[Senate Hearing 111-32]
[From the U.S. Government Publishing Office]
S. Hrg. 111-32
NOMINATIONS OF: MARY SCHAPIRO,
CHRISTINA D. ROMER, AUSTAN D. GOOLSBEE,
CECILIA E. ROUSE, AND DANIEL K. TARULLO
=======================================================================
HEARING
before the
COMMITTEE ON
BANKING,HOUSING,AND URBAN AFFAIRS
UNITED STATES SENATE
ONE HUNDRED ELEVENTH CONGRESS
FIRST SESSION
ON
nominations of:
Mary Schapiro, of New York, Chairman-Designate,
Securities and Exchange Commission
__________
Christina D. Romer, of California, Chairman-Designate,
Council of Economic Advisors
__________
Austan D. Goolsbee, of Illinois, Member-Designate,
Council of Economic Advisors
__________
Cecilia E. Rouse, of New Jersey, Member-Designate,
Council of Economic Advisors
__________
Daniel K. Tarullo, of Maryland, Member-Designate,
Board of Governors of the Federal Reserve System
__________
JANUARY 15, 2009
__________
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 JIM BUNNING, Kentucky
EVAN BAYH, Indiana MIKE CRAPO, Idaho
ROBERT MENENDEZ, New Jersey MEL MARTINEZ, Florida
DANIEL K. AKAKA, Hawaii BOB CORKER, Tennessee
SHERROD BROWN, Ohio JIM DeMINT, South Carolina
JON TESTER, Montana DAVID VITTER, Louisiana
HERB KOHL, Wisconsin MIKE JOHANNS, Nebraska
MARK R. WARNER, Virginia KAY BAILEY HUTCHISON, Texas
JEFF MERKLEY, Oregon
MICHAEL F. BENNET, Colorado
Colin McGinnis, Acting Staff Director
William D. Duhnke, Republican Staff Director
Aaron Klein, Legislative Assistant
Dean V. Shahinian, Legislative Assistant
Joe Hepp, Legislative Assistant
Drew Colbert, Legislative Assistant
Lisa Frumin, Legislative Assistant
Kate Szostak, Legislative Assistant
Didem Nisanci, Legislative Assistant
Dan Schneiderman, Legislative Assistant
David Stoopler, Legislative Assistant
Emma Palmer, Legislative Assistant
Matthew Pippin, Legislative Assistant
Jason Rosenberg, Legislative Assistant
Jonathan Davidson, Legislative Assistant
Rob Lee, Legislative Fellow
Mark F. Oesterle, Republican Counsel
Peggy R. Kuhn, Republican Legislative Assistant
Mark A. Calabria, Republican Legislative Assistant
Jonathan Graffeo, Legislative Assistant
Brandon Barford, Republican Legislative Assistant
Mike Nielsen, Republican Legislative Assistant
Courtney Geduldig, Republican Legislative Assistant
John Hallmark, Republican Legislative Assistant
Dawn Ratliff, Chief Clerk
Devin Hartley, Hearing Clerk
Shelvin Simmons, IT Director
Jim Crowell, Editor
(ii)
C O N T E N T S
----------
THURSDAY, JANUARY 15, 2009
Page
Opening statement of Chairman Dodd............................... 1
Opening statements, comments, or prepared statements of:
Senator Shelby............................................... 5
Senator Johnson
Prepared statement....................................... 64
Senator Reed................................................. 7
Senator Schumer.............................................. 7
Senator Menendez............................................. 9
Introduction of Nominee Cecilia E. Rouse................. 33
Senator Tester............................................... 10
Prepared statement....................................... 64
Senator Enzi................................................. 10
Prepared statement....................................... 64
Senator Warner............................................... 11
Senator Bennett.............................................. 11
Senator Akaka................................................ 30
WITNESSES
Richard Durbin, a U.S. Senator from the State of Illinois........ 34
Barbara Boxer, a U.S. Senator from the State of California....... 36
NOMINEES
Mary Schapiro, of New York, Chairman-Designate, Securities and
Exchange Commission............................................ 12
Prepared statement........................................... 66
Response to written questions of:
Senator Dodd............................................. 71
Senator Shelby........................................... 76
Senator Johnson.......................................... 83
Senator Bennett.......................................... 84
Senator Crapo............................................ 84
Senator Levin............................................ 86
Christina D. Romer, of California, Chairman-Designate, Council of
Economic Advisors.............................................. 39
Prepared statement........................................... 67
Response to written questions of:
Senator Johnson.......................................... 92
Austan D. Goolsbee, of Illinois, Member-Designate, Council of
Economic
Advisors....................................................... 40
Prepared statement........................................... 68
Response to written questions of:
Senator Johnson.......................................... 94
Cecilia E. Rouse, of New Jersey, Member-Designate, Council of
Economic Advisors.............................................. 41
Prepared statement........................................... 69
Response to written questions of:
Senator Johnson.......................................... 95
Daniel K. Tarullo, of Maryland, Member-Designate, Board of
Governors of the Federal Reserve System........................ 42
Prepared statement........................................... 70
Response to written questions of:
Senator Dodd............................................. 96
Senator Johnson.......................................... 101
Additional Material Supplied for the Record
Dianne Feinstein, a U.S. Senator from the State of California.... 103
NOMINATIONS OF:
MARY SCHAPIRO, OF NEW YORK,
CHAIRMAN-DESIGNATE,
SECURITIES AND EXCHANGE COMMISSION;
CHRISTINA D. ROMER, OF CALIFORNIA,
CHAIRMAN-DESIGNATE,
COUNCIL OF ECONOMIC ADVISORS;
AUSTAN D. GOOLSBEE, OF ILLINOIS,
MEMBER-DESIGNATE,
COUNCIL OF ECONOMIC ADVISORS;
CECILIA E. ROUSE, OF NEW JERSEY,
MEMBER-DESIGNATE,
COUNCIL OF ECONOMIC ADVISORS;
DANIEL K. TARULLO, OF MARYLAND,
MEMBER-DESIGNATE,
BOARD OF GOVERNORS OF THE
FEDERAL RESERVE SYSTEM
----------
THURSDAY, JANUARY 15, 2009
U.S. Senate,
Committee on Banking, Housing, and Urban Affairs,
Washington, DC.
The Committee met at 10 a.m., in room SD-538, Dirksen
Senate Office Building, Senator Christopher J. Dodd (Chairman
of the Committee) presiding.
OPENING STATEMENT OF CHAIRMAN CHRISTOPHER J. DODD
Chairman Dodd. The Committee will come to order, if we may.
We have got a very busy morning this morning.
Let me first of all welcome all of my colleagues who are
here. I want to make a particular warm welcome to Mark Warner,
our new colleague who is here this morning, our new Senator
from the State of Virginia. Connecticut claims him a little
bit, as well, having grown up a bit there, so I have known Mark
many, many years and he is going to be a wonderful addition to
the U.S. Senate and we are thrilled that you are a Member of
this Committee. I gather that Senator Kohl is going to be
joining us, and I think Senator Bennet, the new Senator from
Colorado, will be joining us, as well, on this Committee.
We appreciate the tremendous work of Bob Casey and Tom
Carper, who are going to other committee assignments, but they
were wonderful Members of this Committee and I want to publicly
thank them for their service over the last 2 years that I have
had the privilege of chairing the Committee.
I want to thank Richard Shelby again. We have known each
other a long time, have served together for many, many years.
It has been a good relationship over these last years. We got a
lot done on this Committee and I am looking forward to this
Congress. We are obviously going to be a very busy Committee,
to put it mildly, with all the issues in front of us. I enjoyed
immensely the cooperation that I had from Senator Shelby and
the members of the minority side, as well, Bob Corker here on
numerous occasions. I drew him into situations he probably had
some second thoughts about, but he was a great member and a
real complement to the efforts we are making here.
Today, we have a busy agenda----
Senator Shelby. Mr. Chairman, you weren't going to tell
them how many years together we have been here----
Chairman Dodd. I wasn't going to tell them that.
Senator Shelby. No, not together.
Chairman Dodd. Many years.
The way I am going to proceed is I am going to make an
opening statement regarding our nominees, turn to Senator
Shelby for any opening statements he would care to make, and
then I am going to turn to my colleagues who are here to
introduce our witnesses this morning, and, of course, several
of our colleagues are also Members of this Committee. So we
will try and move along as quickly as we can here with these
nominations.
So this morning, we meet to consider five very
distinguished individuals President-elect Obama has designated
for nomination to the Securities and Exchange Commission, to
the Federal Reserve, and to the President's Council of Economic
Advisors, positions critical to restoring confidence in our
financial system and stabilizing our underlying economy. I want
to thank each of the nominees who are here today for appearing
before this Committee and for their willingness to accept the
job that you are going to undertake.
Almost every day, we hear more troubling economic news,
including the loss of more than a half-a-million jobs in our
country in December, that some 9,000 to 10,000 homes are
entering foreclosure each and every day in our Nation, or the
prospect of another small business facing bankruptcy because of
a combination of falling sales and lack of access to adequate
credit. And so you arrive as nominees before this Committee at
a very, very critical moment in our Nation's history.
On the first panel, we will hear from the Chairman-
designate for the U.S. Securities and Exchange Commission. The
securities markets consist of trillions of dollars worth of
stocks, options, municipal bonds, corporation bonds, mortgage-
backed and asset-backed securities, and other securities. Half
of American families--half of our families in this country are
invested directly or indirectly in the securities markets. They
invest for retirement, for college education and tuition. Many
small businesses rely on securities markets to raise capital to
expand their businesses and to make payroll. And the role these
markets play in the world's capital markets obviously is
critical, as we all understand.
Given the correlation of the health of securities markets
to our Nation's economic stability, the Securities and Exchange
Commission is an extremely important institution, to put it
mildly. It oversees sales of securities, markets, mutual funds,
investment advisors, credit rating agencies, and accounting
principles. It coordinates with securities regulators
throughout the 50 States, as well.
But perhaps most importantly, it is designed to protect
investors. As former Chairman William Douglas said, ``The SEC
is supposed to be the investor's advocate,'' to quote him,
``responsible for ensuring that a family or a small business
investing its hard-earned money can trust that the cops are on
the beat and doing their job well.''
But as we all know, the securities markets are in turmoil.
Mortgage-backed securities markets have cratered and literally
billions of dollars have been lost. Major investment banks who
contributed mightily to our financial problems have now been
forced to either become bank holding companies or fail
altogether. The charities and investors who entrusted their
money in Bernard Madoff Investment, LLC, lost billions of
dollars in a massive Ponzi scheme that went undetected by the
examiners of the SEC and FINRA, not for years, but for decades.
How did that happen, and who was responsible for that?
In the last 8 months, stocks have plummeted. Since last
May, the Dow Jones and NASDAQ averages are down by about 40
percent, damaging the retirement savings and pension funds of
millions of Americans, pounding endowments for universities and
nonprofits, and endangering critical financing for small
businesses and entrepreneurs.
Quite simply, these failures have undermined our economy,
and understandably, there has been an erosion of confidence in
the regulators. People have questioned the SEC's ability to
spot problems or prevent them from occurring in the first
place. After years of misleading sales pitches and credit
ratings that proved to be wildly optimistic, many have
completely lost faith in mortgage-backed securities.
As Columbia University's John Coffee has said, and I quote
him, ``It is time to find a tough cop for the Wall Street beat,
someone who will restore confidence not only in the integrity
of the market, but also in its regulators.''
There are a host of specific issues the Commission must
examine in the coming weeks and months, from accounting and
securitization, to credit default swaps, credit rating
agencies, short selling, to the Madoff fraud, on which this
Committee, by the way, will be scheduling a hearing on January
27. And it is absolutely critical that the Chairman and
Commissioners make an extraordinary effort to pursue these
issues fairly and independently, free from political
considerations and from the industries which formerly employed
them. That has always been true, but it is particularly true in
these days.
The Committee also considers, or will consider the
nomination of one of the Federal Reserve Board Governors, which
is among the most important positions that we consider in this
Committee. In establishing the Federal Reserve, the Congress
created a system in which the Fed Governor's seat has a fixed
14-year term. Governors at the Fed enjoy the third-longest term
given to any appointee in the Federal Government, behind only
the lifetime appointments awarded to judges and a 15-year term
given to the Comptroller General. As such, a nominee to the
Federal Reserve Board Governors requires careful deliberation
and thoughtful consideration.
The seven Fed Governors are the only individuals appointed
by the President of the United States and confirmed by the U.S.
Senate who have a voice in our Nation's monetary policy,
entrusted to fulfill the Fed's dual mandate of promoting
maximum employment and achieving price stability. They play a
very critical role, as we all know, in creating the conditions
necessary for our economy to grow and for every American to
have the opportunity to share in that prosperity.
While the role of the Fed is critical to setting monetary
policy, I would also add it serves as a regulator of the safety
and soundness of our largest lending institutions, and very
significantly as a regulator and enforcer of the laws passed by
the U.S. Congress to protect consumers. These aspects are no
less important than the Fed's monetary policy responsibilities.
Chairman Bernanke has, in my opinion, been very forthright
and active in identifying that the problems in the housing
market are at the root of our economic crisis, and I thank him,
quite candidly, for his continued calls for concrete action,
such as he did last week in a national given speech.
However, not all of the Federal Reserve Governors have been
as helpful. Indeed, when I asked Governor Duke at a hearing in
October what the Fed was doing to comply with the law to
prevent foreclosures on mortgages that the Fed effectively owns
through the Bear Stearns bailout, it took Governor Duke 3
months to respond, and then only half-heartedly. That is
unacceptable.
It is my hope that Dan Tarullo will both be more
responsive, but also if confirmed, help steer the Fed on a
better course so critical during these tough economic times.
On the second panel, we will also have the nominees who
will, if confirmed, comprise the President's Council of
Economic Advisors. These men and women will be responsible for
providing the President and the administration with the facts,
economic projections, and recommendations that will guide the
administration policy and thinking in the coming days. That job
has never been more critical than it is today, given the severe
recession that we are battling and the unprecedented crisis
that has gripped our Nation's credit and financial markets.
The good news is that help is truly, in my view, on the
way. The President-elect has laid out a bold plan to revive our
economy by cutting taxes for middle-class Americans and
investing in our Nation's infrastructure, which is something
that I, along with many of my colleagues on this Committee,
have long advocated.
The President-elect has also stated that he will make
fundamental changes to the administration of the TARP program
and take it in a sharply different direction. That is why I am
supporting the release of the second tranche of TARP funds,
although I have been extremely disappointed, as most of my
colleagues have been, in the way that the present
administration has implemented the TARP program. Given the
fragile state of our financial system, halting this program
would, in my view, be the height of irresponsibility.
I am sure that we will have an opportunity to discuss these
and other issues with the distinguished CEA nominees on our
second panel. I and others will introduce them individually at
that time, and again, I thank my colleagues who are here to do
so.
But this is a critical moment, as we all know, in our
Nation's history, and if we are to reestablish confidence in
our financial system, then we must do so by looking out for the
interests of the American people, their families, small
businesses, and others who have been caught by this credit
crunch. I know that each of the nominees share these
priorities, and if confirmed, I know all of us look forward to
working very closely with you to see to it that we achieve the
results we all desire.
And now, I would like to turn to my colleague from Alabama,
the former Chairman of the Committee, Senator Shelby, for any
comments he would care to make.
STATEMENT OF SENATOR RICHARD C. SHELBY
Senator Shelby. Thank you, Chairman Dodd.
Ms. Schapiro, as a veteran of the SEC, CFTC, and a self-
regulatory organization, you would bring solid experience to
the table during a time of economic and regulatory uncertainty,
perhaps turmoil. Unfortunately, as the SEC celebrates its 75th
year, it finds itself, as Senator Dodd alluded to, under fire
for a number of regulatory failures. These failures are not
isolated. They cut across the agency's many functions and have
had serious consequences, ranging from judicial invalidation of
SEC rules to the complete collapse of an entire class of
regulated entities.
The Consolidated Supervised Entity Program, which you are
familiar with, a program that I had called into question in
this Committee, was unceremoniously terminated, as all of the
participating firms failed, were merged out of existence, or
switched to bank holding company status outside of the SEC's
regulatory purview.
Likewise, the SEC's handling of credit rating agencies
contributed to the subprime frenzy that is at the root of the
current economic crisis. Careless rating practices, which were
a byproduct of the SEC's ill-considered approach, have wrought
havoc on our financial system. I attempted to address this
situation in 2006 here in this Committee with the Credit Rating
Agency Reform Act, but the SEC's resulting rule changes came
too late.
Most recently, as Senator Dodd mentioned, the Madoff fraud
has once again highlighted weaknesses in the SEC's inspections
and enforcement functions. Improvements in both programs will
be necessary, if not imperative, to ensure that the SEC
fulfills its investor protection mandate.
While it is not realistic to think that every fraud will be
detected, investors have a right to ask, and I think this
Committee has a responsibility to determine, whether the SEC
has had its inspection and enforcement priorities wrong. This
is an effort that you, as chairperson of the Commission, will
have to undertake, as well, should you be confirmed.
The next chairman of the SEC faces a difficult task, as you
know, of undertaking considerable reform of the agency at a
time of great instability, but this challenge must be met head-
on and undertaken immediately. If the SEC does not increase its
effectiveness in protecting investors, maintaining fair,
orderly, and efficient markets, and facilitating capital
formation, the whole economy will continue to suffer.
At the same time, Congress will have to tackle the critical
and far more significant issue of how to reform the entire
financial regulatory structure. The SEC's place in that
reformation is not yet clear. Will the SEC remain in its
current form with its current responsibilities? Will it be
merged with the CFTC? Alternatively, will the SEC be eliminated
and its functions parceled out to other existing or new
agencies, as others have suggested? I believe the severity of
this current financial crisis demands the consideration of all
options.
I hope you agree that the integrity of our financial system
is paramount and trumps the interest of any individual, agency,
or group. If that is the case, I believe we will have the basis
for a productive working relationship as we begin what could be
the most significant financial reform effort since 1932.
Our second panel, as Senator Dodd has already mentioned,
includes four individuals, one nominee to serve on the Board of
Governors of the Federal Reserve System and three nominees
slated to serve on the President's Council of Economic
Advisors.
Professor Tarullo and his work on banking regulation are
well known to this Committee. He has testified here many times,
and he has testified before the Committee on the Basel II
process that you will all recall. Chairman Dodd and I have long
expressed great skepticism regarding Basel II, as did his
predecessor, Senator Sarbanes. The events of the past year have
confirmed the need for greater scrutiny over bank capital
requirements. It is clear that existing capital requirements do
not adequately guard against a systemic crisis. It is also
clear that Basel II-like standards, which depend on internal
models using incomplete assumptions, also fail us. I will be
very interested in hearing, Professor Tarullo, your views
regarding the future of capital requirements and other
regulatory reforms.
I will also welcome the other three nominees who will
appear on the second panel. They have been nominated, as I
mentioned, to serve on the President's Council of Economic
Advisors, Dr. Rouse, Dr. Goolsbee, and Dr. Romer, who if
confirmed will serve as chairman. The Council provides, as you
well know, the President with economic analysis and advice on
the entire range of domestic and international policy issues.
Because each nominee here brings specific expertise in the
insights to the Council, I will be very interested in the
second panel to hear what they recommend and how their views
comport with their economic philosophies and writings. Dr.
Romer, as a scholar of the Great Depression, your views will be
of particular interest at this time.
I thank all the nominees for their willingness to serve and
to appear before this Committee this morning and I look forward
to a broad range of discussion.
Thank you, Mr. Chairman.
Chairman Dodd. Thank you very much, Senator.
Let me welcome our two Members of this Committee, Senator
Reed and Senator Schumer, for purposes of introduction of our
nominee. Jack.
STATEMENT OF SENATOR JACK REED
Senator Reed. Well, thank you very much, Mr. Chairman and
Senator Shelby. You both have laid out daunting challenges that
face the Securities and Exchange Commission and I feel
extraordinarily confident that Mary Schapiro will meet those
challenges based on her experience, based on her intelligence,
based on her integrity.
As you both indicated, she has an extraordinary range of
experience, having served on the Securities and Exchange
Commission and the Commodities Futures Trading Commission, and
recently as the head of FINRA. She brings this experience to
the SEC at a time of great challenge, a time in which morale is
low, budgets are inadequate, and there has been, I think, a
handcuffing of their enforcement activities over the last
several years.
I know that Mary Schapiro is committed to restoring
investor protection as the hallmark of the SEC. I know she is
going to vigorously enforce the laws to protect consumers and
investors. And she will bring to this great task, as I said
before, insight, integrity, and intelligence. I am just
delighted to be able to be here today to commend her to you and
ask for her swift confirmation so that she can get on with the
task not only of restoring the ability of the SEC, but also
this great task of transformation of the regulatory structure,
not just domestically, but internationally.
Once again, I can't think of anyone more prepared to do
this than Mary Schapiro and I commend her to you with
enthusiasm.
Chairman Dodd. Thank you very much, Senator.
Senator Schumer.
STATEMENT OF SENATOR CHARLES E. SCHUMER
Senator Schumer. Thank you, Mr. Chairman, Ranking Member
Shelby, all the Members of the Committee.
I, too, congratulate Ms. Schapiro on her nomination to
serve this country as Chairman of the SEC. When we met last
week, I was very impressed by not only your broad and deep
knowledge of the securities industry, which I expected, but
your clear recognition of the problems that the financial
markets in the entire country are presently facing.
We need a much stronger regulator than we have had in the
recent past, and I believe by temperament, inclination, and
experience, you can become that much-needed stronger regulator.
You come here with a long background in securities regulation,
with experience leading many of the major institutions that
make up our capital market's regulatory system. The trick is
for you to turn that experience into a regulatory tool box that
you can use to rein in the perilous excesses of the industry
while still preserving the entrepreneurial vigor that is the
hallmark of a free market.
In other words, you know the world of securities regulation
as well as anyone out there, and unfortunately, you will need
every drop of this knowledge to succeed in your new position,
because we now face a financial crisis as enormous as we have
ever seen in our lifetimes, and the sad truth is that this
crisis was caused in good part by the failures of your
predecessors at the SEC.
Under the radical laissez-faire ideology of recent
regulators, we saw explosive growth in precisely those areas
which were unregulated or under-regulated by the SEC.
Investment banks were allowed to accumulate enormous amounts of
risk. Credit derivatives mushroomed to over $60 trillion in
value. The hedge fund industry saw tremendous growth without
any transparency. And the credit rating agencies grew, as well,
as firms issued thousands of undeserved AAA ratings that made
everyone all too comfortable that these unregulated investments
were safe and sound.
Despite all these problems, I believe the SEC has retained
a strong fundamental ability to be a sound regulator with the
right leadership. Does it need major reforms? Absolutely, and I
think in your testimony you show that your priorities are in
the right place.
First, the SEC needs a stronger emphasis on finding and
preventing fraud by bolstering its inspection and examination
process. The only way the SEC is going to find crooks is if it
is actively looking for them. The SEC should also follow
through on former Chairman Donaldson's initiative to have an
Office of Risk Assessment. We need to update the SEC's tools to
catch fraud as it is happening by ensuring that it has the
resources and expertise it needs. This office would help the
SEC triage its cases and focus on those it determines pose the
greatest risk.
Second, I would say, in all due parochialism, these
preventative efforts should be based out of New York City, as
we have talked about. It makes no sense to have inspectors,
examiners, and risk assessors headquartered in
Washington, DC, when all the activity they need to be
monitoring occurs on Wall Street. At the same time, moving
these functions to New York will improve the SEC's ability to
hire top professionals with the skills and experience to
unearth fraud.
Third, we must have regulatory reform to ensure that there
are no more unregulated pockets that might pose systemic risk
to our system. In times of crisis, our financial regulators
should not be playing whack-a-mole, facing unexpected threats
from unregulated areas that pop up every time they have dealt
with one crisis. Instead, they must function more like doctors.
They must be strong, always watchful, always independent
regulators that can snuff out problems before they grow
dangerous to the system as a whole.
We must start by bringing unregulated derivatives into the
fold. The Fed, SEC, and CFTC have to collaborate further on
regulatory oversight of clearinghouses. That is something I
applaud, but we have to be vigilant in ensuring strong
regulation of these entities and make sure clearinghouses have
a presence in the United States, where they will be subject to
the full oversight of our agencies. As we speak, the European
Commission is debating a policy that would mandate exclusive
European clearing of certain derivatives. This kind of
protectionist policy has no place in the modern world and I am
strongly urging you at all levels to vigorously resist this
power grab by the EC.
Finally, we need to improve our regulatory scheme for
rating agencies. The main problem with these actors was that
they were inherently conflicted. You can't expect to provide
unbiased ratings if people paying the salaries are the ones you
are rating. We would never consider allowing students to pay
for their grades. Why have we let our banks do essentially the
same thing? We need to find a way to promote or even require
alternative funding schemes, such as an investor-funded model,
which I have been trying to figure out the best way to do that
and I hope you will work with the Committee on that issue.
In short, Ms. Schapiro, you face a daunting task ahead of
you. Major changes in so many areas are necessary, and you will
be the one leading the charge. I believe you have the right
experience, the right approach to successfully reform the SEC
and restore the reputation of our capital markets as the best
and safest in the world.
Thank you, Mr. Chairman.
Chairman Dodd. Thank you, Senator Schumer, very much for a
very good, comprehensive introduction, and we thank you for
that.
I am going to now ask my colleagues if they have any
opening comments they would like to make. I will ask you, if
you have prepared statements, maybe to include them in the
record and keep it relatively brief, given the amount of work
we have this morning.
Senator Menendez.
STATEMENT OF SENATOR ROBERT MENENDEZ
Senator Menendez. Thank you, Mr. Chairman. I think this
nomination hearing is one of the most important this Committee
will hold. We cannot solve the Nation's economic challenges if
we do not have the ability to have investor confidence,
transparency, and integrity in the marketplace, and that is why
this nomination is so critical.
The Securities and Exchange Commission has broken down and
it is unclear if it simply needs gas or a whole new engine.
Either way, something is seriously wrong. The engine light is
flashing and we can't afford to put it off one more day.
So I am looking forward to Ms. Schapiro's testimony. The
SEC is in dire need of a strong leader who is not afraid to
make drastic changes and tough decisions. Simply moving the
paperwork from the in-box to the out-box like we have seen for
the last few years is not going to cut it. We need a strong
regulator who is willing to go in there and do what is
necessary to get this agency back on track.
The SEC should be, and it used to be, about providing
protections for our investors and our markets. The mission
statement couldn't be more clear, to protect investors,
maintain fair, orderly, efficient markets, and facilitate
capital formation. But the plaque bearing this motto must have
been put in storage because none of these objectives are
currently being met.
Madoff may have gotten the most attention recently, but
this really is just the tip of the iceberg. Our current
economic crisis is in no small part due to the failure of the
SEC. A fundamental lack of scrutiny, oversight, and
enforcement, fueled by blind ideology, contributed greatly to
the conditions under which homeowners, consumers, and investors
have been hit hard.
Mr. Chairman, the SEC is supposed to be the cop on the
beat, but it seems to have been off duty for the past few
years. Without a tough hand, without real oversight and
accountability, this agency, like the TARP funding, cannot meet
its objectives.
So, Ms. Schapiro, I want to hear from you that you are
willing to take no prisoners and question everything about the
way the industry does business and the way the government
regulates it. I think that is going to be critical to get us
out of the economic challenges we face and I look forward, Mr.
Chairman, to hearing Ms. Schapiro's remarks and I ask that the
rest of my statement be included in the record.
Chairman Dodd. Thank you, Senator. It will be. All members'
statements will be included.
Senator Corker.
Senator Corker. Yes, sir. I am looking forward to the
testimony and thank you for having the hearing.
Chairman Dodd. Thank you very much.
Senator Tester.
STATEMENT OF SENATOR JON TESTER
Senator Tester. Thank you, Mr. Chairman. Thank you, Senator
Shelby, for having this.
Mary Schapiro, as has been said already here today, you
come into a time where conditions are bleak and a situation
where we have had limited regulation at best, a time where it
seems like every week there was another titan that was going
down and we had a lot of questions and very, very, very few
answers to what has transpired.
All I can tell you is what you already know, and that is
that we need to reinsert confidence back into the system, into
the marketplace. You are going to play a critical role in doing
that. I think you have the skills to get that done, but it is
going to take a lot of work and it is going to take a lot of
good people working with you. I wish you the best and I hope
for a quick confirmation.
I would ask that the rest of my statement be put in the
record.
Chairman Dodd. It will be included.
Senator Enzi.
STATEMENT OF SENATOR MICHAEL B. ENZI
Senator Enzi. Mr. Chairman, I would ask that my complete
statement be put in the record.
I am extremely interested in what happened in the Bernie
Madoff case. I know that some mention has already been made of
how that is an SEC problem, so I will be interested in how
similar situations like that can be prevented in the future,
but I would also like to hear how with Ms. Schapiro's
experience as a regulator with both NASD and the Financial
Industry Regulatory Authority, how they missed that scam when
so many on Wall Street seemed to know about it. I am also
interested in hearing your opinions about the credit rating
agency registration system, because we have been working on a
bill to take care of that. I will have some questions with the
second panel, as well, but I will reserve it for questions.
Chairman Dodd. Thank you. It will be in the record.
Senator Warner, welcome.
STATEMENT OF SENATOR MARK R. WARNER
Senator Warner. Thank you, Mr. Chairman. I just want to
very briefly say I am really looking forward to working with
you and Ranking Member Shelby and all the Members of the
Committee. This is my first hearing, so I will keep it brief,
other than the fact that in a prior life, I did spend many
years from the financial side interacting with the SEC, so I
have got a lot of questions and ideas that I will reserve for
question time.
But thank you and I am looking forward to working with you.
Chairman Dodd. Thank you very much.
Senator Bennett.
STATEMENT OF SENATOR ROBERT F. BENNETT
Senator Bennett. Thank you very much, Mr. Chairman.
I don't have any pearls of wisdom other than to reflect on
some of the comments that have been made that sounds like the
entire solution to all of our economic problems are now lying
on the doorstep of Mary Schapiro. I don't think that is true. I
don't think the SEC is solely responsible for our difficulties,
nor do I expect her to individually solve them all.
But I enjoyed my visit with her when she came by. I think
she is very well qualified for this position and appreciate the
prompt calling of a confirmation hearing. I intend to support
her nomination.
Chairman Dodd. Well, thank you very much, Senator.
Let me just say that if other colleagues arrive to
introduce some of the nominees we have forthcoming, I will
probably interrupt the hearing in order to accommodate them,
but that is not being the case right now, so Ms. Schapiro, what
I would like to do is have you stand and I would like you to
swear or affirm your presence here this morning. Raise your
right hand.
Do you swear or affirm that the testimony that you are
about to give is the truth, the whole truth, and nothing but
the truth, so help you, God?
Ms. Schapiro. I do.
Chairman Dodd. And do you agree to appear and testify
before any duly constituted Committee of the U.S. Senate?
Ms. Schapiro. I do.
Chairman Dodd. Welcome. It is nice to have you with us.
Before we hear your statement, I think I noticed some people
behind you who might be members of your family, or some
geniuses in the securities area here, maybe both. Do you want
to introduce them?
Ms. Schapiro. I would be happy to. Thank you, Senator. My
daughter, Molly Cadwell, my daughter, Anna Cadwell, and my
husband, Chas Cadwell.
Chairman Dodd. Welcome. We are delighted to have you with
us here today. Are you missing school today, are you, for this?
[Laughter.]
Senator Shelby. Oh, yes. They are smiling.
Chairman Dodd. So the longer the hearing goes, the less
time you have to go to school? Is that how it works?
[Laughter.]
Ms. Schapiro. There is a certain math test that is being
avoided today.
Chairman Dodd. All right.
Senator Shelby. Postponed, maybe.
Ms. Schapiro. Postponed.
Chairman Dodd. Well, we are delighted to have you here, and
as we have all said here, I don't think any of us expect you to
answer all of the issues that face our country, but it is a
critical position. I think you know that and our conversations
reflect that, so I am anxious to hear your statement and then
engage in some conversation about where we are.
