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POSTWAR ECONOMIC POLICY AND PLANNING
HEARINGS
BEFORE THE
SPECIAL COMMITTEE ON POSTWAR ECONOMIC
POLICY AND PLANNING
HOUSE OF EEPBESENTATIVES
SEVENTY-NINTH CONGRESS
riEST AND SECOND SESSIONS
PURSUANT TO
H. Res. 60
A RESOLUTION CREATING A SPECIAL COMMITTEE ON
POSTWAR ECONOMIC POLICY AND PLANNING
PART 8
APRIL 24, 26, 27, MAY 31, 1945
FINANCIAL PROBLEMS OF THE TRANSITIONAL PERIOD
Printed for the use of the Special Committee on Postwar
Economic Policy and Planning
UNITED STATES
GOVERNMENT PRINTING OFFICE
99579 WASHINGTON : 1947
f^^///>-^
y. S. SUP^lNl'ENOENT OF DOCUiALNi^
FEB 8 1947
SPECIAL COMMITTEE ON POSTWAR ECONOMIC POLICY AND
PLANNING
WILLIAM M. COLMER, Mississippi, Chairman
J ERE COOPER, Tennessee CHARLES L. GIFFORD, Massacliusetts
FRANCIS E. WALTER, Pennsylvania B. CARROLL REECB, Tennessee
ORVILLE ZIMMERMAN, Missouri RICHARD J. WELCH, California
JERRY VOORHIS, California CHARLES A. WOLVERTON, New Jersey
JOHN R. MURDOCH, Arizona CLIFFORD R. HOPE, Kansas
WALTER A. LYNCH, New York JESSE P. WOLCOTT, Michigan
THOMAS J. O'BRIEN, Illinois JAY LkFEVRE, New York
JOHN E. FOGARTY, Rhode Island SID SIMPSON, Illinois
EUGENE WORLEY, Texas
Marion B. Folsom, Director
C. A. SiENKiEwicz, Consultant A. D. H. Kaplan, Consultant
Eknest J. HOPKINS, Consultant Henry B. Arthur, Consultant
Winifred G. Osborne, Clerk
ScsAN A. Taylor, Secretary
II
CONTENTS
Page,
llegulatory obstacles to Security Investment, by C. A. Sienkiewicz, con-
sultant 2375
Statement of —
Fennelly, John F., chairman, Small Business Committee of the In-
vestment Bankers Association of America 2381
Draper, Ernest G., member, Board of Governors, Federal Reserve
System 24 13
Folger, John Clifford, president, Investment Bankers Association of
America, Inc 22 19
Steinmetz, J. Wilson, banker, Philadelphia, Pa 2429
Schram, Emil, president, New York Stock Exchange 2439
Hanes, Robert M., president, Wachovia Bank & Trust Co., Winston-
Salem, N. C; and chairman, Post-War Small Business Credit Com-
mission, American Bankers Association 2457
F. Eberstadt 2469
EXHIBITS
Intro-
duced
at page
Appears
on page
1. Supplemental statement filed with the Colmer Committee
on Postwar Economic Planning and Policy by Ernest G.
Draper
2. Foreword to report on conferences with the SEC and Invest-
ment Bankers Association of America
3. Proposals of Ferdinand Eberstadt for amendment of the
Securities Act of 1933
4. Supplementary material submitted by Ferdinand Eberstadt.
5. A specific program for municipal finance during the war and
in the postwar years
2418
2442
2478
2489
2498
2508
2514
2518
III
POSTWAR ECONOMIC POLICY AND PUNNING
REGULATORY OBSTACLES TO SECURITY INVESTMENT
By C. A. SiENKiEWicz, Consultant
A Summary of Testimony, Discussion and Findings
Congress in 1933 enacted the Securities Act and in 1934 the Securi-
ties Exchange Act. subjecting tlie processes of public sale of new and
outstanding securities, with certain exceptions, to regulation by the
Federal Government. "Truth in securities'' has been the underlying-
objective that prompted the passage of these acts. The primary pur-
pose has been to eliminate the abuses that had developed in the securi-
ties market over the years and to provide dependable sources of in-
formation for the investor.
The connnittee held hearings to determine whether the application
and administration of the provisions of these acts by the Securities
and Exchange Commission have been consistent with the intent and
princi])les of the legislation. Witnesses ^ at these hearings emphasized
the fundamentals of the law and the importance of the regulatory
processes designed to promote high standards and equitable practices
in the securities market. But at the same time they pointed out that
certain rules and regulations have gone beyond the original intent
and underlying philosophy of the legislation and have become need-
lessly restrictive to the flow of capital for commercial and industrial
purposes. In their opinion the Congress should reexamine the acts
in view of changed conditions brought about by the war and subse-
quent readjustment.
These witnesses offered in evidence samples of huge and unwieldy
prospectuses, which few investors could be expected to read and under-
stand even in their own protection. These samples served to drama-
tize the tale of restrictive and unnecessary over-regulation. The
cost of such prospectuses for paper and printing alone is high, apart
from the intensive research, accounting and legal work involved, for
which the issuing business must pay. Long correspondence and dis-
cussions among underwriters, security dealers, lawyers, auditors, the
issuing businesses, and the Securities and Exchange Commission;
repeated trips to Philadelphia to consult the Commission ; arguments
on doubtful points, revisions and re-revisions of the prospectuses;
and over all the uncertainty as to the effective date, the state of the
market on that date, and the legality of disseminating descriptive
information prior to the effective date — these were also cited as exam-
1 Hearings : Testimouy of John Clifford Folj-'tr, April 26, 1945 ; of Emil Schram. April
27, 1945 ; statement filed by Ferdinand Eberstadt.
2375
2376 POSTWAR ECONOMIC POLICY AND PL AX XI Xt!.
pies of ineticuloiis and costly method of policing by the Federal Gov-
ernment of new security offerings.
The elaborate and highly technical registration statements now
filed and the prospectuses now printed for distribution to the investor
are such, all witnesses asserted, as to defeat the })urpose of the law.
In trying to read and understand this mass of material, the ordinary
investor is baffled and must lean more and more on the investment
counselor, a paid translating and interpreting service which the large
investor can afford to patronize but the small investor often cannot.
However unintentional, the methods and requirements that have been
developed over the years apparently have resulted in undue annoy-
ances, burdensome expenses, and discouragement of the wide distri-
bution of securities among individual investors.
The process of security regulation
The process of security regulation is a complex one. In order to
make a public offering of an issue of securities subject to Federal
regulation, a registration statement, containing the required facts,
must be filed with the Securities and Exchange Commission. A
prospectus for circulation to investors must also be prepared. These
documents have two purposes: to enable the investor to inform him-
self and to create a public record as a basis foi" prosecution if mis-
information is disseminated in connection with the selling process.
It seems that early in its history the Commission adopted the policy
of giving guidance to the issuer and underwriter, so that statements
would contain all required information and be drawn in acceptable
form before being officially filed. Under this policy, which was
intended to he cooperative, the Commission issues questionnaire
forms, makes j^reliminary examination of the statements, and where
indicated issues a ''memorandum of deficiencies'' leading to amend-
ments and additional supporting documentation. More than one
"memorandum of deficiencies" may be issued. A statement or pros-
pectus thus may be returned for restudy and amendment again and
again, so that the development of an acceptable document has tended
to become a lengthy process, with a consequent rise in expense to the
issuing concern and. in turn, to the investor. Another obvious conse-
quence is a likely delay in placing the security on the market, which
involves a risk of changed conditions and affects the prospect of a
successful sale of the issue. If an enterprise has gone through this
process on a previous issue, the Commission nevertheless requires
that all information must be newly supplied since material already in
its files on that concern may be outdated. This requirement, while
possibly reflecting the fact that the position or condition of an enter-
prise may have changed, involves considerable repetition of data
previously filed.
After tlie material has been filed officially, there ensues a formal
waiting period; this was originally 20 days, but since the Securities
Act was amended in 1940, it has frequently been made shorter by the
Commission. This waiting period was intended by Congress to be an
interval during which prospective dealers and investors could inform
themselves about the securities. But the law provides that no "sale"
may he made during this period and ''sale" is defined in the act to
include ''everj^ contract of sale or disposition of, attempt or offer to
POSTWAR ECONOMIC POLICY AND PLANNING 2377
dispose of, or solicitation of an offer to buy." A practical situation is
thus presented whereby the mere explanation or appraisal of a
prospective issue by underwriters to the distributors, and by dealers to
their clients so nearly resembles a "sales talk" as to be likely to incur
legal penalties. Consequently, the very information that is supposed
to be spread during the waiting period cannot be so spread by those
who are best informed without fear of infringing upon the law
forbidding "sales."
Just before the end of the waiting period, amendments are filed
containing price and other information that cannot be determined
until the last moment. If an additional amendment is required,
further postponement may ensue though this is not usual in practice.
The final prosj^ectus then is printed. It must be delivered to the
Conunission in connection with each sale made during the ensuing
12-month period, whether a first sale or a resale of the security, and
irrespective of the size of the sale. No summary giving the main facts
in brief form is now practicable because of the potential liabilities
involved.
The "''area of agreeTnenf''
At best this process of security regulation is both cumbersome and
costly — one that may easily defeat its own purpose unless prudently
administered. Much argimient has surrounded both the basic system
and its administration in the past; the documentation is formidable
and attitudes have tended to become cemented by the controversy. A
starting point toward adjustment and simplification of the S3^stem,
however, was reached before the war.
In 1940, when various proposals to amend the Securities Act of 1933
and the Securities Exchange Act of 1934 were before Congress,
extended conferences were held between investment banking and
dealer representatives on the one hand, and officials of the Securities
and Exchange Commission on the other. In all, 86 proposed amend-
ments were discussed and recorded in a 287-page volume issued by the
industry and in a 53-page report issued by the Securities and Exchange
Commission in 1941.
Agreement among the conferees was reached as to 35 proposals
applying to the Securities Act of 1933 and 20 applying to the Securities
Exchange Act of 1934. Some of the proposals would require amend-
ments to the act, others merely changes in the regulations. Condi-
tional agreement or only partial disagreement was reached as to some
additional proposals. Some of these proposals require legislative
action, while others may be handled through the regulatory powers
of the Commission. As to some important proposals, however, there
was failure to agree.
Of the proposals thus discussed in 1940 and 1941 only one has thus
far been adopted by Congress, namely, the recent amendment exempt-
ing security issues of less than $300,000 from registration but not
from liability for fraud and misrepresentation, nor from the require-
ment that certain information be filed, and, of course, not from State
regulation. Congressional consideration of the other proposals was
interrupted by the outbreak of the war. The area of agreement,
while it left many important differences of opinion unresolved, con-
2378 POSTWAR ECONOMIC POLICY AND PLANNING
stitutes a groundwork for remedial legislation designed to simplify
and otherwise improve the facilities for the flow of capital for com-
mercial and industrial purposes.
Sum/mary of projyosed adjustments
The committee has compiled a list of the more important unsolved
problems, including some proposals that are within the area of agree-
ment but not yet acted upon by Congress and others to which represen-
tatives of the SEC and of the investment banking industry apparently
did not agree in 1940 and 1941. The committee drew from a numl^er
of sources in compiling this list. It requested Mr. Ferdinand Eber-
stadt, investment banker, to submit a memorandum on unsolved
problems. It held hearings. Its staff discussed the issues with repre-
sentatives of the SEC and with investment bankers. The major
proposals advanced to the committee include :
(1) liaising the size of issues exempt from registration from $;300,()00
to $1,000,000. It is pointed out that this change would liberate risk
and investment capital to many small issuers, especially medium-
sized corporations, to whom the cost of the registration process is
unduly high.
i'l) Exempting from registration under the Securities Act of 1933
the issuance or sale of securities of companies which have already
registered under (a) the Securites Act of 1933, (&) the Securities
Exchange Act of 1934, (<?) the Public Utilities Holding Company Act
of 1935, and {d) the Investment Company Act of 1940; provided such
companies have kept their registration up to date by annual filing of
reports. This exemption would extend the principle adopted by the
Congress in 1933 with respect to issuers of railroad and national-
bank securities to other issuers of securities who, through the opera-
tion of other new Federal statutes, are now making disclosure of
all essential facts concerning their affairs through the medium of
registration statements and periodic reports. It is stated that this
would not only obviate the costly and unnecessary duplication in-
cident to dual registration but that it would also operate to enable
smaller investors to compete with large financial institutions for the
substantial volume of industrial issues which are now being distributed
through so-called private placement in consequence of a provision
of the act which exempts from registration sales by an issuer which
do not involve "any public offering." This in turn would make more
high-grade securities available to many smaller institutions and to
private investors and thus tend to decentralize ownership of the
securities of business and industry. It is further pointed out that the
proposed exemption would in no sense deprive the investor of adequate
safeguards.
(3) Making the last-minute filing of certain specific information
(usually the offering price, and information related thereto) auto-
matically and immediately effective without the approval of the Com-
mission. The purpose is to eliminate the final interval of time in
which the market may change. How essential it is for the Com-
mission to pass upon price information is the question involved.
(4) Eliminating the filing of business contracts as exhibits unless
they are genuinely material. As a general rule, contracts of issuers
are not required to be summarized in prospectuses, yet they must be
printed and filed with the registration statement, and the definitions
POSTWAR ECONOMIC POLICY AND PLANNING 2379
and interpretations of materiality are such as to require the inchision
of a vast mass of documents. Their vahie to the investor, who is
said seldom to consult these contracts, is questioned, and it is also
alleged that business competitors thus may obtain knowledge of an
enterprise's inner aifairs. The contracts, however, may become nec-
essary as a basis of prosecution or civil suit if misrepresentation as
to such contracts should occur, but presumably might be subpenaed if
such charges were brought.
(5) Abolishing schedule A in the Securities Act. This schedule
sets forth in considerable detail informational requirements which are
said not to be equally applicable to all types of enterprise. The re-
quirements may at times be waived, but it is pointed out that if the
Commission were free to determine the requirements for each separate
type of business on the basis of its experience, rigid standards that
do not fit particular business situations would be more generally
avoided.
(6) Amending the act to forbid the alleged tendency of the Com-
mission to establish uniform accounting procedures through indirect
pressures, though no authority to do so is granted by the law.
Whether uniform accounting is necessary to full disclosure is the issue
involved.
(7) Kegistering issues or parts of issues for future as well as for
immediate sale. This is advocated as a means to substantial saving
in expense and trouble. The Commission now forbids this practice
on the ground that the registration statement might be outdated by the
time the temporarily withheld securities are offered for sale. But this
point could be covered by the later filing of amendments to the
original prospectus.
(8) Amending the act to permit better dissemination of informa-
tion prior to the effective date. Several amendments are suggested
as actually conforming to the informational purpose of the waiting
period better than the existing provisions. Specific suggestions are :
(a) That underwriters be permitted to consult prospective dealers, to
furnish them with information in summary form, and to make tenta-
tive preliminai-y agreements as to the distribution process; (b) that
the making of offers be permitted on the basis of the prospectus after
its deficiencies have been corrected, but not the acceptance of such
offers; (c) that the use of a limited or summary prospectus be per-
mitted both before and after the effective date; (d) that prospectuses
be permitted to include graphs and illustrations, and to be drawn in
a readable rather than in an involved legal style; (e) that advance
advertisements, more detailed than the meaningless "tombstone ad-
vertisement," be permitted if previously inspected by the Commission ;
(/) that an underwriter or dealer who has participated in the dis-
tribution of an issue registered ^under the 1933 act not be required to
use a final prospectus in connection with sales made after he has com-
pleted distribution of the securities underwritten by him or obtained
through his selling group participation; (g) that the necessity for
sending or giving an additional final prospectus to an3^ person who
has already received one from any source relating to the securities
sold to him be eliminated.
(9) Removing the legal uncertainty as to whether the underwriters'
liability applies to investment trusts and other investors who purchase
securities with the intent of holding them, but resell them after a time.
2380 POSTWAR ECONOMIC POLICY AND PLANNING
(10) Requiring a certain proportion of the Commission's members
to be persons with substantial experience in the securities business.
This could be accomplished by enlargement of the Commission. Such
enlargement also would enable proposed issues to be more promptly
cleared.
(11) Amending section 12 (2) so that its liability provision relating
to outstanding securities would conform in general to the provisions
contained in section 18 of the 193-t act. It is pointed out that this
would make more practicable the dissemination by dealers of more
information about outstanding securities tlian is nov\^ practicable in
view of the liabilities involved.
(12) Taking measures to simplify the registration procedure. This
appears to be a matter for administrative action ratlier than for stat-
utory change. It is believed that reform here should be accomplished
by a review of all of the registration forms, questionnaires, and other
documents employed by the Commission having as its purpose the
elimination of questions requiring the submission of material which
is not necessary for the information of investors.
COMMENTS AXD RECOMMENDATIONS
It appears that an essential regulatory f miction of the Government
lias become to some extent obstructive of the channels through which
the public may invest its funds in the corporate business and industry
of the Xation. Because of the many implications of this situation to
the successful functioning of our economy, it is believed that appro-
priate action should be taken, to the extent practicable and consistent
with proper safeguards foi- the public and investors, to remove the
existing obstacles to the orderly flow of capital to meet commercial
and industrial requirements.
The obvious remedy necessitates, first of all, the sound amendment
of the basic statutes, a complex and difficult job at best. But a good
beginning was made in 1040 and 1941. as the result of the conferences
between the industr}^ and the Commission. It w^ould seem that the
time is ripe for a review of the proposals, conclusions, and agreements
reached at that time and for the conclusion of that work.
It is accordingly recommended :
(1) That this part of the committee's study, together with the
record of the hearina;s on this subject, be referred to the appropriate
committees of the Senate and House of Representatives for their
information and consideration ;
(2) That such committees consider, at the earliest practicable date,
the more immediate and important unresolved problems listed in this
summary with a view to arriving at appropriate solutions through
legislative action where necessary ; and
(3) That as soon thereafter as possible all of the remaining pro-
posals made in 1940-41 as a result of various conferences between
investment banking and dealer representatives, and officials of the
Commission, as well as any new ones which may be developed in the
interim, be reviewed for the purpose of seeking and taking such reme-
dial legislative action as the Congress may deem necessary.
POSTWAE ECONOMIC POLICY AND PLANNING
TUESDAY, APBIL 24, 1945
House of Representatives,
Special Committee on Postwar
Economic Policy and Planning,
Washington^ D. C.
The special committee met, pursuant to adjournment, at 10 : 15 a. m.,
in room 1012, New House Office Building, Hon. William M. Colmer
(chairman) presiding.
Present: Representatives Colmer (chairman), Voorhis, Murdock,
Gifforcl, Reece, Welch, LeFevre, and Simpson.
Also present: M. B. Folsom, staff director.
The Chairman. The committee will come to order.
STATEMENT OF JOHN F. FENNELLY, CHAIRMAN, SMALL BUSINESS
COMMITTEE OF THE INVESTMENT BANKERS ASSOCIATION OF
AMERICA
The Chairman. We are glad to have Mr. John F. Fennelly with us
this morning. Mr. Fennelly needs no introduction to this committee.
We recall very pleasantly the profitable work he has been doing with
the CED and its other forward-looking committees who are working
on the postwar problems.
INIr. Fennelly, we are glad to have you here this morning, sir. You
may use the time as you see fit. If you have a prepared statement, we
will be glad to hear it. At the conclusion of your statement, I am
sure there will be some questions that we desire to ask you.
Mr. Fennelly. Thank you, Mr. Chairman. I consider it a great
privilege to testify here today on the problems of the postwar financing
needs of business. It is a subject that I have been giving intensive
study to for some time, first, as you mentioned, as Director of CED,
and as an individual investment banker, and most recently as chair-
man of a special committee of the Investment Bankers' Association of
America, set up to study postwar financing needs of business, with
particular reference to the needs of small business.
Now, Mr. Folsom was kind enough to give me some questions around
which he thought I should organize my remarks of this morning, and
I propose to follow them in a general way.
The first question that he asked was what type of financing may be
needed — equity, long-term borrowed capital, medium- or short-term
credit.
Mr. Chairman, as an investment banker, I am concerned with the
problems of long-term capital, either in the form of long-term bor-
2381
2382 POSTWAR ECONOMIC POLICY AND PLANNING
rowed capital or equity capital, and I think it will be appropriate if
I confined my remarks to those fields, leaving the problems of short-
term credit to those more capable of discussing them. When it comes
to the question of what kinds of long-term capital are going to be
needed, I think the only answer that can be given is all types.
One thing I am convinced of is that the demand for capital for busi-
ness in this country is going to be very great. It is obvious that it
must be large if we are going to attain a very high level of employ-
ment after the war. That is one way of approaching the subject,
because it is perfectly clear that even with our war expansion we won't
have the capital and facilities — plant and facilities and working-
capital — to carry on such a high-level economy unless there is actual
investment of substantial amounts of capital.
Another way of aproaching it, which is more convincing to me, is
through the experience of traveling around the country and talking
with many hundreds of businessmen as I have during the course of
the last 2 3^ears, and I have become convinced — really astonished — at
the degree to which business in this country is making postwar plans
for a period of great expansion. Everywhere I go I am really aston-
ished to see the progress that has been made in thinking and planning
for an expanded economy. I think I could put it by saying that it
seems to me business is literally straining at the leash to go ahead
as soon as it get the green light.
Now, obviouly, it can do no more today, and should do no more,
than make plans; but I want to assure this committee that it is tre-
mendously impressive to go around the country and see the extent to
which business is planning for an expanded economy.
Obviously, also, you can't expect that expansion to go ahead unless
there is at least a moderately favorable climate of national policy. I
don't want to belabor that point too nuich. I know it has been made
before the committee many times. I do want to mention three things
that seem to me to be fundamental if business is to go ahead and carry
out the plans that it now has made.
One, a sound revision of a tax system. I don't even propose to
mention that in detail today. I think that is obvious to all the mem-
bers of the committee, as it is to everybody in business today.
Second, a detail that hasn't been mentioned I think nearly as much
as it should have been is an intelligent handling of the public debt.
I don't mean just a cessation of the growth of public debt after the
war which, naturally, all of us hope is to be achieved at as early date
as possible, but I mean actual sound handling in the funding opera-
tions of the debt, so that business will have confidence that it has a
stable base upon which to operate.
Third, I would stress avoidance of governmental guaranty of em-
ployment. I think that paradoxically enough that if business is to
do its full share in providing a satisfactorily high level of employ-
ment, one of the things that could be most certain to prevent it from
going ahead with its expansion plans would be an over-all guaranty by
the Government of full employment.
The Chairman, Pardon me. would you repeat that last statement,
please ?
Mr. Fennelly. I said that I think the surest way to check the
present enthusiasm of business to go ahead would be a governmental
guaranty of full employment.
POSTWAR ECONOMIC POLICY AND PLANNING 2383
The Chairman. I just wanted to be sure.
Mr. Fennelly. Now, to get down again to somewhat more specific
details, it does seem to me that of the various types of financing needed
by business, the most important one is equity capital and the need will
be for equity capital both on a large scale and for small business. Fa-
cilities available for debt financing are today tremendous. All the
institutions of saving are bulging with funds to take care of long-term
loans. Also, the tax system for the last 10 years has more and more
favored debt financing rather than equity financing, and it seems to
me the greatest emphasis from many different points of view should
be on equity financing to the greatest possibly extent in the postwar
period.
Now, as our institutional structure is set up today, that means con-
siderable reliance, very heavy reliance, on the individual investor
rather than on institutional investors because there are very few in-
stitutional investing organizations, relative to the total amount of
capital available, that are set up to handle equity funds. I am not
greatly concerned about that because it seems to me that we are going
into a period where the individual has and will have substantial sums
to invest, and it seems to me largely a matter of reaching him, in other
words, finding the capital in tlie hands of individuals through proper
distribution procedure in order to reach that source of equity funds.
Now, the next question that INIr. Folsom put to me was. What fa-
cilities are available to i)rovide the needed financing? There are
some that are innnediately obvious. In the first place, there is the
investment banking machinery today that is at the present time in a
state of vigorous health. That machinery, it should be clearly under-
stood, is not an investing machinery. It is a distribution machinery.
I will come back to that again in my discussion later, but the mistake
is often made in thinking that the investment banker is an investor as
such. He is not. He is a merchant of securities, a channel through
which securities are passed from the issuing companies to the ultimate
investors.
Turning to the ultimate investors, I repeat that we have a situation
with tremendous resources and capital funds in institutional hands
which are readily available to make high-grade investments, I think
soniewhat unfortunately — although I Wouldn't want to stress the
point too much — confined to the purchase of evidences of debt rather
than of equities.
That is a complex problem, and I don't care to attempt to pass
judgment on it.
I have already spoken of the rebirth of the individual investor who,
I am sure, will be glad to come into the market and buy equities in
very substantial amounts, provided he has a tax structure after the
war that gives him some confidence that the purchase of equities and
the taking of risks is a wortli-while operation, which it is not today.
Now, I have seen a great many estimates of what the volume of
postwar financing may be. I don''t feel competent— I, frankly, don't
think anybody is— to make any intelligent guesses as to what it will
be. I think it will be vastly greater than it was during the period
of the thirties, and I am inclined to think that it will be even greater
than it was during the period of the twenties.
2384 POSTWAR ECONOMIC POLICY AND PLANNING
I kiiow that there are many economists that take the position that
they are very much afraid that the proper amount of investment
won't be forthcoming for a high level of economy of — let's say —
30 to 40 percent above the prewar level. These propliets of stagnation,
as I think they should be called, it seems to me, are putting the cart
before the horse. I am convinced that if we do get a satisfactory
economic climate, if business is given an opportunity to go ahead,
the problem will be rather the reverse, one of finding the funds needed
to meet the investment opportunity rather than a fear that the in-
vestment funds won't be avnilable to meet the opportunity.
The nex question I have been asked to answer by Mr. Folsom is:
What do 3^ou anticipate as tlie princii)al difliculty in providing the
needed financing for business in tlie transitional and early postwar
period ?
I have studied that question a good- deal, and I don't see — with one
exception that I propose to come to, and that is in the area of small
. business — that there are any special difficulties that appear today
in the capital market.
All the larger companies that have legitimate claims for financing
are getting it with the greatest of ease. In fact, the otlier day the
SEC expressed some fear that a great many highly speculative secu-
rities Avere being issued and readily absorbed by the public, that they
felt should be questioned and the public should know they were of
a highly speculative kind.
To a degree, that is obviously a very healthy thing. We do want
capital to flow and people to be inspired again to take risks. I think
it is important that the SEC should put out warnings that such
securities are not guaranteed or approved by the SEC and are highly
speculative, but I mention that only to say that the general atmosphere
on the part of the investing public and on the part of the institutional
investors seems highly favorable to an active supply of capital to
meet the demands.
Now, that is all said with one qualification, which brings me to the
next point I want to make, the major part of my statement today.
In studying these facilities for channeling funds from the ultimate
investing public, we in the Investment Bankers Association have
become convinced that there is a real gap in the machinery and that
that real gap comes in connection with the ability to provide the
needed capital, long-term capital and equity capital, for small business
of this country.
In an attempt to come to grips with that problem, as I said at the
outset, I have been serving as chairman of a special committee of
IB A that has been studying the problem for the last several months.
As a result of our study we have evolved a plan which we believe is
sound and constructive for providing capital for small business in
the postwar period.
I should like to take the liberty here before this committee of mak-
ing the first public presentation of this plan, Mr. Chairman. It is a
plan that has been unanimously approved by this special committee,
has gone before the board of governors of the Investment Bankers
Association, and has been unanimously approved there, and with your
~ permission I would like to high light that plan, because Ave are con-
POSTWAR ECONOMIC POLICY AND PLANNING 2385
vinced that it is the one important gap that exists today in the financ-
ing machinery for providing the needed capital for business after the
war.
The Chairman. We will be glad to hear you.
Mr. Fennelly. The plan is as follows :
Capital for Small Business
SUMMARY or CONCLUSIONS
I. Despite the scarcity of statistical evidence, we are convinced that
small business in the United States is likely to face serious difficulties
after the war in obtaining the capital which it will need for reconver-
sion and postwar operations. We are also convinced that unless pri-
vate business in cooperatioii with Govei-nment can find a satisfactory
answer to this problem, some solution vv-ill be forced on the Govern-
ment which will be both unsatisfactory and dangerous to private
enterprise.
II. The problem with which this report is concerned is that of long-
term and equity capital and not that of short-term capital. Com-
mercial bank credit should not be considered as a source of permanent
capital for business. Such distortion of the proper function of bank
credit would be certain to produce disastrous results for the bor-
rowers, for the lenders, and for the national economy as a whole.
III. Capital issues in amounts of less than $100,000 cover the over-
whelming proportion of the needs for outside capital on the part of •
small business under any reasonable definition of the latter term.
IV. As a general rule,* the existing investment banking machinery
does not, and cannot be expected to, handle capital issues in such small
amounts. No other institutional machinery is now in existence to
fill this gap.
V. The growing weight of Federal taxation on business has made
it exceedingly difficult for small enterprises to provide for their capi-
tal requirements out of accumulated earnings. At the same time, the
extremely heavy burdens of personal income and estate taxation have
made wealthy individuals very reluctant to invest in the securities of
small and risky businesses.
VI. Although prompt and drastic revision of the Federal tax system
after the war is essential for American business, both small and large,
we doubt that such changes will come soon enough to meet the needs
of small business, and we fear that tax reform alone may not be
adequate.
VII. Any satisfactory solution of this problem must be predicated
upon the following basic facts :
(«) Capital for small business is essentially risk capital, regardless
of the form it may take. The providers of such capital, therefore,
must be given returns commensurate with the risks incurred.
(h) The success of any small business depends almost wholly upon
the managerial ability of one or two individuals. An accurate evalu-
ation of such managerial ability can only be made by direct and per-
sonal acquaintance with the individuals concerned.
VIII. No centralized national authority, however competent, can
properly handle this problem. Most unsuited of all is the Federal
2386 POSTWAR ECONOMIC POLICY AND PLANNING
Government, because, by its very nature as a political organization,
it cannot discriminate objectively among management risks.
IX. We are strongly opposed to any schemes which would attempt
to solve this problem after the war by means of direct Government
loans, Government guaranties, or insurance plans based upon Govern-
ment credit. We are convinced that all such schemes are not only
unworkable but also would constitute a major threat to the system of
private enterprise in the United States.
X. The situation calls for the creation of new institutional machin-
ery in the form of a system of decentralized investment funds under
the management of local businessmen, who are the only persons well
qualified to evaluate the merits of small local enterprises.
XI. The generally unsatisfactory record of comnumity investment
funds in the past presents serious ol3stacles to any attempt to establish
by voluntary action a Nation-wide system of this kind with sufficient
speed and with sufficient scope to meet the emergency. To overcome
these obstacles, the proposed system will require national legislation
to stimulate prompt and effective local action.
RECOM3IENDATIOXS
As one logical way of attaining this objective, we propose the enact-
ment of Federal legislation which would authorize the establishment
under private management of local investment companies to provide
capital for small business in accordance with the following terms:
I. The Board of Governors of the Federal Reserve System would
be given authority to grant charters to investment companies to oper-
ate within any one of the several Federal Reserve districts. Cliarters
would be granted only upon applications made through the Federal
Reserve bank of the district in which the investment company pro-
posed to operate. Each such company would be required to have
not less than $25,000 of subscribed and paid-in cajntal, and each Fed-
eral Reserve bank would investigate and report to the Board the
qualifications of the board of directors and management of the pro-
posed company and the need for such a fund in the territory in Avhicli
the company proposed to operate.
II. A chartered investment company would be authorized to pur-
chase for investment or resale mortgage bonds, debentures, preferred
and common stocks of corporations located within the Federal Re-
serve district, and to make loans to unincorporated businesses. The
amount of such loans made to, or securities purchased at any one time
from, a single issuer would be limited to $100,000.
We think that limitation is important in order to make it clear that
this is for the financing of small business and not for the financing of
large business.
III. The Federal Reserve bank of the district in which an invest-
ment company is chartered would be obligated to purchase at any
time within 5 years thereafter debentures of the company up to an
amount equal to three times its paid-in capital. For example, a char-
tered company with $250,000 of paid-in capital could sell $750,000
of its debentures to the Federal Reserve bank, thus giving the com-
pany $1,000,000 of funds with which to operate.
POSTWAR ECONOMIC POLICY AND PLANNING 2387
No Fedei'al Reserve bank \yould be required to purchase such de-
bentures if the ai2;gregate of such Federal Reserve bank's purchases
equaled or exceeded the amount originally advanced by it for stock
of the Federal Deposit Insurance Corporation. Funds heretofore
paid to the several Federal Reserve banks by the Secretary of the
Treasury under the provisions of section 13B of the Federal Reserve
Act would be returned to the Secretary of the Treasury. These, to-
gether with the funds now held by the Secretar}^ of the Treasury and
carried on the books of the Treasury under the title "Payments to
Federal Reserve Banks for Industrial Loans — Section 13B, Federal
Reserve Act, as Amended,'' would be made available for the purchase
of debentures upon the order of the Board as and when charters were
granted. All stock of the Federal Deposit Insurance Corporation
would be transferred to the United States and the existing provisions
of section 13B of the Federal Reserve Act v/ould be repealed. In this
manner, funds aggregating approximately $139,000,000 would be
made available to the Federal Reserve banks for the purchase of
debentures.
I want to stop briefly to point out that this procedure is proposed —
I know it has been proposed in other bills such as the Wagner-Spence
bill — as a way of making a substantial sum of money available for
capital to small business without the necessity of a special appropria-
tion by the Congress.
Now, we do not say that this would be adequate to the task. We
frankly don't know. We certainly believe that it would be a very
substantial sum that can be made easily available to the Federal Re-
serve banks for this purpose. I think if the funds were entirely used,
it would then be up to the Congress to reexamine the matter and see
whether additional funds are needed. [Continuing:]
IV. The debentures would mature in 25 years and would carry an
interest rate fixed at some moderate differential above the Federal
Reserve rediscount rate. As long as any debentures were outstand-
ing, the investment company could not incur any other indebtedness
except that secured by the pledge of United States Government
obligations.
Each Federal Reserve bank would be authorized to make periodic
examinations of the books of account of the investment companies
chartered within its district as long as it held debentures of such
companies.
I would ask you to follow carefully the next point, because I think
it is really the heart of this proposal. [Continuing:]
V. The capital stock of the investment company would be divided
into two classes : Class A shares and class B shares. The class A shares
would be issued to the subscribers of the paid-in capital of the
company.
That is the local businessmen that put up the original equity capital
for the company. [Continuing:]
The class B shares would be issued, in accordance with the terms set
forth in section VI below, to the business concerns which obtained
capital funds from the investment company.
I would like to point out that we have followed the pattern that was
established in setting up the Federal Land banks. [Continuing:]
99579— 46— pt. S 2
23SS POSTWAR ECOXOMIC POLICY AXD PLAXXIXG
Both classes of capital stock would be entitled to receive dividends
at the same rate out of net earnings from operations. Thus, if at any
time the company de<.'lared a dividend vni the class A shares it v^ould be
ivi^uired to declaiv a dividend on the class B shares at ihe same rate.
The company ayouKI have the riirht. hoAvever. to use all or any part
of its net earnings not paid out in dividends to redeem class B shares
at their par value and to purchase such shares in the market at prices
not in excess of par. If at any time the company had no class B shares
outstanding, all net earnings would be available for the payment of
dividends on the class A shares without restriction as to rate.
In liquidation, the class A shares would be paid olT first at their full
par value. Assets available after provision for the retirement of Class
A shaivs would then be used to pay off the class B shares up to their
full par value. Any excess assets beyond this amoimt woidd accrue
to class A shareholders.
YI. TMienever a loan was made or securities purchased, the invest-
ment company could require the borrowing or issuing company to
employ up to 10 peix^ent of the cash proceeds of the transaction in the
purchase of class B shares. In other words, a business enterprise
which sold ^CiO.sXX) of its pi-eferivd or common stock to the investment
company could l^ required to purchase up to S5.000 of the investment
company's class B shares. The actual amount of shares so purchased,
within the 10 percent lir.iitation. Wv uld depend upon the investment
company's evaluation of the risk, and also upon bargaining between
the two parties.
By this cooperative device the issumg company, the company that
bori-owed the money or sold its securities would in effect be paying
an insurance premium to cover the risk of the transaction. In return
for this payment it would be entitled to a participation in the earnings
of the investment company and an eventual retvun of its investment as
a whole or m part to the extent that losses incurred in the business did
not eliminate the equity of the class B shareholders. On the other
hand, the issuance of class B shares would provide a cushion against
future losses to protect the invested capital of the class A shareholdei^.
YJI. Small businesses usually have a need for expert management
advice and other teclinical assistance at least equal to theii- actual need
for capital. The investment companies, therefore, should be author-
ized to render such services to tlieir busmen clients and to charge
moilentte fees for such services. A great opportmiity exists for rais-
ing the level of small business management, and the cost of such expert
assistance should be borne by those that benefit therefi-om.
VIII. The charter should probably include the following miscel-
laneous provisions :
ia) Directors should serve without compensation.
That has been questioned to me by many people. However, onr
committee all agreed that the directocs should approach this thing
as a matter of public service and they should be asked to serve without
compensation.
ih) Compensation paid to the permanent staff of the investment
company should be adequate to attract superior ability, but should be
subjeor to the approval of the Federal Reserve bank.
Although not suggested as a chaiter provision, we believe that the
managements of the proposed investment companies should make
POSTWAR ECOXOMIC POLICY AND PLANNING 2389
every effort to employ their capital as revolving funds rather than
for permanent liolding of the necurities purchased. In other words,
as soon as an issue has matured enough for refinajicing or dispr^sal to
the public, the investment company should endeavor to sell it to peirna-
nent investors and thus release its capital for further operations.
IX. We believe that the plan outlined alxjve would provide ample
incentive for prompt and effective action in communities all over the
country. On tlie one hand, the Iwal investment companies would have
the right to borrow on attractive ternts from their Federal Kei^rve
bank and would have considerable protection agairtst losses b}' the
cushion created through the issuance of class B shares. These two
features should make the establishment of such investment companies
a reasonably s^jund basiness proposition, although we Ijelieve that
civic pride in the communities will furnish a greater driving f^ '^-f-
than the profit possibilities.
On the other hand, the devi«?e of class B shares should give a--ui -
ance to small businessmen that their capital lsstk^j will not be loaded
with excessive costs. First, they will participate equitably in any
excess earnings of the investment company, and second, they will have
an opportunity to recover part or all of their investment insofar as the
loss experience of the investment cornfjany proves satisf^i/ t'^-r^'.
THE SETriNG OF THE PEOBLEsi
The problems of small basiness in the United States have berrome a
matter of major concern during the past few year^:. Almr^t universal
agreement exists that the health of STnall-scale -e — the oppor-
tunity for every American to establish his own - and the main-
tenance of economic conditioris which will permit such businesses to
grow and prosper — is essential to the preservation of our free society.
The objective is easy to state, but findjng the proper answers to some
of the questions is a very different matter.
In the forefront of small business problems today is the question
of how best to assure a steady and adequate flow of long-term and
equity capital to small business enterprise. The importance of this
problem for the national economy is shown clearly by a few simple
statistics. Thus, we know that there are approximately 2,0«yj,0«X>
business employers in the United States. Of these 2.«»J.'>X* separata
business establishments, only about 3^300 employ more than 1,000
workers each: some 85.000 employ from I'Xi to 1,</X»; while the balance
of about 1,9.50,0C»0 employ less than 10< J workei^s eaclL This last group
of relatively .small biLsinesses accounts in the aggregate for about 45
percent of the total business employment in t?ie United States.
This report is concerned solely with the problem of long-term and
permanent capital for small business, and not with that of short-
term credit. Much confiLsion exists in the public mind today as to
the dilferenc-e between permanent capital and bank credit, and there
is serious danger that undue pressure may be exerted upon the com-
mercial banks to provide permanent capital for small biLsines- instead
of restricting themselv^ to legitimate short-term and intenaediate
credit needs. Such a distortion of the proper fimctions of bank
credit would be certain to produce disa-^rous results for the borrowers,
for The lender-, and for the national f^oTiOUt^ •:*- m ivhoV
2390 POSTWAR ECONOMIC POLICY AND PLANNING
We are convinced that the basic financial problem of small business
is that of permanent capital rather than that of short-term credit.
An ample supply of credit is available for businesses which have
adequate capital, but it is very difficult for a bank to extend credit
lo a business with inadequate permanent capital.
In order to simplify our analysis we have deliberately limited our
study to the field of capital issues in amounts of less than $10<J,00().
Although admittedly a somewhat arbitrary dividing line, this figure
does seem to be generally in accord with the economic facts. It is
clear that very few of the nearly 2,000.000 small business employers
have capital requirements in excess of $100,000. Moreover, larger
capital issues of businesses with reasonably satisfactory records and
promising futures can usually find a market through the established
investment banking channels. We may safely conclude, therefore,
that the problem of capital for small business and for most new" busi-
nesses is that of finding satisfactorv outlets for security issues of less
than $100,000.
THE FOG SURROUNDING TilE PROBLEM
A major obstacle to any analysis of the capital needs of small busi-
ness is the inadequacy of the available statistical data. Although
many volumes have been written on the subject, and reams of congres-
sional testimony taken, very little conci-ete evidence exists as to
v.hether or not small business is suffering from a shortage of capital.
The available evidence is both inconclusive and contradictory. For
example, a recent survey has been made by the National Industrial
Conference Board of working capital ratios of 125 small and large
businesses. This analysis showed somewhat alarmingly lovv^ work-
ing capital ratios for the small businesses studied in relation to those
of the larger units. On the other hand. Dr. A. D. H. Kaplan, of the
Committee for Economic Development, recently conducted a field
investigation of several hundred firms to determine how small busi-
ness managements feel about their own capital needs. He reports a
very negative response, very few of the businessmen interviewed be-
ing willing to admit that they have any serious capital problems. Dr.
Kaplan agrees, however, that these answers cannot be taken too
seriously because the absence of capital needs under wartime condi-
tions is not necessarily relevant to what the situation may be ^^'hen our
economy is faced with the problems of converting to peacetime condi-
tions of demand and supply.
Another important difficulty arises from the political prominence
now given to the plight of small business. Except, perhaps, for the
war veteran, the small businessman is providing the most ])opular
political slogan of the day. Much of this agitation imdoubtedly
arises from a sincere belief in the vital importance of small business
for the preservation of our private enterprise system, but much of it
is clearly spurious. On the one hand, we are witnessing the inevitable
tendency of an entrenched bureaucracy to perpetuate itself in the
eiforts of the smaller war plants organization to continue after the
Avar as a permanent peacetime institution. On the other hand, there
is evidence that some, who do not really believe in private enterprise,
are attempting to use this oportimity to drive a permanent wedge
POSTWAR ECONOMIC POLICY AND PLANNING 2391
between small and large bnsiness and thus make easier the transition
to a centrally planned economy.
In the absence of positive statistical evidence, and in the face of such
political pressures, the easiest course for a business group would be
to oppose action of any kind. Such a negative attitude, how^ever,
would be extremely shott-sighted and stupid. Despite the absence
of statistical proof, we are convinced by the logic of the situation
that the capital needs of small business will present a real and serious
problem after the war. Moreover, we are convinced that, unless
business leadership can offer a constructive solution to this problem,
some solution will be forced on the Government which will be both
unsatisfactory and dangerous to private enterprise.
I waait to point out that the next section sets forth why we are
convinced that this financing of small business just does not fit into
existing machinery of the investment banking business. Investment
banking business is set up to handle on a national and international
scale securities on a wholesale basis and for reasons that I think are
made clear in there, it is just exceedingly difficult and costly for an
investment banker to handle as small an issue as $50,000.
We point out also the effect of growing taxation in making it exceed-
ingly difficult for a small business to build up capital from its own
earnings.
We point out the increasing difficulty brought about from taxation
and as a result of social change. I want to make the point, Mr. Chair-
man, because I think it is not often made, as to why a wealthy indi-
vidual is not willing to invest in a small business. Certainly taxes
are very important, but the very growth of our large metropolitan
cities is very important Avhere no longer does the substantial capitalist
have an acquaiiitance with the little businessman around the corner.
It is nuich easier for him to turn to the established national market,
the New York Stock Exchange, and say, "I just haven't the time and
energy to study the business around the corner."
Now. therefore, we reach the conclusion that we are going to need
this new institutional machinery that I have outlined before. We then
cover in this report some suggested solutions. [Continuing :]
THE LOGIC OF THE PROBLEM
I. It is evident that no private institutional machinery exists for
marketing capital issues of less than $100,000. Investment bankers,
except in unusual cases, rarely find it practicable to underwrite issues
of such small amounts. There are several reasons for this, most of
which are not well understood by the general public. They may be
summarized briefly as follows :
(a) Investment bankers as such are not investors, but are mer-
chants of securities. Thus, they do not purchase new security issues
to hold, but to resell as promptly as possible to others. An important
consideration, therefore, is the ready marketability of the issue. Small
issues, particularly those of little-known business concerns, have very
limited markets and afford considerable risk and difficulty to the
underwriter, both in the initial sale to the public and in the mainte-
nance afterwards of satisfactory markets.
2392 POSTWAR ECONOMIC POLICY AND PLANNING
(h) Few outsiders realize that an underwriter, in offering a secu-
rity issue to the public, accepts a responsibility for the soundness of
the issue for as long as it remains outstanding. A few issues which
turn sour will very quickly ruin the business of an investment banker.
From bitter experience investment bankers have learned that the risk
factor in securities tends to vary in inverse ratio with the size of the
issue. In other words, the smaller the issue and the business of the
issuer the greater is the likelihood of failure.
The basic reason for this is the problem of management. Many
large businesses, because of great capital resources or strategic eco-
nomic positions, may survive through years of inferior management.
There are very few small businesses, however, that do not depend for
their success or failure almost wholly upon the energy and intelligence
of the one or two individuals who constitute the management.
{c) The cost to an vnider writer of preparing and handling a new
issue is usually much the same, whether the issue is large or small. As
a percentage of the total amount of an issue, this cost becomes, there-
fore, many times greater in the case of a $50,000 issue than in the case
of a $5,000,000 issue.
The above combination of circumstances makes it exceedingly dif-
ficult for investment bankers to underwrite and sell to the public
issues in amounts as small as those we are considering here. The small
businessmen, on the other hand, usually cannot afford to pay the
proper costs of such financing.
The basic fact is that practically all capital issues in amounts of less
than $100,000 represent genuine risk capital from the standpoint of
the underwriter and investor, regardless of whether the issue takes
the form of a. first-mortgage bond or a common stock. The difference
is one of degree and not of kind. Until this fact is clearly understood,
there can be little hope of finding a satisfactory solution of the prob-
lem of capital for small business.
II. In the past, American small business has obtained its capital
requirements from two principal sources :
(a) The retention of plowing back of earnings in the business, and
(b) Outside capital from relatives or friends wdio are intimately
acquainted with the small entrepreneur.
Until recent years, the vigorous growth of small business in the
United States has been in itself concrete proof that this hit-or-miss
system has worked reasonably well. For example, a recent survey in
the city of Worcester, Mass., revealed that every single one of the
successful enterprises in that community had started with an initial
capital of less than $50,000.
During the past decade,* however, conditions have arisen which
make it extremely doubtful that the usual sources of capital for small
business can be relied upon to meet the need. Foremost among the
reasons for this change has been the steadily increasing impact of
Federal taxation. The growing weight of taxes on business enter-
prise has made it more and more difficult for small businesses to expand
from retained earnings. On the other hand, the extremely high rates
for personal income and estate taxation have made wealthy in-
dividuals more and more reluctant to invest in small and risky
enterprises.
POSTWAR ECONOMIC POLICY AND PLANNING 2393
Instead, they have been driven to seek safety and liquidity in the
securities of large and seasoned corporations and in the bonds of gov-
ernmental agencies. Without implying any criticism of the wartime
tax structure as a necessity of war, we must point out that a drastic
revision of the present tax system as soon as peace comes will be
essential if small and new enterprises are to obtain the capital they
will need for expansion.
It should be clear to anyone that, even with corporate tax rates
only one-half as high as at present, the Ford Motor Co. would never
have been able to grow from its humble beginnings to the giant enter-
prise it became during the first quarter of this century.
Another factor which has increased the difficulties of the small
businessman in obtaining capital from outsiders has been the growth
in the size of our cities. In our large metropolitan communities the
individual w^th money to invest is not likely to have the close personal
acquaintance with small businessmen that he would have in a small
town. Lacking this personal relationship, he finds it much easier to
invest in securities listed on the New York Stock Exchange and other
large issues of national reputation.
From the above analysis w^e I'each the following conclusions :
(a) The investment banking mechanism is not equipped to take
care of the capital needs of small business and cannot be expected
to do so.
(h) The sources, both internal and external, which formerly sup-
plied the great bulk of small business capital have largely dried up
under the withering effect of Federal taxation and the influence of
social change.
(c) This serious situation is presently obscured by the blanket of a
wartime economy. It will come to light, and may confront us with
a crisis, when small business is faced with the problems of the change-
over to a normal peacetime economy.
