When the Federal Reserve System was organized many supposed that it would follow the same plan that had been pursued by the Bank of

England. The conditions, however, were found to be such as almost totally to prohibit any very consistent use of the British policy. Experience has shown that in a disturbed state of international trade, with the current of gold setting all in one direction, - toward the United States, - and with the majority of countries on a paper basis, - as they were soon after the war had fairly opened, - many of the old principles of banking were impracticable in operation. The Federal Reserve System in its early years made various experiments with rates of discount, but none of them were conclusive. Neither the conditions of the market nor of the world in general would have permitted the use of the old methods of control, while the Federal Reserve System itself was too small a factor in the discount market of the United States to have much influence in any event. When the United States entered the war, conditions changed very radically, for it was at once seen that the sale of Government bonds in huge quantities would necessitate extensive resort to the reserve banks, and that the rate they fixed would have a controlling influence on the market. Pressure was consequently brought to bear upon them to make their rates no higher than those which had been established by the government on its own bonds, and this policy was accepted. Thus was established a rate of interest which was much below the normal or natural rate in the market, with the result that there was a strong tendency to what is called "inflation" - in this case undue reliance upon banks for loans whose proceeds were used in the purchase of bonds. The rate policy of the Federal Reserve System continued to be fixed by the cost of government credit for a good while after the war, the fifth and final large government loan itself being placed on the market some five months after the armistice had been signed. During the months immediately following the war a great development of speculative manufacture and trade took place. The stock market, which had been strictly controlled during the war, sprang into renewed activity several months after the armistice, and was allowed to get the advantage of the funds drawn from the reserve system through loans collateralled by government bonds. Eventually the Federal Reserve Board endeavored to restrain the debauch of credit which was going on, and as one means thereto raised its rate of discount. This advance was at first tentatively made in the autumn of 1919, but still further advances were effected in 1920. The decline from the peak of prices had begun in May, 1920. This decline was attributed to the higher discount rates of the Federal Reserve Board, which were supposed to have had the effect of contracting credit. The facts, however, seem to be opposed to any such supposition. The maximum expansion of Federal Reserve advances did not come until about the end of 1920, or some eight months after the recession had actually begun. Careful analysis of the policy of the Federal Reserve banking system during these months would seem to indicate that a much more effective instrumentality than the rate of discount in bringing about a lessening of credit expansion was found in the effort made by both Federal Reserve banks and member banks to reduce the volume of loans which they had made upon the strength of government securities as well as upon long-term and investment obligations of all kinds. The control of the volume of credit through variations in the rate of discount, which had been successfully exercised under the nicely balanced system of credit and of specie holdings which existed in Europe prior to the European War, was impossible under the wholly altered conditions produced by war, and the influence of the changes in the rate of discount made by the Federal Reserve System must be regarded as primarily psychological.

So outstanding was the service of the Federal Reserve banks in the financing of the war and in the management of post-war financial conditions, that it has in no small measure tended to obscure the broader and more normal functions of reserve banking. These have always been, in the United States, a matter of controversy.

The service of the Reserve System in its domestic relations was originally conceived of by many bankers as being confined entirely to the rendering of "relief" or the stopping of "panic" in "emergencies." The Act itself had not, however, been drawn with any such idea in mind, but in the belief that in order to avoid the danger of panic or "crisis it was necessary to have wise and sound banking service constantly at the disposal of the community. Two fundamental problems in connection with reserve bank policy accordingly presented themselves from the beginning; the first, the method and extent to which the system should endeavor to get its funds actually into the hands of the public; the second, that of regulating the process of distribution, or as some express it, of controlling the supply, of credit.

In studying the problem of placing funds at the disposal of the community, two specific sub-prob-lems have always presented themselves. Of these, the first is that of the regular or systematic discounting of paper, while the other is the making of provision for exceptional or seasonal needs such as crop moving. A study of the mechanism provided by the Federal Reserve Act shows that the system had some difficult problems to deal with from the internal standpoint besides confronting a question in itself of no mean difficulty. In foreign banking systems two classes of operations are recognized - direct rediscounting and open market operations. The various bills which had preceded the Federal Reserve Act had in most cases attempted to limit the operations of the central reserve institutions to direct rediscounting on behalf of member banks. In this class of business a reserve bank merely waited for an application or offering of paper to come to it from a member, whereupon it redis-counted the offered paper if eligible and placed the proceeds to the credit of the member on its books. The Federal Reserve Act, of course, provided for this kind of business but it also did what none of its predecessors had proposed to do - provided for open market operations by permitting reserve banks to buy or sell bills of the same kinds that were eligible for discount. This meant that a large field of banking transactions, otherwise closed to the reserve banks, was now open to them. They could purchase or sell with or without the endorsement of a member bank either to or from any bank or individual as they might see fit, and they could undertake this business either in domestic or foreign trade. Such open market operations always constitute a means by which central banks may, without waiting for applications from depositors or customers, pour funds into, or withdraw them from, the general money market, thereby relieving stringency or reducing the available supply of credit as circumstances may require. The wise exercise of this ability on the part of any central bank gives to it a very great authority in the community, particularly when, as is the case in most countries, it represents a larger reservoir of fluid funds than exists anywhere else The early regulations of the Federal Reserve Board naturally dealt first of all with direct rediscounts and eventually established a fairly broad system whereby the single name notes of ordinary bank borrowers in any amount large or small might be presented to and discounted by a Federal Reserve bank.1 However, the system never extended its open market purchases very widely, and in practice all that was ever done was to deal usually through brokers in non-member bank paper, so that in fact it confined itself strictly to a comparatively narrow area of operations. The circumstance that the Federal Reserve System has used its buying ability only in a limited degree, is more or less hampered in its exercise of open market functions by the terms of existing law, and in any event has so surrounded its performance of such functions with restrictions and limitations that it has greatly reduced its power of market control has tended to hold it to the status of an emergency institution. Whether it will continue to retain that status is a serious question and one which is already being discussed by careful stu-