    [House Hearing, 115 Congress]
    [From the U.S. Government Publishing Office]

                   EXAMINING FEDERAL RESERVE REFORM PROPOSALS

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

                                    HEARING

                                   BEFORE THE

                            SUBCOMMITTEE ON MONETARY

                                POLICY AND TRADE

                                     OF THE

                        COMMITTEE ON FINANCIAL SERVICES

                         U.S. HOUSE OF REPRESENTATIVES

                         ONE HUNDRED FIFTEENTH CONGRESS

                                 FIRST SESSION

                                   __________

                                NOVEMBER 7, 2017

                                   __________

           Printed for the use of the Committee on Financial Services

                                 Serial No. 115-56

     [GRAPHIC NOT AVAILABLE IN TIFF FORMAT]

      Available via the World Wide Web: http://www.fdsys.gov

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                     HOUSE COMMITTEE ON FINANCIAL SERVICES

                        JEB HENSARLING, Texas, Chairman

    PATRICK T. McHENRY, North Carolina,  MAXINE WATERS, California, Ranking
        Vice Chairman                        Member
    PETER T. KING, New York              CAROLYN B. MALONEY, New York
    EDWARD R. ROYCE, California          NYDIA M. VELAZQUEZ, New York
    FRANK D. LUCAS, Oklahoma             BRAD SHERMAN, California
    STEVAN PEARCE, New Mexico            GREGORY W. MEEKS, New York
    BILL POSEY, Florida                  MICHAEL E. CAPUANO, Massachusetts
    BLAINE LUETKEMEYER, Missouri         WM. LACY CLAY, Missouri
    BILL HUIZENGA, Michigan              STEPHEN F. LYNCH, Massachusetts
    SEAN P. DUFFY, Wisconsin             DAVID SCOTT, Georgia
    STEVE STIVERS, Ohio                  AL GREEN, Texas
    RANDY HULTGREN, Illinois             EMANUEL CLEAVER, Missouri
    DENNIS A. ROSS, Florida              GWEN MOORE, Wisconsin
    ROBERT PITTENGER, North Carolina     KEITH ELLISON, Minnesota
    ANN WAGNER, Missouri                 ED PERLMUTTER, Colorado
    ANDY BARR, Kentucky                  JAMES A. HIMES, Connecticut
    KEITH J. ROTHFUS, Pennsylvania       BILL FOSTER, Illinois
    LUKE MESSER, Indiana                 DANIEL T. KILDEE, Michigan
    SCOTT TIPTON, Colorado               JOHN K. DELANEY, Maryland
    ROGER WILLIAMS, Texas                KYRSTEN SINEMA, Arizona
    BRUCE POLIQUIN, Maine                JOYCE BEATTY, Ohio
    MIA LOVE, Utah                       DENNY HECK, Washington
    FRENCH HILL, Arkansas                JUAN VARGAS, California
    TOM EMMER, Minnesota                 JOSH GOTTHEIMER, New Jersey
    LEE M. ZELDIN, New York              VICENTE GONZALEZ, Texas
    DAVID A. TROTT, Michigan             CHARLIE CRIST, Florida
    BARRY LOUDERMILK, Georgia            RUBEN KIHUEN, Nevada
    ALEXANDER X. MOONEY, West Virginia
    THOMAS MacARTHUR, New Jersey
    WARREN DAVIDSON, Ohio
    TED BUDD, North Carolina
    DAVID KUSTOFF, Tennessee
    CLAUDIA TENNEY, New York
    TREY HOLLINGSWORTH, Indiana

                      Kirsten Sutton Mork, Staff Director
                   Subcommittee on Monetary Policy and Trade

                         ANDY BARR, Kentucky, Chairman

    ROGER WILLIAMS, Texas, Vice          GWEN MOORE, Wisconsin, Ranking
        Chairman                             Member
    FRANK D. LUCAS, Oklahoma             GREGORY W. MEEKS, New York
    BILL HUIZENGA, Michigan              BILL FOSTER, Illinois
    ROBERT PITTENGER, North Carolina     BRAD SHERMAN, California
    MIA LOVE, Utah                       AL GREEN, Texas
    FRENCH HILL, Arkansas                DENNY HECK, Washington
    TOM EMMER, Minnesota                 DANIEL T. KILDEE, Michigan
    ALEXANDER X. MOONEY, West Virginia   JUAN VARGAS, California
    WARREN DAVIDSON, Ohio                CHARLIE CRIST, Florida
    CLAUDIA TENNEY, New York
    TREY HOLLINGSWORTH, Indiana

                               C O N T E N T S

                                  ----------
                                                                       Page
    Hearing held on:
        November 7, 2017.............................................     1
    Appendix:
        November 7, 2017.............................................    41

                                   WITNESSES
                           Tuesday, November 7, 2017

    Bernstein, Jared, Senior Fellow, Center on Budget and Policy
      Priorities.....................................................     8
    Levin, Andrew T., Professor of Economics, Dartmouth College......     7
    Levy, Mickey, Managing Director and Chief Economist, Berenberg
      Capital Markets................................................    10
    Plosser, Charles I., Visiting Fellow, Hoover Institution.........     5

                                    APPENDIX

    Prepared statements:
        Bernstein, Jared.............................................    42
        Levin, Andrew T..............................................    53
        Levy, Mickey.................................................   112
        Plosser, Charles I...........................................   120

                   EXAMINING FEDERAL RESERVE REFORM PROPOSALS

                                  ----------

                           Tuesday, November 7, 2017

                         U.S. House of Representatives,
                     Subcommittee on Monetary Policy and Trade,
                               Committee on Financial Services,
                                                       Washington, D.C.
        The subcommittee met, pursuant to notice, at 2:19 p.m., in
    room 2128, Rayburn House Office Building, Hon. Andy Barr
    [chairman of the subcommittee] presiding.
        Present: Representatives Barr, Williams, Huizenga,
    Pittenger, Love, Hill, Emmer, Mooney, Davidson, Tenney,
    Hollingsworth, Moore, Foster, Sherman, Green, Kildee, Vargas,
    and Crist.
        Chairman Barr. The chair is authorized to declare a recess
    of the committee at any time, and all members will have 5
    legislative days within which to submit extraneous materials to
    the Chair for inclusion in the record.
        This hearing is entitled ``Examining Federal Reserve Reform
    Proposals.'' I now recognize myself for 5 minutes to give an
    opening statement.
        Some see the last decade of monetary policy as a failure,
    while others see it as a success. Wherever we stand on this
    debate, I hope we can all agree that stronger economic growth
    over recent quarters is promising and American economic
    opportunities can expand even faster with reforms that build on
    the best ideas from both sides of our aisle.
        The legislation we will consider today does just that.
    Monetary policy can appear complicated, but whether you work in
    the Fed's Eccles Building or in any of our districts, monetary
    policy supports a stronger economy when it is communicated
    simply and clearly. Recent Fed research finds that uncertainty
    about monetary policy slows our economy and reduces credit
    availability. In other words, simple and clear policy
    communications improve American economic opportunities.
        Both Democratic and Republican witnesses have testified
    before us on the importance of a simple and clear communication
    of monetary policy. For example, during our last Humphrey-
    Hawkins hearing, Federal Reserve Board Chair Yellen expressed
    interest in working with our committee to codify a simple and
    effective strategy for a more transparent monetary policy.
        In addition, former Vice Chair of the Federal Reserve Board
    Dr. Donald Kohn offered the following advice in a recent
    Brookings Institution report. The Federal Reserve should use
    the semi-annual monetary policy report to better explain and
    focus on its broad strategy. For some time, the Fed's Open
    Market Committee has been shown the results of a number of
    policy rules, and this material has been accompanied by
    explanations of why the current and expected settings of
    monetary policy might deviate from the rules.
        The Monetary Policy Transparency and Accountability Act
    that we will consider today provides for exactly this type of
    framework. Indeed, this bill reflects the very generous advice
    of both Chair Yellen and Dr. Kohn. Our draft legislation also
    addresses what Members of Congress and experts from both sides
    of the aisle see as an opportunity to better manage our fiscal
    house and increase our financial resiliency by protecting
    households from bailouts and holding Congress to account for
    tough decisions that can easily be punted to the Fed. Our
    congressional Accountability for Emergency Lending Act takes an
    important step in this direction by embracing this bipartisan
    Warren-Vitter framework for congressional approval of emergency
    lending.
        At the same time, our Independence from Credit Policy Act
    maintains the Fed's role as an originator of emergency loans
    while insulting our monetary authority from compromising
    political pressures to overreach into credit policy.
    Authoritative economists of different stripes share a common
    concern about these pressures. Testifying as a witness for my
    Democratic friends, MIT Professor Simon Johnson emphasized this
    bipartisan agreement.
        I think we are all agreeing that this fiscal policy
    infrastructure is the responsibility of the fiscal authority,
    which is that of the Congress and the United States acting
    through the Executive Branch. It is not the responsibility and
    should not become the responsibility of the Federal Reserve.
        Recently, Brandeis Professor Stephen Cecchetti shared the
    same concern as a minority witness for our Joint FI-MPT
    Subcommittee hearing. And even the New York Times' Paul Krugman
    joined this chorus, highlighting how the Fed's unconventional
    balance sheet blurs the lines between monetary and fiscal
    policies.
        Acknowledging such concerns during our last Humphrey-
    Hawkins hearing, Federal Reserve Board Chair Janet Yellen
    committed the FOMC (Federal Open Market Committee) to re-
    establishing a bright line between monetary and credit policy.
    She said the FOMC has clearly indicated that it intends to
    return over time to a primarily Treasury-only portfolio. And
    that is in order not to influence the allocation of credit in
    the economy.
        Coupled with our congressional Accountability for Emergency
    Lending Act, the Independence from Credit Policy Act does
    precisely what Chair Yellen has advocated--a return to a
    primarily Treasury-only portfolio while maintaining the Fed's
    role as an originator of emergency loans.
        Greater transparency, independence, and accountability for
    monetary policy coupled with greater fiscal accountability for
    Congress, that is a solid bipartisan recipe for what we all
    want, and that is greater economic opportunity for all
    Americans. I look forward to our witnesses' testimony and
    working with my friends on both sides of the aisle to realize
    the considerable benefits that this legislative package will
    deliver to each of our diverse constituents.
        The Chair now recognizes the ranking member of the
    subcommittee, the gentlelady from Wisconsin, Gwen Moore, for 3
    minutes for an opening statement.
        Ms. Moore. Thank you so much, Mr. Chairman. And I want to
    thank our witnesses for coming in today. I look forward to your
    testimony.
        As for the bills we are considering, on one hand, I think
    that they are better than the other Audit the Fed bills we have
    seen, but overall they seem like problems foisted into a
    functioning system. I am glad that the majority has abandoned
    the so-called Taylor rule, but a watered-down Taylor rule is
    probably as unworkable if the Taylor rule is flawed.
        The 13(3) authority, I have my own questions about it, but
    I have spent some time with the Fed understanding the
    importance of 13(3). Dodd-Frank made the right amount of
    reforms to the Fed in this regard, and I sure hope that the new
    Fed chair would really sit down with Chair Yellen and really
    let her explain the benefits that 13(3) has had.
        At this point, I think the one thing that frightens me the
    most--and I would appreciate more clarity from this panel on--
    is the restriction of what the Fed holds, this Treasury-only
    schemata. It seems to me that this would be very problematic--
    this would have been problematic had it been in place during
    our crisis. So like I said, I don't see the problem that these
    bills are designed to solve, but I can see plenty of problems
    this legislation might cause.
        I would like to yield the rest of my time to Mr. Sherman.
        Mr. Sherman. The Fed should be restructured in part because
    it is so highly undemocratic. It is the only governmental
    institution where at least some of the leaders are selected by
    the notion one bank, one vote. All Fed Governors at all levels
    should be Presidential appointees.
        Second, it is undemocratic because the California bank does
    not have a permanent seat on the Fed committee, whereas the New
    York bank does, whereas far more people live in the California
    region. The allocation of seats should reflect population, not
    political power.
        If there has been a failure of Fed policy, it is because
    they were too timid with quantitative easing. And now they are
    too hawkish when it comes to raising the interest rate. Our
    inflation rate is not only below their target, it is below the
    target they should have, which would be closer to 2.5 percent.
        We continue to have low wages. What Americans demand is the
    kind of labor shortage that will cause much faster growing
    wages. That cannot be achieved with the Fed's current timid
    policy of caving in to those who just, for historical reasons,
    believe we should have higher interest rates and abolish
    quantitative easing.
        Finally, it is only because Fed policy is the domain of
    people who live in the Fed world that we ignore the $75 billion
    to $100 billion the Fed has been able to transfer to the U.S.
    Treasury. In my district, that is real money, and yet it
    doesn't get the--we pay far more attention on the cost of
    building one bridge in Alaska than we have in $75 billion to
    $100 billion transferred to the U.S. Treasury for several years
    in a row because nobody pays attention to the Fed except the
    Fed community, and the Fed community is embarrassed by its
    profit.
        I yield back.
        Chairman Barr. The gentlelady's time has expired. Would the
    gentlelady yield back?
        Ms. Moore. I yield back.
        Chairman Barr. Gentlelady yields back. At this time, we
    would like to welcome the testimony of our witnesses. First,
    Dr. Mickey Levy, the Chief Economist for the Americas and Asia
    at Berenberg Capital Markets. He conducts research on a variety
    of U.S. and global economic and macroeconomic topics and is an
    adviser to several Federal Reserve banks, including the Federal
    Reserve Bank of New York. Prior to his current position, Dr.
    Levy was Chief Economist at Bank of America and Blenheim
    Capital Management. He also has been analyst at both the
    Congressional Budget Office and the American Enterprise
    Institute. Since 1983, he has served as a member of the Shadow
    Open Market Committee.
        Dr. Andrew Levin, a Professor of economics at Dartmouth
    College. He was an economist at the Federal Reserve Board for 2
    decades, including 2 years as a special adviser to Chairman
    Bernanke and then Vice Chair Yellen on monetary policy strategy
    and communications. He subsequently served as an adviser at the
    International Monetary Fund. Professor Levin is currently an
    external adviser to the Bank of Korea and a regular scholar at
    the Bank of Canada. He has also served as a consultant to the
    European Central Bank and as a visiting scholar at the Bank of
    Japan and the Dutch National Bank. And he has provided
    technical assistance to the National Banks of Albania,
    Argentina, Ghana, Macedonia, and Ukraine. He received his PhD
    in economics from Stanford University in 1989.
        Jared Bernstein is the Senior Fellow at the Center on
    Budget and Policy Priorities. From 2009 to 2011, Bernstein was
    the Chief Economist and Economic Adviser to Vice President Joe
    Biden; Executive Director of the White House Task Force on the
    Middle Class; and a member of President Obama's economic team.
    Bernstein's areas of expertise include Federal and State
    economic and fiscal policies, income inequality and mobility,
    trends in employment and earnings, international comparisons,
    and the analysis of financial and housing markets.
        Prior to joining the Obama Administration, Bernstein was a
    Senior Economist and the Director of the Living Standards
    Program at the Economic Policy Institute in Washington, D.C.
    Between 1995 and 1996, he held the post of Deputy Chief
    Economist at the U.S. Department of Labor. Bernstein holds a
    PhD in social welfare from Columbia University.
        Finally, Dr. Charles Plosser is a Visiting Fellow at the
    Hoover Institution at Stanford University. Plosser served as
    the President and CEO of the Federal Reserve Bank of
    Philadelphia from 2006 until his retirement in 2015. In his
    position, he served as a member of the Federal Open Market
    Committee. Prior to joining the Federal Reserve, Plosser was
    the John M. Olin Distinguished Professor of Economics and
    Public Policy and Director of the Bradley Policy Research
    Center at the University of Rochester's William E. Simon
    Graduate School of Business Administration, where he served as
    Dean from 1999 to 2003.
        In 2004, he was a visiting scholar at the Bank of England.
    Since January 2016, Plosser has served as a Public Governor for
    FINRA, where he serves on the Investment Committee and the
    Financial Operations and Technology Committee. Plosser earned
    his PhD and MBA degrees from the University of Chicago.
        Each of you will be recognized for 5 minutes to give an
    oral presentation of your testimony. Without objection, each of
    your written statements will be made part of the record. Dr.
    Plosser, we will start with you. You are now recognized for 5
    minutes. And if you could just push the button to turn on your
    microphone.

