[House Hearing, 113 Congress]
[From the U.S. Government Publishing Office]
INTERNATIONAL IMPACTS OF THE
FEDERAL RESERVE'S QUANTITATIVE
EASING PROGRAM
=======================================================================
HEARING
BEFORE THE
SUBCOMMITTEE ON MONETARY
POLICY AND TRADE
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
ONE HUNDRED THIRTEENTH CONGRESS
SECOND SESSION
__________
JANUARY 9, 2014
__________
Printed for the use of the Committee on Financial Services
Serial No. 113-57
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88-519 WASHINGTON : 2014
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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
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Page
Hearing held on:
January 9, 2014.............................................. 1
Appendix:
January 9, 2014.............................................. 39
WITNESSES
Thursday, January 9, 2014
Lachman, Desmond, Resident Fellow, the American Enterprise
Institute...................................................... 7
Meltzer, Allan H., the Allan H. Meltzer Professor of Political
Economy, Tepper School of Business, Carnegie Mellon University. 6
Steil, Benn, Senior Fellow and Director of International
Economics, the Council on Foreign Relations.................... 3
Subramanian, Arvind, Dennis Weatherstone Senior Fellow, the
Peterson Institute for International Economics, and Senior
Fellow, the Center for Global Development...................... 9
APPENDIX
Prepared statements:
Waters, Hon. Maxine.......................................... 40
Lachman, Desmond............................................. 42
Meltzer, Allan H............................................. 53
Steil, Benn.................................................. 55
Subramanian, Arvind.......................................... 61
INTERNATIONAL IMPACTS OF THE
FEDERAL RESERVE'S QUANTITATIVE
EASING PROGRAM
----------
Thursday, January 9, 2014
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 10:05 a.m., in
room 2128, Rayburn House Office Building, Hon. John Campbell
[chairman of the subcommittee] presiding.
Members present: Representatives Campbell, Huizenga,
Pearce, Posey, Grimm, Fincher, Stutzman, Mulvaney, Pittenger,
Cotton; Clay, Peters, Foster, Carney, and Kildee.
Ex officio present: Representatives Hensarling and Waters.
Chairman Campbell. The Subcommittee on Monetary Policy and
Trade will come to order.
Without objection, the Chair is authorized to declare a
recess of the subcommittee at any time.
The Chair now recognizes himself for 5 minutes for the
purpose of an opening statement. I won't use all 5 minutes, but
I will simply open to say this is a continuing part of our
series of hearings examining the Federal Reserve (Fed) at the
100th anniversary of the Federal Reserve, and examining both
the history of the Fed and the current activities of the Fed
and what the future of the Fed might look like.
The title of this hearing is, ``International Impacts of
the Federal Reserve's Quantitative Easing Program.'' QE, as we
have lovingly come to know it, has been the subject of a number
of hearings or discussions in hearings in this committee since
it was begun several years ago.
My opinion on QE in terms of its domestic policy has been
clear. There are benefits, if you will, to QE, and there are
clearly risks and negatives to QE. And in my estimation, the
risks and negatives of QE are currently outweighing the
benefits thereof, which calls for it being wound down and
eliminated, in my view. Clearly, the Federal Reserve Board Open
Market Committee has not agreed with that assessment in the
past, and we will see what they do in the future.
But a lot of those discussions have been based upon an
evaluation of the domestic impacts of quantitative easing, of
what it is doing for the economy, for interest rates, for the
money supply, for those sorts of things. That is not what this
hearing is intended to examine.
U.S. monetary policy does not happen or exist in a vacuum.
When the greatest nation on earth makes decisions and makes
economic moves or moves in the area of monetary policy, other
nations react, and it affects the international markets and it
affects international trade and can affect a number of things.
And we have our distinguished panel here this morning to
give us their views of what are the international impacts of
quantitative easing, and how do the actions or reactions of
what is going on in other countries impact the United States?
It is another part of quantitative easing that we haven't spent
a lot of time on, and that this hearing is intended to try and
understand better, as to what those international impacts are
that thereby have an impact upon the United States
domestically, as well.
So, with that, I believe--okay. The gentleman is recognized
for 5 minutes for an opening statement.
Mr. Kildee. Thank you, Mr. Chairman. I don't have any
formal opening statement. I just want to thank the witnesses
for their presence.
Obviously, this is a really important issue. Mr. Peters and
I both represent the State of Michigan, so we are particularly
interested in your observations relative to this policy and its
effect on unemployment.
But I appreciate your attendance. Thank you.
I yield back. Thank you.
Chairman Campbell. The gentleman yields back.
The other gentleman from Michigan. I just realized I am
completely--
Mr. Huizenga. Mr. Chairman, you get--
Chairman Campbell. --surrounded by Michiganders here.
Mr. Huizenga. --three of us up here.
Chairman Campbell. Okay. The other gentleman from Michigan
is recognized for 5 minutes.
Mr. Huizenga. Thank you, Mr. Chairman. And for the record,
I believe that the Federal Reserve Open Market Committee ought
to have listened to you more often, as well. So, just to get
that out of the way.
But, it is interesting, in its 100th year, going back and
doing some research--I love history. I love doing some reading
on that. And, obviously, you look at the creation of the Fed
and why this came about, some of those economic crises in the
early 20th Century. Having the Fed founded as an independent
agency, deriving its power from Congress, we have seen a
certain amount of expansion over the past 100 years, and that
has been quite significant expansion. And looking at that as it
was originally created to supervise and monitor banking systems
here in the United States, it seemed to grow unchecked. I know
that nature and government abhor vacuums, and they will fill
them, one way or the other.
But we are seeing them being really a lender of last resort
for banking institutions that require additional credit to stay
afloat, and, obviously, that has an impact on what is happening
internationally. But given the interconnectedness of the global
financial system, there is no doubt that their policies have
significantly impacted international markets and foreign
economies. And with the implementation of artificial near-zero
interest rates with QE1, -2, -3, Operation Twist, the Fed has
made an attempt to stimulate the domestic economy by using an
unprecedented level of interventionist policies.
I am curious to get your input as to what you believe that
this experiment has caused, as we have seen investors really
make different decisions. I saw a statistic this morning that
the top 1 percent has seen a, I believe it was a 31 percent
increase in their wealth over the last few years, and for the
lower tiers of the economy, it has been fractions of a percent.
And I think the key to all of this, the income questions
that we are dealing with, distribution and equality and
equality of opportunity; it is really about economic activity
more than anything. So I think we have a common goal. The
question is, how is it really being handled?
These emerging-market economies have caused several foreign
currencies to rise in value. However, rumors--it was
interesting just seeing the rumors in mid-2013 that the Federal
Reserve would begin tapering its purchases of government
securities earlier than expected. Investors began to react very
quickly. They are not static; they are very dynamic when they
are making those decisions. They are selling off their stakes
in foreign currencies across the globe. So, we obviously have
an impact.
What we learn today shouldn't only inform our understanding
of what is happening here domestically, but, increasingly, our
global and complex macroeconomy that we have here. And I
appreciate your time today, gentlemen, giving us some insight
on your take as to what has been happening, as we see this
100th-anniversary milestone.
With that, Mr. Chairman, I yield back. Thank you.
Chairman Campbell. The gentleman yields back.
Again, thank you all for being here.
We will now hear from the people who know more about this
than all of us put together.
And we will start with Dr. Benn Steil, who is a senior
fellow and director of international economics at the Council
on Foreign Relations. He previously served as the non-executive
director of the virt-x security exchange, which is now part of
the Swiss Exchange, and formerly directed the International
Economics Programme at the Royal Institute of International
Affairs in London.
Dr. Steil, welcome. Thank you. And you are recognized for 5
minutes.
STATEMENT OF BENN STEIL, SENIOR FELLOW AND DIRECTOR OF
INTERNATIONAL ECONOMICS, THE COUNCIL ON FOREIGN RELATIONS
Mr. Steil. Thank you, Mr. Chairman.
Since the financial crisis in 2008, actions taken by the
Federal Reserve to increase liquidity in the U.S. financial
system have had a major impact outside the borders of the
United States. Quantitative easing, through which the Fed
increases the monetary base by buying longer-term financial
assets with newly conjured dollars, thereby pushing down their
yield, was undertaken partly to encourage, and indeed has
encouraged, investors to shift resources into riskier assets.
Though wholly unintended by the Fed, however, this shift
has encompassed securities issued in emerging-market countries.
Anticipation of the Fed's withdrawal from QE3, though it will
only begin with a modest tapering of monthly asset purchases
this month, has already had a substantial impact on the
currency and bond markets of a number of important emerging-
market economies.
The hardest-hit countries have been those running large
current account deficits--in particular, India, Indonesia,
Turkey, and Brazil. Economic growth in these countries and the
investment returns coming with it, reliant as they have been on
short-term capital flows from abroad, have always been the most
at risk of a change in the trajectory of Fed policy from
accommodation to tightening.
So how can emerging markets protect themselves in advance
of a tightening of Fed policy? A recent IMF study found that
countries with a lower share of foreign ownership of domestic
assets, a trade surplus, and large foreign exchange reserves
have been more resilient. This has policy implications. In good
times, developing countries should apply a firm hand to keep
their imports and currency down and their exports and dollar
reserves up.
Unfortunately, such policies are apt to constitute what
many observers in this country would call ``currency
manipulation.'' Economists Jared Bernstein and Dean Baker
recently called for the United States to impose taxes on
foreign holdings of Treasuries and tariffs on imports precisely
to counteract them. This is, in my view, a misguided recipe for
raising global trade tensions and political conflict. But the
very fact that prominent commentators are calling for such
action illustrates the importance of considering how the
functioning or malfunctioning of the global monetary system can
encourage a spiral of damaging policy actions.
China's agreements with Brazil, Russia, Turkey, and Japan
to move away from dollar-based trade, for example, have the
potential to undermine the multilateral trading system, as
countries that don't want to stockpile each other's currency
will use trade discrimination to prevent trade imbalances
emerging.
So what can be done? International central bank cooperation
can help at the margins by mitigating short-term liquidity
problems, most notably through currency swap arrangements. The
Fed extended swap lines to Brazil, Mexico, and South Korea in
October of 2008, although these arrangements were allowed to
expire in 2010.
Regarding Federal Reserve monetary policy actions, anything
that makes them more predictable will, all else being equal,
attenuate market volatility globally. Over the past 15 months,
the Fed has tried to do this through the formal use of so-
called forward guidance. Initially, this was implemented
through the setting of date-based markers for the raising of
interest rate targets. These were quickly abandoned, however,
in favor of data-based markers for both the raising of interest
rate targets and the tapering of monthly asset purchases.
Both approaches are challenging to carry out in practice.
Date-based guidance is problematic in that date markers are
ultimately justified by the Fed's expectations of economic
conditions years into the future. And, as I have documented
elsewhere, the Fed's forecasting record over the past quarter-
century has been poor. Data-based guidance can also create,
rather than reduce, market turbulence when the data markers
themselves are volatile, such as monthly employment figures.
Asset purchases, in particular, are not a precision tool, so
trying to calibrate them continuously to volatile economic data
is fraught with difficulties.
It is worth recalling that Chairman Bernanke had in June
suggested that asset purchases would end with the unemployment
rate at around 7 percent. In fact, tapering is only now just
starting with unemployment at this level. Assuming the Fed had
good reason to abandon the Chairman's June guidance, it would
have been advisable not to issue it in the first place.
In short, rules, targets, and forward guidance for U.S.
monetary policy action will not significantly mitigate the
challenges that emerging markets will face going forward in
adapting to market perturbations triggered by such action or
inaction. Broadly speaking, the inevitable inconsistency that
will open up between the Fed's rules, targets, and guidance on
the one hand, and unexpected economic developments on the
other, will lead either to inappropriate policy stances or a
falling away of the credibility of such rules, targets, and
guidance as they are abandoned or amended.
