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53–021 PDF 2009

HEARING TO EXAMINE THE REGULATION OF 

OVER-THE-COUNTER DERIVATIVES

JOINT HEARING

BEFORE THE

COMMITTEE ON AGRICULTURE

AND THE

COMMITTEE ON FINANCIAL SERVICES 

HOUSE OF REPRESENTATIVES

FIRST SESSION

JULY 10, 2009

Serial No. 111–23

(COMMITTEE ON AGRICULTURE)

Serial No. 111–55

(COMMITTEE ON FINANCIAL SERVICES)

(

Printed for the use of the Committee on Agriculture 

agriculture.house.gov 

COMMITTEE ON AGRICULTURE 

COLLIN C. PETERSON, Minnesota, Chairman 

TIM HOLDEN, Pennsylvania, 

Vice Chairman 

MIKE MCINTYRE, North Carolina 

LEONARD L. BOSWELL, Iowa 

JOE BACA, California 

DENNIS A. CARDOZA, California 

DAVID SCOTT, Georgia 

JIM MARSHALL, Georgia 

STEPHANIE HERSETH SANDLIN, South 

Dakota 

HENRY CUELLAR, Texas 

JIM COSTA, California 

BRAD ELLSWORTH, Indiana 

TIMOTHY J. WALZ, Minnesota 

STEVE KAGEN, Wisconsin 

KURT SCHRADER, Oregon 

DEBORAH L. HALVORSON, Illinois 

KATHLEEN A. DAHLKEMPER, 

Pennsylvania 

ERIC J.J. MASSA, New York 

BOBBY BRIGHT, Alabama 

BETSY MARKEY, Colorado 

FRANK KRATOVIL, JR., Maryland 

MARK H. SCHAUER, Michigan 

LARRY KISSELL, North Carolina 

JOHN A. BOCCIERI, Ohio 

SCOTT MURPHY, New York 

EARL POMEROY, North Dakota 

TRAVIS W. CHILDERS, Mississippi 

WALT MINNICK, Idaho 

FRANK D. LUCAS, Oklahoma, Ranking 

Minority Member 

BOB GOODLATTE, Virginia 

JERRY MORAN, Kansas 

TIMOTHY V. JOHNSON, Illinois 

SAM GRAVES, Missouri 

MIKE ROGERS, Alabama 

STEVE KING, Iowa 

RANDY NEUGEBAUER, Texas 

K. MICHAEL CONAWAY, Texas 

JEFF FORTENBERRY, Nebraska 

JEAN SCHMIDT, Ohio 

ADRIAN SMITH, Nebraska 

ROBERT E. LATTA, Ohio 

DAVID P. ROE, Tennessee 

BLAINE LUETKEMEYER, Missouri 

GLENN THOMPSON, Pennsylvania 

BILL CASSIDY, Louisiana 

CYNTHIA M. LUMMIS, Wyoming 

PROFESSIONAL STAFF

ROBERT L. LAREW, Chief of Staff 

ANDREW W. BAKER, Chief Counsel 

APRIL SLAYTON, Communications Director 

NICOLE SCOTT, Minority Staff Director 

(II) 

COMMITTEE ON FINANCIAL SERVICES 

BARNEY FRANK, Massachusetts, Chairman

PAUL E. KANJORSKI, Vice Chairman, 

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 W. CHILDERS, Mississippi 

WALT MINNICK, Idaho 

JOHN H. ADLER, New Jersey 

MARY JO KILROY, Ohio 

STEVE DRIEHAUS, Ohio 

SUZANNE M. KOSMAS, Florida 

ALAN GRAYSON, Florida 

JAMES A. HIMES, Connecticut 

GARY C. PETERS, Michigan 

DANIEL B. MAFFEI, New York 

SPENCER BACHUS, Alabama, Ranking 

Minority Member

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, 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 H. PUTNAM, Florida 

MICHELE BACHMANN, Minnesota 

KENNY MARCHANT, Texas 

THADDEUS G. MCCOTTER, Mississippi 

KEVIN MCCARTHY, California 

BILL POSEY, Florida 

LYNN JENKINS, Kansas 

CHRISTOPHER JOHN LEE, New York 

ERIK PAULSEN, Minnesota 

LEONARD LANCE, New Jersey 

PROFESSIONAL STAFF

JEANNE M. ROSLANOWICK, Staff Director and Chief Counsel

(III) 

(V)

C O N T E N T S 

Page 

Bachmann, Hon. Michele, a Representative in Congress from Minnesota, prepared statement ................................................................................................... 7

Bachus, Hon. Spencer, a Representative in Congress from Alabama, opening 

statement .............................................................................................................. 6

Frank, Hon. Barney, a Representative in Congress from Massachusetts, opening statement ........................................................................................................ 5

Lucas, Hon. Frank D., a Representative in Congress from Oklahoma, opening 

statement .............................................................................................................. 4

Submitted letter ................................................................................................ 59

Submitted material .......................................................................................... 60

Minnick, Hon. Walt, a Representative in Congress from Idaho, opening statement ...................................................................................................................... 2

Peterson, Hon. Collin C., a Representative in Congress from Minnesota, opening statement ........................................................................................................ 1

Prepared statement .......................................................................................... 2

WITNESS

Geithner, Hon. Timothy F., Secretary, U.S. Department of the Treasury, 

Washington, D.C. ................................................................................................. 8

Prepared statement .......................................................................................... 11

Submitted questions ......................................................................................... 63 

(1)

HEARING TO EXAMINE THE REGULATION OF 

OVER-THE-COUNTER DERIVATIVES 

FRIDAY, JULY 10, 2009

HOUSE OF REPRESENTATIVES, 

COMMITTEE ON AGRICULTURE, 

JOINT WITH

COMMITTEE ON FINANCIAL SERVICES, 

Washington, D.C. 

The Committees met, pursuant to call, at 10:04 a.m., in Room 

1100, Longworth House Office Building, Hon. Collin C. Peterson 

[Chairman of the Committee on Agriculture] presiding. 

Members present for Committee on Agriculture: Representatives 

Peterson, Holden, McIntyre, Boswell, Baca, Scott, Marshall, 

Cuellar, Costa, Ellsworth, Walz, Kagen, Schrader, Dahlkemper, 

Pomeroy, Childers, Minnick, Lucas, Goodlatte, Moran, Johnson, 

Rogers, King, Neugebauer, Conaway, Smith, Latta, Roe, 

Luetkemeyer, Thompson, Cassidy, and Lummis. 

Members present for Committee on Financial Services: Representatives Frank, Kanjorski, Waters, Maloney, Watt, Sherman, 

Meeks, Moore of Kansas, Capuano, Hinojosa, McCarthy of New 

York, Baca, Lynch, Miller of North Carolina, Scott, Green, Cleaver, 

Bean, Ellison, Wilson, Perlmutter, Donnelly, Foster, Carson, 

Childers, Minnick, Adler, Kilroy, Kosmas, Himes, Peters, Bachus, 

Royce, Lucas, Manzullo, Biggert, Hensarling, Garrett, Gerlach, 

Neugebauer, Putnam, Bachmann, Marchant, McCotter, Posey, Jenkins, Lee, Paulsen, and Lance. 

Staff present for Committee on Agriculture: Robert L. Larew, 

Claiborn Crain, Adam Durand, Scott Kuschmider, Merrick 

Munday, Clark Ogilvie, James Ryder, April Slayton, Rebekah 

Solem, Kevin Kramp, Tamara Hinton, Bill O’Conner, and Jamie 

Mitchell. 

OPENING STATEMENT OF HON. COLLIN C. PETERSON, A 

REPRESENTATIVE IN CONGRESS FROM MINNESOTA 

Chairman PETERSON. Good morning everybody, and welcome to 

today’s hearing. I want to welcome Treasury Secretary Geithner, 

and thank him for his time, and I want to thank Financial Services 

Chairman Frank and his staff for working with me and my staff 

to have this joint hearing today. 

In the interest of time, I will submit my full statement for the 

record, we have 111 Members of Congress who serve on these two 

Committees. And I know many of my colleagues who are attending 

today’s hearing have questions for the Secretary. 

2

Last month, the White House presented broad reform proposals 

to overhaul the financial regulatory system. I am pleased to note 

that several key provisions regarding over-the-counter derivatives 

are similar to what the House Agriculture Committee passed this 

year as part of a bipartisan bill H.R. 977, which would strengthen 

oversight of futures, options and over-the-counter markets. However, the devil is always in the details and I look forward to hearing additional details today about the Administration’s reform 

ideas. And I hope Secretary Geithner’s appearance today will get 

us into the weeds on how this will work. 

[The prepared statement of Mr. Peterson follows:]

PREPARED STATEMENT OF HON. COLLIN C. PETERSON, A REPRESENTATIVE IN

CONGRESS FROM MINNESOTA

Good morning, and welcome to today’s hearing. I want to welcome, and thank, 

Treasury Secretary Geithner for his time, and I want to thank Financial Services 

Chairman Frank and his staff for working with me and my staff to have this joint 

hearing today. 

In the interest of time, I will submit a full statement for the record. We have 111 

Members of Congress who serve on these two Committees and I know many of my 

colleagues who are attending today’s hearing have questions for the Secretary. 

Last month, the White House presented broad reform proposals to overhaul the 

financial regulatory system. I am pleased to note that several of their key provisions 

regarding over-the-counter derivatives are similar to what the House Agriculture 

Committee passed earlier this year as part of a bipartisan bill, H.R. 977, which 

would strengthen oversight of futures, options, and over-the-counter markets. 

However, the devil is always in the details. I look forward to hearing additional 

details today about the Administration’s reform ideas, and I hope Secretary 

Geithner’s appearance today will help get into the weeds on how this will all work. 

I now want to yield 2 minutes of my opening statement time to a Member of both 

the Agriculture and Financial Services Committee, who has some knowledge about 

this area, the gentleman from Idaho, Mr. Minnick.

Chairman PETERSON. I now want to yield 2 minutes of my opening statement to a Member of both the Agriculture and Financial 

Services Committee who has done a lot of work and has some 

knowledge in this area, the gentleman from Idaho, Mr. Minnick for 

2 minutes. 

OPENING STATEMENT OF HON. WALT MINNICK, A 

REPRESENTATIVE IN CONGRESS FROM IDAHO 

Mr. MINNICK. Chairman Peterson and Chairman Frank, I am a 

farm boy who grew up skeptical of Wall Street wondering how a 

loaf of bread could cost a dollar when it contained only a few cents 

worth of wheat. I also spent over 20 years as the CEO of substantial companies which relied on Wall Street and used customized derivatives to hedge currency and interest rate risk. I learned that 

these financial instruments are essential to the proper functioning 

of our 21st century economy. 

I have listened to many experts and studied the Administration’s 

84 page concept paper. If we are to craft a regulatory structure 

which can keep our nation from ever again repeating the financial 

excesses which have brought today’s economy to its knees, we need 

to give serious consideration to the following reforms which go beyond those proposed by the Administration. 

First, we should merge the SEC and the Commodity Futures 

Trading Commission. Financial derivatives whether they originate——

3

Chairman FRANK. Mr. Minnick, one of the Members on the Republican side just pointed out the acoustics in this room are terrible. Now, when Ways and Means holds forth in this room, this 

is their room, they consider that an advantage. But we are here not 

marking up a tax bill but having an important public hearing so 

we are going to ask everybody to speak fairly loudly, particularly 

you, Mr. Secretary, because while I can’t see you, I would like to 

be able to hear you. Mr. Minnick may resume. 

Mr. MINNICK. First we should merge the SEC and the Commodity Futures Trading Commission. Financial derivatives whether they originate in a commodity, a security, or neither, like weather futures are functionally identical and must be traded, cleared 

and settled subject to the same rules. 

Bifurcated responsibility might be made to work temporarily, but 

is a poor long-term solution which will discourage bold action when 

crises arise and will encourage regulatory arbitrage. 

Second, banking regulation should be removed from an already 

overburdened Federal Reserve and the remaining three Federal depository institution regulators, the OTS, the FDIC and the OCC 

should be combined into a single Federal bank regulator; which 

should also be given broad consumer protection responsibility and 

resolution authority for both banks and all other entities deemed 

systemically risky. 

Powerful global institutions like Citibank, Bank of America, or 

AIG should not be allowing to shop for the weakest Federal regulator. Finally, the proposed systemic risk oversight counsel should 

have the highest quality permanent staff if it is to respond appropriately as future dangers arise. Because the Federal Reserve is 

the more institutionally independent Executive Branch agency, and 

has increasing global responsibilities, that staff should be housed 

in the Fed and the counsel should be chaired by the Fed Chairman. 

I thank both chairs and yield back. 

Chairman PETERSON. I thank the gentleman and just for clarification, the gentleman spent a lot of time looking at this, but Mr. 

Frank and I, at least the two of us, have come to the conclusion 

that we are not going to be merging the SEC and CFTC, but we 

appreciate the gentleman’s comments. 

Now, I want to recognize the Chairman of the Financial Services 

Committee, Mr. Frank. He and I have gotten together and we have 

a good working relationship, and we think we are close to having 

a consensus on where to move with this. You can see by this hearing today that we have a good cooperation going on between the 

two Committees. Mr. Frank. Oh, excuse me, I am sorry, I screwed 

up. I am supposed to recognize Mr. Lucas, I am getting ahead of 

myself. I didn’t mean to overlook you, Mr. Lucas, my good friend 

from Oklahoma, who worked with us to get H.R. 977 out of the Agriculture Committee last February. Mr. Lucas is recognized. And 

by the way, we are going to limit people to 4 minutes because of 

all of the Members that are involved, so we would hope that everybody would abide by that. 

Mr. Geithner, we are not going to hold you to 4 minutes, we 

want to hear what you have to say. Mr. Lucas. 

4

OPENING STATEMENT OF HON. FRANK D. LUCAS, A 

REPRESENTATIVE IN CONGRESS FROM OKLAHOMA 

Mr. LUCAS. Thank you, Mr. Chairman and thank you to both 

Chairmen for holding this joint hearing to hear the Treasury’s proposal to regulate over-the-counter derivatives, as well as examine 

the legislation that the House Agriculture Committee passed a few 

months ago. I, as Ranking Member of the House Agriculture Committee and senior Member of the Financial Services Committee, I 

would like for this occasion to examine the issue from two different 

perspectives. The Agriculture Committee has been very active in 

exploring the role derivatives play in the marketplace, and in the 

overall economy. 

The Committee has held numerous hearings to gain further information and insight into the complex nature of credit default 

swaps and how they should be regulated. In February of this year, 

as the Chairman noted, the Agriculture Committee passed H.R. 

977, the Derivatives Markets Transparency and Accountability Act. 

No one can argue that the concepts of transparency and accountability are wrong, but we must make certain that our actions call 

for an appropriate level of regulation that will respect the nature 

of the marketplace and encourage product innovation and economic 

growth. Derivatives do serve a valid purpose in the marketplace 

when used with judgment. They are essential for managing risk. 

We must consider that there are numerous industries that have legitimate price risk and there must be a way to mitigate that. Derivatives provide a legitimate means for managing that risk. The 

financial problems that we have seen recently are not the result of 

merely the existence of derivatives, but rather because there are 

problems in measuring their true performance, or knowing with 

certainty the depth and breadth of the over-the-counter market, or 

knowing with confidence the creditworthiness of the counterparty. 

Simply put, the marketplace can be protected from market failures if regulators are fully aware of the threat. Ignorance of this 

relatively new financial instrument caused much of the financial 

failures. We now know that these complex markets need better 

models and methods for oversight and transparency. However, we 

must be careful not to overreach and force businesses into very expensive clearing operations that cost capital that they do not have, 

or force them out of risk mitigation all together. Business will then 

be forced to manage risk with higher prices, which will ultimately 

be passed on to consumers. The need to avoid artificial costs for 

business was the reason I opposed the clearing requirement in H.R. 

977. There is considerable concern that section 13, as currently 

drafted, which relates to the clearing requirement will stifle invasion in the over-the-counter market. 

CFTC needs more authority to waive the clearing requirements 

in section 13 so new and safer products can get to the market in 

a timely fashion. This would recognize the fact that not all contracts can be cleared and that there is a need for customized contracts. These are just a few of the concerns I have on my part as 

we move forward today. 

Again, I thank you for the opportunity to discuss the issues regarding these important financial institutions. And Secretary 

5

Geithner, I look forward to your testimony and the answers to the 

questions posed by the panel. Thank you, Chairman. 

Chairman PETERSON. I thank the gentleman, and now I am 

pleased to recognize my good friend the Chairman of the Financial 

Services Committee, Mr. Frank. 

OPENING STATEMENT OF HON. BARNEY FRANK, A 

REPRESENTATIVE IN CONGRESS FROM MASSACHUSETTS 

Chairman FRANK. Thank you, Mr. Peterson and I begin with an 

apology to our friends in the media, there is no fight to cover between these two Committees. I know that that is an easier topic 

than the complexities of how to actually do something. But I believe that the besetting sin of the House of Representatives is jurisdictional fights, in which our egos get in the way of good public policy. I am very proud that Chairman Peterson and I and other 

Members of our Committee, as well as Chairman Gensler and 

Chairwoman Shapiro have made very extra special efforts to avoid 

that. And I believe we have achieved that. And there will be some 

disagreements, but they will be based on substance. 

There are some areas where there are no disagreements. Clearly 

we will be significantly expanding the regulation of derivatives. 

And I want to address the issue that was raised by the very 

thoughtful gentleman from Idaho, with whom I agree on most 

issues, but not on the question of the merger. I will say that if we 

were starting from scratch, I don’t think we would have the current 

organizational structure. But we are not starting from scratch, and 

I don’t think it is practical to talk about making those major 

changes. But I will also say this, there have been some complaints 

that what the Obama Administration has proposed, and they have 

a great deal of credit coming to them for the initiatives they are 

taking, the a broad range of financial restructuring, and some of 

what we are talking about. Some people have complained there is 

not enough structural change. 

Frankly, I think that is the wrong issue. What we should be held 

accountable for is making substantive changes in the rules. Who 

does these things is less important to me than what is done. And 

by the time we are through in the collaboration between these two 

Committees, in the work of the Congress as a whole, and in the 

work that the Financial Services Committee will do, we will, I believe, have substantially increased the authority of regulators to 

deal with these things. We have within our jurisdiction the question of hedge funds. I believe that hedge funds should be required 

to register. We will be talking about further expansion derivatives 

and undoing some of the decisions not to deal with them in the 

past. We will be talking about a number of other areas where we 

will be making some important substantive changes and giving the 

regulators the authority to do things. 

With regard to derivatives, clearly the gentleman from Oklahoma 

is correct, they play an important role. The problem we have is 

this: the role of the financial sector is to be an intermediary between people who are engaged in the productive activity of the 

economy, and people who have the money that they need to do 

that. The role of the intermediaries is to gather up money in reaVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00011 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
6

sonably small amounts from large numbers of people and have 

them available to those people who will do productive activity. 

I believe that one of the problems that we have seen in the past 

couple of decades is that there has become a confusion between 

ends and means, that is activity that is a very important means 

to the end of productive activity has become for some in our society 

an end in itself. Our job is to try and separate those things out. 

Where we have instruments, activities, entities that are an important means to gathering the funds that our private sector economy 

needs to do productive activity, we need to protect that. 

We need to make sure it is done with integrity, we need to give 

encouragement to investors who may be afraid to invest, that is 

why I regard sensible regulations of the market as very pro-market. You protect the people with integrity from those who might try 

to cut corners. You give some encouragement to those who should 

be investing. 

Our job is to reduce the extent to which there are things that go 

on for their own sake. I believe we are capable of doing that, and 

I am very pleased, Chairman Peterson and I, and our Committees 

are well on the way in cooperation with the Administration to 

adopting such rules. 

And I now recognize the Ranking Member of the Financial Services Committee, the gentleman from Alabama, Mr. Bachus. 

OPENING STATEMENT OF HON. SPENCER BACHUS, A 

REPRESENTATIVE IN CONGRESS FROM ALABAMA 

Mr. BACHUS. Thank you, Mr. Chairman. As the Chairman and 

the Ranking Member of the Agricultural Committee have said, derivatives serve an important function in the market, they allow—

they allow thousands of companies—I am going to start over. 

