[House Hearing, 113 Congress]
[From the U.S. Government Publishing Office]




                WHAT IS CENTRAL ABOUT CENTRAL BANKING?:
                    A STUDY OF INTERNATIONAL MODELS

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

                                HEARING

                               BEFORE THE

                        SUBCOMMITTEE ON MONETARY

                            POLICY AND TRADE

                                 OF THE

                    COMMITTEE ON FINANCIAL SERVICES

                     U.S. HOUSE OF REPRESENTATIVES

                    ONE HUNDRED THIRTEENTH CONGRESS

                             FIRST SESSION

                               __________

                           NOVEMBER 13, 2013

                               __________

       Printed for the use of the Committee on Financial Services

                           Serial No. 113-50




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                 HOUSE COMMITTEE ON FINANCIAL SERVICES

                    JEB HENSARLING, Texas, Chairman

GARY G. MILLER, California, Vice     MAXINE WATERS, California, Ranking 
    Chairman                             Member
SPENCER BACHUS, Alabama, Chairman    CAROLYN B. MALONEY, New York
    Emeritus                         NYDIA M. VELAZQUEZ, New York
PETER T. KING, New York              MELVIN L. WATT, North Carolina
EDWARD R. ROYCE, California          BRAD SHERMAN, California
FRANK D. LUCAS, Oklahoma             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            STEPHEN F. LYNCH, Massachusetts
MICHELE BACHMANN, Minnesota          DAVID SCOTT, Georgia
KEVIN McCARTHY, California           AL GREEN, Texas
STEVAN PEARCE, New Mexico            EMANUEL CLEAVER, Missouri
BILL POSEY, Florida                  GWEN MOORE, Wisconsin
MICHAEL G. FITZPATRICK,              KEITH ELLISON, Minnesota
    Pennsylvania                     ED PERLMUTTER, Colorado
LYNN A. WESTMORELAND, Georgia        JAMES A. HIMES, Connecticut
BLAINE LUETKEMEYER, Missouri         GARY C. PETERS, Michigan
BILL HUIZENGA, Michigan              JOHN C. CARNEY, Jr., Delaware
SEAN P. DUFFY, Wisconsin             TERRI A. SEWELL, Alabama
ROBERT HURT, Virginia                BILL FOSTER, Illinois
MICHAEL G. GRIMM, New York           DANIEL T. KILDEE, Michigan
STEVE STIVERS, Ohio                  PATRICK MURPHY, Florida
STEPHEN LEE FINCHER, Tennessee       JOHN K. DELANEY, Maryland
MARLIN A. STUTZMAN, Indiana          KYRSTEN SINEMA, Arizona
MICK MULVANEY, South Carolina        JOYCE BEATTY, Ohio
RANDY HULTGREN, Illinois             DENNY HECK, Washington
DENNIS A. ROSS, Florida
ROBERT PITTENGER, North Carolina
ANN WAGNER, Missouri
ANDY BARR, Kentucky
TOM COTTON, Arkansas
KEITH J. ROTHFUS, Pennsylvania

                     Shannon McGahn, Staff Director
                    James H. Clinger, Chief Counsel
               Subcommittee on Monetary Policy and Trade

                  JOHN CAMPBELL, California, Chairman

BILL HUIZENGA, Michigan, Vice        WM. LACY CLAY, Missouri, Ranking 
    Chairman                             Member
FRANK D. LUCAS, Oklahoma             GWEN MOORE, Wisconsin
STEVAN PEARCE, New Mexico            GARY C. PETERS, Michigan
BILL POSEY, Florida                  ED PERLMUTTER, Colorado
MICHAEL G. GRIMM, New York           BILL FOSTER, Illinois
STEPHEN LEE FINCHER, Tennessee       JOHN C. CARNEY, Jr., Delaware
MARLIN A. STUTZMAN, Indiana          TERRI A. SEWELL, Alabama
MICK MULVANEY, South Carolina        DANIEL T. KILDEE, Michigan
ROBERT PITTENGER, North Carolina     PATRICK MURPHY, Florida
TOM COTTON, Arkansas




























                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on:
    November 13, 2013............................................     1
Appendix:
    November 13, 2013............................................    35

                               WITNESSES
                      Wednesday, November 13, 2013

Lachman, Desmond, Resident Fellow, American Enterprise Institute.     5
Makin, John H., Resident Scholar, American Enterprise Institute..     8
Orphanides, Athanasios, Professor, Practice of Global Economics 
  and Management, Sloan School of Management, Massachusetts 
  Institute of Technology........................................     7
Posen, Adam S., President, Peterson Institute for International 
  Economics......................................................    10

                                APPENDIX

Prepared statements:
    Lachman, Desmond.............................................    36
    Makin, John H................................................    49
    Orphanides, Athanasios.......................................    62
    Posen, Adam S................................................    68

              Additional Material Submitted for the Record

Huizenga, Hon. Bill:
    Wall Street Journal article entitled, ``ECB's Praet: All 
      Options on Table,'' dated November 13, 2013................    79
    Written statement of Lawrence Lindsey........................    82
    Wall Street Journal article entitled, ``Andrew Huszar: 
      Confessions of a Quantitative Easer,'' dated November 11, 
      2103.......................................................    98

 
                     WHAT IS CENTRAL ABOUT CENTRAL
                          BANKING?: A STUDY OF
                          INTERNATIONAL MODELS

                              ----------                              


                      Wednesday, November 13, 2013

             U.S. House of Representatives,
                           Subcommittee on Monetary
                                  Policy and Trade,
                           Committee on Financial Services,
                                                   Washington, D.C.
    The subcommittee met, pursuant to notice, at 2:27 p.m., in 
room 2128, Rayburn House Office Building, Hon. Bill Huizenga 
[vice chairman of the subcommittee] presiding.
    Members present: Representatives Huizenga, Pearce, Posey, 
Fincher, Stutzman, Mulvaney, Pittenger, Cotton; Clay, 
Perlmutter, Carney, and Kildee.
    Ex officio present: Representative Hensarling.
    Mr. Huizenga [presiding]. The subcommittee will come to 
order. And without objection, the Chair is authorized to 
declare a recess of the subcommittee at any time. It appears 
that we will be having votes somewhere around 4:15 or 4:30, is 
the indication that we have.
    So with that, we are going to get moving, because we have a 
lot of very interesting stuff ahead of us as a committee today. 
And the Chair is going to recognize himself for 5 minutes for 
the purpose of an opening statement.
    So we have to ask ourselves, what is central about central 
banking? What works? What doesn't? What thinking went into 
forming the European Central Bank 80 years after the formation 
of our own Federal Reserve and how has it lived up to 
expectations so far? Did it perform better or worse among its 
peer institutions in the wake of the financial crisis?
    It is these questions and others that our committee is 
interested in exploring as we consider potential reforms of our 
own Federal Reserve System, which is posting its 100th 
anniversary this year.
    This afternoon, we welcome our witnesses: Dr. Desmond 
Lachman from the American Enterprise Institute; Dr. Athanasios 
Orphanides from the Massachusetts Institute of Technology; Dr. 
John Makin from the American Enterprise Institute as well; and 
Dr. Adam Posen from the Peterson Institute for International 
Economics.
    Gentlemen, thank you very much for being here today. We 
appreciate your time.
    Today's hearing will examine the central banks of the other 
advanced economies around the world, focusing on their 
governance and policy tools, as well as their successes and 
failures in implementing monetary policy.
    The Federal Reserve prides itself on being an independent 
central bank here in the United States. However, independence 
is hard to measure and even more difficult to demonstrate. The 
appointment process of policymakers, reporting requirements, 
and policy review processes all play a role in defining the 
relationship that central banks have with their own national 
governments. Even still, the most independent central banks are 
ones where there is very little coordination or interference by 
fiscal policy decisions.
    In 2009, the Bank of International Settlements (BIS) 
surveyed 41 central banks and reported on both the broad 
commonalities in the structures and roles of these institutions 
as well as the differences among them. The BIS reported that 
all the central banks it surveyed have full or partial 
responsibility for monetary policy. Over half are given policy 
objectives, usually specified in domestic law or international 
treaty, but some policy objectives come by published statements 
that do not have the force of law. Many have either a ``single 
mandate'' of pricing stability or a primary goal of price 
stability with secondary macroeconomic objectives. The United 
States and Canada are the only two countries identified as 
having a price stability mandate equally weighted with other 
macroeconomic objectives. I think this dual mandate is what we 
will be discussing quite a bit. Nearly all central banks have 
full responsibility for formulating and implementing monetary 
policy.
    Specifically, we will explore today international models of 
central banking. Some central bank models, like our own U.S. 
Federal Reserve System, have a ``dual mandate'' of enacting 
monetary policy with a goal of maximizing employment while 
simultaneously minimizing inflation. Other countries' central 
banks work under a more focused or prioritized mandate or set 
of mandates. And that is what I am hoping to personally hear 
today from all of you.
    Some, like myself, also believe that the employment 
component at a minimum has diverted the Fed's attention from 
the more important issue of inflation, which in my opinion 
should be the sole focus. In the worst case, an equal price 
stability and employment mandate has the potential of a moral 
hazard, with the Fed playing off its regulatory role against 
its monetary role.
    I look forward to hearing from our witnesses today as we 
compare and contrast with other international banking models. 
What we will learn today should not only inform our own 
understanding of the increasingly global and complex 
macroeconomy, but should also contribute to our efforts to 
enact reforms on our own Federal Reserve System as it hits its 
100th anniversary milestone.
    And with that, the Chair is going to yield back the rest of 
his time.
    The Chair now recognizes the distinguished ranking member 
of the subcommittee, Mr. Clay of Missouri, for 5 minutes.
    Mr. Clay. Thank you, Mr. Chairman, and thank you for 
holding this hearing regarding central banks of other advanced 
economies and focusing on their governance.
    In the United States, the Full Employment and Balanced 
Growth Act of 1978, better known as the Humphrey-Hawkins Act, 
set four benchmarks for the economy: full employment; growth in 
production; price stability; and balance of trade and budget. 
Also, Humphrey-Hawkins charges the Federal Reserve with a dual 
mandate: maintaining stable prices; and full employment.
    The Bank of International Settlements report found that 
many nations have either a single mandate of price stability or 
a primary goal of price stability with a secondary 
macroeconomic objective like full employment. The United States 
and Canada are the countries identified as having a price 
stability mandate equally weighted with other macroeconomic 
objectives. Many central banks have sole inflation targets, 
sole exchange rate targets, and others have price stability 
targets. Also, asset portfolios of central banks vary 
considerably. Some hold foreign assets, government debt, and 
claims on financial institutions. And during the financial 
crisis, the Federal Reserve purchased commercial paper, made 
loans, and provided dollar funding through liquidity swaps with 
foreign central banks.
    Due to this action, the Federal Reserve Bank balance sheet 
has expanded. When you look at the European Central Banks 
(ECBs), their main objective for the euro system is price 
stability and safeguarding the value of the euro. During the 
financial crisis and the euro crisis, the ECB used several 
policy tools, including long-term liquidity, refinancing 
liquidity swaps with the Federal Reserve, and purchase of the 
euro denominating covered bonds and other government bonds on 
the secondary market. The ECB's balance sheet has expanded.
    The Bank of Japan set monetary policy to achieve price 
stability. During the financial crisis, the Bank of Japan 
purchased private debt security, offered long-term refinancing 
operation, and provided dollar funding through liquidity swaps 
with the Federal Reserve. The Bank of Japan's balance sheet has 
expanded.
    And one more example. The Swiss National Bank's primary 
goal is to ensure price stability. During the financial crisis, 
its balance sheet has expanded.
    Mr. Chairman, I will conclude there with my opening 
statement. And I look forward to the witnesses' comments. I 
don't know if the gentleman from Colorado wants me to yield--I 
yield the rest of my time to the gentleman from Colorado.
    Mr. Perlmutter. I thank the gentleman.
    Just a couple of points. Listening to the Chair's opening, 
I personally think that you can't operate in a vacuum, that you 
have to compare your price stability inflation versus how many 
people are working and what the economy is doing. And we have 
enjoyed a very low inflation rate now for a number of years, 
even with pretty expansionary monetary policy. But we have had 
very checkered fiscal policy in the process.
    And so, I do appreciate the gentlemen for testifying today. 
I look forward to your testimony. But I, for one, support sort 
of the Humphrey-Hawkins approach, which is you don't look at 
just any one thing. And I know certain central banks, that is 
their sole focus. I appreciate the fact that the Federal 
Reserve in our country gets to look at more than just one thing 
and has the responsibility to address more than just one thing.
    With that, I yield back.
    Mr. Huizenga. The gentleman yields back.
    With that, the Chair would like to recognize Mr. Stutzman 
from Indiana for 3 minutes for an opening statement.
    Mr. Stutzman. Thank you, Mr. Chairman.
    And I want to thank each of you for being here, and also 
thank the chairman and the ranking member for holding this 
hearing to evaluate various central bank structures throughout 
the world, many of which look very different than our own U.S. 
Federal Reserve System.
    I want to thank each of you for being here and for bringing 
your expertise in order to examine the ways we might analyze 
these different central banking systems. Conducting an honest 
evaluation here will allow us to better understand how well our 
own systems function.
    I remain particularly interested in those governments 
without a dual mandate, which is most of the world. As you may 
know, Mr. Chairman, I have authored a bill, the FFOCUS Act, 
which eliminates the Fed's dual mandate in order to focus on 
price stability. I have said before that the American people 
can ill afford the inflation, debt, and insecurity that this 
misguided approach threatens. Now is the time to repeal the 
dual mandate and break this destructive cycle and return to a 
predictable, rules-based system.
    Numerous economists and scholars have come before our 
committee supporting this position and reiterating that the 
dual mandate undermines any attempt to fashion predictable 
monetary policy. I agree with those who say the dual mandate 
underpins the Fed's rationale for greater discretion when 
forming monetary policy, creating a troubling lack of 
accountability and oversight. Today, I look forward to 
examining other global models and how they seek to strike the 
right balance of independence and oversight.
    Lastly, I remain troubled at the Fed's bloated balance 
sheet and I remain unconvinced that there is a viable exit 
strategy from the Fed's policy of quantitative easing. So in 
this light, I am in interested in how other central banks 
handle the makeup of their balance sheets and what lessons we 
can take away from them.
    Again, thank you for holding this hearing, and I look 
forward to the testimony of our witnesses. And I yield back, 
Mr. Chairman.
    Mr. Huizenga. The gentleman yields back.
    And with that, I would like to extend a warm welcome to our 
panel of distinguished witnesses today. We are going to be 
starting from our left to right here with Dr. Desmond Lachman. 
He is a resident fellow at the American Enterprise Institute. 
He has previously taught at Georgetown and Johns Hopkins 
Universities. He served as a deputy director of policy 
development review at the International Monetary Fund and has 
worked as a managing director and chief emerging market 
economic strategist at Solomon Smith Barney.
    We also have Dr. Athanasios Orphanides, a professor of the 
practice for global economics and management at MIT Sloan 
School of Management. He served a 5-year term on the European 
Central Bank Governing Council as a governor of the Central 
Bank of Cyprus. He also served as a senior adviser to the 
Federal Reserve Board of Governors and taught courses at 
Georgetown and Johns Hopkins Universities as well.
    Dr. John Makin is a resident scholar at the American 
Enterprise Institute. Previously, he worked as the chief 
economist at Caxton Associates. He has served in capacities at 
the Bank of Japan, the U.S. Treasury Department, the 
International Monetary Fund, and the Federal Reserve Banks of 
both San Francisco and Chicago. He has also taught courses at 
the University of Wisconsin, Milwaukee, the University of 
Virginia, and the University of British Columbia.
    Finally, last but not least, Dr. Adam Posen is president of 
the Peterson Institute for International Economics. Previously, 
he has served as a member of the Bank of England's Monetary 
Policy Committee and also worked as an economist at the U.S. 
Treasury Department.
    Gentleman, you will be recognized for 5 minutes each to 
give your oral presentation of your testimony. And, without 
objection, your written statements will also be made a part of 
the record.
    On your table right in front of you, you see lights. It 
will start out green. When it turns yellow, you have 1 minute 
to sum up. And when it turns red, you will be hearing my gavel 
shortly after that. So we would like you to wrap that up and 
pay attention to that timing. And once each of you has finished 
presenting, each member of the committee will have up to 5 
minutes within which to ask any or all of you questions.
    And with that, Dr. Lachman, you are recognized now for 5 
minutes. And welcome.