STATEMENT OF MARY SCHAPIRO, OF NEW YORK,
CHAIRMAN-DESIGNATE, SECURITIES AND EXCHANGE COMMISSION
Ms. Schapiro. Thank you very much, Mr. Chairman. Senator
Shelby, Chairman Dodd, and Members of the Committee, it is an
honor to appear before you today as President-elect Obama's
nominee to serve as Chairman of the Securities and Exchange
Commission. I also want to thank Senators Schumer and Reed for
their very kind introductions, and all the Members of the
Committee and your staff, who have been so generous with their
time and advice during this confirmation process.
As Senator Schumer mentioned, I grew up in New York, a
short train ride from Manhattan but miles away from Wall
Street. My father was a printer, my mother a librarian. Like
millions of families, my parents worked hard to save enough to
buy a home, send their children to college, and have a secure
retirement. They taught my siblings and me right from wrong and
that we could get ahead by working hard and playing by the
rules. And perhaps that why I have spent my career at the SEC,
the CFTC, and most recently FINRA committed to building a
financial regulatory system that protects investors and
supports and strengthens free and fair markets.
We cannot underestimate the situation we are now in. The
credit markets have collapsed. Trillions of dollars of wealth
have been lost. Our economy is in recession and investor
confidence has been badly shaken. Middle-class families who
were relying on that nest egg to send a son or a daughter to
college or for a secure retirement don't know where to turn.
There are many reasons for this crisis and one of them is that
our regulatory system has not kept pace with the markets and
the needs of investors.
It is precisely during times like these that we need an SEC
that is the investors' advocate, that has the staff, the will,
and the resources necessary to move with great urgency to bring
transparency and accountability to all corners of the
marketplace, to vigorously prosecute those who have broken the
law and cheated investors, and to modernize our country's
regulatory system to match the realities of today's global,
interdependent markets.
These urgent responsibilities would fill any agenda, Mr.
Chairman, but allow me to highlight a few of my top priorities.
First and foremost, if confirmed as Chairman, I will move
aggressively to reinvigorate enforcement at the SEC. With
investor confidence so shaken, it is imperative that the SEC be
given the resources and the support it needs to investigate and
go after those who cut corners, cheat investors, and break the
law.
As the first SEC Chairman, Joseph Kennedy, told the Nation
75 years ago in explaining this new agency's role, quote, ``The
Commission will make war without quarter on any who sell
securities by fraud or misrepresentation.'' I look forward to
working closely with you and Members of the Committee to ensure
the SEC has the capability to fulfill this critical mission as
well as to perform all of its other important duties.
Second, I want to reengage the SEC with the people we
serve, namely investors. The investor community, from the
largest pension fund to the family who has scrimped and saved
in their 401(k) or 529 plan, needs to feel they have someone on
their side, that they can go to the SEC for advice, to seek
redress, or to have their opinions heard.
Third, as I work to deepen the SEC's commitment to investor
protection, transparency, accountability, and disclosure, I
also want to ensure these commitments are preserved in any
regulatory overhaul that may be undertaken. Indeed, as a member
of the President's Working Group on the Financial Markets, I
hope I can offer its members, the administration, and Congress
both the benefits of my years as a regulator as well as the
decades of experience the professionals at the SEC have in
these areas.
The American people want and expect us to update the
regulatory system that has failed them and to prevent the kinds
of abuses that have contributed to the economic crisis we now
face. I assure you that I will always keep their concerns front
and center.
Seventy-five years after the SEC was founded, the
Commission finds itself in a situation where, once again, it
must play a critical role in reviving our markets, bolstering
investor confidence, and rejuvenating our economy. I am under
no illusion that this will be an easy job. There is a lot of
work to be done quickly and diligently in the months ahead.
But I look forward to this challenge, to helping the
millions of investors who rely on strong markets and a strong
economy, and to working with the professionals at the SEC and
the members of this Congress. To be entrusted with leading the
SEC at this moment would be a great honor and I am grateful for
your consideration.
Thank you, Mr. Chairman, Senator Shelby, Members of the
Committee, and I am very happy to answer your questions.
Chairman Dodd. Well, thank you very much, Ms. Schapiro. We
appreciate again your willingness to serve.
Let me begin. What I will try and do is I will make it,
say, around 10 minutes a round, and I won't be rigid about that
since there is not a full complement of the Committee here, but
we will try and move along and get as many people involved as
possible.
Let me begin with--you and I talked about this in the
office the other day, with the Madoff situation, which has been
the subject of some discussion. Let me just, as background, and
you can correct me if I misstate this, but this is as I
understand it. The Madoff firm was a registered broker dealer
in 2006. It also registered as an investment advisor. During
this period, NASD and later FINRA performed periodic exams, but
never found, or apparently according to FINRA's staff, looked
at the potential individual investments that people made with
Madoff. They looked at brokerage operations and not the
advisory activities--and again, that is the role of FINRA, I
understand that--as if they were two separate entities.
However, SIPC has said there was only one firm, the
brokerage firm, not a separate investment advisor, and
defrauded investors made checks payable to Madoff Firm. All of
the advisory staff were brokerage employees, and the SIPC is
playing claims based on their finding that the defrauded
investors were clients of the SIPC-insured broker.
And I went back and looked, and again, reading the role,
FINRA has broad examination authority--and obviously you know
all of this but let me just repeat it here--has broad
examination authority over its broker dealer members. Under the
Securities Exchange Act of 1934 and FINRA's own rules, Section
8210, which gives FINRA the right ``for the purpose of
investigation or examination to require a member, a person
associated with a member, to provide information orally, in
writing, or electronically, or to testify and to inspect and
copy the books, records, and accounts of such member or person
with respect to any matter involved in the investigation,
complaint, examination,'' end of quote.
Madoff Investments was the member and Bernie Madoff was an
associated person. How do we respond to that?
Ms. Schapiro. I think, Mr. Chairman, one of the real
lessons of this tragedy, is that we have this stovepiped
approach to regulation that allows misconduct to take place out
of the sight of at least some of the regulators. As you point
out, FINRA had jurisdiction over Madoff's broker dealer
activities, but not over its investment advisory activities.
The investment advisory activity did not run through the books
of the broker dealer, which is what FINRA was examining. And in
fact, the SEC required Madoff's investment advisory activities
to be separately registered in an investment advisor in 2006. I
would also add that FINRA didn't have access to any tips,
directly--and no tips were shared by the SEC with FINRA.
I think the bigger issue here and one that I have
repeatedly expressed concern about, including, frankly, as
recently as August with the Chairman of the SEC, is that there
is an increasing migration of financial activity out of
regulated broker dealers, where there is an SEC, FINRA, other
SROs, and State involvement in the regulation, to investment
advisors, where there are far fewer resources available for
inspection and oversight. The SEC has not shared our view that
this is something to be concerned about, this migration of
activity out of the more closely overseen broker dealer side of
the industry.
Chairman Dodd. Well, let me ask you this. If confirmed, and
in light of the Madoff experience, are there actions you would
pursue, and let me identify several and ask you to comment on
them. One, to increase the effectiveness of broker dealer
examinations by FINRA and the SEC? I think you suggested the
answer to that in your response to my question.
Number two, to improve the use of tips by the SEC staff.
Three, to increase the quality of audit opinions rendered
for non-public broker dealers?
And fourth, to ensure for the impartial administration of
the Federal securities laws that prominent individuals are
subject to the same standards as all other market participants.
Ms. Schapiro. I can answer unequivocally that I would
explore and hope to move very aggressively with respect to all
of those. I think the effectiveness of the examination programs
for broker dealers and investment advisors, and rating
agencies, frankly, needs to be carefully examined and
significantly bolstered going forward.
With respect to tips and whistleblower complaints, if I am
confirmed, within the first couple of weeks, I would like to
create an entirely new process within the Commission so that
these matters are centralized, they don't reside out in
multiple offices but rather come to a central, fairly senior
point of contact within the agency where they then can be
staffed, examined, pursued, tracked, and reported to the
Commission so that we have an understanding of exactly what
kind of intelligence is coming into the agency and how it is
being followed up on by the staff of the agency.
The quality of audit opinions with respect to non-publicly
held broker dealers, particularly those who have custody of
customer assets, whether securities or cash, I think needs to
be addressed very quickly. We may need a legislative fix to the
PCAOB's authority in order to do that. I would absolutely
support that.
And finally, with respect to impartiality, my belief is
there can be no sacred cows. We have to go with full force and
fervor against anyone who violates investors' trust, large or
small, regardless of their standing in the investment
community.
Chairman Dodd. Well, thank you for that. And let me just
say, by the way, and we have talked about this, as well, and
Senator Shelby and I have discussed this, as I see it, the role
of this Committee, we have a lot of work to do. Obviously, we
are going to be watching very carefully the TARP program,
assuming that we go forward with that, but obviously we want to
know how that is working. That will be a major function of the
Committee, an ongoing one.
But also the very important track for us is the
modernization of the regulatory structures in this country, and
this is a huge set of issues with a lot of work to do, but it
is a major obligation, I think, of this Committee and this
Congress and this administration to do so in light of the
events that have occurred. So we are going to be looking to
working with you very closely on these issues, because the role
of the SEC is critically important in all of that. So I will be
very anxious to follow up and would ask you to keep our
Committee and staff well informed as to the progress on these
matters, if confirmed, that you just mentioned.
The last point I will touch on and then turn to Senator
Shelby, because we have a lot of issues to talk about, the
credit rating agencies which Senator Enzi has raised and others
have, as well, has been a constant issue of concern for us as
we look back as to what happened. Senator Schumer's analogy of
having students pay for their grades was a pretty good one in
trying to describe what was going on. And I have thought a lot
about this, as others have, as well, and I am still stymied a
bit as to what is the best answer.
I know many say, well, let the purchasers of the
information pay for it, but I can identify conflicts where that
can occur, as well, just as there would be with those who are
selling the information have an obvious conflict.
Just as a throw-out, let me ask you, what is your reaction
to something like a FASB approach, or is there a need, even,
for credit rating agencies? Have we reached a point where maybe
there is a different system we ought to be thinking about to
actually rate these securities?
Ms. Schapiro. I think there probably will always be a
desire to have some sort of truly independent third-party
evaluation about the credit quality or other aspects of
particular financial assets, so I guess I wouldn't go so far as
to say we don't need credit rating agencies at all. We don't
need broken ones. We don't need ones that give us bad
information. That is very clear.
I think there are a lot of interesting ideas out there
about how to deal with the really serious conflicts of interest
that manifest themselves so clearly in the compensation models
that currently exist. One I have heard about is the idea of
having exchanges as part of their listing fees, collect a small
transaction fee for every trade that could then form a pot of
money that could be used to pay for the ratings so that they
are paid for by an exchange. A similar concept, I think, would
be to have a FASB or a PCAOB sort of oversight body that then
assessed a fee, compensated the rating agency so that the
issuer wasn't directly compensating them, the idea that you
suggest.
I think there are a lot of very creative ideas out there. I
think they are all worth exploring, because fundamentally,
until we deal with the compensation model, we are not going to
deal with the conflict of interest and people are not going to
have confidence that the ratings are worth relying on, worth
the paper they are printed on.
I also think we have to deal with the SEC's oversight of
rating agencies. And again, a PCAOB model may be very helpful
there. You could almost have resident examiners inside rating
agencies really understanding what is happening, following up
when ratings fail, pushing out disclosure about the reasons for
the failures.
So I think there is fertile ground there for us to explore
and I would be very anxious to do that with the Committee.
Chairman Dodd. We need to do it soon, in my view.
Ms. Schapiro. I understand.
Chairman Dodd. Senator Shelby.
Senator Shelby. Thank you, Chairman Dodd.
I am going to pick up on the rating agencies because I
think, Ms. Schapiro, that they are central to any regaining of
trust in our securities industry. The problem as I see it
today, among other things, but the central problem is lack of
trust, not just consumers' lack of trust in the banking system
and securities, banks to banks. They don't trust. They don't
know what is in those other banks' portfolios. They don't want
to borrow any money from each other as they traditionally have
done.
We see this morning's headlines where one of our largest
banks has got to have a big injection if they are going to go
through with a deal they made. So there is something deeply,
deeply wrong, as you know, in our securities and banking
system. Trust is central to it.
The rating agencies used to mean something. They used to.
Gosh, I have small banks that used to buy securities. Well,
they are not buying right now. They are scared. They are
solvent, but small.
As long, I believe, as long as we have got the conflicts of
interest and rating agencies--and they have told me and they
have testified before this Committee that basically their
opinion, they are just giving their opinion. I said, really?
You are just giving your opinion, but you are paying for it and
it has meaning of whether those securities are rated investment
grade or whatever they are rated, and they have meaning in the
marketplace. Well, we are just giving our opinion. I said,
well, what if I gave my opinion? It wouldn't mean anything. And
today, their ratings are meaning less and less.
So I think you are going to have a great opportunity and we
are going to have a great opportunity to do some right things.
I hope that we do the right things. I hope that we are not
going to be timid, because if we don't do it, where are we
going to be? We have lost our opportunity.
I want to pick up on the regulatory forum. You know, I know
that we have got to face reality here. I never thought that I
would say this, but I think we have got to visit insurance.
Look at AIG. Who regulated AIG? Primarily, the New York
Insurance Commission. My gosh, does anybody in this room
believe that the New York Insurance Commission knew anything to
speak of of the risk they were taking, they had on their books?
Why, the answer is obviously no, and so forth.
But you will be playing in those recommendations. We will
be in the arena here trying to implement a new, different, and
effective regulatory structure. We have to do it right. What,
in your opinion, should be the role of the SEC? I mentioned
earlier some people say we ought to merge the SEC into what,
into this and that. I personally don't have a lot of confidence
in the Federal Reserve. I don't have a lot of confidence in a
lot of our regulatory agencies today, and I think for good
reason. And if you poll the American people, gosh, I don't know
where it would be, but it would be low, low, low.
So what is the role you think the SEC should play in the
future? And you come out of the CFTC, too. Most of the things,
not all, as you know, that are traded on CFTC have to do with
financial instruments, securities and so forth, which
traditionally have come under the SEC or come under the
jurisdiction of this Committee and so forth. Do we have too
many regulatory bodies? Are they too stovepiped, as you alluded
to earlier? What is the role you think the SEC should play, and
where should we go?
Ms. Schapiro. That is a great question. I think I have a
couple of principles that guide me in thinking about regulatory
reform and there will be lots and lots of suggestions, lots of,
I expect, fascinating debate about exactly where do we move the
different boxes that currently exist and how do we align them.
But in terms of the principles that I think should guide
our discussion, the first is that all systemically important
products--credit default swaps, as an example--and all
systemically important financial institutions, need to come
under the regulatory umbrella so that we eliminate the gaps
that exist with large players and products not being part of
the regulatory regime. That has clearly been one of the issues
that we have seen over the last year in particular.
But I also think we have to think about the roles of the
existing agencies, whether or not they continue to exist, and
how we preserve those important roles. We have to have and
continue to have the kind of focus on systemic risk that the
Fed has brought to the debate over the last year, and an
institution like the Fed being responsible for protection of
the system from a systemic perspective.
From my perspective, though, we don't need to just monitor
risk and understand the safety and soundness of our financial
system. We must continue to protect investors. So the functions
of the SEC must continue to be fulfilled. The protection of
investors, the inspection of investment companies, mutual
funds, investment advisors, the full and fair disclosure by
corporate issuers of relevant information, the exchange
regulation and oversight, all of those functions need to
continue to exist in, whether it is the SEC as we know it today
or the SEC as a larger agency, potentially combined with other
agencies, or an entirely new structure that we haven't devised
yet. Those functions all matter enormously to the integrity of
our capital markets and to the confidence that investors can
have when they are allocating their capital. So we have to
preserve the functions. We have got to get them better aligned
and we have to fill the gaps.
Senator Shelby. What do you believe should be the role of
the SEC in the future in regulating credit default swaps?
Ms. Schapiro. Well, I absolutely believe that credit
default swaps need to come under the umbrella of Federal
regulation, and we need a centralized clearinghouse for these
transactions so that we can have transparency, we can eliminate
or minimize counterparty risk, we can assure there is
sufficient collateral, margining positions. I think the SEC
needs to work very closely with the CFTC and with the Fed and
the Treasury to ensure that we don't create another regulatory
gap or we have a lack of understanding about which agencies
will play which roles with respect to overseeing these
clearinghouses.
Senator Shelby. What do you think the role should be in the
future on insurance companies that play in the field, such as
AIG and others, but AIG is the big one, that put our whole
system at risk?
Ms. Schapiro. Well, I believe, and this is a little bit
outside my purview, that we should have Federal oversight of
insurance companies and particularly those that create systemic
implications, like an AIG, should be under the Federal
regulatory umbrella. This is not to suggest there might not
also be a role for State insurance regulators----
Senator Shelby. Sure.
Ms. Schapiro. ----but that we have to, at the systemic
level, have a better understanding of what is going on in those
institutions.
Senator Shelby. Do you believe that any of the Federal
regulatory people had any real inkling of what was going on in
the insurance field that helped bring about where we are today?
Ms. Schapiro. I really can't speak to that, having not been
in the Federal Government for a long time. I just don't know
the answer to that.
Senator Shelby. You hadn't seen any evidence of that, have
you?
Ms. Schapiro. No, I can't say that I have.
Senator, if I could actually go back to your credit rating
agency question----
Senator Shelby. Yes. That is what I was going to do.
Ms. Schapiro. ----I think you made a very important point.
For the credit rating agencies to suggest that it is just their
opinion is a little bit unnerving, to say the least. The
requirement for credit ratings is written into a number of
Federal rules and requirements, so I think it is more than just
one man's opinion, so to speak, when they issue a rating.
I think one of the things we have to explore is ways in
which to make the capital regime for financial institutions not
so dependent upon changes in credit ratings because they are
very vulnerable and it has enormous implications when there is
a credit rating change for the capital of the institution. So I
think that is something that, working with the other
regulators, we really need to explore.
Senator Shelby. Picking up on something Senator Dodd raised
earlier and Senator Schumer, the conflicts of interest and the
basic ethics of the credit rating agencies, how are we going to
eliminate, or what would you recommend or think about
recommending or consider dealing with the conflicts? We have
got to deal with the conflicts. If I hire S&P or Moody's to be
my consultant and show me how I can do this and that to get an
investment-grade rating or even a higher rating, they obviously
have a conflict of interest.
Ms. Schapiro. That is right. I think the compensation
model, the traditional model that they utilize where the issuer
pays for the rating is really at the heart of the conflict
problem, and that is why I would be very interested to explore
whether there are some quite dramatic things that could be done
differently, a FASB or PCAOB type of model for compensation.
Senator Shelby. It looks like things are for sale in the
marketplace.
Ms. Schapiro. Exactly right.
Senator Shelby. And that undermines the whole integrity of
the marketplace, as I understand it.
Ms. Schapiro. That is right, and if you want someone to buy
your rating, again, you understand that when you issue your
rating in the first instance.
Senator Shelby. And it is more than a perception.
Ms. Schapiro. I believe that is right.
Chairman Shelby. Thank you, Senator Dodd.
Chairman Dodd. Thank you very much, Senator.
Senator Reed.
Senator Reed. Well, thank you very much, Mr. Chairman, and
Senator Shelby has covered so many important questions that I
feel I will sort of be duplicative, but if you would allow me.
With respect to hedge funds, there was an initiative by the
Securities and Exchange Commission to have these funds of a
certain size register, in particular the ones that have
significant influence in the marketplace. What is your view
toward the greater transparency in the hedge funds?
Ms. Schapiro. Well, I would absolutely support proceeding
again with registration of hedge funds so that we could have a
much better handle on who is out there and what they are doing.
We should have better and stronger checks and balances and
appropriate disclosure, at an absolute minimum.
Senator Reed. And you and your staff will be working on the
appropriate items of disclosure so that you could get an
adequate picture of their operations?
Ms. Schapiro. Absolutely.
Senator Reed. And if this required legislation, you would
quickly contact us?
Ms. Schapiro. We will. I guess I would like to express
generally my view that the laws are made here, and when the SEC
needs help with the laws, I expect that we will be here often
seeking that help.
Senator Reed. Thank you. Senator Shelby has asked some very
insightful questions about credit rating agencies and I will
just simply note that this is a concern of everyone here. Your
efforts to look a the agencies would be very useful. I know
there are several at least preliminary proposals legislatively
that are here and so we will be collaborating with you on that
effort, also.
In addition, as you indicated to Senator Shelby, the credit
default swap issue, I know under the leadership of the New York
Fed, the clearinghouse notion was moving. Are there any further
comments you would like to make about, other than the need for
them, any specifics?
Ms. Schapiro. I have long been an advocate, frankly, since
1994, for a mechanism to bring swaps--credit default swaps
didn't actually exist at that time, but other swap transactions
into a clearinghouse mechanism so that there would be
assurances about the collateral that was supporting the
positions and the minimization of counterparty risk. So I am
strongly in favor of the efforts that have been undertaken to
develop the clearinghouses. I think it is very important that
there be strong oversight of those clearinghouses so that we
have a level of confidence that they will be there and able to
withstand the potential for any defaults that take place.
Senator Reed. The Enforcement Division of the SEC has been
an area of great concern. Senator Dodd and I contacted GAO.
They are finalizing a report. But the general impression, I
think, and an accurate one, is that they have been hobbled over
the last several years. One aspect of this was a procedure
where a penalty would have to be approved essentially by the
Commission. I would hope that that procedure could be quickly
abandoned and that the Enforcement Division could be given the
direction to fairly but aggressively enforce the law.
Ms. Schapiro. I would hope, if I am confirmed, Senator
Reed, that one of the first things I will do will be to try to
take the handcuffs off the Enforcement Division. The Penalty
Pilot Program is an issue, but there are a lot of other
procedural hurdles that have really been placed in the way of
the Enforcement Division moving aggressively to issue subpoenas
and get investigations initiated and I would plan to look at
those immediately.
Senator Reed. Another area that has been mentioned by
Senator Schumer in his opening comments was the Office of Risk
Assessment which Chairman Donaldson created, I think very
perceptively. In fact, it perhaps could have been very helpful
in the run-up to this crisis. What is your view about the
Office of Risk Assessment?
Ms. Schapiro. I think it is absolutely essential to
reconstitute the Office of Risk Assessment. It has never really
been fully staffed and fully equipped with the tools that it
needs. When you have hundreds and hundreds of examiners, as the
SEC does, that are unconnected to a really robust risk
assessment process so you know where to send the examiners in
order to have them focusing on the issues of greatest
importance, that is a real problem, in my mind. So I would like
to build an Office of Risk Assessment and I would like to have
Risk Assessment permeate really everything the SEC does. There
will never be enough resources to do everything, so we have to
be able to focus on those areas of risk where we have investors
at most danger.
Senator Reed. Much of what you are going to do will have
complications and consequences overseas as well as here in the
United States, and one of the areas is the IFRS road map. We
have repeatedly written to Chairman Cox to try to determine and
develop a very deliberate road map. I think there was a rush to
judgment on this issue. In fact, I met with the CEO of
Honeywell Corporation who says similar concerns about disparate
accounting treatment on the international rules that can be
used to change income, can be used to treat R&D expenses
differently. There is a host of potential, I hesitate to say--I
won't. There is a potential arbitrage of the two systems which
I think we have to avoid.
Can you give us a notion of how you would like to proceed
with this international accounting movement, with the
recognition I think we all have that in the global economy,
eventually, standards hopefully will converge to high levels.
Ms. Schapiro. Well, I would proceed with great caution so
that we don't have a race to the bottom. I think we all can
agree that a single set of accounting standards used around the
world would be a very beneficial thing, allowing investors to
compare companies around the world. That said, I have some
concerns about the road map that has been published by the SEC
and is out for comment now and I have some concerns about the
IFRS standards generally. They are not as detailed as the U.S.
standards. There is a lot left to interpretation. Even if
adopted, there would still be a lack of consistency, I believe,
around the world in how they are implemented and how they are
enforced.
The cost to switch from U.S. GAAP to IFRS is going to be
extraordinary, and I have seen some estimates that range as
high as $30 million for each U.S. company in order to do that.
This is a time when I think we have to think carefully about
whether imposing those sorts of costs on U.S. industry really
makes sense.
Perhaps, though, my greatest concern is the independence of
the International Accounting Standards Board and the ability to
have oversight of their process for setting accounting
standards and the amount of rigor that exists in that process
today.
I will tell you that I will take a big deep breath and look
at this entire area again carefully and will not necessarily
feel bound by the existing road map that is out for comment.
Senator Reed. One area of mutual concern that you have and
I have is the independence of the International Accounting
Standards Board. Under the Sarbanes-Oxley Act, we thought we
created a very clear rule that American public companies
couldn't operate under standards promulgated by a non-
independent entity. That interpretation was not shared by the
previous Commission. I would like very much for you to review
that and indicate to us whether your view is--whether we need
sufficient additional legislation to clarify that there must be
an independent board.
Ms. Schapiro. I will be happy to do that.
Senator Reed. I believe that you have been very concerned
about proxy access. Can you give us a notion of your priorities
with respect to proxy access?
Ms. Schapiro. I would be happy to. You know, the SEC has
taken a couple different tacks with respect to proxy access
over the last year and I think it is an area that is really
calling out for some clarification and some clear direction.
Forty of the largest markets outside of the United States allow
investors or shareholders of some size and some duration access
to the proxy. I think it is time for the United States to step
into that club, and again, the devil will be in the details.
But I think it is time for us to have a well-crafted, rational
approach to the proxy for long-term large shareholders in the
U.S. and I am prepared to sit down with my fellow Commissioners
quickly and begin that discussion.
Senator Reed. I think one of the contributing factors in
the current economic crisis, and there are many, is the
compensation schemes developed by companies. I know this is
something not directly related to the responsibility of the
SEC, but I think creatively and collectively, we might want to
think about how we monitor those and how we ensure that they
don't provide the kind of incentives for risk taking rather
than compensation for wise judgments. That is just a general
point that I would hope you would consider because I think it
is hard to pick out a precise statute or precise even agency
that would be charged with that. It is typically up to
management, but management ought to be much more sensitive, I
think, to these compensation schemes.
Ms. Schapiro. I agree with that.
Senator Reed. Just for the record, mutual recognition of
Australia, fast, slow, medium?
Ms. Schapiro. Well, I have shared with you and then shared
with the SEC over the past year some concerns with the speed
with which mutual recognition and amendments to rule 15(a)(6)
have proceeded that allows foreign broker dealers access to
U.S. investors at virtually a retail level without the
protections that exist in the U.S. regulatory regime. So it is
another area where I think we need to take a big step back and
look at whether we are headed in the right direction. Again, I
want to ensure that U.S. investors' protections are maximized
going forward, not that they are compromised.
Senator Reed. Thank you very much. Thank you, Mr. Chairman.
Chairman Dodd. Thank you, Senator. I thank the Senator for
raising the issue of the proxy access issue, as well. I have a
strong interest in that, as well, and will be looking forward
to further developing your thoughts on that. It has been a
subject of some debate and discussion over the last number of
months and it is one we are going to come back to on the
Committee.
Senator Enzi.
Senator Enzi. Thank you, Mr. Chairman, and I appreciate
your questions and, Ms. Schapiro, your answers on the proper
role of the SEC in the future, also Senator Shelby's questions
about credit default swaps and the derivatives market and
everybody's questions about credit rating reform. We have all
been involved in that and I will have some additional questions
on that, but I will submit them in writing. They are more
detailed and I have found that that and accounting questions
put people to sleep around here. I appreciate Senator Reed's
questions about the converging of the accounting standards, and
again, I will have some more detailed questions on those.
As I mentioned in my brief opening remarks, I think one of
your strongest assets is your career in the financial
regulatory experience. Securities regulation is a complicated
subject and the Chairman of the SEC should be well-versed in
the language of finance. But I am very concerned about the
growing scandal of Madoff and his investment fraud. As the
chief executive of the financial industry regulatory authority,
how did that expansive fraud scheme slip past the radar and
when did your agency first receive notice about that possible
fraud and what did you do with the information?
Ms. Schapiro. Senator, I can't really speak to the SEC's
handling of this matter. I have not had direct conversations
with them. I am anxiously hoping to do that, as well as to
receive their Inspector General's report on what went wrong
there.
With respect to FINRA's responsibility, as we talked about
a little bit earlier, one of the real lessons, I think, from
this tragedy is the fact that we have this stovepipe regulatory
regime where some misconduct can be hidden from at least some
of the regulators some of the time. FINRA focused on the broker
dealers' books and records. The investment advisory activity,
the Ponzi scheme, didn't run through the books of the broker
dealer. They were kept in separate books for the money
management business. As a result, FINRA was not aware of the
investment advisory fraud. FINRA also had not received any
tips, either directly from anybody, nor did the SEC share those
tips with FINRA.
I think one of the lessons, in addition to the stovepipe
problem of regulation, is that financial regulators, frankly,
need to cooperate a whole lot more closely than we have
historically. There has sometimes been a little bit of
competition. There has sometimes been a little bit of jealousy
about who gets to bring a case or who is the first mover. We
need to think of the financial markets, policing as a community
and our efforts as community policing and cooperate a lot more
effectively in sharing whatever intelligence we have between
State and Federal and self-regulatory organizations in order to
make sure we have the maximum number of eyes looking at an
institution or a problem at any given moment.
Senator Enzi. So you are saying that you found out about it
about the same time that the rest of us did?
Ms. Schapiro. Yes.
Senator Enzi. OK. I do have to ask an accounting question.
In the fall, the Senate Banking Committee heard testimony about
mark-to-market accounting and its ineffectiveness in pricing
assets in a frozen market. In response, FASB and the SEC issued
guidance clarifying how firms should price liquid assets. Do
you believe this guidance is sufficient, or should the SEC
revisit the mark-to-market accounting method for 2009 and
beyond?
Ms. Schapiro. Well, as you know perhaps better than anybody
in this room, the integrity of our accounting standards and the
quality of our corporate disclosure is absolutely essential. It
is the foundation of our marketplace.
I think investors, as I have read what people have said,
generally believe that fair value accounting, mark-to-market
accounting, has provided transparency to the marketplace and
enables better decisionmaking by investors. That said, I think
there are circumstances in which hard-to-value assets are
written down and have real implications for business as a
result.
The SEC has just published its fair value accounting
report, just about 2 weeks ago, I think. They make a number of
recommendations in that report which I am anxious to study. I
have read it. I am anxious to study in detail and see if there
are further issues that should be addressed by the SEC with
respect to fair value accounting. I know there is a
recommendation for further guidance for some alternative
approaches, perhaps, with respect to assets where there is no
ready market or no readily ascertainable value, whether there
can be additional disclosure that would be helpful to people in
understanding what the true value of those assets might be. So
it is an issue I will get immersed in quickly.
Senator Enzi. Excellent. I will have some more detailed
questions on all of those things----
Ms. Schapiro. Thank you.
Senator Enzi. ----but I will go ahead and yield the balance
of my time.
Chairman Dodd. Thank you very much, Senator.
Senator Warner.
Senator Warner. Thank you, Mr. Chairman.
Ms. Schapiro, I have got two broad-based questions and if
you could respond to both, I would appreciate. I share Senator
Shelby and Senator Reed's concerns that you have voiced, as
well, that some of these new tools that have developed, the
credit default swaps, hedge funds, failure to have any
regulatory oversight on those new tools. You made mention in
your opening comments some of the migration taking place from
some folks from the broker dealer coverage to the financial
advisor coverage.
How do we get--and with your comments, as well, about the
stovepipe regulations. How do we get that broad-based
regulatory oversight? And even if we take care of some of these
new tools, do you have any thoughts on as the capital market--
never underestimate the capital market's ability to create new
tools, is there any kind of proactive effort, not that would
stymie the flow of capital by any means, but proactive effort
to make sure that whatever the next decade's credit default
swaps, we are not then coming back and revisiting years later.