Thank you. Does that work? All right. 

As the three gentlemen before me said, derivatives serve an important function in the market. They allow companies to hedge 

against risk, to deploy capital more effectively, to lower their costs 

and to offer protection against fluctuating prices. Derivatives are 

about shifting risk, and my greatest concern is that we do not want 

a system, and I fear that the Administration is going down the 

path of shifting that risk, not to the investors or to the dealers, but 

ultimately to the taxpayers. The companies, the four companies 

that will deal in these derivatives—over-the-counter derivatives—

the most will be four or five of the largest companies, financial 

companies in America. All of them will be deemed to be systemically significant. 

Part of the Administration’s proposal is for when these companies get in trouble, and one reason they could get in trouble is trading in these over-the-counter derivatives, because they can protect 

against risk, they can lower costs. But as we saw with, I guess, 

Enron as a great example, they can take both dealers and investors 

down. And when that happens I would like some assurance that 

the taxpayers are not going to ultimately be the ones who assume 

that risk, that is not what we ought to be about. 

Now, leading up to last September, a lot of people made investments, they wrote over-the-counter derivatives, they made billions 

of dollars, profits on the way up, but when things turned down who 

7

was asked to come in and backstop them? Who was asked to take 

the risk, to suffer the loss? It was the taxpayer. 

Now I personally believe that we ought to allow corporations to 

continue to write customized derivatives and that yes, the government can look at them. But another thing that we ought to consider is whether the government is the best party to judge risk? 

And I say, no. I think the government has a very poor track record 

of regulators in identifying risk. Are we going to leave—when we 

start having standardized trading of over-the-counter derivatives, 

particularly the more complex ones and the regulators bless those 

trades, or say that they are safe, are we going to attract a whole 

new generation of investors who think that they are investing in 

a safe security or future. 

We found out with Fannie and Freddie that people began to 

think it was an implied government guarantee and they invested 

in those stocks. We need to totally avoid any implication that just 

because the government is going to regulate these markets they are 

going to insure these markets or backstop these markets. And I 

would like some assurance from the Secretary of the Treasury that 

however we ultimately decide the level of regulation—I look forward to the Memorandum of Understanding between the Fed, the 

CFTC and the SEC—that ultimately the taxpayers do not come in 

and take the burden, the risk, and the cost of over-the-counter derivatives gone bad. Thank you, Mr. Secretary. 

Chairman PETERSON. I thank the gentleman and I thank the 

Members for their attendance and the Chairman, and the Ranking 

Members for their statements. The Chairman requests that other 

Members submit their opening statements for the record. 

[The prepared statement of Mrs. Bachmann follows:]

PREPARED STATEMENT OF HON. MICHELE BACHMANN, A REPRESENTATIVE IN

CONGRESS FROM MINNESOTA

Thank you, Mr. Chairman. And, what a pleasure it is to have a fellow Minnesotan 

co-chairing this hearing today. Thank you, Mr. Peterson, as well. 

And, thank you, Secretary Geithner, for being here today and I look forward to 

the discussion. 

Many U.S. companies responsibly utilize over-the-counter derivatives on a daily 

basis to manage their risks and limit damage to their balance sheets. These endusers are America’s job-creators and Congress should be careful not to over-reach 

and infringe on their ability to hedge risks responsibly. 

Our Subcommittee on Capitol Markets held a helpful hearing on this issue in 

June. Chairman Kanjorski invited end-users such as 3M, a global company 

headquartered in Minnesota, to testify so that we could hear their perspective on 

this important issue. We heard the sincere concern of end-users and manufacturers 

about losing their ability to use customized over-the-counter derivatives to hedge 

against foreign exchange, interest rate, and commodity price risks. 

I agree with Chairman Kanjorski’s sentiment from that hearing that we should 

try to find the right balance as we move forward on this issue. While we want to 

improve oversight and transparency of the derivatives market, as Chairman Kanjorski stated, ‘‘subjecting all contracts to mandatory exchange trading may cast too 

wide a net.’’ (Financial Times, 6/10/09) 

The proposal submitted by the President, the legislation reported out of the Agriculture Committee in February (H.R. 977), and the Waxman-Markey cap-and-tax 

bill (H.R. 2454) all cast very wide nets and do not seem to make any attempt to 

differentiate between varying types of derivatives products. They ignore the concerns we’ve heard from American businesses about why mandatory clearing for all 

these financial products could hamper their ability to properly hedge risks. 

Particularly in the current economic climate, I question the prudence of impairing 

their ability to manage genuine operating risks. The end result would likely be unVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00013 Fmt 6633 Sfmt 6621 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
8

necessarily sidelining precious capital—capital that we need in the marketplace to 

create jobs and help the economy recover. 

We should be looking for ways to improve our current patchwork of financial regulation and move toward a more effective and efficient system that legitimately improves safety and soundness. 

Thank you, Mr. Chairman, and I yield back the balance of my time.

Chairman PETERSON. Mr. Secretary, we appreciate you being 

with us. We look forward to your statement, and Members I guess 

we have votes coming up at 10:30, but we will have time for the 

Secretary’s statement and maybe a couple of questions. So Mr. Secretary. 

STATEMENT OF HON. TIMOTHY F. GEITHNER, SECRETARY, U.S. 

DEPARTMENT OF THE TREASURY, WASHINGTON, D.C. 

Secretary GEITHNER. Thank you, Chairman Peterson, Chairman 

Frank, and Ranking Members Lucas and Bachus. I am grateful for 

the chance to come before you today. I want to compliment both of 

you and your colleagues for already doing so much thoughtful work 

in trying to lay the foundation for reform, and for bringing this 

basic spirit of pragmatic cooperation, transcending the classic institutional differences that have made it harder to make progress in 

these areas in the past. 

Before I get to the subject of this hearing, which is the important 

need to bring comprehensive oversight and regulation to the derivative markets, I just want to make a few broader points about the 

imperative of comprehensive reform. There are some who have suggested that we are trying to do too much too soon, that we should 

wait for a more opportune moment when the crisis has definitively 

receded. There are some who are beginning to suggest that we 

don’t need comprehensive change, even though the cost of this crisis has been brutally damaging to millions of Americans to hundreds of thousands of businesses, to economies around the world, 

and to confidence in our financial system. 

And there are some who argue that by making regulations 

smarter and stronger will destroy innovation. And there are even 

some who argue that we should leave responsibility for consumer 

protection for mortgages and consumer credit products, largely, 

where it is today. 

Now, in my view, these voices are essentially arguing that we 

maintain the status quo, and that is not something we can accept. 

Now, it is not surprising that we are having this debate, it is the 

typical pattern of the past. As the crisis starts to recede, the impetus to reform tends to fade in the face of the complexity of the task, 

and with opposition by the economic and institutional interests 

that are affected. It is not surprising because the reforms proposed 

by the President, and the reforms that your two Committees are 

discussing, would: substantially alter the ability of financial institutions to choose their regulator; shape the content of future regulation; and to continue the financial practices that were lucrative 

for parts of the industry for a time, but did ultimately prove so 

damaging. But this is why we have to act and why we need to deliver very substantial change. 

Any regulatory reform of this magnitude requires deciding how 

to strike the right balance between financial innovation and efficiency on the one hand, and stability and protection on the other. 

9

And we failed to get this balance right in the past. And if we do 

not achieve sufficient reform, we will leave ourselves weaker as a 

nation, weaker as an economy and more vulnerable to future crises. 

Now one of the most significant developments in our system during recent decades has been the very substantial growth and innovation in the market for derivatives, in particular the over-thecounter derivative market. Because of this enormous scale and the 

critical role these instruments play in our markets, establishing a 

comprehensive framework of oversight for derivatives is crucial. 

Although derivatives bring very important benefits to our economy by enabling companies to manage risk, they also pose very 

substantial challenges. Under our existing regulatory system, some 

types of financial institutions were allowed to sell very large 

amounts of protection against certain risks without adequate capital to back those commitments. The most conspicuous and the 

most damaging examples of this were the monoline insurance companies and AIG. Banks were able to reduce the amount of capital 

they held against risk by purchasing credit protection from thinly 

capitalized, special purpose insurers subject to little or no initial 

margin requirements. 

The complexity of the instruments overwhelm the checks and 

balances risk management and supervision, weaknesses that were 

magnified by very systematic failures in judgment by the credit 

rating agencies. These failures enabled a substantial increase in leverage both outside and within the banking system. Inadequate enforcement authority and information made the system more vulnerable to fraud and to market manipulation, and because of a lack 

of transparency in the OTC derivative markets the government and 

market participants did not have enough information about the location of risk exposures, or the extent of mutual interconnection 

among firms. And this lack of visibility, magnified contagion as the 

crisis intensified, causing a very damaging wave of deleveraging, 

and margin increases, the classic margin spiral, contributing to a 

general breakdown in credit markets. 

Now these problems in derivatives were not the sole or the principal cause of the crisis, but they made the crisis more damaging 

and they need to be addressed as part of the comprehensive reform. 

Our proposals for reform are designed to protect the stability of our 

financial system, to prevent market manipulation, fraud and other 

abuses, to provide greater transparency, and protect consumers 

and investors by restricting inappropriate marketing of these products to unsophisticated parties. 

This proposed plan will provide strong regulation and transparency for all OTC derivative products, both standardized and 

customized, and strong supervision and regulation for all OTC derivative dealers and other major market participants in these markets. And we propose to achieve these goals with the following 

broad steps. First, we propose to require that all standardized derivatives contracts be cleared through, well-regulated central 

counterparties and executed either on regulated exchanges or regulated electronic trade execution systems. Central clearing makes 

possible the substitution of a regulated clearinghouse between the 

original counterparties to a transaction. And with central clearing, 

the original counterparties no longer have credit exposure to each 

10

other. They place that credit exposure to a clearinghouse, backed 

by financial safeguards that are established through regulation. 

Second, we propose to encourage substantially greater use of 

standardized OTC derivatives, and thereby to facilitate a more substantial migration of these OTC derivatives onto central clearinghouses and exchanges. We will also require, and I want to underscore this, that regulators police any attempts by market participants to use spurious customization to avoid central clearing and 

exchanges. And in this context, we will impose higher capital and 

margin requirements for counterparties using customized and non 

centrally cleared derivative products to account for higher level of 

risk. 

Third, we propose to require that all OTC derivative dealers and 

all major market participants be subject to substantial supervision 

and regulation, including appropriately conservative capital margin 

requirements, and strong business conduct standards, to better ensure that dealers have the capital needed to make good on the protection they provide. 

Fourth, we propose steps to make OTC derivative markets fully 

transparent. Relevant regulators will have access, on a confidential 

basis, to all transactions and open positions of individual market 

participants. The public will have access to aggregated data on 

opening positions and trading volumes. To bring about this high 

level of transparency we require the SEC and CFTC to impose 

record-keeping and reporting requirements, including an audit trail 

on all OTC derivatives and trades, and to provide information on 

all OTC derivative trades to a regulated trade repository. 

Fifth, we propose to provide the SEC and the CFTC with clear 

unimpeded authority to take regulatory and civil action against 

fraud, market manipulation and other abuses in these markets. 

And we will work with the SEC and the CFTC to tighten the 

standards to govern who can participate in these markets. 

And finally we will continue to work closely with our international counterparts to help ensure that our regulatory regime is 

matched by similarly affected efforts in other countries, these are 

global markets and for these standards to be effective they have to 

be applied and enforced on a global basis. Now with these reforms 

we will bring protection that exists in other financial markets, protections that exists to prevent fraud and manipulation in other 

markets, and preserve market integrity of the OTC derivative markets. The SEC and CFTC will have full enforcement authority. 

Firms will no longer be able to use derivatives to make commitments with inadequate capital. 

No dealer in these markets will escape oversight, and we will 

bring the risk reducing and financial stability promoting benefits 

of central clearing to these important markets. 

Now turning these proposals into law will require complex, difficult judgments. And some of these judgments will involve assigning jurisdiction over particular transactions and particular participants to our regulatory agencies. I want to say we have been working closely as you have with the SEC and CFTC over the last few 

months to develop a sensible, pragmatic allocation of duties and 

have made very, very substantial progress in narrowing the issues. 

And I want to join the Chairman in complimenting Chairman 

11

Schapiro and Chairman Gensler for working so closely and productively together. 

As Congress moves to craft legislation, we are moving quickly, 

along with other relevant agencies, to advance the overall process 

of reform. Just as an example, we provided detailed legislative language for the establishment of the Consumer Financial Protection 

Agency to Congress just last week. The SEC is moving forward 

with new rules to govern and reform credit rating agencies. And 

the CFTC as you saw, announced hearings recently on whether to 

impose limits on speculation in energy derivatives in order to 

dampen price swings, and to require new disclosure by derivative 

traders. Those are just some examples of things we are doing as 

you move forward to consider legislation. 

Now we welcome the commitment of these Committees, and of 

the Congressional leadership, to move forward in legislation this 

year. This is an enormously complicated project and it is important 

we get it right. We share responsibility for fixing the system, and 

we can only do that with comprehensive reform. I look forward to 

answering your questions and talking through the range of important complex issues we face in the reform effort. Thank you, Mr. 

Chairman. 

[The prepared statement of Secretary Geithner follows:]

PREPARED STATEMENT OF HON. TIMOTHY F. GEITHNER, SECRETARY, U.S. 

DEPARTMENT OF THE TREASURY, WASHINGTON, D.C. 

Chairman Frank, Ranking Member Bachus, Chairman Peterson, Ranking Member Lucas, Members of the Financial Services and Agriculture Committees, thank 

you for the opportunity to testify today about a key element of our financial regulatory reform package—a comprehensive regulatory framework for the over-thecounter (OTC) derivatives markets. 

Over the past 2 years, we have faced the most severe financial crisis in generations. Some of our largest financial institutions failed. Many of the securities markets that are critical to the flow of credit in our financial system broke down. Banks 

came under extraordinary pressure. And these forces magnified the overall downturn in the housing market and the broader economy. 

President Obama, working with the Congress, has taken extraordinary steps to 

stabilize the economy and to repair the damage to the financial system. As we continue to put in place conditions for economic recovery, we need to lay the foundation 

for a safer, more stable financial system in the future. 

This financial crisis has exposed a set of core problems with our financial system. 

The system permitted an excessive build-up of leverage, both outside the banking 

system and within the banking system. 

The shock absorbers that are critical to preserving the stability of the financial 

system—capital, margin, and liquidity cushions in particular—were inadequate to 

withstand the force of the global recession, and they left the system too weak to 

withstand the failure of major financial institutions. 

In addition, millions of Americans were left without adequate protection against 

financial predation, particularly in the mortgage and consumer finance areas. Many 

were unable to evaluate the risks associated with borrowing to support the purchase 

of a home or to sustain a higher level of consumption. 

The United States entered this crisis without an adequate set of tools to contain 

the risk of broader damage to the economy and to manage the failure of large, complex financial institutions. 

Many forces contributed to these problems. Household debt rose dramatically as 

a share of total income, financed by a willing supply of savings from around the 

world. Risk management practices at financial firms failed to keep abreast of the 

rising complexity of financial instruments. Compensation rose to exceptionally high 

levels in the financial sector, with rewards for executives unmoored from an assessment of long-term risk for the firm, thus mis-aligning the incentive structures in 

the system. Our framework of financial supervision and regulation, designed in a 

different era for a more simple bank-centered financial system, failed in its most 

12

basic responsibility to produce a stable and resilient system for providing credit and 

protecting consumers and investors. 

The Administration proposed in June a comprehensive set of reforms to address 

the problems in our financial system that were at the core of this crisis and to reduce the risk of future crises. 

We proposed to establish a new Consumer Financial Protection Agency with the 

power to establish and enforce protections for consumers on a wide array of financial products. 

We proposed to put in place more conservative constraints on risk taking and leverage through higher capital requirements for financial institutions and stronger 

cushions in the core market infrastructure. 

We proposed to extend the scope of regulation beyond the traditional banking sector to cover all firms who play a critical role in market functioning and the stability 

of the financial system. 

We proposed to put in place stronger tools for managing the failure of large, complex financial institutions by adapting the resolution process that now exists for 

banks and thrifts. 

We proposed to reduce the substantial opportunities for regulatory arbitrage that 

our system permitted by consolidating safety and soundness supervision for Federal 

depository institutions, eliminating loopholes in the Bank Holding Company Act, 

moving toward convergence of the regulatory frameworks that apply to securities 

and futures markets, and establishing more uniform standards and enforcement of 

standards for financial products and activities across the system. 

And we proposed to work with other countries to establish strong international 

standards, so the reforms we put in place here are matched and informed by similarly effective reforms elsewhere. 

Any regulatory reform of magnitude requires deciding how to strike the right balance between financial innovation and efficiency, on the one hand, and stability and 

protection, on the other. We failed to get this balance right in the past. The reforms 

that we propose seek to shift the balance by creating a more resilient financial system that is less prone to periodic crises and credit and asset price bubbles, and better able to manage the risks that are inherent in innovation in a market-oriented 

financial system. 

We consulted widely with Members of Congress, consumer advocates, academic 

experts, and former regulators in shaping our recommendations. And we look forward to refining these recommendations through the legislative process. 

One of the most significant developments in our financial system during recent 

decades has been the substantial growth and innovation in the markets for derivatives, especially OTC derivatives. 

Because of their enormous scale and the critical role they play in our financial 

markets, establishing a comprehensive framework of oversight for the OTC derivative markets is crucial to laying the foundation for a safer, more stable financial system. 

A derivative is a financial instrument whose value is based on the value of an 

underlying ‘‘reference’’ asset. The reference asset could be a Treasury bond or a 

stock, a foreign currency or a commodity such as oil or copper or corn, a corporate 

loan or a mortgage-backed security. Derivatives are traded on regulated exchanges, 

and they are traded off-exchanges or over-the-counter. 

The OTC derivative markets grew explosively in the decade leading up to the financial crisis, with the notional amount or face value of the outstanding transactions rising more than six-fold to almost $700 trillion at the market peak in 2008. 

Over this same period, the gross market value of OTC derivatives rose to more than 

$20 trillion. 

Although derivatives bring substantial benefits to our economy by enabling companies to manage risks, they also pose very substantial challenges and risks. 

Under our existing regulatory system, some types of financial institutions were 

allowed to sell large amounts of protection against certain risks without adequate 

capital to back those commitments. The most conspicuous and most damaging examples of this were the monoline insurance companies and AIG. These firms and 

others sold huge amounts of credit protection on mortgage-backed securities and 

other more complex real-estate related securities without the capacity to meet their 

obligations in an economic downturn. 

Banks were able to get substantial regulatory capital relief from buying credit 

protection on mortgage-backed securities and other asset-backed securities from 

thinly capitalized, special purpose insurers subject to little or no initial margin requirements. 

13

The apparent ease with which derivatives permitted risk to be transferred and 

managed during a period of global expansion and ample liquidity led financial institutions and investors to take on larger amounts of risk than was prudent. 

The complexity of the instruments that emerged overwhelmed the checks and balances of risk management and supervision, weaknesses that were magnified by systematic failures in judgment by credit rating agencies. These failures enabled a substantial increase in leverage, outside and within the banking system. 

Because of a lack of transparency in the OTC derivatives and related markets, 

the government and market participants did not have enough information about the 

location of risk exposures in the system or the extent of the mutual interconnections 

among large firms. So, when the crisis began, regulators, financial firms, and investors had an insufficient basis for judging the degree to which trouble at one firm 

spelled trouble for another. This lack of visibility magnified contagion as the crisis 

intensified, causing a very damaging wave of deleveraging and margin increases, 

and contributing to a general breakdown in credit markets. 

Market participants and investors used derivatives to evade regulation, or to exploit gaps and differences in regulation, and to minimize the tax consequences of 

investment strategies. 

The lack of transparency in the OTC derivative markets combined with insufficient regulatory policing powers in those markets left our financial system more vulnerable to fraud and potentially to market manipulation. 

These problems were not the sole or the principal cause of the crisis, but they contributed to the crisis in important ways. They need to be addressed as part of comprehensive reform. And they cannot be adequately addressed within the present legislative or regulatory framework. 