(d) Private enterprise must find a constructive and realistic solu-
tion of this problem, or else accept the inevitable result that Govern-
ment credit will be used to fill the existing void.
We turn now to a consideration of some of the alternative sugges-
tions wdiich have been offered as solutions of this problem.
SOME SUGGESTED SOLUTIONS
/. Direct Governmjent loans or Government securities
It is an axiom of sound finance that the heart of the credit problem
is discrimination among individual risks. By no means all business-
men are deserving of credit and capital. They must prove this right
by demonstrating character and business ability. Such discrimination
is the proper function of commercial and investment bankers in their
respective fields.
By its very nature a governmental body is unsuited to exercise such
discrimination. It is under compulsion to treat all of its citizens alike,
as in its provision of postal service or other common carrier service.
Insofar as it exercises discrimination such action is almost certain
to be based upon political consideration rather than upon business judg-
ment. Moreover, a political lending body makes a record chiefly by
its activity in extending credit rather than by its judicious restraint.
2394 POSTWAR ECONOMIC POLICY AND PLANNING
I should like to make this clear, I am not talkinof in opposition to
reconversion loans, to loans that are a part of the war period that are
beino; handled today by Government agencies and by the Smaller
Plants Corporation for the reconversion of business back to peacetime
level of activity or peacetime status.
What we are talking about is permanent machinery after that pei'iod,
and we express and give the reasons for our opposition and belief why
direct Government loans or Government guaranties are not suitable
for handling this problem of long-tei'm capital for small business.
I Continuing:]
Exceptions to the above generalizations may be noted in the follow-
ing instances :
(a) Where Government credit is extended on the basis of some
simple, standard form of asset, and where the human equation is re-
duced to a minimum. Such cases of successful Government lending
are found in the Federal farm mortgages and the Federal home mort-
gages. In both instances the right to the loan depends upon the pos-
sission of standardized types of real estate and very little upon the
character and business ability of the borrower.
(h) During periods of business crisis when all values are severally
depressed and private credit mechanisms are not functioning. It was
a situation of this kind that led to the creation of the Reconstruction
Finance Corporation, and was responsible in large measure for its suc-
cessful operations.
(r) In time of war w^hen Government credit is extended to businesses
holding contracts to sup])ly the Government with needed war goods.
In this case the safety of the loan depends primarily upon the war con-
tract and only secondarily upon the character and ability of the bor-
rower.
Government guaranty of private credit is one step removed from
direct Government lending and. therefore, is preferable to the latter.
It involves the use of private agencies and a small share in the risk
by such agencies. Nevertheless, it is unsound because it would require
the governmental body to examine and pass judgment upon each loan
applicaiton, which a political body is not qualified to do.
Moreover, it would demoralize our commercial banking system,
partly by taking over risks which should be assumed by the banks
themselves, and partly by forcing the banks into loans which are
outside their pi-oper sphere.
The wartime experience with direct Government loans or indirect
guaranties furnishes no satisfactory criterion for the postwar period.
As pointed out above, the essence of success in small business is man-
agement, and no governmental agency, especially a national body
located in Washington, can possibly evaluate the management risk in
the capital issue of a small business enterprise in Kalamazoo, Mich.
Small business is characterized by its diversity, and no single formula
could be devised to cover all possible cases.
We are strongly opposed, therefore, to the provision of capital
or credit for small business after the war by direct Government loans
or guaranties. We should regard such a step as a threat of major
proportions to the preservation of private enterprise in this country.
If we are driven to such expedients by the failure of business to
provide its own solution, we should recognize them as spelling the
doom of our free society.
POSTWAR ECONOMIC POLICY AND PLANNING 2395
//. Credit insurance schemes
A widespread notion prevails that there is some kind of magic in
the pooling of credits or in similar schemes. By such devices it is
hoped to eliminate the risks in small business financing and thus
make possible the handling of such credits at a minimum cost to the
borrowers.
Diversification of risks is, of course, a fundamental principle of
sound finance. Successful diversification assumes, however, that the
yield on the good investments will be more than sufficient to offset
the losses on those which fail. Thus, unless there is a prospect for
more than ordinary returns, little is gained by diversification. The
same general principle applies to all insurance plans. Unless the
premiums charged are sufficient to cover all losses incurred, such
schemes are bound to fail.
In either event, the sound credits will be forced to bear the cost
of the losses incurred on the unsound risks. This seems to us not only
unsound but also inequitable. Each credit risk should be judged
separately on its own merits and charged accordingly. Once this is
done, as is proposed in our plan for local investment companies, there
is merit to the diversification of the risks assumed. In the absence
of such credit analysis by those qualified to do so, we can see little
merit to any schemes for the pooling of risks or the insurance of risks.
Another reason for our opposition to such plans is that most of them
would involve some form of concealed gvernmental subsidy or the
use of Government credit.
///. Federal tax revlsio7i
Many businessmen are convinced that the problems of small business
will be largely solved by prompt and adequate relief after the war
from the present heavy burden of Federal taxation. We have already
pointed out how current tax rates on business enterprise and on
individuals are drjnng up the iiormal sources of capital for small
business. We have also stated our conviction that a drastic revision
of the Federal tax system as soon as possible after the war will be
essential for American business, both small and large.
Nevertheless, we fear that adequate tax reform may not come soon
enough to meet the postwar emergency of small business. Moreover,
we doubt that tax revision by itself will provide a complete answer
to the problem. The investing habits of the public, when once estab-
lished, are not easy to change, and individuals with funds to invest
are not likely to return readily to the field of small local investments.
Thus, while subscribing to the fundamental importance of postwar
tax revision, we feel the situation requires positive action in other
areas.
There are, however, certain tax reforms which could be effected
almost immediately after the end of hostilities, and which would
provide substantial relief for small business. With this objective
in view, and without prejudice to the broader task of over-all revision
of the Federal tax structure, we recommend the folloAving specific
changes :
{a) Prompt elimination of the wartime excess profits tax. This
levy on corporate earnings falls with particular severity on small and
new businesses which have neither satisfactory past earnings rec-
ords nor adequate capital bases. As such, it would provide an over-
2396 POSTWAR ECONOMIC POLICY AND PLAXXIXG
Avlieliiiiiiir liiiiidicap to vt'iiture capital for small business in times of
peace.
(b) Downward revision of the lower bracket tax rates for corporate
net income. At present, corpoi-ate income tax rates start at a com-
bined fi<^ure of 25 percent for the lirst ^.■),0()0, and rise on a graduated
scale imtil the}' reach the standard rate of 40 percent for all eaiiiings
above $50,000. In place of this schedide, we believe the following
could be adopted with great benefit to small business and without
serious detriment to the Federal budget:
Exempt from all taxation the lirst 5^•2,00O of all cor])orate net in-
comes; tax the next SS.OOO of cori)orate net income at a rate of not
more than 15 percent : apply a graduated upward scale on income
over $10,000 until the full standard rate is reached for income in
excess of $50,000. Since the standard corporate income tax rate after
the war must depend upon the size of the Federal budget, as well as
upon other considerations, we make no reconnnendation as to what
the rate shoidd be.
(c) Permit both corporate and noncorporate businesses to carry
forward losses to apply against subsequent earnings for a period of
at least 6 years. The present carry-back and carry-forward j)rovisions
of the law are inadequate for many small new businesses which usually
sustain losses during the first several years of their existence. Extend-
ing the carry-forward provision to G years should provide an im-
portant stimulus for venture capital to go into new enterprises.
MANAGEMENT SERVICE COMPANIES
Some students of small business problems maintain that what small
business managements really need is advice and guidance rather than
direct access to capital. This school holds that if management service
companies are established in each connnunity to i-ender advice and
guidance to small business at a motlerate cost there will be no real
need for the creation of local investment fluids. The contention is
made that such sei-vice companies can direct deserving applicants to
existing sources of capital, and by their recommendations provide
for the capital requirements of small business.
Undoubtedly there is a great opportunity to raise the general effi-
ciency of small business by rendering advice and assistance. We have
already recognized this by recommending that such service be ren-
dered for moderate fees as a regular finiction of our proposed local
investment companies.
We are convinced, however, that management service com})anies
without funds to invest cannot do the job that is called for. Probably
the}- could find capital for outstandingly promising ventures, but it
is very doubtful if they could do as much for the rank and file of
deserving small businesses -which camiot look forward to a spectacular
growth. It is usually forgotten that the great bulk of American small
businesses are not found in the field of manufacturing, but in the
distributive and service trades.
A great many small companies in the latter groups are certainly
entitled to capital, but very few of them can offer much in the way
of speculative attraction. As a matter of fact, one of the imjiortant
services needed to be rendered to small businessmen is to teach them
POSTWAR ECONOMIC POLICY AND PLANNING 2397
the value of being adequately financed instead of continuing to operate
on a shoestring as many of them do.
For these reasons we believe tliat the service function by itself will
not take care of the capital needs of small business, but should be
combined with the operations of the proposed local investment com-
panies.
LOCAL INVESTMENT COMPANIES
The logic of all our arguments leads to the conclusion that a nation-
wide system of local investment companies offers the ideal solution
to the problem of making long term and equity capital available to
small business. The only individuals well qualified to evaluate the
risks involved are local businessmen who have direct and personal
knowledge of the character and ability of local small business man-
agements.
Moreover, full recognition must be given to the fact that capital for
small business cannot be provided witliout incurring substantial risks,
and adec[uate compensation must be paid to those who assume such
risks. Failure to make a proper evaluation of the risks incurred has
been the basic reason for the generally unsatisfactory record of most
community funds establishecT in the past to finance local small
business.
Information is available on some 30 such funds or credit pools which
have been established during the past 35 years in various parts of the
United States. Unfortunately, most of these were set up as civic
promotional ventures in an effort to attract new industries to their
respective communities. In their eagerness to achieve this objective,
the managers of these funds have usually underestimated the risk
factor in financing small business and most of them have been forced
out of business by the losses they have suffered.
Because of their promotional character, we do not believe that ihe
record of community funds in the past is a relevant argument as to
what may be expected under a proper set-up and W'ith satisfactory
management. One outstanding example of what may be accomplished
in this field is furnished by the Louisville Industrial Foundation, which
has provided capital for the small businesses of Louisville for the past
28 years. During this period the fund earned an aggregate net in-
come of about $100,000 after deducting all expenses and losses.
To be successful, local investment funds must establish adequate
reserves against the almost inevitable losses in this type of financing.
How to accomplish this, and still convince small business and the gen-
eral public that financing costs are not excessive, is the fundamental
problem to be solved. We believe that our proposal to issue class B
stock of the investment companies to provide a cushion against losses
offers a satisfactory solution to the dual problem of how to charge
enough to cover the risks incurred and still avoid the danger of charg-
ing more than these risks justify.
THE ROLE OF THE INVESTMENT BANKER
The proposal has been made that the problem of providing capital
for small business can be solved by permitting some governmental
agency to invest in the senior securities of the firms now carrying on
2398 POSTWAR ECONOMIC POLICY AND PLANNING
an iiiA'estment banking business. We are strongly opposed to any
such plan.
We have already pointed out that investment bankers are merchants
of securities and not investors as such. The entire machinery of the
investment banking business is geared to the large-scale distrilmtion
of securities on a national and international basis. For this, and many
other reasons, it is not Avell adapted to the handling of capital issues
of $100,000 ad less.
We are convinced that the main objective cannot be attained if the
financing of small business is treated merely as a minor adjunct of
investment banking machinery. Instead, we believe that the task
should be conceived as a broad community undertaking in which local
investment dealers take an active part along with other business and
civic leaders.
If our pro})osals are adopted, we urge investment dealers through-
out the United States to participate actively in this movement along
the following lines :
1. Assist in the establishment of the local investment companies
and in the raising of cai)ital therefor.
2. Make available their experience in judging business risks by
serving on the boards of directors of the investment companies.
3. Assist the investment-company managements in finding outlets
for their investments which have been seasoned sufficiently to pass on
to the public.
4. Keep closelj^ in touch with local enterprises which have capital
requirements in excess of $100,000 and make every effort to see that
all legitimate capital needs of this kind are provided for through
established investment channels.
The fear has been expressed that the volume of capital in the invest-
ment banking business will be inadequate to handle the capital require-
ments of industry after the war. We see no cause for concern on this
score. Although investment banking capital underwent a shrinkage
between 1929 and 1940, the total amount is still substantial. More-
over, we ai'e confident that, if there is an active demand for capital
after the war, as we believe there will be, and if adequate tax relief is
forthcoming, additional capital will flow into investment banking to
any extent that is necessary.
It should be clear from the above that the plan proposed in this
report has not been conceived in a narrow spirit of special advantage
for the investment banking business. It is our conviction that the
problem of financing small business transcends the proper sphere of
investment banking and should be treated as a problem involving the
national economy as a whole.
Investment bankers will benefit from the adoption of our plan oidy
insofar as it is successful in placing our national economy on a
sounder basis.
I know it is a pretty technical plan and I hope I haven't left you
in a state of confusion as to Avhat I am talking about, but I have
covered the high spots as best I could within the time allotted.
The Chairman. Thank you. Mr. Fennelly. So far as I am con-
cerned, it is a novel plan, a new one, and certainly it is intriguing.
I wonder, Mr. Folsoin, if you had some questions that you wanted
to ask briefly.
POSTWAR ECONOMIC POLICY AND PLANNING 2399
Mr. FoLSOM. Mr. Femielly has covered quite adequately the ques-
tions I had in mind, but there are two or three that I might ask before
we get into a discussion of this particuluar phm he has proposed.
Are you familiar witli the report of the committee issued last fall
on the economic problems of the reconversion period ?
Mr. Fenxelly. Yes.
Mr. FoLS03i. We had 8 or 10 pages on taxes. Are you in general
accord with those suggestions?
Mr. Fennelly. Yes ; I am, Mr, Folsom. I would go a little beyond
that in these recommendations here, because I still am a little afraid
that general tax revision will be too slow in coming. If that plan
could be put in effect very quickly, I would have no qualms or ques-
tions, but I am still very fearful that, as' far as small business is con-
cerned, that the relief proposed may be too slow in coming, and these
are proposals that are somewhat different from those just based on
that fear. If that goes through, most of these would wash out.
Mr. FoLSOM. You mentioned the handicap of taxes insofar as equity
concerned. Do you mean the double taxes on equities and common
stocks ?
Mr. Fennelly. Yes, I do. The tax benefit that you get today on
debt and that you do not get on equity puts a terrific pressure on a
company to finance by way of debt rather than equity and if that
continued for long, I think it could give us some very dangerous
capital structures.
I think business has been resisting that tendency, but the pressure
is on it every day to increase their debt and actually retire equity
and increase their debt and it seems to me a highly dangerous sit-
uation.
Mr. FoLSOM. Has your committee considered these plans for credit
insurance ?
Mr. Fennelly. Yes, we did, Mr. Folsom, and I have a section in
here on that. I think they missed the point. There seems to be a
notion that if you merely pool a lot of credits, without examining
any of them, that the law of averages will make them all work out
and that you can afford to charge the lowest rate of interest on the
bundle as a whole.
That just isn't so. Diversification is a thoroughly sound financial
principle, but it is predicated on the notion that you will get more
than an average return on good investments to compensate for the
bad investments, and unless you do there is no credit-insurance scheme
that will work, and we think that every credit must be analyzed and
judged by those that are competent to do so, and those that are com-
petent to do so in the case of small business are the ones that know the
management and its ability and character, and we believe that basi-
cally this thing must be handled by a decentralized program.
Mr. FoLSOM. You mentioned in your statement that there had been
experience in some communities with the local investment and de-
velopment companies. I know several cities that have tried them.
Not many of them worked out successfully.
Why do you think this particular plan will work out better than
those other plans ?
Mr. Fennelly. I would turn the question, if I might, the other
way around. As I see it, the chief reason why most of the funds
2400 POSTWAR ECONOMIC POLICY AND PLANNING
have failed is because they have started out as promotional funds to
bring industries to a new community, as a community expansion plan,
and in their enthusiasm for doing so, they have generally under-
estimated the risk involved and advanced money to new business
enterprises to bring them to the community on a basis that they had
no justification for doing.
There is one outstanding example of success in this field that we
have studied very carefully. That is the Louisville Foundation,
where they have handled their credits and their advancing of capi-
tal on a sound basis. We think that they have tended to emphasize
debt rather than equity capital more than is desirable, and I think
they will agree that, if they had taken this plan of ours and applied
it by making the borrower or the seller of stock, subscribe to our pro-
posed class B stock, their record would have been eminently satis-
factory over the 28-year period in which they have operated.
I have illusions about this thing. There is risk, and there are
going to be losses taken and I would expect that quite a number of
these companies would go under, but I would like to point out to the
committee that the people who will lose the money first will be the
people that put up the equity money for the company.
Mr. VooRiiis. No; the people that will lose first are the businesses
that borrow it.
Mr. FENiXELLY. No — well, 3^es, if their business fails, Mr. Voorhis,
they will lose the money.
Mr. VooRiiis. The class B stockholders will be the first ones.
Mr. Fennelly. The class B stockholders is treated in our eyes as
a form of premium for credit risk, but a cooperative scheme that will
return to the subscribers of that capital their premium that they
put up for this thing insofar as the company does not incur losses.
Mr. VooRHis. I just wanted to take exception to that one ])oint.
Mr. Fennelly. I see what you mean. I wouldn't attempt to argue
the point. The capital in the com])any is local investment capital,
and it w^ould be lost before any of the Federal Reserve credit would
be lost.
Mr. VooRTiis. That's right.
Mr. FoLSOM. That is all, Mr. Chairman.
The Chairman. Mr. Murdock.
Mr. Murdock. Yes, Mv. Chairman ; the witness has indicated that
tax reform is one of the crying needs. I would like to ask wh.ether the
CED has given study specifically to tax reform as applied to the min-
ino; industry.
Mr. Fennelly. No; they haven't, Mr, Murdock. I can assure you
that the CED has avoided getting into any special industi'y problem
and all their tax studies have attempted to appi'oach the problem on
an over-all national basis. We felt that there are so many special
problems of this kind that we would be lost in the forest if we at-
tempted to tackle them.
Mr. Murdock. The mining situation is peculiar, of course, and the
mining people are feeling that they have tax problems that are not
exactly akin to the others. I am searching for help in that respect.
Mr. Fennelly. I am just afraid that I am not competent to sug-
gest anything, Mr. Murdock.
Mr. Murdock. I would like to get a suggestion from anyone.
POSTWAR ECONOMIC POLICY AND PLANNING 2401
Mr. Fennelly, Ri<!;ht, if I can find an_ybody that has been working
on it, I will see what I can do.
The Chairman. Mr. Gifford.
Mr. Gifford. I would like to say that the $100,000 limitation would
seem to be an attempt not to enter your field of investment banking.
Mr. Fennelly. That was nt)t our idea at all.
Mr. Gifford. You wouldn't handle any of this $100,000 business?
Mr. Fennelly. Well, 1 think that we hope that the local investment
dealers, when issues that have been bought by the investment com-
pany have matured and are of a nature that could be properly passed
on to the public, that they will work with the investment company in
placing those securities.
Mr. Gifford. You think the prejudices of local businessmen who
would run this company, without pay, would be against or for the local
men who are trying to do business?
Mr. Fennelly. I think they would be decidedly prejudicial in
their favor.
Mr. Gifford. Did you have any experience with the Federal land
bank when they appointed men in the locality to determine whether
people were competent to get a loan?
Mr. Fennelly. No, sir ; I haven't.
Mr. Gifford. I think that w^as a sorry experience. Those local men
who determined whether they were entitled to loans didn't think that
very many farmers were competent to get a loan. I think it ought
to be otherwise.
Mr. Fennelly. I think there are bound to be a great variety of dif-
ferences. I am sure that you won't get universally high performance
under any plan of this kind.
Mr. FoLsOM. You will have a check from the Federal Reserve.
Mr. Fennelly. Yes ; with the local Federal Reserve bank, who we
propose be given the authority to recommend a charter on the basis
of the qualifications of the group of individuals that are set up as
directors of this company.
Mr. Gifford. You think the Federal Government would be re-
quired to authorize by law this voluntary organization, the investment
fund ? You think that is necessary, or do you do it because you want
to involve the Federal Reserve ?
Mr. Fennelly. I don't do it because I want to involve the Federal
Reserve ; but I think this — if you are going to get these local invest-
ment com})anies started on a broad enough scale and fast enough,
that you need the stimulus of Federal legislation which would provide
an impetus and a push to get them started.
It does seem to me evident that in some cases local investment com-
panies will spring up and can spring up without Federal aid, but I
don't believe the job would be done rapidly enough.
Mr. Gifford. You think it would involve the Federal Reserve bank;
and if it does that, they wouldn't make a lot of rules and regulations
before they would invest ? You are familiar with the different regu-
lations now that bankers and businessmen are subjected to?
Mr. Fennelly. Yes ; but I don't think that a local company, unless
it wants the help and support of the Federal Reserve bank and put
through an agreement to purchase debentures of the company, need
2402 POSTWAR ECONOMIC POLICY AND PLANNING
go to the Federal Reserve bank at all. But we would like to hold it
out to them as a way of getting the pools of money started.
]Mr. GiFFORD. Where do you think this $100,000 would come from in
the first instance — local business ?
Mr. Fennellt. Yes.
Mr. GiFFORD. Wouldn't it be a fund open for investors?
Mr. Fexnelly. It would be; yes; but I meant local businessmen.
Let's say local citizens. I would make the statement as broad as that.
;Mr. GiFFORD. Yes. Of course, I am interested in the regulations
imposed by the Federal Reserve bank which prohibit my neighbor or
storekeeper from extending credit for more than 2 months. Did you
ever hear of that?
Mr. Fennelly. Beg your pardon ?
Mr. GiFFORD. They have regulations where businessmen can't ex-
tend credit to customers for more than 2 months.
Mr. Fexnelly. Under wartime regulations.
Mr. GiFFORD. I don't know whether it is wholly wartime.
Mr, Fexnelly. I assumed that it was wartime.
Mr. GiFFORD. I have heard everything put on "wartime." I want
to portray to you, Mr. Chairman, the businessman of my community.
He will need a little more than a hundred thousand dollars. He has
a large furniture store. He does a big business. The Government
deprived him of his young men. When I saw him, he was a highly
overworked individual. Quite an establishment. Wealthy people
were his principal customers, and the poor man looked at me and
said : 'T haven't been able to make out a bill for 2 months, and when
I make them out I have to go to the houses and look them over with
very great care; but the Federal Reserve regulations say I can't sell
them another thing until I collect, and I can't make out the bills.
Mr. Fennelly. Might I make a point on the $100,000?
Mr. GiFFORD. Go ahead. I was hoping you could relieve this cus-
tomer of mine.
Mr. Fennelly. As far as I am concerned, as far as the I. B. A. is
concerned, I know we have no objections whatsoever to increasing
the amount to above $100,000 to any reasonable amount that would
seem appropriate, and I assure you that the last thing in our minds
was keeping this plan out of competition with the investment bank-
ing machinery.
AYhat we were afraid of was this: If these funds were set up and
were permitted to make advances of, let's say, half a million or a
million dollars, the funds of that company would be quickly used up
in those larger-scale enterprises which are much easier to lend to, and
the funds would not be available, and there would not be the eagerness
to make capital available, to the small businesses of this country.
]Mr. GiFFORD. I want to pursue the subject of the Federal Reserve
dissertation. You deal with the Government. While we as Con-
gressmen might give you the privilege under the law, we cannot
foresee and forestall all sorts of regulatory conditions that are written
into it, and the first thing we know we are surprised at the results of
these things.
The man I mentioned is a splendid citizen, but he couldn't sell those
people anything more until he had collected for the merchandise sold
<]uring those 60 days, but I suppose the banker would be willing to
POSTWAR ECONOMIC POLICY AND PLANNING 2403
carry him along. He might run some risk. I asked at the hearing
of the Federal Reser^^e people what they would do to that man if they
discovered he was not collecting those bills within 60 days.
They said they wouldn't do anything to him, but they wouldn't
write a letter to me saying they would not. They would not do that.
We country bajikers have confidence in each other. We don't ask
you to write a mortgage when your credit is good ; but the point I am
bringing out is that if I had anything to do with the legislation at
this time, it would not be the Federal Reserve that should arbitrarily
or for au}'^ other reason try to tell people how they should run their
business.
Think of telling you that you couldn't extend a customer credit
after 2 months — a wealthy customer. Why should they bother?
I think I know the answer, but I don't like to give the answer.
Mr. P'ennelly. I sympatliize strongly with what you say. I don't
think that the investment bankers as a group should be accused of
being overly favorable to Government regulation. We have learned
an awful lot about Government regulation in our business.
Mr. GiFFORD. We have learned a lot, and my people have learned
that the Government isn't their Congressman but some bureaucrat,
but the}^ complain to their Congi'essman and hold him liable.
[Laughter.] They hold him liable; so that we, in turn, must hold
somebody else.
I didn't mean to charge you as an investment banker with trying
to limit your field, but I suppose that naturally we would think that
\'ou ought to look after your own business pretty well.
Of course, I am interested in youi' purchase of stock, which is an
insurance — you might call it — to take out losses. The Government
has done that pretty well. When you borrow from the Government —
I think the Federal land bank, the businessman has to subscribe to
class B stock, which is a way of insuring it.
An efficient businessman who subscribes to stock doesn't like to see
an inefficient man use up that money that he had provided. You
must weight that.
Mr. Fennelly. I agree.
Mr. GiFFORD. I think Mr. Folsom asked you if }ou had considered
some of the insurance methods, and I enjoyed hearing you say that
you wanted to keep the Government out of direct loaning; but is it
keeping the Government out of direct loaning when a Federal Reserve
bank puts up the money ?
Mr. Fennelly. The Federal Reserve bank would put up money for
a local company that would be managed by the individuals that put
up the equity money.
Mv. GiFFORD. Managed under conditions imposed by the Federal
Reserve bank,
Mr. Fennelly. That's. right.
Mr. GiFFORD. There are some of us on the committee that differ a
good deal about the Federal Reserve bank being a straight govern-
mental agency or an independent agency. Can vou tell us which
it is?
Mr. Fennelly. That is a very difficult question for me to answer.
I think Mr. Draper could probably answer tliat a lot better than I
99579—46 — pt. 8 3
2404 POSTWAR ECONOMIC POLICY AND PLANNING
could. I know it is not officially a Government agency. I think I am
correct in saying that the Board is, but I would prefer to pass that
question to somebody that is a lot more familiar and competent than I.
Mr. GirroRD. You know there is little attempt made that we buy
stock in the Federal Reserve bank ? Isn't that right ?
Mr. VooRHis. I have heard of that.
Mr. GiFFORD. You have advocated that?
Mr. VooRiiis. Yes ; I think I have.
Mr. GiFFORD. Then the Government would operate it, wouldn't
they ?
Mr. Fennelly. I suppose so; I don't know.
Mr. GiFFORD. Don't they virtually control it now? This Federal
Reserve bank has such a power, and they have been using it in such
little matters. You don't buy on the installment plan because you
don't have to. Suppose you wanted to.
Mr. Fennelly. That is a wartime regulation.
Mr. GiFFORD. Can the small businessman buy a bicycle now on the
installment plan?
Mr. Fennelly. I think it is highly desirable that he be not per-
mitted to do so during the war period.
]Mr. GiFFORD. Because of the war. He needs the bicycle to get to
Avork just as much now. I agree there is a strong reason, but ^-ou can
carry it too far and make it utterly ridiculous.
Mr. Fennelly. I am sure that there are always bound to be sufferers,
innocent victims of any blanket decree, and we have seen that many
times.
Mr. GiFFORD. I can see where a general rule could be applied, but
thej^ should not hide behind that rule and fail to recognize any rea-
sonable exceptions.
I don't want to take too much time, Mr. Chairman, but I have been
through this. I know what the small businessman has to endure to
try to get money, from local prejudice to Government interference and
control.
The Chairman. If I might suggest, I think there is no difference
between you and Mr. Fennelly on the normal regulation, the undesira-
bility of these regulations; but Mr. Fennelly, if I understand him, is
talking about the postwar period, and you are directing yourself to
ihe regulations that were thought desirable during the war period.
Mr. GiFFORD. You don't object to my feeling that during the war
there are some foolish regulations?
The Chairman. I don't object to any of your questions, sir. They
are always illuminating.
Mr. GiFFORD. I am going to close by saying that I agree with you
in your idea that the Government shouldn't do any direct — either
directly or by guaranties. Get the Government out of this thing.
Mr. Fennelly. That is correct, sir. We will.
The Chairman. I would like also to say that I am certainly, as the
gentleman knows, in accord with his views on that subject.
Mr. GiFFORD. A lot of us are, but we don't vote that way.
The Chairman. I think I vote that way.
Mr. GiFFORD. They make speeches on the floor of Congress, and
when they come to voting they don't vote that way.
The Chairman. Mr. Welch.
POSTWAR ECONOMIC POLICY AND PLANNING 2405
Mr. Welch. What is the present rate of interest charged by the
Federal Keserve bank ?
Mr. Fennelly. Mr. Welch, I blush that I do not know exactly what
the rediscount rate is today. I wonder if I could be enlightened.
A Voice. One-half of 1 percent.
Mr. Fennelly. Half of 1 percent.
What we had in mind there was not to be too specific at this stage
of the game as to what the interest rate should be on those debentures.
We felt that we should wait and see how the postwar picture unfolded,
as to what the normal rediscount rate of the Federal Reserve bank
should be. We were thinking about a rate for debentures of somewhat
near the rate of long-term Governments, two to two and a half
percent.
Mr. Welch. Followin,g the statement made by Congressman Gif-
f ord that they pay as high as 5 percent in his community on loans
Mr. GiFFORD. I am paying my bank five and a half. What are you
talking about — what kind of loan?
Mr. Welch. Loans from the Federal Reserve bank.
Mr. GiFFORD. Four and a half.
Mr. Welch. Well, Mr. Fennelly
Mr. Fennelly. Mr. Welch, might I make this clear that in talking
about that rate I was talking about the rate that the investment com-
pany would pay on the debentures that it sold to the Reserve bank.
Mr. Welch. I am referring to the interest charged.
Mr. Fennelly. To the individual borrower?
Mr. Welch. Yes.
Mr. Fennelly. I don't see how it is possible to set any arbitrary
scale on that, because it will vary so with the different kinds of
business that want the capital. This small-business financing is
bound to be risk financing, and unless an interest rate is charged that
is generally commensurate with that risk, you haven't got a chance
of doing it.
Mr. Welch. Charging a high rate of interest would make it all the
more insecure.
Mr. Fennelly. Don't forget that we are not only talking about
loans; we are talking about preferred and common stock. We are
talking about equity capital, Mr. Welch, and we didn't see how it
was possible to set any one standard pattern for all types of capital
provided.
Mr. Welch. I am prompted to ask the question by reason of the fact
that high rates of interest were charged, such as were referred to by
Congressman Gifford, whereas on the other hand the Dutch recently
negotiated a loan of $100,000,000 from a group of New York bankers
at 11/2 percent rate of interest to biiild postwar ships in this country.
Mr. Fennelly. The only answer I can give us is, don't you think
that there is a degree of difference in the risk in extending a loan
to the Dutch Government as compared with the preferred stock of a
neighborhood grocery store?
Mr. Welch. Well, I wouldn't think so. If you are goin.g to revive
small business, as we hope it will be revived, it cannot be accomplished
})y jjiling on an interest rate that will be back breaking.
You might better take the chance than to have them go into a busi-
ness where they will be burdened with an interest rate out of propor-
tion to their profits.
2408 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. Fennellt. Mr. Welch, I can answer that to the best of my
judgment by saying that I think that the importance of interest rate
or the dividend charge, if it is a preferred stock or a common stock,
in the success or failure of a business is vastly less important than the
availability of capital when they need it.
It seems to me that most businesses that I know^, that if they need
the capital and they want it for exj^ansion, that the question of
whether they pay i or 5 or 6 percent of interest or a dividend rate is
not material — is not nearly as important as their ability to get the
capital.
Mr. Welch. You referred to the security behind the loan to the for-
eign country, to aliens. Our sad experience of the past hasn't proven
they are very good risks.
Mr. Fennellt, I wouldn't want to argue that with you.
jVIr. Welch. The chance in loaning the money to a corner grocery,
to somebody in a legitimate industry, a small industry, is less than
some other risks the country has taken.
Mr. Fexxelly. Granted. That is perfectly true, Mr. Welch, but
I do want to emphasize the necessity of distiuguisliing between the dif-
ferent kinds of risks.
There are risks of all kinds and variety and I don't think this prob-
lem will be solved by attempting to assume that all risks are the same
and that therefore they should be charged the same rate of interest.
Mr. Welch. It is either a bad or a good risk at the beginning, is it
not?
Mr. Fenxelly. Well, j^ou hope it is. You certainly wouldn't un-
dertake it unless you hoped it was good, but you would
]Mr. Welch. Isn't there an element of chance ?
Mr. Fexnelly. Yes; but the element of chance
Mr. Welch. An element of chance in overburdening the small bus-
inrssman by an excessive rate of interest?
Mr. Fenxelly. I don't believe you are overburdening him if you
make an honest evaluation of the risk involved and he has a business
future or a reason for expansion that he thinks he can make money
on, and if he can get the capital, it is ni}'- experience that the rate of
interest, within reasonable limits, is a very minor factor in his suc-
cess or failure; but I think it is a very important factor from the
standpoint of the man, the banker, or investment company, that issues
the credit.
Mr. Welch. ^Slight I ask just one more question ?
The Chairman. Yes.
]Mr. Welch. Would you care to estimate the amount of capital that
will be available for investment in both large and small businesses in
this country after the war?
Mr. Fex'nelly. No, sir; I don't know how I could do it. All I am
convinced of is that there are tremendous funds available, if the
proper catalytic agent is provided to unlock them, and I have tried to
give some of the factors that I thought were necessary to bring that
about; but the actual statistical estimate in that field is beyond me.
Mr. Welch. You stated at the beginning that the capital available
would be in excess of the opportunities for investment?
Mr. Fexxelly. No, sir. If you got that impression, that was
exactly what I did not intend to imply.
POSTWAR ECONOMIC POLICY AND PLANNING 2407
Mr. Welch. I am sorry.
Mr. Fennelly. I said I knew there were a lot of people that were
fearful that savings were piling up and would continue to pile up in
excess of capital opportunities. I said that I was convinced from see-
ing many businessmen from all over the country and becoming ac-
quainted wnth their plans for the postwar period, that there was no
serious need for being concerned on that score, that the need was for
channeling the capital to the places where it was going to be needed,
and that the needs were going to be substantial.
I am not capable of giving you any statistical estimate as to the
basis of that belief.
The CiiATRarAN. Mr. Voorhis. I am sure that you have some ques-
tions on this subject that you want to ask. It is right down your line.
Mr. Voorhis. Mr. Fennelly, you spoke about a catalytic agent. If
we look on this thing from a historical standpoint, what the history
of small business has been in America over the past few years, w^e are
going to need pretty much of a catalytic agent if we are going to solve
the problem.
Mr. Fexxelly. I think so.
Mr. VooKHTS. It seems to me that your principal catalytic agent in
here — I would like to say first that I am open-minded on this. I think
maybe you have got something ; on page 13 you speak about your prin-
cipal catalytic agent: "We urge investment dealers throughout the
United States to participate actively in this movement."
In other words, it seems to me that something is going to happen
for the benefit of small business that hasn't happened so far. Why
didn't it happen before?
Mr, Fennelly. Well, I can give several answers to that. In the
first part of your question; Yes, partly; but not just the investment
bankers.
Mr. Voorhis. I don't think it w^as investment bankers. It was
local
Mr. Fennelly. Local citizens. I am convinced that there is a
tremendous — that there will be a tremendous — rebirth of community
spirit in this country and a tremendous interest in tackling their
problems at home. If that is true, I do believe that these funds and
managerial ability wall be forthcoming.
I grant you are perfectly correct in saying that there is no guaranty
that there will. Certainly I would like to see it tried before I assumed
that it wasn't so.
Mr. Voorhis. Isn't it true that given and granting an increased
local interest in these problems, one reason for it is due to alarm over
the disastrous manner in which small business has been pushed to one
side in this country, not only during the war, although that has been
bad enough? Now^ — to go back just a little — ^you said you believed
that an insurance plan would be a major threat to the system of private
enterprise in the United States.
Mr. Fennelly. I don't say just an insurance plan. I am talking
about the use of Government credit and Government guaranties in the
peacetime period.
Mr. Voorhis. I think that is what I am talking about. I am talk-
ing about an insurance plan for private lending. I am not talking
about direct Government lending.
2408 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. Fennelly. If it is an insurance j^lan backed up by Government
credit, it seems to me it does involve tlie use of direct supervision and
passino; of judgment on individual credit.
Mr. VooRHis. My question is wliether yon think the Federal Housing
Administration has been a threat to the country.
Mr. Fennelly. No; I don't, and I specifically excepted that because
I pointed out on page nine that there are exceptions to that generaliza-
tion and the exceptions are where (jovernment credits are based upon
some sim})le standard form of asset and where the human equation is
reduced to a minimum, and I s])ecifically mentioned the Federal
home mortgages and the Federal farm mortgages, but I am glad you
raised that.
Mr, VooRHis. Do you believe that expert technical advice and
assistance can possibly be given to small business, short of absolute
insistence on the part of somebody pretty darned ])owerful that that
be given to them, at this time? My impression is that there are blocs-
against small business getting the advantage of any of that assistance
that are perfectly colossal in their strength, and I don't know whether
anybody except the Fedei-al Government is big enough to make it
available to small business.
Mr. Fennelly. I don't agree with you.
Mr. VooRHis. I didn't think you would.
On taxes, I wanted to ask you why you limited the exemption to the
fii-st $2,000 of corporate net income. It would seem you could make it
a little higher.
Mr. Fennelly. It is for a number of reasons. One is in order not
to undercut the base of Federal revenue. That figure runs u]) into
substantial sums. Admittedly this is an arbitrary figure, but it was an
endeavor to put it somewhat on a basis of comparability to an indi-
vidual income-tax recipient with a normal family credit.
Now if the (xovernment revenue needs could stand a larger exemp-
tion, there is no objection in theory or j)ractice on my ])art.
Mr. VooRHis. Mr. Folsom asked you whether you believed that so-
called double taxes of dividends should be eliminated, and I want to
ask you whether, if an attempt were made to do that by exempting
from corporate income tax that portion of income that is paid out in
dividends, you would then agree to revive in some form the undis-
tributed profits tax?
Mr. Fennelly. That is a very difficult question.
Mr. VooRHis. It is involved in any approach of that sort ?
Mr. Fennelly. It certainly would be, but I am not prepared to take
a definite stand on that one.
Mr. VooRHis. All right. Now, I wanted to just conclude by taking
a polite but extremely earnest exception to your paragraph under the
title, "The Fog Surrounding the Problem.'"'
It happens that I am the author of a bill to provide for a system
of insurance through the smaller loan banks. I have no interest in
a perpetuation of Federal bureaucracy or attempting to drive a
permanent wedge between small or large business or to undermine
private enterprise, as you say these things could do.
Mr. Fennelly. No ; I don't say that. I say that the small business
problem has acquired a political tinge. I think that there is ample
sincerity on the part of most people working on the problem.
POSTWAR ECONOMIC POLICY AND PLANNING 2409
Mr. VooRHis. Isn't the reason the problem has acquired that tinge
that anybody can see that unless theie is some action on the part of
somebody who cares about the future of small business and is in a
position of some little power, the normal trend today is so strongly
in the direction of monopoly that a small business is going to be a
thing of the past?
Mr. Fen NELLY. I don't know. The whole basis of this program
is that there is a small business probleuL I agree with that thor-
oughly ; but as to whether or not I agree with as sweeping a statement
as you make, I don't know enough about it to know.
Mr. VooRHis. I am not for Government-direct loans. I agree en-
tirely with your criticism on that. As soon as a Government agency
comes along and decides that Joe Doakes is a good risk and Pete
Smith is not, it is doing something that the Government has no busi-
ness to do; but I don't agree with your criticism and your throwing
out of account any proposal for Government insurance of loans pri-
vately made on the basis of private judgment of the man that makes
the loan.
Mr. Fennj:lly. Let me answer you this way. I don't know of any
system of that kind that doesn't involve at least second-scale judg-
ment on the part of the Government of the individual loan, that if
they are going to guarantee a loan, they must pass judgment on that
individual loan. I do not know how you avoid that. They certainly
are not going to a^ree — at least I hope they are not going to agree —
to taking on any loan, guaranteeing any loan regardless.
I think the diversity of small business is so great that there is no
possible fornnila that you can set up, as you can for farm mortgages
or home mortgages, and that in the inability of the Government to
do that it comes back to the judgment regarding the entrepreneur of
the business, his character and ability, and I douY believe that the
Government is capable of judging the man in California or Kala-
mazoo on the basis of guaranteeing his credit any more than making
direct loans.
Mr. VooRHis. They might accept the judgment of the local bank.
Mr. Fennelly. Then they are accepting it blind.
Mr. VooEHis. I think that is all.
The Chairman. Mr. LeFevre.
Mr. LeFevre. I think the plan as you have outlined it here is very
commendable and is probably just the thing that we need to fill this
so-called gap.
Now, you said that the issuance of class A and class B stock was
more or less followed after the Federal Land Bank system.
Mr, Fennelly. Yes.
Mr. LeFevre. I don't recall how that worked out, but it seems to
me that the farmer borrowing the money was obliged to take the
class B stock.
Mr. Fennelly. It wasn't called class B stock. It was a stock in
an association.
Mr. VooRHis. That is right.
Mr. Fennelly. I am sure there are plenty of people around the
room that can explain it.
Mr. LeFevre. That wasn't paid back to the farmer until he paid
his loan off?
2410 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. Fennelly. That is right,
Mr. LeFevre. As I recall here, j^oiir class B stock is for sale to the
general public.
Mr. Fennelly. No ; the class B stock is entirely stock that would be
issued to the recipient of a loan, to the man who sold securities to the
investment company, and there would be no compulsion on the part
of the investment company to require that.
If they thought the credit was good enough without this premium,
without making him subscribe, there would be no compulsion that
would compel them to do it, but we say that is the only way to provide
a cushion against the inevitable risk in this kind of business and at
the same time assure the borrower that he has a run for his money
that he puts up in that, because if the record of the company is a good
one and they don't incur the losses that are very likely in this kind
of business he can get back everything he puts up. That is the theory.
It is a kind of a cooperative scheme of insurance.
Mr. LeFevhe. A man of my acquaintance showed me a copy of the
New York Tribune where they showed three large companies taking
over small companies, and he said that if this keeps up we won't need
any small business. In my part of the country, people up there, the
smaller plants, are very worried over the question of co-ops. They
are coming into the picture in communities and taking all the business.
Have you any comment on that? What should be done to stop this
sort of thing?
]\Ir. Fennelly. No, sir; I am afraid I haven't. This problem of
cooi>eratives I know involves separate problems of taxes. I have an
instinctive sympathy for consumer cooperatives in all sorts of lines,
but I can see that they do raise serious questions of cutting the tax
base, but, except for the tax problem, I don't see any reason for great
concern that they are going to run profit-making businesses out of
existence.
Now, I am no authority on the subject, sir, and I just pass that as a
casual observation, and I would like to say this about small businesses
disappearing.
I think you are going to have the most terrific rebirth of small
businesses when the servicemen come back to this country and men in
the war plants get off with some savings that we have ever seen. There
probably are going to be a lot of business births that will result in a
very serious death rate a few years later.
I think that is the danger, but I feel that if small business is given
a chance after the war — and I am one who is heartily in favor of giv-
ing it every possible chance in fighting monopolistic tendencies that
Mr. Voorhis pointed out — I think we are going to have a tremendous
revival.
Mr. LeFevre. On the other hand, I am afraid there is going to be
an awful death rate.
Mr. Fennelly. Isn't that what private enterprise is? It is the
taking of risk and the willingness of individuals to take such a risk.
We cannot protect a man.
Mr. LeFevre. We can't make the private enterprise pay taxes and
the co-ops go without paying taxes.
Mr. Fennelly. That is certainly a danger. I haven't studied the
subject enough to have a specific judgment on it, although I see that
you have a very serious problem.
POSTWAR ECONOMIC POLICY AND PLANNING 2411
The Chairman. Mr. Simpson, do you have a question?
Mr. Simpson. Yes. If a small retail business needs credit, is there
any reason why they can't go to the bank and get that credit?
Mr. Fennelly. No, sir ; not that I know of. There are undoubtedly
banks that are more willing than others to finance small businesses,
but I am convinced of this : That the basic problem is one of perma-
nent capital. It is very easy for the small businessmen to get bank
credit if they have an adequate cushion of permanent capital. It is
extremely difficult for a bank, no matter how willing it is, to extend
credit on the basis of their demand deposits to a business that is inade-
quately financed with permanent capital.
I don't know whether that is a satisfactory answer to you, but we
think that the major job to be done here is a provision of permanent
capital and equity capital, and if that is done the bank-credit problem
becomes easier to handle.
Mr. Simpson. My experience in Illinois has been that if a retail
merchant needs credit and is entitled to it he can go to the local bank
and get it and if 5 or 6 or 10 people want to start a corporation, they
can put ten or fifteen thousand dollars in it ; and if they want to start
with $100,000 in a corporation, they can raise part of that money and
get the balance of credit from the bank.
Mr. Fennelly. In other words, you don't believe there is likely to
be after the war a real problem of small business getting the capital
they need through the existing — let's say — institutional machinery but
through local sources?
Mr. Simpson. If a returning soldier wants to start in business under
certain credit conditions he can get the credit, if he wants to operate
a filling station or any other small business, but w4th the banks bulging
with funds it looks to me like they ought to be willing to lend it.
Mr. Fennelly. Yes, for short-term credit purposes, Mr. Simpson;
I think they are. But what we are talking about is not an individual
returning soldier but the ability of an existing company that has a
capital of $50,000 to raise $50,000 more of permanent capital for plant
expansion, and I am convinced that there is a real problem as to where
that man goes today to get that capital.
Mr. Simpson. Maybe his tax is a little too high.
Mr. Fennelly. I have no doubt about that.
Mr. Simpson. That is all.
The Chairman. Mr. Fennelly, we are very grateful for 3^our
splendid statement, which reflects much thought on these problems.
I believe that Mr. Murdock, before you leave the stand, has a brief
question he wanted to ask you.
Mr. Murdock. Do we have another witness ?
The Chairman. Yes, we do.
Mr. Murdock. I will take only a moment.
Mr. Fennelly, you spoke once of this wholesome prosperity, which
we hope for, needing some sort of catalytic action but I take it from
the first part of your remarks that guaranteed employment would not
be such a catalytic.
Mr, Fennelly. No; I wouldn't regard it as such. Exactly the
opposite.
Mr. Murdock. I think perhaps I might agree with you, but I
merely call your attention to one thing, and that is this: That if it
2412 POSTWAR ECONOMIC POLICY AND PLANNING
is unwise for the Government to guarantee employment, it is by the
same token encumbent upon business to see that empk)yment is
guaranteed.
Mr. Fennelly. It is a question of
Mr. MuRDOCK. It increases the obligation.
Mr. Fenxelly. It increases the obligation. It comes to a question
of what you mean by guarantee. I am convinced that we won't have
a satisfactory economy unless we maintain a satisfactorily high level
of employment, and I think there are quite a lot of things that the
Government can do to help that, both positively and negatively.
It would not, in jny opinion, include an outright guaranty.
Mr. MuKDocK. Do you thiidv the feeling of Ijusinessmen generally
is to recognize that obligation?
Mr. Fennelly. I think more and more they are. I can't speak for
business as a whole. I can only speak for one businessman, but cer-
tainly there is an awareness of the problem today that they didn't
dream of a number of years ago.
Mr. Welch. In cases where the Government is responsible for a
large industry absorbing a small industry, should not the Govern-
ment assist the small in rehabilitating itself?
I could give you many examples, cases where the Government did
not benefit by permitting the absorption of small industry by large
industry; it did not either expedite production or lessen the cost.
Mr. Fennelly. Do you mean something — I am still a little baffled —
something that has taken place during the war?
Mr. AVelcii. Exactly.
Mr. Fennelly. I said at the outside that I was excluding the prob-
lems of reconversion loans. Certainly I think that the Government,
where it has converted an industry to war production, has some
obligation to see that that industry is not wronged in getting out
of the war production. If that is what you mean, I am all for
these reconversion loans, and again what I am talking about is a
period beyond that, a postwar system.
Mr. Welch. I know many cases in my section of the country where
small businesses have been absorbed or practically destroyed during
the war. I have always felt that it was the responsibility of the
Government to rehabilitate these industries.
Mr. Fennelly. I just wouldn't have any judgment unless I knew
the specific circumstances.
Mr. Welch. I will not take the time of the committee, but I will
be glad to give Mr. Folsom the specific cases.
