[Senate Hearing 111-]
[From the U.S. Government Publishing Office]



 
  FINANCIAL SERVICES AND GENERAL GOVERNMENT APPROPRIATIONS FOR FISCAL 
                               YEAR 2011

                              ----------                              


                       WEDNESDAY, APRIL 28, 2010

                                       U.S. Senate,
           Subcommittee of the Committee on Appropriations,
                                                    Washington, DC.
    The subcommittee met at 2:36 p.m., in room SD-138, Dirksen 
Senate Office Building, Hon. Richard J. Durbin (chairman) 
presiding.
    Present: Senator Durbin, Lautenberg, Collins, Bond, and 
Cochran.

                  COMMODITY FUTURES TRADING COMMISSION

STATEMENT OF HON. GARY GENSLER, CHAIRMAN

             OPENING STATEMENT OF SENATOR RICHARD J. DURBIN

    Senator Durbin. Good afternoon. I am pleased to convene 
this hearing and apologize for being a few minutes late.
    This is a hearing to consider the fiscal year 2011 funding 
request of two of our most important Federal regulatory 
agencies, the Commodity Futures Trading Commission (CFTC) and 
the Securities and Exchange Commission (SEC).
    I am happy to welcome my colleague, a little tired I am 
sure from yesterday, Senator Susan Collins of Maine, who is my 
ranking Republican on this subcommittee, my friend. We have 
worked together on many aspects of many different laws over the 
years, and this is a very important one.
    We will have other colleagues who will join us during the 
course of the hearing.
    I want to welcome Gary Gensler, Chairman of the Commodity 
Futures Trading Commission, and after his testimony, Mary 
Schapiro, Chairman of the Securities and Exchange Commission.
    Both Chairmen have invested countless hours in helping to 
craft a more reliable regulatory foundation to guide us in the 
future. These two agencies occupy pivotal positions at the 
forefront of stimulating and sustaining economic growth.
    When this subcommittee was created and started, I insisted 
that it bring these two agencies together into one 
Appropriations subcommittee because they parallel one another 
in their regulatory responsibilities and I felt that the 
ancient separations no longer applied, that they really should 
be considered as a tandem operation to bring confidence to 
important marketplaces in America. And I think the President 
has chosen well in the two people who guide these agencies 
today.
    The SEC, of course, is responsible for maintaining orderly 
and efficient stock and securities markets and conducting day-
to-day oversight of major market participants.
    The Commodity Futures Trading Commission, well known to me, 
is an agency that also carries out market surveillance, 
compliance, and enforcement programs in the futures arena, very 
important to our Nation and certainly to the city of Chicago 
and the State of Illinois.
    This subcommittee has an oversight responsibility over both 
of these agencies. We are now debating whether or not any 
committee like the Appropriations Committee should have 
oversight over these two agencies. I believe sincerely that we 
should. We have dramatically increased the resources and 
personnel at both of these agencies, and I hope we will 
continue that trend because their responsibilities are growing 
and we have to provide them the people and the technology to 
meet that challenge. But as we provide these resources, we also 
need to provide oversight. No agency that comes before this 
Government should be above oversight and review. That is why 
this subcommittee will continue to work diligently to exercise 
its oversight responsibility. There are some who question that, 
but I feel very strongly that not only will these agencies 
receive resources but they will be held accountable for the way 
they use these resources and spend them.
    I will not go into detail here about the money that has 
been allocated so far to both of these agencies. We will get 
into that in the course of questioning.
    I would like to, at this point, give my colleague, Senator 
Collins, an opportunity to make an opening statement before Mr. 
Gensler testifies.

                   STATEMENT OF SENATOR SUSAN COLLINS

    Senator Collins. Thank you, Mr. Chairman.
    Mr. Chairman, let me begin by associating myself with your 
comments, in fact, with all of your comments. I know that both 
of us share such a commitment to providing these two important 
consumer agencies with the resources that they need, but like 
you, I also believe in effective congressional oversight. And 
if we essentially put the budgets of these two agencies off 
budget, if we allow them to avoid the annual appropriations 
process, I believe congressional oversight and accountability 
will suffer.
    Therefore, I am going to try to ensure that the financial 
reform bill that passes--and eventually a financial reform bill 
will pass--does not take these agencies--and particularly it 
has been proposed for the SEC--outside of the annual 
appropriations process. I think it is so important.
    And I would note to the two Chairmen that we have before us 
today that this subcommittee has been extremely responsive to 
concerns for more resources. We want to reverse the years when 
you had insufficient staff to do effective enforcement. Indeed, 
as we begin to review your budget requests for this year, we 
should take note of the significant funding increases that our 
subcommittee provided for your agencies last year. In the case 
of the SEC, we went above the President's budget request. We 
gave an increase of nearly $159 million over the previous 
fiscal year; in the case of the CFTC, an increase of $23 
million over the previous year.
    I have been pushing very hard to make sure that you not 
only have the levels of staffing that you need, but you have 
the skilled staff that you need. In fact, I have a feeling that 
the two chairs are competing for skilled staff in many ways, 
for the attorneys, the experts, the accountants that you need.
    The roles that you are playing are so important.
    I will say that I am very disturbed by the recent press 
reports that senior SEC staff were looking at pornography at 
work instead of focusing on securities fraud. That behavior is 
despicable at any time, but it appears to have occurred during 
the height of the financial crisis and that makes it even more 
inexplicable.
    I look forward to discussing a lot of the important issues 
in financial reform with our witnesses today.
    Again, thank you, Mr. Chairman, for your leadership in this 
area.
    Senator Durbin. Thank you, Senator Collins.
    Senator Bond, unless you have an opening statement, I am 
going to recognize Chairman Gensler, but you are going to be 
recognized if you do.

                STATEMENT OF SENATOR CHRISTOPHER S. BOND

    Senator Bond. Let me state very briefly because I do have a 
question or two for the Chairman. We welcome him here.
    Everybody is talking about the financial regulatory system 
and the changes. In the heartland I am from, we hear and 
understand that Wall Street provides critical financial 
support. We also understand that the changes to the system are 
necessary on Wall Street, but if they alter significantly the 
way people do business back home, we want to make sure reform 
is done right.
    The derivatives, yes. Some of the derivatives really need 
to be regulated. But a lot of the small businesses back home 
are in commodities hedging where the contracts pose no systemic 
risk, and lumping these into risky derivatives trading, as far 
as I am concerned, makes no sense. These are not speculative 
contracts. They are contracts between parties who operate 
normally. And to be blunt, if that goes through, I am afraid 
that this will entail higher costs for energy production, for 
transportation, particularly for farmers.
    So I would like to ask you about that and appreciate the 
chance to raise that, Mr. Chairman.
    Senator Durbin. Thank you very much, Senator Bond.
    Let us let Mr. Gensler give his opening statement, and then 
we will pose some questions. Please proceed.

                 SUMMARY STATEMENT OF HON. GARY GENSLER

    Mr. Gensler. Thank you, Chairman Durbin, Ranking Member 
Collins, and Senator Bond. I thank you for inviting me here to 
testify on behalf of the Commodity Futures Trading Commission. 
I am also honored to be here with Chairman Schapiro. Mary and I 
work very closely on many things. I remember last year we were 
at the table together, and I appreciated that as well because 
she took more questions than me.
    But I guess this year I'm at the table alone.
    With the help of this subcommittee, the CFTC has risen to 
staffing levels of 600 people. This is roughly where we were in 
the 1990s, but it is with your help that we came back from 
about 440 people just 2\1/2\ or 3 years ago. We do believe, to 
fulfill our mission and protect the American public and promote 
transparency in markets, we need 745 people. We also need to 
get a bit more in our technology budget.
    The CFTC, as you know, ensures that futures exchanges and 
the clearinghouses that we oversee work to lower risk to the 
public and increase transparency. We also oversee all of the 
intermediaries or the dealers in these markets as well.
    Though our staffing level is only slightly higher than it 
was 10 years ago, futures trading volume--and I think I have a 
chart over here, if I might. The blue is the trading volume in 
this period of time in the 10 years since 1999. And as you can 
see, our staff actually shrunk and we are coming back.




    Now, one might look at this and say that is productivity, 
but just imagine a city with police officers that has grown 
five-fold. You would not really want to have the police force 
shrink because you cannot investigate cases. You cannot protect 
the public. It is the same thing really in an agency like ours. 
We are like that police force that shrank while the city grew 
five-fold.
    But with the help of this subcommittee, we have turned the 
corner. We have come back to, as I said, where we were in the 
1900s. And this increased funding, if I can just tell you what 
we have been able to do with it, but why we think we need some 
more.
    First, we have been able to significantly increase our 
Enforcement Division. That Enforcement Division by the end of 
this year will be about 170 people. We think we need to get to 
200 people however.
    Second, we have embarked--we have just started--on a 
program to do automated surveillance. We have hundreds of 
thousands of trades that come in to us a day. We see all those 
trades. That is very good and the exchanges see them. But we 
want to automate the surveillance of those and bring 21st 
century computing power to the American public.
    Third, we have also implemented the authorities that you 
and others in Congress granted us under the farm bill in 2008. 
That was to bring enhanced regulation to the markets and put 
out rules. We have proposed rules on position limits. We have 
proposed rules on foreign exchange. We are planning to put out 
rules on collocation in the near future.
    But even with these recent increases, we need more. The 
market participants have technology now that we have to stay up 
with, and that is the thought.
    So starting in 2010, we started a multiyear project to 
automate our surveillance. It is going to take us several 
years, and we have included that in the numbers.
    Second, we do need staffing levels and resources to conduct 
annual reviews. When I got to the CFTC, I said are we like the 
bank examiners. Are we inside the banks every year? And I found 
out actually because we had shrunk, that we were not inside the 
exchanges and inside the clearinghouses every year just to do 
what is called a rule enforcement review. We think that we 
really need to be there every year and work with the exchanges, 
work with the clearinghouses to do that.
    Third, our enforcement staff. We really do feel we need to 
get up to 200. Our financial crisis exposed more fraudulent 
schemes that require extensive staff resources. Manipulation 
cases particularly can take up to 2 to 3 years, and what Doug 
is putting up for me is just our overall funding request. And 
then I think my time will be up.
    But our overall funding, which you helped us get to, is 
$169 million, on the left. And what we are asking for in 2011 
is $216 million, or 745 full-time equivalents (FTEs). Much of 
that is to keep current services. We have taken out some more 
space because of the growth. Of course, there will be a cost-
of-living increase and technology. But in addition to that, if 
Congress were to move forward, as I hope in the next few days 
that the Senate will--I was encouraged, Senator Collins, by 
what you said on that. But if the Senate takes up the full 
debate on derivatives reform, the SEC and CFTC will have a lot 
of additional responsibilities and authorities. The over-the-
counter derivatives marketplace is 8 to 10 times the size of 
the on-exchange derivatives market measured in notional amount. 
I do not want to frighten you. It is a smaller number of 
transactions.

                           PREPARED STATEMENT

    The President was good enough to include a $45 million 
request that will get us part-way there. We think in 2011, we 
will need somewhere on the order of 240 more people and $18 
million more in technology to get started on the derivatives 
oversight. And I know that Chair Schapiro will have some of 
those numbers as well, but the thought is for 2011, it may be a 
conditional appropriation or if the derivatives reform were to 
go through, maybe you would include it in the whole 
appropriations package.
    With that, I would be glad to take any questions.
    [The statement follows:]

                   Prepared Statement of Gary Gensler

    Good afternoon Chairman Durbin, Ranking Member Collins and members 
of the Subcommittee. I am pleased to testify on behalf of the Commodity 
Futures Trading Commission (CFTC), and I thank you for the opportunity 
to discuss issues related to the Commission's 2011 budget.
    In the fall of 2008, the financial system and the financial 
regulatory system failed. While more than 1 year has passed and the 
system appears to have stabilized, we cannot relent in our mission to 
vigorously implement our mandate to protect the public from fraud, 
manipulation and other abuses in the commodity markets. I would like to 
express my gratitude to Congress for the recent increases in 
appropriations that now permit the Commission to address longstanding 
regulatory and oversight weaknesses. The CFTC, however, requires 
additional resources to hire staff with new competencies and skill sets 
and to ensure our technological infrastructure and systems keep pace 
with the industry we regulate. These improvements are essential to 
promoting transparency and integrity in the marketplace. Only through 
strong, intelligent regulation can we fully protect the American people 
and keep our economy strong.

                         CFTC REGULATORY REGIME

    Before I discuss the President's budget request for the CFTC, I 
will take a moment to discuss the agency's oversight of the futures 
markets. Futures have traded since approximately the Civil War, when 
grain merchants came together and created the new marketplace. It took 
nearly 60 years and the Great Depression until President Franklin 
Roosevelt and the Congress regulated the futures markets.
    The CFTC ensures that futures and commodity options exchanges have 
procedures to protect market participants and ensure fair and orderly 
trading, free from fraud, manipulation and other abuses. Exchanges are 
where buyers and sellers meet and enter into a transaction. The CFTC 
also oversees clearinghouses, which enter the picture only after two 
counterparties enter into the transaction. Clearinghouses act as 
middlemen between the two parties and take on the risk that one 
counterparty to the trade may fail to meet its obligations under the 
contract for the duration of the contract. Centralized clearing has 
helped lower risk to the markets for decades in both calm markets and 
in the stormiest of markets, such as during the 2008 financial crisis.
    The CFTC has wide-ranging transparency efforts designed to provide 
as much information about commodity futures markets and trading to the 
American public as possible under current law. The agency also has 
broad surveillance powers to police the markets for fraud, manipulation 
and other abuses.

                               THE BUDGET

    The President's budget proposes that $216 million be appropriated 
for the Commission for fiscal year 2011 to remain available until 
expended through fiscal year 2012.



    This amount would be for the agency to perform its duties under 
current statutory direction. In addition, the budget proposes that $45 
million be appropriated to be available through fiscal year 2012 
contingent upon the enactment of authorizing legislation of new or 
enhanced financial regulation activities of the Commission.
    Ten years ago, the CFTC was near its peak staffing level at 567 
employees, but shrunk by 20 percent over the subsequent eight years 
before hitting a historic low of 437. Thanks to increased funding from 
Congress, the CFTC now has almost 600 staff on board, which is a net 
increase of 100 staff over were we stood a year ago.



    All Commission programs: technology, market and intermediary 
oversight, enforcement, economic, legal and risk analysis have 
benefited from increased staff resources. Still, merely raising our 
staffing levels to the same as a decade ago will not be enough to 
adequately fulfill the agency's statutory mandate. In the last 10 
years, futures trading volume increased almost five-fold.



    The number of actively traded futures and options contracts 
increased seven-fold, and many of these have become considerably more 
complex in nature.



    We also moved from an environment with open-outcry pit trading to 
highly sophisticated electronic markets. What was once a group of 
regional domestic markets is now a global marketplace. What was once 
just a $500 billion business has grown to a $33 trillion industry. In 
short, the Commission requires funds to hire and retain highly trained 
professionals and equip them with information technologies that are as 
sophisticated as the expanding markets they we oversee.
    Despite rapid advances in technology and the increased size and 
number of regulated futures markets, funding for the CFTC has lagged 
behind the growth of the markets.



