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

WHAT THE EURO CRISIS MEANS FOR TAXPAYERS AND THE U.S. ECONOMY, PART II

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

HEARING

before the

SUBCOMMITTEE ON TARP, FINANCIAL SERVICES
AND BAILOUTS OF PUBLIC AND PRIVATE PROGRAMS

of the

COMMITTEE ON OVERSIGHT
AND GOVERNMENT REFORM

HOUSE OF REPRESENTATIVES

ONE HUNDRED TWELFTH CONGRESS

FIRST SESSION

__________

DECEMBER 16, 2011

__________

Serial No. 112-98

__________

Printed for the use of the Committee on Oversight and Government Reform

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

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COMMITTEE ON OVERSIGHT AND GOVERNMENT REFORM

DARRELL E. ISSA, California, Chairman
DAN BURTON, Indiana ELIJAH E. CUMMINGS, Maryland,
JOHN L. MICA, Florida Ranking Minority Member
TODD RUSSELL PLATTS, Pennsylvania EDOLPHUS TOWNS, New York
MICHAEL R. TURNER, Ohio CAROLYN B. MALONEY, New York
PATRICK T. McHENRY, North Carolina ELEANOR HOLMES NORTON, District of
JIM JORDAN, Ohio Columbia
JASON CHAFFETZ, Utah DENNIS J. KUCINICH, Ohio
CONNIE MACK, Florida JOHN F. TIERNEY, Massachusetts
TIM WALBERG, Michigan WM. LACY CLAY, Missouri
JAMES LANKFORD, Oklahoma STEPHEN F. LYNCH, Massachusetts
JUSTIN AMASH, Michigan JIM COOPER, Tennessee
ANN MARIE BUERKLE, New York GERALD E. CONNOLLY, Virginia
PAUL A. GOSAR, Arizona MIKE QUIGLEY, Illinois
RAUL R. LABRADOR, Idaho DANNY K. DAVIS, Illinois
PATRICK MEEHAN, Pennsylvania BRUCE L. BRALEY, Iowa
SCOTT DesJARLAIS, Tennessee PETER WELCH, Vermont
JOE WALSH, Illinois JOHN A. YARMUTH, Kentucky
TREY GOWDY, South Carolina CHRISTOPHER S. MURPHY, Connecticut
DENNIS A. ROSS, Florida JACKIE SPEIER, California
FRANK C. GUINTA, New Hampshire
BLAKE FARENTHOLD, Texas
MIKE KELLY, Pennsylvania

Lawrence J. Brady, Staff Director
John D. Cuaderes, Deputy Staff Director
Robert Borden, General Counsel
Linda A. Good, Chief Clerk
David Rapallo, Minority Staff Director

Subcommittee on TARP, Financial Services and Bailouts of Public and
Private Programs

PATRICK T. McHENRY, North Carolina, Chairman
FRANK C. GUINTA, New Hampshire, MIKE QUIGLEY, Illinois, Ranking
Vice Chairman Minority Member
ANN MARIE BUERKLE, New York CAROLYN B. MALONEY, New York
JUSTIN AMASH, Michigan PETER WELCH, Vermont
PATRICK MEEHAN, Pennsylvania JOHN A. YARMUTH, Kentucky
JOE WALSH, Illinois JACKIE SPEIER, California
TREY GOWDY, South Carolina JIM COOPER, Tennessee
DENNIS A. ROSS, Florida

C O N T E N T S

----------
Page
Hearing held on December 16, 2011................................ 1
Statement of:
Dudley, William C., president and CEO, Federal Reserve Bank
of New York; Steven B. Kamin, director, Division of
International Finance, Board of Governors of the Federal
Reserve System; and Mark Sobel, Deputy Assistant Secretary
for International Monetary and Financial Policy, U.S.
Department of Treasury..................................... 10
Dudley, William C........................................ 10
Kamin, Steven B.......................................... 19
Sobel, Mark.............................................. 27
Letters, statements, etc., submitted for the record by:
Cummings, Hon. Elijah E., a Representative in Congress from
the State of Maryland, prepared statement of............... 8
Dudley, William C., president and CEO, Federal Reserve Bank
of New York, prepared statement of......................... 13
Kamin, Steven B., director, Division of International
Finance, Board of Governors of the Federal Reserve System,
prepared statement of...................................... 21
McHenry, Hon. Patrick T., a Representative in Congress from
the State of North Carolina, prepared statement of......... 4
Sobel, Mark, Deputy Assistant Secretary for International
Monetary and Financial Policy, U.S. Department of Treasury,
prepared statement of...................................... 29

WHAT THE EURO CRISIS MEANS FOR TAXPAYERS AND THE U.S. ECONOMY, PART II

----------

FRIDAY, DECEMBER 16, 2011

House of Representatives,
Subcommittee on TARP, Financial Services and
Bailouts of Public and Private Programs,
Committee on Oversight and Government Reform,
Washington, DC.
The subcommittee met, pursuant to notice, at 9:35 a.m., in
room 2154, Rayburn House Office Building, Hon. Patrick T.
McHenry (chairman of the subcommittee) presiding.
Present: Representatives McHenry, Guinta, Gowdy, Quigley,
Cummings, and Maloney.
Staff present: Molly Boyl, parliamentarian; Katelyn E.
Christ, research analyst; Drew Colliatie, staff assistant; John
Cuaderes, deputy staff director; Gwen D'Luzansky, assistant
clerk; Adam P. Fromm, director of Member services and committee
operations; Linda Good, chief clerk; Peter Hallor, senior
counsel; Ryan M. Hambleton, professional staff member;
Christopher Hixon, deputy chief counsel, oversight; Mark D.
Marin, director of oversight; Rafael Maryahin, counsel; Jaron
Bourke, minority director of administration; Devon Hill,
minority staff assistant; Jennifer Hoffman, minority press
secretary; Lucinda Lessley, minority policy director; Jason
Powell and Steven Rangel, minority senior counsels; and Brian
Quinn, minority counsel.
Mr. McHenry. The committee will come to order.
This is the Subcommittee on TARP, Financial Services and
Bailouts of Public and Private Programs.
Our hearing today is, ``What the Euro Crisis Means for
Taxpayers and the U.S. Economy.'' This is part 2 of a two-part
hearing about the ongoing crisis that Europe is facing and the
American people, the American citizens', as taxpayers, exposure
to that.
It is the tradition of this subcommittee to begin with the
Oversight and Government Reform Committee's mission statement.
We exist to secure two fundamental principles: First,
Americans have a right to know that the money Washington takes
from them is well spent. And, second, Americans deserve an
efficient, effective government that works for them. Our duty
on the Oversight and Government Reform Committee is to protect
these rights.
Our solemn responsibility is to hold government accountable
to taxpayers, because taxpayers have a right to know what they
get from their government. We will work tirelessly, in
partnership with citizen watchdogs, to deliver the facts to the
American people and bring genuine reform to the Federal
bureaucracy.
This is the mission of the Oversight and Government Reform
Committee.
I now recognize myself for 5 minutes for an opening
statement.
Over 3 years ago, Americans witnessed domestic and global
markets deteriorating, resulting in millions of job losses and
unprecedented measures by governments and central banks to prop
up financial institutions. As the U.S. economy remains
vulnerable in the midst of a recovery, just across the Atlantic
our friends in the European Union fight to fend off a second
wave of economic and financial turmoil.
Today's hearing examines the economic unrest facing Europe,
actions undertaken by central banks and international
organizations in response, the options that remain at our
disposal, and potential consequences to the U.S. economy and
taxpayers.
During the onset of the 2008-2009 financial crisis, asset-
backed securities, chiefly mortgage-backed securities,
unexpectedly became illiquid and fell sharply in value,
resulting in a housing bust--now, housing downturn, ended up
with an asset crunch that ended up in a larger housing bust.
Financial firms were forced to write down losses that depleted
their capital base and reduced their access to private
liquidity. In response, the U.S. Treasury, Federal Reserve, and
U.S. Congress acted, well, in a way that the American people
are very familiar with. They know this story.
Today, Europe's version of this story appears to be one of
which sovereign debt plays the role of asset-backed securities.
Some say history repeats itself; others say that it simply
rhymes. This may be the case of history repeating itself or
simply it feeling and it seeming like the last crisis or
perhaps the European successor to what happened between World
War I and World War II.
Europe's banks hold substantial amounts of European
sovereign debt that has dropped in value as the debt of
periphery countries has become unmanageable. Given the
substantial amounts of sovereign debt on the books of European
banks, their ability to borrow has been brought into question.
Perhaps these European sovereigns are analogous to Freddie and
Fannie preferred that many thrifts and small banks across this
country held as Tier 1 capital.
The European twist to the story is that nations home to the
most troubled banks do not have the financial capacity,
perhaps, to bail them out. Austerity measures and maxed-out
balance sheets of periphery countries, known as PIGS, have left
the EU and its central banks scrambling to identify an
intervention to end the panic and restore normalcy to the
markets.
As time runs out for the EU, work--works to strengthen its
framework in the European Central Bank, retains its dubious
role as lender of last resort, a recurring financial savior
inserting itself in the mix. The Federal Reserve and, to a
lesser extent, the IMF are also providing this same notion.
Last month, in an effort to aid European banks that have
trouble accessing dollars due to more scepticism about their
health, six central banks, led by the Federal Reserve, made it
cheaper for banks to borrow dollars to ease Europe's sovereign
debt crisis. In the program's first month, there have been over
$50 billion in transactions, prompting two immediate questions:
Does the Fed action permit banks to get through the crisis
without addressing their most toxic assets? And has the Fed
averted a liquidity crisis or simply postponed an insolvency
crisis?
Just yesterday, IMF Director Christine Lagarde said,
``There is no economy in the world, whether low-income
countries, emerging markets, middle-income countries, or super-
advanced economies, that will be immune to the crisis that we
see not only unfolding but escalating.'' Director Lagarde's
remarks are troubling and remind us of the significance a
financial meltdown has on the global economy. If events in
Europe threaten U.S. banks and its economy, American
policymakers must know the facts of the situation and be ready
to act.
Despite differences of opinion about the Fed and U.S.
Treasury actions, the reality is only a handful of individuals
at each institution and department truly understand U.S.
exposure to the eurozone crisis. Today's oversight hearing
allows the Federal Reserve Bank of New York, the Board of
Governs of the Federal Reserve System, and the U.S. Treasury--
all of which operate as our Nation's foremost decisionmakers in
the areas of economics and monetary policy--to communicate to
Congress and to the American public about what is happening.
As daily headlines read of capital injections to the tune
of billions and trillions of euros and dollars, reenforcing the
interconnectedness of the global economy, it is vital that
Congress conduct oversight on rescue proposals and threats to
our economy. A simple question must be answered, a very simple
question, such as: Are the actions of the Federal Reserve
consistent with its mandate? And are the firms seeking
liquidity simply illiquid or, perhaps, insolvent?
I am interested to hear from this panel and from each of
you about your views on this eurozone crisis, current potential
rescue efforts, and the consequences of the crisis on the
United States--not just to the United States, but to our
government; not just to our government, to our economy; not
just to our economy, our citizens and taxpayers.
That is what this hearing is about. We don't want to be
caught flatfooted on what is happening in the global economy.
And that is why policymakers on the Hill must know what
potential actions you can take, how you view this crisis, and
the actions that you have taken.
With that, I recognize the ranking member, the gentleman
from Illinois, Mr. Quigley.
[The prepared statement of Hon. Patrick T. McHenry
follows:]

