    [House Hearing, 119 Congress]
    [From the U.S. Government Publishing Office]

                   EXAMINING PRIMARY DEALERS AND THEIR
                        BALANCE SHEET CONSTRAINTS
    =======================================================================

                                    HEARING

                                   BEFORE THE

                    TASK FORCE ON MONETARY POLICY, TREASURY
                   MARKET RESILIENCE, AND ECONOMIC PROSPERITY

                                     OF THE

                        COMMITTEE ON FINANCIAL SERVICES
                         U.S. HOUSE OF REPRESENTATIVES

                        ONE HUNDRED NINETEENTH CONGRESS

                                 FIRST SESSION

                                   __________

                                DECEMBER 2, 2025

                                   __________

                               Serial No. 119-46

           Printed for the use of the Committee on Financial Services

    [GRAPHIC NOT AVAILABLE IN TIFF FORMAT]

                                www.govinfo.gov

                                   __________

                       U.S. GOVERNMENT PUBLISHING OFFICE
    63-435 PDF                WASHINGTON : 2026
    =======================================================================

                     HOUSE COMMITTEE ON FINANCIAL SERVICES

                        FRENCH HILL, Arkansas, Chairman

    BILL HUIZENGA, Michigan, Vice        MAXINE WATERS, California, Ranking
        Chairman                             Member
    FRANK D. LUCAS, Oklahoma             SYLVIA R. GARCIA, Texas, Vice
    PETE SESSIONS, Texas                     Ranking Member
    ANN WAGNER, Missouri                 NYDIA M. VELAZQUEZ, New York
    ANDY BARR, Kentucky                  BRAD SHERMAN, California
    ROGER WILLIAMS, Texas                GREGORY W. MEEKS, New York
    TOM EMMER, Minnesota                 DAVID SCOTT, Georgia
    BARRY LOUDERMILK, Georgia            STEPHEN F. LYNCH, Massachusetts
    WARREN DAVIDSON, Ohio                AL GREEN, Texas
    JOHN W. ROSE, Tennessee              EMANUEL CLEAVER, Missouri
    BRYAN STEIL, Wisconsin               JAMES A. HIMES, Connecticut
    WILLIAM R. TIMMONS, IV, South        BILL FOSTER, Illinois
        Carolina                         JOYCE BEATTY, Ohio
    MARLIN STUTZMAN, Indiana             JUAN VARGAS, California
    RALPH NORMAN, South Carolina         JOSH GOTTHEIMER, New Jersey
    DANIEL MEUSER, Pennsylvania          VICENTE GONZALEZ, Texas
    YOUNG KIM, California                SEAN CASTEN, Illinois
    BYRON DONALDS, Florida               AYANNA PRESSLEY, Massachusetts
    ANDREW R. GARBARINO, New York        RASHIDA TLAIB, Michigan
    SCOTT FITZGERALD, Wisconsin          RITCHIE TORRES, New York
    MIKE FLOOD, Nebraska                 NIKEMA WILLIAMS, Georgia
    MICHAEL LAWLER, New York             BRITTANY PETTERSEN, Colorado
    MONICA DE LA CRUZ, Texas             CLEO FIELDS, Louisiana
    ANDREW OGLES, Tennessee              JANELLE BYNUM, Oregon
    ZACHARY NUNN, Iowa                   SAM LICCARDO, California
    LISA McCLAIN, Michigan
    MARIA SALAZAR, Florida
    TROY DOWNING, Montana
    MIKE HARIDOPOLOS, Florida
    TIM MOORE, North Carolina

                          Ben Johnson, Staff Director

                                     ------

    TASK FORCE ON MONETARY POLICY, TREASURY MARKET RESILIENCE, AND ECONOMIC
                                   PROSPERITY

                       FRANK D. LUCAS, Oklahoma, Chairman

    BILL HUIZENGA, Michigan              JUAN VARGAS, California, Ranking
    ANDY BARR, Kentucky                      Member
    MARLIN STUTZMAN, Indiana             BRAD SHERMAN, California
    SCOTT FITZGERALD, Wisconsin          JOSH GOTTHEIMER, New Jersey
    MIKE FLOOD, Nebraska                 SEAN CASTEN, Illinois
    MONICA DE LA CRUZ, Texas             CLEO FIELDS, Louisiana
    TROY DOWNING, Montana                JANELLE BYNUM, Oregon

                          C  O  N  T  E  N  T  S

                                  ----------

                           Tuesday, December 2, 2025
                               OPENING STATEMENTS

                                                                       Page
    Hon. Frank D. Lucas, Chairman of the Task Force on Monetary
      Policy, Treasury Market Resilience, and Economic Prosperity, a
      U.S. Representative from Oklahoma..............................     1
    Hon. Juan Vargas, Ranking Member of the Task Force on Monetary
      Policy, Treasury Market Resilience, and Economic Prosperity, a
      U.S. Representative from California............................     2

                                   WITNESSES

    Ms. Susan Mclaughlin, Executive Fellow, Yale School of Management     4
        Prepared Statement...........................................     6
    Mr. James Tabacchi, Chairman, Independent Dealers & Trading
      Association....................................................    12
        Prepared Statement...........................................    14
    Ms. Laura Klimpel, Managing Director and Head of Depository Trust
      & Clearing Corporation (DTCC's) Fixed Income and Financing
      Solutions......................................................    20
        Prepared Statement...........................................    22
    Dr. Haoxiang Zhu, Gordon Y Billard Associate Professor of
      Managements and Finance, MIT Sloan School of Management........    27
        Prepared Statement...........................................    29

         EXAMINING PRIMARY DEALERS AND THEIR BALANCE SHEET CONSTRAINTS

                                  ----------

                           Tuesday, December 2, 2025

                 U.S. House of Representatives,
        Subcommittee on Task Force On Monetary Policy,
              Treasury Market Resilience, and Economic
                                            Prosperity,
                               Committee on Financial Services,
                                                        Washington, DC.

        The subcommittee met, pursuant to notice, at 2:43 p.m., in
    2128, Rayburn House Office Building, Hon. Frank D. Lucas
    [chairman of the subcommittee] presiding.
        Present: Representatives Lucas, Huizenga, Barr, Stutzman,
    Fitzgerald, Flood, De La Cruz, Downing, Vargas, Gottheimer,
    Fields, Sherman, Casten, and Bynum.
        Chairman Lucas. The Task Force on Monetary Policy, Treasury
    Market Resilience, and Economic Prosperity will come to order.
        Without objection, the chair is authorized to declare a
    recess of the committee at any time.
        This hearing is entitled, ``Examining Primary Dealers and
    Their Balance Sheet Constraints.''
        Without objection, all members will have 5 legislative days
    within which to submit extraneous material to the chair for
    inclusion in the record.
        I now recognize myself for 4 minutes for an opening
    statement.

    OPENING STATEMETN OF HON. FRANK D. LUCAS, CHAIRMAN OF THE TASK
       FORCE ON MONETARY POLICY, TREASURY MARKET RESILIENCE, AND
        ECONOMIC PROSPERITY, A U.S. REPRESENTATIVE FROM OKLAHOMA

        Welcome to today's hearing from the Task Force on Monetary
    Policy, Treasury Market Resilience, and Economic Prosperity. I
    want to start by thanking Chairman Hill, and Ranking Member
    Vargas, and our witnesses for their flexibility in rescheduling
    this hearing after the government shutdown delayed our October
    plans.
        The Treasury market is the deepest, most liquid, and most
    essential market to the global economy. Our focus today is on
    the primary dealers that intermediate in that market and the
    regulatory and administrative burdens that constrain their
    ability to do so. Primary dealers facilitate trades between the
    Treasury, foreign central banks, pension funds, and asset
    managers, among others. Our market structure relies on primary
    dealers to ensure steady demand for the Nation's debt and the
    effective implementation of the monetary policy.
        Capital requirements, such as Basel III, the Global
    Systemically Important Bank (G-SIB) surcharge, and risk-
    incentive leverage ratios, have undermined primary dealers'
    intermediation capacity. Robust participation from
    intermediates in the Treasury market is essential to the
    markets' ability to function well among stress and volatility.
    Congress must continue to evaluate the health of the market,
    particularly as the capacity to intermediate does not grow
    commensurate with the government's ever-growing issuance of
    debt.
        Market disruptions in 2014, 2019, and 2020 demonstrate the
    need to examine and reevaluate the limitations and constraints
    regulations may inadvertently put on the Treasury market. This
    morning, Vice Chair Bowman testified before the full committee,
    and we agreed that our capital framework should not
    unnecessarily constrain the intermediaries our market relies
    on. That is why I was pleased to see the Fed finally adjust the
    enhanced supplementary leverage ratio to remove disincentive
    for banks to engage in low-risk activities, such as holding
    Treasuries, but more is yet to be done.
        Capital regulations may need adjustment to properly
    recognize Treasuries as nearly risk-free assets, particularly
    as liquidity regulations require an increase in the volume of
    these liquid assets banks are holding. Other leverage ratios,
    such as the supplementary leverage ratio and Tier 1 leverage
    ratio, may also need to be adjusted to increase balance sheet
    capacity and ensure that they function as intended: a backstop
    to risk-weighted capital requirements, not a binding constraint
    on the intermediation. I also continue to agree with Chair
    Miran excluding Treasuries and reserves from the supplementary
    leverage ratio (SLR) and the enhanced supplementary leverage
    ratio (eSLR) would help insulate the Treasury market from
    potential disruption during periods of market stress.
        Finally, I intend to ask Government Accountability Office
    (GAO) to reexamine the operation of the Treasuries market,
    including its operations, risks, and regulatory structure. The
    last time this report was conducted was in 1986. The landscape
    has changed since then, and we should get an updated report. I
    look forward to the discussion today, and I yield back.
        I now recognize the ranking member of the task force, Mr.
    Vargas, for 4 minutes for an opening statement.

