[House Hearing, 108 Congress]
[From the U.S. Government Publishing Office]





                       OPENING TRADE IN FINANCIAL
                        SERVICES--THE CHILE AND
                           SINGAPORE EXAMPLES

=======================================================================

                                HEARING

                               BEFORE THE

                            SUBCOMMITTEE ON
                       DOMESTIC AND INTERNATIONAL
                 MONETARY POLICY, TRADE AND TECHNOLOGY

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED EIGHTH CONGRESS

                             FIRST SESSION

                               __________

                             APRIL 1, 2003

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 108-16



89-081              U.S. GOVERNMENT PRINTING OFFICE
                            WASHINGTON : 2003
____________________________________________________________________________
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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    MICHAEL G. OXLEY, Ohio, Chairman

JAMES A. LEACH, Iowa                 BARNEY FRANK, Massachusetts
DOUG BEREUTER, Nebraska              PAUL E. KANJORSKI, Pennsylvania
RICHARD H. BAKER, Louisiana          MAXINE WATERS, California
SPENCER BACHUS, Alabama              CAROLYN B. MALONEY, New York
MICHAEL N. CASTLE, Delaware          LUIS V. GUTIERREZ, Illinois
PETER T. KING, New York              NYDIA M. VELAZQUEZ, New York
EDWARD R. ROYCE, California          MELVIN L. WATT, North Carolina
FRANK D. LUCAS, Oklahoma             GARY L. ACKERMAN, New York
ROBERT W. NEY, Ohio                  DARLENE HOOLEY, Oregon
SUE W. KELLY, New York, Vice         JULIA CARSON, Indiana
    Chairman                         BRAD SHERMAN, California
RON PAUL, Texas                      GREGORY W. MEEKS, New York
PAUL E. GILLMOR, Ohio                BARBARA LEE, California
JIM RYUN, Kansas                     JAY INSLEE, Washington
STEVEN C. LaTOURETTE, Ohio           DENNIS MOORE, Kansas
DONALD A. MANZULLO, Illinois         CHARLES A. GONZALEZ, Texas
WALTER B. JONES, Jr., North          MICHAEL E. CAPUANO, Massachusetts
    Carolina                         HAROLD E. FORD, Jr., Tennessee
DOUG OSE, California                 RUBEN HINOJOSA, Texas
JUDY BIGGERT, Illinois               KEN LUCAS, Kentucky
MARK GREEN, Wisconsin                JOSEPH CROWLEY, New York
PATRICK J. TOOMEY, Pennsylvania      WM. LACY CLAY, Missouri
CHRISTOPHER SHAYS, Connecticut       STEVE ISRAEL, New York
JOHN B. SHADEGG, Arizona             MIKE ROSS, Arkansas
VITO FOSELLA, New York               CAROLYN McCARTHY, New York
GARY G. MILLER, California           JOE BACA, California
MELISSA A. HART, Pennsylvania        JIM MATHESON, Utah
SHELLEY MOORE CAPITO, West Virginia  STEPHEN F. LYNCH, Massachusetts
PATRICK J. TIBERI, Ohio              BRAD MILLER, North Carolina
MARK R. KENNEDY, Minnesota           RAHM EMANUEL, Illinois
TOM FEENEY, Florida                  DAVID SCOTT, Georgia
JEB HENSARLING, Texas                ARTUR DAVIS, Alabama
SCOTT GARRETT, New Jersey             
TIM MURPHY, Pennsylvania             BERNARD SANDERS, Vermont
GINNY BROWN-WAITE, Florida
J. GRESHAM BARRETT, South Carolina
KATHERINE HARRIS, Florida
RICK RENZI, Arizona

                 Robert U. Foster, III, Staff Director

               Subcommittee on Domestic and International
                 Monetary Policy, Trade and Technology

                   PETER T. KING, New York, Chairman

JUDY BIGGERT, Illinois, Vice Chair   CAROLYN B. MALONEY, New York
JAMES A. LEACH, Iowa                 BERNARD SANDERS, Vermont
MICHAEL N. CASTLE, Delaware          MELVIN L. WATT, North Carolina
RON PAUL, Texas                      MAXINE WATERS, California
DONALD A. MANZULLO, Illinois         BARBARA LEE, California
DOUG OSE, California                 PAUL E. KANJORSKI, Pennsylvania
JOHN B. SHADEGG, Arizona             BRAD SHERMAN, California
MARK R. KENNEDY, Minnesota           DARLENE HOOLEY, Oregon
TOM FEENEY, Florida                  LUIS V. GUTIERREZ, Illinois
JEB HENSARLING, Texas                NYDIA M. VELAZQUEZ, New York
TIM MURPHY, Pennsylvania             JOE BACA, California
J. GRESHAM BARRETT, South Carolina   RAHM EMANUEL, Illinois
KATHERINE HARRIS, Florida


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    April 1, 2003................................................     1
Appendix
    April 1, 2003................................................    47

                               WITNESSES
                         Tuesday, April 1, 2003

Bhagwati, Jagdish, Andre Meyer Senior Fellow in International 
  Economics, Council on Foreign Relations........................    25
DeRosa, David, President, DeRosa Research and Trading Inc........    28
Henry, Peter Blair, Associate Professor of Economics, Stanford 
  University Graduate School of Business.........................    29
Lackritz, Marc E., President, Securities Industry Association....    31
Mendenhall, James E., Assistant U.S. Trade Representative for 
  Services, Intellectual Property, and Investment................     8
Tarullo, Daniel, Professor of Law, Georgetown University Law 
  School.........................................................    33
Taylor, Hon. John B., Under Secretary, Department of the Treasury 
  for International Affairs......................................     6
Vastin, J. Robert, President, Coalition of Services Industries...    34

                                APPENDIX

Prepared statements:
    Oxley, Hon. Michael G........................................    48
    Sanders, Hon. Bernard........................................    49
    Bhagwati, Jagdish............................................    51
    DeRosa, David (with attachments).............................    64
    Henry, Peter Blair...........................................   151
    Lackritz, Marc E.............................................   161
    Mendenhall, James E..........................................   172
    Tarullo, Daniel..............................................   177
    Taylor, Hon. John B..........................................   193
    Vastine, J. Robert...........................................   198

              Additional Material Submitted for the Record

Frank, Hon. Barney:
    Center for Global Development, prepared statement............   208
    Columbia Business school, prepared statement.................   210
    Investment Company Institute, prepared statement.............   215

 
                       OPENING TRADE IN FINANCIAL
                        SERVICES--THE CHILE AND
                           SINGAPORE EXAMPLES

                              ----------                              


                         Tuesday, April 1, 2003

             U.S. House of Representatives,
         Subcommittee on Domestic and International
              Monetary Policy, Trade and Technology
                           Committee on Financial Services,
                                                   Washington, D.C.
    The subcommittee met, pursuant to call, at 10:01 a.m., in 
Room 2128, Rayburn House Office Building, Hon. Peter T. King 
[chairman of the subcommittee] presiding.
    Present: Representatives King, Biggert, Manzullo, Ose, 
Feeney, Hensarling, Murphy, Barrett, Harris, Maloney, Sanders, 
Sherman, Hooley, Velazquez and Frank (ex-officio).
    Chairman King. [Presiding.] The hearing will come to order. 
I welcome all of you here today.
    Today, the Domestic and International Monetary Policy, 
Trade and Technology Subcommittee meets to discuss the 
financial services-related aspects of the recently announced 
free trade agreements. While the issue of trade is generally 
the ambit of other committees, this subcommittee is 
specifically responsible for international investment policies, 
both as they relate to U.S. investments for trade purposes by 
citizens of the U.S., and investments made by all foreign 
entities in the United States. This also includes trade as it 
relates to the U.S. financial sector as a key service industry.
    Today, the subcommittee examines the recently concluded 
free trade agreements with Chile and Singapore. The United 
States reached agreement with these allies on December 10, 2002 
and January 15, 2003 respectively. Many have suggested these 
agreements will help provide a framework going forward from 
which the United States can negotiate with other countries and 
regions. Specific to financial services, these agreements will 
provide much-needed certainty and transparency to allow U.S. 
investment to operate with confidence in these expanding global 
markets. National treatment, capital controls, transparency of 
financial regulation and efficient administrative review are 
just some of the many complex issues that U.S. negotiators have 
addressed in coming to resolution on these specific FTAs. I 
commend Ambassador Zoellick and his team at USTR and the 
Treasury for the work they have done on behalf of the working 
men and women of this country. As a supporter of U.S. free 
trade, I look forward to working with the administration to 
ensure implementation of these agreements.
    I recognize that with any negotiated agreement that there 
will be some who disagree with its provisions. While we can 
agree to disagree, I hope that if there is discussion on these 
disagreements, it will be based on facts and conclusive 
evidence. Today, we have a strong two-panel group of witnesses 
ranging from administration officials to academia to the 
private sector. I look forward to a lively debate on the merits 
of these trade agreements and would remind members that as the 
Financial Services Committee, we would greatly appreciate that 
the topic of discussion remain focused on financial service 
trade issues.
    I now recognize my New York colleague and ranking member, 
Mrs. Maloney, for opening statements.
    Mrs. Maloney. Thank you, Mr. Chairman, for granting this 
hearing, and thank you especially, Ranking Member Frank, for 
working to include this topic in the subcommittee's agenda. I 
know it is an area that you have great expertise and have done 
a great deal of work.
    As the lone world superpower and with U.S. forces engaged 
militarily around the world, the importance of using U.S. 
economic strength to spread American values gains heightened 
importance. Through promotion of rules-based fair trade 
policies, the U.S. has had an opportunity to lead the 
international community for the benefit of both rich and poor 
countries, while at the same time increasing opportunities for 
U.S. businesses and workers. By and large, the bilateral trade 
agreements between the U.S. and Chile and the U.S. and 
Singapore advance this effort. Both agreements knock down 
restrictions on domestic markets that serve to increase in 
efficiency and punish consumers who often pay the cost of 
protectionist policies. In financial services, these bilateral 
agreements offer U.S. companies exciting new opportunities in 
areas as diverse as excess to ATM networks, to increased 
opportunities to compete in new insurance markets.
    Given the many positives in these agreements, it is 
disappointing that our trade negotiators held out for a 
controversial position on capital controls that seeks special 
protection for U.S. investors. The trade agreements contain 
investor-state dispute settlement procedures that determine how 
U.S. investors can win damages if Chile or Singapore violate 
the free transfer provisions in each agreement. Reports 
indicate that these protections for U.S. investors were 
included at the urging of the Treasury Department, and that 
these negotiations over these provisions were some of the most 
contentious areas in the negotiations. Effectively, these 
provisions allow U.S. investors to seek damages in the event 
that Chile or Singapore take measures to limit capital flight 
in the event of a reoccurrence of an Asian financial crisis-
like emergency. While Chile and Singapore are unlikely to need 
to impose capital controls, many economists have expressed the 
concern that the administration will insist on these provisions 
as a template in future trade negotiations with less stable 
countries.
    Such a policy could lead to a situation where wealthy U.S. 
bondholders have legal claims against a country that has 
imposed capital controls, while all other investors face losses 
and where the country's own people are suffering through an 
economic collapse. This special status for U.S. investors sends 
the wrong message about promoting free trade and could increase 
anti-American feelings. Critics of this policy have said its 
effects are to protect a special class of capitalist, rather 
than to promote stable capital markets.
    In addition to the fairness argument, many economists 
including some at the IMF increasingly believe that the 
imposition of limited capital controls can be an effective 
means of stemming the flight of hot money. In the short term, 
capital controls can increase stability and reassure investors 
that economies are not prone to sudden collapse. I note that 
the witnesses who will express concern about capital controls 
in their testimony today are otherwise staunch free traders. I 
think this lends credence to the argument that at the very 
least, the effectiveness of capital controls is open to debate 
and the rigidity of the administration's position is a concern 
of many mainstream trade supporters and economists.
    I yield back my time.
    Chairman King. Mrs. Biggert, any opening statements on this 
side? I recognize the ranking member of the full committee, Mr. 
Frank.
    Mr. Frank. Thank you, Mr. Chairman.
    Let me pick up from where the ranking member of the 
subcommittee left off with her excellent statement. What is 
striking to me is the number of leading advocates of increased 
trade who are critical of this inclusion of capital 
restrictions. We will have a very distinguished economist, 
Professor Bhagwati; we will have Mr. Tarullo, who helped in the 
Clinton administration push forward with trade agreements, some 
of which I did not agree with.
    I want now at this point to enter into the record a 
statement, first from Nancy Birdsall, who is president of the 
Center for Global Development, a strong supporter of free 
trade.
    [The following information can be found on page 208 in the 
appendix.]
    Chairman King. Without objection.
    Mr. Frank. I appreciate that.
    Secondly, I want to read excerpts from it. I will include 
statements from Joseph Stiglitz. I must say Professor Stiglitz 
and Professor Bhatwati are two of the acknowledged experts 
internationally in support of sensible liberalized trade and a 
globalization that will take us where we ought to go. It is 
impressive to me that both of them are quite critical of this 
particular inclusion of restrictions on capital controls. I 
will now read Mr. Stiglitz's statement. ``The importance of the 
subject of these hearings cannot be overestimated.''
    Let me say that he was not able to come because of 
scheduling problems.
    ``The provisions of the recent trade agreements with Chile 
and Singapore limiting government interventions in short-term 
capital flows are a major source of concern. Everything should 
be done to eliminate them from the agreements and to make sure 
that such provisions are not inserted into future trade 
agreements. Reducing trade barriers can be of benefit to all 
parties. Problems are encountered, however, when trade 
agreements go beyond trade issues, as in this case, forcing 
countries to undertake measures which should be a matter of 
national sovereignty. Such provisions have earned trade 
agreements a reputation for undermining democracy, and I 
believe that sometimes these accusations are deserved.
    ``It is of salient concern with a particular provision that 
risks imposing considerable harm on the country. Much of the 
instability in global financial markets in recent years, 
especially in the emerging markets, has been related to short-
term capital flows. Capital rushes into a country and just as 
quickly rushes out, leaving havoc in its wake. The crises in 
East Asia were largely caused by premature capital market 
liberalization. The volatility is particularly hard on the poor 
and serves to create poverty. It is the low-skilled workers who 
bear the brunt of recessions and depressions. Chile, in its 
period of rapid economic growth in the early 1990s, imposed 
restrictions on the in-flow of capital. I believe such 
restrictions played an important role in its growth and 
stability.
    ``By the same token, developing countries in Asia that have 
grown the fastest, done the most to eliminate poverty and 
exhibit the greatest stability, have all intervened actively in 
capital markets at critical stages in their development, and 
many continue to do so today.
    ``Let me be clear, while there were financial interests in 
the United States that might benefit from forcing countries to 
open up to the short-term capital flows, and there are even 
some who have benefited from the resulting economic chaos by 
buying assets at fire-sale prices only to re-sell them at great 
profit when economic calm has been restored, forcing countries 
to open up their markets to these short-term capital flows is 
not in the interests of the United States. It is in our 
interest to have a more stable global economy. It is in the 
interest of businesses that are investing abroad that there be 
greater economic stability.
    ``Yet economic research has identified short-term capital 
market liberalization as the single most important factor 
contributing to the instability in Asia and Latin America. 
Today, there is a growing consensus among economists against 
liberalizing capital markets for short-term capital flows for 
most emerging countries. Even the IMF has recognized this. The 
extent and form of capital market liberalization is a matter 
which should be left for each country to decide through 
democratic processes.
    ``We can encourage a full democratic debate on these issues 
with a public discussion of experts in developed and developing 
countries, debating the advantages and disadvantages. But we 
should not be using our economic power and the promise of 
increased investment and exports to impose the viewpoint of a 
particular set of interests or a particular ideology on our 
trading partners.
    ``The arguments for trade liberalization are totally 
distinct from those for capital market liberalization. They 
share in common but one word--liberalization. There is an 
emerging consensus among economists that emerging markets 
should be particularly wary about full capital account 
liberalization. It makes little sense for our trade agreements 
to be pushing on our trading partners restrictions which fly in 
the face of sound economics.''
    Let me just reiterate, it is clear we in this case imposed 
on both Chile and Singapore over their initial objections and 
their continuing objections this particular addition to free 
trade. I think that it is very important to understand, I would 
hope that we would move toward a consensus on freer trade, 
globalization, taking into account other values. This inclusion 
of a very rigid particular ideological view using America's 
power to impose these in individual free trade agreements goes 
exactly in the opposite direction.
    Chairman King. Thank you, Mr. Frank. I would ask if any 
other members have an opening statements, that they submit them 
in writing so we can get to the statements of our witnesses.
    Mr. Sanders?
    Mr. Sanders. Thank you very much, Mr. Chairman.
    This is an important hearing. It is an important hearing 
because it raises discussion about our trade policy. It is 
important to begin to talk truth about our trade policy and 
recognize that from beginning to end our trade policy has been 
an outrageous failure. And it is incomprehensible to me that 
people keep coming forward--we had Alan Greenspan in front of 
the full committee a couple of months ago talking about the 
ongoing success of our trade policy. I wonder. I scratch my 
head and I say, what world are these people living in?
    If our trade policy is such a success, Mr. Chairman, why do 
we have a $400 billion trade deficit? Why in the last two 
years, and let me reiterate this, because it is not talked 
about too often by all the editorial writers who support free 
trade, how come in the last two years on our ongoing success of 
free trade, we have lost close to two million manufacturing 
jobs--10 percent of our manufacturing workforce? How come 20 or 
30 years ago, General Motors used to be the largest employer in 
America where workers earned a decent wage?
    And Mr. Chairman, you know who the largest employer in 
America today is? It is Wal-Mart, where large numbers of people 
are on food stamps. How come any concrete examination of NAFTA 
will tell us that it has been a disaster for the people of 
Mexico, for the middle class, the poor people of Mexico, as it 
has been a disaster for working people in this country?
    I returned from China a month ago. It is not just that we 
have a $100 billion trade deficit with China. If anybody thinks 
that all the Chinese are going to be doing is stuffing teddy 
bears and making sneakers, you are absolutely mistaken. All of 
the evidence is there. It is not just blue collar jobs that are 
going to be replaced. It is white collar jobs and that is 
taking place right now. All of the evidence is there.
    Mr. Chairman, I have a long statement which I would like to 
submit for the record. But I think that extending our trade 
policy should be laughed out of the Congress. We should be 
saying, are you serious? Obviously, you are joking, aren't you, 
coming here asking us to extend a disastrous trade policy. You 
are not really serious? We all have a good sense of humor. But 
to tell us to extend a disastrous trade policy which is causing 
havoc not only for the middle class, the working class of this 
country, but for poor people all over the world. Tell us about 
what is going on in Latin America--Venezuela, Argentina, the 
huge uprisings, mass demonstrations against the IMF, against 
these trade policies.
    Now, obviously we understand what goes on in American 
politics. Large corporations flood this building with huge 
contributions. Yes, I admit it. Trade policy works well for 
those companies that want to throw American workers out on the 
street and hire poor people for pennies an hour. Yes, I grant 
you. It works well for those CEOs that make a few hundred 
million dollars when they retire. But for the poor people of 
the developing world and for the middle class of this country, 
it is a failure, and the idea that we are thinking of extending 
our trade policies should be laughed out of this office.
    I would ask unanimous consent to allow my statement to be 
submitted for the record.
    Chairman King. The gentleman's time has expired. Without 
objection, his full statement will be made part of the record.
    [The prepared statement of Hon. Bernard Sanders can be 
found on page 49 in the appendix.]
    With that, we will go to our first panel today--the 
Honorable John B. Taylor, Under Secretary of Treasury for 
International Affairs, and Mr. James Mendenhall, Assistant U.S. 
Trade Representative for Services for Investment and 
Intellectual Property. We will begin with Mr. Taylor.