In designing its proposed reforms for the OTC derivative markets, the Administration has attempted to achieve four broad objectives:

• Preventing activities in the OTC derivative markets from posing risk to the stability of the financial system;

• Promoting efficiency and transparency of the OTC derivative markets;

• Preventing market manipulation, fraud, and other abuses; and

• Protecting consumers and investors by ensuring that OTC derivatives are not 

marketed inappropriately to unsophisticated parties.

Our proposals have been carefully designed to provide a comprehensive approach. 

The plan will provide for strong regulation and transparency for all OTC derivatives, regardless of the reference asset, and regardless of whether the derivative is 

customized or standardized. In addition, our plan will provide for strong supervision 

and regulation of all OTC derivative dealers and all other major participants in the 

OTC derivative markets. 

We propose to achieve this with the following broad steps: 

First, we propose to require that all standardized derivative contracts be cleared 

through well-regulated central counterparties and executed either on regulated exchanges or regulated electronic trade execution systems. 

Central clearing involves the substitution of a regulated clearinghouse between 

the original counterparties to a transaction. After central clearing, the original 

counterparties no longer have credit exposure to each other—instead they have 

credit exposure to the clearinghouse only. Central clearing of standardized OTC derivatives will reduce risks to those on both sides of a derivative contract and make 

the market more stable. With careful supervision and regulation of the margin and 

other risk management practices of central counterparties, central clearing of a substantial proportion of OTC derivatives should help to reduce risks arising from the 

web of bilateral interconnections among our major financial institutions. This should 

help to constrain threats to financial stability. 

Second, through capital requirements and other measures, we propose to encourage substantially greater use of standardized OTC derivatives and thereby to facilitate substantial migration of OTC derivatives onto central clearinghouses and exchanges. 

We will propose a broad definition of ‘‘standardized’’ OTC derivatives that will be 

capable of evolving with the markets and will be designed to be difficult to evade. 

We will employ a presumption that a derivative contract that is accepted for clearing by any central counterparty is standardized. Further attributes of a standardized contract will include a high volume of transactions in the contract and the absence of economically important differences between the terms of the contract and 

the terms of other contracts that are centrally cleared. 

We also will require that regulators carefully police any attempts by market participants to use spurious customization to avoid central clearing and exchanges. In 

14

addition, we will raise capital and margin requirements for counterparties to all customized and non-centrally cleared OTC derivatives. Given their higher levels of risk, 

capital requirements for derivative contracts that are not centrally cleared must be 

set substantially above those for contracts that are centrally cleared. 

Third, we propose to require all OTC derivative dealers, and all other major OTC 

derivative market participants, to be subject to substantial supervision and regulation, including conservative capital requirements; conservative margin requirements; and strong business conduct standards. Conservative capital and margin requirements for OTC derivatives will help ensure that dealers and other major market participants have the capital needed to make good on the protection they have 

sold. 

Fourth, we propose steps to make the OTC derivative markets fully transparent. 

Relevant regulators will have access on a confidential basis to the transactions and 

open positions of individual market participants. The public will have access to aggregated data on open positions and trading volumes. 

To bring about this high level of transparency, we will require the SEC and CFTC 

to impose record-keeping and reporting requirements (including an audit trail) on 

all OTC derivatives. We will require that OTC derivatives that are not centrally 

cleared be reported to a regulated trade repository on a timely basis. 

These reforms will bring OTC derivative trading into the open so that regulators 

and market participants have clear visibility into the market and a greater ability 

to assess risks in the market. Increased transparency will improve market discipline 

and regulatory discipline, and will make the OTC derivative markets more stable. 

Fifth, we propose to provide the SEC and CFTC with clear authority for civil enforcement and regulation of fraud, market manipulation, and other abuses in the 

OTC derivative markets. 

Sixth, we will work with the SEC and CFTC to tighten the standards that govern 

who can participate in the OTC derivative markets. We must zealously guard 

against the use of inappropriate marketing practices to sell derivatives to unsophisticated individuals, companies, and other parties. 

Finally, we will continue to work with our international counterparts to help ensure that our strict and comprehensive regulatory regime for OTC derivatives is 

matched by a similarly effective regime in other countries. 

Turning our proposals into law will require that a number of difficult judgments 

be made. Some of these judgments involve assigning jurisdiction over particular 

transactions or particular market participants to particular regulatory agencies. We 

have been working with the SEC and the CFTC over the past few months to develop 

a sensible allocation of duties. We have made great progress in narrowing the outstanding issues, and intend to send up draft legislation that will provide for a clear 

allocation of oversight authority between the SEC and CFTC. In making these decisions, we are striving to utilize each agency’s expertise, eliminate gaps in regulation, 

eliminate uncertainty about which agency regulates which types of derivatives, and 

maximize consistency of the regulatory approach of the two agencies. 

Our plan will help prevent the OTC derivative markets from threatening the stability of the overall financial system. 

By requiring central clearing of all standardized derivatives and by requiring all 

OTC derivative dealers and all other significant OTC market participants to be 

strictly supervised by the Federal Government, to maintain substantial capital buffers to back up their obligations, and to comply with prudent initial margin requirements, the regulatory framework that we seek to put in place should help lower systemic risk. 

Our plan will help make the derivatives markets more efficient and transparent. 

By requiring all standardized derivatives to be cleared through regulated central 

counterparties and executed on regulated exchanges or through regulated electronic 

trade execution systems and by requiring that detailed information about all types 

of derivatives be readily available to regulators, our plan will help ensure that the 

government is not caught—as it was in this crisis—with insufficient visibility into 

market activity, risk concentrations, and connections between firms. 

Our plan will help prevent market manipulation, fraud and other abuses by providing full information to regulators about activity in the OTC derivative markets 

and by providing the SEC and the CFTC with full authority to police the markets. 

Finally, our plan will help protect investors by taking steps to prevent OTC derivatives from being marketed inappropriately to unsophisticated parties. 

As Congress moves to craft legislation to reform our financial system, we are moving quickly to advance the overall process. 

Following the release of our White Paper on financial regulatory reform in midJune, we sent up detailed legislative language for the establishment of the Consumer Financial Protection Agency. 

15

We have used the President’s Working Group on Financial Markets to pull together all government agencies that oversee elements of the financial system to 

begin the process of formulating more detailed proposals for implementing the comprehensive reforms outlined by the President. 

The SEC is moving forward to put in place new rules to govern credit-rating agencies, which failed to adequately assess the risks of mortgage-backed and other structured securities at the center of the crisis. 

The CFTC has announced hearings on whether to impose limits on speculation 

in energy derivatives in order to dampen price swings, and to require new disclosures by derivative traders. 

SEC Chairman Schapiro and CFTC Chairman Gensler were recently on Capitol 

Hill testifying together about progress in coordinating their agencies’ approaches to 

derivatives and developing a reasonable division of labor in the oversight of these 

markets. 

We welcome the commitment of the Congressional leadership and of the key Committees to move forward with legislation this year. This is an enormously complex 

project. It is important that we get it right. And we need a comprehensive approach. 

This crisis caused enormous damage to trust and confidence in the U.S. financial 

system and to the American economy. 

We share responsibility for fixing the system and we can only do that with comprehensive reform. 

We look forward to working with you to achieve that objective.

Chairman PETERSON. Thank you, Mr. Secretary. 

We have 8 or 9 minutes before votes, so I will go ahead with a 

couple of questions here. 

First of all—in our bill—we propose mandatory clearing, and if 

they can not be cleared, then we give CFTC the requirement that 

they put some margin and collateral requirements on the transaction. One of the questions that I still have, apparently you are 

not ready to give us a detailed response on how this is going to 

work, but, it mentions a broad definition of standardized, the presumption of standardized and cleared and that high volume will be 

an attribute of a standardized contract, which for me kind of just 

raises even more questions about what is going on here. 

So while you may not be able to give us a detail of what a standardized OTC derivative is today, can you tell us to what degree of 

certainty will a swap dealer or end-user of derivatives be able to 

know going into a swap whether it is going to be classified as 

standardized or customized, will the answer be in the statute itself 

or a regulation promulgated by Federal regulators? Will clearinghouses be providing answers based on if they choose to clear the 

derivative or not, or will the market, as a whole, show the way 

based on volume of the OTC derivative? And how much confidence 

will market participants have beforehand whether the OTC derivative they enter into will be judged standardized or customized? 

Secretary GEITHNER. Mr. Chairman, of course we want to have—

we want to give people as much clarity as we can ex ante. I don’t 

think we made a final judgment yet about to what extent we wanted to find those attributes and standardize them in statute or in 

regulation. I think my suspicion of what we will recommend is that 

we will lay out broad principals in statute, and have them defined 

with more clarity in regulation. 

I think the important thing is that, again, that we move the 

standardized derivatives onto central clearing, but we establish 

comprehensive enforcement authority, comprehensive transparency, comprehensive reporting, sufficiently conservative margin 

and capital requirements across the entire market. And to avoid 

the risk that our definition of standardized is arbitraged, that peoVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00021 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
16

ple try to get around that definition and design customized products to escape the protections that come with that, we are going to 

propose to put higher capital requirements on the customized products to limit that risk. 

Again, the basic design of this proposal is to make sure there is 

comprehensive oversight over all transactions in these markets, 

and comprehensive authority to the SEC and CFTC to police and 

deter fraud and manipulation in those markets, and to make sure 

there are appropriately conservative capital margin requirements 

across those instruments. 

Chairman PETERSON. Thank you. Thank you. What about if the 

clearinghouse determines there is too much risk, too little profit in 

clearing some standardized OTC transaction? Or what happens it 

no central counterparty will clear a standardized contract, or do 

you think the central counterparties should be required to take on 

this business? 

Secretary GEITHNER. Having thought through that, I don’t think 

that is likely to be a significant risk, because, I think the economic 

instruments of the participants will encourage central clearing. As 

the markets become more standardized, it is more economically efficient for a greater share of those products to move to central 

clearing. Both sides of the parties will be, particularly the users of 

the markets, will have an interest in seeing that, but that is something we will think through carefully with you. 

Chairman PETERSON. Well, thank you very much. I think we are 

going to recess the Committee and go over and vote. I don’t know 

how many there are, but we will come back promptly after the 

votes. Secretary, we appreciate your patience being with us. We 

will stand in recess. 

[Recess.] 

Chairman FRANK. The next Member of the panel to question is 

the senior Republican on the Agriculture Committee, the gentleman from Oklahoma, Mr. Lucas. 

Mr. LUCAS. Thank you, Mr. Chairman. 

And I would ask, by unanimous consent, a letter from Chesapeake that was copied to me and, I believe, the Secretary to be entered into the record, if that is possible, sir. 

Chairman PETERSON. Without objection. 

[The document referred to is located on p. 59.] 

Mr. LUCAS. Thank you, Mr. Chairman. 

Mr. Secretary, OTC contracts are used to manage, of course, very 

real risks. And the OTC market’s very purpose is to provide customized solutions that meet the individual needs of customers. Denying or effectively limiting access to these risk tools by eliminating, in effect, OTC contracts, which mandated clearing essentially does, jeopardizes the ability to hedge market risk, exposing 

customers to increasing price volatility. 

Why isn’t reporting of OTC trades enough, sir? 

Secretary GEITHNER. If we were to mandate clearing, central 

clearing of all derivative products, we would, in effect, be banning 

customized products. We are not proposing to do that, in part because we believe that there are a broad range of risks that cannot 

be adequately hedged and managed without recourse to more specialized, tailored instruments. 

17

We also believe, however, that we need to have, as I said earlier, 

a comprehensive framework of reporting, enforcement authority, 

and capital requirement protections across all those instruments. 

But for the reasons you said, and many people have pointed out, 

to force clearing of all derivatives would ban customized. We do not 

believe that is necessary, even though we think it is very important 

to have a comprehensive framework of protections around all those 

products. 

Mr. LUCAS. So, then it is fair to say, Secretary, that you would 

agree that if the regulator knows about the trades, if the regulator 

has the necessary tools, that that should be sufficient to address 

and to avoid potential systematic risk? 

Secretary GEITHNER. I believe that for the customized part of the 

market——

Mr. LUCAS. Customized part, of course. 

Secretary GEITHNER.—you want to make sure that there is adequate capital and margin held against those exposures. That the 

SEC and the CFTC, the relevant authorities in this case, have the 

full protections to police those markets to prevent manipulation 

and fraud. And that requires a level of reporting and transparency 

that we do not have today. 

Mr. LUCAS. And you indicated in your opening comments, Secretary, that for these kind of contracts, potentially, the capital requirements could be substantially higher than for the standardized 

contracts, the things that would be traded by an exchange. 

Could you give us a feel for, in your mind, how much more the 

standards would be for these kind of products? 

Secretary GEITHNER. I can’t tell you how much higher, but let me 

just explain the rationale for that. 

The first is, of course, that these customized products can often 

entail more leverage, more uncertainty about future risk, less capacity to judge future risk. And that, in and of itself, requires a 

higher level of capital, to compensate for that level of risk. 

The second is, of course, we want to avoid creating a situation 

where people are encouraged to use customized when there is a 

standardized option that is economically compelling. 

Mr. LUCAS. But you would agree that there are a number of industries, whether it is ag or energy, or a variety of industries, 

where the circumstances are so unique that there has to be an option for these customized contracts? 

Secretary GEITHNER. I do believe that. And I have a stack of letters here in my book from companies across the country in the 

power business, in the commodities business, in the business of 

producing large-scale machinery, that speak to the importance of 

maintaining that option. 

But I want to underscore that, because those products come with 

a lot of risk—and a lot of the losses that were so conspicuous in 

the monoline insurance companies and AIG were from institutions 

writing protections against the customized products. And, therefore, it is important that there be, as I said, a comprehensive 

framework of oversight and authority over those instruments, as 

well. 

Mr. LUCAS. Thank you, Secretary. I see my time has expired. 

18

Chairman FRANK. The first questioner on our side now will be 

the Chairman of the Financial Services Committee Subcommittee 

on Capital Markets, who has been working hard on this issue, Mr. 

Kanjorski. 

Mr. KANJORSKI. Thank you, Mr. Chairman. 

Mr. Secretary, the white paper requires that the SEC and the 

CFTC make recommendations on harmonizing their statutes and 

regulations by the end of September. And, as you know, we have 

been meeting with the two regulators, yourself, and representatives 

of the Treasury Department over these last several weeks. 

It seems they have made tremendous progress on many things, 

but it is clear that, on some things, they, themselves, will not come 

to a resolution. And I am just curious if you could give us some insight, particularly because of the timing of all this. 

You mentioned four or five different positions people have taken, 

and I didn’t fit in any of those categories. I am in favor of comprehensive reform, but, also taking our time to make sure we don’t 

cause unintended consequences. 

And, with that in mind, have you, in your mind, formulated what 

you would do, or have you considered a joint task force of Treasury 

and the Congress in a prepositioned position to start formulating, 

if they don’t agree on certain issues, what positions we can take to 

help facilitate the moving of this legislation on a faster track? 

Secretary GEITHNER. We would like to come to you with a recommendation before the deadline we put in the white paper, which 

was the end of September, because we know you want to move forward more quickly on this. 

And I agree with you, they have made a lot of progress but they 

are not there yet. And what we are doing is working closely with 

both agencies to try to explore options and bring them together to 

a position both can support. 

But, in that process, as you know, we are consulting very closely 

with both these Committees, so that we are working in parallel to 

a point that it is going to be, not just that we have them together 

with the Treasury on a common position, but that we are more 

likely to find the common ground that both your Committees can 

support. 

But we are not quite there yet. 

Mr. KANJORSKI. Well, I appreciate that. And, of course, anything 

that we can do on the Congressional side, we offer our assistance. 

Because I am getting a little pessimistic as to whether or not the 

deadlines we are setting are going to be met. And not that that 

would be tragic if they are not met, but we are causing great expectations constantly with these deadlines that make it look a little 

difficult, or perhaps the perception is that we are not being as successful as we hope we can be. 

Mr. Secretary, have you given up, and has the Administration 

given up, on the long-term prospect of joining these two agencies 

together, the SEC and the CFTC? 

Secretary GEITHNER. There are a lot of compelling reasons made 

by people in this room, and many others over a long period of time, 

for merging both those agencies. In our judgment it is a necessary 

condition and the most important and, in some ways the hardest, 

19

thing to do is to bring the underlying statutes and laws into conformity and convergence. 

We think that is the most important thing to do, in part because, 

as your colleague Chairman Frank said, the critical test of whether 

we do enough to improve the system is going to be what we do to 

the basic constraints and incentives, the substance of regulation. 

So what we proposed in the white paper to do is to begin with 

that task, which we think is going to be enormously difficult and 

complicated. And that would provide a better basis for the Congress to consider institutional reforms in the future. 

Mr. KANJORSKI. So you are not cutting short the fact—you are 

anticipating that we are going to do these preliminary reforms, and 

then continue on over a series of years with better reform. 

Secretary GEITHNER. Well, I think that is a judgment you would 

have to make. But, there is enormous value—and this is an enormously complicated task—in bringing those underlying statutes 

into conformity, so that you don’t have different standards, different entities, different enforcement authority over what are economically very similar types of products. 

Mr. KANJORSKI. All right. Thank you, Mr. Secretary. 

Chairman FRANK. I thank my colleague, although the prospect of 

several more years of this is not the happiest that is before me. 

The gentleman from Florida, Mr. Posey, is now recognized. 

Mr. POSEY. Thank you, Mr. Chairman. 

Mr. Secretary, I had a couple of questions I wanted to ask when 

you were before our Committee earlier, and each time something 

came up before I got to ask my questions. So, just to put things 

into proper perspective, I would like to pose a couple of them now. 

The stimulus bill was advertised to reduce unemployment and 

help us get back on track. It apparently hasn’t done that. I have 

seen some information which indicates, in fact, unemployment has 

gone up to about 91⁄2 percent from below 8 percent, instead of having the other effect. And I know the Vice President, the other day, 

said that it was something that the economy—that no one had anticipated and that they misread the economy. 

And I was just wondering where you think your plan went 

wrong. 

Secretary GEITHNER. Congressman, thank you for raising that 

question. 

I think if you step back and look at where we are today relative 

to where we were at the end of the year, we have achieved the 

critically important effect of helping slow the rate of decline in the 

economy, helped to stabilize the financial system. Business consumer confidence has improved very substantially. The rate of decline in economic activity globally has slowed and stabilized. Financial systems are starting to heal. The cost of credit, broad concern 

about catastrophic risk in the economy and the financial system 

has receded very dramatically. 

Those are critically important signs of initial progress, and they 

are due entirely to the actions this Congress took and the Administration took to put in place the largest recovery program in peacetime in the United States. 

The stimulus package is on its expected path, in terms of the 

rate of change, and in terms of putting money in the pockets of taxVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00025 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
20

payers, to provide substantial forms of assistance to states to reduce the risks that they are forced to fire tens of thousands of 

teachers, workers, and firemen. And there are very substantial investments in infrastructure products that have already started to 

take effect and will have their maximum impact on the economy 

in the second half of this year. 

So my own sense is, and I think this is a consensus of broadbased economists, that there has been substantial improvements in 

arresting what was the worst recession globally we have seen in 

generations. And those are the result of the actions this Congress 

took, the Administration put in place, and complementary actions 

taken by governments around the world to, again, help address 

what the worst crisis we have seen in a long period of time. 

Mr. POSEY. Mr. Chairman, the chart just indicates the opposite. 

It shows——

Secretary GEITHNER. No, I don’t think that is true. I don’t think 

that is true, Congressman. 

If you look at the dynamics of all recessions, even as growth 

starts to improve and turn positive, unemployment tends to continue to rise. That is the inescapable natural element of recessions. 

That is not an argument for not acting very forcefully in the face 

of crises of this magnitude. 

And so, I think, what the Congress did, what the President did 

was necessary and critically important, again, to reduce the risk 

that we see hundreds of thousands of further losses of jobs, we see 

millions of job losses beyond this point, and we see thousands more 

businesses fail unnecessarily. 

Mr. POSEY. You know better than me how cyclical they are—anyway, the next question is, we know, even in our districts, banks 

have money to lend, but they are not lending it. People have money 

to buy a new car, but they are not buying them. People have money 

to take a vacation, but they are not taking them. Consumer confidence isn’t what we would like it to be, and the money is not getting spent. 

