Special Message to the Congress on International Balance of Payments.

To the Congress of the United States:

After a full review of our international balance of payments and our gold position, I can report to the Congress that:

--The state of the dollar in the world today is strong--far stronger than three or four years ago.

--To assure its continued and growing strength, however, we need to take new steps to speed our progress toward balance in our external payments.

The strength of our dollar is backed by

--the world's most productive and efficient economy, moving each year to new heights of output, employment, and income without inflation;

--the world's largest supply of gold, fully pledged to honor this country's dollar obligations;

--the world's strongest creditor position, based on $88 billion of public and private claims against foreigners, $37 billion greater than their claims against us; counting our private assets only, the margin is about $15 billion, and steadily growing;

--the world's most favorable trade position, based on a rise in our exports by more than one-fourth in four years--a rise which has brought our commercial exports (excluding exports financed by the government) to $22.2 billion and our commercial trade surplus to $3.6 billion.

Clearly, those who fear for the dollar are needlessly afraid. Those who hope for its weakness, hope in vain:

--A country which exports far more than it imports and whose net asset position abroad is great and growing is not "living beyond its means."

--The dollar is, and will remain, as good as gold, freely convertible at $35 an ounce.

That pledge is backed by our firm determination to bring an end to our balance of payments deficit.

Last year, our flows of dollars abroad-to pay for our imports and foreign travel, to finance our loans and investments abroad, and to meet our defense and aid obligations-still exceeded our dollar credits from foreigners by $3 billion. This represents steady improvement over the $3.6 billion deficit in 1962 and the $3.3 billion deficit in 1963. But our progress is too slow.

The world willingly uses our dollars as a safe and convenient medium of international exchange. The world's growing supply of dollars has played a vital role in the postwar growth of the free world's commerce and finance. But we cannot--and do not--assume that the world's willingness to hold dollars is unlimited.

On the basis of searching study of the major causes of our continued imbalance of payments, I therefore propose the following program:

--First, to maintain and strengthen our checkrein on foreign use of United States capital markets, I ask the Congress

--to extend the Interest Equalization Tax for two years beyond December 31, 1965;

-- to broaden its coverage to non-bank credit of one-to-three year maturity;

--Second, to stem and reverse the swelling tide of U.S. bank loans abroad, I have used the authority available to me under the Gore Amendment to the Act to apply the Interest Equalization Tax to bank loans of one year or more.

--Third, to stop any excessive flow of funds to Canada under its special exemption from the Equalization Tax, I have sought and received firm assurance that the policies of the Canadian Government are and will be directed towards limiting such outflows to the maintenance of a stable level of Canada's foreign exchange reserves.

--Fourth, to limit further the outflow of bank loans, I am asking the Chairman of the Board of Governors of the Federal Reserve System in cooperation with the Secretary of the Treasury to enroll the banking community in a major effort to limit their lending abroad.

--Fifth, to ensure the effective cooperation of the banking community, I am requesting legislation to make voluntary cooperation by American bankers in support of our balance of payments efforts, under the Government's auspices, exempt from the antitrust laws wherever such cooperation is essential to the national interest.

--Sixth, to reduce the outflow of business capital, I am directing the Secretary of Commerce and the Secretary of the Treasury to enlist the leaders of American business in a national campaign to limit their direct investments abroad, their deposits in foreign banks, and their holding of foreign financial assets until their efforts--and those of all Americans--have restored balance in the country's international accounts.

--Seventh, to minimize the foreign exchange costs of our defense and aid programs, I am directing the Secretary of Defense, the Administrator of AID, and other officials immediately to step up their efforts to cut overseas dollar costs to the bone.

--Eighth, to narrow our tourist gap, I encourage our friends from abroad, as well as our own citizens, to "See the U.S.A.;" and I request legislation further to limit the duty-free exemptions of American tourists returning to the United States.

--Ninth, to earn more trade dollars, I am calling for a redoubling of our efforts to promote exports.

--Finally, to draw more investment from abroad, I am requesting new tax legislation to increase the incentives for foreigners to invest in U.S. corporate securities.

These measures will deal with our payments deficit and protect the dollar in ways

fully consistent with our obligations --to sustain prosperity at home; --to maintain our defenses abroad;

--to supply private and public funds to less developed countries to build both their strength and their freedom;

--to avoid "beggar thy neighbor" restrictions on trade and work for a successful conclusion of the Kennedy Round trade negotiations;

--to work with our trading partners toward a more flexible world monetary system.

These actions should achieve a substantial reduction in our international deficit during 1965, and secure still further improvement in 1966.

WHERE WE STAND TODAY Our deficit in 1964 was too large. And over half of it occurred in the final quarter of the year--partly because of special and temporary factors.

Yet this disturbing reversal of our progress should not blind us to the solid and significant advances we have made in the past four years.

