[House Hearing, 112 Congress]
[From the U.S. Government Publishing Office]




 
                EXAMINING THE IMPACT OF THE VOLCKER RULE
                   ON MARKETS, BUSINESSES, INVESTORS
                       AND JOB CREATION, PART II

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

                                HEARING

                               BEFORE THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                      ONE HUNDRED TWELFTH CONGRESS

                             SECOND SESSION

                               __________

                           DECEMBER 13, 2012

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 112-164



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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                   SPENCER BACHUS, Alabama, Chairman

JEB HENSARLING, Texas, Vice          BARNEY FRANK, Massachusetts, 
    Chairman                             Ranking Member
PETER T. KING, New York              MAXINE WATERS, California
EDWARD R. ROYCE, California          CAROLYN B. MALONEY, New York
FRANK D. LUCAS, Oklahoma             LUIS V. GUTIERREZ, Illinois
RON PAUL, Texas                      NYDIA M. VELAZQUEZ, New York
DONALD A. MANZULLO, Illinois         MELVIN L. WATT, North Carolina
WALTER B. JONES, North Carolina      GARY L. ACKERMAN, New York
JUDY BIGGERT, Illinois               BRAD SHERMAN, California
GARY G. MILLER, California           GREGORY W. MEEKS, New York
SHELLEY MOORE CAPITO, West Virginia  MICHAEL E. CAPUANO, Massachusetts
SCOTT GARRETT, New Jersey            RUBEN HINOJOSA, Texas
RANDY NEUGEBAUER, Texas              WM. LACY CLAY, Missouri
PATRICK T. McHENRY, North Carolina   CAROLYN McCARTHY, New York
JOHN CAMPBELL, California            JOE BACA, California
MICHELE BACHMANN, Minnesota          STEPHEN F. LYNCH, Massachusetts
KEVIN McCARTHY, California           BRAD MILLER, North Carolina
STEVAN PEARCE, New Mexico            DAVID SCOTT, Georgia
BILL POSEY, Florida                  AL GREEN, Texas
MICHAEL G. FITZPATRICK,              EMANUEL CLEAVER, Missouri
    Pennsylvania                     GWEN MOORE, Wisconsin
LYNN A. WESTMORELAND, Georgia        KEITH ELLISON, Minnesota
BLAINE LUETKEMEYER, Missouri         ED PERLMUTTER, Colorado
BILL HUIZENGA, Michigan              JOE DONNELLY, Indiana
SEAN P. DUFFY, Wisconsin             ANDRE CARSON, Indiana
NAN A. S. HAYWORTH, New York         JAMES A. HIMES, Connecticut
JAMES B. RENACCI, Ohio               GARY C. PETERS, Michigan
ROBERT HURT, Virginia                JOHN C. CARNEY, Jr., Delaware
ROBERT J. DOLD, Illinois
DAVID SCHWEIKERT, Arizona
MICHAEL G. GRIMM, New York
FRANCISCO ``QUICO'' CANSECO, Texas
STEVE STIVERS, Ohio
STEPHEN LEE FINCHER, Tennessee
FRANK C. GUINTA, New Hampshire

           James H. Clinger, Staff Director and Chief Counsel


                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    December 13, 2012............................................     1
Appendix:
    December 13, 2012............................................    45

                               WITNESSES
                      Thursday, December 13, 2012

Barth, James R., Lowder Eminent Scholar in Finance, Auburn 
  University; Senior Finance Fellow, Milken Institute; and 
  Fellow, Wharton Financial Institutions Center..................     9
Hambrecht, William R., Chairman, WR Hambrecht + Co...............    11
Kelleher, Dennis M., President and Chief Executive Officer, 
  Better Markets, Inc............................................    13
Plunkett, Jeffrey, General Counsel and Executive Vice President, 
  Natixis Global Asset Management, on behalf of the Association 
  of Institutional INVESTORS.....................................    15
Quaadman, Thomas, Vice President, Center for Capital Markets 
  Competitiveness, U.S. Chamber of Commerce......................    16
Stevens, Paul Schott, President and Chief Executive Officer, the 
  Investment Company Institute (ICI).............................    18

                                APPENDIX

Prepared statements:
    King, Hon. Peter.............................................    46
    Barth, James R...............................................    47
    Hambrecht, William R.........................................    55
    Kelleher, Dennis M...........................................    62
    Plunkett, Jeffrey............................................    81
    Quaadman, Thomas.............................................   125
    Stevens, Paul Schott.........................................   137

              Additional Material Submitted for the Record

Frank, Hon. Barney:
    BreakingNews article entitled, ``Too big to fail looks on its 
      way to being licked,'' dated December 13, 2012.............   161
Hayworth, Hon. Nan:
    Written statement of the American Council of Life Insurers 
      (ACLI).....................................................   162
    Written statement of BBVA Compass............................   165
    Written statement of the Bond Dealers of America (BDA).......   172
    Written statement of the Institute of International Bankers 
      (IIB)......................................................   177
Miller, Hon. Brad:
    Public Citizen report entitled, ``Business as Usual,'' dated 
      December 2012..............................................   180


                        EXAMINING THE IMPACT OF
                      THE VOLCKER RULE ON MARKETS,
                       BUSINESSES, INVESTORS AND
                         JOB CREATION, PART II