                      STATEMENT OF CHARLES PLOSSER

        Dr. Plosser. I am technologically challenged at times.
        Chairman Barr. Thank you, sir.
        Dr. Plosser. Chair Barr, members of the committee, thank
    you very much for the opportunity to share some thoughts with
    you today on the Federal Reserve. I have been talking about the
    Federal Reserve for the last 20 years at various times, and so
    I have given a lot of thought to many of its issues.
        It is simplified but helpful to think of Fed actions in
    terms of its balance sheet, liabilities, predominantly
    currency, and the reserves of the balance sheet. Increasing the
    liabilities is typically associated with monetary policy.
    However, the Fed can also manage the asset side of its balance
    sheet. Changes in composition of those assets are typically
    referenced to as credit policy.
        Historically, the Fed has conducted monetary policy through
    the purchase or sale of Treasury securities. Indeed, the vast
    bulk of the Federal Reserve assets have been U.S. Treasuries
    since the modern Fed began in the 1950's. Credit policy simply
    did not play a role.
        Moreover, for most of the post-World War II era, the Fed's
    portfolio of Treasuries was purposefully designed to be neutral
    vis-a-vis the private sector. It only held Treasuries, and the
    distribution among bills, notes, and bonds was managed to
    roughly match the distribution of the Treasury's issuances. In
    other words, it was felt that the Fed's portfolio should not
    try to alter the relative prices determined in the marketplace.
        Now, during the financial crisis and subsequent recession,
    the Fed altered both the size and composition of its balance
    sheet. In early 2008, the Fed sold Treasuries to fund the
    purchase of approximately $30 billion of mostly private-sector
    high-risk assets to support the acquisition of Bear Stearns by
    JPMorgan. Credit was also extended through various other
    lending programs that targeted specific industries, asset
    classes, and creditors.
        Now, whether you can consider these as justified because of
    the credit or not, they were, in effect, debt-financed fiscal
    policy without explicit authorization of Congress. Now, given
    the distributional effects of such interventions, it is not
    surprising they became somewhat controversial.
        The major form of--another major form of credit policy was
    the result of quantitative easing. QE was unconventional, but
    it was also unprecedented in that a significant portion of the
    assets purchased were in the form of mortgage-backed
    securities, not U.S. Treasuries. This action was explicitly
    intended to provide credit support for the housing sector.
        So why should the Fed have the authority to allocate credit
    within the economy in support of one industry, one company, or
    one individual? What are the risks and dangers of such a
    framework? The major risk is that it invites political
    interference and undermines the integrity of fiscal policy.
    History suggests that central banks that remain independent of
    the political environment and the fiscal authorities do better
    at controlling both inflation and promoting economic stability.
    Do we really want the Fed being lobbied by Congress or the
    public to manage the assets on its balance sheet to promote
    various political or fiscal agendas?
        The current trends I believe are not encouraging. For
    example, some Members of Congress approached the Fed to lend
    money to the automobile companies in 2008. In 2010, Congress
    required the Fed to fund a Federal agency over which it had no
    authority. And in 2015, Congress funded part of a
    transportation bill off the Fed's balance sheet.
        I believe these actions are bad policy. They undermine the
    independence of our central bank monetary policymaking by
    confusing the roles and responsibilities of monetary and fiscal
    policy. Fed independence is fragile, and it is eroding. The Fed
    itself is contributing to this erosion of independence by
    engaging in off-budget fiscal policy through credit
    allocations.
        A policy that restricts the Fed to own only Treasuries
    would go a long way toward limiting the Fed's ability to engage
    in credit allocation and limit the potential for abuse or
    political abuse in particular of its balance sheet. It would
    also help maintain a clear distinction between the role of the
    Fed and the role of the fiscal authorities, and thus help
    protect it from political interference.
        Some say an all-Treasury portfolio was dangerous and would
    limit the Fed's ability to respond in a fiscal crisis. But
    since 2009, I have been arguing that there is a better way. And
    it is to recognize and clarify who has the decision rights when
    it comes to fiscal decisions and who should be held
    accountable. The idea is to make clear that such emergencies
    is--it is the fiscal authorities that have the power and the
    authority to conduct fiscal actions, who should own both the
    decision rights and the accountability.
        The role of the Fed should be limited to helping the
    government execute those policies, but the Treasury would then
    be responsible for obtaining approval of Congress for the
    interventions and then required to swap Treasuries for non-
    Treasury securities acquired by the Fed, thus restoring the
    all-Treasury character of the Fed's balance sheet.
        This Fed Treasury accord would enable emergencies to be
    addressed in a timely manner while protecting the integrity,
    accountability of fiscal policy decisionmaking.
        [The prepared statement of Dr. Plosser can be found on page
    120 of the Appendix.]
        Chairman Barr. The gentleman's time is expired. And we look
    forward to continuing this discussion in the Q&A. So we will
    now have to move on to Dr. Levin. You are recognized for 5
    minutes for your opening statement.

                        STATEMENT OF ANDREW LEVIN

        Dr. Levin. Chairman Barr, Ranking Member Moore, and members
    of the Subcommittee on Monetary Policy and Trade, thank you for
    inviting me to testify at this hearing.
        The Federal Reserve is America's central bank. Its monetary
    policy decisions affect every American. Given the Fed's crucial
    role, it is important to ask, to whom is the Federal Reserve
    accountable? Who is the Fed's boss?
        Of course, the answer is Congress. The Fed reports directly
    to Congress, not to the President or anyone else. Now, I have
    intentionally used the term ``boss'' because we can draw on
    basic management principles to shed light on the issues being
    considered here today.
        Turning to exhibit one, here are three principles that are
    followed by every well-run business or nonprofit organization.
    One, the boss must stay well informed about the employee
    strategy. Those consultations take place in annual reviews and
    occasional status updates, which are essential for maintaining
    accountability and avoiding micromanagement. After all, an
    employee can't be productive if the boss is constantly second-
    guessing their decisions. And that is the basic rationale for
    preserving the Fed's operational independence, but requiring
    the Fed to explain its policy strategy in terms of simple
    benchmarks, which I will return to in a moment.
        Two, extraordinary budget items require prompt approval. An
    employee should have authority to incur routine expenses, but
    the boss has to approve extraordinary items. And that principle
    is the essential rationale for preserving the Fed's operational
    independence, again, but establishing procedures to facilitate
    prompt congressional approval for its emergency lending
    facilities.
        Three, extraneous tasks should be re-assigned elsewhere.
    Effective delegation requires a clear delineation of
    responsibilities. If a work assignment evolves into a task that
    doesn't fit within the employee's job description, then the
    boss should re-assign that task to someone else.
        Following the same logic, private assets shouldn't stay
    indefinitely on the Fed's balance sheet. Those assets should be
    swapped for U.S. Treasury securities, again, preserving the
    Fed's operational independence and its designated scope of
    responsibility.
        Now I would like to focus on the rationale for establishing
    simple policy benchmarks. Turning to exhibit two, you can see
    that as of last June, investors saw roughly 50/50 odds, just
    like a coin flip, that the Fed would hike interest rates in
    December. Those odds edged down during the summer, but then
    skyrocketed into early autumn, not because of some sterling new
    economic data, but simply because Fed officials started
    signaling a rate hike through their speeches and interviews.
        In fact, as you see in the exhibit, investors now see the
    rate hike in December as a practical certainty, even though the
    FOMC won't be meeting until mid-December, almost 6 weeks from
    now. Evidently, the strategy underlying the Fed's decisions is
    not very well understood, even by investors who sift through
    every tidbit of Fed communications, and much less so by members
    of the general public.
        By contrast, simple benchmarks can provide a transparent
    means for the Fed to communicate its strategy. It is really
    important to note here such benchmarks are not intrinsically
    hawkish or dovish. For example, Janet Yellen, when she was Vice
    Chair in 2012, referred to one such benchmark as the balanced
    approach rule because of its effectiveness in fostering the
    Fed's dual mandate of maximum employment and price stability.
        Turning now to exhibit three, you can see here that a
    balanced approach benchmark provides a remarkably good
    approximation to the Fed's actual policy path over the last few
    years. In fact, this benchmark is essentially the same as one I
    presented at a conference on full employment that my colleague,
    Jared Bernstein, organized back in 2015. This exhibit shows, it
    confirms that simple benchmarks can be helpful in clarifying
    the Fed's monetary policy strategy. That will contribute to its
    overall transparency and accountability to the Congress, its
    boss, and to its effectiveness in serving the American public.
        Thank you for your consideration. I will be glad to answer
    any questions.
        [The prepared statement of Dr. Levin can be found on page
    53 of the Appendix.]
        Chairman Barr. Thank you, Dr. Levin. And, Dr. Bernstein,
    you are now recognized for 5 minutes.

