Politically speaking, congressional liberals simply cannot have their cake and eat it, too. It defies all economic logic to support liberal spending policies and at the same time blame the monetary authorities for high-interest rates. The refusal to confront inflation with sound fiscal policy denies Congress the moral imprimatur to object to stringent Federal Reserve policy. While it is the duty of this Congress to exercise oversight of the monetary function, our real challenge is to get our fiscal house in order. Credit controls may be entertaining to speculate about, but they represent a side show to the real business of government. They are simply no substitute for fiscal discipline.

In short, the unconscionably high interest rates we see today are congressionally dictated interest rates. They are Presidentially dictated interest rates. They are Democrat interest rates. If the American people want reprieve, they should seriously consider voting for new leadership and new fiscal discipline.

Thank you.

The Chairman. I thank the gentleman for his nonpartisan statement. Mr. Vento?

Mr. Vento. Thank you, Mr. Chairman. I have no prepared remarks. I would just like to welcome Mr. Partee and Mr. Schultz. We look forward to their explanation. I didn't see the Chairman of the Fed on the newscast yesterday, but I was very pleased when he suggested that he was independent of Congress, because we don't want any credit for what you have been doing—or at least I don't want any credit for what you have been doing the last couple of weeks—in spite of the efforts of my able colleague from Iowa to give us credit for it.

We will take credit for a change in the last 2y2 years from a $66 billion deficit in 1976 to something less than $27 billion in 1978, or the 1979 fiscal year. So, we will take credit for that, but I want to point out to the gentlemen that are here this morning the very great difficulty in terms of the fiscal side of the equation when we do pursue a very ticrht monetary policy or a high-interest rate policy. It is—for instance, the interest on the national debt is close to $60 billion this year, a debt, I might add, that was established and built up during the last 8 years prior to 1976 in unprecedented amounts, which is now really the burden that we carry during a time when the economy was reasonably growing. That debt was continued and compounded at that particular time for very spurious types of reasons, I might add.

So the point is that we face that and when indeed you raise the interest rates, you raise the amount of fiscal spending that goes on in this Congress, you exacerbate the recession or the predicted recession that may be occurring or will be occurring in present circumstances.

So these put some very real limits in terms of what Congress can do on the fiscal side when, for instance, we see a reduction in revenues brought on by that particular type of interest rate, a slowdown in the economy plus an exacerbated amount of spending due to the increase in interest rate by virtue of which we finance a $900 billion national debt. A very serious problem, indeed.

In spite of that, of course, I am very cognizant of the slow growth, in essence, of Federal debt. And we look at the private sector debt since 1950 in constant dollars and business lias increased its debt by 15 times, where consumers have increased their debt hv 12 times. Government has increased it by 3 times. And yet, as I look at these issues and you look at money market certificates and look at the effective way that interest rates and tight money policy on the part of the Fed has, in essence, been avoided by this type of circumvention in terms of only limited by the creativity of man's mind to find ways to extend credit in times when you would attempt to tighten it up.

So the net effect is, if you don't have an effect in terms of extending credit, if you don't have the other effects in terms of a limited monetary policy and if you exacerbate the fiscal policy on our side of the equation, then really, what in essence do we have? We have a selffed type of inflation model, in some respects, which really, we cannot tolerate, which cannot really be adequately modeled or adjusted by the U.S. Congress, by the Budget Committees and Budget Act, which we had held great hope—and I still believe holds great hope.

Now of course, on top of all of this, when we look at errors that indeed have been made this week it does create a moment for pause, some moment for great concern on my part. And hopefully on your part because of the great ramifications and the significant ramifications that have occurred in terms of credit markets, in terms of monetary policy, in which you base your judgments.

And we hope that you can give an adequate explanation and point out a recourse where this would be prevented in future calculations that are made by the member banks or made by the Fed itself, in terms of being the basis for the monetary interest rate policy that you derive.

Thank you, Mr. Chairman.

The Chairman. Thank you, Mr. Vcnto. Mr. Green?

Mr. Green. I would like to join my colleagues in commending our distinguished chairman for convening this meeting on an urgent basis commensurate with the seriousness of the events to be considered today.