    STATEMENT OF DESMOND LACHMAN, RESIDENT FELLOW, AMERICAN 
                      ENTERPRISE INSTITUTE

    Mr. Lachman. Thank you, Mr. Chairman, Ranking Member Clay, 
and members of the subcommittee for affording me the honor of 
testifying before you today. I am going to talk about the four 
major central banks of the world: the United States; Japan; 
Europe; and the Bank of England.
    Over the past 5 years, all of those banks have pursued 
unorthodox monetary policies on an unprecedented scale. This 
has led to massive expansion in these central banks' balance 
sheets and it has taken monetary policy into entirely uncharted 
waters.
    Since September 2008, with the Lehman crisis, the 
motivation for the pursuit of unorthodox monetary policies in 
all of the major industrialized economies has broadly been 
similar. All of these countries' central banks needed to 
intervene aggressively in financial markets to repair the 
damage wrought by the Lehman crisis. In addition, with policy 
interest rates having reached their zero lower bound, and with 
unusually weak economic recoveries and very low inflation, 
these central banks have all felt obliged to resort to policies 
aimed at reducing long-term interest rates, increasing asset 
prices, and encouraging risk-taking.
    While unorthodox monetary policies have led to a dramatic 
expansion in all four major central banks' balance sheets to a 
range of between 20 and 30 percent of the respective countries' 
GDPs, there has been a marked difference in the manner in which 
these central banks have implemented their policies. Underlying 
these differences have been basic differences in the structure 
of these countries' financial systems, as well as in the 
specific problems that these individual central banks have been 
trying to address.
    Assessing the relative success of unorthodox monetary 
policy pursued by the major industrialized countries is 
rendered difficult and subject to debate for two basic reasons. 
The first is that we cannot know what the counterfactual would 
have been had these policies not been pursued. The second is 
that it is still far too early to know what the longer run 
consequences of these policies will be since we do not yet know 
what will happen once these policies are unwound.
    Having said that, there would seem to be little room for 
debate about the success of these policies in restoring the 
proper functioning of the global financial system in the 
immediate aftermath of the Lehman crisis. There also seems to 
be little room for doubt that the world's major central banks 
have succeeded in lowering long-term interest rates and in 
boosting asset prices.
    In addition, it would seem that the ECB's Outright Monetary 
Transaction program, announced in August 2012, was highly 
successful in substantially reducing sovereign borrowing costs 
in Europe's troubled economic periphery, while the Bank of 
Japan's more aggressive round of quantitative easing, announced 
in 2012, has succeeded in substantially weakening the Japanese 
yen, thereby increasing Japanese inflationary expectations.
    Now, critics of qualitative easing observe that despite the 
large decline in long-term borrowing rates and the strong 
increasing local asset prices, the economic recovery in 
industrialized countries is the weakest of the post-war period. 
While true, this criticism would not seem to be a serious 
indictment of recent quantitative easing policies. It overlooks 
the fact that absent forceful central bank action, it is highly 
probable that the industrialized countries would have again 
leapt into serious recession.
    A more serious line of criticism of the unorthodox monetary 
policies being pursued by the world's major central banks is 
that too little regard is being paid to the unintended longer 
run consequences flowing from these policies. These 
consequences could materially compromise the longer run global 
economic outlook.
    Among these unintended consequences are, first, the risk 
that these policies might be giving rise to excessive risk-
taking and to bubbles in asset and credit markets. In this 
context, one has to wonder whether historically low yields on 
junk bonds in industrialized countries now understate the risk 
of owning those bonds and whether yields on sovereign bonds in 
European periphery have not become disassociated from those 
countries' economic fundamentals.
    The second unintended consequence is that there have been 
large spillovers to other economies through capital flows and 
exchange rate movements that have given rise to the charge of 
currency war. This is of particular concern to the dynamic 
emerging markets' economies, whose growth prospects have been 
compromised.
    The third drawback of these policies is the moral hazard to 
which they give rise by reducing the urgency of governments to 
undertake necessary but painful economic reforms. This would 
seem to be particularly apparent in both Europe and Japan.
    Since the Lehman crisis, the U.S. economy has performed 
relatively well in relation to those of the eurozone, Japan, 
and the United Kingdom. Nevertheless, it would seem at least 
two lessons for the Federal Reserve can be drawn from the 
experience of the central banks in those countries. First, 
Europe's particularly poor economic performance in the 
aftermath of the Lehman crisis would suggest that a single 
inflation objective mandate and a high degree of central bank 
independence do not guarantee meaningful economic recovery.
    Second--
    Mr. Huizenga. I'm sorry, Dr. Lachman, but your time has 
expired. So I will let you wrap up with one quick sentence, and 
then we are going to have to move on. We can explore that 
further in questions.
    Mr. Lachman. All right. The final point I would make is 
that aside from the experience of other central banks, I think 
that the United States' own experience would also caution it 
against the danger of running up very large assets and credit 
market bubbles, and that in the conduct of this policy, one 
really has to be mindful not simply of the short run effects of 
policy, but also of the longer run costs that we might yet find 
that we are going to pay.
    Mr. Huizenga. Thank you. With that, the gentleman's time 
has expired.
    [The prepared statement of Dr. Lachman can be found on page 
36 of the appendix.]
    Mr. Huizenga. Dr. Orphanides, you are recognized for 5 
minutes.