                              ----------                              


                      Thursday, December 13, 2012

             U.S. House of Representatives,
                   Committee on Financial Services,
                                                   Washington, D.C.
    The committee met, pursuant to notice, at 9:01 a.m., in 
room 2128, Rayburn House Office Building, Hon. Spencer Bachus 
[chairman of the committee] presiding.
    Members present: Representatives Bachus, Hensarling, Royce, 
Capito, Garrett, Pearce, Posey, Fitzpatrick, Luetkemeyer, 
Huizenga, Duffy, Hayworth, Renacci, Hurt, Dold, Schweikert, 
Canseco, Stivers, Fincher; Frank, Waters, Maloney, Watt, Meeks, 
Capuano, Baca, Lynch, Miller of North Carolina, Green, Cleaver, 
Perlmutter, Himes, and Carney.
    Chairman Bachus. Good morning. We started this hearing at 9 
a.m., instead of 10 a.m., because we didn't want votes to 
interrupt what we consider to be a very important hearing. The 
hearing will now come to order.
    As previously agreed with the ranking member, there will be 
10 minutes on each side for the purpose of making opening 
statements. And without objection, all Members' written 
statements will be made a part of the record, as well as the 
witnesses, your entire statements will be made a part of the 
record.
    I recognize myself for 5 minutes for the purpose of making 
an opening statement. This morning, the committee holds its 
second hearing focused exclusively on the Volcker Rule and, 
specifically, its impact on the markets, investors, and job 
creation. [The first hearing was held on January 18, 2012. 
Serial No. 112-95.] The Massachusetts Educational Finance 
Authority has warned regulators in its comment letter of 
February 13th that the Volcker Rule would increase funding 
costs for the authority's bonds, which ``would be passed along 
to consumers funding higher education expenses through their 
loan program.''
    In a February 14th comment letter to regulators, the 
Financial Executives International, which represents corporate 
treasurers of both public and private companies, wrote that the 
Volcker Rule as proposed could adversely affect the ability of 
American businesses to grow, create jobs, and contribute to 
healthy economic recovery.
    Putnam Investments also cautioned regulators in their 
comment letter that the consequences of the Volcker Rule ``may 
range from reduced liquidity in U.S. capital markets in harming 
their global competitiveness to raising the cost of capital to 
U.S. corporations, lowering returns to investors, and curbing 
the American economy's capacity to grow.''
    The Volcker Rule is designed to prevent proprietary trading 
by banks. But no one, not even Paul Volcker himself, argues 
that proprietary trading was a cost of the financial crisis. 
The erosion of lending standards and the Federal Government's 
poorly conceived efforts to subsidize mortgage lending caused 
the financial crisis, not proprietary trading. Therefore, the 
Volcker Rule sticks out as an oddly considered afterthought, a 
solution in search of a problem.
    Even if one attempted to argue that proprietary trading 
played a role in causing the financial crisis, and even if 
banning proprietary trading would make the financial system 
safer--propositions, by the way, that are simply not supported 
by the evidence--the prospect that regulators have been unable 
to agree on a single version of the Volcker Rule is extremely 
troubling.
    Competing versions of the Volcker Rule will make it all the 
more difficult for market participants to know what their 
obligations are and how to comply with them, particularly if 
they find themselves subject to conflicting obligations 
enforced by different regulators. The Volcker Rule, or even 
worse, rules, will not make the financial system any safer. But 
as I said, it will impose significant costs on consumers, 
workers, savers, students, taxpayers, and businesses.
    It will stifle the growth of businesses that operate far 
from Wall Street, and it will hamper the ability of asset 
managers, pension funds, and insurance companies to grow the 
value of their portfolio for millions of individual investors, 
or retirees. The Volcker Rule is a self-inflicted wound that 
should be repealed. Unfortunately, the 112th Congress did not 
do that. Hopefully, the 113th Congress will do so.
    I thank all of the witnesses for being here today to offer 
their perspectives, and I look forward to the discussion we 
will have on this important topic.
    At this time, I recognize the ranking member for his 
opening statement.
    Mr. Frank. Thank you, Mr. Chairman.
    I will yield myself such time as I may consume, because I 
want to consult with my colleagues about their time. I will say 
that this is a very important subject, but not all of the 
Members are at this point in the spirit of full participation 
in the legislative process. That means no disrespect to those 
who have honored us by coming here this morning.
    I want to talk about the Volcker Rule in the context of the 
broader question of bank regulation. I understand my colleagues 
on the Republican side, this is part of their general approach, 
that very little needs to be done after the financial crisis of 
2008 and 2009, and I am particularly struck by what seems to be 
great inconsistency. Many of the Republicans, some of the 
critics of our legislation, have complained that we didn't do 
anything about the too-big-to-fail doctrine, quite contrary to 
the written language. And some have said, well, maybe the banks 
are too big. The argument is, as long as they are as big as 
they are, probably too-big-to-fail is inevitable. One of the 
things that has been proposed that I believe will go into 
effect to reduce the size of the banks is the Volcker Rule, and 
it does it, I believe, in a thoughtful way.
    It reduces them not by some arbitrary order by the 
government to sell things off, not to create a fire sale of 
financial assets, which I think would be the result of some of 
the demands that they simply reduce; it does so in a functional 
way.
    Now, I do want to address the notion that this will put us 
at a competitive disadvantage. To some extent, my friends in 
the financial institutions have taken as their model the 14-
year-old child of divorced parents, who thinks they can play 
mommy against daddy and get a great deal more freedom in their 
minds.
    When I hear Americans talk about how restrictive the 
Volcker Rule will be, it sounds like what the British are 
telling the British authorities about ring-fencing. In fact, I 
think there was a good deal of coordination and I doubt very 
much that we are going to be far in advance, for instance, of 
the British or even the EU with regard to this kind of 
separation. It is simply an effort to, as I said, play one 
against the other. It is a functional way to reduce.
    And I want to address this because it is a question I want 
to ask some of my friends when they say that we have not dealt 
with too-big-to-fail appropriately. The Volcker Rule in context 
is one of the ways to do this. And I was particularly moved to 
say that by an article in Politico yesterday, which is in many 
ways as close to 100 percent inaccurate as it is possible 
linguistically to get. And I believe I have complied with the 
Rules of the House in saying that. For example, it begins--and 
this is not one of my colleagues--the author says, the 
government's decision to bail out AIG in 2009--wrong by a year 
and a critical year. In 2009, Barack Obama was President. In 
2008, when AIG was bailed out, it was bailed out by the 
unilateral decision by the Federal Reserve with the full 
concurrence of the Bush Administration. It was under Section 
13.3 of the Federal Reserve Act.
    Mr. Bernanke and Mr. Paulson, I mean no criticism of them; 
I think they behaved very well during this. Many of us on the 
Democratic side were more supportive of the crisis efforts of 
President Bush and his aides than my Republican colleagues. And 
it was an example of full bipartisanship. I have to say a month 
before the 2008 election, the Bush Administration got complete 
cooperation from the Democrats here in dealing with the crisis. 
But Mr. Bernanke and Mr. Paulson came to us and informed us 
that they had decided to advance--Mr. Bernanke did under his 
statutory authority--$85 billion to AIG. It had nothing to do 
with TARP. It had nothing to do, obviously, with subsequent 
legislation. It was a decision made by the Federal Reserve.
    And then, I note, some of my Republican colleagues were 
saying, this is an example of a problem with too-big-to-fail 
and the legislature's failure to address it. As a matter of 
fact, the authority under which Mr. Bernanke unilaterally gave, 
lent--because they got the money back--$85 billion to AIG has 
been rescinded. The statutory authority, Section 13.3, was 
repealed. So, in fact, the bailout of AIG, that process, was 
made illegal by the Act; exactly the opposite of the suggestion 
that somehow the Act embodies this.
    The Act goes further and it says that if a financial 
institution gets in trouble, it can be resolved, and there may 
even be a payment of some of the debts if that is felt 
necessary--that, by the way, suggested to us by Mr. Paulson in 
particular--but only as part of dissolving the institution. And 
we have this extraordinary proposition from some that says if a 
bank gets into trouble, a very large institution--and my 
colleagues, while they say we haven't done enough about some of 
this too-big-to-fail, oppose almost everything we propose that 
would reduce their size and make them less of a problem. The 
Volcker Rule, has, I believe, an operational and sensible way 
to reduce the size by removing some of the functions in a way 
that I think is less disruptive than any other alternative, a 
required sale, et cetera. But what we are told is that if a 
large financial institution gets in trouble, somehow, in some 
parallel universe, a Secretary of the Treasury would feel 
political pressure to give Federal money to bail them out and 
keep the institution alive, despite the fact that would be a 
violation of Federal law and despite the fact that politically, 
it would be exactly the opposite. All of the pressure would go 
the other way.
    Now, obviously, there are still problems with the large 
institutions. Although I note in an article--I will have to get 
the article and put it in the record--that the investment 
community is starting to price down what they give the large 
financial institutions. It is from BreakingViews, and I would 
ask unanimous consent to put it into the record. It is 
entitled, ``Too big to fail looks on its way to being licked,'' 
and talks about the market finally trying to price in the fact 
that the law clearly states that no large financial institution 
can receive assistance except as part of its death sentence.
    The final point I would make is about the complexity of--
oh, yes, there was an article, a complaint in February about 
the handling of some bonds. I believe it will be resolved, but 
the final point is this: When the Volcker Rule was first 
proposed, many in the financial community asked that it take 
into account this, that, and the other. There has been an 
effort to try to accommodate this, and now that is being used 
against the people who have listened to some of those comments 
by saying, you make it too complicated.
    I believe it is important that it get done this year. I 
believe it will be. And I think you will see a Volcker Rule 
that will be adopted uniformly, that will be reasonable, that 
will not put Americans at a competitive disadvantage. And Iwill 
make a prediction. One of the things that frustrates me is that 
people are able to make all kinds of criticisms of all sorts of 
things, secure in the knowledge that 2 and 3 and 4 years later, 
when the criticisms have been proven to be unfounded, no one 
will remember what they said. So I hope that the media here 
will not just chronicle what is said, but will put it somewhere 
where you can retrieve it and, in a couple of years from now, 
see how unfounded all of these dire predictions have been.
    How much time did I consume, Mr. Chairman?
    Chairman Bachus. Thank you.
    Mr. Frank. How much time did I consume?
    Eight minutes? Thank you.
    Chairman Bachus. Before recognizing the new chairman of the 
full committee, I wanted to say that Chairman Frank and I have 
not always agreed on the issues before the committee, or even 
before Congress, but I believe at all times we have strived to 
conduct business in a civil manner and to be civil toward one 
another, and I compliment him on that. We try to disagree 
without being disagreeable. And while we have not always 
succeeded in that, it has not been from the lack of trying.
    I very much enjoyed my association with him both when he 
was chairman and when he was the ranking member. And this is 
the ranking member's last hearing as a member of this 
committee, unless we schedule another hearing.
    Mr. Frank. You were getting people's hopes up, Mr. 
Chairman, when you said that.
    Chairman Bachus. But Chairman Frank has served with 
distinction for 3 decades. And I know all of my colleagues join 
me in wishing Congressman Barney Frank all the best as he moves 
forward on to other challenges.
    At this time, I would like to give you a round of applause.
    [applause]
    Mr. Frank. Thank you, Mr. Chairman, and--
    Chairman Bachus. I recognize you.
    Mr. Frank. I appreciate that, and I join in your sentiments 
that we have worked together without legitimate profound 
differences becoming personal.
    Let me just take a second and say that one of the things 
that bothers me is this--you never heard the word ``partisan'' 
used in a group sense. And partisanship is essential to 
democracy. You don't have self-governance by large numbers of 
people without political parties. Otherwise, you descend into 
all kinds of purely personal things.
    The problem with partisanship is not that it exists because 
there are legitimate differences that should be debated. The 
problem is when the differences that are legitimately 
recognized in a partisan alignment become so personally 
embittering that cooperation is impeded elsewhere.
    And I thank you, Mr. Chairman, because that has never 
happened under your chairmanship, and I am very pleased that we 
have been able to do that.
    As you said, we have tried to agree without being 
disagreeable. That hasn't always come naturally to me, but I 
have worked hard at it, and I think that, in the end, that has 
been the result. So I thank you for that consideration, and I 
look forward to sitting out there and watching you guys in the 
future.
    Chairman Bachus. Thank you. And this committee has, with 
the good work of both the Minority and the Majority--no matter 
which party was in what position--produced some very good 
legislation; a lot of legislation that has passed by over 400 
votes, some of which has been adopted into law, and worked very 
well. We have two bills over in the Senate now, the FHA bill 
and the flood insurance bill, both passed by over 400, and I 
understand that the Senate may pass one of our bills today.
    So I applaud Members on both sides. I think this committee 
sort of stood out as being able to work in a bipartisan way 
through some very difficult challenges. At this time, I would 
like to recognize the new chairman of the committee come 
January, Mr. Jeb Hensarling.
    Mr. Hensarling. Thank you, Mr. Chairman, and--
    Chairman Bachus. For 3\1/2\ minutes or whatever you want.
    Mr. Hensarling. I like the ``whatever-you-want'' part of 
that. With the indulgence of our guests and our witnesses, Mr. 
Chairman, I wish to add my voice into this moment of respect 
and admiration. I suppose, selfishly, one day I will be an ex-
chairman, and I hope somebody chooses to say something nice 
about me and note my passing.
    So today, even though, Mr. Chairman, we may, given the 
progress of the talks in the so-called fiscal cliff, be hanging 
our stockings next to the chimney with care next to our 
colleagues, or celebrating the New Year with them, I sense this 
is the last hearing of this committee in the 112th Congress. 
And as the incoming chairman of the committee, I would be 
remiss if I did not note that this will be the last hearing for 
two chairmen who have loomed large in this committee's history: 
one leaving not only the committee but Congress; and the other 
one stepping down as chairman.
    First, to ranking member, then Chairman Frank, few have 
left a mark on this committee quite like he has. Few have 
brought into this room and into its proceedings an intellect as 
keen or a wit as clever. I will personally miss our spirited 
debates, not quite enough to ask him to reconsider and stay, 
but when I think in terms of how it is often challenging to say 
kind things about one in the opposing party. I believe 
passionately in the ideas that I bring into this committee 
room. And I have the greatest respect and admiration for those 
who also bring passion and sincerity to their cause in their 
debate, and certainly, Chairman Frank has done that.
    And as a Member of the other party, who has opposed him 
vigorously for years, as chairman, he always conducted the 
proceedings in this room with fairness and his word was always 
good. And so I know, although we will say goodbye to him today 
in the Financial Services Committee, I sense that his presence 
will loom large some day soon, perhaps over my right shoulder 
or left shoulder. I am sure some competent staffer will one day 
tell me how these portraits work. And I guess I perhaps look 
forward to the day where I see more of him and have to debate 
him less.
    Chairman Bachus, you are the epitome of a gentleman. You 
have brought into your style of leadership great kindness, 
humility, and integrity, and particularly those on our side of 
the aisle, who are fond of quoting President Reagan, who said, 
``There is no limit to what a man can do or where he can go if 
he doesn't mind who gets the credit.'' You have also embodied 
what President Reagan said. You have empowered Members. You 
have led by example, and you have taught us all--my 9-year-old 
son, who takes karate lessons back in Dallas, Texas, as part of 
an oath he recites, he talks about character. And he is 
defining to me, his old man, that character is doing the right 
thing when no one else is watching. And Spencer Bachus, our 
chairman, has character because he has always done the right 
thing.
    Mr. Chairman, we will continue to benefit, fortunately, 
from your wisdom, your counsel, and your leadership, as you 
soon will take your status as chairman emeritus in this 
committee. So, again, I look forward to the day where I have 
one portrait over one shoulder, the other portrait over the 
other shoulder, but know somewhere down the way, you are also 
there to provide the counsel, wisdom, leadership, and character 
that you always have.
    And with that, Mr. Chairman, even though the topic at hand 
is terribly important, I will allow other Members to address it 
in their opening statements, and I yield back.
    Chairman Bachus. Thank you.
    Mrs. Capito?
    Mrs. Capito. Thank you, Mr. Chairman.
    I would like to thank you for convening this morning's 
hearing, and this will be the last time, as we have heard, that 
my good friend Spencer Bachus will be chairing this committee, 
and I also want to thank him.
    And I want to thank the ranking member for his leadership, 
not just in this committee, but in our Nation. He has taken me 
down a few pegs every now and then, so I have enjoyed that--
sort of.
    Anyway, I am going to talk about the subject at hand. The 
majority of the focus on the implementation of the Volcker Rule 
has been on the effect it will have on Wall Street's ability to 
conduct trading activities. Less attention has been paid to the 
effect that the Volcker Rule could have on Main Street 
financial institutions and the businesses they serve.
    Earlier this year, the Financial Institutions and Consumer 
Credit Subcommittee held a field hearing in Mr. Renacci's 
district, in Cleveland, Ohio. One of the witnesses at our 
hearing was a representative from KeyBank, a regional bank 
based in Cleveland. KeyBank raised significant concerns about 
the effect compliance with the Volcker Rule will have on their 
ability to meet their client's liquidity needs. Specifically, 
their institution is concerned that market-making activities 
and less liquid securities that are demanded by their clients 
could be construed as proprietary trades.
    Regional banks like KeyBank are serving small- and mid-
sized businesses across this Nation. If they cannot rely on 
their local and regional financial institutions to provide 
liquidity, they will not be able to help our economy grow.
    We have also heard concerns from the regional banks about 
the substantial cost, both monetary and man-hours, or I will 
way woman-hours, involved just to prove that their market-
making activities are not proprietary. These institutions are 
not the ones engaged in the activities the proponents of the 
Volcker Rule are seeking to address.
    The regulatory agencies must ensure that the final rule 
addresses these concerns so small business and regional 
financial institutions are not adversely affected.
    And I yield back. Thank you.
    Chairman Bachus. Thank you.
    At this time--
    Mr. Frank. Thank you, Mr. Chairman.
    I talked longer than normal because people weren't here, 
and then I offered time to my colleagues, who have really very 
graciously refused it and yielded it back to me. And I don't 
want to take up too much of your time, but I did want to 
address a couple more things on the Volcker Rule.
    I understand the difficulty, but I do want to say, in 
defense of the regulators, that they are, to some extent, 
damned if they do and damned if they don't. If they were to go 
ahead with a proposal generated among themselves, put it out 
there for comment, and then adopt it substantially unchanged, 
they would be legitimately criticized for not listening to the 
people who had good input.
    When, as they now did, they listen to a very large number 
of comments, and seek to deal with them, and move the rule, 
then people complain that it is taking too long, et cetera.
    I think the amount of time we are talking about is not too 
long, given the importance of this and of doing it right. I 
also believe that the fears that have been expressed, and I 
understand these, but I think they are without basis, that some 
institutions, because of the complexity of this when it is 
finally done, might inadvertently find itself in trouble; I do 
not believe we will ever have in this country financial 
regulators so bloodthirsty that they would fall on an innocent 
mistake excessively. In fact, I think it is hard to look at the 
record of enforcement from both parties over all the time and 
find any hanging judges in the midst.
    Clearly, there will be a recognition that this is 
experimental to some extent, that it is new. I am sure, and I 
will certainly be critical if it isn't the case, that there 
will be the kind of forbearance, and that, in fact, what the 
regulators will appropriately do as we go forward with this is 
to say, in some cases, no, that is not what you should have 
done, and there will be no penalty for it, obviously exempting 
cases that were egregious and willful abuse; there will be no 
penalty, but do it differently in the future.
    And as I say again, I would reiterate, there is a 
complaint, including from some on the Republican side, and many 
on the Democratic side, in the commentary community that the 
banks are just too big. I challenge people. The Volcker Rule is 
one way to diminish their size. And it diminishes it in a 
logical and functional way, and it is one that is being dealt 
with by other countries. If you reject the Volcker Rule, if 
there was to be no restriction of this sort and you still 
believe the banks are too big--I read this stuff very 
diligently up to now. Come January, I am going to forget an 
awful lot. My theme song, taken from the old anti-war days, is, 
``ain't going to study derivatives no more.''
    But up till now, I have read this, and I have not found any 
alternative, serious, thoughtful way to reduce the size of the 
large banks. And I believe it is inconsistent logically and bad 
policy to complain that these large financial institutions are 
too large, to oppose the Volcker Rule and to propose no 
alternative means of reducing their size.
    And Mr. Chairman, to you and to all of the members of this 
committee, I am very appreciative for the great and generous 
tolerance of me in all of my facets that we have had, and I am 
very proud to have served here.
    And I just want to close, if I can unanimously ask for 
another 30 seconds. In addition to the Members, can I say of 
the staff on both sides, I don't think the American people 
understand what a great bargain they get in the people who are 
talented, and dedicated, and creative, and who work for us at a 
lot less money, with harder hours, and not the best working 
conditions than they could get anywhere else.
    And we have alternated. We have been in the Majority and 
the Minority. In the Majority, you get pretty good quarters. 
All of our staffs have been in the Minority, where the quarters 
are not so hot.
    So I do want to close, as I acknowledge the generosity of 
my colleagues, to express what I know everybody agrees with, 
the enormous debt, not just the Members owe our combined 
staffs, but what the American people owe them.
    Thank you, Mr. Chairman.
    Chairman Bachus. Thank you, and let me just take 15 
seconds--last night, we had our Republican staff Christmas 
party that I have had every year. We had 86 staffers and former 
staffers. Several of them who were no longer staffers said, ``I 
would love to still be on the Hill, but I couldn't turn down an 
offer,'' and in almost every case, it was for twice as much 
money. And some of them said, ``I had children going to 
college; I just had to do it.'' But what a talented group we 
have here on both sides, and they work very well together. And 
I know that will continue, or I pray that it will. At this 
time--
    Mr. Frank. Mr. Chairman, can we get a round of applause for 
the staff?
    Chairman Bachus. Yes.
    [applause]
    All right, well deserved. At this time, I will introduce 
the panelists. The first panelist is Professor Jim Barth, who 
is the Lowder Eminent Scholar in Finance at Auburn University 
and Senior Financial Fellow at the Milken Institute. Some of 
you may not be familiar with Auburn, but you could consider it 
either the Yale of the South, or the Stanford of the East, I 
guess. But I went there, so that is why I made that remark. It 
is a very fine school. And Jim, it is great to have a friend 
testifying this morning.
    Mr. William Hambrecht is the founder, chairman, and chief 
executive officer of WR Hambrecht + Co. And we welcome your 
attendance.
    Mr. Dennis Kelleher is the president and CEO of Better 
Markets. And we welcome you back to the committee.
    Mr. Jeff Plunkett is the general counsel and executive vice 
president of Natixis Global Asset Management, testifying on 
behalf of the Association of Institutional INVESTORS; Mr. 
Thomas Quaadman is the vice president of the Center for Capital 
Market Competitiveness at the U.S. Chamber of Commerce; and Mr. 
Paul Stevens is the president and CEO of The Investment Company 
Institute.
    Welcome, gentlemen.
    At this time, Professor Barth, you can proceed with a 5-
minute opening statement.