                      STATEMENT OF JARED BERNSTEIN

        Dr. Bernstein. Well, thank you very much. Great to be here.
    And my testimony conveys a simple message. The independence of
    the central bank is an essential ingredient to its functioning.
    Of course, that independence exists within the legal context
    set forth by Congress and it is essential for this committee to
    continuously revisit this context.
        But maintaining the central bank's independence must always
    be an elevated consideration. In this context, some of the
    ideas and the proposals under discussions are worthy of
    consideration, but some are too restrictive. They threaten the
    Fed's independence and add unnecessary and potentially damaging
    process requirements that could do more harm than good to the
    U.S. and even the global economy.
        Before commenting on the proposals, I would like to suggest
    that in an all-too-other dysfunctional and highly partisan
    environment, the Federal Reserve is one institution that has
    been highly effective in carrying out its mission. Though the
    Fed failed to identify the housing bubble, it quickly moved
    into emergency mode when the bubble burst and the downturn
    ensued.
        The bank deployed its significant weaponry against the
    downturn, including its first line of defense, reductions of
    the policy rate and emergency lending, and later when the
    policy rate got stuck at its lower bound of zero, the Fed
    turned to alternative forms of monetary stimulus.
        While some of these actions are behind the motivations for
    today's hearing, my assessment is that they were effective in
    offsetting the historically large demand contraction that
    followed the crisis. I cite research that tries to isolate the
    impact of quantitative easing, including bond purchases that
    would not be permissible, agency MBS (mortgage-backed
    security), under one of the proposals considered today. These
    actions were effective in thawing credit markets in hard-hit
    sectors of the market, noticeably housing finance.
        Post-recession, the Fed continued to promote the recovery
    and the unemployment rate recently fell to what is now the
    lowest jobless rate in 17 years. In other words, if I were
    looking around Washington for an institution that fits the
    adage ``if it ain't broke, don't fix it,'' my first thought
    would be the Federal Reserve.
        Among the three proposals under review today, I find the
    proposal to limit the Fed's independence regarding its
    emergency lender of last resort function potentially most
    problematic. Though I recognize the motivation for the
    proposal, I see two major drawbacks.
        First, since the crisis, Congress legislated the Dodd-Frank
    financial reforms, key sections of which were designed
    specifically to reduce the need for Fed intervention in this
    space, including a vice chair position for the Fed, for
    financial supervision, numerous restrictions to 13(3) lending
    authorization, and liquidation authority.
        Dodd-Frank, along with recent international accords under
    Basel III, also increased the first line of defense against
    illiquidity and solvency crises, capital requirements that
    disallow excessive leverage. I see no reason to add new
    complexities into this system until we give the Dodd-Frank
    measures a chance.
        Second, and this is a profound concern with this proposal,
    it takes the authority for emergency lending outside of the Fed
    and requires both chambers of Congress to provide a timely 30-
    day approval of the Fed's emergency loans. I believe this adds
    unnecessary risk to credit markets and the broader economy. It
    is an imprudent departure from the lending authority
    established in 13(3) of the Fed's charter, one that undermines
    both the independence of the institution and its role of,
    quote, lender of last resort. With this change, the 535 Members
    of Congress all become lenders of last resort, a possibility I
    strongly urge this committee to avoid.
        If Congress fails to approve an emergency lending program
    within 30 days, the borrower, who by definition is facing a
    balance sheet crisis, must pay the loan back to the Fed.
    Moreover, Members of Congress and their staffs must quickly
    engage in highly technical analysis of whether lending
    institutions are illiquid or insolvent, the quality of their
    collateral. Such analysis is standard practice at the Fed, but
    by insisting Congress engage in it as well, the proposal
    introduces the possibility of politicizing the analysis--and if
    Congress fails to act in a timely manner--triggering
    significant market disruptions.
        I do think the bar should be high for approval of emergency
    lending, but my bottom line is that clearing that bar should be
    the purview of the Fed, not Congress. Thus, should the
    committee consider raising the internal bar within the Fed,
    inside the Fed, while this should be done carefully and with
    great attention to potential unintended consequences, it is
    consistent with prudent congressional regulation.
        Conversely, raising the external bar by requiring
    congressional approval goes way beyond this benchmark. The best
    way to avoid emergency lending by the Fed is to avoid credit
    bubbles, systematically underpriced risk, and the crises that
    followed these financial pathologies. And the way to achieve
    that is through market oversight and regulation.
        I would also caution the committee against further
    restrictions on the Fed as to the type of debt they can
    purchase in their open market regulations. The Banks of
    England, Japan, Canada, and Europe all have few restrictions on
    the type of assets they can purchase, and this creates a
    flexibility for their central banks to bring the water to the
    specific sources of the fire.
        I thank you, and I look forward to your questions.
        [The prepared statement of Dr. Bernstein can be found on
    page 42 of the Appendix.]
        Chairman Barr. Thank you, Dr. Bernstein. And, Dr. Levy, you
    are now recognized for 5 minutes for an opening statement.