And, personally, I think it is because they don’t know what is 

coming. The banks are afraid to loan it. They don’t know what the 

next issue is going to be, and we are looking, really, kind of, for 

a plan. 

Chairman FRANK. Let me just repeat again. If Members go right 

to the end of the time with their questions, the answer will have 

to be 10 seconds. But if Members want to have an answer, they are 

going to have to leave time for it. 

Mr. Secretary, briefly. 

Secretary GEITHNER. Households across the country borrowed 

enormous amounts of money relative to income in the run-up to 

this crisis. What the economy is going through is a necessary and 

very healthy adjustment, as families and the Government of the 

United States goes back to living within their means. 

That is causing a greater contraction and demand for credit than 

we normally see in recessions. And you are seeing a very healthy 

increase in private savings behavior, I think, probably in response 

to that. 

I think those are necessary healthy dynamics, although they will 

produce a slower recovery. 

21

Chairman PETERSON. I thank the gentleman. 

The gentleman from Pennsylvania, the Vice Chairman of the 

Committee, Mr. Holden. 

Mr. HOLDEN. Thank you, Mr. Chairman. 

Mr. Secretary, as you know, the majority of over-the-counter derivatives are traded here and in Europe. Have you been discussing 

your proposal with your European counterparts? 

And if you can come to an agreement with the European Commission and the European Parliament follows suit, what is to prevent these markets to go to some other nation with a less regulatory regime to follow. 

Secretary GEITHNER. That is a very important question. 

We have been working very closely with them, and there is very 

substantial convergence in overall approach. And, I think, the 

broad strategy that we are going to embrace here will be embraced 

in the UK, will be embraced in continental Europe, will be matched 

by the other major financial centers of the world. And, again, I 

think they see a broad interest, as do we, as do these Committees, 

in trying to raise the basic quality of standards in these markets. 

Now, of course, as many of you said, it is all in the details and 

getting those right. But we are trying to do something we haven’t 

done in the past, which is to move in parallel with other countries, 

that we are not left with a position that we raise standards substantially here and we just find that risk migrates to other countries. 

But, again, I am quite encouraged, and I think there is broad 

convergence in approach. 

Mr. HOLDEN. But if we come to an agreement with the Europeans, what is to stop the markets from moving to Dubai, Hong 

Kong? 

Secratary GEITHNER. Well, again, we are not going to stop with 

the Europeans. I think the important point is to say, in all the 

major areas of financial activity, you want to have global standards 

enforced more evenly, applied more effectively, for just the reason 

you said. 

Mr. HOLDEN. Thank you, Mr. Secretary. 

Thank you, Mr. Chairman. 

Chairman PETERSON. I thank the gentleman. 

I now recognize the gentleman from Virginia, the former Chairman and Ranking Member of the Committee, Mr. Goodlatte. 

Mr. GOODLATTE. Thank you, Mr. Chairman. 

Mr. Secretary, welcome. 

Sitting here in the august surroundings of the House Ways and 

Means Committee, with its fine audio system, and with our good 

friends from the Financial Services Committee along side us, some 

of us on the Agriculture Committee might say that they feel that 

they are sitting in ‘‘tall cotton.’’

However, I must say that, having said that and how much we 

appreciate you taking this time, I think this hearing is premature. 

The fact of the matter is that I very much agree with you that we 

need to have as much transparency in these markets as possible. 

But we also must have that much transparency and more in the 

deliberation of this legislation. It is critically important that you be 

22

able to answer questions from Members on both sides of the aisle 

about the specific details of legislation which does not yet exist. 

So I would ask you first, would you be willing to return to meet 

with these two Committees and answer our questions when we actually have the substance of the legislation in front of us and can 

get more precise answers from you? 

Secretary GEITHNER. I would respond to any invitation by your 

Chairmen to come before you and help make the legislative process 

work on the pace that is appropriate. 

Mr. GOODLATTE. That is a good answer. And I would convey to 

both Chairmen my hope that they will make this an open and bipartisan process and assure us that, once the legislation is in writing, that we won’t rush to mark it up without having the opportunity for the millions of Americans who are very much affected by 

it as well as their Representatives having the opportunity to ask 

the questions that need to be asked. 

In particular, I would note that you had indicated you hope that 

the Members of the Committee would write legislation that would 

establish broad principles upon which, then, the various agencies 

would write the particularity in the regulations. But we don’t even, 

at this point, have those broad principles in front of us to know 

how we think that process would work. 

But let me ask you specifically about one area that is of considerable concern to me and many others. You told us that the SEC and 

the CFTC are still working on how best to divide up the jurisdiction over the OTC derivatives markets and dealers. When this division of jurisdiction and responsibility is finalized, does the Administration intend that each agency would exercise exclusive regulatory jurisdiction over their assigned area? 

The exclusive jurisdiction provision of the Commodity Exchange 

Act has worked well to avoid regulatory duplication and conflict. 

And I would hope that it would be built into the legislation on OTC 

derivatives, as well. Can you confirm to me that it will be? 

Secretary GEITHNER. Good question. There is a lot of merit in 

that approach. And I would say that probably because of the precedent established, that is the presumption we are going to bring to 

this. 

But, again, until we see the full package and have a chance to 

walk you through that, I don’t want to respond in detail—or I don’t 

want to get ahead of the delicate, careful process we are trying to 

work through now with those two agencies. 

Mr. GOODLATTE. I see that you have the same problem that I 

have with this process, then. And I wonder if you could——

Secretary GEITHNER. Well, yes Congressman, of course, I agree 

that it is going to be all in the substance and the details of this. 

And we do carry the burden of presenting before you detailed proposals in legislative form so that you can consider those recommendations. And we are going to deliver on that commitment. 

Mr. GOODLATTE. I thank you. 

I wonder if you would be willing to assure the Committees that 

you would get back to us on that specific question in writing once 

you have the information in front of you that would enable you 

to——

23

Secratary GEITHNER. Absolutely. I think that when we propose 

our recommendations on how to solve these jurisdictional questions, a necessary part of the answer will be a response to the 

question you raised. 

Mr. GOODLATTE. Thank you, Mr. Chairman. 

Chairman PETERSON. I thank the gentleman. 

And I would just remind the gentleman that we marked our bill 

up and passed it out of the Committee in February under an open 

process. It has been out there since then. I think we can assure you 

that we are going to continue that open process. 

We are having a hearing here today, and we are probably not 

going to get around to this until, maybe, September, so we are 

being as open as we can be. 

Mr. GOODLATTE. Mr. Chairman, if you might yield on that point, 

would that be an indication that we might actually have a hearing 

on the legislation itself rather than the subject? 

Chairman FRANK. Of course. I am puzzled by the inference that 

we didn’t plan to do that, and I am puzzled by the argument that 

it is premature to have a hearing. I didn’t subpoena the gentleman 

here. He is free to go off and do other things. But I would think 

having a hearing well in advance of when we actually start to get 

the legislation would be seen as a useful part of the process, to 

begin to open the subject up. Of course there will be a hearing on 

the bill itself. 

Mr. GOODLATTE. If the gentleman would yield, if that is coupled 

with a follow-up hearing on actually what we are going to do, then 

I would agree with the gentleman. 

Chairman FRANK. Yes. But the gentleman said it was premature. 

I must say, that is an odd accusation that now——

Mr. GOODLATTE. It is not an accusation. It is a question. 

Chairman FRANK. Well, ‘‘premature’’ is not a question. It is at 

least a description. Maybe the gentleman regards it as something 

good to be premature; I have never done that. But the point is that 

we are having a chance now to air the questions. 

I now recognize the gentlewoman from California, Ms. Waters. 

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

There is substantial attention given to OTC derivatives in your 

testimony. And, as you know, I have been talking a lot about credit 

default swaps. And I remember what you told me the last time I 

asked you; you said that if we ban credit default swaps, they will 

just emerge in another way, that the sophistication and creativity 

of those who deal in these markets is such that they will just find 

another way to do what they want to do. 

Basically, what I am reading from your testimony is that you 

think that credit default swaps are necessary. However, this country did very well without them for a long period of time. 

If credit default swaps do such a good job at diffusing risk, why 

did so many financial institutions lose so much money, even when 

they were using credit default swaps as a hedge? Doesn’t this prove 

that these products are more dangerous than originally thought? 

And why not ban credit default swaps? 

Secretary GEITHNER. I think, as I said in my testimony, the principal risk these instruments presented came from the fact that a 

set of institutions wrote a lot of commitments without capital to 

24

back those commitments. And the regulatory authorities of the nation charged with policing these markets to prevent fraud and manipulation were not given authority over those basic markets. We 

are proposing to address those two critical features. 

Now, this country has decades of experience with derivative 

products of all classes. They provide, as many of your colleagues 

have said, an important economic function in helping companies 

and businesses across the country better hedge against their risk. 

And, our responsibility and job is to make sure that those benefits 

come with appropriate protections for financial stability of investors and consumers. And that is the package of reforms we have 

proposed. 

Ms. WATERS. Mr. Secretary, you are talking in your testimony 

about all of these steps that it will take in order to supervise and 

manage and oversee credit default swaps. 

If you have to work that hard at trying to make them more substantial in terms of having the collateral to back up the risk, why 

do you have to do them at all, if you have to work this hard at it? 

Secretary GEITHNER. I don’t think we have to work so hard, but 

Congress has to legislate the authority to make that possible. And 

that authority didn’t exist before, and we are proposing Congress 

provide that authority. 

But I don’t think it is a challenge beyond the capacity of the people in this room, or in the Congress, or the regulatory authorities 

to do that. 

Again, we are proposing, in some sense, to extend and recreate 

and apply the protections that have existed in the range of other 

markets to these markets where they did not exist. And that is not 

a task that is too complicated for us to manage. 

Ms. WATERS. Thank you, Mr. Chairman. I yield back. 

Chairman FRANK. The Ranking Member of the Financial Services Committee, the gentleman from Alabama, Mr. Bachus, for 4 

minutes. 

Mr. BACHUS. Thank you, Mr. Secretary. 

Mr. Secretary, on more than one occasion, you have said we are 

not going to make the system stronger by banning products. 

Doesn’t the proposal give that authority to the Consumer Finance 

Protection Agency, and do it without any review or oversight? 

Secretary GEITHNER. Well, it is true that, in the consumer credit 

area, where we have seen just terrible examples of predation and 

failure of basic underwriting standards, basic protections for consumers, we are proposing to give this new agency comprehensive 

rule-writing and enforcement authority. And, in this context, we 

would expect them to proscribe certain types of marketing practices; and, that would be appropriate, given what we have been 

through. That is an approach that has, sort of, come in lots of other 

areas before. 

But I do think it is important to recognize—and if you look at 

what the Congress of the United States did in the wake of the 

Great Depression, we put in place this comprehensive set of reforms to help protect consumers and investors and depositors to ensure the integrity of market functioning. 

What we are proposing to do is in the spirit of that. In many 

ways, the big mistake we made as a country was we allowed a 

25

huge array of activity, financial activity, to build up and exist outside those protections. But——

Mr. BACHUS. Mr. Secretary, they would be allowed to ban products, though. 

Secretary GEITHNER. They would be allowed. There are some 

consumer practices that we believe should not be permitted. But 

we are proposing that the Congress establish the basic standards 

that would govern regulation in those areas. 

Mr. BACHUS. So their actions would have to be based on existing 

statutes? Or could they go beyond those? 

Secretary GEITHNER. No. No, I think we are going to propose 

that you legislate a framework of standards that would help shape 

and govern regulation and rules that that agency would write and 

enforce. But that is a responsibility that you would have to set initially. 

Mr. BACHUS. You know, you have said—I am just following your 

testimony—sometimes you don’t believe in banning products. But 

you have said they can prohibit certain products if they are not appropriate for consumers. Now——

Secretary GEITHNER. Well, Congressman, if you are asking, 

again, whether we think it is appropriate in the consumer protection area—again, this is the marketing of financial products to individual consumers—there are some practices that I do think 

should be proscribed. 

Mr. BACHUS. Right. 

Secretary GEITHNER. But, again, I think the statue would have 

to describe, in some sense——

Mr. BACHUS. I am not arguing with you. I am just—but, now, 

what would be the determinant on whether a product was appropriate? What if it was appropriate for 95 percent of the population 

but not for five percent? 

Secretary GEITHNER. Well, I think that is exactly a good way to 

frame the basic dilemma. And, the centerpiece of our proposed approach to reform in this area is to encourage more simplicity and 

standardization so that consumers have the choice of a more accessible, easier-to-understand suite of financial instruments. But they 

would still preserve the option, in our proposed frameworks, to 

adopt or embrace a different type of product, a less standardized 

product. 

So I think there is less contrast in the basic philosophy on the 

consumer side and this other area than I think you are implying. 

Mr. BACHUS. Who would review their actions? You know, with a 

lot of the Fed’s actions you have said the Treasury would have to 

have approval there. Who is the reviewing authority over the Consumer Finance Protection Agency? 

Secretary GEITHNER. Well, Congressman, I am not a lawyer or 

a student of administrative law, but my belief in this context is the 

Congress is accountable for, and these agencies would be accountable to the Congress under the basic model that exists for the 

SEC——

Mr. BACHUS. Would we have to approve their actions? 

Secretary GEITHNER. Not their individual actions, no. But the 

statute would establish, as it does for the CFTC and the SEC 

today, that basic relationship. 

26

Mr. BACHUS. All right. 

Let me ask you something else. Back in 1998—and I will just ask 

this—Larry Summers testified in the Senate against the notion of 

regulating derivatives. Among the things he said is, ‘‘It would cast 

the shadow of regulatory uncertainty over an otherwise thriving 

market, raising risk for the stability and competitiveness of the 

American derivatives trading. Even small regulatory changes could 

throw the whole system out of whack.’’ That was after Chairman 

Boren proposed regulating derivatives. 

What has changed? Or do you have those same concerns today? 

Secretary GEITHNER. I think there has been dramatic changes in 

the basic scale, design, and development of those markets. And 

even though, as I said in my testimony, the failures in those markets were not the principal cause of this crisis, they did cause substantial damage. And I think that justifies substantial reform. 

Mr. BACHUS. Sure. And I am not saying it hasn’t changed. But 

I guess I would say, do you still share some of his concerns? 

Secretary GEITHNER. The proposal the President laid out reflects—and, of course, I played a substantial role in shaping those 

proposals—my judgment, our collective judgment about what is appropriate, given the risk we have seen illustrated by this crisis. 

Chairman PETERSON. The gentleman’s time has expired. 

Mr. BACHUS. Thank you. 

Chairman PETERSON. The Subcommittee Chairman from Iowa, 

Mr. Boswell. 

Mr. BOSWELL. Thank you, Mr. Chairman. And thank you both for 

this hearing. 

Mr. Secretary, you are well aware that the market price in agriculture has been very volatile, and it is a concern. Experts tell me 

that the population of the world is growing by 90+ million per year. 

Food is important. 

And I just want to say this: Please remember in all those discussions you have, that we have—we are envied around the world. We 

have the most plentiful, the safest, and the least expensive food in 

the world because Maxine and I—she lives in LA and I live in 

Iowa, but we contribute the same and we get something. We get 

what I just said. So keep that in mind. 

Now, I am concerned about over-the-counter, all these derivatives 

transactions will need to be registered with some agency. Would 

this include rural entities using derivatives like grain elevators? 

They have to hedge; they have to be careful. They get caught out 

there in a weak position, and they can go down, and there is no 

market out there in the marketplace for the producer. 

Secretary GEITHNER. Congressman, if I understand your question 

correctly, we are preserving, and I think it is appropriate to preserve, the ability of grain elevator operators, a whole range of companies and businesses across the country, to make sure they have 

the ability to hedge against this unique and specific risk they face. 

But, again, the markets as a whole, even in those customized 

areas, need a greater level of transparency, oversight, and protection. 

Mr. BOSWELL. Well, thank you. 

And, Mr. Chairman, I am going to use my remaining time to 

make a statement. 

27

I am getting frustrated. I just heard my colleague from Florida 

a minute ago ask him, where did you fail? Now, wait a minute. 

Let’s just review this for a minute. We all ought to be involved in 

making this a success. Dammit, it is time to get together. 

Here we are, just review a little bit. Let’s go back. Last Adminis- tration, $700 billion was asked for us to catch things up. And then 

unbeknown to many of us, the Fed spent $800 million. That is $1.3 

trillion. And so, by as early as February, I believe it was, folks are 

saying across the aisle, ‘‘Look what you have done to us.’’ Horse 

feathers. That is just not the way it happened. 

Now, let’s think of this. Dr. Kagen, I am looking right at you. Recently I had a loved one at the Mayo Clinic. There were many doctors, and I asked them time and again, ‘‘Is getting well thinking 

you can get well? Is that about 90 percent of it?’’ And every one 

of them said yes. 

Well, this country is in that position. We have to get well. And 

we ought to all be hoping and praying that we are going to make 

this thing work, and quit picking fault with it and saying why it 

won’t work. And then if you want to politicize afterward and take 

over the majority, go for it. But let’s get this country back in shape, 

and let’s do it together. 

Chairman PETERSON. I thank the gentleman. 

One of our Subcommittee Ranking Members, Mr. Moran from 

Kansas. 

Mr. MORAN. Mr. Chairman, thank you. 

Secretary Geithner, it is too infrequent that we have the opportunity to hear from you and to have a dialogue. And I am going 

to ask questions, or at least ask you to respond to some thoughts 

that I have somewhat unrelated to the topic of today’s hearing. 

But most of the banks in my state did not contribute to the financial crisis that our country faces today. They did things right. 

We still have bankers who say, ‘‘No, I am sorry, I can’t make this 

loan; you can’t afford to repay it.’’

And yet, my banks, which ultimately affect my constituents, are 

facing an increasing and uncertain regulatory environment. Examinations are becoming perhaps more frequent, but the uncertainty 

of the exam is clearly there. The FDIC insurance premiums have 

increased. And we now hear of a new consumer financial product 

safety commission with potential additional regulations upon 

banks. 

And, again, I want to stress that the banks that we have at home 

are not the financial institutions that we have been engaged in in 

regard to Wall Street. 

The consequence of this uncertainty is direct upon the economy. 

I have had this conversation with officials at the Fed. And, while 

the Federal Reserve has lowered interest rates in hopes of encouraging consumers to borrow money and to consume, the regulatory 

environment, particularly with the examinations, has discouraged 

banks from making loans. 

So we are at cross purposes, it seems to me, as we try to improve 

the economy. That uncertainty lends itself to borrowers that I visit 

with who say, ‘‘We are current, our company is making a profit, 

and yet our banks can’t tell us whether they are going to reauthorize/renew our loans.’’

28

In addition to that, it means potentially higher interest rates, 

which will reduce the demand, therefore potentially stifle the economy. And, ultimately, the increasing cost of being in the banking 

business means that we will see increased consolidation. And, yet, 

one of the theories, at least that I think we have operated under, 

is that we want to avoid institutions that are too big to fail. 

And, yet, many of the things, it seems to me, that are happening 

at the Department of the Treasury and within our financial system 

is increasing the role for consolidation. Increased cost of being in 

business means that we are going to spread the cost, as best we 

can, among a larger group of banks. And so we see continual consolidation in the industry. 

My point is that, while it is damaging to my bankers, it is ultimately damaging to their borrowers, which is ultimately damaging 

to the United States economy. And I would appreciate any response 

that you might tell me that would give me comfort that that is recognized in the counsels that you are engaged in. 

Secretary GEITHNER. It is absolutely recognized, and it is a significant issue of concern. 

But, what is causing those pressures on both borrowers and 

banks is the fact that large parts of the financial system in this 

country just took on too much risk during the boom. And the costs 

of that—it is fundamentally unfair, but that is what happens in financial crises—fall not just on those who took too much risk, but 

they fall on a bunch of businesses and banks across the country 

which were very responsible and prudent. 

And that is why these things can be so damaging. And that is 

why it is very important that we do everything we can to put a better foundation for recovery in demand and growth, and try to make 

sure that the financial system has capital where it is necessary, 

and that these markets for credit start to get moving again. And 

that is the basic philosophy that has underpinned everything we 

have done. 

You are also right that there is a risk in financial crises that people overcorrect; that, after a period of taking on too much risk, that 

they take too little. People that got way overextended pull back too 

much. And that can cause, also, a lot of collateral damage. And, 

again, that is the basic rationale in a financial crisis for trying to 

make sure you do as much as you can to provide enough support 

for the economy to get back on track. 