So, first, how do we get everybody underneath that
regulatory umbrella, and second, and as we discussed a little
bit earlier, even if we get everyone under the regulatory
umbrella, it seems that a lot of the crisis that we are
currently confronting comes about as the market has tried to
price the credit risks of debt and we have seen the market
continue to move forward in terms of becoming more and more
efficient on pricing that last tranche of two, five or 10
percent of a debt instrument. The question I know we discussed
privately was, at some point, is the social utility of pricing
that last two to 5 percent worth all of the side bet risks that
now the system has taken on, and should you be confirmed, even
if we have got these entities within some types of regulatory
oversight, is regulation and transparency enough, or in some
cases do we actually have to look at bright-line prohibitions
on some of these tools?
Ms. Schapiro. A very good question. I think the way we
bring all of these products and institutions under the
regulatory umbrella is by having an approach that has us look
at what is systemically important that needs to be under the
purview of a regulator that has the authority and the
capability to assess the risks in the system and deal with
those through capital, leverage limitations and other sorts of
requirements.
And then I think the other way we do it is, at the same
time, we look at the business conduct. We look from the
perspective of the investor, what is being sold, what is being
offered, and how is the investor being protected in that
process, so that we stop worrying about who has responsibility
for mortgages versus securities versus derivatives versus some
other instrument, insurance, for example, and we start to think
from the perspective of the investor across a broad panoply of
products that may be offered to them that has an investment
component or a financial component. How do we protect the
investor?
And I think by approaching it from both of those
directions, a systemic protection direction and an investor or
business conduct protection direction, we can probably cover
the universe.
Senator Warner. Does that mean proactively looking at new
products? Would that be your screen in terms of as the market
creates new products that we can't envision today, you would
look at it from that kind of----
Ms. Schapiro. It has to have that. That has to be a
component of it, because we will always fight the last war if
we don't look proactively at products as they are being
developed, before they are introduced. Do they have systemic
implications? What happens in a downturn? What happens if
interest rates go through the roof? What does that product have
the potential to do to our financial institutions? And at the
same time, what do those products have the potential to do,
good or ill, for investors who are being sold them?
I think innovation has been a tremendous hallmark of our
markets and I think it is important that we preserve that. I
think we have seen some products that are innovative mostly in
their fee structure----
Senator Warner. Right.
Ms. Schapiro. ----and their ability to generate new fees,
rather than being innovative in their ability to help people
achieve their goals in investing. And so I think that is,
again, something a financial regulator, a business conduct
regulator like the SEC in particular can have a focus on.
Senator Warner. So as you get them within that regulatory
umbrella, and I think you have now touched on my second point,
regulation and transparency enough or actually looking, as you
said, at, in effect, the social utility of some of these
products in terms of prohibition or not? I mean, that gets into
a touchy area, I know.
Ms. Schapiro. It is a touchy area. We have generally had a
system in this country where we go with disclosure and not so
much the approval by regulators of particular products,
although it is not unheard of. There are certain products that
cannot be sold to retail investors. There are certain
instruments that have, in fact, been deemed to not be suitable
for anyone and therefore not for sale. To expand that approach
would be different. I think it is worth exploring.
Senator Warner. Thank you.
Chairman Dodd. Thank you very much, Senator.
Senator Corker.
Senator Corker. Mr. Chairman, thanks for having this
hearing, Ranking Member. I want to welcome Senator Warner. I
think there is nobody that has come to the Senate with greater
credentials and I certainly look forward to working with him
and welcome him to this Committee.
Ms. Schapiro, I also want to thank you for your tremendous
years of public service and commitment to making things better
here in our country and I look forward to working with you in
the future and just have a few short questions.
We watched--we had hearings here earlier in the year with
the SEC and, of course, the Fed and Treasury and others and we
watched our investment banking system just kind of dissipate.
It evaporated. It is gone. And it appeared that the SEC didn't
have the tools, if you will, to really deal with those
particular organizations. Of course, they are no more.
But I wondered if, just based on where you sit, if you see
is there a need, if you will, for tools right now that the SEC
does not have that it should have in the environment that we
now live in?
Ms. Schapiro. I expect I could give you a better answer if
I am confirmed and get there and spend a little bit of time.
But one almost has to conclude that the tools were inadequate
to the task. The CSE program was a voluntary program. That was
probably one of the flaws in it. But also the capability of the
staff to really apply the kind of analytics and the kind of
risk assessment approach that one would hope to see, I think
those are two areas that probably need significant bolstering.
I think as we move forward, we have to take a completely
fresh look at how the SEC conducts examinations of all the
entities it regulates, investment banks--there are some smaller
ones left, investment advisors, mutual funds, and so forth, to
see if we really are understanding the business and how the
business is changing.
My sense is that one of the hardest things for regulators
is to really understand when the world is changing underneath
them unless it is quite dramatic, because markets evolve,
institutions evolve, products evolve. And I think it is going
to be very critical to keep the SEC staff much more in tuned
with the current events in the marketplace and the evolution of
the institutions in order to be effectively finding the risks
and helping to control them.
Senator Corker. Yes. I think a lot of times, our regulators
end up sort of figuring out the problem after it occurs and
then----
Ms. Schapiro. Catching up.
Senator Corker. ----by virtue of actions that are taken,
almost create a self-fulfilling prophesy because their reaction
to the issue is at the wrong time. Instead of on the front end,
it is on the tail end and actually can make it worse, and I
thank you for that input.
In 2007, I guess the SEC did away with something called the
uptick rule. A lot of people have said that if that had not
occurred, then there wouldn't have been this--I am just
repeating, by the way, and asking for your input--a lot of
people have said that had that not occurred, then short sellers
would not have been able to manipulate the market the way that
they did. I wonder if you might give us your thoughts on that.
Ms. Schapiro. Well, I am very happy to do that. And as you
know, in addition, this past year, the SEC issued a series of
orders related to naked short selling and restrictions on short
selling through exemptions, temporary orders, emergency orders,
and what that suggests to me is that we actually need to take a
step back and reexamine the entire area of short selling, what
restrictions may or may not be appropriate, and I think we do
need to look at whether the uptick rule ought to be
reinstituted, and that is one of the things that I would be
committed to doing very quickly.
Senator Corker. Well, thank you. I think even at the CFTC,
there was a lot of concern about what speculators were doing at
the time, and, of course, now with the world where it is, we
are wondering where all these speculators were.
Ms. Schapiro. Right.
Senator Corker. But in any event, I do hope you will do
that and I do hope we will come up with something that market
players who really determine the exact pricing because of being
on both sides of the equation, I hope you will be able to come
up with something that is consistent and people know is going
to be there into the future.
Ms. Schapiro. I agree with that. I think markets deal with
uncertainty. I mean, that is really what markets are about in
some ways, and they deal with volatility. They don't deal so
well with not knowing what the rules of the road are, and so we
need to provide some certainty about how these issues will be
handled on a going forward basis.
Senator Corker. There has been a lot of comment, I guess,
that the SEC is a revolving door. People come in and they learn
a few things and then they leave and make a lot of money, and
then they come in and vice-versa, not unlike the Senate, I
might add. But what comments might you make about restrictions
that you think ought to be in place for people who work at the
SEC and relationships that they may have in the past or in the
future as it relates to companies?
Ms. Schapiro. I think this is an important area, and I
understand the banking agencies have done some post-employment
restrictions for bank examiners and I am anxious to talk to
them about what their experience has been with that.
I would think we have to balance--I worry about the
revolving door very much. I hope that we can keep the best
people at the SEC for the longest possible time. I worry, on
the other hand, about restrictions that will make it impossible
for people to come to the Commission in the first place. If I
can't leave and go to the industry after 5 years or 10 years,
if I am doomed to stay at the SEC for life, maybe I will never
go in the first place, and I don't think that would be a good
result, either.
I am very anxious to explore some of the possibilities here
that allow us to continue to attract people with current
understanding of the markets and current experience, keep them
as long as we possibly can, but then not create a conflict by
their walking out the door and going to a firm and leaving
everybody to wonder whether they showed some favor to that firm
during their time at the SEC. So it is a very important issue
for the integrity of the agency and its credibility. I am not
sure yet how to tackle it.
Senator Corker. Well, I have to tell you, I very much
appreciate your balance on that issue. At the end of the day,
you want to have the very best and brightest people in your
organization that have the ability just due to their
experiences to really assess what is happening with companies,
and you do want to be able to attract those folks and you do
want to be able to bring people in for 2 or 3 years and do a
great job for you and leave. At the same time, obviously, you
want to make sure that that is beyond reproach. It sounds like
you very much have that balance in thought and I thank you for
that.
With that, Mr. Chairman, I will stop my questioning and
again thank the designee for coming in. I look forward to
working with her and you and Mr. Shelby in this upcoming
session.
Chairman Dodd. Thank you, Senator. On that last point, I am
very interested in that subject matter, as well. I think we
have all encountered people, particularly in their most
productive years of employment that you might very well like to
attract to come in and provide some valued service, who are
reluctant to do so because of the prohibitions we place on the
other side, not without merit, the prohibitions, but striking
that balance, we lose a lot of talent, in my view. I don't have
a quick answer for that one, either, but I think we really do
need to think about it. We talk about it every 4 years in these
cycles we go through in terms of who can come into government
and it is an issue that does deserve attention, so I appreciate
your raising it. I appreciate you bringing the question up, as
well.
We have been joined by some additional members. I just will
remind my colleagues, we have got some votes at about 12:15, I
think. We have got a panel of a nominee for the Federal Reserve
Board and three nominees for the Council of Economic Advisors.
I don't know how we are quite going to get through all of this,
but I want to turn to my colleagues. We are on a 10-minute
cycle, but if there is some way to not use all of that 10
minutes and open it up to questions in written form, we would
appreciate the indulgence of my colleagues.
Senator Menendez.
Senator Menendez. Mr. Chairman, since you paid for dinner
last night, I will try to accommodate you.
[Laughter.]
Senator Menendez. A lot of my questions have been answered
and I have been jumping between different hearings at the same
time, but let me get to something that is more overarching. I
spoke about it in my opening statement. And let me just say, I
think you have tremendous experience. I think you have ability
to do this job, unquestionably.
Now, the question is some have said that you are a safe and
predictable pick. Some have said that when we look at your
record as a regulator, that it shows that infrequently, you
have pursued tough action against big Wall Street firms. Some
have said, like The Wall Street Journal in today's article,
that even in a time of very significant market convulsions and
Wall Street scandals, FINRA often filed tiny cases against
small players and that employment fines against firms have
plunged.
So I don't believe all of the--someone categorized my
statements before saying that all of the Nation's economic woes
lie at this position. That is clearly not the case. But you
cannot have investor confidence, you cannot have the
opportunity for the markets to regain their integrity, you
cannot have all of those things that is one of the major
barometers we look at in terms of the necessity to move this
economy forward unless we have the Securities and Exchange
Commission be the robust cop on the beat, willing to ensure
that the industry does business in a fair, honest, transparent
way, willing to, as I said earlier, take no prisoners and
question every aspect of it. I think to some degree, the
marketplace and these industries have gotten ahead of the SEC
in terms of the financial instruments that are being used.
So are you really ready and willing--able is not the
question--ready and willing to take on what is necessary to
restore the incredibly tattered facing confidence that exists
in the marketplaces, and how do you respond to the criticisms
that have been levied against you that, in fact, while you are
a predictable and safe nominee, you will not be the robust
nominee that we need?
Ms. Schapiro. Well, Senator, I am absolutely ready to take
this on. I am absolutely committed to building a Securities and
Exchange Commission that is of the quality, the integrity, and
the aggressiveness that the American people deserve for it to
be and are entitled for it to be. I think the agency has to
have a laser-like focus on fraud and investor protection. I
think we have to move aggressively and with a sense of urgency
with respect to all of these matters.
I guess I would say to you that I started my career as an
enforcement attorney. I absolutely understand what it takes. I
understand that you can ignite real passion in enforcement
lawyers by giving them the tools and the ability to pursue
fraud and do what needs to be done to protect the interests of
the public. There is nothing that is more exciting or more
invigorating for people who have chosen to become enforcement
lawyers.
I will say that I think The Wall Street Journal article
today presented a completely unfair picture of my record, in
particular with respect to enforcement and enforcement cases.
In my 13 years at FINRA, I have presided over nearly 15,000
enforcement cases, including dozens of major cases against very
large financial institutions--Morgan Stanley, Citigroup,
Merrill Lynch, Lehman Brothers, Ameriprise, CSFB, with multi-
million-dollars fines. I have never been afraid to go after
people I thought have violated the public trust. That will be
not an issue for me at the SEC, as I said earlier.
I think there are absolutely no sacred cows and I think
there are areas where at FINRA we have been particularly
leading the regulatory community with respect to the improper
sales of variable annuity products to senior investors,
improper sales to our military on bases who have been cheated
by investment scams, late trading, market timing, IPO abuse,
early retirement scams, insider trading, and a wide range of
other issues where we have been very, very aggressive.
So I hope that The Wall Street Journal piece doesn't color
your impression of me because I think that I can be as
aggressive an enforcer as anybody has ever been at the head of
the SEC. I served under three SEC Chairman--David Ruder,
Richard Breeden, and Arthur Levitt--when I was a Commissioner.
I have seen the agency aggressively in court seeking TROs,
seeking preliminary injunctions, stopping fraud in its tracks,
and that is exactly the kind of enforcement program I want to
have.
Senator Menendez. Mr. Chairman, I will submit some
questions for the record.
I am going to support your nomination. I am going to hold
you to what I expect to see in robust enforcement----
Ms. Schapiro. As you should.
Senator Menendez. ----and I will not hesitate when you
return to the Committee as the Chairlady to engage in this
dialog. I hope it will all be complimentary----
Ms. Schapiro. I hope so, too. Thank you.
Senator Menendez. ----and I look forward to that being the
case.
Ms. Schapiro. Thank you.
Chairman Dodd. Thank you, Senator.
Where did Senator Bennett go? We lost Senator Bennett here.
Senator Akaka.
STATEMENT OF SENATOR DANIEL K. AKAKA
Senator Akaka. Thank you very much, Mr. Chairman. I am
delighted to be here and thank you for this hearing and I am
delighted to be here to say aloha to Mary Schapiro and, of
course, to your lovely family----
Ms. Schapiro. Thank you.
Senator Akaka. ----Molly and Anna, as well----
Ms. Schapiro. Thank you.
Senator Akaka. ----and to thank you for what you have done
already for the people of Hawaii. We share a commitment to
empowering our citizens through financial literacy in order to
build stronger families, businesses, and communities. Without a
sufficient understanding of economics and personal finance,
individuals will not be able to manage their finances
appropriately, evaluate credit opportunities successfully,
invest for long-term financial goals in an increasingly complex
marketplace, or be able to cope with difficult financial
situations.
Again, I have greatly appreciated your outstanding efforts
in Hawaii with FINRA and I must tell you that I have heard back
from many people who have been there with you that have
appreciated this and have gained from your efforts there. I am
looking forward to continuing to work with you to help improve
the ability of investors to make better informed financial
decisions.
Mr. Chairman, I will just have two questions. Ms. Schapiro,
one of my question is what must the SEC do to ensure that
investors can make informed investment decisions?
Ms. Schapiro. Well, thank you, Senator. You and I do share
a very deep commitment to investor literacy. While it is not
within the purview of the SEC, I really believe that it should
be a national priority, and perhaps we can talk about that some
time.
I think the SEC has an important role here and it reflects
on several different levels. The first is, of course, the
corporate disclosure, the information that investors receive
about the companies that they may choose to invest in or the
mutual funds they may choose to buy has got to be accessible to
investors. It has got to be complete, honest, accurate, and
accessible, understandable, and usable.
I also think that the SEC could work closely with the other
Federal financial regulatory agencies on some broad investor
literacy initiatives. There is tremendous ability at the SEC to
produce plain English content, explanations about how mutual
funds work, how does the bond market work, what is a 529 plan,
and the SEC ought to be able to develop that information and
material and broadly distribute it through its website in
conjunction with other agencies, through financial
institutions, as well as through the local offices of the SEC.
The SEC has offices around the country. Those are people on the
ground who could be working with local groups to try to
increase investor awareness and investor literacy.
So I think there are many opportunities for the SEC to
improve its profile in the investor education space.
Senator Akaka. Well, I thank you very much. I know the
Chairman is looking for time and I will just submit the rest of
my questions and say thank you very much, Mary.
Ms. Schapiro. Thank you.
Senator Akaka. Without question, you have my support. But I
thank you so much for what you have done already----
Ms. Schapiro. Thank you.
Senator Akaka. ----not only for Hawaii, but for our
country. You have really increased my confidence in SEC and in
our country's financial community.
Ms. Schapiro. Thank you.
Senator Akaka. Thank you very much, Mr. Chairman.
Chairman Dodd. Thank you very much, Senator. We have these
other witnesses to bring up, so we are going to leave the
record open for some questions.
One that I intended to ask you, but as I said, I have to
move along, were these reports, Ms. Schapiro, of the two
lawsuits filed by FINRA members that you are aware of. Do you
want to make a quick response? I will submit it as a question,
again, but I want to give you an opportunity to respond to
that.
Ms. Schapiro. Well, I guess I am happy to respond. I
believe that the lawsuits are frivolous. They arise out of the
transaction to merge the NASD and the New York Stock Exchange
regulatory group. The first lawsuit was dismissed by a Federal
judge. The second lawsuit was filed very close in time to my
nomination for this position and I believe that there is no
merit to the lawsuits.
Chairman Dodd. I may follow up with a couple other
questions on that.
Ms. Schapiro. That is fine.
Chairman Dodd. And also, Elizabeth Warren has recommended
something akin to the Consumer Product Safety Commission, a
Financial Product Safety Commission idea. It goes to the
question that Senator Warner was raising about the anticipation
of new products being developed that can circumvent a rule-
based system as opposed to a principle-based system, which has
some appeal, but probably not a widely held view that that can
actually be a more intimidating process than sometimes a rule-
based system.
But I sort of like the idea, that idea that Senator Warner
raised to be anticipatory about these matters, and again, in
another setting here, I would like to pursue that idea with you
on how we can do that, because I think that is one of the
concerns we have here. We are always fighting, as you say, the
last war, the last set of battles, and as we are doing so,
there is some very bright 22-year-old who is sitting out there
and figured out six ways to get around the rule you just
designed with all the best intentions. And so we need to have
some better system in place, it seems to me, that more broadly
deals with principles, ideas, but gives some sense of
confidence to investors that while we are taking care of the
problem that occurred yesterday, we are not very well
effectively dealing with these--and again, I think the point
that Senator Warner made. I think the last thing you want to do
is to be stifling the creativity and imagination that has been
the hallmark of wealth creation. So it is a difficult balance
to strike here, but one that I think deserves our attention.
Ms. Schapiro. I agree.
Chairman Dodd. With that, I thank you very much for
appearing before us. As has been said by all of my colleagues
here, you are extremely well qualified for this job, but I
think all of us are anticipating some very aggressive and
strong action here to get moving on these matters.
Ms. Schapiro. I appreciate that.
Chairman Dodd. We thank you, and I apologize----
Ms. Schapiro. Thank you very much.
Chairman Dodd. I apologize to your two children that I
didn't filibuster longer----
[Laughter.]
Chairman Dodd. ----but I want you to know that I am going
to--you can go to your teacher and tell them that the Chairman
of the Senate Banking Committee said you ought to have the rest
of the day off, as well.
[Laughter.]
Ms. Schapiro. Thank you very much.
Chairman Dodd. Thank you very much.
Senator Shelby. And they ought to get extra credit.
Chairman Dodd. And extra credit for being here, too, by the
way.
[Laughter.]
Chairman Dodd. I don't know if my colleagues have arrived.
We want to move to our next panel.
[Pause.]
Chairman Dodd. I want to ask our--if we can, I appreciate
people moving as expeditiously as they can so we can get to our
second panel.
[Pause.]
Chairman Dodd. I want to welcome all of our second panel,
Dr. Rouse, Dr. Romer, Dr. Goolsbee, you are here, as well, and
Dan Tarullo, I see coming in. Who are we missing here? We have
got everybody. The microphones are live, I would inform my
colleagues. These are the kind of moments that get recorded for
history.
[Laughter.]
Chairman Dodd. Senator Durbin is on his way, but our
colleague, Bob Menendez, is here. I am not sure Senator Boxer
is going to be able to be here, but I know she wanted to be
here. Again, the schedules, with so many of these confirmation
hearings going on simultaneously, it is understandable why
people would very much like to be a part of it. I am going to
make sure the record is open for our colleagues who would
normally be doing introductions, that it will be available for
them to include their introductions in our comments.
I think I see families arriving here. Again, I am using all
the powers of my chair today to provide free passes out of
school. That is clearly exceeding the powers of a Chairman, but
nonetheless. We give extra credit, too, for appearing. And if
you could actually stay the full time, you really get extra
credit. That is really the test.
We have others coming in, so let us get people settled.
[Pause.]
Chairman Dodd. I know Senator Feinstein wanted to be here,
as well, and I am getting messages that maybe one or the other
may actually be here, Dr. Romer.
All right, are we getting settled? That is very good.
Senator Menendez, would you like to introduce Dr. Rouse?
INTRODUCTION OF NOMINEE CECILIA E. ROUSE
BY SENATOR ROBERT MENENDEZ
Senator Menendez. Thank you, Mr. Chairman, to you and to
all my distinguished colleagues on the Banking Committee. It is
my sincere honor to introduce Cecilia Rouse as President-elect
Obama's nominee for the Presidential Council of Economic
Advisors. I am confident that the Committee will see that she
is eminently qualified for this position and will confirm her
for this important post.
Dr. Rouse is currently the Theodore A. Wells Professor of
Economics and Public Affairs at Princeton University. Her
primary research and teaching interests are in labor economics
with a particular focus on the economics of education,
something I know that my two colleagues who are sitting on the
dais at this point, both distinguished members and the Ranking
Member of the HELP Committee, are passionate about and leaders
in. She has studied the economic benefit of community college
attendance, studied the effect of financial aid on college
matriculation, and the impact of student loans on post-college
occupational choices, all incredibly important issues with a
potentially profound impact on our economic choices moving
forward.
Dr. Rouse is currently a senior editor of the Future of
Children, of which she has a few examples here behind us, and
an editor of the Journal of Labor Economics. Additionally, she
is the founding Director of the Princeton University Education
Research Section and she is currently the Director of the
Industrial Relations Section, as well.
She is not walking into this job without experience in the
public sector. In 1998, she served in the White House at the
National Economic Council.
I believe Dr. Rouse will bring a unique and important
insight to the Council of Economic Advisors that is especially
important during these troubling economic times. And while the
students of Princeton University will sorely miss their
professor, they can take solace in the fact that she will be a
3-hour Amtrak trip away from the great Garden State.
So, Mr. Chairman and distinguished Members of the
Committee, I strongly support the confirmation of Cecilia Rouse
to be a member of the President's Council of Economic Advisors.
I think you will find her to be an exceptional addition to that
important body and we look forward to working with her and the
other nominees to get our economy back on track and bring much-
needed change to this country.
Thank you, Mr. Chairman.
Chairman Dodd. Senator, thank you very, very much for those
introductory remarks. I had a chance yesterday to talk with Dr.
Rouse, as well, and was very impressed with her knowledge, as
well.
We have been joined by my colleague from Illinois, Senator
Durbin. Dick, we appreciate you making it in to present Dr.
Goolsbee to the Committee, who I had a chance, as well, to talk
to the other day. But thank you for getting over.
STATEMENT OF RICHARD DURBIN
A U.S. SENATOR FROM THE STATE OF ILLINOIS
Senator Durbin. Thank you, Mr. Chairman, and Senator Enzi,
Senator Warner, Members of the Committee.
President-elect Obama has asked Dr. Austan Goolsbee to
become a member of the Council of Economic Advisors. Austan
will also direct the new Economic Recovery Advisory Board under
Paul Volcker.
Austan graduated from Yale University. He earned a Ph.D. in
economics from MIT and was later a Sloan Fellow and Fulbright
Scholar. He is now primarily an economist from the University
of Chicago Graduate School of Business. He and the President-
elect's other economic advisors will be asked to help the new
President make critically important decisions on how to best
address perhaps the most challenging economic crisis in 75
years in America. In fact, I know that Austan and many of his
colleagues are already working very hard on that.
Austan may teach and conduct research at the University of
Chicago, but he is no orthodox Chicago School ivory tower
economist. He understands that economics is about more than
just abstract definitions and calculations. It is fundamentally
about human behavior, why people make the decisions they do,
what policies can help people make choices that are in their
best interests and the best interests of our economy and our
Nation.
He understands many of the modern aspects of our economy,
the transformative power of the Internet. He served as a
special consultant for Internet policy for the Department of
Justice Antitrust Division.
Austan is an admirer, incidentally, of a man that we both
admire, Mr. Chairman, my first mentor in politics, Senator Paul
Douglas. He happened to bring today Douglas's autobiography
which the Chairman of this Committee has told me is one of the
best books he has ever read about a Senator's public career.
Paul Douglas, of course, may not be remembered by many, but
those of us who do reflect on the fact that he was an excellent
Senator and an outstanding economist on top of everything else.
Of course, I have to add, when it comes to former Senators
from Illinois, Austan's current and future boss is a pretty
good fellow, too, who will leave a great legacy himself.
Austan understands the importance of learning from history.
I understand he hosted a program on the History Channel at one
point. I understand he is also a triathlete, which I am not.
Being really good at performing multiple tasks will be helpful
to him with the challenges he will face with this economy.
At this moment in history, now more than ever, we need the
best and the brightest tackling the economic problems that face
our Nation and our world. In the very short term, in a matter
of days, Barack Obama will try to create an economic recovery
that invests in our country's future, gets the economy growing
again, and puts people back to work. Among the investments we
must make, Austan has written in particular on the positive
economic impact of education, which I think is fundamentally
important at all times and even more so at this moment in our
history, when the cost of education continues to rise for the
middle class across America and their incomes are reduced and
jobs are lost.
Perhaps most importantly right now, we need advisors like
Austan who understand the economy and can help us aggressively
address the root cause of the recession, the foreclosure crisis
that continues to devastate neighborhoods in Chicago and across
America. Over the long term, the President has to deal with
unsustainable deficits, which is a fact of life. Unlike most of
the Chicago School economists, Austan believes deficits really
do count, and I trust that he will help incoming OMB Director
Peter Orszag and others plot a future course for the Nation's
budget that is more sustainable than the current path.
He has been an informal but tremendously valuable advisor
to President-elect Barack Obama for many years and I know he
will continue in that capacity if given this spot. As a member
of the Council of Economic Advisors and as the day-to-day
Director of the Economic Recovery Advisory Board, Austan
Goolsbee will be filling two key roles at once.
It is an honor to stand here and recommend and introduce a
great economist and a proud resident from the great State of
Illinois, Dr. Austan Goolsbee.
Chairman Dodd. Well, Senator, thank you very, very much. I
am impressed that you brought Paul Douglas's autobiography,
because Senator Durbin and I have talked about this many times.
My father thought he was the brightest man he ever served with
in public life, Paul Douglas, and that autobiography ought to
be required reading. It is the most wonderful autobiography. It
is wonderfully self-deprecating. It has a wonderful view of his
life, and a remarkable life he had. When you consider his
origins, where he grew up, how he grew up, and the
accomplishments he made, volunteering at age, I think, 42 for
the Marine Corps as a private in World War II, rising to the
rank, I think a field promotion to a colonel, just a remarkable
individual. So I am impressed that you are impressed by him, as
well.
We have been joined by my colleague from California.
Barbara, we thank you very much for being here to introduce Dr.
Romer and the floor is yours.
STATEMENT OF BARBARA BOXER
A U.S. SENATOR FROM THE STATE OF CALIFORNIA
Senator Boxer. Well, thank you so much, Mr. Chairman,
Ranking Member Shelby, Senator Enzi, and Senator Warner. I am
very happy to be here.
This is a tribute to Dr. Romer. It is one of those days
that we often have here where you want to be 17 different
people. I just left Dr. Rice, questioned her, went down to hear
Senator Biden, and I am here for you, Christina Romer, because
I am so excited about this opportunity to elect President-elect
Obama's nominee for the Chairmanship of the Council of Economic
Advisors.
Californians are so proud to have one of the world's great
university systems, and today I am proud to introduce one of
the finest scholars in that system.
The job of Economic Advisor to the President has never been
more important than it is today. I don't have to tell this
Committee. You have been in the forefront of trying to work our
way out of this, and I want to compliment all of you for the
great work you are doing. I know a lot of the times there is
not unanimity, but the problems are so hard, it is not that
surprising, and I value all of your comments, all of your
opinions, both sides of the aisle.
And I want to say particularly to the Chairman, heavy is
the head that wears this chairmanship. I just want you to know,
aside from everything else, how much I appreciate what you do
and Senator Shelby, trying to light a candle in this darkness.
In 2008, we experienced more job losses than any year since
World War II, and the past 3 months have seen the biggest jump
in the unemployment rate since 1975. Yesterday's retail sales
report showed the largest year over year drop ever recorded,
and there is overwhelming evidence of serious deflationary
pressures on the economy.
We are in the midst of the greatest economic challenge we
have seen in a generation and we need to look for leaders who
understand this, who understand history, and who understand the
way markets work, how markets should work, and I am sitting
next to one of those, Dr. Romer, who is uniquely qualified to
advise the President in these difficult times.
A former Vice President of the American Economic
Association, she is known in the economics community as one of
the finest macroeconomic historians in the profession. She
brings a combination, as I said, of a broad historical
perspective and a deep knowledge of the way the economy works.
Her research has examined the entire range of 20th century
American economic history, and she has made particularly
important contributions to our understanding of the Great
Depression, a period that unfortunately seems more relevant
today than it has for decades.
Mr. Chairman and Ranking Member Shelby, I am going to tell
you a little personal story, tell it to Dr. Romer and everyone
who is listening. My dad was a child of the Depression. He and
my mom got married just right when the Depression hit. And his
attitude about life was so scarred by that experience that he
was so frightened to ever buy a home. He was so frightened to
move in ways that would have been the right ways to move. So it
is all about confidence. And he knew in his heart that his
children shouldn't have that attitude, and he always said to
both of us, ``Go out, save your pennies, buy a home. It is
America. You will be fine.''
But the experience scarred him, and I think it is
important, so important that we don't have a whole generation
of young people scarred by this deep recession. And that is why
people like Dr. Romer are so important. She is an expert in
what happened during the Depression and she understands what we
need to do to avoid another depression.
So I look forward to working with this Committee in any way
I can. I am an old economics major. That was my passion in
college. I worked for a period of time on Wall Street, so
economics is very interesting to me. I wish that I was better
at giving solutions. But I do know that right now, we need to
surround ourselves with people like this who will do everything
in their power to lead us in the right direction and I hope you
will confirm her speedily. We need her.
Thank you very much.
Chairman Dodd. Senator, thank you very, very much. It is
very poignant. My father was trying to pay a way through law
school and graduated in 1932, and all of us of our generation
grew up listening to our parents night after night talk about
those days and what it was like, people all across the country.
So we thank you immensely for being here. And you are right, we
all are 17 different places today with these various things
going on.
Senator Boxer. Eighteen for me.
[Laughter.]
Chairman Dodd. Well, thank you very much.
Senator Kennedy very much wanted to be here to introduce
Dan Tarullo. Dan worked for Senator Kennedy going back a few
years ago. Senator Kennedy isn't here today, but I am going to
take a minute or so and just present Dan Tarullo to the
Committee, as well.
I have known Dan for some time. He is a professor of law at
Georgetown University Law Center. He is no stranger to this
Committee, by the way, as Senator Shelby has already pointed
out in reference to Dan in his opening comments about how many
times I think you have appeared before this Committee and
various places. He has testified on important issues in the
past.
He previously served as the Assistant to the President for
International Economic Policy and as the President's personal
representative to the G-7/G-8 group of industrialized nations
and a principal on both the National Economic Council and the
National Security Council during the Clinton administration.
Professor Tarullo graduated Summa Cum Laude from the
University of Michigan Law School and, of course, worked in the
Senate as the Chief Employment Counsel on what was then the
Labor and Human Resources Committee for Senator Ted Kennedy in
the 1980s.
So we welcome you to the Committee and congratulate you on
your willingness to accept this position to be a Governor on
the Fed. It is very, very important and we thank you for doing
that.
We thank all of you, in fact, for your willingness to
serve, and I am going to ask all of you to stand, if you will,
and to swear or affirm. Raise your right hands.