    While market participants have the technology to automate their 
trading, we do not yet have the resources to employ modern technology 
to automate our surveillance. Further, the CFTC still does not have the 
staffing levels or the resources to conduct regular examinations of 
market intermediaries, exchanges and clearinghouses. Until additional 
staff resources are acquired we can conduct those examinations only 
periodically and have no choice but to leave routine examinations of 
intermediaries to self-regulatory organizations. The CFTC needs 
additional staff, with new expertise to conduct yearly examinations of 
the registrants we regulate.
    For these reasons, it is appropriate for our staffing levels and 
our technology to be bolstered to meet the new financial realities of 
the day. As such, the CFTC's Budget and Performance Estimate for fiscal 
year 2011, for existing statutory authorities, would increase the 
agency's funding by $47.2 million to $216 million and would augment 
agency staff by 95 FTE to a total of 745 FTE.
    The requested funding increase to cover current statutory 
authorities includes resources to accomplish the following goals:
    Updating the Commission's Surveillance and Technology Programs.--
The Commission requires additional resources to replace legacy 
surveillance technology with 21st Century computers and software. 
Significant changes in the markets demand new systems capable of 
efficiently receiving and managing massive amounts of raw data and 
converting it to useful information for analysis by skilled market 
experts, economists and technologists. For example, existing Commission 
surveillance systems annually process more than one billion 
transactions to capture mission-critical data. Recent Commission 
initiatives to promote transparency of market data reveal the need for 
a substantial investment in systems development.
    The timely reporting of quality and meaningful market information 
is not possible with current legacy systems. Integration of two legacy 
systems, one with position data and one with trade data, is vital to 
building necessary functionality to capture more detailed data by 
trader, account ownership, inter-day transactions and intra-day 
transactions across all markets.
    Upgraded systems and analytical tools, such as market compliance 
detection and alert software, together with new staff competencies and 
skill sets, will increase the staff's efficiency and ability to monitor 
the markets and provide better information about futures and options 
trading to the American public. Market transparency is crucial to 
public trust and confidence in the price discovery and risk management 
functions of the futures and option markets. In addition, increased 
transparency, sophisticated use of automation and a heightened level of 
oversight will foster market compliance and integrity and enable the 
CFTC to keep pace with a rapidly evolving industry.
    Strengthening the Commission's Enforcement Program.--The CFTC 
should be adequately resourced to vigorously investigate and litigate 
complex market manipulation and trade-practice violations. Properly 
functioning markets must be free from fraud, manipulation and other 
abuses to ensure their integrity in setting prices and offsetting risk. 
A robust Enforcement program will foster regulatory compliance in the 
marketplace, protecting the American public and the marketplace. 
Adequate legal staff is necessary to act swiftly to investigate and 
prosecute fraudulent acts, such as the rash of Ponzi schemes uncovered 
during the recent market downturn.
    Rigorously Exercising Existing Authorities to Ensure Market 
Integrity.--Additional economic and legal staff will enable the CFTC to 
conduct mandatory annual reviews of all contracts listed on exempt 
commercial markets (ECMs) to determine if they are significant price 
discovery contracts (SPDCs). Such contracts must be reviewed to 
determine whether the ECM should be subject to statutory Core 
Principles and Commission's regulations. These and other new and 
increasingly diverse products add to the scope and complexity of 
products staff must review and monitor to ensure the integrity of the 
marketplace.
    Initiating Major Reviews of Existing Programs.--The Commission 
seeks additional resources to initiate major programmatic reviews of 
existing programs; expand development of the Commission's continuity of 
operations program (COOP); increase public and consumer education and 
outreach; implement the strategic plan; improve performance metrics; 
and enhance the Commission's equal employment opportunity program. The 
Commission is committed to creating a diverse pool of qualified 
candidates.
    Continuing Current Service Level.--The CFTC requires additional 
resources to provide a continuation of the fiscal year 2010 current 
service level into fiscal year 2011. This includes annual merit based 
compensation adjustments for staff, lease of office space, utilities 
and communications, printing, supplies, capital equipment and fixed 
equipment.
    Specifically, the funding will be allocated to increase staffing 
levels in the following divisions:
    Division of Enforcement.--The Commission's Enforcement program is 
on track to reach a staff level of more than 170 by the end of this 
fiscal year. This is a significant program turnaround from an all-time 
low of 109 in fiscal year 2008. Nevertheless, a staff of 170 may be 
below what is needed to address the current challenges brought by the 
recent financial crisis. Our goal for fiscal year 2011 is to have an 
Enforcement staff of 200, including strategic plans to double the 
Enforcement staff in the Kansas City office. In addition, the 
Commission intends to augment the enforcement staff with improved 
litigation and forensics support technologies, such as the e-Law 
system. Use of the e-Law system improved productivity and has permitted 
the Commission to pursue resource-intensive investigations and 
litigation involving manipulation. It also has improved our ability to 
implement our new Farm Bill authorities in the over-the-counter forex 
futures market.
    Division of Market Oversight.--The rapid changes occurring in the 
futures markets over the last decade have brought new challenges to the 
Commission's Division of Market Oversight (DMO). DMO now needs 
additional experienced professional staff to actively monitor exchanges 
to ensure compliance with CFTC regulations; keep a close eye for signs 
of manipulation or congestion in the marketplace and decide how to best 
address market threats; and ensure that traders do not exceed Federal 
position limits. Thus, the Commission seeks to increase DMO's staff 
from 139 in fiscal year 2010 to 168 in fiscal year 2011.
    Specifically, DMO requires additional highly skilled economists, 
investigators, attorneys and statisticians so that: (1) position data 
may be analyzed quickly and thoroughly; (2) exchange applications and 
rule changes may be reviewed efficiently and comprehensively to ensure 
compliance with Core Principles and CFTC rules and policies; (3) 
exchange self-regulatory programs may be examined on an on-going annual 
basis with regard to trade practice oversight, market surveillance and 
compliance with disciplinary, audit trail and record-keeping 
regulations; (4) comments related to a proposed energy position limits 
rulemaking, proposed significant price discovery contract 
determinations and other proposed rulemakings and industry filings can 
be comprehensively reviewed and summarized; and (5) proposed 
rulemakings and determinations can be effectively implemented should 
the Commission approve them.
    Division of Clearing and Intermediary Oversight.--Additional 
resources would allow the Commission to perform regular and direct 
examinations of registrants and more frequently assess compliance with 
Commission regulations.
    In the case of intermediaries, the Commission requires additional 
resources to directly assess compliance instead of relying on 
designated self-regulatory organizations (DSROs). The frequency of the 
reviews will increase to once a year from approximately once every 3 
years. New staff will permit the review annually of all derivatives 
clearing organizations (DCOs) and the audit and financial surveillance 
programs of each DSRO ensuring ongoing rather than intermittent 
oversight. The Commission seeks to increase the Division of Clearing 
and Intermediary Oversight staff from 113 in fiscal year 2010 to 120 in 
fiscal year 2011.
    Offices of the Chairman and the Commissioners.--The Offices of the 
Chairman and the Commissioners require professional, legal and economic 
expertise as they undertake a number of high priority programmatic 
initiatives, including: (1) subject to enactment of new authorities, 
regulation of derivatives markets and regulatory changes to protect the 
American public from systemic financial risks; (2) regulatory 
coordination with other agencies such as the Securities and Exchange 
Commission (SEC) and Federal Energy Regulatory Commission (FERC); (3) 
promoting market transparency; (4) promoting transparency on the 
Commission's website; (5) regulation of energy markets--especially with 
regard to position limits and the Commission's review of significant 
price discovery contracts; (6) increasing frequency of reviews and 
audits of Commission registrants; and (7) technology modernization, 
resource justification and program performance. The Commission proposes 
to bolster these offices from 35 staff in fiscal year 2010 to 47 staff 
in fiscal year 2011.
    Office of the Chief Economist.--The CFTC's Office of the Chief 
Economist (OCE) conducts research on major economic issues related to 
the futures and options markets; participates in the development of 
Commission rulemakings; provides expert economic support and advice to 
other CFTC offices; conducts special studies and evaluations; and 
participates in the in-house training of staff on matters related to 
futures, options, swaps and risk management. OCE requires additional 
economists to review and analyze new market structures and off-exchange 
derivative instruments. OCE also needs additional resources to review 
and analyze risk management models supportive of the Commission's 
enforcement and surveillance programs. The Commission proposes to 
increase OCE staff from 13 in fiscal year 2010 to 17 in fiscal year 
2011.
    Enterprise Risk Management Office.--The budget proposes a new 
Enterprise Risk Management subprogram, consisting of three staff, to 
focus on proactively developing and employing methods and processes to 
manage risks that may be obstacles to the discharge of the Commission's 
responsibilities. The staff will identify plausible risks posed by 
current and future events or circumstances that may affect the 
Commission's ability to respond effectively. Risks will be assessed in 
terms of the likelihood and magnitude of impact. The program will 
determine an appropriate response strategy and monitor outcomes.
    Office of the Executive Director.--The budget requests additional 
staff within the Office of the Executive Director to establish a 
Commission strategic and operational planning and evaluation function, 
the first such permanent resource. The additional two staff members 
will assist the Commission's programs in establishing metrics to track, 
monitor and evaluate program results, outcomes and goal achievement to 
ensure the effective and efficient allocation of resources. Adequate 
staff in the office is needed to ensure a sufficient level of human 
capital expertise focusing on employee development, recruitment and 
outreach, leadership, management training and employee relations. The 
Commission is mindful of the need to effectively manage staff resources 
to develop and sustain a professional workforce capable of keeping pace 
with our growing regulatory responsibilities.
    Office of International Affairs.--The budget requests an additional 
staff member in the Office of International Affairs, which coordinates 
the Commission's non-enforcement related international activities, 
represents the Commission in international organizations such as the 
International Organization of Securities Commissions (IOSCO), 
coordinates Commission policy as it relates to U.S. Treasury global 
initiatives and provides technical assistance to foreign market 
authorities. The financial crisis has heightened the need for 
international cooperation among regulators, and an additional staff 
member is required to meet the mission critical responsibilities of the 
office.
    Office of Proceedings.--The Office of Proceedings is responsible 
for providing an inexpensive, impartial and expeditious forum for 
handling customer complaints against persons or firms registered under 
the Commodity Exchange Act. The Commission requires one additional 
staff to ensure expeditious processing of complaints.

                           REGULATORY REFORM

    In addition to implementing the authorities established in the 
Commodity Exchange Act, the CFTC also is working with Congress to bring 
comprehensive regulation to the over-the-counter derivatives 
marketplace. The Commission's budget request includes an additional 
$45,000,000 and 119 full-time equivalent employees for fiscal year 2011 
to begin implementation of the Administration's comprehensive proposal 
for financial regulatory reform. As proposed, the request is contingent 
on Congressional enactment of legislation giving the Commission new 
authorities. The Commission's fiscal year 2012 total (current and 
proposed new authorities related to financial regulatory reform) staff 
requirement is estimated to be approximately 1,000 FTE. The requested 
funds will permit Commission implementation of new responsibilities 
under consideration by Congress, such as:
  --Requiring swap dealers and major swap participants to register and 
        come under comprehensive regulation, including capital 
        standards, margin requirements, business conduct standards and 
        recordkeeping and reporting requirements;
  --Requiring dealers and major swap participants to use transparent 
        trading venues for their standardized swaps;
  --Ensuring that dealers and major swap participants bring their 
        clearable swaps into central clearinghouses; and
  --Providing the CFTC with authority to impose aggregate position 
        limits including in the OTC derivatives markets.
    Specifically, the Commission's fiscal year 2011 budget request for 
regulatory reform would be allocated as follows: 41 additional staff 
for Market Oversight; 30 additional staff for Clearing and Intermediary 
Oversight and Risk Surveillance; 18 additional staff for Enforcement; 
15 additional staff for Information Technology; eight additional staff 
for General Counsel; five additional staff for Human Resources and 
Management Operations; one additional staff for the Chief Economist; 
and one additional staff for International Affairs.

                                CLOSING

    The staff of the CFTC is a talented and dedicated group of public 
servants. The financial crisis and the significant increase in trade 
volume, market complexity and globalization require that additional 
resources be committed to the protection of American taxpayers. For all 
of these reasons, it is necessary and appropriate that Commission 
staffing levels and technology be bolstered to address the new 
financial realities of the day.
    In short, despite the recent increase in funding, the Commission 
remains an underfunded agency. With additional resources, we will be 
more able to police the market, promote market integrity and protect 
the public from fraud, manipulation and other abuses.
    I thank you for inviting me to testify today. I will be happy to 
answer any questions you may have.

------------------------------------------------------------------------
         Past 2004-2008            Present 2009-2010        Future
------------------------------------------------------------------------
 AUTOMATING MARKET SURVEILLANCE

Critical IT systems for the       Development of new  Robust, linked and
 surveillance of positions and     staff skill sets    fully integrated
 trading practices were not        with access data    IT surveillance
 robust. They have not been        query, analysis,    systems that
 upgraded to reflect the vast      algorithmic         produce the
 increase in volume and            models and          surveillance
 complexity of the markets.        reporting tools     reports needed to
                                   that alert staff    meet the
                                   to the conditions   analytical needs
                                   for potential       of our
                                   abusive trading     professional
                                   or misconduct.      staff and the
                                                       transparency
                                                       needs of the
                                                       public.

  IMPROVING MARKET TRANSPARENCY

Lack of market transparency       New staff with new  Collect and report
 stemming from lack of reliable    skill sets have     data from swaps
 data about the size or effect     improved data       dealers and index
 of influential investor groups    collection and      investors.
 and potential harm posed by a     reporting on the    Release data on
 commodity asset bubble.           size of positions   commodity index
                                   held by large       investment on a
                                   traders.            monthly basis
                                  New public reports   rather than
                                   include:            quarterly.
                                     Disaggregated
                                      Commitment of
                                      Trader Reports.
                                     Supplemental
                                      Report on
                                      Commodity
                                      Index Traders.
                                     Swap Dealer
                                      Reports.

           ENFORCEMENT

The Commission's enforcement      Appropriations      Future initiatives
 program reached an all-time low   increases have      include:
 of 109 as recently as in fiscal   permitted the         Pursuing all
 year 2008. The financial crisis   Commission to          potential
 revealed fraudulent schemes       enhance                fraud cases
 that could only stay afloat       Enforcement            reported to
 during periods of rising asset    staffing and           the
 values. The downturn exposed      resources              Commission;
 more leads than the Commission    committed.            Keeping pace
 can thoroughly and effectively      Staffing             with the
 investigate. This is true both       increased by        proliferation
 as it relates to fraud and           more than 50        in trading and
 Ponzi schemes as well as staff-      percent in 2        the emergence
 intensive manipulation               years.              of new
 investigations.                     Leads and            electronic
                                      investigations      trading
                                      increased by        facilities.
                                      more than 100       Effective
                                      percent over 2      enforcement
                                      years.              requires
                                     New                  looking beyond
                                      investigations      the exchanges
                                      will exceed         to multi-level
                                      250, which is       platforms and
                                      the highest         bilateral
                                      level in 10         trading, which
                                      years.              is very
                                     The Enforcement      resource
                                      division filed      intensive;
                                      31 civil           Enhancing the
                                      actions             Commission's
                                      involving           ability to
                                      Ponzi type          respond
                                      schemes in          efficiently to
                                      fiscal year         major market
                                      2009, which         movement or
                                      was more than       major collapse
                                      twice the           of an entity
                                      amount in           without
                                      fiscal year         adversely
                                      2008.               affecting
                                     New tools and        other on-going
                                      competencies        investigations
                                      are being           and
                                      developed to        litigation;
                                      address and         and
                                      identify           Rebuilding
                                      trends,             bench strength
                                      analyze data        and succession
                                      and explore         planning.
                                      resources
                                      previously
                                      unavailable to
                                      the Commission.

    INCREASED AUDIT OVERSIGHT

The Commission does not conduct:  The Commission      Future initiatives
 annual compliance audits of       currently           include:
 every designated contract         assesses or           annual reviews
 market (DCM). Audits occur        conducts:              of DCOs, which
 every 3 years, on average;        financial              is critical as
 annual compliance audits of       surveillance           the volume of
 every derivatives clearing        programs of SROs;      positions
 organization (DCO). Periodic      certain                cleared by
 reviews on selected core          regulatory             DCOs and the
 principles occur every 3 years;   functions              complexity of
 or routine examinations of        performed by the       positions
 CPOs, CTAs, & FCMs, which are     NFA; other self-       grow;
 currently performed by self       regulatory            annual
 regulatory organizations.         organizations          compliance
                                   such as DCM SRO        reviews of
                                   functions; and         DCMs;
                                   examinations of       examination of
                                   FCMs for               the books and
                                   compliance with        records of
                                   the CEA and            additional
                                   Commission             FCMs on a
                                   regulations.           ``for-cause''
                                                          basis and
                                                          expand the
                                                          reviews of
                                                          certain
                                                          compliance
                                                          areas, such as
                                                          sales
                                                          practices and
                                                          foreign
                                                          currency
                                                          trading; and
                                                         additional
                                                          examinations
                                                          of CPOs and
                                                          other
                                                          registrants to
                                                          ensure a
                                                          better
                                                          understanding
                                                          of firms'
                                                          operations,
                                                          trading
                                                          strategies,
                                                          back office
                                                          procedures and
                                                          other factors
                                                          integral to
                                                          firms'
                                                          compliance.
------------------------------------------------------------------------

                                                          
                                                          
                               TECHNOLOGY

    Senator Durbin. Thanks a lot, Mr. Chairman. And there are 
so many questions to ask, and I know we will not likely have 
time to ask all of them today.
    But I do want to reiterate what was said by Senator 
Collins. There are substantially greater investments in the 
resources that your agency and the SEC have to work with. I 
think it calls for substantially more oversight from our side 
of the table because there is a certain level of absorption 
which you can add to your staff in a professional manner and 
increase the workload. And then I have found, in the time that 
I have been around Congress, there reaches a tipping point 
where perhaps they cannot be absorbed effectively. There should 
be a committee of Congress watching this, following this, 
making certain that we are moving toward the same goal and that 
you are achieving that goal.
    Let me ask you in a specific way about technology. My 
impression, having worked with Senator Collins on this issue 
since 9/11 when we were both on the Homeland Security 
Committee, is that the Federal Government is like the last to 
pick up on new technology. We create rules and obstacles for 
purchasing and acquisition and all sorts of security questions, 
and we fall far behind the private sector. Do you feel that 
your technology improvements parallel or are consistent with 
the technology available in the private sector for similar 
functions?
    Mr. Gensler. Well, first, let me say I welcome the 
oversight of this subcommittee and our authorizing committee as 
well and working with Marianne and Dale and all the staffs that 
are with you.
    In terms of technology, we have had, with your help, an 
ability to get the data resources. We can actually take in all 
the transactions on the next day. We can take in all the 
positions at the end of the day. That is very helpful. We also 
rely on the exchanges because they have a lot of the technology 
as well.
    But what we are trying to build is 21st century software to 
actually do automated surveillance--consider it sort of flags 
and alerts so that our staff can then see whether it is a wash 
sale, whether it is a position limit concern, and then go back 
to the exchanges, work to see if there is a violation, work 
with the Division of Enforcement if something has to be 
followed up on. With hundreds of thousands of trades a day, we 
need to do that.
    I think, Senator, we are probably not there yet. I mean, 
think of algorithmic trading experts--we need to get some of 
that expertise into Government.
    Senator Durbin. What I am asking you, is there any built-in 
obstacles to your acquiring the technology that you believe is 
available and that you need?
    Mr. Gensler. The good news is we have the legal abilities. 
We do it through procurement laws and so forth, but we do have 
the legal ability to acquire it. It is usually just resources. 
In the past, we actually did not even have the hardware to 
store all the data. We have taken care of the storage side, but 
now we have to build some of that software.
    Senator Durbin. Is the answer no? I am asking if there are 
obstacles to your----
    Mr. Gensler. I am not aware of obstacles other than dollars 
and then the human time to actually do this.