     OPENING STATEMENT OF HON. JUAN VARGAS, RANKING MEMBER OF THE
    TASK FORCE ON MONETARY POLICY, TREASURY MARKET RESILIENCE, AND
       ECONOMIC PROSPERITY, A U.S. REPRESENTATIVE FROM CALIFORNIA

        Mr. Vargas. Thank you very much, Mr. Chairman. I want to
    thank you for convening this hearing, and I, too, would like to
    thank the witnesses and especially for your flexibility. Thank
    you for coming today. We appreciate it very much.
        With a market value of nearly $30 trillion, the U.S.
    Treasury market plays a critical role in the global financial
    system. Our Treasury market has long been considered the most
    stable and liquid market in the world, and that stability has
    been immensely beneficial for Americans. The Treasury market
    serves as a tool for setting the monetary policy and a
    benchmark for interest rates. It serves as a dependable asset
    for investors and offers the broader market a safe haven in
    times of stress, and it allows us to finance our government at
    low cost to taxpayers. That is why it is critical that we
    continue looking at ways to maintain and even improve our
    Treasury market's resilience and efficiency. That means
    continuing to explore options to address concerns of increased
    volatility, strained market liquidity, and the long-term
    quantitative growth of Treasuries. Continuing to effectively
    manage these challenges will keep borrowing costs low, increase
    investor confidence, and strengthen financial stability.
        One way we can do this is by reviewing the function of
    primary dealers. As the largest intermediaries, primary dealers
    play an important role as a connective tissue within the
    Treasury market. They ensure smooth functioning of the market
    between market participants, including the U.S. Treasury
    investors and the Federal Reserve. Because of the important
    function primary dealers have, it is essential we make sure
    they have enough balance sheet capacity to effectively serve
    their role as market makers. This flexibility is a vital part
    of making sure they can absorb any shock and shifts in the
    Treasury supply and investor demand. We saw episodes of these
    shocks in October 2014, September 2019, and March 2020. That is
    why it is worth looking at the reforms aimed at making sure our
    primary dealers can continue intermediating without disruption.
        The central clearing rule, finalized by the Securities and
    Exchange Commission (SEC) in December 2023, is an important
    step in that direction. This rule reduces risk, improves
    efficiency, and enhances the financial stability of the market.
    Targeted reform of the supplementary leverage ratio is also
    worth examining further, as the chairman noted. SLR reform has
    the potential to assist primary dealers in holding an
    increasing number of Treasuries. At the same time, we should
    recognize one of the central sources of expanding Treasury
    issuance is rising deficits. Over the years, Treasury debt held
    by the public has increased significantly. In 2007, it made up
    30 percent of our Gross Domestic Product (GDP). Today, it makes
    up 97 percent, and this expansion is showing no signs of
    slowing down. Following the passage of what we call, on our
    side, President Trump's big, ugly bill, the Congressional
    Budget Office (CBO) is projecting this number to elevate to 134
    percent by the end of 2034.
        Primary dealer capacity keeping up with the growth of
    Treasuries is of paramount importance in improving market
    resilience. I look forward to hearing from the witnesses about
    these issues and the potential solutions impacting the Treasury
    market, and with that, Mr. Chair, I yield back.
        Chairman Lucas. Thank you, Mr. Ranking Member. I am now
    pleased to recognize the chairman of the full committee, Mr.
    Hill, for 1 minute for an opening statement.
        Chairman Hill. Thank you, Chairman Lucas. It has been
    nearly 1 year since this task force was formed, and what a year
    it has been for both the Federal Reserve and the Treasury
    markets. No one anticipated the events that would occur in the
    bond market back in April, and as of a few days ago, the
    Merrill Lynch Option Volatility Estimate (MOVE) Index, a
    measure of bond market volatility, is at its lowest level in 4
    years, but this does not mean that we can kick our feet up and
    sit back.
        The Congressional Budget Office projects annual deficits
    growing from $1.8 trillion this year to $2.5 trillion by 2035.
    Congress must stop force feeding our current primary dealers
    more and more debt, especially as the post-Dodd-Frank
    regulations constrain their ability to absorb growing Treasury
    issuance. Thankfully, central clearing helps free up balance
    sheets for dealers to take up and serve more of our debt, but
    should our primary dealers fail to live up to their obligation
    to purchase Treasuries, yields spike, shooting up borrowing
    costs for the government to finance its priorities and
    consumers to acquire homes, cars, and college education.
    Therefore, the work of this committee is essential, and I thank
    the chairman, and I yield back the balance of my time.
        Chairman Lucas. The gentleman yields back. Today, we
    welcome the testimony of Ms. Susan McLaughlin, executive fellow
    of the Yale School of Management; Dr. James Tabacchi, chairman
    of the Independent Dealers & Traders Association; Laura
    Klimpel, managing director and head of Depository Trust &
    Clearing Corporation's (DTCC's) Fixed Income and Financing
    Solutions; and Dr. Haoxiang Zhu, Gordon Y. Billard Associate
    Professor of Management and Finance at the MIT Sloan School of
    Management. We thank each of you for taking the time to be
    here, and each of you will be recognized for 5 minutes to give
    an oral presentation of your testimony. Without objection, any
    written statements you would like to be made a part of the
    record.
        With that, Ms. McLaughlin, you are now recognized for 5
    minutes for your oral remarks.

    STATEMENT OF SUSAN McLAUGHLIN, EXECUTIVE FELLOW, YALE SCHOOL OF
                               MANAGEMENT

        Ms. McLaughlin. Thank you, Mr. Chairman, Ranking Member
    Vargas, and distinguished members of the task force. It is
    truly my honor to be here with you today. Prior to my
    appointment at Yale, I worked at the New York Federal Reserve
    (Fed) for 30 years in a series of operational, policy, and
    management roles in which the primary dealers were my key
    counterparts. My views reflect this experience, though my
    testimony today is based on information entirely in the public
    domain.
        The size and continued growth of the debt is the first-
    order risk to the Treasury market's resilience. As has been
    well documented, the growth of the national debt has outpaced
    dealers' capacity to intermediate it. In addition to financing
    the U.S. Government's operations, the Treasury market serves an
    anchor for global financial markets. It is where the Fed
    implements monetary policy and where global investors have
    historically sought safety in periods of market stress, and the
    Treasury curve is the basis for the pricing of credit
    instruments worldwide. So, the ongoing stability of this market
    is a serious concern, both for U.S. economic security and
    global financial stability.
        I would like to highlight two main points. First, steps are
    already being taken, as has been mentioned, to augment dealer
    balance sheet capacity to intermediate Treasury securities. The
    Treasury's buyback program, recent changes to the enhanced
    supplementary leverage ratio, and the SEC's Treasury clearing
    rules are, collectively, likely to add at least several
    trillion dollars in balance sheet capacity to the market over
    the next few years but when you consider that the quantity of
    marketable Treasury securities outstanding grew by $1 trillion
    just between July and October of this year, it is not clear
    that these measures alone can address the potential for future
    capacity needs.
        Second, while it is worth exploring whether scope remains
    to designate additional primary dealers, my view is that this
    will not go very far to address the problem of the broader
    market's balance sheet capacity to intermediate Treasuries.
    Rather, I think the great potential lies in changes to the
    structure of the Treasury market itself. We have already
    mentioned central clearing. Another option to explore is all-
    to-all trading, in which buyers and sellers trade directly with
    each other rather than going through an intermediary. All-to-
    all protocols are not yet present in the Treasury market but do
    exist alongside market making in some other markets, such as
    the corporate bond market.
        To be sure, primary dealers play a special role in the
    Treasury market. Their original purpose was to serve as
    counterparties in the Fed's monetary policy operations but over
    time, their responsibilities have evolved to include being
    subject to a pro rata share bidding requirement for Treasury
    auctions that does not apply to any other market participants.
    Through this pro rata share mechanism, the primary dealers
    provide a backstop to mitigate the risk of an undersubscribed
    or failed Treasury auction, which could have dire consequences
    for our sovereign credit rating, the dollar, and the U.S.
    economy.
        If we are concerned about adding net new capacity to
    intermediate Treasury debt to the market, increasing the number
    of primary dealers is unlikely to move the needle very much.
    Moreover, given the dual responsibilities that primary dealers
    have for Treasury auction support and monetary policy
    implementation, the firms best suited for designation are those
    who can buy, hold, and sell Treasury securities on a continuous
    basis, across the yield curve, in all market environments, and
    in sufficient size to support the Fed's operational needs.
    Firms that are not two-way market makers in Treasuries would
    not be fit for purpose as primary dealers.
        Thank you for the opportunity to share my views with you
    today. I look forward to your questions.

        [The prepared statement of Ms. McLaughlin follows:]
        [GRAPHICS NOT AVAILABLE IN TIFF FORMAT]

        Chairman Lucas. Thank you. Mr. Tabacchi, you are now
    recognized for 5 minutes for your oral remarks.