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[GRAPHIC] [TIFF OMITTED] T2800.002

Mr. Quigley. Thank you, Mr. Chairman.
Yesterday, we heard from several nongovernmental witnesses
with a shared concern of the euro debt crisis. There was a
general agreement that a debt default in Europe would have a
devastating consequence for U.S. taxpayers. As Mr. Elliott
testified, we are exposed to nearly $5 trillion in potential
losses on loans and commitments to European governments, banks,
and corporations.
At the same time, yesterday's witnesses differed on the
point of whether Europe can resolve this crisis with its own
resources. Today, I look forward to hearing from our government
witnesses, who can speak to their roles in resolving this
crisis. We should be pushing Europe to act quickly and
responsibly, but we cannot expose the U.S. taxpayer to
potential losses.
Thank you. And I would like to yield the balance of my time
to the ranking member of the full committee, Mr. Cummings.
Mr. Cummings. Well, thank you, gentlemen, for yielding.
Mr. Chairman, thank you for calling the hearings yesterday
and today on the financial crisis in Europe and its potential
effects on the United States.
At yesterday's hearing, we heard that Europe faces two
problems. One is a long-term budgetary problem that will
require scaling back expenditures. The other is a much more
imminent threat, that a major European country might default on
its debt. It appears that European officials are paying close
attention to the long-term problem at the expense of
aggravating the acute crisis.
Yesterday, Desmond Lachman, an economist and policy expert
with the American Enterprise Institute, testified as follows:
``There is very real risk that continuing to apply substantial
fiscal tightening will lead to a very deep economic recession.
A deep recession would make it very difficult for countries to
reduce their budget deficits and would undermine their
political willingness to remain within the euro.''
In 2008, when our own country faced the financial crisis,
the Federal Reserve took action to prevent an immediate
financial panic by acting as a lender of last resort. It did
not insist that Congress first agree on how to slash the
Federal deficit, cut the Federal work force, cut Medicare, and
cut Social Security.
Although the actions taken in 2008 were not without
controversy, the immediate financial crisis had to be averted.
Long-term measures were left for the long term.
Unfortunately, perhaps dangerously, the European Central
Bank is balking at functioning as lender of last resort. My
concern is that this failure to act now could result in a deep
recession in Europe or an insolvency of a major European bank,
which could put our own economic recovery at risk.
Of course, our own recovery is not complete, by any
measure. It is true that, after unprecedented assistance from
the American taxpayers, corporate profits have returned to
their highest level in years. Executives are making record
salaries, and the richest Americans are continuing to see their
incomes and wealth grow exponentially. Main Street, however, is
struggling mightily. The unemployment rate continues to hover
at 9 percent. Mortgage servicers continue to foreclose on
millions of American families, many of them in my district. And
banks have yet to be accountable for the abuses that caused
this crisis.
For these reasons, I am glad that William Dudley, the
president of the Federal Reserve Bank of New York, is
testifying today. Just last month, he gave a speech at West
Point in which he called on Congress and the administration to
continue near-term fiscal support to underpin economic activity
and long-term fiscal consolidation to ensure debt
sustainability.
He also explained that addressing the housing crisis is
essential to restoring the strength of our economy.
Specifically, he called for ``borrowers who are underwater on
their loans but continue to make their monthly payments to earn
accelerated principal reduction over time.'' He also called for
more effective refinancing programs to ``eliminate frictions
and lower costs to refinancing for all borrowers with prime
conforming loans.'' His message is directed to us in this
Congress, and we should pay close attention to it.
Examining the European financial crisis is a very important
endeavor. It is a real threat to European countries and to the
United States. And I commend the chairman for holding these
hearings.
It is my hope, however, that our committee will also focus
on efforts to help Main Street USA and the millions of middle-
class American families and workers who were the true victims
of the financial crisis we face here at home.
And, with that, Mr. Chairman, I yield back.
[The prepared statement of Hon. Elijah E. Cummings
follows:]

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Mr. McHenry. Members have 7 days to submit opening
statements for the record.
And we will now recognize our panel of witnesses.
Mr. William C. Dudley is the president and CEO of the
Federal Reserve Bank of New York. Mr. Steven B. Kamin is the
director of the Division of International Finance at the Board
of Governors of the Federal Reserve System. Mr. Mark Sobel is
the Deputy Assistant Secretary for International Monetary and
Financial Policy at the U.S. Department of Treasury.
It is the policy of this committee that all witnesses be
sworn before they testify. So if you will please rise and raise
your right hands.
[Witnesses sworn.]
Mr. McHenry. You may be seated.
Let the record reflect that all witnesses answered in the
affirmative.
And, with that, as you well know from congressional
hearings, we have a light system. Green means go; red means
stop; yellow means, well, just like a stoplight, hurry up.
So, with that, you will have 5 minutes to summarize your
opening statements, and we will begin with you, Mr. Dudley.

STATEMENTS OF WILLIAM C. DUDLEY, PRESIDENT AND CEO, FEDERAL
RESERVE BANK OF NEW YORK; STEVEN B. KAMIN, DIRECTOR, DIVISION
OF INTERNATIONAL FINANCE, BOARD OF GOVERNORS OF THE FEDERAL
RESERVE SYSTEM; AND MARK SOBEL, DEPUTY ASSISTANT SECRETARY FOR
INTERNATIONAL MONETARY AND FINANCIAL POLICY, U.S. DEPARTMENT OF
TREASURY

STATEMENT OF WILLIAM C. DUDLEY

Mr. Dudley. Thank you. Chairman McHenry, Ranking Member
Quigley, Congressman Cummings, and members of the subcommittee,
it is an honor to testify before you today to discuss the
economic and fiscal challenges facing Europe and the potential
implications for the United States.
Let me preface these remarks by stating that the views
expressed in my written and oral testimony are solely my own
and do not represent the official views of the Federal Reserve
Board or any other part of the Federal Reserve System.
Although the U.S. economy is currently expanding at a
moderate pace, we face significant downside risks, mostly
relating to the sovereign debt crisis in Europe. Because
developments in Europe will have an important bearing on the
prospects for growth and jobs here in the United States, the
Federal Reserve is monitoring the situation there very closely.
This is also why we have taken special steps, in cooperation
with other central banks, to support the flow of credit to
households and businesses. I welcome the opportunity to testify
on these matters today.
The situation in the euro area is very unsettled, with
pressure on sovereign debt markets and local banking systems.
The euro area has the capacity, including the fiscal capacity,
to overcome its challenges. However, the politics are very
difficult.
Europe's leadership has affirmed its commitment to the
European Union and its single-currency monetary union on
numerous occasions, and leadership is working to achieve
greater policy coordination in areas such as fiscal policies.
Assuming that Europe ultimately succeeds in managing this
situation, a stronger union will emerge that will be viewed as
more robust and resilient.
If, in contrast, Europe were not to be fully successful in
charting an effective course, this could have a number of
negative implications for the United States. In particular,
there are three possibilities that I would like to highlight
for the subcommittee today.
First, if the European situation were to deteriorate, then
the euro area would face even more serious fiscal and economic
challenges. As a result, growth within the eurozone would
weaken, and this would lead to less demand for U.S. goods and
services that are exported to Europe from companies and workers
here. It is important to recognize that the euro area is the
world's second-largest economy after the United States and an
important trading partner for us.
Second, if the European situation were to deteriorate, this
could put pressure on the U.S. banking system. The good news is
that the U.S. banks are much more robust and resilient than
they were a few years ago. Also, the direct exposures of U.S.
banks to the countries in Europe that are facing the most
intense fiscal challenges are actually quite modest.
The bad news is that the exposures of the U.S. banks climb
quite sharply when one also considers the exposures to the core
European countries and to the overall European banking system.
This means that if the crisis were to broaden further and
intensify, this could put greater pressure on U.S. banks'
capital and liquidity buffers.
Third, if the European situation were to deteriorate
further, financial markets would likely become more stressed.
This could tighten the availability of credit to U.S.
households and businesses, and this could damage the U.S.
recovery and result in slower economic growth and slower job
creation.
In terms of the actions the official sector in the United
States has taken or could take with regard to Europe, I want to
emphasize that any and all such actions pursued by the Federal
Reserve are motivated by the mandates that Congress has given
the Federal Reserve to promote price stability and maximum
sustainable employment here in the United States.
When the Federal Reserve was created by Congress in 1913,
it was given the responsibility to provide liquidity to the
financial system in times of stress in order to shield the
economy, to the extent possible, from the severe effects of
financial instability on economic activity and jobs. While the
economy and the markets have evolved substantially in the
century since then, this basic principle continues to guide our
efforts today.
In today's globally integrated economy, banks headquartered
outside the United States play an important role in providing
credit and other financial services in the United States,
providing a total of about $900 billion in overall financing
within the United States. For these banks to provide U.S.
dollar loans, they have to maintain access to U.S. dollar
funding. At a time when it is already hardest for American
families and firms to get the credit they had need, we have a
strong interest in making sure that these banks can continue to
be active in the U.S. dollar markets.
One way we can help to support the availability of dollar
funding is by engaging in currency swaps with other central
banks. This has been used as a policy tool dating back to 1962.
Recently, the FOMC decided to use this tool, cooperating with
five other central banks. This action is designed to support
financial stability, avoid an unnecessary tightening in
financial conditions, and support economic activity and jobs in
the United States.
In particular, by reducing the cost of dollar funding by
the swap lines last month, we reduced the pressure on banks in
Europe to abruptly liquidate their U.S. dollar assets. Thus,
this step will help to insulate U.S. markets from the pressures
in Europe and support the availability of credit to U.S.
households and businesses.
In sum, I am hopeful that Europe can effectively address
its current challenges. The Federal Reserve is actively and
carefully assessing the situation and the potential impact on
the economy. We will continue to monitor the situation closely.
Thank you for your invitation to testify today, and I look
forward to your questions.
[The prepared statement of Mr. Dudley follows:]

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Mr. McHenry. Mr. Kamin.

