Reserve Bank of Australia Annual Report – 1961 Monetary Policy

A very marked change in monetary and financial conditions took place during 1960/61. Throughout most of 1960 the volume of finance available from both bank and non-bank sources was rising strongly but towards the end of that year these conditions gave way to a period of increasing stringency, from which there was only minor relief in the June quarter of 1961.

Certain deflationary influences were inherent in the situation early in 1960/61; these arose from the strong flow of imports, the cumulative effects on the liquidity of the banking system and the capital market of the decline in international reserves which had already commenced, the restrictive credit policy being imposed through the banking system, and the movement in Commonwealth finances. However, although these influences were expected to have a significant effect on the growth of expenditure, the impact of some of them was likely to be delayed until towards the close of the financial year. Accordingly, early in the financial year Reserve Bank credit policy, which had commenced to be restraining from October, 1959, was made more severely and more specifically restrictive, and with the economic measures announced by the Commonwealth Government in November, 1960, an abrupt tightening of monetary conditions ensued.

Towards the end of 1959/60 the Reserve Bank had asked the trading banks to achieve an early and significant reduction in the rate of new lending. This reduction was sought over the general range of lending and the need was emphasised to avoid providing finance where it would contribute to the increasingly speculative atmosphere. In support of this request, increased pressure had been brought to bear on bank liquidity.

A fully effective response to this request was not achieved immediately and with unabated pressures on both locally-produced and imported supplies, and with new lending still high, the Reserve Bank in August gave the banks more specific directions concerning the rate of lending which it regarded as appropriate to the conditions. The rate of new lending then commenced to drop to much lower levels. However, advances outstanding, which had been rising strongly for some months, continued their upward trend, giving support to the expansionary influences operating elsewhere in the economy. In October the banks were again requested to apply severe restraint in their current lending, and to direct their lending policies with the object of achieving a considerable reduction in their advances outstanding before the end of March, 1961. At the same time they were asked to warn customers, particularly those involved directly and indirectly in importing, of the tight credit and liquidity situation and of the further tightening expected later in 1960/61.

As part of the special economic measures announced by the Government in November, 1960, the Reserve Bank issued instructions to the trading banks reiterating and amplifying in certain respects requests already made to them regarding lending policies, and bank interest rates on both advances and deposits were increased.

The request to the trading banks to limit the rate of new lending and reduce advances outstanding considerably by the end of March was reaffirmed and the banks were given further guidance as to its application. They were asked to bear in mind the need to provide appropriate finance for export production, especially in the rural and mining industries, and to give special consideration to the needs of rural customers affected by adverse seasonal conditions. The weight of the restriction was to be placed in directions where there was already excessive demand upon available resources of material and labour, and where it would contribute to reductions in the demand for imports and in speculative tendencies in the economy. The prohibition of new or increased advances for the extension of hire purchase and instalment selling was continued, and banks were asked to review existing arrangements in this and other categories with a view to reduction.

The trading banks were authorised, as from 17th November, to increase the maximum interest rate charged on any advance from 6 per cent to 7 per cent, and the average rate chargeable over the total of a bank's advances was increased from a maximum of 5½ per cent to 6 per cent. The new rates were to be applied selectively in line with economic policy. In particular, it was emphasised that banks were not to increase interest rates on overdrafts to meet the reasonable requirements of borrowers for export production. Rates not exceeding the new average of 6 per cent were also to apply to those categories of advances (e.g. building societies) which, for reasons of social policy, were up to that time being charged not more than the average rate then current. Interest rates paid on fixed deposits with the trading banks were increased substantially to a maximum of 4½ per cent and the maximum period for which any rate on deposits might be fixed was reduced from two years to 12 months. Rates of interest paid by the savings banks on depositors' balances, and the maximum balances on which interest was paid were increased on 1st January, 1961.

The various economic measures taken, together with the deflationary influences which, as mentioned, were already inherent in the situation, achieved substantial effects. Before the end of 1960 the rate of new lending by banks began to fall, and advances outstanding fell by about £80 million between October, 1960, and March, 1961, compared with £11 million in the same period of the previous year, indicating a very considerable reversal of the earlier trend.

Despite the general sense of financial stringency which emerged after the change in the economic climate late in 1960 and early in 1961, it was considered desirable to maintain the general credit policy of fairly firm restraint earlier imposed. However, opportunities were sought in discussion with the trading banks to find means to ease credit policy selectively where the stringency was excessive. In particular, the banks were encouraged to increase their new lending for housing and for primary production and to assist in suitable cases in reducing abnormal delays in commercial settlements.