     STATEMENT OF JAMES TABACCHI, CHAIRMAN, INDEPENDENT DEALERS &
                          TRADING ASSOCIATION

        Mr. Tabacchi. Thank you, Mr. Chairman, Mr. Vargas, members
    of the committee. It is my pleasure to appear here today. I am
    currently representing the Independent Dealers & Traders
    Association. It is a group of independent dealers. They are not
    part of any bank holding company. They typically have between
    $200 million and $500 million in capital, and they are probably
    responsible for about 15 percent to 20 percent of the capacity
    of the repo market on any given day, probably a little bit
    higher on typical quarter ends when balance sheet gets
    extremely tight. In addition, I am the CEO of South Street
    Securities, which is a firm I co-founded and started 25 years
    ago. It is a middle market broker-dealer and a member of the
    Independent Dealer & Traders Association. I am also a sitting
    board member of DTCC.
        I am also on the advisory council of Bank of New York's
    Government Securities Division, and I think I am fairly unique
    in the marketplace in that I have managed a balance sheet at a
    large global bank--Citibank, Citicorp--for 20 years and then
    started my own firm with significantly less capacity and
    significantly less capital but I understand the pressures that
    executives and managers of both the largest banks and the mid-
    market firms go through. I understand it very well from both
    sides, and they both have critical jobs, but their jobs are
    also very difficult.
        The theme that I am trying to bring to this committee is I
    am more concerned with the U.S. Treasury market than maybe some
    of my esteemed colleagues because, if you look back 10 years
    ago, we had about $8 trillion, $9 trillion in outstandings. We
    are currently, I think it is a little more than $30 trillion.
    We are passing through like $34 trillion, $35 trillion right
    now, and by the Fed's own reckoning and forecasting, we are
    headed toward $50 trillion in 6 to 8 years. I will tell you
    that unless we use every solution in the drawing board right
    now, we do not have capacity for $50 trillion in the U.S.
    Treasury market.
        Look, central clearing was designed to reduce counterparty
    risk. It did that, but it also increased concentration risk, so
    that is a little bit of moving spaghetti around on the plate
    because concentration risk has gone through the roof. It was
    also designed to make the market more efficient from a balance
    sheet standpoint. It did that, but I have to give some kudos,
    and, again, full disclosure, I am on the board of DTCC, Fixed
    Income Clearing Corporation (FICC), who Ms. Klimpel represents
    and runs, had gone a long way through the sponsorship program
    to making the market more efficient.
        Now, what I think some significant steps that we have to
    take almost right away are two right away, and one is a longer-
    term project, I will admit. One, all the major participants in
    the U.S. Treasury market, including regional dealers, some
    regional banks, need to have access to the Standing Repo
    Facility. The Standing Repo Facility, just so that you know, it
    was designed so that when markets were constrained for
    liquidity in the repo market, you could go to the Fed, and they
    would give you liquidity against Treasuries.
        So, the reason why that has not worked is when I was
    running a desk at Citibank, and the treasurer of the bank come
    and tap me on the shoulder and says, ``Jim, balance sheet is
    closed, no more,'' and that was it. The balance sheet was full,
    so how can I borrow from the Standing Repo Facility and lend to
    the marketplace? So, once those balance sheets of the
    participants that are eligible for that resource are full, you
    are done. So it will never work unless more balance sheet
    capacity is brought to bear.
        The other thing I think is really important is, and I will
    get into it a little bit more because I am running out of time,
    is hedge funds are not a bad thing. American pools of capital,
    buying U.S. Treasuries, America's paper, is that a bad thing? I
    do not think so. Who would you rather have buying them, the
    Chinese? However, hedge funds need financing, and they also
    cannot be unlimited. So, standardized minimum haircuts need to
    be implemented right away. Last, and I will just jump quickly
    through this, I do believe we need more participants in the
    U.S. Treasury market, more intermediaries in the U.S. Treasury
    markets, more primary dealers, more regional dealers, more
    regional banks, and with that, I will pass along the gavel.

        [The prepared statement of Mr. Tabacchi follows:]
        [GRAPHICS NOT AVAILABLE IN TIFF FORMAT]

        Chairman Lucas. Thank you. Ms. Klimpel, you are now
    recognized for 5 minutes for your oral remarks.

       STATEMENT OF LAURA KLIMPEL, MANAGING DIRECTOR AND HEAD OF
              DTCC'S FIXED INCOME AND FINANCING SOLUTIONS

        Ms. Klimpel. Chairman Lucas, Ranking Member Vargas, and
    members of the task force, thank you for the opportunity to
    testify today. My name is Laura Klimpel, and I serve as the
    managing director and head of the Fixed Income Clearing
    Corporation, or FICC, at DTCC. I appreciate the chance to speak
    with you about DTCC and FICC's role in central clearing and the
    work we have undertaken to prepare the industry for the SEC's
    expansion of U.S. Treasury clearing.
        For more than 50 years, DTCC has served as the premier
    post-trade market infrastructure for the global financial
    industry. Every day, we help automate, standardize, and process
    financial transactions for thousands of broker-dealers,
    custodian banks, and asset managers. Our core mission is to
    reduce risk, enhance transparency, and ensure that our markets
    remain resilient and efficient. DTCC is industry owned and
    industry governed. We process securities activity across U.S.
    equities, Treasuries, mortgage-backed securities, mutual funds
    and exchange-traded funds (ETFs), and other asset classes. We
    are also a highly regulated organization, overseen by more than
    20 regulatory bodies worldwide, including the Federal Reserve
    and the SEC.
        Let me turn now specifically to FICC. As an SEC-registered
    central counterparty, FICC provides critical netting, clearing,
    and settlement services across the U.S. Treasury and mortgage-
    backed securities markets. The SEC's expansion of central
    clearing for U.S. Treasury activity is one of the most
    significant market-structured developments in decades.
    Policymakers, academics, and market participants broadly agree
    that expanding central clearing will improve the safety,
    soundness, and efficiency of the Treasury market while also
    enhancing transparency, supporting all-to-all trading, and
    reducing credit and liquidity risks.
        The SEC finalized its rule in December 2023 and later
    extended the industry-wide implementation timeline by 1 year.
    As a result, mandatory clearing for cash transactions will now
    begin on December 31, 2026, and for repo transactions on June
    30, 2027. Although the SEC postponed the industry's compliance
    deadlines, FICC maintained its commitment to implementing
    required access model and risk management enhancements,
    successfully launching all necessary changes as planned. Those
    enhancements include expanded access models, the separation of
    house and customer activity, and the creation of segregated
    customer margin accounts. FICC is well positioned to handle the
    increased volume that expanding clearing will continue to
    bring. Prior to the SEC rule proposal, FICC cleared roughly
    $4.5 trillion a day. By the end of 2023, that number rose to
    about $7.2 trillion, and today we routinely clear more than $11
    trillion per day. We have also demonstrated resilience during
    periods of market volatility, including new record volumes,
    most recently yesterday when our volumes hit $13.2 trillion.
        As we prepare for the clearing requirement, FICC has
    focused on enhanced access, promoting capital efficiency, and
    improving risk management tools. We continue to expand our
    sponsored service and agent clearing service to allow both buy-
    side and sell-side firms to participate in the manner that best
    meets their needs. We also have two proposed rule changes
    currently under SEC review, both designed to address double-
    margining concerns and make it easier and more cost effective
    for firms to bring repo activity into central clearing. In
    addition, FICC is working with Chicago Mercantile Exchange (CME
    Group) to extend cross-margining to end user clients, subject
    to regulatory approval. The expansion should reduce capital
    requirements and further encourage the use of central clearing.
        In closing, DTCC's work often takes place behind the
    scenes, but it plays a critical role in maintaining the
    liquidity, efficiency, and competitiveness of U.S. financial
    markets. The SEC's expansion of Treasury clearing is a major
    industry effort that will strengthen the market for years to
    come. FICC remains committed to working with our clients,
    regulators, and industry partners to ensure a safe and
    successful implementation in 2026 and 2027.
        Thank you for the opportunity to testify today. I look
    forward to your questions.

        [The prepared statement of Ms. Klimpel follows:]
        [GRAPHICS NOT AVAILABLE IN TIFF FORMAT]

        Chairman Lucas. Thank you. Dr. Zhu, you are now recognized
    for 5 minutes for your oral remarks.