STATEMENT OF JAMES R. BARTH, LOWDER EMINENT SCHOLAR IN FINANCE, 
AUBURN UNIVERSITY; SENIOR FINANCE FELLOW, MILKEN INSTITUTE; AND 
         FELLOW, WHARTON FINANCIAL INSTITUTIONS CENTER

    Mr. Barth. Thank you.
    Chairman Bachus, Ranking Member Frank, and members of the 
committee, thank you for the opportunity to testify today on 
the Volcker Rule. My opinions are based on my experience as an 
academic studying financial institutions and markets and as an 
official at bank regulatory agencies. I am now on the faculty 
of Auburn University and previously was on the faculty of 
George Washington University.
    In addition, I have served as Director of the Office of 
Policy and Economic Research, of the Federal Home Loan Bank 
Board, and Chief Economist of the Office of Thrift Supervision. 
I have also held positions as visiting scholar at the 
Congressional Budget Office, the Federal Reserve Bank of 
Atlanta, the Office of the Comptroller of the Currency, and the 
World Bank.
    In my scholarly research and government service, I have 
studied the performance of hundreds of financial institutions, 
including the causes of distress of many that failed. I believe 
the Volcker Rule is based on an incorrect premise, will be 
extremely difficult to implement, and, worse, will produce 
harmful economic effects.
    There is no evidence to support the belief that proprietary 
trading was the cause of the recent or any other financial 
crisis. In fact, all of the evidence points to the contrary.
    The most recent crisis was triggered by poor lending and 
underwriting practices in the real estate sector and excessive 
leverage by and insufficient liquidity at banking industries, 
not by proprietary trading by banks.
    The implementation of the Volcker Rule will require 
regulators to distinguish between prohibitive proprietary 
trading and permissible activities, such as market making, 
hedging, and underwriting. Because these permissible activities 
sometimes appear similar to proprietary trading, it may be 
virtually impossible for regulators to draw a bright line 
between the prohibited and permissible activities that are not 
arbitrary.
    To the extent that regulators err on the side of 
restricting beneficial trading activities or that the 
regulation deters banks from engaging in some permissible 
activities, the result will be banks providing less liquidity 
in the market. This, in turn, will increase the bid-ask spread 
on securities. Issuers will pay higher interest rates to raise 
capital, and investors will pay more to purchase securities and 
receive less when selling them.
    All of these developments harm markets, businesses, 
investors, and job creation. As banks are denied the 
opportunity to engage in profitable trading activities, they 
may be driven to engage in ever-more risky activities in an 
attempt to provide investors with an acceptable return. The 
Volcker Rule may, therefore, lead to riskier, not less-risky 
banks. The rule may also place U.S. banks at a competitive 
disadvantage to banks in other countries.
    In addition, if proprietary trading simply carries on at 
nonbanks, the question then becomes, is the forced migration of 
proprietary trading from banks to nonbanks more likely to 
increase or decrease financial stability? To address this 
issue, I recently conducted a preliminary examination of 22 
years of individual trading losses of at least $1 billion each. 
These trading losses were in no way limited to banks or 
financial services firms; rather, they occurred at a range of 
firms, including banks, investment banks, hedge funds, and 
manufacturing firms. Even a local government authority was 
involved.
    Specifically, for the period of 1990 to 2012, the banks' 
losses were 5 percent of their equity and posed relatively 
little risk to solvency. Investment banks had losses equal to 
34 percent of equity. Manufacturing and petrochemical firms, 
firms that are typically end users of derivatives and other 
financial products, had losses of 48 percent of equity. 
Finally, the most risky are hedge funds, which experience 
losses equal to 140 percent of equity.
    These illustrative results suggest that trading appears to 
be less risky when carried out at banks than at nonbanks. The 
important point of this exercise, however, is that one should 
not focus on trading losses, per se, but on potential trading 
losses relative to equity capital, which reflects a firm's 
ability to absorb losses. Excessively leveraged firms are 
clearly less able to absorb trading losses, or any losses for 
that matter. Moreover, some large trading losses did occur 
during the final crisis, but mortgages based on poor lending 
and underwriting quality were largely to blame, rather than the 
trading itself.
    The focus of regulation should, therefore, be on ensuring 
that banking entities have sufficient capital commensurate with 
risk, not on separating some investment banking activities from 
commercial banking.
    In conclusion, I see very little, if any, upside to the 
Volcker Rule, but substantial cost to markets, businesses, and 
investors. That the rule is well-intentioned, and banks may 
survive it, is not the issue. The issue is whether the benefits 
exceed the cost. There is no evidence that this is the case, 
and my reading of the evidence is to the contrary. It is 
therefore difficult to justify such a major organizational 
change. Thank you very much.
    [The prepared statement of Professor Barth can be found on 
page 47 of the appendix.]
    Chairman Bachus. Mr. Hambrecht?

STATEMENT OF WILLIAM R. HAMBRECHT, CHAIRMAN, WR HAMBRECHT + CO.

    Mr. Hambrecht. Thank you, Mr. Chairman.
    I was a member of the Investor's Working Group, an 
independent task force sponsored by the CFA Institute and the 
Council of Institutional Investors. It was chaired by two 
former SEC Chairmen, Arthur Levitt, Jr., and William Donaldson. 
Our report concluded, if I may read the quote, ``Proprietary 
trading creates potentially hazardous exposures and conflicts 
of interest, especially institutions that operate with explicit 
or implicit government guarantees.''
    We came to that conclusion after a lot of debate and a lot 
of looking at what actually happened. And we thought our 
charter was, first of all, to try and figure out why the six 
largest banks were suddenly in trouble. How did that happen in 
an environment where, for almost 70 years, from the Glass-
Steagall Act, there had been no crisis of that magnitude, nor 
had it fallen on the banks? There were a lot of trading losses. 
There were a lot of--we went through all different kinds of 
market cycles, but why did this happen?
    There was a difference of opinion within the committee, and 
I am just giving you my opinion now, because I was designated 
to be the spokesman for this particular issue. And in my mind, 
the basic issue, as it is in almost every major breakdown in 
the marketplace, is one of leverage. If you look at the market 
for mortgage paper, yes, you can say, gee, this was a terrible 
market. If you look at the Shiller-Case index, the real estate 
market went up about 20 percent in 2004; declined back down to 
about even; and then in the 2008-2009 marketplace, declined 20 
percent. So it was a major move, but the kind of moves in 
markets that we have had countless times. And the thing that 
really created the crisis, in our opinion, was excessive 
leverage.
    Where did this excessive leverage come from? And the 
question we kept asking the CFOs and the people who ran these 
companies was, hey, what banker in his right mind would lend 
you $0.97 on the dollar against an opaque piece of paper that 
is hard to understand, that is traded in a market dominated by 
the guys who create the paper? Who would do that? And frankly, 
the answer was, no one would do that. And the huge leverage, 
the $700 billion trading position at Lehman Brothers was 
basically financed with customer deposits in the form of free 
credit balances, most of them from short sales of hedge funds, 
and also from a repo market; that basically you borrow in the 
evening and you pay it off before the market opens up. So there 
won't be any real liquidity.
    We focused on, first, how do you create a market that will 
truly reflect price discovery, cannot be dominated by a few 
people, and propping up prices that don't hold up? And then, 
second, how do you regulate the lending to these trading 
accounts when there is no lending discipline, when they make 
the decision as to how much money that can come because the 
customer base doesn't know about that?
    We arrived at basically a conclusion that there had to be 
regulation, that it had to focus on functionality as former 
Chairman Barney Frank said, but it should also focus on the 
leverage factor, and how do you control that leverage?
    So we came out with a recommendation that it be included in 
whatever regulatory framework would evolve out of this crisis, 
but that it focus, as the Glass-Steagall Act did, on leverage 
and control of leverage, so that when we do hit these 
inevitable market declines and excesses, the Fed and other 
people can control the amount of leverage that is inherent in 
the business.
    My statement--I could go through it in great detail, but I 
will say there is some detail on the mechanics of how it works 
because we found that very few people really understood where 
the money came from. Investment banks' balance sheets are 
remarkably opaque. It is very difficult to understand where the 
money comes from. So I apologize for the technicalities in the 
paper, but they are based on a career of over 50 years in 
raising capital and dealing with traders and dealing with 
trading departments. And I find there are certain 
characteristics of trading departments and traders that seem to 
reoccur in every kind of market.
    And the committee and, of course, as many of us did, 
focused on how do you separate, or how do you determine what is 
a proprietary trade, and what is a trade that is really 
providing liquidity to a customer and adding value in the after 
market? I can walk into a trading department, and take a look 
at the compensation scale, and you can say okay, those are the 
prop traders and those are the agency traders. You can just 
take a look at the pattern of trading, and you can smell it. 
Basically, people who operate as specialists, with specialists' 
responsibilities, will be there to participate in the market, 
normally contrary, against the market, to provide some 
liquidity to avoid some of the excesses.
    The prop traders will almost always go with the trend 
because they are on a profit-and-loss basis. When they see a 
raft of selling orders coming in, they want to get ahead of 
those orders and be short. They don't want to sit there and buy 
them. So that is your essential problem. And I have no idea how 
you cure it forever, but you sure can't give them unlimited 
money. Thank you.
    [The prepared statement of Mr. Hambrecht can be found on 
page 55 of the appendix.]
    Chairman Bachus. Thank you.
    Mr. Kelleher?

STATEMENT OF DENNIS M. KELLEHER, PRESIDENT AND CHIEF EXECUTIVE 
                 OFFICER, BETTER MARKETS, INC.

    Mr. Kelleher. Good morning, Chairman Bachus, Ranking Member 
Frank, and members of the committee. Thank you for your 
invitation to Better Markets to testify today. I am the 
president and CEO of Better Markets. It is a nonprofit, 
nonpartisan organization that promotes the public interest in 
the domestic and global financial markets. It advocates for 
transparency, oversight, and accountability with the goal of a 
stronger, safer financial system that is less prone to crisis 
and failure, thereby eliminating or minimizing the need for 
taxpayer-funded bailouts.
    I have detailed my background and what Better Markets does 
in my written testimony. It is also available on our Web site, 
bettermarkets.com, and I won't repeat that here.
    For those who say that high-risk speculative proprietary 
trading by the handful of too-big-to-fail banks is not a 
problem, I say look at JPMorgan Chase and the so-called London 
Whale trade, that so far has cost the bank more than $6 billion 
and might cost it as much as $9 billion. That doesn't include 
the more than $20 billion in shareholder market capitalization 
losses, which are never mentioned. Those billions in losses 
resulted from a huge speculative proprietary trade using 
federally-insured depositors' money, which was done to generate 
profits for JPMorgan.
    JPMorgan bet around $100 billion of federally-insured 
depositors' money, and remember, JPMorgan and its CEO admitted, 
including right here before this committee, that the risks 
taken by the traders when they were betting their depositors' 
money were done without anyone in senior executive, financial, 
legal, compliance, risk, or others even knowing what the risks 
of the trade were.
    That admission shows that these gigantic banks are not only 
too-big-to-fail, but they are too-big-to-manage. For those who 
say that the JPMorgan London Whale prop trade had nothing to do 
with the financial crisis, I say, one, it doesn't matter 
because the issue is eliminating or reducing high-risk, 
speculative trading that could prove lethal to taxpayer-backed 
banks and require taxpayer bailouts; and two, there are plenty 
of examples of prop trading in connection with the financial 
crisis, with Citigroup being the poster child and having to 
write off almost $40 billion just due to the CDO positions on 
its trading book. Because time is short, I won't go into 
details here, but they are detailed in my written testimony and 
in the four comment letters Better Markets has filed in 
connection with the regulators' consideration of the Volcker 
Rule.
    It is important to remember that the Volcker Rule is narrow 
in application and limited in scope. It prohibits the handful 
of biggest too-big-to-fail banks from making huge high-risk, 
speculative bets usually, but not always, with the bank's own 
or borrowed money. This type of trading is in stark contrast to 
banks investing and trading their customers' money on their 
customers' behalf.
    Proprietary trading by the biggest banks is nothing more 
than gambling. Now big-bank gambling like this would be fine if 
it only threatened the betting bank and if only the bank 
suffered the consequences of its betting. But that is not the 
case with high-risk, proprietary trading by the biggest too-
big-to-fail banks. Those gigantic banks are backed by 
taxpayers. Their failure threatens our financial system and the 
entire economy, and as a result, the banks get the upside of 
the gambling and taxpayers get the downside, as evidenced by 
the last crisis. And the downside can be enormous.
    Better Markets recently did a study showing that the crisis 
will cost the United States more than $12.8 trillion, and that 
is a conservative number. Now, banning proprietary trading 
isn't the only solution, but it is an important part of a 
solution, along with capital, liquidity, leverage standards, 
resolution authority, and much more.
    Finally, implementing the Volcker Rule, in our view, is not 
complex or difficult if you follow two keys: Key number one, 
focus--Bill just alluded to this focus on compensation to break 
the link between proprietary trading and banker bonuses. We 
detailed it in our testimony and in our comment letters. You 
deconstruct and disaggregate the bonus pool, and you will know 
right where the proprietary trading is, both before and after. 
That is easy for them to follow, easy for regulators to follow, 
and easy to police.
    Second, and most importantly, the law has to be backed up 
with swift, certain, and significant penalties for traders, 
supervisors, and, yes, finally executives.
    If those two keys are followed, implementing the Volcker 
Rule can be done and it can be done without interfering with 
the permitted activities of market-making, risk-mitigating 
hedging, and the other permissible activities without prop 
trading.
    As a result, if you do it that way, the ban on prop trading 
will not harm customers, credit or job creators; indeed, 
removing the threat posed by these biggest too-big-to-fail 
banking giants to our financial system and our economy is 
likely to unleash a renaissance in our financial industry, as 
transparency, competition, and fairness create numerous 
opportunities for current and new market participants.
    And in closing, I would just like to say, as a native of 
Massachusetts, and one who has had the privilege of watching 
the career of Chairman Frank for, it seems like more than 30 
years, but I guess it is just 30 years, that I wanted to thank 
him for his public service. The people of Massachusetts, and 
the people of the country, I think owe him a great debt.
    And Chairman Bachus, I would like to second everything that 
has been said about you as a gracious, smart, tremendous 
contributor to the mission over the years, in any capacity 
here, and your courtesy has been most appreciated.
    Thank you.
    [The prepared statement of Mr. Kelleher can be found on 
page 62 of the appendix.]
    Chairman Bachus. Thank you, Mr. Kelleher.
    Mr. Plunkett?

