[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]



 
  FEDERAL RESPONSE TO MARKET TURMOIL: WHAT'S THE IMPACT ON THE BUDGET

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


                                HEARING

                               before the

                        COMMITTEE ON THE BUDGET
                        HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION

                               __________

           HEARING HELD IN WASHINGTON, DC, SEPTEMBER 24, 2008

                               __________

                           Serial No. 110-41

                               __________

           Printed for the use of the Committee on the Budget


                       Available on the Internet:
       http://www.gpoaccess.gov/congress/house/budget/index.html



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                        COMMITTEE ON THE BUDGET

             JOHN M. SPRATT, Jr., South Carolina, Chairman
ROSA L. DeLAURO, Connecticut,        PAUL RYAN, Wisconsin,
CHET EDWARDS, Texas                    Ranking Minority Member
JIM COOPER, Tennessee                J. GRESHAM BARRETT, South Carolina
THOMAS H. ALLEN, Maine               JO BONNER, Alabama
ALLYSON Y. SCHWARTZ, Pennsylvania    SCOTT GARRETT, New Jersey
MARCY KAPTUR, Ohio                   MARIO DIAZ-BALART, Florida
XAVIER BECERRA, California           JEB HENSARLING, Texas
LLOYD DOGGETT, Texas                 DANIEL E. LUNGREN, California
EARL BLUMENAUER, Oregon              MICHAEL K. SIMPSON, Idaho
MARION BERRY, Arkansas               PATRICK T. McHENRY, North Carolina
ALLEN BOYD, Florida                  CONNIE MACK, Florida
JAMES P. McGOVERN, Massachusetts     K. MICHAEL CONAWAY, Texas
NIKI TSONGAS, Massachusetts          JOHN CAMPBELL, California
ROBERT E. ANDREWS, New Jersey        PATRICK J. TIBERI, Ohio
ROBERT C. ``BOBBY'' SCOTT, Virginia  JON C. PORTER, Nevada
BOB ETHERIDGE, North Carolina        RODNEY ALEXANDER, Louisiana
DARLENE HOOLEY, Oregon               ADRIAN SMITH, Nebraska
BRIAN BAIRD, Washington              JIM JORDAN, Ohio
DENNIS MOORE, Kansas
TIMOTHY H. BISHOP, New York
GWEN MOORE, Wisconsin

                           Professional Staff

            Thomas S. Kahn, Staff Director and Chief Counsel
                 Austin Smythe, Minority Staff Director


                            C O N T E N T S

                                                                   Page
Hearing held in Washington, DC, September 24, 2008...............     1

Statement of:
    Hon. John M. Spratt, Jr., Chairman, House Committee on the 
      Budget.....................................................     1
        Additional submission: Congressional Research Service 
          report.................................................    12
    Hon. Paul Ryan, ranking minority member, House Committee on 
      the Budget.................................................    11
    Peter Orszag, Director, Congressional Budget Office..........     3
        Prepared statement of....................................     6


  FEDERAL RESPONSE TO MARKET TURMOIL: WHAT'S THE IMPACT ON THE BUDGET

                              ----------                              


                     WEDNESDAY, SEPTEMBER 24, 2008

                          House of Representatives,
                                   Committee on the Budget,
                                                    Washington, DC.
    The committee met, pursuant to call, at 10:10 a.m. in room 
2103, Cannon House Office Building, Hon. John Spratt [chairman 
of the committee] presiding.
    Present: Representatives Spratt, DeLauro, Edwards, Cooper, 
Schwartz, Kaptur, Becerra, Berry, Boyd, Scott, Etheridge, 
Baird, Garrett, Hensarling, Conaway, Tiberi, and Porter,
    Chairman Spratt. Mr. Ryan apparently is in a meeting and 
will be here shortly. In the interest of time, I will proceed 
by opening the hearing, welcoming our witness, and making my 
opening statement.
    Last Thursday Secretary Paulson, Chairman Bernanke and the 
Chairman of the SEC, Chris Cox, came to the Capitol to brief 
the leadership of the Congress on the financial crisis facing 
our country and to ask for a swift, robust response by 
Congress.
    On Saturday they followed up that meeting with a 
legislative proposal, or at least a skeletal outline of the 
bookends of a proposal, with the contents to follow, along with 
a dire warning that time was of the essence.
    Since then, Congress has been poring over the Bush 
administration proposal, making various improvements to it and 
trying to find common ground for consensus. On the Budget 
Committee we have a limited role in legislating the proposal 
before us, even though it has major repercussions for the 
budget.
    Just 2 weeks ago the Congressional Budget Office released 
its updated economic forecast and warned us of large, 
unrelenting deficits that lie ahead of us. Economic events 
since then have only worsened the outlook. The Bush 
administration requested an unprecedented sum, $700 billion, to 
shore up failing firms, to stop panic in the financial markets, 
and to keep the economy from backsliding into a protracted 
recession.
    Our hearing today will examine the impact of the 
President's request on the budget. The President has called for 
Congress to act with dispatch, but we must also act with 
diligence and deliberation as we consider his request, and that 
is the purpose of today's hearing.
    To that end I decided yesterday--and Mr. Ryan graciously 
agreed--to move this hearing up from its scheduled time on 
Friday. Although the time for full consideration has not yet 
been set, I was concerned that a hearing on Friday would come 
after the bill was considered on the floor. I want to commend 
the staff of the Budget Committee on both sides of the aisle, 
Democrats and Republicans, Tom Kahn and Austin Smythe, who have 
been working in a collegial bipartisan way to analyze the 
proposals that were sent to us.
    We were concerned that the proposal in its original form 
did not adequately account for market risk and, therefore, 
understated costs. Our staff has been working with the staff at 
OMB on the proposed scoring of this proposal so that it better 
reflects the market risk involved.
    Budget Committee staff have also helped to add to the bill 
periodic requirements for the reporting of funds dispersed, 
assets acquired, and the estimated recovery or repayment of 
those assets.
    Our witness today is Peter Orszag, the Director of the 
Congressional Budget Office. I want to thank Dr. Orszag for 
rearranging his schedule on short notice so that he could 
testify.
    I also want to thank his staff for all they have done to 
help us analyze this proposal. CBO has been working overtime on 
written testimony, and most of our members probably did not see 
the testimony of Dr. Orszag until they arrived here this 
morning. I would encourage everybody to read it because it is 
an excellent statement of the situation. And I would also 
encourage Dr. Orszag to take whatever time he needs to give us 
a thorough, complete analysis of how CBO analyzes a request and 
how it should be reflected in the budget.
    Just by way of background, let me lay out the budget 
question that is mainly before us. There are two conventions 
for recording the President's $700 billion request, should it 
be granted. Under traditional scoring, when the Federal 
Government purchases an asset, the purchase payment is shown in 
the budget as an outlay. But there is no corresponding entry 
for the value of the asset acquired, not at least until the 
asset is sold. When it is sold, the sale price is booked as an 
offsetting receipt or a negative outlay. If CBO follows this 
method, this convention, it needs to know various things: How 
much of the $700 billion will be drawn down by the Treasury and 
paid out and when that withdrawal will occur? And to complete 
the transaction CBO needs to know when the asset is sold and 
the receipts that are derived from the sale. Obviously these 
things are difficult to know at this point in time.
    If the government's disbursement takes the form of a loan, 
the loan amount is not booked as an outlay and the subsequent 
repayments are not booked as receipts.
    Under the Federal Credit Reform Act, if the loan is deemed 
likely to repay on a present-value basis less than the original 
principal amount because of losses or subsidies, then CBO books 
a probable shortfall does not lay in the year the loan is made. 
OMB believes that the request of $700 billion should be scored 
in this matter because many of the assets the government 
acquires will be mortgage loans, so the government will be 
stepping into the shoes of the mortgagee.
    As you can see, the customary accounting conventions are 
not an easy fit for the circumstances we find ourselves in. Yet 
the convention used can have a major impact on how the 
requested $700 billion is incorporated into the budget.
    Our purpose is to explore these and other budget process 
issues with Dr. Orszag. And in that connection, let me remind 
all of our members that Dr. Orszag is not here to oppose or 
support this proposal before us. He and his staff are here as 
analysts, not advocates.
    Before turning to Dr. Orszag I would normally turn to our 
Ranking Member, Mr. Ryan. I understand that he will reserve his 
place to make an opening statement. It is going to be a closing 
statement, after Dr. Orszag has testified.
    Dr. Orszag, I think the better part of wisdom is to proceed 
with your testimony. Thank you for being here. And your 
testimony is an excellent statement of the situation of the 
choices before us, and I would encourage you to take all the 
time you need to thoroughly explain it to the members of this 
committee. Thank you once again for your excellent contribution 
to our effort.

 STATEMENT OF PETER R. ORSZAG, DIRECTOR, CONGRESSIONAL BUDGET 
                             OFFICE

    Mr. Orszag. Thank you, Mr. Chairman, members of the 
committee. Since August 2007, financial markets have 
experienced severe strains which emanated from the bursting of 
the housing bubble and then fed into declines in mortgage-
related assets, which then fed into significant difficulties in 
ascertaining the financial condition of the institutions 
holding such securities. These problems contributed to a 
broader collapse of confidence, with the result of financial 
institutions having become increasingly unwilling to lend to 
one another.
    Over the past few weeks, the collapse of confidence in 
financial markets has become particularly severe. I have a 
chart that I would like to put up which shows one illustration 
of that collapse of confidence in financial markets.
    This shows, in a sense, the higher you go on that curve, 
the more turmoil there is in short-term financial markets. And 
that spike that you see occurred over the past couple of weeks. 
So a very dramatic collapse, which is what drove the Treasury 
Department to propose the act that is under consideration.
    One thing that is striking is the turmoil in the financial 
markets thus far has had less impact on macroeconomic activity 
than one might have thought, and indeed the second quarter 
showed fairly robust economic growth. A modern economy like the 
United States, however, depends crucially on the effective 
functioning of its financial markets in order to operate. And 
there is little doubt that if the kinds of strains that are 
shown in that graph were perpetuated, the effects on economic 
growth, on household income, and on other things that we all 
care about would be quite severe if not devastating.
    To mitigate these risks the Treasury Department and others 
have put forward a variety of proposals. In analyzing them it 
is crucially important to keep distinct two problems. One is 
that the markets for some types of assets have effectively 
stopped functioning; that there is illiquidity in particular 
financial markets. For that kind of issue, the Federal 
Government could intervene as a market maker to reestablish 
liquidity. And that need not--and I am going to return to this 
later--that need not involve any significant subsidy from the 
Federal Government to private market institutions.
    The second problem, though, involves the potential 
insolvency of specific financial institutions. By some 
estimates, global commercial banks and investment banks may 
need to raise hundreds of billions of dollars more to cover 
their losses. Restoring solvency to insolvent institutions 
requires additional capital investment, and one possible source 
of such capital injections is the Federal Government.
    These two problems are related in the sense that it is 
difficult to know which institutions are insolvent if you can't 
price their assets because of illiquidity in the markets; and, 
conversely, injecting more equity into insolvent or barely 
solvent financial institutions could help to restore liquidity 
to some financial markets because each counterparty may be more 
willing to lend to another financial institution with more 
confidence that there is a greater capital cushion at that 
other financial institution to which it would be lending.
    Nonetheless, the problems are, even though they are 
related, conceptually distinct, and much of the policy 
discussion about the Treasury proposal and other recent 
proposals have muddled or confused the two issues. Indeed, some 
proposals appear to be aimed primarily at the illiquidity of 
particular asset markets; others seem to be aimed primarily at 
insolvency; and some may do a little bit of both, depending on 
how they are implemented.
    Given that, let me turn in particular to the troubled Asset 
Relief Act of 2008 as proposed by the administration. As you 
know, the act would authorize the Secretary of the Treasury to 
purchase, hold, and sell a wide variety of financial 
instruments, particularly those that are based on or related to 
mortgages issued prior to September 2008. The legislation would 
appropriate such sums as are necessary to enable the Secretary 
to purchase up to $700 billion of such assets at any point 
during the 2-year window of opportunity specified under the 
legislation and to cover relevant administrative expenses.
    At this time, given the lack of specificity regarding how 
the program would be implemented and even what classes would be 
purchased by the Secretary, CBO cannot provide a meaningful 
estimate of the ultimate net cost of the administration's 
proposal. The Secretary would have the authority to purchase 
virtually any asset at any price and sell it at any future 
date.
    The lack of specificity regarding how that authority would 
be implemented makes it impossible at this point to provide a 
quantitative analysis of the net costs to the Federal 
Government. Nonetheless, some observations are possible with 
regard to what would influence the net cost to the Federal 
Government.
    And I would identify two key forces. The first is whether 
the Federal Government seeks and is able to succeed in 
obtaining a fair price for the assets it purchases, and in 
particular whether it can avoid being saddled with the worst 
credit risk without the purchase price reflecting those risks. 
I am going to return to that in a moment.
    The second force is whether, because of severe market 
turmoil, market prices are currently lower than the underlying 
value of the assets. If current prices reflect so-called fire-
sale pricing that can result from severe liquidity constraints 
and impairment of credit flows, taxpayers could possibly 
benefit by buying now, holding the securities, and selling them 
as prices return to those underlying values.
    But let me return to that first force and whether the 
Federal Government will obtain a fair price for the assets that 
it is purchasing. That will depend not only on the types of 
assets that are purchased, but how the transactions are 
conducted. The Treasury has indicated that it would conduct 
reverse auctions for at least some of the purchases. And I 
would note a reverse auction can work well in some cases, but 
it is not magic. It only works well under certain conditions; 
in particular, under a reverse auction, the sellers offer to 
sell you something and someone will offer--I will sell it to 
you for $100, someone else will say $90, someone else will say 
$80. And instead of a regular auction where the price goes up, 
the price goes down, so that you get the lowest bidder winning 
the contract, thereby getting the best price possible as a 
buyer. Thus, a reverse auction.
    In the context of financial assets a reverse auction works 
best when different sellers are offering to sell their shares 
in the same asset rather than offering to sell different 
assets, and also when many sellers participate. When sellers 
are offering different assets, the lowest bidder may win by 
offering an asset with particularly risky or poor future 
prospects and the price may not reflect the degree to which the 
specific asset is impaired or risky.
    Consequently, the Federal Government could purchase too 
many risky or impaired assets without enjoying sufficient price 
discounts.
    Similarly, if the number of bidders or participants is 
unduly limited, the government could overpay relative to a fair 
price. One focus the Treasury has identified for the program is 
mortgage-backed securities, and they have indicated that they 
may conduct reverse auctions on a tranche-by-tranche basis, 
that is on a CUSIP-by-CUSIP basis for each individual cash flow 
associated with the mortgage-backed security. Reverse auctions 
on that basis. That would work relatively well.
    And to the extent that the program was limited to that kind 
of auction for that kind of security done in that kind of way, 
you are likely to get a price that reflects the underlying 
characteristics of the cash flows that the Federal Government 
would be purchasing.
    Reverse auctions may not obtain a fair price for the 
government for many other types of assets that may be covered 
under the program, though. In particular, for example, if the 
Federal Government went out and bought loans themselves from 
banks, you are very likely to wind up with the worst quality 
within any given risk classification and to wind up overpaying 
for those individual assets.
    Basically the problem there is that the seller has more 
information than you do about the characteristics of the asset 
and there is no way that a reverse auction can ensure that you 
are obtaining a sufficiently low price for the risk 
characteristics of what you are purchasing. Substantial 
purchases of those types of assets would make it unlikely that 
the Treasury could operate the proposed new program at little 
or no net cost to the taxpayer.
    In other words, the more that the Treasury program 
concentrates on assets that are difficult for a buyer to value, 
the more likely that the government will overpay. And the more 
that that occurs, the more the program moves beyond simply 
reestablishing trading in illiquid financial markets, and the 
more it instead subsidizes particular financial institutions 
selling those assets to the government in a manner that seems 
unlikely to be an efficient approach to addressing concerns 
about insolvency.
    The written statement includes some discussion of 
alternative proposals including direct equity injections. I 
would be happy to answer questions about that. But especially 
since I see that Mr. Ryan is now here, I will end my oral 
statement with that. Thank you very much Mr. Chairman.
    [The prepared statement of Peter R. Orszag follows:]

 Prepared Statement of Peter R. Orszag, Director, Congressional Budget 
                                 Office