    STATEMENT OF HAOXIANG ZHU, GORDON Y BILLARD ASSOCIATE PROFESSOR
       OF MANAGEMENTS AND FINANCE, MIT SLOAN SCHOOL OF MANAGEMENT

        Mr. Zhu. Dear Chairman Lucas, Ranking Member Vargas, and
    members of the task force, thank you for the opportunity to
    testify before you today on the critical topic of ``Primary
    Dealers and Their Balance Sheet Constraints'' in the U.S.
    Treasuries market. My name is Haoxiang Zhu. I am an associate
    professor of finance at MIT Sloan School of Management. From
    2021 to 2024, I had the honor of serving as the director of the
    Division of Trading and Markets at the U.S. Securities and
    Exchange Commission.
        I believe the most powerful policy initiative now for
    expanding the mediation capacity in the U.S. Treasuries market
    is the full and timely implementation of Treasury clearing.
    Additional measures that could also strengthen the U.S.
    Treasury market include increasing post-trade transparency of
    Treasury securities, enhance the oversight of trading platforms
    for Treasury securities and repo, and making more active use of
    floating rate debt for government financing.
        First, Treasury clearing. The central clearing of Treasury
    cash and repo transactions delivers three principal benefits.
    First, it substantially reduces risk. Through multilateral
    netting, central clearing transforms large growth exposures
    into small net exposures. Moreover, the clearinghouse
    guarantees the performance of the participants, which further
    mitigates default risk, limits contagion, and reduces systemic
    risk. Second, central clearing provides standardized and
    transparent risk management, and third, and perhaps most
    relevant for today's hearing, central clearing of Treasury repo
    transactions frees up a significant amount of balance sheet
    capacity for primary dealers and other intermediaries.
        Drawing on the methodology developed in my work with Nellie
    Liang, we estimate that sponsored clearing of Treasury repo and
    reverse repo at the Fixed Income Clearing Corporation has
    already freed up approximately $1.2 trillion in balance sheet
    capacity as of October 2025. Furthermore, if all uncleared
    primary dealer repo and reverse repo were to transition into
    central clearing as of October 2025, up to $1.3 trillion of
    additional balance sheet capacity could be created.
        Second, increasing transparency. The evidence regarding
    post-trade transparency has been overwhelmingly positive in the
    U.S. fixed income market. Study after study has documented
    improved price discovery and a lower transaction cost for
    investors following the implementation of post-trade
    transparency, including corporate bonds, agency debt, mortgage-
    backed securities, municipal securities, among others. The U.S.
    Treasury market has been one of the last major markets to
    implement and benefit from post-trade transparency. In March
    2024, Financial Industry Regulatory Authority (FINRA) began
    dissemination on the daily frequency of transactions for on-
    the-run Treasury coupon securities. I believe the Department of
    the Treasury, the SEC, and FINRA can further enhance the
    liquidity of the U.S. Treasuries market by continuing to
    strengthen post-trade transparency.
        Third, enhancing the oversight of trading platforms.
    Currently, trading platforms that meet the definition of
    exchange under the Exchange Act, but exclusively trade
    government securities, are exempt from Regulation Alternative
    Trading System (ATS). As such, these platforms are not required
    to register with the SEC or be subject to regulatory oversight.
    The policy objective of removing such exemption has received
    broad bipartisan support over the last 6 years, spanning three
    different administrations. I believe completing this initiative
    will represent a significant positive step forward in
    supporting the growth and integrity of the U.S. Treasuries
    market.
        Fourth and finally, more active issuance of floating rate
    debt. The outstanding amount of Treasury securities held by the
    public reached approximately $30 trillion in October 2025. That
    is roughly 6-and-a-half times the level in 2005. This stark
    comparison actually underestimated the growth in the Treasury
    market in another critical metric: interest rate risk. The
    average maturity of Treasury securities today is about 70
    months compared to 54 months in 2005. Therefore, investors and
    intermediaries in Treasury securities today bear interest rate
    risk that is approximately 8 times as large as it was 20 years
    ago. Investors and intermediaries demand a risk premium for
    bearing such risk, which in turn translates into a higher
    borrowing cost for taxpayers.
        I believe the time is now right for the Treasury to
    consider reducing interest risk of newly issued debt.
    Specifically, the Treasury can more actively issue floating
    rate debts indexed to short-term interest rates, such as the
    Treasury bill rate or the Secured Overnight Financing Rate,
    SOFR. These floating rate instruments carry significantly less
    interest rate risk. For example, the interest rate risk of a
    10-year floating rate note is comparable to that of a 3-month
    or 6-month Treasury bill. Floating rate securities should also
    be attractive to investors whose objective is to protect the
    market value of their U.S. dollar-denominated asset and
    reserves. In addition, floating rate debt can be structured to
    span a wide range of maturity dates. For these reasons, I
    believe floating rate debt deserves a more prominent role in
    Treasury issuance decisions, both for reducing interest rate
    risk borne by investors and for maintaining flexible management
    of the design and maturity structure of the Treasury debt.
        Thank you very much again, and I welcome any questions you
    may have.

        [The prepared statement of Mr. Zhu follows:]
        [GRAPHICS NOT AVAILABLE IN TIFF FORMAT]