                              TRANSPARENCY

    Senator Durbin. One other aspect of this is how much of 
this is being made available to the public to review your work 
and the activities that are not proprietary, obviously, of the 
exchanges which you monitor.
    Mr. Gensler. Well, there is a great deal of information 
that we make available in the aggregate data, and then Senator 
Bond asked about derivatives reform. If derivatives reform were 
to move forward, there would be a lot of information about that 
market as well on real-time reporting. I think that answers 
your question.
    Senator Durbin. I am just wondering if there is more and 
more of this information that is being made available to the 
public.
    Mr. Gensler. Well, we have had success in the last year. We 
have actually made more information available about index 
investments in the market. For years, we have put out reports 
on every Friday about the markets, and we have broken that down 
between commercial and noncommercial traders. Now people can 
see what swap dealers and money managers or hedge funds are 
doing in the market in aggregate. Again, we do not break out 
the individuals.
    Senator Durbin. I see.
    I am going to yield now to Senator Collins.
    Senator Collins. Thank you, Mr. Chairman.

                         ENERGY POSITION LIMITS

    Chairman Gensler, as you know, I have had a great interest 
in seeing the Commission establish position limits to apply to 
the energy markets. Senator Lieberman and I held hearings 
looking at the price spikes in the energy markets a couple of 
years ago, and position limits can potentially help prevent 
those kinds of abrupt price movements or market disruptions. 
Could you update us on what is being done by the Commission to 
establish position limits for energy markets?
    Mr. Gensler. I thank you, Senator, for your leadership on 
this issue.
    We published proposed rules in January and asked for public 
comment--that comment period actually closed yesterday--to 
reestablish position limits. There were position limits in the 
energy markets with the exchanges through 2001. So we were 
looking to possibly reestablish them. We have over 8,000 
comments. So what we will do as an agency is review those--the 
staff is just embarking on that--and then bring those 
recommendations and review up to the five Commissioners and we 
will see how best to proceed based on those recommendations.

                OVER THE COUNTER DERIVATIVES LEGISLATION

    Senator Collins. The second issue that I want to talk to 
you about in this first round has to do with the regulation of 
derivatives. This is such a complex and important issue. We 
clearly need more transparency. One of the debates, however, is 
the extent to which end-user manufacturers or grocery stores, 
like Hannaford's in my State, should face increased costs for 
investing in commodities essential to their products. And they 
will face increased costs if, in fact, they have to go through 
the clearinghouses.
    Help us understand the debate on derivatives and whether 
there should be exemptions for end-users, whether you see the 
Agricultural Committee's bill providing exemptions. There is a 
dispute over whether or not they do. Educate us a bit on this 
issue.
    Mr. Gensler. Well, I thank you.
    One of the key ways to lower risk in the derivatives 
marketplace is something called a clearinghouse. They have 
existed since the 1890s. They have been well regulated since 
the 1930s by us for exchange traded derivatives, and then there 
are other clearinghouses by the SEC. And they stand as 
middlemen or middlewomen, if I could say, between two parties. 
So if one of the parties fails, then they stand behind the 
contract. So that fundamentally lowers risk, and those 
clearinghouses have been very strong.
    They, by the way, have not had access to the discount 
window. I think we probably should keep it that way. We should 
not expand the safety net to them. But they stand between the 
two parties.
    So what we are recommending and what the bills do say is 
there would be clearing on those products that are standard 
enough to be brought into a clearinghouse. Some people think 
that may be three-quarters of the market.
    But the Senate Agriculture bill, as merged into the Senate 
Banking bill, will have an exemption. The exemption would be 
for nonfinancial entities, if I might call them commercial 
entities, hedgers. It could be Hannaford Brothers in your State 
or it could be some of the commercial entities that Senator 
Bond referred to. They, if they are hedging whether it is for 
corn or wheat or it is an interest rate or a currency they are 
hedging, if they are not a financial entity--now, on the other 
hand, if it is an insurance company or a bank or a hedge fund, 
they would have to use the clearinghouse for their standard 
product. Their customized things they could still do.
    Senator Collins. Thank you, Mr. Chairman.
    Senator Durbin. Senator Bond.

                               END USERS

    Senator Bond. Thank you very much, Mr. Chairman.
    Mr. Gensler, I am delighted you said they would not require 
an end-user to clear hedging.
    If a community bank had a large portfolio of loans and 
wanted to offset part of that risk by going short or buying 
some form of put, who would be the appropriate person to 
regulate that? Would it be the bank regulator? Would it be the 
CFTC?
    Mr. Gensler. The bank regulator would regulate those banks.
    Senator Bond. The CFTC would not be involved in it.
    Mr. Gensler. They would not regulate the bank. We would 
regulate the exchanges. If it was so standard that it was 
bought or sold on an exchange, we would regulate the exchange 
as we do now. That community bank might buy a future right now 
in the Chicago Mercantile Exchanges to hedge an interest rate. 
We do not regulate the bank. We regulate just the exchanges in 
that example or the clearinghouse, of course.
    Senator Bond. So they would not have to pay a separate fee 
if they were doing that. They would pay the fees that are 
already built in through the existing exchanges?
    Mr. Gensler. Well, I believe that is correct. That 
community bank could do a customized, tailored transaction. It 
might not even come to a clearinghouse. But if it is so 
standard that the clearinghouse is there, they would bring it 
there.
    Senator Bond. Now, do I understand that you and the 
Secretary of the Treasury should say that where there are 
customized transactions, two parties that have worked together 
have adopted a customized derivative or hedging operation where 
it cannot be cleared--do you agree that there is no reason for 
two parties who have developed a complex contract be cleared or 
have margin?
    Mr. Gensler. Well, one, if it is customized, it would not 
be brought to a clearinghouse, and that is the recommendation. 
We are recommending that the swap dealers themselves, the 
dealers, the large banks be regulated, and that the banking 
regulators be able to lower risks to the American public by 
setting capital and margin requirements for those big financial 
houses that are the swap dealers themselves. But the customized 
transactions could occur and not be brought to the 
clearinghouses.

                                 MARGIN

    Senator Bond. Would they have to post margins on that?
    Mr. Gensler. What we have recommended is that the banking 
regulators, what is called prudential regulators, would have 
the authority to ask for those large swap dealers to either 
post or receive margin.
    Margin also protects the other parties. What we need in our 
society, I believe, is that the large swap dealers should be 
able to fail. The terrible place that our Secretaries of the 
Treasury have been, Republicans and Democrats alike--they sit 
in the office, an ornate office. They get all the phone calls, 
and they say, can I let this company fail? And one of the 
problems is they are saying, well, if I let it fail, it is 
going to bring down the community banking system or it is going 
to bring down the farm credit system. So part is to have them 
post margin as well.
    Senator Bond. But requiring margins, if a small bank hedges 
its risk, would it have to put up a margin or would that be up 
to the prudential regulator to determine whether it was 
appropriate to make that transaction?
    Mr. Gensler. If it is a custom-tailored product as you say, 
it would really be up to the banking regulators to say whether 
the big swap dealer--it is the regulator regulating the swap 
dealer would have that authority if the bill were to go through 
Congress.

                             SWAPS DEALERS

    Senator Bond. If you are a major energy producer that has 
lots of contracts with a lot of--say, it is a coal or a natural 
gas company that has lots of contracts with lots of energy 
companies. Would these be major swap dealers who would be under 
the new regulations?
    Mr. Gensler. Senator, I think that the important thing is 
if they present themselves to the public dealing in swaps, they 
would be regulated.
    Senator Bond. Not to the public but present themselves to 
their customers.
    Mr. Gensler. Well, what we want to guard against is the 
next AIG. We would not want to have an exemption or a loophole 
that the regulation is only regulating some swap dealers and 
not other swap dealers. Most energy companies are not swap 
dealers. Most energy companies are just hedging their own 
business.
    Senator Bond. That was the question, whether by doing that, 
that would fall in a major swap dealer category.
    Mr. Gensler. I do not think most of them will. Some are 
swap dealers. Some do that. They actually have registered 
trading entities and so forth.
    Senator Bond. Thank you, Mr. Chairman. Thank you, Mr. 
Gensler.

                            OTC MARKET SIZE

    Senator Durbin. Chairman Gensler, this whole conversation 
we are having about the future of derivatives, what will be 
regulated, what will not be regulated, what is standard, what 
will be custom--do you have any projection if we move into this 
new world of the volume that we would be talking about? You 
talked earlier about the number of contracts versus the size of 
the contracts. Could you give us some estimation of what we are 
looking at?
    Mr. Gensler. Mr. Chairman, I wish I had. This is such a 
dark market. It is hard to estimate. But the size of the market 
worldwide is about $600 trillion, which is about 12 times the 
world economy. It is estimated about one-half of that is in the 
United States, which is about 20 times our economy. We 
Americans use them more than overseas.
    But in terms of the numbers of transactions, we do not have 
an actual estimate. It is probably not a multiple. The market 
we oversee now is--I think the numbers were about $34 trillion 
in futures. So you can see that is the 9 to 1 or something. But 
the numbers of transactions probably are less. The futures 
transactions are in the hundreds of thousands of trades a day. 
This new market is smaller than that in terms of numbers of 
trades a day, but we do not have an exact number. I wish I did.
    Senator Durbin. So if we embark on this brave new world, do 
you see a demand for more staffing and more activity at your 
agency?

                      ADDITIONAL RESOURCES NEEDED

    Mr. Gensler. I do. I mean, our best estimate--the 
Congressional Budget Office (CBO) asked us for 2011, and we 
forwarded these 238 people. What the President's budget did is 
said let us fund one-half of those people, or 119, in 2011 
because we would be sort of growing during the course of the 
year. And I know the Securities and Exchange Commission has 
their numbers as well. We both do envision that this is a 
really important market to the American public, but it means 
little if Congress just authorizes it and we do not marry it 
with the appropriations.
    Senator Durbin. You talked about audits. What funding level 
would allow the CFTC to perform annual reviews of every DSRO 
and derivatives clearing organization, as well as annual 
examinations of commodity pool operators, trading advisors, and 
the futures commission merchants.
    Mr. Gensler. We believe, in the funding we have asked for 
this $216 million, that we can do much of what you just said, 
the annual reviews of the clearing organizations, the trading 
organizations, and so forth. I may have not even listened 
closely. Some of those reviews that you mentioned are actually 
done by the self-regulatory organizations, but the ones we do 
we think that is the level.

                            STAFF EXPERTISE

    Senator Durbin. So my last question is kind of historic. 
When I first visited the Board of Trade and Mercantile Exchange 
over 25 years ago, they were still clinging to their early 
image as protectors of the agriculture sector in terms of the 
trading that was going on on the floor, and they were just 
starting to branch out into new worlds of futures.
    And now I see, when I take a look at the activities that 
you are watching closely, that the financial commodity futures 
and option contracts make up approximately 79 percent of the 
trades that you regulate and other contracts like metals and 
energy products, about 13 percent. Only 8 percent can really be 
characterized as agricultural in nature.
    What kind of challenges does this present to your agency to 
have this kind of mix which is moving toward much different 
objects that are at the soul and heart of the futures trading 
markets?
    Mr. Gensler. Well, I think you are right. It is actually a 
development that has happened over those 25 years. I think 
there is a uniformity and consistency of derivatives. They are 
all based upon some underlying commodity. We call a Euro dollar 
actually a commodity in the law.
    But what we have to do as an agency is we have experts who 
have expertise in corn and wheat. We have some other experts in 
our Division of Market Oversight that have expertise in the 
financial products. So as these products continue, we try to 
build separate expertises that have a uniform expertise around 
derivatives but then have some product expertise. This is a 
little bit different. We have problems in the wheat market 
still about wheat convergence. That is very different than what 
goes on in the Euro dollar market, but we build the expertise 
across the product sets, as we will have to in the future as we 
take on more responsibilities possibly in what is now called 
the swaps market.
    Senator Durbin. Let me ask you about that. Are those going 
to be so unique by contract that they are going to put a 
special burden on your regulators to try to understand the real 
heart and nature of the transaction?
    Mr. Gensler. Well, I think humility suggests that there is 
going to be a lot we are going to learn along the way because 
we have not as a Nation regulated these products in the past. 
We do not have the authority. But I do think, for instance, 
interest rate derivatives where the CFTC will take the lead--we 
will share a lot with the SEC--that that has a lot of 
similarities to what we do overseeing the Euro dollar contracts 
for now. Of course, the commodity derivatives have a lot of 
similarities, but there will be things that we are going to be 
learning along the way. We will be, hopefully, sharing that 
with you.
    Senator Durbin. Thank you.
    Senator Collins.
    Senator Collins. Thank you.

                     PROPOSED COUNCIL OF REGULATORS

    Chairman Gensler, I think you said in response to Chairman 
Durbin's question that the futures market was something like 
$34 trillion. That raises the question in my mind. Under 
Senator Dodd's bill, is the CFTC a member of the Systemic Risk 
Council of Regulators?
    Mr. Gensler. I believe the answer is yes.
    Senator Collins. Let me ask the next question. Should you 
be a member?
    Mr. Gensler. I think so. I think so. Thank you.
    Senator Collins. And if you are not a member of the 
council, I am going to offer an amendment to put the Commodity 
Futures Trading Commission Chairman on that council. I think it 
is really important that we try to be as inclusive----
    Mr. Gensler. The only reason I hesitated, I could not 
remember what it was called. I know there is a council. It may 
have different names in different bills.
    Senator Collins. It does.
    But they are in. Okay. The Chairman confirms it.

                       TOO INTERCONNECTED TO FAIL

    Let me ask you a question then. How do you plan to help 
monitor and mitigate the potential for systemic risk arising 
from the concentrations or interconnectedness of risks that are 
related to derivative products?
    Mr. Gensler. Well, derivatives do weave sort of a spider's 
web between the financial system, and one of the reasons that 
we have been fighting to lower risk for the American public is 
to bring the derivatives into clearinghouses. Clearinghouses, 
again, stand between buyers and sellers, and that is one of the 
ways that we lower interconnectedness. Our system today does 
not just have ``too big to fail.'' When Continental Illinois 
Bank--because I know it is in your State--that was thought 
years ago to be too big to fail in a sense, but now we have 
banks that are too interconnected to fail. If we let it go, it 
is going to pull down everything else. That was the central 
lesson of AIG. And tens of billions of dollars of our money, 
taxpayer--all of it went through AIG to other financial 
institutions.
    So I believe we really need to, hopefully, stand--there 
will be some stress and pressures. There will be amendments 
probably offered to have another exemption here, another 
exemption there. And I hope--I would advocate we not have those 
exemptions for financial entities. We have an exemption for the 
commercial entities, but hopefully, we do not for the financial 
entities.

                              TRANSPARENCY

    Senator Collins. Could you give us an example of the kind 
of transparency that would be helpful to you that would come 
about because of moving derivative trades to a clearinghouse? 
Let me ask this in a better way.
    What would you know that you do not know now if more of the 
trades go through a clearinghouse?
    Mr. Gensler. There are two types of transparency, one to 
the regulators and one to the public. Clearinghouses and 
something called trade repositories will give transparency to 
the regulators and we will know a lot. We will be able to--and 
I know the SEC will be able to--better enforce and police the 
markets for manipulation and fraud because so much can be now 
just transferred. We can currently look at wheat futures. We 
can look at Euro dollar futures. Somebody can just move the 
same trade over into an over-the-counter interest rate or a 
complex credit default swap. So as enforcement agencies, we get 
to follow it across to those other markets.
    But there is also public market transparency, and public 
market transparency only comes really from reporting the 
transactions on a real-time basis. And for that, every end-
user, Hannaford Brothers and others alike, will actually 
benefit because transparency leads to lower cost, lower bid 
spreads. It does shift the information advantage away from Wall 
Street. Wall Street is not happy with the proposals the 
administration has made, but public market transparency does 
that.
    It also lowers risk. Remember we were all debating about 
toxic assets. The more transparency we bring, it lowers risk as 
well to the public.
    Senator Collins. That is very helpful.