 STATEMENT OF JEFFREY PLUNKETT, GENERAL COUNSEL AND EXECUTIVE 
 VICE PRESIDENT, NATIXIS GLOBAL ASSET MANAGEMENT, ON BEHALF OF 
           THE ASSOCIATION OF INSTITUTIONAL INVESTORS

    Mr. Plunkett. Chairman Bachus, Ranking Member Frank, and 
members of the Financial Services Committee, thank you for 
inviting me to participate in today's hearing. My name is Jeff 
Plunkett. I am general counsel and executive vice president of 
Natixis Global Asset Management. Today, I am testifying on 
behalf of the Association of Institutional INVESTORS, an 
association that includes some of the oldest, largest, and most 
trusted investment managers in the United States. Collectively, 
the association's members manage pension funds, 401(k) funds, 
mutual funds, and personal investments on behalf of more than 
100 million American workers and retirees.
    The association supports the Volcker Rule's core objective 
of limiting risky behavior at banks. However, the current 
proposed rule is burdensome and goes beyond congressional 
intent. This could have far-reaching, negative consequences for 
investors.
    Asset managers and their clients rely on banks to execute 
trades. The regulators' proposed rule will discourage banks 
from engaging in these transactions, due to compliance costs 
and uncertainty regarding what is permitted under the rule. In 
part, this uncertainty comes from the rule's complex, after-
the-fact tests for determining what is proprietary trading, 
which do not reflect the realities of financial markets.
    The regulators are doing their best to implement the 
statute as written, however, unless changes are made, there 
will be significant disruptions to the market.
    The association also includes bank-owned asset managers. We 
believe the covered-fund restrictions could be focused in a 
manner that addresses systemic risk, without creating a 
competitive disadvantage that would lead to fewer choices for 
investors and less innovation in the marketplace.
    In order to address these concerns, the association has 
offered the committee specific technical corrections. While our 
written testimony discusses these suggestions in more detail, 
today I would like to touch on several of our main concerns.
    First, with regard to proprietary trading, we support 
clarification that regulators should focus on trading 
activities that do not have any connection to customer 
facilitation. This change would be consistent with former 
Federal Reserve Chairman Paul Volcker's statements that 
proprietary trading should be easy to recognize.
    Second, with regard to the market-making exemption, 
Congress must provide clarification to regulators on the 
definition of ``near term.'' ``Near term'' means different 
things in different markets. For certain liquid markets, the 
near term may be much longer than in other markets. The market-
making exemption should apply to market-making activities in 
illiquid markets or markets that have only episodic liquidity.
    Third, in the covered-fund restrictions, Congress should 
revise and narrow the definition of ``hedge fund'' and 
``private equity fund'' to exclude all registered investment 
companies, and specifically identify the factors that must 
exist in other pooled vehicles before the regulators may 
designate them as similar funds.
    Foreign funds that are not actively marketed to U.S. 
investors should be excluded from the definition, as should 
non-U.S. funds, which are subject to supervisory regulation in 
their foreign jurisdictions.
    Finally, Congress should amend the naming prohibition in 
the Volcker Rule, to allow hedge funds and private equity funds 
to continue to identify themselves as manager of the fund so 
long as the fund does not use the word ``bank'' or the same 
name as an insured depository institution in the name of the 
fund.
    This restriction, along with the rule's existing 
disclaimers and anti-bailout provisions, should ensure that the 
entities are viewed separately in the marketplace.
    Mr. Chairman, a technical corrections bill would provide 
regulators with a clear statement of congressional intent and 
would go a long way to mitigate the potential unintended 
consequences that will harm millions of Americans who are 
saving for their retirement. The changes that we lay out in our 
written testimony would ensure that we can continue to serve 
their needs while still meeting the goals of the Volcker Rule.
    We commend the committee for considering taking such 
actions to address industry concerns, particularly prior to 
further rulemaking from the financial regulators. Thank you for 
your time today, and I look forward to answering your 
questions.
    [The prepared statement of Mr. Plunkett can be found on 
page 81 of the appendix.]
    Chairman Bachus. Thank you.
    Mr. Quaadman?

   STATEMENT OF THOMAS QUAADMAN, VICE PRESIDENT, CENTER FOR 
   CAPITAL MARKETS COMPETITIVENESS, U.S. CHAMBER OF COMMERCE

    Mr. Quaadman. Thank you, Chairman Bachus, and first, let me 
thank you, Chairman Bachus, and Ranking Member Frank, for your 
leadership and work on this committee and for your service. We 
have enjoyed working with both of you.
    And Mr. Hensarling, and Ms. Waters, as you embark on your 
leadership on the committee, we look forward to working with 
you as well.
    The Chamber agrees with the intent of the Volcker Rule, and 
that is to stabilize the financial system as well as to protect 
against federally-insured deposits. We believe, however, that 
capital and liquidity requirements are a better pro-growth 
means of achieving that goal.
    Congress was right to include a market-making and 
underwriting exemption to the Volcker Rule. Market making and 
underwriting are important critical tools for non-financial 
businesses to raise capital. However, regulators are 
constructing a system to engage in a trade-by-trade analysis to 
discern the intent of a trade and to determine if it is 
compliant with the Volcker Rule. This will raise cost of 
capital formation for all businesses and, in fact, will shut 
some businesses out of capital markets altogether.
    The Volcker Rule must also be viewed in conjunction with 
other major financial regulatory initiatives, many of which 
actually converge on the desk of the corporate treasurer. 
Derivatives rules directly impact the ability of a corporate 
treasurer to mitigate risk, and lock in prices, as well as 
ensure access of raw materials for a corporation. My new market 
fund initiatives, which are currently being discussed, affect 
the ability of a corporate treasurer to sell commercial paper 
as well as to employ effective cash-management techniques. The 
Volcker Rule impacts the ability of a treasurer to enter 
capital markets as well as raises costs, while Basel III 
impacts the ability of a corporate treasurer to obtain bank 
loans, as well as tap commercial lines of credit.
    So, one example that a mid-sized corporate treasurer told 
me is that when they go out and sell their commercial paper, 
their entire cost for that sale is 46 basis points. Since they 
believe that the Volcker Rule will prohibit them from entering 
the commercial paper market, they then have to tap their 
commercial lines of credit, which are prime plus 1 percent or 
about 425 basis points or a tenfold increase in their capital 
costs.
    However, you have to remember that commercial lines of 
credit on the Basel III have a negative risk weight to them so 
there is a disincentive for banks to actually provide 
commercial lines of credit. Therefore, the only alternative 
that is open to the corporate treasurer is to increase their 
cash reserves.
    Corporate cash reserves in the United States are currently 
$2 trillion, about 14 percent of GDP, which is a historic high 
number here in the United States. If, because of the Volcker 
Rule, we have to morph to a higher European level of cash 
reserves, that would be $3 trillion, or 21 percent of GDP. That 
means that corporate treasurers will have to idle $1 trillion 
in cash that could otherwise be used for more productive 
economic means.
    So, because of those impacts as well as the complexity of 
the Volcker Rule, we believe that the regulators need to 
repropose a rule to allow all stakeholders the opportunity to 
view the final rule, give regulators informed comments, and 
avoid adverse unforeseen consequences before they occur.
    We also believe that the Bachus-Hensarling initiative to 
propose an extension of the conformance period will also allow 
regulators the time to get it right. At the request of the 
committee, we provided a letter in September on Volcker Rule 
alternatives. We believe there are certain legislative 
alternatives as well as a means of fixing the rule itself.
    First off, as I said before, if the Volcker Rule were to be 
repealed, the higher capital and liquidity requirements in 
Dodd-Frank will actually allow regulators to deal with 
financial institutions which choose to engage in proprietary 
trading if they choose to do so.
    When President Obama first proposed the Volcker Rule in 
2010, the rule was envisioned to be an international rule that 
all major financial players around the globe would follow. 
However, other players have decided not to go down that route. 
We believe the legislation introduced by Congressman Peter 
King, which would stay the enforcement of the Volcker Rule 
until there is international coordination compliance with a 
similar Volcker Rule policy, is an important means of 
protecting American competitiveness.
    Finally, we have also listed a number of different specific 
fixes that we think are important to the Volcker Rule, if it is 
to go forward; namely, that if financial institutions, and by 
financial institutions, I also mean nonfinancial institutions 
that may own a bank or a financing arm, that if they did not 
engage in proprietary trading, they should not have to 
construct a costly, intrusive compliance program; that illiquid 
issuances in both debt and equity, which Congress also 
recognizes as a problem in passing the JOBS Act, should be 
exempt; that there should be a clear exemption for joint 
ventures to protect American competitiveness abroad. There 
should be an exemption for State and municipal debt issuances, 
which are key means of financing for infrastructure projects. 
And finally, 11 months ago, Governor Trujillo sat in this seat 
and said that regulators did not understand what normal market-
making and underwriting practices are.
    We believe that there should be a further study of those 
market-making and underwriting practices so that regulators 
understand how non-financial businesses access capital markets 
and to ensure that those businesses are not adversely impacted. 
Thank you. And I'm happy to take any questions you may have.
    [The prepared statement of Mr. Quaadman can be found on 
page 125 of the appendix.]
    Chairman Bachus. Thank you, Mr. Quaadman.
    Mr. Stevens?

STATEMENT OF PAUL SCHOTT STEVENS, PRESIDENT AND CHIEF EXECUTIVE 
        OFFICER, THE INVESTMENT COMPANY INSTITUTE (ICI)