        Chairman Lucas. Thank you. We will now turn to member
    questions, and I recognize myself for 5 minutes for questions.
        Ms. Klimpel, can you provide an update on market
    participants' readiness to comply with the SEC's clearing role?
    Should the SEC provide more clarity for firms before the
    deadlines go into effect, such as the scope of requirements for
    inter-affiliate transactions?
        Ms. Klimpel. Thank you for the question, Mr. Chairman. At
    FICC, we have seen over the past several years a steady trend
    of Treasury market participants adopting central clearing on a
    voluntary basis due to the economic, operational, and risk
    mitigation benefits that it provides. To give context, before
    the SEC introduced its proposed rule to expand central clearing
    of U.S. Treasury activity in 2022, FICC's daily volumes
    averaged around $4.5 trillion, and as I noted, we hit an all-
    time peak yesterday of $13.2 trillion of activity in a single
    day. That being said, as Commissioner Mark Uyeda noted in his
    recent remarks on the progress toward implementation of
    Treasury clearing, there are certain issues that still need to
    be addressed, such as the scope and contours of the inter-
    affiliate exemption from the clearing requirement, amongst
    others. We look forward to the resolution of those open issues
    as clarity on them will be key as market participants get down
    to the business of implementation and migrate the remaining
    Treasury balances covered by the mandate into central clearing
    over the course of 2026 and 2027.
        Chairman Lucas. Continuing with you, how does central
    clearing reduce systematic risk in the Treasury market, and
    should our regulators recognize risk-reducing benefits of
    central clearing through the implementation of cross-margining
    for end users and corresponding capital reductions?
        Ms. Klimpel. Central clearing through a central
    counterparty (CCP), like FICC, offers Treasury market
    participants the opportunity to have their activity novated and
    net settled by a central counterparty, which creates various
    operational, balance sheet, capital, and risk reduction
    benefits for those firms and for the Treasury market as a
    whole. Extending our existing cross-margining arrangement with
    CME Group to end user clients would help those end user clients
    by having their offsetting futures cleared by CME and their
    cash and repo positions cleared at FICC recognized across the
    CCPs for margining purposes, which would increase margin
    efficiency for those end user clients, making it more cost
    effective for them to transact, and smoothing their ability to
    migrate additional Treasury activity into central clearing.
        Implementing end user cross-margining will also result in
    improved risk management through cross-CCP coordination in a
    default situation, and also increased transparency, including
    to the official sector. Making the corresponding capital
    reductions for those end user clients' intermediaries is also
    critical to be able to give those intermediaries the capacity
    that they need to facilitate their clients' activity as part of
    the cross-margining program.
        Chairman Lucas. Ms. McLaughlin, I have seen reporting about
    the firm's reluctance to use the Fed's Standing Repo Facility
    that is intended to serve as an additional source of liquidity
    in the Treasury market. What should the New York Fed be looking
    at to improve the effectiveness of the Standing Repo Facility
    (SRF)?
        Ms. McLaughlin. Thank you, Mr. Chairman. I think that the
    SRF is generally working as intended to provide a ceiling on
    the level of the Fed funds rate. However, since it was not
    really needed when reserves were abundant, there is probably a
    little hesitation, and I have heard this from some market
    participants, on the part of some to be among the first to use
    it. I suspect the tool may be slightly stigmatized by the fact
    that it was not previously used regularly. So, I think the most
    important thing that Fed policymakers can do is to communicate
    clearly and often that the SRF is intended to support rate
    control, that it is open for business, and that market
    participants should not hesitate to use it when it is
    economically advantageous to do so. Usage in that scenario
    supports interest rate control and, therefore, supports
    effective monetary policy implementation.
        Chairman Lucas. Mr. Tabacchi, demand for our debt from
    rate-sensitive buyers has grown as a proportion of Treasury
    purchasers, and we saw resulting market volatility in April
    this year. How would you characterize the health and
    functioning of the Treasury market in light of these trends?
        Mr. Tabacchi. Again, if you look at the U.S. Treasury
    market over the last 5 years, it has changed dramatically.
    Sovereign wealth funds are not buying our paper. Can you hear
    me?
        Chairman Lucas. Is your microphone on?
        Mr. Tabacchi. Yes.
        Chairman Lucas. Thank you.
        Mr. Tabacchi. As I said, the market is changing
    dramatically. Sovereign wealth funds are not buying our paper.
    Treasury hedge funds are buying our paper. Treasury hedge funds
    need financing. Financing is not unlimited, and it is the main
    constriction to our U.S. Treasury market.
        Now, I have to disagree a little bit with my esteemed
    colleague that I do not think that the Standing Repo Facility
    is getting to where it needs to go. The Fed, when they call
    around to the primary dealers, they are all saying, yes, there
    is no problem, there is plenty of liquidity. It is the non-
    primary dealers, the Treasury market participants that need to
    have access to that facility.
        Chairman Lucas. Thank you. I now turn to the ranking member
    for his 5 minutes of questions.
        Mr. Vargas. Thank you very much, Mr. Chairman. I appreciate
    it.
        Dr. Zhu, a question for you. In your research you published
    in July with Dr. Nellie Liang, you mentioned risk reduction and
    enhanced intermediation capacity as two of the primary benefits
    of central clearing. You also discussed how central clearing
    could help primary dealers free up hundreds of billions of
    dollars in additional balance sheet capacity. Today, I think
    you testified maybe $1.2 trillion. Can you explain how this
    central clearing rule will provide that balance sheet capacity?
        Dr. Zhu. Yes. Thank you for the question. Happy to
    elaborate on that. According to the supplementary leverage
    ratio rule, whenever a primary dealer borrows money from, let
    us say, money market mutual funds and, onwards, lend it to a
    hedge fund, that money shows up on the balance sheet, if the
    primary dealer is a counterparty to the transaction. However,
    if the two sides of the transaction both move to central
    clearing, the dealer is no longer a counterparty to the
    transaction. Therefore, that gross amount of $100 in that
    example would not be on the balance sheet of the dealer,
    therefore not subject to supplementary leverage ratio. So, I
    think that is a very powerful tool. Central clearing is a very
    powerful tool in removing that balance sheet constraint. That
    is why we came up with these estimates.
        Mr. Vargas. Thank you. Thank you for clarification. Now, I
    have a number of questions here, but, Ms. McLaughlin, you said
    something originally that really caught my attention, and that
    is, you said this, and I do not want to put words in your
    mouth, so if I misquote you, please let me know: ``We do not
    have the capacity for $50 trillion. We could do all the things
    on the board. We just cannot get there. That is too much.'' Did
    you say that? Oh, you said that.
        Mr. Tabacchi. Yes, sir, I am afraid I did.
        Mr. Vargas. Okay. So, you do not think that then there will
    be enough capacity?
        Mr. Tabacchi. No. I think if the mandate is implemented
    properly, with some considerable thought, I think it can be a
    fine tool toward getting us to where we need to go. The thing
    is, though, that we always seem, in the marketplace, and look,
    I am not an academic. I have just spent the last 35 years in
    and around trading desks.
        Mr. Vargas. Right.
        Mr. Tabacchi. So, I watch the way the market moves and
    acts. The U.S. Treasury market, there are parts of it that are
    struggling to work. SLR, yes, that is a piece of the puzzle. We
    should work on changing that and increasing balance sheet
    capacity. Is that an elixir? Absolutely not. We need to get----
        Mr. Vargas. Okay. Let me do this because they give us
    limited time here. Would anyone challenge that position and say
    that there is capacity for $50 trillion because the reason is
    very simple. I do not want to try to hide the ball. I do think
    that, ultimately, we are right, everyone is right that we
    cannot go on like this. The deficits are too big; that we
    cannot do this. It is not sustainable. I do not know what level
    that is. By the end of the day, it is math. Would anyone
    disagree with that?
        Mr. Tabacchi. Can I give you an example of why I think it
    will not work on certain days? So, in September 2019, repo
    rates went to 10 percent.
        Mr. Vargas. Mm-hmm.
        Mr. Tabacchi. Now, the reason why that happened is it was
    like the perfect storm. We had five U.S. Treasury securities
    settling. We also had quarter-end, so balance sheets were
    already being constrained by window dressing.
        Mr. Vargas. Right, but I think the problem is----
        Mr. Tabacchi. Well, wait a minute.
        Mr. Vargas. No, no, no. Hold on----
        Mr. Tabacchi. Okay.
        Mr. Vargas [continuing]. because you are going to a very
    specific thing. I want to know about capacity in general, not 1
    day.
        Mr. Tabacchi. But this speaks to capacity.
        Mr. Vargas. Hold on. Now I am going to go to Ms.
    McLaughlin. I would like to ask her. Go ahead. Yes.
        Ms. McLaughlin. I do not know if $50 is the right number or
    some other number is the right number, but I do agree that at
    some point we will reach a number where it is going to be a
    real problem.
        Mr. Vargas. Doctor? Dr. Zhu?
        Dr. Zhu. I think once we implement the Treasury clearing
    fully and other initiatives, such as transparency, and
    potentially having more platform oversight, I think there will
    be a wide variety of market participants come in, such as
    smaller broker-dealers, clearing house, trading platforms.
        Mr. Vargas. But it sort of creates more capacity----
        Dr. Zhu. Absolutely.
        Mr. Vargas [continuing]. to just get up to the $50, $60
    trillion, wherever we are heading.
        Dr. Zhu. It is hard to speculate on the exact number at
    this point, but I think all these initiatives, that is why
    these are so important. At least, given the current level,
    completing these reforms would make the Treasury market much
    more resilient, but I tend to agree that in the long run,
    sustainable debt level is the fundamental solution.
        Mr. Vargas. Okay. I know they give us very limited time. I
    just have 20 seconds, so I just want to say this. I do think
    that there is a problem here, and, ultimately, this is math. It
    is math as insurance as people think. No, ultimately, it is
    math, and there is a problem. The politics is what creates the
    problem for the math. Obviously, both sides, when we were able
    to balance the budget, created a political problem for a lot of
    people, and I think at some point, we are going to have to
    figure this out, both sides but anyway, thank you for your
    testimony here today. I appreciate it.
        Chairman Lucas. The gentleman's time has expired. The
    gentleman from Kentucky, Mr. Barr, who is chair of the
    Financial Institutions Subcommittee, is recognized for 5
    minutes.
        Mr. Barr. Thank you, Mr. Chairman. Very important hearing
    about the proper functioning of the Treasury market with the
    growing debt load that we are foisting upon future generations
    of Americans. National debt is now, what, $38 trillion and
    growing. I think, Ms. McLaughlin, you said it best in your
    testimony when you said the greatest risk to the resilience of
    the Treasury market is the level of the national debt itself.
    So, job number one is, Congress needs to get our fiscal house
    in order, but in the meantime, we should continue to explore
    all avenues to support the market's capacity to intermediate
    Treasury debt.
        Ms. McLaughlin, without primary dealers that can absorb