                           END USER EXEMPTION

    My final question to you is one that I raised with you in 
my office but I want to raise for the record as well, and that 
is, I have been hearing from some home heating oil companies in 
Maine that are worried that if they have to go through 
clearinghouses, that they will jeopardize their ability to 
enter into contracts with their customers that would be fixed 
price contracts for the upcoming winter. Do you see any 
problems created for them in this area?
    Mr. Gensler. I think you have heard from them because there 
have been a variety of bills, and even I as an advocate--I have 
advocated for no exceptions. But I think where Senator Lincoln 
and Senator Dodd and all the people that have worked on those 
two committee bills have come out, there would be an exception 
for commercial parties hedging as long as they were not 
financial. So the home heating oil companies would be exempted 
from having their transactions coming to a clearinghouse, as 
long as they were not speculating, which I do not think that is 
what they are doing.
    Senator Collins. No, they are not.
    Mr. Gensler. So I think the bill accommodates that 
interest.
    Commercial entities make up maybe, on worldwide statistics, 
about 9 or 10 percent of the market. We do not know precisely 
what it is in each and every market, but the exemption that is 
in the Senate Agriculture and the Senate Banking bill is a 
balancing of interests, and it has exempted that 9 or 10 
percent. But it is the commercial enterprises like the home 
heating oil companies in Maine.
    Senator Collins. Thank you.
    Senator Durbin. Senator Cochran.
    Senator Cochran. Mr. Chairman, thank you.

                  BUDGET IMPACT OF PENDING LEGISLATION

    Chairman Gensler, I am curious to know about the new 
authorities which you are suggesting the CFTC should have. What 
is the status of the legislative authority that you are talking 
about? Has that been enacted into law, or is it just a proposal 
at this point?
    Mr. Gensler. It is a proposal. And the reason it came up 
here is, in terms of if it went through, the funding levels 
would be different. But right now the House of Representatives 
has passed a strong bill, but then the Senate hopefully in the 
next few days, you would tell me better.
    Senator Cochran. I am not the chairman anymore. You forgot 
they had an election.
    Mr. Gensler. But I think that the Agricultural Committee 
and the Banking Committee have merged their product. They have 
a very strong derivatives portion that I believe is getting 
merged into the overall financial reform bill. I am hopeful, 
with Congress' deliberations, that we will get something to the 
President's desk.
    Senator Cochran. This has a budgetary impact, does it not? 
Because it is going to cost more to enforce the new 
authorities. I assume there will be new hires required.
    What are the other funds that you expect to be needed to be 
used for?
    Mr. Gensler. We have estimated to the Congressional Budget 
Office that in 2011 that we would need about 240 more people 
and about $18 million more in technology budget. There is an 
awful lot of information that will be stored and will have to 
be assessed and so forth. That is included in the President's 
budget request in sort of a conditional way if Congress were to 
adopt financial reform.
    Senator Cochran. Okay. Thank you very much.
    Mr. Gensler. Thank you.
    Senator Durbin. Chairman Gensler, thank you. There are 
plenty of other questions which we would like to share with you 
in writing and hope that you might be able to respond in a 
timely way. Other members of the subcommittee may have some 
questions. But we thank you for being here today and we will 
continue to work with your agency.
    Mr. Gensler. I thank the chairman and Senator Collins. 
Thank you.
    Now you get Chairman Schapiro. Do I stay or do I leave? All 
right. Good luck, Mary.
                   SECURITIES AND EXCHANGE COMMISSION

STATEMENT OF HON. MARY SCHAPIRO, CHAIRMAN
    Senator Durbin. We now will hear from the Securities and 
Exchange Commission Chairman, Mary Schapiro, and following her 
presentation, we will proceed with question rounds of 5 
minutes.
    Chairman Schapiro, thank you for joining us today. We 
welcome your staff as well. Please proceed.
    Ms. Schapiro. Thank you very much, Mr. Chairman.
    Chairman Durbin, Ranking Member Collins, Senator Cochran, 
thank you for the opportunity to describe how the President's 
fiscal year 2011 budget request would allow the SEC to better 
pursue our mission of protecting investors, regulating markets, 
and facilitating capital formation.
    When I joined the Commission only last year, we were just 
emerging from an extraordinary economic crisis. The markets 
were still trying to regain a firm footing and confidence in 
the institutions of Government generally--and the SEC 
specifically--was badly shaken.
    Thanks to the strong support that this subcommittee has 
provided, the SEC has begun to rebuild that confidence by 
making needed and significant changes to virtually every aspect 
of our operations. We brought in new leadership throughout the 
agency, streamlined procedures, and reformed operations. We 
began putting new technology in place, and we initiated one of 
the most significant investor-focused rulemaking agendas in 
decades. Our Enforcement Division undertook a top-to-bottom 
review, leading to a complete restructuring. Silos inhibiting 
internal communications were torn down. A layer of management 
was eliminated, freeing up professionals for front-line duty. 
And we created specialized units that will bring a deeper focus 
to critical areas such as market abuse and structured products.
    These efforts are already paying dividends. Thanks to the 
support of this subcommittee, among the highlights of my first 
year we sought more than twice as many temporary restraining 
orders and asset freezes in 2009 as in 2008. We issued well 
over twice as many formal orders of investigation. We won $540 
million more in disgorgement orders. Penalty orders more than 
doubled. And we filed nearly 10 percent more actions overall, 
including nearly twice as many involving Ponzi schemes.
    Our Office of Compliance, Inspections, and Examinations is 
undergoing a similar review which we expect to yield 
significant restructuring and improvements.
    And to get ahead of the next financial challenge we may 
face, we created a new Division of Risk, Strategy, and 
Financial Innovation and are staffing it with people who bring 
us new and different perspectives and expertise.
    We have made real progress, but restoring investor 
confidence and rebuilding the trustworthiness of financial 
institutions and markets will require a sustained regulatory 
commitment. Fiscal year 2011 will be a critical year in 
continuing our efforts to reinvigorate the Commission and its 
programs. The challenge we face grows every day. Since 2003, 
the number of registered investment advisors has increased by 
nearly 50 percent and their assets under management have grown 
by $12 trillion. Today we rely on fewer than 4,000 individuals 
to monitor more than 35,000 regulated entities. And yet, it was 
only this year that the SEC staff members returned to the level 
last seen in 2005, and in the intervening years tight budgets 
forced us to cut investments in new information technology by 
more than one-half. This subcommittee's support has allowed us 
to reverse those harmful trends, and I thank you deeply for 
that.
    And the President's fiscal year 2011 budget will allow us 
to continue on this new path. More staff will mean a deeper 
pool of institutional expertise, as we hire specialists with 
deep experience with today's markets and products. More staff 
will also mean more investigations and trials and a smaller gap 
between the number of examiners and the firms they examine and 
greater capacity to respond to emerging trends.
    The President's budget will also provide a much-needed $12 
million increase in information technology (IT). Our top IT 
priority is completion of a new system for reviewing 
complaints, tips, and investigative leads provided by 
whistleblowers or other sources. The initial phase is done, 
creation of a single searchable database for existing tips and 
complaints. To this we will add risk analytics that help us 
quickly and efficiently identify high-value tips and search for 
trends and patterns across the data.
    We are also enhancing collection, analysis, and 
distribution of the disclosure documents filed with the 
Commission. This will allow us to monitor macro trends, search 
for hidden risks, and track systemic changes.
    We also plan to complete improvements to the case and exam 
management tools available to our enforcement and examination 
programs. While we will never match the technology available to 
the financial institutions we regulate and the big law firms we 
face, the ability to search and use the vast mountains of data 
we collect will make our team much more competitive. New 
technology will be accompanied by comprehensive training, 
allowing staff to navigate the constantly evolving financial 
environment they monitor.
    And in the year ahead, we will also continue our pursuit of 
rulemaking that looks after the interests of investors and 
responds to changes in the American financial marketplace. Key 
goals include a thorough review, already underway, of the 
rapidly evolving equity market structure, helping shareholders 
more effectively exercise their rights, and giving investors 
better information to make sound decisions regarding 
investments in municipal and other securities.

                           PREPARED STATEMENT

    I am pleased with the progress we have made, but we 
recognize that much work remains to be done to continue to 
restore investor confidence in our markets. The funding level 
of the President's budget request is critical for us if we are 
to continue to improve our performance in an increasingly 
complex financial world.
    Thank you and I would be happy to answer your questions.
    [The statement follows:]

                  Prepared Statement of Mary Schapiro

    Chairman Durbin, Ranking Member Collins, Members of the 
Subcommittee: Thank you for the opportunity to testify today in support 
of the President's fiscal year 2011 budget request for the Securities 
and Exchange Commission.\1\ I am grateful for the support that you and 
this Subcommittee have provided to the Commission. I welcome this 
opportunity to answer your questions and provide you with additional 
information on how the SEC would make effective use of the $1.258 
billion that the President has requested for the coming fiscal year.
---------------------------------------------------------------------------
    \1\ The views expressed in this testimony are those of the Chairman 
of the Securities and Exchange Commission and do not necessarily 
represent the views of the President.
---------------------------------------------------------------------------
    When I joined the Commission early last year, we were just emerging 
from an economic crisis that threatened our financial system and the 
entire American economy. The markets were still trying to regain a firm 
footing, and confidence in the institutions of government generally--
and the SEC specifically--was badly shaken.
    Since then, we have taken significant steps to make the SEC more 
vigilant, sharp, and responsive--and focus the agency squarely on its 
mission to protect investors, maintain orderly markets, and facilitate 
capital formation. We brought in new leaders across the agency. We 
streamlined our procedures. We worked to reform the ways we operate. We 
began modernizing our systems. We set out to regulate more effectively. 
We fully engaged in the debate on regulatory reform, and we initiated 
one of the most significant investor-focused rulemaking agendas in 
decades.
    While we made real progress over the past year, restoring investor 
confidence and rebuilding the trustworthiness of financial institutions 
and markets will require a sustained regulatory commitment. Fiscal year 
2011 will be a critical year in our continuing efforts to reinvigorate 
the Commission and its programs.
    My testimony will provide an overview of the actions and 
initiatives that we began over the past year thanks to the support that 
this Subcommittee has provided. I will then discuss the President's 
fiscal year 2011 request and the important work which these resources 
would make possible.

        NEW LEADERSHIP, ORGANIZATIONAL STRUCTURES, AND EXPERTISE

    Without a doubt, the most critical element to success in improving 
the Commission's operations is the agency's talented and capable staff. 
During the past year, I am pleased to have been able to bring on board 
new senior managers who are playing a vital role in our efforts to 
transform the agency.
    We brought in new leadership to run the agency's four largest 
operating units--the Division of Enforcement, the Office of Compliance 
Inspections and Examinations, the Division of Corporation Finance, and 
the Division of Trading and Markets. We also selected a new General 
Counsel, Chief Accountant, head of the Office of Investor Education and 
Advocacy, and directors for the New York, Miami, and Atlanta regional 
offices. The efforts of these new senior managers, together with the 
efforts of other leaders who are continuing their service, are already 
making the SEC a more agile, responsive and intelligent agency.
    This new leadership team is committed to a culture of 
collaboration--sharing information and sharing ideas. To encourage that 
culture, I established several cross-functional teams to focus on 
issues such as life settlements and the development of a consolidated 
audit trail. We have begun integrating our broker-dealer and investment 
adviser examinations and are moving to consolidate our multi-office 
oversight of clearing agencies.
    Significantly, we've created and staffed a new division--the 
Division of Risk, Strategy, and Financial Innovation--to bore through 
the silos that for too long have compartmentalized and limited the 
impact of our institutional expertise. A principal lesson learned from 
the financial crisis is that, because today's financial markets and 
their participants are dynamic, fast-moving, and innovative, the 
regulators who oversee them must continue to improve their knowledge 
and skills in order to regulate effectively. The Division of Risk, 
Strategy, and Financial Innovation will help to re-focus the agency's 
attention on and response to new products, trading practices, and 
risks. Already, this new Division has attracted renowned experts in the 
financial, economic, and legal implications of the financial 
innovations being crafted on Wall Street.
    In addition, we are working to establish a deeper reservoir of 
experts throughout the agency to conduct risk analysis, spot emerging 
trends and practices, and reduce the likelihood that a problem might 
grow into a more potent risk.
    We also are committed to improved training and education of agency 
staff in order to close competency gaps and expand knowledge of 
industry activities and trends. Training needs to be current, 
continuous, and mandatory--and it needs to equip the SEC's workforce 
with the tools they need to enforce the Federal securities laws and 
protect investors.
    Last year, we launched an effort to ensure that employees 
throughout the agency receive timely and relevant training which will 
allow them to fulfill the agency's mission. This agency-wide initiative 
includes a new integrated structure to identify training needs and to 
approve professional education and leadership development programs. The 
new training initiative also seeks to improve collaboration with other 
regulators and has enabled hundreds of employees to take advantage of 
external professional certification programs. While it will take time 
to fully implement all the components of our new training initiative, 
we are already seeing good results from this increased focus on staff 
development.

                 REINVIGORATING THE ENFORCEMENT PROGRAM

    Enforcement of the securities laws is the foundation of the SEC's 
mission. Swift and vigorous prosecution of those who have broken the 
law is at the heart of the agency's efforts to restore investor 
confidence. But in recent years, the SEC's enforcement program had 
suffered under a variety of procedural, structural, and budgetary 
constraints.
    Over the past year, we have improved our law enforcement 
capabilities and sent a clear signal to our staff that we value 
toughness and speed by removing procedural roadblocks impeding their 
investigations. For example, we delegated to senior staff the authority 
to issue subpoenas, so investigations can be launched without the 
prior--and time-consuming--approval of the Commission. We also 
abolished the requirement that staff obtain Commission approval before 
entering into settlement talks involving civil monetary penalties 
against public issuers.
    We added a host of measures to encourage corporate insiders and 
others to come forward with evidence of wrongdoing. These new 
cooperation initiatives establish incentives for individuals and 
companies to fully and truthfully cooperate and assist with SEC 
investigations and enforcement actions, and they provide new tools to 
help investigators develop first-hand evidence to build the strongest 
possible cases as quickly as possible.
    Last year, I hired as the Director of the Enforcement Division, 
Robert Khuzami, a longtime Federal prosecutor who had served as Chief 
of the Securities and Commodities Fraud Task Force of the U.S. 
Attorney's Office for the Southern District of New York. Under his 
leadership, we are undertaking the most significant structural reforms 
of the enforcement program since 1972--reforms designed to maximize 
resources and enable us to move swiftly and vigorously against 
securities fraud. Highlights of the initiatives currently being 
implemented include:
  --Specialization.--The Division has created five new national 
        specialized investigative groups dedicated to high-priority 
        areas of enforcement, including Asset Management (hedge funds 
        and investment advisers), Market Abuse (large-scale insider 
        trading and market manipulation), Structured and New Products 
        (various derivative products), Foreign Corrupt Practices Act 
        violations, and Municipal Securities and Public Pensions. The 
        specialized units will utilize enhanced training, specialized 
        industry experience and skills, and targeted investigative 
        approaches to better detect links and patterns suggesting 
        wrongdoing--and ultimately to conduct more efficient and 
        effective investigations.
  --Management Restructuring.--The Division has adopted a flatter, more 
        streamlined organizational structure under which it has 
        reallocated a number of staff who were first line managers to 
        the mission-critical work of conducting front-line 
        investigations. While a layer of management has been 
        eliminated, the Division is maintaining staff-to-manager ratios 
        that will allow for close substantive consultation and 
        collaboration, resulting in a management structure that 
        facilitates timeliness, quality, and staff development. The 
        Division also has hired its first-ever Managing Executive, who 
        is focusing on the Division's administrative, operational, and 
        infrastructure functions, thus freeing up valuable 
        investigative resources for mission-critical work.
  --Office of Market Intelligence.--The Enforcement Division has 
        established an Office of Market Intelligence, which will serve 
        as a central office for the handling of complaints, tips, and 
        referrals that come to the attention of the Division; 
        coordinate the Division's risk assessment activities; and 
        support the Division's strategic planning activities. In short, 
        this office will allow the Division to have a unified, 
        coherent, coordinated response to the huge volume of 
        complaints, tips, and referrals we receive every day, thereby 
        enhancing the Division's ability to open the right 
        investigations, bring solid cases, and effectively protect 
        investors.
    In my first year, compared to the previous year, the SECs 
enforcement activity increased significantly. We sought more than twice 
as many temporary restraining orders and asset freezes; we issued well 
over twice as many formal orders of investigation; we won $540 million 
more in disgorgement orders while penalty orders more than doubled; and 
we filed nearly 10 percent more actions overall, including nearly twice 
as many involving Ponzi schemes.
    Of course, numbers alone don't capture the complexity and range--or 
the importance--of the actions we brought. For example, we have brought 
a number of cases involving issues surrounding the financial crisis, 
including cases alleging accounting fraud at subprime lenders, 
misrepresentation of complex investments as appropriate for retail 
investors seeking safe financial products, fraud in connection with CDO 
marketing materials, and misleading investors about exposure to 
subprime investments. Our cases have included actions against Goldman 
Sachs and Co., American Home, Countrywide, New Century, Brookstreet 
Securities, and Morgan Keegan.
    Examples of where the SEC's actions have benefitted investors 
include:
  --Charging Boston-based State Street Bank and Trust Company with 
        misleading investors about their exposure to subprime 
        investments while selectively disclosing more complete 
        information only to certain favored investors. As a result of 
        this one action, more than $300 million will be distributed to 
        investors who lost money during the subprime market meltdown.
  --Charging the investment adviser for the Reserve Primary Fund with 
        failing to properly disclose to investors and trustees material 
        facts relating to the value of the fund's investments in 
        Lehman-backed paper. We also charged the adviser with 
        misrepresenting that it would provide the credit support 
        necessary to protect the $1 net asset value of the Primary Fund 
        when, according to our complaint, the adviser had no such 
        intention. In bringing the enforcement action, the SEC also 
        sought to expedite the distribution of the fund's remaining 
        assets to investors by proposing a pro-rata distribution plan, 
        which the Court has approved. To date, investors have been 
        provided with recovery of more than 98 cents on the dollar, 
        with a Court-ordered distribution to be effected in the coming 
        days that will bring their recovery to over 99 cents on the 
        dollar.
    In addition to the significant cases we have brought arising out of 
the financial crisis, we have continued to bring cases in many other 
important areas.
  --In a pension fund pay-to-play case, we filed a settled action 
        against a private investment firm, Quadrangle Group LLC, and 
        one of its affiliated entities, charging them with 
        participating in a widespread kickback scheme to obtain 
        investments from New York's largest pension fund.
  --In the municipal securities arena, we settled fraud charges with 
        J.P. Morgan Securities for its alleged role in an unlawful pay-
        to-play scheme in Jefferson County, Alabama. J.P. Morgan paid 
        $50 million directly to Jefferson County, forfeited more than 
        $647 million in claimed termination fees, and paid a penalty of 
        $25 million. At the same time, the SEC also charged two of J.P. 
        Morgan's former managing directors with fraud arising out of 
        this scheme and had previously charged others, including the 
        former Birmingham mayor--who last month was sentenced to 15 
        years in prison and fined $360,000--a JP Morgan banker, and the 
        local operative who served as go-between.
  --In the area of accounting and financial fraud, auditor Ernst & 
        Young LLP paid an $8.5 million settlement--one of the largest 
        ever paid by an accounting firm--and six current and former 
        partners were sanctioned for their conduct in the audit of 
        Bally Total Fitness Holding Corporation. We charged that they 
        abdicated their responsibility to function as gatekeepers while 
        their audit client engaged in fraudulent accounting.
  --Finally, in the Galleon and Cutillo cases, we charged more than a 
        dozen hedge fund managers, lawyers and investment professionals 
        in two overlapping serial insider trading rings that 
        collectively constitute one of the largest insider trading 
        prosecutions in Commission history. In the parallel criminal 
        prosecutions, ten individuals have already pled guilty and nine 
        additional individuals have been indicted.

