[Senate Hearing 110-1012]
[From the U.S. Government Publishing Office]



                                                       S. Hrg. 110-1012


                    TURMOIL IN U.S. CREDIT MARKETS: 
  RECENT ACTIONS REGARDING GOVERNMENT-SPONSORED ENTITIES, INVESTMENT 
                BANKS, AND OTHER FINANCIAL INSTITUTIONS

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

                                HEARING

                               before the

                              COMMITTEE ON
                   BANKING,HOUSING,AND URBAN AFFAIRS
                          UNITED STATES SENATE

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION

                                   ON

THE RECENT ACTIONS TAKEN BY THE FEDERAL REGULATORY AGENCIES TO CONTAIN 
 THE FINANCIAL CRISIS, THE CURRENT STATE OF THE FINANCIAL MARKETS, AND 
                    PROPOSALS TO ADDRESS THE CRISIS


                               __________

                      TUESDAY, SEPTEMBER 23, 2008

                               __________

  Printed for the use of the Committee on Banking, Housing, and Urban 
                                Affairs


      Available at: http: //www.access.gpo.gov /congress /senate /
                            senate05sh.html




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            COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS

               CHRISTOPHER J. DODD, Connecticut, Chairman
TIM JOHNSON, South Dakota            RICHARD C. SHELBY, Alabama
JACK REED, Rhode Island              ROBERT F. BENNETT, Utah
CHARLES E. SCHUMER, New York         WAYNE ALLARD, Colorado
EVAN BAYH, Indiana                   MICHAEL B. ENZI, Wyoming
THOMAS R. CARPER, Delaware           CHUCK HAGEL, Nebraska
ROBERT MENENDEZ, New Jersey          JIM BUNNING, Kentucky
DANIEL K. AKAKA, Hawaii              MIKE CRAPO, Idaho
SHERROD BROWN, Ohio                  ELIZABETH DOLE, North Carolina
ROBERT P. CASEY, Pennsylvania        MEL MARTINEZ, Florida
JON TESTER, Montana                  BOB CORKER, Tennessee

                      Shawn Maher, Staff Director
        William D. Duhnke, Republican Staff Director and Counsel

                      Amy S. Friend, Chief Counsel

                    Mark Osterle, Republican Counsel

                       Dawn Ratliff, Chief Clerk
                      Devin Hartley, Hearing Clerk
                      Shelvin Simmons, IT Director
                          Jim Crowell, Editor











                            C O N T E N T S

                              ----------                              

                      TUESDAY, SEPTEMBER 23, 2008

                                                                   Page

Opening statement of Chairman Dodd...............................     1

Opening statements, comments, or prepared statements of:
    Senator Shelby...............................................     4
    Senator Johnson..............................................     7
    Senator Bennett..............................................     8
    Senator Reed.................................................     8
    Senator Enzi.................................................     9
    Senator Schumer..............................................    10
    Senator Hagel................................................    11
    Senator Carper...............................................    12
    Senator Bunning..............................................    13
    Senator Menendez.............................................    13
    Senator Crapo................................................    15
    Senator Brown................................................    16
    Senator Dole.................................................    17
    Senator Casey................................................    18
    Senator Martinez.............................................    20
    Senator Bayh.................................................    21
    Senator Corker...............................................    22
    Senator Akaka................................................    23
    Senator Allard...............................................    24
    Senator Tester...............................................    34

                               WITNESSES

Henry M. Paulson, Jr., Secretary, Department of the Treasury.....    25
    Prepared statement...........................................    87
Ben S. Bernanke, Chairman, Board of Governors of the Federal 
  Reserve System.................................................    28
    Prepared statement...........................................    89
Christopher Cox, Chairman, Securities and Exchange Commission....    30
    Prepared statement...........................................    94
James B. Lockhart III, Director, Federal Housing Finance Agency..    32
    Prepared statement...........................................   102
    Response to written questions of:
        Senator Reed.............................................   130

 
  TURMOIL IN U.S. CREDIT MARKETS: RECENT ACTIONS REGARDING GOVERNMENT-
 SPONSORED ENTITIES, INVESTMENT BANKS, AND OTHER FINANCIAL INSTITUTIONS

                              ----------                              


                      TUESDAY, SEPTEMBER 23, 2008

                                       U.S. Senate,
          Committee on Banking, Housing, and Urban Affairs,
                                                    Washington, DC.
    The Committee met at 9:35 a.m., in room SD-G50, Dirksen 
Senate Office Building, Senator Christopher J. Dodd (Chairman 
of the Committee) presiding.

       OPENING STATEMENT OF CHAIRMAN CHRISTOPHER J. DODD

    Chairman Dodd. Good morning. I want to thank our 
colleagues, thank our witnesses, those who are in attendance. 
The Committee will come to order, and this morning we meet for 
a hearing on the ``Turmoil of U.S. Credit Markets: Recent 
Actions Regarding Government-Sponsored Entities, Investment 
Banks, and Other Financial Institutions. We want to welcome our 
distinguished witnesses here this morning. We thank the 
Secretary of the Treasury, Hank Paulson, who is here; the 
Honorable Ben Bernanke, of course, the Chairman of the Federal 
Reserve; Christopher Cox, Chairman of the Securities and 
Exchange Commission; and Jim Lockhart, the Director of the 
Federal Housing Finance Agency.
    The way we are going to proceed this morning is I will make 
a brief opening statement; turn to my colleague from Alabama, 
Senator Shelby, former Chairman of the Committee, to make his 
opening remarks; and given the magnitude of this issue and the 
seriousness of it, I am going to ask if my colleagues would 
like to make any brief opening comments quickly; and then we 
will get to our witnesses.
    My goal would be that we terminate the hearing sometime 
around noon, if we can. We all recognize the gravity of the 
situation and the importance of these witnesses to be able to 
get back and do the work they are doing. So my hope would be 
that we try and move along here. But, again, I want to give 
each of my colleagues a chance to at least say something at the 
outset of these remarks. But I beseech you to try and keep them 
brief. All of your full statements will be included in the 
record, and any supporting documents you care to include in the 
record will be there as well.
    So, with that admonition in mind, we will try and make the 
opening rounds here about 8 minutes apiece. That way we can at 
least get decent responses and properly ask questions. And I am 
not going to gavel down tightly, but try to keep it within that 
framework, if we can.
    With that, let me share some opening thoughts this morning, 
and then I will be turning to Senator Shelby.
    The Committee gathers this morning at an extraordinarily 
and perilous moment in our Nation's history. The landscape of 
our Nation's economy has been radically reshaped by the U.S. 
Government over the course of just a few days in a totally ad 
hoc manner, it would seem. Companies that have formed the 
foundation of our financial markets are shrinking and 
disappearing practically overnight. Their insatiable appetite 
for risk in many cases has permeated all sectors of the 
financial services industry and has spread beyond our shores. 
It has felled giants like Bear Stearns and Lehman Brothers; 
brought others to their knees like Merrill Lynch, AIG, Fannie 
Mae, and Freddie Mac; prompted the largest, I might point out, 
thrift failure in our Nation's history, the Indy Mac Bank; and 
eliminated the final two independent investment banks, Morgan 
Stanley and Goldman Sachs.
    These drastic changes have reverberated far beyond the 
trading floors and boardrooms of corporate America. Across our 
great Nation, families are gathering around their kitchen 
tables each night asking how they will weather this storm and 
how it will affect them very directly. Hundreds of billions of 
dollars that Americans invested in retirement accounts and 
mutual funds have evaporated. Homeowners are watching the value 
of their homes plummet. Foreclosures are forcing 9,800 families 
from their homes each and every day in our country. Families 
worry about how they will afford groceries and gasoline. Six 
hundred thousand Americans have lost their jobs while millions 
more have watched their paychecks shrink and their benefits 
wither away.
    Perhaps the most dangerous consequence, the one that we do 
not speak enough about, in my view, of this economic maelstrom 
is that our collective confidence in our Nation's future has 
been badly shaken, and that needs to be restored.
    Less than 6 months ago, our Banking Committee gathered in 
this very room to listen to the financial leaders of the Bush 
administration describe what at the time seemed an 
inconceivable event: the Government's $30 billion intervention 
in the sale of Bear Stearns to JP Morgan. Now after spending 
hundreds of billions of dollars more to prop up, bail out, and 
wind down a multitude of institutions, the U.S. Government 
effectively runs, supports, or outright owns vast swaths of the 
financial sector.
    American taxpayers are angry, and they demand to know how 
we arrived at this moment and, more importantly right now, how 
the architects of this economic landscape will put us back on a 
sound financial footing and restore American confidence and 
optimism.
    As I and many Members of this Committee have argued for the 
past 17 months since I became Chairman of this Committee, the 
root cause of our economic crisis has been the collapse of our 
housing market, triggered by what Secretary Paulson himself has 
called ``bad lending practices.'' These are practices that no 
sensible banker should have engaged in--and many did not, I 
might add--reckless, careless, and sometimes unscrupulous 
actors in the mortgage lending industry that allowed loans to 
be made that they knew hard-working, law-abiding borrowers 
would not be able to repay. Financial regulators acted much too 
late and much too timidly. They failed to enforce the laws that 
Congress passed requiring them to prohibit these bad lending 
practices.
    What is tragic and lamentable is that the ensuring calamity 
was entirely foreseeable and preventable. This was no act of 
God. It was not like Hurricane Ike. It was created by a 
combustible combination of private greed and public regulatory 
neglect. And now we must confront the present crisis.
    Barely 72 hours ago, Secretary Paulson presented a proposal 
that he believes--and others do as well--is urgently needed to 
protect our economy. This proposal is stunning and 
unprecedented in its scope--and lack of detail, I might add. It 
would allow the Secretary of the Treasury to intervene in our 
economy by purchasing at least $700 billion of toxic assets. It 
would allow the Secretary to hold onto those assets for years 
and to pay millions of dollars to hand-picked firms to manage 
those assets. It would do nothing, in my view, to help a single 
family save a home, at least not up front. It would do nothing 
to stop even a single CEO from dumping billions of toxic assets 
on the backs of American taxpayers, while at the same time do 
nothing to stop the very authors of this calamity to walk away 
with bonuses and golden parachutes worth millions of dollars. 
And it would allow this Secretary and his successors to act 
with utter and absolute impunity without review by any agency 
or a court of law.
    After reading this proposal, I can only conclude that it is 
not just our economy that is at risk but our Constitution as 
well. Nevertheless, in our efforts to restore financial 
security to American families and stability to our markets, 
this Banking Committee has a responsibility to examine this 
proposal carefully and in a timely manner. In my view, any plan 
to address this crisis must embody three principles:
    First, American taxpayers must have some assurance that 
their hard-earned money is being used correctly and 
responsibly;
    Second, we must put in place proper oversight so that the 
executors of this plan are accountable and their actions are 
transparent;
    And, finally, we must address the root cause of this crisis 
by putting an end to the rising number of foreclosures sweeping 
across our Nation.
    In the longer term, it is clear that our current economic 
circumstances demand that we rethink, reform, and modernize 
supervision of the financial services industry. Certain basic 
principles should form the foundation for reform. We need a 
leader in the White House who will ensure that regulators are 
strong cops on the beat and do not turn a blind eye to reckless 
lending practices. We need to remove incentives for regulators 
to compete against each other for bank and thrift clients by 
weakening regulation. We need to ensure that all institutions 
that pose a risk to our financial system and taxpayers are 
carefully and sensibly supervised. And we need to accept the 
premise that consumer protection and economic growth are not in 
conflict with one another but inextricably linked.
    If we learn nothing else from this crisis, it is that the 
failure to protect consumers can cause the collapse of our 
largest financial institutions, the loss of hundreds of 
thousands of jobs, and the draining of hundreds of billions of 
dollars of wealth from hard-working Americans.
    Today, we are very fortunate to be joined, as I said at the 
outset, by Treasury Secretary Henry Paulson, Federal Reserve 
Chairman Ben Bernanke, SEC Chairman Chris Cox, and the Director 
of the Federal Housing Finance Agency James Lockhart.
    Regardless of how so many feel about the decisions these 
leaders have made and the impact they have had, we all ought to 
be able to agree that these four individuals are good, 
talented, knowledgeable, and experienced individuals who, I 
think, want to do the very best for our country. And I agree as 
well that we need to move, and move quickly if we can, but I 
feel even more strongly that we need to move carefully and 
prudently and to make sure that what we do is right. I 
understand speed is important, but I am far more interested in 
whether or not we get this right. There is no second act to 
this. There is no alternative idea out there with the resources 
available if this does not work. So it is critically important 
that we get it right. And the purpose of this hearing is to 
discuss whether or not this is the right approach and how we 
can prove it if we need to.
    Senator Shelby.

             STATEMENT OF SENATOR RICHARD C. SHELBY

    Senator Shelby. Thank you, Chairman Dodd.
    This may be the most important hearing that this Committee 
has conducted, at least in the 22 years I have been a Member 
here. Over the last 10 years, trillions of dollars were poured 
into our mortgage finance markets, often with the encouragement 
of well-intended Government programs. At first, the money 
backed conventional mortgages with standard downpayments and 
properly verified incomes.
    Over time, however, the number of homebuyers that met 
conventional loan requirements dwindled rapidly. In order to 
fuel the upward spiral, mortgage products became more exotic, 
requiring less of borrowers and involving more risk. Without 
regard for fiscal prudence and simple economics, bankers, 
investment bankers, mortgage brokers, realtors, home builders, 
mortgage bankers, and homebuyers created the conditions that 
helped inflate the housing bubble. At the same time, Wall 
Street was developing ever more sophisticated financing 
vehicles to ensure that money continued to flow into the 
mortgage markets to meet the demand.
    Mortgages were pooled, packaged, and rated so-called 
investment grade by the credit rating agencies. They were then 
sold into a market eager to purchase securities with a wide 
range of risks and yields.
    Many purchasers employed massive amounts of leverage, 
layering risk upon risk in an effort to maximize return. To 
cover their risks, many of the buyers also bought credit 
protection from one another, entered into derivatives contracts 
with nominal values in the hundreds of trillions of dollars. 
All the while, our financial regulators appeared to be unaware 
as they sat on the sidelines.
    As early as July of 2003 here at the Banking Committee, I 
asked Chairman Greenspan, then Chairman of the Federal Reserve, 
whether he was concerned about the growing number of loans to 
borrowers with weak credit histories and the number of 
homeowners who spent more than 50 percent of their income on 
housing. I also asked him if he was concerned whether an 
economic downturn could lead to increasing delinquencies and 
foreclosures. Chairman Greenspan at this very Committee assured 
us that increasing home prices provided an equity cushion for 
mortgagors and that lending to such borrowers would pose ``a 
rather small risk to the mortgage market and the economy as a 
whole.''
    As recently as March of this year, Vice Chairman of the 
Federal Reserve Cohn, testifying before this very Committee, 
assured us that the banking system was in, and I will quote his 
words, ``sound overall condition'' and that losses ``should not 
threaten their viability.''
    Now, we now know that was not the case. Eventually, 
economic reality caught up with our housing market, and housing 
prices stalled and then began falling. Many who bought homes 
with unconventional loans found that they were unable to afford 
their rising payments. Because home values were dropping, they 
were unable to refinance, and delinquency rates skyrocketed, as 
we all know.
    Once homeowners began defaulting, the value of mortgage-
backed securities plummeted. Collateralized debt obligations--
we call them ``CDOs''--that were comprised of the riskiest 
mortgage-backed securities became worthless. As a result, 
financial institutions holding securitized assets have suffered 
enormous losses and have been desperately trying to raise new 
capital.
    Of the five investment banks regulated at the beginning of 
the year by the Securities and Exchange Commission under its 
Consolidated Supervised Entities Program, two have failed, one 
was forced to merge with a bank, and the remaining two have now 
left the program to become bank holding companies. The recent 
demise of our investment banks lies in stark contrast to the 
vote of confidence we received in the Banking Committee from 
Chairman Cox in February of this year, when he assured us that 
the CSE program was up to the task, and I will now quote 
Chairman Cox. According to Chairman Cox's words, ``The purpose 
of the CSE program is to monitor far and to act quickly in 
response to financial or operational weakness in a CSE holding 
company that might place regulated entities or the broader 
financial system at risk. The Commission''--that is the SEC he 
is speaking of--``seeks to ensure that the holding company has 
sufficient stand-alone liquidity and financial resources to 
meet its expected cash outflows in a stressed liquidity 
environment for a period of at least 1 year.''
    That was earlier this year. In late 2007, Mr. Erik Sirri, 
head of Market Regulation for the Securities and Exchange 
Commission, described a consolidated supervision program that 
had ``demonstrated its effectiveness during the current credit 
market difficulties.'' Nothing can be further from the truth.
    He likewise assured us that the SEC's consolidated 
supervision had achieved ``the goal of reducing the likelihood 
that weakness within the holding company or an unregulated 
affiliate will place a regulated entity or the broader 
financial system at risk. Notwithstanding assurances to the 
contrary, uncertainty about housing prices and the value of 
mortgage-backed securities have brought our markets to a halt.
    We are now facing the most serious economic crisis, as 
Chairman Dodd said, in a generation. So far, the Treasury 
Department and the Fed's response to the crisis has been a 
series of ad hoc measures.
    First came the bailout of Bear Stearns, which we were told 
was unavoidable. Then came Lehman Brothers, which was allowed 
to fail. And then, just last week, the Fed and Treasury 
organized a bailout of AIG.
    I believe the absence of a clear and comprehensive plan for 
addressing this crisis has injected additional uncertainty into 
our markets and has undermined the ability of our markets to 
tackle this crisis on their own.
    Unfortunately, the Treasury Department's latest proposal 
continues, I believe, its ad hoc approach, but on a much 
grander scale. The plan contemplates the purchase, as we know, 
of up to $700 billion in troubled, toxic, mortgage-related 
assets from financial institutions that nobody would buy. 
Treasury expects, but is not required, to purchase most assets 
through a type of reverse auction process.
    There are very few details in this legislation. In fact, 
Treasury officials admit that they will have to figure out the 
mechanics as they go along. Rather than establishing a 
comprehensive, workable plan for resolving this crisis, I 
believe this legislation merely codifies Treasury's ad hoc 
approach.
    My hope is that this hearing will give us an opportunity to 
explore the parameters of the plan and why Secretary Paulson 
believed it will work. I also hope to hear why the plan does 
nothing to address the root cause of the crisis: the rise in 
default rates on mortgages. While Wall Street banks get to sell 
their bad investments to the Treasury Department, homeowners 
will still be saddled with mortgages that they cannot afford.
    My record is very clear on taxpayer-funded bailouts. I have 
long opposed Government bailouts for individuals and corporate 
America alike. As a young Congressman, I voted against the loan 
guarantees for Chrysler, I believe in 1979 or 1980. However, if 
the Government is going to get into the bailout business, 
shouldn't we also be focusing our resources on average 
Americans, the taxpayers, rather than sophisticated and well-
compensated Wall Street bankers?
    The Treasury's plan has little for those outside of the 
financial industry. It is aimed at rescuing the same financial 
institutions that created this crisis with the sloppy 
underwriting and reckless disregard for the risk they were 
creating, taking, or passing onto others. Wall Street bet that 
the Government would rescue them if they got into trouble. It 
appears that bet may be the one that pays off.
    Once again, what troubles me most is that we have been 
given no credible assurances that this plan will work. We could 
very well spend $700 billion or $1 trillion and not resolve the 
crisis. Before I sign off on something of this magnitude, I 
would want to know that we have exhausted all reasonable 
alternatives. But I do not believe we can do that in a weekend. 
Unfortunately, the incredibly accelerated process for 
considering this bill means that Congress does not have time to 
determine if there are better alternatives or any alternatives 
to the Treasury's plan.
    I am very concerned that the express need to pass something 
now may prevent us from devising a plan that would actually 
work. Without question, our markets and financial institutions 
need serious attention. I do not believe, however, that we can 
solve this crisis by spending a massive amount of money on bad 
securities. It is time for this administration and the Congress 
to do the work of devising as quickly as possible a 
comprehensive and workable plan for resolving this crisis 
before we waste $700 billion to $1 trillion of taxpayer money.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator Shelby.
    Senator Johnson.

                STATEMENT OF SENATOR TIM JOHNSON

    Senator Johnson. Thank you, Senator Dodd.
    This administration has asked Congress for the authority to 
buy up to $700 billion worth of residential and commercial 
mortgage--related assets from troubled Wall Street financial 
institutions. They are asking that this package have no 
strings. In South Dakota, we believe strongly in personal 
responsibility. When you make mistakes, as many of these 
companies have, you should be held accountable for those 
decisions. This package may be a necessary evil, but we cannot 
allow it to become a gift.
    It should have teeth, with real oversight from Congress. We 
should not use this package or American tax dollars to benefit 
foreign banks. And this package should contain limits on 
executive compensation. People in South Dakota work hard for 
the taxes they send to Washington, and their earnings should 
not be wasted on the bloated compensation of a CEO.
    Today we need answers from the regulators as to how we got 
to this point and specifics about how our regulatory system 
failed us. We also need to begin the dialog between the 
regulators and this Committee as to how to best change the 
regulatory structure so that this type of crisis does not 
happen again. Our system needs good, effective regulation that 
balances consumer protection and allows for sustainable 
economic growth.
    For years many Members of this Committee, and myself 
included, have been calling for just this sort of regulation. 
There should be no mistake that change is coming. I look 
forward to working with the Members of this Committee to 
institute the changes needed to regulate and to guarantee a 
responsible, modern regulatory system.
    Please submit my full statement for the record.
    Chairman Dodd. Thank you, Senator. Let me urge again, as I 
said at the outset, to try and keep these comments as brief as 
we can so we can get to the testimony. I am very grateful, by 
the way--we have been working as a Committee, by the way, many 
of us over the weekend, a lot of us, and Senator Bennett and I 
have talked at length, and I thank him for his participation.
    Senator Bennett.

             STATEMENT OF SENATOR ROBERT F. BENNETT

    Senator Bennett. Thank you, Mr. Chairman.
    We have had a housing bubble, and the bubble has burst. And 
every time we have a bubble, whether it is housing or dotcom 
stocks or anything else, when the bubble bursts there is 
disaster. And we will have bubbles in the future because the 
human propensity to believe that the market will always go up 
is still there. Let us understand that.
    The economy runs on credit, credit is granted on 
confidence, and confidence is based on one of two assumptions: 
the collateral is worth it or the cash-flow will be sufficient. 
One way or the other, the loan will be repaid. What we are 
faced with now is finding a way to restore the confidence in 
the system so that credit can start to flow again. That is what 
we are here to try to do.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you.
    Senator Reed.

                 STATEMENT OF SENATOR JACK REED

    Senator Reed. Thank you very much, Mr. Chairman.
    The essence of the proposition that the administration is 
presenting to us today is that the taxpayers will assume the 
risk of disastrous investment decisions made by very highly 
compensated individuals and institutions on Wall Street. I 
think the custom on Wall Street is that when you assume the 
risk, you get paid to do that. I believe it is essential that 
the taxpayers of this country are compensated for their 
assistance. I think the only effective way to do that is a 
mandatory program of warrants as a prerequisite to 
participating in this assistance for non-voting equity in 
companies. And as these companies improve, which is the hope 
and expectation of this program, the American taxpayers could 
also benefit from that improvement.
    I think this also goes to the very difficult issue of 
pricing these securities, that if the Treasury or its agents 
misprice the securities and they overpay, presumably the 
benefits of that will flow to the companies and, frankly, with 
the appreciated stock, again, I think taxpayers should benefit 
from that.
    I think also, too, there is some discussion that if we do 
this, there will be some limitation in participation, but I 
would suggest that might not be altogether a bad thing; that if 
this system can be gamed by people who are not desperately in 
need of Government assistance, that will be done. I think to 
present a company with the choice between surrendering warrants 
and participating or simply getting through on their own is not 
an unfair choice for sophisticated business managers who, we 
presume or we hope, are dedicated to preserving their company 
and benefiting the shareholders.
    And, finally, I want to associate myself with the comments 
of the Chairman and others who say that we cannot simply assist 
Wall Street. We have to assist hundreds of thousands of 
homeowners who are facing foreclosure. If we do not do that, 
that will be, I think, unfair and it will not result in a 
program that is legitimate in the eyes of the American people.
    Thank you very much.
    Chairman Dodd. Very good. Thank you.
    Senator Enzi.

              STATEMENT OF SENATOR MICHAEL B. ENZI

    Senator Enzi. Thank you, Mr. Chairman.
    In the past 6 months, our Federal Government has devised a 
dozen strategies to save America's financial markets. Each plan 
has been more costly, more risky, and less aligned with the 
principles of our country's free market economy than the last. 
I am disappointed to say that this latest plan puts all the 
rest of them to shame. This proposal means a full-scale 
intervention into our country's free markets with the Treasury 
buying every bad asset in sight with taxpayer money.
    To make this point clear, if approved in this current form 
of $700 billion, this plan will cost every man, woman, and 
child in this country approximately $2,300. This plan will come 
with an enormous cost and enormous risk. Unfortunately, the 
only plan more costly would be doing nothing at all.
    Last week, I was given the legislative language for this 
proposal, and it was only three pages long--$700 billion, three 
pages. I know that it has grown to six pages and perhaps to 42 
pages. When I questioned Secretary Paulson and Chairman 
Bernanke about this plan on Sunday, they explained that 
flexible and broad authority was the only way the plan would 
work. I was immediately reminded of the last time the Chairman 
and the Secretary appeared before this Committee and asked for 
such broad authority; that was to save Fannie Mae and Freddie 
Mac from insolvency this past summer. I hope this time the plan 
is more successful.
    I have no illusions about the urgency of the problem our 
economy faces today, but Congress cannot be expected to approve 
this bill without a guarantee of proper oversight and 
accountability for the taxpayers. As I said before, we are 
talking about the equivalent of $2,300 from every U.S. citizen. 
This Committee would not be doing its job if that were allowed 
to happen.
    Where is the accountability for these banks and their 
management? The Treasury and the Federal Reserve have asked us 
to cut them the biggest bailout check in history, and that 
money will be handed out to the same banks that put us in the 
mess to begin with. Nowhere in the text of this bill do I see 
any equity sharing or loss mitigation that will protect 
taxpayers from unknown costs. It did make a difference to AIG 
stockholders who are trying to pay off their loan already. A 
Treasury buy from our banks will be priced by the seller, not 
buy the buyer. The Federal Government could end up owning 
mortgages that cost multiples of the resale value, and yet 
there is no recourse for our taxpayers. It does not make any 
sense. It will reward the banks first who got us in the 
financial mess and the taxpayers second, many of whom were 
completely unaware that this kind of financial----
    Chairman Dodd. I am going to ask the audience--we will have 
to clear this room. I do not want to do that. It is a public 
hearing. Let's have respect for the speakers, and there will be 
no outbreaks, applause or other comments. This is a serious 
hearing.
    Senator.
    Senator Enzi. I have heard the argument that punitive or 
prescriptive measures could cause sellers to leave the market. 
I think that offends common sense. If banks can get a better 
price for their paper from someone other than Treasury, they 
should not be bailed out in the first place. If they choose to 
fail rather than sell their debt at its real market value and 
record their loss on the books, they should be free to take 
that option.
    This legislation must be passed to help Main Street, not 
because the Federal Government is being held hostage by Wall 
Street.
    I have some ideas. This Committee must find a way to make 
financial regulation more efficient, effective, and 
accountable. I have some ideas, including a reevaluation of the 
marked-to-market accounting. It is clear that such a method is 
not sustainable in a volatile market. Providing some relief 
today could prevent firms from needing this expensive Federal 
bailout. Reforms in the long term could prevent capitalization 
issues down the road.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator.
    Senator Schumer.