    rising issuance of Treasury securities and without more primary
    dealers' participation, what happens to Treasury markets?
        Ms. McLaughlin. I would just note, first, that primary
    dealers are important intermediaries, but they are not the only
    ones. There is a wide range. I think FICC alone has over 250
    firms and are two-way intermediaries, and benefit netting, and
    repo and/or cash transactions. So, primary dealers are not the
    entire story, but they are an important part of it. I think if
    we had a case where primary dealers were really unable or
    unwilling to take down further debt, that would be a problem I
    would hope not to see. I just want to make sure I am answering
    your question. Can you repeat the last part of it?
        Mr. Barr. I think you are. Let me go to Mr. Tabacchi
    because I am interested in you finishing the analysis of what
    happened in September 2019. I know we have limited time but
    finish your thought there. What happened there, and did you
    come up with this $50 trillion figure as the breaking point?
        Mr. Tabacchi. The reason why is because most of the
    regulations to date have been centered around the largest
    banking institutions, the systemically important financial
    institutions (SIFIs). Now, global SIFIs, for example, on that
    date we had five Treasury issues settling. It was quarter end,
    they were doing window dressing, and at the same time, bombs
    were being dropped in the Middle East. So what did that do?
    That caused all of the oil companies to draw down their lines
    of credit thinking they would have to be repairing the
    refineries. So, billions of dollars of cash left the biggest
    banks. They are already constrained on their balance sheet, and
    now there is not enough money in the repo market. Those are the
    type of things that we are most susceptible to if we rely only
    and the regulatory environment relies only on the biggest
    banks.
        Mr. Barr. Well, same question to you. What would happen to
    the Treasury market if you reached the limit of capacity? What
    happens?
        Mr. Tabacchi. Well, I personally think that we are pushing
    that envelope today because, again, the capacity issue is not
    on the buying and selling of Treasuries. The capacity issue is
    on the financing of Treasury because that is what takes up
    balance sheet. Most of the big hedge funds and asset managers
    come into the Treasury directly. At the primary dealer desk I
    ran at Citibank, you would never need the amount of inventory
    that we had than today, but you do need financing capacity.
    That is the constraint, and that is where we do not have enough
    participants in the marketplace, and those that are in the
    marketplace do not have access to facilities like the standing
    repo agreement.
        Mr. Barr. So more regional banks, that is one solution.
        Mr. Tabacchi. More regional banks, more regional dealers.
        Mr. Barr. More hedge funds.
        Mr. Tabacchi. Well, hedge funds, that comes with a little
    bit of a grain of salt. Hedge funds, the largest banks now give
    out repo at zero haircut. Now, I am a proponent of hedge funds.
    I just said it. I would rather have Americans buying American
    capital, American pools of capital buying American Treasuries.
    However, nothing is unlimited without any haircut and just so
    that you know, a haircut is like the downpayment you do on your
    mortgage. It is an overcollateralization. It is a first-loss
    protection. So, without haircut, you allow hedge funds to be,
    basically, unlimited in terms of how much leverage they can
    have.
        Mr. Barr. Okay. I am running out of time. The SLR fix is a
    no brainer, in my opinion.
        Mr. Tabacchi. It is.
        Mr. Barr. Let me go to Dr. Zhu. Very interested in your
    more active issuance of floating rate debt idea. Can you
    elaborate?
        Dr. Zhu. Yes, of course. Currently, the Treasury Department
    mostly issue coupon securities with a fixed-coupon payment, and
    when interest rates start to rise, these instrument will lose
    value very quickly. We saw that in Silicon Valley Bank and in
    many other situations. So, in floating rate debt, the interest
    payment goes up as market level interest rate goes up.
    Therefore, these instruments tend to be very insensitive to the
    level of interest rate. So, people who want to invest their
    dollar assets for preserving their value would find these
    instruments to be very valuable.
        Mr. Barr. So, lower interest rate risk means more----
        Dr. Zhu. Lower risk premium.
        Mr. Barr [continuing]. more capacity.
        Dr. Zhu. Correct, yes. Correct, exactly.
        Mr. Barr. More purchases of Treasury debt.
        Dr. Zhu. Exactly. That would be less penalized on the value
    at risk (VaR), for example, value at risk models. That will be
    less penalized by the capital rules and so on, yes.
        Chairman Lucas. The gentleman's time has expired. The chair
    now recognizes the gentleman from California, Mr. Sherman, the
    ranking member of the Capital Markets Subcommittee, for 5
    minutes.
        Mr. Sherman. A fundamental problem we are not going to
    solve in this room, and it is that we have too much national
    debt. The debt has tripled since the 2008 global fiscal crisis.
    A big chunk of that is the 2017 tax cuts for the wealthy,
    followed by the $5 trillion Big, Beautiful Bill that was, I
    think we all agree, big. During coronavirus disease (COVID),
    both sides voted in a bipartisan way for some enormous
    expenditures. Obviously, if we knew then what we know now, we
    would have handled COVID differently.
        So, we have too much debt. We have a couple of things that
    are helping. One of those is the independence of the Fed, and
    we have to fight to protect that. The other is that we are the
    world's reserve currency. The euro would like to play that
    role. Yuan would perhaps like to play that role. Crypto would
    like to play that role, and I have had a lot to say about
    crypto over the years, and what I said, God, almost 10 years
    ago was that the undoing of crypto would be other crypto. What
    I did not realize then was that stablecoin would undermine the
    rest of the other coins because stablecoin allows drug dealers,
    tax evaders, sanctions evaders, bankruptcy law evaders, to have
    total confidentiality and secrecy without having to risk
    putting their money into some other somewhat imaginary
    currency. So, what we may see is that the dollar retains its
    role as the world's reserve currency, and that all we lose from
    crypto is the ability to enforce all of our fiscal laws. So, we
    are where we are.
        In June, partly in response to a letter a number of us
    sent, including Representatives Wagner, Foster, myself, and
    Barr, the Federal Reserve announced that it would change the
    calculation of the global systemically important banks'--G-
    SIBs--leverage requirement, effectively decreasing the leverage
    capital that these banks are required to hold. Obviously, as we
    issue more debt, we need to have banks participate. Mr.
    Tabacchi, should the Fed consider making similar changes to
    smaller banks on their leverage requirements, so they are not
    disadvantaged when compared to the G-SIBs, and to bringing them
    as full players in dealing with this load of debt we have?
        Mr. Tabacchi. I think that is an option that should be
    explored, Congressman. I also think that some of the other
    things that we have already talked about are, frankly, more
    important. If you look at central clearing----
        Mr. Sherman. I am going to go on to my next question----
        Mr. Tabacchi. Okay. Go ahead.
        Mr. Sherman [continuing]. because I have such limited time.
    Former Federal Reserve Board member, Jeremy Stein, has said
    that large banks are allocating less capital to low-risk assets
    like Treasuries because they are disincentivized to do so.
    Leveraged capital requirements are insensitive to risk, and so
    prudential regulation designed to cause banks to have less risk
    actually incentivizes them to forego Treasuries and do things
    that involve more risk. Mr. Tabacchi, could you walk us through
    what happens in the broader financial markets if the U.S.
    Treasury becomes less liquid or more expensive, and, in
    particular, does that affect mortgages, car loans? Does it
    affect the average person trying to borrow some money?
        Mr. Tabacchi. It does because rates would go up. We are
    playing with fire a little bit here, sir, because, again, if
    repo is the capacity constraint, think of the funding level of
    Treasuries has the issue. When the funding levels go up because
    there is not enough capacity and several market participants
    cannot access the Standing Repo Facility, then what do the
    dealers do? They increase the rate that we charge hedge funds,
    the variable buyer of Treasuries. When they increase what we
    charge hedge funds, sooner or later hedge funds are either
    going to increase risk, which they can do with the Big Banks
    with zero haircut, or they are going to stop buying Treasuries.
        Mr. Sherman. I understand. I am going to try to squeeze in
    one comment, and that is, I think it is absurd to regulate
    banks in a way where, at least for some purposes, holding a
    corporate bond is treated as being as risky as holding a
    Treasury. I yield back.
        Chairman Lucas. The gentleman yields back. The gentleman
    from Wisconsin, Mr. Fitzgerald, is recognized for 5 minutes.
        Mr. Fitzgerald. Thank you, Chairman. Rising government
    spending has made purchasing Treasuries more onerous for
    primary dealers and as their balance sheets have not grown at
    the same pace. Ms. McLaughlin, to be clear, is it fair to say
    that primary dealer balance capacity issues generally did not
    start to develop until after the financial crisis?
        Ms. McLaughlin. What I can say is that I was not really
    aware of that being a discussion point before the global
    financial crisis. So, we heard a lot more about that from
    market participants almost immediately after the end of the
    crisis.
        Mr. Fitzgerald. Yes, because 2008, government debt held by
    the public has increased by nearly $27 trillion. It was not all
    caused, despite what you might hear from some Members of
    Congress, by the 2017 tax cut and the Big, Beautiful Bill.
    There were other things that happened in between there, but
    apparently not everybody remembers that. So, as Treasury
    issuance continues to grow and primary dealers shoulder an
    increasing share of that demand, balance sheet capacity has
    become a real constraint.
        So, Ms. Klimpel, how does expanding central clearing help
    primary dealers reduce balance sheet strain and more
    efficiently intermediate growing volumes of Treasury
    securities?
        Ms. Klimpel. Thank you for the question, Congressman.
    Central clearing provides the opportunity for market
    participants to have their activity novated to a central
    counterparty, such that when they are intermediating activity
    between two different dealers or between two different clients,
    they can post novation face off against the same counterparty,
    which, in our case, is FICC. That same counterparty creates a
    unique opportunity to take balance sheet netting on that
    activity, which is much more difficult to do outside of central
    clearing. That balance sheet netting creates capacity, both in
    terms of reduction of capital charges and otherwise, to free up
    room and capacity on the balance sheet for market participants
    to continue to transact, which increases liquidity in the
    system.
        Mr. Fitzgerald. So, if I understand you then, would central
    clearing enhance primary dealers' capacity to perform kind of
    this role without compromising the market and its stability?
        Ms. Klimpel. Yes, that is correct.
        Mr. Fitzgerald. Very good. Mr. Tabacchi, improving balance
    sheet flexibility is essential for sustaining deep and
    resilient Treasury markets. Can you explain, in your opinion,
    what regulatory or legislative adjustments would best maybe
    enhance dealers' ability to support the Treasury issuance? Any
    comment there?
        Mr. Tabacchi. Sure. First of all, we have to broaden the
    participants in the U.S. Treasury market. I always hear that
    all-to-all, which has also got a place in the U.S. Treasury
    market, but nobody wants an intermediary until they need one in
    a crisis, someone to take you out of your position. So, we need