  STATEMENT OF ATHANASIOS ORPHANIDES, PROFESSOR, PRACTICE OF 
 GLOBAL ECONOMICS AND MANAGEMENT, SLOAN SCHOOL OF MANAGEMENT, 
             MASSACHUSETTS INSTITUTE OF TECHNOLOGY

    Mr. Orphanides. Thank you, Mr. Chairman. I appreciate the 
opportunity to testify at this hearing. As requested, my 
testimony will focus on differences and similarities between 
the Fed and the ECB. I think the 100-year anniversary of the 
Fed is an apt occasion for reflecting on the structure of the 
institution. Historical experience suggests that a well-
functioning monetary system is a prerequisite for the greatness 
of any nation, and this is what has been achieved since the 
creation of the Federal Reserve 100 years ago.
    Since its founding, the Fed has evolved into a very 
powerful central bank and serves a leading role in global 
central banking. As a public institution, the Federal Reserve 
is unparalleled in the professional integrity, technical 
expertise, dedication to public service, and collegiality that 
has characterized its staff and leadership.
    Over its first 100 years, the Fed has contributed, I 
believe, to the welfare of the Nation, but has not always 
managed to avoid major errors. The Great Depression of the 
1930s and the great inflation of the 1970s are the most 
noticeable examples. I am certain that historians will reflect 
on the most recent crisis over the next many years. In my view, 
the Fed's actions in late 2008 and 2009 were decisive for 
averting what could have become an economic collapse of Great 
Depression dimensions.
    However, the easy money policies that have been pursued do 
create additional challenges. And right now we do see that the 
central bank's balance sheet and associated continued easing 
are unprecedented.
    What I would like to draw attention to is three elements 
between the Fed and euro system. One is in the decentralized 
nature of the institutions. This is a common characteristic 
that is quite important in that the inclusiveness and 
incorporation of regional perspectives ensures that monetary 
policy better reflects the needs of a broad economy, which we 
have in both cases.
    The second element is the independence of both 
institutions. Both the Federal Reserve and the ECB are very 
independent central banks, but the ECB is more independent than 
the Federal Reserve in that its operations are governed by 
treaty and not by law, and as a result it cannot be changed 
very easily by modifying a piece of legislation.
    There is another difference that has to do with the 
appointment process of Board Members. Both in the United States 
and in Europe, once appointed, the Board Members are 
independent; however, the reappointment process and turnover in 
the United States arguably makes that aspect of independence 
less in the United States relative to Europe.
    I believe that the independence of the Federal Reserve 
could be strengthened, and that would be an improvement, if its 
Board Members were appointed similarly to the ECB Executive 
Board Members for just one nonrenewable 8-year term.
    The third element I would like to draw attention to is the 
difference in the mandates of the two institutions where, as 
has been pointed out already in the introductory remarks, the 
Federal Reserve is governed by a dual mandate that emphasizes, 
in addition to price stability, full employment. Whereas, in 
the case of the ECB, price stability is the primary focus of 
the institution. There I believe that the ECB's mandate better 
reflects the accumulated knowledge we have had in central 
banking experience over the 20th Century. It is generally 
accepted that better results, both in terms of economic 
stability and in terms of price stability, can be delivered by 
a central bank that can focus its attention better and be held 
accountable for what it can do, and that is price stability.
    So in this sense, I would share concerns that have been 
expressed, for instance, recently by Chairman Volcker, who 
pointed out that if the Federal Reserve is trying to pursue 
multiple objectives, it runs the risk of losing sight of its 
basic responsibility for price stability that would end up 
delivering worse results in all of its objectives together. I 
believe that these risks could be mitigated by Congress with a 
clarification that explicitly recognizes the primacy of price 
stability as an operational goal for the FOMC. And I believe 
that subject to that objective, the Fed would be in a better 
position to attain additional objectives such as full 
employment for the Nation.
    Thank you.
    [The prepared statement of Dr. Orphanides can be found on 
page 62 of the appendix.]
    Mr. Huizenga. Thank you, Dr. Orphanides.
    With that, we have Dr. John Makin for 5 minutes.

    STATEMENT OF JOHN H. MAKIN, RESIDENT SCHOLAR, AMERICAN 
                      ENTERPRISE INSTITUTE

    Mr. Makin. Thank you, Mr. Chairman.
    I want to briefly review the experience of the Fed and the 
experience of other central banks since the financial crisis. 
Given that time is somewhat limited, I have tried to lay out 
some of the approaches that central banks have taken to the 
crisis. I would remind the committee that the Fed was 
originally formed after a series of financial crises, the last 
of which was the crisis of 1907, which underscored the need for 
some kind of an institution to provide adequate liquidity in 
order to avoid the negative effects of financial crises, such 
as those that followed from the numerous crises that occurred 
in the 30 to 40 years before the Fed was formed.
    The Lehman crisis was unique. I bring to it the perspective 
both of an academic and a think tanker, but also someone who 
was in the middle of the crisis, working at a hedge fund at the 
time. And I can assure you that the role of the central bank as 
an institution designed to avoid a total financial meltdown was 
one of the primary activities that emerged. The typical goals 
of the Fed, that is price stability and full employment, were 
subsumed beneath or among the more primary objective of the Fed 
to try to staunch the severe bleeding that had emerged in the 
financial sector.
    In order to follow up and try to restore the growth of 
employment and to maintain stable prices, the Fed extemporized, 
using the zero interest rate policy, the quantitative easing, 
forward guidance. All of these measures were pioneered by the 
Fed in response to the crisis that was facing them. Other 
central banks to some degree followed the example of the Fed. 
You may remember that initially the European Central Bank felt 
that they had avoided the financial crisis and its fallout. And 
that outlook was changed in 2009 when it was revealed that the 
Greek Government was concealing the amount of fiscal deficits 
that it was undertaking.
    So basically, central banks have tended to stylize their 
responses to the crisis, again, as measures designed to try to 
avoid financial meltdowns. The Bank of Japan this year, as most 
of you know, initiated measures that were quite similar to what 
the Fed had undertaken, that is they set a goal for 2 percent 
inflation and they undertook aggressive additions to their 
balance sheet in order to try to effect that goal.
    The outcomes have varied, and I have tried to actually 
summarize them in my testimony in terms of evaluating what 
central bank has performed best. In the first figure, I look at 
the path of gross domestic product from 2008 to the present, 
and the winner is the United States. Although growth has been 
slow to somewhat lagging--it is on page 7 of the testimony--the 
United States has seen a total increase, cumulative increase in 
output of about 8 percent since 2008. The biggest loser is 
Spain in this picture because Spain is part of a monetary union 
in which it does not belong; that is the ECB sets monetary 
policy for Germany, the rest of Europe has to struggle, and the 
result is a rapid drop in output.
    Inflation has not been a big problem so far. In fact, 
disinflation is emerging as a big problem in Europe and the 
United States. Figure 2 looks at price levels. The cumulative 
increase in the price level in the United States, in spite of 
heavy quantitative easing since 2008, is something on the order 
of, again, 8 percent. In Switzerland and Japan, prices have 
actually fallen. And one of their big problems has been to 
intervene heavily to avoid currency appreciation intensifying 
their deflation problem.
    The second wing of the mandate, that is employment, is 
looked at in terms of figure 3. Central banks have not been 
terribly successful at engendering growth of employment. And 
here again, in terms of what the committee is considering, I, 
too, share the idea that it is probably best to have the 
central bank target a stable price level. And by that, I mean 
that inflation should not be above 2 percent, but it should not 
be below 1 percent. And in an environment where you can get 
deflation, it is important to put a floor on that range. But in 
general, the behavior of employment suggests that the central 
banks have not been terribly successful in pursuing that goal.
    I see my time is up, so I will stop.
    [The prepared statement of Dr. Makin can be found on page 
49 of the appendix.]
    Mr. Huizenga. Thank you, Dr. Makin.
    Dr. Posen, you are also recognized for 5 minutes.