But, I am very much aware of the concerns you expressed. I believe that the principal bank supervisors are, too. They are carefully managing those risks. And you are also right that any time 

you think about reform to legislation in the financial area, that is 

going to come with a period of uncertainty. We need to minimize 

that uncertainty. 

And, that is one reason why we want to bring clarity, relatively 

quickly, to the rules of the game that govern our financial system, 

going forward. If we were to wait years to do this, the markets 

would be left with a greater period of uncertainty, and that might 

deter more lending and risk taking. 

Mr. MORAN. I simply would ask that you continue to differentiate, or begin to differentiate, in my opinion, the difference between the significant financial players, and those that are out there 

29

in the business every day of making loans to more consumers to 

buy an automobile, to purchase a home, to plant a crop. 

It does seem to me that differentiation between those kind of 

banking institutions and the financial institutions ought to be—

they ought to be treated differently. And I would hope that that 

would be the case. 

Chairman PETERSON. The gentleman’s time has expired. 

Secretary GEITHNER. Mr. Chairman, could I respond very, very 

briefly? 

Just want to say, I completely agree. And the approach we have 

taken is to apply more exacting standards to the largest institutions than we are to the 9,000 banks across the country that are 

in a somewhat different set of circumstances. 

And we are very committed to make sure that we have preserved 

that basic balance. A great strength of our financial system is that 

we are not a nation of three banks, or four banks, or five banks, 

or ten banks, which is true across many industrial economies. We 

are a nation of 8,000, 9,000 very diverse financial institutions. And 

that is a source of resilience and strength, and we want to preserve 

that. 

Mr. MORAN. Thank you for your answer. Thank you for listening 

to my point. 

Thank you, Mr. Chairman. 

Mr. KANJORSKI [presiding.] The Subcommittee Chairman of Domestic Policy, the gentleman from North Carolina, Mr. Watt. 

Mr. WATT. Thank you, Mr. Chairman. 

Mr. Secretary, I am over here, right in front of you, behind this 

tall guy. 

Last year, our mutual good friend, Rahm Emanuel and I, and 

Sue Myrick, our bipartisan cosponsor, introduced a bill calling for 

a pilot program to execute interest rate swaps on a transparent 

electronic execution platform. People perceived that he was from 

Chicago and was the CFTC guy, and I was from Charlotte the 

banking side guy, and we came together on this notion that that 

was a good thing. 

I note that that is an important part of your proposal this year, 

and I want to ask you two questions about it. This is not a clearinghouse or an exchange. There is something before you get to that. 

And it seems to me that the regulators could already be mandating 

this part of what you have proposed in legislative form now. 

So the first question is, do you see that the regulators—Comptroller of the Currency, the other regulators—are really aggressively pushing that notion to your satisfaction, even before this legislation is passed? 

And, number two, I have been somewhat disappointed that, because we have control over Fannie and Freddie, no direction has 

really been given to them to use aggressively these electronic trading platforms. So I would like to have your assessment of whether 

you think that would be a good idea, and when that might be in 

the works. 

Secretary GEITHNER. Congressman, I thought the basic spirit of 

your proposals when you proposed them were right. And you are 

right that we have adopted the basic recommendation, not only to 

have central clearing of standardized products, but we want those 

30

to be traded on either organized exchanges or on transparent trade 

execution systems, for the reasons you proposed. 

I don’t believe, though, that we can move substantially in that 

direction without the legislation being clarified. So my own sense 

is we need to get the broader legislation in place before we can 

bring about this broad transformation in that market activity. 

I do believe, though, that the economic benefits of, not just central clearing, but more exchange-traded and transparent electronic 

trading for some traded products in these areas, is are going to be 

very compelling to the users in these markets. So I believe, once 

the legislative framework is clarified, that you are likely to see 

much, much greater use of those platforms. 

Mr. WATT. What about the Fannie and Freddie——

Secretary GEITHNER. Including by all users and beneficiaries of 

those types of products. 

Mr. WATT. I mean, we have control over Fannie and Freddie 

now. Wouldn’t we be in a different position with respect to them 

to insist on a more aggressive, forward-looking approach to this 

than we would be, possibly, with private-sector entities that are 

under regulation? 

Secretary GEITHNER. Well, in many ways, because of what Congress proposed, the legislative framework over Fannie and Freddie 

has come closer to match what exists for banks and regulated financial institutions. But I think you want the market to move in 

this direction as one. And, again, I think there would be good risk 

management benefits for moving in this direction and good economic benefits. 

So, once we have the broad framework legislated, I think you are 

going to see very substantial movement in that direction. 

Mr. WATT. Thank you, Mr. Chairman. I yield back. 

Mr. KANJORSKI. Thank you, Mr. Watt. 

The gentleman from Texas, Mr. Neugebauer. 

Mr. NEUGEBAUER. Thank you, Mr. Chairman. 

Thank you, Mr. Secretary, for coming. 

We had a little bit of a dialogue, the other night, about capital 

and equity, and I want to go back to that. Because when we look 

at the standardized and the customized transactions, the question 

I have is—I hear you talking about margin requirements, capital 

equity. 

In traditional commodities, the clearinghouses set the margins 

for clearing those transactions. The regulator then determines 

whether the clearing agency has adequate capital for the activities 

they are involved in. 

As we move to the trading of these derivatives, do you see that 

same structure? Because, sometimes, I hear you saying that the 

regulator would start setting the margin requirements for these 

transactions. And I wanted to be clear about my understanding of 

where you are on that issue. 

Secretary GEITHNER. Congressman, I think you said it right. I 

think for central counterparties, central clearinghouses, they design the margin rules, they design the financial safeguards against 

default by a member, by a participant. 

The regulators have an important obligation to ensure, because 

central clearing can concentrate risk, that those safeguard margin 

31

cushions are adequate. That is an important obligation of the 

CFTC and SEC under our basic framework. And you want to make 

sure that people don’t compete, take advantage of the existence of 

multiple agencies to try to attract volume and activity by having 

imprudently thin margins and cushions in central counterparties. 

For those products that are not centrally cleared, it is very important that there is capital margin required through supervision 

and regulation against the risk those positions impose. 

So I think you need to have that basic balance. But it depends, 

the approach varies depending on whether it is the centrally 

cleared stuff or the products where the risk is still bilateral. 

Mr. NEUGEBAUER. And looking at the customized products that 

aren’t going to be cleared in this regulatory structure that you are 

going to propose, where would the margin requirements and capital 

requirements for the customized transactions, where do you see 

that falling? 

Secretary GEITHNER. I think that is a judgment that is going to 

have to be reached in cooperation between the SEC, the CFTC, and 

the Federal Reserve. Because, again, I think you are going to have 

a bunch of different entities in these markets; they are going to 

have different regulatory authorities. Well, we want to make sure 

that there is going to be a common approach that is sufficiently 

conservative. That is a similar approach we bring to thinking about 

the design of capital requirements generally. 

Mr. NEUGEBAUER. How would you—with multiple entities like 

that involved, what kind of coordination needs to happen so that—

as you have alluded to a couple of times, shopping places to do 

business. So if you have the Fed, the SEC, CFTC trying to have 

jurisdiction over a particular clearing opportunity or a particular 

customized transaction, how would that coordination happen? 

Secretary GEITHNER. Better than it has. It is going to have to be 

substantially better than it has. 

Again, the important imperative is there has to be an appropriately conservative capital margin requirement set across the 

core institutions in these markets and the areas where risk is centralized. And that has to be—and this is critically important—has 

to be enforced more evenly. 

If you just take the example of banks and thrifts, they had nominally similar capital requirements. Because of very different enforcement regimes, a lot of banks chose to become thrifts. A lot of 

institutions were set up to take advantage of what they thought 

were lower, weaker enforcement standards. 

So you need both stronger standards set uniformly with more 

consistent enforcement across the basic entities. And it is harder 

to do than it is to say. 

Mr. NEUGEBAUER. Well, you wouldn’t foresee forcing, requiring 

these customized transactions to have a third-party counterparty to 

hold those transactions. 

Secretary GEITHNER. I think the definition of a customized product in some ways is that it is not so standardized that it could be 

centrally cleared. The risks are complicated enough that a clearinghouse would not want to, or would not believe it could, adequately 

manage those risks. 

32

Now, that is not a detailed enough standard to divide the line between standardized and customized, but I think that is the way to 

think about the economic difference between them. 

Mr. NEUGEBAUER. Thank you. 

Chairman PETERSON. The gentleman’s time has expired. 

Now recognize the Chairman of the Livestock, Dairy, and Poultry 

Subcommittee, from Georgia, Mr. Scott. 

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

I am over here, Mr. Secretary, over here in the corner. I would 

like to see if I could squeeze in a couple of questions. 

First of all, I have a concern that your proposal could very well 

force non-financial dealers to meet capital requirements in order to 

provide legitimate managed risk. But, given that these non-financial dealers do not have depositors, unlike large financials, and a 

low or no systemic risk profile, is it possible that such a requirement could unintentionally create a bank monopoly in the over-thecounter derivatives market? And wouldn’t that reduce competition, 

reduce liquidity, raise prices, and increase systemic risk by consolidating the markets? 

Secretary GEITHNER. I don’t think so. But you are right; if that 

were the result of what we are proposing, that would be a subject 

of concern, both to us and to many other people. 

But maybe I could respond this way. The centerpiece of our proposals is to make sure that the major participants in these markets, because of their importance to the economy, be held to more 

exacting standards, higher, more constraining requirements for 

leveraging capital in the future. 

And that is one way to protect against the risks that both you 

and Ranking Member Bachus have pointed out. So, more exacting 

requirements for the major participants will help reduce that risk. 

Mr. SCOTT. Well, why would we not just have those capital requirements limited to firms whose failure could, indeed, create the 

systemic risk to the U.S. economy? 

Secretary GEITHNER. I think, again, you need to have capital 

backing risk where risk is taken and where entities are taking 

short-term liabilities, borrowing short-term and taking longer-term 

risk. That requires capital to protect the system. 

If you don’t apply a uniform set of prudential requirements 

around those entities, then what will happen is the risk will migrate to those parts of the system where there are lower standards, 

as we have already seen in this financial crisis. So that is important to guard against. 

Now, that doesn’t mean you have to be completely comprehensive, but you have to capture enough of the core participants that 

you avoid that risk. 

Mr. SCOTT. Another area that I am concerned about is, we are 

going to be doing some sweeping limits on the trading of energy derivatives. Take, for example, oil, which to me is what has really 

been the driving force behind the call for increased regulation of 

over-the-counter markets. 

Oil, as you know, is globally traded, and its price is set not solely 

by activities in the United States market, but by other markets. So 

I find it kind of dubious that we can control speculation and hold 

down the price of oil simply by unilaterally regulating our markets. 

33

Would not businesses simply move to less regulated markets 

and, in effect, diminish our opportunity to legitimately hedge in the 

domestic markets? 

Secretary GEITHNER. I share that skepticism and concern, and I 

think you are right in seeing it that way. 

I think what the CFTC Chairman proposed the other day, and 

what is an appropriate approach to think about policy in this area, 

is to look for ways to limit volatility. 

And it is very hard to not look at the last 2 years of pattern in 

the global energy markets, even though there has been such enormous shifts in confidence about the strength and weakness of the 

global economy, and not to believe we have seen a level of volatility 

that has been damaging, fundamentally, to the capacity of businesses to manage risk and damaging to confidence. 

And so it is worth trying to see whether you can, through better 

disclosure, limit that risk. Hard to do. Lots of people have tried it 

unsuccessfully. But, you are also right that, if you are going to do 

that effectively, you have to try and do it in a common approach 

where oil and other commodities are traded globally. 

Mr. SCOTT. So have other countries taken steps, or have there 

only been promises or loose commitments? 

Chairman PETERSON. I apologize. Nobody else has the timer but 

myself. The gentleman’s time has expired. So thank you, Mr. Subcommittee Chairman. 

Mr. SCOTT. Thank you. 

Thank you, Mr. Secretary. 

Chairman PETERSON. And I would like to—well, I have one more 

on my side, Mr. Chairman. 

Chairman FRANK. Oh, I didn’t know which capacity Scott was in. 

Scott’s a two-fer, not for the first time in his life. 

Chairman PETERSON. We had a two-fer over here, too, with Mr. 

Neugebauer. 

I would just like to announce that the Secretary has to leave 

about 1:10 or so. And there may be votes, I don’t know, 12:30, 

12:45. If that is the case, that will probably be the end of this. So 

I would just encourage Members, even though we had set this 4 

minute limit, if you could keep it to one question, we will try to 

get through as many Members as we can. 

The gentleman from Alabama, Mr. Rogers. 

Mr. ROGERS. Thank you, Mr. Chairman. 

And thank you, Mr. Secretary, for being here and for your service. 

I want to go back to the answers you gave Mr. Posey a little earlier. You know, I live in Alabama, and we have been devastated 

economically with the car industry. You know what is happening 

there with all the supplier plants. And I was on the phone this 

morning with a tractor dealer who is a large tractor dealer in Birmingham, who told me he has invested $70 million in recent years 

opening new stores throughout the South, but that he has completely lost confidence and is not going to open any more. He has 

had to lay off 250 employees, and have others take early retirements. 

I have another company in my district called Metalcraft, which 

makes wrought iron railings, the largest one in the world, for outVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00039 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
34

door furniture. They are having to go out of business because their 

bank, which is one of the banks that received TARP funding, has 

changed their lending criteria. And even though this is a profitable 

business, they can no longer get capital to work. 

I hear those stories, those anecdotal stories, all around my district of how we are in a crisis of confidence. People are scared to 

death. Even the people who haven’t lost their jobs are worried they 

are going to. 

So when I hear you answer Mr. Posey’s question with, ‘‘Business 

and consumer confidence has improved greatly.’’ ‘‘There has been 

a substantial improvement in arresting what is the worst recession 

in history,’’ how do I reconcile that with what I am seeing in the 

real world? 

Secretary GEITHNER. I think you are right, Congressman, that 

across the country, not just in your district, you still see businesses 

and families under enormous financial pressure. And you are 

still—and we are going to be living, for some time, with the consequences of digging out of this mess we started this year with. 

And so, in acknowledging and pointing out the fact that we have 

made very substantial progress in trying to repair the damage 

caused by this crisis and lay the foundation for recovery, we do not 

yet have an economy that is growing again. And, it is likely that 

this is going to take a while to come out of. 

But, that underscores, and the examples you pointed out, underscores the importance of this government doing everything we can 

to try to mitigate these pressures. And that is what the Recovery 

Act is designed to do, and that is what the programs we have done 

to help get credit flowing again are designed to do. 

And they are having their necessary desired effect; they are 

starting to get some traction. But you are absolutely right to emphasize that we have a ways to go. And, again, this is in families 

across the country that still feel they are under enormous financial 

strain. 

Mr. ROGERS. What timeline is ‘‘a while,’’ in your mind? 

Secretary GEITHNER. Well, again, this was a—it took us a long 

time to get into this. You know, as a nation, we just were living 

way beyond our means for a long period of time. People took on 

way too much debt. And it will take some time to work through 

that. 

But we are making progress. You have already seen a very substantial increase in private savings. As I said, that is a healthy, 

necessary process. Our current account deficit, which approached 

seven percent of GDP only 2 years ago, is now under three percent 

of GDP. 

We are starting to see this country get back to a point where we 

are going to have a stronger foundation for sustainable growth, 

going forward, but it is going to take some time. 

Mr. ROGERS. And that is a great point. You made the statement 

also a little while ago in answering one of the questions, tightening 

of spending and greater rate of savings is a healthy trait that we 

are seeing in our country. 

Why are we not seeing it in our government? That is what folks 

back home want to know. We are spending up here like drunken 

sailors, and it is all borrowed money. Why is it good and healthy 

35

for individuals and small businesses, but why aren’t we practicing 

what we preach? 

Secretary GEITHNER. I think, Congressman, that is an excellent 

question. We could debate this for hours. 

But the lesson of the financial crisis here in the United States, 

and around the world, is that when you face a loss of confidence 

and a loss of demand of this magnitude, when you have a financial 

system on the edge of collapse, the only path to mitigate the damage is for the government to do what this Congress did and this 

government did, which was to try to make sure you were providing 

support for investment, for targeted tax cuts, to try to get demand 

going again. 

That is necessary but not sufficient. It also requires making sure 

you stabilize the financial system and help get credit flowing again. 

And that is the basic strategy that this country, fortunately, has 

adopted. 

Mr. ROGERS. Thank you. 

Chairman FRANK. Thank you. 

And let me just say—and we only have the one timer—what we 

should do is a tap when a Member has 30 seconds left, because it 

is tough. So the next time, for questions, if you hear the one tap 

that will mean 30 seconds. It will give people a chance to wind up. 

And next is the gentleman from New York, Mr. Meeks. 

Mr. MEEKS. Thank you, Mr. Chairman. 

Thank you for your service. 

Let me ask—I learned, coming in here, that there is always a 

question of, and trying to think forward so that we don’t get involved in unintended consequences and things of that nature. And 

there are two concerns that I have and I will give examples of. 

For example, many small businesses use derivatives for legitimate risk management purposes that pose no systemic risk to the 

system. And many of these may opt out of, I am afraid, of hedging 

interest rates and currency risk if oil trades are moved to exchanges, and they can no longer customize and/or require homogenous collateral requirements. And this may lead to smaller firms 

doing more riskier things. So, that could be an unintended consequence. 

The concern with the dealer banks who rushed to establish proprietary exchanges and pushed their transactions to owned clearinghouses or exchanges, which would create—seem to be a strong 

incentive for this and could potentially stifle competition in the 

market and further concentrate the market, which could create 

more of a systemic risk. 

I was wondering if you could give us your thoughts. 

Secretary GEITHNER. I think you said it well. I think the risk is 

overstated that if we move to greater standardization and greater 

sense of clearing, more exchange trading, more trading on electronic trading platforms, that that would make it harder and more 

expensive for businesses to hedge risk. I think that is quite unlikely. But we are preserving, as I said several times, we are preserving the ability for small businesses and large businesses to engage in more customized, more tailored hedges against the specific 

and unique risks they face, in the event the standardized products 

36

don’t provide adequate protection. So we are preserving that capacity. We think it is important for the economic benefits you laid out. 

Mr. MEEKS. Let me just ask this question: There is some concern 

that pushing all derivatives to clearinghouses or exchanges will 

create the natural monopolies. I just want to talk, have a concern 

about that. But simply reducing the innovation factor and proper 

risk management system, should we consider creating some type of 

utility type clearinghouse? 

Secretary GEITHNER. I am worried about the same risk. But, 

again, I want to make clear, we are not proposing to force all derivatives onto exchanges, in part, because of the risks you pointed 

out. We are proposing to make sure that the standardized products 

that can centrally be cleared and traded on exchanges and electronic trading platforms, that more of that happens, because we 

think that will create a more stable system. But we are still in a—

with careful oversight, appropriate capital requirements, authority 

to address foreign manipulation, we also want to make sure there 

are adequate protections over the more tailored, customized derivatives area. 

Mr. MEEKS. Thank you. I yield back. 

Chairman FRANK. The gentleman from New Jersey, Mr. Garrett. 

Mr. GARRETT. Mr. Secretary, thank you. Your opening comments 

were to the tune of those people who think that we are moving too 

soon or that we don’t need change right now, or your third point 

was that smarter regulations might basically destroy innovation. 

Those people you said were——

Secretary GEITHNER. Those people are not in this room. 

Mr. GARRETT. Excuse me? 

Secretary GEITHNER. They are not in this room. 

Mr. GARRETT. Well, or you are saying they want the status quo. 

I appreciate that last little comment, because there are people here 

in this room who think that maybe we don’t want to move too soon, 

that we do want to be thoughtful about this. And maybe somebody 

else, before I came here, said that we want to be able to read and 

digest the entire legislation before, and some say that we want to 

do it at the appropriate time. And you are in agreement with that? 

Secretary GEITHNER. Well, I am absolutely in agreement that we 

need to get this right. I am absolutely in agreement that this is 

enormously complicated. I think you need to look at it comprehensively. You need to look at the entire package before you evaluate. 