STATEMENT OF STEVEN B. KAMIN

Mr. Kamin. Thank you, Chairman McHenry, Ranking Member
Quigley, Congressman Cummings, and members of the subcommittee,
for inviting me to talk today about the economic situation in
Europe and recent actions taken by the Federal Reserve in
response to the situation.
The fiscal and financial strains in Europe are spilling
over to the United States by restraining our exports,
depressing confidence, and adding to pressures on U.S.
financial markets. Of note, foreign financial institutions,
especially those in Europe, are finding it more difficult to
borrow dollars.
These institutions make loans to U.S. households and firms,
as well as to borrowers in other countries who use those loans
to purchase U.S. goods and services. Thus, difficulties
borrowing dollars by European institutions may make it harder
for U.S. households and firms to get loans and for U.S.
businesses to sell their products abroad. Moreover, these
disruptions could spill over into U.S. money markets, raising
the cost of funding for U.S. financial institutions.
To address these potential risks to the United States, on
November 30th the Federal Reserve announced, jointly with the
European Central Bank and the central banks of Canada, Japan,
Switzerland, and the United Kingdom, that it would revise,
extend, and expand its swap lines with these institutions. The
measures were motivated by the need to ease strains in global
financial markets which, if left unchecked, could impair the
supply of credits to households and businesses in the United
States and impede our economic recovery.
Three steps were described in the announcement. First, we
reduce the pricing of the dollar swap lines from a spread of
100 basis points over the overnight index swap rate to 50 basis
points over that rate. The lower cost enables foreign central
banks to reduce the cost of the dollar loans they provide to
financial institutions in their jurisdictions. This, in turn,
should help alleviate strains in international financial
markets and put foreign institutions in a better position to
maintain their supply of credit, including to U.S. households
and businesses.
Second, we extended the closing date for these lines from
August 1, 2012, to February 1, 2013, demonstrating that central
banks were prepared to work together for a sustained period, if
needed, to support global liquidity conditions.
Third, we agreed to establish swap lines in the currencies
of the other participating central banks. These lines would
allow the Federal Reserve to draw foreign currencies and
provide them to U.S. financial institutions on a secured basis.
U.S. financial institutions are not experiencing any foreign
currency liquidity pressures at present, but we judged it
prudent to make such arrangements should the need arise in the
future.
I would like to emphasize that information on the swap
lines is fully disclosed on the Web sites of the Federal
Reserve Board and the Federal Reserve Bank of New York.
I also want to underscore that the swap transactions are
safe and secure. First, the swap transactions present no
exchange rate or interest rate risk because the terms of each
drawing and repayment are set at the time the draw is
initiated. Second, each drawing on the swap line must be
approved by the Fed, allowing us to closely monitor use of this
facility. Third, the foreign currency held by the Fed during
the term of the swap provides an important safeguard.
Fourth, our counterparties are the foreign central banks,
not the private institutions to which the central banks lend.
The Fed's history of close interaction with these central banks
provides a track record justifying a high degree of trust and
cooperation. Finally, the short tenor of the swaps means that
positions could be wound down relatively quickly were it judged
appropriate to do so.
Notably, the Fed has not lost a penny on these swap lines
since they were established in 2007. In fact, fees on these
swaps have added roughly $6 billion to overall earnings on Fed
operations.
To conclude, the changes we have made to our swap line
arrangements should help maintain the flow of credit to U.S.
households and businesses while protecting the U.S. taxpayer.
Ultimately, however, the easing of financial strains here and
abroad will require concerted action by the European
authorities. We are closely monitoring the events in Europe and
the spillovers to the U.S. economy and financial system.
Thank you again for inviting me to appear before you today.
I would be happy to answer any questions you may have.
[The prepared statement of Mr. Kamin follows:]

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Mr. McHenry. Thank you, Mr. Kamin.
Mr. Sobel.

STATEMENT OF MARK SOBEL

Mr. Sobel. Chairman McHenry, Ranking Member Quigley,
Congressman Cummings, thank you for this opportunity to discuss
interests in European economic reform.
Over the past year, stresses in Europe have spread to some
of Europe's largest economies. The crisis now facing Europe is
deeper and more entrenched. Euro area growth is projected by
most analysts to be negative this quarter and into early 2012.
The OECD, which earlier this year projected eurozone growth in
2012 of 2 percent, just revised this estimate to 0.2 percent.
In the United States, the pace of recovery has
strengthened, but given strong global linkages, Europe's
problems are a serious risk for us. The EU buys nearly 20
percent of U.S. goods exports. When European growth slows, U.S.
jobs and exports decline. When European financial markets
tighten, U.S. banks may be less willing to lend, hurting
American businesses that rely on bank credit to grow. When
European stocks decline, U.S. equity markets often do as well,
hitting the savings, the 401(k) programs, and wealth of
Americans. In States such as New York, North Carolina, and
Illinois, over 150,000 jobs, and over 250,000 in Illinois, are
export-related.
Europe has an enormous self-interest in tackling its
problems. As President Obama and Secretary Geithner have
stated, Europe clearly has the capacity and resources to
address its crisis. Europe is making progress in putting in
place reforms to create the conditions for future growth and
build a stronger architecture for fiscal union. The recent
European Council agreement represents an important step
forward, but more work remains to be done.
Supporting Europe is a matter of vital national interest
for the wellbeing of the American economy. Therefore, we are
heavily engaged with Europe. Bilaterally, the President is
actively engaged. There are extensive contacts with European
leaders. Secretary Geithner has traveled to the Europe three
times in the last 3 months. Multilaterally, we are working
through the G-20. Last month in Cannes, France, G-20 leaders
focused heavily on the European crisis. Mexico is going to
chair the G-20 in 2012, and promoting a more effective European
crisis response is a top priority of the Mexican chair.
The IMF is a central institution of the international
monetary system. It has well served the world and the United
States. It helped the United Kingdom and Italy overcome crises
in the 1970's, resolved the Latin American debt crisis of the
1980's, supported Central and Eastern European transition in
the early 1990's, and later that decade and earlier in the last
decade responded to Asian and emerging-market crises. It has
been a hallmark of my career to see the strong bipartisan
support in both the executive and legislative branches for the
Fund's role in the global economy.
Countries, first and foremost, bear the burden of
adjustment, but the IMF can play a role in promoting more
orderly adjustment by offering financing to support economic
reforms, thus providing breathing space to countries in
overcoming their problems with less disruption. When growth
plummets in one country, especially a large country, it spills
over on to others. In these circumstances, IMF support helps
mitigate the impact on the system as a whole.
The global financial crisis in 2009 offers a good example.
The actions taken by national authorities, coupled with the
London summit announcement of significant new IMF support,
helped stem a massive destabilizing capital outflow from
emerging markets. This action was critical in promoting
recovery.
The IMF is a good investment for the United States. It
helps promote global stability. When the Fund lends, it does so
subject to conditions to help assure it is repaid. Its
repayment record is outstanding. When the IMF draws on U.S.
resources, we are exposed to the Fund's balance sheet, and that
balance sheet is solid. The Fund is regarded as the world's
preferred creditor, meaning that all IMF members agree it gets
repaid first.
The challenge Europe faces is within the capacity of
stronger European members to manage. As European countries
strengthen economic reforms and fiscal governance, Europe must
also continue mobilizing the requisite resources to put in
place a strong and credible firewall commensurate with the
scale of the challenge. It must do so quickly, with force and
determination. The IMF cannot substitute for a strong and
credible European firewall in response.
The IMF now has a substantial arsenal of financial
resources, almost $400 billion. The administration has been
clear with our international partners that we have no intention
of seeking additional funding for the IMF.
Thank you for inviting me again today. I look forward to
answering any questions.
[The prepared statement of Mr. Sobel follows:]