                STRENGTHENING EXAMINATIONS AND OVERSIGHT

    Strong regulation is essential to the fair, orderly, and efficient 
operation of markets. A vigorous examination program cannot only reduce 
the opportunities for wrongdoing and fraud, but also provide early 
warning about emerging trends and potential weaknesses in compliance 
programs. Over the past year, we have begun reforming the Office of 
Compliance Inspections and Examinations in response to ever-changing 
Wall Street practices and lessons learned from the Madoff fraud. 
Reforms include:
  --Placing greater reliance on risk assessment procedures and 
        techniques to better identify areas of risk to investors.
  --Requiring examiners to routinely verify the existence of client 
        assets with third party custodians, counterparties, and 
        customers, and have developed procedures to ensure compliance 
        with the Commission's new rules to strengthen custody controls 
        of an investment adviser's client assets.
  --More rigorously reviewing information about firms before sending 
        examiners out to the field, so that we can use our limited 
        resources more effectively and to target those firms with the 
        greatest risks.
  --Enhancing the training of examiners and re-focusing on basics such 
        as exam planning, tracking, and accountability.
    We also plan to make significantly greater progress during the 
current year under the leadership of our new OCIE director, Carlo di 
Florio, who came to the SEC from PricewaterhouseCoopers, where he was a 
national leader in corporate governance, enterprise risk management and 
regulatory compliance and ethics. He also has extensive experience 
investigating corporate fraud, corruption, conflicts of interest and 
money laundering. At my request, he is undertaking a top-to-bottom 
assessment of the Office's operations to determine where additional 
opportunities exist to strengthen our exam program. As I will discuss 
later, there is such a huge disparity between the number of examiners 
and the number of entities that we must examine that we must ensure 
that we are using our limited resources wisely.

                IMPROVING AGENCY SYSTEMS AND MANAGEMENT

    A key priority for me as Chairman is to ensure that our staff has 
the tools they need to conduct oversight of vast financial markets. 
Between fiscal year 2005 and fiscal year 2009, investments in new 
information technology systems dropped by more than half, resulting in 
a growing gap between our mission and the ability of our systems to 
help us accomplish it. Thanks to the resources provided by this 
Subcommittee, this fiscal year we have been able to begin investing in 
several new or improved IT projects and systems.
    One of the first initiatives I launched was a strategic review of 
the agency's systems for reviewing complaints, tips, and investigative 
leads provided by whistleblowers or other sources. Having an effective 
process to identify the most important tips can give the agency an 
early jump on frauds and other violations of securities laws, help 
guide compliance exams, and provide important information across the 
agency to aid staff working to protect investors and maintain market 
integrity. The absence of such a system directly contributed to past 
failures by the agency.
    We have completed the first phase of this effort, which was to 
centralize into a single, searchable database all our existing tips and 
complaints that were previously in multiple databases. This means that 
complaints we receive in Chicago are now downloaded into the same 
database as complaints received in Miami or any of our other offices, 
and the information investors share with our investor assistance 
hotline can be searched alongside complaints received by our markets 
hotline in our Division of Trading and Markets. Additionally, we 
released for the first time a set of agency-wide policies and 
procedures to govern how employees should handle the tips they receive.
    Simultaneously, we have been working on a new intake system that 
will allow us to capture more information about tips and complaints. 
The new system will provide more robust search capabilities so that 
tips can be better assessed or triaged. In addition, this new system 
will add enhanced workflow abilities so we can track how tips and 
complaints are being used throughout the agency. We expect to deploy 
this system later this year. Meanwhile, we also are in the early stages 
of designing the third phase of this system, which will add risk 
analytics tools to help us quickly and efficiently identify high value 
tips and search for trends and patterns across the data.
    In addition, we are enhancing the collection, internal analysis, 
and subsequent distribution of disclosures filed with the SEC, so that 
this unique set of data can be aggregated both across firms and over 
time--allowing us to monitor macro trends, search for hidden risks, and 
track systemic changes in filings.
    During my first year, I also focused much attention on improving 
the agency's basic internal operations--the processes that guide our 
work, support the agency's infrastructure, and determine how we are 
organized. The public appropriately holds the SEC to a very high 
standard for integrity and professionalism, and we must hold ourselves 
to that very high standard as well. In the past year, we took major 
steps to implement a compliance program to guard against inappropriate 
securities trading by SEC staff. We have acquired and deployed a 
computer compliance system to track, audit, and oversee employee 
securities trading and financial disclosures in real time, and have 
hired a new Chief Compliance Officer to oversee these efforts. We also 
are strengthening internal rules governing employee securities trading 
and, in May 2009, we submitted proposed rules to the Office of 
Government Ethics (``OGE'') that would prohibit staff from trading in 
the securities of companies under SEC investigation--regardless of 
whether an employee has personal knowledge of the investigation--and 
require the preclearance of all trades.
    Also during the past year we hired a new Chief Freedom of 
Information Act (FOIA) Officer and have undertaken a comprehensive 
overhaul aimed at strengthening our FOIA program and our commitment to 
open government.
    Within the next few weeks, we will also have on board a Chief 
Operating Officer. As I mentioned to the subcommittee last year, this 
is a new position that we are creating to help us manage our 
significant rebuilding projects. Our COO will provide executive 
leadership in the areas of information technology, financial 
management, and records management (including FOIA).
    I have approved a new internal audit follow-up rule that sets forth 
roles, responsibilities, and procedures to ensure that SEC staff take 
timely and appropriate corrective action to address recommendations by 
the Government Accountability Office or the SEC's Office of Inspector 
General.
    In addition, we are undertaking significant efforts to eliminate 
the material weakness in our internal controls over financial 
reporting, including automating the numerous processes that have been 
performed manually and strengthening our core financial system.
      engaging in a significant investor-focused rulemaking agenda
    Of course, the changes we have initiated have not just been 
internal. The past year has witnessed one of the Commission's most 
significant rulemaking agendas in years. Here are some highlights:
    Adopted:
  --Custody controls.--We adopted a rule in the wake of the Madoff 
        fraud designed to provide greater protections to investors who 
        entrust their assets to investment advisers. The rule leverages 
        our own resources by relying on independent, third-party 
        accountants serving as a ``second set of eyes'' to confirm 
        client assets and review custody controls in situations where 
        the possibility for misappropriation of client assets is most 
        acute because of the adviser's possession of, or control over, 
        client assets.
  --Proxy enhancements.--We adopted rules that require companies to 
        provide investors with more meaningful information about the 
        leadership structure of boards, the qualifications of board 
        nominees and the relationship between a company's overall 
        compensation policies and risk taking.
  --Discretionary voting by brokers for directors.--We approved a New 
        York Stock Exchange rule to eliminate broker discretionary 
        voting for all elections of directors, whether contested or 
        not. This helps to ensure that director elections are 
        determined by investors with an economic interest in the 
        company.
  --Short selling/Fails-to-deliver.--We adopted a rule that will 
        restrict short selling when a stock is experiencing significant 
        downward price pressure. This rule will also enable long 
        sellers to stand in the front of the line and sell their shares 
        before any short sellers once a circuit breaker is triggered. 
        In addition, we addressed the potentially harmful effects of 
        abusive ``naked'' short selling, adopting rules that require 
        that fails-to-deliver resulting from short sales be closed out 
        immediately after they occur. Since this rule was adopted, the 
        number of failures to deliver securities has dropped 
        significantly.
  --Money market funds.--We adopted new rules that will help avoid a 
        recurrence of the serious problems exposed in 2008, when the 
        Reserve Primary Fund ``broke the buck.'' The rules will 
        strengthen the oversight and resiliency of these funds by, 
        among other things, increasing credit quality, improving 
        liquidity, shortening maturity limits, and requiring stress 
        testing of money market fund portfolios and the disclosure of 
        the funds' actual ``mark-to-market'' net asset value.
  --Central Clearing of Credit Default Swaps.--We took action to 
        address counterparty risk and improve transparency in the 
        multi-trillion dollar credit default swap market by approving 
        conditional exemptions that allowed certain clearinghouses to 
        operate as a central counterparty for clearing credit default 
        swaps.
  --Credit Rating Agencies.--We adopted rules, and proposed others, to 
        create a stronger, more robust regulatory framework for credit 
        rating agencies--including measures designed to improve the 
        quality of ratings by requiring greater disclosure, fostering 
        competition, addressing conflicts of interest, shedding light 
        on the practice of rating ``shopping,'' and promoting 
        accountability.
    Proposed:
  --Asset-backed securities.--We proposed rules to fundamentally revise 
        the regulatory regime for asset-backed securities. This 
        comprehensive proposal would revise the disclosure, reporting, 
        and offering process for asset-backed securities to better 
        protect investors in the securitization market and promote 
        efficient capital formation.
  --Proxy access.--We proposed rules to facilitate the effective 
        exercise of the rights of shareholders to nominate directors to 
        the boards of the companies they own. If adopted, this rule 
        would increase shareholders' ability to hold boards 
        accountable.
  --Large Trader Reporting.--We proposed rules to create a large trader 
        reporting system that, if adopted, would strengthen our 
        oversight of the markets by enhancing our ability to identify 
        large market participants and collect information on their 
        trades so we can better analyze the data and investigate 
        potentially illegal trading activity.
  --Flash orders.--We proposed rules that would effectively prohibit 
        all markets from displaying marketable flash orders.
  --Sponsored Access.--We proposed a new rule that would effectively 
        prohibit broker-dealers from providing customers with 
        ``unfiltered'' or ``naked'' access to an exchange or ATS.
  --Dark pools.--We proposed rules to generally require that 
        information about an investor's interest in buying or selling a 
        stock be made publicly available, instead of available only to 
        a select group operating within a dark pool.
  --Pay-to-Play.--We proposed rules to address pay-to-play practices 
        where investment advisers are managing or seeking to manage 
        public monies that fund state and local pension plans and other 
        important public programs.
  --Municipal Securities Disclosure.--We proposed rules to improve the 
        quality and timeliness of disclosure of material events related 
        to municipal securities, such as payment defaults, rating 
        changes and tender offers.
    Our rulemaking agenda makes it clear that the Commission is now 
willing to address challenging issues and make tough choices.

                             SEC RESOURCES

    The financial crisis reminded us just how large, complex, and 
critical to our economy the securities markets have become. Over the 
last 20 years, the dollar value of the average daily trading volume in 
stocks, exchange-traded options, and security futures has grown by over 
25 times, reaching approximately $245 billion a day. The number and 
size of market participants have grown as well. For example, since 
2003, the number of registered investment advisers has increased by 49 
percent, and their assets under management have jumped by over 57 
percent, to $33 trillion.
    Yet, while the markets were growing exponentially in size and 
complexity, the SEC's workforce was getting smaller and its technology 
was falling further behind. We are only just now returning to the 
staffing levels of 5 years ago. As you know, between fiscal year 2005 
and fiscal year 2007, the agency experienced 3 years of flat or 
declining budgets, losing 10 percent of its employees, which severely 
hampered our enforcement and examination programs. In the context of 
rapidly expanding markets, limited SEC staffing levels hindered the 
agency's ability to effectively oversee the markets and pursue 
violations of the securities laws.
    Fortunately, thanks to support from the members of this 
Subcommittee, we have begun to rebuild our workforce and to invest in 
needed new technologies. Yet, the SEC is still responsible for 
overseeing more than 35,000 entities with just over 3,800 staff. 
Additional resources are essential if we hope to make the SEC a dynamic 
and effective regulator of our financial markets.
    The President is requesting a total of $1.258 billion for the 
agency in fiscal year 2011, a 12 percent increase over the fiscal year 
2010 funding level. If enacted, this request would permit us to hire an 
additional 374 professionals, a 10 percent increase over fiscal year 
2010. That would bring the total number of staff to about 4,200. The 
request also will permit us to continue expanding our investments in 
surveillance, risk analysis, and other technology, as well as in better 
training for SEC staff.
    Of this total request, $24 million would be contingent upon the 
enactment of financial reform--so that if reform is passed, we would 
have the resources to begin implementing our enhanced authorities.
    It is important to note that the proposed increase in spending 
would be fully offset by the fees we collect on transactions and 
registrations. In fiscal year 2011, we estimate that we will collect 
$1.7 billion--an increase of $220 million over fiscal year 2010.
    If we were to receive the proposed increase in spending, we 
anticipate it would be broken out as described below.
    In the Enforcement Division, the budget request would enable us to 
add about 130 new full time employees so we can reinforce our 
investigations process, support more cases, and strengthen the 
intelligence analysis function. With these new staff resources--along 
with the Division restructuring and initiatives outlined above that 
will make the Division more efficient and effective--the Division 
projects that we will be able to open 75 more inquiries than the 
previous year, open 130 more formal investigations, and file charges in 
70 more civil or administrative cases.
    In addition to fully staffing the new Office of Market Intelligence 
and its critical risk assessment and strategic planning functions, we 
plan to use additional Enforcement Division resources in the following 
ways:
  --Hire Individuals with Specialized Industry Experience.--One of the 
        SEC's priorities is to seek persons with specialized financial 
        industry experience. We intend to hire enforcement staff with 
        specialized expertise in financial products, including 
        structured products and hedge funds, trading strategies, risk, 
        and financial analysis. Building upon the existing strengths of 
        the Division, specialists will increase the Division's depth of 
        understanding of the patterns, links, trends, and motives of 
        wrongdoers. Moreover, the specialists can utilize their unique 
        experience to more quickly target, analyze, and bring to light 
        unlawful activities.
  --Hire Additional Trial Attorneys.--It is essential that the SEC be 
        able to act decisively on its growing caseload and that the 
        Division has the resources to present effective cases at trial 
        and to negotiate potential settlements from a position of 
        strength. We intend to hire additional experienced trial 
        counsel, not only to enable the Division to carry a caseload 
        that includes increasingly complex cases, but also to allow the 
        SEC and the Division to demand tough but appropriate sanctions 
        with the confidence that we have the resources to litigate if 
        necessary. It is critical that the Division convey to 
        defendants that we are prepared to go to trial and to win. With 
        our increased case load, our trial unit needs to expand to 
        ensure that we are able to maintain a program of rigorous 
        enforcement for the protection of investors.
  --Increase Administrative Staff.--Division lawyers spend too much 
        time on tasks more efficiently handled by support and 
        paraprofessional staff. We can leverage our resources by 
        transferring document management, case filings, and other 
        administrative tasks to support staff with the appropriate 
        expertise, thereby freeing up our attorneys to tackle critical 
        front-line work of investigating cases, bringing enforcement 
        actions and allowing all levels of the staff to leverage their 
        specialized knowledge.
  --Train Strategically.--It is critical that the Division invest in 
        employee development to prepare its staff to respond to 
        continuing changes in the securities industry, sophisticated 
        new products and novel trading strategies. In addition, the 
        Division needs to ensure that all staff has access to training 
        to improve on the competencies and skills required for their 
        jobs and to maximize individual potential.
  --Information Technology.--Information technology is also a priority 
        for the Division. We are spending significant resources on a 
        number of ongoing projects--improving the Division's case 
        management system, managing ever-increasing amounts of 
        electronic evidence with sophisticated new tools, and 
        establishing a more centralized system for reviewing and 
        analyzing tips, complaints, and referrals. We intend to commit 
        whatever resources are necessary and available to ensure a 
        timely conclusion to these upgrades. We also anticipate major 
        future projects, including a new IT Forensics Lab, enhanced 
        data and trading analytics, and improved document and knowledge 
        management to further enhance efficiency and consistency across 
        the Division.
    In our Examinations unit, the budget request would allow us to add 
about 70 staff to help us begin closing the gap between the number of 
examiners and the growing number of registered firms we oversee. With 
these new resources, OCIE expects to be able to expand the scope and 
coverage of adviser and fund examinations and to staff fully the 
oversight function for credit rating agencies, allowing us to examine 
half of the rating agencies in fiscal year 2011. If the financial 
regulatory reform legislation now under consideration requires hedge 
fund advisers to register, we will expand our inspection program to 
include these new registrants.
    It is important to note, however, that even with an increase in the 
number of exams these additional resources will enable us to conduct, 
we anticipate examining only nine percent of SEC registered investment 
advisers and 17 percent of investment company complexes in fiscal year 
2011.
    In the newly created Division of Risk, Strategy, and Financial 
Innovation, the budget request would enable us to add about 20 new 
professionals. The new staff would allow the Division to establish a 
deeper reservoir of experts who can conduct risk and economic analysis 
and spot emerging trends and practices in support of rulemaking and 
enforcement activities. We anticipate hiring professionals with 
significant knowledge and expertise in financial markets and products, 
including economists, academics, lawyers, and financial market 
professionals.
    Among the other divisions, the budget request would permit us to 
add almost 50 staff to the Divisions of Investment Management and 
Trading and Markets. These personnel will help us enhance oversight of 
money market funds, clearing agencies, broker-dealers, credit rating 
agencies, and, if brought under the agency's jurisdiction, hedge fund 
advisers and OTC derivatives. The Division of Corporation Finance would 
add about 25 professionals to allow it to focus more, and with greater 
frequency, on the financial statements and other disclosures of large 
and financially significant companies.
    Finally, the fiscal year 2011 budget request proposes to spend an 
additional $12 million on information technology investments, focused 
on several key projects. Our top priority, as I described earlier, will 
be the third phase of our new system for analyzing tips, complaints, 
and referrals.
    We also intend to continue our efforts to build a suite of 
surveillance and risk analysis tools that will substantially improve 
the agency's ability to find connections, patterns, or trends in the 
data we collect. The agency has numerous internal information 
repositories which result from disclosure filings, examinations, 
investigations, economic research, and other ongoing activities. With 
better tools, we will be able to mine this data, link it together, and 
combine it with data sources from outside the Commission. This will 
enable staff to more effectively identify risks to investors, trends in 
the markets, and to identify patterns of activities meriting further 
examination or investigation.
    We also plan to complete improvements to the case and exam 
management tools available to our enforcement and examination programs. 
We intend to modernize our financial systems and implement a new system 
to handle the significant increase in the volume and complexity of 
evidentiary material obtained during the course of investigations. We 
also need tools to significantly improve the efficiency of loading, 
storing, and archiving the roughly three terabytes of data received per 
month during the course of investigations in order to improve 
turnaround time to staff and to contain costs.