 STATEMENT OF HON. JOHN B. TAYLOR, UNDER SECRETARY OF TREASURY 
                   FOR INTERNATIONAL AFFAIRS

    Mr. Taylor. Thank you very much, Mr. Chairman, and Ranking 
Member Maloney for calling this hearing and inviting us to 
testify. I would like my oral remarks to just summarize briefly 
the written testimony and submit the written testimony to the 
record.
    Chairman King. Without objection, your full statement will 
be made part of the record.
    Mr. Taylor. I would like to focus in my oral remarks on 
provisions related to trade in financial services and to 
investment in capital transfers in the free trade agreements 
with Chile and Singapore. Let me focus first on trade in 
financial services.
    We believe that reducing barriers to trade in financial 
services is an essential part of a good trade policy which aims 
to reduce barriers of all kinds to trade. Open financial 
sectors lead to more growth. They lead to a better allocation 
of savings. They lead to better services for people who take 
advantage of the better financial services. There is a 
reduction in the barriers to trade in financial services that 
is part of the two free trade agreements that we are discussing 
today. For example with respect to Singapore, Singapore has 
agreed as a matter of opening its market to financial services, 
to lift the ban it has had on new licenses for banks to operate 
in Singapore. It has also allowed for banks to get access to 
additional ATMs that are run by local banks. And it has reduced 
the limits to the number of ATMs that banks can have. So you 
can just see by these examples that these are the kind of 
things that improve the financial services that are available 
to people in Singapore, and at the same time bring business 
opportunities to U.S. firms.
    With respect to Chile, Chile has agreed that it would make 
prior notice to any regulatory changes that might have bearing 
and implications for financial service firms. It is also 
providing more access to financial advisers and financial 
management firms who want to take a role in the management of 
the Social Security accounts in Chile. These are just some 
examples of the specific things that U.S. firms and consumers 
in Singapore and Chile can benefit from from reducing the 
barriers in financial services. On top of all those, as a 
chapeau, is an agreement that there would be a lock-in, a 
commitment not to remove these commitments, not to increase the 
barriers their current levels, so that there is no going back 
from the position where the countries are with respect to 
financial services.
    Let me now briefly talk about the investment in capital 
transfers part of the agreements. Reducing barriers to the flow 
of foreign investment is also an essential for raising economic 
growth and reducing poverty in countries around the world. More 
capital means there is more capital for workers to use to 
produce, to raise their productivity. Access to capital is an 
essential way to reduce poverty by raising productivity. One of 
our major objectives in this administration is to reduce 
barriers to the flow of capital to emerging markets in 
developing countries in general, and thereby having greater 
productivity and lower interest rates as well. I just might 
mentioned as an aside that the president's proposal for 
Millennium Challenge Accounts, which is aimed at the very 
poorest countries in the world, has as a feature a way that 
their policies will be ones that attract foreign investment and 
attract capital so that again productivity can increase and 
poverty can be reduced.
    Another example of how our policy is aimed to improve 
foreign investment around the world is our long-term BIT 
policies, the bilateral investment treaties, which have been 
underway for the last 20 years. These bilateral investment 
treaties are an effort to make the policies in the countries 
more welcoming to foreign investment so that the countries 
themselves can benefit from it, as well as the foreign 
investors.
    Now, our FTAs with Singapore and with Chile have endeavored 
to stick with this policy of free transfers that exists in our 
bilateral investment treaties. I would say that all sides to 
these agreements with respect to the Chile, the Chileans and 
the Americans, with respect to Singapore, the Singaporeans and 
the Americans--they have agreed that there is an importance to 
have this free transfer of capital. They agree that 
restrictions on transfers would clearly not be consistent with 
the goal of encouraging investment to raise productivity and 
reduce poverty.
    As with the rest of the free trade agreement, there is a 
dispute settlement mechanism that we put in place. It comes 
into play when there is a restriction placed on goods trade, 
service trade, or on capital transfers. The dispute settlement 
mechanism that we negotiated with respect to capital transfers 
we think makes a lot of sense and it is one that both the 
Chileans and the Singaporeans are happy with, as we are. In the 
case of restrictions on capital, there is a cooling off period 
before a dispute settlement mechanism comes into place. For 
foreign direct investment type of investment, the cooling off 
period is for six months before action can be taken. For other 
types of restrictions, the cooling off period is for 12 
months--other types of restrictions on shorter-term capital 
movements--direct loans. So there is a longer cooling off 
period for the types of capital transactions and capital flows, 
capital transfers that several of you have already raised in 
your opening remarks.
    We think this dispute settlement mechanism builds on 
current practice, but allows for a compromise for different 
views about how capital markets work. We think it is a good 
place to have the subject of transfers dealt with in 
agreements. It is a novel approach and we think it works quite 
well.
    Let me just summarize after giving these specifics. We 
think that the approach undertaken in these FTAs is consistent 
with a shared economic philosophy and policy perspective of all 
three countries that we are talking about--the United States, 
Chile and Singapore. The inclusion of these free transfer 
provisions, as I have just described it, in the Chilean and 
Singaporean FTAs with the United States we think sends a strong 
signal to the markets that all these countries support the free 
flow of capital and they recognize its importance to the 
development and growth of economies. Without a doubt, these 
agreements represent a win-win situation for all the countries 
involved.
    I would like to thank you very much, Mr. Chairman, and to 
your colleagues, for the opportunity to testify here and look 
forward to a discussion of these issues.
    Thank you.
    [The prepared statement of Hon. John B. Taylor can be found 
on page 193 in the appendix.]
    Chairman King. Thank you, Secretary Taylor.
    Mr. Mendenhall?

    STATEMENT OF JAMES E. MENDENHALL, ASSISTANT U.S. TRADE 
   REPRESENTATIVE FOR SERVICES, INVESTMENT AND INTELLECTUAL 
                            PROPERTY