            STATEMENT OF SENATOR CHARLES E. SCHUMER

    Senator Schumer. Thank you, Mr. Chairman, and thank you for 
holding this hearing.
    My colleagues and fellow Americans, we live in amazing and 
dangerous times. Who would have thought that the lowly 
mortgage, long regarded as the safest of investments, could 
bring our financial system to its knees? But that is where we 
are. And while we must look back and see what went so 
dramatically wrong, our immediate task is to look forward and 
to try and avoid a meltdown of the financial system. And as we 
look forward in the week ahead, we face both a Scylla and a 
Charybdis--dangers on both sides.
    On the one hand, as we are reminded, there are real dangers 
if we do not act. The description Chairman Bernanke gave us 
when the leadership of the Democratic and Republican House and 
Senate met in Speaker Pelosi's conference room, the description 
Chairman Bernanke gave, in quiet terms, without hyperbole, was 
astounding. Chairman Bernanke told us that our American 
economy's arteries, our financial system is clogged, and if we 
do not act, the patient will surely suffer a heart attack, 
maybe next week, maybe in 6 months, but it will happen. So we 
must act, and we must act soon.
    And make no mistake about it, while Wall Street caused the 
problems we face, unfortunately if we do nothing, Main Street 
will also pay a severe price. Pension funds, money market 
mutual funds, 401(k) plans will be negatively impacted. The 
lockdown in lending has widespread consequences. I have heard 
from car companies that it is virtually impossible to get an 
auto loan right now unless you have a credit score over 720. 
And if that continues, the auto industry will sell 6 million 
fewer cars this year than it did in years past. Even though the 
workers in Buffalo and Detroit and St. Louis are blameless, 
they will suffer. It is not fair. It is not right. But that is 
the world we live in.
    So I want to assure the markets--and I think I speak for 
all of us--that we will not be dilatory, we will not 
``Christmas tree'' this bill with extraneous amendments, and we 
will work in a bipartisan way to act, and to act soon.
    But there is also the Charybdis, the other danger of acting 
so quickly that we choose a bad solution. The markets want 
action, and we understand that. But if we act so quickly that 
we create an ineffective solution without adequate safeguards, 
then we risk the plan failing, which would be an even worse 
outcome for the markets, for the economy, for our country. Even 
on Wall Street, $700 billion is a lot of money, and none of the 
thousands of money managers would invest that sum without 
appropriate due diligence.
    This hearing today and the discussions that will follow are 
our congressional due diligence, and we take that 
responsibility seriously, and we will make intelligent and 
relevant improvements. Secretary Paulson has proposed his plan, 
the Troubled Asset Relief Program, or TARP, to Congress. And 
while I certainly recognize the need for action and want to 
move quickly, I think some changes are necessary.
    To Secretary Paulson's TARP program I believe we need to 
add THOR: T for taxpayer protections; H for housing; O for 
oversight; and, down the road, R for regulation.
    I can talk about each of these at some length, but we do 
not have time, Mr. Chairman. But on taxpayers, we must put 
taxpayers first, should this program work. They must come ahead 
of bondholders, shareholders, and executives, and we need to 
add to this legislation those types of protections, such as my 
colleague Senator Reed has spoken about in terms of warrants. 
That would be more of a mandatory than an optional nature.
    Homeowners. Secretary Paulson has labored mightily to try 
to improve the homeowner problem, and Chairman Bernanke has 
said repeatedly until we find a floor to the housing markets--
and foreclosures are directly related to the housing markets--
we will not solve this problem. And that affects not just those 
who made bad mortgages or not just those who will lose their 
home through not fault of their own, but every homeowner. The 
number of foreclosures and the price of the average American's 
home is related and cannot be separated.
    Oversight. There have been lots of discussions of oversight 
led by Chairman Dodd, and there are excellent suggestions, and 
we must do them.
    And R, regulation. We must have a much better system of 
regulation, and many of us have begun thinking about this. It 
will probably have to wait until after we act here, but we must 
do it.
    The bottom line, Mr. Chairman, is this: We do have to act, 
but we have to act smartly, wisely, and relevantly. And I 
believe that is what this Committee will do over the next few 
days.
    Chairman Dodd. Thank you very much, Senator.
    Senator Hagel.

                STATEMENT OF SENATOR CHUCK HAGEL

    Senator Hagel. Thank you, Mr. Chairman.
    The essence of our efforts and final product is 
accountability, transparency, and timeliness. We must define a 
rescue agreement based on the common interests of our country. 
We have a responsibility to construct a program based on the 
general principles of agreement, not held hostages to the 
details of the differences.
    We are in uncharted waters. We are living in a 21st Century 
global marketplace. We are behind in not only understanding 
that, but regulating that. This is going to require a new 21st 
Century regulatory regime.
    But our current effort--we must stay focused on our current 
effort--is a short-term rescue effort, clearly in the interests 
of our country and the world. And it must be done. And it must 
be done with responsibility but also with timeliness.
    Mr. Chairman, thank you.
    Chairman Dodd. Thank you, very much.
    Senator Carper.

             STATEMENT OF SENATOR THOMAS R. CARPER

    Senator Carper. Mr. Chairman, thank you.
    Gentlemen, thank you very much for joining us again here 
today.
    What I would like to just mention, I am going to mention 
four things that I hope to take away from this hearing today. 
The first of those is to better understand how we got into this 
mess. Chairman Cox and I were talking about short selling 
yesterday and I want to understand better the role that that 
played in getting us where we are today. I want to better 
understand how changing leverage ratios has gotten us to where 
we are today. But I want to know when we walk out of here 
today, I want just a better understanding of how did we end up 
in this mess.
    The second thing I hope to get out of this is after 
understanding how we got into this mess, how do we get out of 
this mess? And how do we do so in a way that does not reward 
bad behavior from people who should not be rewarded for the bad 
behavior?
    The third thing I would like to take away with me today is 
to have some assurance myself in the plan that we are 
discussing here or that eventually evolves, so that we can make 
sure this kind of tragedy does not occur again in our lifetime 
and beyond.
    And finally, I want to better understand how we maximize 
the chances that the Treasury will be made whole or maybe even 
make a buck or two for the taxpayers at the end of the day. I 
mentioned at another meeting here on Capitol Hill this morning, 
I went back and recalled the bailout at the time of Chrysler 
where the Federal Government did not provide loans to Chrysler, 
they provided loan guarantees issued in conjunction with 
warrants which were exercised--we never had to backup the loans 
but we did have the opportunity to exercise the warrants. We 
made money for the taxpayers on that deal.
    When the S&L debacle occurred, we ended up creating the 
Resolution Trust Corporation. The Resolution Trust Corporation, 
you all will recall, came in and bought not the savings and 
loans, but what were deemed to be the bad assets of the savings 
and loans. And as it turned out, a lot of them were not bad 
assets. They were assets whose value had diminished during that 
crisis but assets that over time appreciated in value. We were 
able to sell them and recover most of the taxpayers' money.
    My hope is as we go forward here, that we look to those two 
examples as maybe a bit of a road map to enable us, while we 
find out how we got into this mess, how we get out of it, how 
we make sure it does not happen again, how we do all of that 
without rewarding bad behavior, at the end of the day--putting 
this much taxpayer money at the risk--at the end of the day I 
would feel a lot better if we had a pretty good assurance that 
when all is said and done that we have actually recovered this 
money for our taxpayers.
    And if we can make a buck or two at the end of the day, so 
be it.
    Thank you.
    Chairman Dodd. Thank you, Senator, very much.
    I want to point out, I turn to Senator Bunning, it was 2 
years ago that Senator Bunning and Senator Allard held a joint 
hearing on subprime mortgages, at the conclusion of which 
Senator Schumer, Senator Reed, Senator Sarbanes, and myself, 
joined them in a letter to the regulators asking what actions 
and steps they were going to take in the subprime mortgage 
problem.
    Senator Bunning.

                STATEMENT OF SENATOR JIM BUNNING

    Senator Bunning. Thank you, Mr. Chairman.
    So much has happened since the last time we had our 
witnesses before us that we could probably hold this hearing 
for a week and still have more to talk about. It is hard to 
even know where to begin.
    What is pressing is the $700 billion Treasury proposal that 
is being negotiated with the Chairman of the House Financial 
Services Committee. The Paulson proposal is an attempt to do 
what we so often do in Washington, D.C., throw money at a 
problem.
    We cannot make bad mortgages go away. We cannot make the 
losses that our financial institutions are facing go away. 
Someone must take those losses. We can either let the people 
who made the bad decisions bear the consequences of their 
actions or we can spread that pain to others. And that is 
exactly what the Secretary's proposal is to do, take Wall 
Street's pain and spread it to the taxpayers.
    The plan has not even passed and already Americans are 
paying for it because of the fall in the dollar as a result of 
all of the new debt that we will be taking on.
    I know there are problems in the financial markets and I 
share a lot of the same concerns that other members and 
witnesses do. However, the Paulson plan will not fix those 
problems. The Paulson plan will not help struggling homeowners 
pay their mortgages. The Paulson plan will not bring a stop to 
the slide in home prices. But the Paulson plan will spend $700 
billion worth of taxpayers' money to prop up and clean up the 
balance sheets of Wall Street.
    This massive bailout is not a solution. It is financial 
socialism and it is un-American.
    Thank you.
    Chairman Dodd. Senator Menendez.

              STATEMENT OF SENATOR ROBERT MENENDEZ

    Senator Menendez. Thank you, Mr. Chairman.
    Certainly in my 16 years in Congress, there has not been a 
more critical time for our economy and a more important Banking 
Committee hearing than this one. The Administration's economic 
and regulatory policy over the last 7 years has led us to 
today. Now we have been told that we have less than 7 days to 
make our choices and 8 minutes to ask questions, so you will 
forgive me if I am not signing right away on the bottom line.
    Unfortunately, the Administration comes to the Congress at 
the final hour instead of before, and in doing so leaves us 
with undesirable choices. The credit crunch and the failing 
investment banks did not occur in a vacuum. At their core they 
are about the housing foreclosure crisis. And that weakness was 
created by lax regulation, regulators asleep at the switch, and 
an unwillingness by many to acknowledge the direness of the 
situation early on.
    In March of 2007, Mr. Chairman, at this Committee I raised 
the prospect of a tsunami of foreclosures in the Banking 
Committee, but the Administration dismissed it. A few months 
later, as foreclosures mounted, they assured us that the 
problems would be contained to the housing market. And in July, 
we asked them about the prospect of a bailout of Fannie and 
Freddie, but they could not foresee it.
    So how many times can the Administration be wrong and still 
instill confidence?
    This is why, while I need to know--and I think we need to 
act, and I agree we need to act--I am not going to be stampeded 
into rubber-stamping this proposal. There are serious questions 
that we need answers to before you have at least my vote.
    Illiquid assets are illiquid either because they are non-
performing, they are over valued, or even worse, we do not even 
know what their true values are. Questions range from are you 
intending to buy these bad loans at a significant discount or 
will we be overpaying? If they are at a deep discount, how does 
that create the much-needed capital for their cash future, and 
therefore solve the problem? If Treasury is overpaying and 
working to create capital for the institutions, why aren't we 
getting equity just as shareholders do so that the taxpayers 
can recoup their money? And as Treasury has amended their 
proposal for foreign entities to also be subject to this 
bailout, what are the central banks of those countries doing to 
establish and prop up their own institutions?
    Why are we asked to put $700 billion to keep CEOs in their 
office while families get kicked out of their homes and the 
public gets the bill while this Administration says it is all 
about Main Street?
    We cannot say that homeowners should bear all of the 
consequences of bad decisions but that financial institutions 
get to share the pain of their bad decisions through public 
debt.
    So Mr. Chairman, last week the President said ``The risk of 
doing nothing far outweighs the risk of the package.'' As his 
statement inherently implies, there is a risk involved. And 
with risk comes responsibility. We need to quantify that risk. 
We need to limit taxpayer exposure. We need to work to keep 
families in their home as part of their effort.
    Therefore, I look forward to some honest answers here 
today. The Secretary's testimony, as it has been presented to 
the Committee, just reiterates the need. But I hope we will get 
to the answers of how do they intend to have this work and work 
in a way that limits the taxpayers' exposure, puts homeowners 
back in their home, and creates responsibilities by those who 
have believed that private risk can now become public debt.
    Chairman Dodd. Thank you, Senator.
    Senator Crapo.

                STATEMENT OF SENATOR MIKE CRAPO

    Senator Crapo. Thank you very much, Mr. Chairman.
    I share many of the concerns and observations that have 
been made by my colleagues, so I will not restate all of them.
    I do want to indicate, however, that I agree that this is 
probably the most critical threat to our economic circumstances 
in our country that we have faced since I have served in 
Congress. And one which has the type of urgency that requires 
us to take prompt action.
    But I also share the sentiments that we must take the time 
to get it right. And I have a lot of the same concerns that 
others have shared about whether we have the right proposal or 
whether we need to continue to work through a refinement of it.
    I have a number of questions. For example, as have been 
raised by some already today, how will these assets be priced? 
If there is a market value that the holder or seller simply 
does not want to sell at, will the taxpayer be asked to buy 
them at a premium simply to help recapitalize those who are 
facing capital problems?
    And if so, how will the taxpayer ever regain its investment 
in this circumstance if more than the assets are worth are paid 
for them?
    In fact, that raises another very interesting question. And 
that is if it does require a significant infusion of capital, 
should the plan be having the taxpayers purchase distressed 
assets? Or should the plan involve the taxpayers gaining some 
type of ownership interest or some type of ability to come 
ahead of the shareholders in terms of the losses that are taken 
in the operations of the firms?
    The question as to what type of investment or what type of 
capitalization should take place is critical and I think that 
the basic bottom line here is that we must protect the 
taxpayers. So that as losses must be taken, those losses are 
taken not by the American taxpayer but they are taken by those 
who have the ownership interests in the firms involved.
    I have many, many other questions. But again, the bottom 
line to me is how do we make sure that the connection between 
Main Street and Wall Street is understood not only by America 
but by the policymakers here in this Committee and in this 
Congress so that we address the issue in such a way that we 
make sure that the taxpayer is protected and that the markets 
are strengthened and reassured?
    I think that Senator Schumer's comment about assuring the 
markets that we are going to be diligent and careful and 
prudent as we move forward is very helpful. I think the markets 
need to know that. We also need to make sure that the markets 
know that we will be efficient and careful and prudent to 
making sure that the solution that we get is the right 
solution.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator, very much.
    Senator Brown.

               STATEMENT OF SENATOR SHERROD BROWN

    Senator Brown. Thank you, Senator Dodd, for calling today's 
hearing. Thanks to the witnesses for joining us. They have had 
many long nights lately and this may be a long morning. I make 
no apologies for that. I doubt they seek any.
    Like my colleagues, my phones have been ringing off the 
hook. The sentiment from Ohioans about this proposal is 
universally negative. I count myself among the Ohioans who are 
angry. Had the Federal Government acted to contain the epidemic 
in subprime lending, I do not think we would be sitting here 
today. The time we spend this morning will be time well spent, 
not just for our own benefit but for the benefit of the people 
we represent. I am not sure they will be convinced, but they 
sure deserve a better explanation than they have received to 
date.
    A man from Westerville, Ohio was so concerned he took a day 
off work and drove to Washington this week--a 7 hour drive--to 
share his views with me. He quite rightly asked why we are 
rushing to bail out companies whose leaders got rich by 
gambling with other people's money?
    Here is another communication, and I quote, ``The Federal 
Government must not prolong necessary corrections in the 
housing market, bail out lenders, or subsidize irresponsible 
borrowing and lending at the expense of hard-working people who 
have played by the rules.'' Except that statement did not come 
from Ohio. It came from the Office of Management and Budget 
three short months ago.
    Throughout this sorry chapter in our Nation's financial 
history, the Administration has shown extraordinary attention 
to the problems of Wall Street while at times showing hostility 
to rebuilding Main Streets across the country. The statement I 
quoted above was from the Administration's veto threat of the 
housing bill. Congress had the audacity to include $4 billion 
to rebuild neighborhoods devastated by the foreclosure crisis 
but the Administration did not want to reward irresponsible 
borrowing and lending.
    Now it does. But before we agree, there are many, many 
unanswered questions that Congress and the American people have 
a right to ask that the Administration needs to answer.
    As Chairman Bernanke knows, the bank panic of 1933 started 
in Detroit and in 2 weeks spread to Cleveland. Two of the 
city's largest banks were shuttered and never reopened. One had 
ties to my predecessor in this seat, Republican Marcus Hanna. 
Rumors flew that the bank's closure was a political decision. 
If we do not know the rules now, these types of rumors will be 
reborn.
    Secretary Paulson, as much as I respect your judgment, you 
will not be making the hundreds of individual decisions that 
this effort will require. And as your colleague, Secretary 
Kempthorne has found, a lack of close supervision and adherence 
to rules can lead to disastrous results.
    Many of the people who will be making these decisions as to 
the purchase of these troubled assets have come from Wall 
Street, and they may be returning to Wall Street. The notion 
that they can operate without clear guidelines is not just 
unfair to taxpayers, I think it is unfair to them.
    So I hope this morning we go into considerably greater 
detail. I hope we can give Main Street a good bit more help and 
attention than we have to date. I think the taxpayers need to 
be protected. And I think the leadership of these companies 
have to be held accountable.
    If any CEO hesitates to participate because of his or her 
narrow self-interest, his or her compensation, I would say it 
is time to get a new CEO. It is fine to say that people's 
401(k) accounts may be affected. They will be if we do not act. 
But for most people, their home is their 401(k). We need to 
help them, as well.
    Mr. Chairman, gas is expensive. I want that man from 
Westerville, Ohio to know that his time and his money were well 
spent.
    Chairman Dodd. Thank you very much, Senator.
    Senator Dole.

              STATEMENT OF SENATOR ELIZABETH DOLE

    Senator Dole. Mr. Chairman, I have very strong concerns 
that this rescue proposal will unfairly hold taxpayers 
responsible for the costly and reckless decisions of investment 
bankers on Wall Street.
    I, like the North Carolinians I am hearing from, am very 
skeptical of this proposal. And frankly, I am extremely 
frustrated that we find ourselves in this position.
    So much of what is happening with regard to the credit 
crisis, the housing slump, the bankruptcy and dissolving of 
major financial institutions can be linked to the mismanagement 
of Fannie Mae and Freddie Mac, which was made possible by weak 
oversight and little accountability.
    Since arriving in the Senate, I have been one of a handful 
of members pushing for stronger oversight of Fannie Mae and 
Freddie Mac. I have helped introduce--as have Senators Chuck 
Hagel, John Sununu, Mel Martinez, and Richard Shelby--
legislation to strengthen oversight. And I have raised the 
issue in the Banking Committee hearings time and time again. 
Unfortunately, Fannie and Freddie dispatched an army of 
lobbyists, reportedly spending more than $100 million, to gain 
protection in Congress and this Committee to oppose our 
legislation.
    As we know, one of my Committee colleagues proclaimed in 
April 2005 that Fannie and Freddie have done, and I quote, ``A 
very, very good job.'' It was only 2 months ago that our bill 
was finally included in the housing stimulus package. So it 
took 5 years to finally get appropriate action.
    This problem could have been resolved years ago. It is 
astounding that despite the years of widely publicized 
mismanagement at Fannie and Freddie, despite our group of 
United States Senators sounding the alarm about the lack of 
oversight, despite Alan Greenspan in 2005 urging Congress to 
act, warning that we are placing the total financial system of 
the future at a substantial risk, despite the preponderance of 
red flags, it took--of all things--the Investment Banking 
Division of Morgan Stanley, hired by the Treasury Department, 
to uncover that Fannie and Freddie were still using overly 
aggressive accounting techniques to inflate their capital 
adequacy positions.
    Now my constituents, and indeed taxpayers across the 
Nation, are asking how we arrived at this crisis. It is 
infuriating. We need to end the existing structure of an 
implied Government guarantee. We need to end the practice of 
private rewards at public risk. I fully support the mission of 
affordable housing and believe the Government will continue to 
play an important role in this area.
    That said, it is abundantly clear that Fannie and Freddie 
have utterly failed to deliver on their intended purpose. In 
fact, because of their Congressional apologists, Fannie and 
Freddie have effectively done just the opposite. They have put 
us on the brink of a situation in which almost no one can 
obtain financing for a home.
    One of the big casualties in all this mess is AIG. As we 
know, Treasury had to swoop in with an $85 billion loan to 
prevent the largest company failure in history. The AIG 
downfall was caused, in large part, by the hemorrhaging credit 
default swaps on mortgage-backed securities.
    Consistently throughout the year, I have been one of the 
few members who called for more oversight and tougher reporting 
requirements for the $60 trillion credit default swaps market, 
which we now know also played a significant role in the 
collapse of Lehman Brothers. I reference this as yet another 
example of what is now painfully obvious, the Federal 
Government's oversight structure for the financial sector is 
fatally flawed. And I am not at all convinced that this bailout 
plan, which appears incredibly expensive and hastily concocted, 
is the answer.
    I welcome today's hearing, not only for us lawmakers to get 
answers but for the taxpayers who need to understand in no 
uncertain terms why they are being asked to foot this bill.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator.
    Senator Casey.

              STATEMENT OF SENATOR ROBERT P. CASEY

    Senator Casey. Mr. Chairman, thank you very much.
    I want to thank Secretary Paulson, Chairman Bernanke, 
Chairman Cox, and Director Lockhart for your presence here 
today.
    I think my reaction to the proposal that was sent by the 
Administration this weekend was similar to not just members of 
this Committee and others, but I think the American people, in 
a couple of ways. One was I thought it was far too broad a 
grant of authority to the Treasury Department, and I will talk 
more about that. But I think in terms of what was missing from 
it were a couple of basic features. First of all, I think it 
missed completely the idea of addressing directly the root 
cause of this problem, which you know started with 
foreclosures. And I know there has been work done this weekend 
to try to fill in that hole, fill in that blank.
    On Friday, I sent a letter both to you, Secretary Paulson 
and Chairman Bernanke, outlining a couple of things on housing. 
First of all, HOPE for Homeowners is a way to further amplify 
or expand our efforts in that area. The moratorium issue that 
Senator Brown, Senator Menendez, and Senator Schumer and I 
proposed.
    And also, an innovative way in the city of Philadelphia, 
where literally the city government, the court system 
intervened, to try to prevent foreclosures. And it is a very 
successful model.
    And I think there are other ideas that we will hear. I know 
that Chairman Dodd has made a series of proposals just in the 
last couple of days that I think are very instructive here and 
very helpful on transparency and accountability, the idea of 
oversight, certainly in the area of assistance for homeowners.
    So we are going to have a chance to review those today and 
in the next couple of days.
    I think overall, people are looking for--taxpayers and 
families are looking for a couple of things. They are looking 
for more oversight. They want to know that if a department of 
their Federal Government is given the opportunity to exercise 
power which involves the expenditure of maybe $700 billion, 
that there is some oversight by the elected officials and 
others who are charged with that responsibility.
    I think taxpayers have a real concern, obviously, a deep 
abiding concern about their own savings. What will this mean to 
their own livelihood, any kind of short-term livelihood, but 
especially long-term, in terms of their own personal savings. I 
think they know that we need more performing loans, not loans 
that are headed to foreclosure. And I think the bankruptcy 
strategy here, in terms of that enhancing our ability to modify 
loans, is central to achieving that kind of result where you 
have more performing loans instead of loans headed to 
foreclosure.
    But I think in the end what people are most concerned about 
is staying in their homes. We have got to do everything 
possible with limited time, I realize, and under duress and 
urgency, to do everything possible to keep people in their 
homes. And I think that is, in the end, what most Americans are 
concerned about. They are concerned about not just their own 
family, but their own neighborhoods. And it really comes down 
to peace of mind in so many ways.
    I would hope that in your efforts, and I know that you are 
trying to do this, but in your efforts to explain what has to 
happen to support financial institutions and other entities 
which will, in turn, strengthen our economy and help on Main 
Street, that you keep in mind what individual families are up 
against.
    In my home State of Pennsylvania, which has been spared 
somewhat, in a relative sense, what other States have gone 
through, the foreclosure crisis got a lot worse in August of 
2008 compared to August of 2007, up 60 percent, a much higher 
rate than the rest of the country.
    And then if you add the foreclosure problem in a State like 
Pennsylvania and add the other challenges that people have, 
with gas prices, health care costs, the costs of education. One 
that stood out for me is child care. If you are a family in 
Pennsylvania and you have got two kids, your monthly cost for 
child care is $1,311. That is weighing on people as they worry 
about making the house payment this month and next month and 
all these months ahead of us.
    So I would urge you, as we finalize a proposal, I know we 
are trying to work together to make this happen, that we keep 
in mind those families and their peace of mind and their 
economic security.
    Thank you very much.
    Chairman Dodd. Thank you, Senator.
    Senator Martinez.

               STATEMENT OF SENATOR MEL MARTINEZ

    Senator Martinez. Thank you, Mr. Chairman.
    I look forward to hearing from the witnesses, and I will be 
very, very brief. But I do think it merits for us to look for a 
moment to how we got here because a lot can be said about the 
lack of regulation. And I want to associate myself with the 
excellent comments from Senator Dole.
    I cannot help but have a sense that a lot of what has 
transpired here, a lot of what we are dealing with today, has 
its origins in Fannie Mae and Freddie Mac. And as we look at 
that, and we try to deal with the current problem, we cannot 
help but also look back. We have not looked back enough to know 
how Fannie Mae and Freddie Mac got the entire financial world 
in the mess that we are in today.
    One of the problems is that it did not have a world class 
regulator. And I know it is real popular today and easy to do 
to just beat up on the Administration and blame everything from 
tsunamis to hurricanes on them. But having been a part of this 
Administration and having come to this Congress, and before 
this very Committee, to testify in 2003, along with then-
Secretary of Treasury Snow, to ask for stronger regulation over 
Fannie and Freddie, to have a world class regulator, I find it 
just a little troubling to just exactly overlook and not pay 
some attention to how we got here.
    And I do want to recall also Chairman Greenspan's comments 
in 2005 before this Committee where he said that if Fannie and 
Freddie continue to grow, continue to have the low capital that 
they have, continue to engage in the dynamic hedging of their 
portfolio--which they need to do for interest rate aversion--
they potentially create ever growing potential systemic risk 
down the road. And that is where we are today, systemic risk.
    So that is just a little bit on how we got here, where I 
think we need to, Director Lockhart, I hope we are going to 
drill down and find out a lot more about how Fannie and Freddie 
got us here. But beyond that, we need to do what we need to do 
now. We need, in the long term, to also deal with a complete 
revamping of our regulatory scheme of our financial 
institutions.
    But that will come in the future. For now, I believe we are 
saddled with a problem that needs and requires action, that 
action needs to be thoughtful but timely. We need to talk about 
oversight. We need to talk about the size of this fund, and 
whether it will work or not. But it does appear to me that 
there are also some questions that we need to have answered, 
which is if the underlying problem regarding this entire matter 
has to do with the ever declining home values, what are we 
doing here that will help to stem that decline in home values?
    It seems to me, when we look at the State of Florida, that 
it is about a tremendous inventory of unsold properties, as 
well as the availability of credit. Hopefully, what we are 
doing here may help with the availability of credit. But 
certainly the tremendous inventory is something that I think we 
also need to address.
    So I look forward to hearing the testimony from the 
witnesses, having many questions answered. But at the end of 
the day, I do believe that it is our responsibility to act, to 
act timely, and to act responsibly but yet to act.
    Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator. Senator Bayh.

                 STATEMENT OF SENATOR EVAN BAYH

    Senator Bayh. Thank you, Mr. Chairman and thank you, 
gentlemen, for your public service. We may not agree on 
everything but we are all grateful for your efforts to try and 
deal with this important moment for our Nation.
    Mr. Chairman, we gather here today at a time of the most 
palpable sense of national crisis since we gathered here in 
this building immediately following the 9/11 attacks. It has 
been less than 72 hours since we listened to the Chairman of 
the Federal Reserve tell us that we were only a matter of 
perhaps days from the beginning of a major economic collapse, 
the free fall of our financial markets, and the beginnings of a 
severe and protracted recession that could cost businesses 
going out of business, many jobs being lost, savings being 
wiped out, people losing their homes, real distress for our 
country. And coming from a man who I think, Mr. Chairman, it is 
safe to say is not known for engaging in hyperbole, this tended 
to focus the mind.
    So the sense of urgency is palpable. And yet, we also have 
to focus on getting it right.
    I am going to focus my questions on what alternatives have 
been considered? Why are we convinced that this is the right 
path? Were there no private sector solutions available that 
would perhaps lead to better outcomes than the ones that have 
been proposed?
    If it takes us a couple of extra days to increase the 
likelihood that this will work and work well, well it is worth 
working through the weekend. It may be worth postponing going 
home to campaign for. I mean, this is important enough that we 
take the time to get it right.
    And so I am going to focus my questions first on what other 
alternatives were considered? And why do we think this is the 
optimal solution to the problem?
    Several of my colleagues, including Senator Menendez, have 
mentioned is our purpose here to protect the taxpayers by 
buying these instruments at market prices? If that is the case, 
how does it help solve the problem by recapitalizing these 
institutions? If we are paying above market prices, what do the 
taxpayers receive in return? If equity is the answer, that is 
one thing. If it is not equity, then we have to ask why not? 
And if it is not equity, we have to ask why do we encourage, or 
at least permit, sovereign wealth funds to invest in our 
companies and markets but perhaps not allow the American 
taxpayers to take a similar interest in our own companies and 
markets? So I will be asking about that, as well.
    Finally, and perhaps my greatest concern, Mr. Chairman, and 
you and I have discussed this. We have to act. But we also have 
to be willing to take the steps to make sure that this 
situation does not reoccur. As my colleagues have indicated, 
there is a sense of outrage on the part of ordinary taxpayers. 
I hear from my citizens all the time, people who behaved 
prudently, who did not take inordinate risks, who saved their 
money, who did not get in over their heads, who did not 
participate in highly leveraged instruments that have not come 
back to haunt them.
    What about them? Who speaks for them? Who will protect 
them? We owe it to them to make sure that we learn the lessons 
from this so that it does not happen again.
    And the way Washington works--I must say, I am not a cynic 
but I am a skeptic. We will act in this moment of crisis. But 
once the crisis has abated, the sense of urgency will 
dissipate. The forces of reform will not have the energy they 
have today. All of the interests will circle this place like 
hungry birds looking at carrion to prevent us from taking the 
steps that are necessary. And we must not let that happen.
    So I understand we cannot make the long-term reforms in 
this vehicle. It is not possible in the time frame that is at 
our disposal. But I am going to be looking for some incentive, 
Mr. Chairman, some mechanism that will force us to revisit this 
issue. Because if we do not revisit the issue of long-term 
reform to keep this from happening again, it will happen again. 
And history will judge us poorly and our children and 
grandchildren will not forgive us, nor should they.
    Chairman Dodd. Thank you, Senator.
    Senator Corker.