                         MANAGING AGENCY GROWTH

    While the budget request anticipates significant growth in the size 
of the SEC, the agency is properly positioned to implement this 
spending plan. To accomplish the hiring of hundreds of new staff during 
the course of fiscal year 2011, the SEC is enhancing its human 
resources staff and, consistent with its current authorities, 
streamlining its hiring process. Improvements include simplifying the 
application process and maintaining a searchable database of 
applicants, so that it is possible to interview for a vacancy as soon 
as it appears rather than having to go through the lengthy posting 
process each time. Being able to better tailor, target and speed 
recruiting will enhance the quality of applicants and help the agency 
acquire the necessary talent to perform effectively in an increasingly 
complex financial environment.

                               CONCLUSION

    Thank you, again, for your past support, and for allowing me to be 
here today to present the President's budget request.
    While the SEC is a relatively small agency, we are charged with 
protecting millions of investors every day, including the nearly one-
half of all households that own securities. I am pleased with the 
progress that we have made to date, but recognize that much work 
remains to be done to continue to reinvigorate the SEC and restore 
investor confidence in our securities markets. The funding level in the 
President's budget request is critical for us if we are to succeed in 
these efforts, and continue to improve our performance in an 
increasingly complex financial world.
    I am happy to answer any questions that you might have.

        SEC STAFF LEVELS HAVE NOT KEPT PACE WITH INDUSTRY GROWTH

    The SEC's staff of 3,816 FTE (estimate for fiscal year 2010) 
oversees more than 35,000 entities. These include: 11,500 investment 
advisers; 5,400 broker-dealers; 7,800 mutual funds; about 600 transfer 
agents; clearance and settlement systems; 12 securities exchanges; 
10,000 public companies; 10 credit rating agencies; and FINRA, MSRB, & 
PCAOB.
    The following charts provide examples of how various aspects of the 
markets have grown since 2003, relative to the SEC's staff:






                  OVERSIGHT OF CREDIT RATING AGENCIES

    Senator Durbin. Thank you, Chairman Schapiro.
    I have joined a lot of other people in just finishing 
Michael Lewis' book, ``The Big Short'', and it is really an 
eye-opener of what was going on at the time that this real 
estate bubble was created. One of the areas that I had heard 
about many times that he made reference to was the work of 
credit rating agencies and the fact that some of the credit 
ratings that were given were misleading, to say the least.
    Now, since the beginning of the credit crunch in early 
2007, these agencies have come under fire for inflated ratings 
of mortgage-backed securities that did not reflect the 
financial stability of the borrowers. At our hearing last June, 
I asked you some questions about what the SEC was doing to 
restore confidence in these credit rating agencies, what 
improvements were needed.
    In your budget justification materials submitted to the 
subcommittee in February, you indicate on page 4 that the 
fiscal year 2011 budget will enable the SEC to carry out a more 
robust oversight function for credit rating agencies and 
conduct examinations at one-half of the registered, nationally 
recognized statistical rating organizations next year. 
Underlined, ``next year.'' You explained that in 2006, the SEC 
took on a major new responsibility with the Credit Rating 
Agency Reform Act, which gave the agency authority to regulate 
internal processes of nationally recognized statistical rating 
organizations, such as recordkeeping and policies to guard 
against conflicts of interest. You contend ``The SEC never 
received any increased or dedicated funding to carry out these 
new responsibilities, and it has been forced to divert 
positions from other programs in order to staff this vital 
function.''.
    I am puzzled by that statement. In fiscal year 2009, 
Congress provided the SEC with $970 million in budget 
authority, $57 million above the President's request of $913 
million. And in fiscal year 2010, this current year, Congress 
provided $1.1 billion, $85 billion above the President's 
request.
    If the SEC regards its obligation to oversee credit rating 
agencies as a high priority, why were you not able to devote 
some of the increased funds we provided for this function in 
fiscal year 2009 and 2010?
    Ms. Schapiro. Senator, we have. I do not have the statement 
right in front of me. But let me assure you we are very 
committed to aggressive oversight of credit rating agencies. We 
have, in fact, created a new examination branch for credit 
rating agencies, and our goal would be to try to examine all 
the credit rating agencies on a regular basis. So we are quite 
committed to solving the problems that we have seen with 
respect to credit rating agencies.
    In addition----
    Senator Durbin. Is this a typo where it says that you are 
going to start this work next year?
    Ms. Schapiro. We have already begun this work, and I will--
--
    Senator Durbin. This was in the budget justification 
materials given to this oversight committee.
    Ms. Schapiro. I can assure you this work has begun. We have 
a new head of our Office of Compliance, Inspections, and 
Examinations. Credit rating agencies are a focus of that 
office.
    Senator Durbin. We have the justification materials, and I 
would like to share them with you because what you have just 
said is not consistent with what was given to the subcommittee.
    [The information follows:]

    As a follow up to your question during the hearing, I 
wanted to offer clarification regarding the SEC's examinations 
of credit rating agencies. As we discussed, page 4 of the SEC's 
fiscal year 2011 Congressional Justification says: ``. . . the 
SEC never received any increased or dedicated funding to carry 
out these new responsibilities, and it has been forced to 
divert positions from other programs in order to staff this 
vital function.'' I understand that, in the months immediately 
following the passage of the Credit Rating Agency Reform Act of 
2006, the SEC did not receive additional funds to handle these 
responsibilities, and the SEC during this period was in the 
middle of a 10 percent cutback in its overall staffing levels. 
However, this statement leaves the incorrect impression that 
the SEC has not received budget increases since that time. 
Accordingly, I have asked that this sentence be stricken from 
the version of the document that appears on the SEC website. As 
I mentioned in my testimony, your subcommittee's support has in 
fact resulted in significant budget increases since I became 
Chairman and is allowing us to rebuild the agency's workforce. 
In fiscal year 2009 the SEC was able to create a team of staff 
dedicated to examining credit rating agencies, and the fiscal 
year 2011 budget request asks for additional staff resources to 
expand the program.
    I hope this information helps clarify the state of the 
SEC's program to examine credit rating agencies.

                      WHISTLEBLOWER BOUNTY PROGRAM

    Senator Durbin. Let me ask about another issue. In the wake 
of the massive Ponzi scheme perpetrated by Bernie Madoff, the 
SEC has undertaken an array of reforms to reduce similar frauds 
and the fact that they would go undetected. Among the actions 
cited in SEC materials is, ``advocating for a whistleblower 
program,'' as part of the financial reform legislation. The SEC 
has requested expanded authority from Congress to reward 
whistleblowers who bring forward substantial evidence about 
Federal securities violations. Current law permits the SEC to 
award a bounty to a person who provides such information, 
leading to the recovery of a civil penalty from an inside 
trader, from a person who tipped information to an inside 
trader, or from a person who directly or indirectly controlled 
an inside trader.
    Now, a few weeks ago on March 29, the SEC's inspector 
general issued a report on how the bounty program is working at 
your agency. The SEC inspector general noted that while the SEC 
has had a bounty program in place for more than 20 years for 
rewarding whistleblowers for insider trading tips, there have 
been very few payments under the program. Likewise, the SEC has 
not received a large number of applications from individuals 
seeking a bounty over this 20-year period. The inspector 
general also found the program is not widely recognized either 
inside or outside your agency.
    The inspector general indicated that although the SEC is 
seeking expanded authority to reward whistleblowers who bring 
forward substantial evidence about other significant Federal 
security law violation, the current SEC bounty program is not 
fundamentally well-designed to be successful.
    They called for a long list of improvements by your 
inspector general. Make the application more user-friendly. 
Establish internal policies and procedures to assist staff in 
assessing contributions made by whistleblowers in making bounty 
award determinations. Routinely provide status reports to 
whistleblowers regarding their bounty applications. Track the 
applications to ensure timely and adequate review.
    The inspector general acknowledged that the SEC has begun 
to take steps to correct the deficiencies identified in this 
whistleblower bounty program, including consultation with the 
Department of Justice, the Internal Revenue Service, and other 
agencies.
    After the embarrassment of Bernie Madoff, this inspector 
general report about your whistleblower program is troubling to 
me. It indicates that the level of energy which we expected in 
response to Madoff and the embarrassment he brought to your 
agency and to our Government would create a whistleblower 
program to try to save some of those investors and savers who 
could be exploited by people like him.
    Ms. Schapiro. Senator, I would very much like to address 
that.
    First of all, when I arrived, I asked that we build a more 
robust, effective whistleblower program simply because the 
insider trading program has not been effective. And that is in 
part because insider trading rarely is brought to the attention 
of the SEC by tips. It is generally discovered as a result of 
surveillance done by the exchanges or surveillance that is done 
by the SEC itself. So we needed a program that was far more 
effective and covered much more than insider trading, which is 
a small proportion of the cases that we bring every year.
    So the SEC staff, in fact, crafted the whistleblower 
legislation that we believe would be far more effective, 
addresses the issues that are raised in the inspector general's 
report, and we think will allow us to really leverage the 
information that whistleblowers bring to the SEC on a broad 
range of potential violations.
    Senator Durbin. But you are asking for expanded authority 
to reward whistleblowers. If you were discounting what they 
could do, why would you ask for expanded authority in that 
program?
    Ms. Schapiro. But I am not discounting what they do. I 
believe we can make tremendous use of tips and complaints from 
whistleblowers.
    In the narrow context of insider trading, which is the only 
place the existing program can be applied, it has not been an 
effective program. So we need legislative authority to craft a 
program that will allow us to give whistleblowers more 
meaningful recovery on their claims and that will cover more 
than simply insider trading which, as I said, frequently is not 
the result of a whistleblower coming to us because insider 
trading tends to be detected from abnormal trading activity in 
a stock prior to the announcement of a merger or an acquisition 
that is detected by exchange surveillance systems referred to 
the SEC and then prosecuted by us. So the program was flawed in 
many ways, which is why we asked to expand the program, make it 
more robust, and have the legislative authority to do that.
    Senator Durbin. So is the inspector general's report on the 
right track of what you need to do within your own agency about 
this program?
    Ms. Schapiro. I think the inspector general's report is on 
the right track, and in fact, many of the recommendations he 
made are really a result of talking extensively with our staff 
about how to make this program better.
    Senator Durbin. Senator Collins.

                          ENFORCEMENT ACTIONS

    Senator Collins. Chairman Schapiro, there have been three 
issues in the press lately that affect the SEC that I 
particularly want to ask you about today to get your answers on 
the record and perhaps put an end to some of the speculation 
about one of these issues and that is the first one that I am 
going to begin with.
    There has been speculation reported in the financial press 
that the SEC's case against Goldman Sachs was somehow motivated 
by the timing of the financial reform bill that the Senate will 
shortly consider. For the record, was the timing of the SEC's 
enforcement action against Goldman in any way connected to the 
Senate's actions on financial reform?
    Ms. Schapiro. Absolutely not, and I put out a statement to 
try and make that quite clear that we do not time our 
enforcement actions by the legislative calendar or by anybody 
else's wishes. We bring our cases when we have the law and the 
facts that we believe support bringing our cases, and that is 
exactly what happened here, as has happened in the more than a 
dozen other financial crisis cases that we have brought in the 
past year.
    Senator Collins. I share your view on that issue, but I 
think it is important for me to ask you for the record.
    Ms. Schapiro. I appreciate the opportunity to answer it.

                      EMPLOYEE MISUSE OF COMPUTERS

    Senator Collins. The second question I want to ask you has 
to do with the disciplining of SEC employees who were involved 
in the porn case.
    I really am so appalled at those findings by the inspector 
general because it was not just one or two people. According to 
the inspector general's report, 33 staffers at the agency were 
found to have looked at porn on their computers at work over 
the past 5 years, and 17 of them were highly paid employees 
that were earning between $99,000 and $222,000 a year.
    An unrelated issue but another issue that causes me to ask 
what your process is and what are you doing to discipline 
employees has to do with the inspector general's criticisms of 
the SEC's failure to uncover the Madoff Ponzi scheme. Has the 
SEC taken any disciplinary actions against employees as a 
result of the inspector general's findings in the Madoff case?
    Ms. Schapiro. Senator, I am happy to respond to both of 
those.
    In the first instance, let me say that it was the agency's 
own filters that detected the activity that was reported by us 
to the inspector general, and there were 33 persons, as you 
point out, cited in the inspector general's report over a 5-
year period. And a number of those, in fact, were outside 
consultants.
    That said, I completely share your disgust with this 
conduct. It is unacceptable at the Securities and Exchange 
Commission or anywhere else. We will deal very swiftly and very 
severely within the limits of the Federal employment rules and 
laws with anybody who abuses SEC resources. In fact, last week, 
I put out a message to all employees making it clear that 
anyone who abuses SEC resources in this manner or misuses them 
will be subject to termination. So we will deal with this very 
swiftly and severely, and all employees are clearly on notice 
with respect to that.
    Many of these actions were a number of years ago, and 
disciplinary actions have already been taken at one level or 
another. We have significantly ramped up the potential 
penalties.
    With respect to your last question regarding Madoff, as a 
result of the inspector general's investigation of the agency's 
failure to detect the Madoff fraud, there was a recommendation 
that we consider whether discipline is appropriate with respect 
to employees. I should say that, for example, in the 
Enforcement Division, of the 20 employees who were involved 
with Madoff investigations or examinations, 15 have already 
left the agency. With respect to those who are left, we have 
put in place a disciplinary process in accordance with the 
Federal rules that apply to all Federal workers in all 
situations like this. That process is intended to be fair and 
deliberative but appropriate, and we are going through that 
right now. It is well underway, and I cannot really comment on 
any specific actions, but I can assure you that a disciplinary 
process is underway.
    Senator Collins. Thank you.
    Senator Durbin. Senator Cochran.
    Senator Cochran. Mr. Chairman, thank you.