Mr. Fennelly. I apologize for taking so much of the committee
time, Mr. Chairman.
The Chairman. You provoked so many thoughts by your statement.
Gentlemen of the committee, this is Pan-Amei-ican Day, there is
no legislation coming up. We have Mr. Draper of the Federal Reserve
Board. We have been rather deliberate in our questioning of Mr.
Fennelly. I am just wondering if it would be agreeable to the com-
mittee to go ahead with Mr. Draper at this time.
Would you prefer to come back after lunch? I think maybe we
could hear Mr. Draper, certainly in 30 minutes, and if that is agree-
able to the committee, we will proceed.
Mr. Draper, without further remarks on my part, will you proceed?
POSTWAR ECONOMIC POLICY AND PLANNING 2413
STATEMENT OF ERNEST G. DRAPER, MEMBER, BOARD OF
GOVERNORS, FEDERAL RESERVE SYSTEM
Mr. Draper. I have here a relatively brief summary of a longer
statement which with your permission I would like to file with the
C'onnnittee in the next few days. If you have no objections, I would
like to read this statement. It will take about 15 minutes.
The Chairman. Witiiout objection, that order of procedure will
be followed.
Mr. Draper. I have entitled this, "Supplying the Credit Needs
of Business in the Transition and Early Postwar Period."
At the outset may I make a personal affirmation of faith. I believe
in the private-enterprise system. My 29 years in business and my
subsequent 10 years' work in Washington have confirmed me in the
belief that for the United States the system of private enterprise is
the one that best suits our national temperament and our great
abilities.
This system has its faults, but so has every other system with which
I am acquainted. For us now, and in the foreseeable future, there-
fore, I believe we should judge the great problems of reconversion
and after, from the standpoint of how we can strengthen the private
enterprise system so that it will contribute its full share toward
vitalizing the economic and social health of this country and, in due
course, that of other countries in the world as well.
When we talk of private enterprise, many of us think primarily
of trade and industry. We are apt to forget agriculture and bank-
ing and, in particular, the small country bank which in its individual
sphere of activity can be of great force for community good.
With this viewpoint in mind, I should like to discus the problem of
providiiig medium and long-term credit by the banks as an aid in
developing and sustaining healthy private enterprise, particularly
in the field of trade and industry.
INTRODUCTION
If we are to have full employment after the war the transition
from war- to peace-time operations of business must be accomplished
promptly and smoothly. The problems of reconversion may well
be greater, particularly for small and medium size business, than
were those of conversion to war production. One of the most vital
problems of the transition and early postwar period will be that
of obtaining adequate financing.
In addition to short-term credit for supplying working capital,
medium and longer-term credit will be needed (1) to convert machin-
ery and other plant facilities from the production of military to
civilian supplies, (2) to rehabilitate run-down and replace obsolete,
plant and equipment, and (3) to acquire unusual amounts of in-
ventory which would otherwise be taken over by the Government
and disposed of as surplus war property.
The important question is not the amount of postwar credit needed
by business, but the assurance that what is needed will be made avail-
able. It is essential to the program of full employment that no busi-
ness, large or small, with reasonable prospects for success under peace-
time conditions will lack credit.
2414 POSTWAR ECONOMIC POLICY AND PLANNING
Many of us who have been close to the situation believe that the
private-enterprise system is best served wlien credit is supplied by
banks and other financing institutions which are themselves part of
that system of private enterprise. The question then arises as to
whether, in any substantial number of cases, private financing in-
stitutions will be unable to furnish adequate credit to worthy enter-
prises because of the relatively high risk involved.
We have every reason to believe that there will be many such cases.
There have been within the ]:)ast 12 years, during the depression
period and during the war. These situations have been met in two
general ways: First, b}^ the provision of facilities for direct lending
to industry by (irovernment; and, second, by utilization of the partial
insurance principle, under which Government aid extends only to
guaranteeing, in part, credit which is extended in the first instance
by private financing institutions.
While direct Government lending or financing of industry is
doubtless justified in periods of extreme economic emergency, when
private credit institutions become ultraconservative, or under war
conditions, when construction of special war facilities is necessary,
there is as yet no evidence that such financing will be necessary dur-
ing the reconversion period.
Instead of setting up Government lending agencies, it would be
better, if we mean to preserve the free-enterprise system, to assist
the existing private financing institutions to function effectively in
meeting the various credit needs of business in the connnunities they
serve. Otherwise, we undo with one hand what we are trying to do
with the other, since Government direct lending agencies often tend
to compete, to a greater or lesser degree, with private business in
the field of banking.
Extent of credit needed in the reconvention feiiod
While the early postwar credit picture is far from clear, it appears
likely that the total need for short- and medium-term borrowings
will not be great. We are confronted with a mixed situation. There
are certain factors tending to lessen the need for credit. For ex-
ample, business, including small business, has, by and large, improved
its financial position during the war.
Many business enterprise undoubtedly have ample liquid resources
to go through the reconversion period without borrowing. Other
factors indicate an especially acute need for credit in individual cases
or special situations. Instances of this sort are provided by nonwar
small businesses, enterprises that have not done well during the war,
and new businesses or new ventures by established concerns. This
mixed and rather incalculable outlook calls for a flexible credit policy,
one capable of dealing with off-standard situations and border-line
risks.
Where credit is needed by business, it will be needed acutely. Not
only the existence of particular enterprises but the employment
capacity of the Nation will depend upon the prompt and adequate
availability of funds for reconversion purposes. The question, there-
fore, is the extent to which credit, especially private bank credit, will
flow into the area of acute need and relatively high risk. The problem
is not one of relief but of maintaining the present prosperity and full
employment under circumstances of readjustment.
POSTWAR ECONOMIC POLICY AND PLANNING 2415
As far' as resources are concerned, it can be stated without hesitation
that the credit resources of the banking system are sufficient to meet
any and all credit requirements of the reconversion period. These
resources are distributed throughout the Nation in some 14,000 bank-
ing institutions, each in touch with the business and industry of its
own locality.
Three billion dollars in war production loans at present outstanding
will be retired in large part during the process of contract settlement.
A large part of this will have to be replaced with bank credit for
civilian purposes. Whatever the credit demands may be, however,
our private banks and the Federal Reserve System have ample re-
sources to meet them.
There is no question as to the willingness or desire of the private
banking system to provide adequate financing for reconversion. But
in doing so it may need the protection of a partial guaranty similar
to that now provided in the V and T loan programs, if it is to assume
the border-line risks.
The V loan was established by Executive order and the T loan by
the Contract Settlement Act of 1944, but these loans are strictly limited
to the financing of war production and contract termination. Provi-
sions for this type of loan insurance or guaranty is contained in the
Wagner-Spence bill — S. 511 and H. R. 591 — which is now in the hands
of the Banking and Currency Committees of the Senate and House.
The marginal area of risk
Banks, like other private business enterprises, exist for purposes of
profit, and they are also custodians of the funds of their depositors.
Responsibilities to stockholders and depositors place natural limits
upon the degree of loan risk that should be assumed. However, there
is a marginal area of risk between financing which is fundamentally
uneconomic and financing which the banker can reasonably be ex-
pected to supply. That is the area into which the partial guaranty
principle enables the banker to venture by reducing his lending risk.
The change-over which will be faced by many businesses in the re-
conversion period, from a one-customer market — the Government — to
the competitive markets of peacetime will bring to the banker many
new and perplexing credit problems. There will be many businesses
with balance sheets that do not show credit positions which would
justify advancing to them any substantial amount of credit out of the
funds of depositors.
Small- and medium-size business, which has difficulty in raising
equity capital and which often, moreover, resists the idea of increasing
its equity owners for fear of forfeiting its independence, will want
especially the medium- or long-term loan for purposes of buying new
equipment or surplus war inventory and other property. As already
indicated, it is in the public interest that credit be made available to
many of these marginal risks.
Development of the loan guaranty pHneiple
Fortunately, an 11-year period of actual experience indicates how
the reconversion credit problem can be successfully met by the private
banking system with a minimum of Government participation.
Two acts were passed in 1934 which contributed to this experience —
the National Housing Act and the act of June 19, 1934. The former
2416 POSTWAR ECONOMIC POLICY AND PLANNING
provided for Government insurance of bunk loans to revive the home-
construction industry. The hitter, by adding section 5d to the Re-
construction Finance Corporation Act and section 13b to the Federal
Reserve Act, provided for both direct lending and the guaranty of
bank loans to business and industry. The previous year Congress had
also provided for the insurance of bank deposits.
The result of these enactments was to revive the flow of credit, which
had been slowed up by the depression. Private enterprise, both in
industry and in finance, was assisted through governmental action.
But, by putting the Government into the direct lending field, Congress
at the same time made possible Government competition with private
enterprise.
Insured loans worked out successfully in Federal Housing Admin-
istration financing. Likewise, experience of the Federal Reserve
banks under section 18b has shown that the best position for a central
bank lending agency to take in fostering business credit is not the
direct loan to industry but the ])artial guaranty behind a bank loan.
This is logical, inasmuch as the small- and medium-sized business is
essentially a community enter])rise and is best financed by the local
banker, who is in close touch with his customers.
The V-loan program, one of the outstanding credit achievements
in the history of American banking, is a guaranty or insurance plan.
Executive Order No. 9112, issued by the former President under his
wartime powers on March 2(5, 1942, gave the War Department, Navy
Department, and jNIaritime Commission power to guarantee loans
made by banks and other financing institutions for purposes of financ-
ing contractors, subcontractors, or others engaged in any business or
operation deemed to be necessary, appropriate, or convenient for the
j^rosecution of the war.
The Federal Reserve banks were authorized to act as agents in carry-
ing out the provisions of the order, subject to the specific instruc-
tions of the guaranteeing agencies and the general supervision of the
Board of Governors of the Federal Reserve System. On April 6,
1942', the Board of Governors issued its regulation V, prescribing gen-
eral rules and policies for the guidance of the Reserve banks and, in-
cidentally, giving the V-loan program its popular name.
The V-loan plan was devised to assure adequate credit for war pro-
duction, which many of the small subcontractors were finding it diffi-
cult or impossible to obtain. While businesses of every size were
benefited, the V-loan program became especially the mainstay of the
small subcontractors. Sixty-two percent — in number — of all V-loans
have been made to enterprises with less than $500,000 total assets or
with less than approximately 150 employees. How readily the banks
availed themselves of the opportunity to make these reasonably safe
loans is evidenced by the fact that to date 9.5 billion dollars of bank
credit has been made available to war contractors under authorized
regulation V loans.
At midyear of 1942, when the plan was only a few weeks old, 2.3
billion dollars of bank loans for war purposes were outstanding, of
which only 4 percent were V loans. By the middle of 1943 total war
loans of banks had increased to 3.3 billion dollars, of which amount 44
percent was guaranteed, in part, under regulation V. The end of
1943 saAv bank war credits at their peak, with 3.5 billion dollars out-
POSTWAR ECONOMIC POLICY AND PLANNING 2417
standing. iVt this date 55 percent of all war loans were guaranteed
under regulation V. By June of 1944 bank loans for war purposes
had dropped to 3.2 billion dollars, but V loans had continued to in-
crease, amounting to 2.1 billion dollars, or 66 per cent of the total.
Business was now in a generally stronger financial position, and the
banks were beginning to make more loans without the guaranty.
Thus, at the end of 1944 bank war loans of 3.2 billion dollars were
outstanding, the same amount as on June 30, but the V loans had de-
clined to 1.7 billion dollars, or 54 percent of the total.
The guaranteed loan program will automatically disappear with
the settlement of canceled war contracts, just at the moment when re-
conversion is beginning, unless the plan is extended through the
passage of the Wagner-Spence bill — S. 511, H. R. 591. This pro-
posed legislation provides in general for continuing the V-loan method
under Federal Reserve System supervision and applying it to the
credit ])roblems of reconversion.
The bill amends section 13b of the Federal Reserve Act. First, the
restriction on the making of loans to provide working capital only
is removed. This is because loans for the acquisition of plant and
equipment will be in much demand.
Second, the restriction of loans to a maximum 5-year maturity is
removed. This is because in many cases medium-term loans of longer
than 5 years will be necessary.
Third, the 80 percent guaranteeing limit is raised to 90 percent.
This change is based on the V-loan experience, namely, that banks will
need that much protection in many of their loans, particularly the
smaller ones.
Fourth, the $139,000,000 that was appropriated in 1934 under sec-
tion 13b is made available as a guaranty fund. Finally, the direct
lending provision is eliminated. These new powers are provided only
for a period ending December 31, 1949, so as to make it clear that
the program must be reexamined at that time.
The total guaranteeing operation under this bill cannot be as large
as the V-lcym operation but can be about as large as the V-loan pro-
gram in the two bottom-size brackets; that is, to borrowers w^ith assets
under $500,000. On the 4-to-l ratio provided in the bill, the total guar-
anty or commitment outstanding could be about $500,000,000. Assum-
ing an 85-percent average coverage of the total risk, which has been
the experience under the V-loan program, this would provide over
$600,000,000 of bank credit outstanding at any given date.
It is believed that this legislation should be adopted without further
delay, for the reconversion period is imminent. The loans made would
be made by private banks. To the extent that they are made without
reliance upon the guaranty, so much the better.
As with the V- and T-loans, the fee which the lending banks would
pay for the guaranty would increase with the percentage of the loan
guaranteed. Hence, an inducement would exist for the banks to as-
sume as much of the risk as they felt they safely could. No appro-
priation would be required from Congress, since the fund originally
provided under section 13b, which would be made available, should
constitute an adequate guaranty fund.
Of all the plans by which Government would provide business and
industrial credits in the period of transition, the Wagner-Spence bill
most fully conforms to the policy of doing the job and at the same
2418 POSTWAR ECONOMIC POLICY AND PLANNING
time preserving private enterprise. The relationship between the
business enterprise and its local bank should not be interrupted or
disrupted. The success of the V-loan program in liberating $9,500,-
000,000 in bank credit on the high-risk margin of war production is
our best guide to the principle tliat should be used in fortifying the
bank credit situation of business and industry under the great strains
that will undoubtedl}^ be encountered in the transition from war to
peace.
These thoughts must have been in the mind of Justice Byrnes when,
as Chairman of the AVar Mobilization Board and on two separate oc-
casions, he strongly recommended the passage of the Wagner-Spence
proposals.
This is a personal statement and I have not undertaken to clear it
with the other members of the Board of Governors of the Federal
Reserve System.
(For supplemental statement submitted by Governor Draper, see
exhibitl, p. 2489.)
The Chaieman. Thank you very much, Mr. Draper. I assure you
that we all deeply regret the fact that the unexpected call of the House
will interfere with the orderly procedure of propounding questions
by the members.
We are grateful to you for this spendicl statement and I am sure
that it will be of much value to the committee.
Mr. VooRHis. Perhaps later on we might invite Mr. Draper back.
The Chairman. We will be happy to do that, Mr. Voorhis, if we
can.
Mr. FoLsoM. We have only one witness tomorrow — Mr. Krug — ^but
1 am afraid that 3^ou will have so many questions of him that you won't
be through before 12 o'clock.
Mr. Draper. I am perfectly willing, Mr. Chairman, to be let off
easily.
The Chairman. I am sure you would be able to take care of your-
self.
The committee will stand adjourned until 10 o'clock tomorrow at this
point.
(Whereupon, at 12:15 p. m., an adjournment was taken until 10
1. m., Wednesday, April 25, 1945.)
POSTWAR ECONOMIC POLICY AND PLANNING
THURSDAY, APRIL 26, 1945
House of Representatives,
The Special Committee on Postwar
Economic Policy and Planning,
W ashing ton^ D. C.
The special committee met, pursuant to adjournment, at 10 a. m. in
room 1012, New House Office Building, Hon. William M. Colmer
(chairman) presiding.
Present: Representatives Colmer (chairman), Murdoch, Fogarty,
Gifford, Reece, LeFevre, Welch, and Simpson.
Also present: M. B. Folsoni, staff director; H. B. Arthur, A. D. H.
Kaplan, and C. A. Sienkiewicz, consultants.
The Chairman. The committee will come to order.
We have with us this morning Mr. John Clifford Folger, president.
Investment Bankers Association of America, Inc., and we will be
glad to hear from Mr. Folger at this time.
STATEMENT OF JOHN CLIFFORD FOLGER, PRESIDENT, INVEST-
MENT BANKERS ASSOCIATION OF AMERICA, INC.
Mr. Folger. With your ])ermission, I will refer to this memoran-
dum, which will take about 12 minutes to read, then digress to empha-
size certain points.
The Chairman. Just as you like.
Mr. Folger. I am a partner in the banking firm of Folger, Nolan &
Co., situated here in Washington, D. C., and have been in the security
business since the fall of 1929.
This country was built up around tlie practice of putting profits
back into the business. Such a practice — putting savings into
enterprise — is called investment. It is the most explosive and poAver-
giving foi'ce in our economic society. Savings are like the gasoline
in the tank of the automobile. Investment is like the pipe line which
pipes the gasoline into the motor and makes it turn over. Cut the
pipe line between the tank and the motor and the car stops. Cut the
iiivestment pipe line between savings and investment and the economic
system stalls. That is what happened in 1929. And in spite of all
the talk and motion, this pipe line, save for the war, has been more
or less jammed ever since.
Our present rate of employment is made possible by 85,000,000 bond
buyei's who have loaned their money to the Government to produce
war materials. The answer to peace jobs is in the hands of these same
85,000,000 bond buyers. If they will invest their savings in the peace-
99579 — 46— pt. 8 4 2419
2420 POSTWAR ECONOMIC POLICY AND PLANNING
time future of their country, as they have in her war purposes, there
is ahnost no limit to what we can do.
When a citizen buys a war bond he is inclined to think he is buying
a shell, a grenade, or a rocket bomb, or something that can be exploded.
He may not think of his investment as part of the job-making process,
whereas it is tliis money .s])ent by the Government which now makes
tlie wheels go round, rather than private money used in private busi-
ness, as was the case in earlier days. When the guns cease and the
war bond sales end then the question is, What is going to flow in this
capital pipe line, this channel that keeps the motor going?
In 1929 bank deposits were around 55 billions. Now they are over
140 billions. In 19i^9 banks had SO ])ercent of their funds working in
private business. Now it is the other way around — 80 percent of
their funds ai'e m cash or loaned to the Government.
The story of life-insurance companies is well known. Of total
assets in life companies, about 98 percent are of senior loans or mort-
gages. Between 1920 and the present time, holdings in Government
bonds have increased from 19 percent to nearly .50 percent of their
assets.
Mutual-savings banks in 1931 had 85 percent of their investments
in private-enteri)rise securities and now 40 percent.
Everyone has gotten under the bed with their money and if they
don't watch out they'll suffocate.
An interesting sidelight is that it has taken about 16 years for the
capital funds of our deposit-banking system to catch up with what
they were in 1929, a figure just short of 10 billions. Of course, we
now have onlv half as many banks; or about 15,000 as against 30,000
in 1929.
In addition to the above funds, we have 26 billions outside of banks
just floating around in people's pockets, in tills, or under mattresses.
There has been built up in this country a riskless theory of invest-
ment based on safety and liquidity. Everyone has built a Maginot
Line which he figures will protect himself, irrespective of what hap-
pens generally. This pursuit of security by individuals and man-
agers of capital mav endanger the securitv of all.
There are 1,000,000 $1,000 bills outside of banks in this countrv.
There are 40.000,000 $100 bills in circulation. This total amount of
money outside of banks is about equal to the debt of the whole Nation
at the end of World War I. It is several times the amount of money
that was in circulation in 1933 when we had to have cash because
the banks were closing.
The big real investor nov\- is the Government, and for war pur-
poses. When the war ends, who is going to take up the slack? This
very properly directs attention to the private investment banking
machinery. This is the channel through which private capital must
flow into business. Some say the investment banker emerged from
the doghouse only to jump into a fox hole. But hasn't everyone else
connected with financial matters done just that, whether banker, in-
vestor, insurance executive, or John Q. Citizen?
I take it this committee wants to discover any barrier to postwar
recovery. One of the first things to study is what has been stalling
private investment.
POSTWAR ECONOMIC POLICY AND PLANNING 2421
By and large, I should say there is sufficient capital in the invest-
ment business to do the job at hand. Some estimates have placed it
at over 300 millions with borrowing- power of 2 to 8 billions. This
capital turns over very fast, of course. It is that velocity which in-
creases the risk for the investment business. As a matter of fact, the
investment banker is now about the only venturesome spirit left in the
financial world and he is getting somewhat timid with advancing
years, and with his solitary role.
Last year, and so far this year, there has been considerable activity
in securities markets. Most of the financing has been in refundings,
but there is evidence of great denumd for securities, especially of the
safe variety. In this connection, it is interesting to observe that about
95 percent of securities registered and known to have been sold in the
last 10 years were of senior nature; about 85 percent in bonds; and
10 percent in sheltered preferreds. Venture capital has slowed to a
trickle. Postwar needs in financing are, of course, a matter of con-
jecture. Some estimates place annual needs to be covered by new
public offerings at from 21/0 to 41/2 billions. We read the statement
of Mr. Gilford indicating capital needs of American Telephone &
Telegraph at around a billion. It is generally accepted there will be
a great deal of new financing and some refunding after the war. We
submit that investment bankers either have or can get the money to
do their job, provided the climate is favorable for business develop-
ment.
The main thing, of course, is to get business — the job-making ma-
chine — moving after the war. It is important that we rip out every
practice or device that is standing in the way of savers putting their
savings into private, productive investments. Certain bottlenecks
are not far to seek.
At anything like present tax levels, no conscientious banker can
put his clients in anything but more or less riskless investments. Some
things can be done taxwise to help business. Favorable treatment of
capital gains and losses of individuals and corporations and suitable
periods of carry-forward and carry-back of operating business losses
should be devised to encourage investment and employment.
The capital gains tax should be lowered, not increased, and should
have continuity at a low flat rate. Rich people are facing the prob-
ability that the days of very large incomes are over. They will, how-
ever, take chances in the hope of increasing capital. Give the large
investor his chance at capital gains, avoid soaking corporations before
the money ever gets to the stockholder, help new and little business
taxwise, and we'll do more than anything to get venture capital out
in the open.
I want to stress here a point that I think is important in consid-
ering the machinery for distributing securities, and that is the very
large volume of securities now bypassing the SEC completely through
private placement. Large and sophisticated buyers are able to buy
unregistered securities. This rapidly mounting practice, intended for
special and unusual cases, has become a habit and is one of the best
indications that registration rules need simplification. Maybe big
corporations with their staffs can take 100-page prospectuses in their
stride, but the little fellows are inclined to say, "Oh, what's the use."
The Congress should take a look at the securities acts now that some
12 years of experience are behind us.
2422 POSTWAR ECONOMIC POLICY AND PLANNING
I have here a prospectus 81^ inches by 13 and nearly an inch thick
that is supposed to go, and does go, into the hands of every buyer
of a thousand-dollar bond of this issue.
Gentlemen, this complicated requirement is slowing down the dis-
tribution and merchandising of securities in our country. This hirge,
thick prospectus has over 100 .pages. Frankly, I haven't read that
and I doubt if any investor has ever read it. I have heard insurance
company presidents say they never read such tomes. Most people
get their information from certain boiled-down and condensed state-
ments, which are useful and serviceable in appraising security values.
I feel strongly that here is one of the bottlenecks holding up the
flow of capital.
If we are to persuade investors to risk their money in a dj'namic
economy, the Government must make things look encouraging. In
my opinion, the SEC should be more concerned with the main purpose
of getting savings into business rather than with the functions of
regulation. A credit man in a store can refuse to sell goods except
to a handful of those with proven credit. His record would be perfect
and yet he would lose his job because there would be no volume of
merchandise moved.
What we need is an awareness of the importance of getting private
capital to work. Tliis whole philosophy of reckless economy must
be arrested. There has been a feeling that if the truth were told and
filed with the SEC, there would be no losses. Conversely, it would
therefore appear that any losses were clue to misrepresentation. That
is not the case. There is bound to be some turbulence, ups and downs,
and losses in the postwar period. A continuing program of frighten-
ing capital and those engaged in providing it will not solve the prob-
lem. Capital will just remain under the bed. The man of tomorrow
is the oiie who helps put that timid money to work. Top-flight men
concentrating on that problem, with experience, understanding, and
sympathy for investment problems, should be added to the Treasury
and to the Departments of State and Commerce. That goes also for
the Federal Reserve, and it wouldn't hurt the SEC. Timid capital
needs encouragement and guidance from the Government, rather than
competition.
A word about calculated risk. That's a military term. Com-
manders took calculated risks in Normandy. They are taking them
every day. It may well be that large pools of capital, such as are con-
trolled in deposit banks, mutual savings banks, insurance companies
and trust funds, must set aside a certain percentage for what now
might be called unconventional investments. All cannot play safe, as
they now think they are doing, and still have private enterprise as we
have known it. They must get down out of the grandstand and mix
it up a bit with the players on the field. Otherwise there will be no
game to watch. We may need some changes in laws and rules govern-
ing trusts and financial institutions, giving them greater flexibility
as to fields of investment. If responsible people don't put money to
work, the irresponsible men or some socialistic government will.
May I again refer to the fact that, in my opinion, no one segment
of the population is at fault. We are all going down the same road.
There is a tendency on the part of management of large capital to sit
by the side lines rather than become aggressive in the solution of the
problem.
POSTWAR ECONOMIC POLICY AND PLANNING 2423
In certain jurisdictions, trnsts are not allowed to be invested in any-
thinf^ but the most highly secured bonds.
Mr. Mellon called the turn in 1929 when asked about the chano-e in
the market. He said, the market will end "when gentlemen prefer
bonds." No one dreamed at that time the extent to which such prefer-
ence would grow.
Investors are thinking primarily of two things. They are thinking
of liquidity and safety. This attitude springs, in a way, from a fear
complex. It might be compared to the attitude of certain New Eng-
land sea captains. We ai'e told about the old whalers who went so far
away and their food gave out. When the seafarers returned home after
a long absence, every time they went downtown they would buy some
crackers and cheese to take home and hide in the ralters. They had a
fear complex about running out of food. I suppose after an experi-
ence of that kind they never went back after whales again. But some-
body had to go out and get the whales. I presume the answer was
not to go so far, to take more food and to have better ships. Since
1929, people have placed inordinate stress upon safety and liquidity.
Unless there is a change, we are not going to have the vigorous dy-
namic business hoped for.
I am not offering the attached table as an exhibit, but I do draw
attention to certain trends in finance.
Starting from scratch in 1933, we see corporate financing reach a
peak in 1936 with $4,800,000,000, then recede to $1,000,000,000 in 1942.
This is in comparison with, say, ten to twelve billions in 1929. In 1944
the figure was $3,000,000,000. The first quarter of 1945 indicates about
the same volume for this year, although the remainder of the year is
anyone's guess.
Two revealing trends stand out in this table. First, the small
amount of new private capital going into corporate financing aver-
aging about $600,000,000 per year, about one-sixth of the rate in the
twenties.
Second, and I would emphasize this, is the large amount of securi-
ties which go the route of private placement ancl are not registered.
These securities are taken out of the stream of offerings available to
the rank and file of small investors. This fact stand out for good or
ill. I doubt very much whether the framers of securities legislation
realized how large this channel would become. Furthermore, it car-
ries some very prime securities. Most the prime mortgage bonds
on Washington utilities have been privately placed. Since 1936 nearly
every prime utility bond in this community has been sold privately to
the big buyers. Local buyers, the small one- and two-bond buyers,
the small insurance companies, the church funds, do not get a chance
to buy these privately placed securities.
There is considerable difference of opinion with respect to condition
of plants and amounts of operating capital now held by corporations
for use in the transition period.
Some people say corporations are rolling in cash and are not going to
need much money. We mustn't forget we are going to need a lot more
money than we have ever had in the past, because volume will be larger
and prices higher than in prewar days. Furthermore, it takes more
capital to finance ordinary business than to underwrite Government
orders.
2424 POSTWAR ECONOMIC POLICY AND PLANNING
My own feelino; is that corporations will need considerablyiiicreased
amounts of operating- capital. While the actual amount of cash held
by corporations has increased, ratios between current assets and lia-
bilities have in many cases decreased. In the thirties, volume and
prices were declining and much less operating capital was required.
For the transition and ])Ostwar period, conditions will be reversed.
Volume will be increased over prewar, prices will be higher, and it
Avill take more money generally to do business.
The Chaik.aiax. Will you pardon me for just a moment? I would
like for this to go oH' the record.
(Discussion held off the record.)
Mr. FoLGER. My testimony is almost complete.
May I point out what are regarded as some of the present defects
in oiir existing system of distributing securities. My thought is that
security distribution should give prime consideration to the 1- to 5-
bond buyers and the 10- to lOO-share stock purchasers down in Mis-
sissippi, and in Tennessee, New York, and in my home in Washington.
We nmst reach the (Sa.OOO.OOO individual investors who now ])ut their
money into businesses througli purchase of war bonds. If we are going
to reach such investors and encourage them to put their money into
enterprise, we must have a wide distributing system which is fair,
and gives everyone the same chance at securities that may be offered.
With private placement of unregistered securities, the large, so-
phisticated buyer travels a different road than the small investor. He
buys securities in large amounts and these do not have to be regis-
tered. This has a tendency to place first-rate securities in the hands
of the large buyer, whereas the little fellow out in the country takes
wdiat is left.
This has been true of bonds and I can see where in certain conditions
it would be true of stocks. I am told that private placement was in-
tended by Congress to provide the exception for someone who was in
trouble and needed a little money quickly, overnight, so to speak. This
exception is rapidlj^ becoming the rule. I am not drawing attention to
this because misery likes company, but I do point out that it is unfair
to the small security buyer and that it is not good merchandising.
Obviously, it is much simpler to drop by an insurance company
office, talk with some officials, agree upon terms and make a deal with-
out the delay and trouble of going through the SEC. I have had
some private deals myself, but I don't think they are in the interest
of the average investor.
NoAv, may I pay my very brief resjDects to competitive bidding.
Under this system, the large investor gets what he wants. He can
act quickly and can take advantage of opportunities. Competitive
bidding injures the country-wide merchandising system for securities.
AVhy wait for the little fellow to make up his mind whether he wants
to buy a thousand-dollar bond and take the carrying risk when you
can go to the big buyer and sell in a moment a large volume of securi-
ties? Private placement and competitive bidding have combined to
remove the incentive to do a merchandizing job of securities evenly
throughout the country.
The subject of price maintenance has, I believe, already come be-
fore this committee in some detail. In order to distribute securities
fairly and evenl}^ a one-price system has been built up over a half
POSTWAR ECONOMIC POLICY AND PLANNING 2425
century. This provides market stability and o;ives the small and
remote investor the same chance that a large, nearby investor may
have. When yon consider the 3 hours' difference in the time be-
tween here and California, yon will see that the good things might all
be gone before markets open up on the coast. Price maintenance in
syndicate agreements is important with bonds and of very great im-
portance, i>ractically indispensable, to the orderly distribution of
equities. One doesn't take so much risk with high-grade bonds, but
on equities there is greater market fluctuation and more of a mer-
chandising job is involved.
It may be poor taste for me to say anything about the SEC. or
changes in the Securities Act. 1 might be compared to a baseball
player complaining about the umpire. There is no thought of elimi-
nating the SEC. That agency is performing a very useful and neces-
sary function, but I do believe that some changes in the rules are
needed. It was necessary to move the goal posts 5 yards to keep the
players from butting their heads into them when crossing the goal line.
I have already referred to the size of the prospectus. I realh^ feel
some peo})le should be locked in a room and not released until the job
of simplifying the prospectus is completed.
Here is a report an inch thick which represents months of effort
on the part of the SEC and the industry to agree upon needed changes.
It seems to me that Congress having originally passed the legislation,
must and should arbitrate this matter so that some of the bottlenecks
can be removed. I don't think we will get anywhere with respect to
simplification of these procedures unless Congress really takes the
initiative and completes the job.
The complexity of the registration process, the awkwardness, the
forms, the many exhibits, the complicated rules, are frightening and
have a tendency to slow things down.
Then there is the inclination on the ])art of the SEC to use its broad
powers in a supervisory way to interfere unnecessarily with business.
Lifting the exemption on registration from $100,000 to sav $500,-
000 or $1,000,00 would help little business.
In closing may I say that there is reason for striking an encourag-
ing note. It has been my experience and observation that business-
men generally are inclined to go all out for expansion and employ-
ment.
The figures I have shown you on corporate financing since 1933,
may take a very sharp upturn after the war. They must take a de-
cided upturn.
So far as new money is concerned, we may need as much in one
postwar year as has been put out in five or more years during the
thirties. This is the postwar requirement that nuist be considered.
Whether individuals will feel like putting up that amount of private
money may be a matter of psychiatry. Mental attitudes will have
a great deal to do with finance. Possibly the most important prob-
lem is to get the mental attitude of investors in an optimistic state.
Mr. Chairman I believe that concludes my testimony.
Mr. GirroRD (chairman pro tempore). Mr. Folsom, do you have
any questions ?
Mr. FoLsoM. He has covered all the questions I had in mind. I
gave him a list beforehand of some of the things I wanted him to
discuss, and I think he has adequately covered them.
2426 POSTWAR ECONOMIC POLICY AND PLANNING
]\Ir. GirroRD. I simply want to observe that I liave a scrapbook in
my office containing material i-egardin|>- the doings of the Secnrities
and P^xchange Commission, which we watched very carefully for a
time, but like all other things we set up here, after a while we forget
all about them and they carry on as they please.
I argued today that I think the Securities and Exchange Commis-
sion might well act upon complaints, but not, as you say, supervise
the functions of everybody and make them await their decision when
the time for investment may have gone by. They have certainly been
a very great disturbance.
As an investment banked, you want to be the distributor?
Mr. FoLGER. Yes, sir.
Mr. GiFFORD. I remember those good old days. I was invited to
take part in many proceedings where we might get control of all the
barber shops, and if we could control the barber shops (hen we could
determine what should be paid for a shave. If we could show an
investment banker we could do that we could get the money.
NoAv, the Government not only furnishes capital, but guarantees
against loss. That has gone to a very great length and is still going
at a very fast pace.
Of course, I am worried about people wanting only security. They
have been taught that, rather than take any risk in security invest-
ment bonds.
My people want to start up in business again after the war is over.
They must expand. They tell me that they have not much money on
hand. We have begged the Ways and Means Committee to let them
set aside 15 percent for war recovery. Congress hasn't seen fit to
do that.
I gather, from what you say, you want Congress to act as an arbi-
trator. Your prospectus there, was that made up to conform with
SEC demands?
Mr. FoLGER. That is right, Mr. Gifford. Before one can negotiate
a sale of a thousand-dollar bond of the described issue, he must place
this large volume in the hands of the purchaser and get a written re-
ceipt for it. Of course we can't make the purchaser read the pros-
pectus. There is no law to compel him to examine it. I submit when
you make material of that kind so voluminous it defeats its very
purpose. People just throw up their hands. I don't read them. Few
if any people do. We take services that condense the material to
one or two pages and thereby get the main facts.
The present prospectus is illustrative of the cumbersome nature
of the forms which slow down the flow of capital.
Mr. Gifford. Of course it does. Congress, you say, should act as
an arbitrator on simplification?
Mr. FoLGER. We had committees from various organizations in the
business to meet with representatives of the SEC. Mind you, the
SEC Commissioners are personal friends of mine, men of fine char-
acter. But, men don't give up power. They want to increase their
authority rather than to diminish it.
If we are going to multiply by six times the amount of new capital
in corporate finance which some say will be necessary, we must im-
prove our merchandising technique and open up investment channels.
We have seen 40 percent of the volume in securities sales skirting
POSTWAR ECONOMIC POLICY AXD PLANNING 2427
around tlie SEC in private sales. That is evidence that a bottleneck
exists.
Mr. GiPFORD. For yer^rs I took the New York Times on Sunday
and read the articles on finance.
How do you account for Congress refusing to call the businessmen
in here? Do the businessmen fear the repercussions?
Mr. Reece. I belong to the Committee on Interstate Commerce
which formulated the original acts dealing with this subject, and we
have had extensive hearings from time to time. It hasn't gone un-
noticed, but we have been unable to do very much about it, and I
presume the difficulty arises out of the indication that was given a
while ago, the difficulty Congress has experienced in getting back
power which it once gave away. These agencies don't easily come in
and recommend that legislation be passed withdrawing some power
that once has been given to them.
All of these subjects to which Mr. Folger has referred have been
given some consideration by the Legislative Committee, which has
jurisdiction. Somehow we have been unable to act under all circum-
stances.
Mr. GirroRD. Did you find that witnesses were fearful to testify?
Mr. Reece. There has been no timidity on the part of people to
testify and point out the changes that ought to be made. The
timidity has rested with the committee dealing with the subject,
Mr. GrFFOKD. I have been a member of the Banking and Currency
Committee and I have found that the businessmen have been fearful
of testifying. People have a great fear of the Government over their
business. They are fearful because they could receive dire punish-
ment on rediscount ing and all of that sort of thing. They are afraid
of the Government in all directions, I find, and we can't get them
here to testify.
You have noticed that, haven't you ?
Mr. Reece. They have been knocking at the door of the committee
for many years, for an opportunity to testify.
Mr. GiFFORD. I guess this should be off the record.
(Discussion held off, the record.)
Mr. Reece. Mr. Chairman, before this witness relinquishes his
position before the committee, I want to say that I think he has made
a very able presentation and one which should have the attention and
consideration not only of this committee but of Congress and of the
country, and I think his appearance here this morning has reflected
a great deal of credit upon the Investment Bankers Association, which
he heads.
There is a tendency for the people who are not in position to observe
the personalities in a business organization to become prejudiced, un-
consciously, and feel that they may be motivated by some motives other
than the highest and most patriotic motives. That is, we have a
tendency to attribute a selfishness to any position which they take,
and the mere fact that the Investment Bankers Association elected a
man of the type of the witness here before the committee, the action
itself reflects a good deal of credit and should inspire confidence.
Having known this witness for many years, I can say that I know
he is motivated by the same high principles of patriotism and interest
in the welfare of his countrj^ that any of us are motivated by, and
2428 POSTWAR ECONOMIC POLICY AND PLANNING
he came from the same surrouiidiii^s, the same atmosphere, and has
the same interest in the welfare of our country that any of the rest
of us have.
I am sayin<j this more for the purpose of illustrating the approach
which the organization which he represents has made to this whole
problem, and it should inspire a very considerable degree of confi-
dence on the part of those of us in the legislative branch who are
undertaking to deal with this subject.
I am very greatly impressed witli his approach to this subject.
As Mr. Folsom knows, I have discussed with him the importance
of this committee making the study of this phase of the reconversion
program. As Mr. Folger has indicated, it may be necessary for us
to build some dikes and plug some leaks, but the most important
thing we can do is clear the channels, and in order to do that we
have got to open up an opportunity for reasonably free flow of secu-
rities. And I was glad to see him emphasize that there must be a
certain degree of calculated risk taken. I think possibly the Secu-
rities and Exchange Commission may have erred more in that respect
than in some of the others in trying to make sure that nobody as-
sumes any material risk in the purchase of securities.
I probably shouldn't have said this much. I do want to refer fur-
ther, however, to what the witness said with reference to certain
amendments to the Securities Exchange Act, some of which are
pending now before the legislative connuittee. There has arisen
a question with respect to maintenance of price, which is also a bill
pending before the committee. I presume you are familiar with that.
Would you care to express an opinion on it?
Mr. FoLCiER. If this price-maintenance feature in our syndicate
agreements cannot be maintained, there will be further disturbance
in the system of distributing securities, and that applies especially
to equity capital, which is so important at this time.
Un.der the registration provisions it is understood there shall be
one price stipulated for a security issue. Now, one can't have a price
for a second and then a changed price. We must have consistency
and orderliness in our market arrangements; otherwise, there is a dis-
position to run to cover, and sell if securities are a bit slow. Securi-
ties may be sound and worth more than the issue price, but if a feeling
of panic prevails over the country, then, that security may sell many
points below its real worth with a great injury to the merchants who
have the securities on hand and to the public generally. People don't
like to buy securities on a falling market.
There are a great many important factors involved and I certainly
hope that the emendment to which Mr. Reece refers will be enacted
into law. Otherwise, there will be a great disturbance in the security
market.
Mr. GiFFORD. Off the record.
(Discussion held off the record.)
Mr. GiFFORD. Thank you very much, Mr. Folger.
Mr. Folger. Thank 3'ou.
Mr. GiFFORD, We have another witness to testify. We have Mr.
J. Wilson Steinmetz, of Philadelphia,
Have you a statement?
POSTWAR ECONOMIC POLICY AND PLANNING 2429
Mr. Steinmetz, I have a statement, but I do not have enough copies
for the committee. I have made arrangements to have copies made
and I will see that you get a copy.
The statement I have is a very short one. I come as an individual
arid express my own personal opinions.
STATEMENT OF J. WILSON STEINMETZ, BANKER,
PHILADELPHIA, PA.
Mr. Steinmetz. In spite of the improved liquidity of business
shown by the cooperative study. Survey of Business and Finance
1939-1943, undertaken by the Federal Reserve System and the Robert
Morris Associates, and the continued trend in that direction shown
in statements already received by our bank this year, I believe we will
have an increased demand for bank loans in the postwar period.
While we may receive less requests for the conventional tyjje, short
term, unsecured credit, I believe that because of internal changes in
business, both in type of equipment and product and in the changed
policy by management, there will be a built-up demand for loans to
finance increased volume, increased plant facilities, and the replace-
ment of inadequate or obsolete equi])ment. The latter t3^pes of loans
usually result in increased demand for working capital to operate the
new equipment, and if we are to maintain our economy on a basis
sufficient to produce a national product as high as is indicated by some
and to provide as many jobs as others believe are necessary, it will
require financing.
We have received sufficient evidence from enough customers that
they are contemplating the balancing of their production by the addi-
tion of machinery and from others who are contemplating replacement
of obsolete equipment to lead us to believe we may expect to lend a
fair amount of money.
It is fortunate that during the depression and the war periods banks
^enei-ally learned new techniques in credit granting and that the
method of financing the war effort has resulted in a liquidity among
the banks which enables them to enter the period with a willingness
and determination to do the job, whatever form it may take, provided
it is consistent with sound banking procedure.
Loans for the expansion of business can either contemplate financing
of current assets, such as accounts receivable and inventory, or a
combination of current assets with fixed assets. The former type, if
need be, can be secured by the pledging of accounts receivable and/or
inventory, self-liquidating loans, providing for the fluctuation of these
assets. Most State laws now provide for the pledging of these assets
in one form or another.
Loans to finance the purchase of machinery, both out of the surplus
owned by the Government and from private sources, as well as new
types of machinery from producers, will undoubtedly be required.
Where it is clear that the earning capacity will be sufficient to make
these loans self-liquidating within a reasonable period of time, there
should be no difficulty in obtaining the proper type of term loan to
finance them.
Growth and expansion loans where there is sound management have
never really presented a difficult problem.
2430 POSTWAR ECONOMIC POLICY AND PLANNING
There undoubtedly will be requests from marginal producers, who
during the war period have improved their financial pictures some-
what and who will want an opportunity to demonstrate their ability
to produce in competition in the postwar period. The degree of suc-
cess of these businesses will depend largely upon the general economy.
"While the going is good, they may be fair risks but will have to be more
carefully considered and watched in relation to the business cycle.
Because of the present liquidity of banks, I think a larger number of
these loans will be made than would have been made during the depres-
sion period wdren there was a general mad craze for liquidity.
There is a type of loan that we have always had requests for and
always will, in which there is no special technique but the granting of
which is largely a matter of judgment. I have in mind the out-and-
out capital loan whether made to a company already in business for
the starting of a new department or a special type of work in which
they have had no previous experience, or to an individual starting in
business where there is no previous experience from which to draw.
These are largely character and capacity loans. Here the picture is
quite obscure, and it may be in tliis area some applications for loans
Avill arise where banks should not risk their depositors' money.
In addition to the above business loans, there will be a considerably
larger volume of consumer credit financing by banking institutions to
enable individuals to buy semidurable goods. We expect' to do our
share of this type of financing as well as personal loans to take care of
personal expenses, which are altogether character loans.
We are already making known to our prospective borrowers, who
are also our customers, by direct correspondence and personal visita-
tion our willingness to consider with them their financial needs what-
ever they might be. To the community in general we are making it
known through a publicity campaign, acquainting them through
various means of advertising of the facilities which are available and
of our desire to consider with them their individual problem, with
particular appeal being made for the smaller business loans.
I believe from my contact with bankers generally that they are more
awake to the need for providing financial assistance to every com-
petent borrower than at any time in my 35 years of experience. I
believe bankers generally recognize the need of providing credit facili-
ties for their customers and that an enlightened self-interest demands
that they exhaust every means at their disposal to see that their cus-
tomers needs are satisfied.
It is my pereonal feeling that this is essentially the bankers' job, that
they should be given every opportunity to make these loans them-
selves. If for au}^ reason they cannot make them, they should work in
cooperation first with their correspondents, and if they cannot make
it in combination, should work with the bank credit groups which have
been formed for this purpose. If for any reason there are loans that
are not or cannot be made through these sovirces, means have already
been provided under section 13B of the Federal Reserve AH in a
limited way. The provisions of this section might be amplified and
some of the restrictions removed. With some changes the pending
Wagner-Spence bill might be the solution to this problem. With this
array of credit facilities available, no competent borrower should
suffer for the want of a proper loan. I, therefore, see no reason for
POSTWAR ECONOMIC POLICY AXD PLANNING 2431
the addition of any other governmental agency to enter into compe-
tition with these existing facilities.
Mr. GiFFORD. ISIr. Folsom ?
Mr. FoLrSOM. Mr. Steinmetz, has your experience been mostly with
smaller companies or larger companies ?
Mr. Steinmetz. Mostly with smaller companies, Mr. Folsom. We
are definite!}^ a neighborhood bank.
Mr. Folsom. You mentioned the border-line case of the companies
who require really equity capital, as to whether the banks could
really get into that field or not.
Do you think there is any need for any organization which might
supply that equity capital, or help suppl}^ that equity capital, to the
small firms who can't go into the investment markets
Mr. Steixmetz. I think there is a definite need to supply that type
of capital. I indicated that I think the whole thing is quite obscure.
I think it ought to be gone into b}^ the interested groups and a plan
worked out.
I think I could illustrate it Avith a personal experience which we
had recently. It doesn't just fit this particular case, but it is in-
dicative of tjie kind of loan that you run into. It was a family-owned
bu-siness. One interest of the family wanted to withdraw. The
question came up as to how the remaining interests should finance the
purchase of the other interest. In this particular case there .were
financial means enough in the other interests to have done the job by
themselves. I mention this only because it shows the angles you
get into. Very often they are not able to do it. It wasn't large
enough for the public to be intei-ested in a minority interest. We
worked out with them what we thought was a satisfactory approach
by using the credit of the individuals. When their accountant was
called in to consider it he pointed out to them that by the time the
corporation got through paying its taxes and then had to pay a
dividend on the stock and the individual holders of the stock that had
been puichased paid their tax on the dividend there would be very
little loft for the new purchasers to pay their loan.
Well, the result was that he suggested, whether rightly or wrongly,
if the company purchased a portion of the stock, they would avoid
that one step of taxation and be able to retire the debt a whole lot
(juicker than if it had gone through the proper process of taxation.
I mention this to indicate that tax laws result in peculiar methods of
financing.
The other thing that you constantly run into is a request for a loan
from the little fellow in the neighborhood who has been the foreman
or superintendent for a manufacturing concern and has toiled away
for many years and thinks he ought to use the knowledge he has ac-
quired by getting into business for himself. He has a very modest
amount of savings. It is hard in these days for him to do it. He
comes in and says, "1 have the ability and I have a few dollars.
Won't you help me get into business or won't you help me purchase
a business already in existence?"
They are definitely equity-capital loans. There have not been in
our banking system the means to make these loans except in the case
when a neio-hborhood bank does it on a strictly character basis, as
I have tried to indicate.
2432 POSTWAR ECONOMIC POLICY AND PLANNING
We know this fellow and we know he hjis the know-how and that
he is honest, but sometimes it takes considerably more money than a
fellow can save to get into an individual business.
I submit to you gentlemen in the period prior to our getting into
the depression a great many of the now large businesses were the
result of just those small beginnings. We did not have the entangle-
ments that we now have, and we fellows in the neighborhood, as I say,
financed those fellows to a degree, but there is always a limit beyond
which we cannot go.
Mr. FoLsoM. AVill these bank pools lielp that situation any?
Mr. Steixmetz. I think to some degree they will. I am not one
of those who believes that these credit pools are just make-believe
things. I happen to be on the committee of the Philadelphia group
and I know" the feeling of that group is that we are going to make
loans even though we are going to take losses. We recognize the re-
sponsibility to the connnunity we serve.
Mr. FoLsoM. Are you familial- with the plan that was pro]X)sed
a day or two ago before this connnittee by a committee from the In-
vestment Bankers Association of setting up these local companies to
divide equity capital to small companies?