It is therefore in our national interest to accept openly
that emerging-market governments be able to implement prudent
controls on short-term portfolio inflows in order to shield
their economies from sudden, extreme, and unpredictable shocks,
some of which may be triggered by the decisions of our own
Federal Reserve, taken in good faith pursuant to the mandates
assigned to it by Congress.
Chile, which has been a model of prudent macroeconomic
management over many years, used modest 1-year unremunerated
reserve requirements on capital inflows with some apparent
success during the crisis-marked 1990s. As major serial foreign
financial crises over the past 4 decades have illustrated, we
here in the United States also bear real costs when overexposed
and underprotected banks and governments find themselves, in
the face of rapid and large-scale shifts in the flows of
capital internationally, quite suddenly unable to pay their
bills.
I thank you again for the opportunity to participate in
these important discussions.
[The prepared statement of Dr. Steil can be found on page
55 of the appendix.]
Chairman Campbell. Thank you very much, Dr. Steil.
Dr. Allan Meltzer is professor of political economy at
Carnegie Mellon University. Dr. Meltzer chaired the
International Financial Institution Advisory Commission, also
known as the Meltzer Commission, and was a founding member of
the Shadow Open Market Committee. Dr. Meltzer served on the
President's Economic Policy Advisory Board and the Council of
Economic Advisors.
And, of course, Dr. Meltzer's main claim to fame is that he
has a degree from the same university from which I graduated,
UCLA. He has a doctorate, I had a B.A.--an insignificant
difference.
But thank you so much for being here, Dr. Meltzer. And you
are recognized for 5 minutes.
STATEMENT OF ALLAN H. MELTZER, THE ALLAN H. MELTZER PROFESSOR
OF POLITICAL ECONOMY, TEPPER SCHOOL OF BUSINESS, CARNEGIE
MELLON UNIVERSITY
Mr. Meltzer. Chairman Campbell, thank you. It is always a
pleasure to be here, and I thank you and the members of the
committee for inviting me.
I am going to talk about what I think gets lost almost all
the time in these discussions. That is, how do we get the world
back to long-term stability? That is really what the major
objective should be: to find a way, a path that will take us
back to long-term stability.
Central banks have two major monetary responsibilities:
domestic and; international. Most central banks ignore the
international responsibility and achieve domestic price
stability, if they do it at all, by acting unilaterally. Having
made that choice, international stability, enhanced stability
of exchange rates and capital movements requires some form of
collective agreement.
I have long advocated a program that both achieves domestic
stability and increases exchange rate stability. My proposal
does not require international conferences, foreign
intervention in domestic policy, or enforcement by
international supervisors. It is entirely voluntary and is
enforced by markets, much as the international gold standard
was enforced by markets.
It has a few simple rules.
First, the United States, the European Central Bank, the
Bank of Japan, and if China ends its exchange controls, the
Bank of China, agree to maintain domestic inflation between 0
and 2 percent a year.
Second, any other country that chooses to import low
inflation and maintain a fixed exchange rate can peg at its own
choice to one or a basket of the major currencies. They gain a
benefit, price and exchange rate stability, that no country can
achieve acting alone. The country that chooses this policy is
responsible for maintaining its exchange rate.
Third, the major countries benefit by gaining exchange rate
stability with all countries that peg to one or more of their
currencies. The major currencies float to permit changes in
productivity and possibly taste.
Fourth, no country is required to join the system. It
remains voluntary. The public good that the system provides
gives an incentive to join.
Fifth, the system would introduce discipline that has been
lacking since the breakdown of the Bretton Woods system. Like
the old international gold standard, markets would do the
enforcement. If a country ran large budget deficits, markets
would devalue the currency and increase expected inflation,
forcing the country to adjust.
Sixth, countries could suspend operation of the system, as
they did under the gold standard. Not permitting temporary
suspension is a major flaw in the European monetary
arrangements that prolongs, indeed forever perhaps, crisis.
I do not claim this proposal would achieve some ideal
result. I do not believe that is possible for modern democratic
governments. It offers improvement of increased stability. An
ideal, like zero instability, is not achievable in an uncertain
world. If adopted, my proposal would limit the damage that
governments do, particularly the damage that the Federal
Reserve System does.
A current example is the excessive expansion of bank
reserves that spill over to other countries. Some, like Japan,
respond by depreciating their currency. Others experience an
unwanted inflation. Still others, Turkey for example, have
difficulty adjusting.
The number of problems that have occurred is small so far
because the amount of reserves that the Fed has produced are
almost entirely idle reserves. More than 95 percent of QE2 and
QE3 have the first round of expansion and then are idle and
held by the banks.
It is a question to which I do not find a sensible answer
if you ask, with $2.5 trillion sitting idle on banks' balance
sheets, and $2 trillion sitting idle on corporate balance
sheets, what in the name of goodness can the Federal Reserve do
that the banks and the corporations can't do by themselves?
I make two additional--governments do not limit damage or
prevent it--proposals. First, I would close the World Bank.
There is little reason for it in the world of economic capital
flows of the magnitudes that we experience.
And second, I would put prudential restrictions on
International Monetary Fund lending, because the International
Monetary Fund lends to countries such as Ukraine and Romania,
which will have extreme difficulty in paying back those loans.
We pay a substantial part of those loans. We should put some
restrictions on how they are used.
Thank you.
[The prepared statement of Dr. Meltzer can be found on page
53 of the appendix.]
Chairman Campbell. Thank you, Dr. Meltzer.
Next, Dr. Desmond Lachman is a resident fellow at the
American Enterprise Institute. He served as the deputy director
of policy development review at the aforementioned IMF. He
worked as managing director and chief emerging-market economic
strategist at Salomon Smith Barney. And he has previously
taught at Georgetown and Johns Hopkins Universities.
Welcome, Dr. Lachman. You are recognized for 5 minutes.
STATEMENT OF DESMOND LACHMAN, RESIDENT FELLOW, THE AMERICAN
ENTERPRISE INSTITUTE
Mr. Lachman. Thank you, Mr. Chairman. Thank you for
inviting me to testify before this committee today.
Let me start by saying that U.S. monetary policy typically
has significant spillover effects on the rest of the world
economy. It does so both through the way in which it affects
the state of the U.S. domestic economy as well as the manner in
which it influences capital flows from the United States to the
rest of the world.
The unusually large degree of U.S. monetary policy
loosening over the past 5 years has been no exception to the
rule. Indeed, there is every reason to believe that the very
large scale and the form of the most recent episode of U.S.
monetary policy easing has had more than the usual degree of
spillover to the rest of the world economy.
Since the end of 2008, the massive easing in monetary
policy by the Federal Reserve and by the central banks of other
major advanced countries has resulted in substantial capital
flows into the emerging markets. According to International
Monetary Fund estimates, foreign portfolio investments in
emerging-market country bonds has risen by a cumulative $1.1
trillion through 2013, and this has amounted to as much as 2
percent of the recipient countries' gross domestic products.
These capital flows have compromised the economic
fundamentals of a number of key emerging-market countries by
undermining market discipline, and in many cases they have
resulted in excessive currency appreciation. In particular,
emerging-market borrowing rates have been reduced to levels
below those that would be justified by those countries'
economic fundamentals.
In a number of notable cases, including Brazil, Indonesia,
India, South Africa, and Turkey, easy financing has led to the
postponement of much-needed structural reforms and budget
adjustment. It has also led to excessive credit expansion and
to the buildup of financial leverage, making these countries
vulnerable to any sudden stop in capital flows.
Of even greater concern for the global economic outlook
than the emerging markets is the complacency presently
characterizing European policymakers concerning the European
sovereign debt crisis. Lower borrowing costs in Europe, which
has been facilitated in large part by Federal Reserve easing,
have lulled European policymakers into a false sense of
security. This has substantially reduced the impetus for much-
needed policy reform and adjustment in the European economic
periphery, and it has delayed Europe's move towards banking and
fiscal union, which would be necessary for the survival of the
euro.
In determining the pace at which it unwinds its
quantitative easing program, the Federal Reserve will need to
be very mindful of the international spillovers of its
policies. This would particularly appear to be the case given
the large impact that the massive expansion of its balance
sheet over the past several years has had on the economic
fundamentals of a number of key emerging-market economies and
on those countries in the European economic periphery. In
recent years, the emerging-market economies have accounted for
more than half of world economic growth, which means that any
significant slowing in those economies could have a material
bearing on the U.S. economic outlook.
The key challenge for the Federal Reserve will be to find
the right balance in the pace at which it exits quantitative
easing. Too slow a pace of exit could further contribute to the
undermining of market discipline in emerging-market economies
and in the eurozone. At the same time, too fast a pace of exit
runs the risk of a sudden stop in capital flows to the
emerging-market economies and Europe, which could be disruptive
to the global economy.
An indication of the downside risk to the global economy
that could be posed by an unwinding of quantitative easing was
provided by the sharp selloff of emerging-market assets in the
aftermath of Chairman Ben Bernanke's intimation last May that
the Fed had under consideration the unwinding of its third
round of quantitative easing.
In the 6 months following that testimony, the currencies
and bonds of those emerging-market countries which had
experienced high rates of credit expansion and had wide
external current account deficits, including notably Brazil,
India, Indonesia, South Africa, and Turkey, all came under
considerable pressure. This pressure has forced those countries
to substantially tighten their macroeconomic policies, which
has resulted in a marked slowing in their economic growth and
which has forced the IMF to downgrade its economic growth
outlook.
Thank you, Mr. Chairman.
[The prepared statement of Dr. Lachman can be found on page
42 of the appendix.]
Chairman Campbell. Thank you, Dr. Lachman.
Next, Dr. Arvind Subramanian--did I get that right?
Mr. Subramanian. Perfect.
Chairman Campbell. Dr. Subramanian told me before the
hearing here that when he was younger, people just called him
``Superman.'' So I may just call him--we can all just call him
``Dr. Superman'' if you have trouble with ``Subramanian.''
Dr. Subramanian is a senior fellow with the Peterson
Institute for International Economics, and a senior fellow with
the Center for Global Development, and has been assistant
director for research of the aforementioned IMF, the
International Monetary Fund, and staff of the General Agreement
on Tariffs and Trade.
Welcome, Dr. Superman. You are recognized for 5 minutes.
STATEMENT OF ARVIND SUBRAMANIAN, DENNIS WEATHERSTONE SENIOR
FELLOW, THE PETERSON INSTITUTE FOR INTERNATIONAL ECONOMICS, AND
SENIOR FELLOW, THE CENTER FOR GLOBAL DEVELOPMENT
Mr. Subramanian. Thank you, Chairman Campbell, and members
of the subcommittee for giving me this opportunity to testify.
I want to use this opportunity to look back in order to look
forward. And, in particular, I want to look back on the Fed's
role over these last few years in order to draw policy lessons
for the broader and vital issue of American global economic
leadership. That is a topic dear to my heart, as perhaps one of
the few non-Americans testifying before you. So, to that end, I
want to offer three reflections and perhaps two, maybe two and
a half, policy suggestions.
So, reflection number one: As the world's largest economy,
its financial epicenter and the issuer of the prime reserve
currency, the dollar, actions by the Fed will unavoidably
affect other countries via trade and exchange rates, capital
flows, and overall financial conditions. That is unavoidable.
Reflection number two: Against that background, QE has
generally and on balance had a positive effect on emerging
markets and the global economy. To be sure, in some instances
they have added to pressures and volatilities, complicating
macro-management, but the broad impact has really depended on
what the global macroeconomic situation is and the situation in
individual countries.
Let me give two examples. QE1 was positive and universally
seen as so because it saved the world economy from collapse. So
that was good for the United States and good for the world
economy.
Second example: Take QE3 or, actually, the talk of
withdrawal that Chairman Bernanke started in May of last year.
Many EMs did face serious problems, as my colleagues have
noted, but the pressures were not uniform and were felt acutely
in some countries that were more vulnerable than others.