                STATEMENT OF SENATOR BOB CORKER

    Senator Corker. Senator Bayh made some good comments.
    I want to say to all of you that I thank you for coming. I 
think it is absolutely reprehensible that in the biggest 
financial crisis in modern history, our timeline is to get out 
of here on Friday so we can adjourn for the year in September. 
And I agree with those who think we ought to get this right. I 
will focus these comments to Secretary Paulson and Chairman 
Bernanke.
    I cannot imagine two people that have a better background 
to deal with this, nor people that I respect more from the 
standpoint of that and their perspective. I did not support the 
rebate stimulus, and I did not support the ``bazooka in the 
pocket'' theory. And history will judge whether that was a good 
decision or not. But in both cases, you came to us with 
strength of commitment and telling us that that absolutely was 
the right thing to do. I disagreed.
    In this case, what bothers me is that each of you--and I 
realize you are trying to solve a problem, and I truly believe 
you are trying to do it in a way that you think is best for the 
country. I believe that with all of my heart. But I get a sense 
that it is with more of a deer-in-the-headlights mentality.
    This is a much bigger undertaking, this bailout, and I do 
not, by the way, criticize you for not knowing exactly what to 
do. But this is being done on the fly. If this $700 billion 
were to be extended per Bloomberg data today, it would add up 
to $1.8 trillion that we have extended to the markets, not 
counting the rebate checks that went away at $168 billion or 
somewhere thereof.
    So I just have to tell you that I hope today that what you 
will do in questions and answering is talk about some of the 
options that you have thought about that Senator Bayh brought 
forth, and I hope you will be able to convince us that this 
solves the problems that we are dealing with.
    I am getting letters from bankers throughout the State of 
Tennessee that were not involved in this, and yet they have 
severe issues that are caused by some of the things that have 
happened on Wall Street.
    So I hope this meeting will be full, Mr. Chairman. I did 
the math for you. I hope you do not object. But 21 times 8 is 
168 minutes. I know no one will stay within that 8 minutes, and 
I do hope that this hearing will last long enough so that we 
leave here fully understanding what it is we are talking about.
    Chairman Dodd. I appreciate that very much, and, again, I 
thank my colleagues. And there are a couple more members who 
want to be heard from, but this is, as many have pointed out, 
probably the single most important hearing this Committee has 
held, certainly in my tenure. Therefore, having the opportunity 
for Members to be heard on this I think is particularly 
important. And it is important, I think, that our witnesses 
have the opportunity as well. They are reflecting the views of 
their constituents about these matters, and it is clearly 
important that we be working together on this.
    So I apologize for the length of it, and I will try and 
make sure we move along here, recognizing our witnesses have 
work to do as well. But it is a critical moment in our system 
that we hear from Members. So I thank my colleagues for their 
comments as well.
    Let me turn to Senator Akaka and then Senator Allard, and 
then we will then go to our witnesses. Senator Akaka.

               STATEMENT OF SENATOR DANIEL AKAKA

    Senator Akaka. Thank you very much, Mr. Chairman. I 
appreciate your conducting this hearing today, and I want to 
add my welcome and thanks to the witnesses who are here today.
    Mr. Chairman, I understand the need to act to stabilize the 
markets. However, we must not give the Secretary of Treasury a 
blank check with no accountability or oversight. We must 
deliberate and provide a solution that protects taxpayers as 
much as possible and limits the potential for this new 
authority to be abused. Seven hundred billion dollars is a huge 
sum of money.
    I know the President has said that the whole world is 
watching Congress now. I remind all of you that the Members of 
this Committee and the rest of the taxpayers will be closely 
watching the development of the Troubled Assets Program. The 
purchase and sale of assets has great potential to be abused 
and lead to corruption. Members of Congress, the GAO, the 
Treasury Inspector General, and the public must review the 
activities of Treasury authorized by this proposed act. We must 
make sure that this situation, which has been caused partially 
be greed, will not be exploited to enrich individuals and 
corporations.
    In addition to stabilizing the markets, we must do more to 
help working families. We need to help those who have already 
suffered the consequences of the current economic downturn. We 
must do more to try and keep people in their homes. Consumer 
protections must be improved to better protect families from 
being exploited by predatory lenders.
    Mr. Chairman, we are here today due to a massive market 
failure. In addition to this emergency legislation, we need a 
complete reexamination of our financial services oversight 
system in order to strengthen regulation and prevent the need 
for future bailouts. While most of those issues will be 
considered in the next session of Congress, I look forward to 
working with all of you to bring together a fair proposal to 
stabilize the markets, improve the lives of working families, 
and overhaul the financial services regulatory system.
    Thank you very much, Mr. Chairman.
    Chairman Dodd. Thank you, Senator.
    Senator Allard.

               STATEMENT OF SENATOR WAYNE ALLARD

    Senator Allard. Thank you, Mr. Chairman.
    I want to thank the panel for being here with us today. 
This is a critical time in our Nation and our economy, and we 
must move forward from here. I hope to get more details on how 
we do that.
    We need to act on solid facts so that we can act in the 
interests of the taxpayers of this country. I urge the 
administration to be more forthcoming with facts on their plan, 
their cost estimates and implementation. Telling Congress to 
give full discretion in implementing the bailout program is not 
the way to go. Congress needs to be involved, and I urge more 
cooperation and sharing with the Congress in the hope that we 
can act in a limited way and avoid going beyond what is 
necessary to stabilize the markets. This Committee, this 
Congress, must act to preserve our free market tradition. We 
have tried to avoid propping up failed businesses on Main 
Street. We should not prop up failure, malfeasance, and avarice 
on Wall Street.
    Second, we cannot do so successfully, even if we wanted to. 
The history of Government's ineptitude at running business is 
known now the world over.
    And, third, we must prevent panic both in the market and in 
the Government. Overreaction will in the long run be worse for 
our freedom and our economy. We must remember the long run.
    Mr. Chairman, thank you.
    Chairman Dodd. I thank the Senator very much.
    Before turning to Secretary Paulson, let me just say for 
the benefit of my colleagues and others, our intention had 
been, quite frankly, barring events of the last few days, to 
actually use this month and next month to have some hearings 
and informal conversations on exactly the issue of long-term 
restructuring of our financial service regulatory system. My 
intention is as some point to do this. In fact, Chairman 
Bernanke and I ever chatted about this yesterday as well, and 
we hope to get to that to be able to start that process before 
the inauguration of the new President in January to be able to 
present some ideas. It is impossible this week to do that, but 
I want my colleagues to know it is our intention. I know 
certainly Members--Senator Allard and others--have worked on 
regulatory reform for a long time, and so I am going to be 
calling upon us as a Committee, informally or formally, to 
actually have those conversations in the coming weeks even 
before we commence our work in January to actually consider 
ideas that would allow for the restructuring of that. So I want 
the witnesses as well as our colleagues to know that.
    With that, Secretary Paulson, let me underscore what has 
been said by others here. We admire immensely your willingness 
to serve our country, and that goes for all of you there at the 
table. There are obviously concerns that are being expressed 
here strongly this morning. I hope it has been valuable for you 
to hear from across the country how our colleagues are hearing 
from their constituents and their own concerns about these 
issues.
    In no way should this be an interpretation of our lack of 
respect and admiration for those willing to serve our country, 
and we appreciate immensely your willingness to do it. We 
admire as well your background and experience you bring to this 
issue.
    So, with that, we thank you for being here this morning and 
are anxious to receive your testimony and ask some questions.

 STATEMENT OF HENRY M. PAULSON, JR., SECRETARY, DEPARTMENT OF 
                          THE TREASURY

    Secretary Paulson. Thank you very much, Chairman Dodd, 
Senator Shelby, Members of the Committee. Thank you very much 
for the opportunity to appear before you today. I very 
appreciate the comments you made, and I understand them and I 
appreciate them.
    Chairman Dodd. Could you pull that microphone a little 
closer?
    Secretary Paulson. I also share the comments that you all 
made about the importance of the situation and the importance 
of this hearing.
    This is a difficult period for the American people. I very 
much appreciate the fact that congressional leaders and the 
administration are working closely together so that we can help 
the American people by quickly enacting a program to stabilize 
our financial system.
    We must do so in order to avoid a continuing series of 
financial institution failures and frozen credit markets that 
threaten American families' financial well-being, the viability 
of businesses both small and large, and the very health of our 
economy.
    The events leading us here begin many years ago, starting 
with band lending practices by banks and financial institutions 
and by borrowers taking out mortgages they could not afford. We 
have seen the results on homeowners--higher foreclosure rates 
affecting individuals and neighborhoods. And now we are seeing 
the impact on financial institutions. These loans have created 
a chain reaction, and last week our credit markets froze. Even 
some Main Street non-financial institutions--or, excuse me, 
some non-financial companies had trouble financing their normal 
business operations. If that situation were to persist, it 
would threaten all parts of our economy.
    Every American business depends on money flowing through 
our system every day, not only to expand their business and 
create jobs, but to maintain normal business operations and to 
sustain jobs.
    As we have worked through this period of market turmoil, we 
have acted on a case-by-case basis, addressing problems at 
Fannie Mae and Freddie Mac, working with market participants to 
prepare for the failure of Lehman Brothers, and lending to AIG 
so it can sell some of its assets in an orderly manner.
    And here I would make the comment, you know, I have heard 
your comments on executive compensation. I share your 
frustrations. I feel those frustrations. Practices throughout 
America also upset me. Let me just say that, with regard to 
Freddie and Fannie and AIG, in case you or your constituents do 
not know, in those cases CEOs were replaced, the Government got 
warrants for 79.9 percent of the equity, golden parachutes were 
eliminated, strong action was taken.
    I will also say to the comments made about Freddie and 
Fannie and the bazooka, you all can be darn glad you gave us 
the bazooka, because we needed it.
    Let me tell you something. The root of that problem was in 
congressional charters started many, many years ago. We were 
living up to our obligations here. There are ambiguities. There 
are obligations around those charters. And what we did was we 
came in, we stabilized the market, mortgage rates went down so 
that capital could flow through our system. And I can just say 
I for one--and I know that the other witnesses feel very glad 
about this--thank goodness that was done and they were 
stabilized before we had some investment banks report their 
earnings, or let me tell you, this would be a much more serious 
situation than it is today. So there is an example of broad 
authorities working the way they were supposed to work to 
stabilize our system.
    Sorry for that ad hoc response, but we have also taken a 
number of powerful tactical steps to increase confidence in the 
system, including a temporary guaranty program for the U.S. 
money market mutual fund industry. These steps have been 
necessary but not sufficient.
    More is needed. We saw market turmoil reach a new level 
last week and spill over into the rest of the economy. We must 
now take further, decisive action to fundamentally and 
comprehensively address the root cause of this turmoil.
    And that root cause is the housing correction, as you have 
all pointed out, which has resulted in illiquid mortgage assets 
that are choking off the flow of credit which is so vitally 
important to our economy. We must address this underlying 
problem and restore confidence in our financial markets and 
financial institutions so they can perform their mission of 
supporting future prosperity and growth.
    We have proposed a program to remove troubled assets from 
the system. We would do this through market mechanisms 
available to thousands of financial institutions throughout 
America--big banks, small banks, savings and loans, credit 
unions--to help set values of complex, illiquid mortgage and 
mortgage-related securities to unclog our credit and capital 
markets and make it easier for private investors to purchase 
these securities and for the financial institutions to raise 
more capital after the market learns more about the underlying 
value of these hard-to-value, complicated mortgage-related 
securities on their balance sheets.
    This Troubled Asset Relief Program has to be properly 
designed for immediate implementation and be sufficiently large 
to have maximum impact and restore market confidence. It must 
also protect the taxpayer to the maximum extent possible and 
include provisions that ensure transparency and oversight while 
also ensuring the program can be implemented quickly and 
effectively.
    And let me give you another ad hoc comment there. When we 
all met Thursday night, as you will recall, Chairman, with the 
leaders of Congress, you all said to us, ``Don't give us a fait 
accompli. Come in and work with us.'' We gave you a simple 
three-page legislative outline, and I thought it would have 
been presumptuous for us on that outline to come up with an 
oversight mechanism. That is the role of Congress. That is 
something we are going to work on together. So if any of you 
felt that I did not believe that we needed oversight, I believe 
we need oversight. We need oversight. We need protection. We 
need transparency. I want it, we all want it. And we need to do 
that in a way that lets this system, lets this program work 
effectively, quickly, because it needs to work effectively and 
quickly, and it needs to get the job done.
    Now, the market turmoil we are experiencing today poses 
great risk to U.S. taxpayers. When the financial system does 
not work as it should, Americans' personal savings and the 
ability of consumers and businesses to finance spending, 
investment, and job creation are threatened.
    The ultimate taxpayer protection will be the market 
stability provided as we remove the troubled assets from our 
financial system. Don't forget that. This system has to work, 
and has to work right, and that will be the ultimate market 
protection. I am convinced that this bold approach will cost 
American families far less than the alternative--a continuing 
series of financial institution failures and frozen credit 
markets unable to fund everyday needs and economic expansion.
    Again, I am frustrated. The taxpayer is on the hook. The 
taxpayer is already on the hook. The taxpayer is going to 
suffer the consequences if things do not work the way they 
should work. And so the best protection for the taxpayer and 
the first protection for the taxpayer is to have this work.
    Over these past days, it has become clear that there is a 
bipartisan consensus for an urgent legislative solution. We 
need to build upon this spirit to enact this bill quickly and 
cleanly, and avoid slowing it down with provisions that are 
unrelated or do not have broad support. This troubled asset 
purchase program on its own is the single most effective thing 
we can do to help homeowners, the American people, and to 
stimulate our economy.
    Earlier this year, Congress and the administration came 
together quickly and effectively to enact a stimulus package 
that has helped hard-working Americans and boosted our economy. 
We acted cooperatively and faster than anyone thought possible. 
Today we face a much more challenging situation that requires 
bipartisan discipline and urgency.
    When we get through this difficult period, which we will, 
our next task must be to address the problems in our financial 
system through something you have all talked about. We need 
reform that fixes this outdated financial regulatory structure. 
You have all heard me talk about that a lot. And we need other 
strong measures to address other flaws and excesses in the 
system. And there are plenty, and we have all talked about 
them, and they cannot be addressed this week. We need to take 
time to address these. I have already put forward my 
recommendations on this subject. Many of you have strong views 
based on your expertise. We must have that critical debate, but 
we must get through this period first.
    Right now, all of us are focused on the immediate need to 
stabilize our financial system, and I believe we share the 
conviction that this is in the best interest of all Americans. 
Now let's work together to get it done.
    Thank you.
    Chairman Dodd. Thank you very much, Mr. Secretary. I would 
be remiss if I did not just point out--and thank you, by the 
way--that but for the cooperation that Senator Shelby and the 
overwhelming majority of Members of this Committee, we were 
able to enact that legislation in July that you have 
referenced. It does not mean that everybody was supportive of 
every detail of it, but it was an example of coming together 
and getting a job done. It took some time, but we got it done, 
and I thank you for your comments about it, and I thank Senator 
Shelby and Members of this Committee, Democrats and 
Republicans, who worked with us to get that done.
    Chairman Bernanke.

 STATEMENT OF BEN S. BERNANKE, CHAIRMAN, BOARD OF GOVERNORS OF 
                   THE FEDERAL RESERVE SYSTEM

    Mr. Bernanke. Mr. Chairman, Senator Shelby, I have 
submitted formal written testimony for the record. With your 
permission, I would like to speak just a few minutes about the 
Treasury proposal.
    The Fed supports the Treasury initiative. We believe that 
strong and timely action is urgently needed to stabilize our 
markets and our economy. But I believe some clarification is 
needed about why this proposal could make a positive 
difference, and I would like to offer a few thoughts on that 
subject.
    Let me start with a question. Why are financial markets not 
working? Financial institutions and others hold billions in 
complex securities, including many that are mortgage related. I 
would like to ask you for a moment to think of these securities 
as having two different prices. The first of these is the fire-
sale price. That is the price a security would fetch today if 
sold quickly into an illiquid market. The second price is the 
hold-to-maturity price. That is what the security would be 
worth eventually when the income from the security was received 
over time.
    Because of the complexity of these securities and the 
serious uncertainties about the economy and the housing market, 
there is no active market for many of these securities. And, 
thus, today the fire-sale price may be much less than the hold-
to-maturity price.
    This creates something of a vicious circle. Accounting 
rules require banks to value many assets at something close to 
a very low fire-sale price rather than the hold-to-maturity 
price, which is not unreasonable in itself given their 
illiquidity. However, this leads to big writedowns and 
reductions in capital, which in turn forces additional sales 
that send the fire-sale price down further, adding to pressure. 
Meanwhile, private capital is unwilling to come in because of 
uncertainty about the value of institutions and because of the 
prospect of more writedowns.
    One suggestion that has been made is to suspend mark-to-
market accounting and use banks' estimates of hold-to-maturity 
prices. Many banks support this. But doing this would only hurt 
investor confidence because nobody knows what the true hold-to-
maturity price is. Without a market to determine that price, 
investors would have to trust the internal estimates of banks. 
So let me come to the critical point.
    I believe that under the Treasury program auctions and 
other mechanisms could be designed that will give the market 
good information on what the hold-to-maturity price is for a 
large class of mortgage-related assets. If the Treasury bids 
for and then buys assets at a price close to the hold-to-
maturity price, there will be substantial benefits.
    First, banks will have a basis for valuing those assets and 
will not have to use fire-sale prices. Their capital will not 
be unreasonably marked down.
    Second, liquidity should begin to come back to these 
markets.
    Third, removal of these assets from balance sheets and 
better information on value should reduce uncertainty and allow 
the banks to attract new private capital.
    Fourth, credit markets should start to unfreeze; new credit 
will become available to support our economy.
    And, fifth, taxpayers should own assets at prices close to 
hold-to-maturity values which minimizes their risk.
    Now, how to make this work. To make this work, we do need 
flexibility in design of mechanisms for buying assets and from 
whom to buy. We do not know exactly what the best design is. 
That will require consultation with experts and experience with 
alternative approaches.
    Second, understanding the concerns and the worries of the 
Committee, we cannot impose punitive measures on the 
institutions that choose to sell assets. That would eliminate 
or strongly reduce participation and cause the program to fail. 
Remember, the beneficiaries of this program are not just those 
who sell the asset, but all market participants and the economy 
as a whole.
    But, finally, and very importantly, this is not to say that 
the financial industry should not be reformed. It should be. It 
is critical. I agree with the Treasury Secretary. The Federal 
Reserve will give full support to fundamental reform of the 
financial industry. But whatever reforms the Congress makes 
should apply to the whole industry, whether they participate in 
this program or not.
    So, in summary, I believe that under the Treasury authority 
being requested, a program could be undertaken that will help 
establish reasonable hold-to-maturity prices for these assets. 
Doing that will restore confidence and liquidity to the 
financial markets and help the economy recover without an 
unreasonable fiscal burden on taxpayers. So I urge you to act 
as soon as possible.
    Thank you.
    Chairman Dodd. Thank you, Mr. Chairman, for that testimony.
    Christopher Cox.

            STATEMENT OF CHRISTOPHER COX, CHAIRMAN,
               SECURITIES AND EXCHANGE COMMISSION

    Mr. Cox. Thank you, Chairman Dodd, Ranking Member Shelby, 
and Members of the Committee, for inviting me here to today to 
discuss the current turmoil in our markets and our policy 
responses to it. The extraordinary nature of recent events has 
required an extraordinary response from both policymakers and 
regulators.
    Last week, by unanimous decision of the Commission and with 
the support of the Secretary of the Treasury and the Federal 
Reserve, as well as in close coordination with regulators 
around the world, the SEC took emergency action to ban short 
selling in financial securities to stabilize markets as you 
consider this legislation. At the same time, the Commission 
unanimously approved two additional measures to ease the crisis 
of confidence in the markets. One makes it easier for issuers 
to repurchase their own shares on the open market, thus 
providing additional liquidity. The second requires weekly 
reporting to the Securities and Exchange Commission by large 
investment managers of their daily short positions.
    In addition, the SEC recently issued new rules that more 
strictly enforce the ban on abusive naked short selling under 
our Regulation SHO. Beyond these immediate steps, the SEC is 
vigorously investigating how illegal activities may have 
contributed to the subprime crisis and the recent instability 
in our markets.
    First and foremost, the SEC is a law enforcement agency, 
and we already have over 50 ongoing investigations in the 
subprime area alone. The Division of Enforcement has undertaken 
a sweeping investigation into market manipulation of financial 
institutions, including through the use of credit default 
swaps, a multi-trillion-dollar market is completely lacking in 
transparency and is completely unregulated.
    Last month, the Enforcement Division, working with State 
regulators, entered into agreements that will be the largest 
settlements in SEC history, in behalf of investors who bought 
auction rate securities from Merrill Lynch, Wachovia, UBS, and 
Citigroup. Happily, the terms of these agreements would provide 
complete recovery for individual investors.
    The Commission also recently brought enforcement actions 
against portfolio managers at Bear Stearns Asset Management for 
deceiving investors about the hedge funds' overexposure to 
subprime mortgages.
    The Commission is using its regulatory authority 
simultaneously to ensure that the market continues to function. 
Last week, the Commission's Office of Chief Accountant provided 
guidance to clarify the accounting treatment of banks' efforts 
to support their money market mutual funds. This will help 
protect investors in those funds. And our examinations of the 
major credit rating agencies for mortgage-backed securities 
exposed weaknesses in their ratings processes and led to our 
sweeping new rules to regulate this industry under the new 
authority that this Committee and the Congress have given us.
    We are also moving quickly to mitigate the impact of recent 
events. In the past week, the SEC oversaw the sale of 
substantially all of the assets of Lehman Brothers, Inc., to 
Barclays Capital. Hundreds of thousands of Lehman's customer 
accounts with over $1 billion in assets can now be transferred 
in a matter of days, instead of going through a lengthy 
brokerage liquidation process.
    With all that has happened, it is important to keep in mind 
how we got here. The problems that each of these actions has 
addressed have their roots in the subprime mortgage crisis, 
which itself was caused by a failure of lending standards. The 
complete and total mortgage market meltdown that led to the 
taxpayer rescue of Fannie Mae and Freddie Mac was not built 
into the stress scenarios and the capital and liquidity 
standards of any financial institution. Bank risk models in 
every regulated sector, for better or for worse, failed to 
incorporate this scenario that has caused so much damage in 
financial services firms of all kinds.
    The SEC's own program of voluntary supervision for 
investment bank holding companies, the Consolidated Supervised 
Entity program, put in place in 2004, was fundamentally flawed 
because it adopted these same bank capital liquidity standards 
and because it was purely voluntary. It became abundantly clear 
with the near collapse of Bear Stearns that this sort of 
voluntary regulation does not work. Working with the Federal 
Reserve, the Division of Trading and Markets moved quickly last 
spring to strengthen capital and liquidity at investment bank 
holding companies far beyond what the banking standards 
require, and we immediately entered into a formal Memorandum of 
Understanding with the Fed to share both information and 
expertise. But the fact remains that no law authorizes the SEC 
to supervise investment bank holding companies let alone to 
monitor the broader financial system for risk.
    For the moment, this regulatory hole in the statutory 
scheme is being addressed in the market by the conversion of 
investment banks to bank holding companies. But the basic 
problem must still be addressed in statute by filling that 
regulatory hole, as I have reported to Congress on previous 
occasions.
    I will conclude, Mr. Chairman, by warning of another 
similar regulatory hole in statute that must be immediately 
addressed or we will have similar consequences. The $58 
trillion notional market in credit default swaps, to which 
several of you have referred in your opening comments--that is 
double the amount that was outstanding in 2006--is regulated by 
absolutely no one. Neither the SEC nor any regulator has 
authority over the CDS market, even to require minimal 
disclosure to the market. This market is ripe for fraud and 
manipulation, and indeed we are using the full extent of our 
antifraud authority, our law enforcement authority, right now 
to investigate this market. Because CDS buyers do not have to 
own the bond or the debt instrument upon which the contract is 
based, they can effectively ``naked short'' the debt of 
companies without any restriction, potentially causing market 
disruption and destabilizing the companies themselves.
    As the Congress considers reform of the financial system in 
the current crisis, I urge you to provide in statute for 
regulatory authority over the CDS market. This is vitally 
important to enhance investor protection and to ensure the 
continued operation of fair and orderly markets.
    Mr. Chairman, I appreciate the opportunity to discuss the 
current market turmoil, and I look forward to answering your 
questions.
    Chairman Dodd. Thank you, Mr. Chairman. Just very briefly, 
we received your testimony about 20 minutes before the hearing 
began today. Other Chairmen over the years have talked about 
it, and again, I would just raise it briefly here with you. We 
need to get the testimony--and I appreciate the fact we did 
from other witnesses last evening. We need to get it from the 
SEC earlier than 20 minutes before a hearing.
    Mr. Lockhart.

         STATEMENT OF JAMES B. LOCKHART III, DIRECTOR,
                 FEDERAL HOUSING FINANCE AGENCY

    Mr. Lockhart. Chairman Dodd, Senator Shelby, and Members of 
the Committee, thank you for the opportunity to testify on the 
Federal Housing Finance Agency's decision to place Fannie Mae 
and Freddie Mac into conservatorship.
    Fannie Mae and Freddie Mac share the critical mission of 
providing stability, liquidity, and affordability to the 
Nation's housing market. Between them, these enterprises have 
$5.3 trillion of guaranteed mortgage-backed securities and debt 
outstanding, which is equal to the total publicly held debt of 
the United States. Their market share earlier this year reached 
80 percent of all new mortgages made.
    During the turmoil that started last year, they had played 
a very important role in providing liquidity to the conforming 
mortgage market. They required capital to support a very 
careful and delicate balance between safety and soundness and 
mission. That balance was upset as house prices, earnings, and 
capital have continued to deteriorate. In particular, the 
capacity to raise capital without Treasury Department support 
vanished. That left both enterprises unable to fill their 
mission. Worse, it threatened to further damage the mortgage 
and housing markets if they had to sell their assets.
    Rather than letting those conditions worsen and put the 
financial markets in further jeopardy, FHFA decided to take 
action. The goal of these dual conservatorships is to help 
restore confidence in Fannie Mae and Freddie Mac, enhance their 
capacity to fulfill their mission, reduce systemic risk, and 
make mortgages--and this is the most important--make mortgages 
available at lower cost for the American people.
    FHFA based its determination on five key areas, each of 
which worsened significantly over the last several months: 
First, there were accelerating safety and soundness weaknesses. 
Second, there was a continued and substantial deterioration in 
equity, debt, and MBS market conditions. Third, the current and 
projected financial performance and condition of each company, 
as reflected in the second quarter financial reports and our 
ongoing examination. Fourth, the inability of the companies to 
raise capital or to issue debt according to normal practices 
and prices. And, last, the critical importance of each company 
in supporting the country's residential mortgage market.
    I shared our growing concerns with Federal Reserve Chairman 
Bernanke, who was made our consultant in the law you passed in 
July, and with Secretary Paulson. They agreed that a 
conservatorship was necessary, as did the boards of both firms. 
A detailed list of events leading to our conclusion to appoint 
a conservator is provided in my written statement. I will just 
highlight a few.
    It became apparent during this intense supervisory review 
that began in July that market conditions were deteriorating 
much more rapidly than anybody expected. We supplemented our 
examination team with senior examiners from the Fed and the 
OCC. All three sets of examiners corroborated that there was a 
significant deterioration in the credit environment and it was 
a threat to the capital of these two companies. We also 
finished our semi-annual examination ratings of the companies 
and, across the board, there were significant and critical 
weaknesses.
    The companies themselves disclosed in their second quarter 
filings how rapidly the environment had deteriorated and was 
negatively affecting their outlook and their ability to raise 
capital. Freddie Mac reported losses of $4.7 billion over the 
last year. Fannie Mae reported losses of $9.7 billion.
    Now, let me turn to the conservatorships. The first signs 
are that the conservatorships are positive. The enterprise 
funding costs and the spreads on MBS have declined. This lower 
cost has been passed on to homebuyers, with 30-year mortgage 
rates well below 6 percent for the first time since January. On 
the first day, business opened as normal but with stronger 
backing for the holders of their mortgage-backed securities, 
their debt, and their subordinated debt.
    Over the next 15 months, they are allowed to increase their 
portfolios to provide support to the housing market. They will 
also be able to continue to grow their guaranteed MBS books.
    As the conservator, FHFA assumed the power of the board and 
management. Highly qualified new chief executive officers and 
non-executive chairmen have been appointed. They will be 
delegated significant powers. In order to conserve over $2 
billion in annual capital, the common stock and preferred 
dividends were eliminated.
    The U.S. Treasury financing facilities, which are critical 
to this conservatorship, are all in place and will provide the 
needed support to Fannie Mae and Freddie Mac to fulfill their 
mission over the long term, while giving upside potential for 
taxpayers. FHFA will continue to work expeditiously on the many 
regulations needed to implement the new law. The new 
legislation adds, importantly, affordable housing, a trust 
fund, and mission enforcement to the responsibilities of the 
safety and soundness regulator. We are also continuing to work 
with the enterprises on loan modifications, foreclosure 
preventions, pricing, and credit issues.
    The decision to appoint a conservator for each enterprise 
was a tough but necessary one. They can now become part of the 
solution. Unfortunately, all the good and hard work put in by 
the FHFA and the enterprises was not sufficient to offset the 
consequences of the antiquated regulatory structure which was 
overwhelmed by the turmoil in the housing markets. 
Conservatorship will give the enterprises the time to restore 
the balances between safety and soundness and their mission.
    Working together with the enterprises, Congress, the 
administration, and other regulators, I believe we can restore 
confidence in the enterprises and, with the new legislation 
which you passed, build a stronger and safer future for the 
mortgage markets, homeowners, and renters in America.
    Thank you. I would be pleased to answer questions.
    Chairman Dodd. Thank you very much, Mr. Lockhart.
    Senator Tester was presiding over the Senate when we were 
gathering here, and everyone else had a chance to make a brief 
comment. And, Senator Tester, do you have a brief comment you 
would like to make?