Mr. GARRETT. To a point that you and I agree on, with regard 

to naked CDSs: Some people around here demonize these things. 

Would you demonize naked CDSs, or do you think that they actually play a valuable role that we should not be just totally outlawing them? I think we agree. 

Secretary GEITHNER. I am not sure I want to use the term demonize. I am not sure I would spend a huge amount of time extolling their merits. But, like across our financial system, it is important that people have the capacity to hedge risks that they face. 

Mr. GARRETT. Would you want to eliminate them? 

Secretary GEITHNER. I do not believe it is necessary or appropriate for us to abandon them. But I want to underscore, as we 

have said, we do believe there needs to be comprehensive oversight 

over these markets, both the standardized and the customized. 

37

Mr. GARRETT. And we do that because we want to get to the underlying causes that brought us to this morass in the first place. 

Right? 

Let’s take a look at one of those pictures which is always on the 

front page, the AIG situation. The AIG situation, with the derivatives that they were involved with there, the underlying problem 

there was, what, mortgage-backed securities. Right? 

Secretary GEITHNER. Right. 

Mr. GARRETT. Those instruments, as far as I understand, would 

not be by any stretch of the imagination a standardized product. 

Is that correct? 

Secretary GEITHNER. I am not sure which way you are going with 

this. But, you are right to say in the AIG case and in the case of 

the monolines, the largest part of the protection they wrote, and 

ended up with, could not back with capital were credit protection 

on real estate-related asset-backed securities. 

Mr. GARRETT. But the products that they were dealing with 

would not be defined as a standardized product that would necessarily be able to go through a clearinghouse. Is that correct? Because you are dealing with these underlying mortgage-backed securities which are all over the spectrum, all over the field; and, therefore, to try to say we are going to standardize them might be problematic. 

Secretary GEITHNER. I agree. But, again, our proposals would get 

at the core of that specific problem, though, by trying to make sure 

that there is sufficient capital held against commitments financial 

institutions make to hedge against certain risks, regardless of how 

they do it. We are addressing the core of that basic problem. 

Mr. GARRETT. And you would do that, though, with the AIG type 

situation: not because they would be able to go through the clearinghouse over here and be standardized and create liquidity over 

here, but because they would be nonstandardized products and you 

would raise stricter capital requirements in order to facilitate 

them. 

Secretary GEITHNER. And on the firm as a whole. But, again, the 

capital is central to this. A core part of what brought the system 

to the edge of collapse was inadequate capital against a range of 

commitments, banks, and institutions like AIG made. 

Mr. GARRETT. Okay. One last area in 30 seconds: In the energy 

field—I don’t know if anybody else talked about this. Is it not problematical for those who deal in the energy area to have those capital requirements, to potentially have the elimination of the naked 

swaps as well because of the nature of that industry and the nature of the trades of those and the liquidity, and the inability to 

put the capital behind it, at least under the system that we have 

now? 

Secretary GEITHNER. I don’t think what we are proposing has 

that risk. But, of course, we will look carefully at any concerns in 

that area. I don’t think what we are proposing has that risk, 

though. 

Chairman FRANK. I apologize, I didn’t pay attention to the 30 

seconds. I apologize. 

Mr. GARRETT. You want me to keep going? 

Chairman FRANK. No. I have never had that motion. 

38

Chairman PETERSON. The gentleman from California, Mr. Costa. 

Mr. COSTA. Thank you very much, Mr. Chairman. I thank both 

Chairmen for holding this important hearing. And thank you, Mr. 

Secretary. 

I want to focus my questions in the area of commodities. I represent a large agricultural area, and obviously commodity trading 

is very important. You have spoken about a good way to avoid the 

future AIG situations as to ensure that all parties have a stake in 

the game, or skin in the action, or whatever you want to call it—

skin in the game, I guess. I think that is more achievable in terms 

of the financial institutions, but commodity hedgers don’t generally 

have the same access to cash and capital in order to be a player 

in these markets. Their assets oftentimes tend to be tied up in reinvestments and their own company growth. 

What sort of impact do you think this is going to have on capital 

requirements on nonfinancial entities that have an appropriate role 

to be engaged in this market and to have the access to it? 

Secretary GEITHNER. Congressman, we will take a careful look at 

that. And, again, as people see the details of these proposals, they 

raise those concerns, then we would be happy to work with you on 

how to address that. 

You know, we are not trying to—we want to get the balance 

right. And, again, a systematic source of problems across our finance system was inadequate capital, people taking risks that they 

did not understand, could not support. So we want to make sure 

we fix that. But we are going to try to be careful to get the balance 

right, and we will be happy to respond to any detailed concerns 

raised when you see our proposals. 

Mr. COSTA. The balance, I agree with you, we have to get it 

right. But is it possible you think that in terms of trying to do that, 

that we are consolidating these types of trades in the hands of financial institutions that do have access? 

Secretary GEITHNER. Again, I don’t think that is the likely consequence of what we are proposing. But, again, we would be happy 

to respond. 

Mr. COSTA. Because I am concerned about consolidation, getting 

back to the point of being too big to fail. I don’t want to go there. 

Secretary GEITHNER. I share that concern. 

Mr. COSTA. We have been there. 

Secretary GEITHNER. I share that concern. And, again, I don’t 

think our proposals carry that risk. But we would be happy to respond to any concerns raised by them. 

Mr. COSTA. In the same ballpark, in follow-up to Congressman 

Scott’s question, you talked about capital requirements being uniform between financial and nonfinancial traders. How would you 

visualize that taking place between commodities, a company continuing to participate in the market, if they are required to have 

an extensive cash capital? 

Secretary GEITHNER. Congressman, again, I am not sure that I 

can be responsive now. But, again, my principal concern—our principal concern has to be by making sure that financial intermediaries provide the basic economic function that Chairman 

Frank outlined at the beginning of the hearing. Those intermediaries, because of the leverage they take on, should hold adeVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00044 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
39

quate capital against risk. That is the centerpiece of our proposals. 

But I have heard your concerns, and would be happy to work with 

you to make sure we address those concerns. 

Mr. COSTA. Final question, moving over to community banks 

which provide an important source of lending in my communities. 

Under the framework, you are saying that agencies also will have 

the ability to subject banks to additional capital requirements. 

That is not new, of course. How does the Administration plan to 

do that? You know, it has been tried in the past. 

Secretary GEITHNER. Sir, to subject the largest institutions to 

higher capital requirements? 

Mr. COSTA. No. Community banks to higher capital requirements. 

Secretary GEITHNER. Again, we need to take a fresh, cold look at 

capital requirements across the banking industry, banks, thrifts, 

large and small. Because my general view is—and I think this is 

supported by the evidence in the crisis—that those capital requirements did not provide sufficient protection. So in addition to looking at the entire framework of capital requirements across large 

and small banks, we are going to hold the largest institutions to 

more exacting standards. 

Mr. COSTA. Thank you very much. I yield the balance of my time. 

Chairman PETERSON. I thank the gentleman. The gentleman 

from Texas, Mr. Conaway. 

Mr. CONAWAY. Thank you, Mr. Chairman. Secretary Geithner, 

thank you for being here this morning. I have an observation and 

a question. And let me get them both out, and you can use the rest 

of the time in your response. 

You occupy one of the most important positions in this arena, 

and we need you speaking with the most credible voice possible in 

order to help lead this effort. I was startled when I heard your response to Mr. Posey, you went through a litany of things that have 

you turning the corner or looking like they are going to turn the 

corner. 

Secretary GEITHNER. No. I didn’t use those words. 

Mr. CONAWAY. Let me finish. That is fine. But then you followed 

up by saying, and you pandered to us and yourself and the Administration when you said that that was due entirely to the work of 

the Congress and the Administration. So that is not credible with 

me and maybe some other folks. 

The question I have, if we put this regulatory scheme in place, 

and none of us will get it exactly the way we want it. There will 

be some compromises that we will have to make. If we put that in 

place and business, and the rest of the world says no, thanks, we 

are not going to do it, as they said with climate change over the 

weekend. If business begins to go to active markets like Dubai and 

places where they are not as regulated, can you quantify for us the 

reduced role that America’s domestic financial markets will play 

worldwide with the consummate loss of jobs and wealth and influence across the scheme? 

Secretary GEITHNER. Congressman, I am very worried about that 

risk. I spent a large part of my professional life in trying to make 

sure we have more cooperation, more uniform standards, partly to 

reduce that risk. But my general view is that our system is strongVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00045 Fmt 6633 Sfmt 6601 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
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er, has been stronger over time where we were prepared to take 

the leadership role in strengthening protections for investors and 

providing greater protections against systemic risk. Where we got 

that right in the past, it proved to be a great competitive asset to 

our financial institutions and our markets in the past. I think that 

basic philosophy should underpin what we do. But as you pointed 

out, because technology has made it much more easy for capital to 

move where standards are lowest, we have to do a much better job, 

as we raise standards here, in trying to bring the world with us. 

And you will be able to watch with us how successful we are in 

that. But I believe deeply in the importance of that, and you are 

right to underscore the importance. 

Mr. CONAWAY. Well, I appreciate your recognition that there is 

some risk that if we don’t in fact get it right, and even if we do 

get it right, we may have to collectively agree that that is a result 

that we are going to have to live with until the rest of the world 

can catch up. 

So thanks for being here today. I yield back. 

Chairman FRANK. The gentleman from California, Mr. Sherman. 

Mr. SHERMAN. Thank you. We have folks who bought derivatives 

last year. And they didn’t just look at the capital that was available by the issuer; they said, well, this issuer is too big to fail now, 

maybe not; too interconnected to fail, maybe not; too well-connected 

to fail. And these derivative purchasers correctly realized that the 

taxpayer would bail them out, as it has. 

Today, derivatives are being sold, and the buyers of those derivatives are looking at their counterparty and they are saying, well, 

there may not be enough capital there. But one additional source 

of capital is there may be more bailout. 

Can you correct that misconception and make a clear statement 

now that derivatives that are sold today are not going to be the 

subject of bailouts for either the issuer or the purchaser, that capitalism is back? 

Secretary GEITHNER. Congressman, I understand your concern 

and I believe I share its fundamental premise. If we are going to 

be successful in creating a more stable system, we have to make 

sure that we address and reduce the moral hazard risk produced 

by the interventions expressed. 

Mr. SHERMAN. Mr. Secretary, even before we create a new system—I am talking about today, literally today—can you tell people 

who are buying derivatives today that they can’t look to the taxpayer for any kind of bailout should the issuing party be unable 

to——

Secretary GEITHNER. Again, Congressman, let me just start with 

your premise. A principal source of losses to the core of the financial system came from institutions like the monolines that are relatively small institutions. Nobody thought they were too big to fail 

and they received no assistance from the government, writing protection well in excess of their capital requirements. So I don’t think 

I believe in the basic premise of your question, although I share 

your concerns. 

Mr. SHERMAN. Mr. Secretary, I am not asking for philosophy 

here, whether you agree with me on the premise. I am asking a 

41

very simple statement: Is it at least theoretically possible that a 

derivative issued today will be subject to a bailout tomorrow? 

Secretary GEITHNER. Congressman, I just don’t think that there 

is an enormously complicated set of legal conventions around the 

diversity of financial products in our markets, and I don’t think 

that that question, as you phrased it, I can respond to——

Mr. SHERMAN. Let me ask the question a different way. Do you 

want to use this opportunity to tell the financial markets that 

there is no bailout or a possibility of one? Or do you want to use 

this opportunity to tell our constituents that derivatives being sold 

today might result in the bailout payments of tomorrow? 

Secretary GEITHNER. Congressman, what I want to use this opportunity to do is to lay the case for why we need comprehensive 

oversight and regulation of the participants in the derivatives markets and those instruments. 

Mr. SHERMAN. Mr. Secretary, I can understand why you prefer 

to answer somebody else’s question, but I get 4 minutes. It is a 

very simple thing. 

Secretary GEITHNER. You can ask it different ways if you want, 

but——

Mr. SHERMAN. I want a yes or no answer. 

Secretary GEITHNER. No, I am not going to answer that way, because what you are asking me to do is to give an irresponsible answer to a complicated legal question. And I am not going to add 

to what——

Mr. SHERMAN. What you are basically saying is that you think 

it would be irresponsible to tell people that derivatives issued today 

are not possibly going to get——

Secretary GEITHNER. No, I am not prepared to answer that question that way as it was framed. But I will happy to talk to you 

about this at any length you would like and try to make sure we 

come to a better understanding about the legal complexities. 

Mr. SHERMAN. I look forward to those discussions. Thank you. 

Chairman FRANK. The gentleman from California, Mr. Royce, appears to be next on this list. 

Mr. ROYCE. Thank you, Mr. Chairman. 

And, Secretary Geithner, I would like to begin by thanking you 

for your work on this regulatory reform package. I think there are 

a number of provisions in there that I am encouraged by that are 

contained in the white paper. There is, however, one that raises 

concerns, and let me raise that with you, and that is to ask you 

about the resolution authority that you discussed in the white 

paper. This idea, as you portrayed it, is for government to unwind 

failed institutions. But it seems to allow for simply propping up 

struggling firms. It seems to be basically permanent bailout authority. 

And I guess the reason I am concerned, you have the government—you have politicization of the economy as it is. We are looking at a situation where we might have a government takeover of 

health care, of the energy markets, the government is running GM 

and Chrysler. And now, you look on page 77 of the reform proposal, 

and this is how it reads: 

‘‘The regime also should provide for the ability to stabilize a failing institution by providing loans to the firm, purchasing assets 

42

from the firm, guaranteeing the liabilities of the firm, or making 

equity investments in the firm.’’

This sounds like the FDIC’s open bank assistance authority, 

which provides direct funding to an operating insured bank to keep 

it from failing. And such authority is of course markedly different 

from a resolution authority that would entail an orderly unwinding 

of a failed institution. So you could have basically permanent bailout authority where the Federal Government continues just to keep 

putting taxpayer money into institutions. 

Secretary GEITHNER. Congressman, if we were proposing that, 

what you described, you would be right to be concerned and I 

would not support a proposal described as you did. What we are 

proposing to do is to take the basic framework that the Congress 

legislated to allow the country to deal with risks to the financial 

system posed by the failure of banks and thrifts, and to adapt that 

framework to give us similar authority to deal with a large complex 

financial institution. 

The absence of that framework and that authority was enormously damaging to this country. We are going to take a framework that was carefully designed by the Congress, with good 

checks and balances, lots of experience over time, and simply adapt 

that framework to give us similar tools to help manage the 

unwinding and the failure of large complex institutions. That is the 

proposal. Again, there is—the virtue of using the model we have, 

which is the FDIC resolution framework, is that that has been tested, people understand its merits and complexity, and gives us a little bit better basis for finding consensus on the right approach. 

Mr. ROYCE. But, of course, given recent actions and given the 

fact that this is worded in a way that it does not require an 

unwinding process. Given the fact that based on current action we 

are left with the assumption that this certainly would allow, the 

way it is written, ongoing government involvement in a way which 

would continue to put taxpayer funds into an entity without limit. 

And let me ask you another question. 

Secretary GEITHNER. I don’t think it has that risk, Congressman, 

again, because the centerpiece of our reform proposals are to create 

a system that is strong enough to withstand the failure of major 

institutions. But to do that effectively, we need authority Congress 

gave——

Mr. ROYCE. Let me ask my last question. You were at the table 

for many of the discussions to either provide a lifeline or to let an 

institution fail. These were very difficult decisions at a critical 

time. If I could ask you to commit your staff to provide for the 

record a detailed analysis, walking us through how this authority 

would have changed the way in which AIG or Lehman Brothers 

were handled, and exactly how the counterparties of these firms 

would have been treated differently under this regime. 

Secretary GEITHNER. Hard to do, but I will be happy to try to do 

that well. And I am sure I will have the opportunity to testify before the Financial Services Committee on the broad range of——

Mr. ROYCE. I would appreciate it, Mr. Secretary. 

Chairman PETERSON. I thank the gentleman. The gentleman 

from Georgia, Mr. Marshall. 

Mr. MARSHALL. Thank you, Mr. Chairman. 

43

I suppose, had you chosen to answer Mr. Sherman’s question, 

you might have said that the United States is going to stand behind its money supply. We are going to design our regulations to 

assure that there is no necessity for the government to intervene 

and prop up the money supply in the future. And, it would be very 

foolish for anybody investing now to even vaguely think that it is 

likely that we will fail to do that. But in the event that we fail, 

the world can rely upon the American money supply. We will take 

the actions necessary to protect the money supply. 

Mr. Sherman and I just had a difference of opinion concerning 

whether or not TARP was an ill-advised move. I thought it was, he 

thought it wasn’t. I thought it was dreadful that we had to do this 

and a real failure by leadership in this country across a broad 

range. But it was something that I thought we needed to do. And 

I would be shocked if we wouldn’t do something similar in the future if it was necessary, but also shocked if we don’t take the kind 

of action that is necessary to assure that it is not necessary in the 

future. 

Mr. Secretary, you have in your written testimony the reference 

to we were going to require this, require this, require that, et 

cetera. Secretary GEITHNER. Proposed to require. 

Mr. MARSHALL. Well, we also will require, is the way you put it. 

I think there are good things to require. The devil is in the details 

of course. We will work those details out. But the specter we have 

is we don’t want to disadvantage American business, we don’t want 

to disadvantage the American financial industry. And you also referred to: ‘‘Finally, we will continue to work with our international 

counterparts to assure that our strict and comprehensive regulatory regime for OTC derivatives is matched by a similarly effective regime in other countries.’’

Chairman Peterson led a CODEL to Europe. We talked with 

other countries about this very question, regulatory arbitrage country-to-country. It has been a challenge for us. I have no real confidence that you are going to be able to line up all of the countries; 

that some country won’t decide to not adopt the strict requirements 

that we think are advisable in order to have a competitive advantage, in order to have that country become a financial center. 

Hence, things like the Cayman Islands, et cetera, pop up. I think 

it just denies history to suggest that there won’t be countries like 

that. 

Has any thought been given to the United States perhaps 

teaming up with Europe and coming up with a fundamental regulatory scheme, sort of minimum standards that are acceptable. And 

then simply announce that investors will not be permitted in any 

way, directly or indirectly, we are going to look at substance, not 

the form, to be in our markets if they are elsewhere playing in 

markets that are not living up to this minimum regulatory standard? Because it just seems to me unrealistic to think that we are 

going to be able to do much more than that. So if there has been 

thought given to it, could you share that with us? 

Secretary GEITHNER. I am not sure I would go quite that far. I 

think our basic approach is very similarly laid out. And there is an 

elaborate cooperative framework now in place that has the United 

44

States at the table with, not just Europe, but the other major financial centers to design minimum standards, and make sure they 

are more evenly enforced. I am not sure we can go quite as far as 

you suggested. But the basic philosophy you laid out——

Mr. MARSHALL. Mr. Secretary, is it your impression that all of 

these countries are going to agree with the different things that 

you are suggesting we should require? 

Secretary GEITHNER. I completely agree with you that it is going 

to be enormously difficult, but it is the right thing to try to attempt. 

Mr. MARSHALL. Mr. Secretary, if we move forward and require 

these things, are we going to be disadvantaged? 

Secretary GEITHNER. I think that if we get the balance wrong 

and do it poorly, we will face that risk. But we are going to try to 

be careful to do it in a way that improves confidence in our markets, in a way that reinforces what has been substantial assets for 

this country, which typically had stronger standards than those 

that were applied around the world. But, again, this crisis has been 

so searing for countries, not just in Europe, but across the world, 

there is going to be substantial interest in raising standards there, 

too. 

Mr. MARSHALL. Thank you, Mr. Chairman. Thank you, Mr. Secretary. 

Chairman FRANK. Chairman Peterson and I have discussed this. 

It will be our intention to include in legislation strict instructions 

to all the American financial regulators to apply the strictest possible sanctions to any outlying country like that. I would agree, 

with the EU, with Japan. And we have had a lot of conversations. 

But I believe that we should then say that any country that allows 

itself to be the host to that loses access to the American banking 

system, et cetera. And I believe we will have very strict instructions 

in there that is at least a substantial protection. The gentleman is 

absolutely right. 

Chairman PETERSON. The gentleman from Louisiana, Mr. 

Cassidy. 