By the end of June inflationary pressures had been reduced to an extent which enabled the Reserve Bank to restore to trading banks more normal discretion in the allocation of loans and to indicate to them that, within the limits of a moderate increase in new lending, additional accommodation might be granted on the basis of normal banking criteria. Existing restraints, however, were to be retained in relation to lending to finance imports, for hire purchase and instalment selling, and for speculative activities.

Pressure on trading bank liquidity was eased during the June quarter through reductions in the Statutory Reserve Deposit ratio, enabling the banks to meet the seasonal run-down and to build up the level of their “free” liquidity. However, although there was some increase in aggregate advances outstanding and in the rate of new lending by banks during the June quarter, the underlying trend in advances outstanding was still downward.

At the end of June, savings banks were informed that it would be appropriate for interest rates on deposits to be increased by ¼ per cent and the maximum balances on which savings bank interest is paid to be raised further. At the same time the trading banks were asked to reduce the maximum rate paid on fixed deposits by ¼ per cent to 4¼ per cent.

Bank Liquid Assets and Statutory Reserve Deposit Accounts

The aggregate L.G.S. ratio of the major trading banks at June, 1960, was 18 per cent. At this level it was only 2 per cent above the agreed conventional minimum of 16 per cent, and some banks, in order to maintain the minimum ratio, had borrowed from the Reserve Bank.

The run-down in international reserves in the early part of 1960/61 was sufficient to offset the usual seasonal increase in Treasury bills, and banks' aggregate L.G.S. assets remained below the end of June level for most of the six months to December. This fall brought banks under increased pressure, which was not relieved by action through Statutory Reserve Deposits; the Statutory Reserve Deposit ratio remained at 17.5 per cent throughout the period. There was further fairly substantial borrowing by banks from the Reserve Bank, but even so the aggregate L.G.S. ratio moved below 18 per cent.

To help banks meet the usual pre-Christmas withdrawal of cash by the public, the S.R.D. ratio was in mid-December temporarily reduced in two steps to 15 per cent. The ratio was restored by two increases to 17.5 per cent early in January.

Bank Liquidity — Percentage of Deposits

The banks' positions improved in the new year. The aggregate L.G.S. ratio reached a peak of slightly above 20 per cent during the March quarter, and banks were able to repay all outstanding loans to the Reserve Bank. The S.R.D. ratio continued at 17.5 per cent over the quarter.

Bank liquidity began to ease downwards in April. This movement continued over the June quarter, but largely owing to the strong upward move in international reserves during the quarter, the loss of liquidity by the banks was less than in the same period of 1960 and considerably less than had earlier appeared likely. Nevertheless it was more than could be met out of the “free” liquidity held by the banks, and the Reserve Bank took steps through Statutory Reserve Deposits to cushion the impact on banks' L.G.S. assets. The S.R.D. ratio was reduced to 16.5 per cent on 19th April, to 15.5 per cent on 10th May, and to 13.5 per cent during June.

The net result of action taken over the year to 30th June was a reduction in banks' Statutory Reserve Deposits of £70 million. Banks' L.G.S. assets rose by about £15 million. At June, 1961, the aggregate L.G.S. ratio was about 19 per cent, slightly higher than a year earlier.

Bank Advances and Deposits

Aggregate advances outstanding increased by £5 million over the year, compared with an increase of £100 million in 1959/60. There was a sharp reversal of trend during the year; the strong upward movement which had been operating from about April, 1960, reached a peak towards the end of 1960 and thereafter the trend was downward, continuing in the June quarter, when there was less than the usual rise. The following figures illustrate the movements in advances outstanding.

The rate of new and increased lending commitments entered into by banks declined between June and December, 1960, flattened out in the March quarter of 1961, and rose moderately in the June quarter, although still well below the rate of the previous year. Total limits available also declined heavily over the year, reflecting both the reduced rate of new lending and a substantial volume of cancellations and reductions of limits.

Financial Statistics

Trading bank deposits fell by £16 million over 1960/61 as against the increase of £119 million in the previous year.

There was a marked contrast between the movements in deposits bearing interest and non-interest bearing deposits in the second half of the financial year. For a number of years deposits bearing interest had shown a steady but relatively slow rate of growth and at November, 1960, represented 20 per cent of total trading bank deposits.

However, following the increase in fixed deposit interest rates from 17th November and other economic measures taken at that time, trading bank interest bearing deposits increased rapidly. The increase between October, 1960, and June, 1961, was £106 million, raising the ratio of interest bearing deposits to total deposits to 26 per cent at the end of June. Other deposits fell by £111 million during this period.