    Mr. Mendenhall. Good morning, Mr. Chairman, Ranking Member 
Maloney and Mr. Frank and other members of the committee. I 
appreciate this opportunity to come before you today to testify 
on the financial services chapters in the Chile and Singapore 
free trade agreements. I particularly look forward to this 
discussion because I am newly appointed in my current position 
as assistant U.S. Trade Representative and this is my first 
opportunity to discuss these issues with you.
    Since the passage of the Trade Act of 2002, we have pursued 
an aggressive trade agenda. As stated by Ambassador Zoellick, 
we are proceeding with trade initiatives globally, regionally 
and with individual nations. This strategy creates a 
competition in liberalization, with the United States at the 
center of a network of initiatives. The recently completed 
agreements with Singapore and Chile represent the first of the 
next generation of trade agreements. We have also launched FTA 
negotiations with five other countries or regions, and at the 
same time the free trade are of the Americas negotiations are 
ongoing and are set for completion by January of 2005. On the 
multilateral front, just yesterday the United States submitted 
its initial offer in the current round of services negotiations 
in the WTO.
    For several reasons, Chile and Singapore provided a good 
point of departure. First, the United States has a growing and 
significant economic interest in trade with these countries. 
Second, specifically with respect to financial services, 
Singapore and Chile have taken steps to open their financial 
sectors. Both countries respect the concept of the rule of law 
and were in a good position to explore market access-enhancing 
concepts relating to transparency of regulatory structures. 
They have already committed to moving in the right direction 
for many sectors and our FTAs will reinforce these trends.
    Finally, the Chile and Singapore FTAs provide good toe-
holds for expanding liberalization in South America and Asia 
respectively. The liberalization of financial services was one 
of our main objectives in negotiating the Chile and Singapore 
FTAs. In the final texts, we achieved the objective set forth 
in TPA to eliminate discriminatory and other types of 
restrictive measures on the supply of services. The United 
States already enjoys a significant competitive advantage in 
financial services in international markets, and the market-
opening initiatives in the Chile and Singapore FTA and in other 
for a should create additional opportunities for our financial 
services suppliers. Opening foreign markets for exports of U.S. 
financial services has two added advantages. First, it creates 
jobs and expands economic opportunities. For example, states 
like New York, California, Florida, Illinois, Massachusetts and 
Pennsylvania depend on financial service activity to contribute 
to their economic growth and tax base. Also by expanding access 
to financial services, it enhances prospects for economic 
growth at home and abroad.
    Second, the opening of foreign markets for financial 
services creates export opportunities for other sectors. For 
example, financial services companies rely heavily on 
specialized software and data processing, thereby creating 
increased demand for computer-related services which is another 
strong point of the U.S. export picture. And as countries 
develop their economies with the help of foreign financial 
services, those countries consume a wider range of goods and 
services, which benefits U.S. exporters more generally.
    The financial services chapters in the Chile and Singapore 
FTAs cover all means of supply that are relevant for financial 
services trade, and include a set of important core 
protections. The agreements require national and most-favored-
nation treatment, which ensures that U.S. financial service 
suppliers are treated on equal terms with their foreign 
competitors. They also include a market access obligation to 
ensure that measures such as quantitative restrictions and 
requirements regarding forms of legal entities do not undermine 
general market access rights. Lack of transparency is also a 
major problem facing our financial service suppliers, and we 
have included provisions that directly address this more 
subtle, but equally insidious market access barrier. In 
addition, we have provided rights for foreign-owned 
institutions to introduce new financial services when certain 
conditions are met.
    Finally, I would like to say a word on the issue of capital 
controls. The issue of capital controls is clearly complex, yet 
we have to recognize the potentially serious negative impact 
capital controls could have on U.S. investors. Our FTAs contain 
safeguards to allow American investors to have access to their 
funds, while at the same time they grant Chile and Singapore 
the flexibility to manage capital flows.
    The Chile and Singapore FTAs mark a significant advance 
over commitments in other fora. For example, unlike in some 
other agreements, our Chile and Singapore FTAs adopt a 
presumption that national treatment will apply unless a 
specific sector is carved out. Chile and Singapore have agreed 
to commitments across a wide array of financial services that 
exceed the level of the current GATT's commitments. In some 
cases, they have undertaken commitments to preserve existing 
levels of openness that go beyond their GATT commitments, while 
in other cases they have agreed to commitments that go beyond 
the current practice. We would be pleased to discuss specific 
commitments with you here today or to meet separately with you 
and your staff to discuss in further detail.
    While we have moved aggressively to open foreign markets, 
we are sensitive to the careful balance struck through our own 
political and legal processes between regulatory and commercial 
interests. In fact, while the United States agreed to a high 
level of access under the Singapore and Chile FTAs, 
implementation of the financial services chapters in the FTAs 
will not require any changes to U.S. law or practice.
    We can expect real benefits to accrue to the U.S. economy 
as a result of the Chile and Singapore agreements. As we 
advance a strong trade promotion agenda, we remain ever-mindful 
of the objectives Congress asked us to achieve when it granted 
trade promotion authority. I look forward to working with you 
and your staffs in the future as we strive to continue opening 
markets around the world. I thank you for the opportunity to 
testify here today.
    [The prepared statement of James E. Mendenhall can be found 
on page 172 in the appendix.]
    Chairman King. Thank you, Mr. Mendenhall.
    As you can determine from some of the opening statements, 
there is a concern, I believe, by certain members of the 
committee and certain members in the Congress that in certain 
elements of the negotiations the United States may have used 
coercion or improper pressure to cause Singapore and Chile to 
agree to, or to make certain concessions they would not have 
made otherwise, specifically in the area of capital controls. 
If you could address that to the extent you can, how the give 
and take went, and why you feel that this is essential as far 
as capital controls.
    Mr. Taylor. I would say the give and take was healthy and 
candid, like any other negotiation that I have been involved 
with. The issues are very complex, as Mr. Mendenhall indicated. 
There are different points of views. But I think what was most 
often emphasized to us is that the free transfers of capital is 
important by Singapore and by Chile. They have those policies 
in place right now. Neither country has capital controls in 
place. We were working with them. In fact, many of the ideas 
that are in this were mutually reached in the discussions. So I 
would say that they were good. They were healthy. Some of them 
took place in Singapore. Some of them took place in the United 
States. They were part of a larger trade agreement, to be sure, 
in which there were many issues being discussed. Financial 
services and some of the others we discussed here, but there is 
trade in goods as well.
    Chairman King. Mr. Mendenhall, do you have anything to add 
to that?
    Mr. Mendenhall. I agree with everything that Under 
Secretary Taylor just said. I think in the give and take of 
these negotiations, it is just that--a give and take. However 
much we may like to lay down the law on a particular point and 
force our trading partners to accept it, it is a negotiation. 
In fact, I believe where we ended up with on capital controls 
was the result of a negotiation. It was not the result of the 
United States imposing its will in any way, although Under 
Secretary Taylor would know this more than I would on that 
particular issue. I believe that was the case here.
    Chairman King. Secretary Taylor, in your testimony you 
discuss the president's MCA initiative. Can you go into more 
detail on that as to how you believe the requirements of the 
MCA will make this country more attractive to investors?
    Mr. Taylor. Mr. Chairman, the Millennium Challenge Account 
is a program which is designed for which funds will go to 
countries that are following policies that are conducive to 
economic growth. Many of those same policies are conducive to 
foreign investment. So for example, there are the three 
categories of policies--ruling justly, investing in people, and 
encouraging economic freedom. In the ruling justly part of the 
policies, there is an emphasis on the rule of law so for 
example, foreign investors know the rules of the game before 
coming into a country. It is a very important part of the 
Millennium Challenge Account--the rule of law. In the 
encouraging economic freedom section, there is a commitment to 
have a low inflation rate, a stable macroeconomic environment, 
which is also conducive to foreign investment. It creates 
greater certainty. In the investing in people part of the 
Millennium Challenge Account, it is a commitment for countries 
to invest in their people, in education and health. So 
obviously, a good well-educated workforce is one of the best 
ways that foreign investment can be productive in a country.
    So just for example, as you know, some foreign investment 
in Africa has taken advantage of countries where the skill 
level is rising. In Ghana for example, education is improving 
and we see U.S. firms and other firms going in to take 
advantage of that for computer work, for call centers. Those 
are the kind of foreign investments that can actually improve 
well-being in the country directly. The Millennium Challenge 
Account encourages that through the policies that I indicated.
    Chairman King. Mr. Mendenhall, do you have anything to add 
to that?
    Mr. Mendenhall. No, I agree.
    Chairman King. Mrs. Maloney?
    Mrs. Maloney. Thank you for your testimony. Secretary 
Taylor and Mr. Mendenhall, in future trade agreements and 
negotiations, what will be the position on capital controls? Is 
the language in the Chile and Singapore agreements an example 
for future negotiations? Is this something we are going to 
continue or is this just for these two very strong economies, 
Chile and Singapore?
    Mr. Taylor. I think the strategy of focusing on dispute 
resolution is one that we have found attractive in dealing with 
these negotiations, and we would like to see how that works 
with respect to other countries.
    Mrs. Maloney. So do you plan to use this in other trade 
agreements? That is what I want to know.
    Mr. Taylor. Yes, I think the dispute resolution mechanism 
is a good way to handle this. It is very attractive to both 
Chile and Singapore, but the specifics will differ by country. 
I gave the example of the six-month and twelve-month--maybe 
those numbers would change. I gave examples of what kind of 
foreign direct investment type of investments at the six-month. 
Maybe that would change. But I would say it would depend on 
what the country wants to do. The country is negotiating with 
us. They have their own interests and their own desires. We 
think this general approach works well, and would like to try 
it out as we go, but it is flexible. It is one of the good 
advantages of it, it is flexible. And it does have this 
constant ability for us to emphasize the importance of foreign 
investment and free transfers and not putting restrictions on 
capital, at least trying to stay away from that as much as 
possible. That is a philosophy that is embedded in the 
approach.
    Mrs. Maloney. Secretary Taylor, your testimony reads, and I 
quote, ``our position is to seek greater protection for U.S. 
investors than the IMF articles of agreement and the GATTs 
afford,'' end quote. If this language is included in trade 
agreements with countries that are more prone to economic 
collapse than Chile and Singapore, are you concerned about the 
international fall-out in a situation where U.S. investors win 
compensation, while all other foreign investors face losses and 
while a suffering country's own people are experiencing an 
economic collapse?
    Mr. Taylor. The comparison with the GATTs is important. The 
way I think about it, an FTA, a free trade agreement, is an 
effort to get a reduction in barriers compared to what you 
would have if you did not have a free trade agreement. It is an 
opportunity for both countries to reduce barriers compared to 
what would exist out there under the GATTs or under other 
multilateral trade agreements. So it is natural that the 
barriers are less in a free trade agreement and that is what 
you are seeing here. With respect to other countries, as we go 
forward, I just go back to my previous answer that it will 
depend on the country's situations and what they really would 
like. We have noted in just going over our BITs and reviewing 
all the BITs we have had, that there are many very poor 
countries who welcome the opportunity to pledge to make it 
clear in an agreement that they were very welcome to foreign 
investment and very open. My best guess is other countries are 
going to do that as we do more BITs and as we do more FTAs, but 
it very much depends on the countries and the negotiations.
    Mrs. Maloney. I want to follow up on if we go into these 
trade agreements and U.S. investors are able to recover for 
losses caused by imposing the capital controls, won't foreign 
investors learn to channel their own investments through U.S. 
investment banks, so that they would get the protection of the 
U.S. trade agreements? It is not going to be long that they are 
going to see if I put my money in, I cannot get it out; if I go 
through the U.S., I will be able to get my money out. Does that 
increase efficiency? What would the impact of that be? If I 
were a foreign investor, I would immediately start going 
through U.S. banks to make sure I could have the same treatment 
that U.S. investors have.
    Mr. Taylor. I think that is an observation which is 
important. I think that if you recognize the dispute settlement 
mechanism that we are using here in the free transfers is 
similar to dispute resolutions that occur in other places. For 
example, it is called investor state, and investor-state gives 
the opportunity for individuals to take action in an agreement 
like this.
    Mrs. Maloney. I was not aware other countries had the same 
language. I thought we were unique in that respect.
    Mr. Taylor. What I was going to say is it occurs in other 
trade agreements. I have not observed any particular phenomenon 
that you are mentioning in our other agreements. In a way what 
we have done in the capital area here is lengthen the cooling 
off period from what it was otherwise, because the six-month 
cooling off period in other agreements I do not know exactly 
the time in the BITs, but there is always a cooling off period 
of some kind; there is always and investor-state dispute 
resolution mechanism in all of our bilateral investment 
treaties, and in NAFTA.
    Mrs. Maloney. But Mr. Secretary, even after a year couldn't 
they face the same problems with the economic collapse of their 
own people, other investors not being able to get their money 
out? Even after a year, you would still have the same elements 
that could be problematic, wouldn't you?
    Mr. Taylor. The year gives it more time to sort things out, 
and it is a substantial period with respect to any of the 
desires or any of the requests that I have ever seen that the 
countries would like to put on controls like this. So that 
leeway seemed very acceptable to both Chile and Singapore, and 
I believe to other countries as well. Remember, neither 
Singapore nor Chile are using these controls right now.
    Mrs. Maloney. My time is up. Thank you for your testimony.
    Chairman King. Mrs. Biggert, the vice-chair of the 
subcommittee.
    Mrs. Biggert. Thank you, Mr. Chairman.
    The Asian financial crisis has been cited here and it is 
often cited by proponents of capital restrictions as a reason 
why developing countries should be able to limit the movement 
of capital within their borders. But wasn't the Asian crisis 
the result of a weak banking system and cronyism and 
ineffectual regulation? With increased trade in financial 
services and greater regulatory transparency, will countries 
that were once vulnerable to currency crises be stronger and be 
able to withstand economic downturns?
    Mr. Taylor. Yes, I agree with that very much. What we have 
seen when investment is open to foreign companies or financial 
services firms, it frequently brings in better prudential 
regulations. With respect to the first part of your question, 
yes I very much agree that a lot of the crisis had to do with 
currency mismatches, where liabilities and assets did not match 
by currency, and that was because of defective regulations in 
many cases. So that can be improved and I think the foreign 
investment and the experience of financial service firms in the 
United States and other developed economies can be very 
helpful.
    Mrs. Biggert. And then going back to the short-term 
restriction on the transfer of capital which was put in for 
Chile and Singapore, can you give the committee any examples of 
where capital restrictions were responsible for preventing a 
crisis or promoting growth?
    Mr. Taylor. No, I cannot personally give you examples, but 
looking at the many examples where capital controls have been 
applied, sometimes they change the maturity structure of debt, 
maybe more longer term, less short term. There is evidence for 
that in Chile. That has not, in my view, had an impact on 
crises. But it has also had disadvantages. There are some 
recent studies that show that those same controls made it more 
difficult for small firms to get credit, to get access to 
markets. So it had a bias against small firms in the country. 
So often these kinds of controls have impacts that you do not 
even know about when you are putting them on. There are always 
disadvantages, even studies that try to find and look for the 
benefits of a capital control, that it really was effective in 
stemming a crisis or in remedying a crisis. As I read the data, 
I do not see them used effectively that way. But even when they 
are used, you see the other harmful effects that come from 
them.
    Mrs. Biggert. Our U.S. financial service products are some 
of the most effective and most sophisticated in the world. How 
will increases in trade in financial services result in greater 
economic stability in these countries and what impact will 
greater access to capital have on Chile and Singapore? Maybe 
Mr. Mendenhall can answer that.
    Mr. Mendenhall. I will have to leave it to Under Secretary 
Taylor to talk about the specific economics of it. But I think 
there are several studies out there available, the most recent 
on coming out of the University of Michigan talking generally 
about the liberalization of trade in goods and the benefits for 
developing and developed countries alike. I apologize I do not 
have specifics for Chile and Singapore, but this particular 
study for example said that just for the United States that for 
services alone, a one-third cut in services restrictions would 
result in a gain for the United States of $150 billion. I think 
there are studies out there supporting, maybe not of the same 
magnitude, but supporting benefits for the average Chilean and 
Singaporean citizens as well.
    Mr. Taylor. If I could just add briefly, I think the 
Chilean economy is a real success story in Latin America. They 
have withstood lots of crises. A lot of that is because of the 
openness of the economy. In the financial services area, they 
are relatively open already, so the examples of the increased 
openness are smaller than in the case of Singapore. But the 
economic stability is improved when banks run more efficiently, 
when there is more prudential investments and better 
regulations. What we have found in Mexico and other countries, 
that the foreign investment, again whether it comes from the 
U.S. or other countries, improves the efficiency and the 
regulatory oversight in ways that are beneficial for economic 
stability.
    Mrs. Biggert. It has been about the last 10 years that 
Chile has had much more stability, isn't it? It seems to me 
that before that there was pretty wild fluctuation in their 
currency and the financial markets. Why is that?
    Mr. Taylor. The Chileans have chosen a number of good 
policies--the openness which is now even better with the FTA 
that is coming, but the also the policy with respect to keeping 
inflation down. They basically, it used to be they had hyper-
inflation for many, many years, big ups and downs, triple-digit 
inflation numbers. In the early 1990s, they went to a policy 
that focused on getting inflation down. It has been very 
successful, but it is just one example of the improvement in 
policies that they have had.
    Chairman King. The gentlelady's time has expired. The 
gentleman from Massachusetts, Mr. Frank.
    Mr. Frank. Thank you, Mr. Chairman. I want to reemphasize 
we are not talking here--no one is arguing, I believe, that 
capital controls are always a good thing or they ought to be 
mandatory. We are talking about a very extreme argument on the 
other side that says they are never a good thing and they ought 
to be prohibited, and that no government democratically elected 
might be even allowed to experiment with them.
    Mr. Taylor, you keep talking about the cooling off period, 
but I am afraid the ice is in the eyes of the beholder here. It 
is not as cooling off as you say, because while you have to 
wait six months in the case of foreign direct investment and 12 
months in the case of foreign direct investment and 12 months 
in the case of portfolio investment to bring a complaint if you 
are an aggrieved private investor, in either case if you decide 
to bring it, in the first place that is the decision of the 
private investor--no government intervention can dissuade you; 
and secondly, your damages go back from the day it happened. In 
other words, the six and twelve month cooling off periods are 
cooling off periods when you can file your claim, but you do 
not delay the effective of this. So that a country that decides 
to impose controls on short-term capital, yes, someone might 
have to wait 12 months, has to wait 12 months before claiming 
damages, but if that private individual decides to claim 
damages, it is the absolute right of that private individual to 
go to the arbitration panel--there is no government role in 
this on either side--and the damages accrue from the first day. 
Isn't that accurate?
    Mr. Taylor. That is accurate if the controls on these 
particular types of capital last for longer than year and if 
they substantially impeded transfers, yes.
    Mr. Frank. Right. And of course, the definition of 
``substantially impede'' is nowhere in the agreement. We have 
not been able to get anybody to tell us what that means, and it 
will be left to them. We ought to be very clear about this, 
because these are very important policy issues, as all the 
questions are made clear. But the ultimate determination is 
left to these private arbitration panels which can be triggered 
by private aggrieved individuals. So what is a substantial 
impediment would be left to that group.
    Now, you make a distinction here, which I am struck by, 
because I do not think you carried through, frankly, with it in 
policy terms, between foreign direct investment and portfolio 
investment. I think if we were talking about foreign direct 
investment, there would be much less objection here. You talked 
about providing funds for workers. Short-term capital flows--
does our government really think that there are never times 
when a country, particularly one that might not have a well 
developed banking system--the gentleman from Illinois said, 
well, the problem was not liberalized capital flows; it was a 
poor banking system. But our problem is enforcing these capital 
flows when people have weak banking system, and it seems to me 
that is what--I see no indication you do not plan to do that in 
any case. But are there no cases where controls on the short-
term capital flow in countries that do not have fully developed 
regulatory systems would be a good idea?
    Mr. Taylor. I think the important thing is they get the 
prudential regulations in place so that the chances of 
financial----
    Mr. Frank. Okay. Let me ask you this question. I accept 
that answer, but then the question is, does that mean that you 
will not be including these provisions in any free trade 
agreement with a country that does not have a well developed 
regulatory system financially?
    Mr. Taylor. I was indicating to Ranking Member Maloney, as 
we go through and consider future free trade agreements, we are 
going to have to consider what the countries want. As you say, 
these are democracies.
    Mr. Frank. Oh, let us leave aside what they want, because 
the question is whether you will be pressing, the United States 
will be pressing--is it a prerequisite for your insisting on 
these kind of provisions that the trading partner in this case 
have a well developed regulatory system? That would be 
particularly a problem, say, with the free trade area of the 
Americas. Let me ask you this specifically, does every country 
that would be encompassed in the FTAA have a well developed 
financial regulatory system, in your judgment?
    Mr. Taylor. I think, as you know, the FTA agreements that 
we are considering are with countries that we want to be doing 
all the things with respect to their policies.
    Mr. Frank. So there is no country that would be included in 
the FTAA that does not have a good financial----
    Mr. Taylor. Well, I hope that they can all improve and get 
better. But your question about whether we insist on this 
imposition, it is really not the way to think about it. We 
negotiate with a point of view which we think is a good point 
of view, a good philosophy. We have listened. We negotiated.
    Mr. Frank. Mr. Taylor, I am sorry to have to say this, but 
that is not true, and I know that first-hand. I have been in 
conversations with the Ambassador of Singapore. The United 
States market is the eighth wonder of the world. We have 
developed fortunately for us an economy that is extraordinary. 
Access to the American market, access to American capital is 
obviously enormously important, particularly when you were 
talking about bilateral agreements. The ability of an 
individual country to refuse to deal with America is quite 
minimal. I know as a fact that the Singaporeans would have much 
preferred not to have had this. They were for free trade. They 
did not want to give in to this, and I know this from the 
ambassador from Singapore, who sought me out when my colleagues 
and I objected in a letter that we sent to the Treasury, saying 
do not push for this.
    So I have to say I am disappointed by what I think is an 
inaccurate characterization you give of these negotiations. I 
think it is clearly a case where the enormous economic power of 
the United States was put in the service of an ideology and 