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Mr. McHenry. Thank you, Mr. Sobel. And thank you for
representing the administration.
I recognize myself for 5 minutes.
Let's begin at sort of a broad question here for the whole
panel. Now, the reason why we are having this discussion is
because, in the last crisis, policymakers on the Hill were
largely caught flatfooted on the actions of the Federal Reserve
and the extraordinary actions of the request from Treasury for
the creation of TARP. The American people were surprised by it,
too.
Looking at this crisis with Europe, I think it is important
that we have oversight hearings on the Hill to understand the
range of options that you have, both with our central bank and
the central bank's, really, main market bank being represented
here today, or main market participant, to understand the range
of options.
So let's begin with this question. Do you believe that
European countries are suffering from a liquidity problem, or
is it a solvency problem? And why do you believe that?
Mr. Dudley.
Mr. Dudley. Thank you, Chairman McHenry.
I think that if you look at Europe as a whole, Europe has
the fiscal capacity to solve their problems. The issue is
really a political one rather than an economic one. It is a
huge political coordination problem of getting 17 countries
that share the euro and 27 countries that are part of the
European Union to have a meeting of minds to move toward
greater fiscal integration.
We are seeing movement in that direction, but it is not
happening, maybe, as fast as some of us might like. But I do
not see Europe as having, you know, a fiscal insolvency problem
as you look across Europe broadly. Their situation fiscally is,
you know, very comparable to ours or other countries.
Mr. Kamin. So, if I could add on to those remarks, with
which I fully agree, essentially, on top of a number of
different challenges that Europe faces, it faces a critical
problem of confidence--confidence by global investors in the
long-term sustainability of fiscal finances in some European
countries, although, as President Dudley has mentioned, if you
look at Europe as a whole, its fiscal numbers in terms of debt
do not seem out of line; confidence in the near-term liquidity
situation of European countries. Investors want the confidence
they know that countries will be able, and, you know, before
the long term is reached, to secure their necessary funding.
And then, finally, confidence in the stability of the banking
system.
So it is incumbent upon European authorities to address all
of these issues, and, indeed, they have taken a number of steps
on all three fronts. In the summit announcement that was
released last Friday, they, you know, suggested measures to
bolster long-term fiscal discipline. They also released
additional measures to address the viability of the financial
backstop, you know, for euro area countries. And, finally,
somewhat previous to that, they announced higher capital
requirements for banks.
So they are taking measures, but a lot more follow through
is needed on them. Details need to be fleshed out. But, again,
the Europeans have a deep commitment to address the issue, and
they should have the resources to be able to do so.
Mr. McHenry. Thank you.
Mr. Sobel.
Mr. Sobel. I very much agree with Bill Dudley and Steve
Kamin. I would underscore fully the point that Europe has the
capacity and the resources to address this challenge.
Mr. McHenry. Okay. Thank you.
So it is a liquidity, in essence, it is a liquidity
challenge the countries face. I think that is what you are
generally saying.
So let me follow up with this. What about European banks?
Do they face a liquidity challenge or a solvency challenge?
Mr. Dudley.
Mr. Dudley. I think it is hard to generalize across, you
know, all the different banks in Europe. I think there are some
banks that are in greater degrees of difficulty than others.
The good news I think is that the European authorities are
doing the same kind of stress test that we ran here in the
United States, and they are identifying the capital needs that
their banks have and are basically demanding that their banks
raise their capital ratios over the next 6 months or so. So I
think that is a very important step to restore confidence in
the European banking system.
Now, that is not sufficient. They also have to have
confidence in the fiscal sustainability of each country's debt
burdens, because the banks hold a lot of sovereign debt.
So you really have to solve two problems. You have to
basically make sure the banks have enough capital to, sort of,
handle normal stress environments, but you also have to get
each country on a sustainable fiscal path so that people are
comfortable that the sovereign debt they hold is going to be
money good in the end.
Mr. Kamin. Just to add briefly to those remarks, all of
which, again, I agree with, in general whenever you have a
liquidity problem, either for sovereign governments or for
banks, it is because at least some subset of investors have
doubts about the solvency as well, even if perhaps a broader
class of investors is more confident.
So that is why it is critical in this situation where
liquidity is at issue to bolster confidence and sustainability
and long-term solvency. And that is why it is critical that the
Europeans move ahead on various fronts, both fiscal discipline,
financial backstop, and both increasing the transparency of
bank situations as well as ensuring that they have sufficient
capital.
Mr. Sobel. Very briefly, I agree with all that was said,
and I guess the only other point I would like to stress is that
I think it is very important for European banks to have strong
and adequate capital----
Mr. McHenry. If you would speak into the microphone. Thank
you.
Mr. Sobel. Sorry. That is important that European banks
have strong and adequate capital positions and access to
funding.
Mr. McHenry. Interesting. Artful answers, I am sure.
But, Mr. Kamin, thank you. I think you answered this
question because you at least touched on the fact that are
doubts about the solvency of many financial institutions.
Mr. Dudley, would you like to follow up?
Mr. Dudley. Yeah, I mean, if I could just add to what Mr.
Kamin said, one of the issues is, if investors have even the
slightest doubt about the solvency of an institution, even, you
know, 1 or 2 percent probability that the institution is
insolvent, they are often likely to pull back in terms of their
funding.
So the liquidity problem comes about not because the
institution is definitively insolvent, but just that there is
some risk of insolvency. So liquidity and solvency are related,
but you can have a liquidity problem without a bank being
insolvent.
Mr. McHenry. And you can also have a bank with no liquidity
problems that is fully insolvent.
Mr. Sobel. Well, the, sort of, crisis in the United States
is a good example of the latter.
Mr. McHenry. Yes. Okay. Thank you so much. My time has
fully expired.
Mr. Quigley.
Mr. Quigley. Thank you, Mr. Chairman.
Yesterday's panel talked about those same issues, but they
also mentioned that some of these smaller countries might break
off and that, in the end, it could be better for those
countries and the situation as a whole for them to do that. Do
you agree, as a panel?
Mr. Dudley. I don't have an opinion on--I don't feel
qualified to offer an opinion as to what is in the best
interest of countries. It is for their citizens to decide and
their leaders to decide.
Mr. Quigley. Well, not just a political reason, an economic
reason--the ability to control their own currency and--an
economic answer.
Mr. Dudley. You know, the economic answer would be, on one
hand, if you were to break away, you could have a currency that
depreciated against the euro, and therefore you could regain
your trade competitiveness. That is sort of the positive part
of the story.
The negative part of the story, which is very negative, is
the fact that it would be very difficult for you to honor all
your obligations that you have in terms of euro liabilities.
And so it would be hugely devastating for any country that left
the euro in terms of how their financial system actually was
able to perform going forward.
The euro system does not contemplate any country exiting.
There is no mechanism to do so. So, you know, we can speculate
about what would exactly happen if a country wanted to leave,
but we really don't know the answer to that question.
Mr. Kamin. Just briefly, the eurozone is a long-term
project of political unification and economic unification, you
know, that dates from World War II. And this is a project that
the European authorities still take extremely seriously and are
very committed to continuing to perpetuate. So that is why we
are--you know, they are very committed to taking the steps
needed to pull it together.
To amplify on President Dudley's comments, indeed, while on
the one hand if a country or more were, you know, contemplating
breaking away, that would give it some more latitude in terms
of its exchange rate adjustment. But each of these countries is
very tightly linked into the financial system of the rest of
the euro area, you know, both in very complex and technical
payments, infrastructure ways, as well as a more general web of
financial relationships and relations of confidence and trust.
So any country contemplating breaking away, you know, could
face considerable disruption.
Mr. Quigley. Mr. Sobel.
Mr. Sobel. Thank you.
Building on Mr. Kamin's remarks, I wanted to underscore his
point about the commitment in Europe to the euro. And Europe is
moving forward with closer integration, and the institutional
underpinnings for the euro area, as Mr. Kamin said, this is a
project. But I think it is worth thinking about the following.
Europe has made progress, considerable progress, in this
regard. The countries of Europe are undertaking considerable
reforms. It is a difficult environment, but if you look at what
is happening in Italy and Spain and Portugal and Ireland and
Greece, there are major reforms that are being implemented.
Last week, at the European Council meeting, there were
major steps made in terms of bolstering the fiscal compact and
steps toward a much more rigorous fiscal system for the future.
Over the last period, they have created the European Financial
Stability Fund and now the European stability mechanism,
putting substantial resources at stake.
For me, I think if you thought back 2 years ago, you would
have said that these reforms were unimaginable, that Europe
would have undertaken them. And yet Europe has responded fairly
forcefully. And I just want to underscore that I think it does
show the commitment of European leadership to the euro. And I
wanted to reemphasize, it is very important that Europe
succeed, and it is very important to the United States that
Europe succeed.
Mr. Quigley. Thank you.
Mr. Dudley, very quickly, you talked about the loans that
we have to countries like Greece, Ireland, Portugal, and Spain
being relatively small exposure. I believe the Center for
American Progress put that number at about $113 billion. But
you did say that to the eurozone as a whole it is a much larger
exposure.
I mean, what figure becomes significant, in your mind? I
mean, and what happens to the banks in the United States with
that $113 billion? I mean, how are they protected at all?
Mr. Dudley. I am not familiar with that particular number.
I would be--that sounds bigger than what my understanding of
the U.S. bank exposures are----
Mr. Quigley. Could someone find out what that number is----
Mr. Dudley. We would be happy to get back to you.
Mr. Quigley [continuing]. And report back to us, in terms
of Greece, Ireland, Portugal, Spain, and then the rest of the
eurozone?
Mr. Dudley. But your point is well taken, that as you
broaden the exposures out to Europe as a whole, they become
very, very large. And what that means is that if the European
system were to get into difficulty, there clearly would be
consequences for us here in the United States.
Mr. Quigley. Okay. Again, if you could get back to us with
a realistic figure for those countries and the eurozone as a
whole.
And if anyone--my time has expired, but if anyone could,
now or later, sort of explain their understanding of what
happens to American banks in that regard.
Mr. Dudley. Certainly.
Mr. McHenry. Thank you.
The ranking member of the full committee, Mr. Cummings.
Mr. Cummings. Thank you very much, Mr. Chairman.
Mr. Dudley, as I mentioned in my opening statement, you
gave a speech at the U.S. Military Academy at West Point during
which you indicated that our economy continues to face