Government Securities Market

1960/61 was a year of some difficulty for official debt management. The governmental borrowing programme of £230 million for State works and housing, £10 million more than the previous year's programme, was accompanied by the need to deal with the substantial amount of £337 million of existing debt which fell due for repayment during the year. Difficulties were experienced by public authorities generally during the first half of the year. Due to competition from the strong demand for funds by many sections of the capital market, and to the reduced level of support for public authority loans from hitherto traditional sources of investment, increases were made during the second half of the year in the rates of interest offered on new domestic loans. In the event subscriptions in Australia to the Government's 1960/61 loan raising programme were £122 million, compared with £148 million in the previous year. In addition, loan operations overseas were responsible for raisings of £26 million in 1960/61.

In the main, domestic borrowings came from three cash loans issued during the year. Total amounts subscribed in these loans were £107 million—£33 million in September, 1960, £35 million in February, 1961, and £39 million in May, 1961. Net cash subscriptions to issues of Special Bonds yielded £11 million, while £4 million came from domestic raisings by the State governments.

There was a decrease during the year in Government debt outstanding in non-official hands. The holdings of savings banks were little changed from those of the previous year, due to the slower growth in their depositors' balances, but the short term money market again increased its portfolio of short dated Government securities, which totalled £100 million by the end of the year. Holdings by life assurance companies and trading banks increased only slightly, while the total of Government debt (including Special Bonds) outstanding in the hands of all other non-official holders fell during the year.

During the early part of the financial year, trading banks experienced severe liquidity pressure, due to normal seasonal factors being accentuated by the fall in international reserves, and in this period they were obliged to be sellers of securities. In these circumstances the Reserve Bank found it necessary to purchase some £25 million of securities from the trading banks.

During the second half of the year, when savings bank depositors' balances were running down, the Bank was a net purchaser of securities from the savings banks. In its open market operations with the rest of the economy, the Bank was a net seller of securities during the first half of the year, but as the economy came more into internal balance during the second half of the year, the Bank followed a market policy which had little net effect on liquidity.

During 1959/60, on the other hand, there was little net movement in the Bank's portfolio of Government funded debt repayable in Australia.

The on ’change market weakened in the first half of 1960/61. This tendency accelerated after the measures announced in November and yields on short term securities rose sharply, reaching a peak at the end of December to exceed the levels of yields on medium and long term securities, a pattern that has occurred in several of the major bond markets overseas from time to time. Yields on medium and long term securities rose relatively slowly in this period.

During January, short term yields fell slightly but yields on medium and long term securities continued to rise slowly. Nevertheless, the general pattern existing at the end of December continued.

There was little movement in the market over the next few months but, towards the end of May and early in June, short term yields fell, followed by a fall in the medium term yields. By the end of the year, the situation had been reached where the short term yields were below the mediums, which in turn were slightly less than the long term yields. At this time, yields on short term securities were about 1 per cent higher than at the beginning of the year with medium and long term yields about ½ per cent higher.

Market Yields on Commonwealth Government Securities

Against this background of the increase in yields on the existing Government securities, the coupon on the long term security issued for the February loan was increased to 5⅜ per cent and maintained at that level for the May loan. The coupons on the medium and short term securities issued in these loans were also raised.

Details of the terms of loans raised by the Commonwealth Government in Australia in 1960/61 are shown below.

A further issue of seasonal securities was commenced in October, 1960. These securities were originally introduced in November, 1959, as a new form of Government borrowing to offset part of the seasonal increase in liquidity normally occurring during the second and third quarters of the financial year. As before, the securities had a currency of three months but on this occasion they were available on a daily basis in place of the fortnightly issues in the previous year. By the time the issue was terminated for the year at the end of March, it had attracted subscriptions of £86 million, the maximum outstanding at any time being £51 million. In keeping with the change in yields on the bond market, the early issues were offered at a price equivalent to a yield of £3/19/- per cent, compared with £3/2/8 per cent for the closing issues during the previous financial year. However, in view of the further general increase in short term yields, the issue price was reduced in February, 1961, to give a yield of £4/5/1 per cent.

In January, 1961, the interest rate on new public issues of semi-governmental bodies was raised from £5/5/- per cent (and in the case of a few bodies £5/7/6 per cent), to £5/15/- per cent. During the year market yields on existing semi-governmental loans generally remained at higher levels than those offering on new issues. From January, private borrowings by semi-governmental bodies were made at rates which were up to 7/6d. per cent above those applying earlier.

Short Term Money Market

The year 1960/61 was one of continuing growth in the development of the short term money market. Two additional dealers were appointed in September, 1960, and brought to nine the number of companies authorised to operate in the market. During the first half of 1960/61, the level of funds placed with the money market showed a further marked increase. However, there was a small decline during the second half of the year owing to the generally less liquid position of the economy.