    Chairman Spratt, Ranking Member Ryan, and Members of the Committee, 
thank you for inviting me to testify this morning on the budgetary and 
economic implications of the recent turmoil in financial markets and 
the Administration's proposal to address it.
    Since August 2007, the Federal Reserve and the Treasury have been 
attempting to address a series of severe breakdowns in financial 
markets that emanated from the bursting of the housing bubble, leading 
to substantial losses on mortgage-related securities and great 
difficulty in accurately ascertaining the financial condition of the 
institutions holding such securities. Those problems generated 
significant increases in risk spreads (or the interest rates charged on 
risky assets relative to Treasury securities) but, more important, 
contributed to a broader collapse of confidence, with the result that 
financial institutions became increasingly unwilling to lend to one 
another.
    Over the past several weeks, the collapse of confidence in 
financial markets has become particularly severe. Short-term loans 
between financial institutions have fallen off sharply. Instead, the 
Treasury and the Federal Reserve have become the financial 
intermediaries for them. In other words, rather than financial 
institutions with excess money lending to institutions needing short-
term funding, many institutions with excess short-term money have 
purchased Treasury securities, the Treasury has placed the proceeds on 
deposit at the Federal Reserve, and the Federal Reserve has then lent 
the money out to those institutions needing short-run funding.
    Thus far, turmoil in the financial markets has had less impact on 
macroeconomic activity than may have been expected, and, indeed, 
economic growth was relatively strong in the second quarter of this 
year--in part because of the stimulus package enacted earlier this 
year. A modern economy like the United States', however, depends 
crucially on the functioning of its financial markets to allocate 
capital, and history suggests that the real economy typically slows 
some time after a downturn in financial markets. Moreover, ominous 
signs about credit difficulties are accumulating. The issuance of 
corporate debt plummeted in the third quarter, and the short-term 
commercial paper market has also been hit hard. Bank lending, which has 
thus far remained relatively strong, will undoubtedly be severely 
curtailed by the difficulties that banks are facing in raising capital. 
Such a curtailment of credit means that businesses and individuals will 
find it increasingly difficult to borrow money to carry out their 
normal activities. In sum, the problems occurring in financial markets 
raise the possibility of a severe credit crunch, which could have 
devastating effects on the U.S. and world economies.
    To mitigate the risks, the Department of the Treasury has proposed 
the Troubled Asset Relief Act of 2008, and similar proposals have also 
been put forward by the Chairman of the House Financial Services 
Committee and the Chairman of the Senate Banking Committee. In an 
analysis of these proposals, it is useful to identify two problems 
facing financial markets: illiquidity triggered by market panic and the 
potential insolvency of many financial institutions.
    One problem is that the markets for some types of assets and 
transactions have essentially stopped functioning. To address that 
problem, the government could conceivably intervene as a ``market 
maker,'' by offering to purchase assets through a competitive process 
and thereby provide a price signal to other market participants. (That 
type of intervention, if designed carefully to keep the government from 
overpaying, might not involve any significant subsidy from the 
government to financial institutions.) The second problem, though, 
involves the potential insolvency of specific financial institutions. 
By some estimates, global commercial banks and investment banks may 
need to raise a minimum of roughly $150 billion more to cover their 
losses. As of mid-September 2008, cumulative recognized losses stood at 
about $520 billion, while the institutions had raised $370 billion of 
additional capital.\1\ Restoring solvency to insolvent institutions 
requires additional capital injections, and one possible source of such 
capital is the federal government.
    Those two problems are related in the sense that it is difficult to 
know which institutions are insolvent without being able to value the 
assets they hold (which in turn is impeded by illiquid markets). 
Undisclosed losses are unlikely to be distributed uniformly throughout 
the financial system, and the inability to identify which institutions 
are carrying the largest losses has led to a breakdown of trust in the 
entire financial sector.\2\ That loss of trust has sharply increased 
the cost of raising capital and rolling over debt, which threatens the 
solvency of all financial institutions. Injecting more capital into 
financial institutions could help to restore liquidity to some 
financial markets, because, with larger cushions of capital to protect 
against default, the institutions would be more willing to lend to one 
another. Another linkage between these two problems could occur if some 
institutions are unwilling to sell assets at current market prices if 
that then triggered the recognition of accounting losses; such 
reluctance to sell can contribute to illiquid markets. With additional 
equity, those institutions may be more willing to sell at current 
market prices even if that required recognizing losses.
    Although the problems of illiquidity and insolvency are 
interrelated, they are at least conceptually distinct. Indeed, some 
policy proposals appear to be aimed primarily at the illiquidity of 
particular asset markets, and others appear to be aimed primarily at 
the potential insolvency of specific financial institutions.
    Most of this testimony examines the Troubled Asset Relief Act of 
2008. That act appears to be motivated primarily by concerns about 
illiquid markets. The more the government overpays for assets purchased 
under that act, however, the more the proposed program would instead 
provide a subsidy to specific financial institutions, in a manner that 
seems unlikely to be an efficient approach to addressing concerns about 
insolvency.
                 the troubled asset relief act of 2008
    The Congressional Budget Office (CBO) has reviewed the Troubled 
Asset Relief Act of 2008, as proposed by the Administration. The act 
would authorize the Secretary of the Treasury to purchase, hold, and 
sell a wide variety of financial instruments, particularly those that 
are based on or related to residential or commercial mortgages issued 
prior to September 17, 2008. The authority to enter into agreements to 
purchase such financial instruments, which the proposal refers to as 
troubled assets, would expire two years after its enactment.
    The legislation would appropriate such sums as are necessary, for 
as many years as necessary, to enable the Secretary to purchase up to 
$700 billion of troubled assets at any point during the two-year window 
of opportunity (though cumulative gross purchases may exceed $700 
billion as previously purchased assets are sold) and to cover all 
administrative expenses of purchasing, holding, and selling those 
assets. The federal debt limit would be increased by $700 billion.
    At this time, given the lack of specificity regarding how the 
program would be implemented and even what asset classes would be 
purchased, CBO cannot provide a meaningful estimate of the ultimate net 
cost of the Administration's proposal. The Secretary would have the 
authority to purchase virtually any asset, at any price, and sell it at 
any future date; the lack of specificity regarding how that authority 
would be implemented makes it impossible at this point to provide a 
quantitative analysis of the net cost to the federal government.
                the budgetary treatment of the proposal
    The federal cost of the proposal could be reflected in the budget 
either on a cash basis or on a net-expected-cost basis. The proposal 
would require that the federal budget display the costs of this new 
activity under the latter approach, using procedures similar to those 
contained in the Federal Credit Reform Act (but adjusting for market 
risk in a manner not reflected in that law). In particular, the federal 
budget would not record the gross cash outlays associated with 
purchases of troubled assets but, instead, would reflect the estimated 
net cost to the government of such purchases (broadly speaking, the 
purchase cost minus the expected value of any estimated future earnings 
from holding those assets and the proceeds from the eventual sale of 
them). That approach would be similar to the current budgetary 
treatment of a broad array of loans and loan guarantees made by the 
federal government, wherein the best measure of the cost to the 
government reflects not only initial disbursements but also the 
resulting cash flows in future years.
    In CBO's view, that budgetary treatment best reflects the impact of 
the purchases of financial assets on the federal government's 
underlying financial condition. The fundamental idea is that if the 
government buys a security at the going market price, it has exchanged 
cash for another asset ratherthancausedadeteriorationin its underlying 
fiscal position.
    CBO expects that the Treasury would probably fully use its $700 
billion authority in fiscal year 2009 to purchase various troubled 
assets. To finance those purchases, the Treasury would have to sell 
debt to the public. Federal debt held by the public would therefore 
initially rise by about $700 billion. Nevertheless, CBO expects that, 
over time, the net cash disbursements under the program would be 
substantially less than $700 billion, because, ultimately, the 
government would sell the acquired assets and thus generate income that 
would offset at least much of the initial cost.
    Whether those transactions ultimately resulted in a gain or loss to 
the government would depend on the types of assets purchased, how they 
were acquired and managed, and when and under what terms they were 
sold. In addition to the future evolution of the housing prices, 
interest rates, and other fundamental drivers of asset values, two key 
forces would influence the net gain or loss on the assets purchased:
     Whether the federal government seeks and is able to 
succeed in obtaining a fair market price for the assets it purchases 
and, in particular, whether it can avoid being saddled with the worst 
credit risks without the purchase price reflecting those risks. 
Concerns about the government's overpaying are particularly salient 
when sellers offer assets with varying underlying characteristics that 
are complicated to evaluate. As discussed further below, such problems 
are attenuated the more that the government focuses on buying part of a 
given asset from institutions that all own a share of that asset, 
rather than buying different assets from different institutions. That 
is, the government is more likely to pay a fair price when multiple 
institutions are competing to sell identical assets than when it has to 
assess competing offers for different assets with hard-to-determine 
values.
     Whether, because of severe market turmoil, market prices 
are currently lower than the underlying value of the assets. If current 
prices reflect ``fire sale'' prices that can result from severe 
liquidity constraints and the impairment of credit flows, then 
taxpayers could possibly benefit along with the institutions selling 
the assets. Under normal circumstances, prices do not long depart from 
their fundamentals because the incentive to engage in arbitrage and 
profit from price discrepancies is large. But arbitrage practices work 
less well when liquidity is restrained, as it is now, and many 
potential arbitragers cannot get short-term financing.\3\ It is 
therefore at least possible that the prices of some assets are below 
their fundamental value; in that case, to the extent that the 
government bought now and held such assets until their market prices 
recovered to reflect that underlying value, net gains would be 
possible.
    In addition to any net gain or loss on the purchase of $700 billion 
or more in assets, the government would also incur significant 
administrative costs for the proposed program. Those costs would depend 
on what kinds of assets were purchased. On the basis of the costs 
incurred by private investment firms that acquire, manage, and sell 
similar assets, CBO expects that the administrative costs of operating 
the program could amount to a few billion dollars per year, as long as 
the government held all or most of the purchased assets
    The proposed program could affect other federal programs--
including, for example, the operations of Fannie Mae, Freddie Mac, 
federal housing programs, and deposit insurance. The program's impact 
on the future costs of other federal programs would depend on what 
kinds of assets were acquired and from what types of institutions and 
on how successful the program was in restoring liquidity to the 
nation's financial markets.
            determining a purchase price for troubled assets
    The legislation would authorize the Secretary to purchase almost 
any conceivable type of asset related to residential or commercial 
mortgages, from individual loans to complex insurance products, and 
possibly other assets not directly related to such mortgages. The 
Treasury Department has indicated that it would conduct reverse 
auctions for at least some of the purchases. In a reverse auction, many 
potential sellers would bid on the price to be accepted by the 
government, and the lowest bidders would win. Using a reverse auction 
process in which multiple sellers compete to offer the Treasury the 
lowest price for a set volume of similar troubled assets would help 
ensure that the government was paying a fair price for those assets.
    In the context of financial assets, a reverse auction works best 
when (1) different sellers are offering to sell their shares in the 
same asset rather than offering to sell different assets and (2) when 
many sellers participate. When sellers are offering different assets, 
the lowest bidder may win by offering an asset with particularly risky 
or poor future prospects, and the price may not reflect the degree to 
which that specific asset is risky or impaired. Consequently, the 
federal government could purchase too many risky or impaired assets 
without enjoying sufficient price discounts. Similarly, if the number 
of participants in the reverse auction is unduly limited (either 
because few institutions own the asset that the government wants to 
purchase or because few owners choose to participate in the auction), 
the government could overpay relative to a fair price.
    One focus of the Treasury program seems likely to be mortgage-
backed securities (MBSs), which are ownership shares in large pools of 
individual mortgages. Financial institutions own hundreds of thousands 
of such securities, reflecting more than $7 trillion in pooled mortgage 
assets; most of the hard-to-value MBS assets are likely to be in the 
nearly $3 trillion not owned or insured by Fannie Mae and Freddie Mac. 
The Treasury Department has indicated that the reverse auctions for MBS 
assets might be conducted security by security--that is, there would be 
a separate ``mini-auction'' for each tranche of the MBSs.\4\ If those 
tranches were widely distributed across financial institutions and if 
the government offered to purchase only a small share of each tranche, 
the result should be that the government would obtain a fair price for 
such purchases.\5\
    Reverse auctions may not obtain a fair price for the government for 
many other types of assets the Treasury may seek to purchase. In 
particular, determining fair market prices using an auction is 
difficult for assets that are not clearly the same or very similar in 
quality--that is, when the seller has more information about the 
quality of the asset than the buyer does. In such cases, each auction 
participant will offer up assets with unique attributes known only to 
the seller, thus increasing the likelihood that the government will pay 
too much. That type of problem is likely to be particularly severe for 
assets like individual home mortgages or esoteric derivative products 
entirely owned by specific financial institutions.\6\ Substantial 
purchases of such assets would make it unlikely that the Treasury could 
operate the proposed new program at little or no net cost.
    In other words, the more that the Treasury program concentrates on 
assets that are difficult for a buyer to value, the more likely that 
the government will overpay. The more that occurs, the more the program 
moves beyond simply reestablishing trading in illiquid financial 
markets and instead subsidizes the particular financial institutions 
selling assets to the government, at a cost to taxpayers.
           financial market and other effects of the proposal
    The Treasury's proposal is aimed at stabilizing financial markets 
and the economy by providing liquidity to support credit flows. One 
reason that credit markets have seized up is the uncertainty about who 
holds impaired assets and what they are worth, especially those related 
to mortgages. The underlying losses on those assets reflect the decline 
in home prices, but the mortgage loans have been repackaged as MBSs and 
then again into more complex securities such as collateralized debt 
obligations and credit default swaps that have spread the risk across 
many financial markets.
    The proposal would allow the Treasury to buy up those assets 
regardless of the form in which they are held. The core problem, 
though, has moved beyond the mortgage markets and has become a broader 
collapse of confidence in financial markets. It therefore remains 
uncertain whether the program will be sufficient to restore trust, 
especially if the program is limited to the asset classes in which the 
government is least likely to overpay for its purchases.
    At the same time, intervention on a massive scale is not without 
risks to taxpayers and to the economy.\7\ Almost by definition, the 
intervention cannot solve insolvency problems without shifting costs to 
the taxpayers. Ironically, the intervention could even trigger 
additional failures of large institutions, because some institutions 
may be carrying troubled assets on their books at inflated values. 
Establishing clearer prices might reveal those institutions to be 
insolvent. (To the extent such insolvencies were revealed, the net 
effect might not be deleterious. Providing more transparency about the 
lack of solvency at specific institutions may be necessary to restore 
trust in the financial system.)
    More broadly, there is an inherent tension between minimizing the 
costs to taxpayers and pursuing other policy goals. For example, as the 
manager of troubled mortgage assets, the government would be likely to 
come under intense pressure to avoid foreclosures or to take other 
steps to pursue goals for low-and moderate-income housing through 
activities that would not be subject to the constraints of the normal 
budget process. Those objectives may benefit specific homeowners, at 
the expense of taxpayers as a whole.
                alternatives to the treasury's proposal
    Some analysts, in assessing the Treasury's proposal, have pointed 
out that other recent actions by the Federal Reserve and the Treasury 
have given taxpayers significantly more upside in the form of equity 
stakes in the companies that receive assistance. Those actions have 
been aimed at supporting particular troubled institutions, rather than 
at enhancing the liquidity of the financial markets. Under some 
alternative proposals, the government would receive shares in an 
institution if it ultimately lost money on the sale of assets purchased 
from the institution. That approach would reduce the risk of overpaying 
for securities if the seller had more information about the value of 
those securities than the Treasury did. However, institutions that gave 
up equity would presumably expect to receive higher prices for their 
assets, and an equity stake in the firms might not offer any better 
upside to taxpayers than direct purchases of the assets on a risk-
adjusted basis. Furthermore, healthy institutions might be deterred 
from participating, which could make it more likely that the federal 
government would overpay for assets by limiting the potential number of 
sellers--and the potential dilution for existing shareholders if asset 
prices declined in the future might make it challenging for financial 
institutions that issued such equity to the government to raise private 
capital in the future.
    An alternative approach that is more directly aimed at addressing 
insolvency concerns is for the government to invest directly in 
financial institutions to strengthen their capital positions, without 
directly purchasing troubled assets. The injections could take the form 
of preferred stock, which would effectively lower the cost of new 
capital for the institutions. Such proposals could be modeled along the 
lines of the Reconstruction Finance Corporation, a Depression-era 
institution.
    A number of twists to that approach have been offered. Some 
versions require that the institutions match the injection with new 
private funds in the form of common stock. In addition, some require 
that the underwriting risk associated with raising new capital be 
mutualized by the group of participating institutions acting as a 
syndicate. The syndicate would be responsible for at least half of the 
underwriting burden, which would give it an incentive to limit 
membership to solvent institutions only. Participating banks might also 
be required to suspend dividends, which would increase their retained 
earnings and thus add directly to capital. (Although institutions can 
always cut their dividends, doing so usually sends a bad signal to 
financial markets. A requirement could dilute the effect of that bad 
signal.)
    Such proposals have some advantages: \8\
     They provide some upside to taxpayers in the form of 
dividends and capital gains on preferred stock. Under some proposals, 
the payments of dividends to the government would be deferred.
     They avoid the challenge of pricing and then selling 
individual assets (although they raise the issue of how to price the 
equity shares the government offers to purchase).
     They avoid rewarding the firms that have made the worst 
investment decisions.
     They keep the government as a minority shareholder. The 
firms' managers would continue to run the firms on a profit-maximizing 
basis, thereby mitigating the risks of the government using its equity 
positions to pursue a range of public policy goals.
     They could impose losses on shareholders and changes in 
management. Such plans have some disadvantages though:
     They fail to address directly the illiquidity problems for 
some assets and the associated uncertainty.
     The assistance may not be targeted to the institutions 
most in need of help, and the firms that most need capital may be most 
reluctant to take it.
     The approach could inject additional funds into 
institutions whose business model is no longer viable. Past experience 
suggests that extending the operations of insolvent institutions may 
increase the ultimate cost to taxpayers.
     The proposals raise difficult questions about eligibility 
criteria. For example, would finance companies that are part of large 
diversified holding companies be eligible?


