Tightening Up

The Federal Reserve System, which controls and influences the flow of mon ey in the U.S., favors "leaning into the winds" of economic change in setting its monetary policy. For months it has kept money easy-or comparatively well circulated and cheap to borrow-in order to stimulate a lagging economy. Now that the economy is rising and has less need for easy credit, the Fed has begun to tighten the money market, and the cost of money is slowly creeping up.

The Fed has been slowly raising rates by sopping up lendable funds; since November it has reduced its member banks' net free reserves from $400 million to $162 million. One result of the tightening is that when the U.S. Treasury went to make a short-term borrowing in the money market last week, it had to offer an interest rate of more than 3% for the first time in three years. Bankers both at home and in Europe expect the Fed next to raise its discount rate, upon which almost all loan rates are based, from 3% to 31% or even more.

Piecemeal Palliatives. The gradual shift is the culmination of a monthslong debate within the Fed's powerful twelve-man Open Market Committee about the value of tighter v. easier money. Chicago's George W. Mitchell, with the enthusiastic backing of Congress, argued that low interest rates are still needed to stimulate the economy and that stiffer rates might cut off an economic rise. New York Federal Reserve Bank President Alfred Hayes, with the support of Fed Chairman William McChesney Martin Jr., contended that higher rates are needed to help solve another major worry: the continuing outflow of U.S. gold, which has been aggravated by the great number of foreigners who borrow money at low U.S. interest rates and take it home.

Victory for the tighter-money faction-which has resulted so far in a barely perceptible tightening-illustrates the increasing concern about the gold outflow. The U.S. has lost $180 million worth of gold so far this year, but its balance-of-payments deficit, which causes the gold outflow, has jumped from last year's $2.2 billion to an annual rate of $3.3 billion in the first quarter. Hoping to stem the flow, the U.S. has "tied" 80% of its foreign aid funds to purchases in the U.S., induced its allies to buy more of their military gear in the U.S. and improvised a complicated system of currency swaps with foreign countries to protect the dollar from crisis. But most foreign economists write these measures off as piecemeal palliatives that only delay a real, long-term solution. Even the man who engineered these moves, highly regarded Treasury Under Secretary Robert Roosa, admits that "more fundamental correctives are necessary."

More to Lend. The Administration has flatly turned down such solutions as devaluing the dollar (by doubling the price of gold and thus doubling the face value of U.S. gold reserves), imposing controls on capital movements and restricting imports or U.S. private investment abroad. Raising the interest rates (which are lower in the U.S. than in any other big industrial country) would help, but is only half a solution: while foreign governments are usually scared off by higher interest rates, private foreign businessmen tend to borrow wherever they can get the money-and the U.S. has more money to lend abroad than all the European countries combined.

Searching for a broader solution, the Administration realizes that it must somehow induce its affluent allies to shoulder a greater part of the foreign aid bill and that it must stimulate U.S. exports, which have declined from 30% of the world total in 1954 to 24% lately. One answer would be a subsidy or special tax write-off plan for exporters, but the Administration is counting on its proposed tax cut to make U.S. industry more productive and competitive in world markets.

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