At the end of June, 1960, total loans to the market stood at £77 million, compared with £49 million a year earlier, but by the end of November they had reached a peak of about £99 million. These amounts, by far the greater proportion of which represented money at call, were about the maximum that could be accepted by the market against the aggregate of portfolios approved by the Bank for individual dealers from time to time. The Bank has continued to control the market's growth because it believes some form of limitation is necessary to ensure that during the developmental stages it does not have undesirable effects on the Government securities market, nor grow at too fast a rate to the detriment of effective management techniques.

Although seasonal pressures resulted in some falling-off in loans in December, the aggregate continued to fluctuate at about £99 million through the March quarter. During the June quarter, funds available for short term investment were generally at a lower level than previously and dealers accordingly found it necessary to reduce their portfolios of money market securities. During one period in this quarter, total loans to the market declined to £92 million and, although the aggregate was later restored temporarily to near its peak, the end June figure was £95 million. On several occasions during the year, some dealers had recourse to the Bank as lender of last resort, although the assistance sought was of marginal character only.

Short Term Money Market — Sources of Loans

Changes in the general pattern of interest rates throughout the economy were reflected during the year in an upward trend in rates paid by dealers for borrowed funds, although lower rates were, as usual, a feature of those periods in which easier market conditions prevailed. At the end of June, 1960, call rates were from £3/-/- per cent to £3/10/- per cent but they rose during the September quarter. With funds then becoming more readily available, rates tended to fall but this downward movement was not sustained and rates began to rise again in March. At the end of the financial year, call money was attracting rates from £2/10/- per cent to a peak rate for the year of £4/17/6 per cent, this range being typical of the wide spread of rates paid by dealers during the year.

During 1960/61, the market showed an ability to adapt itself to changing conditions in the economy in a manner that is promising for its future development. Furthermore, the greater degree of participation in the market by private lenders is indicative of its increasing acceptance as an avenue for investment of temporarily idle short term funds. It is also noteworthy that, apart from the broadening of the extent of its operations in this field, the market has been active in facilitating a large volume of transactions in short term Commonwealth Government securities.

Exchange Control

The year 1960/61 was mainly one of consolidation and review in Exchange Control matters, and the policy applying at the outset has been continued in force. Under this policy, current payments may be made without restriction under wide discretionary powers given to trading banks, but some supervision is maintained by the Exchange Control to guard against capital transfers taking place under the guise of current transactions. For the same reason, close supervision is maintained over the receipt of proceeds of exports.

A technical change during the year in the prescribed methods of payment had the effect of extending the methods of payment which exporters may, without special reference to the Exchange Control, accept for exports to points outside the Sterling Area to include any currency which can be sold for External Sterling.

In the capital field the Government's policy continues to be one of encouragement of overseas investment in Australia, particularly where it is of a kind likely to help in the balanced development of Australia's resources and brings with it the skills and “know-how” needed for the successful fulfilment of the project in which the investment is made. The view earlier expressed by the Government that, although no rules are laid down, it is desirable for overseas investment to be accompanied by Australian participation in ownership and management, appears to have exercised some influence, and during the year several important overseas owned companies have taken in some Australian capital and had their shares listed on local stock exchanges.

Overseas capital has continued to flow inward in significant amounts and dealings in Australian securities by overseas residents have reached a relatively high level.

The Exchange Control has been examining carefully the acceptance by Australian residents of obligations in respect of funds borrowed abroad. It is, for example, considered undesirable for borrowings to be made at very high rates of interest or for speculative purposes.

There has been no change in the long standing policy on capital repatriation. Approval has been granted for the repatriation of capital by overseas residents where this has been sought.

Foreign Exchange

The foreign exchange operations of the Reserve Bank comprise chiefly dealings with banks in sterling and U.S. and Canadian dollars, and transactions with or on behalf of the Commonwealth and State Governments. In the latter category are included transactions with international organisations, resulting from Australia's membership of these bodies.

Dealings in sterling with banks are those associated with mobilization arrangements, in terms of which banks settle with the Reserve Bank at regular intervals for the English currency equivalent of their net receipts or payments in all foreign currencies except U.S. and Canadian dollars. During 1960/61 total settlement transactions amounted to £Eng. 299 million, compared with £Eng. 202 million in 1959/60. Spot and forward dollar transactions with banks, effected under the Reserve Bank's market facilities, totalled the equivalent of U.S. $417 million during the year. The comparable figure in 1959/60 was U.S. $291 million.

Transfers to various countries equivalent to £Eng. 75 million were arranged during the year for the Commonwealth and State Governments. Purchases from Governments included the foreign currency proceeds of loans raised by the Commonwealth in the U.S.A., Canada and Switzerland. The foreign currencies drawn from the International Monetary Fund in April were also taken into the Reserve Bank's overseas balances.