                                endnotes
    \1\ Figures are from Bloomberg as of September 22, 2008. For 
institutions located in the Americas, recognized losses are about $260 
billion, while the amount of additional capital raised to date is $180 
billion, which leaves a gap of about $80 billion.
    \2\ Anil K. Kashyap, Raghuram G. Rajan, and Jeremy C. Stein, 
``Rethinking Capital Regulation'' (paper presented at the Federal 
Reserve Bank of Kansas City symposium on ``Maintaining Stability in a 
Changing Financial System, Jackson Hole, Wyo., August 21--23, 2008), 
available at www.kc.frb.org/publicat/sympos/2008/
KashyapRajanStein.09.15.08.pdf.
    \3\. Andrei Shliefer and Robert W. Vishny, ``The Limits to 
Arbitrage,'' JournalofFinance, vol. 52, no. 1 (1997), pp. 35--55.
    \4\ Rights to the income from the pool of mortgages are divided up 
into slices, or tranches. The senior tranches will get paid under 
almost all circumstances; the most junior tranches will take the first 
risk of loss of income from defaults on the underlying mortgages. Each 
tranche is identified by a standard CUSIP (Committee on Uniform 
Security Identification Procedure) number like any other publicly 
traded security. Pieces of each tranche are likely to be held by many 
institutions, some troubled, some not.
    \5\ For further discussion of efficient auction designs, see 
Lawrence M. Ausubel and Peter Cramton, ``Auction Design Matters for 
Rescue Plan.''
    \6\ Such problems could be attenuated by requiring that private 
capital pools run by the asset managers hired by the government under 
the program participate in some share of each purchase made by the 
government.
    \7\ Douglas W. Elmendorf, Concerns About the Treasury Rescue Plan 
(September 19, 2008), available at www.brookings.edu/opinion/2008/
0919--treasury-plan-elmendorf.aspx.
    \8\ Ibid.

    Chairman Spratt. Let me now turn to Mr. Ryan for his 
opening statement.
    Mr. Ryan. Thank you, Mr. Chairman. I apologize for being 
late. As you know, there are a lot of meetings going on in this 
building right now, to which many of us are attending. This a 
real serious situation. By nearly all accounts, the turmoil in 
our financial markets last week was unprecedented in recent 
history. Clearly, and I think rightly, Americans are genuinely 
worried. And all of us here, Republicans and Democrats, are 
very concerned about the situation we find ourselves in. We 
know that our markets are in serious trouble.
    And we also need to understand that this just isn't a 
problem for Wall Street. It is also a problem with potential 
harm to our entire economy. And everyone and everything from 
small businesses to workers to senior retirement accounts are 
at risk here. I think there will be an endless debate over the 
next few months, maybe years, as to how we got to this point. 
And there are certainly many contributing factors. But clearly, 
two of the biggest are, number one, a monetary policy that kept 
interest rates artificially low and encouraged imprudent and 
often outright reckless borrowing and lending.
    Number two, Fannie and Freddie's buildup of investment 
portfolios to boost profits, all at the risk and unlikely 
expense of the taxpayers.
    For the past few months, Congress and the administration 
has scrambled to address each of these episodes dealing with 
whichever crisis had come to a head at the moment, but not 
really doing anything to address the underlying problem and 
thus prevent the next crisis from popping up.
    This week, of course, we are all working with the 
administration and with Treasury to deal with this crisis. The 
administration has proposed an ambitious unprecedented plan to 
address this problem and to stem some of the fallout to the 
larger economy. The plan would provide Treasury the authority 
to purchase up to $700 billion in private mortgage-backed 
securities. And, yes, I have genuine concerns about giving 
Treasury, or anyone, that kind of authority.
    Finally--and a primary concern to this committee--what is 
all of this going to mean to the Federal budget?
    Dr. Orszag, I know that at this point the most accurate 
answer to this question is probably we just don't know. But 
that said, this is the business of this committee. We are going 
to have to figure this out. And I very much appreciate, Dr. 
Orszag, you doing your best today, under the circumstances, to 
give this committee your best assessment of the potential 
impact of the bailout legislation working its way through 
Congress this week.
    And Mr. Chairman I thank you for indulging me with the 
opening statement. I appreciate it.
    Chairman Spratt. Thank you, Mr. Ryan.
    Before turning to questions for our witness, I would ask 
unanimous consent that all members be allowed to submit an 
opening statement for the record at this point if they so 
choose. Without objection, so ordered.
    [Congressional Research Service report, submitted by Mr. 
Spratt, follows:]

  Prepared Statement of Baird Webel, N. Eric Weiss, and Marc Labonte, 
    Government and Finance Division, Congressional Research Service

                                summary
    In response to ongoing financial turmoil that began in the subprime 
mortgage-backed securities market, the federal government has 
intervened with private corporations on a large scale and in an ad hoc 
manner three times from the beginning of 2008 through September 19, 
2008. The firms affected were Bear Stearns, Fannie Mae and Freddie Mac, 
and AIG. Another large investment bank, Lehman Brothers, sought 
government intervention, but none was forthcoming; subsequently, the 
firm sought bankruptcy protection.
    These interventions have prompted questions regarding the taxpayer 
costs and the sources of funding. The sources of funding are relatively 
straightforward, the Federal Reserve (Fed) and the U.S. Treasury. The 
costs, however, are difficult to quantify at this stage. In the most 
recent interventions (Fannie Mae and Freddie Mac, and AIG), all the 
lending that is possible under the interventions has yet to occur. 
Also, in all the current cases, the government has received significant 
debt and equity considerations from the private firms. At this point, 
Fannie Mae, Freddie Mac, and AIG are essentially owned by the federal 
government. Depending on the proceeds from the debt and equity 
considerations, the federal government may very well end up seeing a 
positive fiscal contribution from the recent interventions, as was the 
case in some of the past interventions summarized in the tables at the 
end of this report. The government may also suffer significant losses, 
as has also occurred in the past.
    This report will be updated as warranted by legislative and market 
events.
                     where has the money come from?
    In the recent interventions, there have been two primary sources of 
funding: the Federal Reserve (Fed) and the U.S. Treasury. The Fed has 
the general authority under its founding statute to loan money ``in 
usual and exigent circumstances'' to ``any individual, partnership, or 
corporation'' provided five members of the Board of Governors of the
    Federal Reserve system agree.\1\ This authority has been cited in 
two of the three interventions this year, Bear Stearns and AIG. The 
source of money loaned under this section derives from the Fed's 
general control of the money supply, which is essentially unlimited 
subject to the statutory mandates of controlling inflation and 
promoting economic growth.\2\ Since the profits of the Fed are 
ultimately remitted to the Treasury, the indirect source of the funds 
is the Treasury. In the case of Fannie Mae and Freddie Mac, the direct 
source of funding is the Treasury, pursuant to the statutory authority 
granted in the Housing and Economic Recovery Act of 2008.\3\
                  the cost of financial interventions
    Determining the cost of government interventions, particularly 
those currently in progress, is not straightforward. Assistance often 
comes in forms other than direct monies from the Treasury, including 
loan guarantees, lines of credit, or preferred stock purchases, which 
may have little or no initial cost to the government. A loan guarantee, 
which can be thought of as a sort of insurance, has value even if it is 
never used. Many insurance policies are never used, but individuals and 
companies purchase them to reduce risk of loss. In many past cases, the 
value to various companies of federal guarantees was to allow them to 
access the private credit markets, issuing bonds or obtaining bank 
loans that they would not otherwise have been able to obtain. In other 
past cases, the federal guarantee resulted in a lower interest rate on 
the bonds or loans.
    Depending on the conditions attached to each specific intervention 
and how events proceed thereafter, the government may even see a net 
inflow of funds from the actions taken, rather than a net outflow. The 
summaries below address the maximal amounts promised in federal 
assistance and attempt to quantify the amounts that have actually been 
disbursed, although particularly in the most recent cases (Fannie Mae 
and Freddie Mac, and AIG), there is little information as to the exact 
amounts disbursed. There are also other, more diffuse costs that could 
be weighed. For example, many would argue that the cost to the 
taxpayers of any intervention should be weighed against the potential 
costs of financial system instability resulting from inaction, or that 
one intervention may lead to more private sector risk-taking, and thus 
necessitate additional future interventions (moral hazard). Such costs, 
however, are even harder to quantify than the realized cost of the 
interventions. This report does not attempt to address them.
                     recent financial interventions
AIG
    On September 16, 2008, the Fed announced that it was taking action 
to support AIG, a federally chartered thrift holding company with a 
broad range of businesses, primarily insurance subsidiaries, which are 
state-chartered. This support took the form of a secured two-year line 
of credit with a value of up to $85 billion. The interest rate on the 
loan is relatively high, approximately 11.5% on the date it was 
announced. In addition, the government received warrants to purchase up 
to 79.9% of the equity in AIG. According to the Fed, $28 billion has 
been lent to AIG as of September 18, 2008.\4\
Fannie Mae and Freddie Mac \5\
    On September 7, 2008, the Federal Housing Finance Agency (FHFA) 
placed Fannie Mae and Freddie Mac into conservatorship. As part of this 
conservatorship, Fannie Mae and Freddie Mac have signed contracts to 
issue new senior preferred stock to the Treasury, which has agreed to 
purchase up to $100 billion of this stock from each of them. If 
necessary, the Treasury agreed to contribute cash in the amount equal 
to the difference between each company's liabilities and assets. Each 
company issued the Treasury $1 billion of senior preferred stock and 
warrants (options) to purchase common stock for which the Treasury did 
not compensate the company. If the warrants are exercised, Treasury 
would own 79.9% of each company. Treasury agreed to make open market 
purchases of Fannie Mae and Freddie Mac mortgage-backed securities 
(MBS). Treasury has said that it expects to profit from the spread 
between the interest rate that it pays to borrow money through bonds 
and the mortgage payments on the MBS. Fannie Mae and Freddie Mac will 
guarantee payment of the MBS. Treasury agreed that if the companies 
have difficulty borrowing money, which has apparently not been the case 
to date, Treasury will create a Government Sponsored Enterprise Credit 
Facility to provide liquidity to them, secured by MBS pledged as 
collateral. There are no specific limits to these purchases or loans, 
but they are subject to the statutory limit on the federal government's 
debt. The authority for both preferred stock purchase and the credit 
facility will terminate December 31, 2009. At this point, there has 
been no announcement that the credit facility has been accessed, nor 
that any purchase of preferred stock has occurred.
Bear Stearns
    On March 16, JPMorgan Chase agreed to acquire the investment bank 
Bear Stearns. As part of the agreement, the Fed lent $28.82 billion to 
a Delaware limited liability corporation (LLC) that it created to 
purchase financial securities from Bear Stearns. These securities are 
largely mortgage-related assets. The interest and principal will be 
repaid to the Fed by the LLC using the funds raised by the sale of the 
assets. The Fed's loan will be made at an interest rate set equal to 
the discount rate (2.5% when the terms were announced, but fluctuating 
over time) for a term of 10 years, renewable by the Fed.\6\ In 
addition, JPMorgan Chase extended a $1.15 billion loan to the LLC that 
will have an interest rate 4.5 percentage points above the discount 
rate. Thus, in order for the principal and interest to be paid off, the 
assets will need to appreciate enough or generate enough income so that 
the rate of return on the assets exceeds the weighted interest rate on 
the loans (plus the operating costs of the LLC). The interest on the 
loan will be repaid out of the asset sales, not by JPMorgan Chase.
    Any difference between the proceeds and the amount of the loans is 
profit or loss for the Fed, not JPMorgan Chase. Because JPMorgan 
Chase's $1.15 billion loan was subordinate to the Fed's $28.8 billion 
loan, if there are losses on the $29.95 billion assets, the first $1.15 
billion of losses will be borne, in effect, by JPMorgan Chase, however. 
Thus, if the assets appreciate in value by more than operating 
expenses, the Fed will make a profit on the loan. If the assets decline 
in value by less than $1.15 billion, the Fed will not suffer any loss 
on the loan.\7\ Any losses beyond $1.15 billion will be borne by the 
Fed. It will likely be many years until all the assets are liquidated, 
and a final tally of the Fed's profit or loss can be calculated.


                                endnotes
    \1\ 12 U.S.C. Sec. 343.
    \2\ For more information on the Federal Reserve's actions, please 
see CRS Report RL34437, Financial Turmoil: Federal Reserve Policy 
Responses, by Marc Labonte. 3 P.L. 110-289, Title I.
    \4\ See Federal Reserve Statistical Release, H.4.1, dated September 
18, 2008, available at http://www.federalreserve.gov/releases/h41/
Current.
    \5\ For more information see the September 7, 2008 statement by 
Treasury Secretary Henry Paulson at http://ustreas.gov/press/releases/
hp1129.htm and CRS Report RL34661, Fannie Mae's and Freddie Mac's 
Financial Problems: Frequently Asked Questions, by N. Eric Weiss.
    \6\ Federal Reserve Bank of New York, ``Summary of Terms and 
Conditions Regarding the JP Morgan Chase Facility,'' press release, 
March 24, 2008.
    \7\ It will only have forgone interest it could have earned on 
other investments, namely U.S. Treasury securities.