To lay all the blame on the Fed is to forget that being
exposed to U.S. policies is part of the deal of financial
globalization that emerging markets and others, as consenting
adults, have voluntarily signed on to. They could have chosen
to be less financially globalized like China, or they could
have made their economies more resilient by adopting better
policies. I am a Hindu and not a Christian, but let me invoke
scripture: The Fed is not thy brother's keeper.
That being said, it leads to reflection number three: The
Fed has been broadly mindful of its international
responsibilities and, quietly but effectively, has shown
remarkable international economic leadership. It provided
dollar swap lines to central banks in emerging markets, and it
has provided liquidity to Europe and the Bank of Japan. And
these actions did contribute to calming conditions in these
crisis-ridden years.
There is something remarkable that needs to be noted here,
Mr. Chairman. These emerging-market countries during the crisis
chose not to go to the IMF, even though the IMF after the Asian
financial crisis was seen as an instrument of American
hegemony. Instead, they chose to come straight to the United
States and deal with the Fed.
Point number two: It is remarkable because when the Fed
helped Europe through these swap lines, at that time the rest
of the U.S. Government was a bystander because of its own
problems, able to offer counsel but little cash to these
economies in crisis.
So, in some ways, what I want to stay is that in some ways
the Fed has played a very constructive global role, so the
question is, what can the rest of the U.S. Government, and this
subcommittee, in particular, do by way of global economic
leadership?
So that leads me to policy recommendation number one. Mr.
Chairman, you are close to this. I think the U.S. Congress
should work with the Administration to ensure the necessary
legislation to augment the IMF's resources, to include it in
the omnibus appropriation bill.
Why do I say that? As positive as the Fed's role has been
in relation to crises, I think that job should not be that of
the Fed; it should be that of the IMF. Congressional passage of
IMF legislation would be relatively cheap, if not costless. It
would protect the United States and the world against crises.
And, above all, it would allow the United States to share the
burden that, in some ways, it is exclusively taking on via the
Fed. To me, this would be a sign of reversing U.S. enfeebled
economic leadership. And it is awkward for me to say this, but
the United States is the only major country which stands in the
way of this legislation.
Which leads me to policy recommendation number two, because
this subcommittee also deals with trade. And, Mr. Chairman, you
talked about the feedback effect of QE policies back on the
system.
There is some uncertainty now whether U.S. bilateral
investment and free-trade negotiations limit the ability of
partner countries to deal with financial stresses. I think the
negotiations on the TPP offer an excellent opportunity for
clarifying that the United States does not aim to circumscribe
or eliminate legitimate policy instruments by its trading
partners--for example, prudential controls on inflows and
broader controls on balance-of-payments grounds--to respond to
the pressures from financial globalization and crises. This
clarification would also be consistent with the IMF's new
thinking on capital controls.
Finally, my half-recommendation: I have argued in my
testimony that QE has not led to greater manipulation by the
emerging-market countries. In fact, the era of QE has coincided
with a reduction in foreign exchange intervention and
imbalances. But independently of QE, currency manipulation is a
problem for the world system because it is a trade distortion.
However, I feel that the best way to address it would be
multilaterally in the World Trade Organization.
An alternative, of course, would be to address it in the
TPP, but this should be done carefully, making sure that the
issue is not captured by a few constituencies in the United
States and derails the prospects of broader trade
liberalization under the TPP.
Thank you, Mr. Chairman.
[The prepared statement of Dr. Subramanian can be found on
page 61 of the appendix.]
Chairman Campbell. Thank you, Dr. Subramanian.
The Chair now recognizes himself for 5 minutes for the
purpose of questioning.
Thank you all for your testimony.
I think I heard a resounding agreement, at least, that QE
does have an impact--QE and the United States has an impact on
foreign markets and on the international economy generally. I
heard from a bunch of you things like currency manipulation,
trade barriers, disruption, current account deficits, capital
flows, all kinds of different things like that. And Dr.
Subramanian has a different view as to the efficacy of this
world impact than the other three of you do.
What I want to try and do is have you each respond to each
other's points, if you will. But, also, if we can make this
sort of at a first-grade level rather than all of the
``economic-speak.'' Let's try and say, what is the impact, what
is the basic fundamental impact?
So Dr. Steil, Dr. Meltzer, or Dr. Lachman, any of you whom
I think do not agree with Dr. Subramanian that the impact has
been positive--Dr. Lachman, you look like you are ready for
your button--give me the greatest negative impact of QE on
international economics. And refute, if you believe you can,
Dr. Subramanian's point.
Mr. Lachman. I guess if you are looking internationally,
what one is really wanting to do is to distinguish between the
short-run impact and the longer-run impact. So while the short-
run impact might be beneficial as the capital is flowing into
these countries--it lowers interest rates, it boosts growth,
and all the rest--what it does is it produces market discipline
and allows these countries to establish imbalances, so when the
music stops, when the process is unwound, those countries are
extremely vulnerable to the slowing of the capital.
So what I am saying is that, as the capital flows in, it
drives growth up, everything is okay, but it increases
vulnerabilities so what we will see now and what we are seeing
right now is the key countries, known as the ``fragile five,''
are experiencing great difficulties as this capital is
withdrawn because they have allowed their currencies to get
overvalued and they have very large imbalances.
So that is really the adverse cost. The cost of QE is not
seen immediately; it is, rather, seen when the process is
unwound. And that has yet to be seen.
Chairman Campbell. And what are the risks to the United
States from those vulnerabilities?
Mr. Lachman. The risks to the United States are rather
large, as we have seen in previous crises, the Asian crisis,
for instance, in 1998, both in terms of, if you have those
economies slowing, they are an important part of the global
economy, it means that United States exports get hit, but the
greater risk is to the global financial system, that if these
countries run into any kind of payment difficulties, that can
cause difficulty on the banking system.
I am not concerned so much about that in terms of the Asian
countries, but I certainly am concerned about that in terms of
the European economic periphery.
Chairman Campbell. And what are the fragile five?
Mr. Lachman. The fragile five are Brazil, India, Indonesia,
South Africa, and Turkey. And these fragile five are fairly
sizeable economies. You just have to think of Brazil and India,
two of the bricks. And these economies have been accounting for
most of the global growth over the last 10 years.
Chairman Campbell. Dr. Subramanian, your response?
Mr. Subramanian. Yes, Mr. Chairman, I think the point here
is that, as Dr. Lachman said, there is a short-term and there
is a long-term impact, but there are two key points to note.
One is that the capital inflows that go to developing
countries because of QE, their effect on these countries
depends very much on how they manage it. If they do things
right, it is a huge benefit. Similarly, if they have followed
sound macroeconomic policies, when the capital flows out, the
risks are minimal.
And, therefore, the key point here is that--and one example
of this is that the impact is, in fact, varied. When, in fact,
the capital started moving out in May after taper talk, the
fragile five were affected, but they were affected because they
were very macroeconomically vulnerable. For example, India, my
own country, was one of the worst hit because it had high
inflation, fiscal deficits of 10 percent, and current account
deficits of 4 percent. China, Singapore, and South Korea were
less affected.
Chairman Campbell. Okay. My time has expired, so thank you.
I am sure you will both have plenty more opportunities.
I will now recognize the gentleman from Illinois, Mr.
Foster, for 5 minutes.
Mr. Foster. Thank you all for appearing on this very
complicated subject. I think after I had a voter-enforced
vacation a couple of years ago, I spent a while downloading
various macroeconomic models and playing with them, and being
frustrated by the difficulty with the multi-country models and
the number of parameters that you had to deal with. And as a
physicist, I dream that there might be an actual analysis tool
here, but I don't think we are anywhere near that.
But I would like to--in a recent speech, Ben Bernanke
talked about using mortgage loan-to-value limits as a
macroeconomic tool. Because one of the themes that is coming
out here is the fact that actions by the Federal Reserve
amplify leverage cycles in developing countries.
And so that one of the lessons from biology is that if you
want a stable system, you need a number of distributed feedback
loops. And so that if each country independently would insulate
itself--again, as many countries have by hand; when they see an
assert bubble, they turn up, for example, mortgage underwriting
requirements in order to cool down their real estate markets.
This is also something that could be unwound when the Fed
unwinds its own policies.
I was wondering if you have any comments on the concept
that individual economies can do a lot to insulate themselves
from Fed policy? Anyone who has thoughts on that?
Yes?
Mr. Steil. I think the data bear that out very strongly,
that countries can do things to insulate themselves from the
impact of Federal Reserve policy.
It has been pointed out that the effect of QE on emerging-
market economies has not been uniform. The countries that were
hit the hardest, countries like India, Indonesia, Brazil, and
Turkey, had certain features--in particular, very large current
account deficits. Countries that were not hit, say, Singapore,
China, and South Korea did not have such deficits and also
tended to have very large foreign exchange reserves.
My concern is this: If you try to extract policy lessons
from this experience, they should be a little bit disturbing to
us, because if everybody in the emerging-market world behaves
like South Korea, global imbalances are only going to get much
worse. The lesson we have taught these emerging markets is that
in the good times, they should apply a firm hand to keep their
imports and their currency down and their exports and their
foreign exchange reserves up. As I emphasized in my testimony,
broadly speaking, that is what many observers in these
countries refer to as currency manipulation. And so these--
Mr. Foster. Not all countries can run current accounts
surpluses simultaneously. There is a--
Mr. Steil. That is right, but often, as you know, Mr.
Foster, we wind up being the market of last resort for
countries around the world that are insistent on pursuing
policies that result in current account surpluses.
So I am concerned that the experience of quantitative
easing in the emerging-market world will lead to the adoption
of policies that will increase global trade tensions rather
than reduce them.
Mr. Foster. Okay.
Any other comments?
Mr. Meltzer. Mr. Foster, I like the way you organized your
thinking about this problem. I want to add a dimension that has
been not been here heretofore.
We have seen 98 percent of QE2, QE3 go into idle reserves.
So, there is a tidal wave there. We don't know how it is going
to break. But what we are describing so far is the effect of a
small amount of the QE spilling over into the rest of the
world. What is going to happen when that other 95 percent comes
out? Is it going to come out in an orderly way, or is it going
to come out in a bang? Is it going to create havoc in the rest
of the world? I don't think anybody can confidently say
anything about that, but those are the risks which are involved
here.
And we can talk about things that countries can do, but if
we have a tidal wave of this money coming out, $2.5 trillion in
idle reserves, or more, and growing, and $2 trillion on
corporate balance sheets, that is a lot of money, and it can
create a lot of problems. We may be fortunate; we may not.
The idea that the United States will buffer those problems
is wrong. We did that because we had a huge import excess
because of energy. That is going away. The world of the future
is going to be very different than the world of the past
because we are going to be in--
Mr. Foster. I think I am running out of time here, so if
you could wrap up.
Chairman Campbell. The gentleman's time has expired.
And we will now move to Michigan for the next two
questioners. First, the vice chairman of the subcommittee, Mr.
Huizenga, is recognized for 5 minutes.
Mr. Huizenga. Thank you, Mr. Chairman. Again, you are
bookended by Wolverines on this.
But I feel like I am honestly drinking--you know the old
phrase of drinking out of a firehose. I am trying to drink out
of four Ph.D. firehoses coming at us with information right
now. So, I appreciate your patience as we are doing this.
Dr. Subramanian seemed to be indicating and quoting the
good book as far as should the United States be its brother's
keeper, and I am hearing various views on that. I am concerned
a bit about that. If everyone should be basically on their own,
and as my friend from Illinois was sort of talking about is,
basically are we going to have every country sort of insulating
itself?
I am from Michigan. Right? There is a tremendous amount of
criticism of the TPP coming out of the automotive industry when
we are talking about Japan. It seems to me that if we are in
QE-infinity and maybe see an edge to that cliff here if we are
starting to dial it back, but we are into these loose money
policies, how in the world can we be critical of any other
country that is going to be taking the same defensive actions
that we have taken?
And I am not a Ph.D. I was a poli-sci major, not a hard
science major. I did take some courses in economics and a
concentration in that. But one of the first laws of economics
that I ever learned about was the law of diminishing returns.