    more intermediaries of whatever. We need more dealers; we need
    more primary dealers; we need more regional dealers, and we
    have to find ways to incent more intermediaries into this
    market, and everybody has got to be lifting this burden of $50
    trillion. It is doable, but it cannot be done with one elixir
    or one idea or SLR. That is not going to get there. We need a
    lot of participation to make this work, and I am not going to
    qualify at all the level of debt. That is not why we are here.
    As market participants and regulators, we are supposed to be
    prepared for what is coming. This is what is coming. This is
    what we need to do. We need to broaden the market.
        Mr. Fitzgerald. So, would the burden of growing, well,
    right now, it is not concentrated solely on primary dealers,
    right? Would you say that is accurate or not?
        Mr. Tabacchi. I would say it is very much concentrated on
    the largest SIFI banks, their primary dealer subsidiaries. The
    concentration in the largest banks, we are not going to solve
    this by just making the biggest banks bigger. That is not going
    to work.
        Mr. Fitzgerald. Okay.
        Mr. Tabacchi. That is one elixir. Give them a little bit of
    capital relief. That will help, but it is not the whole deal.
        Mr. Fitzgerald. Thank you. I yield back.
        Chairman Lucas. The gentleman yields back. The gentleman
    from Illinois, Mr. Casten, is recognized for 5 minutes.
        Mr. Casten. Thank you, Mr. Chair. I want to follow up with
    you, Dr. Zhu, on your exchange with Mr. Vargas, and if I am
    being way too simple or dumb, feel free to tell me. You would
    not be the first person to tell me that. The idea these central
    clearing agencies free up more money in the system, more
    liquidity in the system, is that an accounting issue or just a
    risk shifting issue? So, is there something fundamental going
    on, or is this just that we are basically taking liabilities
    off the balance sheets of entities that have obligations to
    maintain certain capital ratios in moving that risk to another
    spot in the system that does not have those obligations? Are we
    reducing total risk or just moving it around in ways that
    increases the capital in the system from those who are
    constrained by capital ratios?
        Dr. Zhu. Yes. Thank you for the question. The answer is
    that a central clearing reduces risk. There is a risk. You
    know, think about the broker-dealer in the middle, and they
    borrow money from one side of the market and lend money to
    other side of market in two repo transactions. Now, the risk is
    actually a perfect offset. However, because of accounting
    rules, the gross amount must show up on the balance sheet. That
    turns out to be constrained on the balance sheet capacity of
    the dealers. Central clearing collapses these two offsetting
    transactions into one, and because there is a perfect
    offsetting, there is a zero risk in that sense. Of course, the
    clearinghouse will still charge margin on the net position, but
    that is way smaller compared to the gross position.
        Mr. Casten. I just want to clarify because you said,
    ``because of accounting rules,'' if I do not have a central
    clearing agent in the middle, am I holding more liability even
    if I am on both sides of the trade because I have in some gap,
    preponderance of risk question, I bear more risk? So, is that
    an accounting judgment primarily, or is it that all of a sudden
    I have an entity that has offsetting risks that I did not have
    before?
        Dr. Zhu. In that example, it is both an accounting issue.
    You know, by accounting, it shows on the balance sheet.
    Therefore, it triggers all sorts of capital implications. Now,
    of course, the dealer in the middle has offsetting risk with
    two counterparties, but because these are two counterparties,
    the credit risk cannot offset without a central clearing. By
    moving these transactions into central clearing, the
    clearinghouse basically eliminates all the counterparty risk,
    therefore reducing the overall risk in the system and free up
    balance sheet.
        Mr. Casten. Okay. So, I think I understood that, but I will
    have to think about it. If I have now reduced the risk on the
    primary dealers, and we will stipulate for this example that
    they are G-SIBs someone who has got obligations, does that
    then, by definition, allow them to, essentially, have a
    stronger balance sheet and, therefore, less capital ratios
    before any change in SLRs? So, is this redundant with a change
    in the SLRs, or how do you think about those two pieces
    together?
        Dr. Zhu. Thank you for the question. So, if the dealer is
    able to move that amount off the balance sheet, then that would
    be really helpful in reducing the SLR requirement. It
    essentially takes that number out of the total leverage
    exposure, whereas what the Federal Reserve did the last week
    was to change the capital ratio. These two sorts of move in the
    same direction of relieving balance sheet constraint, but I
    think the central clearing effect here is to remove that part
    of the balance sheet completely away from the calculation of
    leverage ratio.
        Mr. Casten. But if I am reducing my declared liability--my
    math wrong here--I have changed the denominator in the leverage
    ratio----
        Dr. Zhu. Exactly.
        Mr. Casten [continuing]. even before I have changed what
    the ratio is, right?
        Dr. Zhu. Yes, that is right. So, today, the primary dealer
    could immediately take that amount of money sort of away from
    the total average exposure calculation by going to central
    clearing. In that sense, it is a pretty fundamental relief.
        Mr. Casten. Okay.
        Dr. Zhu. It does not really matter what the ratio is
    because that part just disappears from the amount in closure.
        Mr. Casten. Okay. I am getting close to the end of time,
    but I have a sort of a simple view that the Fed provides a
    discount window to the banks, and then the banks provide a
    discount window to hedge funds through the repo market, and I
    do want to make sure that we are not sort of financially
    engineering away a more fundamental problem.
        Mr. Tabacchi. The netting is an accounting and a
    transaction, but the netting only reduces risk because there
    are two counterparties, one on each side. If one of them fails,
    there is still risk, and that risk is either borne by the other
    counterparty or it is borne by the CCP.
        Mr. Casten. Yes. No, I understand, and I know I am out of
    time, but I am curious, and if the chairman will indulge--if
    not, we will take this in writing--do we all agree with Dr. Zhu
    that the creation of more CCPs puts more transparency into the
    system? If so, does that reduce some of the volatility risk in
    the system and whether we are talking about the 2019 situation
    or the flash crash, do we reduce some of the innate volatility
    in a less transparent system by the creation of these CCPs?
        Chairman Lucas. This may require response in writing,
    Doctor, [LAUGHTER.] the nature of that question.
        Chairman Lucas. With that, I always indulge my friend from
    Illinois. The gentleman's time has expired. The chair now
    recognizes the gentleman from Montana, Mr. Downing, for 5
    minutes.
        Mr. Downing. Thank you, Mr. Chairman, for holding this
    hearing on the important role primary dealers play in
    facilitating liquidity in the Treasury's market, especially now
    with the national debt exceeding $38 trillion. Hard to even
    fathom that. With our national debt so high, it is prudent to
    ensure demand remains high for U.S. Treasuries so the Federal
    Government can continue to finance its operations.
        So, on the first one YOU have discussed today how the
    increasing debt issuance has placed additional strain on the
    balance sheets of primary dealers. So I am going to start with
    Ms. McLaughlin. Over the long time, do you consider Congress
    reining in our out-of-control spending, the most critical
    aspect of reducing the strain on primary dealers?
        Ms. McLaughlin. I do.
        Mr. Downing. Thank you. So, continuing, if Congress
    continues to increase spending outside of investing into our
    economy and workers, what happens to interest rates? Should
    primary dealers simply no longer have the ability or
    willingness to purchase Treasuries?
        Ms. McLaughlin. That is for me?
        Mr. Downing. Yes.
        Ms. McLaughlin. Yes. So, I think, as we have seen in other
    countries, a huge level of fiscal spending can be inflationary,
    which can push nominal interest rates higher over time.
    Additionally, as we have seen in other countries with this
    experience, high debt levels tend to face market scrutiny and,
    eventually, result in sovereign credit risk downgrades, which
    increases financing costs. So, yes, I think there would be
    upward pressure on rates.
        Mr. Downing. Thank you. So, if the Federal Government
    cannot stop itself from spending and cannot help our banks to
    make it easier to buy our Treasuries, the borrowing costs of my
    constituents and small business owners go up. So, not only does
    government spending tax our constituents through inflation, but
    it also taxes them through higher interest rates. Would you
    agree?
        Ms. McLaughlin. Yes, I would agree directionally with that
    statement.
        Mr. Downing. Thank you. Moving on to Mr. Tabacchi, despite
    the growth in our national debt, the number of primary dealers
    has not grown with it. All primary dealers are located in major
    American cities or abroad. Are there barriers that prevent
    financial institutions located in more rural areas from
    becoming primary dealers? In other words, is geography
    typically a constraint?
        Mr. Tabacchi. I do not believe so, no. Also, I need to make
    a point in terms of primary dealers and large banks, they do
    not hold the Treasuries. They buy them and sell them.
        Mr. Downing. Right.
        Mr. Tabacchi. The real constituents here that we are
    talking about are the ultimate holders of the Treasuries. Those
    are the ones that we need to be worried about, like Treasury
    hedge funds, which I keep saying, and that is not without risk,
    too, because we cannot allow their leverage to go unabated
    completely.
        Mr. Downing. Right. I appreciate that, and going back to
    rural participation, do you suspect that there is any appetite
    from rural financial institutions to participate in any way?
        Mr. Tabacchi. I think we are going to have to generate that
    appetite, and by that, I mean we need to incent more players to
    want to come into the U.S. Treasury market. Look, many of my
    members are in Midwestern cities, but I do not know if in rural
    areas--now with the electronification of today, they can
    certainly operate there.
        Mr. Downing. Thank you. Ms. McLaughlin, any comments on
    that?
        Ms. McLaughlin. Yes, thank you, Congressman. I would note
    that in the 1970s and 1980s, we had a lot of small, independent
    broker-dealers that were primary dealers located all over the
    country. We have subsequently seen massive consolidation in
    both the banking and the brokerage sectors, between the 1980s
    and the 2000s in particular. A lot of those firms that were
    independent broker-dealers located all over the country merged
    or were acquired by banking organizations, and that is why you
    see a lot of bank-affiliated firms on the primary dealer list
    today.
        Mr. Downing. Right. Thank you. So, the Federal Reserve
    recently conducted its Second Monetary Policy Framework Review,
    which provided an open forum and process to solicit feedback on
    how to improve their approach and conduct monetary policy. In
    this process, they periodically hold conferences, present
    academic papers, and gather opinions from the public across the
    country. So, again, to Ms. McLaughlin, given the importance
    primary dealers play in our financial system and monetary
    policy, do you think it would be beneficial if the New York
    Federal Reserve conducted a similar style of review on how to
    improve the primary dealer system, especially as primary
    dealers face an increasing Treasury security issuance?
        Ms. McLaughlin. Thank you for the question. I would say it
    depends on the problem that we are trying to solve. So, if the
    problem we are trying to solve is increasing intermediation
    capacity for the market broadly, I do not personally think that
    increasing the number of primary dealers will move the needle