    Dr. Orszag, I noted in my opening statement that, broadly 
speaking, there are two conventions for booking assets like 
this. One is to treat it as the purchase of an asset. But oddly 
enough, when you do that the asset acquisition price of a 
payment is booked as an outlay, but the value of the asset 
itself, the corresponding value of the asset, is not entered 
anywhere on the Federal books until the asset is sold. At that 
time, the proceeds of the sale are treated as offsetting 
receipts or as a negative outlay.
    The other is the Credit Reform Act in which case you try to 
calculate the likely losses and subsidies downstream and 
discount them back to present value. To the extent the present 
value is less than the original amount of the loan, you have 
got losses booked in the year of the loan.
    Which does CBO prefer to undertake in this case?
    Mr. Orszag. The latter. And in particular it is CBO's view 
that the budgetary treatment, if we went out and we bought in a 
liquid financial market where you would imagine that the 
Federal Government would be obtaining a fair price for an 
asset, we go out and we buy an asset for a dollar in a liquid 
market, the best budgetary treatment of that is basically that 
there is zero net gain or net loss at that point because you 
have purchased something for a dollar that is worth a dollar.
    And what has happened is that the government has rearranged 
its portfolio, rather than caused a deterioration in its fiscal 
condition. That is much different than going out and buying a 
tank for a dollar, if you could buy a tank for a dollar.
    So what we think is the best way of measuring these kinds 
of financial transactions is the degree to which what you are 
purchasing doesn't reflect liquid markets or doesn't reflect a 
competitive bidding process, and it is the net subsidy that you 
are providing. So if you go out and you buy something from a 
financial institution for a dollar that by some fair-value 
accounting basis is only worth 50 cents, the government should 
show a 50-cent subsidy. And the reason is that is what causes 
the deterioration in the government's physical condition. It is 
the subsidization that causes the deterioration, not just 
swapping assets on a fair-market basis.
    Chairman Spratt. That would be the amount that would be 
added to the deficit in that year?
    Mr. Orszag. Under the proposed accounting treatment and 
under what we think is the best way to account for these 
transactions, yes.
    Chairman Spratt. So in all likelihood it would be 
substantially less than the requested amount, $700 billion?
    Mr. Orszag. One would imagine that it should be 
substantially less than $700 billion, the net cost, yes.
    Chairman Spratt. Now, on page 3 of your testimony you say, 
At this time, given the lack of specificity regarding how the 
program would be implemented and even what asset classes would 
be purchased, CBO cannot provide a meaningful estimate of the 
ultimate net cost of the administration's proposal. The 
Secretary would have the authority to purchase virtually any 
asset at any price and sell at any future date. Lack of 
specificity, of course, makes it difficult for you to do 
anything.
    However, on the next page you say, CBO expects the Treasury 
will probably fully use its $700 billion authority, but the net 
cash disbursements under the program will be substantially less 
than $700 billion. Would you explain that?
    Mr. Orszag. Sure. It just returns to the discussion we were 
just having that the net impact on the Federal Government 
presumably will be significantly less than $700 billion unless 
you lose 100 percent of the value of whatever you are 
purchasing.
    So I can't quantify what the net gain or loss would be 
without knowing whether the Federal Government is purchasing 
whole loans or tranche-by-tranche reverse auctions on mortgage-
backed securities or more esoteric products. But it would seem 
implausible that the Federal Government would lose 100 cents on 
the dollar for every purchase that it made, which is what 
justified the statement on page 4.
    Chairman Spratt. Do you know and can you explain to us what 
scoring approach OMB intends to take?
    Mr. Orszag. My understanding is that OMB intends to 
undertake--and the legislation reflects--a similar scoring 
process in which, while the methodology may differ slightly, 
the result is the same. Which is to say the cost that is shown 
on the Federal budget will be the degree to which the Federal 
Government subsidizes the purchase of particular assets.
    Chairman Spratt. Would the estimate of credit cost vary 
from transaction to transaction depending on the terms of the 
transaction?
    Mr. Orszag. I would think so, yes.
    Again, returning to the basic point, if the Federal 
Government said, even through an auction process we are going 
to go out and buy specific loans from different banks, it is 
much more likely the Federal Government will suffer some losses 
on those transactions, not only because you are likely to wind 
up with, even with any given FICO score or any given risk 
classification, the sort of worst part of the distribution of 
the asset classes, as financial institutions are selling you 
the stuff that they most want to unload; but also because, as 
various parts of the legislation now reflect, the Federal 
Government may well be a more lenient owner of that mortgage 
than the bank itself was in terms of foreclosing and other 
measures.
    Chairman Spratt. You give us a graphic description and a 
good description of what has happened in the illiquid credit 
markets. Can you give us your analytical view of what could 
happen if we don't provide some substantial and extraordinary 
assistance?
    Mr. Orszag. Let me back up. Being able to obtain credit is 
crucial for households and it is crucial for firms. Our entire 
economy functions because people are able to obtain financing 
for what they want to purchase, and for firms what they--you 
know, new plans and equipment and investments that they want to 
make. And if that system collapses, we will have severe turmoil 
in the real economy, which is to say in our real lives in terms 
of our jobs, our output and what have you.
    So that is the fundamental problem. We have already seen 
some ominous signs emanating from capital markets. Corporate 
debt issuance plummeted in the third quarter. The short-term 
asset-backed commercial paper markets are under severe stress; 
bank lending. It is implausible to me, given the tensions in 
the banking sector, that even though bank lending so far has 
held up fairly well that it will not also come under severe 
stress. So the various places where you can go for liquidity 
are drying up and that is a huge problem to the economy.
    Chairman Spratt. Dr. Orszag, thank you very much. We will 
turn now to Mr. Ryan.
    Mr. Ryan. Let me just pick up where the Chairman left off 
because that is the kind of questioning I want to go to as 
well. Using the Credit Reform Act scoring methodology, but 
looking at this bill, Treasury is going to basically determine 
how to set up these auctions. And since we don't really have a 
price discovery mechanism right now, because we don't have a 
market for these securities, given that these mortgage-backed 
securities are--no one mortgage-backed security is like the 
other, you are going to have to give us a rear-view mirror 
score on this, correct?
    I mean, typically when we pass bills here, you give us an 
estimate on what it is going to cost, and that factors into our 
budget and therefore we make decisions based on these cost 
estimates. Is it basically not the case here that if this 
passes and we give the Treasury the authority, then they go 
forward, set up these auctions, a price discovery mechanism, 
and based on the price they pay for these securities, then the 
subsidies determine--you are not going to be able to give us a 
true cost of this until after these trades occur; is that not 
correct.
    Mr. Orszag. Well, yes and no. I think we could provide more 
information to you and at least an estimate of what the 
subsidies are likely to be if we knew even before the trades 
occurred what the structure of the mechanism was and what the 
asset classes are. So in particular if the Treasury said we are 
going to only do, again, tranche-by-tranche----
    Mr. Ryan. Triple A versus mezzanine versus all this other 
stuff.
    Mr. Orszag. Well, and even beyond that. They are talking 
about hundreds of thousands, if not millions, of mini-auctions. 
So it is not that we are going to go out and buy triple A-rated 
paper, sell us what you want, and we will determine a price; it 
is on mortgage-backed security number 123753 which is then--a 
tranche of that is then owned by 50 or 100 institutions. We are 
going to go out and bid just on that tranche, and you 50 or 100 
institutions, you bid for us. We are going to buy 20 percent of 
the total. That is likely to obtain a fair price. So if that is 
all that we were doing, I would say a fair guess is zero.
    If we are going out and we are buying, again just to return 
to the example of individual loans from banks, what we would 
provide to you then is some analysis up front before we knew 
what the individual transactions are of--if they say we are 
going to conduct auctions for FICO scores with the following 
ranges, we would look at what the distribution of performance 
of loans for those given FICO ranges are, assume the Federal 
Government is going to wind up with tilting towards the bad end 
of that distribution, given incentives for financial 
institutions, and give you some estimate based on that.
    So in other words, if they went out and they said we are 
going to put $200 billion into reverse auctions on a CUSIP-by-
CUSIP basis on mortgage-backed securities, $150 billion into 
purchasing individual loans in the following way and what have 
you, we could at least give you some estimate of what the net 
subsidy would be across those different asset classes. But we 
don't even know that.
    Mr. Ryan. So once the methodology is determined by 
Treasury, then you can start giving us estimates.
    Mr. Orszag. Yes.
    Mr. Ryan. Treasury, they have a couple of concerns, meaning 
they want to pump liquidity into these firms, into these banks, 
and they want to get these bad assets off the books. And we 
don't want the taxpayer to have to pay for it. We want this to 
be a net zero cost here. We are kind of at odds here, are we 
not?
    Mr. Orszag. Yeah.
    Mr. Ryan. And if the goal here is to pump liquidity into 
these institutions, that means they are not intending to pay 
fire-sale prices for these securities. They are going to pay 
above fire-sale prices. If the goal is liquidity, that means 
the taxpayer is going to pay for some of this; is that not 
correct?
    Mr. Orszag. I think we need to be very clear about what we 
are trying to accomplish here because the descriptions about 
what the programs are trying to accomplish often do get 
muddled. And as I mentioned before, there are two problems. One 
is many financial institutions may be insolvent and we are 
concerned about that. The second problem is various financial 
markets like I showed on my graph are not functioning 
effectively. Solving that second problem need not involve any 
significant subsidy from the Federal Government; solving the 
first problem does.
    To the extent that we implement these programs in a way 
where we overpay for assets, we are sort of in a backhand way 
addressing the insolvency issue, even though the program is 
framed as addressing illiquidity. And I would go beyond that 
and say we are likely to be addressing the insolvency issue in 
a kind of haphazard way where we are providing support to 
particular financial institutions that may not be under stress, 
not providing support to others that may be under stress. And 
if we are going to address the insolvency issue, it may be 
better to do it directly.
    I would also note, by the way, one other thing. That 
restoring liquidity to particular financial markets may 
actually exacerbate insolvency concerns because there is lack 
of clarity right now about which institutions are or are not 
insolvent, in part because many financial institutions are not 
fully marking to market. They are using flexibility not to 
fully mark their assets to market.
    Mr. Ryan. To play it out longer.
    Mr. Orszag. To play it out longer. And that is also 
creating some illiquidity because they don't want to sell at 
current market prices, given that that would then require them 
to book the losses and perhaps trigger problems.
    If we establish pricing for these assets, many institutions 
may be revealed to be insolvent because they would then have to 
mark to market, given the rules, which may look like a bad 
thing because the number of insolvencies would go up; but then 
again, I would say to the extent you have these sort of hidden 
insolvencies throughout the financial system, one of the 
reasons that trust in the financial markets is now undermined 
is precisely that concern. So if we revealed which institutions 
did and didn't have problems, even if that caused some 
insolvencies to be revealed, the net result may be positive in 
terms of restoring confidence that the people you are dealing 
with actually are solvent.
    Mr. Ryan. So when we establish price discovery, that is 
going to occur. If we subsidize the price discovery, we are 
going to delay the inevitable insolvencies that just have to 
get flushed through our system.
    Mr. Orszag. Well, if you subsidize the asset purchases, you 
are doing two things. You are sort of establishing some more 
price transparency, but you are also then transferring 
resources from taxpayers to particular financial institutions 
in a way that may be haphazard.
    Mr. Ryan. So if the goal here is solvency, is capital 
injections, it is a pretty crude tool we are using here and we 
may not be giving them to the healthiest organizations or 
institutions that ought to get the capital injections, and that 
is basically what you are saying. If the goal here is a 
liquidity issue, that is one thing. If it is a solvency issue, 
this is not the way to go about doing it correctly.
    Mr. Orszag. Well, just to return, I would say if it is a 
liquidity issue, then one should focus on trying to get the 
best price possible for the Federal Government and avoid 
overpaying. And to the extent it is a solvency issue and you 
are addressing that by overpaying for particular assets, you 
are kind of scattering money across lots of financial 
institutions, some of which may be perfectly healthy and not 
need help from a solvency perspective, and you are overpaying 
them too.
    Mr. Ryan. And we will simply delay inevitable bankruptcies.
    I will just finish with this. Let me ask you your 
professional judgment. And you are a trained economist. Do you 
see our problem primarily as a liquidity problem or as a 
solvency problem, meaning--and I think we just went through 
this a bit--do financial institutions suffer from a lack of 
short-term funding or have their assets declined to such an 
extent that they need to be recapitalized? What do you think is 
in essence the primary problem here?
    Mr. Orszag. I think both problems.
    Mr. Ryan. So you think they are twin?
    Mr. Orszag. I think both markets are affecting financial 
markets, yes.
    Mr. Ryan. All right. Thank you.
    Chairman Spratt. Ms. DeLauro.
    Ms. DeLauro. Thank you, Mr. Chairman.
    Dr. Orszag, thank you. I know that this is the Budget 
Committee and the questions are technical with regard to the 
budget. I am trying to put myself in the shoes of middle-class 
Americans who are trying to understand in essence what is 
happening. And, quite frankly, there hasn't been any real 
explanation to middle-class Americans about what is happening 
to this Nation.
    And reverse auctions and liquidity and insolvency and short 
selling and naked shorts and all that, they have no 
understanding. They just know that they are already in a very 
severe economic crisis and real economic insecurity in their 
families. And what is all of this going to mean to them?
    You started to say--and I would like you to address this, 
because you said something in your commentary that said that 
credit is stability, in essence is what you said. If you can 
describe what this financial situation at this moment, in the 
absence of whatever program they potentially would be looking 
at in terms of trying to bring some sense out of insanity here, 
how would you describe this to middle-class America and saying 
this is where we are, this is what this means to you, this is 
what happens if we do not act? And what are the kinds of pieces 
that need to be put into place in order to safeguard your 
economic security in this morass?
    Mr. Orszag. And I am going to try to avoid using any big 
words in doing this.
    Ms. DeLauro. Thank you.
    Mr. Orszag. Financial markets----
    Mr. Blumenauer. Speak slowly.
    Mr. Orszag. I will speak slowly and not use big words. 
Financial markets--that is, banks and the institutions that 
lend to--let's just take a hypothetical household. They work 
for a company, Company X, Y, Z. They own a house, they own some 
cars, okay. The company that they work for finances its 
operations. So it makes whatever, widgets or whatever you want 
it to make. And it relies on borrowing from lots of financial 
markets and from banks in order to do what it does.
    Right now financial markets are suffering a collapse of 
confidence. The people that--the institutions that would 
normally lend to your employer are reluctant to do so, in part 
because of this turmoil surrounding, again, lack of confidence. 
And the company itself would often sometimes issue debt to 
finance its operations. It would issue a bond or something like 
that so that it could have cash to pay your salary. That is 
also under stress. It would borrow over, like, for short 
periods of time and then pay the money back.
    So let's say it had a new set of inventory coming in. It 
would borrow a little bit of money to buy the inventory and 
then as it sold this stuff at stores, it would pay off that 
short-term loan. It is having trouble getting that, too, 
because of this collapse of confidence.
    Similarly, ultimately the bank from which you got your 
mortgage and the bank that financed your auto purchase, they 
are under stress, too. They don't have enough capital to lend 
you that money. And that is in part because they are having 
trouble borrowing from other banks and other financial 
institutions.
    So this implosion of confidence among financial market 
participants ultimately will affect you, even though right now 
it may seem really esoteric and kind of just out there in some 
other world. It will come home in the form of your company 
having trouble financing its operations, and it will come home 
in the interest rates that you have to pay on mortgages and 
auto loans and what have you, and those effects may be somewhat 
delayed. The history does suggest that those kinds of effects 
occur some period after the financial market turmoil itself 
begins, but they do happen.
    Ms. DeLauro. Quickly, let me ask you this. One of the main 
causes of this was the subprime mortgage crisis, if you will, 
the whole issue of how mortgages were issued et cetera. If that 
being the case, with all of the potential relief that we are 
trying to bring to the markets here, in anything that you see, 
with any of the current plans that are on the table, the 
conditionalities, et cetera, is there anything that is 
essentially looking at restructuring, if you will, our mortgage 
institutions fundamentally and in the way they do business and 
the mortgage contract?
    Do you see any of that in anything that we are looking at, 
if that was the root cause of this problem?
    Mr. Orszag. I would go broader and say we are in the middle 
of a potential crisis and there are a variety of things that 
seem targeted at that, although with some ambiguity about 