And it seems to me, as we are going from QE1 to QE3, I would
assume that there is, as Dr. Meltzer is pointing out, this
huge, massive buildup in reserves that has happened in the
banking system here. Are we really hitting our goals and
objectives?
So if you could maybe address those two things. One, how
can we be critical of any country? Specifically, I think it was
Dr. Lachman who talked about the Bank of Japan. And then, two,
what is going to be the effect of these reserves that have been
built up?
So, Dr. Meltzer, go ahead.
Mr. Meltzer. Yes, I like the brother's keeper. The brothers
don't necessarily want a keeper and are probably not going to
want that. I have had the experience of the Secretary of the
Treasury going over to Europe and telling them that they need
to do fiscal expansion and they laugh at him. That is, they
think, take care of your own problems; don't try to tell us how
to take care of ours. When the United States has much better
policies, it could give advice. It is in a very poor position
to give advice these days on fiscal and monetary policy.
I would like to make a slightly different short point. I am
concerned about the problem that the Congress has in performing
its oversight duties. The only way I believe that you can
perform oversight duties effectively is to have a rule, require
the Federal Reserve to follow a rule, and then if they don't
follow it, you have a question. It is just not possible for
members of this committee, however diligent they may be, to
come and tango, rhetorically, with the Chairman of the Federal
Reserve. It has never worked.
Mr. Huizenga. Dr. Meltzer, I know you have brought that
point up about the rule previously. And I am curious, are we in
danger of the world dismissing or, worse yet, maybe not even
believing what we are doing or what we are saying we are going
to be doing if we are not tapering when we said we would taper
and some of those dates?
But, Dr. Subramanian, I wanted you to quickly address that,
too.
Mr. Subramanian. Let me first try and address the first of
your questions, how can we be critical of others when we are
doing the same thing.
I think it is important to remember that this tidal wave
that has gone out, first, is not tidal when compared to what
happened before QE, and second, it is not all due to QE. A lot,
in fact a majority of the flows to emerging markets have
happened because they have grown much faster than the United
States.
Mr. Huizenga. Economic activity?
Mr. Subramanian. Exactly. And so, for investors, it is much
more attractive to invest in those countries than 2 percent or
0 percent in the United States.
Mr. Huizenga. I would love to talk about regulatory reform
and tax reform to help us get that economic activity, but let's
move on.
Mr. Subramanian. But I think the question here is that the
United States followed QE policies largely to stave off the
financial collapse and to provide policy support for the
recession. The impact on the U.S. exchange rate has been
relatively modest. In fact, because the United States is a
reserve currency, in the immediate aftermath of the crisis,
money came pouring into the United States because it was a safe
haven.
And, therefore, I think one shouldn't fall into the trap of
thinking that U.S. QE is equivalent to Japanese QE.
Mr. Huizenga. Sure, but isn't it fair to say that we are--
Chairman Campbell. Time has expired.
Mr. Huizenga. Gulliver among the Lilliputians is my
observation, so--and, with that, Mr. Chairman, thank you.
Chairman Campbell. All right. The gentleman's time has
expired.
Perhaps if the other Wolverine wants to let him answer that
question--that is up to you. By the way, how did that ball game
go against Kansas State?
Mr. Kildee is recognized for 5 minutes.
Mr. Kildee. I am a functional Spartan right now.
Chairman Campbell. Oh, yes. Okay.
Mr. Kildee. Thank you.
Sticking with the Michigan theme, I would like to take the
conversation sort of down to more of a Main Street, local
economic level, at least from my point of view. I represent
Flint, Michigan, but a lot of the district that I represent is
part of an older industrial corridor that has struggled
mightily in making the transition to the new economy. Michigan
unemployment currently stands at 8.8 percent, the second or
third highest, I think, in the country, and it has been a
condition that we have struggled with mightily.
And so the question that I have is--and if Dr. Subramanian
would respond and perhaps others might comment--as many
Americans continue to struggle with unemployment, and given the
Fed's mandate, even yet, Congress has failed to extend
emergency unemployment benefits that could affect--is affecting
1.3 million, could go up to 2 million people sometime in March.
And, of course, the effect on many States is disproportionate,
in my State particularly.
And I am just curious, if you would comment on--because it
seems the Fed's use of QE has been critical to help the economy
recover and put people back to work. And in the context of that
policy, can you talk about ways that we can balance our
domestic obligations to grow the economy and create jobs, which
is absolutely critical in my district and in other parts of the
State, while still mitigating the negative aspects of policies
on emerging markets as the Fed decreases its use of QE?
Mr. Subramanian. That is a great question, and my response
would be the following: that, as you said, the Fed's primary
responsibility is to the U.S. economy. And, generally, I think
it is accepted that certainly early bouts of QE have provided
very vital policy support for the economy. Now, I would not
necessarily buy into the view that this has come at the expense
of other countries, because, as I said, other countries have
had the policy instruments to deal with that.
But the Fed has, in fact, addressed the international
dimension, to the extent it can, by providing this liquidity to
countries in trouble. Brazil, Mexico, Singapore, and South
Korea came to the U.S. Fed for help, and that helped calm
conditions.
So I would take this one step forward and say the way to
reconcile the domestic and the international responsibilities
would be for the Fed to do what it needs to do for the U.S.
economy, but for the rest of the U.S. Government to ensure that
other things can be done for other economies.
And I come back to, the best that Congress can do now is,
in fact, to support to increase the IMF so that in the future,
if there are crises, which it is true will come back to the
United States and haunt the United States, but the way to
address that is to fund the IMF and provide it with the
resources to deal with international crises so that the effects
on the United States is minimized.
Mr. Kildee. Any other--Dr. Lachman?
Mr. Meltzer. Let me comment on that.
Mr. Kildee. I'm sorry. Or Dr. Meltzer, either one.
Mr. Meltzer. You might want to explain to your constituents
in Flint why it is in the interests of the United States for
the United States to finance the IMF to lend money to France,
Germany, and so on, but especially to France, which refuses to
make serious adjustments in its policy, why that is a good
policy for the United States.
Why don't we just say to the French, ``Look, you have a
serious problem--and they do--and you have to deal with it. It
is not our problem, it is your problem.'' Why should the United
States be lending to Ukraine through the IMF? Ukraine is a
basket case, in most cases, and is making decisions which are
not in our interest. Why should we do that?
Why should the United States be lending money--and I will
stop there--to Iran through the IMF? It doesn't seem to me to
be consistent with anything that we could call sensible U.S.
policy.
Mr. Kildee. Dr. Lachman?
Mr. Lachman. If one is talking about the IMF, a point that
is really very important to bear in mind is that most of the
IMF lending of the last few years has been to the European
countries. It is something like 70 or 80 percent of their
lending.
The European Central Bank has now set up a mechanism, the
Outright Monetary Transaction mechanism, that can provide an
unlimited amount of funding, which really raises questions as
to does the IMF actually need the amount of money that we
thought they needed 2 or 3 years ago, when you have the ECB
that is able to take care of most of those European countries?
Chairman Campbell. The gentleman's time has expired.
We will move from Wolverines to Hoosiers. The gentleman
from Indiana, Mr. Stutzman, is recognized for 5 minutes.
Mr. Stutzman. Thank you, Mr. Chairman. Unfortunately, I
can't brag about any big football games this past couple of
weeks. But, anyway, thank you.
I appreciate the testimony. This has been a fascinating
discussion, and obviously one that the United States plays a
huge role in, in the global economy.
And I appreciated, Dr. Steil, your comments, and they do
seem to be--it was a lot of common sense when you said, in good
times, that developing countries should apply a firm hand to
keep their imports and currency down and their exports and
dollars reserves up. But, unfortunately, not many of us follow
that advice.
Could you comment on--many of us in Congress have been
critical of capital controls and some of the other
restrictions. Experts have suggested using tariffs and other
countervailing measures to shelter U.S. firms from their
effects. Doesn't this lead us into a race to the bottom or a
currency war morphing into a potential trade war?
Dr. Steil, could you comment on that?
Mr. Steil. Specifically with regard to the use of capital
control?
Mr. Stutzman. Yes, sir.
Mr. Steil. Yes. I think we should be concerned with the,
say, arbitrary use of capital control, say, in the midst of
some sort of domestic crisis when governments take actions that
are targeted, for example, at certain firms, certain investors,
to prevent the repatriation of capital. I think these rules
have to be clearly laid out in advance. They must not be
arbitrary and be directed at specific individuals or firms or
interests; they must have general applicability. And the
purpose must be set out.
As I emphasized at the end of my presentation, I think
emerging-market governments should be free to use restrictions
on short-term portfolio inflows clearly laid down in advance as
a means of ensuring that they don't, after absorbing such
inflows, have to face the problem of arbitrary restrictions in
order to stop the outflows.
And I use Chile as an example of a country that did, in
fact, use such modest restrictions very prudently in the 1990s
and appears to have done so quite successfully.
Mr. Stutzman. Is there any other country today that you
would point to that is doing something similar to what Chile
did back in the 1990s? Is there anyone?
Mr. Subramanian. Brazil did it in 2009. Not exactly the
same, but they imposed taxes on certain inflows from abroad.
Mr. Stutzman. Okay. Thank you.
Mr. Steil. The difference between Brazil and Chile is that
Chile implemented this policy during the good times, not
arbitrarily in order to prevent an imminent crisis from
unfurling. Brazil has been much more reactionary, and I think
that is the problem there.
Mr. Stutzman. Thank you.
Dr. Meltzer, if you could comment a little bit, you
mentioned long-term stability, that is what we are all looking
for. But you also mentioned, go back to your testimony, in a
couple of different places regarding the international gold
standard. You mentioned it in your point number five. Like the
old international gold standards, markets would do the
enforcement. Could you touch on that a little bit more? Should
we look back at the ways that we used to do things and maybe
reconsider how we do support our currencies?
Mr. Meltzer. Thank you. Way back in the 1970s, I used to
debate occasionally with a former member of this committee whom
you all remember, Mr. Paul, and I usually ended up by saying to
him that the reason we don't have the gold standard is not
because we don't know about the gold standard; it is because we
do. So we would like to get some of the benefits of the gold
standard without getting the costs of the gold standard. And
the costs of the gold standard are it puts attention on
something that none of your constituents would really want.
That is, it says they are going to give priority to maintaining
the exchange rate. That is not what they want. They want the
priority to be maintaining good economic conditions at home.
So I have tried to come up with a system that says, let's
try to get the virtues of the gold standard, which was market
enforcement, not meetings of central bankers, but markets
deciding whether you are doing the right thing or not, that
sort of thing, to get an enforcement mechanism and to capture
the public good which has been lost since the breakdown of the
Bretton Woods system, which is to have countries get the
benefits of price stability, which is of great virtue, and
exchange rate stability to the extent possible that we do that
with price stability. That is the idea.
Mr. Stutzman. Thank you. I would love to have a longer
conversation with you about that. But thank you.
Mr. Meltzer. I would be happy to do so, any time.
Mr. Stutzman. I will yield back.
Chairman Campbell. Thank you. The gentleman's time has
expired.
The gentleman from Delaware, Mr. Carney, is recognized for
5 minutes.
Mr. Carney. Thank you, Mr. Chairman. I didn't think you
would know who the mascot for the University of Delaware team
is; it is the Fighting Blue Hens. So you go from the Hoosiers
to the Fighting Blue Hens over here for future reference.
Chairman Campbell. I am so pleased that you have filled
that bit of ignorance in my--
Mr. Carney. And thank you to the panelists for coming. This
has been a very interesting, if not difficult, esoteric and
difficult to understand conversation. My Ph.D. physicist
colleague, Mr. Foster, I think tried to simplify it a little
bit, as he looks at the world through biological systems, which
didn't help me at all. And I would kind of like to go back a
little bit to have you comment not maybe on a first grade
level, as the Chair requested, but kind of on the basic level
that I try to communicate with my constituents, to just answer
the basic question, why does it matter? Why does it matter to
the people in my State of Delaware, is really the first
question I have.