    Mr. Stevens. Thank you, Mr. Chairman.
    For ICI, let me add our own salute to you and to former 
chairman Barney Frank for your leadership of the committee 
during a period of extraordinary challenges. America's mutual 
fund investors owe you both a great debt of gratitude.
    Mr. Hensarling, Ms. Waters, we look forward to working with 
you and all the members of the committee in the 113th Congress.
    I appear today on behalf of the Investment Company 
Institute. We're the national association of mutual funds, 
exchange traded funds, closed-end funds, and other registered 
investment companies. Our members, as you know, manage almost 
$14 trillion on behalf of 90 million American investors.
    Mr. Chairman, by rights, our membership should have few, if 
any, concerns about the Volcker Rule. Congress enacted Section 
619 of the Dodd-Frank Act to restrict banks from engaging in 
proprietary trading and from sponsoring or investing in hedge 
funds or private equity funds. The Volcker Rule was not 
directed at the Institute's members, that is, at registered 
investment companies, and yet, unfortunately, the ways in which 
the five regulatory agencies propose to implement the Volcker 
Rule would expand the reach of Section 619 beyond what Congress 
intended. This raises a number of serious concerns for 
registered funds, for our members.
    Chief among the concerns is the fact that the proposed 
implementing rule could treat many registered funds as hedge 
funds, a result that contradicts the plain language of the 
statute that Congress passed. The statute restricts bank's 
relationships with hedge funds, private equity funds, and 
``similar funds,'' as defined by the regulators. The statute 
defines hedge funds and private equity funds by reference to 
the fact that these investment vehicles are not registered 
under the Investment Company Act of 1940, nor regulated under 
that Act. Clearly, registered funds, which are organized and 
operated under that Act's strict requirements, are not remotely 
similar to the funds Congress intended to cover in the Volcker 
Rule. Yet the definition of ``covered funds'' offered by the 
agencies would sweep in many registered funds under the rule.
    The same definition would also sweep in all non-U.S. retail 
funds. Even though these non-U.S. retail funds are 
comprehensively regulated in their home jurisdictions, just as 
mutual funds here are in the United States. And, therefore, are 
not the type of funds that Congress meant to reach. In 
addition, some U.S.-registered funds and non-U.S. retail funds 
could be traded under certain circumstances as banking 
entities, which would anomalously subject them to all the 
prohibitions and restrictions of the Volcker Rule itself.
    Implementing the Volcker Rule in this way will impede the 
organization, sponsorship, and very normal activities of U.S.-
registered funds and of non-U.S. retail funds alike. And 
investors will suffer as a result. Now, in detailed written 
submissions and numerous meetings, ICI and its international 
affiliate, ICI Global, have urged the agencies to provide 
explicit exclusions from the Volcker Rule for U.S.-registered 
funds and non-U.S. retail funds, as well as clarification that 
these funds are not ``banking entities.''
    Registered funds also must look at the Volcker Rule and its 
implementation from our perspective as investors in the capital 
markets. We do not believe that the proprietary trading 
restrictions as currently proposed will achieve their 
apparently narrow intended goal of addressing risky and 
speculative trading by banks. Instead, they are likely to have 
broader adverse impacts on the financial markets in the United 
States and abroad, and in the process, will penalize registered 
funds and other investors who participate in these markets.
    The proposed trading restrictions could decrease liquidity, 
especially for those markets that rely most on banking entities 
to act as market makers, such as the fixed-income and 
derivative markets and the less liquid portions of the equities 
markets. A reduction of liquidity could ultimately lead to 
higher costs for funded shareholders and for other investors. 
Similarly, the proprietary trading restrictions call into 
question whether banking entities could, for example, continue 
to serve as authorized participants and market makers for 
exchange traded funds.
    Banks play a critical role in ETF trading to help maintain 
efficient pricing and to protect ETF investors. We recommend 
that the rule be clarified to spell out that banking entities 
can continue to support the efficient functioning of the ETF 
market.
    Now, in this and many other areas of our concern, we 
believe the agencies implementing the Volcker Rule have it 
within their power to avoid all of these harmful consequences 
for funds and their investors. Given the number and seriousness 
of the issues that need to be addressed, however, we have 
recommended and we continue to urge that the agencies issue a 
revised proposal for public comment before adopting any final 
rules.
    Further, we are deeply concerned about recent press reports 
that raise the possibility that agencies will adopt final 
Volcker Rule regulations that substantially differ one from 
another. This would be a true disaster. And it would fly in the 
face of Congress' express direction that the agencies 
coordinate their rulemakings. We urge that the committee do all 
that it can to ensure the consistency of any final rules issued 
by the agencies.
    Finally, if the serious adverse consequences for registered 
funds are not addressed through the regulatory process, ICI has 
suggested potential legislative changes to address several of 
our concerns. We stand ready to work with the committee and 
interested Members in this regard.
    Mr. Chairman, thank you for the opportunity to present our 
views. I would welcome any of your questions.
    [The prepared statement of Mr. Stevens can be found on page 
137 of the appendix.]
    Chairman Bachus. Thank you. At this time, we will have 
questioning by the Members.
    I would like to recognize Mr. Brad Miller, who is retiring. 
Mr. Miller really was a leader in this Congress in highlighting 
subprime lending practices in the early 2000s. And I commend 
him for that. Some of his predictions unfortunately came true.
    At this time--would you like a minute?
    Mr. Miller of North Carolina. Thank you, Mr. Chairman. I 
have appreciated the chance to serve on this committee for a 
decade and I have appreciated the relationships, valued the 
relationships that I have had with other Members, with our 
staff, and with the folks who sit back there, some of you, 
anyway. The folks who sit over there, as well.
    Mr. Chairman, I would like to join in the kind of general 
spirit of this meeting and say nice things about you. But the 
last time I did that, it didn't work out well. Three or 4 years 
ago, someone who sits over there stopped me in the hallway and 
said they were writing an article about you and asked me to 
comment. And I said nice things. And then a day or two later, 
the article came out. And the lead was that some Republicans 
did not trust Spencer Bachus because he got along too well with 
Democrats. And the second paragraph quoted me, saying how well 
I got along with you.
    And, Mr. Chairman, in the next several meetings after that, 
you seemed to go out of your way to pick a fight with me about 
something or another, showing that we really didn't get along. 
And I wanted you to know that since that time, whenever anybody 
has asked me publicly what I think of you, I have said, ``I 
don't like that son of a bitch.''
    And, Mr. Chairman, I want you to know that I have done that 
as a personal favor to you.
    Chairman Bachus. Thank you. And, Mr. Miller, it helped me 
in my primary.
    At this time, I would like to recognize Mr. Quico Canseco 
for 2 minutes for questions.
    Mr. Canseco. I, too, want to thank you, Mr. Chairman, for 
your leadership on this committee. It has been a privilege 
serving on the Financial Services Committee, albeit for a short 
2 years. It has been quite an honor to serve on this committee 
and regrettably, I won't be here in the next Congress.
    And thank you for the opportunity to ask some questions 
here.
    Professor Barth, is there even a practical way to 
distinguish between proprietary trading and market making?
    Mr. Barth. In answer, I would say that it is going to be 
extremely difficult. And my concern is that the attempt to do 
so may actually eliminate beneficial trading activities by 
banking entities.
    The other part of my answer would be that to the extent 
that banks are concerned about whether or not they are indeed 
engaging in proprietary trading, it may deter them from 
beneficial trading activities. I think it is extremely 
difficult to judge the intent of banking entities when it comes 
to proprietary trading. As we all know, there is the time 
factor over which one is going to try to determine whether or 
not a bank is engaged in proprietary trading or speculative 
trading activities and other legitimate and permissible trading 
activities. That is my biggest concern.
    Mr. Canseco. So even if regulators were to somehow make 
this distinction, which is unlikely, as you say, in your 
opinion, would a final regulation make the financial system any 
safer?
    Mr. Barth. No. I don't think there is any evidence 
whatsoever, despite what some people claim, that proprietary 
trading has or will cause those sort of problems. As pointed 
out in my testimony, it turns out it was basically poor 
underwriting and lending practices relating to the real estate 
sector that really triggered the crisis and is the major 
concern.
    And one should not talk about losses per se. Whether or not 
JPMorgan Chase incurred a loss of $6 billion or $9 billion is 
not the issue. The issue is really whether or not there is 
sufficient owner-contributed equity capital on the part of that 
bank to cover that loss. One can talk, as I did in my 
testimony, about losses, but it is losses relative to equity 
capital which is the issue, not just big numbers to throw out 
and say there are big losses. Is there sufficient equity at 
financial institutions to cover those losses? And that indeed 
has been the case, as I point out, I think, in a little more 
detail in my testimony.
    Chairman Bachus. Thank you.
    At this time, the gentlelady from New York, Ms. Hayworth, 
is recognized for 2 minutes.
    Dr. Hayworth. Thank you, Mr. Chairman. And I echo the 
lavish and well-deserved praise that you have received this 
morning. And I know that you are going to continue to 
illuminate our proceedings as you retire to emeritus status.
    And with that, Professor Barth, I couldn't agree with you 
more about the root causes of the crisis that precipitated the 
passage of Dodd-Frank and this attempt to create barriers that 
are obviously very, very difficult to define.
    Mr. Hambrecht, I was reading your testimony. And you refer, 
of course, to one of the primary problems being unlimited 
leverage, essentially taxpayer-backed, low-cost financing.
    So we are looking at--and you speak of exerting market 
discipline. Eventually, market discipline did come to bear in a 
fairly catastrophic way, as we know, in 2008, because you can't 
repeal the laws of gravity, so to speak, you can't repeal the 
laws of economic physics.
    What would the most elegant solution to this problem be, 
given what you have said, Professor Barth, and what you have 
said, Mr. Hambrecht? Should we be exerting energy, because 
there is a cost of capital here, there is a cost of effort, 
should we be exerting all this energy on trying to create these 
barriers or should we go back to the root cause and devote our 
energies to withdrawing the Federal Government from activities 
that create market risks to begin with in unnatural ways?
    Mr. Hambrecht. There are a lot of solutions, I am sure, 
that might work. I still think that the key to it will be the 
recognition of what functionality those trades are in. And I 
maintain you can have a reasonable basis of judgment as to what 
is a proprietary trading account and what is a market making.
    To me, the best solution would be to go back to the 
original margin requirements and approach that Glass-Steagall 
took. And, basically, what they said is margin is allowed on 
exchange-based trading, where you have specialists who have 
obligations to make an orderly market. And you have the right 
to say how much you can borrow against that piece of paper.
    So to me, the Glass-Steagall pattern of transparent, open 
markets and margin requirements that are basically enforced on 
a real-time basis, so that you are sold out before you can get 
your other parts of your balance sheet in trouble, I think that 
would be the most elegant solution.
    Chairman Bachus. Thank you.
    Dr. Hayworth. Thank you, Mr. Chairman.
    Chairman Bachus. Mr. Schweikert for 2 minutes.
    Mr. Schweikert. Thank you, Mr. Chairman.
    First, Mr. Chairman, thank you for your kindness. And also 
to Scott Garrett as my subcommittee chairman. Thank you for 
tolerating me. My greatest joy I have had in my 2 years here in 
Congress is this committee, and I am going to miss it.
    Quick question, and I will try not to repeat other ones who 
have come through.
    Mr. Quaadman, you sort of touched on this. I have a great 
concerned interest in liquidity of fixed-income markets, 
particularly municipal, quasi-municipal debt. A lot of the 
bigger institutions often as good community players will be the 
ones that step in, either when we have done a defeasance or 
other things, and player. Will that type of concentration start 
to play in the margins of the Volcker Rule?
    Mr. Quaadman. In the legislation, there are certain 
disincentives, actually, for State and municipal debt. So it 
will be more difficult for State and municipalities to go into 
capital markets and raise bonds in certain instances because 
they are going to be subject to the Volcker Rule. So that will 
entail larger costs and, in fact, may actually shut them out of 
certain markets.
    The Conference of Mayors actually passed a resolution on 
this several months ago highlighting those concerns and asking 
that this be fixed.
    So we believe that this is something that Congress should 
go back to in order to address. And this particularly impacts 
education projects, and transportation projects. The University 
of Massachusetts system would be affected by $150 million--
    Mr. Schweikert. Thank you, Mr. Quaadman.
    This one, Mr. Chairman, both right and left, this may be 
one of those areas where we can all agree that we may have to 
do a fix because it affects a lot of our communities, our sewer 
districts, our States, and our communities, and I think it is 
something we could fix in a bipartisan manner.
    Thank you, Mr. Chairman.
    Chairman Bachus. Thank you.
    At this time, Ms. Waters recognized for 6 minutes.
    Ms. Waters. Thank you very much, Mr. Chairman.
    Since this is a moment where we have an opportunity to 
share our thoughts and our feelings about you and Mr. Frank, I 
just want to tell you that I have appreciated so much working 
with you. And even though we have worked together on this 
committee, our work outside of this committee where we worked 
on debt relief was extremely important. We were successful in 
helping to alleviate some of the pain and poverty in some of 
those countries that we spent time on. And I want to thank you 
so very much for that. And I won't say very much more because I 
don't want anybody to get the idea that we are really friends. 
You have been in enough trouble without that.
    Barney Frank, let me just say that having worked with you 
has been an extraordinary experience and having served on the 
Dodd-Frank Conference Committee was a highlight of your work 
and my work on this committee.
    Most everyone here has said how much we are going to miss 
you and that is really an understatement, because this 
institution has been able to solve some great problems with 
your leadership, and we have all learned so very much from you. 
And we expect that you will be by the telephone and we may call 
you, even in the middle of a committee hearing, a markup, when 
we need to. And you don't have to answer that now because you 
may tell me where to go. Thank you very much.
    Okay. Let us get to Volcker.
    Mr. Kelleher, you gave such passionate and strong testimony 
just a few minutes ago about Volcker. And I am very 
appreciative of that. And, I have been leaning in that 
direction. But I have also heard today some criticisms that 
seem to be based in some facts or documentation. And I would 
like you to take time to address some of what I heard, 
particularly from Mr. Stevens--from all of the members who have 
testified in opposition to your thoughts.
    Would you please share that with us?
    Mr. Kelleher. Thank you. I think one of the things that is 
most surprising is the collective amnesia that has run rampant 
on Wall Street since the Volcker Rule came in. There was a 
time--and Chairman Frank can appreciate how amnesia comes and 
goes, it is not just in this building.
    But, if you go back to 2007 or 2006, there didn't seem to 
be a massive problem with distinguishing between proprietary 
trading and market making or risk-mitigating hedging. People 
knew what it was. After all, these were supposed to be the 
smartest people in the world making the most money in the 
world; the best of the best, the brightest of the brightest. 
And since the Volcker Rule, there has been this massive 
problem: What is proprietary trading? What is it not?
    And, frankly, it is more of a problem in Washington. I talk 
to traders and bankers all the time. I had a breakfast the 
other morning with a very senior executive banker. These people 
laugh at the concept that they can't tell the difference 
between proprietary trading and market making or hedging.
    Frankly, if they couldn't, that means they couldn't 
segregate customer funds. It means they couldn't comply with 
many laws, rules, and regulations on compliance and risk and 
capital. Do you think it is true that the executives at any one 
of these big banks has no idea at their trading desk that the 
trader or the desk doesn't have capital, risk, and compliance 
requirements? No. They all have their risk limits, their 
capital limits--they can't be putting the bank's money at risk 
and putting the bank itself at risk without everybody knowing 
exactly what it is moment by moment. And as it gets rolled up, 
they also know it on the aggregate level, not just at the desk 
level, but at the division level and department level by P&L 
and otherwise.
    So I think many of the complaints that we hear are really 
attacking financial reform and attacking--
    Ms. Waters. What do you say about the competition argument 
that is being presented here?
    Mr. Kelleher. I think there is something to be said in 
terms of a transition period of any new rules and how they 
disparately affect market players across countries. But that 
means that we need integrated harmonization, not that we need 
to lower the bar. There should be a race to the top, not a race 
to the bottom. The cross border rules are going to be very 
important in that.
    But as was alluded to earlier, every country is trying to 
struggle with trying to limit this high-risk speculative 
trading by the banks. In the U.S., it is Volcker; in the U.K., 
it is Vickers; in the E.U., it is the Liikanen report.