                  CORRECTIVE AND DISCIPLINARY ACTIONS

    May I ask whether or not any of the findings and 
recommendations of the inspector general in the case that 
Senator Collins raised have been implemented, or have those who 
were found to have violated regulations or laws in this 
connection been punished? You mentioned that five are still 
working there, and there were others who resigned, as I 
understand it.
    Ms. Schapiro. The inspector general, Senator, issued his 
reports in August and October, and between them, they included 
about 69 different recommendations for the staff. As a result 
of that, very promptly, the offices that were involved, 
primarily our inspections group and our enforcement group, 
issued corrective action plans, which under Federal law 
generally require that corrective actions in response to an 
inspector general report be taken within 1 year. As of March 
31--so between 4\1/2\ and 6 months after those reports were 
issued--the offices have completed corrective actions on 35 of 
the 69 recommendations. We are awaiting the inspector general's 
concurrence on 19 of those. The rest are substantially well 
underway and I think we are making very significant progress.
    With respect to the employees, as I mentioned, a number of 
them have already left. We are looking at whether personnel 
action should be taken. There is, as I said, an established 
process that we are legally required to follow, as we would in 
any employment issue involving a Federal worker. And that 
process is well underway, and we will be happy, upon its 
completion, to report back to the subcommittee.

                         STANFORD PONZI SCHEME

    Senator Cochran. I have several constituents from 
Mississippi who called and came up to Washington to visit with 
me and other Members of Congress and the Senate to tell us 
about their experiences in the really serious financial 
dislocations that have been caused by this scheme. It is really 
heartbreaking to realize that these people were really innocent 
victims of somebody's greed and corruption, and I want to be 
sure that whatever can be put in place to prevent this kind of 
thing from happening in the future is acted on and done 
quickly.
    Can you assure the subcommittee that that is the step and 
that is the intent of the SEC in this case?
    Ms. Schapiro. Senator, absolutely. As soon as I arrived 
last January, I put into motion a number of things that we hope 
will reduce the chances of a tragedy like this ever happening 
again. So we changed leadership across the agency. We 
restructured our Enforcement Division. We are in the process of 
restructuring our examinations group. We are bringing in people 
who have new skills that are better able to understand some of 
the information that Mr. Madoff managed to so expertly fool the 
staff with. We are doing much better training. We have over 500 
employees who have gone through either certified fraud examiner 
training or chartered financial analyst training.
    We have put in place new rules that will allow us to 
leverage the work of accounting firms when an investment 
adviser custodies assets with an affiliate, which is what 
happened in this situation. They are now required to have a 
surprise audit by a PCAOB registered accounting firm and allow 
us to have access to that information immediately so we can 
look for suspicious activity.
    And as I mentioned in my statement, we have put in place a 
system to try to better track tips and complaints and referrals 
so that the kind of information that the staff had about Madoff 
will have far less chance of slipping through the cracks.
    We have worked day and night to do everything we can think 
of to try to minimize the chances of a horrific event like this 
ever happening again. I share your deep concern about it.
    Senator Cochran. I appreciate your response and the obvious 
interest you have in helping to change things so that it will 
be less likely, we hope not likely at all, for something like 
this to happen in the future.
    I wish there was some way that we could provide some kind 
of restitution, or through a request from the administration, 
Congress could provide you with some authorities to help do 
something to compensate these victims for this terrible scheme.
    Ms. Schapiro. Through the SIPC program, Madoff victims are 
entitled to recovery. It will not come anywhere close to 
replenishing the funds that many of them have lost or thought 
they had earned over many years of this Ponzi scheme. But I 
believe at this point, the SIPC trustee has paid out somewhere 
around $680 million, and the trustee has gathered about $1.5 
billion for distribution to victims. It is a long and difficult 
process, but it is well underway.
    Senator Cochran. Well, thank you very much.
    Senator Durbin. Senator Lautenberg.
    Senator Lautenberg. Welcome, Ms. Schapiro.
    Ms. Schapiro. Nice to see you again.
    Senator Lautenberg. Congratulations on the earnestness with 
which you have taken over this assignment. That was desperately 
needed because not only did people lose lots of money, but they 
lost faith in Government at the same time.
    Ms. Schapiro. Absolutely.

                          TIPS AND COMPLAINTS

    Senator Lautenberg. It is a subject of interest of mine 
over some years. I still sit on the board of the Columbia 
Business School, my alma mater, and in 2001 I was able to 
establish a chair at Columbia that called for better business 
ethics in corporate governance in 2001. And while I claim some 
clairvoyance, the fact of the matter is that to me, having come 
from the corporate world, I saw a situation developing that I 
found very discouraging. And we have seen it in the last years 
when looking back at the testimony given the people who served 
earlier, without direct criticism, that there were responses to 
questions that said, well, we just did not know. We were not 
aware with whistleblowers presenting fairly significant 
evidence of failures on the part of the SEC.
    Is that still a source of information? Do we still get that 
kind of information? What happens when you get something?
    Ms. Schapiro. Senator, we do in fact. We get hundreds of 
thousands of tips and complaints a year. One of the problems I 
discovered when I arrived last year was that they came in from 
many different sources, investors, other regulators, companies, 
other regulated entities, and they came in all over the SEC. 
And there was no mechanism to centralize this information, 
connect the dots that might provide useful information about a 
trend or a growing problem with a particular product or a 
trading strategy or a particular firm.
    So we spent the money that this subcommittee very 
generously gave this agency last year in technology dollars to 
begin to build a centralized repository for all the tips and 
complaints and referrals that come into the agency. That phase 
one is completed. The next phase is to add risk analytics to 
that, and we have created an Office of Market Intelligence in 
our Enforcement Division that is charged with the 
responsibility for knowing the data that is in there, 
understanding what creates the highest level of risk for the 
investing public, following up on those leads, triaging them, 
following up on them, tracking them, and making sure that we 
act on them as responsibly as we can.
    There are hundreds of thousands, and I would not sit here 
and tell you we will never miss another one. But we have done 
everything we can think to do.
    Senator Lautenberg. That is important. Could it be 
considered a fairly reliable source of inquiry that the SEC 
will look to these things? Because there was a pathetic 
response to why action was not taken in one case.
    Ms. Schapiro. Absolutely.
    Senator Lautenberg. I see that your budget request clearly 
identifies enforcement as SEC's top priority, and obviously, it 
is brought about by the years of neglect that preceded this.
    How do you stimulate your people to go after these things 
when the culture before was so neglectful? Are you able to keep 
track of what is going on there?

                       IMPROVING SEC ENFORCEMENT

    Ms. Schapiro. It is a great question. And I will tell you 
that I think--and I do not mean to sound Pollyannaish about 
this, but that the culture of the agency was maybe submerged a 
little bit over the last several years, but there is tremendous 
enthusiasm again for our enforcement role. We took the 
handcuffs off our Enforcement Division within 1 week after I 
arrived at the end of January last year. We told the 
enforcement staff that they could issue subpoenas without 
waiting for the five Commissioners to sit in a meeting and vote 
on it. It took months off the investigative process.
    We enabled our staff to go ahead and negotiate corporate 
penalties with public companies in enforcement cases instead of 
getting permission in advance from the Commission, again 
speeding up the process, empowering them to do their jobs.
    We created five specialized units of people with deep 
expertise and we are having tremendous success in recruiting 
people that will focus on specific areas and get deep and 
knowledgeable about structured products, asset management, 
insider trading, and market abuse, Foreign Corrupt Practices 
Act, and so forth. So we have these specialized units that are 
going to be far more efficient, I believe, in bringing cases.
    We took a layer of management out of the Enforcement 
Division and put hundreds of really talented people back on the 
front lines of doing the investigations and bringing cases.
    We have done the most significant restructuring of the 
enforcement program in 30 years, and I think we are already 
seeing it pay dividends in the level of complexity of cases 
that we are bringing. If you look at the major cases over the 
last year, they are quite extraordinary. And, also the number 
of cases. For example, in 2009 over 2008, we shut down twice as 
many Ponzi schemes far earlier than the Madoff scheme would 
ever have been shut down.

                    CORPORATE COMPENSATION PROGRAMS

    Senator Lautenberg. I would just ask the chairman, if I 
might take a moment from using and say that as you look at 
executive compensation, which I know is one of the things that 
you see--I ran a pretty good-sized company before coming here 
and was very conscious of things that we did to stimulate 
attitudes within the working population of the company, and 
when we put any money into the outside world to try and help 
us, we have effectively.
    To me, a year-end--a termination bonus, what not to be the 
mark--a mark based on the stock price, but based on what good 
the individual did for the company, and instead of paying a 
bonus immediately, trail it out over maybe a 5-year period and 
say if the company achieved certain marks after you have been 
here, that is when the big bonuses ought to come. And I do not 
know what right you have at the SEC to make the recommendations 
on that basis or even to think about it.
    Ms. Schapiro. Senator, while I do not think we can dictate 
the terms of compensation arrangements, we did approve new 
rules in January that are in effect for this current proxy 
season that require the board of directors to explain to 
shareholders how they compensate risk-taking within the 
corporation and whether their compensation programs broadly, 
for all employees, not just the top five, might incentivize 
short-term risk-taking, how the board handles risk within the 
organization more broadly, as well as some others that we call 
proxy enhancements.
    It is disclosure based, as much of our rules are, but I 
think it is forcing boards to really think about what do they 
want to say about their compensation programs and how do they 
want to explain the linkage between compensation and risk which 
we have seen over the financial crisis to be a strong link and 
one that had very deleterious effects at the end of the day.
    Senator Lautenberg. I am glad to see that there is some 
fire in the belly over there.
    Ms. Schapiro. There is much fire.

            CHIEF COMPLIANCE OFFICER WITHIN SEC ORGANIZATION

    Senator Durbin. Chairman Schapiro, you announced the 
appointment of a new chief compliance officer to serve as the 
internal watch dog to monitor security holdings and 
transactions by your own employees and, in your own words, said 
that this had to be a world-class compliance program just as we 
expect from those we regulate.
    There was an article that followed that decision, once they 
found out where this compliance officer would be standing on 
the pecking order or the administrative stair steps of your 
agency. There was a concern that this person really did not 
report--was in a post buried within the Office of Ethics 
Council, did not have an independent status, and did not report 
to you or another high-ranking official. The question was 
raised as to whether or not this really was a world-class 
attempt to deal with a serious problem that might involve some 
conflict of interest within your own agency.
    Ms. Schapiro. Senator, let me address this because I think 
the article was actually quite off the mark.
    When I arrived at the SEC, I was surprised, I will say, to 
learn that there was not a system for monitoring employees' 
stock transactions, and I had come from an organization where 
we had quite a rigorous one. So I immediately brought in a 
contractor to help us develop a system that requires every 
employee to enter all of their stock holdings and all of their 
securities accounts into a centralized system. It enables 
employees to pre-clear any trades and ultimately will receive 
directly from brokerage firms duplicate copies of employees' 
statements.
    At the same time, we are working with the Office of 
Government Ethics to bolster the existing rules that apply 
across the Government and no employee will be permitted to 
trade in the stock of any company under investigation by the 
SEC, whether or not they have any knowledge of it at all. That 
will also require preclearance and certification that they have 
access to no nonpublic material information about those 
companies. We are negotiating those rules out with the Office 
of Government Ethics right now.
    The person we hired is responsible for that system. We have 
an entire Office of Ethics within the SEC. I meet with them 
regularly. In fact, I met with the new compliance officer this 
morning. But her responsibility is with respect to that system. 
It is not a chief compliance officer in the sense of one in a 
brokerage firm, which I think that article was trying to 
equate.
    Senator Durbin. So can this person report directly to you?
    Ms. Schapiro. She could. In fact, I met with her yesterday, 
and she knows my door is open to her at any time.
    Because she is responsible for managing the system within 
the context of the many other ethical reviews that go on within 
the agency, it made sense to put her in the Office of the 
General Counsel. I would have no problem changing the reporting 
line. I think she will actually get more attention, though, and 
more focus there, and she knows she can come to me anytime, 
frankly, as every employee does on any issue that is of concern 
to them.

                         STANFORD PONZI SCHEME

    Senator Durbin. Let me ask you about the report that was 
released on April 16 from the Inspector General's Office about 
the Stanford case and the fact that this case was--Allen 
Stanford was indicted last year by the SEC in a $7 billion 
fraud case, accused of fleecing more than 21,000 people, 
primarily through the sale of a prized investment, 
certification of deposits issued by his bank headquarters in 
Antigua, and then sold at a brokerage.
    The SEC's Fort Worth office was aware since 1997 that 
Robert Allen Stanford was likely operating a Ponzi scheme. But 
as the inspector general report states, no meaningful effort 
was made by enforcement to investigate. SEC agents began 
looking at Stanford's companies in 1998, 2002, and 2004, but 
dropped their efforts. The inspector general report also said 
SEC supervisors were more interested in quicker turnaround 
cases at the time, not the kind of examinations needed to look 
into a complex entity like Stanford. And to make it worse, the 
former chief of enforcement at SEC's Fort Worth office who 
helped quash the inquiries later went to work for Stanford in 
2006 before he was told by the SEC to stop because it ``was 
improper to do so.''
    Like the case of Madoff, the scathing report offers another 
reminder of potential breakdowns in regulatory oversight. I 
recognize that these circumstances like the Madoff situation 
preceded your arrival. Yet, cases like this can fester and then 
bubble up to surface years later.
    What controls does the SEC have in place now that would 
ensure that a disturbing mess like the Madoff and Stanford 
cases do not reoccur? What else should be done to make sure 
that they do not?
    Ms. Schapiro. Senator, let me speak specifically to 
Stanford because I have talked quite a bit about all the 
changes that we have put in place with respect to Madoff, 
although I am happy to discuss those in much more detail.
    With respect to the conduct that was discussed by the 
inspector general in the Stanford case, there were many missed 
opportunities, without a doubt, in that 1997 to 2005 period 
before the agency took Stanford up seriously and earnestly to 
have done something. I was not there, so I do not truly 
understand what happened.
    I will tell you that we have new leadership across the 
board in this agency, in the inspections program, as well as in 
the enforcement program. We have created escalation committees 
so that if an examiner believes that they have found something 
that is a real problem and they are not getting the response 
when they refer it over to the Enforcement Division that they 
want, they take it to an escalation committee and that will go 
all the way up into the senior ranks of the organization.
    We have new management reporting metrics that have been put 
in place in the Enforcement Division and regular review of open 
matters in both the examinations group and the enforcement 
group so that we can be sure things are not sitting for a long 
time.
    Decisions will be made sometimes to shut down a matter 
because there is not sufficient evidence, and we could miss 
something by doing that. But it has to be a conscious decision 
based on the evidence that is in front of people at the time. 
It cannot be because of neglect that something has not been 
pursued.
    So I think between the leadership changes, the structural 
changes within enforcement, the structural changes that I 
anticipate we will be announcing in the inspections group 
before very long, the creation of the escalation committees, 
and the new reporting mechanisms within the divisions, I am 
hopeful that we will never have a repeat of that incident.

                 OVERSIGHT BY APPROPRIATIONS COMMITTEE

    Senator Durbin. Let me say in closing, before turning it 
over to Senator Collins, the questions I have asked you today 
have been pointed. They have involved issues that are important 
and controversial. It is part of our responsibility on this 
side of the table with the oversight of your agency to ask 
those questions. There are some in the Senate now who want us 
to be taken out of this process. They do not want these 
questions to be asked, and I think that is wrong. We have a 
responsibility to make sure that you do your job and do it well 
and provide you with the resources to accomplish your goals, 
and the notion that the oversight of the Appropriations 
Committee is unnecessary for an agency as important as the 
Securities and Exchange Commission is just plain wrong. And I 
hope that we can continue a positive, constructive relationship 
providing you the resources and support you need, but you can 
count on this. As long as this Appropriations Committee is 
involved, each year you will face questions that get to the 
heart of your activities and be held accountable as we are held 
accountable.
    Ms. Schapiro. Senator, I appreciate that. I always endeavor 
to be completely transparent about what is happening at the 
SEC, what I see that is wrong, and how I am trying to fix it. 
This is an institution that must always learn from its 
mistakes, and that is my commitment to you. I will answer your 
questions.
    Senator Durbin. Make no mistake. I still have confidence in 
your leadership, but we have a responsibility on our side of 
the table as well.
    Ms. Schapiro. I understand.
    Senator Durbin. Senator Collins.
    Senator Collins. Mr. Chairman, let me first wholeheartedly 
agree with the statements that you just made. I am going to 
bring up one of those kinds of questions right now too.

                    GLOBAL SECURITY RISK MANAGEMENT

    In 2004, at the direction of Congress, the SEC established 
the Office of Global Security Risk Management, and this was 
created--and probably the chairman was involved because I know 
this is an issue that has mattered to him for a long time. It 
was created to protect investors from the risk associated with 
investing in companies doing business in nations that are 
designated as state sponsors of terrorism by the Department of 
State.
    But the office within the SEC has failed to vigorously 
carry out its mandate. Its most important mandate is to ensure 
that all companies that are sold on American exchanges that 
operate in those countries are disclosing their activities to 
investors. I know the chairman and I have supported legislation 
that has allowed State pension funds to divest their holdings 
in such cases.
    Why has the SEC not been more aggressive in following 
through by issuing regulations to ensure that corporations do 
disclose the information about their activities in such 
countries to their investors?
    Ms. Schapiro. Senator, the Office of Global Security Risk, 
as you point out, was created in 2004. In that period between 
then and now, that office has reviewed about 800 corporate 
filings that disclose doing business on some level with Iran, 
Syria, Sudan, or Cuba that are on the State Department list.
    The disclosure requirements are based on materiality, and 
that is something we could change. But there is not a separate 
line item disclosure for any level of business with one of 
those countries. So we look at materiality both quantitatively 
and qualitatively--the amount of the business that is done with 
one of those countries relative to the size of the company. Is 
it humanitarian or is it potentially business that could have a 
military application, for example? Is the business continuous 
or isolated? Is there just one instance and so forth? So we do 
this materiality analysis, and if the staff determines that the 
contact with one of these countries is material, then 
disclosure is required.
    We could look at--in fact, I will tell you we are looking 
at whether this should be line item disclosure without regard 
to the materiality of the business conduct between the public 
company and one of these four nations that are currently on the 
list.