Dr. Meltzer, you have been kind of touching on that.
Anybody else? Dr. Subramanian?
Mr. Meltzer. Your constituents want stability.
Mr. Carney. Right.
Mr. Meltzer. One of our major problems is we don't have it.
And we haven't had it. We have had a lot of ups and downs. In
the history of the Fed, to go there, in the 100 years, the best
period, the only long period of relative stability with good
growth, low inflation, and short and mild recessions was when
they more or less followed something called the Taylor Rule.
Now, why did that work well? Because unlike most of what
they do, the aim was on a longer-term objective. They are
crowded and pushed by the markets, by the Congress, perhaps by
economists to do things which are mostly short run in nature.
Mr. Carney. But my constituents obviously are focused more
on the unemployment rate in the State, which in Delaware is a
little bit better than the rest of the country. But they are
still focused on that as opposed to what the Fed is doing with
QE1, 2, or 3, or what-have-you. That is the major focus in the
bulk of the feedback that I get.
Mr. Meltzer. Yes. I will quote Paul Volcker, whom this
committee certainly remembers. Mr. Volcker said the way to get
low unemployment was to have low expected inflation. That is,
depend on the markets. Don't try to get the unemployment rate
down by raising the inflation rate and then trying to get the
inflation rate down by raising the unemployment rate. That just
gives you a lot of noise and variance in the system. So what
Mr. Volcker said was what I would call the anti-Phillips curve
approach, get the expected inflation rate down and anchor it
down as best as you can. And then, the markets will provide
jobs and prosperity.
Mr. Carney. Dr. Subramanian, you had a--
Mr. Subramanian. I think it is a great question, why it
matters. I think the way I would think about it is to say that
if we do something in the United States that affects other
countries, it can come back to haunt us, because then they buy
less goods and services from us--
Mr. Carney. Right.
Mr. Subramanian. --which contributes to unemployment. Or in
the case of Delaware they may say, well, we don't want foreign
financial service providers in our country because they try and
impose capital controls, and that is going to hurt Delaware.
So I think that is the reason why one has to impress upon
our own constituents that we have to make sure what we do
doesn't negatively impact others, because it could come back to
haunt us in a globalized, interconnected world.
Mr. Carney. One last quick question. I have about a minute
left. We are talking about international impacts here with
respect to Fed policy. What about if Congress did not raise the
debt ceiling, what should we be concerned about there? Dr.
Meltzer, would you like to--
Mr. Meltzer. That is not a sensible policy. You have to
raise the debt ceiling. I agree with those who say you have
incurred the responsibilities. You don't want to concentrate on
raising or not raising the debt ceiling. You want to
concentrate on a longer-term policy which says we won't have to
raise the debt ceiling again in the future, next year or the
year after. Do that. That is an effective policy. That is
something you can do.
Mr. Carney. Any sense of what the negative impacts might be
if that happened?
Mr. Meltzer. Yes. It would say that the U.S. debt is highly
risky. Because you don't know--
Mr. Carney. Would it endanger our position as having the
reserve currency?
Mr. Meltzer. Yes.
Mr. Carney. So maybe at another time we can have a
conversation about what impact that would have.
Mr. Meltzer. Let me amend that by saying if you don't raise
the debt ceiling for a week or a month, that would be bad, but
it wouldn't destroy the value of the dollar.
Mr. Carney. Fair enough. My time is up. Thanks very much. I
appreciate your time today.
Chairman Campbell. Thank you. The gentleman's time has
expired. And I have waded into the battle between Gamecocks and
Tigers before, so I won't do it. I will just recognize the
gentleman from South Carolina, Mr. Mulvaney, for 5 minutes.
Mr. Mulvaney. Thank you, Mr. Chairman.
And thank you, gentlemen, for doing this today.
I want to touch on what I think is a related but a little
bit different topic. We had Dr. Bernanke come not before this
committee several years ago, but a different committee that I
was on at the time, to explain to us at that time not a new
policy, but something the Fed was expanding at the time called
U.S. dollar liquidity swaps. This is another way that the Fed
policy involves other countries, other central banks. It was a
temporary program from its inception. And then I think in late
October of this year, without much fanfare, it was made
permanent. And this facility is now a permanent facility
between the Federal Reserve and three or four other central
banks. The bank explained why it was doing that. The bank said
that it wanted to bring some stability and a known quantity or
a known facility into play. And I understand that.
Here is my question to you: Should we be concerned about
this? It got very little attention. When they initially put the
temporary program into place in 2007 and extended it again in
2010, it got a lot of attention, it seemed like it did. The Fed
Chairman came to a committee to tell us about it. But when it
was made permanent in October of last year, it got very little
press. There was actually only one commentator I could find who
raised a red flag. He said permanent liquidity swap agreements
will subject national monetary policies even more strictly and
unrelentingly to the dominance of the Fed. Central banks around
the world will increasingly emulate the Fed's monetary policy.
So as we sit here and talk about the impact of Fed policy
on other nations, should we be concerned or not about the fact
that this swap facility is now permanent? And I will throw that
open to anybody who wants to talk about it.
Dr. Steil?
Mr. Steil. I should emphasize that this facility was only
made permanent with the five developed market central banks.
Mr. Mulvaney. True.
Mr. Steil. The credit risk to the Federal Reserve in the
United States on these transactions is literally infinitesimal.
I think it is very--
Mr. Mulvaney. The credit risk or the interest rate risk? I
understand the interest rate risk is actually zero. But you
think the credit risk is zero as well?
Mr. Steil. Absolutely.
Mr. Mulvaney. Okay.
Mr. Steil. We are effectively getting valid collateral for
these swaps that is not going to collapse in value overnight. I
want to emphasize that we have only made these facilities
permanent with five of the most credible central banks in the
world.
Mr. Mulvaney. Japan and Canada, the Europeans. Okay. Right.
Mr. Steil. The Swiss Central Bank, the Bank of England. I
think it is important that we make it permanent because in a
crisis, when banks in developed markets are struggling to
ensure dollar liquidity, you can have a contagion effect where,
for example, U.S. banks are reluctant to deal with European
banks because they think that they would have a shortage of
dollar liquidity. So I think it is very important that the
developed central banks of the world do cooperate to ensure
that we don't get into that situation.
Mr. Mulvaney. Is that the consensus? Dr. Subramanian?
Mr. Subramanian. I would go one step further. My first
point is that this has been one of the resounding successes of
Fed policy, not just in Europe, but also after the Lehman
crisis when, as I said, emerging market countries wouldn't go
to the IMF, but came to the Fed because they needed that
liquidity.
Point two, it is a technical point that now these swaps are
two-way swaps. It can happen both ways. It is not just everyone
coming to the Fed. It is technical, but I think it is important
to note.
But what I think the third and most important point is that
because of the success of this policy, many commentators now
are saying that this in fact should be generalized, and in fact
the IMF should become the coordinator of these facilities more
broadly because it had such a positive impact. And I think that
shows the Fed has played a very important leadership role in
this regard.
Mr. Mulvaney. Okay. And that concerns me just a little bit
because that would effectively reduce competition, I would
think, between the various countries.
Dr. Meltzer, do you want to check in on this?
Mr. Meltzer. We started this policy way back in 1962, and
it lasted until sometime in the 1980s, and then it has been
reinitiated. It was, generally speaking, a two-way policy.
Mostly we lent to others, but on occasion they lent to us. It
did good, not much harm. I don't have any particular concern
about it.
Mr. Mulvaney. Thank you, gentlemen. I had another question,
but I only have 20 seconds left, so I will yield back.
Thank you, Mr. Chairman.
Chairman Campbell. The gentleman yields back.
The gentleman from North Carolina, Mr. Pittenger, is
recognized for 5 minutes.
Mr. Pittenger. Thank you, Mr. Chairman.
And thank you, gentlemen, for your service and your input
today.
Dr. Meltzer, I have very much appreciated your views
regarding the long-term stability of the markets and the
economies. And that needs to be the focus for our solutions.
But I would say that as Chair of the International Financial
Institution Advisory Commission, the Meltzer Commission, you
have taken a hard look, an in-depth look at the international
financial system. And as such, I guess I would like to have
just more analysis for my understanding of your view of the
world economy that is flooded by the U.S. dollars and how that
impacts the world economies, and as well what happens when the
Federal Reserve needs to unwind on its balance sheet.
Mr. Meltzer. That is a tall order, sir.
Mr. Pittenger. You can handle it.
Mr. Meltzer. Let me just say, to be brief, I think the
danger that I see is that we could have a very rough time in
the future because we have so much liquidity in the system, and
we don't know where it is going to go, or when it is going to
go, or if it is going to go. We just don't know. And that is a
huge uncertainty hanging over the system. We need to rein that
in. As I said before, we have QE with $2.5 trillion on the
Fed's balance sheet, on the banks' balance sheet, and $2
trillion on the corporate balance sheets or more.
What can adding more liquidity do? Nothing that the banks
and the others can't do by themselves. So the best thing we
could do would be to end QE now and have the Fed come up with a
detailed, clear plan of how, over time, they are going to
reduce that $2.5 trillion. One of the most foolish things that
I have seen happen is to say we are going to tie the end of QE
to the current unemployment rate. First, that is a noisy
number. Second, it gets revised substantially, as you know.
Third, it came down mainly because people dropped out of the
labor force. That is bad, not good, because we are losing a lot
of skilled labor. So why is that a reason why you want to
either do or not do QE?
What you need is to say, look, this is a problem that is
going to take years to solve. So what we need is a conditional
strategy. And they should come in here and tell you, this is
how we plan to do it, and this is the conditional strategy we
have that is going to last over the next 3 or 4 years.
Mr. Pittenger. Thank you.
Would any of the rest of you care to comment on this?
Mr. Lachman. I think when you are looking at the unwinding
of QE, you have to look at what is its likely impact going to
be on long-term bond yields. Basically, what we have seen
during the period of QE is long-term interest rates in the
United States were brought down to the lowest level that they
have been in the postwar period. We were down to something like
1.6 percent on 10-year bonds. As the Fed unwinds, the
expectation is that those yields would rise. We are already at
3 percent on 10-year yields. And that would have a huge impact
on capital flows back to the United States. And that is really
what puts pressure on the rest of the world, these emerging
markets that didn't use the good times to strengthen their
buffers against such an eventuality. So when the money comes
back to the United States, you would expect to see disruption
in a number of key emerging market economies.
Mr. Pittenger. Dr. Steil?
Mr. Steil. Two very, very brief points. With regard to the
unwinding of QE, I am very concerned about the composition of
the Fed's balance sheet much more than I am with the size of
it, in particular the $1.5 trillion in mortgage-backed
securities. Chairman Bernanke has made it clear that he doesn't
wish to sell these securities, so he is going to have to use
unconventional means of tightening policy when the time comes.
Among the tools that he has mentioned are term deposit
auctions. These have been used in Europe, and they have been
used unsuccessfully. We have had many failed auctions in
Europe. And I am concerned about using them here in the United
States.
The second concern I have is that the Fed has been sending
conflicting messages through its forward guidance about when it
intends to tighten policy. In November of 2012, it laid out a
date marker. It said that it wouldn't tighten policy, raise
interest rates until the middle of 2015. One month later it
changed that guidance and said that it would use a data-based
marker. It said it wouldn't do so until the unemployment rate
hit 6.5 percent. It said that those two policies were
consistent at the time, but they are now inconsistent because
the Fed is expecting unemployment to hit 6.5 percent this year.
The market, interestingly enough, is still hanging on the
Fed's original guidance and believes that the tightening is not
going to come until the middle of 2015. So, there is a
potential train wreck here.
Mr. Pittenger. Thank you.
Chairman Campbell. The gentleman's time has expired.
The gentleman from New Mexico, Mr. Pearce, is recognized
for 5 minutes. And following that, with the panel's indulgence,
we will do a quick second round of questions. Some of our
Members have some follow-up questions.
So, Mr. Pearce is recognized for 5 minutes.