exactly what they are targeting, as we were just discussing.
    And then, secondly, there are a whole series of structural 
and regulatory reforms, not only on home mortgages and 
commercial mortgages, but in terms of the overall regulation of 
the financial sector, that are under discussion and that are 
worthy of serious consideration.
    I don't see them moving at the same speed as this proposal 
appears to be.
    Ms. DeLauro. On what side? Where's the speed? On the 
financial institutions versus the mortgage side, or is it a 
regulatory problem?
    Mr. Orszag. No, no. I just meant the whole question of how 
to structure the regulatory apparatus, which I want to say is 
in need of restructuring, but one also needs to be very 
careful. We often fight the last war and create the seeds of 
the next problem by making changes that seem attractive at the 
time, but then create problematic incentives later on.
    So as we move forward in restructuring financial 
regulation, including for mortgage originators and the whole 
mortgage process, one needs to be very careful to make sure we 
are not just fighting the last war but also looking forward to 
preventing the next one.
    Ms. DeLauro. I just will get you a copy of an article in 
the New York Times, September 21st, by Robert Shiller at Yale, 
the professor of economics at Yale, talking about the mortgage 
of the future and some ideas about how to restructure. And I 
would like to get your views on that.
    Mr. Orszag. Let me just briefly pause. This is a little bit 
outside of the immediate hearing. But Bob Shiller and others 
are emphasizing something that I think is crucially important: 
that in financial markets and in the rest of public policy, we 
need to be paying more attention to psychology and a little 
less attention to the purely rational econ 101 version of the 
world where everything is frictionless and things work 
perfectly. Because in the real world that often tends to be 
particularly important. And Bob Shiller is among the leaders in 
advancing that field of thought.
    Ms. DeLauro. And he talks about continuous work-out 
mortgages and us investing. Thank you very much, Mr. Chairman, 
I appreciate your bearing with me.
    Chairman Spratt. Mr. Hensarling.
    Mr. Hensarling. Thank you, Mr. Chairman. And thank you for 
calling this hearing. It is clearly one of the most important 
hearings I have attended in my congressional career. For many 
of us, I think, we feel like we are being faced with a 
financial panic and crisis on the one hand and potential 
taxpayer bankruptcy in a fundamental change in the role of 
government in a free enterprise economy on the other.
    For those who may think that Congress will choose between 
those two options in 72 hours, that is a rather naive thought. 
So I appreciate, Mr. Chairman, you holding this hearing.
    I think I understand the short-term gain to be had by the 
Paulson plan or some permutation thereof. But clearly this 
committee also needs to focus on potential long-term pain, 
long-term pain to the taxpayer.
    Although we reviewed it before Dr. Orszag, simply the 
Federal Government that we have today left on automatic pilot, 
isn't it more or less the consensus of CBO, OMB, GAO, that 
without any fundamental changes in the programs we have today, 
that if we wanted to balance the budget through tax increases 
only, that we would essentially have to double taxes on the 
next generation? Is that not the glide path that we are 
essentially on?
    Mr. Orszag. Very substantial increases in revenue would be 
required. We have substantial increases in spending driven, as 
you know, mostly by our health programs under current policy.
    Mr. Hensarling. So we are coming off, I believe, the single 
largest 1-year increase in the Federal debt, the single largest 
unfunded obligations we have ever had, at roughly $57 trillion, 
and the long-term prospect is not good today. So on top of 
that, we are looking at perhaps a $700 billion program.
    Some say, and I believe you opine, that maybe there is a 
possibility the taxpayer actually made money out of this. But 
first let's look at history as our guide. And you have greater 
expertise on this than I do. But the closest incident I can 
find is the S&L bailout of the early 1980s. My reading, in real 
dollars, is that cost the taxpayer roughly $150 billion to $200 
billion. Do you have a different reading of that?
    Mr. Orszag. That is roughly the same range. I agree with 
that range.
    Mr. Hensarling. So it is certainly not axiomatic that 
somehow the taxpayer is going to make money if they buy a bunch 
of troubled assets. There is certainly the potential for great 
loss.
    Mr. Orszag. But let me just clarify. And there have been 
parallels drawn to the Resolution Trust Corporation and what 
have you. It is a much different situation. That loss occurred 
mostly because the Federal Government had insured deposits at 
institutions that then failed. And the assets, the Resolution 
Trust Corporation, the asset part of that was when the 
institution failed, we took over the asset side of their 
balance sheet in addition to the liabilities, and then we sold 
off the assets. That is a much different thing than going out 
and buying assets, seeing what price you can get for them, and 
then later selling them.
    Mr. Hensarling. But they are still illiquid assets in many 
places without a functioning market.
    Let me also ask you this question. There is certainly a 
cost in allowing financial institutions to fail. And as you 
well point out, there is a huge psychological component to the 
capital markets. But isn't there also a cost to keeping some 
institutions open that perhaps should be forced to realize 
their losses?
    Is there a parallel to the lost decade in Japan where 
essentially by trying to keep failed financial institutions 
open, they enjoyed a decade of stagflation and negative 
economic growth? Might that be a potential cost to this plan?
    Mr. Orszag. Yes. In particular, perpetuating--so I think 
the lesson of history suggests that especially in banking 
crises, that perpetuating insolvent institutions just raises 
costs. And it is better to address the problem up front, take 
the problem assets off the books somehow, or address the 
problem directly. And I think the Treasury folks would say they 
are trying to do that.
    Mr. Hensarling. In looking--a number of Members of 
Congress, Dr. Orszag, as you probably know, are looking at a 
lot of options. And clearly there are many lousy options on the 
table, and to some extent it is having to choose among lousy 
options. Some wish to explore a secured loan program versus 
Uncle Sam walking in to try to buy up troubled assets from 
institutions that may not deserve it and may not deserve--and 
may pose longer term systemic risk to the economy by staying 
open.
    How would, under CBO scoring--and maybe the answer is the 
same--are we essentially trading asset for asset if 
conceptually the program was structured as a secured loan 
program as opposed to an asset purchase program?
    Mr. Orszag. I have heard some discussion of similar 
proposals, and the scoring would be the same. The question is--
so you are extending a loan secured by some underlying asset to 
a financial institution or someone else--and the question is 
what are the loan terms and are you subsidizing that facility 
or not? And if you are not, the net cost in expected value is 
zero.
    Mr. Hensarling. Thank you, Mr. Chairman.
    Chairman Spratt. Mr. Edwards.
    Mr. Edwards. Dr. Orszag, I will leave the debate for 
another day on how we got into this mess and to what extent 
unpaid for tax cuts and the deregulatory philosophy were major 
contributors to all of this. And I think we all recognize we 
are facing a serious crisis.
    My first question to you is, is this potential crisis so 
severe and so imminent that the difference between Congress 
acting by Friday of this week or Friday a week later could make 
a difference in the economy?
    Mr. Orszag. I can't answer that. What I can say is that if 
there is no action taken and Congress departs and there is just 
nothing, that you are running a very substantial risk of utter 
financial crisis. Whether it has to happen over the next 72 
hours or the next week or 10 days is impossible for me to say, 
and I don't think anyone can say.
    It comes back to the role of confidence in psychology. That 
is at heart what we are dealing with here is the confidence of 
financial markets.
    Mr. Edwards. Would it be your best judgment--and I realize 
it is subjective judgment--but would it be your best judgment 
if the congressional leaders, Republicans and Democrats alike, 
say we are going to have a rescue plan, it will be significant, 
but we are going to take an extra week to get it right, rather 
than to push it to the President's desk under a gun?
    Mr. Orszag. Again, my perception is the key thing that 
financial markets are looking for now is the existence of a 
significant package. And I suppose that coming out with a 
statement of principles or agreement that there will be a 
package, and that we are going to make sure that we reach 
agreement on that within some period of time, would fulfill 
that purpose.
    Mr. Edwards. My next question is, what would be your 
expected projection on the impact on short-term or long-term 
interest rates when the United States Government goes out in 
the markets and borrows $700 billion?
    Mr. Orszag. That is a great question. It depends on the 
degree to which--two things--the degree to which we actually 
wind up subsidizing things; and, secondly, the degree to which 
the financial markets perceptions and psychology matter.
    So let me just in a purely rational, you know--everything 
works like a textbook suggests--any effect on interest rates 
and the exchange rates should only reflect the degree to which 
the Nation's underlying fiscal condition is deteriorated as a 
result of these interventions. And again, if we are getting a 
fair price and there is no net subsidy, that is just a wash. 
That should be you are just trading one asset for another. It 
shouldn't cause any--at least in a purely textbook kind of 
rational way--shouldn't cause any financial market effect, 
including on interest rates.
    But to the extent we do subsidize the purchases, that 
should show up in interest rates and the exchange rate; and, 
secondly, to the extent that financial markets don't have 
clarity about whether we are providing a subsidy or not and are 
guessing about that, there can also be effects on interest 
rates and exchange rates from that.
    Mr. Edwards. Okay. My final question is this. Give me the 
best-case scenario, the worst-case scenario and what you think 
is the most likely scenario of Congress taking no action. And 
when I say ``best case'' and ``worst case,'' I mean in terms of 
impact on GDP, I mean in terms of unemployment rates, I mean in 
length of a recession or potential depression, if you are 
talking about the worst-case scenario.
    Mr. Orszag. You are asking me if Congress does not act what 
the effects would be?
    Mr. Edwards. I am asking you if Congress takes no action--
make that assumption--what is the worst-case scenario, what 
will happen to our economy in terms of GDP growth, in terms of 
unemployment rates, length of a recession or potential 
depression, and what would be the best-case scenario if 
Congress takes no action? And then if you still have time, what 
you think the most likely scenario would be.
    Mr. Orszag. I will just come back to saying that if having 
created the expectation in financial markets that there will be 
a package, and given the stresses that we saw last week in 
financial markets, if there is no package whatsoever, there is 
a very significant risk of utter financial market chaos, which 
will then have significant effects on the real economy in a way 
that I think isn't particularly helpful for me to lay out in 
its full gory details. But it would be a very bad situation.
    Mr. Edwards. Let me focus on that because I want to make it 
clear. I am talking about the worst-case scenario, not your 
most likely projection. But we need to understand in looking at 
the cost and benefits of taking action or no action, and one of 
the costs of taking no action is the worst-case scenario, is it 
possible that the worst-case scenario--if Congress takes no 
action--is something similar to the market crash of 1929?
    Mr. Orszag. Again, I don't want to start speculating on the 
precise quantitative magnitudes other than to say you would, in 
that case I think, have a financial market meltdown which would 
cause very severe economic dislocations, which may be on the 
order of magnitude of Great Depression-type effects, but 
exactly how it plays out--one of the things about crises is 
they can play out in such a terribly diverse array of ways that 
speculating in exactly the specific way that a crisis plays out 
doesn't seem productive to me, other than to say it would be 
very serious.
    Mr. Edwards. Thank you.
    Chairman Spratt. Mr. Conaway.
    Mr. Conaway. Thank you, Mr. Chairman. And I appreciate my 
good colleague from Texas not wanting to debate how we got 
here, because I too would like to defer that, and whether it 
goes back as far as the Community Reinvestment Act and the 
seeds of that causing it, we can have that debate at a 
different day.
    You cut off your analysis of the family impacts. Talk to us 
a little bit about the impact that that reduction in business, 
slowdown for that particular business, would have on the 
family's 401(k) to the extent it might be invested in company 
stock and the impact that that had? And then also visit with us 
about the risks that this could severely damage the overall 
U.S. economy and kind of give us a magnitude.
    We had a guy the other day give us kind of a back-of-the-
envelope guess as to what Federal revenues might be impacted if 
we had a 1 percent increase in the economy or a 1 percent 
decrease in the economy.
    So flesh out the impact on the family. In addition to jobs 
and those kinds of things, one of them said they were 401(k) 
and retirement planning.
    Mr. Orszag. Well, again, to the extent that as the prices 
decline, their 401(k)s and IRAs and any other assets they have 
would decline also. To the extent that you are causing further 
disruption to the housing market and shutting down any 
additional mortgage lending or making that much more expensive, 
you are also curtailing or reducing their house price perhaps 
even further, raising difficulties for them to finance any new 
purchases, even if they would want to, given the threat to 
their employment and income because their employer is having 
difficulty.
    So all of these things become a self-reinforcing negative 
spiral. And the fact that they are then less confident about 
their future and not going out and buying the new refrigerator 
means that the seller of the refrigerators has lower sales. 
That is the kind of scenario in which you can have a very 
substantial downward spiral that affects the macro economy.
    You are then also right, if we were to enter a severe 
recession, Federal revenue would be significantly adversely 
affected. And in addition to that, various kinds of spending 
would go up, including things on food stamps and unemployment 
insurance and what have you, the net result of which would be 
to take the deficit figures that have already been spoken about 
and raise them significantly.
    Mr. Conaway. Give your thoughts on, as I look at the 
circumstances, the most immediate issue to me is a seizing up 
or a freezing of this overnight credit market that is really 
below most people's radar screens.
    I was in a bank and used to run the bank's long- and short-
term portfolio, and all extra cash every night was invested and 
you just assumed it was coming back the next day. To me, that 
is the crisis of confidence and the risk to the system.
    How does dealing with the housing, the subprime mortgages, 
and all these other kinds of things, fixing that, how do you 
see that instilling the confidence or restoring the confidence 
that these individuals across the United States who are making 
those overnight decisions will have that the money is going to 
come back the next day?
    Mr. Orszag. They are related. Let me pause on this for a 
second, with the Chairman's indulgence, because I think this is 
crucial. This is what one of the most salient aspects of the 
crisis has been, which is, to a first approximation, financial 
institutions are no longer lending to each other on an 
overnight or short-term basis. Instead, it is being 
intermediated through the Treasury and the Fed. So instead of 
financial institution A that has extra money lending directly 
to financial institution B that needs the money for the day or 
for the night, the financial institution that has extra money 
is lending money to the Treasury, which is selling additional 
debt. The Treasury is taking the cash and putting it in the 
Federal Reserve. The Federal Reserve is taking that money and 
lending it out to financial institution B, because financial 
institution A is unwilling to extend the credit to the other 
financial institution, given the risk of not being repaid, 
whereas they are confident that the Treasury Department will 
repay--you know, is good for the money or that that will all 
work out well. And the Federal Reserve is willing to lend to 
financial institution B.
    It is not a healthy development for the Federal Government 
to be intermediating overnight in short-term transactions in 
that way and to that degree, and that reflects the collapse of 
confidence.
    So then the question becomes, what jump-starts that 
confidence again? And the two approaches, broadly speaking, are 
to restore liquidity to various asset classes that are 
currently illiquid. I am not lending to you because you have 
got $200 billion of mortgage-backed security stuff on your 
books, and I am not really sure what it is worth. So that is 
one way of approaching it.
    The other is, I am not worried you have enough capital--
even if I knew what the $200 billion was worth--that you have 
enough capital cushion, if housing prices and mortgage-backed 
security prices decline, that you would be able to repay me, 
given the difficulty you may have in raising capital yourself. 
So I want you to have a bigger capital cushion.
    And that leads to the equity injection or more solvency 
prism or perspective on the problem. Either approach could help 
significantly, and in fact in some sense that is the driver of 
the crisis. Having that overnight lending collapse, as that 
chart showed you, is a very unhealthy development. And putting 
the Federal Government in the middle of all those transactions 
is not a salubrious way of running a financial system.
    Mr. Conaway. As part of your telling us you weren't going 
to use long big words, ``salubrious'' is a big one. Thank you, 
Mr. Chairman, I yield back.
    Chairman Spratt. Mr. Cooper.
    Mr. Cooper. Thank you, Mr. Chairman. Thank you, Dr. Orszag, 
for your very helpful testimony. I would like to divide the 
problem into three levels: Number one is fighting individual 
fires; number two, fire control policy of systemic solution; 
and number three, talking about the fire department. First, 
talk about fighting individual fires, financial fires. How much 
capacity does the Treasury Department or the Fed have to take 
on an individual case today like an AIG or a Lehman Brothers or 
a Bear Stearns?
    Mr. Orszag. The Federal Government has substantial capacity 
to take those on. The question is whether that is the most 
efficient way of doing it. And the concern is that financial 
markets, without a more systematic approach, get concerned 
about a particular institution, AIG, and then we step in on 
that, and then they become concerned about some other 
institution, we have to step in there, and then it is like the 
whack-a-mole game where something keeps popping up and it is 
very difficult to keep up.