Mr. Steixmetz. I read it conung down on the train.
Mr. FoLsoM. Do you think thei-e is need for some kind of organiza-
tion like that ?
Mr. Steixmetz. I think there is need for something in that area.
Whether it should take that form I should rather like to study and
express an opinion after having done so.
Mr. FoLSOM. That is all I have.
Dr. Kaplax'. Mr. Steinmetz, you have indicated that short of out-
and-out equity caj^ital the banks can go into the field of lending work-
ing capital for equipment and expansion so long as the banks can
see how it may be liquidated over a term of years. It has been sug-
gested that the banks don't feel that they can take very much of
that kind of capital because it might afreet the liquidity of the banks,
and there have been some complaints that the banks aren't liberal
enough in considering loans of that sort.
The suggestion, therefore, has been made that it might tend to
make the banks more liberal in their loans if some sort of insurance
scheme, and FHA and FDIC has been decided, might be developed
out of which it might be possible to take care of a part of the losses
of the bankers on risk loans.
Would you mind indicating what you as a banker might think
would be the possibilities or limitations of an insurance plan to
liberalize your lending for working-capital purposes?
Mr. Steix^metz. Dr. Kaplan, this question of insurance always
intrigues me. I have been accused at times of being a rugged in-
dividualist. Sometimes I like it and sometimes I don't. There are
times when we ought to act independently. There are times when
the public interest is at stake when we ought to act cooperatively.
My own experience with insurance, and here is where 1 may be shot,
has been that whenever you attach insurance to something you at-
tempt to protect yourself against loss. The result is that there is a
tightening up in the process because the supervisory authorities of any
insurance program are just as anxious as anyone else to make a record
POSTWAR ECONOMIC POLICY AND PLANNING 2433
for themselves and tlie result is that in a desire to save somebody from
loss there is is a tightening up of the market for the use of money.
Now I think the answer to the situation, instead of attempting to
protect us against loss is to recognize that there are certain calculated
risks necessary. If in doing that we in effect do what the insurance
people do, and we know what they do, we reinsure. Why reinsure?
AVhy don't we take those loans cooperatively in the first place, recog-
nizing the risk and sharing the risk with the idea that any one of us
could stand the shock of whatever that calculated risk may be?
Mr. GiFFORD. I would like to ask one question, and then I am going
to ask Mr. Fogarty to take my place.
What percentage would you tell us you have invested of your depos-
itors' money in Government bonds?
Mr. S'FEiNMETZ. We have no guaranteed obligations. We prefer to
buy the direct obligations.
Mr. GiFFORD. What percentage is that?
Mr. Steinmetz. We have some 80 percent of those. I am not too
proud of it. I should like to make as a supplementary statement to
that I think there is too much emphasis being placed on liquidity. I
am afraid when we are too liquid we are not functioning too well.
Mr. GiFFORD. In the statement of my bank it was interesting to note
how the percentage had increased. They have gotten up to 80 percent.
If money is needed and you have invested it in Government securities,
what are you going to do, are those Government securities frozen, or
would you easily transfer them and get money?
Mr. Steinmetz. I don't think that presents as serious a problem as
some people think.
Mr. GiFFORD. I don't know that it does. I am asking you what you
would do. You need more than 20 percent for your customers, don't
you ?
Mr. Steinmetz. I hope we do, and I believe we will.
Mr. GiFFORD. If you needed more, what would you do?
Mr. Steinmetz. We would get rid of our Government securities and
make loans to enterprises in the community.
Mr. GiFFORD. How would you get rid of them?
Mr. Steinmetz. We would sell them.
Mr. GiFFORD. To the public?
Mr. Steinmetz. We would have to sell them in the public market.
Mr. GiFFORD. Wouldn't the Federal Reserve take them at par?
Mr. Steinmetz. The Federal Reserve would lend against them at
par, but it is a question whether we should pay them a rediscount rate
when we could sell them in the open market and replace them with
another loan. A great deal of that would depend upon whether the
situation was temporary or whether it was long term.
Mr. GiFFORD. A great volume of it is going to be needed. If there
is any great volume you will have difficulty disposing of it. The Con-
gress provided to lend to you at par at a small rediscount rate. You
probably would rediscount them with the Federal Reserve, wouldn't
you ?
]\Ir. Steinmetz. I think temporarily that may be true. Over the
long term I am afraid it would not be true.
There is generalh^ aversion on the part of bankers, largely as a
result of public criticism, to showing bills payable on their statements.
Mr. GiFFORD. How much in bonds is now cashable ?
2434 POSTWAR ECONOMIC POLICY AND PLANNING
Mr, Steinmetz. I don't know the exact figure. Of course, there
are a lot of demand obligations of the Government.
Mr. GiFFORD. There are $30,000,000,000 as I am informed. $26,-
000,000,000 I was informed here is in their pockets. That seems to
be a lot of money.
Mr. Steinmetz. If by chance the public wanted theii" money and
the Government had to revert to other means of getting its money,
the result would be increased deposits, and, therefore, increased funds
available for the banks.
Mr. GiFFORD. We have created this money by debt. If I gave you
my note for a thousand dollars and got the cash, you would be creating
that $1,000.
]Mr. Steinmetz. Yes.
Mr. GirroRD. There is no question but the Government has done it.
The debt, in going up to $300,000,000,000, is creating money.
Mr. Steinmetz. There is no question but that the present liquidity
is a result of that process of creating deposits. There being no other
place to put the money, we put it in bonds, and that is the reason our
Government percentage is as high as it is today. Where else could
we put it i We have knocked tlie buslies for loans through this period,
and they are not available in proportion to our deposits.
Mr. GiFFORD. The idea back of it all is that you have money to loan
me to buy bonds with but little money to loan me on risk capital,
]\Ir. Steinmetz. I would not agree with you as far as our bank
is concerned. We will greet you with open arms.
Mr. GiFFORD. I will come up to see you. [Laughter.]
I would like for this to go off the record.
(Discussion held off the record.)
Dr. Kaplan. Have you wound up your summation of the question
of insurance and its applicability to the bankers' problem?
Mr. Steinmetz. I think I have. Have I answered it to your satis-
faction ?
Dr. Kaplan. I merely wanted to get on the record your view, as a
banker, as to whether that is a device you would look to.
Mr. Steinmetz. Maybe I could emphasize a little more the point
you are trying to make. In saying this, I have no fault to find with
the procedure set up within the banking system to date.
Let me try to illustrate the point I am attempting to make. You
have at least four supervising organizations in the banking business
today to make sure that we don't make bum loans. Each one of these
is jealous of his own organization. You came along with the FDIC
and I have no fault with the principle involved. It served a very
desirable purpose at a desirable time. But if in a desire to make their
banks so safe that no depositor loses money, they enter into competi-
tion on the supervising examining side with the other agencies who
are just as jealous to see the banks under their supervision are so
clean, aren't you defeating the purpose of one of the main functions
of the bank, that is, making the loan which at some time may be a
risk loan I Isn't it logical that would cause a tightening up?
Therefore, I conclude that when you attempt to insure the natural
result is that the fellow who is put in charge of that insurance organ-
ization is out to make a record for himself and you get a tightening
jrt'ocess when what you ought to get is loosening process.
POSTWAR ECONOMIC POLICY AND PLANNING 2435
I don't mean to get out of bounds. I mean tluit it isn't logical
that a fellow who is supposed to see that you are so clean that you
don't make a loss is going to be derelict in the performance of his
duty. There is a natural tendency to tighten up by that process.
Dr. Kaplan. Does that apply to guaranty of loans?
Mr. Steinmetz. Lloyd's of London, don't call their policies insur-
ance policies. They call them guarantee bonds. I should like to know
the difference between an insurance policy to protect you against loss
and a guarantee. I think they are the same thing. They are called
by different names. I think the sharing of the risk is the better ap-
proach, and I think there is ability and willingness by the banks to
do tliis job.
I have tried to indicate that if they can't do it, there are already
sufficient means for us to do it with some liberalization. Now give us
an opportunity to do that job.
Dr. Kaplan. Where will the motivation come for that liberaliza-
tion?
Mr. Steinmetz. It has to come from where the demand will arise.
I think we alreacl}^ see evidence that there is a demand for this, and I
think the attempt on tlie part of the legislative bodies to offer a solu-
tion to this thing is an indication that the public is already demanding
something of that sort.
I think, as I say, an enlightened self-interest on the part of the
bankers indicates that they are getting — and undoubtedly acting in
accordance with what they are o:etting — that feel of the thing, and are
approaching it with the idea oi trying to supply that need,
Mr. LeFevke. What are the four agencies you have referred to?
Mr. Steinmetz. You have the Comptroller of Currency examining
organization ; you have the Federal Resei've System examining organ-
ization. You have the various State bank examining forces and you
have the FDIC. As I have indicated, I think it is logical that each
organization wants its group of banks to appear to be the best banks.
Mr. FoLSOM. But each bank doesn't have that many examinations,
Mr. Steinmetz. Oh, no. You see, each organization builds up a
table showing the banks under its supervision and the liquidity of
them as compared with the liquidity of other banks, and the competi-
tion grows.
Mr. Simpson. Do you think you have too much Government super-
vision?
Mr. Steinmetz. Frankly, yes.
As I indicated to you before, I am accused of being a rugged indi-
vidualist. I am just as jealous about doing my job, whether I am
supervised or not. I am accountable to people who deposit their
money with my bank and I am accountable to our stockholders, and
if I discharge that duty well, then I don't need supervision.
Mr. Simpson. Doesn't your bank stand ready to make a loan to any
individual or any small business corporation that is entitled to it, re-
gardless of Government help ?
Mr. Steinmetz. Yes, sir. As a matter of fact, we have made loans
in this war period without resorting to Regulation V, on a basis that
if they were good enough for somebody to guarantee, they were good
enough for us to make. We knew the individuals, and we knew they
could produce goods and, after all, what we were lending against were
99579— 46— pt. 8 5
2436 POSTWAR ECONOMIC POLICY AND PLANNING
Government accounts receivable that were coming into being. We
knew they would get into the accounts receivable state and all we had
to do was finance them to that stage. We knew when the account was
paid, the customers would pay their loans.
Mr. Simpson. What do you consider, as a banker, the difference,
between a small retail merchant and a small business?
Personally it seems to me that here in Washington, with the dif-
ferent committees handling and investigating the small business, they
do not separate the two agencies. I mean by that a retail business
and a small factory employing 100 people or more. I think the issue
is confused here.
Mr. Steinmetz. I think it is confused everywhere.
We have attempted — I am referring now to the cooperative study
that the Robert Morris Associates have made in conjunction with
the Reserve sj^stem — to get some information about all classes, man-
ufacturing companies, wholesale trade companies, and retail trade
companies.
Well now, when you get down into the retail trade group you
have the neighborhood corner store. When you talk in terms of
millions of businesses, I am afraid sometimes we talk about small
business and use these figures to emphasize the numbers. Now they
are with you and now they are not. They come and go. You have
the neighborhood merchant who has Ijeen there for years and maybe
his family before him. They present no problem. But you have the
fellow who comes into the neighborhood who is entirely a stranger
and starts up a business, and I think if we were to check the statistical
record, we would find that at least 80 percent of these are doomed to
failure when they start, either due to lack of capital or lack of ca-
pacity. Yes, when we build up the figures, we talk about those things
rather glibly as representing a picture, and we build a strong case.
I don't think personally, that small business where you have con-
fidence in management is at present too bad off or has ever been too
bad off. Xow it is true that in the early period of the war effort a
case can be built up that there was a lag. It is natural that there
should have been a lag in the flowing of that business to the smaller
fellow, because in an emergency situation it is logical for the services
to go to the fellows who have the know-how, or who could get going-
faster because of their organization. Our study indicates that after
about a year that lag caught up, and the speed with which the small
business went was at a greatly more accelerated pace than it was
with large business.
That is a condition that usually exists. I think the research or-
ganizations of the larger companies keep them more closely in touch
with markets, and they can do more anticipating than the smaller
fellow can.
I think we sometimes lose sight of the fact that small business could
not be prosperous unless large business is prosperous and that we
should not necessarily put a penalty on being big. If big business is
prosperous, usually small business has a degree of prosperity. Cer-
tainly, one is so much dependent on the other that Ave ought to think
of them in terms of being correlated.
Mr. LeFevre. What is the rediscount rate charged by the Federal
Reserve banks ?
POSTWAR ECONOMIC POLICY AND PLANNING 2437
Mr. Steinmetz. I am sorry, but I haven't availed myself of it. I
see some Federal Eeserve men over there. Probaby they could tell us.
It is so low that we don't even worry about it.
Mr. SiENKiEWicz. It is one-half percent on Government short
maturity.
Mr. Steinmetz. What about the longer maturity? Of course we
are not allowed to handle those. It is purely academic.
Mr. Sienkiewicz. One percent over a year.
Mr. Steinmetz. I thought that was it, but I didn't want to say so,
because I was not sure.
Mr. f'oGARTY. Dr. Kaplan, do you have any more questions?
Dr. Kaplan. No.
Mr. FoGARTY. Mr. Simpson?
Mr. Simpson. No.
Mr. FoGARTY. Mr. LeFevre?
Mr. LeFevre. No.
Mr. FoGARTY. Mr. Folsom ?
Mr. I'oLsoM. No.
Mr. FoGARTY. Thank you very much, Mr. Steinmetz. We appre-
ciate your coming down here.
Mr. Steinmetz. Thank you for your courtesy.
Mr. Fogarty. We will adjourn until tomorrow morning at 10
o'clock.
(Whereupon, at 11 : 55 a. m., the committee adjourned to reconvene
Friday, April 27, 1945, at 10 a. m.)
POST¥/AR ECONOMIC POLICY AND PLANNING
FRIDAY, APRIL 27, 1945
House of Representatives,
Special, Committee on
Postwar Economic Policy and Planning,
Washington^ D. G.
The special committee met, pursuant to adjournment, at 10 a. m.,
in room 1012, New House Office Building, Hon. William M. Colmer
(chairman) presiding.
Present: Representatives Colmer (chairman), Gifford, Welch,
LeFevre, Zimmerman, Ljaich, Simpson, and Voorhis.
Also present : M. B. Folsom, staff director; H. B. Arthur, consultant;
A. D. H. Kaplan, consultant; and C. A. Sienkiewicz, consultant.
The Chairman. The committee will please come to order.
We have called this session to hear Mr. Emil Schram, president
of the New York Stock Exchange, and we are going to turn the time
over to you, Mr. Schram. You may use it as you see fit. I assume
you have a statement ?
STATEMENT OF EMIL SCHRAM, PRESIDENT OF THE NEW YORK
STOCK EXCHANGE
Mr. Schram. Mr. Chairman, I have a very short statement here
which Mall take, about 7 or 8 minutes to read, and then I hope, pos-
sibly, that will suggest some questions that I will be glad to answer
if I possibly can.
The Chairman. I am sure it will.
Mr. Schram. It is most gratifying to me, and I am sure to the
representatives of business generally, that this able committee is
addressing itself to the problems of the approaching transition and
the early postwar period. I welcome the opportunity to offer some
comments and observations, particularly as to the role of the securities
markets in facilitating the flow of capital into industry.
As we emerge from war to a peacetime economy, the problems of
readjustment will demand the same type of unity which has developed
in the prosecution of the war and will require managerial skill and
resourcefulness equal to those which are being applied in winning
the war. Obviously, in the course of readjustment the transfer of
personnel and equipment from various types of production to other
types will necessitate the employment not only of short-term capital
which may be obtained through the usual banking channels, but also
long-term capital which can best be procured through recapitalization
and the issuance of additional equity and debt securities.
2439
2440 POSTWAR ECONOMIC POLICY AND PLANNING
It is impossible to predict how many billions of dollars will be
required, but we do know that the demand will be of lar<i;e proportions.
Indeed, we may expect that the total of capital requirements will far
exceed anything hitherto known in industry.
Of one thing there seems to be no possible doubt — that the vast
reservoirs of private funds built up over the past several years are
awaiting an attractive outlet for investment and, irrespective of Gov-
ernment subsidies, the demand for the investment of venture capital
will be great and will afford the most logical and, in the long run, the
most economical method by which this capital financing may be
accomplished.
It should be kept in mind in this connection that the wealth of in-
dividuals in the form of cash. Government bonds, debt and equity
securities, and other liquid assets, has reached the highest point in
history. For instance, as of June 30, 1944, the holdings by indi-
viduals of cash and de])osits were in excess of $84,000,000,000 and of
United States Government securities over $46,000,000,000. On the
other hand, while industrial net earnings, before taxes, have for the
most part been the highest in history, various tax and other restraints
upon the accumulation of surpluses by corporations necessitated by
the demands of a war economy have left industry facing the need for
additional capital for reconversion and postAvar purposes.
It would seem appropriate at this point to add that I agree with
the propositions stated in the fourth report of your committee, from
which I am pleased to quote :
Partly as a result of the prewar trend and partly due to wartime necessities,
the Federal tax system has placed steadily increasing burdens on risk-taking
enterprise. On the one hand, it puts a premium on the avoidance of risk provided
by the refuge from taxation throu.t;h tax-exempt securities. On the other hand,
it has imposed double taxation on income derived from business dividends and
has placed excessive burdens on those businesses and individuals to whom we
must look for a large share of the funds required for the expansion of em-
ployment opportunities. An adequate reduction in such tax burdens is
essential. * * *
This, it would seem to me, should be one of the first considerations
with respect to the needs of business during the transition and early
postwar period. This would provide the incentive for, or at least
remove the deterrent to, the flow of our vast individual wealth into the
channels of industry through capital investment.
The function of the exchange and other securities markets is to
provide a market for the securities which grow out of the capitaliza-
tion or recapitalization of the issuing companies, after their primary
distribution to the public. The ultimate possibility of such securities
finding a free and open liquid market for their sale is an essential
consideration to both the companies and those that handle their
financing.
This is of particular importance as applied to the problem of post-
war financing because most of such financing will involve existing
companies whose present debt and equity securities are already widely
distributed among the public and are dealt in on the various securities
markets. In other words, the demand will be for investment to finance
new^ enterprises of established business rather than brand-new
ventures.
POSTWAR ECONOMIC POLICY AND PLANNING 2441
Every encoiiragenieut niiist be given, therefore, to that freedom of
action which is provided by the stock markets; in other words, so that
the demands for new capital may'^ have all of the advantages of
marketability.
Coming now specifically to the extension of trading facilities to a
larger number of securities and the consequent facilitation of the flow
of capital to business enterprises, the answer, based upon long experi-
ence, is that people are unwilling to invest in securities unless there
is a ready, adequate market. It is axiomatic that the willingness to
risk bear's a direct relationship to the ability to limit loss, on the one
hand, and to realize profit on the other. The marketability provided
by a securities market suxh as ours is necessary, therefore, to the flow
of capital into business enterprises.
However, we feel strongly that such extension of trading facilities
must not be accompanied by any relaxation of the underlying re-
quirements of the various exchanges. These have been designed to
provide a maximum of protection to the investing public; and while
some phases of regulation of the financial mai-kets in recent years have
unnecessarily interfered with the free flow of venture capital, the
effect of regulation, in the main, has been most beneficial. Some re-
vision of the Securities Act of 1933 and the Securities Exchange Act
of 1934 is undoubtedly desirable.. It would be disingenuous to contend
that the more than 10 years of experience with the acts has not given
evidence of the need for some revision.
A complete discussion of such revision would require an exhaustive
analysis and far more of this committee's time than is available. The
most important revisions wdiich those in the securities industry have
indicated to be desirable and necessary may be summarized as follows :
Certainly any revision of the securities acts should seek only to make
these statutes more w^orkable ; and, in modifying their provisions gov-
erning procedures, the purpose should be to make it possible to trans-
act business more efficiently without impairing in any w^ay the j)ro-
tection afforded to investors.
The proposals of the securities industry with respect to the Securi-
ties Act of 1933 have been chiefly concerned with the following
problems :
1. The use of information prior to and after the effective date of
a registration statement ;
2. The requirements as to the use and delivery of prospectuses;
3. Simplification of registration procedure;
4. The exemption of small issues and of certain classes of issuers
and of transactions from the registration procedure but not from the
fraud provisions of the act ;
5. The bases of liability under section 12 with respect to the dissern-
ination of information relating to securities already outstanding in
the hands of the public ;
6. The scope of the registration requirements of the act as de-
termined by the meaning of the term "public offering" ; and
7. The size and organization of the Commission itself and the
general administration of the act.
The proposals by the representatives of the securities industry with
respect to the Securities Exchange Act of 1934 were made with a view
to permitting the moie efficient functioning of the Nation's securities
2442 POSTWAR ECONOMIC POLICY AXD PLANNING
markets without inipairiiii:- in any way tho protection att'orded to
investors by the provisions ol" the act. These projiosals of the in-
dustry have been chieliy concerned with the followiuii" problems:
1. Tlie sco])e of the provi.^ions of the Exchanoe Act.
2. Simplitication and chirification of the reiiistration process.
3. Elimination of the threat of searegation.
4. Extension of credit on new issues.
These matters are dealt Avith in greater detail in the attached fore-
word to the report on the conferences Avith the Securities and Exchange
Commission and its stalF l\v representatives of the Investment Bank-
ers AssiX'iation of America. National Association of Securities Deal-
ers, Inc.. New York Curl) Exchanae. and New York Slock Exchange.
dated July 30, 1941. (See exhibit No. 2, p. 2498.)
To sum up reaardiuo- possible chancres in Government regulations
and exchange rules, I would advoctite as a statement of basic policy
that it would best serve the interests of our economy, and therefore
the facilitation of the flow of capital to industry, to permit the great-
est degree of freedom and self-regidation consistent with the ])reven-
tion of fraud and the i)rinciple of the disclosure of material infor-
mation.
As to what facilities are necessary to supply capital to businesses
that do not have access to organized security markets, this is something"
which perhaps those representing the commercial and investment
bankers are better qualified to comment upon. The needs of small
business will be perhaps proportionately greater than the recpiire-
ments of the large, well-capitalized corporation. Provision should
be made to take care of these needs.
Suggestions have already been made to your committee which would
appear to be practical and constructive. I might say that it is obvi-
ously of the utmost importarice that those who will be called upon to
furnish capital be assured that the various controls which have been
accepted as an integral part of our national policy for the duration
of the war-created emergency are temporary and will be relaxed as
soon as conditions permit. Similarly it is of the utmost importance
that the policy of Congress with respect to tax revision be made known
as soon as possible, so that corporate enterprise, both large and small,
may be in a position to plan its postwar programs and determine
its postwar requirements.
In conclusion, may I say that I have e^-ery confidence in the ability
of business to cope with the numerous })roblems of the postwar period
to come. However, the celerity with which these problems may be
solved will depend in large measure upon the preparations which are
made now for their solution. Your committee has the opportunity
to contribute greatly to these preparations. I am sure that out of
your hearings will come recommendations which will go a long way
toward assuring success in the postwar period.
The Chair:max. Does that complete v'our statement. ^Ir. Schram ^
Mr. ScHRAM. That completes my statement : yes. I will not read
the foreword.
The CuAiRMAX. We are going to depart from the usual procedure
here this morning and are going to give the honor and distinction
of propounding the first questions to the witness — to the witness'
Member of Congress, Mr, Simpson.
POSTWAR FX'OXOMIC POLICY AND PLANNING 2443
Mr. SiMPsox. All'. Cliciiiman. I ajJiJieciute your departure from
<u.~tom and re<(ulai- procedure in 'dHk\]\<s rue. a new memf>er of liie
' wiinnittee, to interroj^ate Mr. Sdiram in tlie first instance.
Mr. Scliram and his family really belong to Greene County, 111.,
iiaving farmed there for the past 25 years. We regret the fact that
we have had to share him with Washington, New York, and Indiana,
for the past 12 years.
I feel more qualified to intei-rogate him on agricultural subjects
than on postwar jji-oceedings of tlie stock exchange. I feel a little
out of order in pr<jpounding questions along that line. If the ques-
tions pertained to a hog or a bushel of corn, I would get along a
little better. However, I will ask one or two questions.
Yesterday, Mr. Folger, president of the Investment Bankers As-
sociation, made the .statement that in his opinion the Securities and
Exchange Connnission sliould be more concenied in having savings
go into business lather than with tlie functions of regulation. Would
you care to make any statement or give your own views on that matter?
Mr. ScHRAM. Well, of course, it is the job of the Securities and Ex-
change Commission to regulate the securities industry, and unquestion-
ably through proper regulation tliey could encourage savings to go
into business.
I do not know just what Mr. Folger has in mind there. I do not
see how they could ignore their duties of regulation. I think that is
the whole basis for tlie act ; that is what they are set up to do. But
I think through regulation they could be hel})ful in facilitating the
flow of savings into business,
Mr, SiMPSOX. The only other question. Mr. Chairman, is this:
Since coming to Washington 2 years ago, and being a small businessman
myself, I think the issue of small business is confused. I think it is
confused in the papers and with the public and generally, I think,
with the Congress.
Xormally I think here you set a figure for a small businessman as
the ovmer of a factoiy employing 50 or 100 people, or less. I liave
not seen anything pertaining to the small retail country' merchant.
I think there should be a definite and distinct difference between the
small retail merchant and the small manufacturer. I just wanted to
put that in the record, and that is all of the questions I have.
The Chairman. Mi\ Zimmeirnan. did you have some questions?
Mr. Zlmmer^iax. I regret vei-y much I did not get here to hear Mr.
Schram's statement, and for that reason I could hardly presume to ask
any questions.
The CiiAiRiiAX. Mr. Gilford, do you have some questions you would
like to propound to Mr. Schram?
Mr. GiFioRD. I do not know whether I know enough about it. but
I am interested in the statement of Mr. Eccles. of the Federal Reser^'e.
recommending a 90-percent tax on profits within 1 year.
Are you acquainted with that proposal, Mr. Scham?
Mr. ScHRAM. Yes ; I am.
;Mr. GiFFORD. It affects my real-estate business; does it affect the
pf^ople who buy and sell stocks ?
^Ir. ScHRAM. Very much so, Mr. Congressman.
Mr. GiFFORD. What is the latest development ; to whom has he made
that recormnendation ?
2444 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. SciiRAM. I think he made the recommendation to Congress. I
tliink he made the statement before the Banking and Currency Com-
mittee. It was some time ago.
Mr. GiFFOKD. Could he go to the President and get a directive to
that effect?
Mr. SciiRAM. No; I do not think so. I think that would have to be
done bv legislation ; that Congress would have to change the capital
gains lax, because that is in the tax structure.
Mr. GivFoui). It is a little different from the general regulation,
because it has a definite amount. - Do you think the Ways and Means
Committee would have to pass on that 90 percent ?
Mr. SciiA^r. There is no doubt in my mind they would ha^'e to pass
on it.
Mr, GiFFORD. It is 25 percent on profit now, is it not?
Mr. SciiKAM. For the long-term period; that is, after an asset has
been held for (> months.
Mr. GiFFOKi). In the trading of stocks on the exchange, what is the
rate of tax ?
Mr. SciiRAM. It is the same; 25 percent on assets held for 6 months
or more, and up to 6 montlis it is the short-term gain and is taxed at
the normal rate, whatever bracket you may be in.
Mr. GiFFORD. What would be the effect on investment if you had a
50- or ()0-percent tax on short-term gains of 1 year, say?
Mr. SciiRAM. I think it would have a very serious effect. I am not
at all in favor of Mr. Eccles' proposal. I am in favor of his
objective.
Mr. GiFFORD. What is his objective?
Mr. ScHRAM. His objective is to prevent inflation and to cut down
rising prices or increasing values. I think that his proposal will have
just the opposite effect. 1 am in favor of doing everything we possi-
bly can to prevent inflation, but there is no doubt in my mind what he
proposes to do will have just the opposite effect.
Mr. GiFFORD. He would not care to make good anj^one's losses.
Mr. SciiRAM. I have no doubt he would not.
Mr. GiFFORD. No Government agency is interested particularly in
your losses.
Mr. ScHRAur. No. The gains are taxed, but the losses are not de-
ductible, except to the extent of $1,000 a year, which can be carried
forward for 5 years.
Mr. GiFFORD. You say this committee will probablv be able to make
recommendations which will have some force and effect; so I was in-
terested as to what your suggestion would be, ebpecially relating to
the Securities and Exchange Commission. Like other agencies, we
set them up and then forget they are there and let them go on without
any particular review.
The Interstate and Foreign Commerce Committee claims it has
more or less review on them, but I do not think very much is done
along that line.
How much exemption would you recommend or have you recom-
mended ?
Mr. ScHRAM. I think 3 years ago we recommended up to $300.000 —
no ; we recommended $500,000, and it is $300,000 now.
POSTWAR ECONOMIC POLICY AND PLANNING 2445
Mr. GiFFORD. What have you to say about concerns which sit down
with insurance companies and other people who have money to invest
and where the investing is done over the table and does not go through
usual channels ?
Mr. ScHRAM. Do you mean selling direct?
Mr. GiFFORD. Yes.
Mr. SciiRAM. Well, insurance companies, of course, are in great
need of that type of security, and by necessity they must invest in
what we know as sheltered funds ; and they take up their big blocks
of securities with, I suppose, a much better price than they could
be sold to the public, because tliey do not have the selling cost. I
imagine if they were put out at competitive bidding the insurance
companies would buy them anyway, because I think there is a short-
age of securities that insurance companies can invest in now.
Mr. GiFFORD. They avoid expense, but people in the investment
business lose the market in their business ?
Mr. ScHRAM. To some extent.
Mr. GiFFORD. You do not think that is harmful ?
Mr. ScHRAM. As I say, the chances are they would bjiy them any-
way in the competitive market.
Mr. GiFFORD. Mr. Schram, do you not object strenuously to this
matter of having to prove yourself honest before you can proceed?
Is that a theory which is necessary in the administration of the Se-
curities and Exchange Commission? Can they not wait until a com-
plaint has been presented and then ask for an adjudication? Is it not
enough to clothe any bureau with police power without clothing them
with power to make Jerry Voorhis prove he is honest when we all
know that he is ?
Mr. SciiRAM. I have always worked on the theory that a man is
honest until he proves himself dishonest.
Mr. GiFFORD. Do you not think our Government has departed from
that theory ?
Mr. SciiRAM. I think there has been a trend in that direction.
Mr. GiFFORD. Particularly in the matter of the Securities and Ex-
change Act?
Mr. Schram. I have loaned lots of money for the Government and
I have come to have great respect for the integrity and honesty of the
American people. In all of our Reconstruction Finance Corporation
experience it has been amazing to me we have been able to lend the
money we did there and the way it has been paid back is remarkable.
That proves to me you have every right to have confidence in the
honesty and integrity of the American people, and I think we make
no mistake by assuming that people are honest and that you will find
a very small percentage are dishonest.
Mr. GiFFORD. Do you consider it has been a good thing in a country
district like mine, where there are a lot of people each having a small
amount of money to invest? They have been accustomed to have
someone act as adviser and tell them what to invest in. Those men
seem to have disappeared ; do you know for what reason?
Mr. Schram. You mean people they can go to and ask about invest-
ments?
Mr. GiFFORD. Yes.
2446 POSTWAR ECOXOMIC POLICY AND PLANNING
Mr. SciiRAM. I did not know those people were goiii<^ out of busi-
ness, but if that is true, it is certainly a sad commentary, because I have
been trying ever since I have been with the Exchange to encourage
people to know more about securities.
Mr, GiFFOKi). Suppose they asked for a prospectus; would the ordi-
nary investor be able to get the actual truth from that prospectus, or
Avould that prospectus be so voluminous he would not read it ?
Mr. ScHRAM. I thiidi; the lattei- is true. I think it is awfully hard
for the average investor to take a prospectus and find out what is in it.
There is a lot of stuff tluit goes into them that I do not tliink needs to
be in them at all. I do not know what happens when you hand a
prospectus to a prospective customer, but I have often wondered if he
does not think the prospectus which has been cleared throngh the
Securities and Exchange Commission does not mean it has been given
the stamp of approval on the part of the United States Government
of that particular security.
We, those of us wlio know what a prospectus is, know that it has not
had that stamp of approval, but 1 have often wondered if it luis not had
a wrong effect on the more or less uninformed purchaser and that he
looks at that prospectus and says, "The SEC has passed on that and I
guess it is all right to buy." Of course, it only sets- out the facts
regarding the company, and the prospective purchaser is supposed
to make up his own mind.
Mr. GiFFOKO. "We feel the prospectus does carry with it an assurance
that the Government itself says it is all right, when we know, of course,
he has simply answered what the governmental regulations require as
to its form. The law would be fairly satisfactory if it was adminis-
tered a little differently, perhaps. Is that right ?
Mr. ScuRAM. Of course, good administration helps any law, Mr.
Gifford, and, of course, it is impossible for Congress, when it passes
an act, to Avrite in the administration.
Mr. Gifford. I wish my constituents could hear you say that.
Mr. ScHRAM. Sir ?
Mr. Gifford. I wish my constituents could listen to you saying that.
Mr. ScHRAM. Congress can pass the laws, but if they are improperly
administered, they do not do much good, and we should all constantly
point to better administration of the laws on the books. A very good
law can be ruined by poor administration.
Mr. Gifford. That law is best that is administered best. You have
heard that old saying probably in school.
Mr. ScHRAzvi. Correct,
Mr. Gifford. But it seems to me of late years in making the coun-
try over, we have to administer things very liberally.
Mr. ScHRAM. We very often get into the realm of trying to ad-
minister an act — you get into the realm of what was the intent of
Congress, and that is why I think it is most important that when-
ever Congress has the time, they should certainly look into the securi-
ties acts because perhaps there was an intent of Congress years ago
when they were passed that may not be the same today,
Mr. Gifford. Were you connected with the administration of the
Securities & Exchange Act?
Mr. ScHRAM. No. I was with tlie Reconstruction Finance Cor-
poration then.
POSTWAR ECONOMIC POLICY AND PLANNING 2447
Mr, GiFFORD. I was familiar with the administration of the act.
Do you remember that Judge Burns was connected with that Com-
mission originally as attorney?
Mr. ScHRAM. Yes ; I remember Burns.
Mr. GiFFORD. He afterward became attorney for a private concern.
Mr. ScHRAM. I believe that is right .
Mr. G FFORD. There seems to be a tendency of people getting out
of the Government service and they leave after learning how to take
advantage of the Government. Joe Kenned}^ was called in at first,
was he not?
Mr. ScHRAM. He was the first Chairman, I believe.
Mr. GiFFORD. We well remember, when he was called to service,
it was because it would mnke the stock-market people feel better, was
it not, to assure them they would have a man who knew the business?
Mr. ScHRAM. I think they wanted someone who knew something
about the business.
Mr. GiFFORD. ]Mr. Henderson was the head of it for awhile, was
he not?
Mr. ScHRAM. No. He was on the Commission, but never was
Chairman.
Mr. GiFFORD. He was on the Commission?
Mr. ScHRAM. Yes.
Mr. GiFFORD. He would not be on any Commission unless he was
very persuasive, would he?
Mr. ScHRAM. I have always found Leon very persuasive.
M!r. GiFFORD. We have always found him so. I told him one day
before the Banking and Currency Committee that he had done
nothing for 8 years but prosecute and persecute business and how
could they have any faith in the administration of the OPA. The
TNEC j)roceedings were more voluminous than I was able to read,
but he was executive secretary of the TNEC, was he not ?
Mr. ScHRAM. I knew he was connected with it, but I do not recall
he was executive secretary.
Mr. GiFFORD. I told him he was very persuasive. I read enough of
it to find he did nothing without the viewpoint of getting after busi-
ness and assuming that all business was crooked. That is the way
I felt about it.
But I am trying to go back to the administration of the Securities
and Exchange Commission, which was highly important. Joe Ken-
nedy was put in to reassure those people that the Act would be sym-
pathetically understood and administered, and then some others were
put on, some who were rather enthusiastic and would let business
have a little more confidence.
But I am interested in your suggestion that the Securities and Ex-
change Act should be reviewed because I know there will be no celerity
as long as you have to live up to the regulations. The prospectuses
are entirely overdone and are very expensive and do not guarantee
anything.
Mr. Chairman, it will be a big job to recommend changes, but some-
thing must be done. Many of these agencies must be reviewed after
they have been in operation for 10 or 12 years.
Is that correct, Mr. Schram?
Mr. ScHRAM. That is right.
2448 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. GiFTORD. You see where they have failed or need attention
and sometimes need help, but simply because they are for a good
purpose, to prevent fraud, you say you want them to retain all neces-
sary authority to prevent fraud.
Mr. ScHRAM. Absolutely.
Mr. GiFFORD. But what we want is green lights. We do not want
a policeman to stand by a traffic light and investigate us before we
are able to pass. They want to know your standards 10 or 20 years
ago in order to make a present-day decision, and businessmen are re-
quired to fill out all of these papers which really are not needed.
Some attorney has to show he is useful in filling these forms or he
would not be hired. I do not question the attorneys. I know when
I am borrowing money it is amazing to me the number of things that
are wrong that my attorney can find ; for instance, he will find some-
one of the heirs of a man who died a hundred years ago — that is
what the Government has gotten into; there are too many govern-
mental lawyers and the poor individual knows it and feels he is up
against a stone wall.
But we find that the businessmen and the bankers do not dare com-
plain because they would run the risk of punishment, do they not?
Mr. ScHRAM. I think they do.
Mr. GiFFORD. Their better judgment is to say nothing.
Mr. ScHRAM. I am afraid we are getting into that attitude.
Mr. GiFFORD. You are afraid we are?
Mr. ScHRAM. Yes ; but I think it is wrong.
Mr. GiFFORD. Well, how do you expect us to help unless the business-
men themselves give it due attention; how do you expect us to do it?
Mr. ScHRAM. Mr. Gifford, in 1941, you will remember the industry,
after very long conferences with the Securities and Exchange Com-
mission, came to the Foreign and Interstate Commerce Committee
with recommendations for changes in the act. Very lengthy hear-
ings were held at that time, but we have never been able to — the com-
mittee has never taken action as a result of those hearings.
Of course, now the make-up of the committee has changed so much
that unquestionably they will have to hold hearings again, and I think
that should be one of the first jobs of the committee whenever time will
permit.
There is no doubt in my mind the SEC will probably welcome that
review, and I think perhaps it will be very helpful to them. I think
the SEC has a great opportunity to be of service to business in this
country and I think they are seeing more and, more that they should
be helpful, that their job is just a little more than to regulate, that
they should really help business, and I think that is true of any
Government agency.
Mr. GiFFORD. Has not the stock market for the past several years
been regulating itself?
Mr. ScHRAM. It has, for many years.
Mr. GiTFORD. So there is not enough basis for all of this regulation?
Mr. ScHRAM. Mr. Congressman, many of our rules and regulations
go beyond the requirements of the act. We think we have done an ex-
cellent job in self -regulation, and we think we should be permitted
more latitude in self-regulation.
Mr. GiFFORD. As to your last suggestion, the size of the organiza-
tion and the administration of it, do you mean to cut it down?
1
POSTWAR ECONOMIC POLICY AND PLANNING 2449
Mr. ScHRAM. xit that particular time the SEC was overloaded with
work and there was some thought there should be some more Commis-
sioners ; they did not have quite enough. There are only five Commis-
sioners as compared with the greater number on the Interstate Com-
merce Commission, and they divide up the work into various sec-
tions. We thought possibly it might be helpful in breaking the log
jam if they had some more Commissioners to do the job.
At that time there was a tremendous volume of w^ork in connection
wdth reorganization of the utilities and there was an awful lot to do.
I do not know what the situation is today, but I think it ought to be
looked into. I would be inclined to think that perhaps it is big enough
now since a lot of the work is back of them, especially in the utility
field.
Mr. GiFFORD. I hope we will get an exemption of at least $30(3,000,
because when tlie small man wants to do something very costly, and
he has an opportunity to get the money he loses a lot of valuable time
before it can go through the Commission.
Mr. ScHRAM. That is right.
Mr. GiFFORD. And that is why you mention celerity.
Mr. ScHRAM. Yes.
Mr. GiFFORD. I do not know very much about this matter but I do
know it rests heavily on me and on my friends here, I am sure, when
the SEC demands a prospectus and all kinds of information before you
can move; they have put so many things in there that no man dare
proceed unless he hires a good lawyer, and it furnishes a field for men
who have served in the Commission, a good profitable field, and they
necessarily are of great advantage to private business.
Mr. ScHRAM. Absolutely.
Mr. GiFFORD. I can name you one or two outstanding cases.
The Ciiair:max. Mr. Zimmerman.
Mr. Zimmerman. I have been very much interested in the discussion
and in the questions propounded by my learned and able friend, Mr.
Gifford, whom we all respect
Mr. GiFFORD. Can I quote you something there? "I can resist all
flattery very easily ; my spirit rises above it except for one little thing,
I love it".
Mr. Zimmerman. I am sure no one wants to flatter my friend; we
all concede his talents and ability.
Xow, Mr. Schram, I know you have a pretty broad knowledge of
business. Your experience has carried you from the grass roots up
to the present high position you now occupy. You have been closely
related in your work with the RFC to the business of our country for
the past several years.
Now, talking about the SEC, I am sure that you recall the necessity
for creating that agency.
Mr. Schram. Yes, sir.
Mr. Zimmerman. My friend Gifford has been concerned about busi-
ness, but there was another side, was there not, Mr. Schram, that called
that agency into being, and that was the buying of securities by the
public ? In other words, in your town and in every city investors in
securities — not all insurance companies or big bu^^ers, but a lot of
widows and people who have no knowledge of business, were being
skinned and robbed and imposed upon, and that called that institution
into being, did it not, largely?
2450 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. ScHRAM. That is right.
Mr, Zimmerman. Now, your position is you do not want to see it
done away with, do you ?
Mr. ScHRAM. Oh, no; I should say not.
Mr. Zimmerman. The point you make, and I think we all should
approach the subject that way, is that over the period of years it lias
operated, certain defects have appeared that should be corrected. That
is the business of Congress, and Congress should give attention to that,
should it not?
Mr. Schram. Absolutely.
Mr. Zimmerman. But I am sure you share the view there is a place
in tlie economic life of this Nation for the SEC.
]\Ir. Schram. Congressnum, I think if anyone attempted to destroy
the SEC or to repeal the act, I would hope I would be one of the first
ones to come to its defense. I think it is a very good act and it is
greatly needed and the very basis of it is really the foundation of the
New York Stock Exchange.
We regulate our members; we apply certain requirements to our
listed companies; we are very particular about the information they
put out and the manner in wliich tliey put it out. AYe want clarity of
statement. AYe require in almost every instance a quarterly rather
than an annual statement, and we want it in simple form so that it is
readable.
So, the very foundation of the SEC is really the foundation of the
New York Stock Exchange.
We believe in regulation, and, as I have said, we regulate our mem-
bers even beyond the requirements of the act in many instances.
Mr. Zimmerman. I am sure you recognize that in business, industry,
and, in fact, in all groups, we have a number of individuals who do
not believe in regulation and want to be unbridled and operate in a
wild manner as they did at one time in the country's history, I am
sure you agree that day has passed and we must have regulation in
this complex age in which we live, business, industry, and everything
else; we must have fair regulation.
]Mr, Schram. I agree with that.
Mr. Zimmerman. Of course, on one side we have business^, but there
is the public interest on the other side, and sometimes I think their
interest may be as great if not greater than that of the business or
enterprise that is being regulated.
So, as I take your recommendation, and you say we should make a
study of the SEC and if there are things that should be eliminated,
do it, and if we should add something, do that; that we should proceed
to improve and make it more beneficial, but by all means j)reserve the
institution.
Mr. Schram. I think we all recognize that the securities industry
is a very important segment of our economy and that the people in
that industry have a great responsibilty to the public.
Mr. Zimmerman. That is right.
Mr. Schram. I have been trying awfully hard to point out that
responsibility because of their great importance to our economy. I
am afraid our businesses would not be able to expand as rapidly as
they can now if we did not have a well-regulated exchange upon which
securities can be bought and sold, because a man never wants to buy
POSTWAR ECONOMIC POLICY AND PLANNING 2451
a security unless he knows there is a ready market for it when he has
to sell it, and the man who is the biij^er of today immediately is the
seller of tomorrow.
So a ready market is a wonderful thing and it does more to en-
hance the flow of capital than any other business in this country. It
is absolutely necessary and, because it is so necessary, we have a great
responsibility to the public. We realize that. We are going to continue
if you repeal the SEC Act tomorrow, I do not think the New York
Stock Exchange would relax its own rules one iota.
Mr. Zi3f]MEKMAN. Your contention is that it has gone even further
in regulation than the SEC or other Government agencies ?
Mr. ScHRAM. It has in many respects.
Mr. Zimmerman. And you did that because it was necessary for the
business in which you were engaged ?
Mr. ScHRAM. That is right.
Mr. Zimmerman. For the business itself ?
Mr, ScHRAM. That is right.
Mr. Zimmerman. But I think sometimes a lot of us complain and
get frightened at regulation. Much is said about it in some fields
where ma^^be it is just something to talk about, but you really lose
sight of the importance of the thing that we oftentimes condemn and
that is some form of regulation.
Mr. ScHRAM. I do not think there is a market in the world where
the investing public has as much protection as they have on the New
York Stock Exchange,
Mr. Zimmerman. I understand that.
Mr. ScHRAM. There is no doubt in my mind about that.
Mr. Zimmerman. I am glad to see we do not have any complaints
about it any more.
Mr. Schram. I would like you to read my mail. Congressman; I
get lots of them.
]Mr. Zimmerman. I am more or less in sympathy with the crowd
called the public, fellows on the outside who feel the impact of im-
proper management and conduct of some of these great institutions,
because, after all, it goes right back to the grass roots and they are
the boys who feel it most.
Mr. Schram. We know what the public will do to us if we do not
behave.
The Chairman. Mr. Simpson,
jNIr. Simpson, In your statement about the widows being skinned,
Mr, Zimmerman, you would be willing to add farmers and business-
men of all walks of life, would you not ?
Mr, Zimmerman, Yes; I would, I was out in Chicago on some
hearings on this marketing committee that has been set up. One of
the witnesses pointed out that the owners of stock in a large corpora-,
tion were practically all widow women who had put their husband's
life insurance into it and their future support is in it. He said it is
amazing the number of widow women who own that stock.
Mr. feiMPsoN. I think that is true. I have a lot of friends who
have a lot of cats and dogs in the safety deposit box.
Mr. LeFevre. We agree with you, Mr. Zimmerman, but a witness
the other day said that 40 j^eicent of the invested capital today is
99579—46 — pt. 8 6
2452 POSTWAR ECOXOMIC POLICY AXD PLANNING
bj'^passed entirely because of SEC regulations. Should not some-
tliing be done to correct that situation, Mr. Schram ?
Mr. ZiMMEKMAx. I am not opposing correcting things that should
be corrected, and I have tried to make that clear. But we do not
want to destroy the SEC, and if we can improve it, we should do so;
we should try to make it the most workable institution possible in
the interest of everybody. That was my idea. I don't know whether
I got it over or not.
Mr. LeFeviie. Yes.
Mr. ZiMMERMAX. I agree with you fully.
Mr. Schram. We have more stocks listed on the New York Stock
Exchange than at any time in liistory. We have made great progress
in encouraging companies to list on the exchange. I think that list
will continue to grow. I would like to see more and more companies
listed because it is of great advantage to the investing public.
Of course, we are not the primary market ; we do not list unseasoned
securities. Stock does not go on our market until it is well-seasoned
and has a wide distribution and a national interest. But I think
smaller companies should be encouraged to list on the regional ex-
clianges, the Chicago, San Francisco, Los Angeles — the smaller com-
panies in those particular communities, and as the}^ grow and become
larger and have national interest in the stock, then they should come
to the New York Stock Exchange, and they usually do when they
get big enough. But I tliink the SEC should constanth^ encourage
listing of securities because you put them in the show windows then;
publicity is a wonderful thing.
Mr. LeFevre. But thai figuie of 40 percent being bypassed seems
like an awfully large amount.
Mr. Schram. I am not familiar witli tlie figure, but it seems large
to me.
Mr. LeFevre. That does not seem to help the small investor.
Mr. Schram. I suppose they get that total from a lot of re-funding
issues wliich go directly into the insurance companies.
The Chairman. Do you have anything further, Mr. LeFevre ?
Mr. LeFe\tie. No, sir.
The Chairman. Mr. Voorhis.
Mr. Voorhis. Thank you, ]Mr. Chairman, I want to ask a couple of
questions about taxes. First, let me say the only reason I am sorry
you are with the New York Stock Exchange, Mr. Schram, is because
I wish you were still with the Reconstruction Finance Corporation.
Mr. Schram. Thank you.
Mr. Voorhis. I want to ask about some of your remarks in here
on taxation. In the first place, do you believe there ought not to be
any tax-exempt securities ?
^Ir. Schram. There should be no tax exempt securities ?
Mr. Voorhis. Would you go that far?
Mr. ScHRAiM. I do not know why we should have any tax exempt
securities. I do not know to just what extent Government securities
are taxed. However, I think, that is a question of equalization be-
tween the States ; it is a terrific problem.