Mr. Pearce. Thank you, Mr. Chairman.
I appreciate each of you being here today.
Dr. Subramanian, in Dr. Steil's testimony he said that one
of the effects of quantitative easing was encouraging investors
to shift resources into riskier assets. Is that a problem? In
other words, you are pretty high on the positive effects of the
QE. So, if you would address that question.
Mr. Subramanian. Yes, it does have that effect. Both
domestically, money becomes very cheap, lower yielding assets,
so you are moving to higher risking assets. But in some ways
that is the point of QE, to encourage the private sector to
move into riskier assets because they are unwilling to take on
risks otherwise.
And then on the international front, of course, when QE
happens, investors also shift into assets in India, Brazil,
China, et cetera, et cetera. Now, whether you would view that
as riskier or not, I think all investors make this tradeoff
between returns and risk. So in that sense, it is a difficult
evaluation to make. Yes, they go into riskier assets, but these
are also higher return assets. And that is the way QE works.
Mr. Pearce. As we take this all the way down to the
individual level, seniors are the most likely to have
unsophisticated assets, not risky. All they are wanting to do
is clip coupons. My mom is 87. She doesn't want to invest in a
riskier asset in India. Yet, the bank account which she and dad
took years to set aside is getting one-quarter of 1 percent.
And so many of those seniors were driven into riskier assets
without the sophistication or the desire. Can you address that
possible downside effect?
Mr. Subramanian. One effect of QE is a kind of implicit tax
on savers, especially savers of safe assets. But the theory and
the expectation is that because that encourages more
investment, consumption, economic activity picks up, and so
that is broadly on balance therefore whatever costs are
inflicted to savers are offset by the higher growth, the higher
employment that would otherwise be the case.
Mr. Meltzer. Sir, good for you raising the question about
seniors. If history is any guide, those decisions are going to
end in tears.
Mr. Pearce. Those decisions are what?
Mr. Meltzer. Going to end in tears.
Mr. Pearce. Yes, they are ending in tears right now,
because my constituents are telling me, I lived my life
correctly, meaning I cannot go back and live my life again, and
you in Washington, meaning I think the Federal Reserve, are
taking away those things that made it possible for us to live
in retirement. It is ending in tears. And yet to me the Federal
Reserve is looking at the effect on our seniors as collateral
damage. That is an acceptable collateral damage to the Federal
Reserve. And I just think that to overlook that is really hard.
I think in the last minute I would like to talk about, if
quantitative easing is a good policy and has positive effects,
then all countries should engage in it, which in fact if Japan
is looked at, they are quantitative easing at double the rate
percentage-wise we are. And so could you address the question,
if it is good for one country, is it good for all countries?
And what effect is Japan's quantitative easing policy going to
have?
Dr. Meltzer, if you would take a short stab and it, and
then I would like Dr. Subramanian to get a chance at it, too.
Mr. Meltzer. I think that is a definition of disaster.
Mr. Pearce. Okay. That is close enough. We only have 29
seconds.
Mr. Subramanian. I think QE policies are things that people
have to do--countries have to do because they are in extremely
dire circumstances. Japan has had deflation for 15 years. So it
is one of the policy instruments that they are using in order
to get out of 2 decades of deflation. Now, are there going to
be collateral costs on outsiders? Yes, there are going to be.
But that is the calculation that the Bank of Japan makes, just
as the U.S. Fed makes its own calculation.
Mr. Pearce. All right. Thank you very much. I yield back,
Mr. Chairman.
Mr. Meltzer. Let me say that QE1, I was in favor of QE1,
that prevented the crisis in 2008. They should have ended the
policy in 2009.
Mr. Pearce. Thank you, Mr. Chairman.
Chairman Campbell. Okay. The gentleman's time has expired.
Round two, we will go straight to the gentleman from
Michigan, Mr. Huizenga, for 5 minutes.
Mr. Huizenga. Thank you, Mr. Chairman.
Dr. Steil, I touched on this in my first round, and I think
that you get at it on, I am not sure which page of your
testimony here, but you are talking about it now, and I think
it is worth recalling that Chairman Bernanke had in June
suggested that asset purchases would end with the unemployment
rate at around 7 percent. In fact, tapering is only now just
starting with unemployment at this level. And just unpack for
me a little bit about, my question, are we in danger of the
world dismissing any of this without Dr. Meltzer's rule that he
often brings up, whether it is the Taylor Rule or some other
rule. Unpack that a little bit for me.
Mr. Steil. Chairman Bernanke, perhaps surprisingly, I would
agree with Dr. Meltzer that we need to move towards a more
rule-based environment. He wants there to be targets, for
example, and forward guidance. The problem is that the Fed has
been throwing out too many of them. Some of them are
conflicting. In some cases, the Fed has backtracked from them.
For example, this 7 percent target that Chairman Bernanke had--
Mr. Huizenga. Do you believe that is for economic reasons
or political reasons? Or why are they doing that?
Mr. Steil. I believe that at the time they set their
guidance, they believe it is the best thing to do. Then they
revisit the data, they have more discussions, they hear
criticism in the market, and then decide that policy can be
improved upon.
I was rather struck by the rapidity with which they
abandoned their original date-based forward guidance. You
remember in November of 2012 we were told that interest rates
would not be tightened until the middle of 2015. We were given
an explicit date. One month later, we were told that we were
not going to deal with dates anymore, we were going to deal
with data markers, and that the particular one that the Fed was
going to rely on was unemployment. There are two problems with
this. First, too many unemployment targets have been laid out
for the markets in terms of, for example, when tapering will
start, when tapering will end.
Mr. Huizenga. Back to your notion of no predictability and
stability.
Mr. Steil. Precisely. Second, the monthly employment
figures themselves are very volatile. And the Federal Reserve,
in my view, is encouraging the markets to watch those numbers
and predictions of the numbers and rumors of the numbers and
react to them immediately. So this sort of policy of saying we
are going, for example, to calibrate asset purchases to monthly
employment figures could very well unintentionally produce more
volatility in the market rather than less.
Mr. Huizenga. Okay.
Dr. Lachman?
Mr. Lachman. I would just make two points. I thought that
the Fed was very clear when it mentioned the employment
figures, the unemployment figures, that these were thresholds
rather than strict guidelines that would automatically, a rule
that would guide policy. But I think the second, more important
point is that one really has to consider from the Fed's point
of view that they are in totally uncharted territory both in
terms of the economic conditions that they are dealing with and
the scale of the policies that they have embarked on. So I
don't think that you can do anything but guide your policies by
the economic conditions as they evolve. And there is a great
deal of uncertainty in the way in which you are running this
policy.
Mr. Huizenga. All right. In a minute, how do we untangle
whether we should eliminate the IMF, as Dr. Meltzer was saying,
or further utilize the IMF with Dr. Subramanian. Anybody care
to comment on either IMF or--
Mr. Meltzer. Let me say that I don't want to eliminate the
IMF. I want to rein it in. That is our money, to a large
extent, which is going to the IMF. We are bailing out countries
in Europe. The countries in Europe are perfectly capable of
bailing themselves out. Who is going to bail us out? The IMF?
Hardly likely.
Mr. Huizenga. I am afraid it is future generations, Dr.
Meltzer.
Dr. Subramanian?
Mr. Meltzer. Yes, future generations, if they are unlucky
enough.
Mr. Huizenga. Yes.
Mr. Subramanian. I think that the U.S. investment in the
IMF is probably a better return than the bull market of 2013.
Of very little cost, very safe investment. The dirty secret of
course which I should bring out is that if you are worried
about your investment in the IMF, as some are, it is senior
creditor status always gets repaid regardless of--almost never
been not repaid. And it has gold backing its credit lines. So
there is absolutely no prospect that the United States would
never get its money back. And it is the best insurance against
future crises for the United States and the rest of the world.
Chairman Campbell. Even though your time is up, Mr.
Huizenga, I am going to do chairman's prerogative because Dr.
Lachman is just about coming out of his chair.
Mr. Huizenga. I thought his head was going to come off.
Mr. Lachman. I think that what is being overlooked is to
whom is the IMF lending money. The IMF has never lent money on
the scale that it has done to as few countries with as bad of
credit ratings as the IMF has done. So the exposure of the IMF
is to countries like Greece, Portugal, Ireland, and Spain,
countries that are hugely indebted and that are very likely to
need official debt restructuring. So I don't think that one can
take much comfort from the fact that in the past the IMF has
always been repaid. The IMF had never in the past loaned on the
scale to countries with as bad credit ratings as it has done in
the past 5 years.
Mr. Subramanian. Mr. Chairman--
Mr. Huizenga. Gold-backed or not, it doesn't matter. This
is the chairman's territory here.
Chairman Campbell. Okay. Go ahead.
Mr. Subramanian. I just find it a bit amusing that today,
in this day and age, Greece and Spain and Portugal and Italy
are considered higher risks than in the past Zimbabwe, all of
these what we call the Third World. The notion that those were
somehow better risks than--
Mr. Huizenga. I am assuming some of that is scale, though,
too.
Mr. Subramanian. But no, Russia, we lent a lot in the Asian
financial crisis.
Chairman Campbell. Here is what I am going to do so this
doesn't--I am going to terminate your long past time, Mr.
Huizenga, and move to Mr. Stutzman. And perhaps Mr. Stutzman
would like to at least open and see what Dr. Lachman has to say
on this.
Mr. Stutzman, You have 5 minutes.
Mr. Stutzman. Thank you, Mr. Chairman. I would like to
follow up on that. But first I would like to say we did have
exciting football in Indiana when the Colts came back. Second
greatest comeback to beat the Chiefs on Saturday.
Chairman Campbell. Since I am a Chiefs fan, you had to
bring that up.
Mr. Stutzman. Sorry. I should have done my background.
Chairman Campbell. Your time has been shortened to 30
seconds.
Mr. Stutzman. But, Dr. Lachman, looking at your testimony,
and you talked about European policy complacency, I would like
for you to talk a little bit more about that. In one of the
statements towards the bottom of the one page, you say,
``Meanwhile, the stepped-up pace of quantitative easing by both
the Federal Reserve and the BOJ since September 2012 has
contributed to further spread narrowing in Europe as investors
stretch for yield.'' Could you elaborate on that a little bit
more?
Mr. Lachman. Right. Basically, what we have seen over the
past year is we have seen a marked deterioration in the
economic and political fundamentals of a bunch of countries in
the European periphery. Mainly, I am thinking of countries like
Greece, Portugal, Italy, and Spain. Yet you have seen enormous
amount of interest rate reductions, so that these countries now
are borrowing at very low rates. The way in which you explain
that is the activity by the ECB through its outright monetary
transaction program, saying that it would buy the bonds of
these countries in the eventuality that they came under great
stress, but there was also the printing of money in the United
States and in Japan has led to a lot of purchases of that
money.
My concern is that these low interest rates now are lulling
these countries into a false sense of security because what we
are seeing is as their debt levels continue to rise, the budget
deficits aren't coming down as programmed. These countries now
could be going into a deflationary period. So when the music
stops, when the money isn't being printed in the United States
and Japan, those countries are going to be very vulnerable
because they are not doing the kind of things that they should
to ensure that the euro survives.
Mr. Stutzman. In your chart here, in figure 5, you have the
eurozone 10-year government bond yields, and Greece obviously
spikes dramatically.
Mr. Lachman. Correct.
Mr. Stutzman. Explain to us, why did that happen when you
have Spain's and Italy's remaining relatively flat.
Mr. Lachman. I am not sure exactly what year are you
referring to?
Mr. Stutzman. Is the spike for Greece--
Mr. Lachman. Basically, what occurred in Greece is that
Greece eventually defaulted on its debt, it defaulted on its
private sector debt. The write-down of that debt, the present
value was written down by as much as 75 percent. So once the
country goes through a debt structuring it looks a better
credit to the private markets. That is supportive of the bond
yield going forward. But prior to that, what this was
reflecting was that there was going to be a very big debt
restructuring, which is in fact what occurred.