Last week's disclosure regarding the serious inaccuracies in the Federal Reserve System's money supply reports raises the following concerns:

First, what care does the Fed exercise in compiling its money supply reports? It has been reported that a 1-day mistake of some $20 billion is needed to produce a $3 billion error in the weekly report. Even in a bank the size of Manufacturers Hanover, such an error ought to be obvious to whoever at the Fed compiles such data.

Indeed, even if the error was a repeated daily error of $3 billion rather than a 1-day error, that ought to have stood out in a bank with total assets of $45 billion and deposits of $36.5 billion.

The second thing that seriously concerns me is the potential for massive fraud, which I find frightening. A bank or its employees could short the bond market, report excessive deposits, and reap a bonanza. Or they could go along, report substantially less than the true deposits, and again make a killing.

I have also expressed mv concern at past meetings of this committee at the inadequacy of the Fed's sampling of nonmember banks in developing its weekly report. This has on occasion led to errors in spotting money supply trends which were onlv discovered when the more comprehensive quarterly report was made. It was mv understanding that the Fed was making a study of this matter, and I should like to know the result of that study.

Mr. Chairman, I trust that today's meeting will enlighten the public and us on these important matters, the unnecessary agonies that the financial markets and their participants have suffered during these past 2 weeks must not be repeated.

Thank you, Mr. Chairman.

The Chairman. Thank you, Mr. Green. If there are no further opening statements, Vice Chairman Schultz, we are delighted you are here and we would like to have you give us a painstaking account of just what happened, and tell us who did what. And let us have it on the record.

JOINT STATEMENT OF VICE CHAIRMAN FREDERICK H. SCHULTZ AND GOV. J. CHARLES PARTEE, BOARD OF GOVERNORS, FEDERAL RESERVE SYSTEM, ACCOMPANIED BY STEPHEN H. AXILROD AND PETER FOTJSEK

Mr. Schtjltz. Thank you, Mr. Chairman. We will certainly respond in detail to the questions. I would like to make a short opening statement which attempts to touch on the major points to be involved here.

We are quite pleased to be here to discuss the recent revision in the money supply data. This revision has received considerable publicity. Misconceptions appear to be widespread, and it is important to clear the air. Governor Partee is with me as well as staff experts Mr. Axilrod, Staff Director for Monetary and Financial Policy at the Board and Mr. Fousek, vice president at the Federal Reserve Bank of New York.

I would like to make a few introductory comments before we respond to your questions.

First, adoption of the monetary policy program announced on October 6 was in no way affected by the reporting problems of Manufacturers Hanover Bank. The program was in response to continued inflationary pressures and the undesirably rapid growth in money that had been taking place in the summer and early fall. Virtually all of the revisions in deposits reported by the bank were for the period subsequent to the October 6 actions.

Second, these revisions basically have not affected operations since inception of the new program. The new operational approach places more stress on controlling the provision of bank reserves than on controlling day-to-day money market rates. Under this approach, the Federal Reserve supplies reserves consistent with longer run objectives for growth in the monetary aggregates. Weeklv variations in the money supply obviously would have a minimal impact on such operations.

Indeed, the new approach would, if anything, make operations even less sensitive to short-run, weekly money stock variations than our former approach. It should be noted, nonetheless, that even with the downward revisions made last week, the money stock in the first half of October is still running more than 10 percent, at an annual rate, above its September level.

Third, money supply figures are very volatile from week to week; week-to-week changes in the $3 to $4 billion range are not unprecedented. Moreover, these weekly figures are revised as additional information becomes available over a period of 3 weeks or so, and they are also revised rather substantially when we make our annual review of seasonal adjustment factors. The recent revision, of course, was extremely large by historical standards. But the volatility and potential for revision in these weekly figures is why the Board has always stressed that market participants and others should not give undue attention to weekly money supply data.

Fourth, the basic reason for the volatility of weekly figures inheres in the vast daily flow of payments that move through our banking system. To gage the reliability of daily and weekly data reported to us by banks, there are a series of edit checks at Reserve banks and the Board. The edit standards for large banks are set individually and take into account the historical pattern of daily variations in their deposits. Such deposit swings are extremely wide at large banks. The initially reported daily deposits data for Manufacturers Hanover did not fall outside the edit tolerance limits set for them, but our staffs discovered the potential for error in that bank's data by comparing similar data reported on two different forms by the bank.

