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MONETARY POLICY AND THE 

STATE OF THE ECONOMY, PART II 

HEARING 

BEFORE THE

COMMITTEE ON FINANCIAL SERVICES 

U.S. HOUSE OF REPRESENTATIVES 

ONE HUNDRED ELEVENTH CONGRESS 

FIRST SESSION 

FEBRUARY 26, 2009 

Printed for the use of the Committee on Financial Services 

Serial No. 111–8 

( 

(II) 

HOUSE COMMITTEE ON FINANCIAL SERVICES 

BARNEY FRANK, Massachusetts, Chairman 

PAUL E. KANJORSKI, Pennsylvania 

MAXINE WATERS, California 

CAROLYN B. MALONEY, New York 

LUIS V. GUTIERREZ, Illinois 

NYDIA M. VELA ́ ZQUEZ, New York 

MELVIN L. WATT, North Carolina 

GARY L. ACKERMAN, New York 

BRAD SHERMAN, California 

GREGORY W. MEEKS, New York 

DENNIS MOORE, Kansas 

MICHAEL E. CAPUANO, Massachusetts 

RUBE ́ N HINOJOSA, Texas 

WM. LACY CLAY, Missouri 

CAROLYN MCCARTHY, New York 

JOE BACA, California 

STEPHEN F. LYNCH, Massachusetts 

BRAD MILLER, North Carolina 

DAVID SCOTT, Georgia 

AL GREEN, Texas 

EMANUEL CLEAVER, Missouri 

MELISSA L. BEAN, Illinois 

GWEN MOORE, Wisconsin 

PAUL W. HODES, New Hampshire 

KEITH ELLISON, Minnesota 

RON KLEIN, Florida 

CHARLES A. WILSON, Ohio 

ED PERLMUTTER, Colorado 

JOE DONNELLY, Indiana 

BILL FOSTER, Illinois 

ANDRE ́ CARSON, Indiana 

JACKIE SPEIER, California 

TRAVIS CHILDERS, Mississippi 

WALT MINNICK, Idaho 

JOHN ADLER, New Jersey 

MARY JO KILROY, Ohio 

STEVE DRIEHAUS, Ohio 

SUZANNE KOSMAS, Florida 

ALAN GRAYSON, Florida 

JIM HIMES, Connecticut 

GARY PETERS, Michigan 

DAN MAFFEI, New York 

SPENCER BACHUS, Alabama 

MICHAEL N. CASTLE, Delaware 

PETER T. KING, New York 

EDWARD R. ROYCE, California 

FRANK D. LUCAS, Oklahoma 

RON PAUL, Texas 

DONALD A. MANZULLO, Illinois 

WALTER B. JONES, JR., North Carolina 

JUDY BIGGERT, Illinois 

GARY G. MILLER, California 

SHELLEY MOORE CAPITO, West Virginia 

JEB HENSARLING, Texas 

SCOTT GARRETT, New Jersey 

J. GRESHAM BARRETT, South Carolina 

JIM GERLACH, Pennsylvania 

RANDY NEUGEBAUER, Texas 

TOM PRICE, Georgia 

PATRICK T. MCHENRY, North Carolina 

JOHN CAMPBELL, California 

ADAM PUTNAM, Florida 

MICHELE BACHMANN, Minnesota 

KENNY MARCHANT, Texas 

THADDEUS G. McCOTTER, Michigan 

KEVIN McCARTHY, California 

BILL POSEY, Florida 

LYNN JENKINS, Kansas 

CHRISTOPHER LEE, New York 

ERIK PAULSEN, Minnesota 

LEONARD LANCE, New Jersey 

JEANNE M. ROSLANOWICK, Staff Director and Chief Counsel 

(III) 

C O N T E N T S 

Page 

Hearing held on: 

February 26, 2009 ............................................................................................ 1 

Appendix: 

February 26, 2009 ............................................................................................ 39 

WITNESSES 

THURSDAY, FEBRUARY 26, 2009 

Blinder, Dr. Alan S., Gordon S. Rentschler Memorial Professor of Economics 

and Co-Director, Center for Economic Policy Studies, Princeton University .. 2 

Galbraith, Dr. James K., Lloyd M. Bentsen, Jr. Chair in Government/Business Relations, Lyndon B. Johnson School of Public Affairs, The University 

of Texas at Austin ................................................................................................ 7 

Taylor, Dr. John B., Mary and Robert Raymond Professor of Economics and 

Bowen H. and Janice Arthur McCoy Senior Fellow, Hoover Institution, 

Stanford University ............................................................................................. 4 

APPENDIX 

Prepared statements: 

Blinder, Dr. Alan S. .......................................................................................... 40 

Galbraith, Dr. James K. ................................................................................... 45 

Taylor, Dr. John B. ........................................................................................... 56 

ADDITIONAL MATERIAL SUBMITTED FOR THE RECORD

Posey, Hon. Bill: 

Additional information provided for the record by Dr. James K. Galbraith ............................................................................................................. 62 

(1) 

MONETARY POLICY AND THE 

STATE OF THE ECONOMY, PART II 

Thursday, February 26, 2009 

U.S. HOUSE OF REPRESENTATIVES, COMMITTEE ON FINANCIAL SERVICES, Washington, D.C. 

The committee met, pursuant to notice, at 10 a.m., in room 2128, 

Rayburn House Office Building, Hon. Barney Frank [chairman of 

the committee] presiding. 

Members present: Representatives Frank, Waters, Watt, Moore 

of Kansas, McCarthy of New York, Baca, Miller of North Carolina, 

Scott, Green, Cleaver, Ellison, Perlmutter, Minnick, Adler, Kilroy, 

Driehaus, Kosmas; Bachus, Castle, Marchant, Posey, and Paulsen. 

The CHAIRMAN. The hearing will come to order. I am going to 

make a brief statement and get right to our witnesses. The Humphrey-Hawkins Act calls for semiannual hearings in which the 

Chairman of the Federal Reserve testifies on the state of the economy and the progress we are making in reaching the goals of low 

inflation and high employment. It seemed to me that while that obviously is very important, there ought to be some comment on it 

as well. That is probably substantive and something procedural. I 

have admired the work of Mr. Bernanke. I found a great deal to 

admire in the work of Mr. Greenspan. But I think we have suffered 

from excessive deference to the Federal Reserve. And the notion 

that these were oracular pronouncements not to be questioned is 

not healthy in a democracy. 

So we began having comments on the state of the economy right 

after the Federal Reserve testimony and on the testimony and 

what the Federal Reserve is doing. I think this is an important 

thing for us to continue, and that is this hearing today. With that, 

we are going to proceed right to our witnesses. The ranking member has graciously agreed with me that we don’t need to do substantive statements now. There was a small enough membership. 

So I will announce that the 5-minute rule does not have to be 

strictly adhered to so that we can have some more rational conversation. And we will have perhaps 8 or 9 minutes or so each. We 

will just tell members that we don’t want to abuse it. But the 5- 

minute rule has always been one of the obstacles to intelligent dialogue, and we can relax it some. 

We will begin, in no particular order, just the way I am facing, 

with Dr. Alan Blinder, who is the Gordon S. Rentschler Memorial 

Professor of Economics at Princeton and Co-Director of the Center 

for Economic Policy Studies, as well as a former Vice Chair of the 

Board of Governors. 

2 

Dr. Blinder. 

STATEMENT OF DR. ALAN S. BLINDER, GORDON S. 

RENTSCHLER MEMORIAL PROFESSOR OF ECONOMICS AND 

CO-DIRECTOR OF THE CENTER FOR ECONOMIC POLICY 

STUDIES, PRINCETON UNIVERSITY 

Mr. BLINDER. Thank you, Mr. Chairman, Ranking Member Bachus, and other members of the committee. I have read Mr. 

Bernanke’s last two testimonies before this committee. I have not 

had the benefit of all the Q&A that went on. But based on that, 

I would like to say that I agree with the Chairman, that is the Federal Reserve Chairman, on almost every particular that he mentioned in those testimonies. Indeed, I feel the country is fortunate 

to have somebody as creative and thoughtful as Ben Bernanke sitting in that very difficult chair right now. Now to specifics. Regarding conventional monetary policy, I think the Fed got off to kind 

of a slow start when the crisis first broke in 2007. But it has more 

than made up for lost time. 

I was especially pleased and I applaud its decision to, first of all, 

reduce the Fed funds rate to zero in December, and then to state 

that it would continue to hold it there ‘‘for some time,’’ a vague period to be sure, but I would guess that probably means a year, 

maybe more. The Fed has not said that. Nevertheless, the economic 

outlook, as Chairman Bernanke said yesterday, is quite bleak. 

I would like to underscore two of the points that he made. Firstly, he suggested very strongly, I thought, that his own view of the 

economy was weaker than the FOMC consensus, and mine is too. 

The bottom end of that range is a 11⁄4 percent decline during the 

four quarters of 2009. I think we will lose 11⁄4 percent in the first 

quarter alone. And I certainly don’t expect the next three to be on 

a break even level. So I think we will probably do worse than that. 

Second, he emphasized that even that forecast was predicated, I 

think his words were, on the actions taken by the Fed, the Administration, and the Congress to try to get out of this mess. And I certainly agree with that. I would like to emphasize that I think it is 

important for congressional and public thinking to conceptualize 

this as fighting a two-front war. And as with most two-front wars, 

you have to win both fronts, otherwise you lose the war. One front 

is restoring aggregate demand. And that is what the stimulus and 

low interest rates and so on are about. The other front is reviving 

what is a pretty wounded, if not dead—dead in pieces, wounded 

elsewhere—financial system. And that is where TARP and the various bank bailouts and many of the extraordinary things that the 

Fed has done come into the picture. 

So let me turn to the unconventional monetary policy which, 

these days, is much more important. I would like to especially 

praise the Fed for moving away to the maximum possible extent— 

which is not 100 percent—from going institution by institution 

with ad hoc rescue measures that while they solve an existing 

problem, don’t take us even a baby step toward a solution, and also 

sometimes sow more confusion than clarity because there are no 

clear rules of who gets what when. And moving instead to a market 

by market approach, which the Fed has been doing since it intervened so heavily in the commercial paper market, where the objecVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00006 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
3 

tive is to restore a once moribund market to life. And it has already 

succeeded with CP. 

This approach has many advantages, including that it really gets 

to the root of the problem. It takes us some steps toward a cure 

and, importantly, is roughly speaking, though not literally, rules 

based. There are rules to the game. There are procedures that are 

set up for doing these things. I think this is a far better approach, 

and it is the one that the Fed is pursuing very aggressively these 

days. What it amounts to in the short term is the Fed providing 

the commodity that is now in shortest supply in the U.S. economy, 

which is the willingness to bear credit risk. Nobody really wants 

to do that these days except the Federal Reserve, and I guess you 

could say, the Treasury. 

Under normal circumstances, of course, we want the private sector, not the government, to be bearing and evaluating risk. And we 

will get back to that one day. But for now, with risk premia so 

wildly high, and some markets not working at all, the government 

is right to step in and provide the risk bearing services that nobody 

else seems willing to provide. That is the central idea, for example, 

behind the TALF, which is starting, I guess, any day now—I am 

not exactly sure when it is starting. 

I would like to contrast that, by the way, with another aspect of 

quantitative easing that has been much discussed, which is buying 

long-term Treasury debt. One could imagine a time and a place 

where that is an appropriate thing to do once you have beaten the 

short-term interest rate down to zero. But I don’t see that this is 

the time or the place. I don’t see what would really be accomplished by doing that. The problem is not that we have a yield 

curve that is too upward sloping and that is doing damage. In fact, 

that is helping the banks recapitalize themselves, so we really don’t 

want to flatten it. And there is no problem with riskless borrowing 

by the U.S. Treasury, which is still cheap. We need to work on the 

risk premia that private borrowers have to pay above treasuries 

when they borrow. And that is when the TALF— 

The CHAIRMAN. The relaxation of the 5-minute rule will apply to 

all witnesses again. With the luxury of a fairly small membership, 

we can have some intelligent discussion unstructured by these time 

limits. 

Mr. BLINDER. So did that mean I am cut off? 

The CHAIRMAN. No, you have some more time. 

Mr. BLINDER. The last thing I would like to touch on, which has 

been much discussed in recent weeks, is nationalizing banks. I 

don’t think the talk of doing that has been particularly helpful. You 

can see that in the markets. That said, I recognize the possibility 

that at the end of the road after plans A, B, C, and maybe D fail, 

if they do fail, we may be there. So we should be realistic about 

that. But I don’t think we are there now. And as I say in my written testimony, my problems with rushing to nationalization can be 

summarized in four words, and those four words are, ‘‘We are not 

Sweden.’’ And by saying that, I mean a couple of things. 

The most important is that Sweden had just a handful of banks 

to manage. We have over 8,300 banks. This is not a trivial management task. And importantly, it is not at all clear where you draw 

the line. We can nationalize 2 banks, 4 banks, 8 banks, 1,800 

4 

banks. There is a problem here because if you nationalize Bank A 

and Bank B has to go to market competing with Bank A, which has 

the power of the Federal Government behind it, you have put Bank 

B at a competitive disadvantage. You may drive Bank B into such 

a state of ill health that it has to be nationalized, too. And down 

the chain you go. As I say, we may have to get there at some point. 