The broad-based attack we launched four years ago--and intensified 18 months ago-has in considerable part hit its mark:

--Tax cuts and other measures to increase output, stimulate cost-cutting investment, and hold prices steady have made U.S. products far more competitive in world markets. Combined with special export promotion efforts, these policies have boosted our commercial exports by $4.7 billion, or 27%;

pushed our commercial trade surplus to a new record of $3.6 billion--$800 million more than in 1960, and a gain of $1.3 billion over 1963.

--Unrelenting efforts to cut the dollar drain of defense and foreign aid expenditures have, since 1960,

--reduced overseas dollar spending for aid by more than $400 million;

--.reduced overseas military spending by more than $200 million (despite rising prices in the countries where our forces are stationed);

increased military offset sales to foreign countries through the Department of Defense by $450 million, and expanded sales of military equipment to foreign governments from commercial sources.

--Successful policies for expansion both here and overseas have brought a rise by nearly $2 billion in profits and interest on our past foreign investments.

But these impressive gains totalling well over $3.5 billion did not correspondingly narrow our balance-of-payments deficit. They were largely offset by a $2.5 billion rise in the level of private capital outflow since 1960--and $2 billion of this rise occurred from 1963 to 1964:

--The Interest Equalization Tax successfully diminished American purchases of foreign securities from the peak rate of 1963. But new issues exempt from the tax--especially by Canada--kept these purchases nearly $500 million above the 1960 level.

--Meanwhile, our banks met foreign demands for capital by adding almost $1 billion to their long-term loans abroad in 1964-$800 million above 1960 and $400 million above 1963.

--Short-term capital outflows in the form of bank credits and corporate funds rose to an estimated $2 billion, well above the 1960 and 1963 outflows even though our money market rates were kept generally in line with those abroad.

--Direct investment abroad by U.S. companies-very largely in Canada and Europe-rose by more than $400 million above 1960 levels, and $200 million above 1963.

Moreover, travel and tourist spending abroad rose $600 million from 1960 to 1964, while foreign travel outlays in the United States rose only $200 million.

The net impact of all these changes was to reduce our over-all deficit by only $900 million--from $3.9 billion in 1960 to $3.0 billion last year.

To be sure, we have made more progress than these raw figures suggest. More than half of our 1964 deficit was financed by increased holdings of dollars by foreign citizens and by foreign private banks and businesses. Less than half of it had to be financed by the sale of gold or of dollars to foreign governments and central banks. It is only this "official" part that other countries count as the measure of their deficits.

If we measured our deficit their way, it would show

--in 1962, a deficit of $3.3 billion;

--in 1963, a deficit of $2.3 billion; and

--in 1964, a deficit of only $1.3 billion.

This way of measuring our deficit does not reduce our need for further action. But it gives another, and in many ways a better measure of our progress. It gives another and perhaps more realistic measure of how far we still have to go to attain balance. And it reflects the firm confidence of private individuals the world over in the dollar.

This confidence rests on the full convertibility of our dollars into gold--at the fixed price of $35 an ounce. Our gold reserve of $15 billion represents 35% of the free world's official gold reserves. To eliminate any possible doubts about its full availability I have asked the Congress to remove the outmoded gold cover requirement against Federal Reserve deposits. I am glad that the Congress is acting promptly on this recommendation.

As we move ahead to further measures to cope with our balance of payments problem, it is clear that we lead from strength. But to safeguard that strength, we must reinforce our programs to bring our external payments into balance and maintain full confidence in the dollar.

MEASURES TO REINFORCE OUR PROGRAMS

Capital

I propose to take further steps to restrain our outflow of capital to the advanced industrial world. I do so reluctantly. The contribution of American capital to the world's growth and prosperity has been immense. But our balance of payments deficit leaves me no choice.

The Interest Equalization Tax has effectively reduced the purchases of foreign securities by Americans since legislation was submitted to Congress in July 1963. At the same time, it has encouraged the broadening and deepening of capital markets in Europe-markets which can make a lasting contribution to the economic growth of the Free World.

The tax is now scheduled to expire at the end of this year. But circumstances require that it remain in effect.

Therefore, I request the Congress to extend for two years the Interest Equalization Tax on purchases by Americans of foreign securities.

Bank loans abroad with maturities over 1 year--not now covered by the tax--increased by more than one-third, or nearly $1 billion, in 1964. The bulk of this money went to other industrialized countries. Of this, only 15% served to finance U.S. exports.

In my judgment this outflow has reflected substitution for new security issues in an amount sufficient materially to impair the effectiveness of the Interest Equalization Tax.

Acting, therefore, under the authority granted me by the Interest Equalization Tax Act, I have today imposed the Tax on bank loans abroad with maturities of one year or more, with appropriate exemption for borrowers in developing countries.¹

¹ The reference is to the issuance earlier on the same day of Executive Order 11198 "Imposition of Interest Equalization Tax on Certain Commercial Bank Loans" (30 F.R. 1929; 3 CFR, 1965 Supp.).

