Mr. Grove, a graduate of Harvard College, the Harvard Graduate School of Arts and Sciences, and the Harvard Graduate School of Public Administration, is Chief of the Latin American Section, Division of International Finance, Board of Governors of the Federal Reserve System. He has served as advisor on banking legislation and credit policy to a number of Latin American countries and to the Philippines. In the spring of 1950, he was loaned to the Fund by the Federal Reserve Board to be a member of a Fund mission to Chile.
The money supply is defined as currency outside banks and local currency checking deposits of the public (i.e., excluding inter-bank deposits and deposits of the Treasury).
It may be argued that an even more appropriate policy objective would be to stabilize the prices of domestic goods and to adjust the exchange rate to the extent necessary to neutralize changes in the foreign prices of imports. A discussion of the monetary and credit policies appropriate to such an objective would be inextricably intertwined with questions of exchange policy beyond the scope of this paper. For this reason, the objective mentioned in the text has been taken as a convenient starting point for the ensuing discussion.
The calculations of the “excessive” increases in the money supply should not be regarded as providing anything more than very rough statistical verification of the conclusion that the money supply was expanded too rapidly even in relation to a policy objective of maintaining the relationship between domestic and foreign prices without modifying the exchange rate. The calculations, for purposes of simplicity, ignore such relevant considerations as the extent to which an “excessive” increase in the money supply in any given year should be an element in determining the magnitude of the appropriate increase in the money supply during the following year, and the fact that de facto depreciations of the Chilean peso did occur during the period.
A government-owned savings and loan bank.
Had the expansion of Central Bank credit and of the total money supply not occurred, prices would not have risen so much and the public would not have needed so much currency. Thus, this factor of absorption of bank reserves is very closely related to the factors of expansion, and is not an independent variable.
Including government expenditures classified as investment and also including the net foreign balance.
Including net foreign investment.
The marginal rate of return on investment might be expected to decline in a period in which total investment is being expanded rapidly. This would be true if the new investment were entirely competitive with existing investments. In fact, however, much of the new investment in Chile has been complementary to old investments and has created profitable opportunities for re-groupings of the existing stock of physical capital. In other words, there has been an upward shift in the marginal-efficiency-of-capital schedule.
Nominal profits deflated by the cost of living index, with 1937 = 100.