But we are not there yet, and I hope we don’t get there. 

A second problem is that once you start going down this list, you 

encounter what some people have called the ‘‘slowest antelope in 

the herd’’ problem as speculators set their eyes on who is likely to 

be the next nationalized bank, and then attack it with short selling 

and selling the CDS and so on. 

Thirdly, and here I would bow to the judgment of this committee, 

of course, but speaking as a citizen, the Swedes did their nationalization and denationalization with remarkably little political influence. It was a very technocratic operation. As a citizen, I am a little 

dubious that it would work that way in the United States of America. And let me leave it at that, Mr. Chairman. 

[The prepared statement of Dr. Blinder can be found on page 40 

of the appendix.] 

The CHAIRMAN. Thank you. I will just interject myself now to say 

I would hope people would keep in mind one very important fact. 

If you want something to be decided essentially nonpolitically do 

not ask 535 politicians to decide it. I think that is an endemic— 

not a bad thing either in our system, but something to be taken 

into account. Next, we have another frequent witness before the 

committee in a variety of capacities, Professor John Taylor is a 

Mary and Robert Professor of Economics and the Bowen H. and 

Janice Arthur McCoy Senior Fellow at the Hoover Institution, and 

a former, was a Deputy Secretary, John? 

Mr. TAYLOR. Under Secretary. 

The CHAIRMAN. Under Secretary of the Treasury for International Monetary Affairs, and so we are glad to have Dr. Taylor 

return. 

STATEMENT OF DR. JOHN B. TAYLOR, MARY AND ROBERT 

RAYMOND PROFESSOR OF ECONOMICS AND BOWEN H. AND 

JANICE ARTHUR McCOY SENIOR FELLOW, HOOVER INSTITUTION, STANFORD UNIVERSITY 

Mr. TAYLOR. Thank you, Mr. Chairman, and thank you, Ranking 

Member Bachus, for inviting me. I am going to focus my opening 

remarks, and in fact, much of my written testimony, on the extraordinary measures, part of the request to testify. I appreciate 

being invited here to do so. I think the first place to begin to think 

about these extraordinary measures is to look at the extraordinary 

increase in reserves at the Federal Reserve. And in my written testimony, I provided a chart. This chart, I think, is very useful, somewhat sobering, if you like, and it is worth a lot more than a thousand words. Reserves, of course, are the deposits that commercial 

banks hold at the Federal Reserve. It is a form of money. Economists call it central bank money or base money. It is really the 

foundation of the whole money supply in the United States economy. If you look at that chart, you can see that in September of 

last year, it started really exploding, I think is the word, and withVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00008 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
5 

in a few months increased by 100 times from roughly $8 billion to 

over $800 billion. Again, these are the deposits that banks have on 

reserve at the Fed and can be converted into loans at an instant. 

This increase in reserves, I have both what has happened until 

now, it is a solid line in the picture, and also what might happen 

in the next few months based on current policy. 

But why has this increase in reserves taken place? Why has this 

huge expansion in the creation of money, if you like, taken place? 

Well, it is because the Fed has used these reserves, used the creation of this money to finance the purchases of securities in the private sector, whether it is mortgage-backed securities now, or 

whether it is the securities that resulted from the Bear Stearns 

intervention, or whether it is the AIG securities, or whether it is 

loans to AIG, or whether it is the new purchases that will take 

place under the TALF, or under the recent proposal from the 

Treasury to create an initiative for consumer and banking loans. In 

other words, just like any other organization, the Federal Reserve 

has to finance its purchases or its lending, and it finances them by 

creating money. 

It can finance them in other ways, but that is the main way it 

is doing it right now. If you look at that chart, you can see these 

reserves didn’t increase for the first 13 months of the crisis. It was 

basically flat. And that was the way the Fed was controlling the 

interest rate. It started to explode when the Fed had to create 

money to provide these purchases. Now, where is this going in the 

future? I have estimated, based on the proposal from the Treasury 

and the existing proposals from the TALF, that we will have to increase a substantial amount more. And that is what that dotted 

line is trying to show you. It is really a continued explosion of this 

creation of money. 

So that is my assessment of where we are and where we are likely to go with respect to probably the best overall measure of the 

extraordinary measures that have taken place. I have a few questions and concerns and a couple of recommendations which I will 

mention in the time allotted to me now. One concern, and this, of 

course, is potentially inflationary. If the Federal Reserve doesn’t 

bring those reserves back out of the system, at some point in time, 

it will cause inflation. That is a huge increase in the money supply, 

and it will translate into inflation at some point. 

People ask me about this all the time, it is on their minds, it is 

a concern. The Federal Reserve needs to address that concern. 

Right now, of course, we don’t have an inflation problem. We seem 

to have the opposite. Inflation seems quite low. So it doesn’t appear 

to be a problem now, and that is why the chairman has indicated 

he can withdraw these at the right time. I think the question for 

this committee and others to ask is, how will they be able to withdraw such a large amount of funds? That will mean selling these 

mortgage-backed securities, selling the consumer loans, etc., and it 

may be difficult politically. 

The second concern I have is, I think it raises questions about 

the independence of the Federal Reserve. The recent proposal from 

the Treasury, the consumer business loan initiative, seems to me 

very similar to the kind of things that the Treasury did with the 

Fed before the so-called accord of 1950 when the Fed was given 

6 

independence to conduct monetary policy. It is a request for the 

Federal Reserve to do things which it might not otherwise want to 

do or which might not be appropriate to do; that is to create this 

loan facility. The third concern I have is that not all of these measures are clearly productive. The statistical studies I have done, for 

example, show that the term auction facility has not alleviated the 

risk premia at all. And I think one of the reasons for that is that 

it is not to do with liquidity, it has to do with pure risk issues. 

Also, like my colleague Alan Blinder, a lot of the interventions have 

really not been rules based at all, but have really been ad hoc, and 

have caused more confusion, if you like, more uncertainty in the 

marketplace. I am not sure that we have improved the rules based 

aspect of this, but I certainly hope that he is right. 

And then finally, I think this raises issues about the future of 

the Federal Reserve. These actions, while viewed extraordinarily 

now, could, in principle, become part of the normal way of doing 

business at the Federal Reserve, and that would raise grave questions to me about the success that we have had for 20 years, if you 

like, with monetary policy focusing on the overall economy, stating 

interest rates according to inflation and output. But if it becomes 

an organization of selective credit provision, whether it is bad 

times or weak times or just not so good times, it will raise serious 

questions about the effectiveness of the institution. 

I have three recommendations: One, I think there could be more 

transparency about these operations. In this regard, I think the recent creation of a Web site by the Fed just this week, I think it 

began on Monday, is very good news. This is the first time people 

can get in and see exactly and understand this complication of 

their releases. And I congratulate this committee for encouraging 

that in the hearing on February 10th. I think more could be done. 

I have been urging that they publish the daily data. So, for example, we would know right now what the provision of reserves is for 

every day of last week and don’t have to wait until the week is over 

on Wednesday. This is very important, and I have been urging it 

for years. 

I think the Fed should also set ranges for these reserves that I 

have showed you in my picture. Right now all they say in the minutes of the last meeting was that the balance sheet will be kept 

high. That seems to me too vague. What does that mean? Does it 

mean it is going to be at the top of my dotted line, or is it going 

to mean the top of the blue line? What does it mean that the reserves are going to be kept high? More specificity is needed. 

And finally I would recommend that each of these measures be 

subject to very serious evaluation studies, almost in real-time, if 

you like. Perhaps by third parties, but certainly by the Federal Reserve, to show how and why and when they are working and when 

they are not, so that we can assess going forward whether this is 

a good set of measures to take. Thank you, Mr. Chairman. 

[The prepared statement of Dr. Taylor can be found on page 56 

of the appendix.] 

Mr. WATT. [presiding] Thank you very much for your testimony. 

Our next and final witness is Dr. James K. Galbraith, the Lloyd 

M. Bentsen, Jr. Chair in Government and Business Relations at 

7 

Lyndon B. Johnson School of Public Affairs at the University of 

Texas at Austin. And you are recognized for your testimony. 

STATEMENT OF DR. JAMES K. GALBRAITH, LLOYD M. BENTSEN, JR. CHAIR IN GOVERNMENT/BUSINESS RELATIONS, 

LYNDON B. JOHNSON SCHOOL OF PUBLIC AFFAIRS, THE 

UNIVERSITY OF TEXAS AT AUSTIN 

Mr. GALBRAITH. Thank you very much, Mr. Chairman, Ranking 

Member Bachus, and members of the committee. It is again a very 

great privilege for me to appear today at these hearings, which as 

a member of the staff of this committee, I worked on from their inception in 1975. I wanted to make about six points that are really 

quite broad in their scope, but related to a central question or a 

central argument, which is that the crisis that we are passing 

through at the present time is qualitatively different from the economic downturns with which we have recent experience, and therefore requires us to adjust our thinking in certain important respects. 

The first one of these has to do with our treatment of the shortterm outlook, that is to say of the baseline forecast, which is very 

similar as between the Congressional Budget Office’s baseline and 

that offered by the Federal Open Market Committee, both of which 

show a mild to severe downturn this year followed by a turnaround 

and a period of growth beginning in 2010. I think this is substantially too optimistic. 

I think it is predicated on the mechanical inclusion in the model 

of a concept of a natural rate of unemployment toward which the 

economy will return by some unspecified process of labor market 

adjustment, and it is inconsistent with the likely path of liquidation of household debts which is very much underway at the 

present time. And the result of this is that I am very much in 

agreement with Alan Blinder that this year is likely to be substantially worse than the forecast. 

And even if there is a bottom at the end of this year and a slow 

rate of growth afterwards, that means that the ongoing rate of unemployment will be very high. I think Chairman Bernanke was at 

least minimally realistic about this, that we are talking about 9 

percent with no short-term or medium-term recovery toward high 

employment in prospect. Automatic stabilizers and the recovery 

plan just passed will help, but they will not rectify that basic situation for a long period into the future. 

The second point is that in this situation, with a very, very 

strong liquidity trap in place, monetary policy has been very helpful in preventing a collapse of activity. And I, again, share Alan 

Blinder’s high regard for the actions of the Federal Reserve in the 

crisis, and in particular of its effective measures in the commercial 

paper market. 

The fact remains that the ability of monetary policy to deal with 

the crisis going forward is relatively limited. We have had a policy 

of zero interest rates, we are going to have that policy for some 

time to come. It has not succeeded in restarting borrowing because 

the risk premia on private borrowers are too high, the profit expectations are too low, and the collateral is too weak. 

8 

And in addition to that, the policy of zero interest rate has an 

adverse effect on the fiscal side because it depletes the incomes of 

those who have cash reserves, and that affects their spending 

power. This is particularly a problem for the elderly. Policy communication and selective support of asset classes are not useless, but 

they are weak reeds in this situation. 

The third point relates to the plan with respect to the banks. I 

think it is plainly an effort to buy time in the hope that a financial 

market or broader economic recovery will refloat some of the biggest banks from the troubles which they are presently in. And it 

is conceivable that it might do that, but it is also possible that the 

plans as presented might fail, which in that case, would compound 

the taxpayer losses which are already in view as the guarantees 

that may be offered on the troubled assets are finally called. I am 

pessimistic about this, mainly because I think that a proper due 

diligence on the underlying assets, particularly residential mortgage-backed securities—an inspection of the loan tapes, which, by 

and large, has not been done so far as I understand—would show 

them to be rather badly infested by misrepresentation and even 

outright fraud and therefore unmarketable in the private marketplace at essentially any price. And if that is the case, the sooner 

we come to grips with it the better, because it is only through coming to grips with it and writing off assets which cannot recover that 

we will put the banking system as a whole back on a footing where 

those banks which are in better shape will be able to lead the way 

toward a restoration of private credit markets. 

And here I do have a difference with Professor Blinder in that 

I think our experience would pass through receiverships in the 

workout of the savings and loan crisis, which was very extensive 

in the early 1990’s, and more recently with such institutions as 

IndyMac, which is in such a receivership now, is reasonably good 

and reasonably free of political interference. This is indeed a job for 

the regulatory professionals. The only real question being whether 

they are sufficiently staffed up and prepared to handle that job 

with the scale of the institutions that we are talking about at the 

present moment. 

In any event, the banking plan is unlikely to restart credit effectively, because I believe it is based upon a misconception of what 

credit is. As a rhetorical, metaphorical matter we hear a lot about 

restarting credit flows. But credit is not a flow, it doesn’t come 

from one place to another, the problem is not a blockage. Credit is 

a contract between two equal parties, the lender and the borrower. 

The borrowers have to have reasons to borrow—profits in prospect—and they need to be creditworthy, which is partly a problem 

of the underlying asset that they bring as collateral. The first condition requires strong growth of demand, and the second depends 

upon fixing the foreclosure crisis and the chronic oversupply of 

housing, at least as far as residential credit is concerned. 