significant downside risks, mostly related to the stress in the
eurozone. Obviously, our hearing today has been called to
consider the eurozone crisis, and I appreciate your insights on
that issue.
However, you also spoke of another significant downside
risk confronting our economy and that is the continuing
foreclosure crisis. You even stated that obstacles to mortgage
refinancing are so severe that they are undermining the impact
of monetary policy.
In your address, you identified a number of measures that
might comprise a comprehensive approach to housing policy,
including the elimination of barriers to refinancing and
measures that will enable borrowers who are underwater on their
loans but continue to make their monthly payments to earn
accelerated principal reduction over time.
Further, you stated, ``I am encouraged by the recent
decision by the FHFA to make it easier for certain borrowers
with high loan-to-value ratios to refinance.'' You went on to
say, ``I hope this initial step will be followed by others that
collectively move in the direction of stabilizing house prices.
I believe this would not just be good economic policy, but it
would also be extremely beneficial for taxpayers, who now
effectively own the credit risks of those home loans guaranteed
by Fannie Mae and Freddie Mac.''
I completely agree with your policy prescriptions. However,
when FHFA Acting Director DeMarco appeared before our
committee, he testified that he has concluded that the use of
principal reduction within the context of a loan modification
is not going to be the least-cost approach for the taxpayer. We
have asked Mr. DeMarco to provide the details of this analysis,
but he has not yet provided us with that information.
These are my questions. Given that, as you said in your
statement, taxpayers effectively own credit risks of loans
guaranteed by the GSEs, do you believe that enabling borrowers
with loans owned or guaranteed by the GSEs who are underwater
to earn principal reduction would be in the long-term interest
of the taxpayers? That is number one. I want to ask my
questions because I want to make sure I get them all in.
Two, we have looked in detail at the FHA refinancing
proposal you referenced. And even the FHA estimates that this
new program may help, at the most, 900,000 additional
borrowers. Is a program that helps 900,000 borrowers adequate
to contribute to a stabilization of house prices? Or, do you
believe that significantly greater numbers of borrowers need to
be helped to yield the stabilization of house prices?
And, finally, how is the failure to stabilize the housing
market and help borrowers who are underwater undermining the
impact of the monetary policies implemented by the Federal
Reserve? And what are the consequences for our economy?
Mr. Dudley. Thank you, Congressman Cummings.
Let me take your last question first, how are the problems
in the housing sector undermining the effectiveness of monetary
policy. It is undermining the effectiveness of the monetary
policy because the decline in long-term rates is not being
fully taken advantage of by households in terms of their
ability to refinance their mortgages. So people have mortgages
that are, you know, 5\1/2\, 6 percent, 6\1/2\ percent who can't
refinance because the value of their homes has fallen
sufficiently far that their mortgages are now worth more than
the value of the home, and so they can't easily refinance. This
obviously makes monetary policy less effective because if they
could refinance they would get the advantages of those lower
mortgage rates, which would put more money in their pocket.
The second thing I would say is, you know, to the extent
that you could do some of these things for housing, it has
truly two, sort of, benefits. One, if you could stabilize
housing prices--if you took these steps, I think you could
stabilize housing prices. And if you stabilize housing prices,
I think you would actually start to see more demand for
housing. And if you saw more demand for housing, then housing
prices would start to go up. And that would actually bolster
household confidence, because houses are a very large component
of the household balance sheet. So if home prices are stable or
rising, people are going to feel a little bit better about the
outlook not just for housing but also about their own
willingness to go out and spend and consume. So we think this
would be very favorable for the housing sector.
Now, in terms of your two questions on principal reduction,
we think that you can devise a program for homebuyers that have
mortgages that are underwater to incent them to continue to pay
on those mortgages by giving them some program of principal
reduction. Now, obviously, the devil is in the details, so you
have to have a good program design. But we are confident that
one can design a program which would be net positive to the
taxpayer.
In terms of the HARP program that you talked about, the
900,000, you know, obviously, you know, every bit helps.
Obviously, I would like to see the program broader so that more
households can participate, because that would be helpful in
stabilizing the housing sector and it would make monetary
policy more effective.
Mr. Cummings. Thank you very much.
Mr. McHenry. Mrs. Maloney for 5 minutes.
Mrs. Maloney. First of all, I would like to welcome Mr.
Dudley. New York is so proud of him and his service to our
country. And I would like to welcome all of the participants
today, and of course my colleagues.
I would like to ask Mr. Dudley, what would be the impact on
the U.S. economy and American taxpayers if Europe experiences a
deep depression?
Mr. Dudley. Well, thank you for the kind words,
Congresswoman Maloney.
Obviously, if Europe went into a deep recession, there
would be significant consequences to the United States. The
first consequence would be in terms of our ability to sell
goods and services to Europe. We would have trouble exporting
to Europe, and that would have consequences for employment and
manufacturing here in the United States.
The second transmission channel would be back to our U.S.
banking system. As we have discussed earlier, U.S. banks do
have a large exposure to Europe, and so if the European economy
is doing very poorly, as you suggest, clearly that would put
stress on U.S. banks' capital and liquidity, and so that could
have implications for credit availability here in the United
States.
And, third, if Europe were to go into a deep recession,
this would also be, I think, quite challenging for financial
markets, for the U.S. equity market and for other financial
markets. And so that also would have negative consequences to
household wealth and to consumer confidence, so I think that
would also affect the U.S. economy.
Mrs. Maloney. Well, some economists are predicting that
there will be a breakup of the euro. So I would like to ask Mr.
Kamin and Mr. Dudley, how would the breakup of the euro affect
the U.S. economy? And do you believe that will happen or won't
happen? Starting with Mr. Kamin, then Mr. Dudley.
Mr. Kamin. Thank you, Congresswoman Maloney.
So, in reference to that and as I said earlier, the
European authorities are deeply committed to their project of
political and economic unification and deeply committed to the
perpetuation of the eurozone, which means, in turn, that they
understand the deep seriousness of their current situation and
they plan to take the steps needed.
Mrs. Maloney. Well, then, why aren't they taking the
necessary steps to properly combat the crisis? Many economists
say they have enough resources to combat it themselves. Do you
think they need a TARP-like approach? If they won't combat
their own political problem, should we come in and handle their
problem for them?
Mr. Kamin. Well, it is certainly not for us to handle their
problems for them. And they are very cognizant of their
problems. And they have announced a number of steps in the past
week and then in the past few months to address their problem:
as announced last Friday, a new set of disciplines on fiscal
behavior to raise the confidence of investors in their long-
term sustainability----
Mrs. Maloney. Well, what does their actions bear on the
actions that have already been taken by the Treasury and the
Fed? And do you support the actions that Treasury and Fed have
taken?
Mr. Kamin. Well, I certainly support the actions of the Fed
and Treasury because they pay my salary.
Mrs. Maloney. Yeah. Team player.
Mr. Kamin. But I think the way to think of it is, the
European authorities have their plate full. They have to do
certain things they need in order to stabilize the situation in
Europe. Our job----
Mrs. Maloney. Well, my time is running out, and I would
like to also hear from Mr. Dudley. I only have a few seconds
left.
So, Mr. Dudley, could you respond?
Mr. Dudley. I think I would say two things. One, I----
Mrs. Maloney. The breakup of the euro, what would that mean
to--what would the impact be?
Mr. Dudley. Well, this is not something that I anticipate,
for the reasons that Mr. Kamin said.
Mrs. Maloney. Yeah.
Mr. Dudley. I think the European leadership is fully
committed to the European Union, and they are going to take the
steps that they need to move toward greater fiscal integration.
As I said earlier, it is a political problem. And so maybe they
are not moving as fast as some of us might like, but they are
moving, I think, in the right direction.
The second thing I would just stress is, you know, all the
things that the Federal Reserve has done with respect to the
foreign exchange swaps, this isn't about helping Europe, this
is about helping ourselves. This is about ensuring the flow of
credit to U.S. households and businesses. We are doing this for
ourselves.
Mrs. Maloney. Okay. My time has expired.
Mr. McHenry. I thank my colleague.
Good questions, very good questions. We will begin a second
round of questions.
Look, to get into a very specific question following up
with Mrs. Maloney, let's say Greece withdraws from the euro. Do
you have the scenarios--is that part of the scenarios that you
worked through? And would that have--you know, so, walk through
that process.
Mr. Dudley. Yeah, I don't think that we would characterize
that we worked through specific, you know, horrible scenarios
surrounding Europe. What we do instead----
Mr. McHenry. You don't go through----
Mr. Dudley [continuing]. Is do contingency planning to make
sure that the Federal Reserve System can handle very stressful
environments and ensure that the U.S. banking system can handle
very stressful environments, regardless of the source of that
stress.
So, for example, the United States right now, we are in the
process--the Federal Reserve is right now in the process of
putting the U.S. banks through a very severe stress test. And
that exercise, which, you know--and that stress might come from
Europe, but it could come from some other source. So I think
our job is to make sure that the U.S. banks can withstand a bad
economic environment regardless of the source of that stress.
Mr. McHenry. Okay.
Mr. Sobel, I will begin with you. Play out the scenario for
the next 6 months to a year. What does the administration, what
does the Treasury, what do they foresee happening with this
euro crisis over the next 6 months to a year?
Mr. Sobel. As I was saying earlier, I think Europe is
making progress. They have put in place a number of forms, and
they will undoubtedly continue to further move ahead with
reforms. Europe is developing its firewall to provide time and
space while the countries are putting in place reforms and as
these take hold. And we will remain fully engaged and continue
to work with them, continue to support them staying on the
reform path.
And I think that the Europeans are very closely monitoring
the situation. They have talked about having a review of the
adequacy of their financial resources and backstopping in March
to ensure what I think is important, which is that governments
have adequate access to affordable financing and also that
banks have adequate funding.
Mr. McHenry. So that is your view over the next 6 months to
a year?
Mr. Sobel. I think it is a process and----
Mr. McHenry. Okay.
Mr. Kamin, I will ask you the same question. I hope you
have a better answer.
Mr. Kamin. Well, obviously, it is extremely difficult to
plot out----
Mr. McHenry. That is why I am asking the Federal Reserve.
You run through tough scenarios, I understand. But play this
out for the next 6 months to a year. What do the American
people--what could they expect to see? Give us the range here.
Mr. Kamin. A great deal depends on how European authorities
follow through on the commitments that they have already