 STATEMENT OF ADAM S. POSEN, PRESIDENT, PETERSON INSTITUTE FOR 
                    INTERNATIONAL ECONOMICS

    Mr. Posen. Thank you, Mr. Chairman. Since my colleagues, 
Athanasios, Desmond, and especially John, have taken you 
through the basics comparisons, I am going to make slightly 
more pointed remarks. I am going to talk about the operational 
structure of central banks and what the Fed is doing right and 
wrong in two major areas, The first issue is of governance and 
how its goals are set, which goes to the mandate issues and 
Humphrey-Hawkins issues that people have raised, and the second 
is about the tools that are available for policy 
implementation.
    I would argue that the differences between central banks 
are going to actually become more important in the next couple 
of years. In the midst of a crisis, whatever a country's 
mandate, whatever a central bank's mandate, everybody is going 
in the same direction, pretty much. And if they don't go in the 
same direction, they realize very quickly that they have to 
catch up, and you throw everything you have at the problem.
    And if you look back, particularly at John, but also at the 
other testimony, you will see that the central banks did 
largely the same thing. All this talk about the difference in 
mandate and uncertainty caused by the Fed's dual mandate is 
absolute nonsense. There is no evidence econometrically that it 
makes a difference either to the perceived uncertainty in 
financial markets or to the levels of inflation you see.
    So what does matter? Let's talk a bit about goals. The 
central banks, as Stanley Fischer has pointed out, should not 
have goal independence, but should have instrument 
independence. In other words, all of you here as the elected 
officials should be setting what the central bank's goals are, 
debating them, resetting them as necessary, but then leaving 
the central bank alone to get on with the job and not worry too 
much about how they get on with it, only checking for 
competence and results after the fact.
    Perhaps this sounds evident, but this distinction matters 
greatly. Athanasios mentioned that the ECB has an extreme form 
of independence and insulation from political oversight. Back 
in 1993, I predicted that this would be the case and would lead 
to excessively rule-based behavior. And that is exactly what we 
saw with the ECB running the European economy partway into the 
ground.
    We know that in the Bank of England, and then more recently 
in the Bank of Japan, we have seen resetting of the policy 
goals by elected officials in an explicit, transparent manner, 
taking advantage of the crisis and saying, what have we 
learned? And this has suffered no shock to inflation, nor 
stability; it is the way it should work.
    So does the Fed have it right? I think largely we can say 
yes. But I think there are three points I would make. First, an 
atmosphere of extreme distrust from Congress towards the Fed is 
harmful and unnecessary. We have the whole notion of auditing 
the Fed, which is looking as though the Fed isn't totally 
transparent about its balance sheet, which it is. We have the 
idea of minutes having to be very explicit and tell you 
everything that was said exactly, which has the effect of 
making people ashamed to really debate in the FOMC because they 
are worried about being caught up. We have the fact that 
capital in the central bank is not guaranteed and therefore the 
Fed restricts itself from engaging in policies it should, such 
as potentially selling off assets, because they don't want to 
have to come to you and explain an on-paper loss. You could 
indemnify the Fed against losses incurred in the operation of 
its duties, as Her Majesty's Treasury does for the Bank of 
England.
    Most importantly and harmfully, Congress has put increasing 
restrictions on what the Fed can purchase. This is a terrible 
step backwards in policy. Every central bank in the world 
except the Fed can purchase a broader range of assets than the 
Fed currently does. Every central bank in the world for 
centuries has purchased private assets and a wide range of 
assets. It was only this brief interlude from the late 1970s to 
the early 2000s when central banks made the mistake of thinking 
they could affect the whole economy by playing at the short end 
of the yield curve in the government bond market. That has been 
demonstrated to be completely wrong by the experience of the 
last few years. Look at the fact that in Europe right now, you 
have a total crushing of small business credit in southern 
Europe because the ECB chooses only to purchase certain things 
at the international level.
    Let's talk for 1 minute left on tools. Building on this 
point about where the central bank--Congress has fruitlessly 
and destructively restricted the Fed's purchases. We have the 
fact that we get this demonization of purchases and large 
balance sheets and so-called unconventional monetary policy. 
Now, the fact is, unless you buy the right things, your 
policies will be ineffective. The Bank of Japan proved this 
with its quantitative easing in the mid-2000s when it only 
bought short duration debt and had no effect on the economy. 
Once they shifted to buying private and longer term debt, they 
have managed to reverse deflation.
    It is wrong in the United States to think that there has 
been any mistake here. If the United States hadn't been lucky 
in the fact that Congress has allowed the Fed to buy guaranteed 
mortgage-backed securities, we would not have had an effective 
policy response. Had we not had that effective policy response, 
we would not have the housing-led recovery, such as it is that 
we have today. And that was sheer luck that Congress happened 
to have approved of MBS purchases.
    To repeat, no other major central bank is constrained the 
way Congress has constrained the Fed in its purchases. This is 
taking the Fed in exactly the wrong direction.
    Thank you, Mr. Chairman.
    [The prepared statement of Dr. Posen can be found on page 
68 of the appendix.]
    Mr. Huizenga. I appreciate that input.
    And I need to make sure that I get my notes here for a 
moment. Because of the shutdown that had occurred, we had a 
well-known expert on the subject who we invited to the original 
scheduled October hearing, but he is unable to attend today. 
And without objection, I would like to put Dr. Larry Lindsey's 
prepared testimony into the record. So without objection, we 
will do so.
    And with that, the Chair is going to recognize himself for 
5 minutes.
    Mr. Posen, you are on a bit of a roll against Congress 
here, and I would add that you are not unique in that in many 
ways lately.
    Mr. Posen. My complaints are more narrow, sir.
    Mr. Huizenga. Yes, yes. I understand your complaints are 
more narrow. Come to a town hall meeting sometime, and you will 
have your world broadened.
    But I just wanted to make sure that you had a chance to 
express that fully about the limits on the purchases and those 
kinds of things. And then I would like the rest of the panel to 
maybe touch on that and whether they would agree with that.
    Mr. Posen. Very kind of you, Mr. Chairman. And again, 
obviously, I am working in shorthand; there is no one entity of 
Congress, and there are obviously people like you and this 
committee who want to thoughtfully try to do the best possible 
job. And that is why I am grateful that we are having this 
hearing.
    Mr. Huizenga. Duly noted, the buttering up. I appreciate 
it, though. So I thank you.
    Mr. Posen. Transparency. The issue is pretty 
straightforward in my eyes. Central banks literally did most of 
their operations on private loans and private securities 
throughout the 19th Century and throughout much of the 20th 
Century. They did so in an environment with many different 
things going on, but rarely resulting in inflation, rarely 
resulting in hyperinflation, rarely resulting in instability. 
And they did this because it had two advantages. First, it 
directly went after issues in the markets where there were 
blockages in the markets. And second, this helped to make 
markets and create more liquid conditions more broadly that you 
could intervene.
    Now, there are costs to doing this because it does of 
course benefit specific holders of given assets at a given 
time, which you don't want to do. And there are costs because 
if it is a narrow market you happen to buy into, it is not that 
easy to get in and out and the Fed can have too large, or 
whatever central bank, can have too large an effect on the 
asset prices. So it is not costless, but it is a tool.
    Mr. Huizenga. Would anybody else on the panel care to 
comment on that quickly? Dr. Lachman?
    Mr. Lachman. I would just make the point that the size of 
the asset purchases by central banks is without any precedent. 
It is on a scale that is humongous. So I think not to have 
congressional oversight on the particular assets that are being 
made when you are getting distributional effects, I am not sure 
that I would go along fully with Mr. Posen's point.
    Mr. Huizenga. Okay. And I would like to just quickly, I am 
going to take a moment. I would like to submit this into the 
record, without objection.
    This is from yesterday's Wall Street Journal, ``Confessions 
of a Quantitative Easer.'' This was Andrew Huszar, who is a 
senior fellow at Rutgers Business School, and a former Morgan 
Stanley managing director. In 2009 and 2010, he managed the 
Federal Reserve's $1.25 trillion agency mortgage-backed 
securities purchase program. And I don't know if anybody else 
has read this. If so, I would love to get a comment on it. But 
basically, a little headline: ``We went on a bond-buying spree 
that was supposed to help Main Street. Instead, it was a feast 
for Wall Street.''
    Dr. Makin?
    Mr. Makin. The ``feast for Wall Street'' rhetoric is 
popular, but I think it obscures a problem that the Fed faces. 
And that is, on the one hand, they want to make sure that they 
keep the recovery going. And so, they are buying assets. I 
agree that they should be able to buy a wider range of assets. 
But given the constraints they are facing, they have to buy the 
assets in order to keep the recovery going. On the other hand, 
they are supposed to avoid affecting asset prices, which of 
course is impossible.
    And the dilemma they face was highlighted last May when Fed 
Chairman Bernanke suggested that perhaps they should taper or 
they should reduce the rate at which they are purchasing 
securities. The result was a 1.5 percentage point increase in 
mortgage borrowing rates. So I think perhaps the author of the 
Journal piece, it is easy to criticize, but, on the other hand, 
if you withdraw what the Fed is doing, you risk some serious 
problems in the financial markets. And so in summary, what the 
central bank, especially the Fed is trying to do is to find a 
way out of providing a large amount of support for financial 
markets without disrupting the behavior of the economy and 
causing a sharp rise in interest rates. It is very difficult to 
do.
    Mr. Huizenga. Dr. Orphanides, for the last 30 seconds.
    Mr. Orphanides. Thank you, Mr. Chairman. I would also agree 
that it is an unfair criticism both for the Federal Reserve and 
for other major central banks to claim that they have been 
trying to help the banking system and not Main Street. In order 
to best help Main Street, central bank policies often have to 
focus on the financial sector. This is what we have seen both 
in this country and in other countries.
    With regard to the purchases of securities, I would agree 
with Dr. Posen that it would be useful for the Federal Reserve 
to have the authority to make purchases of other instruments. 
This is exceptionally important in times of crisis when even 
very small interventions by the central bank could unclog 
markets.
    In the case of Europe, this proved very important. For 
example, in 2008, 2009, the ECB made small purchases in the 
covered bond markets just for a short while, and that helped 
stabilize the market and restore stability. So you don't need 
many purchases, you need it as a crisis management tool. That 
said--
    Mr. Huizenga. I'm sorry. Unfortunately, my time has 
expired. So we are going to have to allow one of my colleagues 
to explore that.
    The last thing I would like to do, without objection, is 
also put into the record an article entitled, ``ECB's Praet: 
All Options on Table, Central Bank Could Adopt Negative Deposit 
Rate, Asset Purchases If Needed.'' So without objection, it is 
so ordered.
    With that, I would like to recognize Mr. Clay for 5 
minutes.
    Mr. Clay. Thank you, Mr. Chairman.
    Today, it is widely acknowledged that over the past few 
decades the United States experienced a sharp rise in income 
inequality, levels of inequality not seen since the late 1920s. 
Moreover, a recent study out of Berkeley has shown that most of 
the benefits of growth experienced during the recent recovery 
have accrued to the wealthiest in society.
    And when you talk about Fed policies having important 
distributional impacts on society, do you believe these 
policies in any way contribute to the problem of growing 
inequality? Can you give us some examples of Fed decisions that 
have impacted different segments of society differently and 
how? I want to start with Dr. Posen.
    Mr. Posen. Thank you, Mr. Clay.
    The ongoing rise in income inequality, and particularly 
wealth inequality in the United States, is largely driven by 
the U.S. Tax Code, which you are well familiar with, obviously. 
It is secondarily driven by a global trend that low-skilled 
Americans and low-skilled workers are getting less and less 
ability to bargain for wages, while people at the high end of 
the scale in terms of perceived skill or opportunity get to 
bargain at superstar status. Those are the two main drivers, 
and those continued through the crisis.
    The crisis made things worse in the United States and 
elsewhere because of course the most vulnerable become 
unemployed and you see fiscal cutbacks on the provisions that 
go out to them. Particularly in the United States we saw at the 
State and local government level, that it was a big cutback and 
cutback opportunities through the community college and other 
such systems. Again, this committee is well familiar with that.
    Where does the Fed come into this? The Fed basically is 
contributing to inequality. But similar to what Athanasios, Dr. 