    Mr. Cooper. I share those concerns, and I want an efficient 
solution. We are going to have a substantial debate over the 
efficient solution of fire control policy, so it is no longer 
just whack-a-mole. But your answer did seem to indicate that 
the Federal Government has still substantial capacity to take 
on the moles as they need to get whacked.
    Mr. Orszag. At some cost to the American taxpayer and at 
some cost, ultimately, to our outstanding reputation with 
regard to our debt and risk characteristics. But, yes, we do 
have--we can issue a lot more Treasury debt if we need to.
    Mr. Cooper. The second level, fire control policy. Your 
distinction between the liquidity problem and the insolvency 
problem is very helpful, and I wish that more discussion could 
take place on that. As I break that down, it seems like if the 
taxpayer invests in solving the liquidity problem, we have a 
substantial opportunity by buying assets at fire-sale prices to 
possibly even make money, because some bailouts in the past 
have in fact produced revenue to the taxpayer; for example, the 
Chrysler bailout when we got warrants.
    But to the extent we try to bail out insolvent 
institutions, on the other hand, we can face a substantial risk 
of not only losing money but keeping debt institutions alive 
artificially that probably should be taken out in the market. 
So we face two different types of choices here that can 
conflict.
    But my main question is on the integrity of the fire 
department. That is the Federal Government. If we lose the 
capacity to fight fires, then we are really in trouble. And 
that is my ultimate concern because, as was discussed earlier, 
the fiscal gap, the huge unbudgeted, untold liabilities of this 
country, are at least $57 trillion; and if you throw in 
Medicaid, it is probably $70 trillion or $80 trillion.
    And we do know that when this administration went into 
office, the total national debt accumulated over 230 years was, 
like, $5 trillion. But now, with the latest administration 
request, that will be up to $11.3 trillion, greater than a 
doubling in just 8 years.
    To some extent, I am worried that we could lose our 
capacity to fight fires. And that is the ultimate concern. And 
that is why Congressman Frank Wolf and I have proposed an 
entitlement reform commission, so that this Congress and future 
Congresses can get advice from experts on how best to tackle 
these gargantuan problems. Because I love Medicare, I love 
Medicaid, I love Social Security, I want to keep them alive, 
but the best way to keep them alive is to prepare for their 
needs.
    Mr. Orszag. Let me say two things about that.
    One, as this committee has heard over and over again, and I 
don't want to sound like the boy crying wolf, but it is a fact 
that, given the path that we are on, two things: One is we will 
ultimately wind up with a financial crisis that is 
substantially more severe that even what we are facing today if 
we don't alter the path of Federal spending; and secondly, that 
if we were on that path in the future and something like we are 
experiencing today occurred, we would have much less 
maneuvering room to fight those fires, because we will have 
already depleted the fire truck.
    Mr. Cooper. Thank you, Mr. Chairman. My time has expired.
    Chairman Spratt. Thank you.
    Mr. Garrett?
    Mr. Garrett. Thank you, Doctor. And let me, too, compliment 
your presentation. For an economist, you are extremely 
understandable. I appreciate that.
    And just a couple points I would like to go over with you.
    When I just walked in, I came in after your presentation, 
but one of the answers to Paul's question was how you put this 
on the books. And I thought I heard you say something to the 
effect of the dollar-for-dollar example, and I thought you made 
some sort of comment as far as the element of the fact that the 
Treasury, you don't know right now--A, you don't know the plan 
specifics, but, B, you don't know right now how long they are 
going to hold these assets; they may hold them for a day, a 
week, a month or a year.
    The question is, does that element of uncertainty go to the 
issue? I don't think it does, but does it go to the uncertainty 
for you being able to come up with a figure on the balance 
sheet?
    Mr. Orszag. We know basically nothing about how this 
program is going to be implemented with regard to even what 
assets will be purchased, how they will be purchased, how the 
structure of incentives for the asset managers that will be 
acting on behalf of the Federal Government will be structured.
    So, in that context, what I said was, at this point, we 
can't give you a quantitative estimate because there aren't any 
details on which to base a quantitative estimate.
    Mr. Garrett. But the question, though, is, if you had most 
of the information, whether they sell them a day or 6 years 
later, shouldn't--if I understood you correctly, the dollar-
for-dollar exchange, because whether you would sell them the 
next day or 6 years later----
    Mr. Orszag. Yeah, that wouldn't be at the top of the list 
of characteristics that I would be looking for to evaluate the 
net subsidy.
    Mr. Garrett. Thank you.
    On a broader issue but on the sale aspect, we have heard 
various things as to what their plan would be. I thought I 
heard Chairman Bernanke say in the Senate committee the other 
day that he would think probably what they would want to do is 
to hold the securities for their life, their duration, even 
though they may be 30-year notes or what have you. In reality, 
if they are home mortgages, most people move in 7 years, so 
they are probably going to hold them for 7 years.
    Assume that is the case, that they hold them out, as 
opposed to the RTC arrangement, which, as you already 
discussed, is not as comparable but, in that case, it was more 
of a fire sale, ``let's get rid of these things so we can move 
on.'' The fact that you would hold them out for that period of 
time would, A, I presume get you potentially a better price for 
them, but, B, does that affect the bottom-line impact that it 
has on the economy overall as potentially dragging out, if you 
will, the negative downward pressure on the economy over time? 
Is there an uncertainty of anybody else getting to that market?
    Mr. Orszag. You know, I think there has been a lot of 
confusion about exactly what those remarks meant. It is not 
clear to me that they were intended to mean that the Federal 
Government would hold the asset to maturity, as opposed to 
perhaps drive pricing closer to the valuation that would be 
consistent with holding it to maturity.
    But, again, I think there has been a lot of ambiguity about 
precisely what those comments did or did not mean.
    Mr. Garrett. Can you just give a hypothetical, though, does 
the impact, were the Feds to say, ``This is our policy, to hold 
them out,'' how does that impact upon the economy recovering 
during that period of time?
    Mr. Orszag. Again, I would go back to it is not actually 
whether the Federal Government holds it to maturity, because 
that goes back to the length of--whether you are selling 
something tomorrow or next year or 2 years later. Primarily, I 
think a more important aspect of this is, are you trying to 
reveal what market pricing is today, or are you trying to come 
up with some concept of what you think that underlying value on 
a hold-to-maturity basis is, which, if you are not doing it 
through a competitive process, could wind up being very 
complicated and could wind up having the Federal Government pay 
substantially more than current market pricing suggests.
    Mr. Garrett. Okay. The proposal that you have been talking 
about today, the general proposal, the major bailout, one 
comment is budgetary treatment of the proposal. But could you 
go back a little bit to one of the last sections that we did, 
and we talked about this, and that is the GSE situation, and 
just give your comment on--not the dollar figure, I am not 
trying to put a dollar figure on it, but whether or not and how 
it should be budgeted?
    Mr. Orszag. CBO has suggested that, given that these 
entities are no longer plausibly arm's length from the Federal 
Government, in our view, their operation should be combined 
with the Federal Government's operations in the budget. And 
that is the way we are going to be reflecting their activities 
in our baseline early next year.
    And, by the way, a recent development, I think, underscores 
the wisdom of that approach, which is, I believe it was last 
week, the Secretary of the Treasury said, ``We, the Treasury, 
are going to go out and purchase additional mortgage-backed 
securities, and we are also directing Fannie Mae and Freddie 
Mac to do the same thing.''
    I don't think that those two things should be reflected 
differently in the Federal budget given that they are based on 
the sovereign power of the Federal Government in terms of 
ultimate direction. And our approach will reflect those in 
similar ways.
    Mr. Garrett. So is that potentially like a $6 trillion or 
$7 trillion item that you add to the budget or----
    Mr. Orszag. Exactly how it is done is a little bit 
complicated, and it is unlikely to be anything close to those 
numbers.
    Mr. Garrett. I would be curious sometime just to----
    Mr. Orszag. Sure.
    Chairman Spratt. Mr. Becerra?
    Mr. Becerra. Dr. Orszag, thank you very much, once again, 
for your testimony.
    Let me move back for a moment. For many years, we have been 
concerned about the size of the budget deficits that the Bush 
administration has been running. The Bush administration came 
in in 2001. We were told that there would be budget surpluses 
totaling something close to $6 trillion, about $5.6 trillion, 
over the next 10 years. And, instead, we have seen nothing but 
deficits, record deficits, over the last several years, to the 
point where we have seen over $3.5 trillion in deficit spending 
under this administration, some $3.5 trillion added to the 
national debt, if that is about right?
    Mr. Orszag. I don't have the number off the top of my head.
    Mr. Becerra. It is something over $3 trillion.
    Mr. Orszag. I will take your word for it.
    Mr. Becerra. If we didn't have a deficit of over $400 
billion that we are looking at for this coming fiscal year, and 
had we not spent hundreds of billions of dollars each year over 
what we had over the last 7 years of the Bush presidency, would 
we be in better shape as a Nation to try to help address this 
financial mess that we are confronting today?
    Mr. Orszag. I would say that the lower the public debt is 
relative to the size of the economy and the smaller the budget 
deficit is as you go into a crisis, the better off you are in 
terms of dealing with a crisis.
    Mr. Becerra. It sounds like an economist's way of saying 
``yes.''
    Mr. Orszag. Yes, it is.
    Mr. Becerra. Now, part of that massive debt that we have 
incurred over the last 7 years went to help pay for the 
President's tax cuts, the Bush tax cuts of 2001 and 2003. We 
were told that these tax cuts would help provide economic 
growth and increase prosperity for Americans. And today what we 
know is that deficit spending to cover the costs of those tax 
cuts has left this country in a more difficult predicament, as 
we just indicated from the previous question about the size of 
the national debts and how it leaves us now in a more difficult 
posture to try to deal with this financial crisis.
    After 7 years of the 10-year Bush tax cuts, do you see any 
near-term positive outlook for the economy?
    Mr. Orszag. Well, CBO, even before this most recent 
collapse of confidence in the financial markets, issued an 
economic and budget outlook in which we projected very 
significant weakness in the economy for the rest of this year 
and into the early part of next year, and then, thereafter, 
some recovery back to normal conditions. If anything, the 
financial market turmoil should only make that outlook somewhat 
more dire.
    Mr. Becerra. Yeah. So, even now, close to the end of the 
10-year Bush tax cuts, we still haven't seen that rosy garden 
that we were supposed to find after devoting trillions of 
dollars to these Bush tax cuts that went mostly to very wealthy 
folks, many of the same folks who probably got us into this 
mess that we are in right now in the financial markets.
    Middle-class American families are doing today what they 
did yesterday, what they did 3 years ago, and they are probably 
going to continue doing the same thing a year or 2 years or 
more from now. That is, they get up in the morning, they go to 
work, they send their kids to school, they try to save a little 
money. Most working-class Americans, whether they are in the 
middle class or not, are doing the same thing they did before, 
they did today, and they will do tomorrow.
    Now, lenders in this country aren't doing what they did 
yesterday, may not be able to do the same thing tomorrow. Many 
of the traders on Wall Street aren't doing what they did 
yesterday, are doing things differently today, and may do 
things differently tomorrow.
    But it is the guys on Main Street, that middle-class 
family, that working-class family, is the one that is being 
asked to do something differently, even though they kept doing 
the same thing they did year-in, year-out: work hard and 
provide for their family.
    Is there a quick way that you can explain why that family 
that didn't do anything that he or she or that family knows 
about to cause this financial mess should now, all of a sudden, 
be asked to give dumb money, in other words, to have no say? 
They are the Mikeys in this mess, if you can remember the 
commercials 20 years ago. The brothers would always give the 
littlest brother, Mikey, the new cereal that----
    Mr. Orszag. Mikey likes it, yes.
    Mr. Becerra. I don't know if Mikey would like this one.
    But is there any reason why we should treat the American 
middle class as Mikey without knowing what we are going to get 
in coming up with any $700 billion bailout?
    Mr. Orszag. Well, again, I think those kinds of questions 
are really for you rather than for me. But I would come back to 
saying that, even if it is not any of their doing, that family 
ultimately, if we perpetuated this kind of financial market 
turmoil, will be hit in some unfortunate way, even if it is not 
their fault or has no direct connection between what they were 
doing and the current turmoil. That is unfortunately the case.
    Mr. Becerra. So, unlike the Bush tax cuts that went 
principally to very wealthy folks, not to middle class; unlike 
the unpaid-for expenditures in Iraq, which probably gave 
America's families, in many cases, a smaller family because of 
the death of a soldier; perhaps, in this case, we could try to 
ensure that if the American family is going to be asked to bail 
out people that they don't deal with on a day-to-day basis, 
that we make sure it is an investment for the American family.
    So if we are going to give any amount of taxpayer money, we 
have to make sure there is a return for the American taxpayer 
before we move forward. And, certainly, at this stage, we 
haven't seen the administration come up with a proposal that 
does that for the American family.
    And you don't need to comment. That is more a rhetorical 
question. But I thank you for your time here.
    And, Mr. Chairman, I yield back the balance of my time.
    Chairman Spratt. Mr. Porter?
    Mr. Porter. Thank you, Mr. Chairman.
    And, Doctor, I appreciate working with you the last 2 
years. We appreciate your professionalism, and it has been 
truly a pleasure to work with you, so thank you very much.
    I will probably be less kind to the administration than 
even some of my colleagues here this morning. But, first, this 
is actually more of a comment than a question.
    I think you know that in the great State of Nevada we have 
one of the highest foreclosure rates in the country; in my 
district, about one out of 45 homes. It is a tragedy that is 
happening. Plus, add to that the lack of an energy policy for 
our country has caused great economic hardship for our 
community of Nevada, the resort industry. Visitation is down; 
we are laying off employees. So not only in Nevada is the price 
at the pump a problem of getting to work, it is also preventing 
people from coming to visit our community.
    But I tell you that there are families that are hurting. 
And what Wall Street has done is morally reprehensible. And it 
appears to me that in Las Vegas we have more regulations and 
enforcement than we have had on Wall Street. I am appalled that 
we have a crisis of this magnitude, that has risen to this 
level, without oversight and without the proper enforcement. 
And, again, this is more of a comment, Doctor, because you are 
here to try to help us find a solution; I am here to talk about 
the problem for a moment.
    I think the administration should have known about it, and 
I think they should have known sooner. If they didn't know 
about it, that is even a bigger problem. But I am extremely 
troubled that Congress now, in the final hours of a session, is 
having to find solutions to a problem that didn't just happen 
overnight.
    I think we are going to see, Mr. Chairman, a lot of 
possible solutions that are presented. And I am convinced that 
we need to take some pretty decisive action and do it as 
quickly as possible.
    But I want to make sure that there aren't individuals 
somewhere sitting on a yacht, eating shrimp and drinking 
champagne, that have taken advantage of the American people. 
And I know that it is troubling. The overall majority of the 
calls I receive from my district are opposed to a bailout. But 
we have to, of course, look at the ramifications you presented 
this morning.
    So I want to say thank you for your diligence, Doctor. I, 
again, share my frustration, anger with what Wall Street has 
done and what I think the administration should have seen 
coming. In fact, a year ago, when we were looking at the 
mortgage crisis as it was escalating, we should have taken a 
timeout and looked at the ramifications.
    As my friends have mentioned, you know, the fire 
department, I think that Wall Street, I think the SEC, I think 
the administration, and even many Members of Congress have not 
taken the steps that they needed to take to prevent this from 
happening.
    So, again, that is not a question, Doctor. I appreciate you 
being here and being part of the solution. Thank you.
    Mr. Orszag. Actually, if I could just take this 
opportunity, since there were compliments about the testimony, 
to compliment the CBO staff that has been doing a fantastic job 
under trying conditions.
    Chairman Spratt. Thanks very much.
    Mr. Blumenauer?
    Mr. Blumenauer. Thank you, Mr. Chairman.
    Frustrating, because we have had some conversations in this 
hearing room about this slow-motion train wreck that has been 
occurring for years now, dealing with a subprime mortgage 
market out of control, failure to exercise oversight and rein 
things in. There aren't very many people who I suppose are 
shocked or should be. There may be some surprise about the 
rapidity, but the fundamentals, I think, are not much in 
dispute.
    I have just two questions, Doctor, that I would offer up.
    One, in a practical matter, how long would it take for the 
relief, the stabilization, the practical application of a 
modified proposal, similar to what you have heard the 
administration's plan morph into, how long would it take for 
that to actually make a difference on the ground? Not talking 
about restoring confidence, but in terms of actual operation. 
Are we talking about 6 weeks? Six months?
    Mr. Orszag. You mean make an effect, operations in 
financial markets or out to that household we were discussing?
    Mr. Blumenauer. In terms of actually administering a 
program that would take advantage of the authority that we are 
giving and go in and start the reverse auction if it could be 