stated. They have a very full agenda of items that they need to
work on. The Friday summit, the last Friday summit involved an
EU or intergovernmental agreement among at least the 17
eurozone countries--plus, there are additional countries in the
EU but not in the eurozone--to work out, to agree on a system
of financial disciplines, to consider a bilateral loan by the
Europe to the IMF in order to facilitate their lending, in
order to move up the----
Mr. McHenry. That is history. So let's go through----
Mr. Kamin. Those are the items that are on the Europeans'
agenda. And so what we look forward to over the next weeks and
months is their implementation--their agreement on those items,
which will in some cases require ratification by the member
states, and their implementation of those.
And that is the process that we are looking forward. And if
they move through decisively on that and put these measures in
place, there is some chance, perhaps a good chance--it is hard
to know--that eventually that will build the confidence needed
and we will see the crisis easing. If they do not succeed in
the near term in achieving that type of progress and follow
through and that disheartens markets and investors, then we can
see more adverse outcomes.
But that is basically the framework we are using to look at
the next period, is the progress being made by European
authorities.
Mr. McHenry. Mr. Dudley.
Mr. Dudley. I agree with what Steve has said. You know, the
devil is now in the details. So we have a broad outline of the
way forward, but now we have to actually see the details of how
they are going to implement it, and then we have to see the
political process support it. And that is really, you know,
going to be critical over the next 3 to 6 months.
Mr. McHenry. So you are talking structurally. Let's talk
about the banks, the European financial institutions.
Mr. Dudley. Well, I think that the important thing here to
recognize is that if the European countries put their fiscal
houses in order, then the banking problems in Europe become
much more manageable. Because why investors are worried about
European banks is in large part because they are worried about
the sovereign debt holdings those banks have. So if the
European countries put their fiscal houses in order, this will
go a long way to solving the European banking situation.
Mr. McHenry. Is that how you see it, Mr. Kamin.
Mr. Kamin. Very much so.
In addition to that--so that is the critical challenge the
European authorities must meet. At the same time, there is a
parallel process that will go on for the European banks as they
strive to meet their heightened capital requirements. And there
are some risks there that have been much talked about in the
media about how they will achieve their higher requirements.
Will they do it through deleveraging? Will they do it through
raising capital? And that is another process that we will be
following closely.
Mr. McHenry. With that, my time has expired.
Mr. Cummings, the full committee ranking member, is
recognized.
Mr. Cummings. Mr. Dudley and Mr. Kamin, the Federal Reserve
stepped up a couple of years ago during the U.S. financial
crisis and acted as a lender of last resort to the banks. In
fact, the Fed played a central role in containing the crisis
and stabilizing the American economy.
Why was it important for the central bank of the United
States to intervene during the financial crisis?
Mr. Dudley. Well, I think during the financial crisis what
we saw was a complete loss of confidence in private-sector
financial firms to engage with one another. And so it was very,
very important for the Federal Reserve to provide a backstop
form of funding, so that people were more willing to actually
come back into the market and start to engage with one another.
Mr. Cummings. Do you agree with that, Mr. Kamin?
Mr. Kamin. Absolutely. The problem was basically a
breakdown of money markets and, as a result of that, a
breakdown in the supply of credit to U.S. households and firms,
as well as those around the world. And that posed a dire threat
to the global economy and the U.S. economy, and that is why we
intervened.
Mr. Cummings. Well, during the 2008 financial crisis, the
Fed proactively took steps to prevent panic and acted as the
lender of last resort. The United States had and has a long-
term fiscal problem, but that did not prevent the Fed from
taking action to address the immediate financial crisis at
hand.
But the European Central Bank is not doing that in Europe.
According to testimony we heard yesterday, the policies that
the ECB is pursuing will aggravate the potential for a default.
According to Desmond Lachman, ``There is the very real risk
that continuing to supply substantial fiscal tightening will
lead to a very deep economic recession. A deep recession would
make it very difficult for countries to reduce their budget
deficits and would undermine their political willingness to
remain within the euro.''
Yesterday, Reuters reported that Ireland's European Affairs
Minister, Lucinda Creighton, thinks that the ECB should become
a lender of last resort during the European crisis. Do you
think that the ECB should let up on austerity and start being a
lender of last resort?
I will take the answer from all three of you on that.
Mr. Dudley. I think the ECB is being actually quite
aggressive in being a lender of last resort to the European
banking system. They have now introduced a 3-year--a lending
facility where they will provide loans for a 3-year period,
which is an unprecedented length of time. They have broadened
the collateral eligibility requirements so that it is more easy
for European banks to bring collateral to the ECB to get
funding.
Where the issue is in Europe, with regard to the European
Central Bank, is their ability to buy primary debt issuance
from the sovereign countries. And this is prohibited by treaty.
It is prohibited by treaty for the ECB to buy the sovereign
debt issued by the countries in the primary market. And some
people are arguing that they should, sort of, do it anyway,
but, you know, Mario Draghi, who is the head of the ECB,
points, I think correctly, to the treaty which prohibited such
activity.
But I think, in terms of backstopping their banks, they are
actually providing a lender-of-last-resort function for the
banks.
Mr. Kamin. I agree with everything President Dudley said,
and I would just add a couple of more points.
First of all, in responding to the decline in economic
activity that we have seen in Europe in recent months, the ECB
has indeed lowered their policy interest rates a couple of
times of 25 basis points apiece. So they are taking actions to
loosen monetary policy in response to financial and economic
strains.
Additionally, while they are indeed, as President Dudley
has said, prohibited from buying sovereign bonds directly in
the primary market from governments, they are not prohibited
from buying bonds in the secondary market--in other words,
buying them from other holders of this debt. And, in fact, they
have been doing so for some time.
So they are very much committed to indeed acting as a
lender of last resort for banks and for supporting the European
economy in the ways that they view is within their purview. But
a lot of the heavy lifting will have to be done by governments
and fiscal authorities, you know, in order to fully address the
strains on the system.
Mr. Cummings. Well, Mr. Kamin, do you think that it will be
necessary for the ECB to purchase country bonds to stabilize?
Mr. Kamin. Well, they already are purchasing bonds, as I
have said, in the secondary market, and that appears to have
been helpful to some degree.
Mr. Cummings. Mr. Sobel.
Mr. Sobel. Congressman, when one works at the U.S.
Treasury, one is trained not to talk about monetary policy by
other central banks. So even if I agreed with everything my
colleagues have said, I would only say that the ECB has played
an important role in ensuring European financial stability, and
we look forward to it continuing to do so.
Mr. Cummings. Going back to you, Mr. Kamin, do you think
the ECB needs to increase the purchases of the country bonds?
Mr. Kamin. I think, you know, much depends on both how the
economic situation evolves going forward and, in particular,
how European authorities follow through on the announcements
they have already made. So just as----
Mr. Cummings. But don't you think that would help to avert
the crisis--potential crisis?
Mr. Kamin. Well, I think that, as I say, ultimately, what
is required to avert the crisis and get it under control is a
very concerted action by European authorities, and certainly a
fiscal element has to be critical. The ECB, undoubtedly, will
play some role, but what that role will be is not for me, you
know, to judge on. But there will have to be some role.
Mr. Cummings. Thank you.
Mr. McHenry. I thank the ranking member.
Mr. Gowdy from South Carolina.
Mr. Gowdy. Mr. Chairman, thank you. And I want to thank you
for your leadership on this issue, which, frankly, is
unparalleled. And while I had a series of questions, including
whether or not the breakup of the euro could result in a net
devaluation of the resulting bank of basket currencies, as I
have sat here for part of this morning and heard your questions
I think I am inclined to give you my time so you can more
fully----
Mr. McHenry. I am inclined to take it.
Mr. Gowdy. And I would like you to more fully develop that
and any other ideas that you think are of the moment.
So I would yield to the gentleman from North Carolina.
Mr. McHenry. Thank you.
You know, I asked earlier about this notion of what happens
with Greece. And I certainly respect the fact that the Federal
Reserve doesn't--and the Treasury, you don't want to be out
there saying that, you know, you have cooked this into the
books, so to speak. You have, sort of, priced in this, and the
extension of the swap lines is, sort of, in anticipation of
Greece defaulting, whether or not the term ``default'' is
actually used.
You know, there is some notion that what would happen with
Greece, with our panel of experts yesterday, is that, you know,
Greece would basically, with an ongoing process with other euro
participants, have a very significant write-down that is, in
essence, a default, but through some other terminology.
Therefore, CDS contracts aren't triggered, as we have just seen
with this last round.
So let's price this in, okay? Let's say that that process
happens. What we have seen is the eurozone put in place
policies for Portugal, Spain, and Greece that appear to be
failing. So what would it take, what would you suggest it would
take, in order for Spain and Italy to not go through those same
challenges, based on the existing policy? If those policies
aren't quite working with Portugal, Greece, and Ireland, what
makes you believe that they would work with Spain and Italy?
Mr. Dudley.
Mr. Dudley. Well, first, I am not sure that they aren't
working. I think that it is too soon to say exactly whether
these countries are going to be able to sustain the fiscal
adjustment that they have put in place, and I think the outlook
is different for different countries.
The second thing I would say is that the swaps really have
nothing to do with whether Greece leaves the euro or not. The
swaps were put in place for a very different reason. We were
seeing that European banks were having difficulty obtaining
dollar funding, and as a consequence of that, they were
liquidating their dollar book of assets here in the United
States. So this was tightening credit availability in the
United States, which was going to have a direct impact, if it
was allowed to continue, on U.S. households and businesses.
So the swaps were really about the ability of European
banks to obtain dollar funding and the consequences of that on
the United States. Whether Greece leaves the euro or doesn't
leave the euro, I think that was immaterial to our
decisionmaking on the swaps.
Mr. McHenry. So the policies in Portugal, Ireland, and
Greece you believe are working?
Mr. Dudley. I am not going to make an assessment about how
well individual countries are doing----
Mr. McHenry. Okay, because, you know, their debt-to-GDP
ratio is worse now than it was before the policies were put in
place.
Mr. Dudley. I would say two things.
As you go from the peripheral countries to the core, the
debt challenges become much more manageable. In other words, if
you look at Spain or you look at Italy and you look at their
debt-to-GDP ratio and you look at their deficit-to-GDP ratio,
they have to do substantially less than what Greece has had to
do.
And so I think that, from my perspective, you know, what