some economic interests, but I believe it was primarily the 
ideology, and that the Singaporeans assented. I will tell you 
this, and my time is up, but I think that probably also 
accounts for the fact that your testifying partner has been 
significantly less enthusiastic in this testimony than you have 
been. I think it is clear that in fact this is the Treasury 
Department imposing not just on Singapore, but on the U.S. 
Trade Representative.
    Thank you, Mr. Chairman.
    Mr. Taylor. If I could just answer briefly, these are 
negotiations. They are give and take. Different parties have 
different interests. That must be clear in every single 
negotiation that takes place, whether it is on a reduction for 
trade in a particular good or a particular commodity or whether 
it is trade in financial services or whether it is these 
issues. We had a lot of discussion in our government on these, 
and this agreement represents a compromise which was 
negotiated.
    Mr. Frank. I agree, but you have just acknowledged, I 
think, the United States and Singapore saw themselves as having 
different interests. I understand why the Singapore government 
felt they had to give in to you on this important point, 
although very reluctantly.
    Chairman King. Mr. Mendenhall, do you want to comment on 
the gentleman's observation on your level of enthusiasm?
    Mr. Frank. I would note, Mr. Chairman, that was not a 
volunteered intervention. I appreciate that.
    [Laughter.]
    Mr. Mendenhall. I generally have a penchant for 
understatement. I am quite enthusiastic about these particular 
agreements.
    Mr. Frank. I would hate to see you when you were bored, Mr. 
Mendenhall.
    [Laughter.]
    Mr. Mendenhall. Part of my silence on this issue is because 
I was not at the table for most of this. I am newly appointed 
to this position, and I observed much of it from afar. But I 
think the points that Under Secretary Taylor has made are 
correct. In fact, I know we fully endorse them. In our view, 
the particular provisions that we negotiated on, or that my 
colleagues have negotiated on capital controls strike an 
appropriate balance between the regulatory interests and the 
commercial interests. I think the points that Under Secretary 
Taylor has made on those points are quite powerful. Again, just 
a general comment on whether or not the United States was 
unilaterally dictating the terms of these agreements, I think 
that is--in fact, I know that is not the case. This was the 
result of a compromise, as were many other provisions in the 
FTAs. There were many things that we wanted to get at the end 
of the day.
    Mr. Frank. A compromise between our wanting it and their 
not wanting it on this one issue. That is all I would agree.
    Mr. Mendenhall. Again, to the extent that we wanted it and 
they did not want it, I defer to Under Secretary Taylor. But 
again, there are points of convergence and that is what the 
compromise is about. That is what the negotiation was about and 
that is where we ended up at the end of the day. Did both sides 
get everything they wanted in every aspect of these FTAs? No, 
probably not. This was a negotiated compromise. That is the 
nature of what a negotiation is for a free trade agreement and 
any other area.
    Chairman King. I would advise the gentleman from 
Massachusetts that is really an unfair standard to apply to 
witnesses to expect them to match your level of exuberance.
    [Laughter.]
    That is a very unique level, and witnesses can have other 
talents besides being as exuberant at the gentleman from 
Massachusetts.
    Mr. Frank. Well, if the majority would let me pick more of 
the witnesses, we might have a little more energy here.
    [Laughter.]
    Chairman King. The gentleman from Florida, Mr. Feeney.
    Mr. Feeney. Thank you, Mr. Chairman, and thank you, 
gentlemen.
    Earlier, one of my colleagues suggested that the 
restriction on capital controls might tend to favor U.S. banks 
and that investors would seek the protection provided by these 
agreements. Granted that that is certainly a possibility, isn't 
there also a corollary benefit that it will discourage 
countries that otherwise might be in a haste to exercise those 
capital controls on their own banks? And isn't there also the 
possibility that those countries will focus increasingly on 
sound monetary policy, good regulatory practices with respect 
to their own financial institutions? And isn't there a 
potential net positive effect on their internal mechanisms 
coming from doing the right thing with respect to U.S. 
investors and banks?
    Mr. Taylor. Yes, I agree with that very much. The controls 
and restrictions have benefits that sometimes go to particular 
individuals, but they have harms that are broad. You are 
pointing out some of the harms that can actually occur in the 
country themselves. We are focusing on rights for foreign 
investors, but the harms actually I think are more pervasive in 
the country itself. Just for example, short-term capital flows 
sometimes are bank loans, short-term bank loans. A lot of 
businesses need bank loans for various purposes. So if there 
are restrictions on those of any kind, it is harmful to the 
businesses that are trying to get the loans. That is just an 
example. So every time one of these restrictions is put in 
place, it has harmful effects. In fact, I think people would 
prefer not to use the restrictions and that is what we have 
found in the case of Singapore and Chile. They would prefer not 
to use them, and we gave them in this agreement an opportunity 
for flexibility in case they really had to in the future, but 
they were very reluctant to do it.
    Mr. Feeney. Mr. Mendenhall, I do not know how enthusiastic 
you can get about helping countries reform their banking 
regulation and fiscal policy and monetary policy, but maybe you 
can add to that.
    Mr. Mendenhall. I think in large part, it would be our 
policy that the countries should reform independently, even if 
what we do in the free trade agreements. The free trade 
agreements are a useful tool to prod them along, to lock in the 
commitments that they have already made.
    Mr. Feeney. And just so competition helps improve goods and 
services in countries, so it may improve regulatory practices 
with respect to financial institutions.
    Mr. Mendenhall. I think that is correct, and I think that 
has been our approach on our whole trade agenda. That is one of 
the reasons we are being so aggressive on our free trade 
agreements is we expect this competition for liberalization, 
which is why we are pursuing liberalization of financial 
services, both in the WTO and on the free trade agreement side. 
We might be able to get more or less in some areas, and make up 
for it or complement it in other areas. So I think that is 
right.
    Mr. Feeney. If I can, several of my colleagues here, and I 
think at least one of the professors is going to address this, 
has suggested that there is some huge difference between free 
trade practices and free capital flow regulatory issues. They 
have actually suggested that some of us free traders are not so 
free when it comes to letting countries regulate their own 
capital flow. But indeed, isn't there another way to look 
through the prism at this, and that is that to protect a 
country's ability to essentially confiscate or freeze the flow 
of capital actually encourages protectionism in those 
countries. What you are protecting is faulty monetary policy 
and bank regulations. Can't you look at it through the free 
trade prism?
    And finally, because I see my time is almost up, you will 
not get to respond if we wait to the suggestion that bilateral 
agreements somehow will ultimately interfere with the ability 
to deal with multinational approaches to free trade, so if I 
could have the gentleman weigh in on the first question with 
respect to aren't we really suggesting, some of my colleagues, 
that what we want to do is to protect bad regulatory behavior, 
(A); and (B) is it true that promoting bilateral agreements 
with friends is somehow going to undermine the ability to deal 
with multinational free trade throughout the globe?
    Mr. Mendenhall. Sure, I will address those comments in 
turn. I think the dichotomy between free trade and free 
movement of capital is a bit false. What we are really talking 
about is free markets, opening free markets. So that principle 
I think would apply equally to both free movement of trade and 
free movement of capital. The nature of those problems may 
differ. The free movement of capital and the regulatory issues 
related to financial services are complicated, in many cases 
more complicated that dealing with reductions of tariff 
barriers and that type of thing. But I do not think that 
changes the underlying fact that the free market principles is 
what we are trying to enshrine and promote in these trade 
agreements.
    On the point about whether, if I understood the question, 
is whether bilateral agreements, the pursuing of a bilateral 
trade agreement agenda undermines or undercuts the multilateral 
initiative--did I understand that question correctly? Okay. We 
do not believe that. In fact, we believe that they complement 
each other. One of the points I wanted to raise in my testimony 
was that this is certainly Ambassador Zoellick's philosophy and 
it is the philosophy that we are pursuing, that we are pursuing 
bilateral, regional and multilateral initiatives at the same 
time, precisely to encourage competition and liberalization. In 
fact, we are even doing it within the same region. We are 
pursuing free trade agreements with Central American countries. 
We just concluded the trade agreement with Chile. At the same 
time, we are pursuing the FTAA. We are engaging in these 
bilateral discussions because you can frequently make much more 
progress in a bilateral context than when you are negotiating 
in a multilateral context. But they all have value and they all 
complement each other in many ways. The advantage of the 
bilateral context is, one, you can make progress; two, you can 
tailor the specific provisions if you need to to specific 
problems that are in a country. You do not always get reduced 
to the lowest common denominator.
    Chairman King. The gentleman's time has expired. The 
gentleman from Vermont.
    Mr. Sanders. Thank you very much, Mr. Chairman.
    What I would like our guests to do, and thank you very much 
for being with us today, is, I am going to make some what I 
believe to be statements of fact. When you disagree with me 
with exuberance or not, just tell me where I am wrong.
    The United States believes, this administration, previous 
administrations believe very strongly in pushing free trade and 
globalized liberalization. This country today has a $400 
billion trade deficit, the largest in our history. We have $100 
billion trade deficit with China. In the last two years, we 
have lost 1.7 million manufacturing jobs, and at 16.5 million 
jobs, we now have the lowest number of manufacturing jobs in 
the United States in the last 40 years. Anything I have said 
that you disagree with? I do not see any disagreement, Mr. 
Chairman.
    Mr. Taylor. Just on the facts, of course.
    Mr. Sanders. Yes.
    Mr. Taylor. There is a causality that is implicit, but we 
can come back.
    Mr. Sanders. If you disagree with the facts, please, but 
you are not disagreeing with what I have said.
    You will not disagree with the fact that over the last 
number of years there has been a transition in our economy from 
manufacturing to service industry jobs, and that most service 
industry jobs pay workers less than manufacturing jobs. That is 
what is happening in the United States, which indicates to me a 
failure of so-called free trade. Let me quote from the New York 
Times of September 4, 2002. I think we can all agree that the 
flagship of free trade, the model that we looked at, is NAFTA. 
The New York Times, by the way, strongly supported NAFTA when 
it was passed; article, September 4, 2002--you will forgive me. 
I am, needless to say, excerpting. ``It has been two decades 
since Mexico committed itself to free trade reforms aimed at 
propelling this country into the developed world. But 
government statistics show that economic liberalization has 
done little to close the huge divide between the privileged few 
and the poor and left the middle class worse off than before. 
According to a recent government report, in the year 2000 half 
the Mexican population lived on about $4 a day, with scarcity 
shifting along with the population from rural regions to 
cities. Some 10 percent of Mexicans at the top of the economic 
period controlled close to 40 percent of the nation's wealth. 
Meanwhile, the 35 percent of Mexico's population that lives in 
the middle, with average earnings of about $1,000 a month, 
spirals slowly downward. The economist Rogelio Ramirez de la 
Oze, said that in the 1970s, when Mexico's population was 50 
million and the country had begun to enjoy the benefits of an 
oil boom, some 60 percent of Mexicans were middle and working 
class. Their numbers and buying power have declined 
dramatically since then,'' Mr. Ramirez said.
    In other words, free trade and NAFTA has failed for Mexico. 
It has failed for the United States' workers in the United 
States. I believe that if you look at what is going on in 
Argentina, what is going on in Venezuela, what is going on in 
Brazil and other countries throughout Latin America, you will 
find the same story.
    So my first question, starting off, and there are two 
questions I would like to ask, Mr. Mendenhall, is why are you 
here telling us that we should defend a policy which has failed 
American workers and failed the poor people and the middle 
class of developing countries? My second questions--of course, 
we are here dealing with financial services--let me quote from 
Business Week, February 3, 2003, quote, ``In the past year, 
Bank of America has slashed 3,700 of its 25,000 tech and back-
office jobs, an additional 1,000 will go by March. Ex-Bank of 
America managers and contractors say one-third of those jobs 
are headed to India, where work that cost $100 an hour in the 
U.S. gets done for $20. Bank of America acknowledges it will 
outsource up to 1,100 jobs to Indian companies this year. My 
second question is, in terms of free trade in financial 
services, how many decent-paying, middle class jobs do you 
expect will be lost?
    Two questions, why are you telling us to expand free trade 
when it has been by and large a disaster for working people in 
this country and for poor people abroad? Number two, in terms 
of financial services, how many jobs will American workers 
lose? Mr. Mendenhall, could you start it please?
    Mr. Mendenhall. Sure. I do not know all the numbers that 
you cited in the beginning. I cannot take issue as to whether 
they are right or wrong. I will assume they are. I do not know 
the sources. I think there is, as Under Secretary Taylor 
started to explain earlier, there is a tendency, I think, to 
load too much onto trade, perhaps for the bad and for the good. 
Trade is often blamed for the world's evils and on the other 
hand, trade is often viewed by some as the panacea for all the 
world's ills. The true answer is probably somewhere in the 
middle. So when you talk about loss of manufacturing jobs or 
the other factors that you cited, Under Secretary Taylor is 
entirely correct that we have to look at the cause of those 
particular losses. So I do not know for sure what the causative 
factors are for those losses.
    Mr. Sanders. If I may, sir, thank you--but when the 
evidence is overwhelming that companies are laying off American 
workers and going to China and to Mexico, can you doubt that 
trade and this policy plays a significant role in limiting 
manufacturing jobs, cutting back on manufacturing jobs in 
America?
    Mr. Mendenhall. I can tell you that the United States----
    Mr. Feeney. [Presiding.] The gentleman's time has expired. 
Without objection, he is yielded another 30 seconds.
    Mr. Sanders. I thank the gentleman, but I would ask for 
roughly the same amount of time as some of my colleagues had. I 
am not going to go on indefinitely. Do we have a vote, by the 
way? Did I hear bells go off? Did anyone hear that? No.
    Mr. Feeney. We will try to let you know, but if we can, to 
answer that question, we will try to go on and stick to the 
five-minute rule. We do have another panel of witnesses.
    Mr. Sanders. Okay. Yes, I understand.
    I understand your point that trade is not the end all. 
There are other factors, but I find it very difficult to hear 
people keep coming forward when the evidence is overwhelming 
that for the middle class, working class in this country, and 
for poor people abroad, this policy has largely failed. Mr. 
Taylor, did you want to comment on that?
    Mr. Taylor. I do not think it has failed at all. I think 
you are pointing to some trends about manufacturing and 
services that have been going on for many, many years. Our 
productivity in manufacturing is increasing at leaps and 
bounds, so to provide the same number of products, workers are 
going into services, which the United States has a great 
comparative advantage; and some very sophisticated services, 
some very high-paying services. So I think that is something 
that is going on, and as long as it is being done in a way that 
is beneficial to workers and firms, it is fine.
    Mr. Sanders. It does not concern you that millions of 
American jobs are now in China, where people do jobs at 30 
cents an hour.
    Mr. Taylor. I do not think millions of American jobs are in 
China.
    Mr. Sanders. You do not believe that?
    Mr. Feeney. The gentleman's time has expired. The gentleman 
from Texas is recognized for five minutes.
    Mr. Hensarling. Thank you, Mr. Chairman.
    Mr. Secretary, when the Administration sits down to 
negotiate a trade agreement with Singapore, is the 
Administration there to advocate, negotiate on behalf of 
Singapore's interests or the U.S.'s interests?
    Mr. Taylor. No, it is on behalf of the U.S. interest.
    Mr. Hensarling. For those who wish to invest in Singapore, 
for those who wish to trade in Singapore, have you heard, have 
you seen any evidence, have you heard any evidence, or 
testimony that they prefer capital controls, or that they want 
to increase the risk of the loss of their capital?
    Mr. Feeney. Mr. Taylor and Mr. Mendenhall, if you would 
pull those mikes a little closer to you we could hear better 
and the recording secretary could hear you better.
    Mr. Taylor. No, I have not heard requests for capital 
controls from U.S. financial representatives.
    Mr. Hensarling. Mr. Mendenhall, in your testimony, you 
indicate that the U.S. provides a substantial portion of the 
world's financial services, which I think many members of this 
panel are aware of. You point to several statistics that show 
we run a trade surplus in certain aspects of financial 
services. I must admit I am not one who is concerned about 
trade deficits. For example, I run a trade deficit with my 
barber every month. I run a trade deficit with my grocer every 
month. I am more concerned about whether or not my income is 
increasing and whether I have enough income to pay my bills. 
For those who are concerned about the trade deficit figure, if 
we are running a surplus in many aspects of financial services, 
a trade surplus, can you speak to the impact of capital 
controls on the further export of U.S. financial services?
    Mr. Mendenhall. I can speak to it briefly. On the surplus 
issue, I think on the services side, not just financial 
services, but services as a whole, the United States is 
essentially running a trade surplus overall, as opposed to the 
trading goods sector. On the impact of capital controls, I can 
speculate what that would be. I would imagine the riskier that 
the investment would be in foreign markets, whether they be 
Singapore, Chile or elsewhere, if there is a high risk of 
capital controls being imposed that it would lessen the degree 
of investment and lessen the degree of cross-border 
transactions, and therefore reduce the surplus, would be my 
speculation.
    Mr. Hensarling. Mr. Secretary, can you speak, give us a 
little bit more detail about the regulatory transparency that 
has been negotiated in these two trade agreements?
    Mr. Taylor. The regulatory transparency in the case of 
Chile is one in which they have agreed to, for example, make 
formal notification if there is a change in regulation, so that 
becomes very clear and is not a surprise. In the case of 
Singapore, there is just more information put out about the 
regulations, more transparent in the sense of more public 
notice in general.
    Mr. Hensarling. Thank you.
    Mr. Mendenhall. If I could just say a word about that as 
well, the transparency provisions I think are fairly central to 
the financial services chapter. I know it is of critical 
importance to our own financial services industries. In many 
ways, it parrots what we do in the United States. We have a 
publication and comment period. We have time frames for issuing 
or responding to applications for permits for financial 
services and so on. The reason I wanted to come back to the 
point is because I got an earlier question dealing with how 
these agreements might promote stability in some of these 
countries. I think the transparency provisions by making the 
markets more open, promoting information sharing, promoting the 
formulation of good regulations--all of that I think 
contributes to the rule of law and the stability of these 
financial regimes. Thank you.
    Mr. Hensarling. Thank you, Mr. Mendenhall. In the few 
seconds I have left, Mr. Chairman, if I could simply state for 
the record, coming from Texas, which is a lot closer to the 
nation of Mexico than the state of Vermont, I can tell you that 
NAFTA has been an incredible success on both sides of the 
border. Approximately one out of six jobs in Texas results from 
export and trade, principally with Mexico. If you have traveled 
south of the border, you see how many people have been 
liberated from poverty because of the American investment along 
the border, particularly in the maquiladors.
    Thank you, and I yield the balance of my time.
    Mr. Frank. Would the gentleman yield for one second?
    Mr. Feeney. This is not the geography committee.
    The gentleman from New York, you are recognized for five 
minutes.
    Mr. Manzullo. Illinois is a long way from New York.
    Mr. Feeney. I am sorry. Mr. Manzullo, you are recognized.
    Mr. Manzullo. I appreciate it. Thank you very much.
    What was that, Barney?
    [Laughter.]
    It is good to see you here. I would like to see everybody 
here on one panel, because I would--it would be delicious if 
Professor Bhagwati were there and able to point for point meet 
with Ambassador Zoellick on the efficacy of these regional free 
trade agreements, as opposed to world free trade agreements as 
a whole. I do not know if I agree with his calling it a 
Leninist approach, but that certainly would make things pretty 
interesting.
    I have this question. I am the Chairman of the U.S.-China 
Interparliamentary Exchange. We have met with the members of 
the National People's Congress on five different exchanges now. 
We just came back from China in January. Mrs. Biggert and Mr. 
Saunders were with us. One of the problems in the U.S.-China 
WTO accords is the fact that even with the liberalization or 
the ability of the United States' financial institutions to 
establish a presence in China, there has been this incredible 
standard that the Chinese have been setting. I do not want to 
call it deposit reserves, but in terms of almost a separate 
licensing requirement. It is obviously a non-tariff barrier, 
but it is just not working to get our people in there.
    I know it is not related to the issue of capital flight or 
anything like that, but what have we learned from the fact that 
there perhaps is a lack of specific language in the U.S.-China 
WTO accord, and to take that lesson and put it in future 
agreements so that we do not have the continuous problem of 
fighting with the foreign government as to exactly what the 
reserve requirement is.
    Mr. Mendenhall. I think I am going to have to defer on that 
question myself. I would be happy to meet with you afterwards 
to talk about the specifics. I do not know the specifics of 
that.
    Mr. Taylor. Just briefly, the WTO agreements are of course 
much different than these FTAs we are talking about, which are 
regional.
    Mr. Manzullo. Regional.
    Mr. Taylor. Yes, but not only that, they get better 
agreements in some sense; more substantial tariff reductions. 
Perhaps that is the issue that Professor Bhagwati is concerned 
about. But the nature of the FTAs is they do get more specific 
about these kinds of things. In fact, these capital control 
issues we were talking about are just exactly the kind of 
deposit regulations you are referring to. In this free trade 
agreement with Chile, we have endeavored to reduce the 
likelihood that those would take place. It was very specific. 
That is one of the advantages of free trade agreements, or more 
general trade agreements. The WTO is not as substantial as 
these free trade agreements.
    Mr. Manzullo. But it could have been. I know, Mr. 
Mendenhall, you are the new guy on the block. I would love you 
to stop by the office and discuss this in depth, obviously at a 
later time. But there is considerable frustration going on. 
Why, when we entered into the China-WTO accession accord, and I 
know that is before you came on board, why can't you have just 
in the matter of--Mr. Taylor, if you want to answer this--why 
can't you have strict provisions with regard to that problem in 
banking reserves, as you would in a regional agreement?
    Mr. Mendenhall. I can answer the question at a certain 
level of generality.
    Mr. Manzullo. That is Okay. Could you pull the mike closer, 
Mr. Mendenhall?
    Mr. Mendenhall. Sure.
    Mr. Manzullo. Thank you.
    Mr. Mendenhall. I can answer the question at a certain 
level of generality because I do not know the specifics of the 
issue you are referring to. But I think the tendency in a 
multilateral setting is that everything tends to get sort of 
reduced, if you will, to the least common denominator. In a 
bilateral or regional setting, the trade-offs are a lot 
clearer. The wants on both sides are a lot clearer, and it is 
easier to just trade one for the other as a single undertaking, 
if you will. The WTO has a great advantage, of course, that the 
global trading community is there, but it has the disadvantage 
of making the trade-offs and the gamin of the system, if you 
will, must be more complicated, and it is just easier to get 
higher standards agreements, if you will, in a bilateral or 
regional setting.
    Mr. Manzullo. Okay. I appreciate that. That really goes to 
the guts of Professor Bhagwati's statement in there. Thank you 
very much. I look forward to meeting with you sometime later.
    Mr. Feeney. And thank you, Mr. Taylor and Mr. Mendenhall. I 
assume that if members of the committee have additional 
questions and would submit them in writing, that you will do 
your best to reply.
    Mr. Mendenhall. Thank you. I appreciate the opportunity of 
testifying today.
    Mr. Feeney. Thank you very much.
    We have another distinguished panel. While you are on your 
way up, I will try to introduce you briefly so we can get 
straight into your testimony and introductions: Dr. Bhagwati, 
Andre Meyer Senior Fellow in International Economics, Council 
on Foreign Relations; Dr. DeRosa, President of DeRosa Research 
and Trading, Incorporated; Dr. Henry, Associate Professor of 
Economics at Stanford University Graduate School of Business; 
Dr. Lackritz, President, Securities Industry Association; Mr. 
Tarullo, Professor of Law at Georgetown University Law School; 
and Mr. Vastine, President of the Coalition of Services 
Industries.
    Welcome. I think we have got your name tags set up in 
order. As soon as you get seated, we will invite Dr. Bhagwati 
to start his testimony.