done in a thoughtful way. If you could put the administration 
in place, if you had the oversight, if you had the workout, are 
we talking 6 months?
    Mr. Orszag. I sure hope not. Again, the more that it is 
focused on, you use the example reverse action for the 
mortgage-backed securities, the easier it is going to be to 
design things and get them in place quickly. The more the 
Federal Government is going to be purchasing individual loans 
and you are going to have to have a more elaborate process for 
making sure that you are not overpaying for those loans, the 
longer it may take.
    I would say, in the best-case scenario, you are talking 
about weeks, not many months. You have to go out and hire the 
asset managers and then start doing the auctions.
    Mr. Blumenauer. Yes, but I am seeking an order of 
magnitude. Are we talking 6 or 8 weeks under best 
circumstances? Are we talking about 6, 8, 10, 12 weeks?
    Mr. Orszag. That is going to depend on how stringent the 
regulations are with regard to, for example, hiring the asset 
managers. So, if given the current draft the Treasury 
Department submitted where it is very open-ended, I think they 
could go out and contract with asset managers very quickly; it 
would be a low number of weeks. If there are lots of boxes that 
have to be checked, it may take somewhat longer. So there is a 
tradeoff between getting oversight and protection and 
timeliness.
    Mr. Blumenauer. I guess, Mr. Chairman, I would request--
and, again, I don't want--but being able to have some of the 
certified smart people you work with, just to talk about some 
of the applications here. You are talking about getting asset 
managers qualified, how you----
    Mr. Orszag. Avoid incentive problems for them. There are 
all sorts of things that are--their compensation.
    Mr. Blumenauer. Yeah. But getting a sense of what the 
timing is for things that haven't been filled in. That would be 
helpful.
    Mr. Orszag. Okay.
    Mr. Blumenauer. And I have a suspicion that something we 
could get in a day or 2 or 3 would still be relevant.
    Mr. Orszag. Okay.
    Mr. Blumenauer. My second question deals with what is 
potentially next, not that it will happen, but recall a few 
months ago, the furor is over the GSEs and Freddie and Fannie 
and all of a sudden we are moving in. Then we have AIG 
exploding and putting hundreds of thousands, millions of 
annuities at risk. And now, in a matter of hours, we pivot and 
we have the latest iteration.
    I would like, not your saying that it will, but just give 
us a sense of what are some of the other contingencies that 
could potentially require a boost in confidence? Hedge fund 
black holes and instability? We are talking about the auto 
industry. What are the other contingencies that you think 
about?
    Mr. Orszag. That is a frightening prospect to consider. We 
could walk through all of the financial assets, the trillions 
and trillions of dollars of financial assets that are held by 
American households and businesses and that trade on financial 
markets and potentially raise concerns about the functioning of 
all those markets.
    I can't pinpoint, and I don't think anyone can, you know, 
out 2 or 3 weeks or 4 weeks or 5 weeks, where the problems may 
arise without the kind of detailed knowledge--for example, the 
Federal Reserve does have more information about banks than we 
at CBO have, because they can go in and examine the underlying 
books and the trades that they are conducting. We don't have 
that information.
    So, as a little bit of an outsider looking in, it is very 
difficult to predict what would collapse next. And even the 
people who have that kind of specialized information have, 
obviously, had a lot of difficulty doing the same thing.
    Mr. Blumenauer. But you don't have, for instance, 
specialized information about what is in large hedge funds, for 
instance----
    Mr. Orszag. No, I do not.
    Mr. Blumenauer [continuing]. That might be heavily 
leveraged.
    Mr. Orszag. I do not. I do not.
    Mr. Blumenauer. But that could be a potential pivot point, 
theoretically.
    Mr. Orszag. That is a concern that has often been 
expressed, yes.
    Mr. Blumenauer. Mr. Chairman, I would hope that we--and, 
again, I am not trying to pin down Dr. Orszag necessarily, but 
it would be helpful to identify the sorts of things that could 
capture our attention next month or 2 months from now, after we 
navigate this. And I would respectfully request that----
    Chairman Spratt. We have reporting requirements built in to 
the bill, which this committee staff, bipartisan, was 
instrumental in securing in the bill. And it gives us a record 
of the assets being acquired and an estimate, if I'm not 
mistaken, of the likely recovery of that asset when it is 
disposed of.
    Mr. Blumenauer. Thank you.
    Chairman Spratt. Mr. Tiberi?
    Mr. Tiberi. Thank you, Mr. Chairman.
    I am sorry I am late. I had another hearing that I was 
attending. And I apologize if I ask a question that has already 
been asked or if you have already addressed this issue.
    But, from your perspective at CBO, from where you sit, how 
do we know that $700 billion is the right number?
    Mr. Orszag. Frankly, we don't. I mean, the bottom line here 
is that there is a collapse of confidence in financial markets, 
and the question is what will restore that. In the judgment of 
the Secretary of the Treasury and the Federal Reserve Chair, 
$700 billion was the right number. I don't think there is an 
analytical basis for saying that is the right number versus a 
trillion or versus $500 billion.
    The thing about a collapse of confidence is you never 
exactly know what restores it. And it is not just the number 
itself, but lots of other things, including how it is 
communicated and how it is implemented and what have you that 
contribute to its success or lack thereof.
    Mr. Tiberi. What are the risks for this legislative body to 
miss the target, either giving too much or giving not enough to 
that confidence?
    Mr. Orszag. I would say, at this point, given that we don't 
exactly know what the right level is and that it is in no small 
part a confidence game, unless there were some, again, serious 
justification for altering that number, given that that number 
is out there, you probably are running a bigger risk by dialing 
it in either direction than by restructuring the way in which 
it is implemented.
    Mr. Tiberi. What is the risk, from your perspective, of 
adding to our debt that much more money?
    Mr. Orszag. It depends crucially on how much the $700 
billion goes to overpaying for assets versus paying for them on 
a fair-value basis. If we simply take the $700 billion and 
spend it in a way that we are getting roughly $700 billion 
worth of assets in exchange and on a fair-value basis, then I 
am much less concerned about the increase in debt, Treasury 
debt, that is required to finance those purchases because it is 
basically a swap.
    However, if we go out and we buy $700 billion worth of 
stuff that is actually worth $200 billion and there is reason 
to think ahead of time that we are overpaying for the assets, 
that is a much different thing. And that component would cause 
a deterioration in the Nation's fiscal condition and is similar 
to regular deficit spending.
    Mr. Tiberi. So, if you were the king of the legislature, 
which obviously you are not, but you are the king at CBO, how 
do we in the legislative body try to make sure that doesn't 
happen? How do we protect that from happening, from your 
perspective?
    Mr. Orszag. Well, if one wanted to make sure you were 
getting fair value for what you are purchasing, there are ways, 
for example, restricting the program to reverse auctions on a 
tranche-by-tranche basis for mortgage-backed securities and 
other things that we could lay out, that are more likely to get 
you fair value.
    And then there are asset categories and ways of conducting 
these transactions that are more likely to make you overpay. 
For example, buying individual loans from banks is likely to 
result in the Federal Government overpaying for those loans if 
it is done through a reverse auction. Because you are going to 
likely wind up with the riskiest part of the loan portfolios 
and not getting sufficiently low prices for bearing those 
risks.
    Mr. Tiberi. Particularly if you are buying----
    Mr. Orszag. Taking those risks, I should say.
    Mr. Tiberi. Particularly if you are just buying the bad 
loans and the junk, right?
    Mr. Orszag. And not getting a sufficient discount for doing 
that, yes.
    Mr. Tiberi. Okay. Thank you.
    I yield back.
    Chairman Spratt. Mr. Scott of Virginia?
    Mr. Scott. Thank you, Mr. Chairman.
    And thank you, Dr. Orszag.
    You have indicated in your testimony that CBO cannot 
provide a meaningful estimate of the ultimate net cost of the 
administration's proposal, and in response to the latest 
questions, within a couple of hundred billion dollars one way 
or the other, it seems.
    Now, we have been told that the public ought to be scared 
if we do nothing. It seems to me we ought to ascertain how 
scared they ought to be if we spend $700 billion without a 
meaningful estimate of the ultimate net cost.
    So let me ask you a question. If enough work has been done 
on a loan portfolio, billions of dollars' worth of home 
mortgages for example, it seems to me we can take a 
statistically significant sample of that to find out the value 
of that portfolio by looking first at the face value of the 
mortgages, the interest rate, the creditworthiness of the 
borrowers, the real value of the collateral, and you can 
estimate the payments to maturity even after defaults are 
considered. You can apply a reasonable discount rate to get a 
yield to maturity.
    If you had that information, could you provide a meaningful 
estimate of the net cost to the administration's proposal?
    Mr. Orszag. Well, yes, although--and that is what private 
purchasers of a mortgage-backed security do. They try to 
project out the cash flow and whether the current pricing is 
above and below.
    But here is the key thing: If an asset manager is hired by 
the Federal Government to purchase that thing for us and 
doesn't bear its own risk from making that purchase, I think 
the question is do they have the same incentives as if they 
were purchasing it for their own books and whether the same 
standards will be applied.
    And, furthermore, if you do it through a reverse auction, 
that kind of same scrutiny isn't necessarily applied to each 
mortgage-backed security.
    Mr. Scott. Well, it seems to me, if we did some perfunctory 
due diligence, we could figure out a good idea of what these 
things are worth. And without the information--because we don't 
know the collateral behind these things. We do know that the 
collateral may not be sufficient on a lot of these loans. We do 
know that the borrower's creditworthiness wasn't checked. And 
we are trying to figure out what these things are worth without 
the perfunctory information.
    I mean, doesn't that insult your intelligence to be asked 
to comment on a plan where you don't know what you are getting 
or how much you are going to pay for it?
    Mr. Orszag. I don't know that I would frame it as insulting 
my intelligence, but I can't do it.
    Mr. Scott. Well, let me ask you another way--well, yeah, 
you can't do it.
    Mr. Orszag. Yeah. There is not enough specificity to do 
this right now.
    Mr. Scott. Now, if we don't know what we are doing for 
mortgage-backed securities, for which you can really get a good 
value--I understand the first plan had limited us to mortgage-
backed securities; the next is anything he wants to buy.
    Is there any reason to go past mortgage-backed securities?
    Mr. Orszag. Well, the first plan didn't quite limit it to 
mortgage-backed securities. It limited it to mortgage-related 
assets, which can be a whole array of different things.
    Mr. Scott. Is there any reason to go past that?
    Mr. Orszag. I think the argument to go past that would come 
back to the question Mr. Blumenauer asked, which is we don't 
know what will implode next. And if you want to do this on a 
one-off, kind of, give the Secretary authority to go fight 
fires wherever they may occur, the fires may occur outside of 
mortgage-related assets.
    Mr. Scott. Generally accepted accounting principles on book 
value, should the book value on the corporate books have good 
face value purchase price or what?
    Mr. Orszag. I think, in general--and there is some 
controversy over this--but, in general, there are benefits to 
marking to market. Book value doesn't always reflect market 
values. There have been concerns that have been raised about 
marking to market during particularly volatile financial market 
times like we are experiencing today.
    Mr. Scott. Okay. So it is not always--it is kind of 
artistic, is what you are saying.
    You indicated that if liquidity alone is the problem, those 
companies that have good assets for their liabilities, if that 
is all we are solving, we could do this, we could solve the 
liquidity problem without much net cost to the Government. But 
solving people's insolvency problem, where they are actually 
bankrupt, ought to be a separate question.
    Mr. Orszag. That is correct.
    Mr. Scott. Okay. On this reverse auction, it seems to me 
that if nobody knows down deep what is behind these things, if 
the seller did a little due diligence and figured it out, we 
would be buying blind, they would be selling with knowledge. 
Isn't that a recipe for getting ripped off?
    Mr. Orszag. Yes, if what the sellers are offering you are 
different things. And if instead--and this is what at least 
part of the Treasury program is likely to entail--if instead 
you have different owners of the same thing, so you have some 
given cash flow that is split among 100 different institutions, 
if they are the ones bidding, you are only bidding on their 
shares, then you don't have that problem.
    Mr. Scott. Well, you only have the problem to the extent 
that they know what they have and you are trusting them to try 
to bid against each other to try to get a fair value, and you 
hope they know what it is worth, and you would come out.
    But isn't a due diligence, reasonable yield to maturity, 
isn't knowing that number essential to know what you are 
buying?
    Mr. Orszag. Again, it depends on the context. More 
confidence in the scenario we just discussed of the competitive 
bidding process would give you the best guess of what that 
underlying value is.
    In other cases, where they are offering different things, 
then, yeah, you have this problem that you have to, in a sense, 
value each individual asset that people are offering to sell 
you.
    Mr. Scott. So you know what you are buying.
    Mr. Orszag. So you know what you are buying.
    Mr. Scott. Isn't that a good idea, to know what you are 
buying?
    Mr. Orszag. In general, it is a good idea to know what you 
are buying, if you want to avoid overpaying.
    Mr. Scott. Your whole analysis is such that, if you don't 
overpay, you will have, at most, a wash and, at best, a profit. 
If you overpay, you could be getting ripped off. And we are 
going to spend $700 billion without knowing what we are doing.
    Mr. Orszag. And I think one concern is it is not clear to 
the degree to which we are trying to address--you know, we are 
trying to overpay. And, in fact, some of the comments that were 
made yesterday suggest perhaps we want to overpay, to provide 
support to financial institutions, versus just simply trying to 
restore liquidity to markets, which need not imply any 
significant overpayment. And I think it is important to figure 
out which one we are trying to do.
    Mr. Scott. And it would be nice to know what we are doing 
before we spend $700 billion doing it.
    Chairman Spratt. Thank you, Mr. Scott.
    Mr. Etheridge?
    We have about 10 minutes until votes, and I want to see 
that everybody gets a chance.
    Mr. Etheridge?
    Mr. Etheridge. Thank you, Mr. Chairman, and let me thank 
you for holding this hearing.
    Mr. Orszag, thank you for being here.
    Let me go back to a little more personal, on Main Street on 
this, with the budget implications. Friday night I was at a 
Boosters Club banquet with a bunch of folks. Talked to a 
builder. He is down to two people from 30. Talked to bankers 
over the last several days with regional banks. They are no 
longer making any loans, because they are concerned they are 
not moving money, as you said earlier, from bank to bank.
    And I guess the other part of it is many of us feel like we 
are riding the back of the tiger and we are not sure where the 
tiger is headed. And we don't want to hop off, but we are 
afraid to--you know, we just feel like we are riding without a 
roadmap.
    So my question is, I was in business for 19 years--and you 
touched on it earlier. I wanted to go back to that, because I 
think what we are doing, the effects or where we get to, 
businesses not only borrow money for raw materials, they have 
to borrow money for inventory, for storage in some cases, for 
that equipment or product that is moving. And that hasn't come 
back to pay their salaries.
    It is now September, mid-September. A lot of businesses 
have already booked their purchases for the holiday season or 
are in the process of it, needing money to pay for that 
inventory with anticipation of the holidays. Talk to us, if you 
will, about the impact on the budget on this issue.
    If that seizes up, the inventory doesn't move, they can't 
get it, some of it may be there, but the consumer has a problem 
with their personal finances, and then all of a sudden we have 
a horrible holiday season that bleeds into a new budget year.
    Mr. Orszag. That is exactly the scenario that is of most 
concern, in terms of, you know, real people and the downward 
spiral that would follow.
    I would note one small silver lining, which is not to 
downplay the seriousness of the problems that we face, but it 
is the case that corporations as a whole have built up their 
cash reserves in part because they are coming off of many years 
of relatively high profits and in part because there were 
indications that credit markets may start experiencing 
difficulty.
    So that does provide them a bit of wiggle room for some 
period of time to draw down those cash reserves while other 
sources of liquidity are drying up. But, ultimately, if the 
financial market problems are perpetuated, they will become a 
very severe constraint and cause problems not just for the 
Federal budget but for the economy as a whole.
    Mr. Etheridge. Well, let me go a step farther, because you 
are talking about the large corporate entity.
    Mr. Orszag. Yeah.
    Mr. Etheridge. In a lot of parts of this country, it is the 
small businesses that----
    Mr. Orszag. They tend not to be sitting on as much cash.
    Mr. Etheridge. Yeah, and they are going to the banks 
monthly, bimonthly and, in some cases, even weekly to move it 
through. And that is affecting Main Street big time. When that 
gets tied up, then the whole process affects the big 
corporations. They may be sitting on cash, but they don't buy 
their product, and it doesn't move.
    And now we have counties and cities going through tax re-
evaluations with the housing market going down. That is going 
to have a significant impact on the ability of the local 
institutions of government to provide the services that they 
need to provide. And that ultimately will impact our budget 
again, correct?
    Mr. Orszag. Yes. Again, we will--it is highly desirable to 
avoid the downward spiral that could follow from failing to 
address this crisis of confidence in financial markets.
    Mr. Etheridge. It seems to me, Mr. Chairman, the challenge 
we face is trying to get something right, you know, and 
understanding where we are.
    I thank you very much, and I yield back.
    Chairman Spratt. We are going to try to give everybody a 
chance, but I need to get one thing on the record.