Mr. Voorhis. I am not saying we could reach it at a bound, but
as a matter of practical experience, is that the way it ought to be?
Mr. Schram. I think so ; I agree with that.
POSTWAR ECONOMIC POLICY AND PLANNING 2453
Mr. VooRHis. You mentioned double taxation, by which you mean,
I assume, the corporation pays a tax on its earnings and, in turn,
the individual pays taxes on his individual income on that part of
it which is received from dividends from the same corporation. I
recognize that problem, but it seems to me if you are going to make
a change in that situation, it ought not to be the individual who is
relieved, but rather the corporation might have a reduced rate of tax
applied to that portion of its income which it pays out of dividends;
would you agree with that?
Mr. ScHKAM. Yes, I would.
Mr. VooRHis. I mean as a method of getting at it?
Mr. ScHRAM. Yes ; I do not think you could relieve the individual.
Mr. VooRHis. No; because, after all, from the point of view of re-
lieving individuals, there is no good reason that dividends received
from a corporation by an individual should receive different treatment
than income of a person who makes it on salary or in some other way.
Mr. ScHRAM. I am a great believer in the graduated individual
income tax, but the reason the corporate tax should be changed is
because it is one of the most unfair taxes we levy. We should think
of our corporations as businesses owned by thousands and thousands
of very small owners, and when you tax this corporation in a ver}^
high bracket, you are taxing the individual in the smaller bracket
at a very unfair rate.
Mr. VooRHis. You may be.
Mr. SciiRAM. There is no doubt about it. If you take the widow
or orphan M'ho may be in a very small bracket and you are taxing
the corporation at a rate of 60 or 65 percent, it is very unfair to put
the individual in a 65-percent rate when he or she may be only in
a 25-percent bracket.
Mr. VooRHis. I think you are right. I think the change has to be
in the corporation and not the individual tax.
Mr. ScHRAM. Taxes become an item of cost and they must be fed
into the cost of the product and I think you get an unbalanced situa-
tion when you tax corporations on a different basis. So it makes a
lot of sense to me to get that tax from the individual after he receives
it and not before, because that is the only wrj I think you can do it
equitably.
Mr. VooRHis. If we do not have any corporation taxes would you
have to boost individual taxes very much ?
Mr. ScHRAM. I think the ideal situation is to tax the corporation
in the first bracket, the same as you do the individual. There would
be some inequalities, but it is impossible to reach perfection in any
tax structure.
Mr. VooRHis. If you are going to make that change in the tax law,
do you not think it would be necessary to revive something in the
nature of the undistributed earnings tax?
Mr. SciiRAM. I rather doubt that will be necessary. I understand
the present section of the act is working very well and they are not
having nuich difficulty with it. I do not think it will be necessary
to revive that.
Mr. VooRiiis. Will you not have a certain amount of tax avoidance,
a substantial amount over a period of years, in the case of closely held
corporations if you do not?
2454 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. SciiRAM. There could be, but I do not
Mr. VooRHis. Would you not get more and more ? If that change
is made in the law it seems to me you would give tremendous incentive
to that sort of thing.
Mr. ScuRAM. I would like to see it tried \^ ithout it. If there is a
trend in that direction I think it should be stopped, and I think Con-
gress could look at it then. But the old act that was repealed, as I
remember it, was very unsatisfactory and very difficult to administer.
I think the present one is much better and we are getting along pretty
well with it.
Mr. VooRiiis. You mentioned indirectly, at least, the question of in-
centive taxes ; how do you think we could get at that ? Do you believe
the proposals for so-called incentive taxes-^
Mr. SciiRAM. Just what do you mean, Congressman?
Mr. VooRnis. To vaiy the rate of tax depending upon what a person
uses money for. In other words, if a person uses income merely to sell
some securities or buy new ones, or if he uses it on consumption ex-
penditures, the rate would be higher than it would if a person put
the money into an enterprise where employment was definitely in-
creased and where it was an actual risk investment in a productive
enterprise.
Mr. ScHRAM. Are you talking about the capital gains tax?
Mr. VooRHis. No, I am talking about the whole tax structure on in-
dividual incomes at the moment. I am talking about proposals where
if a person spends money to purchase investments, such as bonds or
something of that sort, in order to get income, the tax would be at one
rate, but where it is an actual risk investment the result of which is
■ to employ additional people and increase the pi'oduction of goods, you
would allow a deduction for money expended in that way from the
income-tax basis, or j^ou would vary the rate of tax on the income
which might have been expended in that way.
Mr. SciiRAM. No, I do not think that woidd be necessary.
Mr. VooRiiis. You do not believe in it ?
Mr. ScHRAM. I think you could do that by realistic approach to
the capital-gains tax problem. I think that would accomplish it.
Mr. VooRiiis. You think that would be all that is necessary?
Mr. SciiRAM. Yes. I do not think it is necessary to allow any de-
duction for risk investment. I think if you take a realistic approacli
to th.e capital-gains structure you will solve the ]n"oblem and capital
will be encouraged to go in.
Mr. VooRiiis. What about a tax — I have never seen the proposition,
but have felt it was well worth thinking about — a tax on idle bank
balances, hoarded money that is not being used?
Mr. ScHRAM. I think that places a penalty on saving and would
be wrong.
Mr. VooRiiis. But they are not active savings.
Mr. ScHRAM. All bank balances must be savings. There I think
you inject an incentive — you force a man to do something with his
"funds which perhaps he thinks is unwise to do.
Mr. VooRHis. You do not tell him what to do but you show him he
cannot leave funds idle without paying a penalty,
ISIr. ScHRAM. I think that is putting a penalty on thrift, which I
think is bad.
POSTWAR ECONOMIC POLICY AND PLANNING 2455
Mr. VooRHis. Not on thrift, I think, because it coiikl be avoided
by any kind of investment.
Mr. SciiRAM. I am afraid I cannot go along with that. Congressman.
Mr. VooRiiis. I was not asking you to go ak)ng with it ; I asked
what you think about it, because that is a part of the incentive tax pro-
posals that have been advanced.
Mr. SciiRAM. Is that so ?
Mr. VoORHis. Yes. If you will expand a little bit on the fourth
point of the industry reconnnendations, namely, the extension of credit
on new issues; just what do you mean by that?
Mr. SciiRAM. That is elaborated in this foreword I have submitted.
I will read that section :
The representatives of the industry and the Conuiiission are in agreement
as to a proposal with respect to the maintenance or extension of credit presented
under section 11 (d) at page 215. Today a hroker and dealer who has engaged
in the distribution of a security as a member of a selling syndicate or group is
prohibited for a period <tf 6 months from extending credit to customers on that
security. This has made it difficult for brokers and dealers to extend credit
to customers on any securities of an issue which they have distributed. Y^'^hile
in some respects the proposed amendment would extend the present prohibition
it would limit it to the pei'iod during wiiich the brokei- and dealer is actually
distributing a security.
This really pertains to underwriting, the primary market, and the
original distribution of the security. It really does not aft'ect the
Exchange so much ; it does affect our members. It gives a little more
liberal treatment under the act. I think the Securities and Exchange
Commission will go along with that. I do not think we will have much
trouble with it.
Mr. VooRHis. Thank you very much.
Mr. Zimmerman. I would like to ask a question for information
The Chairman. Will you pardon me? We want to bear in mind
we have another witness and we hope we will not go into side issues
here; but go ahead.
Mr. Zimmerman. I do not knoAv that I quite understood your ques-
tion a while ago. Did you mean to ask the Avitness if he l)elieved it
would be pro^Ter if a man received a dividend from a corporation —
and I might be that individual, and I spend that money one "way, you
will tax me in a certain way? Is that a tax on the manner in which
the man spends the money; is that what you had in mind?
Mr. VooRHis. There have been a number of proposals for incentive
taxation which have been sent to all Members of Congress, and I
have talked to some of the people who have proposed them. The part
of that proposal about which I was questioning Mr. Scliram included
the idea that when a person was figuring his net taxable income for
tax purposes, he w^ould be allowed a deduction of a certain percentage
of that income which had been invested. Now, jou have got to define
investment, and he defined it roughly as the expenditure of money in
such a way that employment of labor would be increased by that
expenditure.
In other words, an investment in some kind of business which would
employ labor, and he was proposing that money so invested, a per-
centage of that, at least, should be allowed as a deduction from net
taxable income.
I was trying to find out what Mr. Schram thought about it. It was
not my idea, but someone else's, and I just wanted to get his views.
2456 POSTWAR ECONOMIC POLICY AND PLANNING
Mr, ZiMMERMAX. I just ATiuited to be sure I understood what you
were driving at.
Mr. VooRiiis. I am not sure what I think about it. I do not know
whether it couki be done or whether I would be for it, but I just
wanted to know what Mr. Schram thought about it.
Mr. ZiMMERMAX. Yes.
Mr. SciiRAM. Congressman, that money in the bank in the form of
a deposit is invested by the bank, too.
Mr. VooRTiis. Tliat is a second question, but that is not the one Mr.
Zimmerman was addressing himself to.
The Chairmax. Mr. Folsom.
]Mr. Folso:m. I have just one question. You mentioned that the
need of small business for equity capital would probably be propor-
tionately larger than for large business. We had a proposal from the
chairman of a small investment banking committee who had been look-
ing into the question of providing equity capital for small business;
are you familiar with the proposal outlined of setting up a small
organization to provide financing for small business?
^Ir. SciiRAM. I am not familiar with the details of the plan but I
know that the investment banking group have^ been working out a
program of assisting the smaller businessman. His cost is pretty
high and I think they are trying to cut that cost. Whatever they can
do in that direction will be very helpful.
Mr. FoLSOM. This plan provides for local capital to put up a certain
amount of money for class A stock, and the Federal Reserve bank to
furnish money through debentures, and then the borrower would take
out class B stock in a certain percentage.
Mr. Schram. I am not familiar with that plan.
Mr. FoLSOM. It would mean bringing the Federal Reserve bank into
the picture.
Mr. Schram. That is what I do not like. I would rather see the
funds come from private sources. When they come from private
sources, a better job of lending is done. You do not always solve
the problems of small business by giving it money ; it needs more than
cash.
Mr.FoLsoM. That is all.
The Chaikmax. Mr. Schram, we are very grateful to you for your
appearance here this morning and we are sure you have contributed
much to these hearings.
Mr. ScHRA3r. Thank you very much, sir.
The Chairaiax. We have about 30 minutes left and will hear from
Mr. Robert ]M. Hanes, who is president of the Wachovia Bank & Trust
Co., of Winston-Salem. N. C.
I observe you have a statement. ^Ir. Hanes.
Mr. Haxes. I have. Mr. Chairman. I thought you could follow
the testimony a little easier if it were written out. and if you will per-
mit me. I will read this.
The CiTAiRMAX. You may use the time as you see fit.
^Ir. Haxes. I think we will save time this way.
The Chair^iax. You may proceed, Mr. Hanes.
POSTWAR ECONOMIC POLICY AND PLANNING 2457
STATEMENT OF ROBERT M. HANES, PRESIDENT, WACHOVIA BANK
& TRUST CO., WINSTON-SALEM, N. C, AND CHAIRMAN, POSTWAR
SMALL BUSINESS CREDIT COMMISSION, AMERICAN BANKERS
ASSOCIATION
Mr. Hanes. I am delighted to have the opportunity to bring before
this group banking's record for financing small business during the
prewar years and the plans which have already been successfully put
into operation for meeting the credit needs of small enter]3rises in the
reconversion and postwar periods.
The growth and prosperity of small business have long been of vital
interest to the banks because by far the greater part of the business
of all banks is with small enterprises. Banking itself is small business.
Approximately 86 percent of the insured commercial banks of the
country have deposits of less than $5,000,000, and the deposits of 43.5
percent are less than $1,000,000. We know that small business is the
backbone and future hope of this country and that it must be per-
petuated.
The history of banking shows that banks have frequently been
criticized for having made credit too easy, thereby encouraging specu-
lation in real estate, securities, and unsound enterprises. It was only
during the latter part of the thirties that banks were criticized be-
cause of the belief that they did not make loans freely, particularly to
small business.
We as bankers felt that on a Nation-wide basis the banks were
making loans and were doing a good job. We realized, however, that
this opinion must be supported by factual evidence and accordingly
national surveys of bank lending activities were undertaken. The
most recent survey, that made in 1940 — the last full business year be-
fore the war — revealed that the reporting banks handled more than
24,500,000 credit transactions for a total of $39,000,000,000. This rep-
resents about 80,000 credit transactions each banking day. Significant,
too, was the fact that this survey proved that the average new loan
was $1,787 and the average renewal was $1,400. This, we say, is small
business.
War brought many curbs on bank credit for general civilian pur-
poses such as the production and distribution of consumer goods.
Banking itself, through the American Bankers Association, advocated
curtailing loans for other than defense purposes as early as May 1941,
and 4 months later the Government adopted a policy restricting bank
credit for nonmilitary activities, under what is Imown as regulation W
of the Federal Reserve Board.
During 1942 and 1943 the association conducted an aggi'essive cam-
paign urging banks to make loans for war production and for essential
civilian supply. Many of these loans were made by banks on their
own responsibility and without guaranty. Others were made under
regulations V, VT, and other forms of Government guaranty or par-
ticipation. It is indicative of banking's determination to stand on its
own feet and make its own loans whenever possible, even in time of
war, that reports for as late as June 30, 1944, show that approximately
50 percent of war-production loans made by banks were made without
guaranties.
2458 POSTWAR ECONOMIC POLICY AND PLANNING
There is another aspect to the eifect of war on bankino-, business,
industiy, agrieukure. and every other segment of our economy which
is important and nuist be considered in postwar plans. War changes
nearly all the rules and practices of peacetime operations. The war
has been undertaken in America with a great man^^ provisions for the
guaranty and insurance of various phases of our domestic economj^
Wages, faj-m prices, cost of production of war goods, the income to
holders of War bonds, provisions for the quick settlement of claims
against the Government, insurance of war loans made by banks through
guaranty and by participation of a number of Federal agencies, have
created what might be called a "guaranteed" war, so far as the do-
mestic economy is concerned.
When wartime controls and guaranties are removed and the Gov-
ernment ceases to be the ultimate buyer of a major share of ail that
the country produces, bankers, farmers, laborers, and businessmen
must do everything possible to see that free enterprise is given the
opportunity to function for the good of the country and the welfare
of the people.
Banking recognizes the necessity of this reconversion and has made
definite and practical plans for accomplishing it. These will be out-
lined in the discussion of the work of the postwar small business credit
commission of the American Bankers xA.ssociation.
There have been such loose thinking and many unsupported state-
ments regarding the amount of credit that will be needed in the post-
war period, particularly by small business. Little of this is supported
by facts. At the suggestion of bankers the United States Department
of Commerce is making a survey of the credit needs of small and inter-
mediate business. This information will not be available for several
months.
In considering the postwar credit needs of small enterprises, there-
fore, we must depend upon reliable peacetime figures. There are many
ways of determining the number of business concerns in operation
in the United States. We believe the most satisfactory figures are
those appearing in Dun & Bradstreet's report of July 1942. At that
time their reports showed 2,152,000 active businesses in this country.
These concerns can be broken down into four general classifications,
depending on the size of the business as revealed by its net worth.
Two of these groups are important for consideration in this memo-
randum, as they apply to small- and medium-sized business. The first
group includes the 1,500.000 concerns which had a net worth of be-
tween $5,000 or less, and the second the 520,000 which had a net worth
of between $5,000 and $100,000. It is significant in the consideration
of the credit problems of small business that the aggregate number
of enterprises in these two groups account for all but 132,000 of the
over 2,000,000 concerns reported by Dun & Bradstreet.
We believe that there will be ample credit available for the 1,500,000
concerns with a net worth of less than $5,000. It is unlikely that a
loan for any concern in this group wnll exceed $5,000. Experience in-
dicates it will run from $500 to $2,500. Here it should be kept in mind
that because of savings in various forms, a large percentage of this
group will be able to do their own financing and will not need credit
assistance. However, assuming that half the grpup, or 750,000, would
want to borrow $5,000 each, the total amount of loans involved would
POSTWAR ECONOMIC POLICY AND PLANNING 2459
be $3,750,000,000, which is considerably less than 10 percent of bank-
ing's demonstrated lending record in 1940. The credit needs of this
group will provide no problem whatever for the banks.
Nor will the credit needs of the second group, comprising 520,000
businesses with a net worth of between $5,000 and $100,000 create any
particular problem. The loans for this group would probably average
between $20,000 and $30,000. Again assuming that 50 percent of the
group wanted to borrow $30,000 each, the amount involved would be
$7,800,000,000, or less than 20 percent of the amount loaned by banks
in 1940.
The same type of yardstick can be applied to the remaining two
classifications with the same results. The next bracket includes
46,000 firms having a net worth of between $100,000 and $1,000,000.
The average loan in this group has been estimated to be less than
$250,000. Assuming that half the concerns would want to borrow
$250,000, a total of $5,750,000,000 in credit would be required, or only
about 12 percent of banking's proven lending ability before the war.
Some banks, because of their size, cannot make loans in these larger
amounts. This will prove no handicap, however, to enterprise.
Effective machinery is already in operation to make possible the
smooth flow of bank credit to these intermediate sized concerns. By
the opei'ation of the correspondent banking system and through the
resources of bank credit groups now being formed throughout the
country, adequate credit will be available from one of several sources
within the banking structure itself. These additional sources of bank
credit will be discussed later in a consideration of the work of the
postwar small business credit commission of the American Bankers
Association.
Banking is hopeful that the amount of credit required in the post-
war period will be far in excess of these estimates. Should this prove
true, banking will still be able to make the necessary loans because
the resources of the banks today are almost twice as large as they
were in 1940.
Without lessening to any degree its maxinumi contributions toward
winning the war, banking has made practical plans for the postwar
period. These plans are designed to bridge safely the gap between
war activity and peacetime production, and to provide the money that
will enable American business, industry, the professions, and agri-
culture to meet the impact of peace, prepare for new operations, plant
expansion, new^ merchandise and new markets, and to take advantage
of the opportunities that will be presented by victorious postwar
America.
These plans were developed by the postwar small business credit
commission of the American Bankers Association after more than
a year's study of the problems of small business by various committees
of the association. The commission was organized in July 1944 and
is composed of 42 members representing every trade area and all kinds
and sizes of banks.
The group early formulated a credit policy and outlined a plan
of action that has swept across the country and penetrated to the
very grass roots with amazing speed, tremendous enthusiasm, and
able accomplishment. Some features of the program are new. How-
ever, most of it is designed to adapt prewar credit methods to possible
2460 POSTWAR ECONOMIC POLICY AND PLANNING
postwar needs. The commission will assist the commercial banks
of tlie country in resumino- the business of making loans for construc-
tive peacetime purposes. Much of the educational program Avhich
has been financed by voluntary subscriptions from banks of all sizes
is devoted to this purpose.
Tlie fundamental objectives of the postwar small business credit
commission is to see that bank credit in adequate amounts and for
sufficient lengths of time will be available to anj'- competent man or
firm desiring such credit for some constructive purpose that will serve
the enterprise economy of our country. This ])olicy was backed by
a determined pledge that if the individual banks cannot grant the
credit, the bankers will stay with the applicant and see that he gets
the money from some other bank or group of banks. American bank-
ing will see that small business lives and is given tlie opportunity to
grow and prosper.
The commission made it clear that it did not advocate the making
of reckless loans, recognizing that such loans are of no benefit to the
borrower, the l)ank. or the community.
Briefly here is the five-point program of the commission :
(1) Term loans: The principle of term loans developed by banks
and used successfully by larger enterprises will be applied to small
business. These loans, made for 1 to 10 years under specified con-
ditions, are tailor-made to meet the needs of any particular business.
xVlready the commission's educational program explaining the tech-
nique and procedures involved in making term loans has had wide-
spread acceptance among the smaller banks.
(2) Small business loans departments: Banks are setting up small
business credit departments or are designating certain officers to give
special attention and experienced service to the proprietors of small
enterprises.
(3) Correspondent bank relationships: The banking system with
more than $100,000,000,000 on deposit provides a tremendous reservoir
of potential credit. This will be released in most instances through
the action of the individual banks in their local communities. In the
event the local bank cannot make the loan itself for any reason, it calls
upon its correspondent bank in a larger city to cooperate in making
the credit or in giving expert advice and experienced counsel on the
situation in an effort to make the loan bankable. The larger banks
throughout the country are now^ holding meetings of their country
correspondents to implement this pi'ogram.
(4) Bank-credit groups : There will be cases where neither the local
bank nor its city correspondent will be able to assume the full risk or
be able to make the loan because of its size, character, or other circum-
stances. In order to meet such situations and provide a third source
of credit within the banking structure itself, the connnission is recom-
mending the organization of voluntary credit groups in various sec-
tions of the country. This part of the program has met with out-
standing success and already 31 such groups have been organized
having credit reservoirs in excess of $500,000,000. It is expected this
total will soon reach approximately $650,000,000 through the organ-
ization of new groups. These groups operate through banks and are
of four different types, depending upon the territory served: {a)
POSTWAR ECONOMIC POLICY AND PLANNING 2461
Nation-wide; (5) regional, covering a trade area; (c) State-wide;
and (d) local, for community use.
(5) Education and merchandising: A carefully prepared program
of education is now under way. This is directed primarily to the
bankers so that through the benefit of research, literature, and personal
contact they may become familiar with new lending techniques and
may extend the use of those now in operation. The entire economy
will profit bj' this educational process.
Merchandising inlays an important jDart in this phase of the pro-
gram. The commission is urging every bank to merchandise vigor-
ously its credits and services and providing banks with advertising
material and sales guides which will assist them in enlarging the num-
ber and variety of their services to the people of their communities.
The credit policy outlined in this memorandum and the program de-
scribed here have been presented to more than 3,500 bankers repre-
senting all State bankers associations. Both the policy and the
program received their enthusiastic endorsement and wholehearted
support. State associations have set up committees and the work is
being carried forward on a local basis.
The banks of the Nation through the postwar small business credit
commission have made a solemn pledge to the American people that
adequate credit will be made available to men of character and ability
and that it will be provided by the American system of banking, a
product of private enterprise and itself a creator of private enter-
prise. That pledge will be kept.
I am handing you with this statement, gentlemen, a progress report
of the postwar small business credit commission, which has in the
back a list of the bank credit groups which were formed up to March
1945. Since that time a good many more have been formed and have
not yet been announced.
The Chairman. Mr. Folsom, on behalf of the staff, do you have
some questions?
Mr. FoLsoM. There were one or two questions which we sent to you,
Mr. Hanes : one w^as, under existing laws and regulatory procedures,
W'hat could be considered as preventing a bank from doing the job you
think they can do ?
Mr. Hanes. You are speaking of regulatory authorities?
Mr, FoLsoM. Of existing law\
Hr. Hanes. We have had very intimate discussions with the heads
of the three regulatory bodies here in Washington — the Federal Re-
serve, the Comptroller of the Currency, and the FDIC, and we have
met with a great many of the State banking supervisors, and tomorrow
I am appearing before the State supervisors in convention here and
will present this to them then.
We have definite assurance if a loan is made on a sound basis and
amortized properly, the loan will not be criticized as slow or bad as
long as the payments are kept up, even though they go as long as
10 years.
Mr. FoLSOM. I am speaking of any law-s or regulations which would
prevent the banks from doing the job you think they can do.
Mr. Hanes. I do not believe there is any. We believe definitely
that regulation should be had to prevent wildcat banking. We are
dealing with other people's funds and our primary responsibility is to
2462 POSTWAR ECONOMIC POLICY AND PLANNING
look after them and give proper administration, and after that to
serve oiir communities as best we can.
Mr. FoLsoM. The other question is. What is the attitude of the
banks toward some type of guaranty of unusual risk which would
make possible the use of credit not otherwise available?
Mr. Hanes. We do not believe there is any reasonable risk the banks
should not take ; that is our business.
Mr. FoLsoM. You are familiar with the Wagner-Steagall bill.
Mr. Hanes. Yes.
Mr, FoLsoM. Governor Draper of the Federal Reserve Board pre-_
sented the Board's position on that; I would like to have your
position.
Mr. Hanes. We are opposed to the bill. We do not think it is
necessary. We feel if they can determine to Avhom this $139,000,000
they talk about belongs — I do not think that has been determined — if
they determine it belongs to the Federal Reserve System, then we
believe it should go into its capital structure to bolster it to take care
of some of the increased liabilities that have been taken on by the
Federal Reserve during the war and should not be used on a guaranty
basis because we feel it is not needed.
Mr. FoLSOM. He indicated there might be loans of longer term than
the banks ordinarily would want to make.
Mr. Haxes. The banks are going pretty generally up to 10 years
and that is as long as we feel the Federal Reserve should go. Beyond
that it is equity money and should go into some form of equity.
The Chairman. Mr. Arthur.
Mr, Arthur. I wanted to ask one question somewhat along the same
line. You mentioned the term of loans up to 10 years, but I am won-
dering about the possibility of securing credit in local communities for
such enterprises as the purchase of war plants, where an equity op-
eration is indicated, but probably considerable credit may be needed
against fixed assets; is that the sort of thing these bank-credit groups
would be able to accomplish ?
Mr. Hanes. Unquestionably, so long as the amount of money
needed has proper relation to the amount of capital put up. If some-
one with half a million capital wanted $5,000,000, obviously, it could
not be done because that would be out of relation.
Mr. Arthur. Do you think there is an open channel for the flow of
capital into that kind of enterprise outside of the banks ?
Mr. Hanes. I think unquestionabh' there is. In our section of the
country I have never known of as much dammed up money seeking
investment.
Mr. Arthur. The money is there, but how about the channel ?
Mr. Hanes. The main thing, in my opinion, that is keeping people
from seeking investments is the lax laws. If a man makes a profit, he
is going to get from 10 to 50 percent of it, but if he makes a loss, he
has a 100-percent loss to take. There is no gamble there. When you
buy equities, you are speculating, and when you take the risk you cer-
tainly should have an incentive to make a real profit.
On the other hand, you are having a 100-percent loss if it turns out
bad.
Mr, Arthur, You do not, see any lack of facilities such as the in-
vestment banking people provide for larger capital flotations for the
fellow who is in the $50,000 to $500,000 enterprise ?
POSTWAR ECONOMIC POLICY AND PLANNING 2463
Mr. Hanes. I am not thoroughly conversant with the details of the
investment bankers' proj^osal ; 1 have not read it in detail, but it seems
to me they are very sound in forming local groups for handling secu-
rities. In North Carolina we have five very good local dealers who
have financed many small concerns from $50,000 up, and they have
had no difticulty where they have had merit and sound management.
But I think we are confusing the needs of small business by saying-
money is the thing it needs most. Sound management is what it
needs. If you do not have management, you do not have anything, and
sooner or later the money will be lost if you do not have management.
The history of small business is that by far the larger percentage
fails because management is not sound. That is the main thing small
business needs and all business needs — intelligent, sound management.
Mr. Arthur. That is the reason for my question. As I see it, the
investment banking group has the responsibility for finding the man-
agement and seeing that the funds and management are brought
together
Mr. Kanes. Yes, and I believe they Avill do that. Often in the past
individuals have invested just from enthusiasm over an idea, without
looking at the management. A lot of securities have been sold, for
example, because Mr. Ford made money out of automobiles and they
thought they could do the same, but they did not have the brains Mr.
Ford had and the concern went by the boards.
It seems to me the thing that is keeping equity capital from flowing
into investment channels is, first, taxes, and second, the red tape and
expense of the Securities and Exchange Commission, and I would like
to confirm Avhat Mr. Scliram said. I also believe in the SEC, but the
expense and the amount of time consumed in getting up these forms
for small institutions make it entirely too expensive; they just cannot
afford to do the thing. By the time they pay the lawyers, accountants,
and everyone else, the cost is so great they cannot afford it, and it
seems to me something should be done along that line.
Some bills are in Congress now to increase the limit so that the
smaller corporations do not have to come under the Securities and
Exchange Commission.
Mr. Zimmerman. Will you pardon me at that point?
Mr. Hanes. Yes, sir.
Mr. Zimmerman. Is this requirement merely a regulation put into
force by the Securities and Exchange Connnission ?
Mr. Hanes. I think it is in the law.
Mr. Zimmerman. In the law?
Mr. Hanes. That is my understanding, that there has to be an act
of Congress to change it.
Mr. Zimmerman. That is one of the things you think Congress
should give attention to?
Mr. Hanes. Yes, sir; very serious consideration.
Mr. Zimmerman. And I think that is one of the things this com-
mittee will reconmiend to Congress, and that, of course, is all we can
do — make recommendation to Congress — and they may either ap-
prove or disapjDrove; but do you think that is — since it is a part of
tlie basic law, it will require an act of Congress to make that change?
Mr. Hanes. I think so, sir.
Mr. Zimmerman. I did not know that was true.
2464 POSTWAR ECONOMIC POLICY AND PLANNING
Mr. Hanes. It seems to me if tlie taxes and the Securities and Ex-
change Commission regulations could be changed, we would see a
tremendous impetus in the buying of securities which, I think, would
help the whole })ostwar problem of getting our people back to work
and creating employment.
The Chairman, Have a'ou finished, Mr. Arthur'^
Mr. Arthur. Yes, sir.
The Chairman. Have you, Mr. Zimmerman ?
Mr. Zimmerman. Yes.
The Chairman. If I may, Mr. Hanes — if I get the purport of
your statement, sir, you do not think there is any affirmative action
necessary by Congress to assist in the financing of the so-called small
business ; that category you have set out there as the small business ?
Mr. Hanes. Well, I think definitely there are enough agencies
set up. You have the RFC, which can do anything these other agen-
cies can do. There is the Federal Housing Administration for mort-
gage loans, and there are the various farm agencies for agriculural
loans. So I do not think it is necessary to set up additional machin-
ery because it is all here now and ready to be used.
The Chairman. But aside from that, if I get the purport of your
statement, the banks have sufficient money on liand with which to
finance these people ?
Mr. Hanes. Yes, sir ; ample.
The Chairman. We are urged every day repeatedly to help the
small businessman in the postwar period, to assist the returning vet-
eran to get into business.
Mr. Hanes. Yes, sir.
The Chairman. Your thought is, if I understand correctly, that
that is not necessary on the part of the Congress; that any business
that would be undertaken of that nature could be amply financed by
private institutions if it were a business susceptible of succeeding?
Mr. Hanes. Yes, sir. I wonder if I might give two or three illus-
trations of that, sir?
A man came to us the other day who has been in the retail elec-
trical supply business, selling retail electric merchandise. He wanted
to go into the wholesale business. One of his boys is coming home
from the service and he has another boy who is now working for a
corporation but who is going to quit his job and return to work with
his father.
Now, this man had a small net worth ; it was only about $5,000 in
his business. He wanted to borrow about $15,000. He had $5,000
in his business and he owned his home free and clear ; he had all
together about $15,000 and he wanted to borrow $15,000 to go into the
wholesale business. Of course, he cannot get his equipment and sup-
plies now; he cannot get electric sweepers, refrigerators, and various
things he wanted to sell, but before he could go to the manufacturers
and make contracts, he had to be assured lie would be financed.
As I say, he wanted $15,000 for 5 years, and we v>ent into the matter
with him. His record was good. He had shown by the conduct of
his retail business that he had sufficient capacity; that lie was a man
of character and had paid his debts.
We gave him a commitment that whenever he can get the goods
to go into the wholesale business we will lend him $15,000. He has
POSTWAR ECONOMIC POLICY AND PLANNING 2465
made his contacts with the manufacturers and as soon as the goods
are available he is ready to go into the wholesale business.
"We have been asked why these credit groups have not loaned money
so far. Here is one instance why they have not : We have made a
commitment but cannot make the loan before the goods are available,
and that is true throughout industry today.
Civilian goods are not available, but the credits have to be arranged
so that we can move into peacetime economy and start people in
that work.
The Chairman. Mr. Hanes, I am just a little concerned about the
experience in the era preceding the war. The small banks took the
position they could not make these long-time loans. I have not had an
opportunity to read your report here, but is there some machinery
that you propose to set up here that will, through some cooperative
or underwriting basis, permit those long-time loans?
Mr. Hanes. This term lending business is rather a new technique
in banking. For a long while 60 days, 90 days, 4 months, or 6 months
was as far as we thought we could go because we thought we could
not take risks over a long period of time. Tlie whole difticulty in the
mortgage field and in business was that we were making loans without
amortization.
Tlie history has been where loans are properly amortized there is
very little loss. In the so-called short loan, although it may have
been supposed to run for 60 or 90 days, it actually in many instances
ran for as much as 10 years without curtailment, and then often the
business would get so bad the loan could not be collected.
Now had those loans been amortized, by the time the borrower had
to go out of business the bank would have received sufficient so that
it would not have suffered nuich loss, whereas by carrying the whole
loan for 10 years the bank lost the whole amount, or a good part of it.
While it has been done in the mortgage lending field for a great
many years, it is only in the last 5 years that banks have made loans
in volume over a period of years. The}" first extended them to 1 year
and then to 2 years and then to 5 years, and now they are lending
quite freely for periods as long as 10 years.
The Chaiumax. There is nothing in the FDIC that would interfere
V, (til that procedure?
Mr. Haxes. The banks have been criticized in the past for having
slow loans running without curtailment, and this is an additional
reason why we should have monthly or quarterly or semiannual or
annual reductions. ]\Ir. Crowley, in his last report, said that banks
had to take longer risks and that this old fetish of 60- or 90-day
credits had more or less passed out.
The CiiAiRMAX'. That brings up something I would like to get
aiound to. We all recall that in the depression era when a good many
v)f the banks were closed as a result of the bank holiday, when they
reopened it was a pretty hard thing to get a loan for any business,
however meritorious it might be; the banks, just fresh from that
experience, were very timid; they just were scared, in plain words.
Now, is there any danger of that situation existing in the postwar
])eriod ?
Mr. Hanes. I do not know whether you have ever done any quail
sliooting or not, but if you have, you know if you shoot your dog he
leaves and is ^nn-shv for some time.
2466 POSTWAR ECONOMIC POLICY AND PLANNING
The Chairman. That is the point.
Mr. Hanes. The losses incurred over the years have been hirge.
One reason, as I said, is tliat management in business has not always
been the best. But in the past loans were made supposedly to be re-
paid in f)0 or 90 days or o or -i months, and they have been cai'ried on
witli no reduction for years and years, and that has been the main
difficulty.
The next thing we advocate is that banks set up proper reserves as
they go along; out of your interest earnings each year you set up
what you think your losses may be over the period of years.
In our institution we took a survey. from 1928 to 1938. That took
us through good years and bad. We found our losses had been one-
half of 1 ])ercent. So we are setting up one-half percent of our loans,
knowing that if Ave do a good banking job we will lose that much
money. We are self-insurers on our loans, and that is why we do not
need Government iusurance.
Had banks done that, they could have taken their losses in their
stride over the depression years and gone right on lending just the
same through the depression years and would never have been shocked
by losses because they had already provided for them.
The Chairman. And yet the enactment of FDIC did giA'e confidence
that has resulted in nuich better conditions.
Mr. Hanes. There is no question but that is true.
Mr. Zimmerman. That is very interest iug. That half of 1 percent
you set aside as a reserve to take care of future losses is in addition to
the amount j'ou set aside for surplus and undivided profits?
Mr. Hanes. Yes, sir.
Mr. Zimmerman. That is something that is put aside and not car-
ried as part of the assets of the bank ?
Mr. Hanes. The whole idea is that these reserves will take care of
losses without touching the capital structure, surplus, undivided
profits, or capital.
Mr. Zimmerman. That is an interesting thought.
Mr. Hanes. Yes.
The Chairman. Mr. Hanes, I would like to say for the benefit of the
record and for your information, sir, that if there is one thing above
eveiything else this committee has stressed, it has been the continua-
tion of the American institution of private enterprise. We do not
want to see anything doae that would interfere with that, and yet, for
the reasons I mentioned a moment ago, there is considerable appre-
hension that private banking will not meet the situation that will exist.
I certainly hope, sir, that your views, which might seem a little
optimistic to some, are well-founded, and I am not challenging them.
Mr. Hanes. Of course, only the future Avill tell. As I have said, we
made a Nation-wide trip from coast to coast and from north to south
and talked to 3,500 bankers and in turn they talked to 2,200 banking
groups. We have gone through the State associations and have told
the bankers we have the problem in our lap to finance postwar industry
soundly.
That does not mean every bank in the United States will carry on
the program, because we have good, bad, and indifferent bankers just
as you have good, bad, and indifferent Congressmen.
The Chairman. I think that is a fair statement.
POSTWAR ECONOMIC POLICY AND PLANNING 2467
Mr. Hanes. The reason our private economy will exist is the same
as the reason that Congress exists, and that is because the great ma-
jority of men are good, but we shall have bankers who will not have
any part of this program; they w^ill just get into their bombproof
shelters and buy bonds.
But we hope that bankers in all communities will go out and take
all intelligent risks and extend their activities into those communi-
ties where the local bankers refuse to take them. We are telling the
public they are going to do it. I have had a few letters from Alabama
to the south and as far as Montana to the vrest complaining of the fail-
ure of banks to make loans. We have referred them to our commit-
teemen in these sections and they have taken the loan back to the local
bank, and in the great majority of cases there w^as a real reason wdiy
the loan could not be made. On the other hand, we have had one
instance wdiere the local bank did not make the loan but a bank within
the area did make it.
Tlie Chairman. Mr. LeFevre.
Mr. LeFevre. Mr. Hanes, I want to compliment you on the report.
It shows the bankers are on the job, and I am glad to see the bank
exauiiners have come to look favorably on the long-term loan.
Mr. Hanes. That is right, sir.
Mr. LeFevre. I have seen them criticize many loans for being slow.
Mr. Hanes. I am appearing before the State supervisors tomorrow
and have already seen the supervisory authorities here in Washing-
ton, and we are assured that as long as the loan is made soundly to a
person of character and capacity, even though his balance sheet may
be thin, if the record shows he is capable of management and proper
amortization is set up, they will not criticize the loan.
Mr. LeFea're. Thank you.
Mr. Zimmerman. I am glad to hear that. Coming from a small
country town, I have had, some connection with bankers in our sec-
tion, and I know for a fact, after the establishment of the FDIC they
made it pretty hard on country banks. In other words, it has been
pretty ditHcult to even furnish money to a cotton farmer where he had
plenty of mules and farm machinery and his integrity Avas good and
he had good land to make a cotton crop that we know brings about so
much money.
We had a lot of trouble getting them to approve those loans, and I
am glad you boys have worked out a credit for a longer term.
(Discussion off the record.)
Mr. Zimmerman. Do you not think the case of the man yon men-
tioned who has his two sons coming back into business with him, is
tyi)ical of the situation all over the country where filling stations have
closed down during the war — there are half a dozen of them in my little
toAvn — and there are a lot of things that had to close down because
of the necessity of war activity. They are going to come back into
business, and there is where I think the country banker will have a
chance to lend that money he has held so long, and I think we will
see a great expansion in business. I think that is going to solve our
problem. •
Mr. Hanes. We are stressing in this whole program that bankers
should pin their faith to the competent man, that character and ca-
99579 — 46 — pt. 8 7
2468 POSTWAR ECONOMIC POLICY AND PLANNING
pacity go a long way and when you find such a man you can bet on him
and go alono- with him.
In addition to the tremendous increase in bank deposits, from $45
billion in 1940 to over $100 billion at present, the circulation has also
tremendously increased, and there is money in old socks and safety-
deposit boxes and in other places. There is a tremendous amount of
money that should be brought back into use.
Of course, a large circulation is needed because of increased busi-
ness volume but 1 do not think this tremendous increase of 500 percent
in the last 10 years has been entirel}^ needed for that ; I think a lot
of it has gone into hoarding.
Mr. FoLSOM. The Reconstruction Finance Corporatiim has a plan,
to advance three-fourths on loans made by individual banks; will the
banks make any use of that?
Mr. Hanes. That is so new I have not been able to look into it. I
hope to discuss that today and see what they intend doing with the
program. I have had a letter on it fi'om the manager of our North
Carolina agency, but I am not well enough informed to discuss it.
Mr. FoLsoM. From what you say there would be no need of monev
from the RFC.
Mr. Hanes. I think that is quite true, that we do not need it, but I
would like to see what their plan is definitely before I Avould want to
connnent on it.
The Chaikmax. An3^thing further, Mr. Folsom ?
Mr. FoLsoM. No, sir.
The Chairman, Mr. Hanes, w^e are very grateful for your attend-
ance and your splendid statement. It is very refreshing and opti-
mistic in its nature, and I am sure it is based upon a great deal of study
on your part. We are very grateful to you.
]Mr. Hanes. May I thank all of you gentlemen for your kindness
in heai'ing me.
The Chairman. Thank you very much. The committee will stand
adjourned.
(AVliereupon, at 12:05 p. m., the committee adjourned.)
POSTWAR ECONOMIC POLICY AND PLANNINGl
THURSDAY, MAY 31, 1945
House of Representatives,
Special Committee on Postwar
Economic Policy and Planning,
Washmgtoji, D. C.
The special conimittee met, pursuant to notice, at 10 : 30 a. m., in
room 1401, New House Office Building, Hon. William M. Colmer
(chairman) presiding.
Present: Representatives Colmer (chairman), Zimmerman, Mur-
dock, Fogarty, Walter, and Wolverton.
Also present : M. B. Folsom, staff director: and Ernest J. Hopkins,
consultant, of the special committee.
The Chairman. The committee will come to order.
For the benefit of the record, we are grateful to Mr. F. Eberstadt
for his appearance here this morning.
• STATEMENT OF F. EBERSTADT
The Chairman. ]Mr. Eberstadt, for the record, will you state your
business, please, sir?
Mr. Eberstadt. My name is Ferdinand Eberstadt. I am a partner
in tlie firm of F. Eberstadt & Co., 39 Broadway. New York City, in-
vestment bankers.
The Chairman. ]\Ir. Eberstadt. I believe you have a prepared state-
ment. However, you may utilize the time as you see fit; read your
statement, and if there are ciuestions you may answer them or request
that questions be withheld until you finish with your statement.
Mr. Eberstadt. Mr. Chairman, with your permission, I will skim
over this statement and if tliere are any questions, I will be glad to try
to respond to them.
The Chairman. Very well, sir.
]Mr. Eberstadt. I would appreciate having the record show that I
am not appearing before this committee on behalf of, or as the repre-
sentative of, any group or organization. I am here simply as an indi-
vidual and at the connnittee's invitation. No one but myself is re-
sponsil)le for what I say. . .
The reports of this conunittee indicate clearly its realization of the
importance and desirability of a free and active private investment
market as a stimulant to business and employment in the postwar
period. This view seems to be quite generally shared by informed
people in business, labor, and Goverument circles. Less general, how-
ever, is the realization that certain provisions of our securities laws
and regulations and certain administrative practices and procedures of
2469
2470 POSTWAR ECONOMIC POLICY AND PLANNING
the SEC thereunder may constitute such serious obstacles to the free
flow of capital as to jeopardize our attaining the volume of private
investment necessar}'' to support that measure of production, consum-
tion, and employment which all of us hope for.
Sustained high levels of business and employment in the postwar
period will, of course, require a favorable concurrence of many ele-
ments. No single one, however favorable, can alone produce this
result. And so, I don't want to seem to overestimate the relation of
active private capital markets to postwar business. But no one, I
think will dispute the statement that they constitute one very essential
link in the chain of good business.
If we are to have peacetime production, consumption, and employ-
ment levels beyond anything that we have yet achieved in this country,
we will also need a volume of private investment beyond anything
heretofore reached. Otherwise Government will have to furnish the
necessary funds at the cost of the taxpayers.
In addition to its stinmlating contribution to postwar business and
employment, an active private investment market can make a further
very substantial contribution to our national economy through fur-
nishing from private sources, a large amount of the funds necessary
to purchase surplus Government-owned war plants and equipment,
with resulting retluction of our governmental deficit to the consider-
able benefit of the taxpayers.
How high the total volume of postwar investment will be is a matter
of opinion. The differences amongst authorities is considerable. A
recent release of the Securities and Exchange Commission seems to
indicate that, in their opinion, business will not need substantial addi-
tional funds. A more recent report of the Twentieth Century Fund
indicates that requirements may run as high as $28,000,000,000 per
annum. In 1929 the total of corporate flotations amounted to over
$10,000,000,000 and the average for 10 years preceding amounted to
over $5,000,000,000 per annum. The largest amount of corporate
flotations since 1933, when the SEC was established, was $4,600,000,000
in 1936. Not all of this, of course, needed to be registered with the
SEC. The average amount of flotations for the years 1934 to 1944,
inclusive, was $2,200,000,000. There is more than a mere coincidence
between volume of investment and degree of employment.
Adopting the relationship between flotations in 1929 and the gross
national product that year, if we are to have a gross national product
of $160,000,000,000 in the postwar years, we can expect flotations of
around $16,000,000,000 per annum. A large part of such flotations
will require registration under the Securities Act of 1933. The largest
amount of new issues registered with the SEC was slightly under
4 billions in the j^ear 1936. If the issues to be registered with the
SEC during the postwar years amount to 16 billions per annum, they
will approximately equal the total amount of the registrations with
the SEC during the 10 years from 1935 to 1944, inclusive. I question
the ability of the present mechanism to carry this burden.
There will unquestionably be a strong demand for investment funds
to reduce costs through refunding, to convert plants from war to
peacetime uses, to increase efficiency through new plants, equipment,
and installations; to start new businesses and to expand present ones —
to say nothing of the demand for funds from abroad, the importance
POSTWAR ECONOMIC POLICY AND PLANNING 2471
and probable magnitude of which has been referred to in your reports.
There is ah'ead^'^ considerable evidence of a strong and growing demand
for such funds on the part of business, large and small. Its outstand-
ing performance during the war has restored the confidence of Ameri-
can business, which was badly shaken during the depression and the
years that followed. Businessmen are now more eager than ever to
go ahead, armed not only with greater technical knowledge but also
with a fuller realization that enlightened social and labor policies
are good business. Industrialists generally realize that if we are to
have sustained good business, they must pay good wages, must con-
stantly reduce their costs, and must sell a constantly improved product
at decreasing prices to the consumer. This progress requires the
efficient use of large amounts of capital — an art in wliich Americans
excel.
I would like to digress for a moment, with the committee's permis-
sion, to give you some interesting figures.
The Ch-virmax. All right, sir.
Mr. Eberstadt. I want to amplify with some figures the statement
which I made as to the importance of the relation of capital to the
productivity of the worker.
According to these figures, Avhich I quote from a leaflet bj' Shop
Management Planning, Inc., of Jersey City, N. J., dated February
1915, reprinted from the magazine Chemical Industry, in 1879 there
was in this. country 1.3 horsepower per worker, roughly ; the average
ourput of the worker amounted to $1,960 per annum; his average
wage amounted to $346 per annum. In 1939. there were 6.4 horse-
power per worker in this country ; the annual output per worker had
a value of $7,200. and the annual wage amounted to $1,150.
Now, I will return to my statement.
On the other hand, there is no doubt of the existence of tremendous
funds in private hands eager for productive private investment. In
the 25 years that I have been connected with this business, I have
never seen anything like it, not even in 1929.
However, in spite of the tremendous amoimt of capital which is
available and the great need and desire of business to obtain and
use it, the union of these two will not come about in the desired
measure if there remain serious obstacles to the transfer of this
private capital to business enterprises.
Under the laws now on our statute books, the major portion of
private investment is subject to the pro^nsions of the Securities Act
of 1933, as amended. This is one of four principal statutes adminis-
tered bv the Securities and Exchange Commission, the other three
being the Securities Exchange Act of 1934. the Public Utility Holding
Company Act of 1935, and the Investment Company Act of 1940. AU
of these acts affect private investment. The oldest has been on the
books for 12 years, the shortest for about 5 years. Thus considerable
experience in their operation has been obtained by the SEC, by the
investment banking fraternity and by business. The results of ex-
perience over these years are available to your committee.
The importance of active private investment markets in relation
to postwar business and employment, is such as, in my opinion, to
justify a thorough examination by your committer of these statutes
and the practices, rules and regulations adopted by the SEC pur-
2472 POSTWAR ECONOMIC POLICY AND PLANNING
suant thereto with a view to keepino; that portion which is sound
and constructive and to eliminatinjy that i)ortion which is unneces-
sarily obstructive, cumbersome, dihdory, and expensive.
I woukl like to make it very clear that I am not si\i»;gesting the
repeal of all or any of these acts. In my opinion if the investment
banking fraternity were faced with the alternative of the acts as they
are or repeal in toto. I believe that they would prefer the former.
But those are not the only alternatives. The constructive course,
it seems to me, is to review these acts and their administration in
the light of experience, looking not to their elimination but to their
imi)rovement.
Nor do I suggest that the penalties for malfeasance be lightened.
On the contrary, I see no objection to maintaining or even increas-
ing their severity where fraud or other malfeasance is clearly present.