Orphanides just said, it is contributing to inequality in a 
minor way to prevent a very concentrated blow to inequality in 
a major way.
    Let me spell that out. The way the Fed policy is working is 
it is benefiting stockholders and relatively middle-income 
householders, people with mortgages, disproportionately. And 
then you hope that by benefiting those, that will lead to 
growth in the rest of the economy. And that isn't going for 
equality.
    Had the Fed not taken the course it did, you would have 
seen a much higher increase in small business failures and in 
unemployment. And so the overall inequality picture might not 
have been that different, but the concentration of very bad 
outcomes would have been very high.
    Mr. Clay. I see.
    Dr. Makin?
    Mr. Makin. I agree that the tax system is a much more 
effective way to address problems of inequality than the Fed. 
The Fed's goals are already perhaps more than instruments they 
have to achieve them with, that is to maintain inflation at a 
low and stable level and to try to minimize unemployment. To 
that extent, they are trying to deal with all sectors of the 
economy. But for the Fed to be charged in any specific way, I 
don't know what instrument the Fed would use to affect income 
distribution. So I would turn to the Tax Code to effect that 
outcome, and suggest that perhaps a flatter schedule of tax 
rates would be a good idea.
    Mr. Clay. Thank you.
    Dr. Orphanides, would you have any comment on the income 
inequality?
    Mr. Orphanides. Thank you. I would like to emphasize that 
central banks do not have the tools to achieve all that society 
might wish that government institutions might be able to 
contribute to. The best way central banks can contribute to 
even an element such as the reduction of inequality is by 
ensuring stability in the economy, the preconditions for 
economic growth that can then allow households and corporations 
and businesses to prosper and allow the Congress with fiscal 
policy to select distributional policies it would have with 
high income.
    We cannot expect central banks to deal with this problem. I 
believe that in the last few years, we have been overburdening 
central banks already. We expect them to keep interest rates 
low and help fiscal policy as well. We expect them to 
contribute much more than they can to full employment. We 
expect them to fix all the problems of the financial system. We 
cannot have all of these expectations simultaneously.
    Mr. Clay. Dr. Lachman?
    Mr. Lachman. Yes, I would basically agree--
    Mr. Huizenga. The Chair is going to take a prerogative 
here. My time went a little long, so without objection, I will 
grant just this answer.
    Mr. Clay. Thank you.
    Mr. Lachman. I will keep it really brief. I would certainly 
agree that you don't want to overburden the central bank with 
too many things to do, that price stability is a big enough 
task that will do a lot of good. So I would think that other 
policies, fiscal policies, stuff of that sort, is a more 
appropriate way to deal with the distribution issue.
    Mr. Clay. Thank you, Mr. Chairman.
    Mr. Huizenga. No problem. Thank you.
    With that, the Chair is going to recognize Mr. Pearce of 
New Mexico for 5 minutes.
    Mr. Pearce. Thank you, Mr. Chairman.
    Mr. Makin, you had made a comment there in response to the 
gentleman from St. Louis' question about income inequality. 
Would you state that again? I am just not sure that I heard the 
whole thing.
    Mr. Makin. Very briefly, as the other panel members have 
suggested, the central bank is really not equipped to address 
issues of income distribution. And the tax system is a better 
way to do that.
    Mr. Pearce. And would you have any ideas, understanding it 
is not the Federal Reserve or central bank's job, but what 
would you recommend on the tax policy if you were going to make 
a recommendation?
    Mr. Makin. I would prefer a kind of textbook approach, 
which was followed in the 1986 tax reform, which was to have 
the lowest possible rate on the broadest possible base. So that 
would partly involve financing lower marginal tax rates by 
closing loopholes, among other things.
    Mr. Pearce. Mr. Posen, the Federal Reserve has driven 
interest rates to almost zero--or to actually zero. Is that a 
good policy long term for the United States?
    Mr. Posen. Congressman, it was a good policy and it remains 
a good policy given the economic context in which we find 
ourselves, and it is a policy that has very little in the way 
of long-term implications. Despite the comments made by Dr. 
Lachman earlier, there is no statistically significant evidence 
across countries that low interest rates lead to bubbles. It is 
just not there in the data. It requires a combination of 
regulatory changes and animal spirits to get bubbles. Low 
interest rates don't cause them. And if it is not about 
bubbles, it is not clear what it does.
    There are second order, meaning existing but not huge 
distributional effects. My mother, who is a retiree, who has 
mostly invested all her savings in government bonds has less 
income now because the Fed did that. Other retirees who happen 
to have 401(k)s have more income because the stock market went 
up. The Fed can't fine tune that without getting into deep 
trouble. And I think on net, it is not a big deal one way or 
the other. The interest rate only--
    Mr. Pearce. If I could take back my time right there, I 
would invite you to come to my town halls.
    Mr. Posen. Okay.
    Mr. Pearce. I have seniors, we have a little bit older 
population in New Mexico, they come there for the hot, dry 
weather. They say, we lived our life correctly, we paid for our 
houses, we have cash equivalents. We used to get 4 percent 
income--this statement was made this past week--on our 
investments, and now we are getting one quarter of 1 percent. 
So for every $16 they used to live on, now they have $1. And 
they are spending into their capital.
    And to hear you describe that as not significant, I would 
like you to use that terminology in front of the hostile people 
that I get to face at our town halls. Because I will guarantee 
you, my friend, it is a significant impact on the lives of 
seniors who have lived correctly, and because of the policies 
of this government and this Administration, they cannot even 
live in retirement. And to have that described as 
nonsignificant statistically just drives people insane when 
they hear folks in Washington say crap like that. Statistically 
not important.
    Do you have a response?
    Mr. Posen. Yes, indeed.
    Mr. Pearce. Yes?
    Mr. Posen. I have two responses. First, when I was serving 
at the Bank of England I did those town halls myself, without 
the protection of some local Congressman or MP. I talked to 
over 8,000 individual U.K. citizens while I was there. And I 
held myself accountable to people. And I explained to them that 
just as you think about the 4 percent you used to have wasn't 
controlled by you and wasn't set by the government, it was a 
market effect. In reality, if this economy is not growing, 
there is no interest rate out there. And it is not for the 
Federal Reserve to subsidize people just because they happened 
to have done what you call living correctly. Secondly--
    Mr. Pearce. I have 24 seconds, sir. And the Federal Reserve 
is subsidizing Wall Street, because zero interest rates are a 
boon to the big bankers. They get money for free, and they are 
able to then charge more.
    Mr. Chairman, I yield back my time. Thank you.
    Mr. Huizenga. The gentleman yields back his 5 seconds. All 
right.
    With that, the Chair recognizes--
    Mr. Perlmutter. The gentleman from Colorado. Ed Perlmutter, 
the gentleman from Colorado.
    Mr. Huizenga. Yes, my former neighbor who moved away from 
me.
    Mr. Perlmutter. How soon you forget.
    Mr. Huizenga. Yes. With that, the gentleman has 5 minutes.
    Mr. Perlmutter. Mr. Posen, I have a bunch of questions. Do 
you want to finish your second point to Congressman Pearce?
    Mr. Posen. That is very generous. I will be brief. The 
definition of living correctly is in the eye of the beholder. 
Most human beings in the United States live correctly. And 
whether it is the children of the unemployed; they don't 
deserve to bear the burden of the crisis any more than the 
people you are meeting with in your town halls. I wouldn't make 
a moral judgment.
    Mr. Perlmutter. And I thank the gentleman for that. I 
thought you might want to say they ought to take a look at the 
value of their homes, which had dropped like a rock. And 
because there has been some effort to stabilize and grow the 
economy again, really only on the backs of monetary policy, 
that they can look at their house and see some value returned 
to their house that fell like a rock in 2008 and 2009 and 2010. 
That is where I thought you might go.
    Mr. Posen. That is better.
    Mr. Perlmutter. I appreciated a couple of words that were 
used. Dr. Lachman, you used one, and, Dr. Makin, you used one. 
One was ``humongous.'' I understand the word humongous. And the 
other was extemporize. And, through this recession, crash, fall 
on Wall Street, whatever you want to call it, we saw some 
constrictions in the stock market and in the financial market 
that we hadn't seen at least--maybe ever, but certainly not 
since the Depression or before then. It was a different kind of 
a constriction.
    And I appreciated the comments of all the panelists that 
some very difficult steps, some new steps were taken by the 
Federal Reserve, as well as a number of the other central 
banks, because they are looking at the whole economy crashing. 
And then it is like, price stability, we saw prices drop in 
2008 and 2009, certainly in the real estate market, and in 
other markets, oil and gas. It went from $4 during the summer 
of 2008 in Colorado down to about $2 or less.
    So I guess I would ask just as a general comment, and I 
know all of you were focused on this, have we as legislators, 
where we really have not had much of a fiscal policy over the 
last 2 years except for a very contractionary fiscal policy, 
and we put restraints on our Federal Reserve, have we done the 
right thing? And I will start with you, Dr. Posen, but I 
definitely want to get to the other gentlemen to get their 
response.
    Mr. Posen. I should defer to the other people's time. Just 
quickly, we have basically done the right thing. It doesn't fix 
everything. It doesn't fix everyone. But putting the 
restrictions on means when the next crisis hits outside the 
housing market, we are not going to be able to respond to it, 
and you are just going to have very indirect means of 
responding to it.
    Mr. Perlmutter. Dr. Makin?
    Mr. Makin. Yes, let me pick up on the word ``extemporize.'' 
A financial crisis presents policymakers with unprecedented 
problems. We have seen a combination of measures undertaken by 
the Fed, as well as fiscal stimulus packages undertaken by the 
Congress. Putting it all together, the outcome is okay, the 
best, actually, among the industrial countries.
    Mr. Perlmutter. And looking at your graphs, I think your 
graphs verify that or support that.
    Mr. Makin. Right. We have had about 2 percent growth 
without a lot of inflation. The employment picture hasn't 
improved a lot, but that is partly because of some major 
changes that have occurred in the labor market. But so we have 
extemporized in a difficult situation and done better than most 
industrial countries. We certainly do need to do better. And we 
will eventually need to abandon these extreme policies, as the 
Congress has already done on the fiscal side. It just takes a 
very cautious and gradual approach.
    But for example, if we were to want to abandon the 
quantitative easing and the zero interest rate policy, interest 
rates would shoot up, the stock market would collapse, owners 
of bonds would get a higher return on their savings, but they 
might be faced with substantial wealth losses in terms of the 
value of some of their other assets. So we are in a difficult 
period now, but so far we have extemporized and done reasonably 
well.
    Mr. Perlmutter. Dr. Orphanides?
    Mr. Orphanides. Thank you.
    Central banks are incredibly powerful institutions, 
especially during crises when using the balance sheet of a 
central bank can paper over a lot of problems that you wouldn't 
have thought about that could be done during the crisis.
    I am worried that with the additional restrictions that 
have been placed on the Federal Reserve in light of the actions 
that they took in 2008, the Federal Reserve may be overly 
constrained. And because of the need to coordinate with the 
Treasury, and in some instances with Congress, the additional 
delay might actually create problems if we had a crisis such as 
the one we had in 2008. That is the concern.
    Mr. Perlmutter. Thank you, Doctor.
    And I'am sorry, Dr. Lachman, that I didn't get to you. 
Maybe one of my colleagues can let you respond. Thanks.
    Thanks, Mr. Chairman.
    Mr. Huizenga. And my apologies to my friend from Colorado 
for totally being the deer in the headlights and blanking. So, 
2 years of being directly next to each other and I am blank.
    With that, we are going to go to Mr. Mulvaney for 5 
minutes.
    Mr. Mulvaney. Thank you, Mr. Chairman.
    Gentlemen, I will read you a statement from last year's 
meeting of the Joint Economic Committee. It says, ``With 
respect to employment, monetary policy as a general rule cannot 
influence the long run level of employment or unemployment.'' 
That is a true statement, isn't it? That is economic orthodoxy, 
correct? Does anyone disagree with that?
    Mr. Makin. I will jump in. I essentially agree with that, 
that what monetary policy can do is to move employment 
increases forward, but they tend to get lost.
    Mr. Mulvaney. I think the general consensus is they can 
affect short run, but not long run.
    Dr. Posen, you had a look on your face like maybe you 
disagreed with that statement.
    Mr. Posen. I disagree slightly, sir. If you go to the most 
recent paper issued by the Federal Reserve by Mr. Wilcox and 
co-authors--
    Mr. Mulvaney. I am familiar with it.
    Mr. Posen. --it talks about the idea of hysteresis, that if 
you have a negative shock it could become self-fulfilling; that 
people who are out of work for a long time don't get to get 