                        STATEMENT OF MICKEY LEVY

        Dr. Levy. Chairman Barr, Ranking Member Moore, and members
    of the committee, I sincerely appreciate this opportunity.
        The ultimate objective is healthy, sustained economic
    growth and rising standards of living. The challenge is
    identifying the proper policies and the proper mix of
    policies--fiscal and tax, regulatory and monetary--to achieve
    desired outcomes. The Fed's emergency measures during the 2008-
    2009 crisis certainly helped stabilize financial markets and
    avert an even deeper recession. But we have to distinguish
    between the conduct of policy during a crisis and during normal
    times.
        The efficacy of the Fed's sustained artificially low
    interest rates and massive asset purchases once the recovery
    took hold are questionable and have been the source of
    undesired distortions and pose very large risks. The Fed's QE3
    asset purchases policy to reinvest all the maturing assets,
    artificially low interest rates, all of these stimulated
    financial markets. But they failed to stimulate faster growth.
    Nominal GDP growth has actually decelerated.
        The economy would have grown along its modest pace and job
    gains would have occurred even if the Fed had not engaged in
    QE3 and even if it had normalized rates quicker. History shows
    conclusively that once an economic recovery takes hold, raising
    rates back to neutral does not harm the economy.
        But the Fed's extension of monetary policy through uneven
    discretionary approaches has given a false sense or a false
    impression that the mandate of the Fed is to manage the real
    economy and fine-tune it, and that more and more monetary
    stimulus was needed to prop up the economy. In reality, the
    frustrating underperformance of the economy reflected the
    growing web of regulatory policies, government-mandated
    expenses, and tax burdens.
        The Fed's extended easy policies has created many
    distortions and burdens. Let me mention a few. Tens of millions
    of primarily older people face low yields on their savings.
    Tens of millions of renters face higher rental costs as real
    estate prices have moved up, stimulated by the Fed. Moreover,
    the Fed's $4.5 trillion portfolio involves enormous risks. The
    CBO estimates that a 1 percentage point increase in interest
    rates would increase budget deficits by $1.6 trillion over 10
    years. Take this risk seriously.
        My recommendations are, the Fed must continue to normalize
    interest rates as it has been. With regard to inflation, the
    factors that have brought down inflation recently below the
    Fed's 2 percent target are good for the economy and increased
    purchasing power. The Fed should not express so much public
    angst about a non-problem of low inflation.
        In fact, economic growth, business investment, and real
    wages are picking up momentum and confidence is elevated
    despite the Fed hiking rates. The reason for this is largely
    the government's recent changes to ease the burdensome
    regulations and tax reform prospects.
        Second, the Fed and Congress are really too complacent
    about the Fed's massive balance sheet, particularly amid
    improving economies. And I urge the Fed to gradually eliminate
    its entire mortgage-backed securities holdings. With the
    mortgage market healthy, and housing doing quite well, why is
    the Fed holding any MBS? Why is it allocating credit to a
    sector that doesn't need it?
        The Fed should aim to reduce its balance sheet much more
    than it is currently aiming for. Some Fed members are talking
    about lowering it from its current level to about $3 trillion,
    which would still leave $1 trillion in excess reserves in the
    banking system. We need to assess the costs as well as the
    potential benefits of that. What might be the costs? Its
    involvement in fiscal policy, paying interest on excess
    reserves, the Fed's expanded footprint in financial markets.
        Third, the Fed and Congress should adopt a rule to
    establish and prevent the Fed from ever purchasing equities
    under any circumstances.
        Finally, and most importantly for the future, the Fed
    really needs to reset monetary policy. It should have a
    flexible rules-based approach. And by flexible, what I mean is,
    follow a rule as a guideline that will improve transparency and
    your committee's ability to supervise the Congress while at the
    same time giving the Fed substantial or any types of discretion
    it needs during emergency situations.
        Thank you.
        [The prepared statement of Dr. Levy can be found on page
    112 of the Appendix.]
        Chairman Barr. Thank you all for your testimony. And the
    Chair now recognized himself for questions for 5 minutes.
        So last year, a research team from the University of
    Chicago, Northwestern, and Stanford published an article in the
    highly regarded Quarterly Journal of Economics. And that
    article found that uncertainty about economic policy in general
    reduces American investment, output, and employment.
        And just last month, a team at the Federal Reserve,
    researchers at the Fed found the same problem with monetary
    policy. According to their study, quote, ``uncertainty about
    monetary policy increases credit spreads and reduces output.''
        Dr. Plosser, you have served on the Fed's Monetary Policy
    Committee. You are an accomplished economic researcher. Do
    these findings from both the Fed and from the various
    academics--do these findings seem reasonable to you that
    uncertainty about where monetary policy is going can, in fact,
    slow our economy and constrain credit availability?
        Dr. Plosser. Thank you. I think the answer is yes. They
    certainly make sense. I think there is a challenge in how you
    quantify those effects, but you can see the uncertainty showing
    up in a number of different situations.
        Think about the uncertainty of credit policy, about how
    much MBS was going to be bought and how much not. Were they
    going to rescue Lehman Brothers like they rescued Bear Stearns?
    Without articulating a policy that--strategy that guided those
    decisions, it resulted in uncertainty. The taper tantrum, as
    they said, that occurred.
        All those are examples of effects in the markets that came
    about through some uncertainty or through doubt about whether
    the Fed was going to follow through on some of its
    pronouncements. So I think it is very important that, yes, I
    think that uncertainty can matter. How and when it shows up is
    a bit of a challenge. But that just says that the Fed needs to
    be more strategic in articulating a strategy about how it is
    going to behave if certain things happen.
        Chairman Barr. Thank you. And, Dr. Levin, you, too, are an
    accomplished economic researcher. You have advised both Fed
    Chairman Bernanke and then Vice Chair Yellen. And in addition,
    you coauthored an article last year with the FED UP!
    Coalition's campaign manager calling attention to the
    importance of transparency for our monetary policy authority,
    and acknowledgements for that article included Dr. Bernstein,
    who joins our panel today.
        The article called for the Fed to include in its Monetary
    Policy Report a discussion of any economic models and benchmark
    rules that are used in setting the course of monetary policy.
    Dr. Levin, does the discussion draft that you have before you
    today, the Monetary Policy Transparency and Accountability Act,
    does that bill as currently drafted as you see it effectively
    achieve that goal without mandating the FOMC to follow any
    particular mechanical rule?
        Dr. Levin. Well, thank you, Mr. Chairman. So, first of all,
    I just want to go back to something that Congressman Sherman
    mentioned before. The Fed serves the American public, and I
    think it is appropriate for Congress to think carefully about
    how to make sure the Fed is a fully public institution. That
    was the key point of the paper that we wrote last year. It is
    critical for the Fed to be diverse, regionally diverse, diverse
    in respect to the policymakers and the staff who are working at
    the Fed. Those are all critical issues that were in that paper.
        But on the specific issue, I think that--as I said before--
    clarity of a benchmark rule would help serve the public. It is
    related to your question to Dr. Plosser. It would help
    alleviate uncertainty in financial markets, and more generally
    businesses and consumers, the strategy the Fed is following. So
    I think it is appropriate in your draft legislation that the
    Fed have a simple strategy that it can explain to Congress and
    the public.
        Ideally, it would choose that strategy at the beginning of
    each calendar year. And of course, during the year, things
    might--unexpected things might come up, and then the Fed
    officials would explain if they need to change the strategy or
    deviate from the strategy. So in that sense, I agree with you
    that this is a reasonably flexible approach that would help
    improve the Fed's transparency.
        The Fed needs to have discussions among experts like Dr.
    Plosser was, with different points of view. Some people think
    that the Fed should continue to normalize. The policy rule that
    I showed you on the chart, it is not so clear, because if
    inflation stays around 1.3 percent where it is today, and
    output is just growing at a sustainable pace, then that rule
    would say that there isn't necessarily such a strong case for
    the Fed to raise interest rates further at this point.
        But again, that is the sort of debate that should happen at
    the Fed. The Federal Reserve would choose the benchmark under
    your legislation. And it would be able to change the benchmark,
    but it could use that as a point of reference. And so I think
    this would be a very constructive way forward.
        Chairman Barr. Thank you. And I would like to ask the same
    question to the other two witnesses, but my time has expired,
    so we now move to the distinguished gentlelady from Wisconsin,
    the ranking member, Ms. Moore, for 5 minutes.
        Ms. Moore. Thank you so much, Mr. Chairman. If I have
    understood the testimony we have had here today, it seems like
    there is not that much disagreement with regard to the Fed
    having taken the appropriate emergency lending authority. But
    then it seems to differ after that point.
        Dr. Bernstein, let me start with you. I am not trying to
    pick on you, Dr. Levy, but I just underlined some stuff in your
    testimony that I thought was very interesting. You thought that
    the economy's lackluster response to the Fed's stimulus
    highlights the important influences of other policies and
    factors, and you talked again about Dodd-Frank, the government
    tax and regulatory policies at both the State and local levels,
    in both the financial and non-financial sectors, the Fed paying
    interest on reserves, and saying that the banks just can't
    lend, because they are just so burdened by regulations.
        Now, the banks are doing great, last time I checked. They
    are very profitable. And, Dr. Bernstein, I think we heard you
    say and talk about in your written testimony that we saw
    unemployment fall to 4.1 percent. What am I not getting here
    between the two of you?
        Dr. Bernstein. Well, I think you raise some great points,
    and these thoughts came to mind listening to Charles Plosser
    also talk about the impact of Fed-induced uncertainty. In fact,
    unemployment is historically low. We are creating something
    like between 150,000 and 200,000 jobs per month. That is a
    strong clip of job creation at this point in the cycle. I
    suspect all of my colleagues would agree with that.
        The GDP is growing slower than we might like. That is a
    function of low productivity growth. And I haven't heard any
    convincing arguments that would connect Federal Reserve policy
    to that. So I think that if you are looking at economic
    conditions and you are trying to make a case that the Fed is
    somehow doing the wrong thing, you have a very high bar to
    cross.
        As far as the crisis goes, many of the policies that are
    taking a bit of a hit from my colleagues up here have been
    shown not only to be effective in pulling the recovery forward,
    but as I dictate in my testimony, looking at a wide spate of
    research, are associated with much quicker GDP growth, much
    lower unemployment, and including some of the bond purchases
    and emergency spending programs are associated with
    significantly lower interest rates in those sectors that
    clearly were important to growth.
        If anything, it is my view that is what has held back
    faster growth in terms of a policy setting was austere fiscal
    policy, not monetary stimulus.
        Ms. Moore. Right, right, right. OK, so you talked about
    the--what if the Fed had been prohibited, as this legislation
    suggests, from purchasing Treasuries in response to the 2008
    crisis, if we had the policy that would limit its purchases?
    What do you think would have happened?
        Dr. Bernstein. Well, John Williams of the San Francisco Fed
    is I think a very highly respected empirical macroeconomist. He
    argued that the MBS purchases were, quote, the most effective
    part of the Fed's asset purchase programs and that they, quote,
    ended up having kind of a bigger bang for the buck than the
    Treasury purchases.
        I quote research by Alan Blinder, former Vice Chair of the
    Fed, and Mark Zandi, highly respected economic researcher, that
    underscores Williams' finding. Within a short time, they write,
    the MBS purchases by the Fed meant that, quote, homebuyers with
    good jobs and high credit scores could obtain mortgages at
    record low rates which helped end the housing crash.
        And in my testimony, I not only underscore those results,
    but I urge the committee to look at the potential for other
    asset classes that the Fed might be able to purchase, depending
    on the nature of the crisis. And I suggest municipal bonds
    might be one area to look at.
        Ms. Moore. Well, the heart of the financial crisis was in
    the housing sector, so do you agree that that was good for the
    Fed to target that sector?
        Dr. Bernstein. In a sense, we were, quote--and these are
    very big air quotes ``lucky," because the Fed, within its
    charter, was able to purchase assets from the very sector that
    took the hit, the housing sector. That might not be the case
    next time.
        Ms. Moore. OK. Thank you. I think I will yield back the
    balance of my time, since we went over last time.
        Chairman Barr. The gentlelady yields back. The Chair now
    recognizes the Vice Chair of the subcommittee, Mr. Williams
    from Texas.
        Mr. Williams. Thank you, Mr. Chairman. And thank all of you
    for being here today.
        This subcommittee is grateful to have the testimony of so
    many of you, and we appreciate it, on a very important topic.
    As Vice Chairman of this subcommittee, I have been privileged
    to work with my colleagues and industry experts to ensure the
    Federal Reserve does not step beyond its intended purpose and
    authority and continues to play an independent role in monetary
    policy. I consider today's discussion a pivotal step in the
    right direction. I look forward to working with the Chairman
    and distinguished members on these issues.
        So, Mr. Plosser, my question to you is, in March, you
    stated during an interview that you are concerned about
    preserving the fragility of independence as Congress considers
    reforms to the Fed. Now, based upon your previous role as
    president and CEO of the Federal Reserve of Philadelphia, do
    you feel that the reforms being considered today would help to
    maintain that independence?
        Dr. Plosser. Thank you, sir. I do. I think--as I talked
    about Treasuries and about political interference or political
    involvement of Fed and its own decisionmaking and pressures,
    both politically and by the public, I think it is very
    important that we separate clearly the responsibilities of the
    fiscal authorities from those of the monetary authorities.
        The more those responsibilities are blurred and overlap in
    some ways or have dual responsibilities, the harder it is to
    hold either party, Congress or the Fed, accountable for the
    decisions that they make. So it is really important, I think,
    to keep a line between monetary and fiscal policy.
        And one of the things I have argued is rather than
    undermine independence of Fed's monetary policymaking, it would
    be better to narrow the scope of their responsibilities in a
    way that helped them focus on things that they can control and
    ultimately Congress wants them to do. So this separation
    between monetary and fiscal policy I think is an important
    aspect, and I think the way the bills are written and go to a
    Treasuries-only policy and to provide mechanisms for
    emergencies should they arise, it holds the right parties
    accountable at the right time.
        Mr. Williams. OK. Do you think there are any areas where
    you feel that the Fed is currently acting beyond its
    jurisdiction?
        Dr. Plosser. I can't think of any right at the moment. I
    mean, they are beginning to unwind their balance sheet, as was
    said. I think--I wish they could do it a little faster, I
    think, because I think that is--
        Mr. Williams. Could you talk closer to the mic, please?
    Thank you.
        Dr. Plosser. Sorry. I think they are not doing anything
    immediately that is not appropriate. They are unwinding their
    balance sheet. I wish they would focus more on unwinding from
    the MBS and shrinking their balance sheet a little bit faster.
    In fact, I think that is actually more important right now than
    raising interest rates.
        Mr. Williams. OK. Mr. Levy, thank you for being here today.
    In your testimony, you acknowledged--rightfully so--that the
    actions of the Fed following the economic crisis have, in your
    words, extended the role of monetary policy beyond its normal
    scope. You say that the Fed's position that QE3 was responsible
    for increases in employment and economic expansion reflect a
    great deal of hubris.
        I would tend to agree with you. Do you agree with the
    characterization that the purchase of mortgage-backed
    securities by the Fed is a dangerous long-term strategy?
        Dr. Levy. Yes, I agree. Particularly we have--once again,
    the Fed's original purchases of MBS, November 2008, was as
    Chairman Bernanke said, an absolute emergency. The MBS market
    was frozen and really threatened the global financial system.
        We are no longer in an emergency. Financial markets are
    normal. Mortgage markets are normal. Housing market is doing
    just fine. Why is the Fed the largest holder of MBS in the
    world? It just absolutely doesn't make any sense, and it is not