The fourth point concerns the problem of demand: a compound 

of debt deflation in the household sector, and also I would argue 

of a terrific squeeze on the elderly, which is hitting them from all 

sides, affecting their home values, their equity holdings, and their 

interest income. The household income problem could be met by a 

substantially larger amount of tax relief working through the payVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00012 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
9 

roll tax—for example, a holiday on the payroll tax. The squeeze on 

the elderly could be met by raising Social Security benefits. And so 

from this point of view, I would suggest that as we go forward, we 

should stop thinking about the Social Security system as being a 

burden, but rather as potentially one of the more effective ways to 

restore effective demand in a crisis environment. 

Obviously, it is going to take time before we can decide for sure 

where we are, whether the optimistic forecasts that we are seeing 

are, in fact, accurate or, as I believe, too optimistic. But in 6 

months or 9 months, we would be able to make a judgment on 

these matters, and we should, I think, at that point, be prepared 

to consider a substantially larger spectrum of aggressive interventions than we have seen so far. 

On the matter of housing, I want to say very briefly, as many 

members of this committee have said, it is important to stress the 

centrality of dealing with the foreclosure crisis to the ultimate resolution of these problems. In Texas, in the 1980’s, it took us 7 years 

to get through a housing crisis. This is one on a substantially larger scale. The problem has to do with the fact that homes don’t disappear, they tend to stay as a drug on the market for quite a long 

period of time. Keeping people in their homes is about the only way 

one can effectively reduce the oversupply. 

That can be done either through resetting mortgages or by some 

mechanism that would convert to rentals and leave the former 

owners in a position to buy them back at an appropriate opportunity. But either way, that is a very big, arduous job, requiring 

a lot of judgments about individual cases. The sooner it is started, 

the sooner it can get finished. If it isn’t started, this problem is 

simply going to hang on, as I think the fundamental obstacle to a 

recovery of the credit mechanism for quite a long time into the future. 

My broadest point is that we have been treating this crisis as an 

artifact of our economic projections—as something that is likely to 

be over within a couple of years, returning us to a situation of normality, in which we will be back dealing with more familiar problems. And I don’t think that is an accurate perception. I think we 

will not return to normal. This is an historical event, like the Great 

Depression in that respect, which can only be dealt with by creating in effect a new world, a new economy, a future which will not 

resemble the 30 years of the recent past. 

So the future is something that we now have to build. It obviously is going to involve reconstructing our public infrastructure on 

a long-term basis. That is something that we should be planning 

to do now. And dealing with our energy and climate change problems, which are obviously essential to the sustainability of any 

economy that we may construct going forward. Thank you very 

much, Mr. Chairman. 

[The prepared statement of Dr. Galbraith can be found on page 

45 of the appendix.] 

The CHAIRMAN. Thank you, gentlemen. Let me turn to a couple 

of the points that Professor Galbraith made. I was particularly 

pleased to see you include the language about Social Security, the 

notion that a long-term budget approach should be to focus on Social Security. There are two problems for me. One is not directly 

10 

relevant here, except in the broader sense. And that is it puts way 

too much attention on Social Security and way too little attention 

on the military budget. We are in the process now, I believe, of 

being asked to commit, at least this is a policy from the previous 

Administration, several billion dollars in tax revenue to protect the 

Czech Republic from Iran. 

I am not a regular reader of all the fatwahs, but I am not aware 

that the Iranians have threatened the Czech Republic to the point 

where we need to put billions of dollars in to defend them. I was 

pleased to see the President refer to the need to cut unneeded Cold 

War weapons there. On the other hand, though, on the Social Security issue, and you mentioned, Professor Galbraith, obviously Medicare and Social Security, and I do think, and I know you agree, 

there is a separation. 

Because it is not that Medicare does not deserve attention, but 

it deserves that attention in the framework of a broader health 

care policy. So let us start with that one. There is a point I want 

to emphasize. You talk about, for example, the advantage of dropping the Medicare age. What would the impact be, for instance on 

the automobile industry if we were to do that. We are going to be 

confronted with a need to provide some aid to keep the automobile 

industry, the American automobile companies, functional. What 

would the impact be of the drop in the Medicare age, for example, 

and other related health care issues? 

Mr. GALBRAITH. Well, I think in a great many industries, including the auto industry, that are in crisis it would have two effects. 

It would relieve the industry of health care burdens for older workers, but it would also give a fair number of workers who have the 

resources to retire but are unwilling to do so because they don’t 

want to lose health care coverage a chance to take that opportunity. And so it would enable the industries to downsize and restructure in a much more orderly way. 

The CHAIRMAN. I confess I have been thinking about the first of 

those, which was taking the burden off. Because if we could somehow get the burden of retiree and even current worker health care 

off the backs of GM, it would go a long way toward selling it. But 

the incentive to retire or the removal of disincentive against retirement is also very important. On Social Security, I will ask you, because I don’t think this gets enough attention, to elaborate on the 

argument that Social Security is in a crisis and if we do not do 

some drastic changes, including some reduction of benefits, that we 

will default on our promise to people who plan to retire in 30 years. 

What is your response? 

Mr. GALBRAITH. The U.S. Government need not default on any 

of its obligations. The issue for us going forward is how do we provide an adequate retirement for an elderly population which is 

growing. And we have of course had a balanced approach to that 

with a certain element of private asset building. The real crisis is 

there. Social Security exists as a way of buffering the elderly 

against that problem and should be seen as a tool toward that purpose. There is no reason, in other words, to treat Social Security 

as somehow a kind of financial albatross to the Federal Government. It is, after all, the one part of the Federal Government which 

has its own revenue stream assigned to it. That is not true of the 

11 

Pentagon budget, not even true of the net interest, yet nobody believes that the Federal Government is going to fail to provide for 

national security or fail to pay the interest bill. 

The CHAIRMAN. Let me ask all, and I will start with Dr. Blinder, 

one of the things we are told we have to worry about is that U.S. 

Treasuries will lose their appeal as an investment vehicle and that 

we will be severely disadvantaged. I will say that I see no evidence 

of that happening now. When I think about whether or not people 

can buy U.S. Treasuries in the future I am reminded of a figure. 

I often quote the 20th Century philosopher, Henny Youngman, 

whose response to the question, ‘‘How is your wife?’’, was ‘‘Compared to what?’’ And I think when we are told people are not going 

to invest in U.S. Treasuries, the question is, compared to what? 

Are we in danger if we don’t make some drastic changes in public 

policy, let me start with you Dr. Blinder, of seeing a drastic decrease in people’s willingness to buy U.S. Treasury paper? 

Mr. BLINDER. I think in the near term, we are in no danger for 

exactly the Henny Youngman principle. Look what has happened 

recently. As we all know, this mess, this worldwide mess, started 

here, right here in the good old U.S.A., and the whole world is trying to buy U.S. Treasury bonds, so we are really the safe haven. 

That said, as you all know, we are now looking at budget deficits 

of 10, 12, and 14 percent of GDP. I think that is the right thing 

to do in the current circumstances. We are in terrible need of stimulus, both from the monetary and from the fiscal side, given the 

state of the economy. But there is a limit to how many years you 

can keep that up. 

And so I think raising the deficit was really the right thing to 

do, even though a lot of commentators were scratching their heads 

about the security contradiction, of the Administration talking 

about long-run budget control at the same time that it was ballooning the budget deficit in the short-term. You are talking about 

long-run budget control over a period of a decade. But it is not a 

contradiction, it is the right thing to do. I do have some fear—I 

wouldn’t put a very high probability on it—but some fear that, if 

the view became dominant in the marketplace that the U.S. Government was going to run a 10 percent of GPD deficit more or less 

indefinitely, then I think we have to worry about interest rates and 

the financial market’s attitude toward the Treasury debt. 

Mr. TAYLOR. I am certainly concerned about making U.S. Treasuries attractive for the long-term. I think that we have to be vigilant about it, quite frankly, Mr. Chairman. And to the extent that 

we are going to run deficits like we are this year as far as the eye 

can see, and some people worry about that, it is going to be hard 

quite frankly to get people to buy these Treasuries for the longterm. I think it should be a direct concern. And by the way, I think 

there is an inconsistency about currently increasing the deficit by 

a large amount and simultaneously saying it is not going to be for 

long. 

I think it is one case, here is what I am doing, and the other case 

is, here is what I am saying I am going to do. And it raises questions about consistency which we should be concerned about. On 

Social Security, I would say it just seems to me this is something 

that could be addressed. It is more of a political than an economic 

12 

issue. I think we would show a great deal of leadership and confidence in government if we could come to grips with that sooner 

rather than later. There are more difficult problems, the ones you 

are asking about. But why not take that on at this point. It is a 

long-term issue, but it is a very important one to show the government can address it. 

The CHAIRMAN. I would just add that I understand the potential 

inconsistency. I very much agree with Dr. Blinder; we often do 

things to respond to an emergency that we don’t necessarily want 

to do in the future. But it does seem to me that was one argument 

for, as we did the economic recovery, or we do similar things if we 

had to do more, I would have done more, to try to do one-shot 

things, that contrary to some arguments to the extent that you are 

doing things that have an immediate impact but don’t build in a 

repetitive pattern that you alleviate some of that inconsistency. 

Professor Galbraith. 

Mr. GALBRAITH. Just on the question of sustainability. I don’t 

think there could, in principle, come a time when people would not 

buy Treasury securities. The issue is at what price, and specifically 

whether we are looking at an inflation problem down the road, 

which again is what Professor Taylor mentioned as a concern. And 

I think that is a concern, an appropriate concern for another day. 

I don’t think it is likely in the present environment or for the foreseeable future, simply because there is so much excess capacity, because there is debt deflation at home, and because the rush into 

the dollar is actually driving down our costs. 

The CHAIRMAN. The gentleman from Alabama. 

Mr. BACHUS. Thank you, Mr. Chairman. I want to say for the 

record that my wife is wonderful, so that is how I would answer 

the question as a married man. 

The CHAIRMAN. Well, I will listen carefully. You never know. 

Some day for me, so I will store that up. 

Mr. BACHUS. I could never get away with that answer. Thank 

you, Mr. Chairman. I spoke to the women in the housing and finance group here in Washington about 6 weeks ago, and this is 

something I said, and I may want your comment on this. I said 

that the critical failure in the government’s response to the financial crisis is that we are waiting for events to overtake us and then 

reacting in an environment of crisis. The essence of the problem is 

the core breakdown in decisionmaking. We postpone decisions until 

we are overwhelmed by the problems of the day. 

And I describe this as kind of a reactionary fire brigade mentality. Dr. Blinder, you, I think, called it an ad hoc piecemeal approach. And some of the problems I see with that is sometimes we 

cross the proverbial Rubicon. I mean, we are rushing to fix a problem and we go beyond points where normally we would sit back 

and say what are the long-term consequences of this. I would just 

like your comments. 

Mr. BLINDER. I think there is some truth to that, both to the 

worry and to the criticism. That said, as these really stunning— 

and, I would say it is not too strong a word to say, unbelievable— 

events have unfolded since the pot blew in August 2007, it would 

have required superhuman foresight to see what was coming. I 

mean, even just to take something concrete, I think it would have 

13 

been extraordinary, even in early September, to foresee what was 

going to happen with AIG on around September 16th or 17th or 

whenever. 

Mr. BACHUS. Of 2008. 

Mr. BLINDER. 2008, yes. It would have been next to impossible. 

What happened on those days took my breath away. Now, if you 

raise the point, well, wasn’t it very ad hoc? Yes it was. Might it 

have been done better? Probably. 

Mr. BACHUS. Let me say this: I agree with you. In August-September, I don’t think anyone had any idea of the magnitude of this. 

I think by October-November we did, but generally there is still not 

a comprehensive approach, although the Term Asset-Backed Securities Loan Facility of $1 trillion may actually be an example of 

something that is more comprehensive. Now, let me say this. You 

asked about it. They are still going through the regs and rules for 

TALF and it is not out there yet. 

Mr. BLINDER. So I agree with what I think you just implicitly 

said. I think the TALF is a rules-based, transparent, systemic, and 

systematic approach to restoring the viability of some of these credit markets. And that is what is warranted. I mean, I think that if 

I look at the pantheon of things that have been done, my favorite 

things start with the commercial paper facility and then lead into 

the TALF. I think those are real steps towards a cure. I think I 

said in the testimony that I was praising the Fed since October. 

You could look back to that September-October and even before, 

and I think find things to criticize. I see a turning point, although 

Chairman Bernanke didn’t make a big deal of it at the time, as 

coming when they did the commercial paper facility. That was sort 

of the first step. And now it continues. And while there is no guarantee that it is going to work, but the early returns, I would say, 

are good. The commercial paper market now is very much back on 

its feet. When they started, there was only one buyer, the Federal 

Reserve. That is not true anymore. The Fannie and Freddie MBS 

market, because of the Fed’s purchases, are looking much, much 

better than it did before. And that has had spill-overs to mortgage 

rates and so forth. 

Mr. BACHUS. Let me ask Dr. Taylor and Dr. Galbraith, too. 