Do you swear or affirm that the testimony you are about to
give is the truth, the whole truth, and nothing but the truth,
so help you, God?
Ms. Romer. I do.
Mr. Goolsbee. I do.
Ms. Rouse. I do.
Mr. Tarullo. I do.
Chairman Dodd. And do you agree to appear and testify
before any duly constituted Committee of the U.S. Senate?
Ms. Romer. I do.
Mr. Goolsbee. I do.
Ms. Rouse. I do.
Mr. Tarullo. I do.
Chairman Dodd. I see some folks here, some children who I
presume are not economics majors yet, but why don't we begin
with you, Dr. Romer. Any family you would like to introduce? I
will ask each of you if you care to present them to the
Committee.
Ms. Romer. Absolutely. I have with me today my father,
Clifford Duckworth, a World War II veteran who is here from
Massachusetts, my son, Matthew, the youngest of my three
children, and my husband, David, also an economist.
Chairman Dodd. Good. Well, welcome. Interesting
conversations at your house, then.
Dr. Goolsbee.
Mr. Goolsbee. With me, I have--I will start with the love
of my life, the prettiest girl in Chicago, Robin, my wife. She
is holding our 2-year-old, Emmett. I cannot promise that he
will still be sitting in that seat through all of this hearing.
Next to them is our 5-year-old, Addison----
Ms. Addison Goolsbee. Hi.
Chairman Dodd. Hi.
[Laughter.]
Mr. Goolsbee. Linda, my mom, and my dad, Arthur, who is a
deacon at the Church of the Heavenly Rest and came from
Abilene, Texas, to be at the hearing.
Chairman Dodd. Good. We could use you. You might want to
stay in town. We can use you here.
Mr. Goolsbee. Our 8-year-old, Aden----
Chairman Dodd. Hi, Aden.
Mr. Goolsbee. ----who is being held by our family friend,
Sonya.
Chairman Dodd. Very good. A good crowd there. Thanks for
bringing them along.
Dr. Rouse.
Ms. Rouse. Well, my family is here today in force. I am
very happy to introduce them. I will start with my mother,
Lorraine Rouse, and my father, Carl Rouse, my sister, Carolyn,
and then we have my husband, Ford Morrison, and our children,
Nidal and Safa Morrison, and they are all from New Jersey, and
then we have my Uncle George, my Aunt Doris, George Haley, and
Phyllis and Bill Taylor----
Chairman Dodd. Is there anyone in the room who is not a
Rouse or a Morrison?
[Laughter.]
Ms. Rouse. And also Terrie Rouse, who is actually the CEO
of the Capitol Visitors Center.
Chairman Dodd. Ah, well, terrific. Great job, by the way,
with that. Well, that is terrific. I am glad you have got them
here.
Dan, anyone you would like to introduce?
Mr. Tarullo. Yes. Thank you, Senator. I traveled a bit more
nimbly here with my mother and my wife, Louisa.
Chairman Dodd. Terrific. We are delighted to have both of
you here, as well. It is an important day.
And I apologize we are crowded on this schedule. We have
already had opening statements, and so we are going to begin in
the order, going right down the row, we will begin with you,
Dr. Romer, any opening comments you would like to make, and
then we will get to some questions.
STATEMENT OF CHRISTINA D. ROMER, OF CALIFORNIA,
CHAIRMAN-DESIGNATE, COUNCIL OF ECONOMIC ADVISORS
Ms. Romer. Great. Well, Chairman Dodd, Ranking Member
Shelby, and Members of the Committee, it is an honor to come
before you as President-elect Obama's nominee to Chair the
Council of Economic Advisors. Obviously, I would like to thank
Senator Boxer for those warm words and Senator Dianne
Feinstein, who has submitted a written statement.
Let me tell you just a little about myself. I received my
Ph.D. in economics from the Massachusetts Institute of
Technology. I have taught economics at Princeton University,
and for the last 20 years, as Senator Boxer pointed out, at the
University of California at Berkeley. I am a specialist in
macroeconomics and economic history. I have studied topics such
as the effects of tax changes and monetary policy on the
economy, also what caused the Great Depression, and probably
much more important, what caused the Great Depression to end.
I have to say, I never dreamed that a knowledge of the
1930s would prove useful in formulating current economic
policy, and yet the stresses facing our financial system and
the shocks hitting every corner of our economy are the worst
since the Great Depression.
My goal, if confirmed, would be to use all that we have
learned in the last 75 years to ensure that the tragedy of the
1930s is not repeated. Perhaps even more important, I would
hope to create policies that not only allow us to turn the
corner on the current downturn, but to put us on a road to a
better and more productive future.
Let me just say one word about the organization that I have
been nominated to lead and that Austan and Ceci are also
nominated to join. The Council of Economic Advisors was created
to provide the President and through its reports the Congress
the best advice professional economists have to offer. It is an
institution with a proud history of providing honest, first-
rate economic analysis. If confirmed, I will do my utmost to
protect the integrity of the CEA and to make it the center for
unbiased scientific analysis of the crucial economic issues
facing our country in the years ahead.
Thank you, and I would obviously be delighted to answer
your questions.
Chairman Dodd. Doctor, thank you very, very much and we
appreciate your willingness to serve our country, as well.
Ms. Romer. Thank you.
Chairman Dodd. Dr. Goolsbee.
STATEMENT OF AUSTAN D. GOOLSBEE, OF ILLINOIS,
MEMBER-DESIGNATE, COUNCIL OF ECONOMIC ADVISORS
Mr. Goolsbee. Let me just start by saying what a thrill it
was to have the senior Senator introduce me. He got his start
in politics working for Senator Douglas, who was a great
Senator, but was a great economist out of the University of
Chicago, and for all the economists in the room, he was the
namesake of the Cobb-Douglas production function. So that was a
real thrill.
By way of background, I have been at the University of
Chicago for 14 years as a researcher. I am an empirical
economist, what we call the old style data dogs. We just try to
get out and get the data to figure out how the world works or
what would be the impact of various policies. I have studied a
lot of industries in the United States and how they compare to
the rest of the world, innovation and technology, taxes and
public policy.
Many years ago, when I was just a freshman in college, I
worked for the late great economist James Tobin, who was a
Nobel Laureate, and he had served on the Council of Economic
Advisors under John F. Kennedy in 1961. He used to recount that
that was the hardest he had ever worked, but that he was very
proud that he had been able to serve the country at that time
and he believed in his heart--he, himself a child of the
Depression--that economics was not just an academic field of
study, that it could really affect people's lives, that you
could help prevent or ease events like the Great Depression.
It is my hope that at the CEA, under Christy's leadership
and working with Cecilia Rouse, that we can try to equal the
standards that they set back in 1961 in what most people
consider the golden age of the CEA by giving hard-nosed,
objective analysis of any economic policies that we are asked
to. I can't guarantee that we will meet that gold standard, but
I do know we will come to work every day. We will bring the
best economic analysis we have. And we are motivated by this
great legacy we inherit at the CEA.
I thank Senator Shelby and Chairman Dodd for the
opportunity to be here and I also am happy to answer any
questions you might have.
Chairman Dodd. Well, I thank you for that, as well. Jim
Tobin was a good friend of mine. He taught at Yale, of course--
--
Mr. Goolsbee. Yes.
Chairman Dodd. ----and when he won the Nobel Prize in
Economics, just a wonderful human being, very quiet individual.
You have got a good pedigree with Paul Douglas and Jim Tobin,
so that is not bad lineage.
Dr. Rouse.
STATEMENT OF CECILIA E. ROUSE, OF NEW JERSEY,
MEMBER-DESIGNATE, COUNCIL OF ECONOMIC ADVISORS
Ms. Rouse. Mr. Chairman and distinguished Members of the
Committee on Banking, Housing, and Urban Affairs, I am very
pleased and quite honored to appear before you today as a
nominee to be a member of the President's Council of Economic
Advisors.
I am currently a professor of economics and public affairs
at Princeton, where I have been on the faculty for the past 16
years. I don't really like to use that number, but I will.
[Laughter.]
Ms. Rouse. As a labor economist, I am most committed to
understanding the problems, choices, and tradeoffs that
individuals face, particularly those that concern the labor
market. I am particularly interested in understanding the ways
to increase worker productivity, primarily through the
acquisition of valuable skills or what we call human capital.
As such, I have devoted much of my research to the economics of
education at all levels.
As a faculty member of a policy school, I have always been
deeply committed to studying real world problems and real world
implications rather than abstract theory. I was fortunate to
have the opportunity to apply these skills to actual
policymaking once before, in 1998, when I spent a year at the
National Economic Council, and I would be most honored, should
I be confirmed, to have the opportunity to do so again as a
member of the Council of Economic Advisors.
I should note that for the past several years, I have
taught one of the main introductory micro-economics courses to
first-year students at the Woodrow Wilson School in the
master's program, and I should add that this year's class is
particularly inquisitive and challenging. I emphasize to my
students the power of economics, both theoretical and applied,
in guiding analysis of policy issues. Should I be confirmed, I
would bring this dedication and enthusiasm to the President's
Council of Economic Advisors.
Thank you very much, and I look forward to answering any
questions you may have.
Chairman Dodd. Thank you very much, Doctor. I appreciate
that.
Dan, good to have you with us. We are more than happy to
receive your opening statement.
STATEMENT OF DANIEL K. TARULLO, OF MARYLAND,
MEMBER-DESIGNATE, BOARD OF GOVERNORS OF THE FEDERAL RESERVE
SYSTEM
Mr. Tarullo. Thank you, Mr. Chairman, Senator Shelby, and
other Members of the Committee. As honored as I am by the
President-elect's designation of me as his intended nominee to
the Board of Governors of the Federal Reserve System, I am also
mindful of the enormous responsibility that would come with
this position.
As if we needed any reminder, today's headlines underscore
the magnitude of the financial and economic problems faced by
our Nation. The Federal Reserve has a critical role to play in
responding to these challenges. As the Nation's central bank,
it must pursue its dual mandate of promoting maximum employment
and stable prices in an unusually trying environment. It has in
the past year taken a number of unusual and innovative actions
intended to ensure liquidity in important credit markets whose
functioning has been significantly impaired in the course of
this crisis. And very importantly, as a bank regulator, the
Board must use its existing authority to provide both effective
supervision and robust enforcement. Going forward, it must join
with other parts of our government to help revamp the financial
regulatory system so as to diminish the likelihood and severity
of future financial crisis.
If confirmed by the Senate, I will draw upon both my
government and academic backgrounds in addressing each of these
responsibilities of the Board. I have the highest respect for
the tradition of independence associated with our country's
central bank. At the same time, I understand that although so
much of the Fed's work is necessarily grounded in technical
analysis, the ultimate purpose of this work is to create the
conditions under which Americans can make a good life for
themselves.
Thank you very much, and I would be pleased to respond to
any questions.
Chairman Dodd. Well, I thank you, Dan, very, very much for
that.
We have a vote that is literally just about to start in 2
minutes, two votes on the floor of the U.S. Senate, and so what
I am going to do at this point is declare a recess for about 30
minutes. I think it will take us that long to cast both those
votes and get back. I apologize to all of you for this delay,
but we had a lot of questions obviously with the nominee for
the Securities and Exchange Commission. So we will get back
shortly to you and we will complete the process, hopefully in
an hour or two. So thank you very much for waiting.
The Committee will stand in recess.
[Recess.]
Chairman Dodd. The Committee will come back to order. I
hope you used this time to get to know each other better.
It took a little longer than we anticipated and I apologize
to you, in advance, for that.
I am going to ask, and I have notified my friend from
Alabama, that we will begin a question period. And obviously, a
lot going on. In fact, the debate on the so-called TARP program
is going to begin shortly and I will go through some questions
for you myself and then Senator Reed has agreed to step in for
me as I then go to the floor and try to manage that debate.
I would rather stay here, quite candidly, but the job of
the Chair of this Committee with jurisdiction over the matter
is to be out on the floor. So I will be doing that.
Let me raise with all of you the TARP issue, in fact. This
is the debate and subject of the hour. President Bush has made
the request. President-elect Obama has endorsed the request,
and said that this is a tool that he needs as the President-
elect coming in.
Obviously, I do not need to tell anyone in this room or
elsewhere how unpopular all of this is, primarily because
people one, believe that this was not a natural disaster, it
was an avoidable one. That, in my view, had actions been
taken--and I appreciate Senator Shelby has shared his thoughts
with me, as well--that we tried 2 years ago to raise the issue,
the closure issue, on numerous occasions in this very room, and
had very little response to it. And certainly we will take some
time in the coming weeks to go back and find some space to go
back and review. We already have a couple of hearings on this
matter about how we got to this position.
I think both of us agree that while that is important
because you are not going to know where to go unless you know
where you have been, that we also want to take our time to
start talking about what needs to be done to avoid problems
like this from occurring again. So I consider that actually a
more important function, not to minimize the importance of a
review.
But I would like to ask all of you, and I will begin with
you, Dr. Romer. I see Ben Bernanke has bluntly warned a few
days ago that the Government would probably have to infuse more
money into the financial institutions in the months ahead. The
issues involved in this, I wonder if you agree with Dr.
Bernanke, Chairman Bernanke, about the additional funds needed?
And can you help explain to the American public, and I would
ask all four of you to do this in different capacities.
Obviously Dan, down at the Fed, has a different role than the
Council of Economic Advisors.
But I think one of the glaring problems has been here is
the failure to explain clearly to the American public what is
going on here. Why are we needed? Why is it needed to put
capital into these lending institutions? We hear now Bank of
America may be requesting new resources. The news this morning
is not good, 17,000 people a day losing their jobs, 9,000 homes
a day falling into foreclosure.
So the concerns and the evidence out there about an economy
in deep trouble, but the public has a hard time understanding
why we are where we are and why this approach is needed as part
of the solution to get us back on our feet again.
I am not even articulating the question very well. But Dr.
Romer, would you begin and I would ask each of you to go down
and share your thoughts.
Ms. Romer. Of course, and I think you are expressing the
frustration that certainly I feel and that we know the American
people feel about what has happened so far.
I think I feel quite strongly that Chairman Bernanke is
correct, that no one has as good a window on the banking system
and the financial system as he does. And by all accounts, they
are still under incredible stress, and are going to need our
help, our resources, to get them through this.
Maybe where I could be the most helpful is trying to
explain why the financial system is so important. I think part
of the frustration is in helping them there is the sense of we
are just helping the Wall Street bankers. And drawing the link
between what happens in the financial system and what happens
in the rest of the economy, I think, is crucial. It is exactly
when lending dries up, people cannot get mortgages, they do not
buy houses. They cannot get car loans, they do not buy cars.
Firms cannot get loans to meet payroll, they shut down and
people are unemployed.
And so it is--any resources that we are putting there are
fundamentally really resources we are putting into American
businesses, to American consumers. And I think that is the
crucial piece.
The fact that if we let the financial system go under,
suffer a catastrophic failure, it will not just be catastrophic
for Wall Street. It will be catastrophic for everyone of us. So
I think that is the key point.
Chairman Dodd. Dr. Goolsbee, what are your thoughts on
this?
Mr. Goolsbee. Mr. Chairman, in broad terms, I agree with
what Dr. Romer has just said.
As a guy that focused a lot on American industry in my own
research, I will say the prospects of an unprecedented credit
crunch and the damage that would do to American industry, and
the spillover on millions more people doing their jobs, at this
exact moment I think we have got to be very careful with doing
things that threaten to make this problem worse.
Now that said, I completely agree with Dr. Romer, and with
many members of this Committee who have been, for a long time,
been expressing well founded frustration in the lack of
transparency in the way this specific TARP has been conducted,
that we ought to have, in my view, and we ought to bring our
analytical resources to bear. We ought to have some
understanding of what it is they are doing, why do we think it
will work? What will the money be used for? That it will not be
wasted. And that this not just be some grand allowance program
that we are handing out money with no upside to the Government,
no chance for it coming back. That is not where we want to be.
But on the fundamental matter of is it needed, if you look
out at the credit markets, the financial markets, and the job
markets, I think it is needed. I mean, it is a very fragile
time in the economy.
Chairman Dodd. Dr. Rouse.
Ms. Rouse. Thank you, Mr. Chairman. I think this is a
wonderful question. As someone who just arrived in Washington
on Sunday, I have not been part of the inside discussions about
the TARP, but I have had the opportunity to look on the
outside.
And I myself, as I am teaching my students about
microeconomics about insurance, we are saying why do we want to
reward failure? As a taxpayer, I am wondering is this really
necessary?
But I have to say that the other thing that I teach my
students is that well-functioning credit markets are
fundamental to a well-functioning economy. Without well-
functioning credit markets, consumers cannot make long-term
investments in their cars and their houses. Students have
difficulty getting student loans to make investments in their
human capital going forward.
And so I think a well-functioning credit market is
essential. I think this is part of a well-balanced program to
try to get the economy up and running. But I do endorse Mr.
Bernanke's suggestion that this TARP money is essential.
Chairman Dodd. Dan.
Mr. Tarullo. Thank you, Mr. Chairman.
We have all been commenting on the gravity of the economic
situation facing the country. I think in these circumstances we
need, as a Government and as a country, all of the tools that
are potentially at our disposal. We need, obviously, the tools
of macroeconomic policy, monetary policy, and the various
liquidity facilities that the Fed has created. We need the
guarantee authority in the Federal Deposit Insurance
Corporation. We need the fiscal measures which the U.S.
Congress will be taking up.
But we also need this reserve of resources, which can be
deployed to strengthen the capital positions of the American
financial system right now, which are under enormous stress. I
might add, though, that from the potential perspective of the
Federal Reserve, the TARP can serve a complementary purpose as
well.
As you probably know, in one of the recent facilities which
the Fed created in an effort to inject liquidity into various
consumer loans and into small business loans, there is some
credit risk. And given the Fed's policies on not assuming
credit risk, the Treasury was willing to provide some portion
of the TARP as a kind of credit backup, which allows that
liquidity facility to be created. And that is obviously
critical to getting those markets affecting consumers and small
businesses moving again.
Chairman Dodd. A lot of our colleagues, in talking about
this--and obviously, they are going to start a debate here in a
matter of minutes--and asking their views on this, they have
been disappointed in how the program has been run over the last
number of weeks since it was adopted in the end of September,
early October, and are asking questions about a greater
specificity on how the program could be run and operated
differently.
One of the concern is--well, there are number of them:
accountability standards, transparency. Warrants I think are
not really a debate. We understand that will be in place. The
issue of foreclosure mitigation, utilizing these resources to
try and minimize the cascading problem of home values and
people losing their homes.
There are concerns being raised as well about whether or
not these funds ought to be used in any way other than within
the financial system. We had a debate recently on the
automobile issue. And while I think a case could have been
made, obviously it was made, and the administration--the
outgoing administration--endorsed putting some loans out there
for the three major automobile manufacturers.
I wonder if you might comment on these various points: on
executive compensation, on accountability standards,
transparency, as well as foreclosure mitigation. And again, Dr.
Romer, let me begin with you if I can.
Ms. Romer. I could not agree more that we absolutely, in
thinking about going forward, want to have a much clearer sense
of what we are trying to accomplish, articulate what the
program is going to do, and put a lot more restrictions and
teeth on it.
So the things you mentioned about accountability, the
American people, the Congress. We ought to know who is getting
funds, where it is going.
I think your point about using it certainly for foreclosure
mitigation, I know the President-elect is absolutely committed
to that and that will be a fundamental part of this program
going forward.
On the issue of conditionality, I think one of the ways
that I have heard the President-elect describe it is as
sensible conditionality. For example, of course it should not
just go into executive compensation. Of course, you should put
some limitations on what you can do with dividends and mergers
and acquisitions. Certainly, they want to have much stronger
references on or certainly reporting on what is happening to
lending.
And I think all of that--because it is a trust. It is the
American people's money that is being--these resources are
being invested in financial institutions, as we have all
suggested, for a very important purpose, to keep our financial
system helping the rest of the economy. But it needs to be done
in a responsible way. And I think that is the key going
forward.
Chairman Dodd. Adam Posen, who is the Deputy Director of
the Peterson Institute for International Economics, described
the problem with TARP in the following words, and I quote him.
He said ``The problem is not that we have wasted the money. The
problem is that we have put too few conditions on the banks.''
Dr. Goolsbee, how do you react to that?
Mr. Goolsbee. I agree that we had problems and that we did
not put enough conditions. I guess I do not agree that that is
the only problem. It sounded like he was saying that is the
only problem. I think in an area of this that I have been
somewhat involved in on housing, I think it was a big mistake,
and I think most experts now looking at the operation of TARP
think it was a mistake not to directly confront the foreclosure
crisis directly. Because if you are just trying to deal with
the financial system and you are not thinking about the real
economy influences, the number one most important of which is
the housing market, I am not sure that you can get out of that
box.
Now the President-elect was, as you know, very early on
saying that. So before the first TARP was voted on, he was
saying look, we may have to do things because there is this
terrible moment of crisis. But let's not forget, our problems
are rooted in the problems of the real economy, on the squeeze
on ordinary middle class Americans whose incomes have been
stagnant, and the dramatic developments in the housing market
that have left a whole bunch of people unable to make the
payments on their houses.
That is what the root of this problem--that is where it is
to be found. And we are going to have to confront those issues
directly.
Chairman Dodd. I apologize.
Dr. Rouse, any comments on that at all? Do you want to pick
up on that line?
Ms. Rouse. I guess what I would add to that is the first
half of the TARP is relatively new. And I think to really
understand and analyze where things went wrong and what the
different pieces are that have contributed to its success or to
the performance it has to date is something that I would look
forward to, should I be confirmed, to really understand as part
of the Council of Economic Advisors.
Because I think you are right, it is hard to understand how
to go forward without really understanding where we have been.
Chairman Dodd. Dan.
Mr. Tarullo. Thank you, Mr. Chairman.
A couple of things here. First, I think with respect to
conditions or the structure of the program, everyone needs to
keep in mind--and I believe that at this point, because of what
you and others have done, people will keep in mind the aim of
this very unusual action by the Congress last fall in making
these resources available.
The aim is the stabilization of the financial system in
this country. The aim is to return our financial system to the
circumstances in which growth is again going to be promoted.
And keeping that aim in mind, I think, should help shape the
program as a whole and the conditions that are deployed along
the way.
The second point I would add is that the importance of
transparency is, I think, obvious as a matter of democratic
accountability and one that I wholeheartedly endorse. But there
is another important role that transparency can play, and that
is in the signal it provides to the markets as to what the
Government policy is and how the Government intends to lead the
economy out of its present situation.
When that is made clear through statements by the President
and the President's senior officials, then markets get a better
sense of where the effort is being made and they are in a
position to judge how the results of those efforts are yielding
or not yielding the kinds of changes they would like to see.
So I think if it is done well, you get a double benefit--
the actual stabilization of the institutions or markets in
question and, second, more confidence to economic actors as a
whole that there is a plan for moving us forward.
Chairman Dodd. I had a constituent of mine, I met with a
group of people and talked about this issue, they were
knowledgeable about the subject matter. All of them were in the
financial services sector. A lot of things were said that made
sense to me a couple of weeks ago.
But one thing that one of them said, there needs to be a
framework for this. There seems to have been an absence of a
framework that people can understand. And I think that is the
point you are making.
Let me just ask you this last point, and then turn to my
colleagues. As all of you here have watched all of this from
one vantage point or another, in your view would the situation
be substantially worse today had we not acted in September?
Mr. Tarullo. Yes, I think it would, Mr. Chairman. With all
of the reservations that you and your colleagues on both sides
of the Hill have expressed, and the American people have
expressed, many of which are very well founded, I do not think
we can deny that the situation in the fall was a very grave one
indeed.
It is always hard, of course, to prove the counterfactual,
what would have happened if. But I, at least, and I think many
observers, are convinced that the situation was sufficiently
dire at that point that action was called for.
Chairman Dodd. Do you want to quickly comment on that, Dr.
Rouse?
Ms. Rouse. I guess I would agree. Ultimately I do not have
a crystal ball and I do not know what would have happened had
we not had the first--had the TARP not been exercised. But from
everything that I have read, everything that I have seen, the
downside risk was very high. And that is what worries me going
forward, as well.
Mr. Goolsbee. I guess I would say almost everybody can
agree that there was at least a significant chance of a really
fundamental collapse of the credit system at that time. And
just the prospect that there was a chance of that, we had to do
something to prevent that.
Chairman Dodd. Dr. Romer.
Ms. Romer. I would like to agree very much, and actually,
to again put this in the context of going forward. Because I
think, coming back to your initial question about Chairman
Bernanke, I think it is very important to realize the U.S.
financial system is still very weak. And that is precisely why
we are having this debate about the second tranche, is
exactly--and here, I will use a little bit of my economic
history.
When you look at the Great Depression, we had one shock to
the financial system. But then what happened is as the economy
went down, that further weakened the financial system and we
had a sequence of--there were four waves of banking panics.
And that is--certainly, when I arrived shortly after
Thanksgiving and started looking at the forecasts and thinking,
very much what was so much in my mind was we have been through
a huge shock to our financial system. Now, as those effects are
feeding into the real economy and we are starting to see the
unemployment rate go up, housing prices go down more, that just
puts additional stress on the financial system.
So that is why going forward those resources, knowing we
have behind us the ability to help our financial institutions
is just absolutely crucial.
Chairman Dodd. I appreciate you all very much. I have
mentioned this to Senator Shelby and Senator Reed. We are going
to try, in the midst of everything else, given the time we are
in--and I say this particularly to the Council of Economic
Advisors, but we do not exclude Fed members--to get together
even informally and spend some time talking about some
historical consequences and historical examples and how we can
better understand what steps we need to be taking.
So I know your primary responsibility is obviously to the
President, but you are confirmed by the Congress. And so we
feel as though we can have an opportunity to take advantage of
your expertise and knowledge as well. And we would like to do
that. I do not know how frequently we can, but it is something
I would very much like to institute during this very difficult
time we are in so that we are well aware of the ideas and
thoughts that you bring as a result of your expertise and
background.
So I thank you very much. And I apologize for now going up
and trying to see what we can do to get this TARP money
adopted.
I would like you to keep Senator Shelby here as long as
you.
[Laughter.]
Senator Shelby. Thank you, Mr. Chairman.
Chairman Dodd. My dear friend, Senator Shelby.
Senator Shelby. Thank you.
I want to direct this question primarily to you, Dr.
Goolsbee. This question is probably one we need to be thinking
about in the future.
It has been reported that credit derivatives peg the
probability of a U.S. debt default over the next 10 years
compared to 1 percent a year ago. Analysts point to a
combination of factors, including the economic downturn,
financial sector fragility, concerns over the increase in the
size of the Federal Reserve's balance sheet, and the projected
size of the budget deficit.
The chances of these risks resulting in a downgrade of U.S.
credit rating probably, some would say, is remote. There is,
however, some precedent as Japanese debt was downgraded in the
1990s, as you all know, as economists.
Dr. Goolsbee, do you have any concern about these market
data, and this is your field, and their implications for our
fiscal policy going forward?
Mr. Goolsbee. Well, Senator, I did not----
Senator Shelby. And if not, why not?
Mr. Goolsbee. Sorry to cut you off there.
Senator Shelby. No, you did not cut me off.
Mr. Goolsbee. I did not have those statistics, and that is
very striking to hear that sixfold increase. It may be a small
percentage. But as I indicated before, even a small percentage
of something as terrible as that----
Senator Shelby. Well, we have got unprecedented debt out
there, have we not?
Mr. Goolsbee. We do have unprecedented debt.
Let me answer your question directly in two ways. The first
is at this exact moment, facing the fragility that Dr. Romer
has spoken of and that you are familiar with, I do not believe
that over the next 2 years we can make major deficit reduction
or balancing the budget a goal. I think that would run the risk
of repeating one of the mistakes of Herbert Hoover, that led us
into the Depression.
Once we get out of that----
Senator Shelby. Did he want to raise taxes during----
Mr. Goolsbee. His goal was let's try to balance the budget,
and as the thing gets worse let's raise taxes and cut spending
to balance the budget, in the face----
Senator Shelby. That certainly did not work.
Mr. Goolsbee. And that was a bad idea. That is the
motivation behind the recovery package.
The answer to two is once we are out of that, I believe
absolutely, we need to pay close attention to fiscal
responsibility in the medium and the long run of thinking about
health care costs and the things facing the country.
Senator Shelby. What was basically, within figures--and
probably all three of you know this, or should know it--what
was our national debt say in 1932 overall? It was not much.
Ms. Romer. It was very small.
Senator Shelby. As a matter of fact, I believe that we had
paid down a lot of the first World War debt during the 1920,
had we not?
Ms. Romer. We had, absolutely.
Senator Shelby. So we, as far as a Nation, we were not a
Nation of debt then, were we not?
Ms. Romer. Oh, you are absolutely correct.
Senator Shelby. As compared to today. Is that fair?
Ms. Romer. That is fair.
Mr. Goolsbee. Yes, that is fair.
Senator Shelby. So we had more options this way.
Professor Romer, I want to direct this to you because you
have worked in this area and you have published in this area.
You note that tax increases can have, quoting your words,
``Have a large, rapid, and highly statistically significant
negative effect on output.'' Those are your words.
You wrote that quote, and these are your words too, ``Tax
increases have a large negative effect on investment.''
I hope you continue to voice these opinions when giving
economic advice to the President. And I agree with you on that
basic philosophy. Have you changed any? Do you still believe
that? Or have you compromised those principles?
Ms. Romer. That was the result of an empirical study and I
am, at heart, an empirical economist. And I absolutely----
Senator Shelby. You stand by that?
Ms. Romer. I absolutely stand by them.
I think there are a couple of things to say. One is I also
think that Government spending----
Senator Shelby. Absolutely.
Ms. Romer. Changes in Government spending have big effects.
Another way to state those same findings is that tax cuts have
positive effects on the economy, and that is part of why they
are a piece of the recovery package, as we have been
discussing.
Senator Shelby. Dr. Tarullo, the Federal Reserve's balance
sheet--and you will be joining the Federal Reserve as a member
of the Board of Governors--has grown to over $2 trillion. As a
central bank, the Federal Reserve has been providing direct
support to various aspects of the credit market. You are very
familiar with this.
While these actions, some argue, may be necessary to
restore the normal functioning of markets, they also lead a lot
of people to believe and be concerned about how the Federal
Reserve will be able to smoothly withdraw from all of the
markets in which it has intervened. This is real intervention
in the market.
Others refer to the Fed, as you have heard, as printing
money--and they are obviously printing money--to deal with the
crisis and that we will deal with inflationary concerns later.
How difficult do you believe it will be for the Federal
Reserve, which you will be part of, to remove itself from these
various credit markets? And how will the Federal Reserve know
when such action can take place? And do you have any concerns
regarding the scope of the Fed's involvement?
Mr. Tarullo. Senator, let me begin by saying that the exit
strategy is going to be an exercise in innovation, just as the
entry strategy was an exercise in innovation. I think that
inevitably means that there are going to be difficult questions
of judgment and timing along the way.
With respect to the balance sheet itself, there are, of
course, a lot of assets now on the balance sheet of the Fed.
The purpose of the Fed, as I understand it, in creating these
liquidity facilities has not been directly to increase
reserves. But reserves have nonetheless been increased along
the way. And as I think the gravamen of your question suggests,
that leads at least to the potential for monetary consequences
later on.
Under the current circumstances, of course, inflation is
not an imminent concern. In fact, I think most economists would
suggest that deflation is more of a concern at the moment than
inflation.
Senator Shelby. At the moment.
Mr. Tarullo. At the moment. But as you rightly suggest,
there will come a point at which the unwinding, the exit, is
critical. And I think that precisely because of the novelty of
the situation, there is not going to be an obvious point based
on a pre-existing data series which suggests now is the time.
But I think two things will happen. First, because a number
of these facilities are themselves dependent upon demand from
private markets, as those markets normalize you will probably
see a decreased utilization of some of those Fed facilities.
And so that will both begin to draw down the size of the
balance sheet and to help provide some signal as to when credit
markets are normalized.