  STATEMENT OF JAGDISH BHAGWATI, ANDRE MEYER SENIOR FELLOW IN 
     INTERNATIONAL ECONOMICS, COUNCIL ON FOREIGN RELATIONS

    Mr. Bhagwati. Thank you, Mr. Chairman.
    I think a lot of what I am going to say has been partly 
covered by the morning's discussion, but I will still indicate 
some principal points to recap and bring my own emphasis to 
bear. I think there are three questions before this committee. 
One is should we seek to impose serious restraints on the 
developing countries' ability to use capital controls, just a 
general question. Two, should we do this as part of our trade 
agreements. And three, what can we even say about the wisdom of 
the specific provisions which we have in the two agreements 
before us? I will take up these issues in that order.
    First, on the general wisdom of putting restraints on the 
use of capital controls, I am not encouraging people----
    Mr. Frank. Professor Bhagwati, could you pull the mike a 
little closer to you please? Thank you.
    Mr. Bhagwati. On whether we should impose constraints, as 
against encouraging people to use these, we have to be very 
clear whether we want to restrain countries from using these 
kinds of capital controls. I think after the Asian financial 
crisis of 1997 and 1998, nearly all economists in my judgment 
and information, and the International Monetary Fund, publicly 
now, have become much more cautious about the freedom of 
capital flows unregulated, you know, total freedom like total 
free trade. I would distinguish between three different 
contexts to understand this. First, should we pressure 
countries that are not on capital convertibility at all, to 
hasten their progress to doing so? IMF and U.S. Treasury were 
in fact doing this prior to the Asian crisis.
    But both the crisis and the fact that India and China 
escaped it, I think as Under Secretary Taylor was somehow 
forgetful when one of you asked as to whether there were 
examples of people who did well by not going in for capital 
convertibility, and these are two gigantic countries, which 
have been outward-oriented on trade, on foreign investment 
coming into them--China more so than India, but India has 
caught up. They escaped the crisis, the contagion altogether 
and they survived. So we do have examples where countries were 
prudent, maybe excessively prudent, probably too closed--one 
can discuss that--but they really escaped it. So I think IMF 
certainly, and economists have become much more cautious and 
prudential compared to the pre-Asian crisis situation. Second, 
when you are more or less open--this is a different problem--
when you are more or less open financially anyway, should you 
also not be prudent at the same time? The Chilean example with 
the Chilean tax, which might be looked upon as a token tax at a 
country level, was designed to moderate in-flows. So flows 
coming in, when they seemed too large relative to the reserves 
and to the fundamentals at hand--your export capabilities and 
so on--and there I would say, again, people concede everywhere 
that such a tax, as against a permanent capital control, is 
actually a good weapon to have. Not that you want to rush and 
in use it all the time, but it is something you want to be able 
to have as a weapon under your command.
    The third is a more difficult one, namely that when you 
actually have panicky out-flows happening, as part of crisis 
management, do you then resort to capital controls? That is a 
different problem, again. Now, the Malaysians, of course, used 
them during the Asian crisis, and there was more controversy on 
this one. Again, my own judgment from whatever I have studied 
on this problem, is I am inclined to agree with those who have 
actually argued that Malaysians did rather well out of it, 
compared to the countries which took the then-prescription of 
the IMF.
    In conclusion, I would say on the first question, we are 
far more conscious today about the wisdom of not taking an 
ideological or a financial lobby-driven position against the 
use of capital controls. I think today we certainly would be 
emphasizing in the classroom and in every course we will teach 
that, look, this is not on a par with free trade. I think one 
of the Congressman asked me, you know, why is this different? 
The reason it is different is that with trade, which I am a 
great proponent of, as the Congressman from Illinois pointed 
out, that is a very different kind of proposition. I say that 
if I exchange my surplus toothbrush with some of your surplus 
tooth paste, and we remember to brush our teeth before we go to 
bed, we are both going to get white teeth. And the possibility 
of our teeth being knocked out in the process is very 
negligible. But when it comes to the analogy on capital flows, 
it is obvious that really the analogy is like fire. You can 
use, as I have pointed out in my written testimony, Tarzan can 
roast his kill, but if he goes back as the Earl of Greystoke 
and he plays around with fire, he can bring his ancestral home 
down. So you have to be prudent. It is a very elementary point, 
and only ideologically one could be against it today. So I 
think that is number one.
    Now, two, putting any such restrictions----
    Mr. Feeney. Doctor, if I can, we have your written 
testimony, and unfortunately as have a number of distinguished 
witnesses.
    Mr. Bhagwati. Okay. Let me just make one point quickly.
    Mr. Feeney. Yes, sir. Wrap up.
    Mr. Bhagwati. On putting any such restrictions down in a 
trade agreement, I think the Under Secretary was right, that 
trade liberalization should include services. We have a general 
agreement on trade in services. But that is not the issue we 
are discussing. We are discussing whether we should have 
capital controls ruled out, and there it seems to me that there 
is a real problem about bringing this into trade agreements. It 
is not just Congressman Frank or me and others who are worried 
about this. Today, we have had problems, as you know, with 
Chapter 11 and NAFTA, if this is where overly liberal 
ideological views seem to have been taken on takings. And that 
got us into a lot of trouble.
    Today, all the NGOs are anti-globalizers. They are very 
concerned about post-financial crisis about what we are doing 
on the financial issue. If we put something like this into a 
trade agreement, no matter which trade agreement, that is 
immediately going to attract flack. So I think it is 
politically imprudent to mix up trade treaties with capital 
account controls. If you want to shove it into an investment 
agreement, fine, then more of the objections will go there, but 
trade is bad enough--Congressman Sanders was exaggeratedly 
pointing to its perils, in fact erroneously so in my view--but 
you have positions like that. You do not want to mix it up and 
make and over-burden your case.
    [The prepared statement of Jagdish Bhagwati can be found on 
page 51 in the appendix.]
    Mr. Feeney. Thank you, Dr. Bhagwati.
    Mr. DeRosa?

STATEMENT OF DAVID F. DEROSA, PRESIDENT OF DEROSA RESEARCH AND 
  TRADING, FREDERICK FRANK ADJUNCT PROFESSOR OF FINANCE, YALE 
                      SCHOOL OF MANAGEMENT

