Office of the Historian

35. Memorandum From the Chairman of the Council of Economic Advisers (Ackley) to President Johnson1

Washington, February 1, 1965.

SUBJECT

  • The New Program for the Balance of Payments
1.
You will be receiving a report tomorrow from Secretary Dillon, containing the Cabinet Balance of Payments Committee’s recommended program.2 This memorandum is by way of background for your consideration of this program.
2.
The fourth quarter worsening of our payments is a definite source of concern. But it may not be quite as bad as it looks on the surface. Several temporary factors were at work (in addition to British non-payment):
  • —some of the increase in bank lending was done to beat the application of the Gore amendment (one top N.Y. banker admits to me that this was a big factor);
  • —new Canadian security issues were bunched up to follow passage of the interest equalization tax;
  • —some U.S. corporations apparently delayed bringing back their foreign earnings in order to take advantage of the 2 point cut in the corporate tax rate for 1965;
  • —some of the outflow of short-term bank credit was related to year-end “window dressing,” as suggested by the fact that we had a big surplus in the first two weeks of January.
3.
The public knows that the fourth quarter wasn’t good, but not just how bad it was. There could be an adverse business and public reaction, here and abroad, when the official figures become public in the middle of February. That alone is good reason for prompt and decisive action.
4.

There is danger in too small and too weak a program. But there is also danger in too strong and restrictive a program.

It can cause dislocations here and abroad that would be worse than our deficit—for example, this is no time to be pulling funds out of the U.K.

It can look as though we are desperate or panicky, and thereby cause loss of confidence.

5.
The list of measures on which everyone agrees seems about right as a program. We can’t be sure that additional measures won’t be needed in [Page 99] the future, but the odds are good that this package will do the trick, both in its effects on confidence and its direct effects on payments and receipts.
6.

However, if you think the agreed-on package is not enough, there are 3 major possibilities for more:

  • A tax on tourists;
  • A tax on “take-over” investments (where an American company buys out an existing business abroad—which is the kind most resented and which does the least to help our exports);
  • A tax on short-term business “investments” abroad (where corporate treasurers deposit temporarily idle funds in foreign banks, or buy short-term paper overseas to make an extra 1/4 to 1/2% more than they can get here).

We would oppose the tourist tax as a means of enlarging the package unless it is combined with one or both of the other two. However, these are complicated actions which would take some time to prepare.

7.
If the Fed works at it seriously, “moral suasion” on bank lending could save us much more than the $200 million estimated by the Treasury. Last year, bank loans to foreigners increased 36% or nearly $2 billion; that should not be permitted to happen again. Most of this business is done by a handful of banks. The Fed can set a quantitative guideline for each bank, backed up by its various controls (including especially the discount privilege), and by its detailed and frequent reports on every foreign loan.
8.
Confidential conversations with the New York Federal Reserve Bank convince us that they know how to run a “moral suasion” policy. But Bill Martin must take the lead. I think it is important for you to talk to him about his role in making moral suasion on the banks really effective.
9.
The Fed plans to tighten money a little as part of the balance of payments program. Monetary conditions have been kept easier in the last couple of months than we could have expected. I can’t object to a modest tightening, even though it will certainly do the domestic economy no good.
10.
But it’s important for our prosperity that the tightening be modest. This is another matter for discussion between you and Bill Martin. (In the past, such discussions have involved the “quadriad”—which would mean Martin, Dillon, Gordon and Ackley meeting with you. But, if you prefer, a private meeting with Martin could provide the opportunity. In either case, I’ll be happy to supply briefing material.)
11.
Secretary Connor will be in charge of the “moral suasion” on businesses other than banks to restrain direct investment and short-term lending. This can be quite effective if it’s handled right. We should make sure, though, that we have some clear rules of the game. Most businesses will cooperate [Page 100] if they know exactly what we want them to do, and know that all other firms are being asked to do the same thing.
Gardner Ackley 3
  1. Source: Johnson Library, National Security File, Subject File, Balance of Payments, Vol. 2 [1 of 2], Box 2. No classification marking. The source text was attachment 1 of 2 to a February 2 note from Francis Bator to McGeorge Bundy. Attachment 2, telegram 204 from the Embassy in Luxembourg, February 1, is not printed.↩
  2. Document 33.↩
  3. Printed from a copy that bears this typed signature.↩