Second, I believe that the Fed, as a matter of ongoing
policy, will need to be vigilant in absorbing all data sources
in observing the economy and putting together risks of
inflation with getting the economy moving again.
And although I cannot sit here today, as I say, and tell
you here is the point at which one has to more actively begin
to reverse course, I think it is critical to bear that in mind.
And I can assure you that, if confirmed by the Senate, I will
be in that mindset.
Senator Shelby. Professor Romer, you have written that--and
these are your words--I quote, ``Fiscal policy was a little
consequence'' in ending the Depression, that almost all of the
recovery was due to monetary expansion. Is that correct?
Ms. Romer. That is.
Senator Shelby. What is different in today's economy that
would indicate that a massive fiscal stimulus will work now,
when it did not work in the 1930s?
Ms. Romer. Actually, I think that is a wonderful question
and I am glad to have a chance to answer it because one of the
most famous statements about the Great Depression is not that
fiscal policy did not work, but that it was not really tried.
And that, I think, is the crucial point. It is not that it
would not have worked but sort of as----
Senator Shelby. We do not know if it would have worked, do
we?
Ms. Romer. ----as an empirical question, the size of the
fiscal stimulus, we think of Roosevelt as coming in with a big
Government spending. In fact, compared to what we are
considering today, it was relatively small.
The other thing, just as we have today, we are talking
about how States are tending to start to run--they are running
up against balanced budget requirements. In the 1930s, as soon
as Roosevelt came in, the very interesting thing is that the
States said oh thank heavens, the cavalry is here, we can get
our budgets back in order. And so actually, on net, very little
fiscal stimulus.
So the reason I think there would be a big difference today
is we would be doing a lot more. I think the evidence is very
strong that it will do good. And so I expect it to be very
helpful.
Senator Shelby. You have a background in monetary policy
here.
Ms. Romer. I do.
Senator Shelby. What role do you believe that expanding the
monetary policy played in creating the housing bubble? Does it
not always create problems? And you do not know when to quite?
Is that a role of the Fed?
Ms. Romer. I actually think this is an empirical question
for which we do not really have the answer yet. I think that
that certainly is a relationship you hear, that low interest
rates fed the bubble.
I think, as an empirical matter, it is not at all clear. It
is something again, I am sure, the Fed is going to be thinking
about this for going forward. It is something I would, in my
previous life, think would have been one of--as a university
professor--one of the key issues to be thinking about because
in thinking about going forward, obviously, we do not want to
go through this again.
Senator Shelby. I want to direct this, I am not going to
get Dr. Rouse get by yet, and I have already questioned Dr.
Goolsbee. But I want to direct this question to Dr. Goolsbee
and Dr. Rouse, if I can.
Many analysts have written that a cut to payroll taxes will
result in a more immediate and widespread stimulus by putting
more money in people's pockets, especially if the tax cuts are
concentrated in lower to moderate-income brackets. In other
words, our working people in the country.
This approach would also, according to them, have the added
benefit of avoiding having the Government pick winners in
losers in terms of where any stimulus funds would be spent. It
would be up to the people, the market.
Dr. Goolsbee and Dr. Rouse, have you discussed this
approach with President-elect Obama? And if not, will you? And
has it been included in the stimulus plans that your team has
circulated?
You three are going to be advisors to the President on
economics.
Mr. Goolsbee. Senator, thank you for that question. I
believe that the issue you are raising about cutting payroll
taxes and giving tax relief to ordinary working Americans can
be more than just a benefit to a group that has been squeezed.
It can serve as a stimulus.
Not to get too much into what our specific discussions were
Senator Shelby. Even if it is for a couple of years or so
it would help? And how much money are we talking about?
Mr. Goolsbee. It is potentially a very substantial amount
of money. I would point out that the President-elect's making
work pay tax credit is premised on exactly this idea. It is to
give up to $500 per worker of tax relief based on the payroll
taxes paid. It is serving very much that function.
Senator Shelby. Yes, but that has to come later when he
claims that credit on his tax return, does it not?
Mr. Goolsbee. Well, much of the discussion now is to try to
utilize that credit, perhaps change the withholding tables, so
that it would serve very much that function.
Senator Shelby. Doing the same thing in a different way.
Mr. Goolsbee. It would be doing the same thing in a
different way. And the only reason one is wary about directly
changing the payroll tax is obviously that the payroll tax is
going into the Social Security Trust Fund. So then one has got
to have a different discussion about what is happening to the
money that would be going into the Social Security Trust Fund.
Senator Shelby. Maybe you ought to discuss that with the
young people of America. They, I think, consensus-wise they
believe that they are not ever going to get any of it. And they
are probably right.
Mr. Goolsbee. I do not know the answer to that one, but
look, I do take your point, Senator. It is an important point
that we ought to keep in mind.
Senator Shelby. Dr. Rouse, do you disagree with Dr.
Goolsbee, agree with him?
Ms. Romer. Have I ever disagreed with Dr. Goolsbee?
Senator Shelby. Absolutely, I am sure you have.
Ms. Romer. I have to say, I have not yet had the privilege
of directly advising President-elect Obama. But going forward,
should I be confirmed, I certainly look forward to doing so.
And I certainly believe that, especially in this time where we
are trying to jumpstart the economy, a balanced portfolio would
include tax cuts, especially for the middle class and for the
working class, as well. And I would encourage him to look at
that, as well.
Senator Shelby. Professor Tarullo, bank regulation. As a
member of the Board of Governors of the Fed, you will likely
consider financial regulatory reform with all of us this
Congress. I believe before we examine what changes should be
made, that it is important that we first understand--not just
the Fed, but the White House and this Committee--what
regulatory mistakes helped produce the current financial
crisis. There are probably many.
In your view, what have been the biggest regulatory
failures that have played the biggest role in creating the
current financial crisis? I do not think we can exclude any of
the regulators.
Mr. Tarullo. I would endorse that last statement of yours,
Senator. I think that there have been enough shortcomings to go
around.
It struck me a few days ago that you and I were sitting in
this same room more than 3 years ago talking about financial
regulation. And I regret to say that the concerns that I had at
the time have been more than justified by subsequent events.
I think that we have got to begin with a recognition that
when you have depository or other financial institutions with
potential access to liquidity facilities of the Fed, or with
Federal deposit insurance, that the capital buffer to be
required for those institutions needs to be an adequate buffer.
And that premise, which has been central to much financial
regulation, I think has not been implemented in such a way as
to provide the necessary safety and soundness for our financial
system. And I think going forward the first thing we are going
to need to do is to determine how we are going to ensure
adequate capital, because capital provides a buffer against
losses no matter what their source. That is a good reason for
it to be a key part of financial regulation.
Second, I think that we have learned that too much
financial regulation has focused only on a particular
institution, in a kind of silo-like fashion. But as we now
know, and as I think some observers were suggesting some years
ago, much risk is developed in markets because of the actual or
potential interactions among market actors. I think we saw
recently, for example, that firms have strategies which entail
reliance upon being able to sell assets in a particular moment.
And it works just fine up until the moment where everybody
wants to sell those same assets.
So we also are going to need devices like central
counterparties and more transparency and a greater sense of the
interactions among market actors to supplement what I will just
say I believe to be the need for more rigorous institution-
specific regulation.
Senator Shelby. You have testified before the Committee
before on Basel II and your concerns, and we have had those
concerns, too. What is your view on the adequacy of capital
levels of U.S. banks? We know it is inadequate. That is what
our problem is today.
Mr. Tarullo. Correct.
Senator Shelby. And for a number of years, the trend was
going the other way, as you know. The trend has got to come
back to strong banks, strong capitalized banks. And what will
be your role as a member of the Board of Governors of the Fed
and also as a Central Bank member, and also a bank regulator
there?
Mr. Tarullo. Well Senator, first I would hope to contribute
to the role of navigating through the current crisis. And
obviously that requires a substantial amount of oversight on
the financial institutions in question. As you say, at present
my strong suspicion is that the capital levels in many
institutions are not where we would want them to be. And under
present circumstances, they are going to have substantial
difficulty raising capital from the normal sources from which
they would otherwise seek to obtain it.
Going forward though--I think you were alluding to this a
moment ago--I think collectively, by which I mean the
administration, the independent regulators, this Committee, and
the rest of the Congress are going to need to reshape a
financial regulatory system in a way that is adequate to not
just the risks we have seen in the last 18 months. Because as
you know, Senator, so often we respond to a crisis by making
sure that that crisis does not happen again. Well, that
particular crisis not going to happen again.
The key is to put in place systems that both monitor and
identify potential new sources of stress, and that have the
wherewithal to contain it. And that, I think, is our collective
task for--my own personal hope----
Senator Shelby. Our challenge?
Mr. Tarullo. ----2009.
Senator Shelby. You cannot let the market run ahead of you,
can they?
Mr. Tarullo. The market is going to be----
Senator Shelby. As a regulator that would put risk and
stress in it?
Mr. Tarullo. That is right, Senator. The market is always
going to be innovating.
Senator Shelby. Oh yes, and we want it to be innovating.
Mr. Tarullo. And we want it to be innovating, but we need
to have at least three things in place. One, the capital buffer
to which I alluded.
Senator Shelby. Absolutely.
Mr. Tarullo. Two, an assurance that the risk management
systems of these institutions are sound. And I think another
thing we have learned is that risk management within financial
institutions fell well short.
And third, as I said a moment ago, the capacity to respond
to and contain risks as we see them bubbling up.
Senator Shelby. Dr. Goolsbee I have one last question, Mr.
Chairman, and then a short statement.
Dr. Goolsbee, you have cautioned in the past that any
efforts to reregulate the mortgage market should not limit
innovation. You just alluded to that and I agree with you.
For instance, you have argued--and these are your words--
``The historical evidence suggests that cracking down on new
mortgages may hit exactly the wrong people.''
You have also stated, and I quote again your words,
``Almost every new form of mortgage lending, from adjustable
rate mortgages to home equity lines of credit to no money down
mortgages, has tended to expand the pool of people who
qualify'' in this country.
Dr. Goolsbee, moving forward, what restrictions, if any, do
you believe this Committee should place on the types of
mortgage products offered? Or should it be our role to place
that? It should be on the regulator or what? I know we will do
harm. Every time you are doing good you can do some harm, too.
What do you believe in this area?
Mr. Goolsbee. Senator, thank you for bringing that up. Let
me observe one thing about the quotes that you mentioned.
That was from an article. I wrote a column, an economics
column, for The New York Times, which was not an opinion
column. It was my writing about other people's research.
Senator Shelby. But it was your words though, was it not?
Mr. Goolsbee. They were my words, writing about the
research of a Republican economist----
Senator Shelby. You are not repudiating that, are you?
Mr. Goolsbee. ----Harvey Rosen. I am not repudiating that I
wrote it, but it was about the implications of the work of
economists that had done research on this 1970 to 2001 period.
Senator Shelby. I just want to put it in the proper
context.
Mr. Goolsbee. So that is the proper context, that I was not
trying in that to give my own opinion.
Senator Shelby. OK.
Mr. Goolsbee. The thing that changed, and I have talked
with Professor Rosen about his study and what the lessons were
going forward past that, in the mid-2000s, which are outside
the data in the Willen-Rosen paper, they threw all pretense of
prudence to the wind. In many cases, there were mortgage
brokers, there were people outside the regulatory apparatus
that were committing even illegal activities.
Senator Shelby. What about the----
Mr. Goolsbee. I think for this Committee----
Senator Shelby. What about the investment bankers?
Mr. Goolsbee. And the investment bankers are not excluded
for that, absolutely right.
Senator Shelby. And what about Fannie Mae and Freddie Mac?
Mr. Goolsbee. Look, they are, as Professor Tarullo and as
you indicated, Senator, there is a lot of blame to go around.
What I would say for this Committee, one principle that is
worth bearing in mind is that through the 2000s, our disjointed
regulatory oversight apparatus allowed for regulatory
arbitrage. So if you look at subprime lending, two-thirds of
the subprime lending was done by non-banks. So even if the Fed,
for example, had put in completely reasonable rules on what our
sensible--what would sensible lending origination standards be,
that would not have applied in most cases to most of the
subprime lending.
I think one thing this Committee might consider,
respectfully, would be thinking about this issue of regulatory
arbitrage and trying to bring some rationalization of that
across sectors.
Senator Shelby. We have got to make the system work.
One last observation, I thank you for your ability and
willingness to serve, all four of you, and your patience here
today. We wish you well. I plan to support your nominations.
Mr. Goolsbee. I appreciate that.
Senator Shelby. Do markets work, people say. Yes, I believe
they do work. They nearly always work. But you have to have--
and you alluded to this. But you have to have trust, integrity,
and transparency in the market. And I believe that trust is
absent today. And that is our challenge, how do we bring it
back together, is it not?
Mr. Goolsbee. It is.
Senator Shelby. Thank you, Mr. Chairman.
Senator Reed [presiding]. Thank you very much, Senator
Shelby. And thank you all, not only for your very thoughtful
responses, but also for your willingness to serve the Nation at
a very difficult time.
Dr. Romer, I was listening very carefully to a very
interesting discussion about deficits and taxes that you had
with Senator Shelby. I recall 8 years ago at this time, when we
had a significant surplus in the Federal Government after the
Clinton Administration, some of which was the result of
difficult tax votes to increase taxes.
And then we had a proposal by the Bush Administration to
dramatically lower taxes. The two justifications I heard most
frequently were, first of all, they pay for themselves. You
just cut taxes and economic activity grows so much. Apparently,
over the longer run, that does not seem to work.
Or they, as you have done some studies, they starve the
beast. It forces us, the legislature and the administration,
frankly, to be much more restrained in spending.
But you did a study with your husband, and I will quote
from the abstract, ``The results provide no support for the
hypothesis that tax cuts restrain Government spending. Indeed,
they suggest that cuts may actually increase spending. The
results also indicate that the main effect of tax cuts on the
budget is to induce subsequent legislative tax increases.''
I presume that is accurate, because those are your words?
Ms. Romer. That is the correct summary of the paper.
Senator Reed. And I think one point that could be made,
which I think was the thrust of Senator Shelby's comments, that
we are in a much weaker position now because of the policies of
the last 8 years which have seen deficits pile up upon
deficits, some of which is a direct result of tax cuts and
spending on the war, failing to pay for that spending. And I
can go on and on.
Is that accurate?
Ms. Romer. Absolutely, and I think a crucial--if you say
what is prudent fiscal policy? You run surpluses in good times.
That is what gives you the buffer that when you hit a period
like this you can run the large deficits that are the
appropriate policy when the economy is this sick. So no, I----
Senator Reed. Well, certainly before 9/11, which was an
event of monumental consequence, the apparent policy of the
Bush Administration was to at least cut taxes at a time where
it was not quite clear you could maintain the surplus. And that
is exactly what happened.
Ms. Romer. That is correct.
Another thing, since Senator Shelby mentioned my other
paper, I think it is important to get on the record that while
we find that tax increases taken for sort of exogenous
philosophical reasons tend to have negative consequences, we
also find if you look at the subset of tax changes explicitly
for deficit reduction, kind of getting your fiscal house in
order, those actually--the standard errors are big, we are not
very sure. But the point estimates certainly say those kind of
tax increases can actually be beneficial.
So thinking about the Clinton Administration experience,
that sometimes getting your fiscal house in order can improve
confidence, can lower long-term interest rates, and can be
beneficial.
Senator Reed. You seem to be implying that sometimes short-
run pain has long-run gain, and short-term gain or tax cuts has
long, long-run pain.
Ms. Romer. That certainly is a----
Senator Reed. The other aspect of the tax issue, I think,
is it is not so much cutting taxes because that has a certain--
in terms of the economy--an overall number. It is who gets the
benefits. One of the things, again, I think the discussion that
Senator Shelby had was very interesting about well, why don't
we cut payroll taxes? It will benefit working Americans. In
fact, you could have a cutoff.
I thought a year ago, when the President proposed his tax
rebate across the board, that would have been an appropriate
way to respond. That was apparently rejected by the
Administration.
But the point is, I think, and I think Senator Obama is
trying to make this point, that if we can target tax benefits
to low and middle-income Americans, those benefits will not
only, I think, sort of even the playing field in the struggle,
the race of life as Lincoln said, but also provide more
stimulus to the economy. Is that accurate?
Ms. Romer. Yes, and certainly the President-elect has made
it very clear that he wants to cut taxes on 95 percent of
Americans. That is certainly in the stimulus package. It is a
credit for working Americans.
And so yes, we certainly expect that people that are
struggling to make month-to-month payments, you give them a tax
cut, you lower their withholding, they do go out and spend it.
And that would be incredibly beneficial to the economy at this
point.
Senator Reed. Let me raise a general question I would like
to address to all three of the nominees to the Council of
Economic Advisors. Let me start with Dr. Goolsbee and then Dr.
Rouse, and then come back to you. Give you a breather, Dr.
Romer.
One of the issues that we have to respond to is the fact
that for the vast majority of Americans over the last decade or
more, they have virtually no increase in their income. Now we
have seen tremendous increases in income at the upper levels,
historically unprecedented increases. But we have seen no
growth in the middle class and working Americans, broader than
that.
I think the challenge is that we have got to restore that
type of growth. I mean, it was there in the late 1990s, for a
combination of reasons: Federal Reserve policy, our fiscal
policy, the benefits of the huge technological revolution in
computerization, and all of these things, and not one cause.
But we saw that.
We have to get back there. And the general question is how
do we get back there, where we can confidently tell the
American people that if you work hard you can expect a growth
in your wages and your income--not if you are at the very top
but in every income level we hope, but at least lower and
middle-income Americans.
And one other comment. The flip side of that, and this is
the reality we all understand, is if your income is not going
up but your level of life has to be maintained, you go to the
credit cards. And we have become a huge debtor Nation. So the
flip side of this, not just in terms of our international
obligations, but in terms of households, household debt has
accelerated dramatically.
So this is two sides of one coin. How do you increase
income so people can consumer from income rather than credit
cards? How do you increase income to give them the confidence
that this country is going to provide opportunities, as it has
in the past? Dr. Goolsbee.
Mr. Goolsbee. Senator, I do not think there is a more
important question to put to the economy than that for our long
run. We obviously have to deal with the immediate crisis.
Senator Reed. I agree.
Mr. Goolsbee. But once we are through that, I believe that
the issues you raise are the No. 1 thing, that it is a
fundamentally different America where the median family's
income is falling by almost $2,000 over the course of a boom,
as it did in the boom that just ended. That was the first time
in recorded American history where that ever happened. And that
is fundamentally not the America that any of us grew up in and
it is not what we believe the country should be.
In the short run, I think tax relief to working Americans
and the middle class is a direct form of help. In the medium
and long run--and I am sure Professor Rouse is going to have
more input on that--investing in the skills of our own
workforce, investing in the industries of the future, and
investing in our own Nation's capabilities, be they the
infrastructure and the things that lay the groundwork for
future growth, there has to be an element of all of those
things to restore his rising tide that lifts all boats.
Senator Reed. Dr. Rouse.
Ms. Rouse. Thank you very much. I do agree that one of the
ways that we want to really try to shore up the middle class is
to--one, we really need to understand what are the forces that
have been at work that have led to the stagnation in income.
But one of them that we can see immediately is the increased
globalization and the fact that our workers are competing
against workers all over the world.
And I think that really points to the very importance of
our education system, our training system. We need to really
look hard at it to understand the ways in which it can be
adapted and made more nimble so that it also can train our
workers to be competing in this new economy.
I would also say that I think another big component is
dealing with health care, which is a big budget item for many
families and puts many of them at risk for bankruptcy and makes
them economically fragile.
Senator Reed. Dr. Romer.
Ms. Romer. I mainly want to say--I think my two colleagues
have spoken very eloquently.
The one thing I would add as a little bit of a statement of
what is so fabulous about the American recovery and
reinvestment plan that is out there is that it is very much
aimed at being something that gets us through the hard times
now, but is doing exactly these investments. It has a lot of
money for infrastructure that will make our industries more
profitable and should make wages go up. It has money for
education and 21st century classrooms, which is just going to
be crucial for going forward.
So I think one of the things that is so important is if we
have to spend all of this money to get the economy going again,
let's make sure we get the crucial long-run dividends like
rising incomes for those people who have stagnated for the last
8 years.
Senator Reed. I have one question, and I am not ignoring
you. I have got some Federal Reserve questions. Just take a
rest in place, I guess.
I have one more question. We have talked about targeting
tax benefits to those who need it. We have talked about getting
the resources, the direct spending, to places that need it.
This has geographic consequences. My State of Rhode Island has
the second highest unemployment rate in the Nation, just behind
Michigan. It is suffering grievously.
I would hope that in the advice you are giving to the
President about not just this round of assistance but going
forward, that there would be a special attention to those parts
of the country that are really under extreme duress and have
limited resources to be able to cope with this problem. And I
just----
Ms. Romer. No, I mean, absolutely. One of the roles that I
took on when I started trying to help the transition was
exactly to monitor situations and notice which States are
suffering more than others, what industries are suffering more
than others. And that has played a big role in kind of thinking
about what we want in parts of this package.
And so as you know, for a State that is important in
manufacturing, one of the things that is good about the
stimulus package is that it is going to create a lot of jobs in
manufacturing. It is going to create a lot of jobs in
construction.
And then I think the other thing to point out is things
like State fiscal relief. That is going to be, I think,
something very important for helping so many of the States that
are genuinely suffering.
Senator Reed. Dr. Goolsbee, any comments?
Mr. Goolsbee. Look, I agree with that. And Senator, your
admonishment, let's pay attention to where people are really
hurting, we have got to remember that. I mean, there are wide
swaths of the country where they are already in the thing that
we are warning everybody about. We do not need to warn them.
They have already been living it for several months or, in some
cases, even up to a year.
Rhode Island is similar to Illinois in that way. My own
home State has been really hard hit by this downturn. And I
hope we keep that foremost in our mind when we are designing
these policies.
Senator Reed. Thank you.
Dr. Rouse, any comments?
Ms. Rouse. Not really. I think that is absolutely--I think
we not only have to pay attention to the average, but we have
to look at the distributional consequences and the
distributional suffering, geographically, by demographic
characteristics, et cetera. But I think that is all very
important.
Senator Reed. Thank you very much.
Now, Mr. Tarullo, I thought Senator Shelby made some
excellent comments about the need for introspection by every
Federal regulator, every State regulator also, and not just as
an intellectual exercise but to have going forward a clear
sense of what went wrong and how we are going to fix it.
As I mentioned to you in my discussions, at a hearing
months ago I raised this issue with Governor Kohn of the
Federal Reserve. I would hope that when you go to the Federal
Reserve, that you would quickly ensure that this appropriate
self-analysis is going forward.
And then at some point it is going to have to be public. I
think the best way to do that is to have the Federal Reserve
come up here with their version of lessons learned and
corrective action. Your thoughts on that?
Mr. Tarullo. Senator, as you know, from my earlier response
to Senator Shelby and from our conversation, I absolutely agree
with the need to begin with an understanding of what went
wrong. Not, as I say, because we think that an additional or a
new crisis is going to unfold in the same way. It never does.
But because I have been concerned that the regulatory
shortcomings that allowed the circumstances that have existed
over the last few years to develop might similarly allow future
risky circumstances to develop.
So I could not agree more. My only concern--and this is not
directed toward you. My only concern is to make sure that this
is done not just at the Fed but throughout the Government, not
in the spirit of trying to assign or avoid blame, but in an
effort to figure out what it is that needs to be done going
forward. Because, as I know you agree, that is the shared task
which is critical.
Senator Reed. I absolutely concur. That is why my sense is
that it would be better for the Federal Reserve to come to make
this presentation on their term rather than try to coax it out
of them or somebody else. I think that would be very helpful.
And it is not about assigning blame. It is about avoiding
problems in the future and ensuring that we have taken the
right steps going forward. That is, at least, my view.
You are an expert on Federal regulation, banking
regulation, and to a degree the Federal Reserve from your
academic position. Recently, there has been a change in a
policy toward ownership of bank holding--participation in the
ownership of bank holding companies by private equity
companies. GMAC has been given bank holding company status.
Their private equity owner had to adopt a minority position,
but still a significant position.
Do you have any concerns given the kind of wide ranging and
generally undisclosed nature of the activity of the private
equity companies? They may not own more than 25 percent, but
with a 10 or 15 or significant percentage interest, could have
influence on the company. Do you think the Federal Reserve,
from your perspective now as an academic expert, has the
ability to monitor those activities? Is this something that
introduces another degree of perhaps problems?
Mr. Tarullo. Senator, my--the inference I have drawn here
is that with sources of capital for financial institutions
obviously not what they used to be, that there has been renewed
interest on the types of issues that have been talked about for
some years now--the conditions under which minority investments
could be made in financial institutions without triggering all
of the regulatory consequences that have normally attended such
an acquisition. That is obviously an important consideration
not just today but going forward.
Having said that, I think the monitoring and regulatory
question you raised is the salient one. That is, if there is an
expectation that a certain kind of investment will be made in
what in investment terms we refer to as a passive fashion, then
the terms of that regulation need to be carefully monitored and
enforced. And I do think that if and when people get to the
point of proposing things which would fundamentally alter the
separation between banking and commerce, that that is a
judgment for the Congress to make ultimately. That was a
judgment the Congress chose to--they chose to maintain that
separation in 1999. And if there are to be changes which
significantly affect the current statutory regime, those
appropriately go through the Congress.
So while there is obviously room to modify and to allow
capital infusions from a variety of sources, the monitoring
issue to ensure that the investments are conducted only in the
terms that have been suggested needs to be carried through. And
all regulators need to be attendant to Congressional intent as
embodied in our existing statutes.
Senator Reed. Thank you.
One just final thought, and again you have described the
situation, I think, the present situation which is there was,
for the longest time, a reluctance to get into this issue of
sovereign wealth fund investments, private equity investments
and bank holding companies because the standards were pretty
strict. Once you went over--it was a 25 percent ownership or--I
mean, I think----
Mr. Tarullo. That would be definite control, but well under
that could be control.
Senator Reed. Control. There was pretty tough standards
about who was controlling the company. I think the presumption
was, for these entities in particular, that anything more than
a modest investment and a very passive investment was
controlling and they stayed out of it.
Now we are desperate for capital and desperate people do
desperate things. I think this is something that when you go on
to the Board, you have to ensure--and your colleagues--that
there is a kind of policing of these arrangements, as you
suggested. And also, it is not so much just the commerce and
banking combination. It is information which a significant
shareholder might have which could be very relevant to the
marketplace. I think that has to be--the Fed has to be
interested also. And influences that can be brought to bear not
to make decisions--and this is in the context of sovereign
wealth funds--to make decisions that otherwise might not have
been made.
And some of that it is so complicated, some of it might be
the management anticipating a bad reaction from their
shareholder so avoiding action because of that.
I do not envy your task, but I think this is something
serious. And long before it raises to such a bright level issue
that Congress is going to have to step in, you and your
colleagues will have to face it, is my sense.
Mr. Tarullo. Understood.
Senator Reed. I think that on behalf of Senator Dodd I can
thank you all profusely for your responses and, as I said
initially, for your commitment to public service.
Thank you very much and the hearing is adjourned.
[Whereupon, at 2:20 p.m., the hearing was adjourned.]
[Prepared statements and response to written questions
supplied for the record follow:]
PREPARED STATEMENT OF SENATOR TIM JOHNSON
Thank you, Chairman Dodd for holding the hearing for today's
nominees. All of us here today are very concerned about the current
state of the economy, especially as our Nation continues to confront a
crisis in the capital markets. This crisis has had negative
consequences for American families, workers, businesses and investors.
Today's nominees will all play an important role in our Nation's
economic recovery, and I congratulate you all on your nominations.
While this Committee has a lot on its plate this year, I do believe
that the confirmations of a new Chairman of the SEC, a new member of
the Federal Reserve Board of Governors and three members of the
President's Council of Economic Advisors may among some of the most
important actions we take.
The next Chairman of the SEC faces the daunting task of restoring
confidence, integrity and fairness to our securities markets, as well
as enforcing securities laws and protecting investors. Achieving these
goals may mean serious reform at the SEC. I look forward to hearing Ms.
Shapiro's vision for this critical position.
The effects of the current crisis have been felt far beyond Wall
Street and the SEC, and we will be looking to all of you for advice.
______
PREPARED STATEMENT OF SENATOR JON TESTER
Chairman Dodd, Ranking Member Shelby, thank you for convening
today's hearing. And I want to thank the witnesses for appearing here
today and for their agreement to serve their country.
Ms. Schapiro, you are seeking one of the most important positions
in the Federal Government at a time of economic uncertainty. Very
simply--you have a tremendously difficult but important job to do as it
is my opinion that the most recent financial regulators have not been
steadfast in their duties.
Over the course of the past few months, it seemed that a different
titan in the financial sector was facing imminent collapse each week.
This Committee was being asked to support a bailout and the regulators
were left with questions and few answers. That has to change and this
Committee is going to need your help.
We need to work with the SEC and the other financial regulators to
put in place common sense regulations--regulations that protect the
consumer first. As we start tackling legislative initiatives to revamp
the patchwork of regulations, your guidance will be critical.
At the same time, you will need to increase the level performance
of the enforcement division at the Commission.
Last October, former Chairman of the SEC, Arthur Leavitt told the
Senate Banking Committee in written testimony,
Enforcement is so important not because the SEC can catch every
cheat and prevent every abuse. It's important because it holds
people accountable and serves as a powerful deterrent to bad
behavior--and is the most powerful tool a regulator has to keep
a market functioning. Indeed, the signals the SEC can send to
investors are critical. By bringing a tough enforcement action,
making a well-timed public statement, or taking action on a
critical need, the SEC builds the investors' confidence that
someone is looking out for them which, in turn, builds market
trust. Yet at critical moments and on critical issues, the SEC
has been reactive at best or has shown no real willingness to
stand up for investors.
Thousands of Montanans have told me over these past few months that
we need to find the criminals who brought us into this situation and
send them to their 8x10 cells. They demand accountability to make sure
no crime goes unpunished when American taxpayers are picking up the
tabs for their crimes. I agree with them, and I want the SEC to make
sure those investigations are a priority.
I look forward to your testimony. Thank you.
______
PREPARED STATEMENT OF SENATOR MICHAEL B. ENZI
In the past several months, Americans have seen unprecedented
developments in the financial and housing markets. Beginning with the
rise in home foreclosures and delinquencies that caused a panic in our
mortgage industry, by September 2008, the Federal Government had seized
Freddie Mac and Fannie Mae. The five largest investment banks,
previously the primary entities regulated by the SEC, were either being
sold, restructured, or going bankrupt. Our economy started falling
faster, and the credit markets became completely frozen.
Our Federal response so far has been to throw money at the problem
and hope it goes away. However, some of my colleagues and I realize
that it takes more than blind spending to get our economy back on
track. We need to take an honest assessment of our current financial
regulatory system and address the fundamental problems that have caused
this meltdown. Efficient and responsive market regulation is the best
answer to a crisis of confidence. Common-sense reforms combined with
pro-growth economic policies will get our economy humming again.
However, it is going to take a lot of work to get there.
Before we talk about a sweeping financial modernization, I must
note that, for many Americans, this global financial crisis has exacted
a very real and very personal price. Many workers have seen a lifetime
of retirement earnings shrink down to nothing. Others have lost their
home, their most stable financial asset in past years, due to rising
unemployment and a frozen credit market. For those Americans without a
job, they face dismal employment prospects as companies cut their
workforces to stay in the black.
These Americans expected a market that was transparent,
accountable, and fair to the average retail investor. They have been
failed by investment fraudsters, deceptive credit ratings, misleading
lenders, and, most importantly, by the regulators who are tasked with
preventing such behavior. The SEC is not solely responsible for
policing the entire financial market, but as the agency charged with
investor protection, we must be able to look to the SEC to prevent
outright fraud and manipulation of American investors. The SEC has been
front and center in the debate about our financial crisis, and that is
why this nomination hearing is so important. We stand on the brink of a
financial sea-change. Our organic system of financial regulation has
been built-up over a century, responding to individual crises with
targeted changes to regulation. However, the institutionalization of
this patchwork quilt of regulation has made our system slow to respond
and confusing to navigate. We must create a system that is proactive,
not reactive. Regulators should have the surety to act swiftly and
prevent fraud and manipulation in our markets. Participants should not
have to operate in a regulatory ``grey areas'' or worry that market
innovation will be stifled by cumbersome regulation.