Mr. TAYLOR. Let me comment on this, because I think what you 

say has a great deal of truth, Mr. Bachus. In fact, I have been 

studying this crisis for a while and decided just about the time that 

Alan Blinder said things turned to just write up, if you like, my 

assessment of: first, what caused it; second, what caused it to last 

so long because it did flare up in August of 2007; and third, why 

did it worsen so much last fall in the panic of last fall? In each 

case, I look at the kind of things you are saying, that the government basically didn’t get it right. They got off track from some policies that were working really well in much of the 1980’s and 

1990’s. 

First, the monetary excesses which led to this boom and bust in 

housing, in terms of lengthening or prolonging it, if you like, 

misdiagnosing it and then reacting in ways which didn’t do any 

good. By the way, I would include the stimulus package of last 

year, the stimulus of 2008, which sent checks to people and didn’t 

do much good, or I would include the term auction facility in that. 

14 

And then finally, last fall, the very ad hoc reaction which confused people. The testimonies were taken very negatively and 

caused a lot of fear. And so in all those cases, it seems to me you 

are right. So the government actions and interventions led to 

where we are, and I hope things are getting better. I still don’t 

think a lot of, I think there could be more rules, if you like, with 

respect to how the Fed is operating. 

I don’t like very vague statements about the total amount of reserves they are creating. I think that is going to lead to even more 

concerns. And it is good if they are being more specific about their 

initiatives. I worry about the Treasury’s request for a whole new 

initiative for consumer and business lending. I don’t know where 

that came from. I am sure I know the board has agreed to it. But 

still that raises questions about the nature of responses and the 

same kind of things you raise in your point. 

Mr. BACHUS. Mr. Galbraith. 

Mr. GALBRAITH. A modest difference with my colleagues. I think 

it was possible and that there were people who had a reasonable 

understanding of how dangerous the situation was becoming as the 

subprime lending expanded, and as the housing bubble expanded. 

And there were people in the spring of 2008 who were close enough 

to the markets and had the right sort of models who had a pretty 

good sense of how bad the crisis could get. 

And if I could submit for the record a memorandum that was 

based upon a seminar in June, which I think got the scale and 

character of the subsequent events approximately right. The problem here is that when you have a small group of people who do appreciate it, they are generally unable to project that to the larger 

policy-making community. And that is not by accident. It is simply 

that people who are very specialized and who see these things generally don’t have the same reach and influence that people who are 

less close to the events may have. 

Cassandra was always right, but no one believed her. There were 

reasons for that. And so in this situation we are still, I think, underestimating the gravity of the crisis and still in a situation where 

time will have to pass before the policy-making community is willing to move at the scale that is going to be required actually to deal 

with events. 

Mr. WATT. [presiding] I fear that the number of people on the 

committee who show up will continue to grow. And while we gave 

pretty much latitude for the opening statements, that we probably 

ought to return to an element of discipline in the marketplace here. 

So if you all don’t mind, we will try to return to the 5-minute parameters. And it may be necessary under those circumstances for 

you all to submit responses in writing to some of the questions that 

get asked because otherwise we are not going to be able to get to 

everybody. I will try to apply that discipline to myself since I am 

the next person to be recognized. Dr. Taylor, let me clarify the reserve chart that you have given us to this extent. The Fed—is this 

the same thing that yesterday Chairman Bernanke was describing 

as assets, or does the Fed itself have some kind of reserve. Is this 

a dollar-for-dollar assessment, or is this something, a reserve similar to what we would think of as reserves in a bank, for example? 

15 

Mr. TAYLOR. These are the liabilities that correspond to the assets. He was talking about the assets, the commercial paper or the 

mortgage-backed securities that they were purchasing. 

Mr. WATT. But it is a dollar for dollar? If he has valued the liabilities and he has valued the assets correctly, it is a dollar for 

dollar. So in that sense, it is not 10 percent of the liabilities, it is 

an actual offset figure, is that right? 

Mr. TAYLOR. It is really as they are created. In other words, if 

you were to go out and buy a mortgage-backed security, you would 

have to pay for it with something. Well, so does the Fed. The Fed 

has to pay for it. What they can do is pay for it, either by actually 

printing the money, or in this electronic age, crediting their accounts to a commercial bank so the bank has a deposit. So that is 

how they pay for it. They have to pay for it, you know. 

Mr. WATT. So in that sense, it is a dollar for dollar. 

Mr. TAYLOR. As it is created, yes. 

Mr. WATT. I just wanted to be clear on that. Dr. Galbraith, your 

merger of this question of Social Security with the situation that 

we are in actually raises something that another academic with 

whom I was having a conversation last weekend suggested. And I 

will put it out here, although he has promised to send me something in writing that kind of fleshes it out. I may be misstating it. 

But his idea was that since we have now nationalized, federalized, 

taken over Fannie and Freddie, at some point their assets will be 

fairly substantial we hope, and that short-term we—longer term, I 

will deal with it longer term, when those assets become more and 

more valuable over time it would be a wonderful source of revenue 

for Social Security. 

And I guess the corollary of that is shorter term, we ought to be 

thinking about merging these entities to use some of the Social Security surplus to get us through this transition until housing stabilizes and those assets come back. Is that even remotely akin to 

what you are suggesting here, and can you give me your reaction 

to that notion. 

Mr. GALBRAITH. There are many ways to mobilize resources and 

put them to work. You mentioned the Social Security surplus at 

present, which is to say payroll tax revenues greatly in excess of 

benefits currently being paid. There is really no reason for that. I 

think that is a target of opportunity. If you wanted to provide tax 

relief to working families and cut the payroll tax, you will not harm 

the finances of the U.S. Government by doing so, but you will very 

effectively put cash in the pockets of working families who can use 

it to pay their mortgages and their car debt. And that is the useful 

way to think about this. 

On the other side, Social Security benefits are a great engine, 

very widely received in the elderly population. Putting more resources, putting more money into those accounts is a very effective 

way to hold that population a little bit harmless from all of the 

other losses that they are presently suffering. 

Mr. WATT. Do either of the other witnesses have a quick response to that notion? Dr. Blinder. 

Mr. BLINDER. We are doing that in a sense. When you look at 

the unified budget, which is what you generally focus on in terms 

of measuring the deficit, the Social Security surplus part is in there 

16 

and the non-Social Security part would have an even larger deficit. 

So it is all put into one pot. And you could say that we are now 

using it for something, because we are in a big overall deficit position. On the asset sales that you mentioned, if, and we all have our 

fingers crossed, we can sell some of these things at a profit some 

years down the road, that will again go into the Federal kitty, just 

as it is going out of the Federal kitty now. But, importantly, that 

is a one-shot event. If you think about closing a long-run actuarial 

gap in Social Security, that is just a one-shot event and not a permanent flow. 

Mr. WATT. I am going to impose the discipline on myself first so 

nobody else thinks I am being unfair to them. Mr. Castle is recognized for 5 minutes. 

Mr. CASTLE. Thank you, Mr. Chairman. Dr. Taylor, you had 

three recommendations, and I took brief rights, I may not have gotten this quite right. But the last one was something to the effect 

of serious evaluation studies by the Federal Reserve, that is. Is 

that evaluation studies of how their programs are actually working 

in terms of the advances they have made to the various institutions 

on the outside, is that what that means basically? 

Mr. TAYLOR. Yes, that is basically what I have in mind. And it 

is very important to public policy always to evaluate the effectiveness. I think in this case it is particularly important because it actually, as Mr. Bachus was saying, there is a tendency to keep reacting and proposing new things. So my observation early on, for 

example, was that the term ‘‘auction facility’’ the Fed created, at 

least with the express purpose of reducing the spreads in the 

money markets, bringing LIBOR down, didn’t really do that. And 

there are now multiple, 10 or 15 more, programs that need to be 

evaluated in the same way. And it is important, too, because if 

these reserves, money is going to be brought down from my chart, 

it could be some of these things could be ended if they are not 

being effective. So the TALF is still very large, there are still large 

loans to foreign central banks. So those might be some of the ways 

this money could be brought in. But in order to know that, you 

have to see which are effective and basically just make some cost 

benefit analysis. I think that is very important. 

Mr. CASTLE. I tend to agree with you on that. And Dr. Blinder, 

you think the Federal Reserve has done a good job, maybe since 

October, but has done a good job on all of this? 

Mr. BLINDER. [no verbal response] 

Mr. CASTLE. Dr. Taylor, had those three recommendations. One, 

I think we probably all agree on. But more transparency in the 

Web site is a good start he said in that area. And then setting the 

range of reserves and then the serious evaluation studies. Do you 

consider those, even if the Fed is doing a good job, do you think 

those to be good improvements or would you critique any of them 

or not recommend any of them? 

Mr. BLINDER. I would be 100 percent behind 2 of them, the transparency and the evaluation. We should always be evaluating what 

we do, especially when we are stepping into unchartered waters. I 

might add that, when you step into unchartered waters, the evaluation is not a trivial task because you have no model for it. You 

have done this 6 times before. The one that I would not endorse 

17 

by any means is trying to establish some sort of target for the Fed’s 

balance sheet. I think the conceptualization of the target that 

Chairman Bernanke has now, which is not at all numerical, is exactly the right one: in this crisis, do whatever it takes. If it is another $500 billion, it is another $500 billion. If it is not, it is not. 

We will get market signals as the markets return to normalcy 

and we learn that banks no longer want to hold these enormous 

amounts of excess reserves. That is what they are. That whole gap 

that you see in Dr. Taylor’s charts are excess reserves. Deposits 

haven’t skyrocketed like that. These are mostly excess reserves. 

That is the symptom of a banking system cowering in catatonic 

fear. The one thing you know is safe are reserves at the Fed. So 

they want those reserves now. As Dr. Taylor says, when the system 

normalizes, they will not want reserves like that. And if you leave 

them out there, you are going to have a lot of inflation. But the 

Fed will see that happening right away. I just don’t see that it 

makes any sense, nor do I see how the Fed could actually execute 

it, if the Fed was to follow a suggestion to post a target for its balance sheet. 

Mr. CASTLE. Thank you. Dr. Galbraith, the mortgage bailout program, bank bailout program, to some degree was sold to us as troubled asset relief purchases, and of course, it didn’t unfold that way 

as it turned out. Do you believe that we need to have some program that is going to go after those toxic assets and relieve the 

banks that we saw? I continue to read that banks just can’t return 

to normalcy without that somehow being undertaken. Where 

should we be going with that issue? 

Mr. GALBRAITH. This is an area where evaluation would also be 

very useful, because we are, I think, working with a mental model 

of these assets as marketable assets which are being priced at 

below something that may be their long-term reasonable value, and 

I am not at all sure that that is correct. I suspect that a private 

investor who is charged with doing real due diligence on these assets, who looked at the underlying loan tapes, would find that 

there was just not, in the nature of a subprime security, not any 

way that you could in good faith tell your client that you had information on the basis of which to value them. 

And if that problem is really pervasive, as we have some indication it is, as some sampling of the files suggests it may be, then 

the sooner these assets are fully assessed and dealt with, written 

down, and the institutions who held them evaluated it on that 

basis, the more quickly we will get through the crisis, however big 

it is. 

If we make the other bet that these assets will recover or can recover and are proven wrong, then we are going basically the Japanese route of forbearance and holding the institutions afloat, but 

without any real prospect that they will return to a normal behavior as you have just heard the other witnesses describe. 

Mr. CASTLE. Thank you. 

Thank you, Mr. Chairman. 

Mr. WATT. The gentlelady from California. 

Ms. WATERS. Thank you very much, Mr. Chairman. 

I think that the hearings that we have been holding, the bank 

CEOs that we have been bringing in and others, and, of course, Mr. 

18 

Bernanke’s testimony here yesterday is helping us to get a better 

handle on what we can do public policywise to help during this crisis. 

I have a question that I would like to ask of any of our witnesses 

here today, because some of the actions that we have taken are not 

quite understandable. We have a number of small and community 

and regional banks that were invested in Fannie and Freddie. They 

bought their preferred stock because it was so safe. And when we 

took over, those small regional minority banks lost all of their preferred stock investment. Now some of them, I suppose, will stand 

in line and beg for some TARP money. But it seems to me that 

somehow that preferred stock that they had in our government enterprise should have been protected and not taken from them. Are 

you aware of this? Do you have any thoughts on that? I can start 

with Mr. Blinder. 

Mr. BLINDER. Yes, I am aware of it, though I hope you won’t quiz 

me on the exact details for any bank. I think it would be appropriate for the bank regulatory agencies to make special allowances—and I think they are. It is a version of regulatory forbearance because after all, as you said, Congresswoman, the Federal 

Government did this to them. They were holding this stuff, this 

preferred stock. It was thought to be a safe asset. It was treated 

as a safe asset by the regulatory authorities. They liked banks having this on their balance sheets. And then it was a Federal intervention that devalued the asset. 

I think it is appropriate bank regulatory policy, and I am pretty 

sure the regulatory agencies agree with this, to treat that differently than when poor banking decisions lead you to balance 

sheet troubles. So I would treat it mostly—not so much in the way 

you suggested, but it is not so very different—with regulatory forbearance. That is, this is a piece of your capital structure that we, 

the national government, impaired. You didn’t do anything. So we 

are going to give you a lot of time to get back to your proper capital 

position. 

Ms. WATERS. Dr. Taylor? 