Mr. CASSIDY. Mr. Secretary, you know far more about this than 

I. I am not challenging you, rather just posing these for thoughts. 

Natural gas, that would be currently OTC. And public utilities 

sometimes, I am told, put up their physical assets as collateral, and 

it is a straightforward swap without an additional fee imposed by 

the exchange. 

Now, I understand speculators are, well, speculators, they either 

drive up costs or manipulate the market allegedly, but also provide 

liquidity. And so my question is, though, if we require these public 

utilities to go through an exchange, perhaps put up cash, disrupting their cash flow, certainly potentially paying a fee, it seems 

like we are going to pass on higher costs to consumers from entities 

which are really not out there to disrupt the market, but rather 

hedging future costs. 

Is there a way that we can carve out these entities from the central clearing, for example, as one solution, or some other way to 

mitigate the increased costs that will be passed on to consumers? 

Secretary GEITHNER. Congressman, again, I think this is going to 

be an important issue. I believe that the experience with central 

45

clearing where it has existed, and the experience with the migration of derivatives onto exchanges has generally reduced costs to 

users. I think that is encouraging. But as we have said many 

times, we are still going to preserve the capacity for a range of 

companies throughout and across the country to engage in on a bilateral basis customized hedges outside the standardized clearing 

area. We just want that to at least come up with some protections. 

Mr. CASSIDY. You were saying that, and you have given good testimony. It seems, though, that, my gosh, public utilities would not 

be customized; rather, it seems like that that would be——

Secretary GEITHNER. In fact, I have received a lot of letters, and 

I suspect many of you have, from utilities saying that we want to 

preserve the capacity to engage in, embark in more customized sets 

of hedges, and we want to preserve that capacity. But, again, we 

want the system to be protected against the risks those things 

present, so there needs to be broader oversight for the SEC and the 

CFTC over those activities. But I don’t think we are in a different 

place, and are very sensitive to the concern you laid out. 

Mr. CASSIDY. So just to follow up, because I do think we are close 

to a similar place. Your definition of something that would be 

standardized, I think, was high volume. So I was, if you will, gathering from that that almost by definition these contracts would be 

considered standardized. But even if they are high volume, they 

still may go into a customized category. 

Secretary GEITHNER. I think the question is, are the terms common and more typically uniform? Or, do you need a—can you not 

meet your individual needs to hedge against the risk you face with 

those commonly prevailing terms. I think that is the way to think 

about the definition. But, again, this is a complicated thing to get 

right, and we are going to do our best to make proposals to you to 

get the balance in the right place. 

Mr. CASSIDY. And just to follow up one more aspect of my question quickly. Again, I am told that sometimes the utilities will put 

up their physical assets as collateral as opposed to cash. Will that 

be part of this kind of balance? 

Secretary GEITHNER. That is something I have to think about 

and get back to you on. I don’t think I can do justice to the details 

of what market practice is in that area today. But I will be happy 

to try to get back to you on that particular question. Several of 

your colleagues have raised it. 

Mr. CASSIDY. Thank you very much. I yield back. 

Chairman PETERSON. I thank the gentleman. And I would just 

like to comment that there has been a lot of talk about these customized versus standardized. What people need to understand is 

that these banks make a lot more money on customized trades 

than they do on standardized. So keep that in mind. 

Secretary GEITHNER. Mr. Chairman, could I just say something 

in response to what you just said on that question? I think you are 

right, and that is why I think that as you go through this process 

you want to make sure you are not listening just to New York and 

Chicago. You want to make sure that you are listening to the range 

of companies that rely on these markets as their risks. I think here 

there really is an interesting diversity of opinion. But what we are 

proposing is to make sure that where there is a good compelling 

46

case for the customized, that it comes with protections so that the 

system is not vulnerable to the risks those present. 

Chairman FRANK. That recalls to me my own distinction between 

ends and means. We are talking about the end-user, not the people 

who make money on the instruments, per se.

The gentleman from Kansas, Mr. Moore. 

Mr. MOORE. Thank you, Mr. Chairman. 

Mr. Secretary, many Americans probably never heard of derivatives before the financial meltdown, although many companies in 

the United States used derivatives to manage and hedge their 

risks. It appears there are two sides of risk from looking at how 

best to oversee the OTC derivatives market. On the one hand there 

is the risk to the financial system if they are left unregulated, and 

on the other hand there is the beneficial tool of risk management 

that derivatives can provide to many businesses, large and small. 

Mr. Secretary, I believe we need to regulate this part of the system that was ignored for too long, but we should be careful of unintended consequences. 

When we consider the United States companies that played no 

role or part in the financial crisis, how should we weigh systemic 

stability against higher requirements for firms that are end-users 

of derivatives? Is there a chance systemic risk could actually grow 

if companies are forced to stop hedging the risks that they have on 

their books? 

Secretary GEITHNER. Yes. I do believe that if you deprive institutions of the capacity to manage their risks effectively, you could 

create a less stable system. 

Mr. MOORE. Some claim that the Administration’s plan will cost 

hundreds of billions of dollars that companies would have to post 

to a clearinghouse. Have you done any cost analysis of the effects 

on these companies? 

Secretary GEITHNER. It is a hard thing to do well. But, again, it 

is about the balance. The benefits to the system of having more 

conservative margin requirements than we had coming into this 

crisis are going to be very, very substantial economically. But you 

don’t want to have them to be so high that you push a bunch of 

risk offshore or to other places. And that is going to be a hard thing 

to get right. But I don’t think you can look at the last couple years 

of history and say that we erred on the side of having to be too conservative. 

Mr. MOORE. Thank you, Mr. Secretary. I yield back. 

Chairman FRANK. The gentlewoman from Illinois, Mrs. Biggert. 

Mrs. BIGGERT. Thank you, Mr. Chairman. And thank you, Mr. 

Secretary, for being here. 

The Administration’s proposal strips all of the consumer protection functions from all the banking regulators and puts them in a 

separate agency, to me essentially making the government bigger 

but not better for consumers. Won’t your proposal deny the regulators the ability to manage the risk of a financial institution, and 

won’t these new agencies tell consumers what they can and cannot 

have, and tells business what products they can and cannot offer 

conflict with the safety and soundness role of the banking regulators? Can you give me a yes or no answer? 

47

Secretary GEITHNER. No. But maybe I could—could I say a few 

more things in response? We are not making government bigger in 

this case. As you said, we are taking authority that exists in a 

bunch of different places, both rule writing and enforcement authority, and we are moving that to a central place where there will 

be more accountability and, we hope, better outcomes than we 

achieved with the system that we have been living with. 

Mrs. BIGGERT. Well, then what is the function of the banking 

regulators, the safety and soundness? 

Secretary GEITHNER. Principally, safety and soundness. But as 

you and I have discussed in the past, there are areas where these 

things overlap. So it is not going to be a completely bright line. But 

we want bank regulators to be principally responsible for safety 

and soundness, and we think we are going to have both better consumer protection and better safety and soundness regulation if we 

have better separate accountability for those functions. 

Mrs. BIGGERT. Do you see then the Consumer Financial Protection Agency trumping the existing regulators? 

Secretary GEITHNER. Again, we are proposing, to give them rule 

writing authority and primary enforcement authority over consumer protection, not over safety and soundness. 

Mrs. BIGGERT. It seems like there will be a lot of duplication of 

effort. 

Secretary GEITHNER. We want to avoid that, but again there is 

a lot of duplication of effort in our system. Our system is characterized by a, frankly, difficult to defend mix of parts of the system 

with incredible overlapping authority and parts of the system 

where nobody had good authority. So it is not a system we would 

have designed if we were starting from scratch today. We are going 

to try to get clearer accountability, more focused accountability, 

less overlap but better safeguards where they didn’t exist. 

Mrs. BIGGERT. How do you do that if you separate those? 

Secretary GEITHNER. Well, they are very different types of functions. They have not been done particularly well when they were 

done as they have been done to date. What we argue here is separating is more simple and clearer. 

Mrs. BIGGERT. I have concerns about the recently passed capand-trade bill, and it had—about derivatives in there, and language is included to regulate the OTC markets and limit participation in the markets. I would like to know, what is the Administration’s position on the bill’s new tax on transactions? And I know 

that there was a caveat in the 3 a.m., 300 page manager’s amendment which put in a caveat that if there is legislation passed this 

would be null and void. But what did you think about what was 

in that bill? And will some of that carry over into other legislation? 

Secretary GEITHNER. Congresswoman, for reasons that I think 

you can appreciate, can I respond to that in writing——

Mrs. BIGGERT. I would appreciate it. 

Secretary GEITHNER.—or separately in some appropriate form? It 

is a complicated bill that has a lot of complicated provisions in 

these areas, and I want to do it well. 

Mrs. BIGGERT. Just one quick question. I am still worried that 

we are going to incentivize much of the market to move overseas 

48

if we impose new regulations on the market, the over-the-counter 

market. How could we really forestall that? 

Secretary GEITHNER. Well, it is an important thing to avoid. But 

if you look carefully at what the Europeans are proposing now, 

what the U.K. has proposed in public now, there is much more convergence in our approach than we have seen in a long period of 

time, and that is encouraging. But we share your commitment to 

that and want to be careful to avoid that risk. 

Mrs. BIGGERT. Thank you. I yield back. 

Chairman PETERSON. The gentleman from Indiana, Mr. Ellsworth. 

Mr. ELLSWORTH. Thank you, Mr. Chairman. 

Secretary Geithner, we have all got hundreds of questions we 

could ask you, and luckily for you we have only got 4 minutes to 

do it. I would like to go back in time, since this is our first meeting, 

back in time a little bit. 

The first time I heard about a credit default swap was, I think 

it was, in a TIME magazine article maybe 7 months ago, something 

like that. I thought it was just me living under a rock until I started polling people back home, and most people have not heard of 

that term. 

Can you tell me, for my reference and my education, how we got 

there? If this was a life insurance company that was selling policies 

that they had no capital or were undercapitalized they would be in 

jail. Bernie Madoff has now been sentenced to what is essentially 

life in prison for a Ponzi scheme. Can you give me some background to how we got there and how we are going to prevent that 

in the future? And if you can throw in what, if we know the dollar 

figure on what these credit default swaps are worth. I have heard 

trillions. If you can tie that even to a broad range, I would appreciate it, sir. 

Secretary GEITHNER. I would be happy to respond. The overall 

estimates of magnitude of the total face value of these markets are 

in the $600 trillion range. The market value of those contracts, my 

testimony, says are more in the $20 trillion range. That still itself 

doesn’t really capture the risk. It probably substantially overstates 

it. But these are enormously large markets, enormously important 

to how our markets function. These markets include interest rate 

risk, exchange risk, equity derivatives, commodity derivatives, energy, food, et cetera. And the way this happened in credit derivatives was very similar 

to what happened in commodity derivatives and others, which is 

that decades ago people figured out a way to offer a company the 

ability to hedge against a particular risk, the cost of energy, cost 

of seeds, cost of movement in exchange rates, cost of a change in 

interest rates, and over time products emerged to meet that economic demand. 

What we did not do in our country is stay abreast of that innovation and put in place the framework of protections over those markets that was commensurate with the risk they proposed. We were 

behind that curve. And we had a lot of institutions, including regulated institutions like the monoline insurance companies and AIG 

that wrote a huge amount of protections without the capital to back 

it, and that combination of factors helped bring us to the edge of 

49

this very severe crisis. And it is an obligation we all share to make 

sure that we not just address those principal causes of this crisis, 

but we have a stronger framework to address future 

vulnerabilities, and that our framework adapts more quickly in the 

future. And that is what we are trying to do. 

Mr. ELLSWORTH. What would be the consequences—whether we 

voted for the bailout, the TARP, any of that. What would be the 

consequences if these were called in, these credit policies? Could 

they be called in, cashed in, make due on the credit default swaps? 

Secretary GEITHNER. I wouldn’t think about the economic risks 

in what the Congress authorized for the financial sector as being 

principally affected by what happens in these derivative markets. 

The principal risk, the economy, as many of your colleagues have 

said, is we are living still with a very challenging set of economic 

risks in the future. But if we are successful working together, putting in place a stronger foundation for recovery, then the ultimate 

risk to the taxpayer, the things we want to do, will be lower. 

Mr. ELLSWORTH. I will yield back. 

Chairman PETERSON. The gentleman from Pennsylvania, Mr. 

Thompson. 

Mr. THOMPSON. Thank you, Mr. Chairman. Thank you, Mr. Secretary, for being here, for answering these questions. With your 

proposal, I wanted to just seek some clarification. 

Is it your intent to force private commodity pool operators to register with the SEC as a hedge fund instead of the CFTC? And, if 

so, why? 

Secretary GEITHNER. I haven’t quite come to a firm conviction on 

that question, but we are working through it with the SEC and the 

CFTC. What we have been explicit about is that we want to make 

sure the hedge funds above a certain size are compelled to register. 

But you raise a very important question, thinking about how we 

treat other entities that are doing similar things, and there are a 

bunch of entities in those markets that are already forced to register, and we will have to think through carefully the implications 

of doing what we propose on hedge funds. We are not quite there 

yet, though. 

Mr. THOMPSON. Your proposal talks about harmonizing the SEC 

and CFTC. Your opening remarks talked about, or more earlier responses talked about statutes, both need to be brought in line. And 

I wanted to just see, where is that harmonization needed and 

where is it possible? 

Secretary GEITHNER. Well, we hope it is possible generally across 

the board because you have these two differences. You have different basic statutes across the markets they are responsible for, 

and you have different enforcement cultures and enforcement approaches. And those two differences themselves create a system 

that is not as good and strong as we think we can have. So what 

we are trying to do is get the SEC to bring them together and get 

them to propose ways to bring those into conformance. And they 

are making some progress, but they have a long way to go. But we 

are going to want to spend a lot of time working through the detailed merits, alternatives, of different approaches in those areas. 

But we are not far enough along yet to go into any detail today. 

Mr. THOMPSON. Thank you, Mr. Secretary. I yield back. 

50

Chairman FRANK. The gentleman from Massachusetts, Mr. 

Lynch. 

Mr. LYNCH. Thank you, Mr. Chairman. 

Thank you, Mr. Secretary. We had a chance to chat about this 

a little earlier in the week. But I want to go back to the system 

that the President’s plan envisions, where you have standard derivatives traded over an exchange, standard ones being linear in 

many cases, well understood. And yet you have another system 

right beside that parallel system for custom derivatives trading privately with far less transparency. There are a number of moral 

hazards here, and I want to have you address them. 

Number one, as the Chairman pointed out earlier, there is a big 

payday for the banks and for the derivative designers on the custom side of the house, much more so than on the standards side. 

Second, experience has shown us whenever you have a regulated 

system operating beside an unregulated system, the markets favor 

that unregulated system and the money migrates over. 

Third, the absence of an exchange by—the exchange serves a 

purpose as a pricing mechanism, and a major problem with these 

derivatives has been the accurate pricing of risk. And so you are 

putting these custom derivatives off the exchange where there will 

be, again, a mispricing of risk that will continue. 

And, last, we are still allowing these gratuitous side bets where 

folks can come in and take a bet where they have no interest at 

all in the underlying asset. And those are all moral hazards that 

are going to lead us to continue to have a system that has gaping 

holes in it. And I just don’t know how I can support such a system. 

Secretary GEITHNER. Congressman, I thank you for giving me another chance to respond to that concern. We are proposing comprehensive oversight, but we are not just overseeing the participants in these markets but over all the products, standardized or 

customized. We are proposing to give the SEC and CFTC the authority they do not now have to enforce fraud activities effectively 

in those key markets, whether standardized or customized. And 

like you would expect us to do everywhere, we are trying to make 

sure that the capital requirements and margins are higher where 

risk is higher. And that will help. 

Mr. LYNCH. But, sir, could I ask you about the pricing mechanism? Where there is no exchange, you have these custom derivatives being sold by private parties. 

Secretary GEITHNER. But you are exactly right that you want to 

have the standardized parts where you can have price discovery 

and competition. The terms are standardized traded on exchanges 

or on, as we said, open, transparent, electronic trading platforms 

because of the benefits of price discovery. But a customized unique 

special hedge that a utility that provides energy needs, that is 

going to have to be a negotiated product by definition. Because if 

they can’t meet the needs through the standardized product, they 

need to have the capacity to go in that direction. 

Now, you are in effect suggesting, as some have suggested, that 

we force all of this stuff onto exchanges effectively banning the capacity to the customized. And I would just would caution you to listen carefully to the users of these markets because you will find, 

as I am sure you are aware, companies in industries across the 

51

country, small and large, trying to make sure that we preserve that 

capacity. 

So we are going to try to get that balance right where there are 

the concerns you said. I think we proposed a substantially better 

balance then we have today. 

Chairman FRANK. The gentleman from Texas, Mr. Hensarling. 

Mr. HENSARLING. Thank you, Mr. Chairman. 

Mr. Secretary, I am going to paraphrase part of your testimony. 

You essentially said, I believe, we are here because the Administration inherited an economic mess. I don’t necessarily disagree with 

that assessment. I would say the question is whether or not the 

Administration’s policies are making this mess better or worse. 

Since the Administration has come to office, clearly you know 

that unemployment has risen to 9.5 percent, the highest in a quarter century: 2.6 million additional jobs have been lost since the Administration has taken office. The public debt has increased by almost $1 trillion or $7,430 per household. 

Given that backdrop, I am having to look at this new proposal 

that you bring before us today. In the Capital Markets Subcommittee last month the 3M Company testified that they projected that they would be looking at $100 million per year on average in additional costs for a mandatory clearing environment. 

Now, I believe in questions by the gentleman from Kansas, Mr. 

Moore, I believe you said something along the lines of: It is very 

difficult to ultimately gauge the cost burden for those who may 

have to go to a mandatory clearing. 

Secretary GEITHNER. But I also said that typically the costs of 

central clearing exchange are substantially lower. 

Mr. HENSARLING. I would ask this question, Mr. Secretary, given 

this is just one corporation, but I have heard this from other corporate entities as well. And listen, I am not unsympathetic that improvements can be made in clearing these derivatives, particularly 

with respect to transparency, with respect to margins. But I am 

very concerned about a proposal that at least, as of today, seems 

like we are trying to still pin the proverbial Jell-O on the wall. If 

we don’t ultimately know the cost, we do know this: Less hedging 

can create less credit, and less credit can create fewer jobs. And in 

this economy, I am just very leery until I have convincing evidence 

about the ultimate cost and the ultimate impact on our job environment for moving forward on this. 

And so I guess the question would be, when will the Administration do modeling on jobs? When do we expect that analysis? 

Secretary GEITHNER. Congressman, as you know, you and I are 

going to disagree very fundamentally on where you began your 

question, which is the appropriate response of a country facing a 

crisis like we inherited. But on the question you are raising, which 

is about the benefits of hedging and how we get the balance right 

between stability, innovation, and the future, I suspect that our differences are much narrower, again, because, as I have said many 

times here today, we trying to preserve the capacity for hedging. 

We are trying to make it better, more possible for our country to 

have both a more stable, more resilient system, and preserve the 

capacity of people that hedge against these risks. We are basically 

committed to that. We are trying to make sure that innovation, 

52

which is a great strength of our financial system, can proceed in 

the future with less risk of catastrophic damage. But I suspect that 

we don’t—our differences are not as great. They are probably very 

great where you began your question. And I would be happy to talk 

about that at any time. 

Mr. HENSARLING. I hope that proves true, Mr. Secretary. Sometimes I find myself agreeing with 80 percent of the Administration’s rhetoric and about 20 percent of their policies. 

The next question, Mr. Secretary, in your opening statement——

Secretary GEITHNER. I am happy to consider alternative recommendations and policies all the time. 

Mr. HENSARLING. I don’t mean to put words in your mouth, but 

I now have 30 seconds. I think you said again that some of your 

critics you said were wanting to maintain the status quo. Many 

economists believe that the greatest cause that we have for the economic crisis was Fannie and Freddie, and yet your reform proposal 

does nothing about Fannie and Freddie. 

Secretary GEITHNER. I am very glad you raised that. It is absolutely true that those institutions over time took on enormous risk 

because of the implicit commitment of the government to back 

them. And that is why Congress legislated a reform framework 

over those entities last year, but that came unfortunately late in 

the process. 