I do, however, question the wisdom of handicapping our postv»'ar
recovery by retaining unnecessary burdens of time, work and ex-
pense upon the great majority of business people, large and small,
Avho ap])r()ach the private investment capital nrarket with no sinister
purpose but solely in i-es])onse to their understandable ambition to
start or to expand legitimate enterprises for the benefit of themselves,
their families, their workers, aPxd their customers.
You have invited attention to the importance of foreign loans.
This is a long story but I hazard the guess that no substantial amount
of private foreign loans is like!}' to pass through the fine mesh of
the filter of present laws and regulations. Our own pe(>])le may have
to continue to folloAv the present coiujjlicated and intricate procedures
in order to get private capital, but the foreign bori'ower will prefer
the simpler procedures of the London market.
Our firm was one of the very first to accept this legislation in good
grace and to act under it. During the 12 years since 1933, we liave
har.dled issues under these acts running into many millions for a wide
varietj^ of companies, mostly of moderate size. Our relations with
the members of the Commission and its staff have been excellent. At
no time have we had cause to complain about their attitude nor, I am
happy to be able to state, have they ever directed a complaint of any
sort at us. I say that in order to remove any suspicion that we have
even the slightest grievance toward the Commission. Exactly the
contrary is true. Far from bearing resentment, we are grateful for
many heli:)ful accommodations which they have extended to us. I
am not criticizing the attitude of the umpire. I am suggesting that
the rules of the game as they now exist and are administered offer a
threat to obtaining the volume of business and employment which,
next to military victory, seems to be the thing that our people most
ardently desire.
I fear that it will not be possible to clear the ti'emendous volume of
private investment which will be necessary to support the volume of
employment which we want, through the statutes and administrative
procedures which now exist. It is for that reason, that I have taken
the liberty of suggesting to this committee that you examine thor-
oughly not only the four acts themselves, but the rules, regulations,
procedures, and forms through which these acts are being adminis-
tered.
No one questions the importance of full disclosure of material facts
and adequate protection to the investor. But I doubt that there is any
POSTWAR ECONOMIC POLICY AND PLANNING 2473
general desire to carry tliis laudable objective to such a quixotic point
tiiat in attemj^tino- to protect the investor from any possible lose of
money, we unintentionally hinder the raisin<j of capital to the point
of preventing- thousands from Hndino; productive employment.
I think that the results of such an investigation will disclose, at least
so far as the Securities Act of 1933 is concerned, that the statutes are
unduly restrictive, involved, and unclear, that procedures thereunder
are unnecessarily expensive, dilatory, and redundant, and that with-
out sacrificing iii any respect — I might say even strengthening — the
basic purpose of tliese acts, their language and administration can
he irreatly simplified.
I do not now wish to take the time of the committee by going into the
multitude of detail and technical questions involved in such an ex-
amination, but I would like to point out that in our experience it has
not been possible to register a new issue without expenses running into
many thousands of dollars. In our own issues, costs to the companies
have usually run betweeii $20,0()() and $50,000 per issue. These are not
large but moderate-sized issues. They may run from a million or 5 to
6 million. Simplification of the registration procedures would not, of
course, eliminate all expenses but it could reduce them substantially.
It has not proven possible to complete an issue of securities in less than
60 to 90 days. It requires the full time of a staff of lawyers, account-
ants, and usually some other experts. Frequently there are many trips
to Pliiladelphia. That is no particular inconvenience for bankers lo-
C(\ted in New York City, but it must constitute a considerable burden
to companies located in the Midwest, South, on the west coast, or in
the Southwest.
It has always seemed to me painting the lily a bit that a company
whose securities have been listed and traded on a national stock ex-
change for many years and about which the fullest information is
readily available, should be required to duplicate all of this informa-
tion in the form of an elaborate registration statement and prospectus
if it desires to make a public offering of new securities.
A particularly striking situation exists where such a company wants
to increase the amount of an issue already outstanding, listed and
traded in daily. Under these circumstances that portion of the issue
which is listed can be bought and sold with no particular formalities,
while dealings in the new issue, with identically the same rights and
provisions, must be supported by a registration statement and pro-
spectus. It is difficult to see why one class of purchaser needs so much
more })i'otection than the other.
I have wondered why it should be necessary for a company which
has once registered, to duplicate practically the entire registration on
a subsequent registration. The printing costs alone of these docu-
ments runs into many thousands of dollars.
As you know, in adctition to the Federal SEC, many States have their
own separate State SEC's. In order to be eligible for interstate sale,
most substantial issues must also be presented for scrutiny by the so-
called Blue Sky Commissions of the States where the securities are to
be sold.
This means more time, more expense, more work. Here again, I
do not want to criticize the State authorities. We have found them
competent and reasonable. That's not the point. The point is that
liere is just one more obstacle.
2474 POSTWAR ECONOMIC POLICY AND PLANNING
I have wondered why, instead of concurrent jurisdiction, the SEC
and the blue-sky authorities should not divide the field, the State com-
missions retaining jurisdiction on issues, say, up to $1,000,000 and
accepting the Federal SEC on issues above that.
The registration statement and prospectus in their present form are
so complicated that certainly the average man cannot understand them,
and even professionals in the business have considerable difficulty in
extracting the salient information. They are, I think, read by few
and understood by less.
To big business, all this red tape is chiefly a nuisance and expense.
They have or can hire lawyers, accountants, and experts of all sorts.
They don't enjoy it, but they can take it if they have to. Furthermore,
they are frequentl}^ able to circumvent the burdens of \"egistration by
private placement. But to smaller and particularly to new companies,
thevSe burdens constitute a serious obstacle to obtaining capital. Sim-
ilarly, the large Wall Street investment banker can get along after a
fashion, but the small local underwriter simply can't make the grade.
Local investment capital markets have practically disappeared. The
consequences of this to small business may be quite serious. When a
local investment house gets a financing deal, it is practically compelled
to bring it to Wall Street, because the local dealer, generally speaking,
has neither the technical knowledge nor the expert assistance required
to accomplish the major feat of registration.
I have taken the liberty of delivering to you copies of what I think
to be average registration statements and prospectuses.
Here they are, gentlemen. That one relates to the Hewitt Rubber
Co.. just completed. [Distributes document.]
This is the BranifF AirAvays of just a short time ago; and here is a
third, the xlrmstrong Rubber Co., just completed. [Distributes doc-
uments.]
I am not giving you the host of exhibits which usually accompany
the filing of these documents. In support of my statements, I ask
that you undertake the task of reading these documents, realizing
that they are required in the case of CA^ery substantial issue, and then
conclude on your own part whether or not they are a stimulant to pri-
vate investment markets. In contrast, I also deliver to you a few
copies of British prospectuses.
There is one British prospectus; there is another. [Distributes
documents.]
]Mr. Walter. Are the companies comparable in size?
Mr. Ebekstadt. I imagine the British are somewhat larger, but the
prospectuses show the amounts in each case.
One set of documents is four or five pages, and the other is several
hundred pages.
Mr. MuRDOCK. These American, are they duplicates? Do they con-
tain duplicates ?
Mr. Eberstadt. No; there are no duplicates. This is one separate,
relating to one issue, the BranifF Airways. It is, in a very great
measure, a duplicate of a similar registration filed a couple of years
before, but there is no duplication in these papers.
Mr. MuRDocK. I see.
Mr. Eberstadt. I think the contrast is quite marked.
POSTWAR ECONOMIC POLICY AND PLANNING 2475
If, after such study, you are still not convinced, I would like to di-
rect 3'our attention to the mass of SEC regulations, bullethis, forms,
and releases, none of which is distinguished for brevity, clarity, or sim-
plicity, and all of which to a greater or less degree affect private in-
^■estment, In aggregate they constitute a formidable montiment
equaled, so far as I know, only by the rules, regulations, and forms of
our income tax.
As the statutes now exist, I believe that Congress has conferred up-
on the SEC ti'emendous power over American business. The power
to influence the flow of private investment is the power not only to in-
iiuence the level of business and employment but to affect the very
nature of our economic system. For the most part I believe. that the
Commission has used this power moderately and constructively, but
I feel that any laws of this magnitude which at the time of their enact-
ment constituted a major departure in our lousiness and economic pol-
icy should be reviewed by Congress in the light of experience.
Tlie suggestion that I make is not a new one. Efforts have been
made over the past years to improve the situation. Bills have been
introduced into Congress. Some effecting minor ameliorations have,
in fact, been passed. The SEC and representatives of the investment-
banking fraternity have spent long days and weeks in conference in
a not very successful effort to agree on the desirability of certain
amendments of rather linuted importance.
I had intended to leave with the committee, but I think you have
already received it, a copy of the report of those conferences. So far
as I know, nothing further than the preparation of a report eventually
evolved.
I see no hope of progress along these lines. Never, so far as I
know, since this legislation was passed, has the whole field been
looked over carefully, scrutinizingly, and constructively by a con-
gressional committee. It seems to me tliat this is a particularly
significant time to undertake this task and that your committee has
an unusual opportunity to do a very constructive job.
I would not wish to give the impression that such a review would
be either easy or simple. On the contrary, it M'ould be a difficult and
involved investigation. But I think the results would fully justify
the time and effort so spent.
Before closing I would like to repeat that I don't want to givfe the
impression that an active private investment market is the only or
even the most important stimulant to postwar business. The effect
of the income-tax laws, particularly in the case of small and new
ventures, is very important. I simply want to point out that the
securities acts themselves, and equally the method of their adminis-
tration, are factors of major importance to our postwar business and
employment picture.
If, as a result of such examination, your committee is able to recom-
mend changes which, while not reducing protection to the investor,
will result in stimulating the flow of private-investment capital, I
believe you will have performed a signal service alike to business
and labor, for which both will be duly appreciative.
The Chairman. Mr. Eberstadt, on behalf of the committee I want
to thank you for a very clear, simple statement. I mean by that, the
f^implicity of your language is very admirable.
2476 POSTWAR ECONOMIC POLICY AND PLANNING
On the other liand, I must confess my lack of knowledge of the sub-
ject. I oet this reaction to your statement — that yon think tliat the
reel tape — for the \Yant of a better woid — and he requirements of the
Commission are very burdensome. You, for instance, exhibit pro-
spectus statements that are rec^uii-ed by the Commission and then con-
trast that with one tliat is required by the similar British authority.
Of course, we have not had an opportunity yet to weigh and investi-
gate those statements or prospectuses; but, being perfectly frank
about it, I don't get — my lay mind doesn't get any definite recom-
mendation other than it ought to be simplified.
I am just wondering liow you would simplify it.
I don't know wlio, on the committee, is competent to answer that
question unless it is tlie distinguished gentleman from New Jersey,
Mr. Wolverton, who, I believe, is a member of the Interstate and For-
eign Connnerce Conunittee of the House.
Mr. Wolverton. That is right.
The Chairman. I will yield to him. because I see tluit he wants to
make an observation.
Mr. Wolverton. Mr. Chairman, I wanted to supplement the re-
action that you had to the reading of this statement.
Continually, throughout the reading of the statement, I made checks
with respect to the criticisms that were directed; but in no instance
was there any specific suggestion made, so that where these criticisms
have been made in tliis statement, I, for my own information, was
jirepared to take each one of them and ask : What Avould you do about
it ? What is your suggestion ?
Xow, if I may make a personal reference to my connection with this
legislation, I would like to say that I was a member of the Interstate
and Foreign Commerce Committee wlien all of these statutes were
passed, the Stock Exchange Act, Holding Company Act, the Invest-
ment Act, the creation of the Securities and Exchange Commission,
and I was on the subconnnittee that prepared that legislation. I don't
wish to infer that I agreed with everything that was in it.
Our present Speaker was the chairman of that committee, and he
was also chairman of the subconnnittee that drew this legislation.
Now, my general reaction to this is as follows :
I am confident that there is much that needs change, so far as the
administration of the acts is concerned; but I am inclined to think,
Mr. Eberstadt, that the criticisms which you make are all of matters
that could be changed by regulation of the Securties and Exchange
Commission and do not necessitate changes in the basic law. The basic
law had but one theory, namely, to prevent fraud. The operation
of the act was left to the Securities and Exchange Conmiission, anil
much that has come to the attention of our committee, over a period
of years, has l>een objection to the manner in in which the act is admin-
istered. Too frequently we have had presented to our committee
statutes to change what could be changed by the Connnission itself, in
the administration of the act.
The point that I am endeavoring to make is this — that, until Mr.
Eberstadt is specific as to what remedj- is necessai-y and in what par-
ticulars it should apply, this committee would not be in a position
to ascertain just how far it requires legislation and how far it merely
requires a change in administration.
POSTWAR ECONOMIC POLICY AND PLANNING 2477
Now, may I say this — and do it without any rancor; it only reflects
Avhat I have said on many occasions in our own committee — I am fear-
ful that the failure of the SEC to fully appreciate the effect of some
of the things that they do, by way of rules and regulations, is due to
the fact that in all instances, on that Commission, the individuals who
make the rules and regulations have not had that practical experience
that, in my judgment, enables them to fully appreciate the effect of
what they are doing, from a practical business standpoint.
I have no complaint to make that everything they do is not in an
effort to prevent fraud and deceit and deception and protect the in-
vestor, but I am fearful that they lose sight, sometimes, of the prac-
tical side of it, and due to the fact that they have not had the practical
experience that is necessary before becoming a member of the Com-
mission.
The Chairman. Yes. Of course, Mr. Wolverton, that is a matter
of administration, not anything which we could do something about.
Mr. Eberstadt. May I comment, Mr. Wolverton
The Chairman. Pardon; I hate to leave any statement suspended
there, because I was sincere in what I said about the fullness and
frankness and yet simplicity of your statement in the argument for
the suggestion for some simplitication of this ])rocedure.
I will be frank with you. I am awed by the exhibit that you have
made here, which is, roughly, for the sane of the record, about the
size of a Sears, Koebuck catalog.
Mr. Walter. Even as voluminous as it is, there have been instances,
I know personally, where sufficient information was not provided, and
people have been imposed upon.
Now, this Commission, instead of being an autocratic agency such
as the impression was created that it is, has endeavored not only to
carry out the purposes of the act but to aid business.
Now, the fact that the report is large does not mean a thing. Per-
haps the British reports are faulty, but I certainly think that the SEC
endeavors to the best of its ability to avoid compelling business people
to do things that they find obnoxious or objectionable.
The Chairman. Well, I come back to the point that I started with,
and then I am going to leave it there — that this committee is intensely
interested, Mr. Eberstadt, in getting the objective which you are argu-
ing for here, of the proper economic condition of the countrj^ in the
postwar period, and we want to do everything we can to stimulate
private industry, stimulate the flow of private capital and investment
capital. I think we are all agreed on that, but I think that we should
have something specific.
I am sorry, Mr. Eberstadt. but we will have to recess now. How-
ever, we will be back here at 12 o'clock, if that is convenient.
Mr. Eberstadt. I am at the disposal of the committee now, or any
othei' time.
(Whereupon, at 11 : 30 a. m., a recess was taken until 12 noon of the
same day.)
afternoon session
(The committee reconvened at 12 noon, at the conclusion of the
recess.)
The Chairman. Mr. Eberstadt, when it was necessary for us to take
the recess to go to the floor, some question had been raised about your
2478 POSTWAR ECONOMIC POLICY AND PLANNING
statement not having been specific enough, although we were rather
commendatory of the purpose you sought.
So, I think, in fairness to you at this time, you should be given
an opportunity to answer those allegations as to the lack of being
specific.
Mr. Ebekstadt. Well, Mr. Chairman, I didn't realize that I was
being invited down here to make specific suggestions, or I would have
been prepared to make them. I don't want to take advantage of any
remarks that have been made here, but if I could interpret any of these
remarks as an invitation to make specific suggesticms, I would welcome
that, and I will be happy indeed to do so.
The Chairman. I assure you that is what the committee would like
to have, sir.
Mr. Eberstadt. Tliev will be forthcoming, sir. (See exhibit )5,
p. 2508.)
If I might comment on some of the remarks made, Mr. "Wolverton
contrasted the changes that might be desirable in the regulations, with
■what he regarded as the rather limited number of changes required
in the acts.
Your committee has in its file here a report of 285 pages, giving
about 100 clianges in the acts which were discussed by the industry
and the SEC.
Of those changes suggested
The Chairman. You mean changes that would be desirable ?
Mr. Eberstadt. Where changes would be desirable in the acts them-
selves — having nothing to do with the regulations.
Mr. Wolverton. INlay I say there, Mr. Chairman, that my statement
was directed to legislation that had appeared before our committee;
that the legislation which had appeared before our committee was of
a character that the relief sought could have been granted by changes
in rules and regTilations in most instances. These subjects that are
referred to in this report, by the witness, have not been presented to
the Committee on Interstate and Foreign Commerce in the form of
proposed legislation.
Mr. Eberstadt. It is evident that I misunderstood Mr. Wolverton.
I got the impression, from his remarks, that he thought the matters
which I brought before the committee's attention here today could be
remedied by changes in the rules and regulations and would not require
legislation.
I think you would agree with me, after reading this report here
[indicating] that certain major changes in the acts are necessary.
Their necessity to a considerable extent has been recognized by the SEC.
Mr. Wolverton. The report to which you refer, so far as I know,
has never been presented to the Committee on Interstate and Foreign
Commerce.
Mr. Eberstadt. I don't know — I understand it has been presented.
At any rate, I think no action has been taken on it, Mr. Wolverton.
Mr. WoLATERTON. I assume that what has been done is, a copy has
been sent to the chairman. Was there, accompanying the report, any
request for legislation along the lines that are mentioned in the report?
Mr. Peter T. Bane (of the Securities and Exchange Commission).
There wasn't any specific bill, except the bill by Mr. Wadsworth —
that was in the form of a bill. Then, the other was not in the form
POSTWAR ECONOMIC POLICY AND PLANNING 2479
of a bill but was in the form of hearings on suggestions made, and
there was a report like that by the industry and one similar to that
by the Commission itself.
Mr. Eberstadt. As I say, I will be very glad to prepare specific
suggestions, but such a thing as this would be the type of suggestion
I would have in mind — and I mentioned it in my statement — where
you have a stock that has been listed on a national exchange for years,
and the company desires to issue additional stock of that same cate-
gory, a customer can buy all the stock he wants and sell all he wants,
across the board, with no trouble at all, yet if he wants to buy part
of the new issue, which is the identical stock, it is necessary to take
the time and expense of preparing a registration statement.
Well, it is difficult for me to see why, as I pointed out, it is necessary
to do that in a sale by one group of salesmen, and not by another
group of salesmen.
Mr. Walter. May I interrupt at that point ?
I know of instances where companies have changed their financial
structure without adding any additional stock. Why, in those cases,
shouldn't it be sufficient that the officers of the company merely file an
affidavit in which they state that underlying the new issue is the same
security that is underlying the other issue, or something of the sort?
Mr. Eberstadt. Mr, Walter, I don't know all the details of the case.
These things are rather technical. I would be glad to give you an
answer, but I don't
Mr. Walter. I have in mind a company in which there would be
four or five different issues of stock, and the company would decide
to call all that stock in and issue new stock, the basis of which would
be exactly the same security that was back of the other issue. Cer-
tainly the directors of that company, if an affidavit would suffice,
would not swear falsely, and that would obviate the necessity of pre-
paring quite voluminous prospectuses.
Mr. Eberstadt. I might point out — that doesn't involve the obtain-
ing of any new capital, does it ?
Mr. Walit.r. No.
Mr. Eberstadt. I think that is where there is simply a readjust-
ment of capital structure, with no underwriting and no new capital,
the registration statement in those cases is not required, but we have
an expert on that here — I think I am correct.
Mr. Bane. Yes.
Mr. Eberstadt. I know of no instance where a company seeking
new capital does not have to register.
Mr. Walter, while we were talking, you mentioned the length of the
prospectus. It seems to me the fullness of disclosure is not dependent
on the length of the prospectus. You can make it two or three or even
five times as long and still not disclose certain relevant facts.
There are certain very relevant facts which relate to investment
that are not disclosed, even pursuant to the present rules and
regulations.
One example is management. It seems to me that the primary
essential of every investment is the nature, character, ability, and
experience of the management. There is, so far as I know, no re-
quirement on that. So I would like to point out that it would be
2480 POSTWAR ECONOMIC POLICY AND PLANNING
possible to decrease the size of those documents materially and still
have even more complete disclosure.
What has happened, I think, is this: The acts were passed as the
result of a situation with which we are all familiar, against a back-
ground of no actual experience in. this type of legislation or regulation.
The two slogans on the banner were "Let the seller beware' and the
other, "Truth in securities," and those are two very worthy slogans;
but in the administration of the act, I think certain rather normal
things have occurred. One is, the administrative groups have reached
out to extend their authority; the other is that the exercise of that
authority has become highly centralized; the third is that the admin-
istration has assumed an extremely detailed aspect ; the fourth is that
I think the Commission has taken the mandate not simply to see that
there would l)e truth in securities and let the seller beware, but to exer-
cise a genei-al moral supervision over all business procedure in the
financial field. And I rather think that goes beyond the objectives
of the act.
The Chairman. I wonder if you will permit an interiuption there?
You seem to have finished on that point.
Mr. Ererstadt. Yes.
The Chairman. Mr. INIurdock has a question that he desires to ask.
Mr. MuRDOCK. It is just a little more than a question, Mr. Chairman.
I want to supplement wliat the chairman said, about your statement.
It is clear and forceful and I have followed you with great interest and
I am, going to take this with me [indicating statement] and read it
with equally great interest again.
I am glacl the chairman of the subconnnittee of this committee that
deals with mines and mining is present. I want to say, coming as I
do from a mining community, that my chief question would be : What
changes in law or administration can be made with reference to mining
securities ?
I am like one or two others of the committee, I am a layman, and I
want to say f ranklj^ that I approach this matter with some suspicion.
I come from the West, and it was out West where Mark Twain made
his famous statement when he said, "A mine is a hole in the ground
owned by a liar."
I personally went with a friend of mine, one time, out in the hills,
and he showed me a hole in the ground and I looked down and said,
"What is this ?" "It is copper."
"Is it pretty rich?"
He gave me the assay on it.
"Well," I said, "what are we waiting for? Let's go down and get
it. Send it down to the smelter."
"Well, it isn't rich enough for that, but it is rich enough to sell
stock."
He had already sold me some, which I had found to be worthless, in
another proposition.
Mr. Walter. Is that an explanation of your suspicion ?
Mr. Murdock. But, to get to the point — and I want to say this to
Chairman Zimmerman — the mining people of the West complain
that they are stopped by the regulations of the SEC and other Gov-
ernment regulations
POSTWAR ECONOMIC POLICY AND PLANNING 2481
Mr. Walter. AVho registered that complaint, the kind of person
that you just described^
Mr. Ml RDOCK. No, the small mine operator.
You see, there is no more private capital going into the mining
business. The whole picture of mining is just this: That they can't
get any money for opening up new mines, and w^here they have a
venture that is something more than a mere promotional matter
Mr. Zlaimermax. May I interrupt^
Mr. MuRDOCK (continuing). It is this red tape that you have been
talking about. A man has got to state everything, including his age
and other matters, and the small mine operator thinks that it is just
useless for him to go and attempt to get capital.
Mv. Zimmerman. Pardon me, may I interrupt?
Mr. IMuRDOCK. Yes.
Mr. Zimmerman. You say you lost money on one of those holes in
the ground ?
Mr. JSIuRDocK. That was many, many years ago. I was citing that
case to back up Mark Twain's definition.
Mr. Zimmerman. I don't know how much you lost, but you would
have liked to have had some prospectuses to have stopped that,
wouldn't you?
Mr. MuRuocK. That is why I have cried out, prior to the passage
of these acts, the first one in 1933, I believe — I cried out against the
legalized hijacking that was going on, in which they could sell any
gullible person a piece of blue sky. We have got to have protection.
And, I gloi-y in the passage of legislation that would give us that
protection.
Now, what I am trying to drive at is this. I see that in the mining
West there is no sale of stock, it has just stopped, there is no develop-
ment. Well, now, good heavens, can't we arrive at some in-betwixt
and in-between where these necessary industries can go forward, and
yet the public be protected?
I heard one mining man say, "Of course mining is hazardous, more
or less of a gamble.''
Let's write across every mining stock certificate, "This is a gamble,"
in red ink, and then let the bettor take his chances.
Maybe this is permissible under some regulation, I don't know,
but evidently it isn't because the mining industry needs capital — and
they are crying out for it. That is exactly what I was going to take
you out there for, Mr. Zimmerman, so they could tell you the story
more in detail.
Mr. Zimmerman. I hope they do.
Mr. Eberstadt. JNIr. Murdock, it seems to me that the extent of the
disclosure doesn't necessarily depend on the number of words you use
in a document. There is no one in this room that would not advocate
the most complete disclosure of material necessary, but with repeated
building up and duplicating and adding to it, you have not increased
the disclosure, but perhaps have decreased it.
Mr. Walter. Has much of the duplication come from people who
liave prepared the statement and perhaps it has been done needlessly in
order to justify, perhaps, a big promotional fee?
Mr. Eberstadt. Mr. Walter, perhaps so. It would be impossible
to say "No," that no one does it, because a great many of these state-
2482 POSTWAR ECONOMIC POLICY AND PLANNING
ments are prepared by people wlio have not had a great deal of ex-
perience, and in their desire to do everything in the world to comply
with the requirements, they do indulge in a great deal of repetition,
but as I pointed out to the committee, there are certain repetitions and
duplicating phrases which are not even within the power of the Com-
mission to remedy. I want to point out that we are not talking now
about a system wliich absolutely prevents fraud on the one hand, and
on the other hand a system which would permit it. There have been
very considerable frauds, even since the SEC was put into effect, and
I am not blaming the SEC, because no power on earth can keep track
of the unlimited ingenuity of crooks or chiselers. I need only men-
tion the Whitney case, the McKesson-Robbins episode. I think that
in an effort to sterilize the business in one sense of the term, to get every
possible impurity out of it, we want to be very careful that we have
not rendered the business sterile, so to say, so that worthy issues can-
not be sold,
Mr. Waltek. May I ask a cjuestion ?
The Chairman. Mr. Walter.
Mr. Walter. In the fourth paragraph of this very splendid state-
ment that 3'ou have made, you said — and I agree with you entirely :
If we are to have peacetime production, consnniption, and employment levels
beyond anything that we have yet achieved in this country, we will also need a
volume of private investment beyond anything heretofore reached.
Now, I am just wondering, because of my connection with some small
banks, what this terrifio pressure of capital will do to that situation.
There isn't a savings bank in the Nation that isn't at least 100-percent
liquid today. Won't the people v:ho have deposited moneys in the
banks and invested in Government securities — won't the banks them-
selves naturally meet the objective that you mentioned in your state-
ment ?
Mr. Eberstadt. Well, I think the tendency would be to meet it,
and I attempted to point out in the statement that those pressures are
beginning to evidence themselves, but I think that no one more than
my good friend, Mr. Bane, who is here, would agree with me further
on this statement, if public issues reached the proportion of, say,
$16,000,000,000 per annum, this couldn't possibly go through the
present sieve. That is the nub of my statement, that you must widen
the mesh of that screen somewhat if you are going to get the amount
of private investment — No. 1, that the business ancl employment need,
and No, 2, that the investors w411 buy. You have on the one hand tre-
mendous amounts of funds available for investment, I have never seen
anything like it; you have on the other hand very great demand,
people want to start new businesses, they realize the postwar period is
going to be highly competitive, they want to improve their facilities.
Mr. Walter. Isn't the real deterrent the inability of banks to make
loans over a certain percentage of their capital ?
Mr. Eberstadt. I don't think that loans answer the problem, be-
cause it is a rather hazardous thing to build brick and mortar on a
bank loan. You have got to get a certain balance between your in-
vested money that doesn't come home to roost, and that you are not
compelled to pay back at a particularly inconvenient period, and your
bank debt.
POSTWAR ECONOMIC POLICY AND PLANNING 2483
Now, the ideal situation is that your plant and your equipment and
a certain amount of working capital should be invested capital. Then,
when 3^ou have peaks and valleys in inventories, handle that with your
bank loans. Otherwise, you might again get into a position such as
we found ourselves in, in 1929, when many companies — and again
in 1921 — when many companies borrowed excessive amounts, and
those amounts came due and the banks were under pressure to collect
them, and the vicious circle started.
The Chairman. Mr. Zimmerman, do you have any questions ?
Mr. Zimmerman. I am going to read the gentleman's statement.
I did not have the privilege of being here this morning to hear him.
As I understand it, you are advocating modifying some of the reg-
ulations of the SEC so that these matters will be handled more expe-
ditiously; is that right?
Mr. Eberstadt. Mr. Zimmerman, I don't even go quite that far.
In our business, we realize that we have no one to come to but
you pepole. We feel that the acts and the regulations pursuant to
those acts, as now promulgated, constitute a very serious handicap
to the raising of investment capital.
Mr. Zimmerman. You pointed out in your statement the things
you think should be done?
Mr. Ebekstaut. In some measure.
Mr. Zimmerman. That is what I wanted to know.
Mr. Eberstadt. And all we ask you to do, may it please you gen-
tlemen who settle national policy, is to take a look at that. We may
be wrong — maybe we are — but we think it is serious enough, on the
matter of postwar business and postwar employment, to justify a
look by this committee.
I am somewhat familiar with the contract-termination matters
and am very familiar with what your committee has done on it, and
I am also somewhat familiar with surplus disposal and know what
your committee has done on that. I read your reports with respect
to foreign financing and think they are all excellent; but, in my
opinion, you have tackled nothing of greater importance than this.
Mr. Zimmerman. Thei'e is just one thought — I think we must all
keep in mind — when this war is over, there will be a lot of accumulated
funds in the hands of the people — savings. And these savings are
going to cry out for investment, and there is going to be a spirit of
recklessness in the investments of this country, and thei'e is going
to be a group in this country that will be looking out for a sucker
list, such a group as we have never seen before, in my opinion. So
while we want new business to come into being, to help bolster our
national economy, I think we have to be careful not to turn loose
a wave of wild, reckless speculation that may bring disaster some-
where down the line.
Now, it is very fine to establish a business, but it is a disaster when
that business collapses, and the collapses are the things that we must
guard against, if it is possible.
Mr. Eberstadt. Mr. Zimmerman, I go the whole distance with you
and simply say that all of that should be included in the investigation.
Mr. Walter. In the investigation of the — let us call it criticism
for want of a better term — of the administration of the SEC, you
99579— 46— pt. S 8
2484 POSTWAR ECONOMIC POLICY AXD PLAXXIXG
mentioned the reaching out for greater power. Can you giYe us in-
stances of what has been done along those lines ?
Mr. Eberstadt. Yes. sir; I think I can.
The SEC has wide discretion on what is called the waiting period.
The procedure is this: Yon enter into a contract with the person
who seeks the capital, and based on that contract you prepare and
file a registration statement. That registration statement is subject
to scrutinY by the SEC, and the securities cannot be offered until the
resristration statement is declared eiiectiYe by the SEC.
^'^ow, in the iuYestment business, you are particularly sensitive to
your markets, and that is especially true in a world like the one we
are in today, where an event of tomorrow may completely change
the outlook: so that when you have market conditions which are favor-
able, it is atlvantageous that you take them, so that you are naturally
desirous of having that statement effective as promptly as you can
have it. That power is used by the SEC. in certain respects, to accom-
})lish things which I think the act did not intend to confer upon them.
For example, if you. as a stockholder, a controlling stockholder— and
I might say that there is no word in the act vaguer than that, and
the word has not been defhied. and it is a very important word — but
let's say you. as a stockholder, are sufficiently near "contror" to be
afi'aid to monkey with a criminal act without registering. If you
want to sell those securities, or a part of your securities, and obtain a
listing for the stock of that company,. the SEC. under a recent regula-
tion, will not expedite, will not accelerate, that registration unless
what they regard as a fair proportion of the expenses are paid by
the company itself.
Xow. I don't think that that is a matter which goes to the honesty
of the disclosure. The company may be perfectly ready to pay the
expense, the company may obtain advantages from a public market
on their securities, maybe far greater than the expenses, and it doesn't
lie in the SEC's mouth, in my opinion, to influence that transaction
at all, and that is an example of what I have in mind.
Mr. Walter. In other words, by regulation the SEC has amended
the law.
]Mr. Eberstadt. They have extended the scope of their jurisdiction.
^Ir. Zimmerman. ^lay I interpose. Mr. Walter ?
Mr. "Walter. Yes.
Mr. Zimmerman. Of course, the purpose of that is to protect this
man. Xow. he wants to put some of his securities on the market and
get a listing so that the general public will come in and buy it. That
general public is made up. we know, primarily of widow women who
have collected their husbands* life insurance, people who have small
capital that they want to invest in something that will bring them a
meal ticket, that will be money to pay rent, and it is very vital to
these people.
Xow, that is the general public. I think that we should be very
careful before we start to limiting the authority or power of an organi-
zation that is set up to protect that group of the public, and a group
in our public that needs protection. They come to rely upon these
listings as something they can rely upon.
Mr. EBFjiSTADT. Mr. Zimmerman, it is apparent that I didn't make
my point clear. I am not questioning the importance of protecting to
the limit the widows whose only liveliliood is the few pennies
POSTWAR ECONOMIC POLICY AXD PLANNING 2485
Mr. ZiMMEiniAN. Pardon me a minute. Just the other day we
\\ ere over in Chicaoo at some of the stockyards there, and the president
of one of these stockyards handed us a list of their investors, and
he pointed out tliat 9 out of 10 of the hoklers of stock in this big stock-
yard, the second biggest -in the United States, were widow women.
Mr. Ebekstadt. May I ask you the C][uestion whether you think that
a widow couhl understand this docmnent [indicating prospectus] i
Mr. ZiMMEKMAx. I doubt that.
Mr. Ekerstadt. I don't think so.
Mr. WoLVEKTOX. Mr. Chairman, may I ask a question or two at
iliis point and make an observation?
The Chaii{3IAx. Yes.
Mr. WoLVEKTOx. ]t seems to me that tliere is a misunderstanding
ns to what the securities acts really do.
It would be assumed, I think, from what my colleague, Mr. Zim-
merman, has just said, that he is possibly under the impression that
these securities are guaranteed or approved or passed upon as proper
investments.
]Mr. ZiMMEKMAX. No.
Mr. WoLVERTOX. By the SEC.
Mr. ZiMMERMAX. Xo. My position is this — let's get it clear. When
once acted upon by the SEC, they have the right, then, of having these
securities listed on the market.
Mr, Eberstadt. Xot necessarily.
Mr. ZiMMERMAX. I thought that was a condition.
Mr. \yoL^■ERTOx. Let me describe the two theories that were before
the Committee on Literstate and Foreign Commerce when this legisla-
tion was first presented and the theory that was finally adopted.
The tlieories that were presented were these: First, should the
Govermnent, through the Federal Securities and Exchange Commis-
sion, pass upon a security so that it could be marked ''Approved." or
was it merely to gather information concerning a security, which
would be available to the purchaser to determine whether he would
care to invest in that particidar security?
The latter is the theory of the act. The act does nothing more than
require that certain information shall be filed with the Securities and
Exchange Commission and that thei-e shall be no fraud or deceit in
the giving of the facts. That is all.
So that this legislation that has been referred to is a matter of
public record for any possible investor to study and to look at. It is
distinct I}- understood that by the mere granting of the right to issue
that particular stock, that there is no obligation assumed, direct or
indirect, morally or otherwise, by the Government, that it is a good
investment. All that the Securities Act does is to collect information
which is available to a possible investor.
Am I not right in that respect ?
Mr. Eberstadt. That is correct.
Mr. WoLVERTOX. That was made very plain and was a clear-cut
decision in the committee. All this does is provide truthful informa-
tion about a company that is about to issue. Then, the persons them-
selves pass on it.
Now, to the extent to which anyone would come down here to Wash-
ington and study that, and how much they would be informed, I
2486 POSTWAR ECONOMIC POLICY AND PLANNING
doubt if there would be but very few investors that would ever do it,
so that the changes that have been suggested by this witness at no time
have gone to the point of changing the law that requires the fullest
revealment of the company.
Mr. Eberstadt. That is correct.
Mr. WoLVEKTON. Isn't that your position ?
Mr. Eberstadt. That is correct. I would go even further.
Mr. WoL\TRTuN. The acts simply make possible the filing of the
correct data and make it impossible to file untruthful statements
concerning the company.
They do not object to the giving of the fullest information that is
possible.
NoAV, the point I make is this: It doesn't require — coming back to
my original point — it doesn't require an act of Congress to have that
British form of registration, which is a few pages in length, adopted
by the Commission, rather than that voluminous prospectus of several
hundred pages. There is nothing in the law that compels the Secu-
rities and Exchange Commission to adopt a rule or regulation that
requires the filing of several hundred pages to give the information
that the act wislies. They could, if they wished to, this morning,
without any change in the statute, adopt the form of the British, and
thereby make it a very simple process, assuming that it covers the facts
that they want.
This is the point that these investment brokers are objecting to, as I
get it — this terrific amount of red tape and delay in getting informa-
tion that could be gotten in a much simpler form and could be dealt
with more expeditiously.
Mr. Zimmerman. Charley, here is the way I think: It seems to me
of course that widow women — take a woman who is going to invest
$10,000 collected from her husband's life insurance, possibly more or
less, whatever it is — that type of woman is not coming to Washing-
ton to look at the record. Most of them are going down to see their
bankers, and that ought to be in language simple enough so that that
banker can, without a gi"eat deal of trouble, look it over and give her
some kind of individual advice that would be satisfactory to her as an
investor, because I think that is the way it should be done, and I guess
it is done; but I agree with you that to wade through all of that, he
would throw up his hands and say, "'I just haven't got the time to
do that."
Mr. Wol^'erton. But there is no one in the Commission who would
say to you whether it is a good or a bad investment.
Mr. Zimmerman. She will take it to a banker and ask him to tell
her the story, and if it were simplified he could do it without a great
deal of trouble, in my opinion.
Mr. Wolverton. I em])hasize this, for the reason that so many
seem to have an opinion that by the adoption of this act, therefore if
it is on the market it is good because it had to pass through the SEC.
The SEC is not performing that function for any individual. They
only collect information that is such that you may be fully aware as
to what you are buying, if you are interested enough to do so.
The Chairman. I think that has been put forth in the record com-
pletelv.
What is it, Mr. Walter?
Mr. Walter. Go ahead.
POSTWAR ECONOMIC POLICY AND PLANNING 2487
The Chairman. I don't want to cnt you off, sir.
I was wondering if Mr. Folsom didn't have a question or two, or
a suggestion.
Mr. FoLsoM. INlr. Eberstadt, 3'ou are concerned primarily with the
small issues, are you not ?
Mr. Eberstadt. Well, my firm, the business of my firm is not in what
would ordinarily be called the large issues, 25-, 50-, or 100-million-
dollar issues.. When we started up in 1931, which was not a very
happy time, not entirely from choice we confined our business to the
smaller issues.
Mr. WoLVERTON. What do you mean "smaller" ?
Mr. Eberstadt. Companies with earnings of a quarter of a million
lo
Mr. WoLVERTON. That is, capital?
Mr. Eberstadt. I am talking about the companies' earnings. Their
capital might run roughly from a million to six or eight million; the
earnings of the companies might run from a quarter of a million to
three million ; the assets might run from, oh, a million and a half, up to
five or six, net.
Mr. WoLVERTON. The reason I ask is, it is a fact that today, by an
act recently passed, the Securities and Exchange Commission can
exempt from registration issues up to $300,000.
Mr. Eberstadt. That is hardly an issue which would be handled
nationally, Mr. Wolverton. When we get into national distribution,
you have about a million — that would be about the lowest limit of a
national issue.
Mr. FoLSOM. The biggest issues now, to a considerable extent, are
placed privately, are they not? They don't go through the SEC at
all, do they?
Mr. Eberstadt. It is difficult to say, exactly, to what exact extent
that is true. I think "considerable" is a rather strong word. I think
to sojne extent the}' are placed privately.
Mr. FoLsoM. Hasn't that percentage been increasing?
Mr. Eberstadt. In my opinion, it has staj'ed about the same. It is
an important factor, but by no means a majority of big issues are
placed that way.
Mr. Folsom. As I understand it, these issues that are below the
million dollars, they can't get national distribution. Below that point
you can depend on your local bankers and financial groups. Now,
those are the particular groups that would be very much upset, I
suppose, by these regulations, because they haven't the staff, as you
pointed out, to compile all the necessary data.
What do those people do ?
Mr. Eberstadt. The local capital markets have just about dried up.
For example, it Avas a very healthy thing when you had a capital
market, say in Hartford, Conn., or Peoria, 111., or other towns where
the local bankers could handle a local issue. That was a very sound
and excellent thing. These fellows have given up in mental and
financial exhaustion.
Mr. FoLsoM. You think that would be changed if you made changes
here in this, simplifying the information required ?
Mr. Eberstadt. I won't say this would be the only thing required,
Mr. Folsom; this would be one step. There are a number of other
steps which would have to be taken.
24SS POSTWAR ECOXOMIC POLICY AND PLAXXIXG
Mr. FoLSOM. Are you familiar with the ph\n promulgated by a suh-
conuuittee of the luvestmeut Bankers Association, designed to stimu-
late and promote the equity of corporations in individual cities^
Mr. Eberstadt. Yes: I am.
^Ir. FoLsoM. Do you think something like that should be enacted ■
Mr. Eberstadt. I think something like that should be. That is. our
local industries should be financed by local capital. You cannot get
that from Wall Street : it would be financially wrong, socially wrong,
it would be politically suspect. Local groups ought to handle that.
!Mr. FoLSOM. Even if that were done, you would need some change
in the SEC to get the issues out ^
Mr. Eberstadt. I believe it would be an advantage, bnt I think that
the changes in the SEC which I have suggested to you today, and the
more detailed changes which I will suggest, are not an answer to the
very important question of financing small business. Therefore, other
elements that bear on that very strongly have to be heeded — but it
would be a helpful thing, put it that way.
Mr. FoLsoM. But there are really not many issues below ^ovtrt.uoo
nowadays.
Mr. Eberstadt. There could be. and I think, if we were to survey
the businesses in which our relatives and members of our families are
engaged we would find that most of us have connections somewhere
that would be in that category, because at least one-third of the
business of this Nation is classed as small business.
Mr. FoLsoM. But they won't issue stock coming before the SEC.
Mr. Eberstadt. No. they would not. I should say. if we say one-
thii\l is small business, and perhaps '20 to 25 i^ercent is big business,
the group that I am particularly concerned with is the gi"oup that lies
in between. I have taken up a great deal of your time and I don't
want to take up any more.
I would just like to make two general observations.
One is. that I know of no substitute for character and honesty
through nudti plying printed pages.
The second is. that very often the patient is ailing and it is rather
difficult to find out the cause of that ailment. I fear that when we
embark in the postwar period, unless we do something to free the in-
vestment capital markets, we may be sleuthing around for cures to
ailments which we do not see. when this, in part, will be one of the
important retarding elements. I repeat that all I am asking this com-
mittee to do is to take a look at this very important subject.
The Chairmax. Are there any further questions ?
(Xo response.)
The Chairmax. Mr. El>ei-stadt. on behalf of this conunittee I want
to thank you for your appearance hei-e today, and your very frank dis-
cussion, and we shall appreciate the suggestions that you have, about
how the matter might be clarified.
Mr. Eberstadt. I am glad to have had the opportunity. Mr. Chair-
man.
The Chairmax. Thank you.
The committee will now adjourn until further notice.
("Whereupon, at 1:2:50 p. m.. the committee adjourned subject t^'
the call of the Chair.)
E X H T r> T T S
Exhibit I
SrPPLKMENTAL STATEMENT FUXD WiTH THE COLMEK COJIMITTEE OX POSTWaK
Economic Pijvxxing and Pouct
By Ernkst G. DuAPt3. Board of Gorernors of the Federal Resei-ve System
I. What arc likely to he the needs of business for short- and medium-term
credit in the transition and earli/ postirar period?
The imi>ovtant question is not tlie amount of postwar credit, but the assur-
ance that what is needed will be made available. "We are confronted with a
mixed situation. The financial position of business as a whole has iminoveil
during the war and many businesses undoubtedly have ample liquid resources
to finance their recimversions without borrowing. On the other hand, individual
cases and special situations are foreseen in which there will be an esi>ecially
acute need of creilif. Planning, accordingly, should center upon iiroviding cre<lit
in the area of acute need and relatively high risk. A system enabling the
banker to obtain partial insurance-type protev'tivtn behind his more extreme
credit risks tits the practical retiuirements of the prospective siraation and also
conforms to the need of maintaituug private enterprise in the credit system.
Presertt hifjh lerel of business sarin[js
Many businesses, large and small, have enjoyed prosperity during tlie war
and have greatly improvetl their financial positions. A survey of financial state-
ments of nearly 2.tKKi btisiuess concerns of various sizes — 1.260 in manufacturing
and 681 in trade — was recently made by the research staffs of the Federal Re-
serve System in coiiioration with the Robert Morris Ajssociates. While this
is but a small sample of the entire business field and is clearly recogiuzed as
such, the sample is believed to be fairly typical with the possible exception
of the very small firms^those with less than .i^oO.OiXt assets. Three tables from
the study are shown liei"e.
Siiles of the manufacturing enterprises were found (table 1) to have increased
121 percent for ll>4o as compared with 1910. In the field of wholesale and retail
trade, the gain in sales was less than in manufacturing, averaging oo percent.
"While there has been considerable variation in the increjises in different iu-
ilustries the average wartime expansion has been abmit the same for small as
for large business.
Among the subdivisions of manufacttiriug (table 2^ the gains in sales varied
widely, as might be expected from the varying demands of the war effort. Tlie
smaller concerns showed by far the highest rates of sales increase in 9 indus-
tries — textile mill prtxlucts. api>arel. paper products, chemicals, steel and its
products, electrical equipment, machinery, transportation equipment, and stone,
clay, and glass products. Medium-sized concerns had the largest gains in three
industries — food processing, lumber and its products, and printin.g. The large
concerns Inul the highest sales gains in beverages, leather, petroleum, and rubber
products.
The wartime growtli in sales has been accompanied for many btisinesses by
large increases in retained profits and. as a consequence, sharp increases in
net working capital, that is. the excess of short-term assets over short-term
liabilities. This has meant a very appreciable strengthening of Inisiness financial
positions. Holdings of liquid assets — that is. cash and marketable sectirities —
iiave increased vei-y greatly in most lines of manufacturing and trade (table 3).
In manufacturing, the increase among the large companies appears for the
most part to have represented higher oi>erating reijuirements. since their liquid
assets rose by about the same percentage as their sales. Among the smaller
24S9
2490
POSTWAR ECONOMIC POLICY AND PLANNING
luaimfaetuiers and among trade concerns of all sizes, however, liquid balances
have risen much more tlian sales; this snsigests the presence of considerable
idle funds in most lines.
Tabi.k 1. — Percentage hierease in sales, 19-'fO--'i3, for sample of manufacturing and
trade concerns, by size of business '
Asset size (in doUai-s)
Under 50,000
SO.OOOto 100,000
100. 000 to 250,000...
Under H million-.
H to 1 million
1 to 5 million
5 to 10 million
10 million and over
-\11 sizes
Manufacturing
Number
of
concerns
14
33
100
147
296
389
95
333
1.260
Percent-
age
increase
in sales
50
150
115
117
116
120
107
121
121
Trade
Number
of
concerns
22
51
140
213
260
161
24
23
681
Percent-
age
increase
in sales
1 The classification of business in terms of total assets in this and following tables indicates size as of the
end of 1941.
Table from January Federal Reserve Bulletin, p. 18.
Table 2. — Percentage increase in sales, 19.'fO-4S. for sample of mamifacturing and
trade concerns, bg industry and size of business
Industry
Assetsize (in millionsof dollars)
Under 1
Ito 10
10 and
over
MANUFACTURING
1. Greatest sales increase among small concerns:
Textile miU products
Apparel
Paper and products
Chemicals and products
Stone, clay, and glass products
Steel and products ._
Electrical equipment..
Machinery
Transportation equipment
2. Greatest sales increase among mediiun-size concerns:
Food
Lumber and furniture
Printing and publishing
3. Greatest sales increase among large concerns:
Beverages
Leather and products
Petroleum and rubber
TRADE
Greatest sales increase among small concerns:
Wholesale:
Food, beverages, tobacco
Steel and products
Electrical equipment
Machinery and equipment —
Retail:
.Automobiles
Furniture
116
99
104
78
60
43
79
44
95
72
75
105
28
46
131
102
99
474
334
195
318
259
183
701
381
246
89
98
82
55
61
54
44
51
42
89
54
14S
53
59
66
62
77
86
Under Vi
}4tol
1 and over
93
63
70
53
47
14
74
-4
(■)
181
89
92
-67
-76
0)
30
4
16
' Less than 5 companies tabulated.