                STATEMENT OF SENATOR JON TESTER

    Senator Tester. I do. Thank you, Mr. Chairman, and thank 
you for allowing me to just ask a few questions.
    Ten years ago, I got involved in politics because of 
electrical deregulation in the State of Montana. It was a total 
disaster. I have got plenty of questions to ask about the plan, 
and I will as they come forth. But I guess my concern is this: 
Six months ago, we heard about Bear Stearns, and then we have 
had Fannie and Freddie, and we have had some other ones come 
down the pike. A week ago, you came forth with a $700 billion 
bailout plan--$700 billion, and it was made clear that this was 
going to be--there was going to be nothing added on to it. 
Accountability, demand of re-regulation was not going to be 
accounted. And my question--and this is the concern I have. You 
guys are a lot smarter in financials than I am. I am a dirt 
farmer. You guys have been in the business, former Chairman of 
Goldman Sachs. Why do we have 1 week to determine $700 billion 
that has to be appropriated or this country's financial systems 
go down the pipes? Wasn't there some opportunity sometime down 
the line where we could have been informed of how serious this 
crisis was so we could take some preventative steps before this 
got to this point?
    That is it. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator, very much.
    Well, again, we will turn the clock on here and try and 
move along, and let me pick up sort of on that question. I 
appreciate, Chairman Bernanke, your laying out why you think 
this particular plan will work. But I would like you, if you 
could, to step back, in addition to laying out why you think 
the plan would work, tell us--and, again, Senator Schumer 
mentioned the other evening when we sat on Thursday night, the 
reason why we have to act. Put aside whether or not we are 
going to act this week or next week. But for a minute tell us 
why you believe it is critically important, one, that we act; 
what are the circumstances out there that warrant us responding 
as quickly as we are being asked to; and, second, do you 
believe that the amount being asked for is going to adequately 
address the issue, particularly if we adopt the plan as 
suggested by the Secretary?
    Mr. Bernanke. Mr. Chairman, the financial markets are in 
quite fragile condition, and I think, absent a plan, they will 
certainly get worse. But even in the current state, they are 
not serving the necessary function to support the economy. 
Credit is not being provided. As Secretary Paulson mentioned, 
non-financial companies are not able to finance themselves 
overnight. Credit is just not going to be available. It is 
going to also affect savers because of the values of their 
assets that they have.
    So even in the current condition, even if things do not get 
severely worse--but I think they would get worse without some 
kind of action--this will be a major drag on the U.S. economy 
and will greatly impede the ability of the economy to recover 
in a healthy way.
    The amounts involved are intended to be enough. We do not 
want to go in and underwhelm the situation. That might be to 
suggest more problems down the road. There have been some ways 
of looking at it. This is about 5 percent of all the mortgages 
outstanding, for example, $700 billion. But it certainly 
illustrates the size of these markets and the size of the 
problem.
    I think it is important to state that, as I mentioned 
before, this is not an expenditure of $700 billion. This is a 
purchase of assets, and if auctions are done properly, if the 
valuations are done properly, the American taxpayer will get a 
good value for his or her money. And as the economy recovers, 
most all or perhaps more than all of the value will be 
recovered over time, as was the case in other similar 
situations in the past.
    Chairman Dodd. Let me ask you this. Again, we have heard 
our colleagues, again, across the spectrum here, both 
politically and geographically, talk about the impact this is 
having beyond, obviously, the information we are aware of in 
terms of firms that have disappeared or been consolidated and 
the concerns about what is happening to people in the country, 
their homes being lost and the like.
    Explain, if you would, what is your concern as Chairman of 
the Federal Reserve if we were not to act. Give us some idea of 
what you think the implications would be if we did not respond 
in one way or another to this situation that you just 
described.
    Mr. Bernanke. Well, again, I think----
    Chairman Dodd. In terms of what happens outside of the 
financial services sector, what happens to people out there who 
have a job, are getting ready to retire, are worried about 
their kids' education? These are matters which are going to be 
directly affected, I presume. That is the argument you are 
making. Give us some sense as Chairman of the Federal Reserve 
why those people's concerns are going to be even more dire 
straits than they would be if we did not act.
    Mr. Bernanke. Senator, you made my point for me. I am a 
college professor. I was criticized for taking the job without 
having worked on Wall Street. I never worked on Wall Street. I 
do not have those interests, those connections. My interest is 
solely for the strength and the recovery of the U.S. economy. I 
believe that if the credit markets are not functioning, jobs 
will be lost; the unemployment rate will rise; more houses will 
be foreclosed upon; GDP will contract; that the economy will 
just not be able to recover in a normal healthy way, no matter 
what other policies are taken.
    I, therefore, think this is a precondition for a good, 
healthy recovery by our economy. These institutions provide 
credit for homeowners. They provide credit for businesses that 
create jobs. It is about the people who need those services and 
that credit. It is about people retiring who need to have 
assurances about the value of their investments and their 
assets.
    Again, I think that if this is not done, there will be 
significant adverse consequences for the average person in the 
United States.
    Chairman Dodd. And that is your recommendation as Chairman 
of the Federal Reserve?
    Mr. Bernanke. Yes, sir, it is, and I do believe we need to 
act to stabilize the situation, which is continuing to be very 
unpredictable and very worrisome.
    Chairman Dodd. Let me, if I can, look just quickly at the 
foreclosure mitigation issue. I think there is general 
consensus here about oversight and accountability. We may argue 
about specifics, but I think every one of us here feels very 
strongly that there has got to be strong areas now. I think we 
all sort of agree as well on the issue of taxpayer protection, 
one way or the other how the taxpayers are going to be covered 
in this proposal.
    There is, I think, greater debate probably about 
foreclosure mitigation, but let me run back, if I can, and 
remind you in May what you told this Committee. You said, 
``High rates of delinquency and foreclosure can have 
substantial spillover effects on the housing market, the 
financial markets, and the broader economy. Therefore, doing 
what we can to avoid preventable foreclosures is not just in 
the interest of lenders and borrowers. It is in everyone's 
interest.'' That was Federal Reserve Chairman Bernanke.
    Would policies that help American families keep their homes 
and prevent foreclosures help address the root cause, in your 
view, of the present crisis?
    Mr. Bernanke. Well, foreclosures are not all of it, but it 
is an important part. The housing market is very central to 
this whole issue, and I support and I have supported efforts to 
avoid preventable foreclosures. I have spoken about this on a 
number of occasions, and I think it would be helpful to the 
economy.
    I would note that steps have been taken. The GSE 
conservatorship, for example, has already lowered interest 
rates and has helped to stabilize the mortgage market, which 
will be supportive of house prices and, therefore, reducing 
foreclosures.
    The Federal Reserve is on the board of the Hope for 
Homeowners bill that was just passed by this Congress that 
involves $300 billion of purchases of mortgages to be 
refinanced into the FHA. I am sure much more could be done. I 
will support further action.
    I would note two things. First, as a minor point, one of 
the things that this program being discussed could do would be 
to purchase second liens, which have proved to be a very 
significant barrier to the resolution of foreclosures. But, 
more importantly, the housing market is not going to recover if 
the economy is declining, if jobs are being lost, if credit is 
not available. And so I do think you cannot separate these as 
two completely separate issues. You need to have financial 
stability and financial markets working properly for the 
economy and the housing market to have a chance to recover.
    Chairman Dodd. Well, my quick follow-on question, then, to 
Secretary Paulson is--and I understand why you have been 
reluctant to get into the oversight and accountability 
questions. But given the fact that this is not just a cosmetic 
issue and a feel-good issue but it goes to the very core of why 
we are here today, and if that is the core reason--and you have 
said it over and over again. I have quoted you. It is the ``bad 
lending practices'' that went on. Why didn't we include some 
mitigation for foreclosure as part of this, not because we want 
to send a message that we care about Main Street, but because 
if we do not address that, the bad mortgages out there are 
still going to be a lingering problem, and our ability to 
address this is going to be less.
    Secretary Paulson. Mr. Chairman, thank you very much. As we 
thought about what is the best thing we could do to minimize 
foreclosures and deal with this problem, we thought, first of 
all, stabilizing Fannie and Freddie; second, Treasury has a 
program where we are going to be buying and holding agency 
securities, and now that the Government is really behind them, 
it is, I think, a good use of taxpayer money, and it will help 
get--it will help the market. And then, of course, we all 
believe that the very best thing we can do is make sure that 
the capital markets are open and that lenders are continuing to 
lend. And so that is what this overall program does, it deals 
with that.
    Now, as the Chairman said, we both have been very involved 
in working with servicers and others in avoiding preventable 
foreclosures, and there is no doubt that this program will give 
us more leverage in doing that, given the securities that will 
be owned, the second-lien mortgages and so on. So that was the 
way we looked at it, and we looked at it, let's address the 
root cause through these authorities we are asking for.
    Chairman Dodd. Senator Shelby.
    Senator Shelby. Thank you, Mr. Chairman.
    I would like to address my first question to Secretary 
Paulson and Chairman Bernanke. I assume that during your 
deliberations dealing with this crisis, you must have 
considered a range of proposals before you decided on the one 
that you proposed to us. Is that correct? Is that right, you 
considered other proposals?
    Secretary Paulson. Yes.
    Mr. Bernanke. Yes.
    Senator Shelby. Could you just in a few minutes describe 
several of the proposals that you considered, telling us in 
detail in specific terms why those proposals were deemed 
inadequate by both the Treasury and the Fed?
    Secretary Paulson. OK. I will go first. We have, as you 
know, Senator, been talking with Congress and talking among 
ourselves for some time about what is going on in the housing 
area. And we have worked very hard together to approach the 
foreclosure issue. And so there is a lot of work that was done 
in dealing with foreclosures, No. 1.
    No. 2, as you yourself have said, you saw some case-by-case 
approaches, and, you know, I would argue that every one of 
those was absolutely essential and was necessary. And as we 
looked at this situation, we said the root cause of this is 
housing. The root cause is housing and the housing correction, 
and until we get at that, we are not going to solve it.
    And as we looked at how we get at that, there are some that 
said we should just go and stick capital in the banks--put 
preferred stocks, stick capital in the banks. And that is what 
you do when you have failures. That is what happened in Japan. 
That is what happened in other spots.
    We have dealt with some failures, and we have dealt with 
them where there is capital. But we said the right way to do 
this is not going around and using guarantees or injecting 
capital--and there have been various proposals to do that--but 
to use market mechanisms. And, again, I think that some of the 
questions here and some of the frustration here I share, you 
know, on compensation and so on. And when you deal with ad hoc 
situations, when you deal with an institution that is failing 
or about to fail, and you have to buy mortgages or securities 
well above value, or you need to put capital in, then you take 
tough compensation measures.
    But as we looked at it and thought about this--and we 
consulted together about this, you know, for a long time--and 
said ultimately--and we hope we do not get there. We hope that 
this decline can be arrested. But we both had said that until 
the biggest part of the correction in housing prices is over, 
there is no way to really have a stable financial system. So we 
decided that this market mechanism and going out very broadly--
this is broadly to financial institutions all over, and working 
on the asset prices and helping develop value that the market 
can build around.
    Senator Shelby. Do you agree with that, Chairman Bernanke?
    Mr. Bernanke. I do, Senator, but let me just add a couple 
comments.
    As you know, I am a student of financial crises and 
financial history, and we have looked at past experiences in 
the United States and other countries, like the Homeowners Loan 
Corporation, the RTC, the RFC, Japan, other situations. Those 
were all situations, again, as the Secretary said, where you 
were dealing with failed institutions and having to dispose of 
relatively simple assets that were taken over by the 
Government. That works in that context, and there are ways to 
do that.
    The situation we have now is unique and new. It involves 
not failing institutions--although we have had a few failures. 
Where we had failures, we dealt with them in a very tough way. 
You know, we have insisted on, you know, bringing the 
shareholder value down close to zero, imposing tough terms and 
so on. But the firms we are dealing with now are not 
necessarily failing, but they are contracting, they are de-
leveraging, they are pulling back. And they will be unwilling 
to make credit available as long as these market conditions are 
in the condition they are.
    So, in order to address the illiquidity of the market and 
how to deal with these complex securities in the hands of going 
concerns, the methods used to resolve failed institutions in 
other contexts are not really appropriate because that would 
involve, I think, a great deal of concern on the part of other 
potential investors that if they invest in a bank that the 
Government is going to come in and take away their value. So I 
think that we are better off trying to address the root cause 
of the problem.
    Senator Shelby. What banks would be eligible to participate 
in this plan, assuming Congress adopted it as you proposed it, 
in selling their nonperforming assets to the Treasury or to an 
entity? And what size banks would be eligible to participate in 
that plan?
    Secretary Paulson. Senator, thank you for that question, 
because that is where I think there have been broad 
misunderstandings, and maybe we did not communicate this 
properly. But what we are seeking to address with this is we 
are seeking to address--first of all, we are dealing with 
complicated securities, mortgage and mortgage related, and we 
have got various asset classes here, and we need different 
approaches for different asset classes. But when we use the 
market mechanisms, we want--we are looking at thousands, you 
know, of institutions. Because to make this run properly, we 
need to deal with big banks, small banks, S&Ls, credit unions, 
because what we are trying to do here--and I think we will be 
successful--is to develop mechanisms where we get values out 
there, and where there is some value that the market can look 
at, then private capital will come in.
    Senator Shelby. Are you planning to buy assets of foreign 
banks doing business in the United States? And if so, why? And 
how do you rationalize that the American taxpayer?
    Secretary Paulson. The answer is yes, and it is very easy 
to rationalize it to the American people.
    Senator Shelby. I need your help here.
    Secretary Paulson. OK. Here is how I want to--this is all 
about the American taxpayer. That is all we care about. And so 
any business, any banking operation in the United States that 
is doing business here and dealing with the American public is 
important. They are all important to keeping our markets open, 
keeping credit flowing. The American public, when they are 
dealing with the financial system, does not know who owns that 
bank. What they care about is how is the system working. And so 
we are doing this to protect the system, and it is about 
keeping credit flowing, protecting savings, making it possible 
to have car loans, student loans, mortgages.
    And, again, if you have operations in the United States and 
you are doing business with the American people, that is what 
we are focused on. But let me also say to you we have a global 
financial system, and when I was on the phone a number of 
times, and most recently Monday morning, talking with central 
bankers and finance ministers around the world, I urged them 
all to put in place where it is necessary similar programs with 
similar objectives.
    Senator Shelby. What do you say to people that ask us, or 
at least ask me--and I am sure others--how do you rationalize 
or justify bailing out banks and so forth that cause, are the 
root cause of a lot of this problem where they will be made 
whole with capital, at least it will strengthen them? And I 
understand that strengthens the economy, but they will profit 
dearly from this, more than likely.
    Secretary Paulson. Senator Shelby, I share your 
frustration, so I hate to be on this side of the table, because 
this is not something that I ever wanted to ask for.
    Senator Shelby. I know.
    Secretary Paulson. But it is much better than the 
alternative. So what I do is I start off saying I am not only 
concerned, I am angry by the things that got us here. OK? But 
the greatest protection for the American taxpayer, by far the 
greatest protection is having this program work and having it 
be effective, because the consequences if it does not are 
worse.
    When the credit markets--you asked Chairman Bernanke about 
what would happen if it did not work. I looked at the----
    Senator Shelby. Worst-case scenario under your plan. What 
if it does not work? You know, you assume it will work, but you 
cannot assure us that you know it is going to work because you 
thought some of the other plans would work.
    Secretary Paulson. Well, let me say this: With all due 
respect, Senator, I believe that Freddie and Fannie worked the 
way it was supposed to work. We stabilized that. And in terms 
of the other actions, I would very respectfully submit, if the 
Federal Reserve had not stepped in on AIG, we would have been 
facing a major calamity. So, again, I do not think any--this 
problem has been growing for a long time.
    But to get to your question about this plan working, it 
gets to the root cause--housing; deals with illiquid assets; it 
is going to free up the balance sheets, let capital flow; and 
it will lead to price discovery, private capital coming in, and 
injecting confidence in the markets.
    Senator Shelby. What does it do to the homeowner who is 
losing their home? And thank you, Senator Dodd, for your----
    Secretary Paulson. I would say, regrettably, there is not 
every homeowner that is going to save their home. As you well 
know, even in normal times, in good times, there are many 
foreclosures. There are some people that cannot afford to stay 
in their home. But there is a huge effort being made so that 
everyone that can afford to stay in the home and want to stay 
in the home stays in the home.
    But what this plan will do is make financing available. And 
I do not think there is anything more important. Lenders have 
got to keep lending. If they are not lending and there is not 
capital available, homeowners are not going to be able to stay 
in the home.
    Chairman Dodd. Thank you very much.
    Senator Johnson. And let me just remind my colleagues, we 
want to try to keep to the time. We are going over, and I want 
to give everybody a chance to ask some questions.
    Senator Johnson. Secretary Paulson, the Treasury proposal, 
it seems to me, rewards the bad actors. Those financial 
institutions that engage in irresponsible lending have bad 
assets on their books and need help from the Government to stay 
afloat. What punitive actions are being taken against these 
companies and their CEOs?
    Secretary Paulson. Senator, thank you for the comment. The 
first thing I wanted to say is this plan is broad based and it 
is dealing with the root cause. And when we have needed to come 
in and do something to save a failing institution, there have 
been very harsh consequences. And when we deal with one-off 
situations, I think there always should be very significant 
consequences. That is No. 1.
    No. 2, in terms of what needs to be done to fix the system, 
we could have a long conversation about that, and you are going 
to be busy for a long time, and you are going to be busy after 
I am gone doing that. I have given you my suggestions, and they 
are suggestions that have to do with a totally outmoded and 
insufficient regulatory structure.
    When I got down here and after about several months on the 
job, I was shocked, absolutely shocked, to find it was not 
deregulation or too much regulation or too little regulation. 
It was just a flawed regulatory structure. It was built for a 
different model, for a different financial system. The 
financial system changed. The regulatory system did not change. 
And so that clearly has to be corrected.
    When you look at these mortgages, the vast majority of the 
mortgages that were originated with very, very shoddy 
procedures were regulated at the State level. OK? You cannot 
come down here, come down to Washington at Treasury Secretary 
and fix all that. We made a proposal that I think is the right 
proposal for this mortgage origination commission, which would 
be a Federal commission not to invalidate State regulation but 
to make sure there are common standards enforcement.
    So there are a lot of things that need to be done, and in 
terms of the compensation issue, there are a lot of things that 
need to be done there. But I would respectfully submit that we 
cannot do those as quickly as it takes to get this system up 
and running, because that is what you care about. You care 
about the constituents in your State, the average people, and 
Americans in terms of what the impact is going to be on them. 
And, unfortunately--and it may make you angry; it makes me 
angry--when you ask about the taxpayers being on the hook, 
guess what? They are already on the hook. They got put on the 
hook by the system we have, the system we all let happen, the 
system that Congress, the administration, future 
administrations let exist. And so if this system is not 
stabilized, they are going to bear the costs. The Chairman 
explained that. I have explained it. So the best thing we can 
do for all of them is to stabilize the financial markets so 
that people can continue to get loans, small businesses can get 
loans, small farmers in your States can get loans, big farmers 
in your States can get loans. And then go to work to make sure 
that this does not happen again, and that is going to take a 
longer period of time.
    Senator Johnson. Given what occurred with AIG, should the 
Federal Government regulate some or all insurance companies? 
Would an optional Federal charter model be appropriate?
    Secretary Paulson. Well, in the regulatory blueprint that 
we put forward to there--we put it forward well before we were 
in the midst of this crisis, something we had been working on 
for a long time. There were a series of recommendations. One 
was that the Federal Reserve play the role of macro stability 
regulator to look for excesses and problems throughout the 
economy. Another was there should be a Federal charter for 
insurance companies. I strongly believe that. There is a lot of 
debate on both sides of the aisle here. That will take, in my 
judgment, a good deal of time to sort out. But that would be my 
judgment on that one.
    Senator Johnson. Chairman Cox, last week, you issued 
several emergency orders regarding short selling. How did the 
SEC determine which firms to include? And what happens when the 
orders' 10-day period expires?
    Mr. Cox. Senator, this is not a step that we took lightly. 
With the support of the Federal Reserve and the Treasury and a 
unanimous Commission, we took temporary emergency action 
directed at financial stocks for the purpose of stabilizing the 
market at a time when Congress is considering important 
legislation that may deal in a broader way with these problems.
    The financial sector is defined according to standards that 
the SEC has provided to the exchanges. The exchanges themselves 
are making the particular determinations of whether their 
listing companies fall within those categories.
    When the order expires, which it will because it is an 
emergency order, we will segue into sturdy protections against 
naked short selling. We already have permanent rule changes 
that have just taken place in the last week to make even 
stronger the existing ban against naked short selling.
    Senator Johnson. Mr. Lockhart, what will the GSEs look like 
when they come out of conservatorship? And how long do you plan 
on having them in conservatorship?
    Mr. Lockhart. We will certainly be working with the two 
companies and their new management teams to rehabilitate 
themselves and work through the issues. The time period will 
depend a lot on what is happening in the housing market and 
their ability to raise capital in the future. That may take a 
year or even longer. How they will look, to a large extent, may 
depend on where Congress wants to go.
    The legislation that was passed in July--and I thank you 
for passing that legislation--does create a much stronger 
regulator with the kinds of tools that would be needed to 
regulate these companies going forward.
    Chairman Dodd. Thank you, Senator.
    Senator Bennett.
    Senator Bennett. Thank you, Mr. Chairman.
    Chairman Cox, I would like to spend time with you on the 
short selling issue. As you know, I have spent a lot of effort 
pursuing that, and I want to thank you for the diligence with 
which you have pursued that.
    Having said that, I am driven by the conversation to 
concentrate on Secretary Paulson and Mr. Bernanke, so do not 
take my passing over it as a symbol that I am not still 
intensely interested, because I am, and that I am not 
supportive of what you have done, because I am. I think you 
have done an excellent job, and I appreciate that.
    Chairman Bernanke, you ran us through a tutorial, true to 
your college professor background, which I found very helpful, 
talking about the difference in hold-to-maturity prices and 
fire-sale prices. And there is going to be an auction, 
presumably, to determine what the fire-sale price is or what 
the hold-to-maturity price is. What are people going to be 
bidding on, do you think?
    Mr. Bernanke. Well, we know more or less what the fire-sale 
prices are. Those are the marks that a lot of companies have.
    You know, there are a lot of different ways--auctions, 
auctions combined with expert evaluations and so on--to try to 
determine the hold-to-maturity price. So, for example, if the 
Government tries to acquire a substantial portion of a 
security, the marginal seller would be somebody who has a hold-
to-maturity interest in it, for example. So I think there are 
methods to determine that hold-to-maturity price.
    Senator Bennett. OK. Well, the best place to determine a 
price, obviously, is willing buyer and willing seller. But this 
is not going to be your ordinary auction because the Treasury 
is going to be there with a $700 billion checkbook. And the 
question that arises in my mind is: Who is going to bid against 
the Treasury? Against whom is the Treasury bidding? And what 
effect will that have on the price?
    Mr. Bernanke. It is a reverse auction, which means that 
there will be many bidders holding these securities who will be 
bidding the lowest price in order to sell them to the Treasury, 
which is the reason why you do not want to limit 
participation----
    Senator Bennett. So that is an offer, not a bid?
    Mr. Bernanke. Sorry?
    Senator Bennett. That is an offer price, not a bid.
    Mr. Bernanke. Well, it is a reverse auction so that people 
are bidding in order to sell rather than to buy.
    Senator Bennett. OK. Secretary Paulson, do you anticipate 
that this might attract some outside capital into this auction 
and say that looks like a pretty good price and I would like to 
own it at that price?
    Secretary Paulson. Not exactly that way, but here is--and, 
again, let me come back and say to you the reason we asked for 
broad flexibilities--and the Chairman said it earlier--is that 
we are dealing with complex securities. We are dealing with 
many classes of securities. We are going to need to use 
different approaches in different situations. So the reason we 
have been general and talked about market mechanisms, we are 
going to have to involve experts, we are going to have to use 
different approaches. The Chairman said, you know, Treasury, we 
are going to need to get some really good asset managers, we 
are going to--we will do a certain amount of experimentation. 
But if this works the way it should work, that once there is a, 
you know, bid from Treasury and there is more learned about 
these securities, the thought would be that then it is easier 
for private capital to come into the market; and that there 
will be some price discovery mechanism.
    Now, again, the----
    Senator Bennett. Let me just comment on that. The price 
discovery mechanism in a simple world--and you are describing a 
very complex, un-simple world--has to do with the cash-flow the 
underlying asset will produce. And I would think the problem 
here is determining what that cash-flow is. Is that what you 
are bringing all these experts to determine what----
    Secretary Paulson. I wish it were that simple because--and 
even that would not be easy. But what the Chairman said, when 
he presented, he said no one has been faced with this situation 
before. We spent a lot of time thinking about it, and there are 
different types of asset classes--mortgage derivatives, 
mortgage-backed securities. There are different whole loans. 
And so when you look at dealing with this, we are going to have 
to use different approaches in different situations, and there 
will be market-based approaches, and that is all--even I cannot 
sit here and figure out what the auction technique should be 
and how to use it and in what situations to use it.
    So what we asked for was broad-based authority to use a 
series of market-based approaches, and we will be dealing in 
different approaches in different situations. We cannot sit 
here and say here is the reverse auction we are going to use in 
every situation. So we need flexibility.
    Senator Bennett. My time is up. I understand that. My time 
is up. I just wanted to leave this last comment. This is the 
whole core of what you are trying to accomplish, and this is 
the whole problem with our giving you blank-check authority to 
accomplish it, because in theory it is easy to describe and it 
will work, but if you end up paying too little to these 
institutions, which mark-to-market accounting might drive you 
to, you are not giving them the support that they need. If you 
end up paying too much, then there is no upside potential for 
the taxpayer when the time comes for you to liquidate these, 
and the details of how you find the right balance here are the 
ones that all of us need--you, but certainly as much as we--all 
of us need to understand better as we make our determination 
whether or not to support your proposal.
    Secretary Paulson. You are right, and you have defined the 
problem, and the problem is easier to define than to solve. And 
we believe that we are going to get the right group of experts 
and we are going to come up with a solution, and it will be 
different with different asset classes and in different 
situations. And as I said, this should not be confused--and 
some people have confused it--for instances where you need to 
go in and, you know, do things that are extraordinary things to 
save an institution. So those are two different actions.
    But for the system to work the way it needs to work, we 
need a broad group of institutions--banks and S&Ls--to want to 
participate, and we need them to participate, not just those 
that are under immediate pressure. And so for this to be 
effective, it has got to be designed to have it work that way.
    Senator Bennett. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you very much.
    Senator Reed.
    Senator Reed. Thank you very much, Mr. Chairman.
    Chairman Bernanke, the equity participation rights which 
were a central part of the AIG arrangement, were they punitive 
in nature?
    Mr. Bernanke. Well, they are 80-percent participation.
    Senator Reed. Well, no, was that a way to punish----
    Mr. Bernanke. Our terms included, besides 79.9 percent, an 
interest rate, which is currently over 11 percent and 
essentially a super lien on most of the assets of the company. 
So I think that it is a very tough deal that we struck. We did 
that because we wanted to protect the taxpayer. At the same 
time, we were concerned about the implications for the markets 
of the failure of this large company.
    I would like to say, I think we do have a serious ``too big 
to fail problem'' in this economy. It is much worse than we 
thought it was coming into this crisis. And as we go forward, 
we need to develop methodologies to reduce that ``too big to 
fail'' issue.
    Senator Reed. But why wouldn't equity participation rights 
work in this arrangement to protect the taxpayers and reimburse 
the taxpayers, particularly with the difficult problems of 
pricing these securities, the different arrangements that 
Secretary Paulson suggested might be undertaken, and the need, 
really, to assure the public that this is not a one-way 
salvation for Wall Street at the expense of taxpayers?
    Mr. Bernanke. The reason is that when we dealt with Bear 
Stearns or AIG or Fannie and Freddie, those were situations 
where the company was about to fail, had no option. We came in 
to prevent failure for systemic reasons. In those situations, 
it is appropriate to knock the share values down low to reduce 
the moral hazard for subsequent events. But if we are dealing 
with going concerns, companies that, you know, are still 
operating, have reasonable business prospects, we do not want 
to threaten the companies with reducing their share values to 
zero because that will obviously----
    Senator Reed. Well, no one is suggesting that you reduce 
their share values to zero. But I think in that context of 
going companies, this program will be strictly voluntary. There 
will have to be a business judgment made by the managers of 
that company whether it is worth it to them to enter into this 
transaction to rid their balance sheets of toxic assets. Right 
now the price of admission is zero. I think it is not 
inconceivable or inappropriate to demand in that calculation 
they recognize if they will benefit from this transaction in 
the future--and that is the notion of participation in the 
future--that they will share that benefit with the taxpayers 
who made the benefits possible.
    Mr. Bernanke. We just would note that if you leave the risk 
on the balance sheet in that way, you really have not 
accomplished anything.
    Senator Reed. Well, if a company is willing to accept that 
risk, manage those risks themselves, they do not need a 
bailout. If they are unwilling to do that or cannot do that, 
then they should pay for it, at least in a contingent fashion, 
which is the essence of this whole issue of participation 
rights or warrants or whatever you would like to call it.
    Secretary Paulson. Let me approach it this way. This is a 
huge----
    Chairman Dodd. Turn on your microphone so we can hear you, 
Mr. Secretary.
    Secretary Paulson. Approach it this way. When you talk 
about what the companies need, this is not about the companies. 
This is about the American people. We need something to work. 
And for something to work here, rather than going to a group of 
troubled institutions that need to sell and saying here we are, 
sell to us, you know, here are all the things we want from you 
in turn for that, we need--and we want for this to work--a 
broad range of institutions to willingly--not that we have to 
go and sign them up, but to willingly participate because we 
are trying to find value and we are trying to get markets 
working, because we do not want to have to deal with a failure.
    RTC is about failure. Putting capital in institutions is 
about failure. This is about success.
    Senator Reed. Mr. Secretary, you are suggesting that these 
very brilliant financial people who run these companies would 
risk the failure of their enterprise by not participating in 
this function because now we have imposed a contingent 
reimbursement to taxpayers.
    Secretary Paulson. Let me just say one more time. I am as 
frustrated as you are about compensation----
    Senator Reed. This is not about compensation, Mr. 
Secretary. This is not about what they get paid. This is about 
when they do well, and if they don't do well, the value of 
those warrants are zero.
    Secretary Paulson. Here is what I am saying: that if this--
when we protect the taxpayer, the right way is to have the 
program work and have the assets appreciate when the economy 
appreciates. I am saying that the model you are looking at is a 
model where we go to people that absolutely need to sell and 
say, If you want to sell, give us something. The model we are 
looking at--and what we believe it takes to be successful 
here--is to go to a broad group of institutions, a very, very 
wide range of institutions that own these assets and have them 
participate. And if we deal with it selectively, as we deal 
with situations where there is serious trouble, to use a 
different approach.
    But, anyway, I appreciate your comments.
    Senator Reed. Well, Mr. Secretary, the one other way to 
describe what you just said is to go to some institutions that 
do not need help and we give them help for free. But let me 
change the subject, if I may, and I am indulging the Chairman's 
time.
    In this reverse auction, it is a very difficult set to 
price, but one of the principles--would one of the principles 
be that someone cannot sell to you or bid to you at a price 
higher than what they paid for? Because today there are firms 
that are collecting distressed assets at discount prices. If 
you do not have some protection like that, they will walk in 
and they could very well sell you something that they paid much 
less for.
    Secretary Paulson. Well, first of all, Senator, we are 
going to be dealing and our intent is to be dealing with 
regulated financial institutions. OK? That is No. 1.
    And, No. 2, the reason we want to deal with it on a broader 
basis is so we do not get into that situation.
    But, third, let's not focus on one reverse auction. That is 
one way of doing it. There will be a number of market 
mechanisms. I think a reverse auction--and there are different 
forms of that.
    Chairman Dodd. It is not regulated.
    Senator Reed. Mr. Secretary, then you would not oppose 
language in legislation that would restrict this to regulated 
financial institutions.
    Secretary Paulson. What I would like--rather than 
negotiating language here, what I would like is I would like as 
much flexibility, but the intend would be to deal with 
regulated financial institutions with business operations in 
the United States.
    Senator Reed. Thank you.
    Chairman Dodd. That is a very important point, the 
definition of a financial institution and whether or not you 
would limit it to regulated financial institutions.
    Senator Enzi.
    Senator Enzi. Thank you, Mr. Chairman, and I appreciate the 
questions that Senator Reed had. I had a number of those, too, 
on equity sharing and future assessments. Actually, all the 
questions that I have, I would like everybody to answer them, 
but we do not have time to do that. So I will ask them of one 
person, and I would hope that you would have your staffs get 
together and answer for me later, but not very late.
    One of the things that follows up on Senator Reed's 
question is what happens if Treasury cannot price the assets 
accurately. This is for Secretary Paulson. Shouldn't we have 
the process designed before we do $700 billion in an 