Mr. TAYLOR. I basically would say I agree and just add that I 

think it is an example of what we were talking about earlier, how 

so often what has happened here is there have been some government interventions that have had these unintended consequences. 

And, of course, it is not just these banks that have held that; a lot 

of other private citizens and people have as well. So it is an example to be careful before you do these kinds of things. But otherwise, 

I would agree. 

Ms. WATERS. Well, this was brought to our attention, and I think 

our Chairman, Mr. Frank, dealt with it, but we did not deal with 

it in terms of getting our regulators to take a look at this. Chairman Frank, I just brought up the fact that for all of those regional 

banks, small banks, minority banks that had preferred stock in 

Fannie—and when our government-sponsored enterprises were 

taken over, we allowed that preferred stock to be taken over from 

those banks. And now those banks, I suppose, have to get in line 

behind the big banks and try to beg for some TARP money. And 

it just seems to me there ought to be some kind of policy that 

would at least give some thought to how you give some protection 

19 

to those regional banks rather than have them come back in line 

over in the TARP line and say, lend me some money or give me 

some money so that I can stay in business. 

Dr. Galbraith, what do you think about that? And do you think— 

well, let me just say this: I had a private citizen come yesterday, 

and the private citizen said his whole family, he, his mother and 

all, they also have preferred stock in Fannie, and that just a few 

days before the government took over the stock, Paulson and others 

were saying that it was not in trouble—I don’t know where these 

statements were made. I am going to look for them—that there was 

no contact with them. There was no indication that these government-sponsored enterprises were in trouble, that they were going 

to be taken over. And they still to this day have not been contacted, 

even though they have lost everything. 

Dr. Galbraith, what do you think about the regional banks that 

lost all of their money, which put them in danger? And also private 

citizens who were not warned, have not been contacted, had no 

idea? This was a government—as you say—intervention. 

Mr. GALBRAITH. Well, I am inclined to rely on Alan Blinder’s authority on this matter as well, and to say that I think the position 

that he articulated is a very reasonable one. There are probably 

precedents from the era of the savings and loan crisis which are 

worth looking into for dealing with problems of this type. But I 

would have to look at the record just to give you a better, more 

complete answer than that. 

Ms. WATERS. Thank you. 

The CHAIRMAN. Mr. Posey, the gentleman from Florida. 

Mr. POSEY. Thank you very much, Mr. Chairman. 

A question for Mr. Blinder. You talked about the nationalization 

of banks in Sweden. What year was that? 

Mr. BLINDER. I think about 1991. It was in the early 1990’s. 

Mr. POSEY. Did they formally nationalize them or just control 

them like we are? 

Mr. BLINDER. My understanding is they formally nationalized 

some banks. And then to get around the problem that I was mentioning about Bank A and Bank B, they subsidized the other banks 

so they wouldn’t be forced to fail. 

Mr. POSEY. Did it seem to solve their problems? 

Mr. BLINDER. Yes, it did. I think they came out of that banking 

crisis, which was extremely deep and severe, quite quickly and 

reprivatized the banks that they had nationalized. That is why 

Sweden is held up as sort of the poster child for successful nationalization and then denationalization. 

Mr. POSEY. Yes. Some of us think that is just a buzzword. 

Do you know what their corporate income tax rate was when 

they nationalized? 

Mr. BLINDER. I am sorry; I do not. 

Mr. POSEY. I think it was about 45 percent. 

Do you know what it is now? 

Mr. BLINDER. I do not. 

Mr. POSEY. The nationalization didn’t improve GDP. It didn’t 

solve any problems. You know, it created an illusion, kind of like 

we are. I think their corporate income tax rate is probably 10 or 

12 points lower than ours now. I am not sure. I think it was to 

20 

focus on increasing their GDP, on creating jobs, real jobs that 

solved their problem. And nationalization got credit for it, nationalization of the banks. 

Dr. Taylor, what happens if the foreign investors who are absorbed in their own domestic economic challenges decide it is not 

in their best interest to purchase our Treasury notes? 

Mr. TAYLOR. I am sorry, not in their best interest to what? 

Mr. POSEY. Purchase our Treasury notes. 

Mr. TAYLOR. That is the kind of thing you should worry about, 

if not today, then in the future. That is why I say it is so important 

to think about the things like Social Security, to think about the 

fact that we have a large deficit coming in now. We should try to 

get that down. We probably shouldn’t have had such a big one this 

year, it has been my view. So those are exactly the reasons I would 

be concerned. And you have a lot of people who have been buying 

our debt for a long time. Some people have been worrying about it 

for a long time, and I think we should worry about it. We think 

it is important to do everything we can to make sure that people 

have confidence in the United States and in our fiscal responsibilities and our intention to support our debt no matter what. 

Mr. POSEY. The same thing with our secondary market securities? 

Mr. TAYLOR. Which securities? 

Mr. POSEY. Mortgage notes, our other paper. 

Mr. TAYLOR. Well, that is anything that we are, of course, involved in now, absolutely. But from the point of view of individuals, 

yes. I mean, the idea is to do everything you can to be creditworthy, to maintain your creditworthiness and get back to basic 

principles. 

Mr. POSEY. Do you see any way a cramdown could do anything 

but devastate that secondary market? 

Mr. TAYLOR. No. I think anything—these cramdowns or any of 

these special interventions to the extent that you always have to 

think about what that is going to do to future borrowing, and to 

get out of this you have to make lenders want to borrow. If they 

are worried about cramdowns, or they are worried about interventions by judges that are ad hoc, it is going to make them less willing to lend and not more willing to lend. 

Mr. POSEY. I wouldn’t think anybody would buy anything that 

the government can simply devalue tomorrow at an arbitrary, capricious rate. 

Dr. Galbraith, in your written testimony, you indicated that the 

arguments that Social Security and Medicare are a problem are 

mistaken dangers. Did I read that correctly? 

Mr. GALBRAITH. Yes. That is right. 

Mr. POSEY. I just want to make sure. I thought they gave me a 

paper that had some errors in it possibly. 

You said the programs cannot go bankrupt any more than the 

Government of the United States can go bankrupt, which it cannot. 

Mr. GALBRAITH. Right. 

Mr. POSEY. Would you describe bankruptcy for me? 

Mr. GALBRAITH. Bankruptcy is a term that applies to a private 

corporation which comes to the protection of a court when it is unVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00024 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
21 

able to pay its debts. And since the U.S. Government cannot get 

into that position, essentially it cannot go bankrupt in that sense. 

Mr. POSEY. So you believe the U.S. Government can have no 

limit whatsoever on its liabilities and minimal assets, and that 

wouldn’t be a problem? 

Mr. GALBRAITH. Well, there are two senses in which one can talk 

about the word ‘‘limit.’’ 

Mr. POSEY. Let us talk about infinite. Infinite debt means no assets. 

Mr. GALBRAITH. The question is whether there is an operational 

limit. The answer to that is no. Whether there are limits of prudence, the answer to that is yes. Obviously the government can 

spend too much or tax too little, and can conduct its affairs in ways 

that are economically unwise. The consequence for that—and this 

gets back again to the colloquy that you were having with Professor 

Taylor—is not that people would refuse to buy our— 

Mr. POSEY. Because of time, could you give us a written answer 

to that? 

Mr. GALBRAITH. Sure. But in one word, the problem is inflation. 

The CHAIRMAN. The gentleman will get a written answer. I agree 

with what my colleague from North Carolina said: We don’t have 

the luxury of time. We have more interests. 

The gentleman from Kansas. 

Mr. MOORE OF KANSAS. Dr. Blinder, in these difficult times when 

our constituents are anxious and frustrated with the state of our 

economy, I believe transparency is very, very important to communicate what actions we are taking to protect the U.S. taxpayers. An 

issue that came up at our Subcommittee on Oversight and Investigations hearing on Tuesday of this week was a potential oversight 

blindspot that may exist at the Fed. In particular, I have a concern 

that there may be a lack of sufficient oversight of TARP funds that 

pass through the Fed. 

I understand the Fed’s TALF program will use TARP funds to lend up to $1 trillion to thaw the consumer lending markets. The 

Acting Comptroller General, who testified as a witness before our 

hearing on Tuesday, expressed concern about GAO’s ability to oversee TARP funds passing through the Fed. 

I believe independence for the Federal Reserve is very important, 

but when the Fed invokes emergency powers through section 13(3) 

of the Federal Reserve Act and greatly expands its balance sheet, 

should Congress consider adding emergency oversight authorities 

to better track the use of funds? 

Before you respond, let me give you one example. The congressional oversight panel at this hearing led by one of the witnesses, 

Professor Elizabeth Warren, testified at our hearing Tuesday that 

the Treasury Department overpaid an estimated $78 billion in its 

first round of investments into troubled banks. Professor Warren 

testified that, ‘‘There may be good policy reasons for overpaying, 

but without clearly delineated reasons, we can’t know that. Without strong oversight protections of the Treasury’s use of TARP 

funds, we would not have learned that.’’ 

So my question is, does this argue for having emergency oversight authorities at the Fed when they use emergency powers and 

taxpayers’ money? 

22 

Mr. BLINDER. It is a hard question. Let me say a couple of things 

that I know and then speculate. 

The TARP legislation that was passed by the Congress has multiple layers of oversight. The original infamous 21⁄2 pager, which 

you will remember, didn’t. 

Mr. MOORE OF KANSAS. Yes, sir. 

Mr. BLINDER. But what was eventually passed had tremendous 

amounts of oversight, some of which you just cited. My answer to 

the question, should it have heavy, heavy oversight, is yes. And I 

think it has that. 

The problem that you were alluding to, Congressman, is that the 

early expenditures of the TARP—I don’t want to say all of the first 

$350 billion, but a lot of it—seems to have been poorly documented, 

and poorly designed, by the way—poorly documented, poorly accounted for, etc. Some of this, I think, you can forgive because they 

were in a hurry. But I think a lot of it you can’t forgive, that it 

just wasn’t done the way it should have been. 

Regarding the Federal Reserve, this committee and the corresponding committee in the Senate have oversight over the Federal Reserve. Chairman Bernanke and others come down to testify 

frequently. It is not obvious to me you need any further authority. 

Do you have oversight authority over the Fed? It is reporting to 

you now, I think—you will correct me if I am wrong—bimonthly on 

the section 13(3) actions, the extraordinary actions. And, of course, 

should the Congress reach the judgment that is not frequently 

enough, it can request that the Fed report more frequently than 

that. It is not obvious to me that any further powers are necessary 

to get done what you quite correctly want to get done. 

Mr. MOORE OF KANSAS. Thank you. 

I would ask the same question if any of the other witnesses have 

additional comments. 

Mr. TAYLOR. I think that the mere fact that you are asking this 

question about whether you need more powers over the Fed is an 

example of my concerns that the Fed moving in this direction 

raises tensions about their independence. I really think the independence of the Federal Reserve has been very important and why 

we have basically had good policy for 20 years. And there is a concern about these actions, losing some of that. So I would say, whatever you do, you know, exercise the longer term and the shorter 

term, maybe find other ways to consider accountability, if you like. 

Mr. MOORE OF KANSAS. Well, as I said, I agree with that, but I 

am concerned if, in fact, the Treasury Department overpaid an estimated $78 billion in its first round of investments in troubled 

banks, we need to address that situation and make sure that 

doesn’t happen. 

Dr. Galbraith. 

Mr. GALBRAITH. I spent several years, Congressman, sitting behind where you are sitting now. So I very much take the view that 

while the Federal Reserve is properly independent of the President 

and the Executive Branch, it is in no sense independent of the Congress. It is a creature of the Congress, an artifact of the Federal 

Reserve Act, and you do have the authority and the responsibility 

to exercise appropriate authority over the central bank. 

Mr. MOORE OF KANSAS. Thank you to our witnesses. 

23 

And thank you, Mr. Chairman. 

The CHAIRMAN. The gentleman from Minnesota is next, I believe. 

Yes, the gentleman from Minnesota. 

Mr. PAULSEN. Thank you, Mr. Chairman. 

Given that our economic system is generally designed to be selfcorrecting, what recommendations do you have to minimize the 

other sectors right now that are being protected somewhat, the financial sector, the auto sector where we have had some discussion, 

these organizations that are essentially too big to fail? Do not some 

of these sectors need to have some correction applied to them and 

through market forces? And are the interventionist policies of the 

government that are being discussed now, are they the answer to 

sorting out or downsizing or rightsizing these sectors? Can you provide some perspective on that? 

Mr. BLINDER. I don’t think they are the answer, Congressman. 

But I would appeal to analogies that have been made by Chairman 

Bernanke and others that when the house is burning, you put out 

the fire, and you don’t worry about the fire code. But you do worry 

about the fire code later. 

And I take your point about the fire code. I think we need very 

large changes and multiple changes in the regulatory system. 

There is a very long list of things to do which I won’t try to go over 

now. But just to take one point that you raised, about too big to 

fail, I think one of the things—once we have this problem, 

‘‘solved’’—well, it will never be literally solved, but once we are 

back to something like normalcy, we are going to be facing a financial system that has some giants in it that we never contemplated, 

the results of these forced shotgun marriages. And that really 

raises the too big to fail doctrine to an entirely different level. 