    a good long-run strategy.
        So once again, I think we need to distinguish between the
    proper role of the central bank during an emergency and the
    proper role during normal times. And we are certainly in normal
    times now.
        Mr. Williams. OK, let me ask you another question. Will the
    proposals before us help to successfully unwind the excessively
    large balance sheet of the Fed, do you think?
        Dr. Levy. Excuse me, sir. I didn't--maybe I didn't hear--
        Mr. Williams. Yes, will the proposals before us help to
    successfully unwind the excessively large balance sheet of the
    Fed?
        Dr. Levy. It won't hurt it, but it doesn't directly address
    it. I mean, so right now, the Fed's strategy for unwinding its
    balance sheet ever so gradually and passively effectively
    involves reinvesting all but about 97 percent of MBS and
    Treasury holdings, this very gradual unwind.
        And it is a step in the right direction, but I think it
    should be more aggressive, because once again, I don't think
    the Congress or the Fed are really considering some of the
    risks involved, but not just the Fed stepping over the bounds
    into fiscal policy, but there are just massive risks, including
    the risk that Congress thinks of this as risk-free money to
    spend. And that is very dangerous.
        Chairman Barr. The gentleman's time has expired.
        Mr. Williams. Thank you, Mr. Chairman.
        Chairman Barr. Thank you. The gentleman's time has expired.
    The Chair now recognizes the gentleman from California, Mr.
    Sherman.
        Mr. Sherman. Mr. Chairman, I want to thank you for putting
    up a quote from Congressman Brad Sherman when it was your time.
    I can think of no more credible analyst. And you quote me to
    say that Section 13(3) is still a dangerous code section.
        Dr. Bernstein points out that because of the other
    provisions of Dodd-Frank, it is less likely to be needed, which
    means it is less likely to be abused, but it is also less
    likely to be necessary. So the question then is, how can we
    make it even less likely to be necessary? And first thing we
    should do is break up the too-big-to-fail.
        Too-big-to-fail is too big to exist. And we should never
    have a circumstance where the Fed is tempted to use 13(3) or to
    come to us for emergency legislation, as they did successfully
    in terms of passing their legislation, by saying, look, if this
    one entity goes under, it is taking the entire economy with us.
        I would point out that one thing that 13(3) does not have
    is a dollar limit. I remember when the chair of the Fed was
    here and I proposed either a $4 trillion or an $8 trillion
    limit, and the Fed chair would not go along with that, that was
    at a time when it wasn't being used at all. So it is--clearly
    Congress should be consulted at some stage.
        Mr. Plosser, you point out that we should not use 13(3) to
    help any one individual or company. There is a constant debate
    in our society between democracy and rule of the philosopher-
    king experts. You would think that democracy had won that
    debate. I am by no means sure.
        I think that there is general agreement that the people of
    the country can elect politicians, so long as those politicians
    don't control anything that is thought to be really important,
    and that if politicians do, that process is known as
    politicization of what actually the philosopher-kings should
    control.
        Mr. Levin, you point out that the Fed shouldn't suffer from
    second-guessing. Welcome to Washington, D.C. I don't think
    there is a member of this committee who is not second-guessed
    on everything they do at all times. And the financial press
    seems to exist for the sole purpose of second-guessing the Fed.
        Speaking of whether the Fed is predictable or not, they are
    absolutely and totally predictable within one quarter of 1
    percent. That is pretty good. Reasonable minds on the Fed can
    differ to the extent of one quarter of 1 percent. They are far
    more predictable than anything else I am aware of.
        The problem with the Fed balance sheet is that they are
    shrinking it when they should be growing it. You can say there
    is no crisis, but wages remain stagnant. That leads to divorce.
    It leads to drug abuse and opioid abuse. It leads to broken
    families. It leads to a host of problems that we would not have
    otherwise. And so it may not be a crisis for the whole country,
    but it is a crisis for millions of families.
        Let's see. So I want to focus--since I have Dr. Bernstein
    here, on the tax provisions. We were talking about those
    earlier. Oh, and I do want to thank, as long as the--I mean,
    the majority has put my quote up on the board knowing that I
    should follow their lead. I have also put my own material up on
    the board.
        And I want to point out that the abandonment of
    quantitative easing is going to cost our Treasury between $80
    billion and $100 billion a year. And we live in this strange
    world where almost everyone except our witnesses are unaware--
    and maybe some of our members are unaware--that this money is
    coming into the Treasury. And then our witnesses live in a
    world where that is shameful, because it is unintended, because
    that isn't the purpose of the entity. I would say that if you
    were in the private sector and your byproduct starts making you
    huge amounts of money, that creating the byproduct becomes one
    of the purposes of the company.
        But, Dr. Bernstein, did the models on the effect of this
    tax law, do they deal at all with the increase in the trade
    deficit due to the strengthening of the dollar due to the
    increase in Federal borrowing?
        Dr. Bernstein. I know my time is up. I will answer you with
    one sentence. The theory of the case on the tax cuts is that
    the cut in the corporate rate will draw in capital flows from
    abroad, and those will increase the trade deficit.
        Chairman Barr. Gentleman's time is expired. The Chair now
    recognizes the gentlelady from Utah, Mrs. Love.
        Mrs. Love. Thank you. Thank you all for being here. In
    previous hearings regarding the Fed and monetary policy, we had
    discussions about the Fed being just as bad as everyone else at
    economic and financial forecasting, despite having an army of
    PhD economists running complex computer models.
        Why do you think the Fed is so bad at forecasting? And I
    was wondering if I can get your thoughts on that, Dr. Plosser.
        Dr. Plosser. I think that economists in general are not
    that great of forecasters. That is just the reality of it. Many
    of the things that go wrong with forecasts are the things
    that--are events that occur that weren't forecastable and
    therefore cause problems.
        I also think that actually raises the importance of the
    distinction between what we might call a rules-based strategy
    and a discretionary strategy. Discretionary strategy says the
    Fed will do what it wants to do when it wants to do it for
    reasons that it feels it wants to, OK? That is very
    unpredictable as to how that is going to respond.
        Mrs. Love. Right.
        Dr. Plosser. But the future is uncertain. Always has been
    uncertain and will continue to be uncertain. The value of many
    of the rules-based strategies and the strategies where you
    articulate, well, what will the Fed do if this or this happens?
    Right?
        Mrs. Love. Right.
        Dr. Plosser. That reduces uncertainty. You don't have to
    guess what the Fed will do. It won't make up new reasons for
    doing the thing it is doing. It will be a bit more predictable.
        Mrs. Love. OK.
        Dr. Plosser. Because the future is predictable.
        Mrs. Love. Right.
        Dr. Plosser. So I think that we have to just accept the
    fact that the future is unpredictable and think about
    strategies that allows the Fed to operate in an unpredictable
    world in a predictable way.
        Mrs. Love. OK, I am glad you said that, because I am trying
    to figure out a way to do that. So according to former Federal
    Reserve Board Governor Kevin Warsh, currency stability is one
    of growth's best friends. He also worried that the Fed's
    extraordinary tools encouraging businesses to favor financial
    engineering over capital investment and consequently weakened
    growth in business investments is providing to be an
    opportunity killer for workers.
        Do you agree with that assessment or disagree with that
    assessment? Yes, I am still sticking with you. Yes.
        Dr. Plosser. I apologize. I am sorry. I thought you were
    talking to Dr. Levin.
        I agree with most of it. I do think that many of us said
    during both very low interest rate period when we reached zero
    and during quantitative easing that much of the effects of
    those efforts were absorbed in financial re-engineering by
    companies, restructuring corporate debt policies, and one of
    the big puzzles for the recovery and one of the reasons it was
    slow was the fact that real business investment didn't grow
    like it had in previous recoveries. It wasn't as responsive to
    the typical tools of monetary policy.
        We saw this effect in financial re-engineering,
    restructuring of debt, so forth and so on. So I think there
    is--I share a lot of the concerns in that statement.
        Mrs. Love. OK, I want to get to Dr. Levy, because we have
    had an opportunity to discuss this before. You and I have
    talked in previous hearings about the relationship between
    monetary policy and employment. And why do you think that the
    Fed's policies have been such a boom for what Kevin Warsh has
    referred to as financial engineering, while leaving too many
    Americans underemployed and barely able to make ends meet?
        Dr. Levy. This is a great question. So getting back to Dr.
    Plosser's comment, and Kevin Warsh's comment, it is critically
    important to point out that while the Fed was very successful
    in lowering the real cost of capital, businesses didn't
    respond. And they didn't respond for a host of non-monetary
    reasons, including tax and regulatory policies.
        Now, to your point on employment, there are so many factors
    affecting employment and wages that go so far beyond monetary
    policy. Productivity has been slow. This should be a
    subcommittee on education, because let me give you an important
    statistic. Eighty-five million people, working-age population,
    have a high school degree or less. Wages tend to be low.
    Monetary policy can't do anything about it.
        OK, so--and you could go through a host of other government
    regulations. So this is why I am emphasizing that we all want
    higher standards of living. The issue is, what is the proper
    role of monetary policy? So the Fed could add on QE3 and QE4
    and up to a zillion, and it is just not going to create the
    type of employment gains and wage gains that we all really
    want.
        Chairman Barr. The gentlelady's time has expired.
        Mrs. Love. Thank you.
        Chairman Barr. Gentlelady's time has expired. The Chair now
    recognizes the gentleman from Arkansas--the Chair recognizes
    the gentlelady from Wisconsin?
        Ms. Moore. Yes, thank you so much, Mr. Chairman. Excuse
    this interruption. I would like to ask unanimous consent to
    place a statement in the record from Better Markets. There was
    a quote attributed to them taken from a release issued in 2015
    when the Warren-Vitter bill was introduced. And they just want
    to clarify the differences in that bill and what is being
    offered here today, just for the record.
        Chairman Barr. Without objection. So the statement will be
    entered into the record. And the Chair now recognizes the
    gentleman from Arkansas for 5 minutes.
        Mr. Hill. I thank the Chairman. Appreciate you and Ms.
    Moore convening this hearing. And thank our excellent panel.
    Appreciate all of your participation, as well.
        This subject of Federal Reserve independence from credit
    policy is not new to this subcommittee, and so I am glad we are
    continuing this discussion. As Marvin Goodfriend, a professor
    of economics at Carnegie Mellon, said in 2014, I think it was--
    he summarized it nicely, said flexibility and decisiveness are
    essential for effective central banking. Independence enables
    the central bank to react promptly to macroeconomic or
    financial shocks without the approval of the Treasury or the
    legislature. Central bank initiatives must be regarded as
    legitimate by the legislature and the public. Otherwise, such
    initiatives will lack credibility essential for their
    effectiveness.
        The problem is--which is what we are talking about today--
    to identify the limits of independence on monetary policy and
    credit policy to preserve a workable, sustainable division of
    responsibilities between the central bank and between the
    fiscal authority. And I think that is really at the heart of
    what we are talking about today.
        And if we have an efficient monetary policy, then it helps
    our private markets allocate goods and services, most readily--
    finding their most promising opportunity. And if we engage in
    what we have done over the past 10 years, we really skew the
    price mechanism and skew investment. So I really appreciate
    your testimony, all of your testimony.
        We have seen around the world unprecedented accommodation,
    not only here in the United States, but in central banks around
    the world, where I think Japan now is somewhere approaching 100
    percent of GDP with the size of its balance sheet, and we are
    at about a quarter of our GDP. And in Europe and in Japan
    particularly, we have $12 trillion, $13 trillion of sovereign
    debt at negative interest rates. And we have some of those
    central banks buying corporate debt and equity obligations,
    something that we have certainly been concerned about here.
        So I do think, as the Ranking Member noted, that there are
    concrete reasons why we are having this testimony and thinking
    about why those distorted price signals and the mixing of
    credit and monetary policy are not a good thing for our
    country.
        Dr. Plosser, in talking about Treasury-only, I want you to
    emphasize that we have 40 percent of the new issue MBS owned by
    the Federal Reserve right now. We have about 15 percent of the
    Treasury market, more or less, since the crisis. And I think--
    last time I looked at their statement, they own 4 percent of
    other, which includes Maiden Lane, which I guess is the
    residual detritus of Bear Stearns.
        Your concept is that we just simply--whether it is a 13-D
    action or any other action, if we the Fed take on a non-
    Treasury asset that in some reasonable amount of time we ask
    the ultimate fiscal authority of the Treasury to take that and
    swap Treasuries back to the Fed, isn't that what we are talking
    about?
        Dr. Plosser. That is the essence of it, yes, Congressman.
        Mr. Hill. So that doesn't--it doesn't per se that--and I
    agree with Dr. Bernstein. We have to be very careful in how
    that is done and the timeframes and we don't want in a crisis
    to make things more difficult. But the ultimate issue is that
    the Treasury, just like if it hadn't done a very effective job
    in getting rid of their final TARP assets, they would be
    liquidating Maiden Lane and not leave that over at the Fed.
    Isn't that an example of what you are talking about?
        Dr. Plosser. That is essentially what I have been arguing,
    exactly that.
        Mr. Hill. And--
        Dr. Plosser. And by the way, there was a memo written
    between the Treasury and the Fed back in--it was in 2009, where
    there was an understanding that the Treasury would do
    everything--because this discussion started way back then--that
    the Treasury would do everything it could to relieve the Fed of
    those private-sector assets, recognizing that they were really
    the responsibility of the fiscal authorities.
        That never happened, obviously. And so I think this is
    really about the process of restoring the Fed so it can
    continue to conduct monetary policy in a manner that is
    appropriate without--with Treasuries, rather than trying to
    deal with the Maiden Lanes of the world.
        Mr. Hill. Well, not only be neutral between the private
    markets on that credit allocation and monetary policy, but also
    put the fiscal authority, which is under the purview of the
    Congress, into whether we are going to spend money on one thing
    or another to, quote, intervene in markets in the time of a
    crisis. I think you make a good point. I yield back, Mr.
    Chairman.
        Chairman Barr. Gentleman yields back. The Chair now
    recognizes the gentleman from Minnesota, Mr. Emmer.
        Mr. Emmer. Thanks to the Chair. And thank you to this great
    panel for being here today.
        I want to followup on Mrs. Love's questions relating to
    Kevin Warsh's quote about financial engineering. And, Dr. Levy,
    since you were on this when the time ran out, can you give me
    some examples of the types of financial engineering that Mr.
    Warsh was referring to?
        Dr. Levy. Quite simply, by keeping rates at zero, so the
    cost of capital is zero, that gives companies the flexibility
    to alter their liability structure, alter their capital
    structure in any way. And the problem you run into is when you
    are running a company, and your Treasury Department starts
    making too much money, and your basic business isn't, things
    aren't good.
        I hate to say this in such lay terms, but if it becomes so
    financially advantageous to take advantage of the current
    financial system to generate profits, then you take your eye
    off your basic business ball. And I think a lot of that
    happened.
        So once again, if we go back to what the Fed tried to do
    and was very articulate about in--say, its QE3, Chairman
    Bernanke when he rolled it out says, OK, QE3, we want to pump a
    huge amount of excess liquidity into the economy, keep rates
    very low, and through forward guidance convince markets we are
    going to keep rates really, really low for a really long time.
    We want to encourage risk-taking and push up asset prices, and
    all of that is going to stimulate aggregate demand.
        It did all of that, but it didn't stimulate aggregate
    demand. Once again, I will emphasize, I understand employment
    went up, but nominal spending growth in the economy didn't
    accelerate. And so when economists talk about distortions, you
    can drill down to what it means for household decisionmaking
    and business decisionmaking.
        Mr. Emmer. So what do you think the Fed should be doing to
    encourage capital investment and job creation instead of this
    financial engineering? Instead of making too much money through
    the Treasury? What would a better approach be?
        Dr. Levy. Well, I think the Fed should proceed to normalize