experiment? Treasury has to set the perfect market for the 
assets, and I am not sure that I have faith in the ability of 
the Federal Government to emulate the free market. How can an 
artificial market drive a real market for these assets?
    Secretary Paulson. In terms of that, I would say you have 
pointed to the complexity and the difficulty. I would very 
respectfully say that if the Federal Government tried to 
legislate a prescriptive solution, it almost certainly would 
not work when you are getting into the market mechanisms.
    Again, you are asking me about free markets and how the 
Government is going to work better than free markets, and, 
listen, I have never been a proponent of intervention. And I 
just think we have an unprecedented situation here, and it 
calls for unprecedented action. And there is no way to 
stabilize the markets and deal with the situation other than 
through Government intervention. And so what we are going to 
do, we have put forward something we have thought about for a 
long time in terms of the issue and different ways of dealing 
with the issue. And so what we are asking for is some broad 
powers with some good, strong oversight, and we think that is 
the best way to protect the taxpayer. That is our view.
    Senator Enzi. I want to get into something a bit more 
specific on that because I am concerned about the small banks 
in this reverse auction situation. A lot of the details are 
left out. As you say, you do not want it to be prescriptive. 
But the reverse auction that you described in your testimony--
--
    Secretary Paulson. We are not just recommending a reverse 
auction. That would be one way of handling it.
    Senator Enzi. OK, but just on the reverse auction part of 
this, I mean, we are going to have questions on all parts of 
it, but I think it will help the big banks to sell their toxic 
debt. But what about the smaller banks? How are they going to 
be able to compete with the Citigroups in the world to sell 
their assets? Economies of scale suggest to me that the plan 
will bail out the big banks, and our community institutions 
might be left holding the bag. What kind of consideration has 
been given to that?
    Secretary Paulson. Well, that, we are very focused on 
that--very focused--because to have this work right we are 
going to have to go broadly, because only by going broadly in a 
number of these asset classes and these securities are we able 
to really deal with the market. And so that is something that 
we have very much in mind. And if this were just about going to 
a few big banks, we would have designed an entirely different 
program with a different structure.
    Senator Enzi. Thank you.
    Chairman Cox, I am always interested in the accounting 
aspects of all of these things and the effect that they can 
have on it. And I have been looking at getting some authority 
to suspend the mark-to-market accounting. I know that writing 
regulations takes a long time, but sometimes if it is included 
in congressional language, it can short-circuit that and make 
it possible.
    Another area that I have gotten a lot of comment from, the 
small banks that hold the GSE stock, they prefer that that be 
considered a loss to the bank rather than--a loan loss rather 
than a stock loss. Some implications like that, I hope that you 
are taking a look at them. I know that we have talked about 
this being a fire and wanting to put the fire out before we 
address the fire code. But I am hoping that we will take a look 
at all tools and make sure that this proposal has all the tools 
possible so that we are not throwing water on an electrical 
fire.
    Have you given consideration to whether Congress would need 
to act on some of these accounting things or whether you have 
enough authority to do that?
    Mr. Cox. Senator, both the United States and international 
accounting standard setters are very focused on the need to 
provide timely guidance on the fair value issues that several 
of you have raised here this morning and this afternoon. In 
fact, today the FASB's Valuation Resource Group is meeting to 
address these very application issues in the context of U.S. 
generally accepted accounting principles, with a goal of 
providing timely guidance to companies.
    Senator Enzi. Thank you. My time has expired. I will have 
additional questions.
    Chairman Dodd. Thank you very much, Senator.
    Senator Schumer.
    Senator Schumer. Thank you, Mr. Chairman, and I thank all 
the witnesses. This is not an easy day.
    One of the things that I mentioned I want to focus on is 
taxpayers, and so I have a couple of questions in that regard, 
first to Secretary Paulson.
    One of the things I have thought about is whether we 
shouldn't create an insurance fund, similar to the FDIC, for 
the whole financial system. All firms over a certain size would 
pay, not small little community banks but everything else. They 
would pay a fee, not too onerous or too large, but over time it 
could help defray the costs of any losses we might suffer. It 
is the financial system that has the trouble and the taxpayers 
are bailing it out, as you say, in part because it will help 
the taxpayers. But why do the taxpayers have to do the whole 
thing?
    What would be your initial reaction--I am not asking for a 
commitment here--of some kind of broad FDIC that would help pay 
for some of these losses from financial institutions, as I 
said, above a certain size, whether they participate in the 
program or not?
    Secretary Paulson. One thing that both the Chairman and I 
have talked about a lot, have spoken with the Chairman and 
Senator Shelby about, is that we were not left with the 
authorities we needed fully to protect the system and the 
taxpayer because we have wind-down authorities with insurance 
for, you know, savings depositors, FDIC insurance. In 75 years, 
you know, we have not had a saver with FDIC insurance lose a 
penny.
    Senator Schumer. It works. Yes.
    Secretary Paulson. You know, for $100,000. So what you need 
is if--but if a non-bank or for someone without deposit 
insurance fails, in many cases there is just bankruptcy, and 
that throws the system into disarray. So----
    Senator Schumer. But this would be different, the FDIC----
    Secretary Paulson. That is right. And so I am saying so if 
you had wind-down authority, then you have got to say, OK, how 
do you pay for it? And there are various ways to pay for it, 
and one way, as you have mentioned, would be some kind of 
broader industry-wide tax. But that is something we did not 
have, so----
    Senator Schumer. You would be open to it, in other words.
    Secretary Paulson. Yes.
    Senator Schumer. And would you think it might be a good 
idea, Mr. Chairman?
    Mr. Bernanke. Potentially, yes. But I think it is more 
important----
    Senator Schumer. Well, I think I am going to cut you off 
right there.
    Mr. Bernanke. It is more important to----
    [Laughter.]
    Mr. Bernanke. It is very important to try to address this 
``too big to fail'' problem. It is a big problem.
    Senator Schumer. Understood, but I think this--on the 
second question, again about protecting the taxpayers, I think 
in some of our informal discussions when we ask why $700 
billion and over how long a period of time, one of you, I 
think--somebody mentioned it would cost about--we would 
probably use about $50 billion a month. If that is the case--
and you are certainly not going to use all $700 billion 
immediately. And as you can see, there are a lot of questions 
about whether this would work. We understand you have done your 
best, you think this would work best. But, clearly, we are in 
uncharted waters with Scylla and Charybdis around. What about 
doing this in tranches? Why couldn't you ask us for $150 
billion and on January 15th or January 20th we would come back, 
we would assess how this worked, and grant some more money if 
it is really working? Maybe, you know, the markets will have 
stabilized, and you actually will have made money. Why ask for 
the full $700 billion? I never thought I would think that $150 
billion is a low sum of money, but compared to $700 billion it 
is. And I think it would make people sit--not easily, but at 
least a little easier.
    Secretary Paulson. I will give you my answer, Senator. I 
think you got at it when you said when we come back in January, 
because what we need to do is we need to stabilize the system, 
and we need to--this is based on market--we need market 
confidence, and we need the tools to work with.
    Now, of course, we plan to do this in tranches, and, again, 
as a number of people have said, this is not an expenditure. I 
know that this does not fit into your outlay system in 
Congress. The taxpayer is on the hook.
    Senator Schumer. Yes, yes.
    Secretary Paulson. But, again, it is purchasing assets. 
They will be held. They will be resold. Money will come back 
in.
    Senator Schumer. Understood.
    Secretary Paulson. But to your basic question, we think we 
need the 440 for that size to do the job and stabilize the 
market.
    Senator Schumer. Could you live with less?
    Secretary Paulson. That does not mean--that does not mean 
that it is going to be invested--be spent between now and 
January. We are going to----
    Senator Schumer. Could you live with less? I think people 
would feel better if it were--if we did this and we could come 
back and reassess it. As I said, it is uncharted waters, so I 
am not asking you to support it now. But, again, could the 
system work if we put in the legislation, say, this is the 
first tranche and by January 15th, say--just pick a date--
Congress will come back and reexamine?
    Secretary Paulson. I think that would be a grave mistake.
    Senator Schumer. And why?
    Secretary Paulson. Because I think what this is about is 
about market confidence and having the tools to do the job. We 
are going to do this in tranches, but I am wondering, when 
Congress is gone and if we need--if we need this, what it is we 
do. And so, again----
    Senator Schumer. Well, the President, if there is an 
emergency of any type, if this does not work over the next 2 
months and the cataclysm that Chairman Bernanke has talked 
about, you are going to have to call us back into session if 
you need some other type of authority.
    I have to tell you, I would ask you to think about this. I 
know ideally you would like to just have as much as possible. 
But you are not going to use $700 billion in these 3 months. It 
is a huge sum of money, even $150 billion. And the confidence 
in the markets will be determined by how well it works 
initially, not by how much money you have in your pocket next 
to your bazooka.
    Secretary Paulson. Well, I would say with all due respect, 
Senator, you are going to have to decide. The two of us have 
made the recommendation of what is required. As you said, this 
will not be spent or invested right away. It is going to be 
done in tranches. And all we are doing is giving you a--again, 
I do not like to be in this position asking for things and, you 
know, answering to the American taxpayer on this. I think this 
is--it is a sad story, but the American taxpayer, as I said, is 
already on the hook.
    You know, here is the other thing I want to say to you, 
because it is so important. This is not about big financial 
institutions. Every American employer depends on money flowing 
through our financial system every day, not just to create new 
jobs, but to sustain and keep existing jobs. What we are 
playing with here is very important, and, again, give us the 
tools we need to make this work.
    Senator Schumer. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you, Senator Schumer, very much.
    Senator Hagel.
    Senator Hagel. Thank you, Mr. Chairman.
    Secretary Paulson, you have addressed a number of questions 
regarding reverse auction elements and how it would work. If 
you could explain to the Committee your concept of the 
implementation of the plan, focusing first on a framework of 
oversight, which you noted in your remarks why that was 
important. How do you conceptualize this working? Who would be 
the oversight? How would it work? I know Chairman Dodd has laid 
some ideas down. And then take us down from that, the oversight 
structure and then the implementation of the plan. You have 
noted, I think, in your words, the right group of experts that 
you would bring in on valuating equities and so on. Walk us 
through that.
    Secretary Paulson. First of all, in terms of--and this is 
what we are working through right now with your Committee and 
with others. We need to have transparency here. We clearly need 
protections. There has to be oversight. And we are going to 
work with you on that group. And we have to be effective and 
efficient, and we cannot get slowed down to the point we cannot 
do the job. And so this is a balance we are going to need to 
work on together.
    And, again, as I said, in terms of the market mechanisms, 
we can spend--and I know our staffs have spent time together on 
this. But, again, there are so many different asset classes, 
some held by a very broad range of institutions, that what we 
are going to do is look to use market mechanisms and bringing 
in some of the very best asset managers and others to work with 
our people getting help from within the Government, help from, 
obviously, the Fed, other talent we have here, to make this 
work. But this is not a situation where we can come up and say, 
``Here is what we want to do, here is how we want to price it, 
here is exactly how the reverse auction will work.''
    Senator Hagel. I understand that, but that is not really 
the question. You understand, as does everyone on this panel, 
why these hearings are so valuable. They are valuable, in my 
opinion, first because they allow you to educate and inform the 
American people and the Committee as to how these kinds of 
things work. And there is a tremendous amount of 
misunderstanding, as you know--and as has been reflected by 
comments this morning--about how does this work. Are we just 
putting $700 billion of taxpayers' money out here with no 
oversight, with no structure?
    So what I want to bring you back to is: Are you envisioning 
an oversight board, once-a-month meetings? Or just walk me 
through in very layman's terms so someone could understand how 
are you going to do this. How are you going to implement it? 
Also, does the Treasury have the capacity and the capability to 
administer something this big?
    Secretary Paulson. Well, those are very good questions, and 
let me answer them.
    First of all, we need an oversight board. OK? We need and 
we want it. OK? And so what--and the way I envision this 
working is with great transparency so that the board clearly 
knows what we are doing. We can explain this to the American 
people, as complicated as it is. Again, the process which we 
are looking at doing, which I think has been misunderstood, is 
something that would be broad based and--to a large extent, 
broad based. There may be some parts of it that need to be more 
narrowly focused, and then we will deal with that and use 
different methodologies and different approaches to deal with 
that.
    And so it would be something that, as we went along and as 
we started, we would probably start with a simpler set of 
securities, something simple like mortgage-backed securities as 
opposed to something more complicated. And we would go out, and 
we would do it--the first tranche would be, obviously, a 
smaller tranche, not a significant part of the $700 billion. 
And we would get it out quickly into the market. And we would 
be very clear to people what it is we have done.
    So that is as much right now as I can say to the American 
people other than that the key thing for the American people is 
that if this works the way it should work, with the assets, 
this is not an expenditure. This is an investment, and as the 
economy grows, as housing corrects, these assets should 
appreciate in value. The cost to the taxpayer will be far below 
what is invested in the assets. Some people have mentioned that 
under certain circumstances you could actually make money. We 
are not committing that. We are saying the taxpayer is at risk. 
And we have also said very up front that there is going to need 
to be some experimentation because we are dealing with things 
that have not been dealt with before. And so there will be 
experimentation in terms of experts. We are able to attract and 
we have attracted a variety of experts, and we are going to 
continue to bring them in. We want the best and brightest 
working this as we go through this.
    Senator Hagel. Mr. Chairman, thank you.
    Chairman Dodd. Thank you, Senator Hagel. Very much.
    We turn now to Senator Carper.
    Senator Carper. Thank you very much.
    First of all, a question for Chairman Cox, if I could. I 
have been out of the hearing for a while chairing a hearing on 
the census. The census has had its share of problems in the 
last year or two as well, and I think we are getting that 
resolved. I told the Director of the Census if we can finish 
getting the census ready, we might bring him in and help 
address this issue, and he offered his assistance.
    A question for Chairman Cox. We talked a little bit earlier 
this week about short selling and the role that that has played 
in getting us into the jam that we are in today. And I know you 
have not just some thoughts but have taken a number of steps. 
Just a little bit of a Short Selling 101 for us, and what role 
do you believe it is playing, it has played in getting us to 
where we are today?
    Mr. Cox. Senator, the decision to intervene in market rules 
in this way was highly unusual and a very difficult one for the 
Commission. It is not a step that was taken lightly. It was 
taken with the support of and in coordination with the 
Secretary of the Treasury, the Chairman of the Federal Reserve, 
but also, importantly, international regulators. As you notice, 
the U.K. took this step, and we worked very closely to 
coordinate our actions with them. We have been in contact with 
our counterpart regulators around the world who are taking 
related actions in the current circumstances, narrowly focused 
on financial stocks. And the reason is based on the connection 
between the share price, which we have seen, and confidence in 
the institution itself. We have got healthy institutions, or at 
least all institutions--perhaps there are none healthy 
anywhere, but if that is the case, we have the kind of problem 
that the Congress is here to address--that are put at risk if 
there is a downward spiral based not on normal information but 
on fear.
    And so in this climate, we want to make sure that decisions 
in the market are going to be made in a way that protects the 
overall market and investors in it. But we also want to get out 
as quickly as possible. That is why this is an emergency order. 
It is very narrowly tailored, and it is time limited.
    Senator Carper. All right. Thank you.
    I do not know if you all have gotten into this today. Let 
me just ask you this. The proposal offered by Senator Dodd 
includes the creation of a Special Inspector General. I believe 
my understanding from the House bill is they do not create an 
Inspector General, but they do call on the General Accounting 
Office, the Comptroller General, to play a role with respect to 
accountability going forward. And my question is for each of 
you.
    I am going to start with Mr. Lockhart. I do not know if you 
have fielded a lot of questions today, but we are going to make 
sure you earn your keep here. We will turn to you first. What 
are your thoughts on the creation of an Inspector General to 
oversee this program? I am just going to come right down the 
line, if you will.
    Mr. Lockhart. Thank you, Senator. Actually, we are getting 
an Inspector General as part of the new legislation that was 
just passed. Inspector Generals are a useful part of the 
government process. I have found them useful, and I have 
certainly found working with GAO useful in my career as well.
    Senator Carper. All right. Thank you.
    Mr. Cox, Chairman Cox.
    Mr. Cox. I would support it.
    Senator Carper. All right.
    Mr. Chairman, Chairman Bernanke.
    Mr. Bernanke. I think that you have to have rigorous 
oversight, and OIGs--the Federal Reserve has an OIG, as do many 
other agencies, and they are very effective.
    Senator Carper. All right. Thank you.
    Secretary Paulson.
    Secretary Paulson. I would say the same thing, but I do not 
think we can sort of design it here today, but we clearly 
want--to protect the American taxpayer and for all our 
protections, we want oversight.
    Senator Carper. Another question that kind of relates to 
the one I just asked, but with respect to conflicts of interest 
or the potential for conflicts of interest going forward, the 
Treasury plan calls for, as I understand, private sector 
portfolio managers to basically run the day-to-day management 
of the assets that would be purchased by the Treasury. And 
while this may be more efficient than creating a Government 
entity, my first thought is to be supportive of what you are 
asking for, but it also does create some possibilities for 
conflicts of interest.
    Let me just ask, what safeguards need to be put in place to 
minimize, in your view, any potential conflicts of interest?
    Secretary Paulson. Well, I would say we cannot design these 
here, but we have been very conscious of this. And when we have 
dealt with advisors before, we have been very careful about how 
we do it.
    But I just cannot emphasize enough to you how important it 
is that we have experts available to begin working quickly, 
because this is about market confidence, effectiveness, and so 
we need to balance. OK? We need to balance the need to go 
quickly with the protections we build in. And I want strong 
oversight, strong protections, great transparency. And as this 
develops, I am sure it will evolve. And it may evolve in 
various different ways, but right now we need to get up and 
running and deal with the market as it exists.
    Senator Carper. Thank you for that response. My time has 
expired, and I am not going to ask another question. But I do 
want to make a statement, just to follow up on what others have 
said, Mr. Chairman, and what I said earlier during my opening 
statement.
    I went back in time, and I asked us to recall the Chrysler 
bailout where the Federal Government did not take an equity 
position in Chrysler. The Federal Government did not actually 
make a loan to Chrysler. The Federal Government actually 
guaranteed loans, and ultimately our guarantee was never 
exercised. We did not actually have to use the guarantee, 
although it was out there. But at the end of the day, we made 
money. The Federal Government and taxpayers made money, 
recovered money on behalf of our citizens.
    And the Resolution Trust Corporation, when it was 
established, my recollection is the Resolution Trust 
Corporation did not go in there and take an equity position in 
savings and loans. The Resolution Trust Corporation took off 
the hands of the S&Ls the nonperforming loans, and a lot of 
them were actually good investments--shopping centers, 
apartment complexes, and on and on. And because of the 
condition of the market, they had fallen in value. They were 
actually taken off the books of the S&Ls, held for a period of 
time, and as the economy recovered and as property values 
recovered, the Resolution Trust Corporation was actually able 
to recover a fair amount of money for the Treasury.
    We need that kind of thinking. We need to be 
entrepreneurial. And I do not know at the end of the day if the 
Federal Government ought to have an equity position in these 
companies, but at the end of the day, I do not want to go home 
unless we can say to the taxpayers in my State, ``We have come 
as far as we can, as close as we can to recovering every dime 
we put into these companies.'' And, last, we will be able to 
look them in the eye and say, ``We have made, to the best we 
can, every effort to ensure that no bad behavior is being 
rewarded.'' And the people who should not be rewarded in this 
financially, they are not going to get rewarded.
    Thank you very much.
    Chairman Dodd. Thank you, Senator, very much.
    I just briefly wanted to make a point because I think this 
is something we have missed a little bit. If we were to move 
forward with this, the idea of giving the Treasury, with all of 
the oversight and accountability built in, is the authority to 
deal with this. What I think needs to be said, Mr. Secretary, 
unless you are going to tell me this would not be allowed under 
your plan, is that if you discover along the way that there is 
some better idea or some variations of these ideas that would 
work better--and there are a lot of ideas we are all hearing 
about from people from the world from which you come--that 
there is nothing in here that would prohibit you from using the 
flexible notions and thoughts out there on how a better 
approach might work, an equity infusion, for instance.
    Secretary Paulson. Mr. Chairman, you said it better than I 
did, and this is--I am not looking and I did not want to find 
myself in this position. I did not want to find myself in the 
position of being here asking for these authorities. But under 
the circumstances, I think they are better than the 
alternative. This is something we will work on together. And as 
we learn if there are better ways of doing things, clearly, as 
we get in the markets, we are going to learn, and our whole 
objective here is going to be to minimize the ultimate cost to 
the taxpayer.
    Chairman Dodd. Senator Dole.
    Senator Dole. I would like to ask Secretary Paulson, 
Chairman Bernanke, and Chairman Cox the following question: 
According to the Wall Street Journal, the market for credit 
default swaps has reached $62 trillion, up from $144 billion as 
of 10 years ago. The issue of credit default swaps, as I 
mentioned earlier in my opening comments, is one that I have 
consistently raised throughout the year, beginning with Bear 
Stearns in March: the transparency of this market and what 
regulators have been doing to improve oversight of these 
securities. Chris Cox has spoken today to the regulatory issue.
    At the time, though, the Treasury Department, Federal 
Reserve and SEC all testified that these CDS securities did not 
play a major role in the situation at Bear Stearns. Now 
Americans come to learn that these same securities--credit 
default swaps--played a role in the collapse at Lehman Brothers 
and the Government intervention of AIG. Simply put, what has 
changed? And given that we now know they played a significant 
role in the demise of AIG and Lehman Brothers, will the 
Treasury Department plan on purchasing some of these illiquid 
CDSs?
    Secretary Paulson. Senator, there is some confusion here. 
Let me explain. This is a huge market, and we have all, from 
the day I came down here, my very first meeting--as a matter of 
fact, my first meeting with the President talked about these 
issues. We have been working with the Fed because there is this 
huge market, and the most important thing that needed to be 
done was to build the protocols, to build the infrastructure to 
handle this.
    And so we have all known the risks. As a matter of fact, 
the fact is that the reason--one of the major reasons that the 
Government helped out in the Bear Stearns situation was to 
avoid throwing it into bankruptcy with all the credit default 
swaps and not having the infrastructure.
    One of the reasons the Chairman has said to Senator 
Schumer, even more important than the wind-down in the 
insurance, is the ``too big to fail,'' and part of the reason 
for the ``too big to fail'' is the lack of all the 
infrastructure and protocols and discipline around over-the-
counter derivatives market. But it is not as simple as to just 
say let's just regulate it.
    This is a market that regulators, led by the New York Fed, 
have been making huge inroads in with the industry, and there 
is a lot more that needs to be done on this market. So it is a 
big problem. We have been focused on it for a long time. How it 
got here is another story. But we have been dealing with it.
    Mr. Bernanke. Senator Dole, this is an instrument that has 
grown extraordinarily rapidly, as you point out, more quickly 
than the infrastructure that supports it. And the Federal 
Reserve, particularly the New York Federal Reserve Bank, have 
been extremely active in working with market participants to 
improve the transparency, the clarity of those trades, to 
develop protocols in case there is a failure, how to deal with 
that, and to move toward a central counterparty that will help 
make this a safer market.
    So we are working on that and making a lot of progress. It 
is part of a broader plan to try to make the system more 
resilient, more transparent, so that when we have crisis 
conditions that, you know, those problems will be much less 
severe.
    So we understand your concern, and we have been working 
very hard to try to make that market better.
    Senator Dole. Yes.
    Mr. Cox. Senator, I think that there are several issues 
here. One is the infrastructure issue that the SEC is working 
on with the Fed, and the Treasury, of course, and the 
President's Working Group are very aware of this, and this has 
been a leadership effort for some time. It is important to have 
an OTC derivatives clearance and settlement infrastructure that 
works much better. It is important to have a central 
counterparty.
    It is also important to note that legislation has expressly 
excluded CDS from regulation even of the most modest kind, such 
as disclosure. And the lack of disclosure, the lack of 
transparency around this market is one of the reasons that we 
as a law enforcement agency but also market participants are 
very, very concerned about this.
    We have seen what happens with these regulatory holes. We 
have got a big regulatory hole around investment banking 
supervision. We now have right in focus--and we can see how 
this works--a bit regulatory hole around CDS.
    Holding a credit default swap is ordinarily effectively 
taking a short position in the underlying. But CDS buyers do 
not have to own the underlying. They do not have to own the 
bond or the debt instrument upon which the credit default swap 
is based. So they can effectively naked short it. This is a 
problem that we have been dealing with with our international 
regulatory counterparts around the world with straight 
equities, and it is a big problem in a market that has no 
transparency and people do not know where the risk lies.
    The opportunity, therefore, for fraud and manipulation in 
this market can lead to market distortions, market disruption, 
and damage to the companies themselves. And it is just vitally 
important, as we consider reform of the financial system in the 
current crisis, that we regulate this so that we can have 
disclosure, so that we can have transparency in this market.
    Senator Dole. Thank you, Mr. Chairman. My time has expired.
    Chairman Dodd. Thank you very much. I was just asking staff 
as to whether or not this is something--I would ask Chairman 
Bernanke or Secretary Paulson, is this something we ought to be 
thinking about as including in some proposal given the language 
of the Chairman of the SEC?
    Mr. Bernanke. You mean in part of a reform?
    Chairman Dodd. I understand the logic, but I am talking 
about more immediately.
    Secretary Paulson. You cannot deal with this immediately. 
This is a huge market that has built up over a long period of 
time. It has also been extraordinarily useful in avoiding 
collapses and problems, letting institutions hedge themselves, 
as we went through--I could just go through situation after 
situation where, you know, Enron failed at great cost and human 
suffering, but the markets held up.
    So these are really valuable tools. It is a case where they 
grew too quickly, and when I talked earlier about we had a 
regulatory system that was static and did not change with the 
marketplace. And so the first work that has been done--and I 
think it would have to be done before you could regulate 
anyway--is all the work that Tim Geithner at the New York Fed 
has been leading with the industry to work out the 
transparencies and the protocols and the discipline in this 
market. And so----
    Chairman Dodd. The only reason I asked the question is 
because, Chairman Cox, there was an urgency in your comments. 
Just quickly, do you disagree with the Secretary?
    Mr. Cox. Well, I think the Secretary is absolutely right 
when he says that these instruments provide a lot of important 
support for liquidity in the markets. And so we ought not to 
view regulation as somehow going to stamp out credit default 
swaps or the derivatives markets or all the functions they 
perform. But at the same----
    Chairman Dodd. But you are not recommending that as the 
amount of this package we are talking about----
    Mr. Cox. Well, there is an urgency to what I am saying, but 
I do not want to get in the way of your consideration of what 
you have before you. On the other hand, giving regulators 
authority does not mean that it will be used in ways that 
disrupt the market.
    Chairman Dodd. I hear you. Senator Menendez----
    Secretary Paulson. And I think what the Chairman was 
talking about was law enforcement, which you urgently----
    Mr. Cox. Well, we have already got the antifraud authority. 
What we need is----
    Chairman Dodd. There is a statutory gap.
    Mr. Cox. Yes, we have a big--somebody in the Government 
needs to be able to look at this.
    Chairman Dodd. Senator Menendez.
    Senator Menendez. Thank you. Thank you, Mr. Chairman.
    As I listen here for a while, I get the sense that while 
you have given this a lot of thought, by the same token I get 
some sense that we are flying by the seat of our pants and that 
in that respect, you know, that you want to come in strong and 
have the cavalry be there, but you are not quite sure what the 
cavalry does once it arrives. And that is part of my concern 
here.
    The trouble is that these assets are so intertwined and 
complex that no one seems to be able to figure out what they 
are worth. And, hence, no one has been willing to buy them, 
which is why, Mr. Chairman, as you described, they have been in 
a lockdown mode.
    But you talked about the maturity price, and I just wonder 
how, in fact, since they are impossible to value as instruments 
at this point in time, how does one actually achieve that? If 
the Secretary pays the market rate, presumably if that was 
enough to be able to achieve the sale, that would be enough to 
persuade banks to sell already, so they would have sold. For 
that plan to work, then it would almost seem that you have to 
pay some type of a premium. And if that is the case--and I have 
heard the Secretary say many times we are going to look toward 
market mechanisms. Well, you know, some of us are concerned 
that market mechanisms have brought us to where we are today.
    So how do you know--how do any of these institutions even 
know how to bid, for example, in the reverse auction, if, in 
fact, they could not in the first place determine what the 
value is? And, therefore, how do we make the determination of 
what, in fact, the hold-to-maturity price is so that the 
taxpayers do not get left holding the bag?
    Mr. Bernanke. The holders have a view of what they think it 
is worth. The trouble is it is difficult for those outside to 
know what it is worth. And I think that there are 
combinations--and I want to be clear. I have not, you know, 
specified a specific mechanism, and this is an important thing 
to be looking at. But I do believe that there are combinations 
of market-based type auction procedures with expert input that 
would reveal--just as when you sell a painting at Sotheby's, 
you do not know--nobody knows what it is worth until the 
auction is over. Then people know what it is worth. I think it 
is the same thing here. If you have an appropriate auction 
mechanism together with other types of inputs, with flexibility 
to address different assets in different ways, I think what you 
will do is you will restart this market, and then you will get 
a sense of what the more fundamental value is.
    Senator Menendez. In essence, what you are going to do is a 
massive--ultimately, you create a massive repricing, right?
    Mr. Bernanke. On the grounds that the prices that we now 
see are what I called fire-sale prices, prices that are seen 
when you sell into an illiquid market.
    Secretary Paulson. There is no doubt that we are saying 
Government intervention. There is no doubt about it. And I 
would just add it is not just market mechanisms that have got 
us where we are today. It is also a hopelessly failed and 
outmoded and outdated regulatory structure that has helped get 
us where we are today also.
    Senator Menendez. Well, I would add to that, even within 
the regulatory structure you have, a lack of pursuing some of 
the regulations that we have aggressively in doing that.
    Let me ask you, what in this process do you envision not 
having the market try to manipulate the process in doing so? 
For example, what makes you believe that the institutions will 
not sell the very worst of the assets that they have in order 
to unload them and, in essence, be able to do that?
    Secretary Paulson. What we are going to do is we are going 
to do this focusing on one asset class at a time. So we will 
start off with maybe simpler asset classes, and it may be that 
one of the things we are going to want to do over time is buy 
some of the most illiquid asset classes and pay for them 
appropriately in order to preserve the system and do all the 
things you have heard me emphasize before to protect the 
taxpayer.
    Senator Menendez. Well, let me ask you, Chairman or Mr. 
Secretary, you said the institutions believe there is a value. 
They think that there is a value. The question is: When you 
have it in the reverse auction, what if they ultimately offer a 
value you do not think is appropriate?
    Mr. Bernanke. This is one of the reasons, you know, in 
response to Senator Bennett, you know, if we narrow--if we keep 
the range of participants too narrow, only failing 
institutions, for example, then we will not have a robust, 
competitive auction. The more participants we have, the more 
people who are involved in offering these assets, we will have 
a competition. And auctions are good at producing, you know, 
relevant prices, even if individuals have an incentive to 
underprice.
    Senator Menendez. Well, let me ask you this: I have heard 
you both make statements today and in the past that would lead 
one to believe that, at the end of the day, there is minimal 
risk to the taxpayers here. And, in fact, I have heard you say 
that there are some who argue that, in fact, we could make 
money.
    Can you both look at me in the eye and tell me that, as we 
increase the debt limit of the United States by $700 billion, 
which basically means about $2,333 for every man, woman, and 
child in this country, that this will not cost the taxpayers 
anything if we pursue what you want us to do?
    Mr. Bernanke. I never made any guarantees like that. There 
is going to be risk involved for sure.
    Senator Menendez. Can you quantify the risk then?
    Mr. Bernanke. No. We are going to have to look at it. But I 
think that what is clear is that the $700 billion is not an 
expenditure. There is going to be a substantial amount of 
recovery. Whether it is the full amount is hard to know.
    Secretary Paulson. Senator, I think what you heard me say 
today is that, unfortunately, there is great risk to the 
taxpayer today with what we have. The taxpayer is already on 
the hook, through no fault of his or her own. And now the 
taxpayer is on the hook because if the system does not work the 
way it needs to work, people are not going to get the loans 
they need, small businesses are not going to get the capital 
they need, farmers are not going to get the loans they need. So 
there is risk to the taxpayer.
    Now, in terms of what we are doing here, you have not heard 
me say that there is not risk to the taxpayer. You have heard 
me say there is less risk to the taxpayer in this course versus 
not doing it.
    Senator Menendez. Can you give us any quantification what 
that risk is?
    Secretary Paulson. I cannot give you a quantification 
because--and I will explain why. We are not making an 
expenditure. We are buying the assets, we are holding the 
assets, and we are reselling assets. And what the cost to the 
taxpayer will ultimately be will depend upon how the economy 
recovers, what happens in the housing markets, and how we 
execute this program.
    And so I wish there were a simple answer. I do not like 
being in this position. But I need to tell you the truth. And I 
certainly have not told you there is no risk to the taxpayer.
    Senator Menendez. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you very much, Senator Menendez.
    Senator Crapo.
    Senator Crapo. Thank you very much, Mr. Chairman.
    I want to go first to you, Chris, and talk about the short 
sell rule. Could you give the rationale for why you felt it was 
necessary to implement a ban on short selling?
    Mr. Cox. Yes, Senator. The decision was taken by the 
Commission after a great deal of careful thought, albeit in 
urgent circumstances. We consulted very closely with the 
Secretary of the Treasury, the Chairman of the Federal Reserve, 