    very much because what it is really doing is just renaming the
    existing intermediaries in the market as primary dealers. I see
    a lot more potential for added intermediation capacity for
    changes in market structure. I think that is going to be a lot
    more transformative. Central clearing is a great example of
    that. I have also advocated for further study of all-to-all
    trading protocols, which do not exist in the Treasury market,
    but do exist in some other markets, such as corporate debt.
    Like Jim says, there is no silver bullet, so I think it is
    going to be a range of solutions that we want to bring to bear,
    but I think all avenues are worth exploring.
        Mr. Downing. Outstanding. Thank you. My time has expired. I
    yield.
        Chairman Lucas. The gentleman's time has expired. The chair
    now recognizes the gentleman from Nebraska, Mr. Flood, chair of
    the Subcommittee on Housing, for 5 minutes.
        Mr. Flood. Thank you, Mr. Chairman. It is so fortuitous
    that we are having this conversation today, because last night
    at 7:40, I got an email from somebody I respect greatly in
    Lincoln, a long-time business person, and he writes, ``Mike,
    amongst our long list of issues facing our country, I think the
    biggest issue is our lack of willingness to deal with our
    growing massive debt. When do we wake up and deal with this
    issue? The joke of shutting down the government is a minor
    issue compared to an economic meltdown.'' I do not think that
    shutting down the government is a joke. That is very serious
    stuff, but this is relevant, and part of the subtext behind our
    conversation about primary dealers today is a cold, hard
    reality that we have talked about.
        We have a budget problem in this country, our debt is
    continuing to rise year-over-year, and any student of history
    will tell you that when debt and deficits increase fast enough,
    their effects start to become evident in other parts of the
    economy. Today's hearing covers one such example of this
    phenomena: Treasury market primary dealers are stretched thin
    when Treasury must issue more and more debt to finance the
    operations of our government. The more debt we issue, the more
    capacity required to release those notes and securities to the
    broader Treasury market.
        Let me be clear: the long-term solution here is to simply
    tackle the problem of overspending. We need to get our fiscal
    house in order. If we curb our deficit and issue less debt,
    less primary dealer capacity is required. Better yet, if we
    actually stop running a deficit and run a surplus to start
    paying down, that is outstanding. However, in this budget
    environment, a well-functioning and liquid market for
    Treasuries is absolutely essential, and primary dealers are a
    very important piece of that puzzle.
        Mr. Tabacchi, if Treasury keeps issuing more securities,
    and financial regulation is holding dealers back from
    purchasing these securities, what happens to interest rates?
        Mr. Tabacchi. They are going to have to go up. I mean, you
    do not have to be a rocket scientist to know that one.
        Mr. Flood. So, Mr. Tabacchi, the President and Secretary
    Bessent shared a goal to lower 10-year Treasury yields to make
    the cost of borrowing money more affordable. They have begun
    addressing some of those regulations, thankfully. Would the
    next step, in your opinion, be to encourage the demand for
    Treasury securities? If so, how could we effectively encourage
    that demand?
        Mr. Tabacchi. Well, I think you have to make it a little
    bit both easier and harder in a way for the variable buyers of
    Treasuries, which are Treasury hedge funds. By ``easier,'' I
    think the funding rate right now is squeezing their spread.
    Now, they are the variable rise buyers of Treasuries, and
    because funding rates are elevated, we are squeezing their
    spread, so we are playing with fire that they are not going to
    get tired of the Treasury market and go on to do something
    else.
        Now, a case in point, for the month of November, the
    average SOFR rate, repo rate, was 4.01 or so. It was basically
    over 4 for the entire month. Well, in that month, the Fed
    reduced interest rates by 25 basis points. There was not a real
    impact on the marketplace because funding rates are higher
    because of a lack of balance sheet. That is why I am saying we
    are playing with fire here.
        Mr. Flood. Okay. Ms. Klimpel, in your testimony, you
    highlight the end user cross-margining as a critical initiative
    for the market. Can you talk a little bit more about what the
    expansion of end user cross-margining will do for the market
    and what other areas you are focused on to improve margin
    efficiency?
        Ms. Klimpel. Thank you for the question, Congressman. So,
    FICC and the CME Group have had a cross-margining arrangement
    in place since 2004 for our common members. The proposal that
    we have been working on together, along with our respective
    supervisors, is to bring that cross-margining arrangement down
    to what we call the end user customer level, so that end user
    clients of our common members who have offsetting interest rate
    futures positions cleared at CME Group and cash and repo
    positions cleared at FICC, can, to the extent that those
    positions are offsetting from a risk perspective, gain margin
    efficiencies recognizing that risk offset. That efficiency is
    going to improve the capacity of those end-user customers to be
    able to transact Treasury activity and also smooth their
    implementation of bringing more activity into central clearing
    in connection with the Treasury clearing requirement.
        End user cross-margining is also going to improve risk
    management in the Treasury market by allowing for closer cross-
    CCP coordination in a default situation and it is also going to
    help improve transparency across the asset classes by being
    able to see the client's activity across the CCPs. We are also
    focusing, in addition to the cross-margining rate that it was--
    --
        Mr. Flood. Madam, you are fantastic, by the way. Thank you
    to the chairman.
        Chairman Lucas. The gentleman's time has expired.
        Mr. Flood. I yield before I get in trouble.
        Chairman Lucas. The chair now recognizes the gentleman from
    Indiana, Mr. Stutzman, for 5 minutes.
        Mr. Stutzman. Thank you, Mr. Chairman, and thank you all
    for being here.
        Mr. Tabacchi, I would like to come to you. Our country has
    a serious spending problem--the Federal Government, I should
    clarify--and primary dealers provide steady demand for our
    ever-growing debt. However, the size of bank balance sheets has
    not kept pace with our out-of-control spending, which we saw
    explode under the Biden Administration. How has government
    spending affected balance sheet utilization for primary dealers
    in the last few years?
        Mr. Tabacchi. Again, the important constraint of the
    primary dealers, of all the dealers that are intermediaries in
    the U.S. Treasury market is the financing markets, financing
    securities, and, again, it is simple. How many people buy a car
    that does not use financing? The variable buyer of Treasuries
    today need financing, and financing is constrained. I will give
    you another statistic. Year-end looks like it is going to be
    difficult this year. It is currently trading at 4.5, while 90
    percent probability the market is pricing in another 25-basis
    point cut. How can that be? The funding markets where the
    constraint of financing hits the most are not functioning well,
    and look, I am not an academic. I just sit at a desk, and I
    watch it all day. It is not working.
        Mr. Stutzman. Would you say primary dealers should dedicate
    more room on their books to our debt?
        Mr. Tabacchi. It is more than just that. Once you get to
    balance sheet capacity, you have so much capacity based on your
    capital. Once you get to that capacity, as I told you, the
    treasurer taps you on the shoulder, that is it. You cannot take
    any more. So, we need more balance sheets coming into the
    market. If you look at the CCPs as the hub of the Treasury
    market, the intermediaries, the broker-dealers, the primary
    dealers, the regional banks, those are all the spokes coming
    in. We need more of them because they provide the balance sheet
    capacity to the end user.
        Mr. Stutzman. Ms. McLaughlin, I saw you shaking your head.
    I want to ask you, so with the current barriers to entry, are
    we preventing institutions capable of becoming primary dealers
    from doing so? How has that number of primary dealers
    fluctuated over time, and what are the factors that have
    contributed to that number?
        Ms. McLaughlin. Thank you, Congressman. Yes, the number of
    primary dealers has fluctuated over time. Since the primary
    dealer system that we know today was formed in 1960, we have
    seen the number go up and down. The drivers of those changes
    have not actually been as much the eligibility criteria as just
    trends in the market structure. So, for example, the number of
    primary dealers grew during the Japanese economic boom in the
    1980s when Japanese firms were becoming global and stepping
    into the Treasury market to intermediate Treasuries. We saw a
    fall in that number during the late 1990s and early 2000s as
    rapid consolidation resulted in mergers, some failures, and
    some acquisitions of primary dealer firms. Then we have seen
    the number creep up again since the global financial crisis
    from a low of 17, I think it was, in 2008, to the current 25.
        Mr. Stutzman. Are there incentives for banks to become
    dealers right now, and if there are, do you think those are
    sufficient or attractive as they should be?
        Ms. McLaughlin. So, surely there are incentives. I think
    the answer to whether it is attractive might be different for
    different firms. Primary dealers do enjoy some benefits. For
    example, there are a number of large investors and smaller
    investors that only transact with primary dealers, so access to
    customer base might be one. Primary dealers also have access to
    the Fed's Standing Repo Facility and the securities lending
    program, which is only available to primary dealers.
        Mr. Stutzman. Mm-hmm.
        Ms. McLaughlin. And primary dealers currently have access
    alone to the Treasury's buyback program as well.
        Mr. Stutzman. Mm-hmm.
        Ms. McLaughlin. So, there are clearly reasons why some
    firms might want to do that, but I would also note that there
    are firms that are intermediaries that have chosen not to apply
    for primary dealer status, weighing the costs and benefits of
    that status.
        Mr. Stutzman. So, are there ways that those are not primary
    dealers, are there ways that we could encourage them to
    purchase more Treasuries?
        Ms. McLaughlin. I mean, I guess, again, what is the problem
    that we are trying to solve? So, if we are trying to solve the
    problem of balance sheet capacity, I think things like central
    clearing, other innovations in market structure that either add
    net intermediation capacity to the market or relieve demand for
    intermediation may be the most helpful.
        Mr. Stutzman. Can you be a small or midsized institution
    and participate?
        Ms. McLaughlin. So, if you meet the capital threshold,
    which was reduced in 2016 for broker-dealers, and you have the
    operational capacity, you can certainly apply and you would be
    considered. If you can demonstrate that you can meet the
    requirements operationally and also that you have a sufficient
    presence in the market----
        Mr. Stutzman. Mm-hmm.
        Ms. McLaughlin [continuing]. you would generally be
    admitted as a primary dealer.
        Mr. Stutzman. Okay. Thank you, Ms. McLaughlin.
        Chairman Lucas. The gentleman's time has expired. All time
    has expired.
        I would like to thank all of the witnesses for their
    testimony today, and without objection, all members will have 5
    legislative days to submit additional written questions for the
    witnesses to the chair. Questions will be forwarded to the
    witnesses for their response. Witnesses, please respond no
    later than January 7, 2026.

        [The information referred to was not submitted prior to
    printing.]
        Chairman Lucas. This hearing is adjourned.

        [Whereupon, at 4:01 p.m., the subcommittee was adjourned.]

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