I think we are going to have to think about whether—later, not 

now—we are going to have to think about whether one approach 

to too big to fail is to make it very difficult for organizations to actually get that big. That is a very large departure from what we 

have done in the past. But I think it should be on the congressional 

agenda—but again, for the future, not for today. 

Mr. PAULSEN. I would be happy to hear some of the other comments you would have. In that sense, are we better off having one 

insurance company or 100 different ones to spread out the risks so 

that we don’t have quite the too big to fail concepts, one AIG, for 

instance, which we could effectively nationalize some of these institutions? 

Mr. BLINDER. Yes, that is a good example. I think it was a tremendous mistake, made largely by the private sector really and not 

by the State, to have so much of the CDS risk concentrated in one 

company. I mean, we should have never gotten to a position like 

that. 

Mr. PAULSEN. Mr. Taylor. 

Mr. TAYLOR. With respect to the self-correcting mechanisms, I 

sometimes think that government should have more faith in these 

self-correcting mechanisms. And in some sense, it screws them up, 

if you will, by intervening too much and too often. 

Quite frankly, one way to deal with the too-big-to-fail problem is 

to establish a credibility about sometimes saying no. It seems to me 

more often it is going to help if you can establish the credibility of 

24 

an institution—while this may not be too-big-to-fail, and we will 

have other ways to deal with the impacts if your institution fails— 

and therefore not just create the expectation that government will 

always be there. 

As I mentioned before, and I study this crisis, it seems to me so 

often it is the government actions that have prolonged and worsened things, not the market. And the presumption, of course, these 

days is the government will be able to fix it. But I think dealing 

with too-big-to-fail through better market mechanisms, better resolution mechanisms is important, but ultimately it is going to come 

down to the credibility of the policymakers occasionally in the right 

circumstances with a lot of notice saying no. 

Mr. GALBRAITH. I would say most living systems are self-adjusting. Animals get sick. They normally recover, and sometimes medicine helps them recover a little more quickly. But there are circumstances when they won’t or when it will require really exceptional interventions to prevent the animal from perishing, to make 

recovery possible. That is when you need the intervention to be 

conducted with the greatest skill. You are never entirely sure that 

it is going to succeed. And the trick is distinguishing between this 

normal condition when recovery is to be expected at some point, 

and the exceptional condition when you are at risk that recovery 

may not happen. 

That is the problem that I see facing the system at the moment. 

It is being subjected to such severe stress, failure both of vital internal institutions, the banks, and external shocks, that we have 

to think really quite freshly about what the appropriate degree of 

policy intervention is. 

Mr. PAULSEN. I yield back. 

Mr. WATT. [presiding] Thank you. 

We have been called for a series of two votes, but we want to get 

one additional question in first. Mrs. McCarthy is recognized. 

Mrs. MCCARTHY OF NEW YORK. Thank you. Thank you for the 

hearing. 

Dr. Galbraith, I was going through your testimony, and one of 

the sections was about keeping people in their homes. That is the 

area that I am really concerned about. This morning’s unemployment numbers came out. They were not good. Also we have another 

500,000 people without a job. And you came up with two ideas, and 

you also were looking at a Warren Mosler, who I don’t know, coming up with an idea. Could you go over some of the ideas that you 

had? Certainly Dr. Blinder and Dr. Taylor, if you have ideas, too. 

Mr. GALBRAITH. My thinking on this is informed to a large extent 

by what was done by the Home Owners’ Loan Corporation in the 

1930’s. What the government did at that time was basically to take 

over it and discount the troubled mortgages, renegotiate them, and 

manage the housing so that people could stay in their homes. And 

they managed that for about a million homeowners during a 15- or 

20-year period. 

Mr. Mosler’s idea, which I think is an interesting one because it 

would minimize the amount of institutional disruption, is that you 

allow people to go through the foreclosure process, but then have 

the government pick up the house at the lowest of the appraisal 

price or the mortgage balance and allow the previous owner, if they 

25 

want to, to live in the house on a fair-market rental basis with an 

option to repurchase when conditions improve. At that point, you 

are essentially rebooting the market mechanism for housing, but 

also trying to the maximum extent to keep homes occupied so that 

you stop the cycle of blight, which is going to keep driving down 

home values and also damaging the quality of life in neighborhoods 

for an indefinite period into the future otherwise. 

Mrs. MCCARTHY OF NEW YORK. Do either of you have a— 

Mr. TAYLOR. Just very briefly. I think that one of the problems 

here is the disconnect between the servicers and the investors. And 

in a normal circumstance, a bank would be able to work it out with 

the customers. They know them in the neighborhood, or know the 

nature of the loan. So dealing with that is an issue. And one suggestion is to give some incentive to the servicers. I think that is actually being considered now by the Administration. 

But I think another thing would be to work on transparency. A 

lot of the original loan documents are not made available to the investors. And it is complicated because of the securities being packaged. But if the servicers would provide more information about 

that original loan documentation, then you would be able to distinguish between if you like the creditworthy borrowers originally and 

the ones that, you know, was a no doc loan, if you like. And I think 

more maybe even require transparency, but certainly more transparency is needed there. 

Mr. BLINDER. Very briefly, Congresswoman, first of all, the Administration’s program has a number of things in it that would go 

to exactly what you are talking about—keeping people out of foreclosures—including the approach to the servicers to free them of 

the legal liability, or at least to minimize it, that they now have. 

Secondly, this committee and the corresponding committee in the 

Senate originated the HOPE for Homeowners program. As you will 

remember, to get that bill passed, the parameters were set so that 

the budget cost was practically nothing. That program could be liberalized and made to work. The problem basically was that it was 

put in a budgetary straitjacket that would cost nothing. You don’t 

get too much when it costs nothing. But the parameters could easily be changed—I am talking about what it costs for the FHA guarantee, the eligibility requirements and so on—by an amendment to 

that Act. 

Thirdly, and finally to the specific point you made, foreclosure 

mitigation won’t be the whole thing, because the sad truth is some 

people got into ownership who never should have. They always 

should have been renters, and some of these mortgages are just not 

salvageable. So some ideas of converting owned homes to rental 

units, I think, are going to be a logical part of the ultimate solution. 

Mrs. MCCARTHY OF NEW YORK. My concern is, especially at the 

fair-market price—I come from New York. Fair-market price to 

rent an apartment is almost a mortgage payment, where, you 

know, you go south or you go to the Midwest, apartments are 

much—certainly you get a lot more for your money, I will put it 

that way. That is my concern. Because with all these people who 

are going to be going out on unemployment, they have been paying 

their mortgage. Most of them probably have a 30-year mortgage. 

26 

And yet they are going to probably find several months down the 

road that they don’t have the money to pay for their mortgage, and 

that is what I am concerned about. 

These are good people, good risks, hard-working people. Hopefully, we can work something out to protect those people. What are 

we going to have, several hundred thousand people homeless? I 

mean, one way or the other, we are going to have to pay for them. 

Thank you. I yield back. 

Mr. WATT. The gentlelady’s time has expired. 

We are in the process of having two votes, so the committee will 

stand in recess until immediately after the votes. If anybody wants 

to ask questions, please come back immediately, and we will try to 

get back. 

The CHAIRMAN. These may be the only votes today, I think. So 

people will be able to come back undisturbed, if the members of the 

panel can stay. Thank you. 

[Recess] 

Mr. SCOTT. [presiding] The hearing will resume. We have members coming in from voting. But in all fairness to our guests, we 

want to get started. We are very considerate of your time. We certainly appreciate you all coming. 

It is my time next for comments, and I will start mine and then 

proceed with other members as they come in. 

First of all, I want to thank Dr. Galbraith for his help to me personally. When we were faced with the early response in this fall 

and October, and we were putting together the first effort to recover and help our financial institutions, we were very concerned 

that there was nothing in that package, as some of you may remember, for what we considered the crucible of the problem, which 

was this extraordinary slide in home prices, the real estate market, 

and certainly due to outstanding mortgages and people unable to 

pay for mortgages, and so we needed to address that. And there 

was a number of us who were very concerned about that. The leadership stopped the process. We couldn’t get the votes there because 

we didn’t have enough on foreclosure. We were assigned to go get 

a plan together to address that, and we put a call in to Dr. Galbraith down at the University of Texas, and we were responded 

with that. And for that, Dr. Galbraith, we are very, very grateful 

to you. 

I want to start my questioning off because I think we need to 

start right there on the whole issue of housing, home foreclosures, 

which is at the root of this problem, much of what we put forward 

in that first effort. The key word is remember, Dr. Galbraith, that 

we both secured that initial package was on, making sure there 

was sustainability, that we could come up with a way to sustain 

individuals in their homes, and we had put forward the effort of 

patterning it after the HCL, the housing corporate loan corporation 

back during the Depression. We were able to incorporate some of 

those. We laid the foundation for it. And I am very pleased that 

on the other issue of the moratoriums where we don’t get success, 

we did get success last week when we had the leadership of the 

banking community before us. We asked that they put a moratorium on home foreclosures until we get this in place, and they did. 

So we have the pieces in place. 

27 

Dr. Galbraith, let me start with you on this question. Are we 

doing enough right now in the home foreclosure area? If we are 

not, what do you recommend that we need to do? 

Mr. GALBRAITH. Well, first of all, Mr. Chairman, thank you for 

your remarks just now. I think that the housing plan that the Administration has announced is a very positive step, and I think 

that the step that you just mentioned, having gotten the commitment of the major banks to a moratorium on foreclosures, is another very positive step. 

At the same time, the force that drives down housing prices is 

very inexorable. It is a massive downdraft on the whole credit system. And, of course, it has spread far beyond the subprime adjustable-rate mortgages to prime credits, and put a great many people 

in the position where from an economic standpoint, they are better 

off walking on their debts. And many, many more will do that. 

So I think we are at the moment where we should be pulling all 

these pieces together and taking a comprehensive approach. And 

the trouble with a comprehensive approach is that, while there 

may be some way to do this without essentially checking on individual cases and sorting the hopeless cases from the sustainable 

ones and the honest cases from the fraudulent ones—but if there 

is a way of doing that, I certainly haven’t come up with it. And I 

think that we need to adjust our ideas to the scale of this operation. As I have said before, the HOLC took 20,000 people to handle 1 million mortgages in the 1930’s. It is a very big job and it 

will require a lot of effort. 

Mr. SCOTT. Do you believe, Dr. Galbraith, that given the fact 

that we have $75 billion in this new program that the President 

has put forward, do you believe that is sufficient going forward, especially given the fact that it is estimated that in the next 2 to 3 

years, there will be 9 million families in homes that default to foreclosure? 

Mr. GALBRAITH. Well, my understanding is that the thrust of the 

President’s program is to protect people who are shy of the threshold of foreclosure at this moment, so that people whose homes are 

too deeply underwater are not eligible for, for example, the extension on the limits of mortgage renegotiation. And so my answer to 

that is there is still a very large hole in the housing problem which 

has not been dealt with, and it has probably not been dealt with 

because it is pretty much the most difficult problem. But it is still, 

in my view, essential if one is going to shorten the period during 

which this excess supply of housing is acting as a drug on the market and driving down the asset prices. 

Mr. SCOTT. If I may, I know my time is short, on the final point 

of my question, before I turn it over to one of my colleagues, to 

each of you, to give—if you could each of you give a very succinct 

answer to this question. We are moving on the housing front stabilization. Do we have our hands around the stability of our banking system? It concerns me that we have some debate over an issue 

of what we call—various people call it various things. But let us 

just deal with it as it is being called, and that is nationalization 

of our bank. How does each of you feel about the extent of the government’s role in the banking industry? And are we close to that? 

28 

And specifically, I would like for to you comment to the Citigroup 

situation. I asked Fed Chairman Bernanke that yesterday, and as 

is the case with so many of our Fed Chairmen, out of great respect, 

your answer sometimes comes back to you in a way that even confuses the question that you put to get a clarity of the answer as 

to whether or not we are approaching nationalization. 

But I would like to submit you to the point on the front page of 

The Wall Street Journal from yesterday. The CEO of Citigroup 

made the comment that he was in touch with Federal regulators 

and Federal officials from the Fed, and the essence of the article 

was that he was asking, in effect, that they not make decisions regarding their senior management. That tells me right there that he 

who makes a decision about who stays and who doesn’t stay in 

terms of running the bank is in charge of that bank. 

So I want to get an answer from each of you. Are we at that 

point of some form of nationalization? Is that what we are approaching? And the other thing, is it necessary in order to deal 

with the scope and the magnitude of the problem, I think, vis-avis what they did in a couple of our European countries? I will 

start with you, Dr. Blinder. 

Mr. BLINDER. Well, very briefly, as I said in my testimony, I 

don’t think we are at that point yet. I am hopeful that we won’t 

get to that point. But I think we need to understand that we might 

get to that point, because one thing we have learned about this financial crisis is it keeps getting worse than we think. So I wouldn’t 

rule it out. But I certainly wouldn’t be eager to go there now for 

reasons that I outlined in the testimony. 