The SEC is on the front lines of this movement, and Ms. Schapiro,
if confirmed, will be charged with implementing these reforms. This is
no easy challenge. There are several issues the SEC must confront in
order to be the regulator our markets need in the 21st century.
First, a primary role of the SEC is investor protection. Last
month, the confidence of American investors was badly shaken with the
revelation that Bernie Madoff, former Chairman of the NASDAQ stock
exchange, was running a $50 billion investment fraud scheme. According
to a statement from Chairman Cox last month, this scam is at least a
decade old, owing its success to ``multiple failures'' at the SEC and
elsewhere to catch this crook. More amazingly, news reports are stating
that many investors on Wall Street knew about this scheme and may have
invested with him because he was cheating the system to gain illicit
returns. This is outrageous.
As President-elect Obama's designee for chairman of the SEC, I am
curious to hear your reaction to this scandal and how, as chairman, you
plan to ensure it will never happen again. I am also curious to hear
about your experience as a regulator both with the NASD and with the
Financial Industry Regulatory Authority. Why did FINRA, under your
management, miss this investment scam when so many on Wall Street
seemed to know about it?
I am also interested in hearing your opinions about the credit
rating agency registration system at the SEC, and if you believe the
conflicts of interest inherent in credit rating agencies can be
properly managed.
Ms. Schapiro, I would like to hear your opinions about several
initiatives already underway at the SEC. These include mark-to-market
accounting, credit derivative swaps, and the convergence of U.S. and
international account standards. I look forward to your testimony and
the question and answer period.
I also look forward to the testimony of our second panel of
witnesses, especially Mr. Tarullo. There is no doubt that the role of
the Federal Reserve as a financial regulator will be addressed in the
coming months, and I am interested in understanding Mr. Tarullo's
perspective on the future of the FED as the agency in charge of U.S.
monetary policy and interest rates, as well as a regulator of banks and
other financial institutions.
Chairman Dodd and Ranking Member Shelby have made clear that
regulatory modernization will be a priority in the 111th Congress and I
look forward to joining them in this important debate. Thank you.
______
PREPARED STATEMENT OF MARY SCHAPIRO
Chairman-Designate,
Securities and Exchange Commission
January 15, 2009
Mr. Chairman, Senator Shelby, and Members of the Committee--it is
an honor to appear before you today as President-elect Obama's nominee
to serve as Chairman of the Securities and Exchange Commission.
I also want to thank Senator Reed for his very kind introduction,
and all the members of the Committee and your staff who have been so
generous with their time and advice during this confirmation process.
As Senator Reed mentioned, I grew up in New York a short train ride
from Manhattan, but miles away from Wall Street. My father was a
printer; my mother a librarian.
Like millions of families, my parents worked hard to save enough to
buy a home, send their children to college, and have a secure
retirement. They taught my siblings and me right from wrong--and that
we could get ahead by working hard and playing by the rules.
Perhaps that's why I've spent my career--at the SEC, CFTC, and most
recently at FINRA--committed to building a financial regulatory system
that protects investors and supports and strengthens free and fair
markets.
We cannot underestimate the situation we are now in: the capital
markets have collapsed; trillions of dollars of wealth have been lost;
our economy is in recession; and investor confidence has been badly
shaken. Middle-class families who were relying on that nest egg to pay
to send a son or daughter to college or for a secure retirement now,
don't know where to turn.
There are many reasons for this crisis--and one of them is that our
regulatory system has not kept pace with the markets and the needs of
investors.
It is precisely during times like these that we need an SEC that is
the investor's advocate--that has the staff, the will and the resources
necessary to move with great urgency to bring transparency and
accountability to all corners of the marketplace, to vigorously
prosecute those who have broken the law and cheated investors, and to
modernize our country's regulatory system to match the realities of
today's global, interdependent markets.
These urgent responsibilities would fill any agenda, but, Mr.
Chairman, allow me to highlight a few of my top priorities.
First and foremost, if confirmed as Chairman, I will move
aggressively to reinvigorate enforcement at the SEC. With investor
confidence shaken, it is imperative that the SEC be given the resources
and the support it needs to investigate and go after those who cut
corners, cheat investors, and break the law. As the first SEC Chairman,
Joseph Kennedy, told the Nation 75 years ago in explaining the agency's
role, ``The Commission will make war without quarter on any who sell
securities by fraud or misrepresentation.''\1\
---------------------------------------------------------------------------
\1\ Remarks to the National Press Club, 25 July 1934.
---------------------------------------------------------------------------
I look forward to working closely with you, Mr. Chairman, and the
members of the Committee to ensure the SEC has the capability, to
fulfill this critical mission--as well as to perform all of its other
important duties.
Second, I want to re-engage the SEC with the people we serve,
namely, investors. The investor community--from the largest pension
fund to the family who has scrimped and saved in their 401(k) or 529
plan--needs to feel that they have someone on their side, that they can
go to the SEC for advice, to seek redress, or to have their opinions
heard.
Third, as I work to deepen the SEC's commitment to investor
protection, transparency, accountability, and disclosure, I also want
to ensure these commitments are preserved in any regulatory overhaul
that may be undertaken.
Indeed, as a member of the President's Working Group on the
Financial Markets, I hope I can offer its members, the Administration,
and Congress both the benefits of my years as a regulator as well as
the decades of experience the professionals at the SEC have in these
areas.
The American people want and expect us to update the regulatory
system that has failed them--and to prevent the kinds of abuses that
have contributed to the economic crisis we now face. I assure you that
I will always keep their concerns front and center.
Seventy-five years after the SEC was founded, the Commission finds
itself in a situation where, once again, it must play a critical role
in reviving our markets, bolstering investor confidence, and
rejuvenating our economy.
I am under no illusion that this will be an easy job. There is a
lot of work to be done--quickly and diligently--in the months ahead.
But I look forward to this challenge, to helping the millions of
investors who rely on strong markets and a strong economy, and to
working with the professionals at the SEC and the Members of this
Committee.
To be entrusted with leading the SEC at this moment, would be a
great honor, and I am grateful for your consideration.
Mr. Chairman, before closing I want to thank my husband, Chas, and
our daughters Molly and Anna, for their support and understanding. They
are here with me today.
Thank you, Mr. Chairman, and I am happy to answer any questions.
______
PREPARED STATEMENT OF CHRISTINA D. ROMER
Chairman-Designate,
Council of Economic Advisors
January 15, 2009
Chairman Dodd, Ranking Member Shelby, and members of the Committee,
it is an honor to come before you as President-elect Obama's nominee
for Chair of the Council of Economic Advisers.
I want to thank Senators Feinstein and Boxer of California for
their warm introductions. I am truly honored to have both of my home
state Senators with us today and appreciate their kind words.
Before I begin, I would like to introduce three people who are with
me today: my husband of 25 years, David Romer, who is also an
economist, my father, Clifford Duckworth, from Massachusetts, and my
12-year-old son, Matthew. My two other children, Katie and Paul, are
away at school and are not able to join us today.
Let me take a moment to tell you a little about myself. I was born
in Illinois and lived in Connecticut, Ohio, Alabama, and New Jersey as
I was growing up. I attended the College of William and Mary in
Virginia and received my Ph.D. in economics from the Massachusetts
Institute of Technology. I was an assistant professor at Princeton
University for 3 years before moving to the University of California,
Berkeley. I have been a professor at Berkeley for almost exactly twenty
years, and have had the honor of teaching introductory economics to
thousands of Berkeley freshmen.
As we are all far too aware, economic conditions in the United
States, and indeed in much of the world, are weak and deteriorating
rapidly. The unemployment rate announced last Friday was 7.2 percent,
more than 2 percentage points above its level at the start of this
recession. Job loss has now topped two and a half million and shows no
evidence of stopping. And, our financial institutions remain in a
precarious position and crucial credit flows have not been restored,
despite unprecedented actions by the Congress, the Treasury, and the
Federal Reserve.
As you may know, my area of expertise is the history and effects of
monetary and fiscal policy. I have also done extensive work on the
causes of the Great Depression of the 1930s and the sources of recovery
from that national crisis. I never expected my knowledge of the 1930s
to be useful in a modern policy setting. And, certainly, as bad as
current conditions are, they remain far better than what our parents
and grandparents experienced 75 years ago. But, the U.S. economy over
the past year has suffered the worst macroeconomic shock since the
1930s, and the risks to the economy are by far the greatest they have
ever been in my lifetime. The possibility that continued economic
decline will further weaken the financial sector and lead to a
devastating rise in joblessness is a risk that demands immediate and
unprecedented action.
It is for this reason that, if confirmed, I am dedicated to working
with President-elect Obama and Congress to forge an economic recovery
plan to help stabilize the U.S. economy. Making crucial investments in
infrastructure, education, healthcare, and energy, will not only help
us through the current crisis, but also put us on a path to a much
better future--a future in which we deal with our long-run energy
needs, equip our children to compete in the world economy, and ensure
that middle-class families once again realize the full promise of the
American dream.
The vision of hope that the President-elect has given the American
people is one that I share. The resilience of the American people and
the fundamental strength of the market system are the most important
reasons for optimism. But I also believe that well designed, aggressive
government policies will make a crucial difference. Indeed, much of my
academic research has shown exactly this: government policies to
increase aggregate demand do indeed increase output and reduce
unemployment in the short and medium run. And, while I have not
personally done research on the effects of government spending, I
firmly believe that the evidence shows that timely government
investment will be very beneficial.
Of course, getting through the current crisis and putting us on the
road to better long-run growth will not be the end of the economic
agenda. Much more work will need to be done in a wide range of areas,
from health care to energy to financial market reform. And, all of this
work will have to take place in the context of medium- and long-run
budget projections in which government revenues and expenditures are
painfully out of balance. Dealing with all of these issues will be
difficult and will require extensive analysis and hard choices. But, I
can think of no greater honor than to be a part of such an important
endeavor, and I can think of no President whose leadership and judgment
I would trust more than the President-elect.
In closing, let me say just a word about the organization I have
been nominated to lead. The Council of Economic Advisers was created to
provide the President, and through its reports, the Congress, with the
best advice professional economists have to offer. It is an institution
with a proud history of providing honest, first-rate economic analysis.
This is a tradition I would intend to continue and strengthen. As
someone who has spent my entire professional life as a scholar and
teacher, I am a firm believer in the power of knowledge and research. I
would do my utmost to protect the integrity of the CEA, and make it a
center for unbiased, scientific analysis of the crucial economic issues
facing our country in the years ahead.
Thank you. I would be happy to answer any questions you might have.
______
PREPARED STATEMENT OF AUSTAN D. GOOLSBEE
Member-Designate,
Council of Economic Advisors
January 15, 2009
Let me start by thanking my senior Senator for his kind
introduction. And what a thrill and how appropriate that Senator Durbin
himself got his start in politics working for the late Senator Paul
Douglas--a legendary figure in Illinois politics but also originally a
famous economics professor from the University of Chicago (for those
economists here today, none other than the namesake of the Cobb-Douglas
production function).
Chairman Dodd, Senator Shelby, Members of the Committee, thank you
for your time and the chance to be here today.
Before I begin, I would like to introduce you to my family. My wife
Robin--the love of my life and, as you can see for yourself, prettiest
girl in Chicago--is here with our three kids. Our daughter Aden is 8,
our son Addison is 5, and our son Emmett is 2. Emmett is a lot more
interested in trucks than he is in economics so he may not sit still in
that seat for too much longer. Next to them there is my mom, Linda, and
my dad, Arthur, who came up for this hearing all the way from Abilene,
Texas. My Dad recently got ordained as a Deacon at the Church of the
Heavenly Rest in Abilene and I especially appreciate his being able to
take time out from his new duties to be here.
By way of background, I was born in Waco, Texas, and spent most of
my childhood in Whittier, California. I went to school at Yale and then
M.I.T. before becoming a professor in 1995 at the Business School at
the University of Chicago (recently named the Booth School of
Business). I am currently the Robert P. Gwinn Professor of Economics
and the co-director of the Initiative on Global Markets.
As a researcher, I am an empirical economist--one of the old-style
data dogs. My research has covered public policy and taxation, the
Internet, telecom and innovation, capital investment, and the study of
industries in America and the world like manufacturing, airlines,
media, computers, and others.
Now given the expertise of the Members of this Committee and the
situation Professor Romer just described, I don't think that anyone
here needs further convincing that we arrive at a time of great moment
in the Nation's history and one as intimidating as any since the
Depression.
But at a moment like this I cannot help but remember my old friend
and mentor, the late Nobel laureate and former CEA member James Tobin.
When I was a freshman I took the last class of Jim Tobin's career and
he took me under his wing as a research assistant. He had grown up in
the Great Depression and always believed that economics was more than
just an interesting field of study, that it could make the world a
better place. In 1961, President Kennedy asked him to join the Council
of Economic Advisers. He used to say that he never worked harder in his
life than those years at the CEA. He was proud to have served the
country and given sound economic advice.
I think it's appropriate to remember Tobin these days because he
spent his life teaching his students that economics could be used to
fight catastrophes just like this. And as I sit before you now--almost
a half-century later--as the nominee for Tobin's old seat at the CEA,
it is my sincere hope that we will live up to the standard the CEA set
back then in what most view as its Golden Age. If we are confirmed, Mr.
Chairman, I can assure you that we will come to the job every day ready
to work hard, to bring the best economic thinking we have, and to be
motivated by the great CEA legacy that has come before us.
I thank you for the opportunity to be here and will be happy to
answer any questions you might have.
______
PREPARED STATEMENT OF CECILIA E. ROUSE
Member-Designate,
Council of Economic Advisors
January 15, 2009
Mr. Chairman and distinguished Members of the Committee on Banking,
Housing, and Urban Affairs: I am pleased and honored to appear before
you today as a nominee to be a Member of the President's Council of
Economic Advisers.
Before I begin, I'd like to introduce my family who is here today
in force. First is my husband and partner in life, Ford Morrison, along
with our two girls Nidal (who is 7) and Safa (who is 5). There is also
our contingent from the great State of New Jersey, my parents, Carl and
Lorraine Rouse, and my sister and niece, Carolyn Rouse and Skylar
Schiltz-Rouse. Next to them are my cousin, Terrie Rouse who is also the
CEO for Visitor Services for the Capitol Visitor Center, and my Aunts
and Uncles Doris and George Haley, and Phyllis and Bill Taylor. And
while she really wanted to be here, my mother-in-law, Toni Morrison, is
unable to attend.
I am currently a Professor of Economics and Public Affairs at
Princeton University where I have been on the faculty for the past 16
years. As a labor economist I am most committed to understanding the
problems, choices, and tradeoffs that individuals face, particularly
those that concern the labor market. I am particularly interested in
understanding ways to increase worker productivity, primarily through
the acquisition of valuable skills or human capital. As such, I have
devoted much of my research to the economics of education at all
levels.
As a faculty member of a public policy school, I have always been
deeply committed to studying real-world problems with real-world
implications, rather than abstract theory. I was fortunate to have the
opportunity to apply my skills to actual policymaking once before in
1998 when I spent at year at the National Economic Council and I would
be most honored to have the opportunity to do so again should I be
confirmed as a member of the Council of Economic Advisers.
Indeed, these are extraordinary times. As Professor Romer has
already described, the macroeconomic shock is the worst that it has
been in a generation and by all expectations the unprecedented job loss
will continue in the short term. Importantly, we are seeing that some
sectors are suffering more than others forcing many unemployed workers
to search for jobs that require a different set of skills than those
they currently possess. As such, I believe that investments in
education and training are critical to any strategy to help jumpstart
our economy and should I be confirmed I look forward to working with
the other members of the Administration and this Committee to provide
the economic insights and analysis you need to craft wise and effective
policy.
As a concluding note, I would like to add that for the past several
years I have taught one of the main introductory micro-economics
courses to first-year students in the Woodrow Wilson School's master's
program. (This year's class was particularly inquisitive and
challenging!) I emphasize to the students the power of economics--both
theoretical and applied--in guiding analysis of policy issues. Should I
be confirmed, I would bring this dedication and enthusiasm to the
President's Council of Economic Advisers.
Thank you. I would be happy to answer any questions you or other
Members of the Committee might have.
______
PREPARED STATEMENT OF DANIEL K. TARULLO
Member-Designate,
Board of Governorsof the Federal Reserve System
January 15, 2009
Thank you, Mr. Chairman, Senator Shelby, and other Members of the
Committee. I am honored by President-elect Obama's designation of me as
his intended nominee for the Board of Governors of the Federal Reserve
System. I am also mindful of the enormous responsibility that would
come with this position.
We are all aware that our country faces greater financial and
economic challenges than at any time since the Depression. The Federal
Reserve has a critical role to play in responding to these challenges.
As the Nation's central bank, it must pursue its dual mandate of
promoting maximum employment and stable prices in an unusually trying
macroeconomic environment.
As a bank regulator, the Board must use its existing authority to
provide both effective supervision and robust enforcement. Going
forward, it must join with other parts of our government to help revamp
the financial regulatory system. In particular, we need sensible
changes that will contain potential sources of systemic risk in 21st
century financial markets, and thus diminish the likelihood and
severity of future financial crises.
Over the last decade, I have devoted considerable time to thinking
and writing about banking regulation and international financial
regulation, including the management of international financial crises.
In the last few years, I have focused on capital regulation. This work
has reinforced my views on the importance of adequate capital buffers
for ensuring the safety and soundness of financial institutions. This
study of capital has, I believe, provided a good foundation for
participation in the Board's regulatory functions and, more generally,
in the process for reforming financial regulation.
Prior to returning to an academic position, I was directly
involved, as Assistant to the President for International Economic
Policy, in responding to the international financial crisis of the late
1990s. Each financial dislocation has its own unique features, of
course, and the severity of current problems far outstrips the impact
on the United States of that earlier episode. Thus experience with one
crisis cannot provide the answers for dealing with the present
situation. Still, such experience does help prepare one to consider
options and make decisions in times of great uncertainty and stress.
If confirmed by the Senate, I will draw upon both my government and
academic backgrounds in serving on the Board of Governors. I have the
highest respect for the tradition of independence associated with our
country's central bank. At the same time, I understand that, although
so much of the Fed's work is necessarily grounded in complex economic
analyses and highly technical rules, the ultimate purpose of this work
is to create the conditions under which Americans can make good lives
for themselves.
Let me close by thanking the Committee for expeditiously scheduling
this hearing. I hope to work with each of you in the months and years
ahead. I would be pleased to answer any questions you may have for me.
RESPONSE TO WRITTEN QUESTIONS OF SENATOR DODD FROM MARY
SCHAPIRO
Q.1. Investment Advisers: Investment advisers serve an
important role in the helping Americans improve the management
their finances. I have been contacted by investment advisers
from Connecticut who have expressed concerns that you would
join the Commission with the intent to require investment
advisers to register with a self-regulatory organization, based
on statements made during your tenure at FINRA. One of their
letters to me stated:
[W]e have very serious concerns with her stated support for
extending FINRA's reach to become the self-regulatory
organization for investment advisers. Investment advisers are
already subject to strict oversight and examination by the SEC
and any additional layer of bureaucracy would be redundant,
inefficient and confusing to the investing public. FINRA would
be an especially poor fit to regulate investment advisers
because it is geared to police the brokerage industry which, as
you know, is not held to the same fiduciary duty under law as
are investment advisers.
If confirmed, would you approach this issue and other
issues affecting investment advisers with an open mind,
independent of past employment affiliations? Prior to taking
any action in this area, would you invite and consider the
views of interested parties?
A.1. I will approach this and all issues with an open mind and
consult broadly on actions that the Commission might take.
Q.2. Financial Professionals: Investor advocates have expressed
concerns that some registered representatives are marketing
themselves as advisers without being subject to the same
standards as investment advisers, who have a fiduciary duty to
place the customer's interests first.
Do you feel that there should be increased regulatory
attention to requiring registered representatives to more
accurately inform their clients of the nature of the duties
owed to the clients and distinguish themselves from those
professionals who owe their clients a fiduciary duty?
A.2. Whether or not a registered representative owes a client a
fiduciary duty depends upon the activities that the
representative has undertaken to perform on the client's
behalf. SEC rules and regulation should ensure that all
investment professionals, whether broker-dealers or investment
advisers, accurately inform their clients of all relevant
matters, including the scope of their responsibilities, fees,
and conflicts of interest.
In addition, I believe that we need to have more uniform
regulation across product lines and industries to help ensure
that consumers receive the same basic regulatory safeguards and
protections no matter which investment product or service they
purchase. Regulation of the U.S. financial industry is
fragmented and inefficient. If a firm offers a security, an
insurance product and a futures contract, it will be subject to
disparate regulatory standards for each product imposed by
different agencies. If the firm underwrites mortgages, it may
be subject to little substantive regulation.
Both the SEC and Treasury have noted the rapid and
continued convergence of the services provided by broker-
dealers and investment advisers and the resulting regulatory
confusion due to an outdated statutory regime. Most securities
professionals are either ``broker-dealers'' or ``investment
advisers'' under the federal securities laws. Both offer
financial advice for compensation and serve as intermediaries
between investors and the securities markets. However, broker-
dealers are regulated under the Securities Exchange Act of 1934
and FINRA rules. Investment advisers are regulated under the
Investment Advisers Act of 1940 (Advisers Act), and are not
governed by any SRO.
Q.3. Transparency of SEC Decision-Making: I am pleased to hear
your intent to reconsider the proxy access issue. I want to
raise an issue about the Commission's decision-making process
that arose in 1990 when its interpretation that the shareholder
proposal rules allowed proxy access proposals was changed. From
1976 to 1990, the Commission had a policy of, essentially,
allowing shareholder proxy access proposals. Then, staff in the
Division of Corporation Finance reversed this significant
policy and denied proxy access in a no-action letter decided
for reasons that, as the Second Circuit Court of Appeals said
in the AFSCME v. AIG case, ``the SEC has not provided, nor has
the Division ever provided.'' This led to new rulemaking
(through which the Commission received many thousands of public
comments).
If confirmed, would you have the Commission use transparent
decision-making processes on issues of such significance?
A.3. Yes.
Q.4. Shareholder Proposal Rule: If confirmed, would you
preserve and protect shareholders' rights to raise important
issues through the shareholder proposal process consistent with
the letter and spirit of Rule 14a-8?
A.4. Yes.
Q.5. NRSRO Data Disclosure: If confirmed, would you consider
the potential benefits to investors and to the integrity of the
markets if Nationally Recognized Statistical Ratings
Organizations were required to make available to the public
more of the data they have obtained from issuers in the course
of formulating a credit rating on securitizations, such as bond
structure, types of assets (e.g., size of and geographic
locations of loans), debt service coverage, loan to value
statistics and services?
A.5. As we look at the entire area of NRSRO regulation, we will
consider this option.
Q.6. Cooperation with State Securities Regulators: State
securities regulators perform important work in protecting
investors and have made key contributions to national
enforcement and education efforts over the years. If confirmed,
would you fully cooperate with and support the work of State
securities regulators?
A.6. Yes.
Q.7. Broker Voting: The Commission has before it a rule
proposal submitted by the New York Stock Exchange that would
prevent brokers from voting in elections for corporate
directors without receiving instructions from the beneficial
owner of the shares.
New York Stock Exchange Rule 452 allows brokers to vote on
certain ``routine'' proxy proposals if the beneficial owner has
not provided voting instructions at least 10 days before a
scheduled meeting. The uncontested election of directors is
among the proposals the NYSE has considered to be routine. Some
investors have long argued that director elections are not
routine. The Council of Institutional Investors has noted that
some observers have said that broker votes are virtually always
cast for management, and believes that the rule taints the
integrity of proxy voting by effectively stuffing the ballot
box for management.
In April 2005, the NYSE created a Proxy Working Group to
review the exchange's regulation of proxy voting. In October
2006, the NYSE submitted for SEC approval a plan to redefine
director elections as ``non-routine,'' in effect eliminating
uninstructed broker votes from director elections. The SEC
staff responded to the proposal with comments. Subsequently,
the NYSE board resubmitted the original proposal with an
amendment to exclude board elections at investment companies
(mutual funds).
If confirmed, would you seek for the Commission act on the
issue of broker voting within a reasonable period of time?
A.7. Yes.
Q.8. Review of Disclosures by Public Companies involved with
Securitizations: If confirmed, would you ask the Commission
staff to carefully review disclosures in periodic filings of
public companies that were extensively involved with
securitizations, such as investment banks, during the past few
years for compliance with Federal securities laws and to take
any appropriate enforcement actions?
A.8. Yes.
Q.9. Public Company Disclosures: In light of the recent credit
crisis and its damage to the values of investments, are there
any additional public disclosures that you would recommend the
Commission require public companies in the securities or
banking industries, particularly those involved with
securitizations, to make for the protection of investors?
A.9. This is an issue that we review carefully. It is essential
that investors have a full assessment of the risks of the
companies they own or seek to own.
Q.10. Accounting Restatements: The SEC has received the
recommendations of the Advisory Committee on Improvements to
Financial Reporting (CIFiR). A tremendous amount of work went
into this analysis and some recommendations have been uniformly
praised. However, others have drawn criticism for excessively
limiting the circumstances under which errors in financial
reports have to be restated--by making it easier to deem
quantitatively large errors to be immaterial and by encouraging
greater deference toward judgments by public companies and
their auditors. Some retail and institutional investors are
concerned that these would undermine reliability and
comparability of financial disclosures, and undo improvements
to accounting made in the wake of the Enron and WorldCom
scandals. They argue that continued efforts should be made to
reduce the number of errors, rather than reducing the number of
errors that have to be restated.
If confirmed, would you seek to protect investors and
preserve and enhance the integrity of the financial reports of
public companies by advocating improvements in the quality of
accounting, so that the number of errors would be reduced, and
by requiring appropriate accounting restatements?
A.10. Yes.
Q.11. GAAP and IFRS Accounting: Will you proceed cautiously and
carefully on any proposal to allow U.S. firms to file financial
reports using International Financial Reporting Standards
instead of Generally Accepted Accounting Principles,
particularly while significant differences exist between the
two standards and in the governance, independence and funding
of the standard setters?
A.11. Yes.
Q.12. Mutual Recognition: Will you proceed cautiously and
carefully on proposals relating to mutual recognition, and
perform extensive analysis of the comparability of regulations,
resources devoted to regulation, agency independence, rule of
law, commitment to investor protection and other key factors to
assure the adequate protection of U.S. investors, prior to
taking any action?
A.12. Yes.
Q.13. Credit Default Swaps: Broadly speaking, how would you
propose that the Commission address recent problems which have
occurred in the over-the-counter derivatives markets? Do you
support the Commission's recently adopted rule ``Temporary
Exemptions for Eligible Credit Default Swaps To Facilitate
Operation of Central Counterparties To Clear and Settle Credit
Default Swaps''?
A.13. I think it makes sense to answer these questions in
reverse order. I do support the temporary exemptions for credit
default swaps. First, there is an overriding compelling need to
reduce the counter party risk that attaches to any bilateral
contract and is not transferred to a clearing agency for
settlement. The temporary exemption does not exempt application
of the federal anti-fraud rules, applies only to credit default
swaps not otherwise exempt from SEC purview, applies to
contracts entered into by sophisticated customers as defined in
the rule and allows clearing platforms to be established
without registration at this time with the Commission. Given
the compelling risk of further possible systemic damage without
reducing these contracts to the guarantee of performance that a
clearing platform offers, I believe the temporary order is
warranted. The temporary rule itself asks a series of questions
that will allow the Commission to determine the future of the
temporary rule and how it may better perfect its purposes.
I would direct that the Commission address recent problems
in the over-the-counter derivative markets from transparency
and market structure viewpoints. With estimates of $70 billion
or more in notional credit default swap contracts we have to
understand who is holding these positions. Clearly many of
these contracts represent a leverage risk position rather than
insurance for many participants. In the listed options markets
we have position and exercise limits because of the perverse
market effects that transpire in their absence. We can't
determine the extent of such concerns in the over-the-counter
derivatives market if we don't know the holdings of various
participants.
Q.14. NASD Merger With NYSER: The New York Times in an article
entitled ``SEC Choice is Sued Over a Merger of Regulators,''
published on January 12, 2009, reported that two lawsuits by
FINRA members claim that, as Chairman and CEO of the NASD, you
made misleading statements to NASD members in order to obtain
support to complete a merger of the New York Stock Exchange
Regulation and the NASD. The alleged misstatements reportedly
were to the effect that the I.R.S. in a ruling limited the NASD
from paying each member more than $35,000.
Were the representations that you made accurate and
consistent with applicable law?
A.14. The NASD, as is FINRA, was a Delaware non-stock
corporation exempt from federal taxation under Section
501(c)(6) of the Internal Revenue Code. As such, (and under its
own corporate charter) the corporation's assets cannot inure to
the benefit of its members. The faulty premise of the lawsuits
is the belief that the assets were the property of the members.
We were working to obtain a ruling from the IRS that would
allow the proposed distribution but there was not any guaranty
that such a payment would be allowed. The statements made were
accurate representations in the judgment of the Board and
management as to the payment that could be made under
applicable law.
Q.15. FINRA Regulatory Authority: FINRA and its predecessor,
the NASD, have had broad authority to examine and investigate
members and their associated persons, and perform periodic
exams, pursuant to their corporate rules and bylaws as well as
the Federal securities laws. Bernard L. Madoff Investment
Securities LLC was founded in 1960 and the firm was registered
as a broker-dealer with FINRA and its predecessor, the NASD. In
2006, this firm additionally registered as an investment
advisor (there was not a separate corporation). The press
reports that Madoff operated a fraudulent ``Ponzi scheme'' for
decades from the premises of the brokerage firm, using
discretionary accounts which were charged trading commissions
but not advisory fees.
You indicated that ``FINRA had jurisdiction over Madoff's
broker-dealer activities but not over its investment advisory
activities.'' Please identify the FINRA and NASD rules and
bylaws or securities laws that, as has been indicated to the
Committee, have prevented FINRA and NASD from examining for
fraudulent activity such as Madoff's during the extensive
period this fraud reportedly was taking place.
Also, please describe how FINRA and NASD distinguished
between ``broker-dealer activities'' and ``advisory
activities'' when determining what they could look at in an
examination of Bernard L. Madoff Securities LLC or associated
persons.
A.15. Section 15A of the Securities Exchange Act of 1934
establishes the statutory jurisdiction of FINRA. That section
authorizes FINRA to ``enforce compliance by its members and
persons associated with its members, with the provisions of
[the Securities Exchange Act], the rules and regulations
thereunder, the rules of the Municipal Securities Rulemaking
Board'' and FINRA rules. Under our fractured system, broker-
dealers are regulated under the Securities Exchange Act and
investment advisers are regulated under the Investment Advisers
Act of 1940. Section 15A does not authorize FINRA to enforce
compliance with the Investment Advisers Act--even when a
broker-dealer also conducts investment adviser activities.
Authority to enforce the Investment Advisers Act is granted
solely to the SEC and to the states.
Madoff Securities represented, and the books and records it
provided to examiners showed that, but for a de minimis number
of employees, it had no customer accounts. In its regulatory
filings and examinations, the Madoff BD has consistently
represented itself as a wholesale market-making firm that also
conducted proprietary trading and that had counterparty
relationships with other BDs, which sent order flow to the
Madoff BD for execution. The Madoff BD has consistently
reported that 90 percent of its revenue comes from proprietary
trading and 10 percent comes from market making. There was no
evidence in the Madoff firm's BD books of the BD executing
trades for the IA business or of any customer account
statements being issued by the BD.
Q.16. FINRA Enforcement Statistics: The Wall Street Journal
published a front-page article on January 15, 2009, that
describes FINRA enforcement metrics over recent years. It
stated, for example, that: ``Finra levied fines against
financial firms totaling $40 million in 2008, according to a
Wall Street Journal analysis. That was the third straight
annual decline in fines levied by Finra or one of its
predecessor agencies, the NASD. The total was 73 percent below
the $148.5 million in fines collected in 2005, the year before
Ms. Schapiro took the helm of the NASD.'' [``Obama's Pick to
Head SEC Has Record of Being a Regulator with a Light Touch,''
The Wall Street Journal, January 15, 2009.]
