The Structure of the Postwar Money Market

Abstract

An interesting financial development of recent years is the renewal of activity in the money market. Transactions follow a quite different pattern from that of the 1920's, to which one must turn for a comparably active period. There have been important changes in the mechanics of money market operations, traceable to fundamental shifts in business and government finance. A survey of the functioning of the money market under present-day conditions affords an opportunity to examine the economic purpose served by this portion of the financial apparatus. Briefly, government securities have largely displaced other types of open nlarket paper. Commercial banks have come to rely heavily on purchases and sales of government securities to adjust their reserve positions. The long standing tie between the money market and the stock market has been almost severed. The Federal Reserve System has become an integral part of the market. Very large amounts of funds move in and out of the money market, yet fluctuations in money rates are of very small magnitude. Over the past 20 years the entire structure has undergone substantial modifications. The United States money market, which has always centered in New York, did not reach a stage of development comparable to that of the London money market until the second decade of the present century. Although the Federal Reserve System had been created in part to release the banking system from its close ties with the stock market, the money market in the 1920's was dominated by brokers' loans. Other segments of the money market, namely those concerned with the government's floating debt, bankers' acceptances, and open market commercial paper, were overshadowed by the call money market. Although commercial banks continue to supply brokers with $500-1,000 million of funds, they do not rely on brokers' paper as a marginal outlet for surplus funds. Consequently, the call loan rate has ceased to be a significant index of the condition of the money market. The shift from brokers' loans to government securities took place as a result of the great depression and of war finance. In the aftermath of the 1929 stock market crash brokers' loans declined to one-twentieth of their boom level. The imposition of a series of government controls, particularly margin regulation, prohibition of interest on interbank deposits, and barring of loans by others, contributed to the shrinkage by restricting both demand and supply factors. The falling off of international trade and the tendency for a large portion of what remained to be conducted without financing through the money market drastically reduced the volume of bankers' acceptances. The low level of domestic industrial activity was reflected in a sharp reduction in volume of open market commercial paper. Although business activity has reached very high levels in recent years, there has