If the Tax did not apply to foreign credits made by non-bank lenders, it would discriminate against banks and invite an outflow of untaxed funds through non-banking channels.

Therefore, I request the Congress to amend the Interest Equalization Tax to impose it on extensions of non-bank credit of one year or more maturity, effective as of today.

Finally, and as soon as proper authorizations are prepared, I intend to exempt from the Interest Equalization Tax purchases by United States residents of new securities issued or guaranteed by the Government of Japan, up to an aggregate amount of $100 million each year. Until now, an exemption for Japan under the Interest Equalization Tax has not proved necessary. However, the application of the Tax to bank loans of over one year will, in my judgment, create a sufficient threat to the international monetary system to justify a limited exemption.

These measures are designed to serve our balance-of-payments objectives without imposing direct controls on American business abroad. We seek to preserve the freedom of the market place. But we cannot succeed without the full cooperation of the business and financial community.

I hereby call on American businessmen and bankers to enter a constructive partnership with their government to protect and strengthen the position of the dollar in the world today. In doing so, they will perform a major service to their Nation. And they will help assure a setting of economic prosperity at home and economic stability abroad in which to conduct their own business and financial operations.

Let me make clear that the government does not wish to impede the financing of exports, or the day-to-day operation of American business abroad. But loans and investments which are not essential must be severely curtailed.

Specifically, I ask the bankers and businessmen of America to exercise voluntary restraint in lending money or making investments abroad in the developed countries. This request applies with special force to short-term loans and direct investments, that is, the capital outflows not covered by the Interest Equalization Tax.

In connection with bank loans, I am asking the Chairman of the Board of Governors of the Federal Reserve System to work closely with the Secretary of the Treasury and the Nation's banks to develop a program that will sharply limit the flow of bank loans abroad. I have directed the Comptroller of the Currency, and the Chairman of the Federal Deposit Insurance Corporation to cooperate with the Federal Reserve and the Treasury in this undertaking.

To initiate this program, I am inviting a group of our leading bankers to meet with me, the Secretary of the Treasury and the Chairman of the Federal Reserve Board in the near future.

Cooperation among competing banking interests could raise problems under the antitrust laws, and, if extended beyond measures essential to our balance of payments objectives, would damage our competitive system.

Therefore, I request the Congress to grant a statutory exemption from the antitrust laws to make possible the cooperation of American banks in support of our balance of payments objectives. l request, also, that the legislation require that this exemption be administered in ways which will not violate the principles of free competition.

Pending enactment of this legislation, the Secretary of the Treasury and the Federal Reserve will guide this program of voluntary restraint along lines which raise no antitrust problems.

In connection with short-term corporate lending and direct investment in advanced countries abroad, I am asking a group of our leading businessmen to meet with me and the Secretary of Commerce for a full discussion of the voluntary methods by which we can achieve the necessary results. The Secretary of Commerce will remain in close contact with the responsible corporate officials. He will request periodic reports as the basis for appraising their contribution to our balance-of-payments targets.

I have no doubt that American bankers and businessmen will respond to the Nation's need. With their cooperation, we can block the leakage of funds abroad, without blocking the vital flow of credit to American business.

I am confident that the Federal Reserve, in carrying out its responsibilities for monetary policy, will continue its efforts to maintain short-term rates of return in the American money market. The Treasury will fully cooperate. At the same time--and in view of the heavy flow of private savings into our capital markets--I expect the continuation of essential stability in interest rates.

Government Expenditures Abroad

Since 1960, we have steadily reduced the dollar drain of our foreign aid program. We have steadily raised the percentage of AID dollars spent for U.S. goods and services--85 percent of new AID commitments are now spent within our borders. Until we master our balance-of-payments problem, AID officials will send no aid dollar abroad that can be sent instead in the form of U.S. goods and services.

The same rule will apply to our defense dollars. We have already made major progress in cutting the outflow of dollars for our defenses abroad--without impairing our strength or our defense commitment to the Free World. I have directed the Secretary of Defense to intensify his program

--to shift defense buying from sources abroad to sources in the United States;

--to reduce the staffs in overseas headquarters;

--to streamline overseas support operations;

--to work with our defense partners to increase their offset purchases of military equipment in the United States.

The Department of Defense has already conserved hundreds of millions of dollars of foreign exchange by such actions. But the Secretary assures me he can do more, while fully protecting our security interests and discharging our responsibilities.

Foreign Travel

The growing interest of our citizens in foreign lands, and the steady rise in their incomes, have greatly increased American vacation travel abroad. Foreign travel should be encouraged when we can afford it, but not while our payments position remains urgent. Today, our encouragement must be directed to travel in the United States, both by our own citizens and by our friends from abroad.