POSTWAR ECONOMIC POLICY AXD PLANNING
2491
Table 2. — Percentage inerease in sales, J9JfO-.'f3, for sample of manufacturing
and trade concerns, by industry and size of business — Continued
Industry
Asset size (in millions of dollars)
Under 1
1 tolO
10 and
over
TRADE- continued
2. Greatest sales increase among medium-size concerns
Wholesale:
Paper and products
Automotive. -
Retail:
Food, beverages
Department stores, dry goods, apparel
Lumber, fuel, ice
3. Greatest sales increase among large concerns:
Wholesale:
Lumber, coal
Textile products, apparel
62
-39
47
55
31
26
101
80
(')
0)
54
60
47
76
105
1 Less than 5 companies tabulated.
Note. — A different definition of small, medium, and large is used for trade than for manufacturing in
recognition of the greater proportion of the trade business done by concerns with small assets and the com •
parative scarcity of concerns in the largest asset classes.
Table from January Federal Reserve Bulletin, p. 19.
Table 3. — Percentage increase in cash and marketable securities, 19^0-43, foi-
sample of manufacturing and trade concerns, by size of busiyiess
Asset size (La mDlions of dollars)
Under \i...
Vital
1 to 5
5 to 10
10 and over
Manufacturing
War Indus- 1
tries
Other
383
534
537
455
137
301
275
251
190
99
Trade
Wholesale Retail
300
281
287
266
367
346
390
193
Note. — Based on year-end figures. Industries classified as "war" include metal and metal products,
chemicals, petroleum and rubber. Figures from April Federal Reserve Bulletin, p. 315.
As a result of this generally favorable experience during the war, many busi-
nesses undoubtedly will be able to retain liquid resources ample to enable them
to go through the reconversion joeriod without borrowing. This will obviate
much of the need for credit.
Broad areas of prospective credit need
On the other hand, not all businesses have profited equally — the war pros-
perity has not been evenly spread. The study referred to above shows that the
war industries — manufacturers of metal and metal products, chemicals, petro-
leum, and rubber — had relatively much greater increases in sales and assets
than other manufacturers, and greater than the wholesale and retail trade groups.
Two great industries, the automotive group with its many related trade, serv-
ice, and tourist enterprise.s, and the nonwar construction industry, have been in
abeyance and account for the temporary disappearance or decline of many busi-
ness concerns. Many businesses that have continued throughout the war in their
peacetime lines have at the present time depleted inventories, run-down equip-
ment, and disrupted civilian markets. The revival and reconversion to i)eace-
time operations of such enterprises will require considerable credit, especially of
the medum- or long-term loan type. Their ability to furnish loan collateral
commensurate with their financial requirements is in doubt, even though their
business prospects and ability to perform may be satisfactory. Their credit
applications accordingly will require supplementing by a partial credit guaranty,
which increases the element of security behind their bank loans.
2492' POSTWAR ECONOMIC POLICY AND PLANNING
Similar is the prospective credit situation of war enterprises wliich liave not
(lone well during the war, new businesses, and old businesses experimenting in
new types of production.
Special credit needs and prohlema
Many war industries will be faced with special credit problems immediately
upon Contract cancellation.
1. There will be cases in wliicii jiostwar reserves exist on paper but are not
sufliciently pre.sent in li(inid form. Many enterprises, immediately upon comple-
tion or termination of their last war contracts, will shut down for a period of
retooling, replacement of worn out or obsolete machinery, procurement of new
materials and inventory, rebuilding of sales staffs, and general readjustment.
A period of breaking in to the reconverted lines of activity will follow, .along
with a strug.ule for markets. All this will exert an iinusuaily large diain upon
cash resources.
2. Another special situation is that of the subcontractor in the third, fourth,
oi- tiftli tier of iiroduction, who may have to wait for his payment until a prime
contractor, or a subcontractor in an upper tier, straightens out his affairs and
passes the payment down. One failure in an upper tier may embarrass a con-
sidei-able number (tf subctmtractors lower down, and this has been referred to as
the '•ninepins situation." Cases of this sort liave already occurred. In one, a
prime aircraft contract on the Pacific coast was terminated, an aii'])lane motor
manufacturer on the Great Lakes sustained a contract cut-back in turn, and a
.small parts maker who had pi'oduced ahead of actual orders on a single part was
caught v.-ith $40,000 of u.sele.ss inventory on hand and a V loan falling due. This
particular emergency was met by special arrangements, but tiie situation may
nuiltiply as conti-act terminations become general. Although the Contract Settle-
ment Act provides for direct settlement of subcontractors' claims by the procure-
.ment agencies, and the problem is lecognized and is under study, it appears likely
that n^anv of these temporary periods of financial stringencies nnist be bridged
by some form of credit.
•S' -AiH'ih •!■ sj)'cial ivpc of situation is that of tlie war maiuifacturer who
desires to buy Government-owned machinery that is already in the plant, or
inventory lift under a canceled war contract, but may be unable to make the
ent're p T'cliase ft-om internal resources or as part of the linal contract settle-
ment. The machinery may be of a type useful to the enterprise in its future
production, and the inventory may and often does consist of some special or
patented product which the company urgently desires to keep out of competi-
tors' hands. One small independent electric-equipment company, for example,
has invented an electrical device that has become established during the war.
In order to fill all oi'ders promptly, surplus inventory has been kept on hand.
A.ssuming a termination of war orders, this inventory miist be acquired by the
producer directly from the procurement agency, or in time be declared surplus
war property and disposed of by the Surplus I'roperty Board in accordance with
the Surplus Property Act. Should the company's own resources be insufficient,
credit must be obtained.
Iti these three sijecial situations, any credit needed by >,Var contractors can
probably best be provided by the local banks, inasmuch as most of the con-
tractors hivve been borrowers at banks during tlie war, and their bankers are
consequently already familiar with their individual credit problems. The iws-
sible effect u.pon the bank credit of an enterprise owing a primary debt to a
Government agency is also to be considered. It is preferable from the point
of view of the business enterprise for its bank to extend botli the short-term
credit and the term loan. Thus the banker can v.-eigh the entire situation in
considering the credit needs of the borrower. The need for both long-term and
short-term credit is likely to be a common one in the reconversion period, when
business as a whole must modernize plant and equipment in order to compete
in the postwar market. Banks should be encouraged to assume this double
credit position by making available to them a partial protection of their lending
risks.
4. Another .special problem arises from the wartime balance sheets of businesses,
which are generally abnormal, .i"dged by prewar standards. In determining the
credit to be extended, banks are < ustoniarily guided by the balance sheet of
the prospective borrower. Concerns in war industries have expanded, in many
POSTWAR ECONOMIC POLICY AND PLANNING 2493
cuses pheiiomeiiully, and the expansion has been financed to an nnnsual extent
throngh an increase in short-term liabilities. The smaller expansion of concerns
in nonwar iiidnstries, on the other hand, has been generally accompanied by some
liquidation of short-term liabilities. These and other wai'time changes have
distorted the disti-ibntion of business assets and liabilities into more or less
unfamiliar proportions. Uncertainty of bankers and otliers in interpreting the
customary comparisons, such as the ratio between current assets and current
liabilities, can easily add to the general uncertainty of the credit situation.
'I'his tyiie pn bleni is illustra.ted by the case of a certain metal foundry, launched
on .'ii2r),0<)().or investment back in i!)14. C'apital investment had grown to .$35O.CO0
by l!j;iS, during which year the company had $449,000 in sales. An alloy
developed by this concern proved highly valuable tV)r wartime use, and in 1944
sales had grown to almost .$2* ),000,000, or about 40 times as much as in 1938.
Mean.while, a .$966,000 plant expftnsion plus additional working capital renuire-
ments had to be financed, so that a $4,()00,COO V loan v>'as made. The balance
slieet of such a concern, as reconversion begins, may be expected to show current
liabilities high in ratio to capital investment, and current assets, while also
liigii, reduced in ratio to current liabilities. Also of importance is the banker's
problem in having to estimate what part of the present sales volume will re-
maiii to i^uch a conipaiiy after the war and how much credit can be soundly
provided. The abnormal i)a lance sheet and the difficulty of estimating the sales
prospect, multiplied many times, constitutes one of the nu»re serious credit
j)roblems of reconversion.
5. Closely related to this problem is the postwar credit rating of the war
enterprises which have not done well during the war and of the purely civilian
enterprises that have not participated in the general prosi^erity. Although
there are many external I'easons why certain individual businesses and types of
business have not been pi-csperous during the war. the contrast between them
and the profits-making group will be especially evident, and the inference may
be that they have been mismanaged where this is not actually the case.
All these types of special situations present i-econversiou risks that both require
and in general justify a partial insurance coverage of the lending risk of a private
lending institution.
II. Docs recent experience of the Federal Reserve Sustem tvith section 13b
aniJ refjidation V loans svr/gest any facilities or procedures that might be useful
in meeting credit needs of the postirar period?
Eleven years of experietice with loans to business under section 13b, together
with 3 years of expei'ience with guaranteed war-production loans under regu-
lation V have well demonstrated that, protected by the partial guaranty against
loss, a bank will lend and lend freely to small enterprises and other types of
borrowers whose credits are in the marginal area of risk.
Prewar e^cperience in hank loan guaranty
Congress in 1934 added section 5d to the Reconstruction Finance Corporation
Act and section 13b to the Federal Reserve Act. The two amendments were
fundamentally similar, in enabling the respective agencies to make (a) direct
loans, (6) loans in participation with private lending institutions, and (c) com-
mitments regarding the loans of private lending institutions to business and
industry. The third or commitment feature developed into the form of under-
writing of private loan risks that is variously known as the partial take-out
agreement, the deferred participation, the loan purchase agreement, bank loan
insurance, or bank loan guaranty. This feature will be discussed in terms of its
essential feature — as a loan guaranty plan.
This is the plan which has proved, in 11 years of experience, to be the best
both in practice and in theory. Of 2.911 loans, totaling $192,000,000, authorized
under section 13b, in the 6 years ending May 31, 1940-, 1,140, amounting to
$97,000,000, were guaranteed (table 4). Of these guaranteed loans, 322, amount-
ing to $26,000,006, were either withdrawn or expired unused ; while 818 loans,
aniounting to $71,000,000, required some advances of funds by Federal Reserve
banks. Such advances, however, amounted to only $9,000,000, which was used
to take over loans from the lending institutions which had previously made the
entire loan. Thus, under the guaranty plan, for $1 of Fedei'al Reserve funds
employed, nearly $8 of private bank credit was extended.
2494
POSTWAR ECONOMIC POLICY AND PLANNING
Table 4. — Industrial loans by Federal Reserve banks under sec. 13b of the
Federal Reserve Act, June 19, 1934, to May 31, 19^0
[Amounts in thousands of dollars]
Total loans au-
thorized
Loans involving
no advance by
Reserve banks '
Loans involving advance by-
Reserve banks
Num-
ber
Amount
Num-
ber
Amount
Num-
ber
Credit
author-
ized
Federal
Reserve
advances
Total
2,911
192, 206
884
47,281
2,027
144, 925
62, 507
Direct loans -. .
1,299
472
1,140
53,903
41,601
96, 701
404
158
322
14,216
7,476
25,589
895
314
818
39, 688
34, 125
71, 112
36, 028
Joint loans ^
17, 183
Commitments (guaranties) '
9,296
> Approved loans subsequently withdrawn and unused guaranties.
' Loans made in part by Federal Reserve banks and in part by private financing institutions.
' Commitments of Federal Reserve banks to take over loan made by private financing institutions and to
assume losses up to 80 percent of the loan.
Note. — These figures are based on a special tabulation of industrial loans and are on a slightly different
basis from the regular monthly figures shown in the Federal Reserve Bulletin. This accounts for the slight
difference in totals shown here and for May 29, 1940, in the July 1940 Bulletin, p. 089.
The usefulness of the guarantee pL^n to the small business borrower is shown
in the fact that, to borrowers with less than $50,000 in total assets, the average
direct loan was $3,800, the average loan made jointly with a financing institution
was $5,100, and the average guaranteed banlc loan was $G,700 (table 5). In
all size brackets the average amount of guaranteed loan considerably exceeded
the average amount of direct loan, while the joint loans showed an emphasis
upon the largest size bracket.
The lob guaranteed loan was limited by the statute to an 80-percent coverage
of the bank risk, to established enterprises, and by restrictions as to purpose and
maturity of the loan. These restrictions limited the usefulness of the guarantee
plan in the prewar period and may be more serious under the conditions expected
to be encountered in the readjustment period. The proposed amendment (the
Wagner-Spence bill, S. 511 and H. R. 591) eliminates direct lending and lending
in participation with banks from section 13b and broadens the scope of the
guarantee plan so as to make that plan more fully applicable to the anticipated
postwar credit needs and conditions.
Guaranteeing of icar-prodvction a'edits
The war-loan-guaranteeing program established by Executive Order 8112 and
conducted under regulation V of the Board of Governors of the Federal Reserve
System has made available 9.5 billion dollars of private bank credit for war pro-
duction, and has been the culminating proof of the validity of the guarantee
principle. On June 30, 1944, two-thirds of the outstanding loans of commercial
banks for war purposes were guaranteed V loans (table 6).
POSTWAR ECONOMIC POLICY AND PLANNING
2495
Table 5. — Industrial loans under sec. 13b of the Federal Reserve Act in which
Federal Reserve bank funds loere advanced, by type of loan and by size of
borrowing enterprise, June 19, 1934, to May 31, IQJfO
[Amounts in thousands of dollars]
Total
loans in-
volving
advances
Borrowers with total assets of—
Type of loan
Under
$50,000
$50,000 to
$250,000
$2,50,00010
$1,000,000
Over
$1,000,000
Number of loans;
Total, all types - --- ---
2.027
448
779
526
274
Direct loans
895
314
818
264
559
125
350
127
302
169
83
274
112
Joint loans - -
45
Commitments (guarantees)' .
117
Amount authorized:
Total, all types - -
144, 925
2,156
16, 639
39, 209
86, 921
Direct loans
39. 688
34, 125
71,112
1,012
302
842
6,419
3,082
7,137
9,793
6,169
23, 247
22 464
Joint loans
24, 571
Commitments (guarantees) '
39, 886
Average amount authorized:
Total, all types .. .- -
71.5
4.8
21.4
74.5
317 2
Direct loans
44.3
108.7
86.9
3.8
5.1
6.7
18.3
24.3
23. G
57.9
74.3
84.8
200 6
Joint loans , .
546
Commitments (guarantees)'
340 9
1 Commitments of Federal Reserve banks to take over loans made by private financing institutions;
omitted are 322 guarantees of bank credit amounting to $25,589,100 which were either withdrawn or expired
without advance of Reserve bank funds.
Note. — This table excludes approved loans subsequently withdrawn and guarantees which were unused.
For these figures, see table 4.
Table 6. — War loans outstanding at all commercial banks
[Amounts in millions of dollars]
Call date
Loans for war
purposes
outstanding
at all com-
mercial
banks (esti-
mated)'
Regulation
V guaran-
teed loans
outstanding
Percent
of total
war loans
under reg-
ulation V
1941— Dec. 31
1,300
2,250
2,950
3,250
3,500
3,150
3,200
1942— June 30
81
804
1,428
1,914
2,064
1,736
4
Dec. 31 J
27
1943— June 30
44
Dec. 31 _
65
1944— June 30
66
Dec. 31
54
1 Estimates of the Board of Governors based largely on statistics collected and released by the American
Bankers Association.
Under this program from its inception in April 1942 to March 31, 1945, au-
thorities of guaranteed loans totaling 9.5 billion dollars were granted to a total
of 4,313 borrowing enterprises (table 7) The borrowing enterprises were
manufacturing, construction, and other companies whose products or services
were considered by the War Department, Navy Department, and Maritime Com-
mission to be necessary to the war. The funds advanced under these authori-
zations were those of private lending institutions. The average guarantee
of the bank risk was approximately 85 percent.
About 7.7 percent of the borrowers under regulation V were large enterprises
whose total assets at the time- of their first V loan amounted to $5,000,000 or
more. An additional 2S.6 percent of tlie borrowers were enterprises with total
assets of $500,000 to $5,000,000. But the lower-size brackets, below $500,000
in total assets when the lirst V loan was made, accounted for 62 percent of
2496
POSTWAR ECONOMIC POLICY AND PLANNING
all borrowers. These relatively small borrowers, probably averaging iii terms
of emijloyment approximately l.")0 workers or less to begin with, received total
autJiorizati(ms of commercial bank credit amounting to $835,(X)0,(K;0. The aver-
age amount of bank ci'erlit autliorized to 1,848 small borrowers with $r»0,000
to $500,000 total r.ssets was $408,700, and the average authorization to the 82.")
smallest borrowers', with less than $5(K0OO in total assets, was $!)G.0OO. This
performance of private lending institutions in behalf of small business engaged
in war production indicates the effectiveness of the loan-guaranteeing plan.
Table 7. — War-production loans (juaranteed under regulation V to Mar. i], lO'io,
by asset size of borrower
[Amounts in thousands of dollars]
Asset size of borrower
Total
Less than $50,000
$50,000 to $500,000
$500,000 to $5,000,000...
$5,000,000 and over
No information on size
Number
of bor-
rowers
4,313
825
1,848
1,235
333
72
Percent
of total
100.0
19.1
42.9
28.6
7.7
1.7
Amount of
loans guar-
anteed
9, 471, 084
79, 945
755, 350
2, 078, 354
G. 510, 300
47, 075
Average
amount per
borrower
$2, 195. 9
96.9
408.7
1, 682. 9
19. 550. 6
6.-)3. 8
Note.— This tabulation, based on guaratitoe agreements executed to Mar. 31, 1915, is on a different basis
from the regular monthly figures shown in the Federal Reserve Bulletin. The total number of loans exceeds
the total number of borrowers because many borrowers had more than 1 loan. Classification by size is
based on total assets at about the time of first loan approval.
Some enterpi'i.ses in the smaller asset size groups expanded remarkably in
response to the abundance of credit extended under regulation V. Among the 82.")
borrowing enterprises liaving less tlian $50,0'nO in total assets when their first
V loan was made, 119 ultimately received maximum credit authorizations of
$50,000 to $100,000 in credit, 46 received $100,00:) to $2r)0,OUO, and 20 received
authorizations of $250,000 and over (table 8). Among the 1,848 enterprises
initially in the $50,000 to $500,000 total assets class, 314 received niiiximum credit
authorizations of $250,000 to $500,000, 104 received $500,000 to $1,000,000, and 30
received authorizations of $1,000,000 and over. Tliese were cases in whidi tlie
performance of the enterprise resulted in additional war contracts and in repeated
increases of the maximum allowance of bank credit. Such increases could not
have been made without the supporting credit guaranty.
Experience under regulation V has lielped to liberalize the standards of credit
rislv acceptance. The credit oiBcials of the Federal Reserve banks had had the
experience of section 13b operations to build on. In the case of the smaller V
loans, which were in many cases made by relatively small- and medium-sized
banks, the Reserve banks have acted in an advisory relationship in working out
loan contracts and credit terms, and loans have been "tailored" to fit tlie par-
ticular case. New types of loan security have been found, old formulas have been
abandoned, and the ability of an enterprise to perform and produce has been
regarded as a major credit consideration. Emphasis has been placed upon sound
nianagerial practices, standard accounting procedures, limits on dividends and
on withdrawals by proprietors and on executive salaries, and otlier provisions
and programs for the financial improvement of the borrowing enterprise. When
borrowers have difficulties tlie same helpful advisory attitude exemplified in
setting up the loans has been shown.
POSTWAR ECONOMIC POLICY AND PLANNING
2497
Table 8. — Niiiiiber of horrowers icith ivar-production loans guaranteed under
ref/uhition V to Mar. 31, WJ/S, hy asset, siz'e of borrower, and by maximum
loan (/uaranteed
jMaxinmm loau guaranteed
Less than S25,000
$25,000 to $50,000
$50,000 to $100,000
$100,000 to $250,000
$250,000 to $500,000
$500,000 to $1,000,000...
$1,000,000 to $5,000,000.
$5,000,000 and over
Total-
Borrowers with total assets of —
Less than
$50,000
423
208
119
40
21
5
3
825
$50,000 to
$500,000
128
235
495
542
314
104
28
2
1,848
$500,000 to
$5,000,000
4
4
33
157
334
333
356
14
1,235
$5,000,000
and over
No infer-]
mation
4
7
11
2
3
16
152
160
16
18
3
13
333
72
Note. — In the case of borrowers with more than 1 guaranteed loan, classification is on the basis of the
ma.ximum loan; this figure is smaller than the aggregate amount of all guaranteed loans to that borrower
Classification by size is based on total assets at about the time of first loan approval.
In one case a 90-percent guaranty enabled a bank to loan $100,000 at 4 percent
interest to a small manufacturer of diving equipment whose bank credit pre-
viously had not exceeded $15,000. The company expanded, its sales increasing
from $73,000 in 1942 to $340,000 in 1943 and its equity capital from $9,200 to
$56,000 during the same period. Then production trouble occurred and the
V loan became delinqueii-t, but the bank stood by, requesting and receiving an
extension of the guaranty. The trouble was overcome, and in 1944 the com-
pany's sales reached $1,000,000, its capital mounted to $DO',000', and the V loan
was repaid in full. Witiiout the guaranty, there might well have been a
foreclosure.
In another case a small concern with $163,000 equity capital, making Army
raincoats, received a $000,000' V loan under a 90'-percent guarantee. Sales for
1942 exceeded $1,000,000. but then came production trouble, goods were rejected,
and in 1943 sales declined to $700,000. Instead of calling the loan, the local
bank and the Federal Reserve bank at the end of this bad year suggested an
increase of the guaranteed credit to $1,000,000 and a reduction in the interest
rate to 3^^ percent. The guaranteeing agency con.sented, the enterprise improved
its production process, and in the tirst S months of 1944 sales exceeded $2,0(10,^)0
and the $1,000,000 V loan was retired. The proprietor of this business wrote the
following letter to an official of the Federal Reserve bank :
"Now that we have repaid our V loan, I am giving way to the impulse to write
you of our appreciation for the kindness and understanding y(ni showed when,
through force of circumstances, we were declared delinquent on the loan.
"The confidence you expressed in our ability to work out of our tremble was
.lust the lift we needed, and we were happy we were able to prove that this
contidence was not misplaced."
An interesting case was that of a veteran Inmlierman who. though he knew
well the production end of the business, had an unsatisfactory business record.
He had an opportunity to cut lumber for Army use, and a small rural bank lent
him $50,000 under a 99-percent guaranty, with no security other than the war
contract, but with a loan agreement which virtually made the bank the financial
agent of the business. Thus iinanced, the man bought the necessary equipment,
in-dduced 2.300,000 feet of lumber for the Army stock pile, and earned a profit
sufficient to repay the loan. The bank has since made loans to this lumberman
on other war ccmtracts without a guaranty.
Discontinuance of the V-Ioan system.
The protection of bank-credit risks under regulation V, including the V, VT,
and T loans, will be lost by each lending bank individually as part of the process
of termination and settlement of the borrower's final war contract or subcon-
tract. This process is already underway. The V loan is generally secured by
pledge of the receipts from war contracts, and the T loan represents an advance
against the claim arising from terminated war contracts and must be retired
when the settlement is made. This will leave many businesses without adequate
2498 POSTWAR ECONOMIC POLICY AND PLANNING
credit at a most critical stage, that of piiysical reconversion and initial search for
civilian marlsets.
Under tlie terms of the Wagner-Speuce bill (S. 511 and H. R. 51H), a new form
of credit guaranty would be immediately available to replace the retired V loan
or T loan of enterprises which have been engaged in war production. Thus,
interruption to the credit status of the enterprise at its bank would not neces-
sarily occur at this critical time. For many nonwar enterprises that have not
had V-loan protection and must prepare for peacetime conditions, the assurance
of adequate bank credit that is provided by the guaranteeing of bank-loan risks
is essential if they are to survive. The reconversion period will be beset by many
difficulties, but a lack of adequate credit to worthy business enterprises should
not be one of them.
Exhibit No. 2
FOREwoRn 10 Rlport OS Conferences With the SEC and Investment Bankeks
Association of Ameiuca
On May 14, 1940, Senator Prentiss M. Brown, of Michigan, introduced in the
Senate of the United States a bill (S. 3985) to amend the Securities Act of 1933,
as amended, and to amend section 2VA of the Bankruptcy Act. An identical
bill (H. li. 10013) was introduced in the House of Representatives on June 6,
liMO, by the Honorable Clarence F. Lea, of California.
On May 17, 11)40, Congressman Lea introduced in the House another bill (H. R.
9807) proposing to amend the Securities Act by extending the exemption in sec-
tion 3 (b) so as to permit the Securities and Exchange Commission to exempt
issues from the registration requirements of the act where the aggregate amount
at which the issue is to be offered to the public does not exceed $1,000,000. An
identical bill (S. 400G) was introduced in the Senate on May 20, 1940, by Senator
Johnson, of California.
Both of the bills which had been introduced in the House (H. R. 9807 and H. R.
10013) were referred to the House Committee on Interstate and Foreign Com-
merce, which requested the Securities and Exchange Commission for its comments
thereon. Mr. Lea, chairman of the House Committee on Interstate and Foreign
Commerce, made arrangements for hearings on these bills to take place before
his committee on the general subject of the Securities Acts.
Following this, Mr. Jerome N. Frank, then Chairman of the Securities and
Exchange Commission, wrote to Mr. Lea on June 17, 1940, as follows :
"Dear Mb. Lbia: The Commission has before it your messages of May 20 and
June 10, enclosing copies of H. R. 9807 and H. R. 10013 embodying proposals for
amending the Securities Act of 1933, asking for such comments as we may desire
to make.
"While we intend to proceed as promptly as possible, we respectfully request
that we be given until January 1941 to tile our comments and recommendations.
There are several reasons which support this request. The subject matter of
the bills is of such scope and importance, and requires such careful consideration,
that much time is necessary to permit painstaking study of the merits of the
proposals. In addition, these bills should be weighed in connection with such
suggestions of our own as we may wish to offer. The National Association of
Securities Dealers, through its chairman, has already been conferring with us on
the subject of amendments to the Securities Act. Furthermore, the Commission
is aware that the Investment Bankers Association of America and certain repre-
sentatives of the stock exchanges are also interested in changes in the Securities
Act of 1933 and in the Securities Exchange Act of 1934. Because of the close
relation between the Securities Act of 1933 and the 1934 act, it seems advisable
to consult with the investment banking and dealer associations and those exchange
representatives before setting forth our views on your bills. We think it is
important that time should be allowed for such conferences between ourselves
and such members of the industry as may wish to confer with us.
"We think the postponement we suggest will, in the end, serve the convenience
of everyone involved. It will save time if, in advance of the consideration of
the various proposals by Congress, the areas of agreement and such disagree-
ments as may arise between ourselves and the industry are delineated as definitely
as possible.
"I am sincerely and respectfully yours,
"Jerome N. Fkank, Chairman:'
POSTWAR ECONOMIC POLICY AND PLANNING 2499
Mr. Emmett F. Connely, president of the Investment Bankers Association, also
wrote to Mr. Lea, under date of June 19, 1940, saying :
"Deak Chairman Lea : Througli your courtesy, I have seen a copy of the letter
dated June 17, 1940, which Jerome N. Frank, Chairman of the Securities and Ex-
change Commission, wrote to you, requesting that the Commission be given until
January 1, 1941, to file their comments and recommendations on H. R. 9807 and
H. R. 10013 embodying proposals for amending the Securities Act of 1933.
"It seems to us that the Commission's suggestion of sitting down with repre-
sentatives of the various stock exchanges and of the investment banking indus-
try in order to work out appropriate amendments to the Securities Act of 1933
and the Securities Exchange Act of 1934 for presentation to Congress is a most
constructive one. We are delighted with this opportunity and I can assure you
that this association will do everything in its power to cooperate in working out
proper amendments to these acts in order to speed up the flow of capital into
industry and make capital available to numerous industries which are vital in
our defense program.
"On belialf of this association, I, therefore, concur heartily in the Commis-
sion's suggestion to you.
"Respectfully yours,
"E. F. Connely."
Following this, a series of conferences on the subject of the "waiting period"
under the 1933 act took place with the Commission in Washington on June 24
and 25 and again on July 2 and 3, 1940. Representatives of the National Asso-
ciation of Securities Dealers, Inc., and of the Investment Bankers Association
of America participated in these conferences, during which an agreement was
reached as to the text of a proposal to be recommended to the Congress to amend
section 8 (a) of the 1933 act. This proposal was embodied in H. R. 10276, which
was introduced into the House of Representatives on August 1, 1940, by Mr. Lea,
of California. It was subsequently attached to the bill then before Congress to
provide for the regulation of investment companies and, as title III of that
statute, it became law on August 22, 1940.
The conferences which took place with the Commission and its staff in June
and early in July 1940 dealt solely with the problem of the "waiting period"
under section 8 (a) of the 1933 act. No further amendment of this section is
being proposed.
Si> as to facilitate the working out of the conferences with respect to other
proposals for amending the 1933 and 1934 acts, as arranged with Mr. Lea and
Mr. Frank, representatives of the Investment Bankers Association of America,
tlie National Association of Securities Dealers, Inc., the New York Stock
Exchange and the New York Curb Exchange, met on July 31, 1940, and initiated
a series of discussions among themselves, as a result of which they had on
August 30, 1940, developed a number of recommendations representing their views
as to necessary and desirable changes in the two acts.
In these conferences the representatives of the two associations and of the two
exchanges have sought only to make the Securities Act of 1933 and the Securities
Exchange Act of 1934 more equitable and to modify their provisions governing
procedures so as to make it possible to transact business more efficiently without
impairing the protection afforded to investors by the requirement of fair and
adequate disclosure of information as to the character of securities offered or sold
to the public. They strongly support the principle that the Federal laws should
adequately safeguard the investor against fraudulent transactions. In exam-
ining the existing laws and in putting forward suggestions for amendments
thereto, the representatives of the industry have sought to facilitate the resump-
tion of private investment and the flow of idle money into industry through the
simplification of procedures and b.v the removal of those restrictive provisions,
imnecessary for the protection of investors, which have impeded the exchanges
and the private capital market from functioning efficiently in the public interest.
The first conference on the general program took place in Washington on
October 17 and 18, 1940. The Securities and Exchange Commission was i*epre-
sented by the heads of certain of its divisions and by other members of its staff.
A further conference between the representatives of the industry and members
of the SEC staff took place in Washington on October 31 and November 1, 1940.
Similar conferences occurred on December 4 and 5 and December 17 and 18, 1940,
and again on January 6 and 7, 1941.
99579— 46— pt. 8 9
2500 POSTWAR ECONOMIC POLICY AND PLANNING
The first oonfereuces in which the Commissioners themselves participated with
the representatives of the industry took place on January 23, 1941. Further con-
ferences between the representatives of the industry and the Commission and its
staff tooli place on February 10 and 11, 1941, at which time it was arranged that
the proposals which up till then had been explored only in general terms, should
be drafted into statutory language for further consideration. Representatives
of the industry worked with members of the SEC staff in making these drafts.
The first series of conferences with the Commission to consider the statutory
drafts took place on March 31, April 1, and April 2, 1941. Furtlier conferences
with the Commission took place on April 7 and S, 11 and 18, and on May 6 and 7.
On June 4, first drafts were exchanged of the Commission's report and of this
report. These reports were the subject of conferences with the Commission and
its .staff on June 9 and 10 and again on June 17. A revised draft of this report,
dated June 19, was sent to the Commission on June 20 and the second draft of
the Commission's report was received by the representatives of the industry on
July 9, 1941.
Up to and including June 17, the conferences in Washington had occupied all
or a substantial portion of 38 business days. The proposals presented in this
report were the subject of discussion in these conferences. An explanatory
statement and an outline of the position taken by the conferees with resi)ect to
each proposal which is being put forward accompanies each draft amendment as
presented in tlie following pages. The position taken by the Commission with
re.spect to each of these proposals as shown in tiiis report is that indicated by the
Commission's draft report of July 7, 1941, which was the latest draft available to
th.e representatives of the industry up to the date of this report.
All of the present provisions of the Securities Act of 1933 and of the Securities
Exchange Act of 1934 were examined during the conferences. H. R. 4344 intro-
duced by Representative Wadsworth on April 14, 1941 and H. R. 5065 introduced
by Representative Paddock on June 16, 1941, have not been discussed in the
conferences.
Among the provisions of the act discussed in the conferences, without resultant
proposals for amendment, were subsection 9 (a) (2) of the 1934 act, while
prohibits manipulation of security prices, and subsection 9 (a) (6) of the same
act, which is concerned with the pegging, fixing, and stabilizing of such prices.
The representatives of the industry called attention to the difficulties and uncer-
tainties arising from the broad language of these subsections. As a result of
these discussions, attempts to rewrite these provisions were dropped in favor of
an approach which promises to result in tlie clarification which is desired. The
Commission expressed its willingness to issue wherever practicable interpretive
rulings or reports on the applicability of the statute to situations which are
presented to it. It is hoped that through the issuance of such reports a body of
precedent will be developed which will enable persons to avoid inadvertent
violations of the statute.
The representatives of the industry and the Commission have advised one
another that the proposals contained in the drafts presented in this report are
the only proposals for amending these two acts which the Commission or the
conferees representing the industry intend to recommend to the Congress or
support in connection with the present program for amending the Securities Acts.
The representatives of the industry desire to record their appreciation of the
consideration which has been given to their proposals by the Securities and
Exchange Commission, and by the members of the Commission's staff.
In his letter of June 17, 1940, Mr. Frank expressed the view to Mr. Lea that it
would save time if, in advance of consideration of proposed amendments by
Congress, the areas of agreement and such disagreements as might arise between
the Commission and the industry could be delineated as definitely as po,ssible.
While agreement has been reached on many points, others remain, including
several important questions, on which opposing points of view must be presented
to the Congress. It is particularly disappointing to the representatives of the
industry that it has not been possible to reach an agreement with the Commission
as to section 5 of the 1933 act. As to this and other major questions, they have
tried earnestly throughout a period of several months to arrive at reasonable
bases of agreement which would fully safeguard investors without unnecessarily
impeding the conduct of honest business. It is the view of the repi'esenta fives
of the industry that proper recognition has not been given by the Commission
to the fact that the efficient as well as the honest conduct of business is essential
in the public interest and should be an important factor governing the formula-
POSTWAR ECONOMIC POLICY AND PLANNING 2501
tion of all proposals as to statutory provisions and the establishment of regula-
tions thereunder.
All told, 86 proposed amendments are discussed in this report. Of these, 48
relate to the Securities Act of 1933, 2 relate to the Bankruptcy Act, and 36 are
concerned with the provisions of the Securities Exchange Act of 1934. Thirty-
three of the proposals with respect to the 1933 act are in the area of agreement
between the Commission and the representatives of the industry and 15 are in
the area of complete or partial disagreement. There is agreement as to the 2
proposals relating to the Bankruptcy Act. Agreement has also been reached
as to 20 of the proposals relating to the Securities Exchange Act of 1934 and the
remaining 16 proposals a,s to the 3934 act are in the area of complete or partial
disagreement. The position taken with respect to each proposal is shown for
the 1933 act and the Bankruptcy Act in the table of contents which begins at
page 1 of this report and the position with respect to each proposal for amending
the 1934 act is shown in the table of contents as to that act which begins at page
179 of the report, as well as in the discussion contained in the explanatory state-
ments following each proposal.
As to the 1933 act
Consistent with their view that revision of the securities acts should seek only
to make these statutes more equitable and modify their provisions governing
procedures so as to make it possible to transact business more efficiently without
impairing the protection afforded to investors by the requirement of fair and
adequate disclosure of information as to the character of securities offered or
sold to the public, the proposals of the industry with respect to the Securities Act
of 1933 have been chiefly concerned with the following problems :
I. The use of information prior to and after the effective date of a registra-
tion statement ;
II. The requirements as to the use and delivery of prospectuses ;
III. Simplilication of registration procedure ;
IV. The exemption of small issues and of certain classes of issuers and of
transactions from the registration procedure, but not from the fraud pro-
visions of the act ;
V. The bases of liability under section 12 with respect to the dissemination
of information relating to securities already outstanding in the hands of the
public ;
VI. Tlie scope of the registration requirements of the act as determined
by the meaning of the term "public offering" ; and
VII. The size and organization of the Commission itself, and the general
administration of the act.
The following is an outline of the situation which has developed in the con-
ferences with respect to these problems :
I. THE USE OF INFORMATION PRIOH TO AND AFTER THE EFFECTIVE DATE OF A
REGISTR-^TION STATEMENT
Section 5 establishes the basic procedures of the act with I'espect to the registra-
tion Of issues of securities and the use of prospectuses. It governs the making
of offerings, sales and deliveries of securities. Proposals with respect to changes
in section 5 are presente<l at page 85 of this report. Related proposals concern-
ing the use of information prior to and after the effective date of a registration
statement are contained in the drafts of .section 2 (3) (p. 9) and of section 2 (10)
(p. 19). All of the provisions of the act are, however, related to section 5 in one
way or another.
One of the basic difficulties by which issuers, underwriters, dealers and the
investing public have been confronted in transacting business under the Securities
Act of 1933 arises from the fact that the theory of the present act that informa-
tion should be made freely available to investors prior to the effective date of a
registration statement conflicts in practice with the provisions of the present act
requiring that prior to the effective date of a registration statement no sales, or
solicitations to buy or offers to buy may be made or accepted.
The proposals with respect to section 5 presented in this report, taken together
with the proposals as to section 2 (3) and section 2 (10). would retain the
prohibition against the making of any sale, including any contract to sell, prior
to the effective date of a registration statement. But they would remove one
2502 POSTWAR ECONOMIC POLICY AND PLANNING
great difficulty by providing a workable means for making information available
to investors and by permitting offerings (but not sales) to be made during the
waiting period.
A substantial measure of agreement was reached in the conferences as to the
broad concept of the amendments which are necessary and desirable in this
connection. But the Commission has expressed its opposition to the pix)posed
amendments and has taken the position that the proposals as to section 5 and
related sections, presented in this report, should not be accepted by the Congress.
On the other hand, the representatives of the industry are convinced that many
of the difficulties which exist today will continue in aggravated form and many
new difficulties will be created if the requirements which have now been con-
ceived by the Commission are translated into law.
The position taken by the representatives of the industry is simply that there
should be freedom to give information to investors and to make offerings by
means of a "limited prospectus" as soon as a registration statement has been
filed, but that no sale of any security should be permissible until after the
effective date of the registration statement. Even then, for the first 7 days of
the public offering, a sale would be permissible only upon compliance with one
of two conditions. Either (a) a general prospectus must have been sent or
given to the purchaser so that it would normally have been receivetl by him
on the day before the sale is made, or (b) not later than the next business day,
he must be sent or given a prospectus and a written confirmation of the sale telling
him that he has an absolute right of cancellation if, not later than noon on the
first business day after he receives the written confirmation, he advises the
seller that he has examined the general prospectus and that he elects not to
proceed with the purchase. Since offerings made before a registration statement
becomes effective would, in the normal course, be made for execution on the
first day of public offering after the effective date of the registi'tition statement,
the representatives of the industry believe that the above conditions with respect
to sales made during the first 7 days of public offering are fully adequate to
insure that investors to whom such offerings are made will have every reason-
able opportunity to obtain and study prospectuses before entering into binding
purchase contracts.
The disagreement with the Commission hinges on whether it should be per-
missible to make a sale in the manner just outlined or whether the statute should
prohibit the making of any sale to any person in connection with a new issue
distribution, by a person engaged in such distribution, at any time on or after
the effective date of the registration statement, unless proof has been established
that the buyer has had a general prospectus for at least 24 hours and for not
more than 30 days. This would not only be a burdensome requirement but
would be one which, owing to the facts of time and geography, would permit
almost immediate purchase of securities by large buyers in the city where the
offering is initially made but would prevent many other investors and the
smaller dealers throughout the country from participating in attractive new
issue distributions on a lawful basis, even though they are already thoroughly
familiar with the affairs of the issuer.
Under the act as it stands today and as it has stood since it became law on
May 27, 1933. section 5 has clearly authorized the making of oral offerings of
securities and of binding sales contracts after the effective date of a registration
statement without requiring, as a matter of statutory law, that a prospectus be
delivered to the purchaser prior to the time when the security is delivered to the
purchaser, as long as it is delivered at the same time. In practice, dealers in
the investment banking business make prospectuses available to prospective
purchasers as soon as they can be obtained, which is usually on the first day of
public offering after the registration statement becomes effective. If any written
offering is made the present law requires that, at the time of such written offer
or prior thereto, the person to whom the communication is sent must be provided
with a section-10 prospectus except where the written offering does no more
than identify the security, state the price tliereof, and indicate by whom orders
will be executed.
With respect to the greatest percentage of new issue securities measured by
dollar amount, as in the case of trading transactions in investment securities
generally, business between buyer and seller is normally conducted by telephone.
A security salesman in the investment banking business is not an itinerant who
is here today and gone tomorrow. He is a man of standing in his community
who deals almost wholly with the same people year in and year out. The great
POSTWAR ECONOMIC POLICY AND PLANNING 2503
majority of buyers with whom he deals are highly intelligent and well-informed
citizens. Many of them are professional buyers, trustees, officers of corporations,
banks, insurance companies, or other financial institutions. A Federal statute
prohibiting oral offerings to be made by dealers in securities by telephone to such
buyers after the effective date of a registration statement would make it exceed-
ingly difficult if not impossible to carry on an investment banking business. The
Congress, in enacting the Securities Act of 1933, clearly recognized this fact after
the problem was presented to it and clearly provided in section 5 for the making
of oral oiferings after the effective date of a registration statement. The Com-
mission, however, now desires to strike this provision out of the law and to
prohibit the making of any oral offering to an investor unless the dealer first
establishes proof that the investor to whom the oral offering is made has been
sent or given a limited prospectus or a general prospectus current at the time of
the offering.
When a registration statement relating to a proposed new issue of securities
is filed with the Commission, the Commission makes a practice of announcing the
fact immediately in the press. If the contemplated offering is one of attractive
quality, investors throughout the country turn at once to their security dealers
to seek information concerning it and possibly to ask that offerings be made to
them at the appropriate time. The great majority of conversations as to such
securities, which occur prior to the effective date of a registration statement,
ordinarily take place in personal interviews or over local telephones. They do
not involve the use of any means or instrumentality of interstate commerce or
of the mails. Consequently they are now, and have always been, permissible
under the provisions of the Securities Act. The Commission states that this is
due to a "loophole" in the act and that it desires now to prohibit such conversa-
tions unless the dealer first sends or gives the person with whom he talks some
iind of written communication such as an "identifying statement," "limited pro-
spectus," or "general prospectus." If section 5 is otherwise amended in accord-
ance with the proposals which they have made, the representatives of the in-
dustry are prepared to accept and recommend this proposed new prohibition as
applied to the making of oral offerings prior to the effective date of a registra-
tion statement. But they are strongly opposed to the view held by the Commis-
sion that a similar prohibition should now be made applicable to all oral offerings
made after a registration statement has become effective and full information
as to a security has become available to the public and been widely disseminated
throughout the country. Nor is it possible to reconcile the attitude of the Com-
mission with the principle that the Securities Act of 1933 is intended to provide
for full and fair disclosure of information about securities and for the preven-
tion of fraud in the sale of securities "with the least possible interference with
honest business."
The proposals with respect to section 5, which the representatives of the in-
dustry recommend to the Congress are discussed in detail in this report beginning
at page 85. The industry believes that, when judged against the background
of the present statute and of tlie procedures clearly authorized thereby, these
proposals will be found by the Congress, as a practical matter and from the stand-
point of hard fact, not only to preserve existing investor safeguards but to go
beyond the present law in serving and protecting investors by providing a work-
able means of making information available to them and in various other ways.
II. THE EEQUIBEMENTS AS TO THE USE AND DELIVEaiY OF PEOSPECTU8ES
The basic requirements with respect to the use of prospectuses are established
by section 5 of the act (p. 85 of the report) . Other proposals relating thereto are
contained in section 2 (10) (p. 19), section 4 (c) (p. 77), section 4 (d) (p. 81),
section 10 (a) (p. 117), and section 10 (b) (p. 119). The proposals as to section
7 (p. 109) are also related thereto.
Except as to the reservations concerning section 5, which have already been
mentioned and as to the proposed section 4 (d), there is substantially complete
agreement between the Commission and the representatives of the industry as to
all proposals concerning the use and delivery of prospectuses. Provided that a
simple document of one or two pages is developed and authorized as contem-
plated by the proposed amendment, the "limited prospectus" should be very useful
and helpful. The general prospectus itself should become a more simple and
useful document. At present the statute requires that a prospectus shall be used
or delivered in respect of every sale made during the period of 12 months follow-
2504 POSTWAR ECONOMIC POLICY AND PLANNING
ing the initial public offering of a security registered under the act. Under
the proposed amendments there would be no requirement as to tiie use of a pro-
spectus by an underwriter or dealer participating in the distriliutioii, at any time
after completion of the distribution of his commitment. The proposed amend-
ments would also do away with any requirement that prosi>ectuses be delivered
in respect of transactions on the floor of a national securities exchange. These
changes should greatly reduce costs upon issuers, underwriters, and dealers and
simplify the carrying out of transactions in securities in the period following
initial public distribution. It is a constructive change. Anyone actually en-
gaged in the initial distribution of a new security would, of course, continue
to be under the requirement that each purchaser be furnished with a prospectus.
in. SIMPLIFICATION OF KEGISTEATION PROCEDURE
Section 6 (a) (p. 97) and section 7 (p. 109) would establish important new
procedui'es with re.spect to the registration of securities under the act. There
is agreement between the Commission and the representatives of the industry
as to the changes proposed in these sections. Of basic importance is the idea
sought to be incorporated in the act by the proposed section 7 (a) (2) which
would in certain circumstances do away with duplication and establish the pro-
spectus itself, together with appi'0]>riate exhibits, as tlie registration document.
Present procedures require two .separate documents, that is, the "registration
statement" and the "prospectus." The latter docimient is to a large extent
a duplicate of a substantial part of the registration statement. Existing proce-
dure has, in the opinion of the representatives of the industry, involved unneces-
sary and costly duplication of effort. The proposed amendment to section 7
should provide a cure for this situation. It also takes the important step of
recognizing that when a company has made full public disclosure of information
concerning its affairs by the filing of a registration under one Federal statute,
it should be under simpler duties with respect to compliance with the disclosure
requirements of other Federal statutes than tho.se which are placed on an issuer
who has not previously made such disclosure.
IV. THE EXEMPTION OF SMALL ISSUES AND OF CERTAIN CLASSES OF ISSUEES AND OF
TRANSACTIONS FROM THE REGISTRATION PROCEDrRE, BiUT NOT FROM THE FRAUD
PROVISIONS OF THE ACT
The proposals of the industry in this area are set out in the drafts of a new
section 3 (a) (9) (p. 43 of the report) and in the draft section 4 (b) (p. 73),
section 3 (a) (2) (p. 39), and section 4 (a) (12) (p. 69). Clarification of the
exemption of the revenue bonds and other securities of public instrumentalities
is sought by the projKisal as to section 3(a) (2). This has been agreed to by the
Commission. The proposed .section 4 (a) (12) also has been agreed to by the
Commission. This would exempt from registration the addition of a guaranty
by a foreign government to securities issued by a State or city or other political
subdivision of the country.
The most important propo,sals under this heading, however, fall into the ax"ea
of disagreement. One of these contemplates that public utility issuers who comply
with the disclosui'e requirements of the registration procedure of the 1935 act
sliould not be required to go tlirough the registration pi'ocedure of the 1933 act,
but should be exempt therefrom to the same extent that railroad and other issuers
subject to the Interstate Connnerce Commission are now exempt. As will be seen
from the discussion at page 43, this proposal is not made for the purpose of exempt-
ing issuers from liabilities. Another proposal as to which disagreement exists
would raise the permissive exemption of small issues from the present statutorv
limit of $100,000 to a figure of $500,000'. The Commission has agreed that the
maxinnnn exemption- be $300,000'. The industry believes that while this would be
a helpful relief to small companies who find that it is virtually prohibitive to
comply with the full requirements of Federal registration, it does not go far
enough in this direction. Since the exemption would be permissive, it is thought
by the industry that an increase in the top limit to at least $500,000 is desirable.
As noted on page I, an amendment of this character was proposed in the bill intro-
duced by the Honorable INIr. Lea on May 17, 1940 (H. R. 9807) and in an identical
bill (S. 4O06) introduced in the Senate on May 20', 1940, by Senator Johnson, of
California.
POSTWAR ECONOMIC POLICY AND PLANNING 2505
V. THE aVSES OF LIABILITY UNDER SEIOTION VI
The representatives of the industry have sought to amend section 12 so as to
differentiate between the liabilities attaching to prospectuses on new issues which
are being initially distributed and the liabilities attaching to the giving of infor-
mation concerning securities which are already outstanding in the hands of the
public. Prior to the passage of the Securities Act dealers in securities made avail-
able to their customers analyses of outstanding securities (not new issues) which
were designed to give an investor the salient facts with respect to a security.