Mr. Stutzman. I can't remember which gentleman it was who
was talking with Mr. Carney about the debt ceiling. And I don't
think there is anyone that I have discussed here in Congress
who doesn't want to take the responsibility for our
liabilities, short term and long term. But what do you suggest,
when the conversations here--maybe this is just our problem to
deal with--but the conversations never seem to be what I think
Dr. Steil said about not necessarily concerned about the debt
ceiling, but the long-term liability that this country has will
then take care of our current debt problems. And we have tried
to explain that through restructuring of long-term liabilities.
Any advice? We obviously have political arguments to make,
and also responsibilities that we have to fulfill. But I get
very frustrated when we only seem to look short term around
here rather than looking long term. Any comments? Would all of
you agree with that?
Mr. Steil. This Congress, broadly speaking, I think is very
good at dealing with crises, as we saw back in 2008. But the
long-term debt trajectory in this country is not yet seen in
Washington as being a crisis precisely because we are able to
borrow at such low interest rates. There are many reasons for
that. Obviously, the Federal Reserve buying up Treasury debt is
one way in which those interest rates are held down. Foreigners
such as China buying up U.S. debt voraciously is another way.
Now, I would very much hope that we would be able to
address our long-term challenges well in advance, without
having to have the discussion triggered by a crisis caused by a
spike in interest rates.
Mr. Stutzman. Is QE, though, exacerbating that?
Chairman Campbell. The gentleman's time has expired. I have
to move on to the gentleman from South Carolina, Mr. Mulvaney,
who can ask that question or whatever questions he would like.
Mr. Mulvaney. I do want to continue, because you mentioned
something that Mr. Stutzman and I were talking about during the
questioning, which is that other countries--folks are willing
to lend to us at fairly low rates, but we have a Federal
Reserve that is effectively printing about $75 billion a month.
That is, if my math is right, $900 billion a year. That is
actually going to be more than the deficit this year. So is
anybody actually lending us any money or are we just printing
it all?
Dr. Steil?
Mr. Steil. This money, as Dr. Meltzer has emphasized, has
been to a great degree locked up in excess reserves.
Mr. Mulvaney. I understand where it is going. The question
is where it is coming from. If the Federal Reserve is printing
$900 billion a year and our debt is--
Mr. Steil. Literally being conjured as computer blips.
Mr. Mulvaney. Correct.
Mr. Steil. That is the way money is printed in the modern
economy.
Mr. Mulvaney. I am glad that Dr. Bernanke, before he left,
decided to back down from his comment that they don't print
money, because I think everybody recognizes that is not being
entirely straightforward.
Here is the question I had before that I didn't get a
chance to ask. A couple of you, I can't remember who it was at
this point, mentioned currency manipulation during your opening
statements. But my question is this. If I were--and if it makes
a difference between being a developed country and an emerging
market, let me know--but if I was a country that was interested
in manipulating my currency, I assume you would do that mostly
to lower the value of the currency. I guess there could be
circumstances where you would manipulate it the other way. But
generally we talk about lowering the value. Dr. Subramanian,
how I would go about doing that? What are the traditional tools
that a country can use to manipulate its currency downward?
Mr. Subramanian. I think China is the best example, because
it uses three ways, reinforcing ways of doing it. First, it
keeps its country relatively closed to capital inflows. So the
pressure that comes from dollars flooding the market and
putting upward pressure on the currency, that is mitigated
because China is relatively closed.
Second, what it does is, when the money does come in, and
in the case of China only some of it comes in via capital, most
of it comes in because of the current account surplus, what
they do is the central bank goes in and buys dollars to prevent
the currency from going up. That is the second way in which
they do it.
Third, that is a problem because when you buy dollars you
inject domestic currency back into the market and that can
create inflation. So to prevent that, they do a third thing,
which is to buy back some of the renminbi they have injected
into the market by issuing interest-bearing assets.
Now, the reason why they get away with it is that normally
when you do that interest rates would tend to rise and impose
some costs either on the budget or on the central bank. But
because their financial system is repressed, interest rates are
very low. So often in fact the Chinese central bank makes a
profit on these activities which would generally be loss making
because it has to pay very low interest rates.
Mr. Mulvaney. And let me cut you off because I think you
are right, in fact I know that you are right, I believe that
you are right, but you have used China, which is an example
that I am a little concerned about because of what you have
just mentioned, which is it is a controlled economy or semi-
closed economy. Now, when Japan was going through what they
went through when Prime Minister Abe was put in place, they
didn't do anybody of those things, right? Dr. Lachman, you
looked like you were getting ready to go down that road.
Mr. Lachman. No, precisely, Japan is the prime case that I
would take of a country that is deliberately cheapening its
currency through printing a huge amount of money. What we have
seen since they started this process at the beginning of 2013,
is we have seen a 20 percent depreciation of the yen, which is
the way in which they are getting inflation to reemerge in
Japan, and they are getting the economy to grow through
increasing their exports. So this is a country that is
deliberately using monetary policy; they are not going to say
that is the objective, but that is basically what they are
doing.
Mr. Mulvaney. Okay. Then let me ask this--
Mr. Meltzer. Let me defend the Japanese for just a moment.
Mr. Mulvaney. Yes, sir.
Mr. Meltzer. I spent 17 years as something called the
honorary adviser to the Bank of Japan, so I learned a little
bit about their economy. When I went there originally, there
were 360 yen to the dollar. Eventually, because of the U.S.
policy in recent years, it floated down to 70 yen to the
dollar. At that point, because of U.S. policy, the Japanese yen
appreciated to 70 yen to the dollar. They couldn't continue to
exist at that point. That is why they adopted this policy. That
was a direct reaction to what we were doing.
Mr. Mulvaney. I understand that. And that ties in because
along with my opening questions to Dr. Steil about what we are
doing in terms of printing money--
Mr. Meltzer. Absolutely.
Mr. Mulvaney. --Dr. Lachman, if one of the ways that you
manipulate your currency down in a developed economy is to
print a bunch of money, aren't we doing that in this country?
Mr. Meltzer. Yes.
Mr. Lachman. Absolutely. And what this is doing is it is
inducing other countries to emulate us. I would totally agree
with Dr. Meltzer that the United States, by cheapening its
country, makes Japan's life impossible, so the Japanese respond
by printing their currency. The one central bank that is not
printing its currency that should be printing its currency to
respond to all of that is the European Central Bank, which has
the weakest economy in the globe right now.
Mr. Mulvaney. And I would love to give Dr. Subramanian the
opportunity, but it is now the chairman's prerogative.
Chairman Campbell. Yes. Again, if Mr. Pittenger would like
to let you jump in, I will let him do that. But it will be his
time starting now.
Mr. Pittenger. Sure. Please continue.
Mr. Subramanian. No. I think with Japan we have to get the
facts a little bit right. The depreciation of the yen began
well before the announcement of the implementation of QE by
Japan. Almost all the depreciation happened before Abenomics
was actually implemented. That is I think very important to
remember.
Mr. Meltzer. When it was announced.
Mr. Subramanian. When it was announced, yes, but a lot else
was going on. The Japanese current account deficit was
actually--the surplus was declining rapidly, and that also
contributed after the Fukushima disaster.
I am not saying that QE has not helped lower the Japanese
currency. But I think we have to be a little bit careful
because the truth is the movement in the Japanese yen is a bit
of a puzzle for most analysts.
Mr. Pittenger. Thank you. I would like to just get your
thoughts regarding Chair Janet Yellen, who was confirmed this
week, and if you believe that the tapering process will
continue or will the Fed have other policies? And, frankly,
your views on what the Fed will be doing over the next year.
If you would like to begin, Mr. Steil, and go down the row
very quickly.
Mr. Steil. The FOMC minutes would appear to indicate that
there is a general consensus to move forward with the tapering
process and that she is not about to make any sort of a sudden
change in that process. As long as circumstances remain roughly
what they are today, we can expect the process to continue
throughout this year.
Mr. Pittenger. Thank you. And if you want to recommend any
additional advice for Ms. Yellen, that would be welcome.
Dr. Meltzer?
Mr. Meltzer. My advice would be to stop it now and come up
with a plan for getting rid of the excess before it does
damage.
Mr. Pittenger. Yes, sir. Thank you.
Dr. Lachman?
Mr. Lachman. I would agree with Mr. Steil that basically we
will get continuation of the policies that we have already
seen. I think that it has to be condition-based. I am not sure
that I would agree with Dr. Meltzer that one really wants to
unwind too abruptly. I think one really has to be doing this by
seeing what are the effects, how does this impact the economy.
One really has to be conditioning one's policy on the way in
which the financial markets evolve and the way in which the
economy works. And I think that being in totally uncharted
waters, we really don't know what the impact of the unwinding
is going to be.
Mr. Pittenger. Dr. Subramanian?
Mr. Subramanian. I have nothing to add. She knows far more
about monetary policy than I do.
Mr. Pittenger. Thank you. I yield back my time.
Chairman Campbell. All right. The gentleman yields back.
And so now onto the gentleman from New Mexico, Mr. Pearce,
for 5 minutes.
Mr. Pearce. Thank you, Mr. Chairman.
Dr. Lachman, you got into a little bit of a discussion some
time ago about the long-term interest rates. And so my question
has to do with, I may be mixing the concepts, I am not that
articulate on it, but the maturity extension program has been
driving down the long-term interest. And that long-term
interest is going to go up as our economy improves. And so the
Federal Reserve at that time is going to be faced with
increasing costs because they pay banks. So their costs are
going up at a time that their yields are going down because the
bond prices are ultimately going to go up. And so this program
of exchanging long-term for short term and driving long-term
rates down looks like it has the potential to create great
havoc in the Federal Reserve. In 2012, we got $88 billion in
profits in exchanges and sale of assets and all that junk they
did back in 2008. So what potential do we have for absolute
disruption of the Federal Reserve's balance sheet as the
economy improves?
Mr. Lachman. I think that if the Federal Reserve balance
sheet is marked to market, the Federal Reserve would have an
enormous negative position. The Federal Reserve is holding $4
trillion of long-dated assets that they bought at very low
interest rates. Obviously, as the interest rate goes up, the
value of their bonds goes down. They only have something like
$50 billion in capital. So they are going to really be in a
hole were they were to mark to market. But as Dr. Meltzer is
telling me right now, they are very unlikely to mark it to
market.
Mr. Meltzer. They have already said that the mortgage
portfolio is going to be held as if it were going to be held to
maturity. So they don't have to mark it to market under the
rules, and that way they won't. Now, there is a slippery
question there. The markets will mark it to market whether the
Federal Reserve does it on its balance sheet or not.
Mr. Pearce. Any observation, Mr. Subramanian? You don't
want to touch that? You have no time for anything like that?
Okay.
I think one of the questions that comes to me, and I am
again not sure there is a relationship, but we saw significant
collapses in Iceland and Ireland. And it appeared to be because
cheap money was coming in, and they were lending far more money
than they could pay from a fish economy. And so both
experienced tremendous difficulties, even to the point that
Ireland took on the debt of the banks who were all in the
process of failing. So now they owe 9 times their GDP and will
never be able to pay that off. And that appears to be a result
of loose money policy, easy money policies. And Mr. Subramanian
has said that is one of the great benefits of QE3, that
emerging economies can get access to capital pretty freely. Is
that a correct observation or am I linking things that
shouldn't be linked here?
Mr. Steil, would you care to--
Mr. Steil. In the case of Ireland, they experienced a major
property and housing boom.
Mr. Pearce. Which was caused by easy money, wasn't it?
Mr. Steil. Sure. Nobody questions the fact that monetary
policy in Ireland, which is set in Frankfurt by the ECB, was
too loose. But the ECB sets monetary policy for the entire
eurozone. So the Irish Government was going to have to use
other tools to prevent overleveraging.
Mr. Pearce. Which might cause those days of tears that Mr.