the President of the New York Fed, and it was the considered 
view and recommendation of all that we take this course, as 
well as international regulators--the U.K. Financial Services 
Authority, in fact, took this action slightly ahead of the 
United States, as have regulators in markets in Europe and 
Asia. This has been the subject of a G-7 statement. And the 
purpose of it is to ensure that in circumstances that we have 
seen where there is panic and fear in the markets, that that 
does not lead, because of the close correlation that we have 
seen between equity prices and confidence in the institutions, 
to a run on the bank. That would affect the entire financial 
sector, and that is why this is restricted to financial 
institutions. But it is also time limited. The emergency nature 
of this makes it time limited. It is not something we would 
want to do on a permanent basis.
    And what we were looking to accomplish is to give the 
Congress an opportunity to consider this legislation in an 
environment of relative calm and to segue away from this 
emergency order as quickly as possible.
    Senator Crapo. But you do deem it to be short term and 
limited.
    Mr. Cox. It is short term, limited, and focused on the 
financial sector.
    Senator Crapo. I want to go on to another issue, and I have 
short time, so I will get into this with you privately. But as 
you know, I am very concerned that the way we have implemented 
the rule needs to make necessary exceptions for the kinds of 
proper short sales that are important for our markets to work 
well. But we can discuss that at a later time.
    I want to get to, which Chairman Bernanke and Secretary 
Paulson, the question of the run on the bank issue in the 
context of the actions that were taken to protect our money 
market funds. Could you explain to me just quickly what was 
done and what authority was used there?
    Secretary Paulson. Yes, Senator, let me explain the 
authorities the Treasury used and why we used them, and then 
the Chairman can explain what they did to support the 
commercial paper market.
    We have talked generally about the stresses in the capital 
markets when they froze up and when banks stopped lending to 
each other and things really slowed down. We have millions of 
Americans that have savings in money market funds. We have 
institutions that have savings in money market funds. And we 
had some of that money start to leave. We had an institution or 
two halt redemptions, you know, break the buck in a case. And 
there was great concern about this. And so this was not a 
normal circumstance.
    And so what we did was, at the same time we came to 
Congress Thursday night and said we want to address the root 
cause, which is housing and capital and we had this big plan, 
we also had some tactical steps. And one of the things we did 
at Treasury was we have an exchange stabilization fund, and in 
our judgment--and we got strong legal opinions that what 
happened in the money markets really gets to the stability of 
our system and, you know, to our currency and so on. So on this 
emergency basis, what we did was guaranteed all investors in 
money market funds, and we did it all funds that were there as 
of the date. So we did not want to create an uneven playing 
field going forward, but what we wanted to do was come up with 
this guarantee, and that is what we did. And then individual 
institutions will be--as they opt into this, we are working out 
the arrangements and the fee.
    Senator Crapo. And this is emergency. Do you contemplate 
that it needs to be temporary, or does the legislation need to 
authorize this?
    Secretary Paulson. No, we did this. It is in place for a 
year, and we do not think that this is something that needs to 
be codified because I do not believe this is something that 
needs to be done permanently. And it is something you can look 
at as you are looking at broader reform issues.
    Senator Crapo. All right. In the limited time that I have 
left, I would like to get back once again to the issue that you 
have already talked about a number of times here, which is why 
we do not look at an approach of obtaining equity for the 
taxpayer. And I understand the points you have been making 
about the fact that this is different from a failed institution 
that we are stepping in to fix and that you are trying to get 
broader participation.
    What I do not understand is, even given the fact that you 
are looking for broader participation, why we could not achieve 
that. Or maybe said another way, is it really necessary for us 
to go to the level of $700 billion to get more broadly out into 
the economy to institutions that are not facing the kinds of 
pressures that would require this kind of an emergency response 
by Congress? Why aren't we focusing simply on those firms and 
those portions of our market that really do need to have the 
recapitalization occur quickly?
    Secretary Paulson. Well, I will answer it and then let the 
Chairman answer it. There were two possible approaches, and 
this is by far the best in our judgment. One is to come up with 
something that is aimed solely at propping up a relatively 
small number of bigger institutions if and when they need it. 
OK?
    And the other approach, you know--and, again, we have 
flexibilities to deal with individual's situations as they 
arise. But the approach we thought was the better approach was 
to focus on the securities themselves and the markets of the 
securities themselves, looking at various security tranches and 
asset classes, and by establishing markets, working to 
establish values and markets here, to then induce the flow of 
private capital. And, again, when you look at all of our 
financial institutions, when people say why not recapitalize 
them, one of the reasons that capital is not coming into these 
institutions is they do not know--investors do not understand 
the value of some of these securities, and we need more 
transparency.
    So that is the approach, and it is--one is an approach to 
deal with failure, and the other is to try to make the system--
to get to the system in advance of that.
    Mr. Bernanke. Senator, as the Secretary said, those 
distressed firms have been a big problem. We have seen a number 
of cases, and in those cases, injecting equity and so on has 
been the right approach. But this is a systemwide problem. Even 
banks that are relatively healthy are contracting their balance 
sheets, refusing to lend, not able to raise more capital, and 
it is that contraction, even in the absence of failures, that 
is creating the pressure in the U.S. economy.
    So by trying to address this as a market phenomenon rather 
than an institution-by-institution phenomenon and getting wide 
participation, we have a much better chance of having a 
beneficial effect on credit and on the economy. So I do believe 
that is a better approach.
    And I will not take your time, but the Fed has done a 
number of things to try to help out on the money market mutual 
funds as well, trying to avoid--helping them not liquidate in 
such a disorderly way.
    Senator Crapo. Thank you. My time is up.
    Senator Bayh [presiding]. Resisting the temptation as the 
temporary Chairman to jump the line, I will recognize Senator 
Brown.
    Senator Brown. Thank you, Mr. Chairman.
    I do not think a single call to my office on this proposal 
has been positive. I do not believe I have gotten one yet of 
the literally thousands of e-mails and calls we are getting. 
Part of this reflects outrage by taxpayers making $30,000, 
$40,000, $50,000, $75,000, $100,000 a year, bailing out people 
whose country club memberships cost many times that. Part of it 
is, I think, an attitude. Wall Street to most people in my 
State, I think--certainly to many of them--Wall Street did not 
care one bit what it was doing to neighborhoods in Cleveland 
and Dayton and Toledo. It did not see the devastation. It did 
not feel the pain. And my question for each of you is: Do you 
think Wall Street owes the American people an apology?
    Mr. Bernanke. Wall Street made a lot of mistakes; 
regulators made a lot of mistakes. We are going to have to go 
through all that. But let me just say this: People on Main 
Street who think that Wall Street is somewhere far away and 
whatever happens there has no implications for their lives are 
just misinformed, because if Wall Street, if the markets freeze 
up----
    Senator Brown. Mr. Chairman, people know that what happens 
on Wall Street has an effect on their lives. That is not the 
question. The question is: Does Wall Street owe the American 
people an apology?
    Mr. Bernanke. Wall Street itself is an abstraction. There 
are many people who made big mistakes and many regulators who 
made mistakes, and we need to figure out what those were and 
make sure they do not happen again.
    Senator Brown. Secretary Paulson.
    Secretary Paulson. You know, I share the outrage that 
people have. It is embarrassing to look at this, and I think it 
is embarrassing for the United States of America. There is a 
lot of blame to go around. A lot of blame. And a lot of blame 
with the big financial institutions that engaged in--that is 
where I started with this--irresponsible lending, the overly 
complicated and complex securities that no one understood as 
well as they should, and it turns out they did not understand 
them themselves; the rating agencies that rated those 
securities; blame to the people that made loans they should not 
have made to some people that took out loans they should not 
have taken out; to regulators.
    So there is no doubt about that, but what we are focused on 
now is--and what I think your constituents want to hear, is 
let's fix the problem in the way that is going to have the 
least negative impact on them, and then let's go out and deal 
with all these problems and figure out how to make sure that we 
minimize the likelihood that it will happen again.
    Senator Brown. No disrespect, Mr. Secretary, but they 
understand much of that. They do want a solution. But they do 
not want the same people that have helped to inflict this pain 
on the American people to get the opportunity, because of our 
reluctance on executive compensation and our reluctance to do 
accountability, to inflict more pain. And I think that is--
well, let me move on from that. I apologize for interrupting.
    Senator Bennett raised a good question about troubled 
assets, and, Mr. Secretary, how would you determine the price 
of a troubled asset if not by a transparent method like an 
auction? I am not asking you to commit to a certain way, but 
give me an example or two how you could determine the price of 
a troubled asset outside of an auction and do it in a 
transparent way?
    Secretary Paulson. In terms of--when I am talking about 
trans, I am talking about how we report to the American people, 
how we report to the oversight board. If you are looking for 
transparency and being able to explain to you here today or 
anyone how some of these securities are valued and the issues 
surrounding them, I wish I could tell you, because we do not 
have--part of the problem that has gotten us here is excess 
complexity. And so we have very complex, illiquid securities, 
some tranches are more illiquid than others. And all I can say 
to you is we are going to need to use a variety of mechanisms, 
market-driven mechanisms as much as possible, bring together 
bright people from different backgrounds to work through this 
and do it with the main objective of protecting the taxpayer.
    Senator Brown. Thank you for that. Let me offer an idea, 
and you said part of the reason we got into this was the 
complexity. Part of the reason we got into this, too, is that 
the various actors had so little or no stake in the ultimate 
success of the mortgages. It was like a game of musical chairs. 
The appraiser got a fee, the broker got a fee, the investment 
bank got a fee, until the music stopped and somebody did not 
have a chair in some sense.
    Have you given any thought--both Chairman Bernanke and 
Secretary Paulson, have you given any thought to creating a 
system where the seller determines the price but must retain a 
good fraction of the asset, live with the consequences, and 
indemnify the Government if it was wrong on the high side?
    Mr. Bernanke. I am sorry. I thought you were talking about 
securitization processes. Are you talking about this 
operation----
    Senator Brown. I am talking about when we buy these 
troubled assets if there is----
    Secretary Paulson. We did not give thought to that, because 
I do not think that would be--I do not think that that would be 
a successful way to deal with something systemically.
    Senator Brown. Why not?
    Secretary Paulson. Because what we are looking to deal with 
is, as I said, the asset classes broadly and market-based 
solutions and getting--reaching out to many institutions to do 
that. And so that is--I recognize that there are a lot of 
ideas, and I have heard a lot of them. We spent a lot of time 
over the last number of months talking through these issues. I 
have heard in the last couple days all kinds of ideas that have 
come forward. And what we need to do here, I think, is move 
quickly and have some flexibility to--we have got some very 
good ideas and I think some approaches we spent a lot of time 
on. But we are going to have to spend time learning as we go 
along also.
    Senator Brown. If we subscribe to sort of the theory of the 
ownership society, which your administration kind of stands 
for, doesn't an idea like that, where there is some ownership 
of the asset by the seller to make the price perhaps more real 
or more fair to taxpayers, make some sense?
    Secretary Paulson. Well, again, I will let the Chairman 
respond from his standpoint, but given what we are trying to do 
to the system--and, again, the fairness to taxpayers, I am 
defining fairness to taxpayers as what is going to create the 
least cost to taxpayers, what is going to protect the taxpayers 
to the greatest extent. And I believe that by far the most 
important thing is addressing the questions that Richard Shelby 
and some others have asked: How do we make this work? How do we 
make this work so it is going to be effective, keep our economy 
going, keep capital flowing, and do something systemically? And 
to do something systemically the way we need to do that, I do 
not think that is the right way to go.
    Mr. Bernanke. Let me just--there are many different 
mechanisms for trying to establish value. There are different 
ways. Some involve various kinds of copay type arrangements 
like you are describing. I think we need to go to experts. I 
have received a number of e-mails from world leading auction 
experts saying, ``We want to come work with you on this.'' The 
thing I would ask you to do is not to put in the legislation 
precisely how these mechanisms would work, because that would 
prevent us from using the advice of experts and the benefit of 
experience in this very novel type of situation to learn the 
best way to do it.
    Senator Brown. Thank you.
    Thank you, Mr. Chairman.
    Chairman Dodd [presiding]. Good questions. Thank you very 
much, Senator.
    Senator Martinez.
    Senator Martinez. Thank you, Mr. Chairman.
    This is for Mr. Lockhart and Secretary Paulson, if we 
could, Director Lockhart. When Fannie and Freddie were put into 
the conservatorship, one of the impacts that it has had has to 
do with the asset quality or the equity capital of America's 
banks. And I am talking now about Main Street; I am talking 
about community banks. Apparently, about 11 percent of their 
core equity capital was involved in these types of equities 
even as a result of the conservatorship, because of this 
situation, maybe about--it is believed about $36 billion in 
value of the preferred shares has been essentially wiped out.
    The question really--and, apparently, the impact on small 
and community banks, everyday banks in our towns and our cities 
and in Florida towns and cities that are making the loans to 
the small business guy, to the car purchasers and so forth are 
being impacted by this in a much greater way than was initially 
anticipated.
    So the question is: How could we restore the value of these 
assets to these banks? And when would dividend payments begin 
again? And how do we deal with this unintended consequence of 
the conservatorship?
    Mr. Lockhart. Fannie and Freddie had about $35 billion of 
preferred outstanding. It was held across the board, but there 
was a concentration in banks, and sometimes in smaller banks. 
It was something that was considered at the time, and the view 
was that we needed to conserve Freddie and Fannie and those 
dividend payments were going to be excessive. So, a decision 
was made to stop the dividends.
    The preferreds are still in place. If the companies come 
out of conservatorship, there is potentially an opportunity 
some time in the future for dividends to be restored but not in 
the near term.
    Mr. Bernanke. Senator, the Federal Reserve and the other 
Federal regulators are very aware of this situation. We 
understand it is an unusual situation. It wasn't brought about 
by bad lending, for example. And we are going to be working 
with banks to try to find solutions for them.
    Senator Martinez. Good deal. Thank you.
    And in the situation that brings us here today, Mr. 
Secretary, today, I have heard you say that you welcome 
oversight, so as we try to narrow differences and begin to work 
in a bipartisan way to find a way of getting to a solution to 
this problem, which is not just about Wall Street but is 
directly related to what is happening in Miami and Orlando and 
Tampa and the small cities across America, so therefore, we 
have the idea that you have asked for a blank check or that 
Congress would give you a blank check or that Congress--I mean, 
we can remove that from the debate. You are not asking for a 
blank check. We are not going to give you a blank check. There 
will be oversight. And you accept and understand that that is 
part of what we have to do?
    Secretary Paulson. I accept and understand it. I welcome 
it. And as I said earlier, I was told by Congress, by your 
Chairman, let us work together. Please don't work out all the 
details. So we sent up a simple outline of a bill expecting to 
work on an oversight and then I read that I didn't want 
oversight. So clearly, the position I am in, I want--I welcome 
oversight, protection, transparency, all of that, but we need 
to work together to do it and make this effective and very 
efficient.
    Senator Martinez. And likewise, there needs to be and there 
will be transparency in the way in which this is executed in 
terms of how you are going to move ahead and whether it is an 
auction or reverse auction or exactly how these securities are 
going to be valued.
    Secretary Paulson. Yes. We will--as I said, there are going 
to be various methodologies. We are going to do the things we 
think make most sense and with a lot of experts, and then that 
is something we are going to need to explain to an oversight 
body, and we are, again, going to need to be transparent and I 
totally accept that and agree with it. And we all need to 
understand this is something that hasn't been done before. It 
is something that Congress had never welcomed, authority, 
intervention of this size. We weren't recommending it in this 
size months ago. We have--we are, again, dealing with a market 
situation where we need to move quickly and we need to move 
quickly to protect the American taxpayer. And so this will be--
this is something we are going to be working through very 
carefully as we go forward here.
    Senator Martinez. That issue, quickly, is something that as 
we--we first discussed this on Friday, I believe, some of us. 
We now are moving down the road to try to get something done, 
and obviously it needs to be done right more than it needs to 
be done fast. But do you still--and this is also to Chairman 
Bernanke--do you both continue to feel the sense of urgency 
that was present when we first spoke about this on Friday?
    Secretary Paulson. I feel at least as great an urgency 
because I believe that what calmed the markets was the 
understanding that we were going to do this, and we stood--or I 
had a press conference with the leaders of both Houses saying 
we are all going to work together to get this done quickly. And 
so I feel great urgency and I believe it has got to be done 
this week or before you leave.
    Senator Martinez. Mr. Chairman?
    Mr. Bernanke. I agree with that. I think it is necessary, 
at a minimum, to give a very strong indication of exactly what 
is happening and very soon so that markets will understand what 
is happening. Yes, I do see that urgency.
    Senator Martinez. And Mr. Chairman, while we are on that, 
you do agree that this is the best and the only way forward 
that you know of at this time?
    Mr. Bernanke. Well, we haven't specified all the details, 
obviously, but the only other model which we have is sort of 
the failed bank model we have seen in the S&Ls and other cases 
and that just doesn't apply to this particular situation. So 
yes, I do believe this is our best shot.
    Senator Martinez. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you very much, Senator.
    Secretary Paulson. Not only our best shot, it is--we are 
going to make it work.
    Chairman Dodd. Thank you, Senator.
    Senator Casey.
    Senator Casey. Mr. Chairman, thank you very much for this 
hearing and for the way you have conducted it.
    I guess my first question will be directed mostly at 
Secretary Paulson and also Chairman Bernanke. Both of you have 
said today and on numerous occasions that the root cause of 
this, of course, is housing, and you have taken steps, both of 
you and others here today have taken steps to deal with that 
over time, and I think a lot of the strategies that have been 
employed have helped. I think we should enlarge them, 
especially at this time when we have an opportunity to do so.
    You know the numbers about foreclosures per day. It is 
approaching now, by one estimate, 10,000 per day. The Center 
for Responsible Lending is predicting that 6.5 million 
foreclosures over the next couple of years. And I know that 
both Chairman Bernanke and Secretary Paulson today, especially 
Chairman Bernanke, have spoken about both fire sale prices and 
hold-to-maturity prices. But I believe, and I think the 
evidence is compelling, that foreclosure itself forces fire 
sale prices of homes. And isn't it true that if these 
foreclosures occur, then all home values are going to drop and 
drop to the fire sale price and that that forces the hold-to-
maturity price to fall to the fire sale price.
    So in essence, what I am asking in a long way is why does 
this proposal have this, what I would argue is a gaping hole in 
it, with no specific provisions that deal with foreclosure 
prevention?
    Mr. Bernanke. Well, I certainly agree that we should--every 
preventable foreclosure that we can, we should prevent, and we 
have a number of actions in that direction, including the bill 
that Congress just passed, for example. And I think that we 
ought to keep working in that direction.
    One of the things that will help will be increased jobs, 
stronger income, better credit availability. That is 
essentially what we are trying to achieve here. It is not a 
substitute for other things, including working with servicers 
to develop better methods, insisting the banks work effectively 
with their borrowers, using the FHA in the way that we have 
been doing through the HELP for Homeowners, HOPE for Homeowners 
that the Federal Reserve is part of. So those things need to go 
together. But certainly, housing is not going to do well in an 
economy which is not growing in which credit is not available.
    Senator Casey. And I understand the point that you have 
made and Secretary Paulson has made about there is a direct 
connection between what is happening in a proposal, or what we 
hope happens as a result of the implementation of this proposal 
between helping financial institutions and what happens on Main 
Street or in the American economy. I get that and I think we 
need to say that more.
    But what I don't understand is even though we made progress 
on HOPE for Homeowners in July--we can help 400,000 
homeowners--why not use this opportunity to take another shot 
at that and expand that 400,000 to a million or to a million-
and-a-half or two million, whatever it takes to, in two words, 
stop foreclosures as best we can? And I don't know whether, 
Secretary Paulson, you have some thoughts on that.
    Secretary Paulson. Again, I think you know, Senator, that 
we have spent a lot of time on this and the HOPE Now Alliance 
has helped about 200,000 people a month avoid preventable 
foreclosures. And our big focus, one of the things--as you 
said, housing is at the root of this. What we are doing with 
Fannie and Freddie and what we are doing with this action 
should help. And I have also said, and I know the Chairman and 
I have talked about this, that with some of the securities we 
own, we will have much more leverage to get things done to 
avoid preventable foreclosures. But we very much hear your 
concern and we understand it and there is no doubt that 
foreclosures are a significant problem.
    Senator Casey. Because I think when people are looking at 
this proposal and they see elements like that and like 
transparency, like oversight, like executive compensation, the 
warrant question, when they see those missing, I think it gives 
further credence to the idea that this is very narrowly 
tailored to financial institutions, even though you have made 
the case that that has a connection to the larger economy.
    I do want to move to the question of how we modify the 
mortgage agreement between a lender and a borrower. One of the 
ways that has been proposed, and we voted on it before and I 
think we should return to it, is the question of bankruptcy. 
Can we use bankruptcy procedures, the bankruptcy law, to have 
a--to help modify some of these mortgages, in some ways, 
frankly, to force people to sit down to do it? I want to get 
your perspective on that, because I know it is a source of 
convention in our ability to not just come to a resolution on 
this proposal, but also on the foreclosure issue itself.
    Secretary Paulson. Senator, I will give a quick view and I 
am sure the Chairman will. From a policy perspective, you have 
heard me express disapproval. I think that that is--although 
many people have considered it and advocate it, I very 
respectfully think it is a mistake, and when I look at what we 
are trying to do here, is to get lending going again and 
increase lending, I think this really mitigates against that 
and it is in contradiction with what we are trying to do, is to 
get lenders to do more if we do these bankruptcy modifications 
or cram-downs. But I understand there are differences of 
opinion and I respect the other view. I just think it is a 
mistake.
    Senator Casey. Chairman Bernanke.
    Mr. Bernanke. It is hard to know which way that would go, 
whether putting things into courts is a way of facilitating 
this or not. The Fed didn't take a position on bankruptcy 
reform last--a few years ago. We have just basically not taken 
a position on this one.
    Senator Casey. Well, I would respectfully urge you to 
reconsider that, because I think we need a voice like yours, 
the voice of the Fed, on something this, I think, essential to 
the debate.
    I know I might have a minute left, if that. My last 
question is in terms of real contention here, obviously, 
executive compensation is a huge issue and I think the American 
people, even though I think most understand that the dollar 
amounts for executive compensation may not impact or compare to 
the dollar amounts we are talking about overall here, whether 
it is $700 billion or whatever number it ends up being, but I 
think the message sent by a failure to address the executive 
compensation question in a reasonable way, in a way that we can 
have bipartisan forces come together, I think would send the 
wrong signal.
    And in terms of confidence, we are concerned about market 
confidence, but we also--I think part and parcel of that is the 
confidence the American people have in us, all of us, to be 
able to deal with an essential question of fairness and equity 
and real justice. And I guess I want to have you to reiterate 
your position on the issue of executive compensation and if 
there is any way we can come together on that by providing some 
reasonable limits on it, especially with regard to severance 
after the fact, after there is a problem.
    Secretary Paulson. Again, I will----
    Chairman Dodd. Try to be brief in your answer, because we 
have got other members here.
    Secretary Paulson. I will be very brief, because I 
understand how serious the problem is. I just got--and how 
great the concern is and the outrage. You know, I hear it 
everywhere. But I can just say to you the most important thing 
by far, the most important thing is to have something that 
works, works well, and works effectively.
    Senator Casey. Thank you.
    Chairman Dodd. I would just say, almost any plan we are 
going to talk about is going to deal with executive 
compensation. Count on it. Just count on that one. We will 
figure it out, but it is going to be here.
    Senator Bunning, I missed, and I apologize----
    Senator Bunning. That is all right. Thank you. I was absent 
for a while and I understand.
    We are trying to get at the housing problem, is that 
correct? Secretary Paulson? The problem that the housing mess 
has created and spilled over into the rest of our economy and 
worldwide.
    Secretary Paulson. I would say that is a major cause. I 
have called it the root cause, the housing correction.
    Senator Bunning. OK. Then why did I read in the paper this 
morning that we are now going to include student loans and 
credit card debt? How does that fit the housing?
    Secretary Paulson. I would say to you, that is certainly 
not my proposal, is to--I think the vast bulk of our effort 
needs to be aimed at mortgage-related securities. We asked for 
broad authorities and various kinds of securities because 
again, what we need to do is to free up the----
    Senator Bunning. I think you have made that perfectly 
clear, Mr. Secretary----
    Secretary Paulson [continuing]. So what I am saying, so 
that is--that that----
    Senator Bunning. Then how are we getting in other things 
that are non-related? This is something that--is that untrue?
    Secretary Paulson. I would say the reason we want 
flexibility to, if we need to, buy some other classes of assets 
would be that if the banks--if capital starts to--as capital 
flows more freely, it will help the housing, because the fact 
that the financial system is gummed up and there is illiquidity 
hurts it and it may be that to deal with----
    Senator Bunning. Student loans and then credit card debt 
are messing up the housing?
    Secretary Paulson. That is--I certainly, sir, did not say 
we are going to focus on this and that that was going to be the 
major focus----
    Senator Bunning. I didn't say you said it. I said I read 
it.
    Secretary Paulson. OK. OK. Well, I am not sure what you 
read.
    Senator Bunning. I read that included because someone 
insisted on it, that you were dealing with--included that we 
were going to deal with credit card debt and student loan debt.
    Secretary Paulson. I----
    Senator Bunning. It is untrue?
    Secretary Paulson. I don't know what you are talking about. 
What we have said, though, is we have asked for broad 
authorities to deal with a variety of securities if we need to, 
and a variety of asset classes. But the focus here, the major 
focus will be dealing with mortgage and mortgage-related.
    Senator Bunning. This is unrelated, but it is essential for 
me to get a handle on some prior statement you made earlier 
today. How long were you the CEO of Goldman Sachs?
    Secretary Paulson. I was the CEO of Goldman Sachs from May 
1999 until I left to come down here at the middle of 2006.
    Senator Bunning. Now, that is not what I want--I don't need 
help from the audience. I can ask the questions on my own. Then 
you said in an earlier statement that you didn't realize the 
maze of regulatory problems that we have here on the Hill and 
that you and other companies like you were CEO of were dealing 
with here. You made that statement to us all sitting at this 
table.
    Secretary Paulson. I said, you have to get down here, look 
at the people, look at the plumbing, look at the inadequacies. 
I was not studying----
    Senator Bunning. You were dealing with it on a daily basis.
    Secretary Paulson. I was dealing with all of the best 
regulators. So I guess what I said is that you have got to see 
it up close and personal and then step back and look at it and 
think about it and say, how does this make sense, and that was 
my statement, yes, sir.
    Senator Bunning. In other words, you didn't know or 
somebody in your firm other than you was dealing with the 
regulatory burdens that were placed on your firm?
    Secretary Paulson. Well, I was dealing with--very well with 
the regulatory burdens on my firm, but to look back and say--
look at the broader economy, to look at some of the holes in 
the regulatory system as it relates to other institutions, yes, 
that is it.
    Senator Bunning. Mr. Secretary, do you know if large 
Treasury debt holders such as foreign official investors, 
Commonwealth Fund, Bank of China, whatever it might be, are 
going to go along with a massive debt issue? Have you heard 
from any such investors who are complaining about the close to 
one trillion or more dollars of debt increase we are looking at 
between the GSE plan and the new debt to finance the Fed 
activities?
    Secretary Paulson. I would say to you, sir, when we had--
when I have had a discussion with central banks and finance 
ministers from around the world, their primary concern was that 
we deal with this situation and they were very complimentary of 
this action. And I believe from the conversations that I have 
had with central bankers, China, Japan, around the world, their 
first and foremost concern was stabilizing our financial system 
because it is so integrated with the rest of the world.
    Senator Bunning. OK. I guess maybe I am the only one that 
has a problem with this, but one of the big problems I am 
having dealing with your plan and Chairman Bernanke's and 
others to address this issue is that you are not going to be 
here after January 20 of 2009, and I am going to have to answer 
to the 4.2 million people in Kentucky and all these other 
Senators up here are going to have to answer to their 
constituents if this plan does not work. And I am frightful to 
the point of almost panic that I don't see a solution in your 
plan to address this financial crisis that we are in.
    Secretary Paulson. Senator, all I can say to you is I got 
here 2 years ago. I am going to--I have been trained all my 
life to run toward problems. I have had some big problems to 
have to run toward. And I have worked very closely with the 
Chairman of the Fed, with the Chairman of the SEC, the 
President of the New York Fed, my colleagues, Congress, to 
address these issues as they have come up and I believe that 
this is my plan to deal with these set of circumstances which 
are unprecedented. And so that is what I can say to you.
    Senator Bunning. This is my last question. This is for 
Chairman Bernanke, also. Your predecessor came up to the Hill 
today and said that the $700 billion in this plan is chicken 
feed and it won't take care of the problem. I don't necessarily 
agree with your predecessor on many things, as you might well 
know. And I happen to think that he is wrong here, also. But 
what happens if it doesn't? Are you going to come back to us 
and say, by the way, the $700 billion is insufficient and now 
we have to open the taxpayers' box and bring more money to the 
table to get this mess straightened out? Chairman Bernanke, 
would you like to----
    Mr. Bernanke. Well, Senator, I can't predict the future and 
I have been wrong quite a few times now. But we may--we don't 
know exactly what is going to happen, but I think this is a 
very powerful program and that the amount of money is enormous, 
of course. There is a chance we may come back and say we didn't 
need it all, but it is very hard to know. But I think this is a 
very substantial effort by the Congress to address what is 
indeed a very large and serious problem.
    Senator Bunning. Thank you, Senator.
    Chairman Dodd. Thank you. Thank you, Senator Bunning.
    Senator Bayh.
    Senator Bayh. Thank you, Mr. Chairman, and thank you, 
gentlemen.
    Some of this ground has been gone over before, and I 
apologize, but I would like to follow up a little bit. 
Secretary Paulson, I would like to begin with you. Many of us 
would feel a little bit better if we were convinced that 
private sector-based solutions had been exhausted in this, or 
if at least there were some private sector participation in 
this to validate the decisions that the public entities will be 
making.
    For example, I mean, you said that you have been bombarded 
with a variety of suggestions. One I heard was that we require 
a 10-percent private sector participation along with the 
purchases the government will be making in these options. 
Another would be, and one of my colleagues floated this idea, 
some sort of guarantee of private sector purchases. That 
historically has worked fairly well. It would allow the private 
sector companies to--purchasers to purchase closer to the hold-
to-maturity value. Why are those sorts of things not viable? 
Why is this the optimal solution to this problem?
    Secretary Paulson. Well, we have thought a lot about it. We 
need a systemic approach, and again, I think it is--I have 
described the systemic approach. I have also heard 
conversations about taking equity stakes, various other things, 
and I just believe very strongly if you impose these kinds of 
conditions, if you impose any kind of punitive conditions, this 
program won't work and we will all lose. And----
    Senator Bayh. This wouldn't be punitive. This is including 
the private sector along with the public sector in answering 
the problem and----
    Secretary Paulson. Yes----
    Senator Bayh [continuing]. They would be validating the 
decisions----
    Secretary Paulson. Well, I would say in terms of bringing 
in the private sector, OK, along with it, I think we have 
looked at a number of initiatives. We started off, actually, 
with some initiatives with the private sector, some that got 
off the ground and others that didn't. I would say with the 
private sector as frozen as it is and as concerned as it is and 
with the overall system as fragile as it is, now is the time 
that we need to do something very strong as a government, and 
so that is why we have come up with this plan.
    Senator Bayh. Chairman Bernanke, many of my colleagues, 
Senator Reed foremost among them, have asked, and I think you 
put your finger on the essential point here, and that is how do 
we go about valuing the hold-to-maturity price versus the fire 
sale price, and I think you would acknowledge--you have 
acknowledged it is an inexact science at best. So the taxpayers 
do--there is some downside risk here. What do they get in 
exchange for bearing that downside risk? Why should they not be 
allowed to participate in the potential upside, and then that 
gets to the question once again of possible equity 
participation.
    Mr. Bernanke. Well, first, to go back to your----
    Senator Bayh. And I understood your answer about the 
difference between failed institutions and contracting 
institutions. It seems to me these are different points on the 
same continuum and I struggle for a principal differentiation. 
I mean, this is a market intervention. The taxpayers are 
bearing risk. Aren't they entitled to something in exchange for 
that risk if things work out well?
    Mr. Bernanke. Well, first, to go back to your earlier 
point, as I mentioned earlier, there are various mechanisms for 
auctions and for valuation that do involve private sector 
participation. I think, you know, that experts ought to look at 
that. You know, the bad bank model, for example, is one 
approach that we have actually--the Secretary has actually 
tried. I guess my just concern is it not be written into the 
legislation because we have to work and see what is going to be 
most effective.
    I am just concerned that we not do anything that limits 
participation, because one of the issues with valuation is, as 
I mentioned earlier, is to get wide participation in the 
auction process. If you are auctioning a--if you only have one 
seller, then there is essentially no way to figure out what the 
thing is worth----
    Senator Bayh. Compensating the taxpayers for the risk they 
are bearing would disincent others from participating?
    Mr. Bernanke. No, but if you make it a condition of 
participation in the valuation process, that is going to--that 
is essentially going to cause some not to participate when they 
would otherwise be part of the competitive valuation process.
    Secretary Paulson. I would say it this way. If we have to 
grant--have companies grant equity stakes, grant options, that 
would render this ineffective because it just--broadly, because 
our approach, as I said, there is different approaches, and if 
we dealt with people and institutions that were very fragile 