back into work at the same rate, say, of a young person. We saw 
monetary policy have a positive lasting effect on employment in 
the mid-1990s. We had welfare reform in the United States that 
increased the incentives for people to go to work. Monetary 
policy was allowed to run hotter for longer than it normally 
would have under the leadership of Chairman Greenspan. The 
unemployment rate dropped much lower than what people thought 
the limit was because of that. So under certain conditions, I 
think it can matter.
    Mr. Mulvaney. All right. There is another quotation I will 
read very briefly: ``In the longer run, increasing the 
potential growth of the economy, that is not really the Fed's 
job. That is the private sector's job and Congress' job in 
terms of things like the Tax Code, investment, infrastructure, 
and training.'' That is Chairman Bernanke. Both of those 
quotations are from him.
    So my question to you is this: Why are we one of the only 
two countries that has the dual mandate? Is it because it is 
economic orthodoxy that you cannot impact--the Chairman of the 
Federal Reserve says that we cannot impact long-term employment 
with monetary policy. Yet, it is our mandate. And that is what 
I don't understand. Why are we one of two countries that has 
the mandate when we know that monetary policy can't influence 
it in the long run?
    Dr. Lachman?
    Mr. Lachman. I think one really has to be cautious. One 
really doesn't want to have a single mandate that you pursue 
with great vigor to the exclusion of what you are doing to the 
economy. That really gives the incentive for being too vigorous 
in the pursuit of the inflation. And I would just take a look 
at the European experience, where the single mandate right now 
is leading them down a path towards deflation--
    Mr. Mulvaney. No, I don't know about that, because I went 
on to ask Dr. Bernanke on a similar line and what he told me 
was very clear. It is actually consistent with what Dr. Posen 
said earlier today, which is that the activities of the Fed 
over the course of the last several years since the crisis 
would have been essentially the same, because you could have 
undertaken the same policies for the last 4 or 5 years in the 
name of fighting deflation. We happen to be saying we are doing 
it in pursuit of full employment, or close to full employment, 
but really without the dual mandate, the Federal Reserve would 
have undertaken the same couple of steps. So I understand that.
    I am just worried about the situation where those two 
things diverge. And that is what the paper is about, are we 
going to tolerate higher inflation in the future in order to 
pursue this lower rate of employment? And I guess my question 
is, why would we do that if we know that we cannot impact long-
term employment.
    But I am going to move on to my question, because Dr. Posen 
said some very interesting things in his testimony, his written 
testimony about limiting the tools. If I can very quickly 
recognize, we have a minute to cover two very important things. 
Limiting the tools. Should we limit some of the tools? If 
Detroit comes to Congress and asks for us to lend them money 
and we tell them no, shouldn't we restrict the Federal Reserve 
from participating in that? Wouldn't that be crossing the line 
into fiscal policy?
    Mr. Posen. Yes. But I am not sure you need to restrict it 
in advance. I think you can afford to wait and then call up the 
chairperson and say you made a bad judgment there, I wish you 
hadn't done that.
    Mr. Mulvaney. Fair enough. I guess the cows are a little 
bit out of the barn after that, though, aren't they?
    Mr. Posen. No. Because just as happened in Japan, sir, you 
can make a major change. Obviously, it is like with the 
military, like with the FDA, at some point you let them do 
their job, and if they don't do their job right then you hold 
them accountable. You have to allow for that.
    Mr. Mulvaney. Secondly, and I am sorry to cut you off, you 
recognize the fact we are limited on time, you mentioned 
indemnifying the Fed against the losses. Your paper says that 
of course they have made so much money over their lifetime that 
they would never eat into that surplus. I think it was actually 
a Bloomberg report recently that projects could lose as much as 
$537 billion, which would absorb all of the money that they 
have made. Tell me again how this indemnification would work. I 
am not familiar with that.
    Mr. Posen. Thank you. I will just be very quick. What has 
happened in the U.K. and a few other places is they say the 
balance sheet, any profits belong to the government, the 
elected government, as it should. And we reckon those at a set 
term, whether it is once a year, once every 2 years, once every 
6 months. There is a fixed, transparent term that doesn't get 
played with.
    If in the operation of your duties, not just benefiting 
Detroit because you happen to have a Governor of the Fed from 
Detroit, but in the operation of your general duties you take a 
loss on the balance sheet, there will be some buffer of the 
Fed's capital. You don't want to have that go to zero. It 
doesn't really matter if it does in economic terms, but it is 
seen as a problem. And so the Treasury or the Congress would 
say if that capital drops below a certain number, we will 
replenish it.
    Mr. Mulvaney. Thank you, sir.
    Mr. Huizenga. The gentleman's time has expired.
    With that, we go to Mr. Carney of Delaware for 5 minutes.
    Mr. Carney. Thank you, Mr. Chairman.
    And thank you to each of the witnesses for being here 
today. This is a very interesting conversation. But I think at 
the end of the day the question is what is the role of 
Congress, what is the role of elected officials? Dr. Posen, you 
said that elected officials should set the goals and then check 
for results. And we have been talking, Mr. Mulvaney has been 
talking about the dual mandate of price stability and 
employment. Is there a general agreement among the panelists 
that ought to be the goals for the Fed?
    Mr. Makin. Price stability and employment?
    Mr. Carney. Yes.
    Mr. Makin. I would disagree. I think I indicated earlier 
that price stability is something the Fed can achieve. There is 
not much evidence to indicate that they can achieve either a 
long-term reduction in the rate of unemployment or a long-term 
increase in the rate of employment growth.
    Mr. Carney. How do you answer Dr. Lachman's answer to the 
last question, where he said if you get overboard like the 
European central banks have recently, you very negatively 
affect employment and the economy? Dr. Makin?
    Mr. Makin. I am not quite sure that I understand Dr. 
Lachman's point. In other words, what the central bank is 
responding to in that type of a situation, it seems to me, 
based on what was happening in 2008, is the situation in the 
asset markets where you have a threat to the functioning of the 
financial system. So they are stepping in to try to sustain the 
financial system.
    Mr. Carney. Okay. Fair enough.
    How about the other two gentlemen and then Dr. Posen?
    Mr. Orphanides. If I may provide my response as well to Dr. 
Lachman's remark earlier on, I think that with regard to the 
euro area, we should not confuse what is happening, that is 
quite dramatic and unfortunate, as a failure of monetary 
policy. Unfortunately, it had nothing do with monetary policy. 
Monetary policy cannot fix it. We have a governance problem 
where the States are essentially fighting with each other and 
do not coordinate in a proper manner, because really they do 
not have a Federal Government and they do not have the 
equivalent of the U.S. Congress that can hold things together.
    Mr. Carney. Okay. Fair enough.
    Mr. Orphanides. I would not really attribute to mistakes of 
monetary policy what we see in Europe. With that said, I would 
agree with Dr. Makin that in my view as well, price stability 
should be the primary objective of the central bank, because 
this is what they can be held accountable for. And then beyond 
that, I think what is critical for Congress is to watch the 
appointment process so that the independent officials who are 
appointed to make the tough decisions are the best possible.
    Mr. Carney. Okay. Fair enough.
    Dr. Lachman, how about you, where do you fall on this?
    Mr. Lachman. I would just say that Europe has just emerged 
from its longest post-war recession, that inflation in Europe 
has gone down to levels that are now threatening deflation, and 
the central bank has been very slow in either reducing interest 
rates or taking measures to improve the monetary transmission 
mechanism in Europe. So to me it looks like the European 
Central Bank, with its single-minded mandate of getting prices 
very low, is risking the economy in terms of deflation.
    Mr. Carney. So if you have a dual mandate, you are keeping 
your eye on two different things. And what does that require 
that central bankers do that mitigate against the severe kind 
of effect?
    Mr. Lachman. I guess if they have a balanced approach 
towards meeting their target.
    Mr. Carney. Thank you.
    Dr. Posen, would you like to weigh in?
    Mr. Posen. Yes, really quickly. In an ideal world, it would 
be a dual mandate of price stability and avoiding excess 
volatility in the real economy, meaning huge swings in 
employment and growth, but not a level target for unemployment. 
I would still rather have Humphrey-Hawkins and the dual mandate 
as it is than a single mandate. I differ with Athanasios 
Orphanides on this. I think central banks that have the single 
mandate, I am echoing Dr. Lachman here, tend to become 
inflation nutters and not live up to their needed role. We also 
need to think about financial stability, whether it is said 
explicitly or not. Central banks have to worry about that.
    Mr. Makin. Could I add a quick--
    Mr. Carney. Sure.
    Mr. Makin. The problem in Europe is not so much the lack of 
a dual mandate as it is that the European Central Bank is the 
central bank for over 20 very different countries.
    Mr. Carney. So they effectively would have a difficult time 
affecting employment across those boundaries anyway.
    Mr. Makin. Their policy is fine for Germany; it is terrible 
for Spain.
    Mr. Carney. Thank you. Thank you all very much. I wish I 
had more time to carry on this conversation.
    Mr. Huizenga. The gentleman yields back.
    The Chair now recognizes Mr. Stutzman of Indiana for 5 
minutes.
    Mr. Stutzman. Thank you, Mr. Chairman.
    I have really enjoyed this conversation. And I appreciate 
each of your perspectives.
    Dr. Posen, you just made a comment, and I want to see if 
you could expound on it a little bit. You said price stability 
and then excessive volatility. Could you expound on that a 
little bit? Because I agree with you. I think certainty and 
stability is what is going to help middle income, help folks of 
lower income get to the next bracket, find the next rung on the 
ladder. Because right now that is what they don't have. They 
don't have certainty. Could you expound on that a little bit?
    Mr. Posen. I will try, Congressman. And I know from your 
past proposals that you are concerned about uncertainty 
generated by monetary policy, and I respect that concern.
    Essentially what the issue is, as Dr. Orphanides on this 
panel and others have written about, is in the 1970s we made a 
huge mistake, as you are well aware, because we assumed there 
was this stable tradeoff between inflation and unemployment and 
that if we just were willing to accept higher inflation we 
would get lower unemployment. And that was doubly mistaken. 
First, we underestimated how costly the higher inflation would 
be. And second, we didn't get permanent employment gains; we 
just got temporary ones.
    And so since that time there is a lot of academic work and 
a lot of policy work that has tried to get central bankers to 
not talk about employment at all. For various reasons that we 
have discussed, that seems to be something of a mistake. It 
takes it too far. But there is a truth there that if you target 
a specific rate of unemployment or you pretend that you can 
really control the unemployment rate through monetary policy, 
you probably are going to induce either inflation or 
uncertainty.
    So what I found in practice, and this is something we did 
at the Bank of England, and which other central banks have done 
in the past, is to say we may not know precisely what the rate 
of unemployment is, and we may not be able to push it to where 
people beg us to push it, but we can see when there is a big 
swing in the economy, a very rapid change, be it a runup 
because there is some uncontrolled boom, say, through a housing 
bubble, or a rundown like we had in 2008 because of a financial 
crisis, and the real economy, meaning real people, real 
businesses, real savers are being put through the wringer, we 
should try and offset that. And doing that in a short-term way 
should not conflict with price stability.
    Mr. Stutzman. Thank you. I appreciate that a lot.
    I would like to go to Dr. Orphanides. I would like to ask 
about some of the experiences that have developed under the 
European Central Bank, which is the most recent central bank 
that stood up a developed economy or economies. Given your 
experience on the ECB Governing Council, what did the 
architects look to when determining how to structure the ECB? 
And then also, did they look to existing central banks as a 
model?
    Mr. Orphanides. Indeed, they did. And I have to say that I 
believe that the Federal Reserve did have an influence on the 
design, institutional design of the European Central Bank in 
two ways, both directly--the Fed is the closest they could look 
at in terms of a Federal institution that would bring together 
Federal Reserves, Federal Reserve banks, and the central banker 
in the middle, and coordinate this view--and also indirectly--
so many of the elements that the ECB drew on were from the 
Bundesbank that was set up in the 1950s. But the Bundesbank, 
when it was set up in the 1950s, actually had a structure that 
also drew on the Federal Reserve.
    So the ECB did try, and the founders of the ECB did try to 
bring the best they could find internationally in their 
experience. Indeed, this is why they selected to have the 
lexicographic mandate that places price stability first, 
because this is what had been recognized as the state of the 