    So I think the problem with competitive concerns are more 
of a transition period than an ultimate issue. And the sooner 
we get to final rules and harmonization, the better off we all 
are.
    Ms. Waters. It was attested in the King legislation that 
was brought up that we should delay implementation of the 
Volcker Rule until there is harmonization. What do you say 
about that?
    Mr. Kelleher. I would say that the schizophrenia of the 
complaints are just astonishing--I almost get whiplash. 
Originally, it was like, ``Our problem is lack of certainty. We 
need certainty. We need clarity.'' And now that they are going 
to get certainty and clarity, ``We don't like that, so we need 
you to delay it so we can have a longer period of uncertainty 
and lack of clarity.''
    Let's gets certainty, clarity. Let the regulators do their 
job. They are really on the cusp of putting in a very 
substantial architecture in the derivative space and in the 
Volcker Rule and other areas. Let them get the job done. Let's 
see how it works. It works together or it doesn't. And then, 
let's revisit it with the actual knowledge, other than self-
serving statements by market participants that are really no 
more than guessing.
    But let's protect the American people. It has been 4 years 
and 3 months almost to the day since the Lehman failure. Our 
job is to protect the American people from another financial 
collapse and a potential second Great Depression brought on by 
a financial collapse. Let's get the rules in place, get the 
clarity. And where it needs to be fixed, let's wait to see how 
it works or doesn't work and fix it then.
    Ms. Waters. Just lastly, I have been told that Chairman 
Shapiro has entered into some negotiations, some talks with the 
other regulators, and that she is bringing something to the 
table that is going to help wrap this all up very soon. Do you 
know anything about that?
    Mr. Kelleher. I only know what I read. And, of course, if I 
read it, it must be true. Because it was in the papers. Right?
    But I do think that if they focus clearly on compensation--
if you eliminate the compensation incentive for prop trading, 
which can be easily policed and easily followed both in the 
banks and by regulators, and then you back it up with swift and 
clear sanctions, they can get the Volcker Rule in place quickly 
with very little market disruption and very little regulator 
intrusion into the business of the banks.
    Chairman Bachus. Thank you.
    Ms. Waters. Thank you very much.
    Chairman Bachus. Of course, what Ms. Waters is referring to 
is the article in yesterday's Wall Street Journal and about 
those conversations.
    Mr. Hensarling for 5 minutes.
    Mr. Hensarling. Thank you, Mr. Chairman.
    Kind of a stock and trade often in these committee hearings 
is to try to separate purported benefits of rules from their 
actual benefits and certainly weigh them against their actual 
cost, and to essentially determine whether the cure may not 
prove to be worse than the illness.
    I think we have all taken note of Chairman Volcker's 
statements that, number one, proprietary trading in commercial 
banks was not central to the crisis. And then he has expressed 
concern with the rule bearing his name, ``I don't like it but 
there it is. I would write a much simpler bill.'' I don't think 
quite think he has put his offspring up for adoption, but he 
doesn't seem to be too pleased with it.
    Mr. Kelleher, in your written testimony you state the 
Volcker Rule ``is narrow in application and limited in scope.'' 
You further testify, ``it only applies to a few banks.''
    And yet as the vice chairman of this committee, I have 
noted not a few, not hundreds, but literally thousands of 
negative comments that have either arrived to this committee or 
to the regulators from entities that supposedly are not 
negatively impacted.
    One of them being TIAA-CREF, which I believe to be one of 
the largest pension funds in the Nation, taking care of 
numerous teachers. And they wrote a letter to regulators, 
``Depriving the insurance companies that invest on behalf of 
those pensioners, the returns available through investments in 
covered fund impairs the ability of those pensioners to 
maintain their retirement security.''
    I have a cousin who spent her entire life teaching in a 
small town in central Texas, who is now retired. I note that 
the Federal Reserve hasn't done her and other pensioners any 
favor as of recent, including their actions yesterday.
    So when I think about her and her husband also, somebody 
who spent their entire life in teaching, getting by on pretty 
much of a fixed income, I am wondering at the end of the day, I 
hear much language here about the big banks. But to what extent 
are we thinking about the little teachers?
    I also think about one other comment we received from the 
Public Utility Commission of Texas, in my home State, ``The 
Texas PUC is concerned that the wholesale and retail power 
markets within the electricity, electric, or reliability 
council of Texas are likely to be materially and adversely 
affected from the approach taken by the agencies. The 
limitation will result in higher and more volatile electric 
prices to end-user customers.''
    These are two comments that literally are representative of 
thousands of comments that we have received.
    And so with the onset of winter--I know that perhaps 
Massachusetts might be colder than Texas--but I think about a 
lot of low-income people in the Fifth Congressional District of 
Texas, who struggle in this economy to pay these utility bills. 
And now, I am hearing from not a big Wall Street bank, but a 
government entity in my home State, saying that the current 
iteration of the Volcker Rule is going to make winter more 
challenging for them.
    Mr. Kelleher, how have thousands got it wrong and you got 
it right? I will give you a moment to explain.
    Mr. Kelleher. I think there are a couple of things. First 
of all, we obviously are not looking forward to or advocating 
policies that we think are going to disrupt the markets. Well-
functioning, deep, liquid markets are the basis of our economy; 
we need them to work; and we need them to work for everybody 
from the teacher in Texas to the banker on Wall Street, to 
everybody else on Main Street. So what we need to do is design 
a system that serves all those interests and not primarily a 
narrow sector of that.
    There is no cost that--this is a slight overstatement--I 
can think of associated with the Dodd-Frank Act that comes 
anywhere close to the cost imposed on the American people and 
the economic wreckage from the last financial crisis or the 
next one.
    And that is what we have to be focused on. That is the cost 
that is already inflicted--
    Mr. Hensarling. I see my time--
    Mr. Kelleher. Second, most of those complaints ignore entry 
by new market participants.
    Mr. Hensarling. My time has expired. I yield back.
    Chairman Bachus. Mr. Baca?
    Mr. Baca. Thank you, Mr. Chairman. First, I would like to 
thank you. It was an honor serving here in the Financial 
Services Committee. I would like to also thank Chairman Frank--
Barney, too, as well. I thank you very much. And of course, I 
look forward to continuing to stay active in some of these 
issues that are important to a lot of us. And it has been an 
honor not only for me to have served here, but those who are 
currently serving right now. Because these issues that are 
impacting us in Financial Services impact the market and where 
we are going to be in terms of the future, not to mention 
housing and other areas, as well.
    But let me ask this question of the panel, and anyone on 
the panel can answer: Are there any particular transactions or 
positions to which applications of proposed definitions of 
trading account that is unclear?
    Mr. Stevens. Congressman, if I might, one specific point 
that is covered in my testimony has to do with the ambiguity of 
the application for proprietary trading restrictions to the 
activities that banking entities engage in as authorized 
participants and market makers to support exchange-traded 
funds. Those are an extraordinarily popular and growing part of 
the registered fund industry in the United States. And it is 
not clear under the rules whether that would or would not be 
regarded as proprietary trading.
    I will say that in response to Mr. Kelleher's comment--
    Mr. Baca. Does it need to be made clear?
    Mr. Stevens. Yes, it does. And we have urged that it be 
made clear.
    You must understand, the way that the rule as proposed 
works, there is a presumption that any trading activity that 
the bank engages in is proprietary trading, unless it is proved 
otherwise.
    In other words, you are guilty unless proven innocent. And 
getting that wrong has very serious compliance implications.
    Mr. Kelleher's colorful comments are not grounded in 
actually the rule proposal. Our comments are not amnesiac. Ours 
are grounded in exactly what the agencies have put forward. And 
unless it is clarified, it will, for example, potentially 
impact this market, in which millions of ordinary Americans 
participate.
    Mr. Baca. So the innocent are guilty before proven.
    Mr. Stevens. The rule, as written, as proposed, presumes 
that everything a bank engages in is proprietary trading.
    Mr. Baca. Thank you. And this is another question for the 
whole panel. Do you think the proposed rule approach to 
implementing the hedging exemption is effective? If not, what 
alternative approach do you think would be more effective?
    Mr. Hambrecht. Let me try. First of all, I want to second 
Mr. Kelleher's statement that people know what is a prop trade 
and what is an agency trade. Historically, it used to be 
divided by whether you acted as principal or whether you acted 
as agent. If you acted as agent, clearly, that was not a prop 
trade. You had no economic interest in the trade.
    The minute you become a principal trader, you have an 
economic interest in the success of the trade; you don't get a 
commission, it is based on the success of the trade.
    So I think anybody can define that very clearly.
    I think the problems become much more complex when you go 
into derivative markets or you go into other markets where the 
definition of the risk is hard to understand. And the 
definition of the impact on counterparties is hard to 
understand.
    And I think the only way you can really do that is to have 
transparent trades and have much more standardization of 
derivative trading, hopefully, on exchanges.
    Mr. Barth. May I add that the issue is not whether or not 
bankers can distinguish between proprietary trade and through 
principal trading activities, can regulators make that 
distinction and determine the intent of the bankers. I think 
that is an important point that hasn't been made. So we are not 
talking about bankers trying to distinguish between proprietary 
trading and permissible trading activities. Regulators, and 
does anyone have sufficient confidence that regulators would 
make the right distinction?
    Mr. Kelleher. It is not so much intent. It is economic 
interest, which is tracked to the penny at these banks. So your 
intent is almost irrelevant. People say you need a lawyer and a 
psychologist on your shoulders. It is not true. Look and see 
how the trader is running his book and look at the book on the 
desk. They track to the penny whether or not it is the bank's 
money or a customer's money. And whether--which side they are 
on, and how it changes minute to minute. Once they take a 
position, they monitor it very closely. That is because their 
money is at risk. They know it. So it is not an issue of 
intent. It is an issue of clearly identifiable contemporaneous 
economic interest.
    Mr. Baca. And if it isn't done, then it could impact the 
consumer. I think that is the question that was asked earlier 
in terms of some of the residents in the area. Is that correct?
    Dr. Hayworth [presiding]. The gentleman's time has expired. 
I would like to ask unanimous consent to enter into the record 
statements from the American Council of Life Insurers; the Bond 
Dealers of America; BBVA Compass; and the Institute of 
International Bankers.
    Without objection, it is so ordered.
    And now, 5 minutes to the gentleman from New Mexico, Mr. 
Pearce.
    Mr. Pearce. Thank you, Madam Chairwoman.
    I would like to associate myself with the comments that Mr. 
Schweikert made about the need for financing for local projects 
and small States since that is a very key thing and I think 
this question pertains to that.
    Mr. Kelleher, I was interested in your comments that the 
regulator's job is to protect the American people. And if you 
have watched any of my recent questioning in the area, you find 
I have a fascination with MF Global.
    Do you have an opinion about the regulators and their 
protection of the American people in the application of that--
those final hours of MF Global?
    Mr. Kelleher. I only know what is in the public record. And 
so far, I think the answer has to be that the public record 
isn't really complete enough yet to have an opinion.
    Mr. Pearce. Let me complete a little bit of it for you.
    As they were sitting there, both the CFTC and the FTC 
sitting in the room, were counting down the last hours before 
this billion, billions of dollars corporation fails. They have 
been taking the funds from segregated accounts to float the 
deal.
    The regulators decided at the urging of the FTC, at 5:20 in 
the morning, to declare it a securities firm, not a futures 
trading firm, not a commodities market--30,000 commodity 
accounts and 318 security accounts. I think the two guys who 
were responsible for the decision--this is my thoughts, they 
have never exactly confirmed it. They didn't confirm it 
yesterday when they were hearing, but they were in the room 
making the recommendations--that their recommendations, it was 
declared a securities firm, not a futures, not a commodities 
firm--318 to 30,000, and they decided for the 318. The 
bankruptcy proceedings then favored the investors, not the 
30,000.
    So I guess my question is, when you assure us all that the 
Volcker Rule is going to be good, it is going to protect the 
American people, we had the guys here yesterday who made those 
decisions to not protect the American people but to protect the 
1 percent.
    Now, if my assertions are correct, and neither one of the 
gentlemen yesterday who apparently were in the room or on the 
telephone with the people in the room would contend with it, do 
you have an opinion now about the regulators doing their jobs?
    Mr. Kelleher. I don't think there is any question that 
regulators, like legislators and everybody else, are not 
perfect and are going to make mistakes. And one of the reasons 
we advocate clear rules, particularly on Volcker, focusing on 
compensation, is because discretion and judgment are largely 
taken out of it. And it would be a rule that would both be easy 
to comply with and easy to police. We try and find, take the 
ambiguity out of the rules--
    Mr. Pearce. Reclaiming my time, I really did want an 
answer, because you are very articulate and you are very 
opinionated. You are willing to use the words ``amnesia'' and 
``schizophrenic'' in regard to businesses, but you are 
unwilling to describe activities on the part of regulators as 
maybe preferential--
    Mr. Kelleher. Don't get me wrong; I am perfectly happy to 
join in criticism of regulators.
    Ms. Pearce. I am trying to give you a chance to respond. 
And I didn't find that clarity in the response. So if you don't 
mind, it would make my observations--
    As you describe the perfect world of regulators, I worry 
that the protection of our consumers is not going to be any 
closer under the Volcker Rule than it is under the SEC, the 
CFTC, the REMC, the ABC, nothing.
    I think that people are always going to find their way out. 
Just looking yesterday at the HSBC, we sent Martha Stewart to 
jail for 4,000 shares of stock, whatever happened there, 4,000 
shares. But billions of dollars over multiple years for the 
HSBC laundering money in our judicial department didn't seem to 
find a reason.
    So I don't think--I know there are mistakes made by 
businesses. But I am not sure in your perfect world of 
regulations and regulators to where we regulate the very last 
common denominator will end up choking off investments to small 
towns in New Mexico. I am just not sure your process is going 
to get us any closer than what we are doing now.
    Thank you. I yield back.
    Dr. Hayworth. Thank you, Mr. Pearce.
    The Chair now recognizes Mr. Miller of North Carolina for 5 
minutes.
    Mr. Miller of North Carolina. Thank you, Madam Chairwoman.
    Before I begin, I would like to ask unanimous consent to 
introduce into the record a report from Public Citizen which 
finds that 99.9 percent of banks would not be affected by the 
Volcker Rule.
    Mr. Kelleher--
    Mr. Frank. Madam Chairwoman, is that going to be in the 
record? We need to have an order.
    Dr. Hayworth. Without objection, it is so ordered.
    Mr. Miller of North Carolina. Thank you.
    Mr. Kelleher, the Volcker Rule is one of the provisions in 
Dodd-Frank designed to make banks simpler, less likely to fail, 
and if they do fail, to fail without such catastrophic 
consequences to the financial system and for the broader 
economy.
    But just in the last couple of weeks, William Dudley has 
spoken on the first versions of living wills and said we have a 
long way to go before we have a financial system that will 
not--that a major bank can fail, the kind of banks that would 
be subject to the Volcker Rule could fail without catastrophic 
consequences to the financial system. And even more 
strikingly--and that it was the beginning of an iterative 
process, that we would get there eventually.
    Even more strikingly, HSBC, just in the last couple of 
days, has entered into a settlement for $1.9 billion in fines 
for money--for laundering $800 million in drug money, in 
addition to having laundered money for the Iranian regime and 
the repugnant genocidal regime in Sudan. And the stated reason 
what they said right out loud in front of God and everybody was 
that they weren't going to bring criminal charges because of 
the disruptive effect it would have on the global financial 
system.
    I think Chairman Frank was correct when he said earlier 
that Dodd-Frank has made many of the extraordinary 
interventions of 4 years ago no longer within the law. But is 
it--do you think that the biggest banks can fail without 
significant consequences for the financial system or the 
broader economy?
    Mr. Kelleher. Not yet. We still have a long way to go under 
Dodd-Frank. We need not just living wills and resolution 
authority. At the front end, the Fed has to get in place a 
whole variety of liquidity, capital, leverage requirements. 
That has to be married up to the back end on resolution 
authority, which is the FDIC's Orderly Liquidation Authority. 
They have gone very far on that. They have just announced 
recently an international agreement with the U.K. on 
resolution. And the president of the Bank of England was just 
here discussing that with the head of the FDIC publicly.
    But you take all of these things and you put them in place, 
if they get put in place in good faith by people intending to 
achieve the objective of ending too-big-to-fail, including, 
importantly, banning proprietary trading and limiting the 
investments in hedge funds, et cetera, you could be at a place, 