I ask the tourist industry to strengthen and broaden the appeal of American vacations to foreign and domestic travelers, and I will support its efforts through the "See the U.S.A." program.

In order to cut the dollar outflows associated with foreign travel, I recommend that the Congress

--pass legislation to reduce the duty exemption on foreign purchases by United States citizens returning from abroad to $50, based on the price actually paid;

--limit the exemption to goods which accompany the returning travelers.

Foreign Investment in U.S. Securities

A truly worldwide market for capital among industrialized nations requires a two-way flow of investments. In order to stimulate a greater inflow of capital from advanced industrial countries, the Secretary of the Treasury will shortly request legislation, generally along the lines recommended by a Presidential Task Force, to remove tax deterrents to foreign investment in U.S. corporate securities. This action will encourage-and will be reinforced by--the efforts of American business and finance to market U.S. stocks and bonds to foreign investors.

Exports and Competition

Finally, and most important for the long pull, American business, labor, agriculture, and government must work together to maintain stable costs and prices and strengthen our trade position in the world.

Essential to a strong competitive position is an expanding economy operating at or near capacity, yet holding costs and prices in check. Sharp reductions in income taxes-with more liberal depreciation allowances and special incentives for cost-cutting investment--have played a key role in creating such strength. Rising volume, rising productivity, and falling tax rates have enabled U.S. industry to hold the line on costs and prices while earning record profits and paying record wages.

As a result, U.S. prices and wage costs have remained more stable in recent years than those of any of our major competitors. The 27% rise in commercial exports since 1960--and especially the 15% rise in the past year--bear witness to our growing ability to compete in foreign markets. And the moderate rise in our imports demonstrates our growing ability to meet and beat foreign competition in our home markets.

But we must not take that ability for granted. Unwarranted price and wage increases could destroy it all too quickly. Unless American business and labor hew to the Government's price-wage guideposts, we will run grave risks of losing our competitive advantage.

Wage increases which exceed economywide productivity gains and price decisions which ignore falling unit costs--and there have been recent instances of both--do us all a disservice.

I call on all Americans to do their share in maintaining our generally excellent record of wage and price moderation. They will thereby strengthen their country both at home and abroad.

On a foundation of stable costs and prices, we will build an increasingly vigorous program of export expansion:

--I urge the Congress to approve the $13 million budget request for our export expansion program in the next fiscal year.

--We will step up our efforts to assure American industry sound and fully competitive export financing.

--We will strive to eliminate such artificial barriers to U.S. exports as discriminatory freight rates on ocean traffic.

Policies for an expanding economy coupled with responsible price and wage decisions and special measures to convert our competitive advantage into greater exports-this is the combination that holds the key to a lasting solution of our balance-of-payments problem.

EVOLUTION OF THE INTERNATIONAL PAYMENTS SYSTEM The measures I have proposed in this Message will hasten our progress toward international balance without damage to our security abroad or our prosperity at home. But our international monetary responsibilities will not end with our deficit. Healthy growth of the Free World economy requires orderly but continuing expansion of the world's monetary reserves.

During the past decade, our deficits have helped meet that need. The flow of deficit dollars into foreign Central Banks has made up about half of the increase in Free World reserves. As we eliminate that flow, a shortage of reserves could emerge. We need to continue our work on the development of supplementary sources of reserves to head off that threat. And we need to perfect our mechanisms for making international credit available to countries suffering from balance of payments difficulties--on terms that will assure orderly correction of imbalances without forcing deflation on deficit countries or inflation on surplus countries.

To go back to a system based on gold alone--to the system which brought us all to disaster in the early 1930's--is not an answer the world will, or should, accept. Rather we must build on the system we now have, a system which has served the world well during the past twenty years.

We have already made an excellent start. Our short-term defenses against speculative crises have proved their strength and flexibility. The proposed increase in IMF quotas is a constructive forward step. Further, for some time we have been jointly exploring with our major trading partners how best to create new reserve assets that will be available if needed to supplement gold and dollars.

We must press forward with our studies and beyond, to action-evolving arrangements which will continue to meet the needs of a fast growing world economy. Unless we make timely progress, international monetary difficulties will exercise a stubborn and increasingly frustrating drag on our policies for prosperity and progress at home and throughout the world.

Let no one doubt it--

We will eliminate our international deficit.

We will maintain the dollar at full value.

Our instruments and our actions must be as strong as our resolve. That is why I have taken the additional steps, and am asking the Congress for the new legislation. These measures will focus our great economic strength more sharply on our payments problem.

This is a problem that involves us all-as workers, as businessmen, as bankers, and as Government officials.

I know that the Congress and the American public will respond in full measure to the challenge.

LYNDON B. JOHNSON

The White House

February 10, 1965