have been undertaken in London rather than in New York—although limitations on the freedom of U.K. banks to lend to nonresidents would have prevented any appreciable volume of borrowing of this kind.
The use of the charts to interpret short-term capital movements to and from Germany is subject to particularly strong qualifications, because of the restrictions on the inward movements of foreign short-term capital that were maintained in that country. Because of these restrictions, inflows of funds into Germany for temporary investment took, for the most part, the form of purchases of fixed-interest-bearing securities and commercial lending. Moreover, the charts do not describe adequately the incentives for the German commercial banks to move funds to and from abroad, since the modifications in the reserve requirements and the swap policies providing special forward rates for U.S. dollars offered by the Bundesbank to German banks made it profitable for them to move funds abroad, rather than the reverse as is indicated by the charts. While it is believed that the charts provide a reasonably correct indication of the variations in these incentives to move capital to and from Germany in the forms in which such movements could take place, the absolute level of the curve for Germany is likely to be incorrect. In particular, while Chart 8 shows a net yield on movements of funds from the United States to Germany during the second half of 1961, the incentives that in fact induced short-term capital movements were in the opposite direction during that period.
Even so, with allowance for all the qualifications to which the data are subject, the charts suggest that the net gain to be made from short-term capital movements to take advantage of the opportunities for interest arbitrage was, on the whole, less in 1961 than in 1960. At the same time, the increase in privately owned international balances, and in particular the increase in the proportion of these balances held on a covered basis that followed the German and Dutch revaluations, brought about some widening of the forward discounts or premiums relative to the interest rate differentials, which reduced the incentive to move funds. As 1961 progressed, there was a tendency for the net gains to decline further. The appreciable net additional yield obtainable on capital transferred from the United Kingdom to the United States in the middle of 1961 reflected primarily the large discount on the pound arising temporarily from speculation regarding exchange revaluations. Similarly, the premium on the deutsche mark in the early part of the year was a major factor contributing to a movement of capital into Germany, for example in the form of commercial lending.
While developments in interest rates and forward exchange rates in major financial centers thus brought about an easing of short-term capital movements between such markets in the course of 1961, the short-term capital movements from the United States to other countries—in particular, Japan and the Latin American Republics—continued on a considerable scale throughout 1961 and in early 1962. These movements were thus not diminished by the greater coordination of monetary policies among the major industrial countries, and constituted a considerable disequilibrating element in the U.S. balance of payments in 1961 as well as in 1960. Movements of short-term capital to and from the United States are further reviewed in Chapter 5.
Developments in the Less Industrialized Countries
In the less industrialized countries as a group, the expansion of credit in 1961 was, on the whole, greater than in 1960, although in somewhat fewer countries than in 1960 did this expansion exceed 20 per cent of the money supply (Table 10, columns 9 plus 11). In part, the political pressures leading to expansion were strengthened by the continued tendency for the prices of primary products to fall, even though the declines in these prices were generally less in 1961 than in earlier years. Since, as a consequence, export receipts scarcely rose, there were few increases in foreign exchange earnings to offset the rising demands for foreign exchange resulting from credit expansion. Accordingly, the reserves of the less industrialized countries tended to remain rather low, or to decline (column 5). In those countries where export earnings or other receipts from abroad did rise, increasing domestic income and government revenues lessened the pressures for expansionist policies; here the growth of net domestic assets held by the monetary system (column 7) tended to be kept in check. The effect was similar in a number of countries where the private sectors, responding to the general weakening of inflationary pressures in recent years, increased their holdings of time and savings deposits and other nonmonetary liabilities of the banks (column 13). However, in only about one fourth of the countries shown in Table 10 did the growth of total domestic credit fall short, for whatever reason, of the increase in nonmonetary liabilities of the banks, resulting in a contraction of net domestic assets.
|Percentage||Net Government||Inc. (—) or|
|Change in||Change in Net||Change in Net||Borrowing from||Bank Credit to||Dec. in Other|
|Money Supply||Foreign Assets2||Domestic Assets||Banking System3||Private Sector||Liabilities4|
As percentage of money at beginning of year
|Syrian Arab Republic||10||12||5||−13||−15||25||20||9||19||21||−2||−5||3|
|United Arab Republic||4||3||8||−5||−5||8||13||9||17||1||−3||−2||−1|
In 1961, as in earlier years, monetary policies aimed at restraining credit expansion in less industrialized countries took the form of limiting the supply of credit rather than of raising the cost of borrowing. In a number of countries, the tools of monetary and credit control were improved during the past year.