at a point in time, where you do eliminate too-big-to-fail.
    Mr. Miller of North Carolina. I am puzzled by the hand-
wringing, though, at the idea that intent could be a factor in 
the law. Oliver Wendell Holmes said intent is the concept that 
runs throughout the law, that a dog knows whether he has been 
kicked or stumbled over. It is something we deduce from 
circumstances all the time in our ordinary lives. And it is a 
common legal concept that we frequently have to have deduce for 
consequences.
    Can you think of other areas in the law in which important 
consequences may depend upon determinations of intent?
    Mr. Kelleher. Every single criminal prosecution. Every 
single civil litigation, contracts. It is a fairly routine 
concept, intent. But the important thing about this--I think it 
is a phony argument, that you have to discern the intent of a 
trader to find out whether it is a prop trade or not. That is 
not factually accurate. Don't take my word for it. Talk to real 
traders. Talk to people who run desks about how it really 
works. There is documentation. So intent isn't involved there.
    But, where intent is interestingly involved is if you are 
going to hold somebody accountable under the law. And we 
haven't seen that happen in connection with the financial 
crisis at the largest banks. There are no executives who have 
been held accountable in any serious way. Basically, the banks 
have used shareholder money to pay big fines to move on.
    So it would be nice, actually, if people who were worried 
about intent would think about determining the intent of people 
who engaged in some pretty egregious conduct before the 
financial crisis, took billions of dollars in bonuses, and 
stuck the American people with the bill. They might want to 
look at the intent of those actions.
    Mr. Miller of North Carolina. The proposed rules or some of 
the discussion, does it--do they outline circumstances that 
might suggest what the intent was, whether it is proprietary 
trading or market making or hedging? And what are some of the 
circumstances that might indicate what the intent was?
    Mr. Kelleher. You are going to know, because if you look at 
the trader's book, the trader has an allocation as to risk--
    Dr. Hayworth. The gentleman's time has expired.
    Mr. Luetkemeyer is recognized for 5 minutes.
    Mr. Luetkemeyer. Thank you, Madam Chairwoman.
    Mr. Stevens, I will start with you.
    You handled a mutual fund investment company and are the 
director for the Investment Company Institute. And I know that 
you talked in your testimony with regards to mutual funds and 
they need to be out of the Volcker Rule umbrella.
    Can you elaborate on it a little bit? Can you differentiate 
between mutual funds and hedge funds and why you think--how 
they don't interplay and shouldn't be considered here, and the 
effects of the rule?
    Mr. Stevens. Tough question, Congressman.
    This is really a very bright line, and I think everyone 
understands it quite well. And Congress drew it in the Volcker 
Rule.
    Mutual funds and other registered investment companies 
under the Investment Company Act of 1940 are subject to all of 
the major Federal securities laws. In fact, there is no more 
heavily-regulated financial product in the market today. Mutual 
funds are required, for example, to--under the statute, to 
avoid the full range of potential conflicts of interests with 
their sponsors. They are subject to a very specific governance 
regime. They are subject to an enormous amount of transparency 
in terms of their disclosure to investors. They are subject 
restrictions in the way that their portfolios work and the 
kinds of investment strategies that they can pursue.
    Hedge funds, on the other hand, are subject to none of 
that. They are private investment companies. Their advisors, 
after Dodd-Frank, have to be registered with the SEC. But the 
hedge fund can pursue whatever strategies it wishes, provided 
only that it is either sold to a sophisticated group of 
investors--and I put quotes around ``sophisticated,'' because 
that is another issue that needs to be addressed at some 
point--or to a very limited number of investors.
    Now, the key thing in addition is that other markets 
outside of the United States are subject to similar sorts of 
dichotomies in terms of the funds that are made available in 
the market.
    So that there are, for many purposes, funds that look very 
much like U.S.-registered funds, U.S. mutual funds that are 
sold outside of the United States and in very many instances 
are sponsored by American fund advisors.
    Our point is that both of those kinds of funds, both the 
U.S. funds and the non-U.S. funds that look like American 
mutual funds, should be outside of the covered funds provisions 
and the banking entity provisions of the Volcker Act. And we 
hope the regulatory agencies will clarify that.
    Mr. Luetkemeyer. Mr. Plunkett, do you agree with that? You 
handled investments of a similar nature.
    Mr. Plunkett. Yes, Congressman.
    Foreign funds, many foreign funds such as UCITS funds in 
Europe and certain funds, OEICs in the U.K., are already 
heavily regulated and very similar to U.S. mutual funds.
    The regulators need to make a distinction between what 
types of funds are really sought to be covered by the Volcker 
Rule and what should be excluded--the exclusion should include 
all U.S. mutual funds.
    Mr. Luetkemeyer. Mr. Quaadman, we have hardly talked at all 
today, yet with regard to getting an extension for all of the 
entities which are going to have to comply with the Volcker 
Rule because at this point, not all the rules are out there. 
Not all the rules--the final rule hasn't been set, and 
interpretation of it, there is a sort of a nebulous framework 
out there.
    But you have 2 years to comply from July 21st, and the 
clock is ticking. And yet there is nothing there for you to 
comply with, technically. At least from my understanding of it.
    So my question to you is: Are all of you working in 
coordination to try and get an extension of the Federal Reserve 
compliance period here so--until the rules are promulgated and 
finalized, that you actually know what you are going to be 
doing so you can have the proper amount of time to comply?
    Mr. Quaadman. I think that is a great question. That is why 
I mentioned in my opening statement why we think the Bachus-
Hensarling request for an extension time is important.
    One thing I want to say as well, because I think this has 
been bandied about a bit, but I think it is also is emblematic 
of the problems with the Volcker Rule itself. One of the 
examples that has been used here has been the London Whale 
example. Right? And with the financial institution where that 
occurred, there are dozens of regulators who are embedded in 
that institution go there every day, are supposed to be looking 
at the activities of that bank. To this day, they can't tell 
you if that was a proprietary trade or not. So if they cannot 
tell you if that was a proprietary trade or not, for a 
corporate treasurer who has to go to the capital markets every 
day who is going to have to go through intense regulatory 
scrutiny as to when they go out and sell their bonds or their 
stocks, how are they going to have any certainty for how the 
market is going to react or the regulator is going to react?
    Mr. Luetkemeyer. I appreciate your comments. My time is up. 
Thank you. I yield back.
    Dr. Hayworth. Mr. Lynch of Massachusetts is recognized for 
5 minutes.
    Mr. Lynch. Thank you, Madam Chairwoman.
    Let me ask you on that point, Mr. Kelleher, is there a 
legitimate claim here that some folks couldn't distinguish 
between proprietary and nonproprietary?
    Mr. Kelleher. My answer would be, it is clearly 
proprietary. And JPMorgan Chase CEO Jamie Dimon, who testified 
both in the House and the Senate, agreed when he said, ``I 
can't tell you if it is or it is not.''
    I guarantee you if it was not, he would have said that.
    Mr. Lynch. Right.
    Mr. Kelleher. I don't think there is really any doubt of 
anybody who is independent, looking at what happened there and 
what the trade was, based on what we now know--there is still a 
lot we don't know--but based on what we know, it was pretty 
clearly a proprietary trade.
    Mr. Lynch. Mr. Kelleher, what I really want to do is follow 
up on my friend's line of questioning, Mr. Miller from North 
Carolina, regarding the HSBC case that was announced yesterday.
    We really aren't talking about just too-big-to-fail in this 
case. Now, just to sort of regurgitate the facts here, HSBC 
yesterday entered into a deferred prosecution agreement with 
the Justice Department after they had admitted that they 
violated the Bank Secrecy Act and the International Emergency 
Economic Powers Act and the Trading With the Enemy Act. They 
actually conducted illegal transactions with Cuba, Iran, Libya, 
Sudan, and Burma, all countries that were subject to the 
sanctions enforced by the Office of Foreign Asset Control at 
the time of the transaction.
    And there is no question that they knew what they were 
doing. They actually scrubbed some of the reports so that it 
wouldn't flag what they were doing.
    But what troubles me greatly is they agreed to a $1.92 
million penalty, but the Justice Department agreed not to 
prosecute because they were afraid of what the financial 
reverberations would be to the market.
    So these folks aren't just too-big-to-fail, they are ``too-
big-to-indict,'' to steal a phrase from The New York Times 
editorial yesterday.
    And it would seem to me that the Volcker Rule would be very 
helpful in stopping these banks from getting so enormous that 
any--that they become immune from prosecution, which defeats 
the entire purpose here.
    How do we get at that? How do we get at that situation 
where these banks are clearly violating, knowingly violating 
the law? And doing so at risk to the entire markets? How do we 
not prosecute these guys and just put a little slap on them and 
allow them to continue to do what they have been doing?
    Mr. Kelleher. Everybody knows that unpunished crime does 
not deter crime. In fact, unpunished crime incentivizes and 
rewards crime and ends up with more crime. So it may be the 
case that HSBC or other banks are ``too-big-to-indict,'' 
because you don't want to have them collapse. And there is the 
consummate example of the Arthur Andersen accounting firm.
    But that doesn't mean that individuals can't and shouldn't 
be prosecuted and put in jail. A bank may be ``too-big-to-
indict,'' but there is no banker who is ``too-big-to-indict.'' 
And without accountability, be it for egregious conduct engaged 
in a run-up to the financial crisis, or be it HSBC or 
otherwise, the failure to hold senior executives accountable 
and other executives, officers, and employees who knowingly 
break the law, if you don't do that, you green-light them to do 
it more.
    And you are exactly right in terms of proprietary trading. 
The problem with proprietary trading is the riches and the 
rewards are so massive, the temptation is so huge because the 
rewards are so high, that it has to be limited. And it is one 
of the key ways to cut down on high-risk activity at taxpayer-
backed banks that risk failure and taxpayer bailout. But both 
of those go together. Some accountability and prosecution of 
individuals, whether they are a banker or not, should not be 
limited because you are concerned about the institution itself.
    Mr. Lynch. I haven't read the entire deferred prosecution 
agreement. But the only thing that I can see through in these 
documents is that there was a partial claw-back of some of the 
bonuses that were given to some of the officers of the bank. 
That was it. Now, I understand that the Brits are also going to 
move forward with their own prosecution. So maybe, maybe 
because it is a London-based institution, maybe it will come 
during that prosecution.
    But I still think--I agree with your statement that there 
should have been much more severe consequences for these folks. 
Actually, money laundering for Cuba, Iran, Libya, Sudan, and 
Burma, in the face of the sanctions that Congress has placed--
    Dr. Hayworth. And the gentleman's time has expired.
    Mr. Lynch. Thank you, Madam Chairwoman.
    Dr. Hayworth. Thank you, sir.
    Mr. Stivers is recognized by the Chair for 5 minutes.
    Mr. Stivers. Thank you, Madam Chairwoman.
    My first question is for Mr. Quaddman. Why do you think it 
is important to look at the Volcker Rule in conjunction with 
other regulatory structures such as the Basel III?
    Mr. Quaadman. Sure. Because all of those actually work in 
conjunction with one another. That is why I tried to describe 
that in our opening statement of all the different ways that a 
corporate treasurer has to either raise cash or mitigate risk. 
Each one of those plays off one another, which is why the only 
alternative they would have, if those markets start to get shut 
down or they are shut out of markets or costs are too high, 
that they just have to have part cash. And that actually has 
other economic consequences to it.
    Mr. Stivers. Does the impact of these multiple regulatory 
structures make the United States more or less competitive in 
global financial markets?
    Mr. Quaadman. It makes it less competitive. Because the 
Volcker Rule is a unilateral action by United States, which is 
why we think there should be international coordination if we 
are go down that road.
    But we have also seen, even with Basel III, while we 
started to look at the implementing regulations, European 
regulators were already saying that they had to delay it. So we 
need to make sure everybody is playing on the same playing 
field. And that hasn't been the case so far.
    Mr. Stivers. Thank you.
    And I guess this question is for Mr. Hambrecht. You talked 
a little bit about a different solution. But you have 
experience in the capital markets. I am just curious, do you 
believe that market making is proprietary trading?
    Mr. Hambrecht. No, I don't.
    Mr. Stivers. Okay. Whose money is at risk in market making?
    Mr. Hambrecht. Let me try and answer your question this 
way: I personally think that trading efficiency has increased 
enormously because of technology, not because of market makers. 
So the rise of these so-called dark pools, for example, which 
are really computer-matching systems, they match the buyer and 
seller and they take the dealer out of the equation. I think 
they are the people who have lowered trading costs and equity. 
And I do think that will happen in debt. This is the BlackRock 
approach that they have just announced. So, to me, market 
making the matching the buyer with the seller at the least 
possible cost.
    Mr. Stivers. And I did that. I worked at the Ohio Company 
in the 1990s, and I can assure you that it was the Ohio 
Company's money at risk. It was--its proprietary. Market make 
the property trading. It is the only example inside of--I agree 
with Mr. Kelleher, with a lot of everything he said. And I get 
I will let Mr. Kelleher, and maybe the whole panel tell me if 
you think--because clearly market making is a company putting 
their money at risk. To provide liquidity in the markets, they 
have to offer both a bid and an ask. And they are supposed to 
make money on the spread. But they have inventory and it is 
their money at risk.
    And does anybody believe that these companies that are 
market makers don't have inventory and, therefore, their assets 
are not at risk?
    Let me ask it that way, all the way down the panel. A yes-
or-no answer is fine with me.
    Mr. Barth. I don't believe that market making is 
speculative trading.
    Mr. Stivers. I didn't ask if it was speculative trading. I 
asked if it was proprietary trading. I asked if they had their 
money at risk, which is the whole point here.
    Mr. Barth. Yes.
    Mr. Stivers. Thank you.
    Mr. Hambrecht. I would answer it, if they choose so. I 
think most market makers try to come out flat.
    Mr. Stivers. I agree, but--okay.
    Mr. Kelleher. And much of it is matching. And we put in our 
comment letters in connection with this rule, showing that, for 
example, the big banks actually don't keep inventories hardly 
at all anymore. If you look at the actual facts, they don't. So 
it is a matching--
    Mr. Stivers. The goal is to not have inventory, I will give 
you that. The goal is to not have inventory.
    Mr. Kelleher. As a fact, they don't have them.
    Mr. Stivers. Right. They meet their--
    Mr. Kelleher. So there really isn't much proprietary 
trading left.
    Mr. Stivers. But their goal is to provide, they are in the 
market to provide liquidity. Therefore, if there is a big 
short-term imbalance, they could obviously end up with 
inventory at the end of the day; therefore, they have money at 
risk. Let's keep going down the panel.
    Mr. Plunkett. Congressman, I think it is important to note 
that the Volcker Rule is intended to prohibit proprietary 
trading, not every instance of principal trading, when banks do 
take on their books to create inventory in order to have 
securities that they can sell to asset managers, for instance, 
or other clients and investors.
    Mr. Quaadman. I think the regulators are having problems 
distinguishing between the two, which is why it has been so 
problematic to even come up with the rule.
    Mr. Stevens. I think Mr. Plunkett hit the nail on the head. 
It is not so simple a world. There are kinds of principal 
trading that would be market making, and kinds of principal 
trading that would be proprietary trading as the Congress 
sought to address in the provision. And drawing the line 
between two different kinds of principal trading can be hard.
    Dr. Hayworth. And the gentleman's time has expired.
    Mr. Stivers. Thank you, Mr. Stevens. My time has expired, 
but that illustrates how difficult this is. I yield back.
    Dr. Hayworth. Mr. Green of Texas is recognized for 5 
minutes.
    Mr. Green. Thank you, Madam Chairwoman. I would like to 
join those in saluting Chairman Bachus for his outstanding work 
with the committee, and of course, my very dear friend, Ranking 
Member Frank, for his outstanding service to the committee and 
to our country.
    And I would also like to just mention Mr. Himes, because of 
some very thoughtful comments he made yesterday on the question 
of derivatives. Mr. Kelleher, are you of the opinion that 
intentionality trumps overt manifestations when it comes to 
ascertaining whether or not we have proprietary trading versus 
market making, or are overt manifestations what we look for in 
the actions of those who engage in these practices?
    Mr. Kelleher. I don't think we need to define the intent of 
a trader. I think that you can tell by looking at their book 
and the desk's book, and you check with compliance and risk and 
capital, and then you look at the bonus pool as it gets rolled 
up week by week, quarter by quarter, and you can find out 
exactly what type of trade it was. You don't have to figure out 
what somebody is thinking in their head as to whether it is 
proprietary or not. That doesn't mean 100 percent of the time.
    Mr. Green. Yes, sir, that is just if there is someone who 
does believe that we have to understand what the person was 
actually intending to do, as opposed to what the person's overt 
manifestations indicate.
    Mr. Quaadman. Mr. Green, if I could just answer, as I said 
in my opening statement, we believe the capital requirements 
are actually an easier way to go. One example with the Volcker 