As to Citi and others, I wouldn’t pull out Citi for special treatment other than it seems to be first in line in its talking to the government. I think—and there are many—I think the right approach 

is the so-called good bank/bad bank solution. Now, that is not a 

well-defined—there are many variants of good bank/bad bank. I 

point out that the first time this was actually used—I think it was 

in 1990 with Mellon. They did it themselves. It was a purely private operation without the government. 

Now, I think the holes in some of these balance sheets that we 

have now, especially if we mark the true market valuations, is so 

large that to make a good bank/bad bank solution to any of these 

large banks work now, public moneys would be needed. When you 

hive off the bad stuff into the bad bank, you start with an institution that has negative net worth. You have to bring that at least 

up to zero, which is a small number. And I don’t think the private 

capital, frankly, in this state of the economy is going to be there, 

so it will need public funds. But that is not nationalization. 

Mr. TAYLOR. Just very briefly. I listened to part of Chairman 

Bernanke’s testimony the last couple of days, and I thought it was 

actually very helpful in clarifying that nationalization was not as 

commonly defined—at least not the way he would go about this. 

And I think the markets responded positively to that. Again, it is 

talking more about these large, complex institutions, because the 

FDIC frequently has taken over banks before they are sold off. So 

I thought his testimony was—maybe your standards here are too 

high, Mr. Chairman, but I thought it was very clear about that. 

29 

And also with respect to the Wall Street Journal article about 

Citi, it seems to me that is reflecting something very common 

today. The government is involved. It causes all sorts of issues, political. The government is not good at managing private firms, in 

my view. The New York Fed is now managing AIG. Look what is 

happening there. So it is something that we should be staying 

away from as much as we possibly can. I am not surprised when 

I read the tension in The Wall Street Journal. I am sure it is true, 

and in many of the other institutions. 

Finally, I think now the most important thing is to try to get 

some clarity about what our policy is, and people are really clamoring, if you like, for clarity. So whatever it is, let us get on with 

it. And I think that will be probably the most important thing to 

do to get the stability you are asking about. 

Mr. SCOTT. Thank you, sir. 

Dr. Galbraith. 

Mr. GALBRAITH. I take a different view. When a bank is troubled, 

when it is threatened with insolvency, let alone when it is, in fact, 

insolvent, the Federal Government, the regulatory authorities have 

the responsibility to intervene to protect the depositors who are insured by the FDIC, and the FDIC is charged with doing that under 

the law. A pass-through receivership is the standard mechanism 

for the resolution of these problems. In American law and practice, 

it was done scores of times with savings and loans in the late 

1980’s or early 1980’s. It is being done with banks as we speak. It 

was done under the Bush Administration with IndyMac. It involves 

protecting the depositors, putting in new management, and the reason you want to do that, is that new management is required. It 

can be recruited from the banking industry, but it is required in 

order to get a clean audit so that you can effectively separate the 

bad assets from the good ones, and so that the public knows the 

extent of the hole in capital and the extent of potential liabilities 

to the insurance fund. 

And then you go about arranging for the bank to be reorganized 

for sale. It may be merged, it may be sold, it may be broken up 

and sold. It may require infusion of public money. But until you 

have gotten a clear assumption of responsibility and a clear accounting, you won’t know exactly what to do. The FDIC has experience with this, is in general competent to do it, although obviously 

doing it with very large banks is a daunting challenge. And that 

should be their call and their responsibility free, I believe, of political interference from the Congress, for that matter, or from the 

Treasury Department. It really is a professional judgment. That is 

why I don’t like the term ‘‘nationalization,’’ which implies a political decision. This really seems to me to be a professional regulatory responsibility. 

Mr. SCOTT. Very good. Thank you, all three of you. Very interesting. 

Mr. Green of Texas. 

Mr. GREEN. Thank you, Mr. Chairman. 

Friends, I will move as quickly as possible because I have a number of areas that I would like to cover. And I would like to employ 

the voir dire system wherein I ask you to simply raise your hands 

30 

so I get a quick indication of where you stand. So let me start and 

thank you for coming. 

Let us start with Chairman Bernanke indicating yesterday that 

we were on the verge of what may have been considered a financial 

meltdown. Do you agree that we were on the verge of a financial 

meltdown last year? If so, would you just kindly extend a hand into 

the air? This will be helpful. 

I have one disagreement. Mr. Taylor, could you as tersely as possible indicate why you do not think we were not on the verge of 

a financial meltdown? 

Mr. TAYLOR. On the verge is so hard to describe. I didn’t hear 

his testimony, didn’t know the context. We are in a very serious financial crisis. 

Mr. GREEN. Let me ask you this: Last year were we in the midst 

of a very serious financial crisis? Is your answer yes or no? 

Mr. TAYLOR. Well, it worsened— 

Mr. GREEN. I borrowed your language, by the way. 

Mr. TAYLOR. Yes. 

Mr. GREEN. Given that we were in this serious financial crisis, 

do you agree that the TARP funds were spent such that they had 

a positive impact on the financial crisis? If you could kindly extend 

a hand into the air, it would be helpful. The TARP funds, were 

they spent such that they had a positive impact on the financial 

crisis, the possible meltdown? 

Mr. BLINDER. Are we allowed to say positive but poorly spent? 

Mr. GREEN. Poorly spent, but positive impact. Okay. Mr. Taylor. 

Mr. TAYLOR. I didn’t see a positive impact. 

Mr. GREEN. Positive impact, sir? 

Mr. GALBRAITH. I am right on the fence on that one, as Alan is. 

You can point to specific positive effects, but in general it could 

have been done much better. 

Mr. GREEN. Let me follow up with you. If you concur that we 

were on the verge of a financial meltdown, and I assume that you 

do not conclude that currently we are on the verge of a financial 

meltdown— 

Mr. GALBRAITH. No. My view actually is that the meltdown had 

already occurred. 

Mr. GREEN. That we had already gone through the financial 

meltdown? 

Mr. GALBRAITH. The problem here was the extraordinary explosion of these toxic assets, and that problem still sits in the banking 

system. The core of the system has melted. It is a question of 

whether the containment structure is— 

Mr. GREEN. All right. Let me move on with a few other things. 

The concept of the bad bank. Dr. Blinder, you indicated that you 

would employ this. We did not hear specifically from the other panelists as to where you stand. Mr. Taylor, where do you stand on 

it, please? 

Mr. TAYLOR. I would not like to go in that direction. 

Mr. GREEN. You would not. Okay. 

Dr. Galbraith. 

Mr. GALBRAITH. The good bank/bad bank? 

Mr. GREEN. Yes, sir. 

31 

Mr. GALBRAITH. I think one—the reorganization of the banks 

should be the responsibility of the FDIC. 

Mr. GREEN. Is your answer no? I have other questions, that is 

why. 

Mr. GALBRAITH. They will isolate the bad assets. 

Mr. GREEN. Is your answer yes or no? I am not sure. Sometimes 

when people finish, I do not know whether they said yes or no. 

Mr. GALBRAITH. Well, I am not entirely sure I have understood 

the thrust of the question. 

Mr. GREEN. The thrust of the question is this: As the concept exists now, good bad/bad bank, the bad bank to take in assets, acquire these assets, these toxic assets, is that something you would 

see as doable? 

Mr. GALBRAITH. As a part of reorganizations of failed institutions, yes, that is what you do. 

Mr. GREEN. Moving to another area. Let us talk quickly about judicial modification of mortgages. Is as proposed, which is a retrospective approach, not a prospective, but a retrospective approach 

utilizing judicial modification, is this a part of one of the tools that 

we might utilize? And we will start with you, Doctor. 

Mr. BLINDER. My brief answer is yes, though it is not my favorite 

approach. 

Mr. GREEN. As a last resort. Only after the person who happens 

to have the mortgage has made an effort to settle with the servicer 

who represents the investors. 

Mr. BLINDER. Yes. My preference would be to take this out of the 

realm of bankruptcy courts. But if this is what—what you just said 

is actually on the congressional table right now— 

Mr. GREEN. Yes. 

Mr. BLINDER. —it is a lot better than nothing. 

Mr. GREEN. Okay. And I must move quickly here. 

Mr. TAYLOR. No. 

Mr. GREEN. Dr. Taylor, no. 

Mr. GALBRAITH. Yes. 

Mr. GREEN. Yes. Let us move quickly to one additional thing, and 

maybe I will be able to get your rationale as to why not, Dr. Taylor. 

But credit default swaps. They have almost gone off the radar in 

terms of being an issue du jour. Let me ask you if this is something 

that is still lurking out there that could possibly overwhelm us in 

the sense that my understanding is that these credit default swaps 

can total more than what the entire stock market happens to have 

within it currently. So, Doctor, is this something that we have to 

give serious attention to? 

Mr. BLINDER. I think absolutely. It was just in the paper the 

other day that AIG is liable to be coming in for yet more money 

because of yet more losses on credit default swaps. It is not over. 

Mr. GREEN. Dr. Taylor? 

Mr. TAYLOR. Yes. One of the proposals to create some kind of 

central-clearing mechanism is really what we need. 

Mr. GREEN. Dr. Galbraith. 

Mr. GALBRAITH. Yes. 

Mr. GREEN. I am sorry I had to move so quickly, friends. The 

final question will be sort of a general question. We talked about 

the Home Owners’ Loan Corporation from the 1930’s. That paraVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00035 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
32 

digm seems to have been somewhat efficacious at the time. Is there 

a means by which we can employ something similar at this time 

as a tool to help us through this crisis? Dr. Blinder. 

Mr. BLINDER. Yes. I think you did. I think the HOPE for Homeowners was a variant of the HOLC. The HOLC made the government the banker and actually owned the mortgages. The HOPE for 

Homeowners made the government the guarantor; not the owner, 

but the guarantor. 

Mr. GREEN. I understand. But I will follow up with this: It was 

a voluntary system. 

Mr. BLINDER. So was the HOLC. 

Mr. GREEN. We didn’t get a lot of participation, but because of 

the lack of participation in the system, the question is, how do you 

tweak it so that it is utilized? Because while it is a great idea, if 

nobody embraces it, it is an idea unused. 

Mr. BLINDER. I couldn’t agree with you more. I learned in the 

break that this committee has actually passed the liberalization or 

a tweaking of it. I didn’t even know that. I applaud that. I think 

what it also needs is some form of extensive outreach. The sad fact 

is that in all the government’s programs—I mean, this is true even 

of food stamps and things—a lot of people who are eligible for these 

programs have no idea they are eligible. They don’t even come in 

and ask for them. So this goes to your question of the take-up rate. 

I think you probably need to add to that some substantial outreach. 

Mr. GREEN. I am going to yield back, but I would like, if I may, 

to get answers to the two remaining— 

Mr. TAYLOR. I am not familiar with the modification of the bill 

to which you are referring, so I think I will just pass. 

Mr. GALBRAITH. I am in full agreement with Alan Blinder on 

this. 

Mr. GREEN. Thank you, Mr. Chairman. 

Mr. SCOTT. Dr. Galbraith, did you comment on that? Did you 

have a chance to comment on it? 

Mr. GALBRAITH. Yes. I said I fully agree. 

Mr. SCOTT. Okay. The gentleman from Missouri, Mr. Cleaver. 

Mr. CLEAVER. Thank you, Mr. Chairman. 

I think, Dr. Blinder, you earlier mentioned how you thought that 

using the term ‘‘nationalization of banks’’ was negative, which I 

agree with. The problem we have is that, frankly, we are not in 

charge of how issues are framed, so people who are opposed to 

what we are doing begin to talk about nationalization of banks. It 

gets out. I don’t think you can find any instances where the Chair 

or anybody in a responsible position in Congress would talk about 

nationalizing banks. I think that is dangerous. And also we are 

now inserting into the lexicon ‘‘bad bank/good bank.’’ It is going to 

be a problem as well. And I am hopelessly on a crusade to try to 

stop it, but I lost a long time ago. I guess crusades are supposed 

to take place with the possibility of not winning. 

I just think we are headed in the wrong direction on that, and 

it is going to be out. And then our constituents are going to be raising questions about, well, is this a good bank, or is this a bad 

bank? You know, you have a—you know, some kind of bad experience is a bad bank. It is not going to be a good thing. The TreasVerDate Nov 24 2008 11:12 Jun 10, 2009 Jkt 048679 PO 00000 Frm 00036 Fmt 6633 Sfmt 6633 K:\DOCS\48679.TXT TERRIE
33 

ury, I think, may have made a mistake since they are the—I think 

on this issue—the framer. 

But anyway, that was some meaningless rambling about our lexicon, and it won’t get us anywhere. What I want to talk to you 

about, Dr. Galbraith—actually I want the three of you to be engaged in it—but someone raised the issue earlier about our debt to 

China, which actually is not as great as our debt to Japan. But we 

are moving toward $2 trillion Chinese holdings of U.S. assets. And 

the question is constantly raised when I am out in my district 

about what happens when China decides they don’t want to acquire 

any more U.S. paper? And my answer is usually that the Chinese 

have no other options for investments, and that they will, in all 

probability, want to continue to invest. We might have a problem 

of interest rates rising if they do become weary, and then we will 

have to go with the interest rates in order to continue to get the 

investment. Is there another scenario that you would like to add 

to what I have just said? 