art when this was done in the late 1980s and early 1990s. And I 
believe that is still the state of the art.
    If I contrast that with the Fed, I think that the reason 
that the Fed has a dual mandate right now is simply because its 
own mandate was written in the 1970s, before we developed a 
consensus that suggests that focusing on price stability and 
helping central bankers not target real variables is best 
practice.
    Mr. Stutzman. If I could quickly, Dr. Makin, if you could 
comment on Japan's QQE. Will it produce any different results 
from just the QE program in Japan?
    Mr. Makin. I believe it will. The Bank of Japan has 
frequently attempted to get out of their deflationary trap. And 
until this year, the bank was very conservative when they 
announced more aggressive asset purchases. They said, we will 
be very cautious, we are worried about hyperinflation, it 
probably won't work.
    This year, the Bank of Japan, under new leadership, 
undertook to set an inflation target of 2 percent, which is 
very important to do when you are trying to end deflation, 
which is a very different game, and they have suggested that 
they will follow through until they achieve the goal. The 
ironic result I think that the Bank of Japan came to realize is 
that a necessary condition to end deflation is to promise 
inflation, a sufficient condition as to make it happen, and 
then have the presence of mind to throttle back when the 
inflation actually picks up.
    Mr. Stutzman. Thank you. I yield back, Mr. Chairman.
    Mr. Huizenga. The gentleman's time has well expired.
    I do appreciate everyone's charity as we are getting into 
some of these very important issues. And without objection, I 
think if the panel is willing to stay, we can maybe do another 
slightly quicker, if possible, lightning round of questions. I 
know I have some. And with that, I would like to recognize 
myself--and I don't anticipate using the 5 minutes--but I will 
recognize myself for 5 minutes.
    Mr. Makin, I think I got your quote down, and I believe it 
was extemporaneous, I don't think it was in your written 
testimony, but eventually we need to abandon these extreme 
policies--this is the Fed, as you are talking about--just as 
Congress has done fiscally. There are a number of us who might 
be concerned that we haven't exactly abandoned our extreme 
policies on stimulus spending. In fact, we are having this 
debate right now dealing with unemployment going to be expiring 
at the end of the year, the extended 2 years instead of the 
much shorter time of almost a year. We have had that with 
additional funding that went into nutrition programs, WIC, and 
others.
    And the political lesson that I have been learning out of 
this is that it is very difficult to extract out of that. And I 
think what you might have been hearing from Mr. Pearce and some 
of my other colleagues is it seems like we are taking care of 
Daddy Warbucks on Wall Street, and with quantitative easing we 
are, I think as Dr. Posen was pointing out, oftentimes that 
might be the vehicle you need to make sure you have a strong 
financial center to let that all trickle down, but there are a 
lot of us I think who are questioning, can we ever really get 
out of that cycle? And I am curious how the Fed is going to 
extract itself out of a QA position when you see markets and 
Wall Street and maybe markets around the world say, oh, no, no, 
we can't move off of $85 billion a month because that might 
mean we are going to have some movement here in a direction we 
don't like in the short term.
    So if you care to answer that, and then Dr. Lachman, I 
would like you to, really quickly.
    Mr. Makin. Mr. Chairman, you have certainly hit the nail on 
the head in terms of the dilemma. When I was thinking of fiscal 
policy, I was thinking that in spite of many complaints the 
Congress has managed to reduce the budget deficit by about a 
third over the past year through a combination of the 
sequestration cuts and the tax increases. And I was thinking of 
that progress.
    The Fed's problem is perhaps just as difficult. And as I 
mentioned earlier, it is highlighted by what happens in the 
marketplace when, as Chairman Bernanke did in May, they hint 
they might buy less, and interest rates go up and security 
prices go down, and everybody gets very nervous. So the short 
answer is I don't know exactly how to do this. But neither 
does--
    Mr. Huizenga. I think part of the problem, exactly right, 
is that neither does the Fed. Now, we are caught in this 
hamster wheel.
    Mr. Makin. Nobody does. So I think in terms of being very 
practical, slowly and cautiously, and having reversibility as 
you go along, which is what I think the Fed is trying to 
engineer here. There is no book that tells you how to exit the 
Fed's current strategy.
    Mr. Huizenga. Dr. Lachman?
    Mr. Lachman. Yes, I would agree that we are in uncharted 
waters. But I think a crucial point is that the longer that we 
delay the decision, the bigger the chance that we get asset 
price bubbles, credit bubbles. We are at some point going to 
have to exit. By delaying it, we just are going to make the 
exit all the more difficult. We have been to this dance a 
number of times before.
    So my fear is that if you keep printing $85 billion a 
month, and you have the Japanese printing $70 billion a month, 
what you are going to do is you are just going to create a very 
large asset and credit bubble that when you unwind it is going 
to be all the more difficult. So I think that you really have 
to be mindful that the benefits you get from the short run you 
might be getting at the price of large costs in the longer run.
    Mr. Huizenga. I think I will do this in writing, because, 
Dr. Posen, we only have a minute left. But I would love to get 
a reaction from you at some point of how you envision that we 
are going to pull this liquidity out.
    As Dr. Lachman is pointing out, Japan is at $70 billion a 
month, and we are at $85 billion a month. We don't know what 
the ECB is going to do. But apparently they are prepared to do 
something as well. And how do we extract ourselves.
    I do want to ask a very specific question, and maybe we can 
get some answers in writing as well on that. What are those 
reforms that you would like to see us do as we are approaching 
this 100th anniversary? I think it was Dr. Posen, I am not 
sure, but there was some discussion about an 8-year--is this 
what the European Central Bank--maybe it was Dr. Orphanides--
European Central Bank you get an appointment for an 8-year 
period, and then you are cycled out, correct, you are done? 
That to me sounds like something that might be a positive. I am 
curious if anybody has a reaction?
    Mr. Orphanides. There are two suggestions I would make. One 
is on the appointment process, that it would simplify and 
reduce the political battles we have right now with multiple 
rounds of potential appointments if you have a one-term, 
nonrenewable, longer term for all Board Members. Eight years is 
what is being done at the ECB. I think that would work better 
in the United States as well.
    The most important change, however, I think is to clarify 
the mandate. I am concerned that the lack of clarity of the 
mandate will be creating difficulties going forward precisely 
because we have the uncharted territory and the humongous, I 
think was the technical term used earlier, size of the balance 
sheet of the Federal Reserve.
    Mr. Huizenga. All right. Thank you.
    Mr. Carney is recognized for 5 minutes.
    Mr. Carney. Thank you. I am not sure I will need the whole 
5 minutes. But I do want to go back to--
    Mr. Huizenga. That is what I thought, too.
    Mr. Carney. --our discussion again.
    Not long after our discussion, Dr. Posen, you made an 
argument against the dual mandate I think when referring to the 
experience of the 1970s. Was that what that was?
    Mr. Posen. It was an argument, sir, against setting a 
specific level of unemployment target. So, I am in favor of the 
dual mandate that there has to be concern for the real economy 
for growth and employment as well as price stability.
    Mr. Carney. Because it creates a sense of balance in the 
thinking of the Members?
    Mr. Posen. Exactly. And it gives you room to respond to 
very large short-term fluctuations in the economy. And I would 
still, as I said to you, I would still rather have a dual 
mandate with an unemployment level than a single mandate.
    Mr. Carney. Great.
    Dr. Lachman, in your testimony you talk about the Lehman 
crisis and what you considered the effective response of the 
central banks and the Fed and how it avoided a global meltdown 
and a lot worse conditions than we saw. And you reference 
certain programs, including TARP. Have we eliminated tools that 
the Fed needs to address a crisis in the future?
    Mr. Lachman. I don't know whether you have eliminated them, 
but I think that the Dodd-Frank Act might put certain limits on 
what they can do or that their room for maneuver isn't quite as 
what it would be prior to the Lehman crisis.
    Mr. Carney. Notwithstanding some of the rhetoric in this 
committee, we can't bail out banks in the way that was done in 
2008. There is an orderly liquidation process, as you may know, 
that banks are required to go through once it is determined 
that they are dying, I guess. Is that a good thing or a bad 
thing from the perspective of the broader economy? Forget about 
the politics of it.
    Mr. Lachman. My concern is that if we really do build up 
very large credit and asset bubbles, we have a chance that we 
are back into the kind of situation that we were at the Lehman 
crisis, in which case you would want a Federal Reserve that had 
wide capabilities of dealing with the mess when it occurred.
    Mr. Carney. Lastly, what should our role be as a 
subcommittee of Congress? Or what should Congress' role be? 
Just, in a sentence or two each, each of you.
    Dr. Posen?
    Mr. Posen. As I tried to say in my written testimony, which 
I apologize for delivering so late, I think Congress' role 
should be very aggressive control of two things. First, what 
the stated goals of the Federal Reserve are, and changing those 
every couple of years as needed. Not, obviously, every day. 
That would be counterproductive. But as needed. And second, as 
I tried to say to the gentleman--sorry, I don't remember what 
State you are from, I apologize.
    Mr. Carney. New Mexico.
    Mr. Posen. Thank you. The gentleman from New Mexico, the 
Congressman from New Mexico, that you need to have much more 
retrospective accountability of holding Fed officials, did you 
do your job well or not? What specifically did you do? And are 
you accountable for that? But doing it in a holistic, 
retrospective way, not a starting off and saying there are 
things we want the Fed to do and not do. It has to be context 
and results based.
    Mr. Carney. Dr. Makin?
    Mr. Makin. Yes, I would like to see a directive for the Fed 
to pursue price stability, but not to ignore other goals. In 
other words, to emphasize that the Fed consistently pursues 
price stability and minimizes uncertainty, and thereby helps to 
improve the picture for employment and asset prices. In other 
words, I don't think the Fed should be seen as saying, hey, we 
don't care what happens. But they should be seen as saying, we 
want to continue to maintain low and stable inflation. There is 
a lot of empirical evidence to suggest that the economy 
performs better under those circumstances and that labor 
markets perform better as well.
    Mr. Carney. Dr. Orphanides?
    Mr. Orphanides. I am a supporter of the primacy of price 
stability as an objective. And something we did not discuss 
sufficiently today, I believe, is that financial stability 
should be elevated as one of the explicit secondary mandates of 
the Federal Reserve rather than growth and employment. Those 
come naturally once you have price stability and financial 
stability.
    Mr. Carney. Dr. Lachman, a last word?
    Mr. Lachman. Yes. I agree with the way Dr. Posen posed the 
idea that the dual mandate should be working without a specific 
unemployment target. I am not sure that Congress should limit 
itself to retroactive review of the purchases that the Fed is 
doing given the scale of the purchases and given that it does 
have a distribution effect. I would think that Congress should 
have some input into those decisions.
    Mr. Carney. Thank you.
    Mr. Huizenga. The gentleman's time has expired.
    With that, we will go to the gentleman from New Mexico, Mr. 
Pearce, for 5 minutes.
    Mr. Pearce. Thank you, Mr. Chairman.
    So we began this process--and Dr. Lachman, I am probably 
going to come to you--of quantitative easing, printing money, 
whatever you are going to call it, and now it looks like we 
have initiated maybe that kind of an effect worldwide, that if 
it is good for us, everybody can do it. What are the downside 
effects of everybody beginning to create money out of thin air?
    Mr. Lachman. I think the reason that everybody has to do it 
is it does have impact on their currencies. That cheapens 
certain currencies, puts countries at a disadvantage. They will 
find themselves in the same position, so they go ahead with 
doing it.
    My view is that if all of us do this to a very large 
degree, and we have global financial markets, the risk is that 
what you get is you get global bubbles, and that when you begin 
withdrawing from that policy you are going to be paying a heavy 
price. I am not saying that quantitative easing wasn't the 
right thing to do at the time that it was initiated. But I am 
saying that now that the balance sheets are so large and it 
looks like there is froth in the markets, I think that there 
has to be pause as to whether you just continue this 
indefinitely or do you start the process of unwinding.
    Mr. Pearce. But then when we started unwinding we had one 
Member of the Federal Reserve saying at one point the same day 
we need to start tapering, and another Member of the Federal 
Reserve shrieked that we can't start tapering. And so you get 
this mixed signal, and the markets are a little bit volatile.
    What is going to happen, Dr. Orphanides, if we get dropped 
as the world's reserve currency? What will the effect of the 
quantitative easing be on the currency inside the United 
States?
    Mr. Orphanides. I would put this in reverse. Of course, it 
would be catastrophic for the United States if the dollar loses 