and needed to do something in order to prevent failure, then I 
think we have had a really strong record of getting equity 
stakes. I think you will see us continue to do that under those 
circumstances. But what we want here is a broad array of 
institutions to participate and so that just makes it--this 
would make this program ineffective if we approached it that 
way.
    Senator Bayh. I would appreciate at another time when you 
are not quite as busy some further explanation about why such a 
thing would disincent further participation, because as you can 
see, that is a common concern that we have.
    Secretary Paulson. Yes.
    Senator Bayh. You don't need to answer me further, Mr. 
Secretary.
    I did have one final thing. I found--Senator Shelby raised 
this point, and Secretary, I don't know whether it was you or 
the Chairman addressed it, about the participation about 
foreign domiciled entities participating in this, and I must be 
candid. I found the explanation to be somewhat unpersuasive and 
I think many of the American people will probably have a 
similar reaction. Forget all that for a moment.
    You say you are going to be going to the central banks of 
other countries to ask them to help out in dealing with this 
problem. Why should it not be a prerequisite for participation 
in this that the central banks of the countries in which these 
foreign institutions are domiciled agree to participate?
    Secretary Paulson. I am leaning on them to participate--not 
to participate, but to come up with programs that make sense in 
their countries. But we need to go back to what we are saying 
here. What we are saying is that institutions that do business 
in the U.S., employ people of the U.S., are part of the 
financial system of the U.S. They are there to benefit the 
American taxpayer. If they have problems, they are our 
problems. If they work the way they are supposed to work, they 
help get the economy growing.
    And so the focus here, although we are clearly dealing with 
this and communicating in very strong terms with other 
governments, our first concern is the American people, and for 
the American people, if any institution has got a major office 
here, regulating institution, doing business that is very 
important to the American people, those are the--that is the 
universe we want to deal with.
    Senator Bayh. Well, my time has expired, Mr. Chairman. I 
would only say that if this works well, which we all hope that 
it does, this will restore balance sheets for these 
institutions. Share prices will rise. They will benefit. I 
think the American people will find it to be odd, to say the 
least, if our government cared more about the financial 
integrity of these institutions than the home countries of 
these institutions.
    Mr. Bernanke. They would. What we are aiming at, of course, 
is the market, and it is not just those who participate who 
benefit or don't benefit. If prices go up generally, that will 
help the entire system. In fact, it will help the global 
system, you know, which strengthens financial conditions 
generally.
    Senator Bayh. Thank you, Mr. Chairman.
    Chairman Dodd. Thank you very much, Senator.
    Senator Corker.
    Senator Corker. Thank you, Mr. Chairman, and Chairman 
Bernanke, I am heartened by your comments regarding the 
openness and hopefully desire to look at some of the accounting 
standards as it relates to banks that have held--not the banks 
we are talking about here, but the banks throughout the country 
that have held Fannie and Freddie and now need some 
transitional help in accounting. I hope Chairman Cox and others 
involved will join in that effort and make it happen.
    Mr. Secretary, I don't normally tweak people, especially 
someone I respect like you. I noticed in your comments you ad 
hoc-ed, if you will, regarding a bazooka comment. I do want to 
remind you that the theory behind the bazooka was that if you 
have a bazooka in your pocket and the markets know that you 
have it, you will never have to use it. And I would like to 
point out that you not only pulled that out of your pocket and 
used it, huge amounts of ammunition was pulled out of the 
taxpayer arsenal to solve that. I think you have done some very 
deft things, and I compliment you on that, but the point is 
that things don't always work out the way people and their best 
efforts think they are going to work out.
    And I have to tell you, if we were part of a venture board, 
if you will, up here, listening to what is really today a 
concept--this is not really a deal--I think most of us in 
dealing with our own money would say, you know, come back and 
talk to us when you can put a little meat on the bones, OK. At 
the same time, I understand where you are and I understand the 
severity of the situation which puts some balance in that.
    I guess the concern that I have, especially listening to 
Chairman Bernanke talking about valuing these in a hold-to-
maturity basis, that would automatically give me the 
impression, based on what I know about these securities, is 
that we are going to actually be paying above what these 
securities are marked to market now in many cases. Do you have 
any concern that with you being the only player and with 
private capital being on the sidelines that you are crowding 
out private capital by, in fact, handling it on this basis?
    Mr. Bernanke. I would say I have a number of concerns. That 
is clearly not the biggest one, because the private capital has 
come in two or three times during this difficult period, this 
turmoil in the markets, and each time, it has been overwhelmed 
by the leverage in the system, and so private capital isn't 
coming into the 
system.
    And I would also say to you that these securities--we never 
said that under certain circumstances, they wouldn't--you 
wouldn't do things where we pay above the mark. We are doing--
because these securities are marked with different marks and 
different types of institutions. So this is a very complicated 
process and so--and it is going to be difficult to get our arms 
around valuation, but that is why it is so important that we 
cast our net broadly.
    Senator Corker. Let me pick up on that comment. I know you 
have said several times how excessively complex this is. We 
talk about these auctions as if we are auctioning off 
securities that are like one another when, in fact, they are 
not. I mean, these securities are very different. The 
collateral that backs them up is very different. And so to talk 
about the due diligence--and I am going to lead up to 
something, if I could--the due diligence that one would have to 
go about to actually even buy these at anywhere close to an 
appropriate rate is going to be massive. Is that true? Would 
you say yes or no to that? And that is why you are employing 
another----
    Secretary Paulson. It is, but I want to correct maybe a 
misperception we have left you with. We believe, for the 
reasons you outlined, the way to deal with this is to deal with 
it by--with similar securities, to deal with it, you know, 
looking at the CUSIP numbers, looking at different tranches of 
the same security broadly, rather than saying let us have an 
auction and put any security you would like into it. But your 
point is still the same.
    Senator Corker. Tremendous due diligence.
    Secretary Paulson. Right.
    Senator Corker. OK. And Chairman Bernanke, I heard you say, 
and I don't know whether you were being somewhat politic and 
trying to help someone with a foreclosure process, but you 
mentioned we were going to be buying second liens. Surely we 
are not going to be buying second liens with taxpayer money. 
Would you expand on that?
    Mr. Bernanke. Well, second liens are selling for a few 
cents on the dollar and I wouldn't expect them to be worth much 
more than that. But I was only pointing out that--I know this 
from Governor Duke, who is on the HOPE for Homeowners Board, 
that the problem of second liens is a big issue right now 
because it prevents renegotiations of the first mortgage. So I 
was just saying that a side effect, if we do buy them at a 
market value, a few cents on the dollar, would be to help free 
up this other issue.
    Senator Corker. I know my time is up. I can see the light, 
I guess, on the timer. I just want to close by saying there 
have been a number of concepts thrown out regarding getting the 
private sector involved. I actually think that has not been 
explored to the length that it should. I know there have been 
some thoughts put forth about maybe a levy on the industry. It 
is a huge industry, a $2.5 trillion industry, and that maybe a 
levy on the industry to help, if you will, cash-flow this 
process until some of the yields can come back to the taxpayers 
would be interesting.
    But I just want to close by saying, following up on Senator 
Schumer's comments, we had a meeting Sunday, and I appreciate 
again so much your time. I am struck by the fact that, again, 
this is a concept and you want $700 billion to deal with this 
concept that no one can explain how it is going to work, and I 
am certainly not asking you to do that and you can't do that 
today. It seems that what he said makes a tremendous amount of 
sense.
    You are going to have to figure out a way to do this, if we 
agree to do it. It is going to take you--it is not going to be 
happening in 14 days. There are going to have to be some 
guidelines. People are going to have to be hired with 
instructions, the institutions that help support this.
    It is very difficult for me, knowing that we really don't 
know what this is going to do, it is very difficult for me to 
understand why we don't pass legislation that says something 
like, we have a goal of $700 billion, but that you are going to 
put in place the processes and expand a tranche or two, $50 
billion, $100 billion, maybe $150 billion, and you are going to 
get this put together in a thoughtful way and we are going to 
know who the Treasury Secretary really is and that you bring 
back to us a fully baked concept with the markets knowing that 
is what you are working through and that we have something 
intelligent and well-constructed to actually certify to go to 
the lengths that you are talking about doing now.
    It seems to me that is very workable, and you would be 
sending a signal to the markets. And in fact, over the next 60 
to 90 days, you would know which of these things is working and 
which is not. That just seems to me to be prudent. And I can't 
imagine why that is not acceptable to you, even though--I just 
can't imagine that.
    Secretary Paulson. Let me comment that under normal 
circumstances, that would be a good way to go. These are 
extraordinary circumstances. We have been moving quickly 
already to get ready to be in the position where we could 
implement within weeks something with some of the simpler 
things after you all act.
    I think what I would come back to you and say, I believe 
and the Chairman believes, and we have talked about this a lot, 
this is what we need here to deal with this market situation. 
We will be going out in a methodical way. There will be plenty 
of time to review what is done. There will be plenty of time to 
add to transparency over time. We are going to put in strong 
protections. And you will have an opportunity to work with the 
new Treasury Secretary. We will have flexibilities. We will 
have flexibilities to involve the private sector. We will have 
flexibilities to move this to another area. But this is--we 
know how unusual it was to ask for this, but we have asked for 
it because we think it is the best way to protect the taxpayer.
    So we both want to do the same thing, sir. You want to 
protect the taxpayer. I want to protect them. I am thinking the 
best way to protect the taxpayer, and you have a very strong 
view of that, is to do something that has got the maximum 
chances of working in this marketplace to calm the market, and 
so that is our view.
    Chairman Dodd. I thank Senator Corker.
    Just an editorial comment here. Senator Shelby and I were 
talking. Senator Shelby is a young-old appropriator and 
sometimes we do things that----
    Senator Shelby. Together, we are.
    Chairman Dodd [continuing]. But there are times, I would 
say to Senator Corker, when we have appropriated funds and then 
fenced funds. So they have been appropriated, so it is not just 
a goal, and what you then can set up, some conditionality.
    I would say, Mr. Secretary, I appreciate your point, but 
this is not--we are not going to try and draft legislation 
here, but I would leave that door open a little bit. If we are 
looking to build the kind of consensus up here to move forward 
quickly and thoughtfully and responsibly, I think it is very 
important to not reject some of these ideas as a way of getting 
something done, and I appreciate very much the spirit in which 
Senator Corker has raised an issue as maybe we can begin to 
talk about as how we move forward in an expeditious fashion, 
but a careful one, as well. So I thank him very much for that 
thought.
    Senator Akaka.
    Senator Akaka. Thank you very much, Mr. Chairman.
    This is an historic time in our nation and I want to 
commend all of you, the administration as well as the Congress, 
for using this spirit of working together to try and find the 
best way to work ourselves out of the disaster we are in. 
Historically, we have just been through a disaster that is 
natural and now we are in a manmade disaster. But we are using 
this period of working together to try to make a difference.
    Chairman Bernanke, this economic downturn and credit crisis 
have produced great public concern, and it has been expressed 
here many times. My question to you has to do with human 
capital concern. What effect will this troubled assets program 
have on the supervisory duties, the supervisory duties of the 
Federal Reserve?
    Mr. Bernanke. Well, we will continue to evaluate. For those 
institutions that we supervise, we will continue to evaluate 
their positions, their capital, their risk management, and so 
on. But I think this will obviously be helpful in removing some 
risk from their balance sheet and allowing them to expand their 
lending. So I don't see any problem from this, but we will 
certainly keep close track of what is going on.
    Senator Akaka. I am also concerned about the statutory as 
well as regulatory aspects that what we are trying to do will 
affect us. So Chairman Bernanke, the Federal Reserve's 
statutory responsibilities focus on monetary policy to promote 
maximum employment, stable prices, and moderate long-term 
interest rates. My question is, to what extent will the 
injection of this $700 billion affect your ability to meet 
these goals?
    Mr. Bernanke. Well, if the program works, it will be 
extremely helpful because we are in a situation now with 
financial markets freezing up and it is very difficult for us 
to achieve the objective of full employment in a situation 
where credit is not available and the financial markets are so 
unstable. So I think we have taken the view--we have been 
working very hard over the last year using a variety of tools 
to try and promote financial stability. That was, in fact, the 
historic purpose of the Federal Reserve. But I view it as 
essential to the other objectives you just mentioned. Without 
financial stability, you are not going to have full employment 
and price stability. So we think that is very important and we 
have been working together with the Treasury Secretary very 
intensely in trying to promote stability in our financial 
markets.
    Senator Akaka. Chairman Bernanke, should we worry about the 
Treasury being given the ability to move $700 billion in and 
out of the economy and the potential impact that this could 
have on monetary policy, and also the political independence of 
the Federal Reserve?
    Mr. Bernanke. I don't see any problem in terms of 
macroeconomics, only a positive effect in terms of stabilizing 
the financial system. The Federal Reserve would like to get out 
of dealing with some of these crises we have been dealing with 
because there is no broader authority, no broader support, and 
we prefer to get back to monetary policy, which is our 
function, our key mission.
    Senator Akaka. Mr. Secretary, you mentioned about needing 
the right group of experts to help in this huge effort. Has 
there been any consideration, Mr. Secretary, given to 
specifically what parts of the Federal Acquisition Regulations 
would need to be waived to get contractors and consultants to 
establish this program?
    Secretary Paulson. Yes. We have given a lot of thought to 
that and we have worked it through very carefully with our 
General Counsel.
    Senator Akaka. Do you plan to have competitive bidding, and 
if not, why not?
    Secretary Paulson. Well, we have procedures that are 
designed to mitigate against conflicts, but we need to move 
very quickly here and so we can't go through all of the normal 
processes or it won't work for the markets.
    Senator Akaka. Chairman Cox, do you need additional 
statutory authority to properly regulate brokerage holding 
companies? If not, why not?
    Mr. Cox. Senator, the regulatory hole that I have referred 
to that still exists gives no regulators the authority or the 
responsibility to regulate investment bank holding companies. 
The marketplace has dealt with this in the context of the 
current market turmoil by investment banks opting to become or 
merging or combining to become bank holding companies. But the 
problem remains, and if there are to be other investment, pure 
investment banks in the future, there is no statutory 
responsibility.
    The SEC, for its part, does not have legal authority over 
the entire investment banking firm. It doesn't have the 
authority to require that it maintain capital levels or 
liquidity or what have you. We have had a voluntary program 
that was put in place 1 year before I arrived. Senator Shelby 
referred to our view of that early in the year, prior to Bear 
Stearns in March, the trial by fire for this voluntary program. 
It was very clear that it was broken and it did not serve the 
purpose. Certainly, it did not serve the purpose of looking at 
systemic risk, something that the SEC is not assigned to do in 
statute.
    And so I think with respect to this question, we have now 
an MOU that we signed up with the Federal Reserve immediately 
in the wake of Bear Stearns so that we could take a look at 
information about regulated investment banks' subsidiaries, or 
I should say, regulated broker-dealer subsidiaries of bank 
holding companies and the Fed could take a look at the same 
information for investment bank holding companies. That is 
working very well, or was working very well, to broaden our 
reach, but the fundamental flaw was that it was voluntary. And 
so I think, yes, that needs to be taken care of.
    I also mentioned the other regulatory hole, which I think 
is urgent in the current circumstances, and that is CDS. We are 
looking at effects of short selling, but those same effects, 
and indeed greater opportunities for manipulation exist in the 
CDS market. No regulator has authority except anti-fraud 
authority with respect to credit default swaps.
    Chairman Dodd. Thank you, Senator, very much.
    Senator Akaka. Thank you, Mr. Chairman.
    Chairman Dodd. Senator Tester.
    Senator Tester. Thank you, Mr. Chairman. I should request 
that we could have gotten this hearing over a lot quicker if 
you had just called my name first.
    [Laughter.]
    We have been at this about four-and-a-half hours. I want to 
thank you fellows for being here. I really appreciate it.
    My first question is going to be with Secretary Paulson and 
Chairman Bernanke. When you were at the last hearing that I was 
at--it was on July 15--asking for some sweeping powers to 
provide taxpayer equity into the two housing GSEs, I asked you 
then if this could in any way affect the credit rating of the 
U.S. Treasury. You both at that point in time said no. That 
decision is starting to look like a minimum of about $200 
billion commitment, followed by $85 billion to AIG and another 
$29 billion to Bear Stearns before now. We have an additional 
$700 billion now on top of that. Could this threaten the credit 
rating of the U.S. Treasury?
    Secretary Paulson. Let me comment. First of all, you have 
heard why we did what we did----
    Chairman Dodd. You have got to get closer to that 
microphone----
    Secretary Paulson [continuing]. There were obligations, and 
that this--when you look at this, this authority is the 
authority to invest up to $700 billion. It is not to invest all 
of $700 billion. It is up to as much as needed and it will be 
investing, buying assets, and then we are selling those assets, 
and hopefully for a cost that is--we are buying the assets. We 
are not spending it. So it is difficult to determine what the 
ultimate cost will be.
    Senator Tester. But my question is that, as has been 
pointed out about bazookas in people's pockets and the last 
housing bill we sent out, I mean, we had the conversation on 
the phone. You said, we need it. If I have got it, I am 
probably not going to have to use it. You had to use it. I am 
not arguing that point.
    What I am asking you is that we have got $700 billion in 
spending authority. Is this--could this potentially affect our 
credit rating to our U.S. Treasury? And really, it is yes or 
no.
    Secretary Paulson. Well, obviously, everything we do in 
some way or other affects the credit rating. But what I am 
trying to explain here is that this is different from normal 
expenditures or outlays----
    Senator Tester. So you don't think it is going to affect 
the credit rating?
    Secretary Paulson. Anything we do, every expenditure, every 
investment has an impact. But we believe this is the right 
thing to do, and I will, Ben, let you----
    Senator Tester. OK.
    Mr. Bernanke. I don't know how they make those decisions. I 
don't know. But I do know that a weak economy means lower tax 
revenues. So if it goes either way, there is going to be a 
fiscal hit.
    Senator Tester. OK. I understand. So what you are saying is 
the increase in potential debt would not have an impact on U.S. 
Treasuries.
    Mr. Bernanke. I don't think so, but I don't know how that 
rating agency does its analysis.
    Senator Tester. Good enough. The ``too big to fail'' issues 
have been brought up here several times today, and this is for 
Chairman Bernanke. Both you and your predecessor have warned 
about the threat of systemic risk to financial markets when 
some companies are too big to fail, or we are talking about the 
whole system. Chairman Greenspan spoke most frequently about 
the systemic risk Fannie Mae and Freddie Mac posed. In response 
to the recent crisis, Secretary Paulson, if I can quote you, 
you said, ``as we have worked through this period of market 
turmoil, we have acted on a case-by-case basis,'' which is 
accurate.
    In that work, we have forced some marriages of some of Wall 
Street's biggest titans, Bear Stearns, AIG, Bank of America and 
Merrill Lynch, Morgan Chase, all those. So the question is, are 
we posing additional risks by this consolidation in the 
marketplace and how do we spread risk as long as this 
consolidation is going on, because it appears we are forcing 
some of this consolidation.
    Mr. Bernanke. Well, I think some consolidation is necessary 
in the industry. In particular, in the investment banking 
industry, there were real concerns about that model raised by 
the recent events, which is part of the reason why Morgan 
Stanley and Goldman Sachs have applied to become bank holding 
companies.
    I think the ``too big to fail'' problem is a very serious 
problem, but I think we have to get through this period and 
then work through ways to mitigate that problem in the future, 
and I have made a number of suggestions along those lines which 
I think is very important. That is a very important issue.
    Senator Tester. When you have consolidation in any 
marketplace, it tends to result in less benefits for the 
consumer--this is my perspective, you may disagree--less 
benefits to the consumer and need for more regulation. Do you 
see both of those things occurring or needing to occur?
    Mr. Bernanke. Well, the financial supermarket approach has 
benefits and costs. It has some complementarities across 
different types of services. It has some market issues, like 
you are referring to. I think we need to look at the regulatory 
system very extensively, as I said earlier today.
    Senator Tester. OK. And the consolidation, do you see it 
having an impact, a greater impact on rural America than it 
does on urban America?
    Mr. Bernanke. I think one of the--in the medium-term, at 
least, one of the beneficiaries of these events will be smaller 
and community-type banks who have retained those relationships 
within their own towns and communities and didn't get into some 
of these problems.
    Senator Tester. My time has--this is the quickest time in 
the world. I cannot believe how fast this time has gone by, and 
I apologize. I will just tell you that there is--I am just 
going to make a real quick statement.
    Chairman Dodd. Senator, you have been patient. Why don't 
you take another couple of minutes if you want to?
    Senator Tester. I can?
    Chairman Dodd. Yes, you can.
    Senator Tester. Well, thank you, Mr. Chairman.
    Chairman Dodd. I will exercise----
    Senator Tester. I appreciate that.
    Chairman Dodd [continuing]. Imperial authority I have here.
    Senator Tester. Man, you are top flight. I will buy you a 
cup of coffee.
    [Laughter.]
    I want to talk a little bit about foreign entities and 
possible dollars going to them. It has been brought up several 
times. And I think in your testimony, I heard--and correct me 
if I am wrong--that you have been talking to the folks in the 
G-8 around the world about the United States's role in propping 
up our markets, and have you talked about their role in us 
propping up their markets?
    Secretary Paulson. Yes. Our system is integrated. We have 
clearly talked about their role. They have different policies. 
The U.K. had a significant policy action related to their banks 
and mortgages. There are actions being taken elsewhere. We are 
talking to them. We are urging them. But again, I just want you 
to understand that our motive here is not propping up foreign 
banks. Our motive here is----
    Senator Tester. I understand that, and it is well taken. 
But when the taxpayers see us propping up foreign banks, there 
are questions that are asked to me and then I ask you 
questions. That is the way this process works, I guess.
    What is the financial condition worldwide? I mean, and 
where I am going with this, just so you know, we passed a bill 
here a couple of months ago that we funded a very, very 
important project for research that, quite honestly, we are 
going to be borrowing money from other countries to fund that 
project when other countries in the G-8 should have been 
putting in the same kind of money. That is a little convoluted. 
But what I am asking is where are the other countries at in 
this process, because I think that, unless their economy is--
and you said it is totally integrated, so it is integrated down 
on us, too--why aren't they ponying up? Why aren't they 
stepping up to the table? Because if we go down, like you say 
we could go down, I can't imagine they are going to be in very 
good shape.
    Secretary Paulson. We didn't say we are going to go down. I 
certainly said what we need to do is protect the American 
people from a system----
    Senator Tester. Bad choice of words. I am sorry.
    Secretary Paulson. But I will say this, that all of them 
are dealing with their own economies. Economies are slowing 
down around the world. We have fragility in the markets around 
the world. We have equity markets declining in various parts of 
the world. So again, every one of these countries is dealing 
with their own situation.
    Senator Tester. And so you feel comfortable that they have 
stepped up to the plate in a commensurate way?
    Secretary Paulson. Well, do I feel comfortable they have 
all--I can't speak for every country and every----
    Senator Tester. Your assessment.
    Secretary Paulson [continuing]. And every----
    Senator Tester. Your assessment.
    Secretary Paulson. So I can't say that. I say that there 
are different approaches to dealing with this with different 
situations.
    Senator Tester. OK. And I don't want to miss the 
opportunity to follow up with Chairman Cox on the whole Bear 
Stearns investigation and what went on there and what 
transpired and all that. It is still in the back of my mind and 
hopefully we can take care of that.
    I just, in very quick closing, I want to say this. I 
haven't been involved in government all that long, 10 years. I 
have been involved in public service at the local level a lot 
longer than that. But I can tell you that every time, every 
time that I can think of that we made a spur-of-the-moment 
decision, that we didn't do our due diligence on, and with the 
level of governments I have been involved in, it has been a 
wreck.
    To quote Senator Menendez, I don't feel a lot of 
confidence. I mean, I am not sure we have got the whole 
sentence written, much less the ``i''s dotted and the ``t''s 
crossed. And I fully feel the urgency, and I know you guys are 
frustrated. I am frustrated. Everybody up here is frustrated. 
But the truth is that we have to be given the time to do this 
right or it is not going to work and we will be back here next 
year or in 2 years asking for another $700 billion or more, and 
that is a real issue with me because my kids have got to pay 
for that.
    Thank you. Thank you for being here. I appreciate your 
patience.
    Chairman Dodd. Senator, thank you very, very much.
    Just a couple of points. Let me ask you something, if I 
can, Mr. Secretary, that hasn't come up here today. Section 8 
of your proposal says the following: Decisions by the Secretary 
may not be reviewed by any court of law or any administrative--
order in the room--by any court of law or any administrative 
agency. This is rather sweeping, to put it mildly. I am trying 
to recall any other example I can think of in my 28 years where 
a request has been made of us to basically immunize any agency 
from any review.
    And it would seem to me that--and I understand, as I 
understand, the motivation behind it would be to sort of calm 
the markets. We are going to be able to make decisions and they 
are not going to be able to be challenged. I almost have the 
opposite reaction. It would seem to me it would almost have the 
opposite reaction to me. The idea that you are going to have 
decisions made that are not subject to review by courts or 
agencies is so sweeping that it would be troubling to me, that 
you are not going to have that kind of tension that occurs when 
decisions are being challenged.
    And so, one, I would just tell you, maybe I am speaking for 
myself here, there will be real problems with this kind of 
language. Now, I understand you want to do some things, but I 
have asked the Judiciary Committee and others who spend more 
time on this, this language, in my view, cannot last here.
    Secretary Paulson. I hear your comment that we need to work 
through this. We put this together. It was bare bones. But 
again, I will just say to you, this is not a position I wanted 
to be in. I didn't want to be in this position. I am the 
Treasury Secretary. We moved very quickly to deal with 
something and it is very easy to second-guess it and it is very 
easy for everyone to--everyone has got to do their job here.
    Chairman Dodd. Right.
    Secretary Paulson. But we need something that can have 
strong oversight. We have got to have the protections. We have 
got to have the transparency. You have heard me say that. Would 
I like to have months and months to put this together? Yes, I 
would. But I don't think that the situation calls for that. And 
so what we want to do is have the oversight, have the 
protections, but be able to move quickly to implement this.
    Chairman Dodd. I hear you.
    Secretary Paulson. And again, implementing it does not mean 
going out and investing $700 billion immediately.
    Chairman Dodd. No, I understand that. But the rule of law 
is something that all of us up here, regardless of party, care 
deeply about. And the idea that you would ask for such sweeping 
authority here, to sweep that aside, I suspect maybe met with 
as much concern as I am expressing to you. So I just raise that 
with you here. It takes some work. This is a paragraph that is 
going to require some work, to put it mildly.
    Let me turn to Senator Shelby and we will try to wrap up 
here.
    Senator Shelby. Thank you, Chairman Dodd.
    Chairman Bernanke, have you ever known of any central bank 
of any country in the world bailing out foreign banks doing 
business in their country other than their own? In other words, 
have you ever known any central bank bailing out our banks or 
some other banks? I have never heard of it. Now, you are a 
student of economic history.
    Mr. Bernanke. Well, central banks have an important role as 
the lender of last resort----
    Senator Shelby. We know that.
    Mr. Bernanke [continuing]. To provide liquidity, and we 
provide liquidity to any bank that is within the--whose 
branches--or, sorry, whose subsidiary is within the boundaries 
of the United States and is regulated by U.S. regulators, and 
that has been our general policy.
    Senator Shelby. We understand that, basically providing 
liquidity. But in this, this would provide liquidity, but at a 
price. You are talking about buying toxic securities or 
securities that there is no market for them from all the banks, 
our banks and foreign banks doing business in this country. I 
don't--I understand why you are doing that, but I think that is 
a bad, bad precedent.
    Senator Dodd, I know we are getting toward the end of the 
hearing, and I think there are still significant unresolved 
issues here. You have brought up several. Foremost is the basic 
question regarding whether the plan will actually provide 
stability and greater liquidity. I think, as do many of my 
colleagues that it appears here today on the Banking Committee, 
that the pricing mechanism that we have talked about is the 
absolute key to whatever you are doing, assuming you are 
playing pass.
    Too high and the private money does not return to the 
market. There are trillions of dollars--you know this--in the 
private market looking for an investment. But they won't return 
here if it is not done right. If the price is too low, firms 
will become insolvent, fail, and bring instability back to the 
market.
    Consider this proposition. We spend hundreds of billions of 
dollars, maybe a trillion dollars. It leads to the collapse--I 
hope not, but it could--of more firms. We have to spend 
billions more to recapitalize, among other things, the Federal 
Deposit Insurance Fund. There is also the question, as I see 
it, Mr. Chairman, as to whether our efforts might be better 
directed--something to think about--if we targeted some 
resources at homeowners beyond these issues.
    I think there are a broad range of questions that haven't 
been resolved here and can't be resolved in a short time, such 
as taxpayer protection--this goes to the heart of this--GAO 
oversight, conflicts of interest, and many others brought 
before us today. I think we need better answers and I think 
that before we really proceed on this--I don't believe Congress 
should just ratify what has been thrown up to them. I 
understand the situation is dire, but so is the condition of 
the taxpayer out there. And I believe we, as Senators, should 
consider this.
    And my last statement regarding this, the market is 
overwhelmed. I believe some of you used that term, or somebody 
did. I think it is overwhelmed by greed, by mismanagement, by 
lack of regulatory reform in the past, regulatory oversight. 
And the bottom line, as I see it, you are visiting the taxpayer 
with it. I think that is shameful, myself. I know there are 
better ways. Would it be without pain? Oh, no. There is always 
pain. But the best--and Chairman Bernanke, I have heard you say 
this, or something to this effect--that the best disciplinary 
mechanism we have is the marketplace. The marketplace will 
discipline all of us. We are paying, but we learn. I am not 
sure people will learn if this goes through.
    Thank you, Mr. Chairman.
    Chairman Dodd. I see--I know Senator Schumer wanted to ask 
one additional question. I presume he is on the way over. But 
let me ask Senator Dole if you have a quick question here, or 
Senator Corker.
    Senator Dole. Yes, just a couple of comments. I want to 
underscore, Chairman Dodd, your concerns about the power 
assault here, and I would like to ask Secretary Paulson, how 
did you or how will you select these so-called unbiased asset 
managers? Won't there be a perception of Wall Street helping 
Wall Street?
    Secretary Paulson. I would say we will design the process 
that has as many protections around this as possible to bring 
in experts, and we will have the proper oversight. Senator, 
that is how we are going to work through this.
    Senator Dole. Publicly, you have stated that the long-term 
fate of Fannie and Freddie rests with the subsequent Congress 
and next administration. In addition, you have expressed that 
these GSEs are a relic of the past and burdened by various 
conflicts of interest. Given this, before leaving in January, 
will this administration commit to releasing its own 
recommendations as to what it believes should be the Federal 
Government's role in supporting the U.S. mortgage market?
    Secretary Paulson. Senator, I have said that in the weeks 
or months ahead, that I will express views on different ways to 
deal with these conflicts or these ambiguities and some very 
specific views.
    Senator Dole. Specific written recommendations?
    Secretary Paulson. I didn't say written, but I will 
certainly express views, because there are--there clearly are 
significant issues. There, we had to stabilize the situation to 
deal with it, have them continue to play the very important 
role they have to play in our economy and our housing markets. 
But there is no doubt that the big structural issues have yet 
to be dealt with, and there are structural flaws and there are 
solutions, in my judgment, to those structural flaws.
    Senator Dole. Thank you. Thank you, Mr. Chairman.
    Chairman Dodd. Senator Corker, did you have a----
    Senator Corker. I think since we are filibustering for 
Schumer, I will just----
    [Laughter.]
    Senator Corker. I know they have to go, and I can't believe 
we can keep them unless we are filibustering, but I would just 
say to them that I do hope----
    Secretary Paulson. We do have to go.
    Senator Corker. That is fine.
    Chairman Dodd. I know you do.
    Senator Corker. Let us end it, then.
    Chairman Dodd. Well, let me just say, I just want to make a 
couple of quick concluding remarks.
    First of all, I just want to--Senator Casey raised about 
some modifications to the bankruptcy provisions. We ought to 
talk about that, because that could help, I think, on the 
mortgage, not to end up in bankruptcy courts, but it is the 
incentive to try and do work-outs so you don't end up in 
courts, but I will leave that for further discussion.
    I hope our witnesses see the value of this. I know it has 
taken a lot of time, but it is very important. These are the 
people here, at least in this committee, we have been charged 
because of jurisdiction to deal with this. And so it is 
critically important that my colleagues have a chance to do 
this. And through us, the public gets a better understanding of 
what is going on. Your answers, I think, have been very good. 
They have been further explanation of what needs to be done. 
Obviously, there were those who have other ideas, but I think 
it has a value and it is important that there be an 
appreciation of that.
    And again, I can't speak for everyone here, but I think 
most of us recognize the gravity of the situation and that it 
is important we act. And we are going to need to try and figure 
out how to do that. The present system of how we legislate does 
not lend itself to a moment like this, where you normally have 
this body works, then the other body works, and we meet back 
and forth and try and come up with an answer over weeks, in 
some cases, months, in some cases.
    So I would hope the leadership of our respective bodies, 
and I think they are, are thinking about a mechanism by which 
we get together. It is not going to do any good just to have 
the Secretary negotiating with the House and then try and 
negotiate with the Senate. It seems to me we need a different 
system right now to begin to go through these ideas and put 
together a proposal that may then be adopted by both chambers 
and get us to move along. So I am going to recommend that we 
have some thought to how that can work.
    But again, I think it is extremely important that we work 
together on this. And again, my desire here is to try and come 
up with something that can work. And so on behalf of all of us 
here, we thank you immensely for the time you have spent. It 
has been valuable, I think, for the country and valuable for 
this committee.
    With that, this Committee will stand adjourned.
    [Whereupon, at 2:25 p.m., the hearing was adjourned.]
    [Prepared statements and responses to written questions 
supplied for the record follow:]