Economic growth and relative financial stability characterized the year’s experience in a number of countries, including several of those that increased their net foreign exchange reserves. Developments in Peru and Spain are reviewed in Chapter 2. In Iran, a policy of stabilization initiated in the fall of 1960 halted the rapid expansion of credit, and the depletion of foreign exchange reserves was reversed in 1961. A major improvement in banking policy was introduced late in the year, when the banks were made subject to variable liquidity ratios. Minimum ratios are 40 per cent against deposits, and the banks are not permitted to expand their lending activities unless their ratio is above 50 per cent. There was further economic progress in Thailand, following improvement in 1960; both agricultural and industrial production continued to increase in 1961. In both years, the Government had a cash surplus, and credit expansion to the private sector was moderate. The balance of payments showed a substantial surplus for 1961. In India, where the rate of growth of industrial production was again relatively high, monetary policy continued to be implemented with flexibility. Increasing reliance was placed on general credit controls, especially the three-tier (or slab) system of discount rates for commercial bank borrowing from the Reserve Bank of India.
In some countries where inflationary pressures became significantly stronger in 1961, there were signs that the authorities were prepared to take restraining action. In Israel, the rapid expansion of bank credit to the private sector in the first half of the year was slowed down somewhat in the second half, by restrictive measures. Minimum liquidity requirements were raised from 38 per cent to 42 per cent between April and October 1961. On February 9, 1962, the Israel pound was devalued, in connection with the unification of the exchange system; at the same time stabilization measures were inaugurated. In El Salvador, an increase in the central bank’s discount rate in June 1961, coupled with a more cautious monetary policy pursued within the framework of a stabilization program adopted at midyear, was instrumental in halting the deterioration in the country’s internal and external financial position. In the Philippines, a reversal of earlier policies of fiscal and credit restraints led in 1961 to a rapid domestic monetary expansion and a sharp decline in foreign exchange reserves. Early in 1962, the authorities instituted corrective measures: the central bank raised its discount rate from 3 per cent to 6 per cent, imposed ceilings on central bank loans to commercial banks, and raised reserve requirements on peso demand deposits with banks. In Ecuador, the drain on reserves during the last quarter of 1960 and the first half of 1961, which was associated with excessive credit expansion, particularly to the official sectors, was halted after the adoption of a stabilization program in the middle of the year. Further expansion of central bank credit was severely limited by the application of ceilings on gross credit, and legal reserve requirements were raised.
On the other hand, a number of countries—particularly Argentina, Brazil, Chile, Colombia, Ghana, and Indonesia—followed expansionary financial policies in 1961, which resulted in a sharp decline in their foreign exchange reserves or a rapid increase in prices, or both. In most of these countries, government borrowing from the banking system was the main source of the expansion. In Argentina, the monetary situation showed signs of strain, in contrast to 1960 when further progress was made toward stability. An unduly large expansion of bank credit to the private sector and excessive wage increases in 1961 were reflected in substantial price rises and a serious loss of reserves. In Brazil, inflationary pressures, stimulated by government deficits, losses on exchange contracts, and expansion of bank credit to the private sector, continued to be reflected in large increases in domestic prices and a depreciation of the cruzeiro. In Chile, a mounting government deficit, financed primarily through central bank credit, coupled with a rigidly pegged exchange rate, contributed to a record balance of payments deficit. In Indonesia, a rapid expansion of bank credit to the Government was accompanied by a sharp rise in prices and a serious decrease in reserves.