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war.

During and subsequent to the war, the principal outlet for mortgage money was in home financing. Homes were badly needed, and this was particularly true in the case of veterans. The savings banks performed a useful public service in making their funds available for the financing of these homes. The Government itself encouraged this.

The heavy concentration of investments by the savings banks in Government bonds and the growing investment in guaranteed and insured mortgages is not a permanent situation. The banks are seeking opportunities on every hand to bring back the more normal distribution of their assets which existed before the

The percentage of total sssets of the savings banks invested in United States Government bonds has declined from 63.2 percent in 1946 to 48.5 percent in 1950. The percentage of total assets invested in other securities has increased from 7.4 percent in 1945 to 10.5 percent in 1950, and the percentage of total assets invested in mortgage loans has increased from 23.7 percent in 1946 to 35.8 percent in 1950. At the end of 1949, the savings banks had 70 percent of their total mortgage holdings in the form of conventional mortgages. Only 13.8 percent of the loans were FHA insured and only 16.2 percent were partially guaranteed by the Veterans' Administration.

In this connection, it should be noted that the savings banks are paying for the FHA insurance and for the guaranty of the Veterans' Administration by accepting relatively low yields on this type of mortgage. Likewise, of course, they have had to be satisfied with a very low return on their investment in Government securities.

A savings bank would need a margin of safety to protect its deposits even if the great bulk of its assets were represented by Government credit of one kind or another. FHA and VA mortgages could not be sold in quantity to meet withdrawals without the risk of a substantial loss in market price. The same would be true, though in less degree, if the banks were forced to sell large blocks of Government securities.

We are experiencing at this moment substantial uncertainty in the prices of Government securities. In the early 1920's 474 percent Government bonds sold in the 80's. The FDIC, which insures more than half of the deposits of the mutual savings banks, has commented in its annual reports upon the proposition that banks do not need an adequate cushion because of their large holdings of so-called riskless assets. For example, in the Annual Report of 1949 on page 9, the FDIC had the following to say:

“Although the ratio of bank capital 1 to assets other than cash and Government obligations needs to be studied in determining general public policy, it is not an appropriate standard for the supervision of individual banks. Bankers may at any time convert a substantial portion of their holdings of cash and United States Government obligations into other types of assets with a resultant decline in the ratio. The ratio, therefore, is subject to unpredictable fluctuations and for this reason it does not furnish a satisfactory standard for bank supervision. Furthermore, such a standard places a premium upon ultraconservative banking. It would encourage the banks to freeze their resources in cash and Government obligations, and thus they might be unable to satisfy the legitimate credit needs of their communities. As a result, it might become necessary for the Government to assume the responsibility for financing private business enterprise. This Corporation wishes to see the banks so organized that they can meet the needs of their communities without recourse to Government assistance."

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FDIC AND OTHER DEPOSIT INSURANCE DOES NOT ELIMINATE THE NEED FOR ADEQUATE

RESERVES AND SURPLUS

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The Federal Deposit Insurance Corporation stated on page 10 of its Annual Report for 1946:

"The Federal Deposit Insurance Corporation has been given the responsibility by Congress of protecting bank deposits. The first line of protection for deposits in any one bank is the capital 1 of that bank.

The resources of the Federal Deposit Insurance Corporation are mobile and are available to supplement the protection given depositors by bank capital whenever any bank is unable to meet the claims of its depositors. The capital funds of the Corporation, therefore, add to the protection afforded by bank capital. Maintenance of complete conconfidence of depositors in the banking system is necessary to prevent panic withdrawals or deposits." (Italics ours.) 1 In the case of mutual savings banks, this would be the surplus or guaranty fund or general reserve.

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In its annual report for 1944, the FDIC spoke as follows on page 12:

Banks should not only have adequate capital but should also follow a policy of making periodic additions to reserves for losses. These reserves should be accumulated in amounts which reasonable expectation and loss experience indicate will be adequate to cover operating losses, while the capital of the bank should be strong enough to provide a protection against extraordinary and unforeseen hazards.