The data first published for Mi for the week of October 10 therefore already reflected correction of some of the figures originally reported by Manufacturers Hanover, but the bank indicated that other figures were correct. Subsequently, as a result of continuing contact, the bank further reviewed its daily reports to us and discovered a series of rather sizable errors associated with new internal procedures at the bank. As soon as we were reasonably certain that we had correct data from the respondent, the published figures were revised.

I cannot guarantee that there will not be further revisions from this bank. Indeed, we have been told by them that their figures entering the money supply for the week ending October 17 apparently will revise downward by about $800 million. Of course, this figure may change and could well be offset by revisions that occur in the normal course from other banks.

Fifth, and finally, we are in the process of reviewing our editing procedures to insure that reporting errors, such as the one in question, are discovered even earlier. However, it must be recognized that for all practical purposes in the short run the Federal Reserve can do no more than ask a bank to verify reported data that look unusual. There is always the chance that with the best will in the world—as in the present case—inaccurate data will be reported by banks. But we can assure you that every effort is being made to further minimize the risk that reporting errors will affect the money supply.

Governor Partee may wish to add some comments, and my colleagues and I are prepared to answer your questions.

Mr. Partee. Mr. Chairman and gentlemen, I would just like to underline two points made in Governor Schultz' statement.

The first, without taking away from the seriousness of the error that was reported in any way, is to point out to you, as I have done before many audiences over the years, the notorious volatility in the weekly money supply data. It is unfortunate that it is used by the market as a tip as to what may be occurring, that it is flashed out on the Dow Jones ticker, that it is the occasion for telephone calls from bond salesmen to their customers, and that kind of thing.

But the fact of the matter is that this data shows great changes from week to week. The pattern changes are difficult for us to predict or to interpret. Indeed, that is how you could have a $3 billion error in the money supply statistic.

Even though there was a $3 billion mistake, it wasn't so far out from the kinds of patterns that we had seen in the past that we could with confidence say, "There is something wrong with this number."

I might also point out the seasonal factors in the weekly data are very slippery; they change every year. And for that reason I myself do not use the weekly money supply data, except as a building block, to arrive at successive monthly estimates on the money supply. I have said that publicly many times, and this certainly does reaffirm the wisdom of that position.

Now, the second point that I would make is that I would agree with Governor Schultz that the error in the money supply numbers did not affect monetary policy over the period that we are talking about.

In the new procedure, announced by the Board on October 6, we put more emphasis on reserves. We are, of course, trying to provide the reserves that will result in an expected pattern of money supply growth over a period of time—2, 3, 4 months. But it is a longer run kind of a direction of operations than could be influenced by 1 or 2 weeks' money supply data.

Had those numbers held up, and had we had an October figure that came in even larger than the 10-percent rate of increase now indicated for the first of the month in the Vice Chairman's statement, then there would have been the necessity for a further hold back on reserves in the future. But we have not reached that point.

And so, fortunately, this error was corrected before it could have any appreciable impact on the way that we conduct monetary policy.

Thank you very much.

The Chairman. Thank you.

I notice in your chronology, which you placed before us, on page 2, item 6, you refer—I will just read from the statement that the Federal Keserve has made:

6. At this time, 10/18/79, New York bank did not accept Manufacturers Hanover position that revision of due to foreign banks did not affect the dally deposit flow previously reported. Indeed, comparison of single day weekly reporting balance sheet deposits data with Wednesday data from daily report of deposits showed substantial discrepancies for October 3, 10, and 17.

Chairman Schultz, is it not a fact that, despite this knowledge on the part of the Federal Reserve, that you were dealing with corrupted figures? You did issue those corrupted figures to the world; is that not true?

Mr. Schultz. Mr. Chairman, we did not issue figures which we believed to be corrupted.

The Chairman-. You say though that the Federal Reserve banks did not accept Manufacturers Hanover's position. Did you not, none the less, issue the figures based on Manufacturers Hanover's submission without telling anybody that the New York Federal Reserve Bank had some deep-seated disbelief in them?

Mr. Schultz. Under those circumstances, Mr. Chairman, the best we could do was to go back to the bank and ask them to clarify their figures, which we did.