Spain and Italy need to do is completely achievable. It is
completely achievable. The question is just the political will
to implement the fiscal austerity on a reasonable timeframe and
convince market participants that they can actually do so.
You know, one of the problems we have right now is that it
is going to take time for countries to implement their
programs, and therefore it is going to take time for market
participants to be convinced that they actually are on a
sustainable path. And so the question is, how do you get from
here to then when they have actually had a chance to implement
their programs?
Mr. McHenry. Mr. Kamin, you mentioned money market funds in
your testimony. Please expand upon that.
What is the--you know, in the downturn, in the financial
crisis, 2008, 2009, the Federal Government stepped in and, in
essence, insured--well, directly insured money market funds. So
there is a belief among consumers in America that these are
protected assets, when, in actuality, they actually are in the
market, they have just performed very well over a very long
period of time, and only one has broken a buck in, you know,
the last generation, we should say.
So, if you will, just expound upon this money market
exposure and why these swap lines pertain.
Mr. Kamin. I would be glad to.
So, first, money market funds, obviously, are an extremely
important provider of dollar liquidity, both to U.S. financial
markets and financial markets around the world. So many
European banks, you know, rely heavily on lending and investing
by U.S. money market funds in these bank CDs, commercial paper
and the like. And that is an important source of the dollar
funding they use in order to provide lending to firms and
businesses, both in the United States and abroad.
By the same token, lending to European institutions
comprises a large fraction of the U.S. money market funds
portfolio. Now, the money market funds have been substantially
reducing their exposure to the most vulnerable, so-called
peripheral European economies, so that is no longer much of a
source of risk. But that said, they still have very substantial
exposures to the banks of core European economies.
So in the event that--so that poses a number of risks.
First, in the event that the financial strains in Europe were
to intensify, money market funds will naturally be expected to
further reduce, you know, their exposure to those banks, which
would increase their financial straits. And, as well--and this
is a problem that has received much attention--you know, U.S.
investors in money market funds, you know, might be inclined to
take some of their funds out. That could put the money market
funds in a difficult situation.
This is something that, of course, we at the Fed and other
agencies are very alert to, and that has been an important
consideration for the FSOC, you know, Financial Stability
Oversight Committee. And they are working on--you know, all
regulatory agencies are interested in this. And, of course, the
SEC has the primary regulatory authority, you know, for these
money market funds, and they are working through some reforms.
Mr. McHenry. So the swap line is about direct American
exposure in that regard?
Mr. Kamin. The swap line is about exposure in that regard
and many regards. Its point is to make sure, you know, that--to
help European and other foreign institutions get the dollar
funding that they need in order to continue providing credit,
both around the world and to U.S. households and firms. And by
doing that, we strengthen the liquidity position of these
institutions. And by doing that, we make them appear to be
safer investments for money market funds and other investors.
Mr. McHenry. Thank you.
Mrs. Maloney.
Mrs. Maloney. Thank you.
What is the single most important thing that Europe could
do to prevent a banking crisis here in the United States? Mr.
Sobel, Mr. Kamin, Mr. Dudley.
Mr. Sobel. Well, let me address the question of what is the
single most important thing Europe can do. And I think that it
is clear that Europe needs to pursue a comprehensive strategy
to overcome the crisis.
This is going to--and what I think needs to be done, in a
nutshell, is the countries have to reform, they have to stick
to their reform plans. And it is going to be about
implementation. It is not going to be easy, but that is a first
prerequisite for restoring confidence.
Second, at the European level there needs to be further
progress in strengthening the foundations of the eurozone. We
saw that with, last week, some steps with regard to the fiscal
compact.
And third, as Mr. Dudley was suggesting a minute ago, it
takes time for reforms to take hold. So they have to get from
here to there. And I think this is where the issue of the
European firewall comes into place. It is a firewall that has
to be strong and credible, and it needs to be there as a
backstop to ensure that countries have access to affordable
financing at sustainable rates. And it is important that banks
in Europe have adequate capital and access to affordable
funding.
Mrs. Maloney. Mr. Kamin. Mr. Dudley.
Mr. Kamin. Oh, I very much agree with what Mr. Sobel said.
And I guess I would just put it succinctly: There is no single
magic bullet. The European authority--you know, what is needed
in order to address this crisis is decisive action and follow
through by European authorities on all----
Mrs. Maloney. Do you agree with what the majority's
witness, Mr. Lachman, said, that Europe may need a TARP
program? Do you agree with his statement?
Mr. Kamin. I am sorry, but I am not even sure what that
might mean, so----
Mrs. Maloney. Well, I think you know what a TARP program
is. Do you think they need a TARP program or not?
Mr. Kamin. Well, let's put it this way. If by that you
mean, sort of, injection by European authorities into the banks
of that continent, that represents part, okay, of the agreement
that was concluded about a month and a half ago by European
authorities that they would raise the capital standards for
banks in Europe. And if those were not met, then governments
might inject in some form or another.
So I would say that could be--that is already kind of in
the cards as part of it. But that by itself is not enough. They
have to work on bolstering the fiscal position of the
governments.
Mrs. Maloney. Okay. Thank you.
Mr. Dudley, any comments.
Mr. Dudley. I agree with what has been said up to now,
Congresswoman.
I think there is a number of steps that have to be taken.
You need a clear path of where you are going. You need the
European leadership to not waiver in their commitment to unite
the eurozone. You need a firewall to allow the countries time
to show that you can get there. And you need the countries to
do what they have to do in terms of demonstrating that they are
committed to getting their fiscal houses in order on a
sustainable, long-term basis.
And, last, some of these countries also need to take steps
to improve their competitiveness. In other words, they have to
do structural reforms to their labor markets, etc., to improve
their competitiveness. Because it is not just a fiscal problem;
it is also a competitiveness problem for some of these
countries.
Mrs. Maloney. Well, I would like to comment on a strategy
that came out of the 2009 G-20, where they agreed to triple the
Fund's lending capacity. In response to that, for the IMF, our
Congress approved a $108 billion line of credit to the IMF. And
some Republicans have come forward with a proposal, or
legislation, that would rescind the IMF's authority to spend
any of this $108 billion contribution to the IMF's European
strategy.
So I would like to ask--let's start with you, Mr. Sobel.
Can you explain some of the terms and conditions that are
associated with the IMF's financial assistance to the Nation?
And what does IMF's assistance really signal to the rest of the
world or to other financial backstops to help in this
situation?
Mr. Sobel. Thank you.
In my testimony, I indicated that the IMF funding plays a
very vital role in the system in helping countries. When
countries face stresses and difficulties, they frequently come
to the IMF against the background of a loss of access to
financing, which imposes very deep stress on the society and
economy as a whole.
What IMF comes in and does is it works with countries to
develop a more orderly path to restore growth and vitality.
They do so, first, by developing economic conditions. Money is
tightly overseen. There are quarterly performance criteria on
fiscal and various other indicators to make sure that the
country is moving on a track that will restore it to stability.
In addition, the Fund provides financing, and that allows the
country, as I was saying, to make a more orderly transition
toward resumed growth.
Now, that is in the country itself. But when a country has
problems, especially a large one, it has ramifications for the
neighbors, it can have ramifications for the global economy, as
we saw in 2009. And so the logic of IMF assistance is not only
to help the country restore stability, but it is also to lessen
the impact on the global economy, which is very much in our
interest.
And as we indicated earlier, from the vantage point of the
United States, one of the problems from a deteriorating
situation in Europe is that this hurts U.S. exports, it hurts
U.S. growth, it constrains financing to businesses, it hurts
our stock markets, our 401(k)'s and the like. So the Fund's
support for the global economy can be very vital in helping
promote international financial stability.
Mrs. Maloney. Would the IMF alone be able to fix the
crisis, Mr. Kamin?
Mr. Kamin. I am not sure if I--the Treasury is the main
agency here, so I think I will defer to Mr. Sobel, if you don't
mind.
Mrs. Maloney. Yeah. Okay.
Mr. Sobel. We have said very many times that Europe has the
primary responsibility for addressing its problems. It has the
capacity and resources to address its problems. We have
welcomed the fiscal actions they have taken. We have welcomed
the actions they have taken to put in place a stronger
governance framework. And we have welcomed the creation of the
firewall.
We have been very clear that the IMF cannot substitute for
a strong and credible European firewall and a strong and
decisive and forceful European response to the crisis.
Mrs. Maloney. What would happen if the Republican
legislation passed that denies the funding from the United
States to the IMF?
Mr. Sobel. So, in my view, the IMF helps serve U.S.
interests and--our interest in sustaining global financial
stability, which is important to the health of our economy. So,
again, Europe has to act. But the IMF can be a tool for helping
achieve a sounder world economy, and we want the IMF to have
the resources to be able to do its job and perform.
In 2009, Congress approved a $100 billion increase in our
commitment to the new arrangements to borrow, as well as a
modest $8 billion increase in our quota. And the Fund has long
had a backstopping goal for the global economy. I mean, the
backstopping role of the Fund through this NAB, the ``NAB''--it
used to be called something else, the ``GAB''--but it goes back
to 1962, which is when the swap lines were created, as Bill was
mentioning earlier. So this is vital to promoting global
stability.
So my view is that, if we were to withdraw our funding, I
think it would harm market confidence, I think it would weaken
U.S. leadership in the institutions, I think it would put our
standing in the Fund in jeopardy, and I think it would cause
the Fund to look to others to play a more influential role in
its operations and activities. So I think that our support for
the IMF is very important.
Mrs. Maloney. Thank you. My time has expired.
Mr. McHenry. Thank you.
And the vice chairman, Mr. Guinta of New Hampshire, is now
recognized for 5 minutes.
Mr. Guinta. Thank you, Mr. Chairman.
Mr. Sobel, when I was here earlier during your opening
remarks, I thought I heard you say that the IMF has a very good
rate of reimbursement, of repayment. So I wanted you to clarify
that for me, and then I wanted to ask you a followup question.
Mr. Sobel. Thank you.
The IMF, in my perspective, is a very unique institution.
So let me just cite three factors.
One, as I was just describing, it can set the macroeconomic
conditions for a loan to a country. That helps the country get
back to growth, but it also can help ensure that the country
gets back to growth through this quarterly monitoring process,
and that helps ensure that the Fund's resources are
safeguarded.
Second, the Fund is a preferred creditor. So everybody in
the world, all countries, all members of the Fund, recognize