    Mr. Orszag, would you like to take 30 seconds and explain 
why you need additional funding for your responsibilities?
    Mr. Orszag. Yeah. The legislation requires that CBO would 
report to the Congress on a quarterly basis on the net cost of 
this program to the Federal Government. For us to do that well, 
given the wide array of assets that are likely to be involved 
in the program and the kind of modeling that was discussed 
earlier, we need some more people who are expert at that. And 
we may also be given a huge array of data on all of the 
individual assets, and we need some capacity to be able to 
process that data, which we currently lack.
    Or another way of putting is, it is obviously up to you in 
terms of whether you want us to play this role. But if you want 
that kind of reporting, regular reporting, from us on this 
complicated program, we don't currently have the resources to 
do it.
    Chairman Spratt. We think we do want that role fulfilled, 
and particularly by CBO because we have the closest 
relationship with you. So thank you for putting that on the 
record.
    Now Mr. Baird.
    Mr. Baird. I want to thank Mr. Orszag. He is all on the 
mark, tells us what he knows, what he doesn't know, and is 
tremendously informative.
    My friend, Mr. Blumenauer, from Oregon raised the issue of 
what might be on the horizon. For some time, I have personally 
been greatly concerned about the ARM reset issue. A great 
number of Americans took out ARMs or other devices and, instead 
of lowering their debt-to-equity ratio, increased it. And ads 
were come-ons to do that.
    Is anybody giving some thought to what happens as millions 
of Americans who, at current, have a net negative savings rate 
suddenly see an ARM kick in from $500 to a $1,000 a month more 
than their current mortgage, and what that has? Is that the 
next wave? We seem to be always behind the waves. Are people 
looking at that? And how can we get ahead of that?
    Mr. Orszag. As you may know, and I am sure you do, that was 
a significant concern a year or 2 years ago, as we were looking 
into the eye of this. Those concerns, while they are still 
there to some degree, have attenuated somewhat, in part because 
the Federal Reserve has acted so aggressively to reduce 
interest rates that the resets aren't as severe as many people 
feared, you know, let's say, 2 years ago.
    So it is still there, but I think it doesn't loom as large 
as a concern as it did a couple years ago, in part because 
overall interest rates, especially on the short-term end of 
things, have declined so dramatically.
    Mr. Baird. Okay.
    My second question is, if you look at how we got into this, 
it is because, in a nutshell, many firms vastly overleveraged. 
They had much more outstanding debt than they had collateral to 
cover it.
    To some extent, that is analogous to what the Federal 
Government is doing. We have $9.4 trillion debt, rapidly 
heading to $9.5 trillion, it looks like, and maybe more. Some 
of us feel we ought to pay for this.
    During the last 8 years, the administration has not once 
come to this Congress and said, ``This is how we are going to 
pay for something.'' And some of us feel that the people who 
got vast wealth and income out of creating the conditions that 
now are plaguing our country ought to be the ones who pay for 
it, not the average guy on Main Street and back home who has 
been paying his taxes, paying his mortgage, going to work every 
day, but the guys who are pulling in $25 million golden 
parachutes.
    Can you give us a ballpark estimate of how much revenue 
could be generated if we just put a modest tax increase on 
people with, let's say, $2-million-a-year-plus income?
    I seem to remember, a few months back, we were looking at 
funding the GI bill. My recollection was a one-half of 1 
percent tax increase on people with incomes over a million or 
so a year. Beyond the million generated $50 billion over 5 
years, ballpark. My memory may be wrong.
    How much can we generate from even a modest increase on the 
people who are most well-to-do, so we don't pass this burden on 
the average taxpayer?
    Mr. Orszag. Let me say two things.
    First, again, to the extent that you are purchasing assets 
at fair prices, in a sense that pays for itself, or there is no 
net expected cost. When you are subsidizing the purchases, when 
you are overpaying and thereby providing a subsidy to financial 
institutions, that is where the expected costs come in.
    There are a variety of ways that, if you wanted to pay for 
it, you could. High-end income taxation is one possibility. I 
don't remember the exact numbers which came from the Joint 
Committee on Taxation, but we can get them to you.
    Mr. Baird. The problem some of us have, as you read the 
articles, and it says the plan from Treasury is to rescue these 
companies by buying their bad debt. A guy comes up to me and 
says, ``Hey, buddy, want to buy some bad debt?'' I am going to 
say, ``No, I would rather buy some good debt, thank you very 
much.''
    So, on the one hand, we are told, oh, this won't cost very 
much because you are buying real assets. On the other hand, we 
are told, but you are buying the bad real assets.
    Mr. Orszag. And the key thing is, what is the price at 
which you are buying that bad debt? If someone comes up to you 
and says, I have this bad loan and I am going to give you a 
huge discount, it might be worth it to you.
    And so that is why I was emphasizing so much are we 
overpaying or not, how are those prices being determined. It is 
not necessarily the bad debt itself but, rather, the price that 
you are paying for the bad debt that becomes the issue.
    Mr. Baird. The other two key questions are, who is going to 
benefit from me buying it, and why should I buy something to 
help somebody out? They are not just coming to say, buy the bad 
debt; they are saying, buy the bad debt so all these CEOs who 
made so much money driving these companies into the dirt--and 
they justified these big incomes on, well, we have a lot of 
responsibility. Well, they botched their responsibility, and 
the average taxpayer says to me, why should I bail them out?
    I thank the gentleman.
    Chairman Spratt. Ms. Kaptur?
    Ms. Kaptur. Thank you, Mr. Chairman, very much. Thank you 
for allowing me to meet my responsibilities as a member of this 
committee in Congress.
    Dr. Orszag, thank you so much for coming today.
    My goal is prosperity and jobs on Main Streets across this 
country, with a power shift, an economic power shift, from Wall 
Street and this city of Washington back to Main Street. I am 
asking myself how to do it as we face this situation.
    The very best book that I have read that puts this into 
perspective is by Kevin Phillips, chapters 8 and 9 of his book, 
``American Theocracy.'' I am going to ask the chairman to place 
chapters 8 and 9 in the record, the first called ``Borrowed 
Prosperity and the Financialization of the U.S. Economy,'' and 
chapter 9, ``Debt.''
    I believe we find ourselves in the predicament that we do 
because there has been a tremendous power shift from Main 
Street to Wall Street and to this city of Washington. It is too 
concentrated, and it is too intangible.
    I support reform of our financial structure, reform, before 
any taxpayer support goes out the door, to especially the 
financial services sector. FDR figured it out; we should too. 
And my feeling is we shouldn't adjourn and go home to campaign 
until we meet our responsibilities to the American people.
    Now, let me put this in some perspective. About a century 
ago, Britain, as it continued to decline in power, its colonial 
secretary said, ``Banking is not the creator of our prosperity, 
but the creation of it.'' He understood the difference between 
money and wealth, and that trading abstract financial 
instruments was different than the production of real, tangible 
goods and services that create real, tangible wealth.
    Now, Phillips, on page 266 of this excellent book, states, 
``By 2004, financial firms in our country boasted nearly 40 
percent of all U.S. profits, up from just 6 percent in 1980 and 
11 percent in 1990, while the manufacturing sector fell from 
over 60 percent of profits down to less than 10.''
    Part of that is because this very financial sector has been 
outsourcing our jobs all over creation and outsourcing the 
purchase of our bonds to foreign countries. So we are losing 
control as our economy is being globalized.
    My question is whether propping up paper money is the best 
expenditure of our Nation if our goal is prosperity, jobs and 
tangible, real wealth on every Main Street across our country. 
My purpose is to create wealth, not just paper money.
    And let me just finally say that, if we look at the 1980s--
and I served here back then--after the Resolution Trust 
Corporation was set up after the imprudent behavior of the 
banking sector, rather than tightening controls and returning 
power to Main Street, we did exactly the reverse. The imprudent 
institutions were actually allowed to become more imprudent. 
Investment houses created money without underlying assets. And 
the old, time-honored principles of character and 
collectability and collateral at the local level, where we had 
had local savings banks with deposits, with passbooks that paid 
interest, and then they made loans, we totally reversed that 
and we changed loans to bonds and securitized them into this 
highly debt-structured market.
    And we saw this huge power shift from Main Street to Wall 
Street. And now they are coming to us and saying, ``Oh, bail us 
out,'' when, in fact, I am saying I am not sure the financial 
sector is the sector I want to bail out. I want to produce real 
money.
    We did interstate banking; I voted ``no'' on that. Again, 
to create these mega-giants that move power and money elsewhere 
and decision-making elsewhere with imprudent standards. In 
1994, they took the name ``Banking Committee'' off the 
committee in this very House, and they changed it to 
``Financial Services'' to empower the very folks that did this 
to us. In 1999--I have many examples--Glass-Steagall was 
removed; the historic separation between banking, commerce and 
insurance was removed.
    And my question really is, as we do this, how do we 
restructure the bigger picture to return financial power and 
responsibility to Main Street and to recreate the institutions 
Franklin Delano Roosevelt understood well--local community 
banks with prudent lending standards? He had the Homeownership 
Loan Corporation to restructure the bad debt, which is what 
they are asking us to do now.
    Why can't we do that? Why do we have to bail out those who 
created phony money?
    Mr. Orszag. I think, again, there are two issues. One is 
the immediate problems that the crisis of confidence in 
financial market seems to entail, and the second is the 
regulatory structure on a going-forward basis.
    In my opinion, for whatever it is worth, I am not sure that 
we have the time to make the underlying regulatory changes, 
whether they are of the kind that you favor or others of your 
colleagues favor, before addressing the concerns surrounding 
the collapse of confidence in the financial markets. And, by 
the way, especially----
    Ms. Kaptur. May I just say this, Mr. Chairman? And that is 
what troubles me about this whole discussion, because I hear 
these pundits on TV, these guys who come up over to the Senate 
from the administration, they always say, ``We want the money 
before the reform.'' I say, the reverse. Roosevelt figured it 
out under much more difficult conditions. So should we.
    I thank you, Dr. Orszag.
    Chairman Spratt. Thank you, Ms. Kaptur.
    Mr. Boyd, I am prepared to miss the vote so that, Mr. Boyd, 
you can go ahead and put your questions in. I think it is a 
procedural vote. And if you would like to do the same, we will 
proceed.
    Mr. Boyd. All right. I would like to proceed, Mr. Chairman. 
Thank you.
    Chairman Spratt. Mr. Boyd, you are recognized.
    Mr. Boyd. Dr. Orszag, thank you for your service. And I 
apologize for being late, too. So if I ask something that you 
have already answered, please indulge me and forgive me.
    And I want to start by saying that I am, to sort of spin 
off what Ms. Kaptur said, I am extremely skeptical about 
whether this is the right thing to do. That skepticism I think 
comes from the fact that I am concerned that we may be treating 
the symptom and not the underlying cause for the problem.
    But I want your counsel and advice in one specific area, 
and I want to talk about the devaluation of the dollar and the 
role that has played in all of this. I don't think it is 
complicated that most economists would tell you that the 
devaluation of the dollar, the primary cause is government 
deficit spending.
    In this proposal, what role--or what will that do, in terms 
of the value of the dollar worldwide?
    Mr. Orszag. Well, again, let's back up. The dollar has 
been--actually, frankly, even though this may sound ironic, one 
of the silver linings or one of the things that has been going 
relatively well during the economic challenges we have been 
facing over the past year or 2 is that the depreciation of the 
dollar, which had to occur, has been going relatively smoothly. 
In other words, the foreign exchange markets have not 
experienced the same kind of crisis that some of our overnight 
lending markets are now experiencing.
    So that decline in the dollar, which has had to occur 
because we have been borrowing an unsustainable amount of funds 
from abroad, has occurred relatively smoothly. And everything 
is a relative statement.
    What will happen from this kind of legislation, it depends 
on, again, the degree to which market participants believe we 
are overpaying for the assets that we are obtaining.
    To the degree that we are overpaying, that is a 
deterioration in the underlying condition, fiscal condition, of 
the Federal Government. And the same forces that then can lead 
to concerns about both national saving and all the other things 
that feed into the normal dynamic of potential depreciation 
could apply.
    To the extent we are just simply purchasing assets that are 
worth what we are paying for them, at least in a purely 
rational way, that really shouldn't have any significant effect 
on the U.S. dollar. Whether financial markets, because of 
psychological reasons or others, perceive it that way is an 
entirely different question. That is sort of a textbook answer.
    Mr. Boyd. With the existing underlying reasons for this--
and a lot of folks have talked about--Ms. Kaptur talked about 
the abstract financial instruments, the derivatives and all of 
that, which obviously play a role in all of this. With the 
infusion of $700 billion of money, I assume most of it will be 
borrowed, and that gets rolled numerous times, does that 
exacerbate the devaluation-of-the-dollar problem around the 
world?
    Mr. Orszag. Well, what I would say is we have not 
experienced, and I don't anticipate experiencing, any problems 
raising the $700 billion or rolling it over regularly. But just 
like financial market institutions that had gotten in the habit 
and gotten used to regularly rolling over their short-term 
obligation, one problem with a higher outstanding stock of 
government debt, which does have to get rolled over, is if in 
the future, for whatever reason, there were confidence problems 
or other difficulties in the Treasury market, having a higher 
outstanding stock of government debt that has to be rolled over 
would exacerbate the problems that we would face.
    Mr. Boyd. Okay. All right. Can you help me with my extreme 
skepticism about whether this is the right thing to do?
    I mean, you know, John Spratt, Marcy Kaptur and myself, 
others, have certainly lived with parents who came out of the 
Depression, and our lives were shaped at a very young age, 
obviously, by that experience, their experience. And it is 
something that we thought we had put tools in place to keep 
from happening again.
    So can you calm my extreme skepticism about what we should 
do?
    Mr. Orszag. Yeah, let me say two things.
    One important contributor to the Great Depression was 
policymakers who not only failed to act but actually, in some 
sense, often did counterproductive things. And I think, 
luckily, there is at least a mentality now that will avoid some 
of the worst problems associated with policy in the late 1920s 
and early 1930s. So that is the first thing.
    The second thing is fundamentally you are asking will the 
$700 billion work. And I don't know the answer to that, 
because, again, it comes back to this question that a 
fundamental driver of what is happening is a collapse of 
confidence. Whether the $700 billion restores confidence or 
not, I don't know.
    And, by the way, it is hard to know even without knowing--
again, we don't know how the program will be implemented with 
any granularity. So I think it is an open question.
    But I also think that is a separate question from whether 
or not you should do it. It may not work, but if you do 
nothing, it definitely won't work.
    So what you do is up to you. But I think, at this point, 
unfortunately, especially having created the expectation in 
financial markets that you will do something, doing nothing 
would likely be a very serious mistake.
    Mr. Boyd. Mr. Chairman, may I ask one last short question? 
The great debate here about $700 billion infusion versus the 
regulatory reforms, oversight reforms, those kinds of things, 
if you were sitting in Congress would you vote to extend the 
money without doing the other first.
    Mr. Orszag. Am I allowed to say thank goodness I am not 
sitting in Congress? Look, I mean, you face a difficult 
situation in the sense that time is of the essence here. And I 
think it has to be correct that it would be nice to be able to 
do--you know, not give desert before you have eaten your 
vegetables.
    But the question is whether you have the time to do that. 
And that is obviously an internal dynamic that I shouldn't 
comment.
    Ms. Kaptur. Would the gentleman yield on that?
    Mr. Boyd. Certainly.
    Ms. Kaptur. Mr. Chairman, I don't know if this is in the 
purview of our committee, but Dr. Orszag is so excellent and 
his staff and your staff, Tom, would it be possible for us just 
to have a brown-bag lunch sometime and look back at the 1930s; 
what was done quickly in order to stem the hemorrhage?
    Chairman Spratt. Sure we can do that. We can look back to 
the 1980s and what was done with Lockheed, Chrysler, Penn 
Central and all of those cases that are somewhat success 
stories because the loans and the guarantees were ultimately 
paid and warranties, and the warrants at least in the case of 
Chrysler resulted in profits.
    Ms. Kaptur. Thank you, Mr. Chairman. One of the 
characteristics of the three that you mentioned is they all had 
tangible hard assets. What we are dealing with here is phony 
money.
    Chairman Spratt. That is a very good point.
    Ms. Kaptur. That discussion is one I would love to have in 
more depth, and I have the highest respect for you. Thank you.
    Chairman Spratt. If we stop now and hustle to the floor, we 
may still make the vote.
    Mr. Boyd. I have one quick question. Did I understand you 
to say you were advocating for a reverse auction process if we 
go through this?
    Mr. Orszag. I don't advocate for anything. But if you want 
to obtain a fair price for what you are buying, limiting things 
to reverse auctions on a given cash flow that is distributed 
across many potential owners accomplishes that objective. Other 
asset classes and other ways of doing it doesn't.
    Chairman Spratt. Dr. Orszag, as always, thank you very 
much. In particular in this case, your testimony was excellent 
help to the committee. We very much appreciate it.
    [Whereupon, at 12:12 p.m., the committee was adjourned.]

                                  
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