Please describe the major reasons for changes in the amount
of fines levied by FINRA in the years since 2005.
A.16. Fine levels for 2007-08 are in fact lower than the 2004-
06 time frame, but are higher than the prior time period. The
2004-06 numbers were driven by a small number of high fine
settlements involving the mutual fund and research analyst
scandals. It is important to note that I have been responsible
for the Enforcement program at NASD/FINRA since 1996, including
the 2004-06 time frame that saw record high fines.
Q.17. Cooperation with NTEU: If confirmed, would you work
cooperatively with the National Treasury Employees Union?
A.17. Yes.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR SHELBY FROM MARY
SCHAPIRO
Q.1. In connection with the Madoff matter, FINRA has maintained
that it was unable to look into the activities in question. Two
May 2001 news articles discussed concerns about Madoff's money
management activities and the links between those activities
and its broker-dealer activities. See, Erin E. Arvedlund,
``Don't Ask, Don't Tell: Bernie Madoff Is So Secretive, He Even
Asks His Investors To Keep Mum,'' Barron's (May 7, 2001) and
Michael Ocrant, ``Madoff Tops Charts; Skeptics Ask How,'' MAR/
Hedge (May 2001). Further, Madoff's 2006 Form ADV noted that
the Madoff was compensated for investment advisory services
through commissions. What is the specific legal constraint that
would have prevented FINRA examiners from looking into whether
those commissions were reflected in the books of the broker-
dealer or otherwise asking questions about investment advisory
activities' connection with the firm's brokerage activities?
Would the normal course have been for FINRA examiners to ask
questions about these allegations about Madoff's firm and then
refer them to the SEC if they appeared credible, but related
solely to advisory activities? To your knowledge, did FINRA
make any referrals to the SEC related to the Madoff firm?
A.1. Section 15A of the Securities Exchange Act of 1934
establishes the statutory jurisdiction of FINRA. That section
authorizes FINRA to ``enforce compliance by its members and
persons associated with its members, with the provisions of
[the Securities Exchange Act], the rules and regulations
thereunder, the rules of the Municipal Securities Rulemaking
Board'' and FINRA rules. Under our fractured system, broker-
dealers are regulated under the Securities Exchange Act and
investment advisers are regulated under the Investment Advisers
Act of 1940. Section 15A does not authorize FINRA to enforce
compliance with the Investment Advisers Act--even when a
broker-dealer also conducts investment adviser activities.
Authority to enforce the Investment Advisers Act is granted
solely to the SEC and to the States.
Typically an investment adviser is compensated in the form
of a flat fee or an asset based fee, while a broker-dealer is
compensated through commissions. However, an investment adviser
also could be compensated in the form of commissions. As a
matter of fact, in 2005 the SEC adopted, and in 2007
reproposed, a rule that requires that any broker-dealer that
exercises investment discretion over customer accounts register
as an investment adviser, even if its compensation for that
business comes in the form of commissions.
The fact that Madoff's advisory business was apparently
compensated through commissions did not compel it to be run
through a broker-dealer. In fact, in 2006 the SEC required him
to register as an investment adviser even after he apparently
asserted to the SEC that he was being compensated in the form
of commissions. The SEC did not require Madoff to run his
investment adviser business through the broker-dealer; in fact,
he did not execute any of his trades for that business through
the broker-dealer. The broker-dealer was a wholesale market
maker and there was no reason to suspect that it was offering
an advisory business as well.
We have found no records of referrals from NASD or FINRA to
the SEC regarding Mr. Madoff.
Q.2. Given FINRA's position that the Madoff Ponzi scheme took
place outside the broker-dealer, do you think that it is
appropriate for SIPC to be involved in the liquidation of the
firm and the processing of the claims of Madoff's victims?
A.2. I am not privy to SIPC's legal or investigative analysis
at this time. Historically, however, I believe that SIPC has
compensated victims of securities fraud when those customers
have been led to believe that they were customers of a broker-
dealer, irrespective of the fact that there was no record of
them being customers of a registered broker-dealer.
Q.3. As president of NASD starting in 1996, you were
responsible for the examination and enforcement programs.
Knowing what you now know about the Madoff fraud, are there any
steps that you could have taken to make it more likely that
your staff would have detected the fraud? After learning of the
fraud, what steps did you direct your staff at FINRA to take to
determine whether other firms are engaging in fraudulent
activity?
A.3. The ease with which market participants can move an
advisory business outside the broker-dealer makes it
extraordinarily difficult for FINRA to detect such a Ponzi
scheme. Historically, Ponzi schemes are among the most
difficult to detect, because the essence of the fraud is the
absence of customer complaints until the fraud collapses. In
order to discover a Ponzi scheme, an examiner needs the ability
to verify information provided by the perpetrator, such as by
making inquiries to the custodian of the securities (if there
is one), the auditor, or the customers.
FINRA does examine for fraud within a broker-dealer. We
also have an active automated fraud detection program, although
admittedly it focuses on trading activity in the secondary
market. At my direction, FINRA staff is in the process of
launching two broad reviews, one involving custody issues in
joint broker-dealer/investment advisers, and the other
involving the role of broker-dealers as feeders or finders to
money managers such as Madoff. On the latter issue, many
finders and feeders are registered as investment advisers, not
as broker-dealers.
Q.4. As chairman of the SEC, you will be responsible for making
changes to the SEC's enforcement and inspections programs to,
among other things, increase the likelihood that frauds of the
magnitude of the Madoff Ponzi scheme get detected before
billions of dollars are lost. What kinds of changes to the
inspections and enforcement programs do you have in mind and
what characteristics will you look for in selecting heads of
your enforcement and inspection programs?
A.4. I look forward to the Inspector General's review of the
Madoff matter. Pending that, it goes without saying that the
investing public demands nothing less than the most aggressive,
creative, and collaborative enforcement and examination program
possible. I will remove the procedural limitations that have
been put in place over the past few years, and ensure that
these programs have all the tools, technologies and resources
available to them. I also plan to centralize the responsibility
for receiving and tracking tips received by the agency. But as
important, I will ensure that our programs view themselves as
part of a community of regulators, and I will stress
cooperation and the free flow of information between federal,
state, and SRO enforcement groups. It's difficult to say
whether that flow might have detected the Madoff fraud earlier,
but it is clear that segmentation of information can permit
frauds to avoid detection for longer periods of time.
Q.5. In your testimony you have stated that, ``First and
foremost, if confirmed as Chairman, I will move aggressively to
reinvigorate enforcement at the SEC. With investor confidence
shaken, it is imperative that the SEC be given the resources
and the support it needs to investigate and go after those who
cut corners, cheat investors, and break the law.'' Is it your
view that the reason for the SEC's recent failure to discover
the Madoff fraud was a lack of resources and if so, on what do
you base that determination? Do you believe that before we can
discuss the need for more resources, there needs to be an in-
depth consideration of how the SEC has been utilizing the
resources it presently has at its disposal?
A.5. It is not clear to me yet what the cause or causes were
that led to the SEC's failure to stop the Madoff fraud. I agree
that an in-depth analysis is required to ensure the right tools
are put in the right places, and such an analysis will be one
of my first priorities.
Q.6. Last year, the SEC reproposed long-awaited amendments to
investment advisor disclosure in an effort to give investors
easy access to critical information about the people who manage
their money. What are your plans with respect to revamping
investment advisor disclosure and making it more accessible to
investors?
A.6. As you note, in March 2008 the SEC reproposed for comment
changes to Part 2 of the Form ADV, which is the disclosure
document given to clients of investment advisers. The changes
are intended to replace the current ``check-the-box'' model
with narrative disclosures written in plain English. As a
general matter, I support providing investors with disclosures
that are clear, complete and written in a manner that the
average person can understand. I intend to closely review this
proposal, as well as public comments, to ensure that we will be
providing critical information to investors in the most user-
friendly manner possible.
Q.7. Do you plan to revisit the question of whether there needs
to be greater uniformity in the regulation of broker-dealers
and investment advisors that provide similar services to
investors?
A.7. It is clear from the RAND study that was commissioned by
the SEC, that investors are confused by the differences between
investment advisers and broker-dealers, the services they each
provide, how they are compensated and how they are regulated. I
will revisit the question of whether investors would be better
served by greater uniformity.
Q.8. You have been widely commended for your role in overseeing
the merger of the NASD and NYSE Regulation into the newly
created entity, FINRA. There are, however, some critics, who
argue that certain firms, particularly small ones, were
disadvantaged by the merger and cite NASD misrepresentations
about constraints on the amount of cost-savings it could pass
on to member firms. How do you respond to these critics? What
steps will you take as chairman of the SEC to ensure that the
voices of small broker-dealers and investment advisors are
heard?
A.8. Contrary to the views of these critics I believe that the
merger actually served to lock in significant representation of
regulated firms, large and small, at a time when the trend was
in the direction of taking Board representation away from the
industry. I believe that the balance struck between
representation of large firms that account for a very large
proportion of the securities business in the United States and
the small firms that are large in number but which do a very
small proportion of the business, was fair and equitable to
both sectors. The smaller firms represent an important form of
access to the markets for many individual investors. It is
therefore important that the rules applicable to the industry
take into account the risks inherent in the variety of business
models of firms, for example whether they hold customer funds
and securities, and not impose burdens not necessary for the
protection of investors. As I have at FINRA, I will consult
broadly, through the notice and comment process, and other
means, to gather the views of interested parties.
Q.9. What are your ideas for improving the communication and
coordination among different parts of the SEC?
A.9. I will set a tone from the very beginning that I expect
complete communication and coordination among divisions and
nothing less will be acceptable. I plan to have senior staff
meet regularly to discuss all ongoing and planned initiatives.
I will explore the possibility of staff rotations to encourage
greater understanding of the work of all divisions. In some
areas, like the handling of tips, where miscommunication seems
to have caused serious breakdowns, I intend to centralize the
function and track the results which will be shared with the
Commission and senior staff.
Q.10. What role do you see for economists at the SEC and how
has FINRA used economic analysis?
A.10. FINRA has a small economics analysis group that assists
the policy makers in understanding economic trends, keeping
current with economic literature and dissecting how particular
products will function in different economic cycles. This group
is an excellent resource for the entire organization. I believe
the SEC would benefit from a similar group that provides
support and expertise to the Commission and staff.
Q.11. What changes, if any, are you thinking about to
streamline the approval process for self-regulatory
organizations' rules while still affording interested parties
an opportunity to weigh in on those rules?
A.11. I am committed to ensuring that the SEC's resources are
used as effectively as possible. I would be interested in
streamlining the rule approval process for SRO rules where
those rules do not implicate investor protection or other
issues that should be subjected to the notice and comment
process.
Q.12. Over the past several years, a number of the SEC's rules
have been invalidated in court. In addition, we saw the rapid
demise of the consolidated supervised entity program, a program
that was not authorized by statute. What steps will you take to
ensure that the SEC is acting within its statutory authority?
A.12. First of all, I would note that all State and Federal
agency rulemaking is generally subject to legal challenge and
subsequently set aside because the agency believed it had legal
authority with which courts subsequently disagreed.
I would require that we first have a clear and rationalized
legal basis for our actions before engaging in rulemaking. That
would not guarantee against legal challenge, but it does mean
that the matter would have been fully considered in advance and
that statutory authority is a matter of first concern. If we
lack the authority to engage in rulemaking that we believe is
necessary, we will engage Congress in that discussion.
Q.13. The SEC has been accused of short circuiting the notice
and comment rulemaking required by the Administrative Procedure
Act. What steps do you plan to take to ensure that the SEC
adheres to the notice and comment requirements for rulemaking?
A.13. Again there can be reasonably different interpretations
as to the notice provisions required under the Administrative
Procedure Act. Building on my prior answer that our statutory
authority and obligations will be the first order of
determination in any decision or rule making, I would add that,
absent systemic, market or investor emergency where we believe
the Commission has the authority to act under the law, I would
err on the side of Notice and Comment. My track record at FINRA
demonstrates that well over 90 percent of our proposed rule
making went out for Notice and Comment before it was sent to
the SEC (and there is nothing in federal law or the SEC rules
that required such Notice and Comment). Consequently, I bring a
notice and comment bias based on prior experience because it is
an extremely valuable discipline.
Q.14. During your first stint at the SEC, you recognized that
there were problems with the SEC's treatment of credit rating
agencies. Since then, Congress passed the Credit Rating Agency
Reform Act of 2006 and the SEC adopted rules under that
statute. Unfortunately, these rules came too late to prevent
the great failings of credit rating agencies in connection with
subprime securitizations. Subsequently, the SEC has adopted
additional rules. Will you support the proposals to eliminate
credit ratings from the SEC's rules?
A.14. The current business model under which credit rating
agencies operate is flawed because the issuers themselves pay
for the ratings that they receive. I believe that the SEC
should consider other compensation models that do not present
these fundamental conflicts of interest. For example, fees
collected by securities exchanges or regulatory authorities
might be a more appropriate source of credit rating agency
compensation. Reform of the system under which credit agencies
operate should be undertaken hand in hand with an analysis of
the appropriate role and use of these ratings under SEC rules.
Q.15. What role should the SEC have in regulating credit
default swaps?
A.15. I believe that the Commission needs to move together with
its fellow regulators to rules that allow for the functioning
of clearing agencies for credit default swaps. This is
necessary in order to reduce counter-party risk for these over-
the-counter traded derivatives and to bring increased
transparency to these markets. It is critical that we have
efficient and effective oversight of the clearing agencies at
the Federal level.
Q.16. Do you think that the SEC's decision to impose a short
sale ban on financial stocks last fall, a decision that
Chairman Cox recently called into question, was appropriate?
A.16. The SEC's series of orders last fall, led to some
confusion and uncertainty in the markets. Whether or not these
orders were a mistake, I think it is critical for the agency to
take a fresh look at short-selling and determine an approach
that will not require continuously acting on an emergency
basis.
Q.17. The SEC is facing a number of important accounting
issues, including issues related to International Financial
Reporting Standards and fair value accounting. What will your
priorities be in this area and what plans do you have for
working with other entities such as the SEC's international
counterparts and the FASB, PCAOB, and IASB?
A.17. The SEC's roadmap for IFRS implementation is currently
out for comment. I am anxious to review the comment letters and
determine whether the roadmap as currently proposed is
sufficient to ensure that the accounting standards used by US
issuers will continue to be of the highest quality. The SEC has
also recently published its findings with respect to Fair Value
Accounting. I will move quickly to examine the recommendations
suggested in that report to determine what changes may be
appropriate.
Cooperation with PCAOB, FASB, and IASB will be essential in
addressing both of these issues. I hope to build a more
positive and cooperative relationship among all of the
entities.
Q.18. Do you have any specific plans with respect to business
development companies, which are a source of capital for small
and mid-sized companies?
A.18. I recognize the importance of a healthy small business
sector to our economy. I have no specific plans at this time
with respect to business development companies, but will be
very interested to explore these issues.
Q.19. You have spent almost all of your career as a regulator.
This background has provided you with an excellent
understanding of how regulatory agencies work and deep insight
into ways that the regulatory process can be improved. How will
you compensate for the fact that you have not spent a
significant amount of time in the private sector and therefore
have not had to implement new regulations in a business context
with the attendant concerns for regulatory costs and legal
liability?
A.19. At FINRA, I made it a practice to solicit broadly the
views of those who are ultimately responsible for implementing
regulations. Through the notice and comment process, advisory
committees and roundtables, we will give interested parties the
opportunity to provide business and operational context to our
rulemaking. Equally, we will solicit the views the investors
and others who are affected by our rules.
Q.20. There has been talk of FINRA--and before that, the NASD--
adding investment advisors to the portfolio of firms that it
regulates. This idea is controversial. If you are asked to
weigh in on this debate in your new role as chairman of the
SEC, what steps will you take to consider all sides of the
issue of whether an SRO is appropriate for investment advisors
and, if so, whether FINRA should be that SRO?
A.20. I believe that investor protection requires us to look
beyond the title of the person providing financial services.
Whether the provider is an investment adviser or a broker
dealer, the investor desires high quality service and
comparable regulatory protections. I will be open to all
possibilities for achieving this result, including the
possibility of an SRO for advisers, but I have not concluded by
any means, that that is the only possible approach.
Q.21. What role do you believe the SEC should play in a
reformed regulatory structure?
A.21. The mission of the SEC is to protect investors; maintain
fair, orderly, and efficient markets; and to facilitate capital
formation. I believe that it is essential that the SEC continue
to pursue this mission in a reformed regulatory structure. This
can best be achieved through preserving and strengthening the
many critical functions that the SEC performs today.
Preservation and strengthening of the many critical
functions of the SEC are essential in a reformed regulatory
structure.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM MARY
SCHAPIRO
Q.1. Beginning to restructure the financial services'
regulatory structure is a complicated undertaking, and one that
this Committee will spend much time addressing. What do you
believe is the starting point for restructuring at the SEC?
What is the number one structural regulatory deficiency at the
SEC that needs to be corrected by Congress?
A.1. I believe the starting point for regulatory reform must
rest on two principles. The first is that systemically
important financial institutions and products must be brought
under the regulatory umbrella. The second is that our focus
must be equally upon the management and limitation of systemic
risk on one hand, and the protection of investors through
rigorous business conduct regulation, on the other.
Q.2. As you know, Native American issues are important in my
state of South Dakota. The Regulation D definition for
``governments'' inadvertently did not explicitly include Tribal
governments when it was created. As a result, Tribes are the
only governments required to register with the SEC and are
currently excluded as ``accredited investors.'' This makes
raising money costly in Indian Country and has had the perverse
effect of preventing successful Tribes from investing in
emerging Tribes. Would you support a simple regulatory fix to
recognize Tribal governments as government, and equalize access
to the capital markets?
A.2. This is an important issue. I will study the implications
of recognizing Tribal governments and will look forward to
discussing the issue with you.
Q.3. What you will do to stop the illegal practice of naked
short selling? Do you believe Regulation SHO (pronounced
``show'') should be amended? In 2007, the SEC rescinded the
``uptick rule.'' Do you believe this rule should have been
rescinded?
A.3. I intend, as quickly as possible, to engage in a full
review of the SEC's actions with respect to short selling,
including an evaluation of whether the uptick rule should be
reinstated.
Q.4. Do you feel that the executive compensation disclosure
rules are adequate and would you propose any changes?
A.4. Executive compensation disclosure is of enormous interest
to the SEC, Congress, and the public. The SEC recently
strengthened the disclosure requirements and has been engaged
in a dialogue with public companies about the quality of their
disclosure. I am committed to requiring public companies to
present clear, cogent, and full disclosure of executive
compensation and how compensation decisions are made.
Q.5. There have been many concerns about how accounting issues
contributed to our current economic crisis. What do you believe
should be the relationship between the SEC and FASB? What do
you believe should be relationship between the SEC and PCAOB
(Public Company Accounting Oversight Board)? Would you propose
any changes to either of these two relationships?
A.5. The SEC has statutory authority to establish financial
accounting and reporting standards for public companies. The
agency has relied on the private sector--FASB--to fulfill this
function, under the Commission's oversight. I believe in the
U.S. model of independent standard setters, so long as the
standard setters operate in the public interest. I also believe
that the creation of the PCAOB to protect investors by
promoting informative, fair and independent audit reports,
under the oversight of the SEC was an important development. It
is critical that the SEC have a strong relationship with both
of these entities. I am not certain at this point, whether
changes are necessary.
Q.6. What are your thoughts on the adequacy of current funding
for the SEC?
A.6. While I have not yet had an opportunity to engage in a
careful review of the SEC's budget and allocation of resources,
it is clear that the agency's funding has been severely
constrained over the past several years. I am looking forward
to working with Congress to secure the resources necessary to
fund the SEC at a level commensurate with its responsibilities.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR BENNETT FROM MARY
SCHAPIRO
Q.1. When will the SEC finalize the updating of the Financial
Responsibility Rules for broker-dealers under Rule 15c3-3 to
permit government-only money market funds to be used in meeting
reserve deposit requirements, and by allowing money market
funds to be used as collateral where broker-dealers borrow
securities from customers and others?
A.1. On March 9, 2007, the SEC proposed amendments to several
of the broker-dealer financial responsibility rules, including
Rule 15c3-3. On May 17, 2007, the Commission extended the
comment period. The amendments remain pending before the
Commission. I look forward to considering them after I arrive
at the agency.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR CRAPO FROM MARY
SCHAPIRO
Q.1. Would a merger or rationalization of the roles of the SEC
and CFTC be a valuable reform?
A.1. How best to structure the regulatory oversight of our
financial markets is a subject that deserves careful
consideration by the Congress, the Administration and the
independent regulatory bodies. As I said in my testimony, the
SEC performs essential functions and it is vital that all of
the current functions of the SEC be preserved. I think we need
to carefully examine what is the best way to preserve and
strengthen these functions while filling in the regulatory gaps
that currently exist, including those between the SEC and the
CFTC.
Q.2. Recent events in the credit markets have highlighted the
need for greater attention to risk management practices and the
counterparty risk in particular. The SEC recently promised to
issue a key exemption that would allow various initiatives to
offer clearing services for credit default swaps. Do you agree
that interim temporary final rules need to be issued as soon as
possible to allow these important initiatives to proceed?
Additionally, do you believe that these vital markets need to
remain open and functioning?
A.2. Clearly the Commission needs to move with its fellow
regulators to rules that allow for the functioning of clearing
agencies for credit default swaps. This is necessary in order
to reduce counter-party risk for these over-the-counter traded
derivatives and to bring increased transparency to these
markets. One of the contributing factors to the current crisis
has been an inability to more precisely size the volumes of
these contracts and the notional underlying value. Further,
despite past practices that created risk that was both
excessive and difficult to quantify, when properly managed
these products are important risk management tools, and the SEC
should take the necessary steps to ensure they remain
functioning.
Q.3. The SEC recently implemented changes to regulation SHO. It
is my understanding that a number of commenter's suggested that
because of a technical issue these changes have resulted in
less liquidity in the securities lending market and this has
forced securities firms to try to borrow funds from financial
institutions rather than allowing them to borrow from each
other. This could be addressed by simply altering the timing of
closing out the trade. In an environment where credit is tight,
should the SEC alter this rule to address these concerns rather
than taking already limited funds out of the financial sector?
A.3. The SEC's recent actions in the area of short selling,
including emergency orders issued last year and the more recent
interim final temporary rule, have been intended to address
continuing concerns about the potential impact of ``naked''
short selling on the already weakened financial markets. While
certainly not all short selling is fraudulent, ``naked'' short
selling--where the securities sold are not delivered on
settlement date and there is then a fail to deliver to the
buyer of the security--may deprive shareholders of the benefits
of ownership, such as voting and lending, and can facilitate
manipulative activity, further undermining critical investor
confidence. The SEC, through its temporary rulemaking, has
imposed stricter time frames for delivery of securities by
short sellers until July 2009. The SEC's Office of Economic
Analysis has been monitoring closely the impact of these new
requirements and has already reported a significant decline in
fails to delivers. I intend to review the full results of the
Office of Economic Analysis study and other relevant
considerations before determining whether a continuation of
these new restrictions is warranted.
Q.4. Many financial institutions are subject to regulation and
oversight as both a broker-dealer and investment adviser. How
do you propose to strengthen the regulation and oversight of
their activities and improve investor protection, while
insuring that the regulatory burdens do not hurt competition
and place professional financial advice and services out of the
reach of all but the wealthiest Americans?
A.4. First, it is interesting to note that the least
regulatorily burdened investment areas--buyout funds, private
equity, and hedge funds--have traditionally been available to
only the wealthiest Americans. Broker-dealers that service the
full spectrum of Americans all operate under essentially the
same regulatory burdens when it comes to investor protection.
All investment professionals who serve the public should be
subject to similar standards of investor protection (but not
always by identical rules) and there is no reason to believe
that this would price services beyond the wealthiest Americans.
The biggest regulatory costs for broker-dealers come from
systems to execute and report trades on an automated basis and
investment advisors would not incur those costs. Existing law
already requires investment advisors to have compliance
officers and policies and procedures. I believe we can level
investor protection across financial services providers without
driving costs to a level where competition is hampered.
Q.5. Should the SEC act in the near future on proposals to
toughen rules for credit rating agencies?
A.5. I strongly agree that we need strengthened rules for
regulating the credit agencies. One of the main problems in
this area is resolving conflicts of interest in the
compensation model for credit rating agencies. There are a lot
of proposals being discussed now to deal with this. I believe
we should explore them and move quickly to a conclusion--and I
intend to make sure that we implement rigorous oversight and
enforcement.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR LEVIN FROM MARY
SCHAPIRO
Q.1. Market Oversight: In 1998, former Securities and Exchange
Chairman Arthur Levitt, Treasury Secretary Lawrence Summers,
and Federal Reserve Chairman Alan Greenspan all opposed an
attempt by the Commodity Futures Trading Commission (CFTC) to
examine the over-the-counter (OTC) swaps market and then
supported statutory restrictions on the SEC's and CFTC's
authority over swaps in the Commodity Futures Modernization Act
of 2000 (CFMA). Former Chairman Levitt recently stated that he
now regrets the position he took during those years: ``The
market was too large, too explosive in growth to merely allow
pure market forces to suffice as self-regulatory mechanisms. I
have some regrets about it, clearly.'' In October 2008, Mr.
Levitt wrote:
Our Nation's financial markets are in the midst of their
darkest hour in 76 years. We are in this situation because of
an adherence to a deregulatory approach to the explosive growth
and expansion of America's major financial institutions. Our
regulatory system failed to adapt to important, dynamic and
potentially lethal new financial instruments as the storm
clouds gathered.
a. Do you agree with former Chairman Levitt's statement
that our regulatory system has failed to adapt to the
development of new financial instruments and that the positions
taken in 1998-2000 to deregulate markets was, in retrospect, a
mistake?
b. Should SEC oversight be strengthened with respect to new
financial products, including new derivative and complex
structured finance products, and, if so, how?
c. Would you support repealing the statutory prohibitions
in the CFMA on federal regulation of swaps? If so, should these
swaps be regulated as commodities or securities?
d. What would you do to get credit default swap clearing
functions up and running?
A.1. As the events of this past year have made clear, one of
the problems with our financial regulatory architecture is that
there are large gaps in it, leaving important products and
market actors beyond the oversight of regulators. Investors
deserve to have quality disclosure about all products, actors,
and strategies so they can make smart investing decisions, and
our markets absolutely require this information, as well as a
strong cop on the beat to enforce the rules of the road. With
regards to swaps, I personally have supported the repeal of
statutory prohibitions in the CFMA on the federal regulation of
swaps and I believe that centralized, mandatory clearing of
standardized swaps should be required.
Q.2. Former Federal Reserve Chairman Alan Greespan testified in
October that he, too, now believes that the conceptual
framework underlying the deregulation of swaps in the CFMA was
a mistake. Mr. Greenspan testified: ``I made a mistake in
presuming that the self-interests of organizations,
specifically banks and others, were such as that they were best
capable of protecting their own shareholders and their equity
in the firms. . . . So the problem here is something which
looked to be a very solid edifice and, indeed, a critical
pillar to market competition and free markets did break down.''
a. Do you agree with Mr. Greenspan's recent statements that
the financial collapse of 2008 has demonstrated the errors in
the assumptions underlying the deregulatory approach in the
CFMA? Can we rely on market participants and unfettered free
market forces to prevent systemic risks and unreasonable price
fluctuations?
b. Do you support stronger regulation of securities markets
to protect market participants and prevent systemic risks, and,
if so, how?
c. Should SEC user fees be increased to fund additional
oversight capabilities?
A.2.a. I believe that markets need oversight and regulation to
ensure that operate fairly.
b. I believe that all systemically important market
participants and products need to be brought under the
regulatory umbrella.
c. I have not yet had an opportunity to do a thorough
review of the SEC's budget or resource allocation. It is
probably safe to say however, that the agency has not been
funded at a level commensurate with its responsibilities. I
believe additional oversight capability is essential and I look
forward to working with Congress to ensure that the agency has
the resources it needs.
Q.3. What are your views on whether and how SEC oversight be
strengthened with respect to:
a. the holding companies of securities firms?
b. hedge funds?
c. companies that are not broker-dealers, but buy and sell
financial swaps and other products, like AIG Financial
Products?
A.3. I believe that all systemically important financial
institutions need to be regulated. I would specifically endorse
the registration of hedge funds.
Q.4. Should the SEC strengthen capital requirements for broker-
dealers?
a. At the time they were made in 2004, did you support the
revisions by the SEC to the net capital requirements rule? Do
you support those changes at the current time or should the SEC
restore the prior rule?
b. Should the SEC impose stronger capital requirements on
broker-dealers that trade in over-the-counter derivatives or
complex structured financial products?
A.4. I did not take any position in 2004 regarding the net
capital requirements rule. Moving forward, I believe that we
need to strengthen capital requirements across the board.
Q.5. What is your view of the relationship between the SEC and
federal banking agencies with respect to banks that buy and
sell securities? How can this relationship be improved?
A.5. It's important that all the regulators in our system work
collaboratively in ensuring that investors are protected and
that the markets are operating soundly. Moving forward, we need
to close the gaps in our regulatory system, a system that is
too stove-piped allowing determined market actors to avoid
oversight. As we work to reform the financial regulatory
architecture this should be a priority.
Q.6. What lessons should be learned from the recent collapse of
the markets for asset-backed securities, collateralized debt
obligations (CDOs), structured investment vehicles (SIVs), and
auction-rate securities? Should the SEC attempt to restore the
markets for these products? Should the SEC make distinctions
between these categories of products and, if so, how and why?
A.6. The biggest lesson from these market collapses is that we
cannot allow financially important products that have a massive
impact on our markets and our economy to operate in our system
without high standards of oversight, transparency, and
accountability. As Chair of the SEC, I will move aggressively
with my fellow Commissioners and working with members of
Congress to close the gaps in our regulatory structure and
bring these markets under control.
Q.7. What needs to be done to resolve the conflicts of interest
affecting credit rating agencies? What can be done to restore
their credibility?
A.7. As early as 1994, I've called for stronger regulation of
credit rating agencies when, at that time, it became
increasingly clear that their importance to the markets was
outstripping the amount of oversight. Since then and especially
this year, there are real questions about conflicts of interest
and transparency that have surfaced. Moving forward on credit
rating agency reform is a top priority of mine. We need to
examine how the rating agencies are compensated, how they
manage conflicts of interest, and what role they should play in
our markets. There are some interesting proposals out there
that need to be studied. I look forward to working with you on
this issue.
Q.8. In 2004, Congress enacted legislation imposing a one-year
cooling-off period before federal bank examiners could take a
job with a bank they oversaw. If confirmed, would you support a
similar cooling-off period for securities regulators?
A.8. Now more than ever, it's critical that the SEC is able to
attract a new group of highly qualified and motivated
individuals to serve in the agency. As we do that, we need to
balance this need with the highest standards of ethics and
accountability for SEC employees to ensure that the public good
is always first and foremost in their minds. I look forward to
working with you on this matter and to learning from the bank
regulators about their experience with post-employment
restrictions.
Q.9. Financial Accounting Standards: What is your view of the
relationship between the SEC and the Financial Accounting
Standards Board (FASB)? What is your view on whether Congress
should legislate accounting rules?
A.9. The SEC needs to diligently oversee the FASB to ensure
that accounting rules are keeping pace with innovations in the
markets and the needs of investors of clear, usable financial
reporting. I believe that FASB needs to be shielded from
outside economic and political pressures, and that they and not
Congress should write accounting rules.
Q.10. The SEC recently issued a report supporting the existing
mark-to-market valuation rules, but recommending some
improvements. What is your view of the current mark-to-market
valuation rules?
A.10. We know that certain banks were not presenting investors
with the full picture of their financial health, utilizing off-
balance sheet vehicles and other accounting methods. This was a
disservice to investors as the integrity of the numbers is
critical to their making smart investment decisions and to the
smooth functioning of our markets. While there are a lot of
different views on whether mark-to-market accounting
contributed to this crisis, my personal view is that it was not
a significant factor. As Chair, I will read the recent SEC
report on this matter fully, talk with other regulators, and
get their views as we move forward.