Meltzer was talking about. Those other tools always strike fear
into my heart because the people in the know are going to
benefit from those other tools and the poor schmucks out there
on the street who save money and put it in the banks hoping
that the stability that Mr. Meltzer has talked about would
actually be there, and as we use those other tools I worry
about what the effect on the consumers is going to be.
Mr. Lachman, do you have any comments on any of this?
Mr. Lachman. I just think that the two examples that you
used, Iceland and Ireland, are the most egregious cases of
market discipline breaking down because there was easy money.
Mr. Pearce. Yes, unless we use the example of Zimbabwe,
which began to print their own money and took one of the most
stable economies in Africa, and now they print trillion dollar
notes there. So the end result of printing money is not always
a good outcome. I question whether it is ever a good outcome.
Thank you, Mr. Chairman. I yield back.
Chairman Campbell. The gentleman's time has expired. So I
will yield myself 5 minutes just for kind of a wrap-up thing
here. Although the IMF was not the specific purpose directly of
this hearing, the interchange between two alumnae of the IMF
there I thought was most--sorry?
Mr. Subramanian. A loyal one and a disloyal one.
Chairman Campbell. A loyal? Okay. I thought it was rather
fascinating. And given that this is a topic of some very much
current import, I thought I would let the two of you continue
this. So where we left off, I believe Dr. Lachman's head was
coming off at one of Dr. Subramanian's comments rather than the
other way around, and saying that what have we come to where
money to Greece is less stable than Zimbabwe.
By the way, and Mr. Pearce was talking about it, I do have
$20 billion here from the Reserve Bank of Zimbabwe. So I do
have a $30 trillion note as well, but it is not with me at the
moment because I don't want to carry that much cash around. I
figure carrying $20 billion should be enough. But anyway, since
we brought up Zimbabwe, I always have this. And by the way,
people always wonder why. I have used this in speeches many
times to point out back during the financial crisis in 2008
that our financial system, the value of money is all based on
trust and what stands behind it. And when that trust goes away,
the value goes away, and that as it happened with this, it can
happen with any currency if not properly managed.
So with that, Dr. Lachman?
Mr. Lachman. I think where I would agree with Dr.
Subramanian is that the IMF in the past has loaned to countries
with as bad a credit standing as the countries in the European
economic periphery. Where I disagree is that the IMF, in the
case of Russia or Argentina or all the other countries that
they might have lent to in the past, they never lent to those
countries on the scale that they are lending now to the
European countries.
So if you look, for instance, at Greece right now, Greece
has debt that is 175 percent of its gross domestic product.
That is huge. Most of that debt is owed to the official sector.
And the chances are is that debt is going to have to be written
down.
Somebody is going to have to take a hit. It is going to be
either the ECB or the IMF or the European Commission. But that
debt in the end is not going to be repaid, or it is going to be
termed out or very low interest rate. So the basic point that I
am making is that the lending that we have seen to the European
periphery has never been on that scale before either in terms
of the IMF's quotas, in terms of the amount of GDP this
represents, or in terms of the amount of fiscal revenues. So
the IMF is really taking very high risks that it hasn't taken
before.
Chairman Campbell. Dr. Subramanian?
Mr. Subramanian. I agree with Dr. Lachman that the scale is
different now. But I am far more sanguine about the prospects
of this being repaid, one. And two, even in the extreme case
were it not to be paid, it would not make a dent in the IMF
because, for example, I think the IMF has senior creditor
status. It would be paid off first before anyone else. And
second, again, if things go really bad, the IMF has $130
billion of gold against which it can fill any hole of any
magnitude that we can currently imagine. So, investing in the
IMF is not a risky proposition.
Mr. Meltzer. May I add to that? One of the things that the
IMF did, was famous for, was it imposed very strict conditions
on the countries to which it lent. It isn't doing that anymore.
The so-called austerity which creates such excitement in the
European press is a farce. There hasn't been any big
expenditure cuts. The expenditure cuts have almost all been
investment, which is a short-run strategy, or tax increases,
which is a very bad strategy in a recession. They haven't cut
spending.
Chairman Campbell. If I can cut you off, Doctor, because
Dr. Steil wanted to jump in, and I want to give him the last 30
seconds.
Mr. Steil. Historically countries have tended to default
right as they begin to achieve what is called a primary budget
surplus. That is when they no longer need to borrow money from
the markets in order to fund current expenditure. Greece is
precisely entering into that position this year. They will
achieve a primary budget surplus, at which point they have
every incentive to default because they no longer need the
markets to fund their current expenditures. So you can expect
more conflict this year between Greece and its official sector
lenders.
Chairman Campbell. Thank you. My time has expired. And we
have been joined by the ranking member of the full committee,
the gentlelady from California, Ms. Waters. And Ms. Waters is
recognized for 5 minutes.
Ms. Waters. Thank you very much, Mr. Campbell, for sitting
here and doing this work without the help of this side of the
aisle this morning.
I, unfortunately, could not be here early to join with my
colleagues and Mr. Clay, who is our ranking member, but this is
a most important subject matter, and I certainly wanted to see
if I could catch up.
I certainly have an opening statement that I would like to
present for the record, so if you would accept that.
Chairman Campbell. Without objection, it is so ordered.
Ms. Waters. Let me raise a question. This is for Dr.
Subramanian. Is that your name?
Mr. Subramanian. That is my name, yes.
Ms. Waters. Okay. Given the unique role of the dollar as
the world's reserve currency and the fact that the United
States is the world's largest economy, how much responsibility
does the Fed have to consider the spillover effects associated
with these policies? How should we reconcile or rationalize
actions that create benefits to the United States but risks
abroad?
Mr. Subramanian. I think, as the world's biggest economy,
the financial epicenter and the issuer of the dollar, it has to
be mindful of its international consequences. Its primary
responsibility is to the U.S. economy, but it has to be mindful
of its international consequences.
And, in fact, the Fed has tried to do precisely that, as I
said in my written testimony. And the way it has tried to do
that is of course by following policies which it considers
important for its own economy but taking actions, for example,
like providing these dollar liquidity swaps to countries in
trouble to forestall the risks associated with crises. For
example, it has lent money to the central bank swap lines for
emerging-market countries and most recently in Europe, as well.
And this lending, in fact, has had a positive impact on the
economy.
So it is a delicate task because no one will say the Fed is
responsible for running the economies or creating incentives
for good behavior elsewhere, but, equally, it has to be
mindful. And I think it has done a pretty good job of balancing
these twin responsibilities.
Ms. Waters. Thank you very much.
Upon entering here today, my staff was anxious to share
with me Mr. Meltzer's recommendation to close the World Bank.
And I guess the reason that was given is there is little reason
for it in a world of enormous capital flows. Is that correct?
Mr. Meltzer. Correct.
Ms. Waters. This brings up an important question with
regard to the legitimacy of development finance as distinct
from commercial finance.
In our view, development finance has not been rendered
obsolete by the emergence of the financial markets. In fact, it
is just the opposite. We have had over 30 years of experience
with the financial markets which has given us the debt crisis
of the 1980s in Latin America, the 1997 East Asia crisis, the
1998 Brazil and Russian crisis, and the 2008 financial crisis.
The accessibility of countries to private capital can be
cut off very, very rapidly. As soon as a crisis arises, the
money dries up.
So can you expound a little bit, or can any of the other
witnesses share their views on the role of development finance
as distinct?
Mr. Meltzer. Yes. You just described why it is that I
wanted to end the World Bank but not the IMF. If there is a
crisis, that is the responsibility of the IMF. Long-term
lending, that is the responsibility of the World Bank.
We don't need the World Bank to do long-term lending. We
did back in 1945 when we started because there was very little
international capital, practically none. But we now have
trillions of dollars floating from country to country, so it is
just--so we have succeeded with the policy that we had. It is
time to say that, in terms of our domestic policy, we have
many, many more urgent problems at home than we do in Argentina
or Zimbabwe.
Ms. Waters. Of course, we would all agree that what we do
domestically must come first. But we also must agree that we
live in a world where it is very connected and we have to be
concerned about what goes on around the world, and we are
considered the leaders, and that we cannot absence ourselves
from that leadership role.
And so, do you see us absolutely not being involved at all
with the World Bank?
Mr. Meltzer. I think the World Bank has succeeded in doing
a lot of things around the world, many of them very good--
Ms. Waters. Will it help to avoid crises?
Mr. Meltzer. They are not supposed to be involved in
avoiding crises. The Congress appointed me the chairman of a
commission to look into what they do. They don't work on
crises; they work on longer-term development. Longer-term
development is financed by longer-term capital, and we have
lots of that around. So we just--we should declare success.
Mr. Subramanian. Can I say--
Ms. Waters. Mr. Chairman?
Chairman Campbell. Yes. Without objection, I will yield the
gentlelady from California another 5 minutes, since she just
got here.
Ms. Waters. Thank you.
Chairman Campbell. Please proceed.
Ms. Waters. Yes. Let me just say to Mr. Meltzer that when I
referred to the avoidance of crises, I was not talking about a
crisis occurring and then jumping in. I was talking about long-
term development helps to avoid crises.
I want to now go to Mr. Subramanian.
Mr. Subramanian. Thank you.
I think one way to think about development finance and to
kind of bring the two of you closer together, between outright
abolition and continuation with the status quo is to think of
it in the following way: that I think where Professor Meltzer
is correct is that, as countries have grown, as commercial
finance has become more important, the reliance on development
finance should naturally--
Ms. Waters. Sure.
Mr. Subramanian. --decline over time. It hasn't disappeared
altogether because there are still places in the world which
require development finance, so you need the World Bank for
that.
But I think the other very important point that we have to
remember, where I disagree with Professor Meltzer, is that
there are some forms of development finance, especially which
go towards global public goods, which markets will never
finance. So the World Bank still will have to finance a lot of
global public goods: one, research and development on diseases,
on climate change, and on agriculture, one.
And so, there are lots of global public goods that still
need to be funded, and development finance has an important
role to play there.
Ms. Waters. That is interesting.
Would Mr. Meltzer agree with that?
Mr. Meltzer. They don't do it. That is not what they do.
We had malaria. Malaria is a wonderful example, because for
years--and there is a lot of literature on this--they wouldn't
even provide bed nets. Now, how did we finally make some
progress against malaria? The Gates Foundation and various
other entities supplied the public goods, spent money to do
drug research on malaria drugs. That is private-sector work,
which is much more effective. The World Bank didn't do that.
Unfortunately, it didn't do that.
The World Bank has--our ideal should be to try to improve
the allocation of capital. As I look at the United States, it
needs a lot more capital.
Ms. Waters. Since we have such a good debate going on, we
should just continue it.
Mr. Subramanian just made a good case for the private
sector's involvement and what they have been able to do in
areas that were not done by the World Bank.
Mr. Subramanian. I heard Professor Meltzer saying that the
problem was not that the objective of financing public goods
was unimportant, in fact he stressed importance, just that the
World Bank should be doing more of that.
Ms. Waters. Yes.
Mr. Subramanian. And I think that is where we need reforms
of the World Bank to push the World Bank much more in that
direction and do perhaps a little less of the old-style,
conventional development financing and do more of the global
public good. But that is something that Congress and other
countries around the world should push the World Bank in that
direction.
Ms. Waters. So what you are basically saying is, rather
than getting rid of the World Bank and thinking that we don't
need it anymore, we should be using whatever public policy
influence we have to direct it toward doing the kinds of things
that make good sense at this point in time.
Mr. Subramanian. Exactly.
Ms. Waters. I am not going to ask Mr. Meltzer if he agrees
with that. I am simply going to thank both of you for your
insight and your wisdom.
And I yield back the balance of my time.
Chairman Campbell. I thank the ranking member.
And I would like to thank all of the witnesses for your
testimony today. I hope everyone found this as valuable as I
did.
Without objection, your written statements will be made a
part of the record.
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.
And, with that, without objection, this hearing is now
adjourned. Thank you.
[Whereupon, at 12:10 p.m., the hearing was adjourned.]
A P P E N D I X
January 9, 2014
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