                    DISCLOSURE AND MATERIALITY TEST

    Senator Collins. Well, let me follow up on that because I 
am told that in November 2007, the SEC issued a concept release 
seeking comment on whether to develop a better mechanism to 
allow investors to have better disclosures in this area and 
that the comment period ended in January 2008 and that the SEC 
has taken no action since that time.
    Ms. Schapiro. I have asked the staff to----
    Senator Collins. Is that incorrect?
    Ms. Schapiro [continuing]. Go back to that. Again, as I 
said, we are looking at whether line item disclosure here as 
opposed to our normal you must disclose material risks to the 
business or material levels of business in this regard.
    Senator Collins. But why has there been no action for 2 
years since the comment period--more than 2 years?
    Ms. Schapiro. I think there has been a general view that 
our disclosure system is about disclosure that helps people 
make investment decisions and make the right decision about 
purchasing or selling a financial asset, and that if it is a de 
minimis amount of business that is being done with respect to 
one of these countries, does it meet either the qualitative 
materiality or the quantitative materiality standards, that it 
will not be useful disclosure. As I said, we are revisiting 
that issue now.
    Senator Collins. Well, what I would say is I think you have 
a good point about de minimis business, but you ought to 
complete the work on it so that investors do have access to 
that information because there are many investors who will not 
want to do business with a company or will not want to buy 
shares in a company that is doing business with one of these 
countries.
    Ms. Schapiro. And if I could just add one thing because you 
mentioned the law with respect to divestiture. Our very recent 
filing reviews show that two mutual funds, CREF and Old Mutual, 
have actually relied on that safe harbor to divest themselves 
of stocks of companies doing business in the Sudan. So I think 
that is very good news.
    Senator Collins. I do too.

                   FIDUCIARY DUTIES OF BROKER-DEALER

    Yesterday, as you know, at the hearings on Goldman Sachs, I 
asked what I thought was a pretty straightforward question to 
several of the bankers. I asked them whether they considered 
themselves to have a duty to act in the best interests of their 
clients, the kind of fiduciary obligation that investment 
advisors have. And to say that they danced around and evaded 
answering my question would be an understatement. But the fact 
is that the law currently does not impose that kind of 
fiduciary obligation on broker-dealers.
    In your judgment, should the law impose a fiduciary 
obligation on broker-dealers?
    Ms. Schapiro. It absolutely should, and we have been 
strongly advocating for the regulatory reform bill to require 
that both investment advisors--and we have discussed this in a 
retail context, I will say, not with respect to the discussions 
this week about large institutional investors. But at a 
minimum, when you are dealing with the retail public, they are 
entitled to know that the financial services professional 
sitting across the table from them puts their, the customer's, 
interest first ahead of their own in all circumstances. There 
are some conflicts that perhaps can be disclosed. There are 
some conflicts that cannot be disclosed away in my view.
    The duty that exists on the investment advisory side does 
not exist clearly on the broker-dealer side, and we need the 
law to make this a uniform fiduciary duty, and I am very 
hopeful that the Senate bill which does not have that provision 
right now will emerge with that provision in place. Right now 
we are required under the Senate bill to do a study. We are 
happy to study the issue, although I will say the SEC 
contracted with the RAND Corporation several years ago to do a 
study of this issue. So there is lots of work out there.
    We will look at it again, but we would hope that when a 
study is done, it would trigger our ability to write the rules 
that would create a fiduciary duty if the study suggested that 
that is what is necessary. My personal bias, I will tell you 
out of the box, is that that is necessary.
    Senator Collins. In writing this new rule, if we did, 
should we distinguish between individual retail investors for 
whom having that obligation is perhaps even more important 
because they are less sophisticated arguably than most 
institutional investors, or should it apply across the board?
    Ms. Schapiro. I think in the first instance, we have got to 
take care of retail investors. This is really a disgraceful 
situation in many ways.
    But I would also note that in the Senate Agriculture 
Committee bill, there is a fiduciary duty that swap dealers owe 
to pension plans and municipalities, and that seems to me to be 
a very good idea.
    So I think we could step this up over time to be broader, 
but I would start very clearly with retail.
    Senator Collins. Thank you.
    If you would provide me with a copy or provide the 
subcommittee with a copy of the RAND study, that would be 
helpful to us.
    Ms. Schapiro. I would be happy to do that.
    [The information follows:]

    The Rand Report on Investor and Industry Perspectives on 
Investment Advisers and Broker-Dealers can be found at the 
following website address: http://www.rand.org/pubs/
technical_reports/TR556.html.

    Senator Collins. Mr. Chairman, I apologize for exceeding my 
time.
    I am going to submit a question on Allied Capital, that 
case which was also criticized by the inspector general, for 
the record and some other questions as well.
    But thank you for the additional time.
    Senator Durbin. Senator Collins, thank you very much.
    And let me just also say that I applaud your last line of 
questioning and believe that you have really touched on 
something that is absolutely essential. Maybe we can find some 
bipartisan ground to share here on this. I think I could 
support your effort, and I am glad to hear that the chairman 
believes it is a wise undertaking. So maybe we can build on 
that.

                     ADDITIONAL COMMITTEE QUESTIONS

    The record of this subcommittee is going to be open until 
next Wednesday, so we may submit some written questions, and 
other members may join us.
    In the meantime, thank you so much for being with us today.
    Ms. Schapiro. Thank you.
    Senator Durbin. Keep up your good work.
    Ms. Schapiro. Thank you.
    [The following questions were not asked at the hearing, but 
were submitted to the Commission for response subsequent to the 
hearing:]

              Questions Submitted by Senator Thad Cochran

    Question. There is a proposal in the financial reform bill that 
would make the SEC self-funded through the fees that it recovers. This 
effectively would exempt the SEC from Congressional appropriations and 
budgetary oversight. Before Congress decides to give up its 
constitutional responsibilities for directing Federal spending and 
providing necessary oversight over the Executive branch, we ought to 
know exactly what circumstances justify such an exemption for the SEC. 
What do you think those circumstances are?
    It seems to me that, now more than ever, Congressional oversight is 
needed to ``regulate the regulators'' and to hold accountable those 
regulators who fail to do their jobs correctly. The SEC made many 
mistakes during the financial crisis. Recent reports by the Inspector 
General and others show that these problems were caused by 
mismanagement at the SEC, and not by any funding shortages. Shouldn't 
Congress demand even more accountability of the SEC, rather than 
allowing the SEC to freely spend a greatly expanded budget?
    Answer. As you know, the final Dodd-Frank Act that became law on 
July 21, 2010 did not include the self funding provision. That said, 
the Dodd-Frank Act does contain several funding reforms that I believe 
are very positive for the SEC. These improvements to the funding 
process should ensure appropriate Congressional oversight while 
addressing important issues regarding the agency's funding. In 
particular, I am pleased that the Act will permit the SEC to provide 
information directly to the Committee regarding our funding 
requirements. I believe this enhanced communication will complement the 
ongoing Congressional oversight. I fully support these funding reforms 
and ensuring full transparency by the agency.
    Question. The Office of the Inspector General identified several 
problems at the SEC, following its investigation of Stanford Financial. 
None of these involved inadequate funding or inadequate staffing at the 
SEC. Other recent reports identified senior-level employees using SEC 
computers to view pornography for hours a day when they should be 
protecting investors, and enforcement officials refusing to pursue 
novel or more complicated cases. None of this suggests that if we give 
the SEC more funding, or the ability to fund itself, that the SEC's 
competence would improve as a result. Can you explain why Congress 
should give so much deference to the SEC, when it is plagued by these 
failures and mismanagement?
    I am very troubled by the Inspector General's report on Stanford 
Financial. Many Mississippians and other Americans lost their life 
savings by investing in what were freely marketed as safe, Certificate-
of-Deposit investments. Dating back to 1997, the SEC's Fort Worth 
Examination Group repeatedly requested that an enforcement action be 
brought against Stanford Financial. That was over 12 years before the 
SEC actually brought an enforcement action. The Inspector General found 
serious managerial, cultural, and performance-based problems at the 
SEC, which led to this terrible failure. First, what are you doing to 
help compensate the victims of the Stanford Financial fraud? And 
second, what steps are you taking to ensure that the performance 
problems identified in the Inspector General's report are corrected at 
the SEC?
    Answer. The SEC is taking the situation of Stanford victims very 
seriously. In addition to working aggressively to maximize recovery to 
investors harmed by the Stanford fraud, Commission staff is studying 
all the facts relating to the Stanford case with respect to whether a 
legal basis exists for a SIPA liquidation of the registered broker-
dealer, the Stanford Group Company. As part of this review, I have met 
with representatives of the Stanford Victims Coalition, and Commission 
staff also has met with a number of Stanford victims to discuss this 
matter. We continue to review the facts of the case to determine 
whether there is a statutory basis for providing SIPC coverage to the 
victims, and will continue to work with Congress in this regard.
    With respect to the conduct that was discussed by the inspector 
general in the Stanford case, there were clearly many missed 
opportunities in the 1997 to 2005 period covered by the report. Since 
that time, much has changed regarding the agency's leadership, its 
internal procedures and its culture of collaboration. Even before the 
IG's report, the agency had taken a number of steps which address the 
concerns raised in the report. These steps include:
  --Establishing escalation procedures and revamping the process for 
        handling tips, complaints and referrals.
  --Changing performance metrics so that quantity does not trump 
        quality.
  --Streamlining approval procedures in enforcement investigations.
  --Establishing and consistently applying factors for referring 
        matters to others agencies.
  --Making effective use of other resources within the agency, such as 
        economic and international experts.
  --Training Enforcement Division staff on potential remedies available 
        under the laws applicable to both investment advisers and 
        broker-dealers.
  --Sensitizing employees who leave the organization to their ongoing 
        restrictions.
                                 ______
                                 
              Questions Submitted by Senator Susan Collins

    Question. An Inspector General report found that the SEC did not 
properly pursue allegations made against Allied Capital, but instead 
went after the hedge fund manager who challenged the value of Allied 
Capital's investments. This allegedly occurred after heavy lobbying by 
Allied, who was represented by a former SEC official. These actions 
raise concerns about how decisions are made at the agency about 
bringing and conducting investigations.
    What procedures and criteria does the Enforcement Division use to 
review and approve new investigations?
    Answer. The Division pursues all information it receives concerning 
potential violations of the Federal securities laws and Commission 
rules. We generate and receive leads for new investigations through a 
variety of efforts, including research, market surveillance, 
examination referrals, and observation by Division staff. We also 
receive tips and other information from outside the Division and 
outside the agency.
    Upon receipt of a Tip, Complaint or Referral (``TCR''), the 
Division's Office of Market Intelligence analyzes TCRs and triages the 
information provided, sometimes in consultation with other Divisions 
and Offices, to determine whether the information provided (along with 
any other similar information already available to the Commission) 
alleges a potential violation of the Federal securities laws or 
Commission Rules such that further review by an investigative group is 
warranted. If the information warrants further review, the Office of 
Market Intelligence assigns the TCR to an investigative group that, 
among other things, analyzes the information to determine programmatic 
significance and resource availability.
    When the investigative staff generates information or receives a 
TCR concerning potential violative conduct, the investigative staff 
determines whether to open a Matter Under Inquiry (``MUI'') based on 
whether a sufficiently credible source or set of facts suggests that a 
MUI could lead to an enforcement action that would address a violation 
of the Federal securities laws. Basic considerations used when making 
this determination may include, but are not limited to:
  --The statutes or rules potentially violated;
  --The egregiousness of the potential violation;
  --The potential magnitude of the violation;
  --The potential losses involved or harm to an investor or investors;
  --Whether the potentially harmed group is particularly vulnerable or 
        at risk;
  --Whether the conduct is ongoing;
  --Whether the conduct can be investigated efficiently and within the 
        statute of limitations period; and
  --Whether other authorities, including Federal or State agencies or 
        regulators, might be better suited to investigate the conduct.
    While the threshold analysis for opening a MUI is relatively low, 
determining whether the MUI should be converted to an investigation or 
whether to open an investigation, is typically a more detailed 
evaluation that is based on additional information. The evaluation for 
whether to convert a MUI to an investigation (or open an investigation) 
turns on whether, and to what extent, the investigation has the 
potential to address violative conduct. Threshold issues for the 
investigative staff to consider when evaluating the facts include: (1) 
Do the facts suggest a possible violation of the Federal securities 
laws involving fraud or other serious misconduct? (2) If yes, is an 
investment of resources by the staff merited by: (a) the magnitude or 
nature of the violation, (b) the size of the victim group, (c) the 
amount of potential or actual losses to investors, (d) for potential 
insider trading, the amount of profits or losses avoided, or (e) for 
potential financial reporting violations, materiality? (3) If yes, is 
the conduct: (a) ongoing, or (b) within the statute of limitations 
period?
    In addition to the threshold issues above, one way to determine 
whether the conduct is serious is to consider the following 
supplemental factors:
  --Is there a need for immediate action to protect investors?
  --Does the conduct undermine the fairness or liquidity? of the U.S. 
        securities markets?
  --Does the case involve a recidivist?
  --Has the SEC or Division designated the subject matter to be a 
        priority?
  --Does the case fulfill a programmatic goal of the SEC and the 
        Division?
  --Does the case involve a possibly widespread industry practice that 
        should be addressed?
  --Does the matter give the SEC an opportunity to be visible in a 
        community that might not otherwise be familiar with the SEC or 
        the protections afforded by the securities laws?
  --Does the case present a good opportunity to cooperate with other 
        civil and criminal agencies?
    Both senior management and frontline staff participate in the 
analysis to determine whether to open a MUI, to convert a MUI into an 
investigation, or to open an investigation. Leveraging the skill sets 
and experience of staff and management ensures that Division resources 
are efficiently utilized in the investigation of enforcement matters. 
This process gives the Division the ability to have a unified, 
coherent, coordinated response to the huge volume of information we 
generate or receive every day, thereby enhancing the Division's ability 
to open the right investigations, bring solid cases, and more 
effectively protect investors.
    Question. How does the Commission evaluate the implementation of 
these procedures to ensure that the division is managing its operations 
efficiently?
    Answer. Managing the flow of information into and throughout the 
Division is critical to effective operations within the Division. We 
have established systems and procedures that enable senior management 
to track a host of critical elements including the flow of information 
and the progress of investigations. For example, TCRs are now logged 
into a single, searchable database system. This allows management to 
track TCRs to ensure that each TCR is appropriately referred to the 
investigative staff, or otherwise resolved. The staff has been 
instructed as to procedures for memorializing their resolution 
decisions, which ensures that there is a record that can be audited.
    Simultaneously, we have been working on a new intake and resolution 
system that will allow us to capture even more information about TCRs. 
The new system will provide more robust search capabilities so that 
TCRs can be better assessed or triaged. In addition, this new system 
will add enhanced workflow abilities so we can track how TCRs are being 
used throughout the agency. We expect to deploy this system later this 
year. Meanwhile, we also are in the early stages of designing the third 
phase of this system, which will add risk analytics tools to help us 
quickly and efficiently identify high value tips and search for trends 
and patterns across the data.
    We have also enhanced our ability to manage workflow to improve the 
oversight of our investigations. Senior management tracks all MUIs and 
investigations within the Division to ensure that resources are 
allocated appropriately, MUIs and investigations are conducted 
efficiently, and enforcement recommendations, or other resolutions, are 
completed timely. A bi-weekly report on MUI openings allows senior 
management to closely track new matters. Investigations are reviewed on 
a quarterly basis by senior management and the investigative staff. 
This review process ensures that robust investigative theories are 
developed, potential obstacles are identified early, and investigations 
advance appropriately. The quarterly review process also increases the 
Division's opportunities to coordinate enforcement efforts with other 
agencies.
    Additionally, senior management designates certain investigations 
as National Priority investigations; these include, among others, cases 
of potential programmatic significance, where the alleged misconduct 
occurred in connection with products, markets, transactions or 
practices that pose particularly significant risks for investors or a 
systemically important sector of the market. The Office of the Director 
tracks National Priority investigations on a monthly basis to ensure 
swift and efficient resolution of these matters. The Director routinely 
meets with investigative staff and management assigned to each matter 
designated as a National Priority investigation.
    In addition to the systems and procedures to manage TCRs and the 
progression of MUIs and investigations, the Division has implemented 
several methods to track routine investigative benchmarks such as 
issuing subpoenas, taking testimony, and making recommendations to the 
Commission. We implemented a practice whereby the staff must obtain the 
Director's approval before requesting an extension of a tolling 
agreement. Division management uses a Dashboard metric to continually 
measure the progress of the Division and we compare our progress to 
both our internal goals and past results.

                          SUBCOMMITTEE RECESS

    Senator Durbin. The subcommittee stands in recess.
    [Whereupon, at 4:08 p.m., Wednesday, April 28, the 
subcommittee was recessed, to reconvene subject to the call of 
the Chair.]
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