that the Fund is first in line to be repaid. And its repayment
record is just excellent.
Third, it has a strong balance sheet, a very strong balance
sheet. It has good reserves. And, again, it has this ability to
set these conditions. It has this ability--it has preferred
creditor status.
And that is not only good for the members of the Fund, but
another dimension of this is that when the IMF draws on our
resources and provides it to another country, some people
think, you know, you are exposed to that country. In fact, we
are exposed to the balance sheet of the Fund. When the Fund
draws resources from us, we get a liquid, interest-bearing, and
cashable claim on the IMF and its strong balance sheet.
So those were the reasons that I was outlining that I feel
that the IMF is--that our claims in the IMF were fully secure.
Mr. Guinta. The reason I ask is, I believe it was today's
Washington Post article, and I don't know if you have seen it
yet, but it was entitled, ``Will U.S. Taxpayers Be on the Hook
for Bailing Out Europe?'' There was a quote from Anthony
Sanders, who is a professor at George Mason University, who
said, ``I would expect the $100 billion''--which, I believe,
that is a line of credit that we have issued to the IMF--``I
would expect the $100 billion to be used and not be paid
back,'' is what he said.
So I am curious about two things: number one, why all of a
sudden there would be this shift in an expectation of it not to
be paid back, number one; number two, the statements that have
been made by Mr. Geithner, followed up by the President of the
United States, suggesting that no additional funds should go to
the IMF. I am particularly curious to know if that line of
credit should be withdrawn, in your opinion.
Mr. Sobel. First of all, I think that the action taken by
Congress in approving the $100 billion NAB line in 2009, which
was signed into law shortly thereafter, was a vital step. The
announcement of the NAB was instrumental in contributing to
strengthening global stability in 2009. It was very visible at
the time. And I strongly support--we strongly supported that
action.
Again, I am fully----
Mr. Guinta. You would agree, though, that we are somewhere
different today than 2009--or Europe is somewhere different
today than they were in 2009?
Mr. Sobel. Absolutely. I think my point is that we want the
Fund to have the resources to do its job. The NAB is part of
that, and we strongly back that.
I, again, am firmly of the belief that our claims in the
IMF are extremely secure. I think the repayment record of the
Fund is stellar. I would be happy to sit with your staff and
document that to them.
Mr. Guinta. Okay. I know that that quote----
Mr. Sobel. So I just want to say, we will be repaid. And
the NAB line--so far, the IMF has drawn $6 billion from our NAB
line.
Mr. Guinta. Let me just get to my--I know that Professor
Sanders made that statement yesterday in testimony, so it is
something that I would probably want to follow up with you on.
The final question I do have is, in the cases of Greece and
Ireland and Portugal, their debt-to-GDP ratio, after receiving
assistance packages, I believe actually increased or rose. So,
while I understand your point about the impact globally that
IMF has, it doesn't seem that countries get the point, that
after they receive a loan or a bailout, they are not fixing
their debt-to-GDP ratio, which is, quite frankly, the same
problem we are having here in the United States, in my view.
So, in a real short amount of time, can you tell me how one
would argue that bailouts are even working if that GDP-to-debt
ratio is increasing, not decreasing?
Mr. Sobel. Congressman, I look forward to working with you
after this hearing.
So, when growth has slowed in these economies, that has had
the effect of depressing revenues. And automatic stabilizers
exist in these economies that boost----
Mr. McHenry. If you can turn on your mike and pull it to
your face, that would be good.
Mr. Sobel. Okay.
So, basically, this tends to push deficits up in the short
term. Meanwhile, these countries are taking actions to bring
their fiscal houses in order against the background of the
cyclical downturn in the fiscal position.
The point I made is that the IMF support provides a more
orderly transition to restoration of growth. And the Fund
closely monitors and reviews the performance to make sure the
country is getting on track toward a better position.
Mr. Guinta. Would the chair yield an additional 30 seconds?
Thank you, Mr. Chairman.
So what you are saying--I understand what you are saying.
You are saying that the debt in the short term is going up, but
these countries are taking longer-term measures to stabilize
their economy, to improve their economy, have a pro-growth
economy, reduce expenditures.
Can you tell me, then, in your opinion, if that is what we
think should be a standard, for us to be loaning money to the
IMF, are we, in fact, as a nation, imposing that same standard
on ourselves? Is the President of the United States imposing
that same standard on our country?
Mr. Sobel. Congressman, I think the--I didn't come here
today to----
Mr. Guinta. Well, there is a tie between Europe and the
United States, isn't there?
Mr. Sobel. I think the President has proposed a bold fiscal
plan----
Mr. McHenry. If you will please put your microphone toward
you. We cannot hear you.
Mr. Sobel. I think the administration has put forward bold
fiscal plans to promote growth and to restore fiscal
sustainability and to consolidate the deficit over the medium--
--
Mr. Guinta. I would love to have that list. So I am looking
forward to working with you, as well. And when we do get
together, I would love to see that list.
Thank you, Mr. Chairman.
Mr. McHenry. I thank my colleague.
And for the committee's information, we actually requested
originally Mr. Sobel's superior at Treasury, who perhaps could
have answered that question, in particular, more sufficiently.
One final question. We have votes going on on the floor,
and if I could just ask one final set of questions here.
Mr. Dudley, in your written testimony, you said, ``If the
European situation were to deteriorate further, financial
markets would likely become more stressed.'' And you go through
the scenarios for the American economy. Then you say--and this
is bold language for the Federal Reserve--``At a time that U.S.
unemployment is very, very high, this is a particularly
unacceptable outcome. In the extreme, U.S. financial markets
would become impaired.'' And you go forward there. Strong
language for the Federal Reserve.
So, in the event of that scenario, that the European
situation were to deteriorate further, what is the Fed prepared
to do to prevent this outcome?
Mr. Dudley. Well, I think my language was really more about
how unacceptable the high unemployment rate is and how, if the
unemployment rate were to go higher because of events in
Europe, that would be very unsatisfactory.
Mr. McHenry. To be specific--and my time is limited--I will
read you the whole paragraph. And I think that that is not what
the written statement says.
Mr. Dudley. I will stipulate to your interpretation, just
in the interest of time.
I think that, you know, the Federal Reserve is doing what
we think is appropriate to support lending here in the United
States, and that is why we have engaged with these foreign
exchange swaps with the five other central banks.
I don't think we contemplate any other actions, at this
time, to do anything else in terms of providing assistance to
Europe. It is really their problem to solve, from the Federal
Reserve's perspective. The ECB has liquidity facilities in
place, in terms of euro currency. They now have swap lines that
we think are very sufficient to provide dollar liquidity. So I
don't anticipate, even if the crisis in Europe were to worsen,
further steps on the part of the Federal Reserve at this time.
Mr. McHenry. Mr. Kamin, would the Fed consider purchasing
sovereign debt held by U.S. banks to prevent this further
deterioration of the European situation?
Mr. Kamin. I will defer to President Dudley, who is on the
Federal Open Market Committee and is the vice chairman----
Mr. McHenry. Mr. Dudley.
Mr. Dudley. Well, I can't, obviously, speak for my fellow
members on the committee, but I think the----
Mr. McHenry. Would you consider----
Mr. Dudley [continuing]. Bar to doing that would be
extraordinarily high. I cannot imagine the circumstances in
which we would think that was an appropriate action from a
monetary policy perspective.
We have the legal authority to buy foreign sovereign debt,
but this is really surrounding our ability to conduct foreign
exchange intervention operations. We have a very small
portfolio that we run with the Treasury that represents our
foreign exchange reserves. And we have never gone out and
bought large portions of foreign sovereign debt in the history
of the Fed that I am aware of.
Mr. McHenry. Okay. Would you consider accepting European
sovereign debt as collateral against loans?
Mr. Dudley. I think we----
Mr. McHenry. Against additional loans.
Mr. Dudley. You know, we need to be secured to our
satisfaction. And we do take a lot of care in our discount
window lending and our other lending to make sure that the
collateral that we give is appropriately haircutted and the
Federal Reserve is well-protected.
That is one reason why, even despite the large amount of
sums that the Federal Reserve disbursed during the financial
crisis, we did not lose a penny. We had no credit losses
whatsoever. And the Federal Reserve--my understanding is that
the Federal Reserve has never had a credit loss.
Mr. McHenry. So--excuse me--you would consider it?
Mr. Dudley. I wouldn't necessarily rule it out. If the
collateral is good collateral and is appropriately haircutted,
I don't think I would want to rule that out----
Mr. McHenry. Even if it is not Triple A rated?
Mr. Dudley. We accept collateral that is non-Triple A
rated. So the important point is the quality of the collateral,
the appropriateness of the pricing of that collateral, and the
appropriate level of haircuts. You know, you do have to have
protection in terms of the size of the haircuts, so that is
important. But I wouldn't categorically rule that out.
Mr. McHenry. Should European banks consider equity raising?
Mr. Dudley. You would have to talk to the European banking
authorities, but the----
Mr. McHenry. Thank you.
Mr. Dudley [continuing]. Stress test there did suggest
there was a capital need. And equity raising, you know, I think
I would be--I think that would be a welcome part of that.
Because if they raise more equity, then they have to do less
deleveraging.
Mr. McHenry. And that would be far preferable.
Mr. Dudley. That would be my personal preference.
Mr. McHenry. All right.
Mr. Kamin.
Mr. Kamin. Yeah, I mean, they are already considering
equity raising. That is one of the ways in which they could
achieve their new higher capital standard, so that is very much
in play.
Mr. McHenry. All right.
So, with that, you know, I realize your time is very
important here. We have votes on the floor. Members have had
ample opportunity to ask questions this morning.
This hearing was about proper oversight from Congress of
what our political branch at Treasury is doing and to address
what is happening in Europe, what we see on the front pages and
what raises great concern across this country and around the
world.
We also want to see what the range of options are from our
central bank. And we realized, with this hearing, that there
are an enormous number of questions about this. But we do see
that our central bank, both with New York Fed represented here
today and the Board of Governors, certainly have looked at the
risk associated with this and have a range of plans that they
can pursue and a number of policy options that they have. I
think that was very clear from today.
What was disappointing is to not see that same level of
planning from the Treasury. And I think that would be
additional questions that we would have here on the Hill, as to
what the Treasury would consider going forward. And we hope to
have additional oversight to make sure that we have that
disclosed to the public.
So we thank you so much for your testimony. Thank you for
your willingness to engage in these discussions. We realize the
questions were broad-reaching this morning, but we certainly
appreciate your willingness to be here. Thank you for your
service to our government and to our people.
And, with that, this committee stands adjourned.
[Whereupon, at 11:17 a.m., the subcommittee was adjourned.]
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