    interest rates, and that means raising rates right now toward 3
    percent. I don't think it should--which would mean 1 percent
    real rate. I don't think it should be sidetracked from that due
    to low inflation or any international whatever should come up.
        And I think on its balance sheet, the Fed should, once
    again, proceed with a strategy to unwind all of its mortgage-
    backed holdings over, say, a period of 5 years, which is
    reasonable. You could do most of it passively. You wouldn't
    have to sell any. And to basically normalize policy and set the
    record straight about what the proper scope of monetary policy
    is, and I think that would reduce uncertainty and build
    confidence in the private sector.
        Mr. Emmer. Well, that is interesting, your last statement,
    because my next question was, in your opinion, has the Federal
    Reserve done a sufficient job of announcing to the American
    people a clear and consistent strategy on how it plans to spur
    economic growth?
        Dr. Levy. The Fed's tried to be transparent, but because it
    has not had a strategy, it is very difficult to be clear. And
    so while they talk about transparency, their message oftentimes
    gets muddled without a strategy. And so once again, I think the
    Fed should--during a healthy economic period, it should stick
    to its monetary knitting and not try to get itself involved in
    fine-tuning the economy and giving mixed signals to markets.
        And I do think the Fed's forward guidance during parts of
    this economic expansion, expressing worries that even a 25
    basis point hike in rates could generate the next recession, it
    is certainly not a positive for confidence.
        Mr. Emmer. It is not helpful. Thank you. I yield back.
        Chairman Barr. Gentleman yields back. The Chair recognizes
    the gentleman from Indiana, Mr. Hollingsworth.
        Mr. Hollingsworth. Well, good afternoon. I appreciate
    everybody being here. It is a rare day when you face four
    doctors sitting across from you. Consider it a pleasant
    experience, right?
        But I wanted to talk a little bit more about what has been
    discussed already. And I think that one of the challenges here
    is--on both sides of the aisle is confusing the counterfactual
    a little bit. We say, oh, growth is non-zero, thus things are
    going great. Bank profits are greater than zero, thus things
    are going great.
        But I think the literature looking back on this shows how
    loan growth has been severely constrained compared to coming
    out of previous recessions. And so one of the things that I
    wanted to talk about was interest on excess reserves and how
    that may be slowing banks' willingness to make loans to other
    creditworthy borrowers and to mobilize those loans into capital
    investment loans.
        As you well said, Dr. Levy, that investment has certainly
    been sub-par compared to previous expansions. And I guess in my
    view, and maybe this has gone out of fashion, but in the super
    long run, it is productivity that generates economic growth.
    And monetary policy has the ability to move things around on a
    temporary basis or on a short-term basis, but ensuring that we
    ultimately create a more productive work force, so we create
    more productive uses for capital is hugely important. I wonder
    if you could talk a little bit about how interest on excess
    reserves may be constraining those investments.
        Dr. Levy. OK, so the Fed pays interest on excess reserves,
    and for--they put this in place in October 2008. And for a
    large portion of the period recently, that interest they pay on
    excess reserves has been above the effective funds rate, and
    therefore that is--it is one factor but not the only factor
    that has probably constrained bank lending.
        I would also note another factor here is that the Fed
    stress tests, while they have been successful in leading
    particularly large banks to raise their capital adequacy
    standards, I can tell you when bank executives deal with stress
    tests all day long--
        Mr. Hollingsworth. Their stress goes up.
        Dr. Levy. --they are in no mood to make a loan. And the
    lenders down the hall say I don't want to make this loan
    because the risk of making a mistake is very, very large. So I
    think it all adds up to--
        Mr. Hollingsworth. If you have a regulatory environment
    that dampens loan growth, and then you have the ability with no
    counterparty risk whatsoever to earn above market rates at the
    Fed, why take on risk without any apparent gain? Right? And,
    Dr. Levin, I was hoping that you might comment on that, as
    well.
        Dr. Levin. Well, I think I agree with you that the interest
    on reserves was, you know, granted by the Congress to the
    Federal Reserve at a time when banks were earning zero
    interest. And that was viewed as a distortionary cost that was
    discouraging banks, and effectively disintermediating funds
    from the banking system elsewhere, because banks are required
    to hold some reserves at the Federal Reserve.
        This is a crucial question. I think that a part of the
    solution to this in my view is that Congress should authorize
    the GAO to do comprehensive annual reviews of all aspects of
    the Fed, including in the monetary policy--including interest
    on reserves. I think there is a real question in my mind why
    the Federal Reserve is paying a significantly higher rate on
    interest on excess reserves compared to, say, the rate in the
    repo market or the Treasury bill market.
        Mr. Hollingsworth. It is certainly something on our minds,
    as well, as we continue to focus on that. Obviously, what we
    want is capital mobilized in the real economy to make
    investments, private-sector investments such that productivity
    will grow over the long run so that we can realize those
    benefits as Solow predicted.
        Anything that you wanted to add to that, Dr. Plosser?
        Dr. Plosser. So I agree with what is been said, but I would
    like to go back to the beginning of your statement and remind
    everybody that one of the dangers that we slipped into during
    this period--and oftentimes do--is relying on the Fed to be the
    solution to all our economic problems. And it is not, and it
    can't be.
        The real key to economic growth is productivity.
    Productivity of the work force--
        Mr. Hollingsworth. Productivity generated by private
    capital making investments, continuing to grow the economy.
        Dr. Plosser. And the Federal Reserve cannot determine that.
        Mr. Hollingsworth. I think that is well said.
        Dr. Plosser. And I think--well, you said it. I was just
    reiterating how important I think it is.
        Mr. Hollingsworth. You know what? I like that even better.
    And I think the addiction to Federal Reserve intervention,
    especially as you well said during positive times of economic
    growth, continues to endanger their ability to come to any sort
    of help during periods of great acute stress.
        Dr. Plosser. This is the most interventionist Fed in
    private markets, even today, than it has been in the last 50
    years, at least.
        Mr. Hollingsworth. Thank you, Dr. Plosser. I yield back.
        Chairman Barr. The gentleman's time has expired. The Chair
    now recognizes the gentleman from Ohio, Mr. Davidson.
        Mr. Davidson. Thank you, Mr. Chairman. And I want to thank
    our guests. I really appreciate your testimony here and in
    writing. And I have learned a lot from some of your other
    writings.
        So, Dr. Plosser, could you elaborate on some of the real
    economic opportunities for American households and businesses
    should they benefit from monetary policy framework that drew a
    brighter line between accountability for fiscal and monetary
    policy?
        Dr. Plosser. Well, I think there are a couple of ways to
    think about that. One, it is separating roles and
    responsibilities and accountability. I think in many cases,
    households are worried a lot about what the Fed's going to do
    next and what it is going to do to interest rates. And frankly,
    I believe the Fed is not as powerful over interest rates and
    the real economy as people seem to believe.
        If you remember, when the Fed began tapering and stopped
    buying assets, it was because it was concerned about interest
    rates, long-term interest rates were going to rise. They
    didn't. They fell for about a year. So I think that this
    fixation on the Fed's ability to control productivity growth,
    real wages, lots of other things is overblown and that we need
    to scale back those expectations and look for things that focus
    on productivity that can make the economy grow. And that is
    what is going to make the real lives.
        The contribution of the Fed is going to be mainly keeping
    inflation low and stable. Alan Greenspan used to say that is--
    when inflation becomes a non-issue for people's lives, then we
    are doing OK.
        Mr. Davidson. Terrific. One of the things that have made
    inflation such a constraint thing hasn't really been monetary
    policy, but it has been the strength of the dollar and the
    power of trade. Some of those dynamics that have taken place--
    of course, some of that has led to challenges to the U.S. as
    the de facto reserve currency.
        Dr. Levin, I was wondering if you could comment on that, as
    a future challenge, and what role the central banks--in this
    case, the Fed in particular--could play?
        Dr. Levin. Well, I think that the Federal Reserve is the
    most important central bank in the world for sure. And it is
    not just Americans who want to understand better what the
    Federal Reserve does. It is true all over the world. Other
    central banks are also trying to understand what the Fed's
    decision is and what its strategy is.
        So I just--I want to come back to this question about
    strategy for a second. I think one way to think about this--the
    purpose of the legislation you are adopting today is maybe
    relatively innocuous during normal times. Some of it is
    specifically directed toward emergency credit and toward
    actions that would happen in an emergency.
        Even the benchmarks--I think during normal times it is true
    that the--for example, the Federal Reserve barely changed the
    Federal funds rate for a number of years in the 1990's when the
    economy was on a steady course. I think the purpose of this
    legislation is to have it in place the next time around.
        What are the contingency plans the Federal Reserve is going
    to follow? Those should be clarified in advance. I remember, I
    was at the Fed at the time. People referred to it as throwing
    spaghetti at the wall to see what sticks. And that is not an
    appropriate thing to do. It is important for Congress to
    understand ahead of time what the Federal Reserve is going to
    do in an emergency.
        The strategy for monetary policy I think of as a little bit
    like a patient who is a child, and you are the patient's family
    in some sense who needs to consult with a team of doctors that
    you respect and trust, but you want to consult with them and
    understand the strategy that is being followed. The strategy.
    It has to be one strategy.
        And it is absolutely true, the economy has lots of
    uncertainty. Someone asked earlier about forecasting. But a
    good team of doctors are going to say, look, here are some
    risks, we have to take seriously those risks. If this
    materializes, here is the action plan we are going to take. And
    so those are the sort of things I think you are asking the
    Federal Reserve to start doing.
        Again, it is not hawkish or dovish. It is good governance
    here and accountability and transparency. It will help the
    world economy--
        Mr. Davidson. Correct. And so I agree. And I think the
    challenge, when you talk about the Emergency Lending Act, when
    you look back, so this was forward-looking. Now, if you say--
    well, let's say there is this accountability and we have to
    check. What do you see the implications of a potential reversal
    with the congressional accountability to say, you have done
    emergency lending, we think that was a bit of an overreach.
    What do you see as the implications for that level of
    accountability?
        Dr. Levin. OK, so the critical thing, again, just use this
    analogy with the patient and the patient's family and the
    doctors. Try to consult ahead of time so that by the time when
    the operation--again, I strongly believe you can't micromanage
    the Fed. It has to be able to make decisions on a day-to-day
    basis. But what the Federal Reserve should be doing is
    consulting in advance to say if this happens, we may need to
    carry out this emergency procedure. And the patient's family
    gives a directive to say, OK, we can live with that.
        So the up-or-down vote that this legislation is proposing
    hopefully what would not happen is a panic, but what would
    hopefully be happening is, oh, OK, the risks are increasing, we
    need to launch this emergency facility, and Congress says, yes,
    you have been explaining that to us for a number of months or
    years, and we are comfortable with your going ahead.
        Mr. Davidson. Thank you. My time has expired. I yield back.
        Chairman Barr. The gentleman's time has expired. The Chair
    recognizes the gentleman from West Virginia, Mr. Mooney.
        Mr. Mooney. Thank you. My question is primarily aimed at
    Dr. Levin. And first, go big green, Dartmouth class of 1993
    here. I will be heading back for my 25th reunion this summer.
    Maybe I will see you up there.
        But you have touched a theme that has been of concern to me
    for a while of Congress delegating, giving up, just receding
    its authority to Federal administrative branches. I see that in
    a lot of places, not just with monetary policy. I see it with
    environmental policy in my State of West Virginia. I have seen
    it with--gosh, even declaring war on foreign countries, going
    to war in foreign countries. I mean, we are seeing it a lot of
    places. And I think Congress needs to reassert itself.
        In the written testimony, I want to reference the written
    testimony from Mr. Bernstein, where he emphasized the
    importance for Congress to maintain central bank--for Congress
    to maintain central bank independence and, quote, efficient
    functionality, close quote. So, Dr. Levin, does the draft
    legislation that you reviewed for the hearing--do you believe
    it compromises monetary policy independence or compromise
    efficient functionality, as your colleague has expressed a
    concern about?
        Dr. Levin. OK, look, there is the broader picture and then
    there are the details. Let's just start with the broader
    picture. That is why I started with the exhibit. Basic
    management principles. The Congress has to be the boss. The
    Federal Reserve is not an independent branch of government. It
    reports to you. And it is absolutely essential for you who are
    elected officials by the public--I agree with what Congressman
    Sherman said before. You are the ones who are elected by the
    public to oversee the Federal Reserve. It cannot be truly
    absolutely independent. It has to be conditionally,
    operationally independent.
        Now, I think this draft legislation at a fundamental level
    is consistent with the operational independence. In fact, I
    think, as Dr. Plosser said, I think it would strengthen in some
    ways the operational independence of the Fed.
        There are details of some of these things about how many
    days, for example, before the congressional approval has to be
    given, which exact types of securities under which conditions
    can be purchased. I hope that--I understand that your committee
    is going to be marking up this legislation next week. It seems
    to me that there may be some room for consultations and
    compromises, as you always do. But, again, this seems to me as
    a matter of good governance and transparency and
    accountability, and I hope there is a way forward to enact
    this.
        Mr. Mooney. OK, thank you. Mr. Chairman, I will yield back.
    Give my time back to the Chair.
        Chairman Barr. The gentleman yields back. The Chair
    recognizes the gentleman from North Carolina, Mr. Pittenger.
        Mr. Pittenger. Thank you, Mr. Chairman. And thank each of
    you for being with us today. It is an honor to have you join
    this committee.
        I would like to follow up, if I could, on some of Mr.
    Williams' questioning. Mr. Levy, if you could just expand
    further on what you believe to be the economic risks that are
    created by maintaining a balance sheet of the current size?
        Dr. Levy. There is economic and interest rate risk, and
    there is also political risk. As far as the economic risks go,
    the Fed at its peak remitted about $115 billion, I think in
    Fiscal Year 2015. Now it is remitting about $85 billion. It is
    paying IOER, and bond yields have come down some.
        This crosses the monetary boundary of policy into fiscal
    policy. If it sounds OK because it reduces the budget deficit,
    but that is temporary, and it is very risky, because as I
    noted, if interest rates rise by 1 percent, which is very
    consistent with the Fed's expectation that rates are going to
    rise, and inflation is going to go to 2 percent, then that is
    going to add $1.6 trillion to the deficits. And so that is a
    risk.
        The other risk is political. And that is it is too easy for
    Congress to look at this as risk-free money and to spend it,
    and to look at the Fed as a source of risk-free money. And
    doesn't this jeopardize the independence of the Fed? And Dr.
    Plosser pointed out that in December 2015, the Fed--in order to
    pass the FAST Act, the Congress actually borrowed some of the--
    took some of the Fed's assets. And this is just inappropriate.
    It is an inappropriate use of monetary policy.
        And so the Fed by doing what it is doing has these
    political and economic risks. And it is kind of egging on the
    Congress to take advantage of it in bad ways.
        Dr. Plosser. Excuse me, can I--
        Mr. Pittenger. Please, Dr. Plosser.
        Dr. Plosser. --elaborate a little bit as an example? The
    danger is--with the last time I testified here last year one
    time, I got asked, well, why shouldn't the Fed fund our
    infrastructure projects by blowing up their balance sheet some
    more? There is a real problem in many central banks around the
    world with exactly that.
        The Bank of Switzerland, for example, has a very large
    balance sheet. It is mostly made up of foreign reserves,
    currency reserves. They are in a deep political battle because
    some parties within Switzerland want to use that balance sheet
    to invest in green energy, Swiss companies, other types of
    activities in the name of diversifying the Swiss National
    Bank's balance sheet.
        If the Fed maintains a large balance sheet that is not tied