[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]


         RESPONSE TO WRITTEN QUESTIONS OF SENATOR REED
                   FROM JAMES B. LOCKHART III

Q.1. Director Lockhart, I was pleased to see your recent 
statement affirming your support for the multifamily lending 
programs of Fannie Mae and Freddie Mac, and your intention not 
to sell the low income housing tax credit interests at either 
institution. As you know, Fannie and Freddie are the single 
most important sources of financing for affordable multifamily 
rental housing, vital to hundreds of thousands of low income 
families across the country. The GSEs provide valuable 
stability to multi-family rental housing by being active in 
this market all the time. Do you agree that this part of the 
enterprises' business is fulfilling their liquidity and 
stability missions, and that you will continue to support their 
financing of this housing, which overwhelmingly serves people 
below 100 percent of area median income, and is a significant 
contributor to Fannie Mae and Freddie Mac's regulatory housing 
goals?

A.1. Yes. Fannie Mae and Freddie Mac historically have provided 
valuable stability to the multifamily market by maintaining a 
regular presence in the financing of such housing, and they 
should continue to do so. Such a presence, however, requires an 
innovative and market-oriented approach that reflects the 
current financial condition of the Enterprises themselves and 
the actual needs of the multifamily market.

Q.2. Given the serious dislocation of the Low Income Tax Credit 
market in the absence of Fannie and Freddie investments, are 
you planning to permit the companies to reopen that business 
line as soon as practicable?

A.2. While we recognize that LIHTC investments have provided 
significant assistance to affordable housing markets in the 
past, new investments in LIHTC are not economically attractive 
for the Enterprises when they are reporting losses. In their 
most recent quarterly financial statements, both Enterprises 
established valuation allowances for their deferred tax assets, 
which are indicative of their potential inability to realize 
future tax benefits associated with LIHTC investments.
    Part of what needs to be done to assist the LIHTC market is 
to broaden participation. Accordingly, FHFA has been working 
very hard with the Enterprises to determine how they can play a 
key role in achieving that goal. That involves the Enterprises 
looking at creative transaction structures, in consultation 
with FHFA, as well as conducting outreach to stakeholders, 
including housing advocates, lenders, and state and local 
housing finance agencies, with the goal of expanding the 
universe of these credits. FHFA's meetings with such groups 
have been regular, extensive, and productive, and are ongoing.

Q.3. Last year HUD declared the regulatory housing goals 
``infeasible'' for both enterprises because of market 
conditions. Since then, Congress has adopted a new approach to 
the calculation and measurement of the companies' housing 
goals, as well as added new ``duties to serve'' specific 
populations and markets. I'm sure you agree that given the 
current market and the companies' situation it is vitally 
important to reaffirm and clarify their housing goals 
requirements. What is your plan to quickly issue new 
regulations to execute these new provisions and ensure that 
both companies have clear direction in meeting these important 
requirements, and to publish clear guidance on what FHFA 
considers to be the important additional ``duties to serve'' 
under the statute?

A.3. Given current market conditions, it is vitally important 
to reaffirm and clarify the Enterprises' requirements with 
respect to housing goals. FHFA has begun the process of 
reviewing housing goals for 2009 and will issue proposed goals 
for public comment in the first quarter of 2009. In addition, 
FHFA has begun the process of implementing regulations to 
establish new housing goals, as well as new ``duty to serve'' 
requirements, for 2010. We expect to issue a proposed 
regulation for public comment by the second quarter of 2009 and 
to issue a final regulation by the fourth quarter.

Q.4. Over the years the GSEs have provided important services 
to populations that are especially hard to serve, such as 
Native Americans living on trust lands, and people with special 
needs. Fannie Mae also has provided lines of credit and equity 
and equity-like investment to community loan funds and 
community development lenders. These investments provide 
community-oriented lenders with more capital to support 
revitalization projects in come of America's hardest hit 
communities. They also have developed products such as 
Community Express and Modernization Express that help public 
agencies finance important public investments in housing. Do 
you agree that these specialized lending products are important 
extensions of their mission to serve low and moderate income 
people and underserved communities, and what role do you 
anticipate these specialized and targeted products will play in 
their future business?

A.4. Specialized and targeting lending products have made a 
significant contribution to the Enterprises' achievement of 
their affordable housing mission. FHFA expects that Fannie Mae 
and Freddie Mac will continue to develop and market such 
products to fulfill that mission in the future, consistent with 
safe and sound management of credit risk and maintenance of 
adequate capital.

Q.5. Much has been said about the GSEs' affordable housing 
mission. Specifically, their mission includes providing 
``ongoing assistance to the secondary market for residential 
mortgages (including activities relating to mortgages on 
housing for low- and moderate-income families involving a 
reasonable economic return that may be less than the return 
earned on other activities) by increasing the liquidity of 
mortgage investments and improving the distribution of 
investment capital available for residential mortgage 
financing.'' (12 Sec. U.S.C. 1716 and 12 U.S.C. Sec. 1451) The 
statute specifically recognizes the need to provide affordable 
housing for low- and moderate-income families. It seems to me 
that the Affordable Housing Fund and the Capital Magnet Fund 
will help ensure that the enterprises fulfill this mission. Do 
you agree? Why or why not?

A.5. Section 1337 of the Federal Housing Enterprises Financial 
Safety and Soundness Act of 1992, as amended, requires each 
Enterprise to set aside an amount equal to 4.2 basis points for 
each dollar of the unpaid principal balance of its total new 
business purchases as funding for the Housing Trust Fund and 
Capital Magnet Fund. Each Enterprise's contributions to those 
funds will further its mission of supporting affordable 
housing. Section 1337 also authorizes FHFA to suspend the 
contributions on a temporary basis. After reviewing the 
Enterprises' 3Q 2008 financial results, FHFA exercised that 
authority on November 13, 2008, by directing each Enterprise, 
until further notice, not to set aside or allocate funds for 
the contributions.

Q.6. Director Lockhart, an article in the September 8, 2008 
Wall Street Journal stated as follows: ``At both Fannie and 
Freddie, so-called Alt-A loans, a category between prime and 
subprime, amounted for roughly 50% of credit losses in the 
second quarter, even though such loans accounted for only about 
10% of the companies' business. Alt-A mortgages include loans 
made with less than full documentation of borrowers' income or 
assets.'' Is it true that a disproportionate share of Fannie 
and Freddie's credit losses are related to mortgage loans that 
were made without anyone checking the borrower's income? If so, 
do you think it would be prudent, especially now that the 
American taxpayer is responsible for insuring loans held by 
Fannie and Freddie, for the FHFA to require that Fannie and 
Freddie purchase only those mortgage loans for which income 
verification has been performed?

A.6. A disproportionate share of each Enterprise's credit 
losses have been on Alternative-A (Alt A) single-family 
mortgages, which are loans made to borrowers who generally have 
limited verification of income or assets or no employer. Fannie 
Mae and Freddie have greatly curtailed their purchases of Alt-A 
and other low documentation loans in 2008. Beginning in 2009, 
neither Enterprise will purchase any such mortgages on a flow 
basis (where loans are delivered pursuant to pre-negotiated 
contracts and pricing). Acquisitions of pools of such loans on 
a negotiated basis will occur only after adequate due diligence 
and with appropriate pricing.

Q.7. As I understand it, part of the strategy of the entire 
mortgage lending crisis is that it would have been so simple to 
verify consumers' incomes. In her April 6, 2008, New York Times 
column, Gretchen Morgenson wrote about the IRS 4506-T form, 
which is a request for tax transcripts, and how lenders could 
have used that form to avoid a considerable part of the 
subprime mortgage mess. According to Morgenson's sources, 
approximately 90 percent of borrowers signed the form, but 
lenders used the form to obtain tax transcripts only 3 to 5 
percent of the time--and usually after the loan had closed. Tax 
transcripts are prepared by the IRS with data contained in tax 
returns, and are therefore unlikely to contain exaggerated 
amounts of income. Given that the 4506-T process is cheap and 
efficient, do you think IRS tax transcripts should be utilized 
to protect the GSEs and therefore the American taxpayer from 
bearing the losses for inappropriate mortgages?
    Another reason for requiring tax transcripts is that they 
provide an easy means for identifying fraud. Section 1379 E of 
the Housing and Economic Recovery Act of 2008 contains the 
following report requirement:

The Director shall require a regulated entity to submit to the 
Director a timely report upon discovery by the regulated entity 
that it has purchased or sold a fraudulent loan or financial 
instrument, or suspects a possible fraud relating to the 
purchase or sale of any loan or financial instrument. The 
Director shall require each regulated entity to establish and 
maintain procedures designed to discover any such transactions.

A.7. The income verification processes at Fannie Mae and 
Freddie Mac have been subject to increased scrutiny by FHFA and 
these processes have tightened considerably. Working with FHFA, 
the Enterprises have explored the use of a variety of tools, 
including IRS forms 4506 and 4506-T, to better verify and 
document borrower income. Considering the pros and cons of 
those various approaches, the Enterprises have decided to 
reduce significantly their purchases of Alt-A mortgages and 
other lower documentation loans in 2009 and beyond.
    Given the volume of loans Fannie Mae and Freddie Mac 
guarantee, it is not operationally feasible for them to 
individually review every loan; instead, they rely on lenders 
to verify borrower income and assets and other necessary 
information. The lenders represent and warrant that mortgages 
are eligible for Enterprise purchase; if an Enterprise 
identifies a misrepresentation, it requires the lender to 
repurchase the questionable loan. Both Fannie Mae and Freddie 
Mac now require lenders to verify borrower income, have 
increased their quality control reviews, and are issuing 
repurchase requests in cases where nonconforming loans are 
identified. Such repurchases discourage poor underwriting 
practices, including the use of unverified income to establish 
borrower eligibility.

Q.8. The FDIC's summer 2007 issue of Supervisory Insights cites 
an April 2006 Mortgage Asset Research Institute report for the 
fact that ``90 percent of stated incomes [on mortgage loan 
application] were exaggerated by 5 percent or more, and 60 
percent of stated incomes were inflated by more than 50 
percent.'' Given these statistics, do you plan to institute, as 
part of your anti-fraud program, a rule requiring Fannie and 
Freddie to purchase, re-sell, or otherwise back only loans for 
which income verification has been executed and what method 
will you recommend for verification?

A.8. Fannie Mae and Freddie Mac are subject to a mortgage fraud 
reporting regulation promulgated by the Office of Federal 
Housing Enterprise Oversight (OFHEO), one of the predecessor 
agencies to FHFA, as set forth in Title 12, Chapter 17, Part 
1731 of the Code of Federal Regulations (CFR). That regulation 
requires each Enterprise to establish adequate and efficient 
internal controls and procedures and an operational training 
program to assure an effective system to detect and report 
mortgage fraud or possible mortgage fraud. The regulation 
defines mortgage fraud broadly in order to give the Enterprises 
the flexibility to adapt their internal controls and procedures 
to fraudulent practices that may emerge over time within the 
industry. FHFA's ongoing examinations include evaluations of 
the extent to which the internal policies, procedures, and 
training programs of the Enterprises minimize risks from 
mortgage fraud and mortgage fraud or possible mortgage fraud is 
consistently reported to FHFA.
    Fannie Mae and Freddie Mac have also increased quality 
control reviews to identify cases of exaggerated income. The 
Enterprises are actively requiring lenders to repurchase such 
loans. As mentioned in the previous answer, working with FHFA 
the Enterprises have decided to significantly reduce the use of 
stated income going forward. Any change to that standard will 
also require a safety-and-soundness review by FHFA.

Q.9. The 4506-T process for IRS tax transcripts has a proven 
track recorded and is currently being utilized by the FDIC in 
their efforts to modify loans as the conservator for IndyMac. 
In Housing and Economic Recovery Act of 2008, Congress enacted 
a requirement pursuant to the HOPE for Homeowners Program that 
mortgagors' income be checked via tax transcripts or tax 
returns. In the Bankruptcy Reform Act of 2005, Congress 
provided debtors the option of producing a transcript of their 
tax returns via a 4506-T form in lieu of providing their actual 
tax returns to the court. This was to provide consumers 
additional privacy protections as well as speed of service. 
And, as Housing and Urban Development Secretary Preston well 
knows because he used to be the Administration of the Small 
Business Administration, the SBA requires a 4506-T form for its 
loan applications. Given that this process has been adopted and 
recognized so pervasively, do you see any reason that Fannie 
and Freddie should not require its use for the loans they 
purchase, re-sell, or otherwise deal with?

A.9. As indicated above, Fannie Mae and Freddie Mac have 
decided to reduce significantly the use of stated income loans 
going forward. The Enterprises give lenders several options for 
verifying income, including using tax records for self-employed 
individuals. Enterprise lenders use forms 4506 and 4506-T to 
obtain borrower permission to request tax transcripts from the 
IRS.
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