    Mr. DeRosa. Good afternoon, Mr. Chairman and members of the 
subcommittee. I am David DeRosa. I am president of DeRosa 
Research and Trading, and I am an Adjunct Professor of Finance 
at the Yale School of Management, where I have taught 
international finance for the last six years.
    My testimony is going to be on my position on capital 
controls. In the middle 1990s and continuing up to the present 
time, a great many emerging market nations experienced 
cataclysmic financial crises. Many of these same nations had 
previously been identified as growth miracle economies. 
Examples are Mexico in 1994; Thailand, Indonesia, Malaysia in 
1997; South Korea, 1997, 1998; Russia, 1998; Brazil, 1998; 
Turkey, 2001; Argentina, 2002. These were devastating crises, 
much economic suffering ensued; inflation, unemployment, 
bankruptcies were widespread.
    Now, stock and bond markets plunged and in all of these 
cases, the national currencies depreciated greatly and the 
foreign exchange regime that governed those currencies were 
abandoned. The reaction to the crisis has been largely to 
blame--the international capital markets and in particular the 
foreign exchange market. Some say the afflicted countries were 
victims of capricious international capital flows. Hence, we 
are here today to discuss capital controls in the context of 
some trade legislation.
    I studied economics at the University of Chicago for 10 
years. I have a bachelor's and a Ph.D from the school in 
economics and finance. I have been a currency trader at a major 
bank. I have been an investment manager and I have been a hedge 
fund manager. At present, I am a member of the board of 
directors of two of the most successful hedge funds. That does 
not affect my opinion on capital controls. It just explains my 
experience.
    Now, I want to call your attention to this, because it is 
my sincere belief that much of what happened in the 1990s and 
the last three years has been totally misunderstood. Take this, 
for example: All of the above-mentioned crises that seems to 
have shaped our thinking, all except one, Malaysia, which I 
will come to, took place in economies that had some form of 
fixed exchange rate regimes. In fact, the climax of all of 
these crises were when the fixed exchange rate regime exploded 
or was terminated. Each crisis was marked by a sharp out-flow 
of capital prior to the moment when the fixed exchange rate 
regime was scrapped. Once it was scrapped, there was sharp 
depreciation in the currencies, sometimes as much as 70 
percent.
    In each case, the government replaced the fixed exchange 
rate regime with a floating exchange rate regime. And you know 
what? No more crises. No more crises. Once a floating exchange 
rate, no more currency crises. All of these countries had 
accumulated massive amounts of private and public debt 
denominated in U.S. dollars. So when the exchange rate 
depreciated, the local value of those debts magnified up, 
sometimes two or three times. Preceding the crises, an enormous 
amount of foreign capital flooded into these countries, 
sometimes buying local securities, sometimes as direct 
investment, sometimes as leveraged transactions. But most 
important, all of these trades, which are called carry trades, 
were really not investments per se in the country, they were 
investments in the fixed exchange rate regime. Under the 
umbrella of safety that they thought they had, people invested 
in these countries to get superior interest rates, hoping that 
the fixed exchange rates would preserve the value of their 
capital.
    History has shown that fixed exchange rate regimes are 
crisis-prone. Almost all of them have blown up. It is an 
endemic problem, and it is not just emerging markets, it is 
major countries as well--witness Bretton Woods and the exchange 
rate mechanism. The reason why currencies depreciate so 
violently when fixed exchange rate regimes are abandoned is 
that domestic dollar borrowers and foreign investors all rush 
to hedge their positions. So it is the case of a crowded 
theater, 200 fat men, somebody yelled ``fire,'' and it is a 
narrow doorway. Governments in crises almost always make these 
crises worse, if not considerably worse, by enacting bad 
responses that exacerbate the situation. Thailand, Indonesia, 
Russia, Brazil and Argentina stand out as especially poor 
examples of how to respond to financial crises.
    Now, we have this myth that Malaysia found a kinder and 
gentler way by imposing capital controls. The fact is, Malaysia 
imposed them 14 months after the crisis started. This was a 
spectacular case of locking the barn door after the horse was 
out. In fact, Malaysia also simultaneously pegged the ringgit 
at 3.8 to the dollar and that is where it is today. And 
subsequently, all of the other Asian currencies have rebounded 
substantially. What relief Malaysia got was----
    Mr. Feeney. Dr. DeRosa, if you can wrap up. Thank you.
    Mr. DeRosa. Right. It was simply because it pulled a fast 
one. It devalued the ringgit relative to its neighbors.
    So the point is that you do not really have to worry about 
these crises or capital flows. They are a function of fixed 
exchange rate regimes. You do not need the capital controls. 
They are a bad idea.
    Thank you very much.
    [The prepared statement of David F. DeRosa can be found on 
page 64 in the appendix.]
    Mr. Feeney. Thank you.
    Mr. Lackritz? I am sorry. Dr. Henry?

    STATEMENT OF PETER BLAIR HENRY, ASSOCIATE PROFESSOR OF 
   ECONOMICS, STANFORD UNIVERSITY GRADUATE SCHOOL OF BUSINESS

    Mr. Henry. Mr. Chairman, members of the committee, my name 
is Peter Henry. I am Associate Professor of Economics at the 
Stanford University Graduate School of Business. I am also 
Faculty Research Fellow at the National Bureau of Economic 
Research. My research is funded by the National Science 
Foundation's Early Career Development Program. I have written 
extensively on the economic effects of capital account 
liberalization.
    Thank you for the opportunity to discuss the implications 
of my research for the financial services component of the 
recent U.S. trade agreements with Chile and Singapore. My 
testimony consists of three brief general points. Point number 
one, what is my position on the importance of free trade? Free 
trade in goods, also known as trade liberalization, is the 
linchpin of globalization. All countries can benefit from free 
trade because free trade allows countries to export those goods 
for which they are low-cost producers, and import those goods 
for which they are high-cost producers. This kind of 
specialization brings two specific benefits. First, countries 
get to consume goods at a lower price than would be possible if 
instead of importing the goods, the countries produced them at 
home. Second, specializing in the production of goods at which 
they are more efficient raises countries' gross domestic 
product.
    Trade liberalization is not costless, however. Liberalizing 
trade may cause unemployment by driving inefficient producers 
out of business. In principle, however, the overall gain in 
gross domestic product that result from free trade are 
sufficiently large to pay for the cost of retraining workers in 
redundant industries. In other words, all members of society 
can be made better off from trade liberalization when it is 
judiciously applied. Therefore, we should take the lead in 
promoting worldwide free trade by continuing to open our 
borders to foreign goods and encouraging other countries to 
follow suit. The recent trade agreements with Chile and 
Singapore provide a small step in the right direction.
    Point number two, what is my position on the importance of 
capital controls? A heated debate over capital account 
liberalization has followed in the wake of financial crises in 
Asia, Russia and Latin America. Opponents of the process argue 
that capital account liberalization invites speculative hot 
money flows, increases the likelihood of financial crises, and 
brings no discernible economic benefits. Some economists have 
gone so far as to assert that open capital markets may actually 
be detrimental to economic development. I believe that there is 
a serious flaw with such reasoning. This flaw stems from the 
fact that those who oppose capital account liberalization have 
failed to define exactly what they mean. Why is it important to 
define precisely what one means by the term capital account 
liberalization? The reason is that there are many different 
types of capital account liberalization. At a minimum, we need 
to distinguish between two categories: those that involve 
equity and those that involve debt.
    Consider first equity market liberalization--opening the 
stock market to foreign investors. My research demonstrates 
that three things happen when economies open their stock 
markets to foreign investors. First, the cost of capital falls 
for companies that are listed on the stock market. Second, in 
response to the reduction in their cost of capital, the 
companies that are listed on the stock market increase their 
investment in physical assets. And third, as a result of the 
increase in investment, productivity rises and the country's 
growth rate increases by more than 1 percentage point per 
annum. Since the cost of capital falls, investment booms and 
economic growth increases when countries liberalize the stock 
market. The view that capital account liberalization brings no 
real benefits seems untenable.
    Liberalization of debt markets, on the other hand, has 
often led to great difficulty. For example, excessive short-
term borrowing in dollars by banks, companies and governments 
have played a central role in the onset of almost every 
emerging market financial crisis during the 1990s. In essence, 
the mismatch between the term structure of borrowers' assets, 
which were typically long-term and denominated in local 
currency, and their liabilities, which were short-term and 
denominated in dollars, placed these countries in an extremely 
vulnerable position. Any bad news that made the lenders 
reluctant to extend new loans was bound to create an immediate 
liquidity problem. So we have to distinguish between debt and 
equity. Equity market liberalizations bring about good results; 
debt market liberalizations are much more problematic.
    Point number three, and last point--the lessons for this 
and future agreements on capital controls. The evidence I have 
outlined in this report can be distilled in a few key lessons 
for the capital controls portion of the Chile and Singapore 
free trade agreements. First, the liberalization of dollar-
denominated debt flows should proceed slowly and cautiously. 
This agreement, as well as all future agreements, should 
refrain from any language that inadvertently pushes countries 
into prematurely liberalizing dollar-denominated foreign 
borrowing. The second lesson is that all the evidence we have 
indicates that countries derive substantial economic benefits 
from opening their stock markets to foreign investors. There is 
no reason to think that Chile and Singapore will be any 
different in this regard.
    Thank you.
    [The prepared statement of Peter Blair Henry can be found 
on page 151 in the appendix.]
    Mr. Feeney. Thank you, Dr. Henry.
    Mr. Lackritz, welcome and thanks for being here.

 STATEMENT OF MARC E. LACKRITZ, PRESIDENT, SECURITIES INDUSTRY 
                          ASSOCIATION

    Mr. Lackritz. Thank you, Mr. Chairman. It is a pleasure to 
be here. Thank you for the opportunity to testify. I am Mark 
Lackritz, president of the Securities Industry Association. I 
want to testify in very strong support of these bilateral free 
trade agreements with both Chile and Singapore.
    These agreements will result in increased commerce between 
our respective countries, and in both cases the already close 
economic relationships will be further strengthened, providing 
new opportunities for U.S. securities firms and additional jobs 
in the United States. Importantly, we believe these agreements 
are excellent precedents upon which to build and negotiate 
ongoing and future bilateral and regional trade discussions. 
Both agreements successfully achieve many of the securities 
industry's specific objectives, including, first, permitting 
100 percent ownership and market access. Both of these 
countries are open market and provide U.S. securities firms 
with full market access by the establishment of a subsidiary or 
the acquisition of a local firm. Since the conclusion of the 
1997 WTO financial services agreement, both countries have 
undertaken extensive liberalization of their financial services 
markets. These agreements not only lock in current levels of 
access, but also produce commitments by both countries to 
eliminate and reduce some of the remaining establishment 
barriers.
    In terms of specific commitments, the FTA would for the 
first time afford legal certainty to U.S. firms to establish a 
wholly owned affiliate in Chile to provide asset management 
services on a national treatment basis. Singapore also made 
commitment guaranteeing U.S. membership on the Singapore stock 
exchange, as well as for the acquisition of equity interests in 
local securities firms.
    Increasingly, services must be delivered through a business 
presence in the host country. As a result, the ability to 
operate competitively through a wholly owned commercial 
presence or other form of business ownership must be a 
fundamental element of any agreement. These agreements 
guarantee the ability of U.S. securities firms to enter into 
these markets through the establishment of a subsidiary or the 
acquisition of a local firm. Once established, U.S. securities 
firms will receive the same treatment as domestic companies. 
For example, the free trade agreement with Chile provides 
national treatment to U.S. asset management firms in managing 
the voluntary portion of Chile's national pension system, and 
the ability to manage the mandatory portion of the pension 
system without arbitrary differences between the treatment of 
providers. In Singapore, U.S. firms will now be able to compete 
for asset management mandates from the government of Singapore 
investment corporation.
    In addition, obtaining commitments on regulatory 
transparency was our industry's major goal in the agreements 
with Chile and Singapore. We view the provisions contained in 
these agreements as excellent, and view the FTAs as important 
precedents for transparency of future efforts. The specific 
financial service transparency commitments in the FTAs will 
require that rules cannot be adopted without appropriate public 
notice and opportunity to comment; that requirements and 
documentation for applications be clear; and that decisions on 
applications be made in a specified or reasonable time. The 
ability to freely transfer and process information is essential 
to the business of modern financial services firms. Indeed, 
many products such as instruments built around market indices 
that are vital to smoothing out risk, could not function 
without timely data flows. Nevertheless, too few countries have 
committed to this key link in the financial services 
infrastructure. In this regard, commitments by both Chile and 
Singapore mark a major step forward. Chile made no commitments 
in financial information in the 1997 GATT agreement, while 
Singapore made a limited commitment. The FTAs will now give 
U.S. firms the legal certainty to process and disseminate 
financial information both domestically and cross-border.
    As a general matter with respect to capital transfers, our 
members believe that restrictions on capital flows deprive both 
parties of the benefit of cross-border investment. This is of 
particular concern to financial services companies and others 
engaged in portfolio investment. We welcome the general 
commitment in both agreements to permit the free and immediate 
transfer of capital related to an investment. However, we 
regret that both agreements contain exceptions to this general 
commitment. Our members fervently hope that these exceptions to 
free capital movements will not form a template for future 
agreements.
    In conclusion, Mr. Chairman, we believe these agreements 
offer Congress another opportunity to secure open and fair 
access to foreign markets for U.S. firms and our clients. This 
pact will result in benefits to consumers and businesses in 
both countries, as well as globally. We look forward to 
continue to work with both this committee and the 
Administration in developing a fair, rules-based trading system 
that enhances U.S. economic competitiveness.
    Thank you very much.
    [The prepared statement of Marc E. Lackritz can be found on 
page 161 in the appendix.]
    Mr. Feeney. Thank you.
    Mr. Tarullo, please pull that mike close to you so we can 
hear you.

     STATEMENT OF DANIEL K. TARULLO, PROFESSOR, GEORGETOWN 
                     UNIVERSITY LAW CENTER

    Mr. Tarullo. Thank you, Mr. Chairman.
    Mr. Chairman, I am struck by the fact that it is Chile and 
Singapore we are talking about here. Chile and Singapore have 
been among the most exemplary developing countries in terms of 
their economic policies, their financial policies, and the 
orthodoxy of those policies. The fact that both of those 
countries, neither of which have imposed capital controls on 
out-flows in recent decades, asked that they be allowed to 
retain some capacity to impose capital controls in exigent 
circumstances seems to me a reason why this committee and the 
Congress ought to take a moment and reflect upon the import of 
these capital control provisions as a template for future 
agreements.
    Now, why would Chile and Singapore, as I say, two orthodox 
exemplary sets of macroeconomic policymakers ask for an 
exception? I think it is because of the cumulative effect of 
not just the Asia crisis, but the Mexico crisis, and what they 
have observed over the last decade in an increasingly 
globalized and sometimes turbulent financial system. They want 
to retain the capacity, in an emergency, to do something that 
they otherwise have no intention of doing. The International 
Monetary Fund, which was certainly a proponent of full capital 
account liberalization as recently as seven or eight years ago, 
has just released a very careful study which shows how nuanced 
one has to be in determining when and how capital flows are 
going to be efficient and effective in developing economies.
    Why is it that capital flows do not have the effect in a 
developing economy that they do in the United States, where 
more or less untrammeled capital flows are indeed productive? I 
think it is because we are in that murky realm which economists 
call the world of second-best. Developing countries do not have 
deep and liquid capital markets, by and large. They do not have 
well regulated securities markets. They do not, by and large, 
have sophisticated supervision for their banking systems. For 
all of these reasons, the countries are not able to absorb 
capital flows, particularly shorter term debt flows, in the way 
that the United States or the United Kingdom could. That is the 
reason why Chile and Singapore want this insurance policy, and 
that is the reason why I think we need to pay heed to their 
policymakers, speaking for themselves and on behalf of other 
developing countries.
    What troubles me about the present template is that it is 
really quite absolutist. It really does not distinguish, as Dr. 
Henry is trying to do, among different kinds of capital flows. 
Indeed, I note that the investment chapter of the Singapore 
agreement mentions and includes as an ``investment'' bonds, 
debentures, other debt instruments and loans. Unlike the NAFTA, 
for example, it does not say such bonds, debentures, debt 
instruments and loans of longer than three years duration. It 
is any such bond, debenture, debt instrument or loan. That kind 
of painting with a broad brush seems to me not to incorporate 
the appropriate modesty that we all must have in assessing the 
operation of global financial systems in developing countries 
in the wake of all we have seen in the last decade.
    I am concerned that what we are witnessing here is a bit of 
a triumph of economic creed over economic evidence. What I 
would like to see is more of what Dr. Henry and others are 
doing, of trying to draw distinctions, to see how much we can 
learn, and then through appropriate channels such as the IMF 
and discussions in the G-7, to see if we can come up with a set 
of sensible nuanced standards--standards that are not just 
based upon the textbook finance that apply in the United 
States, but that are based on the real operation of capital 
markets in the murky second-best world of developing countries.
    I do absolutely believe that when the United States enters 
into trade agreements, it ought to be doing so with its self-
interest in mind. But that self-interest needs to be an 
enlightened self-interest. By ``enlightened'' I mean that we 
promote rules which are going to redound to the benefit of all 
of our trading partners, which will produce a more growth-
oriented, stable international economy in which the exports of 
the members of the coalitions represented by the gentlemen on 
my flanks today will be able to prosper. I do not think we have 
an interest in some sort of short-term asset grab, if it is at 
the cost of our ability to promote such sensible rules.
    Thank you very much, Mr. Chairman.
    [The prepared statement of Daniel K. Tarullo can be found 
on page 177 in the appendix.]
    Mr. Feeney. Thank you.
    Mr. Vastine?