It is desirable that each bank should make provision on a systematic basis for losses, which can be expected to develop in periods of readjustment, on assets acquired during the prosperous periods. Where banks do not already follow such a practice, reserves for losses should be set aside annually in the form of valuation allowances, or unallocated charge-offs, or in some manner, against those groups of assets from which losses ordinarily arise. Such reserves should, of course, not be regarded as a part of the capital accounts."

It is the fact that a savings bank has adequate surplus and reserves which makes it an insurable risk with the FDIC. The FDIC would refuse to insure the deposits of a savings bank which did not have adequate surplus and reserves, and it could refuse to continue the insurance of such a bank's deposits if it failed to maintain adequate surplus and reserves.

EXHIBIT No. 1 Effect of Federal income tax upon dividend or interest credited and upon dividend or

interest rate

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1940. 1941 1942 1913 1914 1915 1946 1947 1948 1919

$10, 197, 846 $10, 197, 846

10, 113, 254 10, 110, 356 $10, 154, 101
10, 205, 438 10, 183, 159 10, 146, 758
11, 218, 482 11, 149, 452 10, 666, 306
12, 702, 810 12, 631, 100 11.890, 276
14, 684, 438 14, 421. 240 13, 526, 170
16, 161, 065 15, 798, 074 15, 109. 657
17.082, 670 16, 662,023 16, 230, 049
17, 722, 119 17. 239, 129 16, 950, 576
18, 559, 873 18, 009, 227 17,624, 178

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Total..

6, 258, 481

Note.--The aggregate earnings in column 3 above differ from the actual aggregate earnings in column ? because of the fact that the lower dividend credited as a result of the tax reduces the amount of funds arail. able for investment. The actual rate of earnings to average deposits in this table is the same as that rate which the banks actually experienced. In other words, for each year the ratio of earnings to average de. posits which the banks actually experienced was determined. Then the earnings for that year on a tu basis were determined by applying ihat rate to what average deposits would be for that year on a tar basis. The average deposits were taken as one-half the sum of the deposits at the beginning of the year plus the deposits at the end of the year. The earnings on a tax basis were then determined by multiplying the resulting figure by the rate of earnings actually experienced.

The unknown factor that was to be determined for the purposes of this exhibit was the dividend that could be paid after taxes. The formula for determining that factor is attached hereto as exhibit 1-a.

1 In the case of mutual savings banks, this wyuld be the surplus or guarantee fund or general reserve.

1

EXHJBIT No. 1-A

FORMULA FOR DETERMINING THE DIVIDEND IN THE Exhibit SHOWING THE EFFECT

OF THE INCOME Tax UPON THE DIVIDEND
The following are the known factors:

r=ratio of surplus to year end deposits
poi =income-tax rate
S=surplus at the beginning of the year
D=deposits at the beginning of the year
I=net inflow of deposits during the year
R=increase in allocated reserves during the year
R'=actual rate of earnings which the banks experienced on the average of

their actual deposits at the beginning and at the end of the year. The following are the unknown factors:

S'=surplus at the end of the year

t=amount of the income tax D'=deposits at the end of the year E=earnings available after expenses, losses, and charge-offs and after

giving effect to the reduced amount of deposits available for earnings as the result of the impact of the income tax upon the dividend or

interest and, therefore, upon the deposits
d=amount of dividend or interest paid or credited to depositors
Then:

S'=rD'
D'=D+d+I
S'=r(D+d+1)
S'=E-d-rtS-R

l=r(E-d)

S'=E-d-p(E-d) +S-R
r(D+d+1)=E-d--p'(E-d) +S-R
rD+rd+r1=E-d-p'Etr'd+S-R

rd+d-rd=E-g'E+S-D-r1 - R
d(r+1-1')=E(1 —- ,') +S-r(D+I) - R

E(1 —p') +S-r(D+1) - R
d=

p+1-q? We know that R' is the ratio of the earnings which the banks actually experienced to the average of the actual deposits at the beginning of the year and the actual deposits at the end of the year. Since the earnings (E in the above formula) will bear the same relationship to the deposits at the beginning and end of each year (D and D' in the above formula) as the actual earnings bore to the actual deposits at the beginning and end of each year, then:

(D+D') E=R'

2

or

R'(2D+D+I)

2 By substitution, then:

R'(2D+d+1)(1 —p') +2S-2r(D+1)-2R da

2(r+1-r')

EXHIBIT No. 2

ANALYSIS FOR PURPOSE OF DETERMINING EARNINGS AND EXPENSES ALLOCABLE

TO TIME AND SAVINGS DEPOSITS OF INSURED COMMERCIAL BANKS IN 1949

The figures that follow are from pages 146, 147, 148, 160, 161, 162, and 163 of the FDIČ Annual Report for 1949 or they are based upon figures appearing on

We assign to time and savings deposits all of the Government bonds held by commercial banks with maturities in excess of 10 years, half of all corporate bonds, notes, and debentures, and all of the real estate mortgages. It is found that such Governments would amount to 19.1 percent of those deposits, such corporate securities would amount to 4/4 percent of those deposits, and the real estate mort

those pages.

gages would amount to 31.7 percent of those deposits. The aggregate of such holdings, therefore, would amount to 55.3 percent of those deposits.

We assume that the Government bonds, the corporate bonds, and the mortgages would yield to the commercial banks the same as they yielded to the insured mutual savings banks. This assumption probably overestimates the earnings of the commercial banks somewhat with respect to these particular investments.

The time and savings deposits of the commercial banks at the end of 1919 amounted to $35,902,235,000. Of this amount, 55.3 percent, or $19,853,936,000, were invested, we assume, as above indicated, and 44.7 percent, or $16,048, 299,000, were invested as the demand deposits of the commercial banks were invested.

With respect to the determination of operating expenses that might be allocated to the savings and time deposits, we have assumed that with resepct to that proportion of the time and savings deposits invested in long bonds and real estate mortgages the operating ratio would be the same as that of the insured mutual savings banks. With respect to the other time and savings deposits which were invested as demand deposits were invested, we have assumed that the operating ratio would be the same as for the demand deposits.

We have allocated nonoperating income and expense in the same ratio as total time and savings deposits bear to total deposits, and we have done the same with respect to the allocation of capital funds and capital stock. We assume that the net taxable income allocable to time and savings deposits would be taxed on the same basis as the aggregate net taxable income of the insured commercial banks was taxed.

Finally we assume that the capital stock assigned to the time and savings deposits would receive dividends out of the earnings from the time and savings deposits available therefor at the same rate as was actually paid on the capital stock from the aggregate available earnings of the banks.

Under the foregoing assumptions, we arrive at the following operating figures applicable to the time and savings deposits of the insured commercial banks for 1949. Operating income from the investment of $19,853,936 of time and savings deposits.-

$705, 594, 000 Operating income from the investment of $16,048,299 of time and savings deposits ..

388, 192, 000 Gross operating income-

1,093, 786, 000 Operating expenses

407, 456, 000 Net operating income-

686, 330, 000 Net nonoperating expense

48, 095, 000 Interest on time and savings deposits.

328, 010, 000 Net earnings subject to Federal income tax.

310, 225, 000 Federal income tax of 26.8 percent.--

83, 140, 000 Net earnings available for dividends and additions to capital accounts.

227, 085, 000 Dividends paid to stockholders..

96, 738, 000

9

Additions to capital accounts.-

130, 347, 000

851, 226, 000 1, 818, 331, 000

Capital stock allocated to time and savings deposits...
Other capital funds (surplus, etc.) so allocated.

Total capital funds so allocated.
Earned on net worth, percent.-
Dividends paid on stock, percent.--
Operating expense as percentage of average time and savings

deposits ($35,612,317,000), percent.-

2, 669, 557, 000

8. 51 11. 36

1. 144

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(Thereupon, at 1:25 p. m., the committee recessed, to reconvene at 2:30 p. m., of the same day.)

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