Mr. GALBRAITH. I think the Chinese may not be very happy with 

their portfolio position, but they don’t have much choice about it. 

They want to sell exports to us. They are going to earn dollars. 

They have to do something with them. They also accumulate a lot 

of those reserves actually not from trade, but converting dollars 

that were brought in to invest in the real estate and the stock market in China. That is also something that they did incidentally to 

other public purposes that they had. 

So I don’t think it is likely that the Chinese are going to suddenly adopt a policy of active dollar dumping or moving away from 

dollar assets. If they chose not to renew their securities, we would 

simply debit their securities account and credit their reserve account. They would then have the dollars. They would have to sell 

them off to somebody else, and probably the Europeans would end 

up with the dollars. 

But with all that said, it just seems to me that it is not an immediate and maybe not even a distant problem that the Chinese or 

the Japanese would prefer to hold euro or some other major currency as a reserve asset rather than the dollar. The vulnerabilities 

of the banking system in that part of the world are at least as 

great as they are here, and the credits of the government—the security of the governments that are behind the euro—is much less 

than it is here. 

Mr. CLEAVER. Is there any concern—and I have not been able to 

find the answer to this question. Is there any concern that the Chinese actually are holding substantial securities that were acquired 

from Fannie and Freddie which are actually subprime mortgages? 

I have not seen any information on whether or not that has, in 

fact, happened with the Chinese. 

Mr. GALBRAITH. I have not either. I know they have—they hold 

a lot of agency debt, but I don’t believe that they have been—in 

their official accounts—holding the privately securitized subprime 

debt. But that is a question I don’t have an answer to, for sure. 

Mr. CLEAVER. Thank you, Mr. Chairman. 

Mr. SCOTT. Thank you. 

The gentleman from Colorado, Mr. Perlmutter. 

Mr. PERLMUTTER. Thank you, Mr. Chairman. 

34 

And, gentlemen, thank you for your time today and your sort of 

advice on these things. 

I have a couple sort of macroeconomic questions. The first is, we 

have sort of divided this thing up into three parts. One was to try 

to stabilize the financial markets, which some positive effects out 

of TARP could have been done better. Second is, in my opinion, 

stimulate the economy, get it going again. Third is to restore confidence in the system. We have regulations to deal with. So we are 

going to have a hearing soon on some of the regulations that may 

have been eliminated in the past and some that are in place and 

seem to be compounding problems overall within the system. 

So my question to the three of you, let us start with mark-tomarket, which seems to get a lot of conversation here, and I am 

looking at it closely. Within the overall economy, do you all have 

an opinion on whether we should be maintaining on a daily basis 

some mark-to-market that banks need to collapse their capital or 

not? Does anybody have an opinion on that? And if you want to reframe the question, I am happy to have you do that, too. 

Mr. BLINDER. I am generally very favorable to mark-to-market. 

And while there is a lot of debate, as you have mentioned, on 

whether it is part of the problem or part of the solution, I am much 

closer to ‘‘part of the solution.’’ We need to know how big the balance sheet holes are. When I say ‘‘we,’’ the markets need to know. 

And then you can start doing things. 

That said, there are at least two things that I think we should 

think of as, I don’t really mean exceptions, but qualifications. One 

is that banks have always had these hold-to-maturity accounts 

where most loans are, for example. They are not going to sell these 

loans. They will hold them to maturity. They reserve against them, 

which is the version of mark-to-market that you get there. I don’t 

see any big need to change that. Now, the reserving might be inadequate. That is what supervisors are supposed to be watching, to 

make sure there is enough reserving. 

The second thing, which is a much knottier problem, which we 

really haven’t had to face until recently, is: what do you do when, 

so to speak, markets disappear? What if you have an asset that is 

ask 60/bid 20? Bids and asks are supposed to be right next to each 

other. But when it is 60/20, the whole notion of mark-to-market becomes a difficult one to deal with. And I don’t have a fixed answer 

to that. Some people have said the answer is simple: you mark to 

20. I am not so convinced that is the right answer, and I think it 

needs a lot of thought. 

Mr. PERLMUTTER. Okay. Thank you. 

Dr. Taylor. 

Mr. TAYLOR. I don’t have too much to add to that. I think markto-market provides the information you need. But in some cases 

where the securities are going to be held to maturity and it is in 

a bank, then there are other ways to do it. I think there is some 

sense of forbearance here is what people are looking for, and I am 

very positive about that. 

Mr. PERLMUTTER. Dr. Galbraith. 

Mr. GALBRAITH. The argument against marking to market the 

subprime mortgage-backed securities has been that the market is 

somewhat artificially depressed relative to the real value of those 

35 

securities. I am very suspicious of that argument. I think it is very 

unlikely that, even if you did take them off the books of the banks 

at a guaranteed value that was higher, that the Resolution Trust 

Corporation that would eventually sell them would be able to get 

rid of them for anything higher than the market price. And the reason is that I suspect that the markets understand that there is, in 

the case of these securities, practically no way to know what the 

underlying risk really is, because the documentation they would 

normally rely on isn’t present. And that seems to be a real problem 

with modifying mark-to-market in this particular circumstance. 

Mr. PERLMUTTER. All right. 

The second question, which is similar to a mark-to-market, is the 

cramdown. I mean, that is marking to market. If we, and again on 

a macroeconomic basis, and I don’t know exactly how many people 

will take advantage, if we do a cramdown in a Chapter 13 and we 

have 10 million potential foreclosures out there—I don’t know what 

the number is, maybe you all know—what is going to happen? Do 

you have any opinion of what will happen to the system if everybody takes advantage of a cramdown? 

I will start with you Dr. Galbraith, and work backwards. 

Mr. GALBRAITH. Well, if you replace a completely unmarketable 

security with a mortgage which has a lower return but which in 

fact is documented, has some capacity to be sustained, you might 

actually move to a better market environment after the cramdown 

than before. And that is what I think you would be hoping to accomplish by putting these mortgages on a sustainable 30 year, 40 

year, 4 percent basis, if you can do it. 

Mr. PERLMUTTER. Dr. Taylor. 

Mr. TAYLOR. Any, if you like, force cramdown, like the one I 

think you are talking about, raises questions about future lending 

and what is going to happen in the future, especially if it is retroactive. So I am very cautious about any kind of legislation like 

that. 

Mr. PERLMUTTER. Dr. Blinder. 

Mr. BLINDER. I actually think, going forward—and this is not the 

current congressional proposal—I would like to see homes treated 

like vacation homes and other assets. It is not the case that you 

can’t get loans against assets that can be crammed down in bankruptcy. Basically, all business assets can be crammed down in 

bankruptcy. It probably results in a couple more basis points, I 

don’t know, on the cost of credit. But that is going forward. 

The retroactivity, I think all of us are very uneasy about retroactivity. I am. It should be a general constitutional principle: You 

don’t pass retroactive laws. This looks to me like an emergency. I 

think there may be better ways to do it. But as I said in an answer 

to another question, if that is the proposal that is actually on the 

congressional table, then I would support it, though it is not the 

sort of thing that, generically, I like to support. 

Mr. PERLMUTTER. Thank you. 

Thank you, Mr. Chairman. I yield back. 

Mr. SCOTT. [presiding] Thank you. In all fairness to the proposal 

that is on the table, it is narrowly drawn. It doesn’t apply to all 

of the mortgages falling in foreclosure, and it would not extend beyond the enacting of the bill. The intent of what we are trying to 

36 

do in grappling with this issue is to try to put a floor. At some 

point, you have to try to put a bottom and a floor on. And these 

are in the most desperate situations. 

And then, certainly, there is a fairness issue that, for the 

wealthy, who can have this benefit for their second home or third 

or vacation home, here you have the primary residence. And then 

the other issue is, certainly, going back to what we mentioned earlier with Dr. Galbraith, we have to find a way of sustainability to 

keep people in their homes. 

And this cramdown and this bankruptcy is a grappling issue, and 

hopefully, we can get it right. 

I think we will come back next week, as you know, Mr. Perlmutter, and try to wrestle with it again. 

Thank you very much. 

And now we will turn to the gentlelady from Ohio, Ms. Kilroy. 

Ms. KILROY. Thank you very much, Mr. Chairman, and thank 

you to our guests. 

I have been very interested in your testimony and the various 

ideas that challenge us to find the right pathways to go and to do 

our work here in the Financial Services Committee well and appropriately, not—allowing the regulators to do the work that they are 

professionally trained to do. I thought those were very interesting 

comments. 

Many of the questions that I had come prepared to ask have already been covered by the committee. But I wanted to go to some 

of the thoughts and ideas that are a little bit, moving away a little 

bit from issues like retroactivity, which we could debate, and 

cramdowns. In talking about some of the ways that we can do to 

restore long-term financial stability to our country and to our economy, measures that we could take a look at the big picture, infrastructure, social security, health care, I would like to ask the panel 

to maybe revisit that a little bit before we adjourn today. 

Mr. TAYLOR. Well, I think the earlier questions about this is 

whether we should be addressing something like social security 

now or wait until later, and my view is, yes, now. We should be 

getting on with these things, because they demonstrate that we are 

concerned as a country with our fiscal imbalances. That is a huge 

imbalance down the road. So I would be of the view that let’s get 

started with those now. That is actually economically one of the 

easier ones. It is politically very difficult. But I think it would demonstrate a great degree of confidence, if you like, that the government has taken on something like that. 

Mr. BLINDER. I agree with that very much. 

And I would put just a slightly different nuance. Given the incredibly difficult issues that the Congress has been grappling with 

now, the huge sums of money, and it is not over, Social Security 

has actually become the low hanging fruit. This is an easy issue 

actually. You do not have to do horrific things to get Social Security 

back into actuarial balance. 

Secondly, because Social Security is running a big surplus now, 

and it is inherently a very long-run problem, the natural things to 

do will be clipping benefits, if you want to use that term, and raising revenue down the road. It is not at all urgent to do it now. 

37 

So the Congress can enact now fixes that will take place years 

from now. That is what the Greenspan commission did in 1983. 

That is not nearly as painful as appropriating $1 trillion to rescue 

banks today. And I think it would send a terrific signal about this 

seemingly contradictory position that we are going for huge deficits 

today but fiscal responsibility tomorrow. That would be a tangible 

manifestation, written into law, of a modicum of fiscal responsibility tomorrow. 

Mr. GALBRAITH. I am in very deep disagreement with my colleagues on this point. I can see no economic reason why going forward we should be concerned about the balance between a stream 

of revenues called payroll taxes and a stream of obligations called 

Social Security benefits. If you are concerned with that question of 

balance, you could solve that problem. It actually is not a problem, 

but you could solve that cosmetic issue by assigning some other tax 

source to Social Security. The estate tax, as the late Social Security 

Commissioner Robert Ball suggested, could be put into the trust 

fund. You don’t need to solve this problem, this alleged problem, by 

legislating today reductions in a core benefit on which 40 percent 

or more of the American elderly rely for practically all of their income, and particularly not at a time when the other sources of income and wealth that support the elderly population have taken an 

enormous hit, with housing values, stock equity values, and the interest income on cash holdings all going down simultaneously. 

Social Security is more important than ever as the bulwark of 

the middle class standing, the nonpoverty status of the elderly population. So I would hope very much that we would resist the temptation to make this what is essentially a symbolic and political gesture at this time or at any time. 

At the same time, on the broader question that you raised of 

whether one should be treating this as a long-term or a short-term 

problem, my view is this crisis is the opening act of a long-term 

transformation of the economy. And we are going to need, as we 

think about building the economy back up from the calamity 

through which it is passing, we need to think about this from a 

long-term perspective. 

And one of the defects of what we have been doing so far has 

been the assumption that the economy will recover within 2 or 3 

years and, therefore, we can limit the scope of action to the shovelready projects and the short-term expenditures. I don’t think that 

is going to work. We will only discover over time whether I am 

right or not. But if I am right, then the right approach is to think 

about the public investments that are truly transformational and 

begin to do them now—to build institutions like a national infrastructure bank, the Dodd bill, that can finance that transformation 

going forward, and to build into these projects the kind of development of new industries that deal with our energy problems, with 

our climate change issues, with the creation in some sense of the 

living space that we want to have for the next generation. It seems 

to me that if we do that, we will be remembered for having made 

an opportunity out of a crisis. 

Ms. KILROY. Thank you. 

I yield back. 

Mr. SCOTT. The gentlelady’s time has expired. 

38 

Thank you very much. 

On behalf of our Financial Services Committee, on behalf of the 

Congress, and of the American people, we really thank each of you. 

We are at a critical, crucial point in the history of our country. And 

the hopes and aspirations of millions of Americans, and our children and grandchildren have come to rest on what we do here 

today. 

And your intellect, your ideas, have been very helpful to us as 

we move forward to grappling with these very monumental and 

critical issues. You know, it is the tough times that determine the 

character. We have had tough times in our Nation before, and that 

is why we have a tough character that has made us a great Nation. 

We thank you, Dr. Galbraith, Dr. Taylor, and Dr. Blinder. 

This meeting is adjourned. 

[Whereupon, at 1:12 p.m., the hearing was adjourned.] 

(39) 

A P P E N D I X 

February 26, 2009 

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