    to monetary policy, the use of that balance sheet can--the
    temptation to use that for other purposes is going to be great.
    And I think the idea of shrinking the balance sheet and tying
    it to monetary policy will constrain that activity and actually
    protect the Fed from abuses and prevent it from undertaking its
    own abuses of its balance sheet.
        Mr. Pittenger. Yes, as a follow up, would you say, then,
    that it is time for the Federal Reserve to get out of the
    business of engaging in credit policy?
        Dr. Levy. Yes. The Fed should set out a strategy to wind
    down its MBS holdings. There is no reason at all for the Fed to
    hold MBS, unless in an emergency situation. And it can do so
    over, say, a 5-year period through passively unwinding the
    portfolio in order to give the mortgage market time to adjust.
    It need not sell any to do that.
        Dr. Bernstein. Can I make a quick comment, if that is OK?
        Mr. Pittenger. You can.
        Dr. Bernstein. Any time the Federal Reserve engages in
    monetary policy, it is raising or lowering interest rates, and
    that is credit policy. So I am not sure I understand this
    distinction at all.
        Chairman Barr. The time is--I am sorry.
        Mr. Pittenger. Quickly.
        Chairman Barr. Quick answer. The time of the gentleman has
    expired. So quick answer.
        Dr. Levy. OK. The quick answer is the Fed by holding MBS
    securities is specifically biasing the mortgage market at the
    expense of other credit markets.
        Mr. Pittenger. Thank you. My time is expired.
        Chairman Barr. The gentleman yields back. The Chair now
    recognizes the Chairman of the Capital Markets Subcommittee,
    the gentleman from Michigan, Mr. Huizenga.
        Mr. Huizenga. Thank you so much. Sorry, I was a bit late
    earlier. I was--actually had a couple of bills on the floor
    that we were moving forward with. And those duties kept me
    there.
        Before I launch into it, I thought it was interesting, the
    Ranking Member submitting a statement from Better Markets
    rebutting themselves, basically a situation where they believe
    found themselves inadvertently supporting us and what we are
    doing. And heaven forbid. We wouldn't want to actually come to
    consensus and move forward on something.
        So whether it is Warren-Vitter or Barr-Moore, I don't care.
    Whatever the title and label might be, let's get some of these
    things done that have broad, wide consensus, and not be
    political about it. So off of my soapbox on that.
        Dr. Levy, just want to touch base. Obviously, you watch
    financial markets around the world and on a regular basis and
    see the real effects, how monetary policy increases those
    spreads and decreases economic growth. You have talked about
    this in the past, and I am curious if you could just comment
    how important it is for this legislation to sustain or even
    improve upon the stronger economic data, which we have seen
    over the last couple of quarters.
        Dr. Levy. I think by normalizing monetary policy it would
    take away the monetary crutch from the economy and financial
    markets. It would not harm the economy, and it would lead
    financial markets to be much healthier. The other point I would
    add is by--and here I just applaud what Dr. Levin has
    emphasized--if the Fed actually had a single, understandable,
    and cogent strategy, it would certainly make it easier for the
    Fed to convey that message. It would build confidence.
        And once again, the proper role of the Fed, we have seen it
    go far beyond its scope. Its discretionary policy has created
    uncertainty. And I would really like to see more of a strategic
    approach that lays that foundation for the economy to grow at a
    healthy rate. And financial markets adjust.
        Mr. Huizenga. I think many of us are looking forward to
    just the strategy as you just laid out. Dr. Plosser, good to
    see you again. And I want to talk a little bit about your
    article you wrote for the Hoover Institute entitled ``Why the
    Fed Should Only Own Treasuries.'' And that article, I want to
    quote you, if that is all right. ``History teaches us unless
    governments are constrained constitutionally or by statute,
    they often resort to the `printing press' to avoid making tough
    fiscal decisions. But in a democracy, independence must come
    with limitations on the central bank's authorities and
    discretionary powers. Otherwise, central bankers can use their
    powers to venture into policy realms unrelated to monetary
    policy, especially fiscal policy, which more appropriately
    rests with elected officials.''
        And as you know, obviously those Fed balance sheets not
    only increased in size during the financial crisis, they added
    large quantities of non-Treasury securities, I think as you put
    it. Your article highlights that the more troubling loans under
    Section 13(3) that, quote, ``amounted to debt-financed fiscal
    policy without the explicit authorization of Congress.''
        So, Dr. Plosser, in your opinion, what are the downside
    risks of blurring these lines of accountability for monetary
    policy and fiscal policies?
        Dr. Plosser. Well, I think as we have been talking off and
    on this afternoon, it is that blurring that is dangerous.
    Because what that does is confuses both in the eyes of the
    fiscal authorities and the monetary authorities and the public
    who is responsible for what. And who do we hold accountable for
    what?
        And when you put taxpayer money at risk and you buy
    portfolios of private assets on the banks' part, you are, in
    fact, putting taxpayer money at risk. And you are investing in
    whatever it happens to be, MBS mortgage portfolios or whatever
    happened to be on the balance sheet that the Fed chose to buy,
    you are taking fiscal actions.
        Mr. Huizenga. Is your concern sort of a winners versus
    losers? And these governments kind of picking it? Or just in
    general, and I am a huge fan of the Swiss normally, but I hope
    that they don't head in the direction that you described.
        Dr. Plosser. Well, they are getting pressure to head in
    that direction. That is absolutely true.
        Mr. Huizenga. Yes, and we have had that. And the downside
    of that seems--we are allowing a central bank to venture into
    some waters that it just has no business going. Is that your
    opinion?
        Dr. Plosser. Yes, it is. And it is a bit of a slippery
    slope, because it is very tempting on the part of both parties
    to let that--but then it is--again, it is hard to hold the Fed
    to make it transparent and to hold it accountable for the kind
    of things that you actually want them to be focused on. And the
    same thing for the fiscal authorities, by the way.
        Mr. Huizenga. Thank you. Thank you, Mr. Chairman.
        Chairman Barr. The gentleman's time has expired. And the
    members have requested a brief second round of questions, if
    the witnesses will indulge us with their considerable
    expertise. This has been a lively discussion. We appreciate
    your expertise so much that members would like to ask you a
    second round of questions.
        So I will start that second round by yielding myself an
    additional 5 minutes. Picking up where Chairman Huizenga was
    going right there, on the downside risk of blurring the lines
    of accountability for monetary and fiscal policies, Dr.
    Plosser, let's talk about the legislation that is before you
    right now. And the Independence from Credit Policy Act, which
    is one of the three bills there, how well does that legislation
    help the Fed avoid that downside risk of blurring the lines of
    accountability between monetary policy and fiscal policy?
        Dr. Plosser. This is a topic I have been talking about
    actually since 2009, was when I first raised this question and
    asked for a new accord. And the problem is that what I see in
    the legislation and what I have advocated in the past has been
    this idea that, look, 13(3) had never been used since the Great
    Depression. It is not something you are going to rely on very
    frequently.
        But my view is that it shouldn't be the authority of the
    Fed to lend money for the purchase of Bear Stearns and buy
    assets, private-sector assets. That belongs to the fiscal
    authorities. And so I actually think that the treasury
    secretary needs to instruct the Fed to carry out such an
    action. Maybe it was all decided in consultation with the Fed
    and other regulators about what needed to be done. But it needs
    to instruct the Fed so that this is not--the Fed can't take
    this on its own.
        Chairman Barr. And, Dr. Plosser, is it an appropriate
    solution to require the swap of Treasuries for mortgage-backed
    securities?
        Dr. Plosser. The Fed is the fiscal agent in many cases for
    the government, in most cases it is, and so it is appropriate
    for the Treasury to instruct the Fed to do something on behalf
    of the government as their fiscal agent, but then to keep the
    Fed whole, you would engage in a swap of those private-sector
    securities for Treasuries, and then the Fed is back to where it
    was before, and it is not responsible for that. It is in the
    Treasury that makes it--
        Chairman Barr. So the fiscal responsibilities remain with
    Treasury.
        Dr. Plosser. Exactly.
        Chairman Barr. The agency responsibilities, the monetary
    policy responsibilities remain at the Fed. Let me also allow
    you to respond to the typical criticism of Fed reform
    initiatives, and that is that when Congress intervenes in this
    way and proposes reform, that, in fact, Congress is
    compromising the independence of the Fed. Could you elaborate
    on your argument that no, in fact, this legislation preserves
    the independence of the Fed?
        Dr. Plosser. So that is exactly right. I think it helps the
    Fed, because what it does is when Congress, for example, comes
    to the Fed and say, we want you to pay for part of this
    transportation bill or infrastructure bill or what have you,
    would you buy some municipal bonds or something from--to help
    bail them out, the Fed has a basis for saying no, that is not
    in our purview.
        Chairman Barr. OK, so now, Dr. Bernstein and Dr. Levy had
    an exchange there. Dr. Bernstein made the point that
    productivity levels are not the result of unconventional Fed
    policy or discretionary Fed policy. Dr. Levy--perhaps
    productivity--low productivity is a function of a lot of things
    other than monetary policy. I think there is an agreement on
    the panel that that is the case.
        But could you address the issue of what unconventional
    monetary policy does to impede maximum economic outcomes?
        Dr. Levy. OK, so unconventional monetary policies during
    emergencies don't impede. During normal periods, they distort
    financial markets by keeping rates too low, having excess
    liquidity in the economy, and this leads to a misallocation of
    resources.
        But I would say as long as inflation stays low, it doesn't
    have a significant depressing impact on productivity.
    Productivity is a function of a whole host of other issues. I
    would say there is the long-run risk of being excessively easy.
    It catches up with you, and it could lead to undesired
    increases in inflation and interest rates.
        Chairman Barr. And so what I have heard here today from the
    witnesses is that the principal contribution that monetary
    policy can make--however limited that contribution can be--is
    primarily that it can provide--it transmits price signals,
    clear price signals to actors in the private economy, which in
    turn can provide a level of certainty for households,
    investors, and small businesses.
        Dr. Levy. Yes.
        Chairman Barr. And I think that is what we are trying to
    get at with the strategy-based monetary policy. My time is
    expired on my second round. And I would like to now recognize
    the Ranking Member for an additional 5 minutes.
        Ms. Moore. Thank you so much. Let me just open up by asking
    Dr. Levin a question. You are a former staffer at the Federal
    Reserve, so I think what you might have to tell us is very
    instructive. You attached to your written testimony a paper
    that you coauthored with several other people stressing the
    importance of diversity at the Federal Reserve. What was the
    essence of that, just very briefly? Why do you think that that
    is important? And what were you talking about in terms of
    diversity?
        Dr. Levin. OK, well, there are a couple of dimensions of
    this that are important. Jordan Haedtler, who is one of the
    coauthors, is actually sitting here. Valerie Wilson, from
    Economic Policy Institute, was the other coauthor. The three of
    us wrote this together.
        But let me just give you a couple of kind of key points.
    First, as I said in my statement, the Fed is America's central
    bank. It serves the whole public. Its decisions affect
    everyone. So there is a kind of chain of accountability here.
    The Federal Reserve reports to Congress. But the Federal
    Reserve serves the public.
        And so it is critical for the Congress to ensure that the
    Federal Reserve is serving the public as well as possible. A
    key part of our report is that the regional Federal Reserve
    banks are legally private institutions. Now, it was set up that
    way for good reasons in 1913, but you should understand that as
    of today, the Federal Reserve is the only major central bank in
    the entire world, the only one, that has such a significant
    private component to it. And so I think it is important for
    Congress over time to revisit this issue.
        One possibility is to appoint a centennial commission, some
    people have raised this idea, and that could be, I think, a
    bipartisan initiative to say that we need to reconsider this.
    Some of the rationale for what the Fed did 100 years ago, it
    was banker to the banks. That was its primary role.
        Ms. Moore. OK. Thank you. That is very helpful.
        Dr. Levin. Yes, OK.
        Ms. Moore. Dr. Bernstein, outgoing Fed Chair Yellen has
    shared with us many times that she thinks--she believes that
    inequality is very dangerous. And so as I have thought about
    the testimony here today and an assessment and evaluation of
    what the Fed did do or didn't do, one of the things I know is
    our dual mandate to look out for those who are unemployed.
        Can you share with us whether or not you think some of
    these analyses are the way they are because there is sort of
    not a deference to that other dual mandate? And what is your
    view on inequality and the danger to our role?
        Dr. Bernstein. Well, I am glad you raised that, because I
    think that those kinds of concerns have been really
    conspicuously absent from this discussion so far. And it is a
    glaring absence.
        So much of the discussion has focused on credit markets, on
    how the financial sector is doing, on messages and signals and
    certainty to the financial markets. That is all critically
    important, no question. But, in fact, if you look at the sector
    the economy that has really been doing great in recent years,
    it is precisely that side. The share of national income going
    to profitability, the equity prices of the financial markets
    have been extremely strong.
        Where we have problems--even at 4.1 percent unemployment--
    is pockets of weakness in labor demand, pockets of severe
    weakness in income growth. And it is that reason that the
    Federal Reserve has engaged in lots of the initiatives that
    have taken a hit here today from my colleagues, because
    interest rates are stuck at zero, the Federal funds rate has
    been stuck at zero, and so they needed to engage in other
    techniques in order to try to further stimulate the economy to
    reach those who have been left behind.
        If you listen to Janet Yellen talking about either this
    problem, the employment side of the mandate, or inequality, you
    will very clearly hear those concerns. And so we have to
    acknowledge that there are a lot of people who are missing in
    this room today from this discussion, and they are the people
    who are helped most by the employment side of the dual mandate.
    It has been a critical omission, I think, for much of our
    discussion.
        Ms. Moore. Anybody dying to say anything up there?
        Dr. Levin. Well, I just want to reinforce what you said
    about diversity. It is critical for the members of the FOMC and
    the Federal Reserve Board, but all the regional Fed presidents,
    to have geographical diversity. That is why it was created as a
    regional system. That is really important. They need
    professional diversity, background, different educational
    backgrounds. It is great to have a Congressman--
        Ms. Moore. You need any black people on the--
        Dr. Levin. Absolutely. Of course.
        Ms. Moore. OK, OK. My time is expired.
        Chairman Barr. The gentlelady's time has expired. The Chair
    recognizes the gentleman from Texas, Mr. Williams.
        Mr. Williams. Thank you, Mr. Chairman and Mr. Levin. The
    FOMC proposal before this body today seeks to increase
    transparency and make clear the way that the FOMC makes its
    decision. In your testimony, you discussed the fact that the
    Fed's monetary policy strategy is not well understood.
        So in what ways does the current communication policy keep
    the boss or Congress, as you say in your testimony, well
    informed about the FOMC strategy?
        Dr. Levin. OK, so, first of all, the draft legislation
    requires that the Federal Reserve have a clear strategy. That
    would already be a significant step forward. The legislation
    requires that the strategy should be--identify a specific
    policy instrument, which could be the Federal funds rate, it
    could be the repo offer rate. It might be something else over
    time. OK. It identifies a specific policy tool that it is going
    to use, identify specific indicators.
        Now, as Jared said, and I agree with him on much of this,
    there were times in the past 5 years the unemployment rate was
    not a very sufficient indicator of the labor market. President
    Trump has emphasized that himself, that there are broader
    measures of unemployment. Jared has emphasized in his
    writings--we call it U-6--you know, that includes involuntary
    participation and people on the sidelines.
        So, again the Federal Reserve needs to have a clear
    strategy or explain to the public how it is responding to these
    indicators. It should be a small number, simple, clear
    indication.
        Again, I want to come back to the analogy about the
    patient. A child, I have a 9-year-old son, so this is--it hits
    home for me. When the patient is sick and you go to a team of
    doctors, it is a difficult illness. You want a clear strategy,
    and you want--the doctors have to consult with the patient's
    family. Everyone understands that.