the status of reserve currency.
    Mr. Pearce. And so, it would be catastrophic.
    Mr. Orphanides. This is one of the risks of continuously 
expanding the balance sheet of the Federal Reserve without 
having--
    Mr. Pearce. If I can reclaim my time, it would be 
catastrophic. You can look at Argentina. They don't have a 
currency. They can't export inflation like we do. We get to 
export to 200 other countries, and so we diminish the effects 
inside. And so Argentina a couple of years ago had a 1,500 
percent inflation rate, and so your statement that it would be 
catastrophic. So it really got my attention this year, maybe it 
was late last year, that the BRIC nations said they were going 
to start trading in other currency--Brazil, Russia, India, and 
China--and then two of them actually did that.
    So we are getting these warning signs from the rest of the 
world that you are creating some very unstable things with very 
catastrophic effects. We have started a printing war. And 
nobody knows the way out. Any hope? So what stops it all? 
Anyone? Dr. Makin, I will just come to you next. Dr. Posen, I 
give you the last shot to wrap it up.
    Mr. Makin. There would be much more cause for urgent 
concern if we were seeing all this money printing and observing 
a big pickup in inflation. In fact, we are seeing the reverse, 
that inflation is actually slowing down. It is below 1 percent 
in Europe. It is about 1.2 percent in the United States. And 
so, you have a deflationary situation that was kind of akin to 
what was happening in the early 1930s, and central banks tend 
to want to export deflation by printing money, causing their 
currencies to depreciate, which means other currencies 
appreciate.
    So we have to avoid a kind of overt currency war of that 
type and at the same time try to get past a situation where 
everybody is using easy money to get a bigger piece of world 
trade. In other words, avoid a trade war, which is one of the 
things that made the Depression worse.
    Mr. Pearce. Thank you.
    Dr. Posen, I assume that was your saying. You didn't really 
have a comment to make on this.
    I guess the final thing is, what does this look like to the 
American family? My dad raised 6 of us on $2.62 an hour, the 
entry level in the oil field. Today, what his dollar would buy 
it takes $12 to buy. I think that is one of the reasons we are 
having such great stress in the American economy, that the 
value of what people make is being diminished radically by 
policies that the government is setting.
    I yield back, Mr. Chairman.
    Mr. Huizenga. The gentleman yields back.
    Seeing none on my over side of the dais here, we will go to 
Mr. Mulvaney for 5 minutes.
    Mr. Mulvaney. Thank you.
    Mr. Huizenga. And I should also announce we have just 
gotten notice that we will have votes at about 4:15. So if it 
is all right with you gentlemen, we will be wrapping up shortly 
after this round.
    Mr. Mulvaney. Thank you, Mr. Chairman. And thank you for 
the opportunity to do a second round of questions.
    Dr. Posen, this gives us an opportunity to spend a little 
more time on the last topic we had to sort of rush through at 
the end. I think I misspoke on a couple of numbers. And I want 
to give you the opportunity to speak at some length as well. We 
are talking about losses on the Federal Reserve's balance 
sheet. I asked you previously about the concept of 
indemnification. I want to point out in your testimony the 
thing that caught my attention and re-ask my question.
    It is on page 10, the last paragraph: ``Worries about 
losses on risky assets are nothing but a distraction. Whether 
the Fed temporarily loses money on a small portion of its 
portfolio or temporarily distorts a hypothetical pure market 
outcome for a particular asset class in service of that greater 
good should not be a constraint on doing the right thing.''
    You go on to close by saying, ``And of course, the 
cumulative gains that the Fed has transferred to the U.S. 
Treasury over the decades outweigh by two orders of magnitude 
any potential losses on the Fed's balance sheet.''
    I guess we could have had a long conversation of a day 
about whether or not losses that the Fed faces now, the 
potential losses, and the number was actually $547 billion that 
Bloomberg estimated the Federal Reserve could lose in a higher 
interest rate environment, whether or not that is a temporary 
loss on a small part of its portfolio or whether or not we are 
simply seeing a temporary distortion in the pure market for, 
say, mortgages, or whether or not there is a larger, more 
significant distortion.
    I want to come to the issue about the cumulative gains and 
losses. The point that I was making is that I think of the 
cumulative gains last year, the combined earnings of the Fed, 
out of the combined earnings they were able to return back to 
the Treasury about $89 billion, $90 billion. And this is, as 
you mentioned, the case with other central banks, the policy, 
which is they take much of their combined earnings, they give 
it back to the Treasury.
    But now we are facing, and I had several Members of the 
Federal Reserve actually admit that they were facing the 
likelihood of large losses over a longer period of time. In a 
higher interest rate environment and a $4 trillion balance 
sheet, these losses could be substantial. Again, as Bloomberg 
estimated, on the order of half a trillion dollars.
    So I would ask you again to walk me through this process of 
indemnification. And I am seriously asking a question to which 
I don't know the answer, which is a dangerous thing to do in 
Congress, but I have not heard that before. And I would like 
you to walk me through it. Maybe we can talk about it a little 
bit.
    Mr. Posen. Thank you, sir. I will try to be responsive.
    Just one note on the numbers. I don't remember the 
particular Bloomberg report you are discussing. You can create, 
and I don't mean that in a bad way, you can on some reasonable 
assumptions create loss numbers that big. I would suggest that 
those loss numbers are pretty much the upper bounds.
    Mr. Mulvaney. I will tell you, and I don't mean to cut you 
off, but I will tell you that we actually had witnesses in 
another hearing say that 100 basis points would lead to roughly 
$100 billion in losses.
    Mr. Posen. That sounds about right. But again, you have to 
spread that over several years probably. But, yes. I think that 
is fair.
    So onto the point of the indemnification. The idea is not 
that the Congress and therefore the American people are writing 
a check to the Fed to fill up its balance sheet in total.
    Mr. Mulvaney. That is what it sounded like, so I am glad 
you went there first.
    Mr. Posen. I tried to say, and I apologize for being 
unclear or too cryptic, there is a core level of the balance 
sheet, just like with a private business, that is essentially 
the Fed's capital. It needs a certain amount of equity in order 
to conduct its operations. That amount is a tiny fraction of 
the $2 trillion balance sheet we now have. The Fed was able to 
do its operations back before 2008 with a balance sheet that 
was a very small portion of what it now is.
    Mr. Mulvaney. Balance sheet is $4 trillion, right?
    Mr. Posen. Sorry, $4 trillion.
    Mr. Mulvaney. $2 trillion, $4 trillion, pretty soon it is 
real money. Right. I get it.
    Mr. Posen. The point being that all you would be 
indemnifying the Fed for is that it wouldn't have to at some 
point under duress come to Congress or come to the executive 
and say, we have no money left in the kitty.
    Mr. Mulvaney. Can't they just conjure it up?
    Mr. Posen. They can, but that would be inflationary. And 
then also there would be room for people to say, oh, the Fed is 
a rogue entity. It is just making up its own policy. It is 
unconstrained. I think it is legitimate for Congress to have 
the control of saying we own, in some sense, the Fed. We own 
the equity. But the amount you need to identify, again, I want 
to stress this, is a very small amount. I don't know what the 
exact number is, but it would probably--
    Mr. Mulvaney. If the Fed were to lose $100 billion, Dr. 
Posen, who loses that money? I understand who gains. They make 
$100 billion, their combined earnings are $100 billion, they 
remit that to the Fed, the deficit goes down, the taxpayers are 
better off. When they lose that same $100 billion, who loses?
    Mr. Posen. Unless and until they run out of money for their 
operations, on paper they lose that asset. Right? So the 
balance sheet of the Fed shrinks. And that is it. The balance 
sheet of the Fed shrinks.
    Mr. Mulvaney. Thank you. Again, I appreciate the 
opportunity for the longer discussion. Thank you, Mr. Chairman.
    Mr. Huizenga. I appreciate that.
    And with that, we will recognize Mr. Stutzman for the last 
5 minutes.
    Mr. Stutzman. Thank you, Mr. Chairman.
    Dr. Makin, I would like to come back to you about the 
Japanese policy and quantitative and qualitative easing. How is 
it that the Japanese Government can be so involved in the Bank 
of Japan's policy decisions?
    Mr. Makin. The Bank of Japan is not that independent. And 
so the Prime Minister--it is a parliamentary government--was 
very clear when he was elected that he was going to appoint 
people at the Bank of Japan who would be very aggressive about 
pursuing an inflation target, and did appoint Mr. Kuroda, who 
promptly followed that line. So the Bank of Japan is obviously 
not independent, because we wouldn't see in the United States, 
for example, a similar directive.
    Mr. Stutzman. Okay.
    Dr. Lachman, how does the Bank of England or the Swiss 
National Bank remain accountable to their national government 
if they are an independent entity? There has to be some sort of 
expectations and accountability between the two at some point, 
doesn't there?
    Mr. Lachman. Absolutely. And Dr. Posen can probably talk 
better to it with the Bank of England. But the government is 
very much involved in setting what the goals are for the Bank 
of England in terms of an inflation target. And the Bank of 
England has to report at regular intervals on how it is doing 
with respect to the inflation target. So you are granting them 
what one would call instrument independence, but you are 
setting for them what the goals are.
    Mr. Stutzman. And, Dr. Posen, if you would want to comment 
on this as well, because it just seems to be fascinating, 
especially even with the European Central Bank, the challenges 
that they would have within the European Union could be even 
greater. But, Dr. Posen, if you could maybe talk a little bit 
about the Bank of England and how their government relates to 
the different committees that they have structured?
    Mr. Posen. Thank you. My colleague, Dr. Lachman, has it 
essentially right. There is an explicit inflation target set 
for the Bank of England. That target is set by the elected 
government. They can review it at any time, although for 
practical reasons of not wanting to seem too inflationary or 
too disruptive to markets, they generally review it every few 
years.
    Mr. Stutzman. And you mentioned that earlier. Is that 
something that appears to work for them?
    Mr. Posen. A colleague of mine, Kenneth Kuttner from 
Williams College, and I just did a paper in which we showed 
that there is really no difference in inflation performance 
between central banks like the Bank of England, but not just 
the Bank of England, where the target gets reset by Parliament 
or the executive, versus central banks like the ECB, where you 
have very little control. It is just a question of legal 
structure.
    And if I may, I had the privilege to co-author with current 
Fed Chairman Bernanke a book on inflation targeting that came 
out back in 1999. And one of the main arguments we made for it 
was not to solely focus on inflation, because that would 
provide more accountability for the Fed.
    Mr. Stutzman. So you think that creates not only 
accountability for the Fed, but you think that by resetting 
they can refocus on what the environment is for the day. How 
often would they potentially or have they historically reset, 
maybe at the Bank of England or some other--
    Mr. Posen. Let me give you just three quick examples. At 
the Bank of England, they have reset it approximately 4 times 
in 16 years. One was a purely definitional thing. There was a 
particular inflation series. They switched the inflation 
series. Actually, it is only 3 times. And the most recent one 
was explicitly telling the bank not to worry about fluctuations 
in output as long as you don't really imperil inflation. So, 
that was a change in focus.
    The Swiss National Bank, which is very independent, had a 
reset. There is a speech the current Swiss Bank Governor gave 
at our institute that is available on our Web site, they were 
facing, as I think Dr. Makin mentioned, huge capital inflows 
out of Europe that were driving up their currency and causing 
them deflation. And they explicitly changed their goal to doing 
with the exchange rate to try to keep a lid on that imported 
deflation. And that required parliamentary approval.
    Mr. Stutzman. Thank you. I find it very fascinating.
    I yield back, Mr. Chairman.
    Mr. Huizenga. The gentleman yields back. And I, too, 
actually sat down with the Swiss Ambassador right about that 
time. And it was interesting. It was a flight of capital.
    Mr. Posen. Yes.
    Mr. Huizenga. Flight of capital to something that was 
solid, the Swiss franc, and that was the reaction that they 
were having to deal with.
    All right. I would like to thank each one of our witnesses 
again for your testimony today. This was I think very helpful, 
very illuminating.
    The Chair notes that some Members may have additional 
questions for this panel, which they may wish to submit in 
writing. Without objection, the hearing record will remain open 
for 5 legislative days for Members to submit written questions 
to these witnesses and to place their responses in the record. 
Also, without objection, Members will have 5 legislative days 
to submit extraneous materials to the Chair for inclusion in 
the record.
    This hearing is now adjourned.
    [Whereupon, at 4:13 p.m., the hearing was adjourned.]






                            A P P E N D I X



                           November 13, 2013





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