Q.11. Do you believe U.S. banks have fully applied mark-to-
market valuations to the structured finance transactions on
their books, including asset-backed securities, credit default
swaps, and CDOs? Do you believe inaccurate valuations are
currently impeding U.S. credit markets? If confirmed, what
actions would you take to insure accurate book valuations for
U.S. banks?
A.11. I am not in a position at this time to opine on whether
U.S. banks fully and appropriately applied mark to market
valuations. See above.
Q.12. Current SEC Chair Christopher Cox has indicated that he
thinks the SEC should allow U.S. publicly traded companies to
use international financial reporting standards (IFRS) issued
by the International Accounting Standards Board (IASB) instead
of U.S. generally accepted accounting principles (GAAP) in
their financial statements.
a. Do you believe the Sarbanes-Oxley Act allows the SEC to
delegate the development of U.S. accounting standards to the
IASB? If confirmed, would you try to advance such a proposal?
b. Section 404 of the Sarbanes-Oxley Act requiring auditors
to review a company's internal controls has still not be
applied to publicly traded small businesses. If confirmed,
would you allow Section 404 to take effect for small businesses
without additional delay?
A.12. When it comes to international accounting standards, it's
critical that these standards are converged in a way that does
not kick off a race to the bottom. American investors deserve
and expect high standards of financial reporting, transparency,
and disclosure--along with a standard-setter that is free from
political interference and that has the resources to be a
strong watchdog. At this time, it is not apparent that the IASB
meets those criteria, and I am not prepared to delegate
standard-setting or oversight responsibility to the IASB.
Regarding, SOX 404, accurate, robust, and easy-to-
understand financial reporting--and the internal controls that
guarantee it--are critically important to investors and to the
efficient functioning of our markets. Right now, we have a
system where some issuers are complying with 404 and others are
still exempt from it. It's time that we bring uniformity to the
system so that investors know what to expect from companies,
while being sensitive to the needs of small businesses. I look
forward to working with the small business community in making
sure they have the tools they need to comply with 404.
Q.13. What is your view of FASB's accounting standard requiring
stock option compensation to be treated as an expense on
corporate financial statements? If confirmed, would you support
efforts to change this standard? If so, what changes would you
support?
A.13. No, I would not support changing this decision.
Q.14. In 2004, the Office of the Comptroller (OCC) and the
Office of Thrift Supervision (OTS) in the Treasury Department,
the Federal Reserve, the Federal Deposit Insurance Corporation
(FDIC), and the Securities and Exchange Commission (SEC) issued
a proposed Interagency Statement on Sound Practices Concerning
Elevated Risk Complex Structured Finance Activities
(``Interagency Statement on Sound Practices''). In 2006, the
same agencies issued a revised proposal and, in 2007, a final
statement.
a. Did you participate in any discussions or provide any
comments on the 2004, 2006, or 2007 guidance? If so, please
describe the circumstances, including the date, persons
involved, and the issues addressed.
b. Did you support the proposed guidance at the time it was
issued in 2004?
c. Did you support the revisions proposed in 2006 and
adopted in the final guidance at the time it was issued in
2007? Do you support those revisions now?
d. The Interagency Statement on Sound Practices became
effective on January 11, 2007. According to the statement, the
OCC, OTS, Federal Reserve, FDIC, and SEC were to use the
Statement as guidance for reviewing the internal controls and
risk management policies, procedures, and systems of financial
institutions engaged in Complex Structured Finance Transactions
(CSFTs) as part of their ongoing supervisory process. Were you
aware of this guidance, and do you know if the guidance was
regularly applied and adhered to by securities firms since its
effective date?
e. The Interagency Statement indicates that CDOs and credit
default swaps (CDS) typically would not be considered to be
CSFTs subject to the guidance. In light of the role played by
CDO and CDS transactions in the current financial crisis, would
you support revising this approach so that CDO and CDS
transactions are covered by the Interagency Statement on Sound
Practices?
A.14. I did not participate in discussions surrounding the
2004, 2006, or 2007 guidance. I think it would be appropriate
to consider whether the Interagency Statement should be
expanded.
Q.15. Public Company Accounting Oversight Board: What is your
view of the relationship between the SEC and the Public Company
Accounting Oversight Board (PCAOB)?
A.15. In addition to its oversight responsibilities, the SEC
should ensure that the PCAOB has what it needs to enforce the
rules of the road for auditors.
Q.16. Chairman Cox has indicated that he thinks the PCAOB
should stop inspecting auditing firms in other countries and
instead delegate its inspection authority to foreign oversight
bodies where those firms are located. Do you believe the
Sarbanes-Oxley Act allows the SEC to make this delegation? If
confirmed, would you try to advance such a proposal?
A.16. No, I do not; and no, I will not.
Q.17. Financial Institutions Facilitating Tax Abuse: The U.S.
Treasury loses an estimated $100 billion each year from
offshore tax abuses, some of which are facilitated by broker-
dealers. If confirmed, would you work with the IRS to curb such
activities? Do you support enactment of S. 681 from the 110th
Congress, the Levin-Coleman-Obama Stop Tax Haven Abuse Act?
A.17. Yes. I look forward to working with the Internal Revenue
Service, you, and other Senators to curb such activities.
Q.18. Some financial institutions are facilitating tax-dodging
by non-U.S. persons. In particular, the Senate Permanent
Subcommittee on Investigations, which I chair, held a 2008
hearing showing that U.S. firms like Morgan Stanley, Lehman
Brothers and others have helped offshore hedge funds and others
to avoid payment of U.S. taxes on U.S. stock dividends, by
assisting them to convert taxable U.S. stock dividend payments
into allegedly tax-free dividend equivalents or substitute
dividend payments. If confirmed, would you support ending this
activity by securities firms?
A.18. Yes.
Q.19. Investor Rights and Protections: Former SEC Chair William
Donaldson proposed establishing a mechanism to allow certain
shareholders of publicly traded corporations to nominate a
candidate to the board of directors. If confirmed, would you
support a rule to allow shareholder nominations of some board
members?
A.19. Yes. A central tenet of our market system is that
shareholders are the owners of the company in which they hold
shares, and they should have a way to hold their
representatives--members of the board of directors--accountable
for their actions. Access to the proxy has been debated for
many years, and I believe it is time for a thoughtful approach
to proxy access for significant, long term shareholders.
Q.20. What is your view of the compensation paid to executives
and market traders at financial institutions? If confirmed,
would you support a rule to allow shareholders to express an
advisory opinion on executive compensation?
A.20. Yes. Like you and millions of Americans, executive
compensation has been a concern of mine for some time now, and
I believe that it's an appropriate measure to give shareholders
an advisory vote on these matters.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM
CHRISTINA D. ROMER
Q.1. Members of the CEA provide the President advice and
analysis concerning the state of the economy. What will be your
first piece of economic advice for our new President as a
member of the CEA?
A.1. The first piece of advice that I gave the President-elect
when I joined the transition before Thanksgiving was to move
swiftly and boldly on an economic stimulus plan. After studying
the forecasts of both private firms and public agencies, as
well as talking with businesspeople and policymakers, I was
deeply concerned about the rate of deterioration of the
economy. I believed that monetary policy could not do enough to
stop the rapid decline, and felt that aggressive fiscal action
was crucial.
If confirmed, my first piece of advice as CEA chair would
be to reiterate that view and then to stress the need to remain
alert and flexible. The President will need to work closely
with the Congress to pass a good stimulus bill quickly. We will
then need to monitor the economy closely. We must watch for new
unexpected weak spots in the economy that could require
additional action. And, should we be fortunate enough to have a
very brisk recovery, we may eventually need to be alert for
signs of excessive strength and bottlenecks in some areas.
Q.2. Beginning to restructure the financial services'
regulatory structure is a complicated undertaking, and one that
this Committee will spend much time addressing. What do each of
you believe is the starting point for restructuring? What is
the number one structural regulatory deficiency, in your
opinion, that needs to be corrected by Congress?
A.2. The key starting point for restructuring the regulatory
structure is to recognize that any institution that acts like a
bank, exposes the economy to systemic risk, and explicitly or
implicitly has the ability to borrow from the Federal Reserve
or otherwise draw on taxpayer resources in times of stress,
needs to be regulated in the same way that we regulate banks.
The deregulatory actions taken in recent decades allowed
investment banks and other institutions to take on quasi-
banking activities without being subject to the same capital,
monitoring, and oversight requirements we have for banks. The
result was the creation of highly leveraged institutions that
were so large and so central to the financial markets that
their failure would bring down otherwise solvent financial
institutions and lead to a catastrophic decline in financial
services, particularly lending. We must begin our regulatory
reform by ensuring that this wide range of financial
institutions adhere to sensible and prudent regulations.
Q.3. Much of your academic work has focused on economic
recovery, specifically after the Great Depression and World War
II. What is similar in today's environment to those periods of
recovery? What is different?
A.3. A key similarity between the current situation and the
Great Depression of the 1930s is the central role of financial
crises in causing unemployment and economic contraction. In
both episodes, the decline in lending caused by turmoil in
financial markets led to devastating contractions in consumer
spending and investment. Thus, the kinds of actions that need
to be taken are fundamentally similar. We need to reform and
revitalize the financial sector so that it can lend again. And,
we need to stimulate the overall economy so that we can
directly counter some of the declining output and rising
unemployment caused by reduced spending.
A crucial difference in the two episodes involves the level
of economic understanding. Perhaps the most important reason
that the Federal Reserve and other policymakers did so little
as the economy spiraled downward in the early 1930s was that
this was the prevailing economic orthodoxy of the time. In the
last 80 years, economists and policymakers have learned
dramatically more about the operation of the economy and steps
that can be taken to counteract macroeconomic shocks. That
improved level of economic understanding should enable
policymakers to devise effective policies.
The role of financial crises in the current downturn points
out a crucial difference from other postwar recessions. Most
recessions since World War II have been caused by tight
monetary policy aimed at reducing inflation. In these
situations, it was relatively straightforward to end the
recessions: monetary policy needed to switch from
contractionary to expansionary. In the current episode,
interest rates were already fairly low when the downturn began.
As a result, monetary policy had less ability to respond
aggressively. This difference makes a balanced approach,
including timely fiscal expansion, crucially important.
Q.4. What kind of policies do you think are our best shot at
economic recovery? What role do you believe fiscal policy will
play in our recovery?
A.4. The problems facing our economy are sufficiently severe
that, in my judgment, it is essential that we use a wide range
of policies to bring about recovery. While monetary policy, the
recapitalization of financial institutions, and dealing with
troubled assets are important, fiscal policy must play a
central role. Fiscal policy provides the most direct stimulus,
which our economy sorely needs. Because the weakness of our
economy is broad and is expected to last a substantial time, it
is important to have a broad fiscal program. Different types of
fiscal policy help recovery in different ways. Tax cuts to
individuals and families and funds to cushion the most
vulnerable provide immediate relief and relatively rapid
stimulus. Likewise, fiscal relief to the states will help in
the near term to mitigate reductions in spending on valuable
programs and to prevent potentially counterproductive tax
increases mandated by balanced-budget requirements. Business
investment incentives also work relatively quickly, and will
spur investments that will increase our productive capacity.
Programs of direct government spending appear to have the
largest ``bang for the buck'' in terms of economic stimulus and
job creation, and can fund investments that will strengthen our
economy in the long term. Because such direct spending can take
somewhat longer to initiate, this type of stimulus will be most
helpful in creating jobs later in the year and throughout 2010.
Finally, in thinking about direct spending, it is important
that it be spread broadly: there are many areas where
government investment would be valuable, and there are many
areas of weakness in the economy.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM AUSTAN
D. GOOLSBEE
Q.1. Members of the CEA provide the President advice and
analysis concerning the state of the economy. What will be your
first piece of economic advice for our new President as a
member of the CEA?
A.1. My first piece of advice to the President will be that he
should release a significant foreclosure prevention plan to
ease the drag on the wider economy and the financial system.
Q.2. Beginning to restructure the financial services'
regulatory structure is a complicated undertaking, and one that
this Committee will spend much time addressing. What do each of
you believe is the starting point for restructuring? What is
the number one structural regulatory deficiency, in your
opinion, that needs to be corrected by Congress?
A.2. The starting point for restructuring should be the
realization that getting rid of the rules of the road did not
make the free market work better. It made it worse. It
contributed to the lack of public trust in the financial system
a fear of keeping money in the financial institutions. We need
sensible oversight for the market to succeed.
To me, the number one structural deficiency in our
regulatory system is that we have designed a system where a
series of institutions are regulated by who they are rather
than by what they do. In subprime lending, for example, two
thirds of the loans were made by non-banks. So the Federal
Reserve was regulating banks one way and non-banks did not have
to follow the regulations despite being in exactly the same
business. That is a recipe for a creating a financial crisis.
Q.3. Some of your academic research focuses on the Internet,
telecom, and other technology industries. What role do you see
the technology industries playing in our Nation's economic
recovery?
A.3. I certainly hope it will be a large role. Technology
industries and the information economy give this country an
important area that we can continue to lead in the coming years
and where the demand for the product has, historically, been
less cyclical than the demand for other goods. These technology
industries are also particularly open to contribution from
entrepreneurs and start-ups which will be an important outlet
for the economy in a period where major employers are
struggling.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM CECILIA
E. ROUSE
Q.1. What will be my first piece of economic advice for our new
President as a member of the CEA?
A.1. I take seriously the role of the CEA as providing expert
advice to the President based on solid empirical and
theoretical economic analysis. The economic crisis in which we
find ourselves is truly extraordinary, and we must continue to
move quickly and boldly to pull ourselves out of it. After
that, however, my advice to the new President would be to turn
as quickly as possible to developing policies and strategies
for long-term investment that will ensure continued growth and
help our firms and workers to remain competitive and nimble in
our increasingly global economy going forward. While clearly
this task will require innovation in a variety of areas, should
I be confirmed, I would particularly look forward to working
with you and the new President to strengthen investments in our
``human capital'' through the education and training system.
Q.2. What do I believe is the starting point for restructuring
of the financial services' regulatory structure? What is the
number one structural regulatory deficiency, in my opinion,
that needs to be corrected by Congress?
A.2. A good starting point for restructuring the financial
services' regulatory structure is to build in more
accountability and transparency that reflects the financial
sector of the 21st century. A key structural deficiency that
must be corrected by Congress is to streamline the regulatory
agencies. Not only is the current system of overlapping and
sometimes competing agencies inefficient, it makes it difficult
for regulators to provide adequate oversight of this important
sector of our economy.
Q.3. As an economist whose primary research and teaching
interests are in labor economics with a focus on the economics
of education, what issue do you see as most pressing in your
area of expertise? How will you advise the President-elect to
address this issue?
A.3. There are many pressing issues in education. Investing in
our youngest children is key, and we must strengthen our
primary and secondary schools--especially our secondary
schools. However, an area that is of primary concern to me is
our system of higher education. The United States has always
been a global leader in higher education, and yet in recent
years we have slipped behind in the rate at which our students
actually complete their studies. This is particularly true in
our community colleges. And yet, a college education is
increasingly important in today's economy. Should I be
confirmed, I would advise the President-elect to help our
institutions of higher education to focus on the needs of
students as well as ensure that those who would like to go to
college have the resources to do so.
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RESPONSE TO WRITTEN QUESTIONS OF SENATOR DODD FROM DANIEL K.
TARULLO
Q.1. Mr. Tarullo, you have testified before this Committee
about the shortcomings of banking regulation well before the
subprime crisis erupted. As you assess what has happened since
then, what principles will guide your thinking about what the
Congress, the Federal Reserve, and other bank regulators should
make to modernize our financial regulatory system?
A.1. In thinking about modernization of the financial
regulatory system, I will be guided by the six principles
listed below. Some measures needed to apply these principles
can be made under existing authority of the regulatory
agencies, while others may require legislative action by the
Congress.
First, successful regulatory modernization must be forward
looking. While it is important to make changes that would
prevent practices that led to the subprime crisis, it is
essential to recognize that financial stress usually does not
recur in precisely the same way as in a previous episode. We
need a regulatory system that can identify and respond, as
necessary, to new risks to financial stability.
Second, the rules and requirements designed to maintain
safety and soundness of individual financial institutions must
be appropriate and enforceable benchmarks that allow effective
monitoring and, where necessary, prompt correction of capital,
liquidity, and risk management practices.
Third, a modern financial regulatory system must have the
capacity to contain systemic risk, no matter what its source,
and the authority to achieve this goal. This means ensuring
regulatory coverage of all systemically important institutions.
It also means establishing measures to identify, and respond
to, risks created in interactions among financial actors.
Fourth, an effective financial regulatory system must
ensure that the regulatory and supervisory systems that govern
individual financial institutions are effectively integrated
with those designed to contain risks specifically arising from
interactions among financial actors. That is, regulators
commissioned with overseeing systemic stability must have
sufficient involvement in the supervision of specific financial
institutions to determine how the various measures interact.
Fifth, the organization of, and allocation of functions
among, our regulatory agencies must be designed so that each
regulatory mission delegated by the Congress will be vigorously
pursued with adequate authority and resources to realize that
mission. Past shortcomings in consumer protection in the area
of financial services provide one example of a need for renewed
attention.
And sixth, in attempting to implement these principles--and
regulatory modernization more generally--it is essential to
keep in mind that the aim of financial regulation should be to
establish and maintain a financial system that allocates
capital efficiently so as to promote sustainable economic
growth by providing investment opportunities and access to
credit. The goal is not more or less regulation as such, but
the right forms of regulation to achieve these ends.
Q.2. Dr. Fred Bergsten, Director of the Peterson Institute for
International Economics, wrote an op-ed article in The
Washington Post entitled ``Globalizing the Crisis Response,''
in which he makes the following point, and I quote--
The current crisis originated in the United States but was
importantly affected by massive savings surpluses in some
countries and the resulting surfeit of liquidity, which drove
down interest rates here and encouraged irresponsible lending
here. These international imbalances were in turn partly caused
by misaligned exchange rates.
Do you agree with Dr. Bergsten that the current financial
crisis has roots in the global savings surpluses in China and
other Asian nations that were accumulated at least in part by
misaligned exchange rates?
A.2. I agree that an excess of savings over investment in many
emerging market countries, which raised the availability of
credit and lowered its cost, contributed to the conditions
which gave rise to the current crisis. It is difficult,
however, to distinguish with precision the contribution of
these savings surpluses from developments in the United States
and abroad that also encouraged reckless lending and excessive
risk, such as the deterioration in underwriting standards,
flaws in the ``originate to distribute'' model, the over-
reliance of financial institutions on short-term credit, and
inadequate risk management. Similarly, misaligned exchange
rates were decidedly a factor in some emerging market
economies' current account surpluses and resultant export of
capital to the United States and other advanced economies.
However, a number of other factors also figured prominently in
these external imbalances, including a protracted slump in
investment spending in some East Asian economies and soaring
commodities prices, which boosted the revenues of many
commodity-exporting countries.
Q.3. Can you share with the Committee your views on the
separation between banking and commerce? Specifically, what are
your views on Industrial Loan Companies?
A.3. The question of whether, or to what extent, the mixing of
banking and commerce should be permitted is an important issue.
The decision has important ramifications for the structure of
the American financial system and the economy, particularly
because any widespread combinations of banking and commerce
likely would be irreversible. I believe any reversal of the
Nation's policy concerning the mixing of banking and commerce
should be made only by Congress itself after legislative
hearings, public debate, and careful review of the potential
benefits and costs to taxpayers, the financial system, and the
economy.
One area in which Congress has permitted the mixing of
banking and commerce is through the ownership of industrial
loan companies (ILCs). The exception for ILCs in the Bank
Holding Company Act (BHC Act) allows any type of company--
including a domestic or foreign commercial firm--to acquire a
federally insured bank chartered in certain states without
complying with the limitations on banking and commerce that
Congress has established for the corporate owners of other
full-service insured banks. Although the number of exempt ILCs
recently has declined (primarily through the conversion of
several financial owners of ILCs to bank holding companies),
the ILC exception in the BHC Act has the continuing potential
to undermine the policy that Congress has established on the
separation of banking and commerce.
Q.4. Do you believe in the Fed's dual mandate for maximum
employment and price stability? Are there approximate figures
for the Nation's unemployment rate and inflation rate that
match what you believe to be maximum employment and price
stability? If so, can you share what those are?
A.4. I fully endorse the monetary policy mandate that Congress
has set out for the Federal Reserve of pursuing maximum
employment and price stability. These policy goals have served
our economy well.
It is difficult to provide specific figures for the
unemployment rate and inflation rate that would best satisfy
the Congressional mandate. With regard to inflation, there are
a number of different measures of inflation, each with its own
strengths, weaknesses, and biases. As for employment, a fixed
measure of ``maximum employment'' is not compatible with the
fact that our economy develops and changes over time in
response to changes in technology and other factors.
Q.5. Can you inform the Committee of any periods in American
history where you believe that maximum employment was not being
reached or that price stability was not achieved? During those
periods, what actions do you believe the Fed should have
undertaken to achieve its mandate?
A.5. The economy is subject to a variety of demand or supply
shocks that can pose a threat to the achievement of maximum
employment and price stability. It is of course important for
monetary policy to respond appropriately to these developments.
At some times in the past, though, adherence to a particular
monetary policy response well after a reduction in the risks
associated with the shock has itself contributed to an increase
in other risks to achieving these goals. For example, during
the 1970s, increases in the prices of oil and other
commodities, along with a slowdown in the rate of underlying
productivity growth, contributed to a substantial rise in
inflation, which reached double-digit levels by the end of the
decade. Over time, high inflation became built into
expectations and distorted the decisions of businesses and
households with adverse results for economic performance. A
tighter policy stance would have been appropriate to limit the
rise in inflation. Had such a policy been pursued earlier, it
might well have avoided some of the negative effects on
employment that ensued from the very tight monetary policy that
was adopted in the early 1980s to bring inflation back down to
lower levels.
As a result of the recession and the crisis in our
financial markets, the Federal Reserve has lowered its short
term interest rate target to an effective rate of zero. The Fed
has also exercised authority under the Federal Reserve Act to
make a series of loans to provide liquidity and that have had
the effect of expanding the Fed's balance sheet. As a result,
we find ourselves in an unprecedented period in which
traditional monetary policy tools have been exhausted and the
Fed is using new methods to implement monetary policy.
Q.6. Do you believe that it is important that as the Federal
Reserve begins to conduct monetary policy through non-
traditional means that it ensures that those actions are highly
transparent?
A.6. I strongly believe that it is important for the Federal
Reserve to conduct its monetary policy actions in as
transparent a manner as is consistent with the effective
achievement of its monetary policy goals, both in routine
circumstances and in periods such as the present when it must
conduct policy using nontraditional tools.
Q.7. What are the advantages to conducting these operations in
a transparent manner?
A.7. Conducting such operations in a transparent manner
supports the overall accountability of the Federal Reserve to
the Congress and the public. Such accountability is always
important, but it is especially critical when nontraditional
policy tools--which are less familiar to the public, and entail
somewhat greater risks, than traditional policy tools--are
being employed. In addition, by improving market understanding
of these operations, such transparency helps support public
confidence that the Federal Reserve and the rest of the
government are implementing measures that will be effective in
strengthening financial markets and institutions and thus
encouraging a resumption of sustainable economic growth.
Q.8. What are the costs associated with a lack of transparency
in the conduct of both traditional and non-traditional monetary
policy?
A.8. Lack of transparency in the conduct of traditional and
non-traditional monetary policy would tend to undercut the
effectiveness of policy actions. In the case of traditional
monetary policy, lack of transparency would create greater
uncertainty about the Federal Reserve's policy objectives as
well as likely actions in response to various economic
developments. Such uncertainty would tend to boost risk
premiums and thus interest rates and depress spending and
economic activity. In addition, a major benefit of transparency
stems from the ability of market participants to anticipate
future policy actions. If market participants can anticipate
future policy actions, those expectations will be priced into
longer-term interest rates and other asset prices immediately,
thus amplifying the power of monetary policy to affect overall
financial conditions and the economy. Lack of transparency
would undercut this important role of expectations.
Lack of transparency regarding the purposes, terms, and
conditions of the Federal Reserve's liquidity programs, would
similarly undercut their effectiveness. For such programs to be
effective, market participants and the general public must
understand the rationale and the terms and conditions for all
such programs. As with interest rate policies, the ability of
investors and others to anticipate how such programs will
operate is extremely important.
Q.9. Foreign government-controlled funds known as sovereign
wealth funds have invested significant resources in U.S.
financial institutions struggling to recover from losses during
the current recession.
Do you believe that the procedures in place at the Federal
Reserve to review and monitor the effects of these transactions
on bank holding companies are adequate to ensure the safety and
soundness of the affiliated depository institutions?
A.9. I believe that the Federal Reserve has adequate authority
under existing legislation to review and monitor investments of
sovereign wealth funds in banks and bank holding companies and,
if necessary, to take action to ensure the safety and soundness
of those institutions. The Bank Holding Company Act (BHCA) and
the Change in Bank Control Act (CIBCA) require any company,
including a company owned or controlled by a foreign
government, to obtain the approval of the Federal Reserve or
other Federal banking agency before making a direct or indirect
investment in a bank or bank holding company if the investment
meets certain thresholds or conditions. The BHCA requires
regular reporting on matters such as risk management and
financial conditions, subjects bank holding companies to
regular examination, and gives the Federal Reserve broad,
ongoing authority to prevent bank holding companies from
engaging in unsafe or unsound practices.
To date, sovereign wealth funds have structured their
investments so as not to trigger the thresholds and conditions
for review under the BHCA and CIBCA. Even below these threshold
levels, however, the investments must not allow the sovereign
wealth fund to exercise a controlling influence over the
management or policies of the banking organization. Of course,
even under these circumstances, the Federal Reserve has broad
supervisory authority over the bank holding company, including
authority to ensure compliance with applicable limitations on
connections or relationships between a supposed passive
investor and the banking organization.
Based on publicly available information, I am not aware of
any inadequacy in the Federal Reserve's procedures to ensure
compliance with these requirements. However, if and as
circumstances change, it would be important for the Federal
Reserve to adapt its monitoring and enforcement procedures to
ensure the safety and soundness of U.S. banking organizations.
Q.10. Do you believe that the Federal Reserve Board has
sufficient information to monitor the influence these foreign
government investments may have on the U.S. banking system?
A.10. Based on publicly available information, I have no reason
to believe that information available to the Federal Reserve
pertaining to foreign government investments in U.S. banking
organizations is insufficient to protect safety and soundness
and otherwise monitor their impact on the U.S. banking system.
As Member of the Board of Governors of the Federal Reserve
System, I would seek to ensure that Federal Reserve staff
develop and maintain sources of information sufficient for
effective monitoring of the relationships between investors and
U.S. banking organizations.
------
RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM DANIEL
K. TARULLO
Q.1. The Federal Reserve has used many tools in its tool box
this year to prevent economic meltdown. What other monetary
policy tools do you believe be utilized to restore confidence
in our markets and encourage economic recovery?
A.1. Although the Federal Reserve has reduced the federal funds
rate close to zero, it has a number of policy tools that it can
use to ease conditions in credit markets and thereby support
economic recovery. First, it can provide short-term liquidity
to assure that sound financial institutions have sufficient
credit to conduct their normal activities. Second, it can
purchase specific types of longer-term securities than it does
in its usual open market operations, with the aim of reducing
the longer-term interest rates that are critical to mortgage
rates and investment decisions more broadly. Third, it can
inject liquidity directly into important credit markets by
purchasing, or lending against, securities associated with
those markets. The terms of such efforts should vary with the
specifics of the credit markets in question. However, if
judiciously configured, these non-conventional policy actions
can play an important role in easing credit conditions in
markets that have remained significantly impaired despite the
low federal funds rate. Going forward, the Federal Reserve
should, consistent with its dual mandate to promote maximum
employment and stable prices, be prepared to utilize all three
policy tools as necessary.
Q.2. Beginning to restructure the financial services'
regulatory structure is a complicated undertaking, and one that
this Committee will spend much time addressing. As a bank
regulator, what do you believe is the starting point for
restructuring at the Fed? What is the number one structural
regulatory deficiency that needs to be corrected by Congress?
A.2. In revamping our system of financial regulation, agencies
must first ensure that regulatory capital rules provide an
adequate buffer against the risks of loss associated with the
activities of financial institutions. Just as importantly, the
agencies must have the capacity to monitor compliance with
these rules and the resolve to enforce them. A second task is
to assess past shortcomings in examination and monitoring of
the internal risk management systems of financial institutions,
and to implement needed improvements. The broader agenda for
Congress and the regulatory agencies is to address sources of
significant potential risk to the financial system that are not
currently subject to adequate oversight. Among other things,
this agenda should include regulatory coverage of all
systemically important institutions and measures to identify,
and respond, to the risks created in interactions among
financial actors.
Q.3. Countries around the world are currently working on
``stimulus'' packages to help their economies recover. What
should the United States do in coordinating international
economic policies with these nations to achieve the best
recovery results?
A.3. In general, prospects for recovery of the global economy
will be strengthened if each country in the coming months takes
measures appropriate to its circumstances to stabilize its
financial system, promote adequate credit flows, and support
domestic economic activity. In some circumstances, as evidenced
by the rate cuts by a number of central banks (including the
Federal Reserve) last fall, explicitly coordinated actions can
send an important signal to markets of a shared resolve among
government authorities to respond vigorously to serious risks
to growth. Even where precise synchronization of specific
policies is not feasible or necessary, international
consultation and cooperation will be helpful in encouraging
countries to pursue measures that strengthen domestic demand
and contribute to global economic recovery. Over the longer
term, it is important that countries adopt policies that are
consistent with balanced, sustainable global growth.
INTRODUCTION OF CHRISTINA D. ROMER BY DIANNE FEINSTEIN,
A U.S. SENATOR FROM THE STATE OF CALIFORNIA
Mr. Chairman, It is an honor and pleasure to introduce and
recommend that my fellow Californian, Dr. Christina Romer, be confirmed
as Chairman of the Council of Economic Advisors. Dr. Romer is a
distinguished economist and innovative thinker.
She received her Bachelor of Arts in Economics from the College of
William and Mary in 1981. After obtaining her doctorate in economics
from the Massachusetts Institute of Technology in 1985, Dr. Romer
became a professor of economics at Princeton University. She joined the
faculty at the University of California, Berkeley, in 1988 and was
promoted to full professor in 1993. She was awarded the Distinguished
Teaching Award the following year. Currently, she is the Class of 1957
Garff B. Wilson Professor of Economics.
During her tenure at the University of California, Berkeley, Dr.
Romer also has served as vice-president of the American Economic
Association, as the Visiting Scholar at the Board of Governors of the
Federal Reserve System, and she currently serves as the Co-Director for
the Program in Monetary Economics at the National Bureau of Economic
Research.
Dr. Romer is widely published, and since her first publication in
1986, she has published 28 articles in journals such as the American
Economic Review, the Journal of Economic History, and the Journal of
Monetary Economics. In addition, she has authored 11 other reviews and
commentaries. In 1997, the volume she co-edited with her husband,
Reducing Inflation: Motivation and Strategy, was released.
She has written widely on the subjects of the Great Depression and
recessions, making her especially well-suited to advise the President
during these challenging times. Dr. Romer understands the gravity of
the current economic crisis and the importance of prudent and well-
targeted government action to promote recovery.
In addition to teaching and research, Dr. Romer is a fellow of the
American Academy of Arts and Sciences and is the recipient of a
National Science Foundation research grant. Previously, she has
received other awards and grants from the National Science Foundation,
including the Faculty Award for Women Scientists and Engineers from
1991 to 1996. Her previous fellowships include the John Simon
Guggenheim Memorial Foundation Fellowship and the National Bureau of
Economic Research Olin Fellowship.
Dr. Romer is clearly one of the best minds in her field. At a time
when so many families are struggling, it is essential that the
President-elect has solid advice to positively change our Nation's
economic course.
With that in mind I am happy to introduce Dr. Romer to this
Committee.
Thank you, Mr. Chairman, Senator Shelby, and Members of the
Committee.