        And we are talking here--as Ranking Member Moore said, we
    are talking--and Jared said--this affects all Americans, in the
    inner city, it affects small businesses, it affects large
    corporations, it affects people in other countries, too. And so
    it is really critical here that this team of doctors on the
    FOMC has a clear strategy that the public, the Congress,
    financial markets, small-business people, everyone can
    understand that strategy and the debate about it.
        I am totally in favor of second-guessing, by the way. I
    second-guess the Fed myself. But if you don't have a clear
    strategy, then you can't debate about it. And it needs to be a
    public debate about what the Federal Reserve is doing.
        Mr. Williams. OK, well, let me ask you this. If the Fed
    takes a data-driven approach to monetary policy, as they have
    said they do, does it follow that allowing a clear picture in
    predicting future policy direction will be beneficial to
    investors and the economy as a whole?
        Dr. Levin. Yes. And again, during normal times, this may
    not be so complex. There may be periods when the Federal
    Reserve's policy rate is more or less normal and more or less
    stays within a narrow range over a period of time. What we are
    really talking about here with strategy is times when things
    are not normal. How is the Federal Reserve going to respond to
    that?
        I keep coming back here to contingency planning, because,
    again, this is a good business principle for a nonprofit
    organization, too, to be thinking about, what might go wrong?
    And how will the Federal Reserve respond to that? I call it
    stress tests for monetary policy. You are the boss. You should
    be asking the Federal Reserve, if we have a recession next year
    or 2 years from now or 5 years from now, what are the Fed's
    plans? How will it respond? Is it going to do more QE? Is it
    going to go to negative interest rates? These are critical to
    the whole American public and to the global economy. You are
    the boss. You have to get clear answers from the Federal
    Reserve on these issues.
        Mr. Williams. OK, Mr. Chairman, I yield my time back. Thank
    you.
        Chairman Barr. The gentleman yields back. The Chair
    recognizes the gentleman from Arkansas, Mr. Hill, for another 5
    minutes.
        Mr. Hill. Well, I have enjoyed this discussion. Of course,
    when you are with the deliberative body of second-guessers, we
    can relate to your comment. We are experts at it.
        But one of the biggest impacts of the last 10 years of
    Federal Reserve policy is skewing benefits to the carry trade
    and to stock market investors and 401(k) investors and driving
    down interest rates on real estate to, I would assume, non-
    economic type levels. So there has been a lot of beneficiaries.
        And I agree that they really have not reached a lot of the
    working people, because we have not seen wage growth or
    productivity growth, to Dr. Levy's comment about aggregate
    demand has not reacted to this 10 years of extraordinary
    stimulus, unseen in history. I mean, we are--we have never seen
    lax monetary accommodation like we have seen now.
        I want to switch bills for a minute, Mr. Chairman, and talk
    a bit about the emergency lending proposal that is before us.
    And of course, the theme that we had both in the Choice Act and
    here is well-collateralized loans not to insolvent entities at
    a penalty interest rate and at a short-term duration, but this
    bill limits that to financial institutions, supervised by the
    Fed, for example. I would be curious of the panel's view. Is
    that too narrow? Should 13(3) be limited only to commercial
    banking institutions or their holding companies, to be
    specific?
        I would just like a view from all four of you. Dr. Plosser?
        Dr. Plosser. I think that is a bit of a difficult question.
    And I do think that if you accept the notion, as the Fed has
    argued, that there are a lot of non-banks, for example, who are
    involved in financial markets heavily. And so-called shadow
    banking system, how far do you extend this safety net?
        The problem is, I think, is--if it is a safety--the
    Bagehot's rule for--Walter Bagehot rule for emergency lending
    was, as you said, lend freely at a penalty rate to solvent
    institutions. So now what we really are talking about is, do
    you want the Fed lending to insolvent institutions? And if so,
    what is the reason for that? And what is the rationale for
    that?
        That is not what lender of last resort means. So I think we
    have to be careful about how we do structure this.
        Mr. Hill. Well, I would just--the bill before us, though,
    is--the borrower is affirming the borrower is not insolvent.
    So, I mean, the real question I have is, should 13(3) be
    extended to a non-banking entity?
        Dr. Plosser. I guess, if I had to--given the way it is
    structured, I would say no. I don't think it is necessary.
        Mr. Hill. Thank you. Dr. Levin?
        Dr. Levin. Well, I just want to reiterate something that
    Dr. Bernstein said, which is most other central banks around
    the world do have broad authority in an emergency of what kinds
    of actions they can take. And it is not just about lender of
    last resort, and it is not just about too-big-to-fail.
        What is the most important thing the central bank does? Is
    to keep a stable unit of account. We call it price stability.
    That is part of the Fed's mandate, OK? That is the single
    critical thing. And in a really severe short, like we had in
    the Great Recession, or even going back to the Great
    Depression, we didn't have price stability in the Great
    Depression. Prices fell 25-30 percent.
        So it is critical for the central bank to have enough tools
    so that when there is that kind of shock that it can make sure
    that the price level comes back to a stable level. So, again, I
    think there is a case for a centennial commission that would
    think carefully about what can we learn from history, what can
    we learn from other central banks, what can we learn from what
    worked and didn't work in the past recession? Frankly, I think
    the Fed itself needs to do more lessons learned and come back
    to you. You are the boss. And help think through--we want to be
    prepared for the next crisis.
        Mr. Hill. I agree. Let me hear--
        Dr. Bernstein. I can be very brief. I can be very brief.
        Mr. Hill. --from Dr. Bernstein and Dr. Levy.
        Dr. Bernstein. Yes, I think that is too restrictive. And I
    think the Fed needs to be able to lend beyond services--may
    well need to lend beyond financial services in emergency
    because we just don't know the sector from which the next
    emergency will hail--
        Mr. Hill. Thank you, Dr. Bernstein.
        Dr. Bernstein. --much as Andy suggested. One quick thing. I
    would encourage you to read what I wrote in my testimony about
    the penalty rate. I actually think the penalty rate in this
    proposal is less well thought through than the one in the
    Warren-Vitter proposal.
        Mr. Hill. Thank you. Quickly, Dr. Levy?
        Dr. Levy. No further comment.
        Mr. Hill. OK, thank you very much. I yield back, Mr.
    Chairman.
        Chairman Barr. Gentleman yields back. Chair recognizes the
    gentleman from Ohio, Mr. Davidson.
        Mr. Davidson. Thank you, Mr. Chairman. Thank you all for
    taking additional questions.
        As we talk about second-guessing, I guess that is part of
    the whole point of this approval process or validation that
    Congress agrees with what the Fed has done in this emergency
    lending authority. And, Dr. Levy, I was just curious if you
    could comment on how the market might react to this period. If
    this becomes law, we know that it is sort of a conditional
    action, so it should be extraordinary. There are a lot of
    safeguards. It is a very high threshold that the Fed would go
    through to give approval. But once they do, how do you feel the
    market would react in this period before it is validated? And
    then what if Congress does say, no, we are not going to give
    our consent to that? Because it requires positive action.
        The asset would presumably be worth even less. How do you
    see the market reacting to that?
        Dr. Levy. I can only have two comments in response to your
    question. And one is, what is the source and character of the
    crisis? And I would just note the next crisis is likely to be
    unlike the prior one.
        And the second point I would make is, the markets are going
    to move in response to the crisis. They are not going to wait
    around for the Fed and the Congress to respond. It will, of
    course, respond to whatever the Fed does, but the markets are
    going to--they sense things. They are going to front run
    whatever you--they are going to be way out in front of you.
        Mr. Davidson. Well, there will probably be indicators of
    what they expect Congress will react to, the new dynamic.
        Dr. Levy. Well, wait, let me qualify what I just said. The
    markets would take comfort if they perceived that you had
    thought through logical strategies in response to different
    types of crises. The markets would certainly take comfort in
    that. And also, I think communications about what you are going
    to do are critically important.
        Mr. Davidson. So I thank you for that. And, Dr. Levin, you
    commented a little bit about the desired goal of something
    clear in advance. But here it is retroactive. It is second-
    guessing something that has been done by the Fed. And so, Dr.
    Plosser, I am curious your thoughts, in terms of you are 25
    days past, and the country can sense Congress isn't going to
    take action, isn't going to validate that. Is the timeframe
    important? Is it 30 days? Is it 6 months? Does it have to be
    paid back within 30 days? How important is this to the market
    function?
        Dr. Plosser. So let me start by pointing out that one of
    the values of doing this is that you set out a process about,
    if such and such happens, this is what we are going to do.
    These are the steps that are going to be followed. That is
    known in advance, all right? So markets will build in to their
    own assessments--it is like a bankruptcy law. A bankruptcy law
    says if a firm goes insolvent, all debt is put into a holding
    pattern until you can sort through the assets and liabilities
    and figure out who gets paid. That is the law. So pricing of
    those assets in advance understands that step.
        Well, this is kind of the same idea. Here is what is going
    to happen, so you--by laying it out in advance what the rules
    of the game are going to be, markets will price that, in
    effect, well before the event actually happens. So that is
    going to make it less stressful than it might otherwise be if
    this came as a surprise of some kind.
        The second step, as you were getting to, well, how long
    should this holding period be on assets, until Congress
    decides? Well, again, I think that knowing this process in
    advance--and there is a lot in the bill about how Congress is
    expected to behave and how quickly they are supposed to make a
    decision on this, I think all of that is going to be filtered
    in, and the markets will make an assessment whether they think
    this is a good case for a rescue or not. And it is going to
    make the hurdle rate for the secretary of treasury to back the
    Fed in doing this. If he doesn't think he can--if it is not a
    good case and he is not going to be able to make the case to
    Congress, then it might not happen.
        But these rescues shouldn't be made easy. They are not--you
    don't want to encourage them and make them so easy that it just
    happens. So I think, yes, it is not perfect, but I think as
    long as you lay out the process, things will work as we think
    they should. That is all.
        Mr. Davidson. It is a good principle. Thank you, and my
    time is expired.
        Chairman Barr. Time is expired. The Chair now recognized
    for our final 5 minutes of questioning the gentleman from
    Indiana, Mr. Hollingsworth.
        Mr. Hollingsworth. Best for last here. You know, one of the
    things that fascinates me about economics generally, something
    you guys know far more about than I do, is just kind of its
    reflexive nature. And one of the things I really worry about,
    right--it has been a long time since I took Econ 101, but
    permanent income hypothesis, right, and the idea that we are
    working down somebody's curve in their preferences for
    consumption today versus saving for consumption later. But with
    the extended period of time with which we have undertaken these
    extraordinary measures, whether instead of working down that
    curve, we are bending that curve and permanently distorting
    their impression and their tradeoffs between present and
    future, and it will be difficult for us to either work that
    curve again or bend that curve back, such that monetary policy
    in the future might have meaningful impacts in the short run,
    at least.
        And I wonder kind of what your, Dr. Levy and Dr. Plosser,
    view on that is and whether we are, indeed, beginning to shape,
    permanently alter or misshape expectations for the future?
        Dr. Levy. I think yours is a very valuable observation. And
    I would just bring out something that I am very concerned
    about, and that is the Fed's policies--and it has had the
    Federal funds rate below inflation now ever since 2008--and its
    massive balance sheet, people who have come to believe that
    this is normal. And when I say people: Households, businesses,
    savers, and financial markets.
        And that potentially raises the costs of exiting and going
    back to normal. I would say so far the Fed has been lucky. And
    I would argue also that the Fed has been able to be leisurely
    in its exit because its policies to stimulate aggregate demand
    haven't worked. So I am very concerned about your point that
    this--we perceive current policy as normal. It is absolutely
    not.
        Mr. Hollingsworth. Right. Dr. Plosser?
        Dr. Plosser. So I agree with what Dr. Levy just said. I
    think the other thing is to recognize that during this period
    there has been this huge conflict in public policy. There is
    the Fed trying to cut interest rates to zero to encourage
    people to spend, spend, spend today, don't save, don't save,
    spend. And then there is the pressure on banks to not lend, not
    lend, not lend, unless you are really certain.
        So we are trying to--we are tugging at each other in ways
    that are--it is confusing, I think, to the general public in
    terms of, how are they supposed to respond to all this?
        Mr. Hollingsworth. Right, right.
        Dr. Plosser. And you are telling the banks not to lend and
    build capital, and telling the public, no, no, no, borrow all
    the money you can. And I think that that tension is reflected
    in part--what you are saying is, are changing people's behavior
    about their preferences for borrowing--spending today versus
    spending tomorrow? And since we wiped out a whole bunch of
    wealth in the housing crisis, now what do households typically
    want to do? They don't want to spend. They need to rebuild
    their wealth.
        And so there are all these sort of conflicts that are going
    on that have, I think, been not very helpful at the bottom
    line.
        Mr. Hollingsworth. And, Dr. Levy, something you have talked
    about a few times and I just wanted to bring back that point--
    look, we talk about the philosophy behind whether the Fed
    should be involved in such activities that add to such huge
    amounts to the Treasury, but also how those seemingly large
    amounts might pale in comparison to the potential losses,
    should interest rates begin to rise and accelerate steadily.
    And so an old adage someone once told me was be careful picking
    up pennies in front of a freight train. Even if you get it
    right a dozen times in a row, you don't want to be wrong once.
    And I think that your point about that several times is ringing
    true in my mind.
        And, Dr. Levin, something I wanted to bring up and just
    talk a little bit about. You have pushed hard for transparency
    and pushed hard for a cogent strategy. And one of the things
    that is challenging about this, right, is knowing what success
    looks like, because everybody has a different vision of what is
    success. What is full employment, right? 4.1 percent seems like
    full employment, but you look at U-6, you look at wage growth,
    and maybe we aren't really at full employment. All of these
    things.
        So to me, that harkens back to the need for a cogent
    strategy and transparency about how we will work these
    variables into something, right, whether that is a Taylor rule,
    whether it is some discretion around the Taylor rule, just some
    understanding of these are the things we consider important and
    these things moving in these directions will give us
    indications, but not a clearly defined ``end goal,'' if you
    will, since we will never be able to measure what success
    really looks like.
        Is that something that you would endorse theoretically?
        Dr. Levin. Yes, and I would just underscore something I
    think Dr. Plosser said earlier. The Fed's job is not fine-
    tuning the last tenth of a point on the unemployment rate or
    the inflation rate. But it has a crucial job. And I think part
    of the balancing you are talking about is the risk management.
        Again, like a team of doctors, to explain and say we have a
    bunch of diagnostic tests, but they are a little bit hard to
    read here. This is an unusual case. And so we are going to be
    keeping a close eye on the patient. And if this indicator goes
    up any further, we are going to have to take some action. Those
    are the sort of clear strategies I think your draft legislation
    is exactly looking for the Fed to start doing.
        Mr. Hollingsworth. Perfect. Thank you, Mr. Chairman. And I
    yield back.
        Chairman Barr. Thank you. The Chair yields back. And I
    would like to thank all of our witnesses for your illuminating
    testimony here today. And, Dr. Levin, appropriate that we leave
    the hearing with another reference to the excellent analogy of
    the patient and the family. And for laying the foundation for a
    strategy-based monetary policy that can help lift our economy.
        With that, without objection, all members will have 5
    legislative days within which to submit additional written
    questions for the witnesses to the Chair, which will be
    forwarded to the witness for their response. And I ask our
    witnesses to please respond as promptly as you are able.
        This hearing is now adjourned.
        [Whereupon, at 4:27 p.m., the subcommittee was adjourned.]

                                A P P E N D I X

                                November 7, 2017

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