STATEMENT OF J. ROBERT VASTINE, PRESIDENT, COALITION OF SERVICE 
                           INDUSTRIES

    Mr. Vastine. Thank you very much, Mr. Chairman. I am here 
to testify on the commercial advantages of the Singapore and 
Chile agreements, and explain why they should be approved by 
the Congress.
    U.S. financial services companies are committed to trade 
negotiations to remove barriers to trade and investment. In any 
form, these barriers are very extensive. We would be glad to 
supply lists by countries of the kinds of barriers our 
companies face. The industry's $6.3 billion trade balance in 
cross-border trade in financial services last year would grow 
if we could remove these barriers. Indeed, reducing barriers to 
U.S. services trade is our best hope to reduce the chronic 
goods trade deficit that Congressman Sanders has referred to.
    Indeed, in order to try to add some light to the statistics 
raised earlier by Mr. Saunders, there were 20 million new 
services jobs created in our economy between 1992 and 2002. 
That more than offset the loss of manufacturing jobs. It is not 
correct to think that those jobs are low-paid, poor jobs. In 
fact, there are some, of course, as there are in manufacturing, 
low-paid jobs in services. But the average annual earnings in 
services in 1999, which is the last year for which we have 
data, were $32,800 compared to $32,400 in manufacturing. So it 
is not true that services jobs in general on the whole are low-
paying jobs. Just to add one more statistic, between 1990 and 
2001, U.S. total employment increased from 92 million to 115 
million in the private sector. That is not the evidence of a 
country that is being laid waste by its foreign trade policies.
    Singapore and the Chile agreements, to go back to the 
subject, deal with the trade agenda of financial services 
companies more thoroughly than any other trade agreement to 
date. The Singapore and Chile markets are small, but the 
agreements are important precedents. They should be approved by 
Congress because, first, they fulfill the negotiating 
objectives of the TPA Act. Secondly, they bind liberalization 
already adopted by the two countries. Thirdly, they make 
commitments to new liberalization. For example, the provisions 
in the Singapore agreement on banking give U.S. banks 
significant new rights to operate as qualified full banks in 
Singapore, and to create and join ATM networks. They include 
commitments to cross-border services trade in insurance. Both 
agreements allow U.S. companies to offer many more products 
such as reinsurance auxiliary services, including actuarial and 
other consulting services, marine aviation and transport cross-
border, and brokerage services.
    They provide for freedom of financial information flows for 
firms like Reuters. They contain important commitments to 
freedom of establishment, that is to say direct investment. You 
cannot sell a life insurance policy to a Singaporean from an 
office in New York. You have to establish. As Mr. Lackritz said 
earlier, services trade is characterized by this need to 
establish, to enter a market, to set up your business, and to 
sell a product. This creates, as in the case of New York Life 
in India, a lot of new jobs in New York and elsewhere in our 
country. It supports the home offices of our companies.
    Next, the agreements contain extensive commitments to 
transparency, which are very, very helpful--indeed, a 
breakthrough. They contain new provisions for improved 
regulatory quality. They provide modest provisions, but 
important ones, for the movement of people for temporary 
foreign assignments, which is a very important way in which 
financial services are traded. Finally, the agreements have 
sound investment chapters, which include of course commitments 
to freedom of capital transfers. We join the Securities 
Industry Association in noting that the agreements have 
measures to compensate private investors in case a country 
controls capital movements. I would just like to point out that 
these measures can backfire against the country that wants 
them. Countries that reserve the right to use controls may risk 
chilling the investment climate to their own disadvantage. It 
is like putting up a sign on the highway into town, ``investors 
are welcome, but we reserve the right to keep your cash.''
    Finally, Mr. Chairman, we believe these agreements are in 
our national interest and the Congress should approve them. 
They fulfill the TPA negotiating objectives. They are the 
result of substantial industry consultation. They contain some 
real breakthroughs, like in transparency. They are good 
precedents for FTAs with larger economies. They can seriously 
increase our financial services trade, especially if broadened 
among other countries, and increase U.S. jobs and prosperity. 
Finally, they can help reduce the goods trade deficit.
    Thank you very much.
    [The prepared statement of J. Robert Vastine can be found 
on page 198 in the appendix.]
    Mr. Feeney. And thank you.
    Congressman Frank, if it is all right with you, why don't 
you take about 10 minutes and then I will defer to you, and 
then I will conclude if we still have some time and interest.
    Mr. Frank. Thank you, Mr. Chairman. I appreciate this.
    Let me say, I was pleased to hear Mr. Vastine say that this 
goes much further in terms of accommodating the prudential 
interests than any previous treaty. I think that is a far more 
accurate description than Mr. Taylor saying, oh, it is just 
what we have always been doing. I think Mr. Taylor 
significantly understates the difference.
    I was particularly interested in Professor Henry's 
distinction. I welcomed it, with regard to debt versus equity. 
To some extent, I think that they are overlapping categories. 
There are short-term, long-term. There is foreign direct 
investment in portfolio and there is debt and equity. They have 
substantial overlap. What strikes me, Professor Henry, is that 
the interesting thing about these provisions is they do not 
make that distinction that you so carefully made. I wonder if 
you would care to comment on whether or not when we do this, we 
ought to take those fundamental differences into account.
    Mr. Henry. One of the reasons that I wanted to point that 
out was actually when I read through the agreement myself, the 
chapter on investment, it struck me that there were two 
separate issues. One issue is to what extent do you actually 
require a country to open up to various kinds of investment, 
and that issue does not seem to be addressed at all in the 
current investment agreement. What the current investment 
agreement addresses is really the second issue, which is given 
the decision to open up to certain kinds of investment, how do 
you treat foreign versus domestic holders of a given asset? The 
point that I just wanted to make, just so it would be on the 
record and people can think about it, is that I think the first 
point, the extent to which we actually require or possibly 
inadvertently push countries to open up to certain kinds of 
investment prematurely, is something that we should move away 
from.
    Mr. Frank. And again, the problem I think many of us have 
with these sets of treaties is that they do not make those 
distinctions. There were things--nondiscrimination, national 
treatment--a number of these things--access to ATMS--which are 
very good things. The point that Professor Bhagwati made, who 
has been a very strong support of free trade, is that the 
danger here is that this will undercut precisely the kind of 
support for trade that we wanted.
    Mr. Tarullo, one other point you noted, because again Mr. 
Taylor keeps saying this is just more of the same, you noted 
that with regard to NAFTA I think it was, there was a three-
year requirement that is not here in this treaty. Is that 
correct, with regard to bonds, et cetera?
    Mr. Tarullo. Congressman Frank, there are a number of 
differences between the NAFTA provisions covering investments 
and those in the Singapore agreement. I am not able to get a 
copy of the Chile agreement. Apparently the Administration has 
not formally released it, but I gather it is pretty much the 
same. The one difference I mentioned in my testimony, which is 
that the definition of investment in NAFTA covers debentures, 
bonds, other debt instruments which are of longer than three 
years duration. Obviously, that was distinguishing between 
shorter and longer term. Another point of difference is----
    Mr. Frank. And here there is no such distinction.
    Mr. Tarullo. Not that I am able to find, sir. No.
    Mr. Frank. I was told there is not, that there is no short 
term, long term, or any other kind of distinction.
    Mr. Tarullo. The second point--there are a number of 
distinctions; we do not want to go through all of them here--
but a second distinction is that the NAFTA explicitly 
incorporates IMF standards. Whereas, this agreement, at least 
with respect to the investor-state dispute settlement, seems--
--
    Mr. Frank. And the IMF does allow for certain kinds of 
exceptions.
    Professor Bhagwati, I want to go back again to the 
experiences that we have had, because again I know no one is 
arguing for a regular reliance on capital controls. But would 
you talk some more? We have had some dispute about the East 
Asia experience in particular. Would you just talk a little bit 
more about what we learned from East Asia about particularly 
short term, hot money, portfolio investment, and how it is 
covered in this treaty?
    Mr. Bhagwati. Just to keep matters short, I think there is 
a diversity of experience there. South Korea was sort of caught 
up by the flu that came from Indonesia and Thailand. Thailand 
was a little weaker than Indonesia was, but essentially I think 
what happened was that despite relatively strong fundamentals 
compared to, say, Mexico or South American countries, these 
countries suddenly experienced massive out-flows. So it was in 
fact panic. Now, in economic theory, we do recognize that even 
when you are strong, you can have panic withdrawals simply 
because of things like what we economists call in jargon 
asymmetric information and so on. There are lots and lots of 
reasons why one could have this. DeRosa would have probably 
learned this as destabilizing speculation at Chicago, but it 
does occur. This is certainly did occur.
    So it had nothing to do with mismanagement or something 
like you had, you know, tremendous excess spending, the kind of 
thing which broke out in Mexico in 1994. So in that sense, it 
was really I think a classic case where you really learned that 
systems could in fact collapse under this kind of regime. So I 
think that is one lesson that we have learned. So we should no 
be too complacent, Congressman.
    Mr. Frank. Thank you. I would just note, I understand there 
are legitimate differences here. But to impose one particular 
view of what is at best a very hotly disputed thing, and to 
tell other governments that the price of dealing with the 
American market on these terms is to acquiesce to it seems to 
me a mistake.
    I have one final question for Mr. Lackritz and Mr. Vastine. 
We tend to get involved in two ways here. One, we negotiate 
treaties as to what kind of investments go, but when countries 
get into trouble and are not able to pay off either through 
sovereign debt or through other kinds of debt, our government 
also gets involved. Does this preference for a complete laissez 
faire, free trade, pure let the market work approach apply to 
when the trouble starts? Should we be equally saying, okay, the 
United States will run interference for you, and we will create 
for you absolutely open areas to invest in any of these 
countries. However, if having done that, you get into any kind 
of trouble and there are not payments et cetera, you are on 
your own. Should that be part of the deal, Mr. Lackritz?
    Mr. Lackritz. Well, I think you are referring to sort of 
sovereign debt restructuring.
    Mr. Frank. No, I am referring to--no, there are other 
things. There is sovereign debt restructuring. There is the 
United States lending money. There is pressure on the IMF. You 
know, there are a whole range of things, not sovereign debt 
restructuring only. I am talking about whether or not the 
United States Treasury, whether it is Argentina or Mexico or 
any other country, ought to get involved and say, alright, 
let's get involved and let's try and increase the flow of 
funds, partly so that the American investors can get their 
money back out.
    Mr. Lackritz. First of all, I think that what you are 
talking about, first of all, we favor having private 
contractual mechanisms to work out these kinds of situations.
    Mr. Frank. So you do not want any United States government 
involvement?
    Mr. Lackritz. And the involvement of the government 
obviously is helpful in those circumstances, but----
    Mr. Frank. But you would be opposed to it as an 
interference with the free market?
    Mr. Lackritz. I was not saying----
    Mr. Frank. You want the right to go in unimpeded. If you 
want to go in on your own, shouldn't you stay on your own once 
you are in there?
    [Laughter.]
    Mr. Lackritz. Well, conditions change, as you know.
    Mr. Frank. Oh, yes, once you have your money in there, they 
change.
    [Laughter.]
    Mr. Lackritz. I think you have to look at this from a 
longer-term perspective, from the standpoint of, how do we 
improve the flows of capital.
    Mr. Frank. No, that is a separate issue. I understand that. 
But I really will be honest, you know, Mr. Tarullo said there 
is a question of a creed intervening here. Let's put it on the 
table, there is also a question of whether greed is 
intervening. Obviously, people have a right to pursue their own 
interest, but I do not think it is in America's interest, by 
the way, to gain every short-term advantage for every 
commercial interest. We have an interest in stability. We have 
an interest in democracy. And the question is, frankly, are you 
not being inconsistent in being free-marketers when it comes to 
put the money in, but somewhat more mercantilist when it comes 
to you getting it out? Mr. Vastine?
    Mr. Vastine. I do want to respond to something you said 
earlier, characterizing my statement that these agreements gave 
more attention to financial services and other services, all 
other tradable services than previous agreements. Listen, the 
capital transfers provision of these agreements is a very small 
element.
    Mr. Frank. Could you get back to the question? I was just 
trying to say that you and I agreed that this is more different 
than previous ones than Mr. Taylor says. But what about the 
differential standards on the money going in and the money 
coming out?
    Mr. Vastine. Well, the market should be encouraged to work. 
Countries should be encouraged to take fundamental steps, not 
surface, not arbitrary, not administrative steps, to try to 
cure their international payments problems. Those are the real 
cures.
    Mr. Frank. I understand that, and that is a good answer if 
somebody asked you that question. But the question I had was, 
when you have taken advantage of these treaties and freely 
invested short-term, long-term, and trouble comes up, should I 
not just say, well, I will be interested to watch that because, 
you know, you took advantage of the market and the market has 
its bumps and its ups and its downs.
    Mr. Vastine. And some Treasuries take that point of view.
    Mr. Frank. What do you want them to take? I understand 
that, but what would your position be? Would you say to the 
Treasury, please, let's not be inconsistent here; the free 
market should work and we went in eyes open and we knew what we 
were getting into; let's not hear any talk of bailouts or 
federal government pressures for restructuring.
    Mr. Vastine. That is why this agreement provides a 
mechanism. If flows are stopped, the agreement does indeed 
provide a mechanism, a rather complex one and somewhat delayed 
one, to make investors whole. So in theory, there would not be 
any need for the government to involve itself.
    Mr. Frank. Unfortunately, the way to make investors whole 
would be, and I think this is a point that others have made--
Mr. Tarullo and others--it would make investors whole by taking 
from a fairly poor country money that would otherwise be 
available for some basic services.
    Mr. Lackritz. Could I just respond to that?
    Mr. Feeney. Why don't we let Mr. Lackritz and Mr. Vastine, 
and then we are going to go the gentleman from Illinois.
    Mr. Lackritz. Thank you, Mr. Chairman.
    Mr. Feeney. Mr. Lackritz?
    Mr. Lackritz. I think the point that you are raising, 
Congressman, is an excellent point, but I would only refer you 
back to Emerson's notion that a foolish consistency is the 
hobgoblin of small minds. That is why we are trying to be 
pragmatic and practical here as well.
    Mr. Vastine. I guess my last point, Congressman, is that I 
cannot quote Emerson. I could give you a little Mark Twain on 
``lies, damned lives, and statistics,'' but I will not do that. 
I would just like to caution that we should not be cavalier or 
presumptuous in thinking that the Chileans and the Singaporeans 
have weak regulation, and are not sophisticated negotiators. 
They are very sophisticated.
    Mr. Frank. I agree. One second here, I just want to say to 
Mr. Lackritz, to modify another quote, reference to Emerson in 
that sort of a situation is the last refuge of people who do 
not have a logical answer for an inconsistency.
    Mr. Feeney. Well, I thought we were talking to economists. 
We expect some inconsistencies, don't we?
    The gentleman from Illinois.
    Mr. Manzullo. I have a son studying English and poetry and 
Grove City, and he fell in with the libertarians and now he 
wants to double major in economics, so he can quote Emerson 
along with the economists.
    First of all, I am sorry I could not listen to the 
testimony of everybody, but it really ties into the 
constituents I have back there. There is a very skeptical mood 
in Congress with regard to any new free trade agreements, based 
upon the fact that there are not empirical studies that can 
justify economic theories. Members of Congress are elected by 
real constituencies, and not theorists.
    Let me give you an example. We have got a huge war going on 
with massive waivers of the Berry amendment by the Secretary of 
the Air Force, that is allowing Russian titanium to go into 
engines on our military aircraft. The waivers are granted ex 
parte. There is no notice. These are strategic metals, and 
therefore in the area of procurement. As a person who calls 
himself a free trader, we have looked upon the $300 billion in 
procurement in this country as a way of leveling the playing 
field. In other words, if the local manufacturers can get 
contracts for U.S. consumption, paid for by U.S. taxpayers' 
dollars, then that is the way to get a good share and to 
maintain a base, especially in the area of strategic metals.
    In examining these free trade agreements of America, the 
new FTAA, the Singapore and the Chilean agreements, our U.S. 
procurement is opened to these countries, and they can 
manufacture goods obviously a lot cheaper than our people, by 
providing nondiscriminatory treatment. In other words, if 
somebody from Chile wants to make a tank tread or tank turret, 
they can come in, bypass the Berry amendment, and again add to 
the hollowing out of manufacturing that is going on. I asked 
one of the assistant USTRs, and I have tremendous respect for 
Bob Zoellick. I do not think he is a Leninist, Dr. Bhagwati, 
even though the theory may have been Leninist. I am just 