Rule is the Volcker Rule establishes a bright line of the 60-
day period, that if you hold a security for more than 60 days, 
it is presumed to be proprietary trading.
    Now, you can have a company that has hundreds of bonds that 
may not even move for 90 days. So there is no ability to move, 
to match a buyer and a seller for a 90-day period. That is not 
unusual. And in fact, that is not unusual in the stock market 
either, which is why with the JOBS Act, Congress actually has 
mandated that the SEC look at whether or not that motivation 
should be needed for smaller issuances because they can't move 
over a specific period of time.
    Mr. Green. I take it from what you have said that it is the 
actions that really count, not the intentionality?
    Mr. Quaadman. We think it is difficult for the regulators 
to define rules that give markets the certainty that they need, 
and that is why we think that the capital requirements are an 
easier way to go.
    Mr. Green. I understand, but you and I seem to be talking 
past each other. So let me try to focus. If we have a 
circumstance wherein the actor indicates, yes, I did it, but I 
didn't intend to do it, are you concluding that this would not 
be proprietary trading?
    Mr. Quaadman. I think as the example I used earlier, with 
the London trade example, the regulators who were embedded in 
that institution cannot tell you whether or not there was a 
proprietary trading months after that occurred. And that hasn't 
been disputed here, so I think that shows exactly why it is 
almost impossible to define if something is proprietary or not.
    Mr. Green. Mr. Kelleher, let me allow you to respond, 
please.
    Mr. Kelleher. In terms of the London Whale, I don't think 
there is really any dispute, and the dispute, if there is one, 
comes to the timing of the trade. When the trade was originally 
put on, it appears from the public record that there was an 
argument to be made that it was a hedge. It was congruent with 
an existing portfolio. And the CEO refers to it as kind of 
ambiguous, but he says it morphed into something else. The 
truth is, at banks, things don't morph. People make decisions 
and then they execute those decisions. And what happened, 
decisions were made at JPMorgan Chase, to change a highly 
liquid, low risk, what appears to be an actual hedge, into 
something that was a straight-out, flat prop trade in a very 
complex derivative play.
    So at the end of the day, what they were in and what they 
couldn't get out of and what cost them money was a prop trade. 
I don't have any doubt it is going to come out that way. What 
it was originally--we don't have the evidence yet because it is 
not on the public record. It appears that may well have been a 
hedge, a hedge then and it looks like it would have even been a 
hedge under the Volcker Rule and the law if it was applicable 
at the time, but not what it supposedly, what it was changed 
into.
    Mr. Quaadman. Mr. Green, if I could just add for one second 
and maybe this would help is that is one of the reasons why we 
think there should be a reproposal, because you have had this 
proposal out there for so long. The regulators have asked so 
many different questions. It is important, I think, for 
everybody that if they can repropose the rule, allow everybody 
to take another look at it, determine whether or not there is 
turnkey there, then we can figure out if it needs to be fixed 
or not.
    Mr. Kelleher. There were 18,000 comment letters, something 
around 2,000 meetings, 99 percent of them with industry. They 
need more input? And I will note for the record, anyway, 
because the answer was that Mr. Quaadman agrees with me and 
you, and when it comes to proprietary trading, actions will 
tell you what you need to know.
    Dr. Hayworth. And the gentleman's time has expired. Thank 
you, Mr. Green.
    Mr. Green. Madam Chairwoman, I yield back.
    Dr. Hayworth. Thank you, Mr. Green. Mr. Huizenga is 
recognized for 5 minutes.
    Mr. Huizenga. Thank you, Madam Chairwoman, and at this 
point, I would like to actually turn it over to my good friend 
and colleague from Texas, Quico Canseco, for the balance of my 
time.
    Dr. Hayworth. The gentleman yields to Mr. Canseco.
    Mr. Canseco. Thank you. Thank you for yielding. Mr. Barth, 
I want to pick up where we left off, and as I understand the 
way the rule is currently drafted, it says that a firm could 
not make money if an asset they hold increases in value after 
they acquire it. So a firm would have to have no incentive 
whatsoever to acquire an asset that is priced very low. 
Wouldn't that add to systemic risk in the financial system, 
especially in a time of crisis when asset values plummet?
    Mr. Barth. Yes, asset values, indeed, do fluctuate a great 
deal over short periods of time, and that is, in my view, a 
problem with the Volcker Rule. It talks about a relatively 
short period of time, in which the intent is to gain from the 
price increase rather than serve a customer. I think that is 
the problem.
    I think there is still difficulty despite what some other 
people believe about the Volcker Rule. May I just add, if one 
is worried about too-big-to-fail, the issue is capital. If 
institutions have too little capital, of course, they could 
have a lot of assets. So I think capital requirements, 
liquidity requirements, are a way to deal with too-big-to-fail. 
I don't think the Volcker Rule is a way to deal with too-big-
to-fail.
    Mr. Canseco. So you mention in your testimony that you 
believe that the Volcker Rule is based on an incorrect premise, 
or an incorrect assumption. Why is it an incorrect premise, and 
is there anywhere where the Volcker Rule can be implemented 
that would avoid problems in the future?
    Mr. Barth. I think I, perhaps, should say, is, or may be an 
incorrect premise. And the reason I say that, based upon the 
hearings that were held earlier this year, there was talk about 
the fact that many people now are willing to concede the fact 
that the proprietary trading was not the cause of the financial 
crisis, which was severe in the United States. And nobody has 
presented any evidence suggesting that of all the costs 
associated with the crisis, proprietary trading accounted for a 
large proportion of those costs.
    Now, the concern that is going forward in the future, it is 
speculative, in my view. What is really speculative is to say 
that the Volcker Rule is going to prevent a future crisis. I 
think that is sheer speculation. There is no evidence 
whatsoever, based upon its role in the previous crises in this 
country or any other country around the world.
    Mr. Canseco. Do you believe that if other countries do not 
implement a Volcker-like rule, then trading that would be 
prohibited in the United States will move overseas?
    Mr. Barth. Yes, I think that is a distinct possibility. I 
know Mr. Kelleher did talk about the Liikanen Report, and the 
Vickers Report, and one might describe them as ``Volcker 
Light,'' but clearly, I do not believe that the solution to the 
future crises is the Volcker. And indeed, I think business 
could migrate across national borders, go into other countries. 
And that would be a concern for U.S. banks in terms of the 
competitiveness.
    Mr. Canseco. Thank you, Professor. Mr. Quaadman, there are 
reports that regulators could potentially come out with three 
different versions of the so-called Volcker Rule. Could you 
comment on the confusion that would result if that were the 
case?
    Mr. Quaadman. Let me give you one example. We took a group 
of corporate treasurers up to meet with all the regulators 
involved in the Volcker Rule earlier this year, and the day 
literally started with one regulator saying, we are going to 
look at this by trade-by-trade analysis, and we ended the day 
with the regulators saying, if you develop principles and you 
are in conformance with the principles, you are going to 
conform with the rule, you are going to be compliant with the 
rule. They are talking about the same rule.
    What I think is important here is, I think we need to have 
a rule that works. We need to have regulators on the same page, 
and we are not getting there. That is one of the reasons why 
last year, actually a year ago now, we sent a letter in just on 
cost-benefit analysis, because you had five regulators with 
five different legal standards, and we thought they should 
conform to the economic analysis and rigorous economic analysis 
that was proposed by President Obama in Executive Order 13563 
so that they were all looking at it in the same way.
    And unfortunately, as this Volcker Rule consideration has 
continued on, we are just seeing divergence instead of 
convergence, and unfortunately, a system that may not work.
    Mr. Canseco. Thank you very much. I yield back the balance 
of my time.
    Dr. Hayworth. Thank you, Mr. Canseco. Mrs. Maloney of New 
York is recognized for 5 minutes.
    Mrs. Maloney. I thank all of the panelists. I would like to 
put in the record a series of articles that points out how 
proprietary trading was really prosecuted, and some of our most 
respected banks had to pay fines of over $500 million for what 
was described as an abuse, knowingly selling to their customers 
products that they knew were faulty, and then shorting them.
    So how you say that is not part of the financial crisis, I 
beg to differ. There are many parts of the financial crisis. 
The subprime crisis was part of it. But those who took those 
instruments, those subprime documents and then sold them to 
their trusted clients, causing their loss and making a profit, 
is not a policy that I would like to see continued in our great 
country. I think markets run on trust, and we have to restore 
the trust of our great country.
    I would like to say that I would like to place into the 
record a list of banks that have voluntarily given up 
proprietary trading, conforming to the Volcker Rule before it 
takes effect. I wrote both the Federal Reserve, and the OCC 
asking, what is the status of the Volcker Rule? What are our 
banks doing? The OCC wrote back and said that six of the 
largest banks in our great country are already adhering to the 
Volcker Rule. And these institutions are Citibank, JPMorgan 
Chase, Bank of America, Wells Fargo, and PNC Bank.
    I have not heard from the Federal Reserve, even though I 
wrote my letter in September, they haven't gotten back to me. 
But they have unwound, they have the trading moved off. They 
are no longer doing proprietary trading in many of the banks in 
the district that I am privileged to represent. So it is being 
taken seriously by the financial sector and financial leaders 
of some of our major institutions. They are adhering to it.
    I have three major points that I would like to put in the 
record for this purpose of the hearing on the Volcker Rule. And 
some of you have underscored them. First, a stable financial 
system with robust financial markets can only exist with clear 
comprehensible rules of the road. And as proposed, the 
regulations implementing the Volcker Rule would not follow this 
simple principle of clarity. The complexity of the regulatory 
proposals to implement the Volcker Rule must not be carried 
forward into its final form. Many of you have talked about the 
complexity. It has to be very clear to the market, and I 
believe that our regulators can do it.
    Second, the five agencies responsible for implementing this 
rule should resolve their differences and put forward a 
consistent set of regulations. Several different and 
potentially conflicting sets of expectations could leave the 
American financial industry in total disarray, an outcome that 
is both undesirable and unnecessary. So I speak to the 
regulators that they have to be coordinated on this.
    And finally, our regulators must remain mindful of the 
important exceptions that Congress clearly provided in the 
Volcker Rule for market-making and hedging activities for the 
purpose of helping their clients. In respect to market making, 
Congress understood that adequate liquidity is absolutely 
essential to well-functioning financial markets, and banks play 
an essential role in providing that liquidity.
    Banks must have clear authority to engage in customer-
related trading in order to make markets and strong U.S. 
financial markets so critical to growing companies and our 
economy and our jobs. And also, the hedging is also an 
essential tool that financial institutions use to safely manage 
their exposure and ultimately, to protect the American 
investors and depositors.
    So I wanted to talk about that, and the one person's 
testimony that I didn't hear--I had to go testify at the 
Transportation Committee--was Mr. Stevens. So I want to point 
out that when the Senate added the Volcker Rule to Dodd-Frank, 
it did not come out of this body, but the Senate added it. The 
clear intent was to limit a bank's ability to sponsor or invest 
in hedge funds and private equity funds. And Mr. Stevens, can 
you describe some of the key consumer protections that are 
different from registered mutual funds and from the kinds of 
entities that the Volcker Rule is intended to prevent banks 
from--
    Dr. Hayworth. The gentlelady's time has expired. Mr. 
Stevens, can you answer very quickly? I apologize for that.
    Mr. Stevens. In very simple terms, we are subject to a very 
comprehensive scheme of regulation under all the Federal 
securities laws. The hedge funds are subject to none of that.
    Mrs. Maloney. Very briefly, may I say one thing?
    Dr. Hayworth. Mrs. Maloney, your time has expired. We want 
to get to Mr. Carney if we can.
    Mrs. Maloney. Oh, sorry.
    Dr. Hayworth. Mrs. Maloney's documents will be entered into 
the record, without objection.
    Mr. Carney is recognized for 5 minutes.
    Mr. Carney. Thank you, Madam Chairwoman. I thank the panel 
for coming today. I have been fascinated by this discussion, 
and a little confused by some of it. We have a vote, so I will 
try to be quick. I want to come back to Congressman Stivers' 
line of questioning around the distinction between proprietary 
trading and market making.
    Mr. Kelleher and, I think, Mr. Hambrecht, I believe you 
both believe that it is pretty simple to determine that, and 
that you don't really need to look at intent. But doesn't the 
proposed rule call for a plan that the entity would submit and 
describe what their intent would be in these kinds of 
practices? Isn't that what the proposed rule suggests?
    Mr. Kelleher. I don't believe so, but even if one were to 
argue, and many have argued that is what it does require, there 
is going to be a final rule and there are several ways--we 
filed four separate comments letters on this suggesting--
    Mr. Carney. So your view is, you don't have to focus on 
intent. You can do it by looking at the compensation, 
deconstructing the compensation package?
    Mr. Kelleher. And the economic interest at the time. I am 
told by people who make a living, an incredibly good living 
trading and running desks at the biggest banks in this country, 
that this is not a complex problem.
    Mr. Carney. It is not a hard problem.
    Mr. Kelleher. It is pretty clear at the time.
    Mr. Carney. The complaints that I have heard from market 
participants is that it is a distinction between a permitted 
activity, market making, and a prohibitive activity, prop 
trading. Clearly, prop desks, and all that, they have been 
eliminated. That is easy. But holding, buying securities to 
hold and to sell later, is much more difficult to determine, 
but you don't think so?
    Mr. Kelleher. Even for market making, the traders and the 
desk that the traders work for, all have allocations as to how 
much risk they can take on for the firm. So they are not willy-
nilly trading in terms of market making. They know it and are 
tracking it minute to minute. The other thing at a macro level, 
any bank can do all of the market making they want. All they 
have to do is run basically a hedged book, or a flat book. Even 
a hedged book, a legitimately hedged book, you can do all of 
the market making and anything you want.
    The other thing is and we laid this out in the comment 
letters, much of the complaints about the need for inventory, 
particularly in the derivative space, there is no evidence that 
the banks are keeping that inventory anyway today, never mind 
tomorrow. So when you actually look at the facts as opposed to 
the claims, the application of the rule to the actual market 
making activities that they claim to engage in, either are 
actually being done at a very low level and can be done 
relatively easily in compliance with the law.
    Mr. Carney. So you don't think it is big--Mr. Hambrecht, 
your view of that?
    Mr. Hambrecht. I agree with Mr. Kelleher. I think it is 
normally very clear what the goal of making a market is. And if 
it is to keep an orderly market and to keep basically the right 
to get most of the order flow, as it is for most specialists, 
there is an obligation to put out some capital to keep an 
orderly market. But that is always based on the premise that 
you are going to move the stock along.
    Mr. Carney. It will be as obvious to the regulator as it is 
to the manager of the--
    Mr. Hambrecht. Oh, yes, I think the idea that regulators 
can't figure it out just isn't true. We deal with the SEC all 
the time. They know how capital markets work.
    Mr. Carney. Fair enough. So what about Mr. Quaadman's 
notion that we should approach it through capital requirements 
as opposed to prohibitions, I guess?
    Mr. Hambrecht. My position would be any exemption you give 
should have additional capital requirements or margin 
requirements placed on them as an added safeguard.
    Mr. Carney. So you don't dismiss it as an effective tool?
    Mr. Hambrecht. No, I think it is an added safeguard that 
someone can't build these massive positions and suddenly people 
find out about it when it is too late.
    Mr. Kelleher. Capital has to be a complement to the other 
rules.
    Mr. Carney. Right. Fair enough. So one more question about 
that. What would you say to Mr. Quaadman's concerns about the 
company treasurers, and what they would have to do with respect 
to holding more capital, given the various rules and 
regulations that are coming down?
    Mr. Hambrecht. Oh, I think it has very little effect on 
cash balances in a corporation. That is much more a function of 
taxes and future needs of capital. I think, basically, most 
corporate treasurers would tell you that the technology that 
has been brought into markets today has made transaction costs 
come down significantly, and that they can raise money now on a 
much lower cost. Equity trading has gone from what used to be 
anywhere from 1 to 5 percent, down to 10 percent of 1 percent. 
And that will happen in the debt markets.
    Mr. Carney. Thank you very much to the whole panel. I found 
your testimony very helpful.
    Dr. Hayworth. And the gentleman's time has expired. The 
Chair thanks the panel for their testimonies.
    The Chair notes that some Members may have additional 
questions for the panel, which they may wish to submit in 
writing. Without objection, the hearing record will remain open 
for 30 days for Members to submit written questions to these 
witnesses and to place their responses in the record.
    The hearing is adjourned.
    [Whereupon, at 11:22 a.m., the hearing was adjourned.]


                            A P P E N D I X



                           December 13, 2012


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