These analyses did not purport to contain all relevant information, but were
clearly marked as "outlines" or "summaries" or "analyses." In many instances
comparative data with respect to various other securities were made available.
Since the present statute became law, however, many brokers and securities
dealers have not found it possible to provide this type of outline, smnmary, or
analysis for the use of their customers because of the fear that they might subse-
quently be charged with having omitted to state a material fact and they doubted
their ability to prove, as required by the act, that in the exercise of reasonable
care they could not have found out about the omission.
The Commission and the representatives of the industry are in agreement as
to a revision of section 12 which would substitute a new section 12 (b) and a new
section 12 (c) for the present section 12 (2). The new section 12 (c) would apply
only to the giving of information as to securities which are not at the time subject
to the registration or prospectus requirements of the act. It should prove helpful
in enabling brokers and dealers to give their customers informative summaries
without assuming undue liabilities with respect thereto. The statute would, how-
ever, continue to impose liabilities fully adequate to insure that the dealer act in
good faith and with reasonable ground to believe that there was no untrue or
misleading statement in the information supplied by him.
VI. THE SCOPE OF THE REGISTRATION REQUIREMENTS OF THE ACT AS DETERMINED' BY
THE MEANING OF THE TERM "PUBLIC OFfERlNG"
The proposed section 2 (14) (p. 31) is concerned with this question. It involves
the whole scope of the registration requirements of the act. The proposal which
has been put forward for a definition of the term "public offering" would require
the registration of issues, of $3,000,000' or more, sold directly to insurance com-
panies and certain other purchasers. The Commission has stated that it does
not oppose this proposal. The annual report of the Commission for the year ended
June 30, 1940, shows that about $2,700,000,000 of securities were sold by issuers
to insurance companies and other direct purchasers in the course of the past 5
years without registration under the act. This practice has done great injury to
vinderwriters and dealers and has deprived the smaller investors and the smaller
institutions throughout the country of the opportunity of acquiring any part of
many attractive new corporate investments. The proposed amendment would in
no sense prohibit the direct purchase of issues by insurance companies, but it
would require that in all cases where securities are sold in transactions "affected
with a public interest" because they involve investment of the funds of policy-
holders, depositors, or investors, there be compliance with the registration require-
ments of the act. Transactions of a private character would continue to be
exempt fi-om registration.
Vn. THE SIZE AND ORGANIZATION OF THE COMMISSION ITSBTJ AND THE GENERAL
ADMINISTRATION OF THE ACT
The propo.sed amendment to section 4 (a) of the Securities Exchange Act of
1934 is being recommended by tlie representatives of the industry and is discussed
at page 14 of the report. Its purpose is to be bring about greater continuity
of office within the Connnission itself by providing increased rates of salaries,
lengthened tenure of ofnce, and retirement pay. The proposal also contemplates
an increase in the size of the Commission. The point is that important decisions
under the acts should always be made by the men who carry statutory responsi-
bility for the determination of policy. The Commission lias stated that it is
opposed to the suggestion that the number of Commissioners be increased from
five to nine and that it believes it would be inappropriate for it to comment on
its tenure of office and its salaries.
2506 POSTWAR ECONOMIC POLICY AND PLANNING
The second projwsal under this heading involves a restatement of the pur-
poses of the act and embodies the idea that a factor to be considered at all
times in the formulation of policies and regulations is the need in the public
interest to i>ermit honest business to be efficiently conducted. The Commission
has stated that it has no objection to the suggested change in the title of the
act. A similar proix)sal concerning the Exchange Act is also being submitted
in agreement with the Commission.
Other proposals related to the 1933 act
An important matter as to which there is disagreement is the draft of section
32 (d) (p. 153 of the report) in which the Commission proposes that the liabilities
attaching to reports filed under the 1933 act be greater than the liabilities now
imposed by section 18 (a) of the 19S4 act (pursuant to sec. 15 (d) of that
act) when issuers now register securities under the 1933 act. The representatives
of the industry have proi>osed an alternative section 12 (d) which would carry
over into the 1933 act the present provisions of section 18 (a) of the 1934 act
as to such reports.
There is also disagreement as to the definition of the term "underwriter" as
proposed in item 6 at page 23. The Commission proposes that it be given authority
to exempt certain classes of persons from the duties and section 11 liabilities of
underwriters, and the rejiresentatives of the industry oppose this change. In
view of the situation created by administrative and other requirements that
certain is.sues of public utility and other corporate securities be sold in com-
pulsory competitive bidding, the representatives of the industry are recom-
mending, in disagreement with the Commission, that dealers who purchase
securities under conditions imiwsed by such a requirement (the Commission's
rule U-50 issued under the Public Utility Holding Company Act of 1935 is an
example) should not be subject to the duties and liabilities of underwriters.
These matters are discussed at pages 26 and 27.
As to the 1934 «<**
The proposals made by the representatives of the industry with respect to the
Securities Exchange Act of 1934 have been made with a view to permitting the
more efllcient functioning of the Nation's securities markets without impairing
in any way the protection afforded to investors by the provisions of the act. These
proposals of the industry have been chietly concerned witli the following
problems :
I. The scofje of the provisions of the Exchange Act ;
II. Simplification and clarification of the registration process;
III. Elimination of the threat of segregation ;
IV. Extension of credit on new issues.
An outline of the situation which has developed in the conferences with respect
to these proposals follows :
I. THE SCOPE OF THE PROVISIONS OF THE EXCHANGE ACT
Proposals with respect to this problem are set forth as to section 7 (d) at page
193, section 8 at page 199, section 14 at page 243, and section 16 at page 257 of
this report.
Under the proposed section 7 (d), the Board of Governors of the Federal Re-
serve System would have authority to regulate loans made for the purpose of
purchasing or carrying any equity securities whether or not such securities are
equity securities registered on an exchange.
It is also being suggested in agreement with the Commission that the regula-
tion of borrowing and of capital condition under section 8 be extended so as to
apply to all registered bi'okers and dealers as well as to members of exchanges
and brokers and dealers who transact business through such members. There
is, however, disagreement as to certain of the substantive changes which the
Commission has proposed with respect to the provisions of section 8 dealing
with capital requirements and the segregation of customers' securities and
moneys.
A further problem relating to the scope of the act is its application to issuers.
It has been proposed that the proxy regulations authorized by section 14 be
extended so that they will be applicable to securities of all large companies which
POSTWAR ECONOMIC POLICY AND PLANNING 2507
are widely held and not solely to securities registered on exchanges. The
exchanges believe that the duty of corporations to provide their securityholders
with information in respect of action which securityholders are asked to take
should not be made dependent on whether or not the securities are listed on
an exchange. The representatives of the Investment Bankers Association of
America and of the National Association of Securities Dealers, Inc., while
making no recommendation with respect to this proposal, do not oppose it. The
exchanges give it their strong support. The Commission has stated that it
believes that it would be beneficial to the investing public to extend to corpora-
tions generally the disclosure requirements of the proxy rules, and that it there-
fore does not oppose the suggested amendment.
Au,other problem related to the scope of the act deals with section 16 which
applies to trading in the equity securities of their own companies by officers,
directors, and large stockholders. One part of the proposal is that the reporting
requirements of the section be extended to the directors, officers, and substantial
stockholders of all large companies which are in general comparable to those
companies whose securities are listed on the exchanges. The representatives
of the Investment Bankers Association of America and of the National Asso-
ciation of Securities Dealers, Inc., while making no recommendations with
respect to the proposal, do not oppose it. The exchanges urge its adoption.
The Commission has stated that the adoption of this proposal would provide an
additional important safeguard to the investing public, and that it therefore
does not oppose the suggested amendment.
All of the representatives of the industry recommend that subsection 16 (b)
be repealed. This subsection grants to every corporation which has stock
listed on a national securities exchange the right to sue any of its officere or
directors and any person who owns more than 10 percent of its listed stock, if
the officer, director, or stockholder buys and sells, or sells and buys, within any
period of 6 months any of the corporation's stock and makes a profit. In a
suit under this subsection a corporation is allowed to demand for itself the
profit which the officer, director, or stockholder, has made. It is the view of
the representatives of the industry that the punitive provisions of this subsection
are imnecessary to the protection of investors since provision for full and
prompt publicity with respect to transactions by officers, directors, and principal
stockholders, is made in subsection 16 (a). It is believed that full and prompt
publicity is the most poteTit weapon against the abuse of information. The
Commission is opposed to the rejjeal of section 16 (b).
II. SIMPLIFICATrON AND CLARIFICATION OF THE REGISTRATION PROCESS
The proposed new subsection 12 (g), page 237 of this report, is concerned
with this problem. Under present practice an issuer which has registered
securities under the 1933 act is required to go through another registration
process to register its securities on an exchange even though the information
contained in the second registration duplicates to a large extent that contained
in the earlier filing.
The proposed amendment recognizes the desirability of eliminating this dupli-
cation insofar as possible. It receives general support.
The present statute is not clear as to the conditions under which the Commis-
sion may permit an exchange to allow dealings in securities which are to be
issued in the future. In reorganizations or recapitalizations, holders of securities
may wish to dispose of one or more classes of securities which they will receive
in exchange for present holdings. To clarify the authority of the Commission
to permit registration of such unissued securities an amendment is proposed to
section 12 (d) at page 231. This proposal is concurred in by the industry and
the Commission.
III. ELIMINATION OF THE THREAT OF SEGREGATION
To remove the threat that persons engaged in the securities business may be
compelled to give up either their brokerage or their dealer business, the repre-
sentatives of the industry have proposed an amendment to section 11 (a) at page
211, an amendment to section 11 (b) at page 213, and a proposed new subsection
11 (e) at page 219.
The problem affects more than 70 percent of those engaged in the securities
business including specialists in securities on the floors of exchanges and the
many small dealers throughout the country.
2508 POSTWAR ECONOMIC POLICY AND PLANNING
The Securities Exchange Act directed the Commission to make a study of the
feasibility and advisability of the complete segregation of the functions of broker
and dealer and to report thereon to the Congress not later than January 3, 1936.
Pursxiant to this direction a report was made after 18 months of study. No
definite conclusion as to the feasibility and. advisability of complete segregation
was i-eached.
Since li)34 the entire industry has operated in a zone of uncertainty. The
proposal made by the representatives of the Industry would end this. The
Commission is oppo.sed to this proposal and states that it Intends to continue its
study. This would have the effect of prolonging the uncertainty. In the opinion
of the representatives of the industry it is not probable that additional study
would bring forth any additional information, data, or facts not already in the
possession of the Commission and available to the Congress.
IV. EXTENSION OF CREDIT ON NEW ISSUES
The representatives of the industry and the Commission are in agreement
as to a proposal with respect to the maintenance or extension of credit pre-
sented under section 11 (d) at page 215. Today a broker and dealer who has
engaged in the distribution of a security as a member of a selling syndicate or
group is prohibited for a period of G months from extending credit to customers
on tiiat security. This has made it difficult for brokers and dealers to extend
credit to customers on any securities of an issue which they have distributed.
While in some respects the proposed amendment would extend the present
prohibition, it would limit it to the period during which the broker and dealer is
actually distributing a security.
Other proposals related to the WS-ff act
In addition the Commission is advancing various proposals for amending the
1934 act. Many of the Commission's suggestions are procedural rather than
substantive ; but others if adopted would result in a broad extension of its present
powers. These proposals are discussed in the explanatory statements which
appear in this report.
« :i: ^ i|c He :iE 3}:
The representatives of the industry believe that the proposals they are putting
forward as to the two acts relate to changes in the law essential to the efficient
conduct of their business. If accepted by the Congress and translated into
law, these proposed changes will in no sense weaken the basic provisions of
either the Securities Act of 1933 or of the Securities Exchange Act) of 1934
nor deprive investors of adequate protection. But they will do much to aid
business.
These proiwsals of the industry are accordingly submitted along with those
as to which agreement has been reached, with the request that all may receive
the sympathetic consideration of the Congress.
Respectfully submitted.
Investment Bankers Association of America : Emmett F. Connelly,
President ; Robert McLean Stewart, Chairman, Securities Acts
Committee; Arthur H. Dean, Robert G. Page, Counsel, Securities
Acts Committee. National As.sociation of Securities Dealers, Inc. :
Robert W. Baird, Chairman ; Nevil Ford, Representative ; Stew-
art S. Hawes, Representative ; I'aul W. Frum, of Counsel. New
York Curb Exchange: Geoi-ge P. Rea, President; Francis Adams
Truslow, of Counsel. New York Stock Exchange; Emil Schram,
President ; Rowland S. Davis, Executive Vice President ; Samuel
L. Rosenberry, of Counsel.
Exhibit No. 3
Proposals op Ferdinand Eberstadt foe Amendment of the Secxjeities Act of 1933
The following brief summary of certain provisions of the Securities Act of 1933
may be helpful in considering the recommendations made below ;
The Securities Act was enacted for the purpose, among others, of providing
adequate information concerning securities offered for sale to the public. Such
information is contained in a registration statement filed with the Securities and
POSTWAR ECONOMIC POLICY AND PLANNING 2509
Exchange Commission. The registration statement is a questionnaire to be
answered by a company issuing securities. In tlie case of many items, tlie answers
must be supported by voluminous exhibits filed as part of the registration state-
ment. Almost ;ill of the answers to questions contained in the registration
statement are i-equired to be incorporated in a ijrospectus — a circular or selling
document which must be given to all prospective purchasers of the security before
a sale can be consummated. The entire registration statement consists, then, of
the questioiniaire, the prospectus, and exhibits.
The original intention of Congress was to have the registration statement
become effective 20 days after the filing date. During this period investors were
to have an opportunity to examine the registration statement as a document of
public record or were to be entitled to receive a copy of the registration statement
upon payment of the Conunission's charge for copying. Only after the 20-day
period elapsed were underwriters or dealers to be permitted to solicit offers or
to sell, and then only after a copy of the prospectus had been delivered to the
prospective purchaser either prior to or contemporaneously with the security.
Recognizing that the 20-day waiting loeriod was arbitrary and, in many cases,
unnecessary to accomplish the purposes of the act, by an amendment to section 8
in August 1940', Congress gave the Commission authority to reduce the waiting
period in appropriate cases.
The Securities Act gives the Commission no authority to pass upon the merits
of the securities being registered. In fact, the act gives the Commission no
express authority to question initially the accuracy or the completeness of the
disclosure in the registration statement. In the event of misleading state-
ments, nondisclosure or fraud, either prior to the effective date of the registra-
tion statement or after such effective date the Commission is given authority to
issue a stop order preventing or suspending the effectiveness of tlie registration
statement.
It is, however, the practice of the Commission to review the registration state-
ment as originally filed and thereafter to mail to the issuer suggestions and com-
ments as to what should be added, deleted, or changed. These suggestions or
reconunendations of tlie Commission, for which there seems to be no legal basis,
are contained in an informal document from the Connnission to the issuer called
a "memorandum of deficiencies." Presumably such letters contain the Com-
mission's views as to deficient or misleading information contained in the regis-
tration statement as originally filed. It is fair to say that a substantial num-
l)er of the deficiencies cited by the Commission relate to matters which are not
really material.
Thereafter the issuer files an amendment to the. registration statement in re-
sponse to the "memorandum of deficiencies." The filing of the amendment
.'^tarts the 20-day waiting period ane\y, except that the act provides that an
amendment filed with the consent of the Commission shall not delay the effective-
ness "of the registration statement. Thus the theoretical 20-day waiting period
is very much a matter within the control of the Commission. It has the power
to accelerate the waiting i>eriod so that a registration statement can become
effective in less than 20 days. It likewise has the power to prevent a registra-
tion statement from becoming effective in 20 days by continuing to find
"deficiencies" in the registration statement.
With the al)ove brief summary of certain features of the Securities Act in
mind, the following specific recommendations are offered for the consideration
of the committee:
1. The Connnission should be given the jiower to exempt from registration
issues up to $1,000,000 as against the present limit of $300,000.
Until Rlay 15. 1945, the Commission's power to exempt issues from registration
was limited to those of $100,000 and under. By Public Law 55, approved on
that day, the Commission's power was extended to issues up to a maximum of
$300,000. Congress appears to have recognized that, balancing the protection of
investors against tlie administrative difficulties and expenses involved in tlie
registration of securities, there is a minimum below which it is unwise to extend
the thorough supervision which is involved in the registration process. I submit
that the minimum ought to be considerably higher than the $300,000, and that
$1,000,000 would probably be a proper amovint.
This proposal would go a long way toward freeing the flow o'f investment
capital into small businesses and new companies. Many such companies were
expanded during the war aided by Government advances or credit in some form.
In the immediate postwar period, many of these companies as well as many
2510 POSTWAR ECONOMIC POLICY AND PLANNING
others will require additional equity capital to finance operations previously
financed by the Government. The uncertainties, delay, and expense involved in
the registration process are particularly onerous for small companies.
An exemption from the registration process as is proposed here would not
mean that such issues would be exempt from all regulation. In the first place,
almost all States have their own securities conunissions. In the second place,
and perhaps more important, an exemption from registration under the
Securities Act of 1933 does not remove such issues from policing by the Commis-
sion under the fraud and misrepresentation provisions of seutiou 17 of that act.
In this connection, it should be noted that the Commission already requires
issuers, who are exempt because of the small size of the issue, to file with the
Commission copies of all selling literature, together with other information, so
that the Commission is in a position to see that the fraud and misrepresentation
provisions are not violated.
2. Special exemptions from registration should be provided for companies
(a) who have already had securities listed on a national securities exchange,
or (b) who have previously filed a registration statement under the Securities
Act of 1933 and have filed with the Commission the annual reports required
by that act, or (c) whose securities must be exempted by the Commission or
approved for sale by the Commission under the Public Utility Holding
Company Act of 1935, or {d) who are subject to regulation under the Invest-
ment Company Act of 1940, or (e) the issue of whose securities is regulated
imder section 204 of the Federal Power Act.
In the case of all of the above companies, there is already in the hands of the
Commission and available for public scrutiny a vast fund of infoi'mation. The
regular financial services carry a description of the company's securities, a record
of earnings and dividends over a number of years, the location of plants, volume
and type of business done, its subsidiaries, and other information designed to give
the investor knowledge of the company's affairs. Nevertheless, when an is.sue of
securities is proposed by such an issuer, it must go through the same detailed
registration process, involving vast duplication of work and effort, as a company
which for the first time is coming into the market with its securities and thus
for the first time is making public information concerning its affairs. This
involves a great deal of waste of time and money.
Two alternative proposals could be made to avoid this duplication :
A. All issues of securities of the companies in the classes set forth above
could be exempted outright from the registration process. (For example, securi-
ties subject to regulation by the Interstate Commerce Commission under section
20 of the Interstate Commerce Act are already exempt from registration.) Such
issues would nevertheless remain subject to the fraud and misrepresentation
provisions of the act and to the policing powers of the Commission.
B. As an alternative, it could be provided that, in lieu of a registration state-
ment, issuers of the classes mentioned might be required only to file a prospectus
containing such information as the issuer considered material, which prospectus
should become effective immediately on filing. If desired, the liabilities appli-
cable to a registration statement could be made applicable to a prospectus so
filed. This requirement would not in practice involve any real duplication of
work as even if a prospectus were not required by law one would undoubtedly
be used. This has proven to be the case where issues of railroads subject to
Interstate Commerce Commission regulation are involved. The prosi>ectuses as
used on such railroad issues are models of quality, brevity, and clarity as com-
pai'ed with those of issues registered under the Securities Act of 1938.
3. Where full registration is required, certain amendments to make the
registration process less burdensome for the issuers should be adopted :
(A) The Commission should be required to send to the issuer within
10 days of the original filing of the registration statement a memorandum
of deficiencies, if any, citing only material defects. An amendment to the
registration statement meeting the objections raised in the memorandum of
deficiencies should become effective automatically 5 days after its filing
unless the Commission orders it effective sooner.
A provision of this character would (a) enable the Commission to express its
views as to deficiencies in a registration statement, but would direct the Com-
mission to confine its comments to material matters; (h) compel the Commission
to act with reasonable promptness; and (c) place the effective date of the regis-
tration statement within the control of the issuer, thus both permitting a more
POSTWAR ECONOMIC POLICY AND PLANNING 2511
exact timing of offerings than is now possible and also preventing the Commission
from holding up indefinitely the effective date by continuing to cite deficiencies.
(B) An amendment to a registration statement which merely furnishes
the offering price and other information dependent upon offering price should
become effective automatically upon its filing with the Commission.
As a matter of practice, it is customary to file a final amendment showing
the offering price, and information depeiident upon the offering price, at the last
moment, and then request the Commission to accelerate the effectiveness of the
registration statement. Fluctuating prices in the securities market make this
practice an absolute necessity. The above proposal is intended to eliminate the
necessity of obtaining the Commission's consent to the filing of the price amend-
ment for the purpose of accelerating the effective date of the registration
statement.
(C) Contracts should not be required to be filed as exhibits, at least when
they are not suflSciently material to require summarizing in the prospectus.
Under the registration form most used currently, there is no requirement that
"material contracts" as such be summarized in the prospectus. Nevertheless,
they are requii-ed to be filed as exhibits, and the definitions of materiality are
such as to include a vast mass of documents. It is doubtful whether a single
investor (as distinct from a competitor) ever obtains and examines a copy of
the contracts so filed. The printing and filing of such exhibits involves sub-
stantial and entirely vuinecessary expense and delay.
(D) It would probably be advisable to abolish schedule A to the Securities
Act.
Schedule A sets forth In very considerable detail information which must be
included in a registration statement and in a prospectus. Experience has shown
that it is impracticable to set forth in a statutory enactment information re-
quirements which will be properly applicable for all types of issuers and issues.
Accordingly, in certain circumstances, section 7 of the act authorizes the Com-
mission to waive the information called for by schedule A. The Commission
has exercised such autliority sparingly. The abolition of schedule A would
completely free the Commission's hands to prescribe, on the basis of its 11 years'
experience, the information and exhibits which the Commission really regards
as material.
(E) The act should state explicitly that the Commission has no authority
to establish uniform accounting procedures.
The act certainly contains no grant of such authority and it does not appear
that Congress intended to confer it on the Commission. However, the Com-
mission, by indirect methods, including the use of its discretion in postijoning
the effective date by refusing to consent to amendments, etc., has indicated a
tendency toward forcing the adoption of uniform accounting methods. The
purpose of the Securities Act is to require fair disclosure, but this does not
preclude leaving issuers and their accountants free to adopt any standard and
proper method of accounting involving fair disclosure.
(F) The issuer should be permitted to register securities even if it has
no present intention of offering them for sale.
The Commission construes the present statute as preventing the registration
of securities unless the issuer promptly thereafter intends to make an offering
thereof. There are many cases in which a substantial saving in expense and
trouble would be effected if this rule were changed by an amendment of the
statute. It could' be required that the investor be informed of the terms of
offering by the filing of a posteffective amendment to the prospectus prior to
the actual offering of the securities for sale.
4. The act should provide that no underwriter or dealer need use a pro-
si)ectus after he has ceased to participate in the distribution of the security.
Under the present statute every dealer must deliver a prospectus in connec-
tion with each sale which takes place within 12 months after the date of the
initial public offering. The proposed amendment would make the use of the
prospectus necessary only by a dealer actually engaged in the distribution process.
After the distribution process is complete, neither the issuer nor the under-
writers are specially interested in further transactions in the security and the
security is dealt in in the public mai'ket just as the seciu-ities of any other
issuer are dealt in. To require use of a prospectus after the distribution has
been completed seems wholly unnecessary, and it involves a considerable expense
to issuers in providing a large number of prospectuses.
2512 POSTWAR ECONOMIC POLICY AND PLANNING
5. The act ought to be amended In several respects to make possible better
and more complete dissemination of information to dealers and others than
now prevails prior to the effective date of the registration statement.
At the present time the act forbids an offer to sell, or solicitation of an offer
to buy, a security, as well as the sale of a security, prior to the effective date of
the registration statement. Tliis tends to conilict with the theory of the act
that the waiting period would be a period during which dealers and investors had
an opportunity to inform themselves as to the nature of the issuer and of the
security. The contlict arises becau.se of the dithculty of distinguishing in prac-
tice between the furnishing of information to dealers and others, on the one
hand, and the making of an oft"er to sell or soliciting of an offer to buy a security,
on the other.
In general, the only way to meet this difficulty would seem to be to permit
the making or soliciting of offers prior to the effective date as long as no contract
or commitment is made prior to the effective date.
(A) Even before iiling a registration statement, an underwriter ought to
be able to consult dealers and furnish them with information, probably in
summary form, to ascertain whether the dealers are interested and on what
terms.
This practice ought to be permitted whether or not the furnishing of such iu-
fornuition amounts to an offer, or the solicitation of an offer, as long as no
contract is made. In many instances, the underwriters cannot know whether
an issue is salable without consulting other dealers. T'nder the present practice
the issuer may be put to tlie expense of iiling a registration statement before the
underwriters can tind out the reaction of the dealers to the proposed offering.
Certainly before introducing any product in any other business, it is customary
to ascertain the prospect of the product in the market.
(B) The law ought to permit the making of offers by means of the pro-
spectus prior to the effective date, at least after the prospectus has been
amended to meet the C(mimission's memorandum of deticiencies.
After the I'egistration statement has been tiled, it lias been the practice of
many uudei'writers to distribute, prior to the effective date, so-called red-herring
prospectuses, marked with a red legend to the effect that the prospectus is not
final and does not constitute an otter or a solicitation of an offer. The debates
in Congress at the time the Securities Act was being considered clearly indi-
cate that Congress intended that the investor should have an opportunity to
study the prospective issue during the waiting period. Howevei', under the
language of the act itself it is difficult to see why distribution of such a prospec-
tus to a dealer or prospective investor is not in fact the solicitation of an offer,
and the law ought to be amended to expressly sanction this practice. At the
least it ought to be provided that an offer, but not a contract of sale, can be
made by means of the prospectus after it has been amended to meet the Com-
mission's memorandum of deficiencies, and prior to the filing of the price amend-
ment.
(C) Both before and after tlie effective date of the registration state-
ment, offers by means of a limited prospectus or summary prospectus ought
to be permitted.
The present prospectus is a bulky and unreadable document which simply is
not read by the ordinary investor. If the use of a limited or summary prospectus
were authorized the ordinary investor would know a great deal more than he
does today about the security he is buying. He should, of course, be told that
the complete prospectus is available to him if he wants to examine it.
As an alternative, it might be desirable to provide that such a limited or sum-
mary prospectus should be used only in conjunction with the regular prospectus ;
thus any investor who wanted to go beyond the limited prospectus would have
the general prospectus before him.
(D) The act should be amended to permit an is.suer to include in the
prospectus, or to disseminate as supplemntal sales literature, catalogs show-
ing the issuer's products, drafts, charts, illustrations, photographs, or
other visual devices which will convey to the investor a more complete idea
of the nature of the issuer's business and products than is possible through
mere description in a printed prospectus.
Although nothing in the present act would seem to prohibit such a practice,
the Commission in its practical interpretation of the act has effectively barred
this practice in at least many cases.
POSTWAR ECONOMIC POLICY AND PLANNING 2513
The proposal made above would enable the issuer to make the prospectus a
more interesting and graphic document, and. therefore, one more likely to be
read and iniderstood. Thei'e would seem to be no reason why the prospectus
should not be an interesting sales document so long as it satislies the disclosure
requirements of the act and is not misleading.
(E) The scope of permissible advertisements should be broadened.
The law gives the Commission authority to classify prospectuses according
to the nature and circumstances of their use. Pursuant to such authority the
Commission has authorized the use of newspaper prospectuses. While the in-
fornuxtion set forth in such prospectuses may be expressed in condensed or sum-
marized form, the Commission's requirements are such that, in ijractice, brevity
is impossible of accomplishment. Consequently the use of newspaper prospec-
tuses is negligible.
The law also expressly permits the use of a notice which states from whom a
prospectus may be obtained and, in addition, does no more than to identify the
security, state its price, and state by whom orders will be executed. Such no-
tices are today known as tombstone advertisemenis. They are absolutely mean-
ingless to anyone who is not already familiar witli the issuer involved, and are
certainly insufficient to enable a i-eader to decide whether or not he is interested
in seeing a prospectus.
It would seem that some form of advertisement between the permissible ex-
tremes of a newspaper prosiiectus and a tombstone advertisement should be pro-
vided. This could be accomplished if underwriters were permitted to publish
and distribute a notice which states from whom a prospectus may be obtained and,
in addition, does no more than state the business of the issiier, describe briefly the
security being offered, state by whom orders will be executed, state the price,
indicate the yield if the security is a bond, describe any redemption or conversion
feature, describe any right or warrant which may be exercised with respect to the
security, indicate whether the security is a legal investment for institutional in-
vestors, indicate the extent to which the issuer has agreed to pay any tax with re-
spect to the income, from the security, and contain the symbol or trade-mark of
the issuer.
6. It would be desirable to amend the act to exempt from the liability of
underwriters any class of persons who do not themselves take part in the
distribution.
Under the present act it is believed that a person, such as an Investment trust,
who merely agrees to buy and hold unsubscribed portions of an issue of securities
would be subject to the liabilities of an underwriter even though they take no
part in the distribution of the issue. The risk that the underwriter's liability
would exist might in many cases be insufficient to prevent an investment trust
or other institution from making such an agreement. It is believed that the
underwriter's liabilities ought properly to attach only to those who take part in
the actual distribution and selling of securities.
7. The act ought to be amended to permit, in express terms, the making of
preliminary agreements between a selling stockholder and an underwriter,
and agreements between the underwriters themselves, prior to the effective
date of the registration statement.
The present act permits agreements between an issuer and an underwriter to be
made prior to the effective date. In practice, with the knowledge and approval
of the Commission, agreements are also made between the selling stockholders
and underwriters prior to the effective date, and, of course, agreements between
the underwriters themselves are also made. It would be desirable to amend the
act to eliminate any possible doubt as to whether these practices are lawful.
8. It is also respectfully suggested that the act should require that a certain
percentage of the members of the Securities and Exchange Commission be
individuals who have had a substantial exijerience in the securities business.
This might make advisable an increase in the membership of the Commission.
Although there has been a high turn-over in the membership of the Commis-
sion since its creation, very few of its members have had any experience in the
securities business. It would really seem desirable to have on the Commission
some persons with experience in the diverse fields which are subject to regulation
by- the Commission, such as investment banking, stock brokerage, public utilities,
and investment companies. Tlie absence from the Commission of any substantiai
number of members with experience in the business may account for the failure
of the Commission to recommend to Congress the changes which would enable the
acts to function more effectively without interfering with their basic purposes.
2514 POSTWAR ECONOMIC POLICY AND PLANNING
I wish to emphasize that these are my own recommendations and that I am not
representing any group or organization. I also want to make clear that these
proposals are not necessarily the only proposals nor the best to meet the real
difficulties which exist. They are made in resi>onse to the committee's request.
The substance of many of the above recommendations has already been made
to the Commission and to the Congress by others. I would refer you to the
following :
(o) S. 3985, S. 4000, H. R. 0807, and H. R. 10013 (76th Cong., 3d sess.).
(&) August 7, 1!»41, Report of the Securities and Exchange Commission on
the Propos5ils for Amendments to the Securities Act of 1933 and the Securities
Exchange Act of l'.i34. printed for the use of the Committee on Interstate and
Foreign Commerce (77th Cong., 1st sess.).
(c) July 30, 1941, report on the conferences with the Securities and Exchange
Commission and its staff on proposals for amending the Securities Act of 1933
and the Securities Exchange Act of 1934 by representatives of the Investment
Bankers' Association of America, National Association of Securities Dealers, Inc.,
New York Curb Exchange, and New York Stock Exchange.
(d) Hearings before the Committee on Interstate and Foreign Commerce,
House of Representatives (1st sess.), on a comparative print showing proposed
changes in the Securities Act of 1933 and the Securities Exchange Act of 1984,
etc.. Government Printing Office, 1941.
June 20, 1945.
Exhibit No. 4
New York 6, N. Y., June 2, W45.
Hon. WlLUAM M. COLMER,
Chairman, Special Committee on Pofitivar Economic Policy and Planning,
House of RepresentatircH, Washingtan, D. C.
Dear Congressman Colmek : I thought your committee might be interested in
having the following, which, if time had permitted, I would have introduced as
exhibits to my testimony :
Exhibit 1 : Corporate issues in the United States from 1920 to date. You will
notice that the total from 1920 through 1929 amounted to $41,000,000,000, whereas
the total from I'OSO through 1944 amounted to less than one-fifth of this. This
is, of course, not all due by any means to SEC regulations.
Exhibit 2 : A summary of issues registered under the SEX3 Act of 1933, whereas
exhibit 3 is a summary of the corporate issues. The distinction between the two
generally is that some of the issues referred to in exhibit 2 were sales by stock-
holders as opposed to direct issues by coi-porations.
Exhibit 4: Gives the time that appears to have been required to clear some
recent Issues.
Exhibit 5: A digest of the report of the Twentieth Century Fund relating to
new capital requirements.
Exhibit 6 : Gives some exi)ense data on some of our own recent issues.
I want to thank you for the courtesies extended to me at the time of my appear-
ance before your committee.
Sincerely yours,
F. Ebekstadt.
POSTWAR ECONOMIC POLICY AND PLANNING
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99579 — 46— pt.
2516
POSTWAR ECONOMIC POLICY AND PLANNING
Exhibit 2. — ^iittniiarii of nil ismies registered under Securities Act of 1933
[Figures are in thousands]
Corporate issues
Sales
by other
than is-
suers
Total of-
ferings
Year ended June 30—
New capi-
tal
RefunrtinR
Purchases
of securities
for invest-
ment and
affiliation
Other 1
Total
amoimt
registered 3
1935
62,326
354, 407
913, 473
460,028
437, 494
162, 774
286,814
590, 785
64, 195
204,328
440,901
3,018,621
2,158.985
467, 158
1,239,393
1,068,999
1,485,039
751, 938
287,208
815, 238
144,360
395, 6;n
388, 705
346, 409
237, 797
114,656
239, 699
83,263
107, 935
269,883
3, 559
13, 794
32, 472
5,269
33,549
34, 259
6,547
7,804
8,271
2,444
4,498
86, 524
119,327
32, 328
48,516
54, 467
189, 722
61, 781
69,867
103, 614
690, 737
4,022,590
3, 753, 935
1,381,138
2, 068, 429
1,487,248
2, 270, 671
1, 526, 941
555, 795
1,450,461
913, 130
1936
4, 835, 049
1937 - .
4,851,463
1938
2, 101, 186
1939
2, 579, 193
1940
1,786,537
1941
2, 610, 684
1942
2, 003, 421
1943
659, 480
1944
1,759,780
Total, 1935-44. __
Average, 1935-44
1945 to Mar. 31
3, 536, 624
353,662
251,393
11, 733, 480
1,173,348
1,292,032
2,328,338
232,834
226, 578
147, 968
14, 797
743
770, 644
77,064
94,409
19, 207, 945
1,920,795
24,099,923
2, 409, 992
2, 079, 607
• Includes purchase of assets and other miscellaneous purposes.
2 Includes, in addition to amount offered for immediate sale, warrants, options, stock reserved for con-
version, etc.
Source; Tenth Armual Report of the Securities and Exchange Commission and Statistical Bulletins of
such Commission.
Exhibit 3. — Summary of corporate issues, compensation, expenses, and net
proceeds to issuer, under Securities Act of 1938
Year ended June 30—
Corporate
issues: Price
to public
Distribut-
ing compen-
sation
Expenses of
issuer
Net proceeds
to issuer
1935 ---
$686, 239
3, 936, 066
3, 634, 608
1,348,810
2, 019, 914
1, 432, 781
2, 080, 949
1, 465, 160
485, 928
1, 346, 846
$29, 558
126, 238
114, 950
60,084
59, 168
43, 201
51, 895
23, 024
15, 648
47, 037
$5, 494
27, 374
26, 023
9,862
12, 513
8,891
10, 955
8,345
2,671
7,916
$651, 186
1936 - -
3, 782, 454
1937
3, 493, 635
1938 .
1, 278, 864
1939
1940
1, 948, 233
1, 380, 688
1941 .
2, 018, 099
1942 .
1, 433, 790
1943 .
467, 609
1944
1, 291, 893
Total, 1935-44 -
18, 437, 301
1, 843, 730
1, 837, 166
570, 803
57, 080
56, 372
120, 044
12,004
10, 050
17, 746, 451
Average, 1935-44
1945 to Mar. 31
1, 774. 645
1, 770, 745
Source: Tenth Annual Report of the Securities and Exchange Commission and the statistical bulletins
of such Commission.
Exhibit 4. — Time required for registrations to become effective with Securities and
Exchange Commission — Data given beloic cover issues between Jan. 1 and May
22, 1945
Number of days
Number of
companies
Percent
Number of days
Number of
companies
Percent
0to20 ---
56
38
22
15
7
5
3
2
36.2
24.6
14.2
9.7
4.5
3.2
1.9
1.3
61 to 70
71 to 80
2
1.3
21 to 25 . -
26to30 -
81 to 100
1
1
3
.6
31 to 35 --
101 to 200
.6
36 to 40
200 to 250
1.9
41 to 45
TotaL. -
46 to 50
156
61 to 60
POSTWAR ECONOMIC POLICY AND PLANNING
2517
Exhibit 5
Tlie attached schedule contains estimates of the Twentieth Century Fund of
capital outlays in the postwar perio<^l.
The maximum capital outlay of $28 annually is the amount which will be
needed, assuming our population and labor force continue to grow as in the past
and employment and production are maintained at a level as high as that in the
last half of the twenties.
The minimum capital outlay of $12 annually is the amount which would be
needed to cover only those outlays for which there would be heaviest pressure
because of population growth and the expansion and replacement made necessary
by a high level of industrial activity.
J. Frederick Dewluirst, economist for the Twentieth Century Fund, in his
statement before the Special Committee to Study Problems of American Small
Business of the Senate, said :
"Entirely aside from any questions v.hicli may well arise regarding the accuracy
of these estimates, it goes without saying that the mere existence of a 'need'
for $28,000,(X)O,0O0 worth of capital gooils per year does not mean that this need
will translate itself into effective demand, or in other words that the need will
be met. Some needs are more urgent than others, and the level of employment,
production, and income that we are able to achieve in the postwar period will be
the most important determinant, not only of the magnitude of our needs for
capital goods, but of our ability to meet such needs. In any event this tentative
estimate of $28,000,000,000 per year (at 1940 prices) should be regarded in the
nature of a maximum program which is probably beyond our capacity, even under
favorable conditions."
*******
"The probability is, of course, that our actual expenditures for capital goods
in the postwar decade and a half will fall between these two extremes and even
under conditions of full employment and full utilization of our productive capacity
we would fall short of producing enough capital goods to meet the maximum
estimate of needs."
Maximum and minimum programs of estimated capital ov flans in selected
fields, 194GS0
[In millions of dollars]
Fields selected
Maximum program
Total
Annual
average
Minimum program
Total
Annual
average
I. Urban development:
1. Nonfarm housing
2. Public water supply systems
3. Sewerage systems
4. Hospital facilities
5. School facilities
6. City service streets
Subtotal, urban development
II. Commercial and industrial:
1. Commercial buUding
2. Industrial facilities
3. Electric power systems
4. Telephone facilities
Subtotal, commercial and industrial
III. Transportation:
1. Railroads
2. Highways
3. Waterways and port development
4. Airport development
5. Pipelines
Subtotal, transportation
75, 973
3,945
3,695
5,164
12, 935
5,390
107, 102
10, 200
52, 600
22, 155
6,357
91, 312
16, 100
33, 118
2,250
1,500
535
53, 503
5,065
263
246
344
863
359
7,140
680
3,507
1,477
424
6,088
1,073
2,208
150
100
36
3,567
29, 133
718
503
712
2,864
2,100
36, 030
8,400
52, 600
16, 485
1,272
78, 757
1,500
40
1,540
1,942
48
33
47
191
140
2,401
560
3,507
1,099
85
5,251
100
3
103
2518
POSTWAR ECONOMIC POLICY AND PLANNING
Maximum and minimum programs of estimated capital outlays in selected
fields, i9'/6-60— Continued
[In millions of dollars]
Maximum program
Minimum program
Fields selected
Total
Annual
average
Total
Aimual
average
IV. Rural development:
1. Farm housing . -
5,760
4,205
1,657
1,194
3,100
4,980
3,226
1,895
2,353
384
280
111
79
207
332
215
126
157
2. Farm service buildings
3. Irrigation
77
79
90
1,620
806
515
413
5
4. Drainage _ - - '
5
5. Clearing - .
6
6. Soil-erosion control .-.
108
7. Flood control- . --. . ..
54
8. Forest protection and development
34
9. Recreational facilities. .
28
Subtotal, rural development .--
28, 370
1,891
3.600
240
Total
280, 287
140, 143
18, 686
9,343
119, 927
59, 963
7,995
Other i_-
3,997
Grand total- --. _.
420, 430
28,029
179, 890
11,992
1 Items I-IV above usually represent about ?6 of all capital expenditures, Other capital items, usually
accounting for the remaining J.^, include agricultural, mining, and construction machinery, office equip-
ment, and business motor vehicles.
Exhibit G. — Issues of F. Eberstadt & Co.
Amount of
issue
Net proceeds
to company
Attor-
neys'
fees
Account-
ants' fees
Printing
Percent
such
expenses
to net
proceeds
Hewitt
Armstrong
Aircraft Radio
King-Seeley
im
Aeronca
Gleaner
Heller
Semler
Westvaco
Elliott (preferred)
$1,874,665.50
3, 400. 000. 00
940, 500. 00
2, 000, 000. 00
918. 000. 00
3, 198, 402. 00
2, 860, 000. 00
1, 063, 650. 00
3, 552, 500. 00
2, 500, 000. 00
.$1,311,000.00
3, 190, 000. 00
790, 875. 00
1,830,000.00
756, 250. 00
2, 976, 290. 50
2, 767, 960. 00
931,960.00
3, 456, 250. 00
2, 375, 000. 00
$10. 000 $3, 500
1 $12, 500
12,500 6,000
15,250 11,250
6,000
7,500
16, 000
5,000
4,000
10, 000
1,000
2,750
2,500
3,000
2,000
2,000
$6, 500
11,400
5,350
8,550
6,045
3,000
6,300
5,000
11,000
5,800
1.53
.72
3.11
1.92
1.72
.45
.86
1.39
.49
.75
^ Represents combined attorneys' and accountants' fees.
Exhibit 5
A SPECIFICI rROGRAM FOR MUNICIPAL FINANCE DURING THE WAB AND IN THE
Postwar Yeiars
By Carl H. Chatters, Executive Director, Municipal Finance Officers Association
of the United States and Canada
SUMMARY OF A TAUC BEFORE THE CONFERENCE COMMITTEE ON URBAN PROBUIMS,
CHAMBER OF COMMERCE OF THE UNITED STATES, FEBRUARY 8, 1944
Prior to maliing tlie specific recommendations below, certain statistics were
given to indicate the financial condition of cities with respect to their debts,
assessed valuations, tax collections, and other current indexes of financial posi-
tion. The specific recommendations have been listed below :
1. Municipalities should continue to reduce their debts and continue toward
a pay-as-you-go basis until their postwar needs are so great that borrowing is
the only alternative.
POSTWAR ECONOMIC POLICY AND PLANNING 2519
2. Municipalities should continue to eliminate short-term bori-owing and should
enter the postwar period with balanced budgets and no carry-over short-term
loans.
3. Municipalities should continue to set up reserves for postwar use and these
reserves should be protected and held until their use will malie the greatest
contribution to recovery.
4. Municipalities must control the development and use of land in order to
control both operating costs and capital costs.
5. While municipal public works will provide employment for only 3 to 8
percent of the numbers who may need jobs in the postwar period, still these
public works if carried on at the proper time can be a stabilizing element. The
timing and the extent of local public works will determine to some degree the
amount of Federal and State aid need by rounicipalities.
6. Unless public works are built around a master plan, the construction of new
public works may set back permanent redevelopment for a generation or more.
7. If there are any Federal or State grants for public works or employment
relief, then we come to the inescapable conclusion, based on the experience of
depression years, that municipalities which are prepared with good plans and
some money of their own, will obtain something of permanent value while the
others will do "leaf raking" or nothing.
8. Harold D. Smith, Budget Director of the United States, made an important
point in a recent speech when he said we need to remember that public works are
not just built for themselves but are constructed to meet a public need and
furnish public services.
9. The amount of money available from municipal funds alone for postwar
construction and reconstruction is not determined by the amount of deferred
maintenance or deferred public works but is really limited to the sum of (a) the
reserves, (6) the salable loans that the electorate and governing bodies will
approve, (c) mild increases, if any, in local tax rates, and (d) shifts from ex-
penditures for present operating costs to expenditures for construction and recon-
struction. The amount of money thus available will run somewhere between
IV2 and 3 billion dollars a year for 5 years. A further limitation should be
imposed by the cost of operating new facilities recognizing that not only the
capital costs but the operating costs represent a long-term commitment.
10. The States should share with their localities the revenue derived from
motor-vehicle users and from other such activities where the activities cause
direct and unusual expenditures at the local level.
11. Federal aid will be necessary and justifiable in a few areas now most
affected by war industry and war activity. The cost of extending such aid may
be kept at a minimum by distributing aid where it is needed and to the extent
it is needed. The more the States can do the less the Federal Governinent will
need to do. When Federal grants are made the needs are met and then an
entire layer of funds is distributed over the entire country, regardless of need.
Wliere the need is not great, the States and the localities should make honest
effort to meet it. (At this point I discussed at length the added costs of meeting
need and then putting another layer of funds over the entire country or the
entire State. I presume that the cost of meeting the need by Nation-wide grants
is five times as great as it would be if it were politically possible to confine the
distribution of funds to the places which really were in need of help. The same
reasoning is applied when State aid is given to localities. )
12. Whether or not Federal aid is extended on a large scale after the war, the
Federal Government should start now to plan the course of postwar activities
in the areas most seriously affected by the war. In general, the nuniicipalities
whose affairs have been most dislocated by war activities have been unable to
divert money or attention to their postwar conditions. All levels of govern-
ment will profit if the planning in these areas can be done now, even though the
P'ederal Government may have to take the leadership and spend the money in
these localities to the exclusion of others. On the other hand, the vast majority
of cities should do their own planning for their public works.
13. Vast amounts of surplus Federal materials are available now and will
become available during the war and immediately after the w^ar. The States
and localities should be permitted to obtain part of the materials and supplies
which they can use.
14. A determination of Federal policies on postwar grants and postwar public
works would help the localities with their planning now. It is impossible for
either the States or the localities to make postwar plans with respect to relief
and public w^orks unless they know what the Federal policy will be.
2520 POSTWAR ECONOMIC POLICY AND PLANNING
15. Grant-in-aid policies need to be revised. The grants from the States or
from the Federal Government should cover a broad, instead of a very limited,
purpose. A smaller amount of grants will do far more good in this way and
cause less disruption of States and local services. Where the grants are made
for a very limited object, they stimulate one narrow activity, frequently at the
expense of all other activities.
16. There may be need for some Federal agency to extend credit on a sound
basis to municipalities in the same way that the PWA did through the RFC dur-
ing the depression years. For many municipalities this will be a highly desirable
alternative to grants or gifts. The history of the loans made to municipalities
by the RFC and PWA indicate the soundness of the loans as they were made.
The loans can be made in such a way that they need not interfere with the
ordinary channels for the distribution of municipal securities.
17. Inflexible State constitutions have prevented the States and their munici-
palities from developing the proper form of fiscal policies and governmental
structure at the State and local level. The State constitutions must be revised
to bring about economy of Federal and State funds, to permit rational State
administration of finances, and to facilitate the revision of the local revenue
systems and the abolition of inadequate local units of administration.
18. In bringing all these things to pass, there is the greatest need for some
citizen agency on a national level to promote vuibiased citizen interest in the
genuine needs of the States and localities. Such an agency should develop
leadership at the State and local level, and should supix)rt policies and programs
for the general benefit of all the citizens. Unless such an agency is formed, or
a general revival of citizen interest is aroused, there will be a progressive cen-
tralization of Government at the Federal level, a progressive weakening of the
States and localities, and a tendency away from the responsible government
now lodged with the States and localities. I do not mean the type of taxpayer
association which is selfish. Even though my own interests are largely along
fiscal lines, I can see little hope for the States and localities except through
some general wave of interest in government aimed at the general welfare of
the country.
19. Finally, municipalities can best prepare for the postwar period by putting
their houses in order now. What they do now, determines what they will be
compelled to do and what they will be compelled to accept in the postwar era.
Municipalities that are weak at the end of the war must spend their time at the
mercy of others. But tlie municipalities which take constructive steps now
by—
(a) Establishing reserves of money and credit;
(ft) Reorganization of activities;
(c) Removing shackles imposed by State constitutions. State statutes and
local laws and charters ;
(d) Developing realistic plans around a master plan;
these municipalities will be best fitted to meet any war or postwar demands that
may be made upon them.
3 9999
06352 048 8
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