teasing you, you know that.
    But I said, do you have any quantitative evidence as to who 
wins and who loses when we open U.S. procurement to foreign 
countries? In other words, are there any documents out there 
that show how much U.S. companies are buying of procurement 
from other countries, and how much other countries are buying 
of procurement from the United States. I was told the 
statistics do not exist. If the statistics do not exist, then 
why do we proceed with going ahead with these new agreements 
that leave the procurement open and further hollow away at our 
manufacturing base in the United States? I know this is on 
services and services are extremely important because the more 
liberalization of services you have, the merchandise follows 
after that. That is after the Vastinian theory put forth in a 
Cato article that Mr. Vastine published about three years ago, 
and that is when we first got involved in this. Does anybody 
want to tackle that question, take a look at it? Professor, I 
know you would like to.
    Mr. Bhagwati. I do not know of any empirical studies 
because procurement has usually been for one's own people, so 
that you would have to have an anticipatory study--you know, 
what would happen if, which would be very problematic. But I 
think I would just sort of make one response to this. This is a 
matter of opening up your system to more trade, just like the 
rest of the system. Procurement has been usually, even in the 
Uruguay Round agreement, I mean, that was kind of optional for 
most countries, I think, who signed onto it. But it is not in 
the regular agreement. It is on the annex.
    I would simply say that as more countries do that--I mean, 
obviously we are not going to get much out of these two partner 
countries in an FTA, but as we open it up and make procurement 
open to everybody around the world, and in the major countries, 
we will gain as much as we give, even looking at it on the 
terms in which you specify.
    Mr. Manzullo. But that is theoretical. You do not have 
any----
    Mr. Bhagwati. Well, we are pretty competitive, Congressman, 
so I would say we would expect to win a fair amount.
    Mr. Manzullo. But if that is the case, then the Chinese 
could come in and make all of our aircraft. They could make 
everything for us at a cheaper cost. Currently, if a document 
is shipped from the United States, with the exception of 
something that is bonded going to Mexico, because we know it is 
coming back, and with the exception of the 62.5 percent, NAFTA 
content in automobiles, we have no way of knowing how much 
foreign content exists is in an item that is shipped as a U.S. 
export. We have to study that because, you know, I lost 10,000 
manufacturing jobs in the congressional district that I 
represent in the past two years. So has the Speaker. His 
district is the mirror image of mine. Rockford, Illinois, which 
is in the center of the congressional district I represent, led 
the nation in unemployment in 1981 at 24.9 percent. And now, it 
is pushing 11 percent and we are losing more and more 
manufacturing jobs. These jobs are not coming back. So we are 
taking a look again at free trade being fair trade, and we are 
trying to make sure that what is touted as something that is 
made in America actually has American parts.
    If I may indulge the chair for a minute or so.
    Mr. Feeney. How about you take another two minutes?
    Mr. Manzullo. Okay. Thank you very much.
    In October of 2002, the Congress passed a bill that would 
authorize Boeing aircraft to lease to the United States 100 
767s, retrofitted as KC-135s, which are the fuelers that haul 
the fuel. Included in that legislative language, was a Berry 
waiver. I have scheduled an April 30th hearing on this before 
the Small Business Committee. I have held a meeting with the 
principals of this hearing this past week, along with Duncan 
Hunter from the Armed Services Committee. The question became, 
this is a noncompetitive contract; it is done by the grace of 
the U.S. Congress to help out Boeing aircraft. At the same 
time, with all the Berry waivers in there, we do not even know 
how much of that aircraft would be U.S.-content. In fact, Pratt 
and Whitney were at that meeting, and on the military aircraft 
they are selling, not only is there Russian titanium, but the 
drive shafts are made of nickel coming from Japan. Nickel is 
also a strategic metal that is covered under the Berry 
amendment.
    The reason I bring this up is the fact that, and I know you 
are testifying on services, and services are critical, and 
those who are not free traders in service do not understand 
that unless the service industry gets way out front, it is the 
service industry that pulls the manufacturing component behind 
it--so I know that you all have different views on this, but I 
accept that basic theory. Bob Vastine, you have been a real 
mentor to me on that, and Professor, I have read your stuff. I 
will read the testimony of each of you. But if anybody has 
anything they want to send me with regard to that, please do 
not send it through the mail. Call our office, and we will give 
you the fax number.
    Mr. Bhagwati. I would be glad to do that.
    Mr. Manzullo. And thank you very much for giving me the 
additional time.
    Mr. Feeney. Thank you. Obviously, this is a very important 
issue to Mr. Manzullo and his constituents. If any of our 
distinguished panel has anything that they can assist him with, 
I am sure he would be grateful and so would the committee.
    I just have one or two questions before we wrap up and let 
everybody go for lunch. First of all, I want to make sure that 
there are six other people that are engaged in the same premise 
I am, and that is that in general, with some exceptions, Adam 
Smith was right and free trade is best for both parties 
involved. Does anybody want to raise their hand?
    Mr. DeRosa. Absolutely.
    Mr. Feeney. Mr. DeRosa, maybe you can start, then, if we 
all start with the same basic premise, it seems to me that the 
history of both undeveloped, developing and highly developed 
countries is based on a couple of things--certainly being at 
peace is helpful--but in terms of things that you can help 
internally with respect to domestic policy. They are prudent 
monetary policy; respect for the rule of law; respect for 
property rights, both real and intellectual; relatively low 
marginal tax rates; and transparency in terms of the way the 
country does business. These help generate prosperity within a 
country, but is it also true to say that those policies attract 
capital? That is part one.
    And then number two, and then I will open it up for some 
other folks to respond, with respect to this question about 
basically restricting or freezing capital. This is part two of 
the question. Surely, regardless of whether you come down as an 
absolutist, that it should never be done or allowed in these 
particular trade permits, or whether we should always allow 
countries free rein, surely most of the panel will agree that 
there is going to be a risk associated with investment in 
nations that can essentially restrict, or at least temporarily 
nationalize capital.
    And so going to Dr. Henry's distinction, which is sort of 
the moderate position as I review the testimony, can you attack 
the problem based on Dr. Henry's testimony? If I want to create 
a widget manufacturing plant and invest $100 million, am I more 
or less likely to invest in a country that is prone or able 
under a trade agreement to nationalize the $100 million 
investment in my manufacturing plant? And if I am less likely, 
and I assume we all agree that I am less likely to make that 
investment, why would we in terms of incentives for investors, 
because after all capital is the most liquid and the most 
morally neutral thing I know of, why would we be more likely to 
disincentivize investors on the debt area, as opposed to the 
equity area? Maybe Dr. DeRosa, you can start.
    Mr. DeRosa. Thank you. The reason that these countries that 
we speak of got in trouble was not necessarily a distinction 
between debt and equity, but the denomination of the financing. 
But they did get in further trouble by using excessive amounts 
of short-term debt, so when the crunch hit, they could not find 
investors to roll the debt. The reason why this enthusiasm for 
short-term debt--it is an interesting question, because I 
indicated earlier that in every one of these cases, you can 
trace back almost signature errors that governments did in 
responding. In the case of at least Thailand and South Korea, 
and I think other ones as well, but I know in those cases, 
there were government policies before the crisis to force or 
greatly encourage local companies to borrow short term and 
never long term. The title for this, the name for this is 
called window guidance. Thailand had effectively had a 
government institution set up to encourage companies that 
borrow internationally only to borrow short term. The same was 
for Korea.
    So it is a combination of a squeeze on the currency and 
also a squeeze on the denomination. But your characterization 
of what it takes for growth is something that I have great 
sympathy for. These are things that actually are in Adam 
Smith's Wealth of Nations, about what is the proper role of the 
government in terms of the rule of law, property rights, things 
like that. Essentially, that is what went wrong in the early 
stages after the Soviet Union disintegrated. Why didn't growth 
come earlier? But I come back to this basic premise that 
capital really is not as fickle----
    Mr. Feeney. Well, and in Latin America, agrarian reforms do 
not help if every new regime every three years nationalizes 
property and institutes a new set of reforms.
    Mr. DeRosa. Absolutely. And this is what is going on 
wholesale in Venezuela right now. This is why a country that 
ought to be prosperous is in a tailspin thanks to the leader of 
Venezuela. But you know, it all comes back to this. There is 
this central thing that I keep saying to people. Capital really 
is not as flighty as people think. The hot money that people 
describe, thinking that it is going to rush in and rush out, 
every case that I know of, and I have studied all of these 
crises in detail; I wrote a book on this; I write columns about 
this. It is all associated with the nature of the foreign 
exchange regime. It is always traceable back to a fixed or a 
creeping fixed exchange rate regime. People are trying to game 
the system. The locals are borrowing in dollars because dollar 
interest rates are lower by definition because of country risk. 
Foreigners are investing in the local currency, and sometimes 
on a leverage basis.
    When the situation becomes untenable, then when the 
exchange rate regime goes to break, that is when you get this 
massive outflow of capital. Once the exchange rate starts to 
float again, this phenomenon does not--I do not know of a 
single case; I have studied a lot of economic history, have 
written a lot about economic history--all of these things are 
coming out of the exchange rate regime. That is why the crises 
occur. No country that I know of has gone from a fixed exchange 
rate regime to a floating regime in the last 20 years and 
suffered a second crisis. So all this talk about putting in 
capital controls is irrelevant and damaging, because it is 
unnecessary. It is unnecessary. Countries do not just fall over 
dead in their tracks. They do not just roll over and collapse. 
That is not the nature of modern economics as we know it. You 
can always dissect it. You can always do a post-mortem and in 
all of these cases that we are talking about, where capital 
flight is a problem, go back and look at it carefully and you 
will see it is coming out of the disintegration of a pegged or 
fixed exchange rate regime.
    Mr. Feeney. Thank you, because it would be a waste of some 
superior intellect and talent to speak at length to a freshman 
Congressman from Florida, if each of you will take two 
minutes--Dr. Bhagwati, and then maybe we will skip Dr. DeRosa--
thank you for your lengthy--and maybe we will just conclude and 
thank you for your participation.
    Dr. Bhagwati?
    Mr. Bhagwati. Thank you, Congressman. Just to respond to 
your last question very briefly, what we are dealing with is 
the ability to use capital controls in a crisis and what the 
consequences would be. I think to treat that as something like 
confiscation. I do not think that is what the gentlemen who are 
going to invest are going to look at it that way. I think the 
probabilities are on the low side. What we are saying is you 
have to allow for it and let these countries really be able to 
exercise this option. I do not think anybody is going to be 
affected by that in terms of investing in one country rather 
than another. So I think it is, my answer to you is, well, the 
threat of nationalization, et cetera, of course it is something 
we would all react to. We would not want to put money there. 
That is not what we are dealing with. So I would say relax on 
that one and take this out if you can.
    Mr. Feeney. Thank you.
    Dr. Henry?
    Mr. Henry. Let me start by saying that free trade is one of 
the best means we have for actually increasing global welfare, 
so we should almost always in all circumstances continue to 
push for free trade on a fair basis. With respect to free trade 
in capital, by and large free trade in capital also has the 
potential for the same kinds of effects. Where we need to be 
careful is when we are dealing with systems in which there are 
other distortions, for example a fixed exchange rate regime, as 
Dr. DeRosa mentioned. In those circumstances, we want to be 
careful about inadvertently pushing countries into undertaking 
policies which, given those other distortions in the system, 
could prove very damaging in certain kinds of situations.
    So for example, if you have a fixed exchange rate system 
and people are tempted to borrow in dollars because interest 
rates are low, what we have seen time and time again is that 
the people who actually borrow in dollars are people who are 
not actually earning dollar revenues, and that creates a real, 
very explosive situation when in fact the exchange rate regime 
comes to an end. So what we should do in those situations is 
really force people to internalize those risks and recognize 
that in certain situations where there are obviously other 
distortions, the first best policy--complete free trade in 
capital--might not be the best answer. In particular, since 
history has shown us empirically that these debt market 
liberalizations seem to get countries in trouble, we should 
just be very wary of that.
    In general, I agree with your point. Anything which creates 
a disincentive to capital to go into a country is going to lead 
to less investment. But we should remember that what we want is 
efficient investment, not just investment.
    Mr. Feeney. Or higher interest rates or expectations of 
return on capital.
    Mr. Henry. That is right, but sometimes higher interest 
rates or implicit interest rates are in fact warranted because 
there are risks involved. We should in general move to a 
situation that is efficient, to use an economist's term, ex 
ante--before things happen--where we get people to actually 
internalize those risks and generate efficient investment.
    Mr. Feeney. Thank you, doctor.
    Dr. Lackritz?
    Mr. Lackritz. Thank you. I appreciate the upgrade in my 
degree.
    I think going to your point, Congressman, that obviously 
capital flows to countries which have institutions where there 
is the rule of law, where there is an openness and a 
transparency, and where there is a culture and a tradition of 
where there is an expectation of returns. At the same time, the 
market is fairly efficient, and where these institutions do not 
exist, obviously the rate of return has to be higher to attract 
the capital to reflect the added risk that is involved. I think 
one of the benefits of these kinds of free trade agreements is 
that they open up markets more to promote more capital flows 
back and forth from country to country, and more flows of goods 
and services, which of course the financing is accompanying. 
That is why the capital flows are going back and forth as well.
    So these agreements actually are a good start, which help 
other countries to see what they need to do to attract capital. 
They see the results from the standpoint of the marketplace and 
the rate of their own development, which is a very powerful 
incentive for them to open up and to create these institutions.
    Mr. Feeney. Thank you.
    Mr. Tarullo?
    Mr. Tarullo. Thank you, Mr. Chairman.
    Mr. Chairman, I will end where I began, which is urging 
some sense of modesty in this area. We are all experts in 
retrospect. We look back at the Asia financial crisis, and we 
say, aha, that is what happened. But if we are honest with 
ourselves and go back eight or ten years, so far as I am aware 
the people at this table and the people elsewhere were not 
identifying some of the problems which we now in retrospect see 
were very important. I have no doubt but that the next 
financial crisis, when it comes, will contain elements of 
traditional financial vulnerabilities and will contain 
something new, that will be a surprise, and that will give more 
fodder for scholarly and policy work thereafter.
    I think the reason why some of us are concerned with the 
capital controls provisions is not because we want to go 
proselytizing for capital controls. I think Dr. Bhagwati and I 
have tried to make that clear in our own approaches to this 
issue. We believe we need to understand this more, we need to 
understand where and how problems may arise, and we need to 
have a system prepared that will allow countries to respond if 
the worst happens. My own sense is that if Singapore and Chile 
are concerned about not having this fallback position, then 
other countries with even less well-developed capital markets 
and regulatory systems are even less well developed, will be 
more concerned. I do not think we want to push them down that 
road. I think what we want to help them to do is to build the 
institutions that will make for strong securities markets and 
strong bank regulatory systems, and then see what benefits the 
free flows of capital can bring.
    Thank you very much.
    Mr. Feeney. Thank you.
    And finally, Mr. Vastine, you can sum up.
    Mr. Vastine. Thank you very much, Mr. Chairman.
    First of all, these are good agreements. They contain a 
great deal more than the capital issues. Congress should adopt 
these agreements. Chile and Singapore freely agreed to these 
provisions. I was familiar with these negotiations. No one held 
a gun to their heads. They are very sophisticated negotiators. 
They are very good regulators.
    Finally, I do not think the objections raised today give 
grounds to the committee or to other members of Congress not to 
vote for these agreements.
    Thank you.
    Mr. Feeney. I want to thank all of you. We will get you out 
for a late lunch. The chair would like to thank all of you for 
traveling and being here with us today. Without objection, the 
record of today's hearing will remain open for 30 days to 
receive additional material from members and supplementary 
written responses from witnesses to any question posed by a 
member on the panel.
    The hearing of the Domestic and International Monetary 
Policy Subcommittee is hereby adjourned.
    [Whereupon, at 12:35 p.m., the subcommittee was adjourned.]


                            A P P E N D I X



                             April 1, 2003

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