Now, we are going to have to come to the Congress and propose 

how to deal with the future of those entities. But now is not the 

time to do that. And we are going to try and do that carefully and 

well. But we agree with you that that is something we are going 

to have to confront together, and we will come to you. It is our responsibility to do that with our best judgment about what to do, 

but we will look at a range of options and we will work through 

that together. 

Mr. HENSARLING. Thank you. 

Chairman PETERSON. I thank the gentleman. The gentleman 

from New York, Mr. Murphy. 

Mr. MURPHY. Mr. Secretary, I want to say thanks for all your 

hard work on this, and I know that you have been pushing for 

clearing of credit default swaps long before any of us ever heard 

about it. I know you were out there and wish that we had been 

able to get that done earlier than we are now. I have a couple 

nuanced questions. I missed some of the testimony and you may 

have answered this already. 

In your testimony, you talk a lot about clearinghouses and clearing stuff, putting it on exchanges. Do you see those as one-to-one, 

or is there some transactions that might be cleared and not on an 

exchange, or vice versa?

Secretary GEITHNER. Absolutely. There are some things that 

can’t be cleared and, therefore, can’t be put on-exchange. And you 

can have some products that can be essentially cleared that don’t 

need to clear on the exchange. But, yes, the answer is that there 

are some products that, to meet a demand for a particular utility 

to hedge a particular energy cost, you probably can’t centrally 

clear. A clearinghouse wouldn’t want to take on that product, 

wouldn’t think that they could manage that risk. 

53

Mr. MURPHY. Well, I don’t want to discourage you from products 

that we may be able to drive to central clearing, because I think 

that does reduce systemic risk, that we not require be on an exchange if there is not enough volume for an exchange to want it, 

or for there to be any real price discovery there. 

Secretary GEITHNER. You are right to emphasize that. We have 

been very clear to say we want to encourage standardized to be 

centrally cleared. In fact, we are going to compel that. And, we 

would like to see those products that are centralized ending up 

traded either on exchanges or on electronic transparent trading 

platforms, because of the benefits you get to price discovery and liquidity in that method. 

Mr. MURPHY. The second point: Would considering putting minimum requirements from margins for the clearinghouses? 

Secretary GEITHNER. For the clearinghouses, absolutely. I think 

one of the important things, because they concentrate risk, you 

need to make sure that there are adequate margin safeguards 

against the risk of default. 

Mr. MURPHY. I want to be confident. I think competition is good, 

but I want to be sure we don’t have a race to the bottom where 

people shop for the cheapest clearinghouse. 

Secretary GEITHNER. You are absolutely right. 

Mr. MURPHY. The last question, hedge accounting. I hear from a 

lot of the companies I talk to that hedge accounting, to be specific 

enough to get the treatment they want, requires them into a customized OTC marketplace, kind of going against what we are trying to do. 

How can we address that to try to bring that together, where 

people who truly are hedging aren’t pushed to do something that 

takes them off of a standard, or exchange traded, or cleared product? 

Secretary GEITHNER. You are absolutely right. The part of the 

concern businesses have with banning customized products is they 

are concerned that the accounting requirements—they would not 

be able to meet those basic requirements. And that is one important concern. But, the more fundamental concern is, again, that not 

all risks that people have an interest in trying to protect themselves against can be adequately captured by a standardized instrument. 

Mr. MURPHY. I agree. But I guess the question is how do we, for 

the risk that probably shouldn’t be in the OTC market, not let our 

accounting rules drive us into that? I guess I want you guys as you 

are working on this, and for us to keep in mind, that we should 

try to harmonize that so we don’t drive stuff into the OTC market 

that doesn’t need to be there. 

Secretary GEITHNER. Yes, I think that is a good thing to take a 

look at. And of course we have an elaborate protection independent 

of political influences, trying to think through the accounting 

standards, and—but I agree with you that is important to look at. 

Generally, we have a problem where a lot of accounting stuff 

runs against the basic interests of—well, I want to be more careful 

in how I say that. I think you are right to try to point out the importance of that. 

54

Mr. MURPHY. I think it is an important part of getting this all 

right. We can try to push it in one direction, but if we get into the 

accounting rules where we are marking one side of the balance 

sheet to market and not the other, or we are driving them to do 

something that moves them out of what is the most stable financial 

system, those rules can actually have a big impact on what people 

decide to do over here. 

I yield back my time. 

Chairman PETERSON. I thank the gentleman. The gentleman 

from Missouri, Mr. Luetkemeyer. 

Mr. LUETKEMEYER. Thank you, Mr. Chairman. Secretary 

Geithner, welcome. I am just curious about the final comment in 

your statement today or your suggestions in your statement today 

was about working with our international counterparts to ensure 

strict and comprehensive regulatory regime in our over-the-counter 

derivatives. And I know we addressed it a couple times here and 

got around some of the edges of it. Could you just discuss that for 

a few minutes as to the size of the involvement of our foreign counterparts. If you have had any negotiations with those folks at this 

point; where do you see the problems, or where you see the 

positives of where we need to go with this? 

Secretary GEITHNER. Let me give you one example to show you 

how important this is and how you can do it and do it well. 

Starting in 2004, 2005, the New York Fed brought together the 

supervisors responsible for these markets, and for all the major derivatives dealers responsible for 95 percent of trading activities in 

these markets, around one table and compelled them to agree to a 

set of measurable benchmarks for improving standardization, automation, basic risk management, quality of infrastructure in these 

core markets, because they were global markets. And so that is one 

way to do it. 

Mr. LUETKEMEYER. How did you compel them to do that? 

Secretary GEITHNER. Well, what we did is by getting the supervisors to agree on a common framework of constraints and reporting standards. We made it possible for each of those institutions 

that exist in different countries, different jurisdictions to be held to 

common standards. And we tried to enforce it not through just supervision, but make sure there was transparent reporting of performance across firms. And that helped make sure there was a 

level playing field. That is just one example. 

The U.S. has been terrifically effective in the past in the capital 

area decades ago in trying to get the world to come to our higher 

standards, but we didn’t—we are not effective enough. But we are 

going to be very focused, as I said, in trying to make sure we bring 

the world together around a table to do it. We have a very elaborate set of cooperative mechanisms in place today working alongside the legislative process here. 

Mr. LUETKEMEYER. How much participation do we have from 

other countries versus the amount of participation within our own 

country? Do you have a percentage roughly on something like that? 

Secretary GEITHNER. You mean in terms of where market share 

in these things are? 

Mr. LUETKEMEYER. Yes. 

55

Secretary GEITHNER. I believe that—it varies a lot across products, but I would say it is probably on average roughly 50/50 U.S. 

and Europe. But don’t hold me to that. I would be happy to——

Mr. LUETKEMEYER. Well, that gives us an idea of the importance 

of the issues. 

Secretary GEITHNER. I agree with you. 

Mr. LUETKEMEYER. Do you have some things that are some problems right now with the way other countries are regulating their 

securities markets that we need to be concerned about and we need 

to watch for? 

Secretary GEITHNER. Well, there is a—one concern I have, is that 

these are global markets and you want to have a common global 

framework, and there is a tendency in Europe to try to come up 

with a European solution to managing risk in these areas. And we 

had been very successful in the past in working with Europe to 

come up with a common approach, because we think that will be 

more effective in reducing risk. 

And that is one example where, frankly, I am a little concerned, 

that they want to come up with a separate approach. And so we 

are going to try to work with them to make sure that we end up 

with a thing that works for these markets and is reducing overall 

risk. 

Mr. LUETKEMEYER. Thank you, Mr. Secretary. 

Thank you, Mr. Chairman. 

Chairman FRANK. I have a proposal. We have a vote. There are 

three Members left on the Democratic side. I am wondering if 

Members could each do a minute and a half, pose a question and 

have the Secretary respond. Would that be acceptable. 

The gentleman from North Carolina, gentleman from Texas, gentleman from Illinois. Maybe we can shave it a little bit down to 11⁄2

or 2 minutes for questions. 

Mr. MILLER OF NORTH CAROLINA. Good morning, Mr. Secretary—

or, good afternoon, Mr. Secretary. 

Most of what you have discussed, justifying derivatives—the purpose of derivatives is they are risk mitigation. They are like insurance. But it appears that there is no requirement with respect to 

derivatives that any party of the transaction actually have an interest in the underlying asset, the asset from which the derivative 

is derived. 

Obviously, if there is no risk to mitigate, it can’t be risk mitigation. It doesn’t appear to have anything to do with capital allocation. The only justification I have heard is it assists price discovery, 

and that the more transactions are based upon the value of an 

asset, the more accurate the price is. But that seems pretty thin 

given how huge the derivatives market is. 

Did you give any consideration to whether or not these products 

should be allowed at all, if they do anything useful for society? Do 

you think they——

Chairman FRANK. The gentleman from—well, let’s get the question. The gentleman from Texas, do you have a question, a quick 

question? 

Mr. GREEN. I am sorry? 

Chairman FRANK. Does the gentleman from Texas want to ask 

a question? We will try and get all the answers. 

56

Mr. GREEN. Yes, sir. 

Chairman FRANK. Well, please ask your question, quickly, if you 

will. That is what I had announced. 

Mr. GREEN. Thank you, Mr. Secretary. I will get right to it. 

We have 8,246 depository institutions in this country. We require 

that they be well-capitalized. We have a coffer within which they 

pay an assessment, so as to provide the capital to wind them down 

when they go out of business. 

Is it true that what you plan to do is provide a similar circumstance for nondepository institutions such that, when they become troubled, we can wind them down, they are not to be overleveraged, they can engage in hedging without being over-leveraged, such that we can wind them down in a similar fashion? 

Secretary GEITHNER. Yes. 

Chairman FRANK. All right. Ms. Bean, and then we will see if we 

can get an answer. We will have one last questioner. 

Ms. Bean? 

Ms. BEAN. Thank you, Mr. Chairman. 

Thank you, Mr. Secretary, for being here today. 

To pick one question, there have been concerns raised about 

mandating clearinghouses to clear illiquid derivatives could force 

untenable risk levels onto the clearinghouses from the derivatives 

markets. How would you or your proposal address that concern? 

Secretary GEITHNER. Can I go in reverse order? Well, I will go 

in a different order. I said yes to you——

Chairman FRANK. Go. 

Secretary GEITHNER. Okay. You need to make sure that there are 

margin requirements and financial safeguards in the central 

counterparties that are adequate to compensate for that dramatic 

concentration of risk. That is the way to do it; you want to make 

sure it is uniform across those. 

You will have a chance to listen to businesses across the country 

speak to your question, which is, is there economic value in my capacity to take advantage of a derivative to hedge against a risk? 

And, again, our judgment is, yes, there is, but the system has to 

have greater protections around that. 

But the existence of an underlying asset is not a good measure 

about whether there is an economic value in the ability to hedge. 

But this is a complicated question. I would be happy to talk to you 

in more detail in another context. 

Chairman FRANK. The gentleman from New York, Mr. Lee, is our 

last questioner. 

Mr. LEE. I will shift gears here since I am sure you are a little 

tired of discussing this. But this is an issue that is near and dear 

to my heart and dozens of my colleagues on both sides of the aisle, 

and it has to do with the Delphi retirees. And hopefully you are 

familiar with this with the auto task force, and the fact that you 

have, really, two groups here being treated completely differently 

in terms of their pension responsibilities. 

The hourly workers got 100 percent coverage while the salaried 

workers stand to lose potentially up to 70 percent of their pension. 

In this past year, all of these salaried retirees have lost their 

health care benefits and their life insurance. 

57

Being the fact that we now, in the government, own 60 percent 

of General Motors, I have been trying to reach out to your organization, the auto task force, and trying to get some answers for 

these retirees who are extremely frustrated. And I would like your 

thoughts on this inequity and what we can do about it. 

Secretary GEITHNER. Congressman, there are an enormously 

complicated set of tradeoffs in the judgments that have had to be 

made as part of this restructuring process. And I would be happy 

to have our team come meet with you and talk you through why 

the judgments that have been made have been made and why the 

alternatives were not tenable. I would be happy to do that. 

Mr. LEE. Well, I would like to hopefully come up with a solution. 

But, yes, I would appreciate having that opportunity. So thank you. 

Chairman PETERSON. I thank the gentleman. 

The gentleman from Oklahoma has a question. 

Mr. LUCAS. Mr. Chairman, I would like to add a letter from 3M 

on behalf of one of my colleagues, Mrs. Bachmann, and another letter from the National Business Roundtable and a number of other 

groups. 

Chairman PETERSON. Without objection. 

[The document referred to is located on p. 59, and the prepared 

statement of Mrs. Bachmann is located on p. 7.] 

Chairman FRANK. Mr. Peterson, I would just ask general leave 

for any of the Members to include any materials that they want. 

Chairman PETERSON. Without objection. 

Chairman PETERSON. With that, we will bring this to a close. I 

want to thank Chairman Frank and all the Members of both Committees for a great hearing, good questions, good dialogue. And we 

look forward to working with the two Committees together, along 

with the Administration, to make this thing work. So thank you 

all. 

Thank you, Mr. Secretary. 

The Committees are adjourned. 

[Whereupon, at 1:07 p.m., the Committees were adjourned.] 

[Material submitted for inclusion in the record follows:] 

58

59

JOINT SUBMITTED LETTER BY HON. FRANK D. LUCAS; ON BEHALF OF BUSINESS

ROUNDTABLE; GROCERY MANUFACTURERS ASSOCIATION; NATIONAL ASSOCIATION OF

MANUFACTURERS; U.S. CHAMBER OF COMMERCE

Hon. BARNEY FRANK, Hon. SPENCER BACHUS,

Chairman, Ranking Minority Member,

Committee on Financial Services; Committee on Financial Services;

Hon. COLLIN C. PETERSON, Hon. FRANK D. LUCAS,

Chairman, Ranking Minority Member,

Committee on Agriculture, Committee on Agriculture, 

Washington, D.C. Washington, D.C. 

Dear Chairmen Frank and Peterson and Ranking Members Bachus and Lucas:

Businesses from diverse sectors and sizes across the United States enter into 

over-the-counter (‘‘OTC’’) derivative transactions to manage risks associated with 

their business operations, including fluctuations in interest rates, currency exchange 

rates and commodity prices. A survey of publicly-available information conducted by 

the International Swaps and Derivatives Association found that more than 90 percent of Fortune 500 companies use OTC derivatives. It is critical to note that many 

of our members use them—not to speculate or augment short-term profits—but as 

a normal course of business. 

Many OTC derivatives contracts are bought and sold with standard terms and 

conditions; however, there are also many derivatives contracts that are customized 

to meet the unique needs and risk exposures of individual companies, including 

such basic terms as dates, rates and notional amount. When businesses employ derivatives in this manner, they are not taking speculative positions. Quite the opposite; they are seeking to reduce risks that arise from their business activities. 

Whether standard or custom, OTC derivatives help American businesses protect 

themselves from risk and improve their access to credit. 

We support efforts to ensure appropriate regulatory oversight of market participants and their derivatives activities, consistent with the objectives outlined by the 

Obama Administration in its white paper, Financial Regulatory Reform: A New 

Foundation. More specifically, we believe the right approach encourages central 

clearing for standardized contracts where appropriate, while promoting transparency of customized contracts through a reporting regime that ensures regulators 

have the information necessary to oversee the markets. This approach strikes the 

right balance: it reduces counterparty risk and enhances transparency while maintaining an OTC market and the benefits it provides to our members. 

However, legislation requiring that all contracts be traded on exchanges or be centrally cleared will prevent companies from using non-standard products to reduce 

the volatility of their financial statements and lower their cost of capital—thereby 

expanding, not reducing, risk to companies. Such legislation would require companies to divert cash from being used to sustain and grow their businesses to meeting 

collateral and margin requirements. In short, the proposal could dramatically expand the need for liquidity in the midst of a liquidity crisis. 

The customized terms and conditions of OTC derivatives contracts cannot reasonably be standardized for exchange trading or mandatory clearing. In fact, in order 

for companies to utilize hedge accounting under FAS 133, and thus reflect the offsetting nature of a hedge in their financial statements, they must prove a close and 

consistent correlation between the derivative and the underlying asset or liability. 

If a company could not do so, as likely would be the case if only standardized instruments were available, the benefits of its hedge transactions would not be shown in 

its financial statements, thereby increasing earnings volatility. 

In short, please ensure that any regulatory reform legislation that moves in the 

House preserves the ability of our member companies to use OTC derivatives to 

manage risk at prices and under terms that are reasonable and continue to make 

sense from a business perspective. We urge you to prevent an anti-derivatives sentiment from translating into anti-business legislation. 

Thank you for your consideration of our views and we look forward to working 

with you. 

Sincerely,

60

LARRY D. BURTON, MARY C. SOPHOS,

Executive Director,

Business Roundtable; 

Senior Vice President and Chief Government Affairs Officer,

Grocery Manufacturers Association; 

DOROTHY COLEMAN, R. BRUCE JOSTEN,

Vice President, Tax and Domestic Economic Policy,Executive Vice President, Government Affairs,

National Association of Manufacturers; U.S. Chamber of Commerce.

cc: The Members of the U.S. House of Representatives

SUBMITTED STATEMENT BY HON. FRANK D. LUCAS; ON BEHALF OF 3M COMPANY

3M Company (‘‘3M’’) is a large U.S.-based employer and manufacturer established 

more than a century ago in Minnesota. Today, 3M is one of the largest and most 

diversified technology and manufacturing companies in the world. 

3M thanks the Committees for studying the critical details related to reforms to 

the U.S. financial system and for considering our perspective in this important debate. In examining the concepts outlined in the recent U.S. Treasury proposal on 

financial system reforms, 3M respectfully urges the Committees to carefully consider the distinct differences among various derivative products and how they are 

used, and encourages the Committees to preserve commercial users’ ability to continue using derivative products to manage various aspects of corporate risk while 

addressing concerns about stability of the financial system. 

Background on 3M 

In 1902, five northern Minnesota entrepreneurs created the Minnesota Mining & 

Manufacturing Company, now known today as 3M. 3M is one of the largest and 

most diversified technology companies in the world. 3M is home to such well-known 

brands as Scotch, Scotch-Brite, Post-it, Nexcare, Filtrete, Command, and 

Thinsulate. 3M designs, manufactures and sell products based on 45 technology 

platforms and serves its customers through six large businesses: Consumer and Office; Display and Graphics; Electro and Communications; Health Care; Industrial 

and Transportation; and Safety, Security and Protection Services. 3M achieved 

$25.3 billion of worldwide sales in 2008. 

Headquartered in St. Paul, Minnesota, 3M has operations in 27 U.S. states, including over 60% of 3M’s worldwide manufacturing operations, employing 34,000 

people. 3M’s U.S. sales totaled approximately $9.2 billion in 2008. While its U.S. 

presence is strong, being able to compete successfully in the global marketplace is 

critical to 3M. 3M operates in more than 60 countries and sells products into more 

than 200 countries. In 2008, 64% of 3M’s sales were outside the U.S., a percentage 

that is projected to rise to more than 70% by 2010. 

Ahead of their peers, 3M’s founders insisted on a robust investment in R&D. 

Looking back, it is this early and consistent commitment to R&D that has been the 

main component of 3M’s success. Our diverse technology platforms allow 3M scientists to share and combine technologies from one business to another, creating 

unique, innovative solutions for our customers. 3M conducts over 60% of its worldwide R&D activities within the U.S. 

Our commitment to R&D resulted in a $1.4 billion investment of 3M’s capital in 

2008 and a total of $6.8 billion during the past 5 years while producing high quality 

jobs for 3,700 researchers in the U.S. The success of these efforts is evidenced not 

only by 3M’s revenue but also by the 561 U.S. patents awarded in 2008 alone, and 

over 40,000 global patents and patent applications in force. 

Our success is also attributable to the people of 3M. Generations of imaginative 

and industrious employees in all of its business sectors throughout the world have 

built 3M into a successful global company. Our interest in speaking with you today 


11123002 11123001
61

is to preserve our ability to continue to invest and grow, creating substantive jobs 

and providing high quality products to a growing base of customers. 

Treasury Proposal 

Treasury Secretary Geithner proposed the establishment of a comprehensive regulatory framework for OTC derivatives that is designed to:

1. Prevent activities in those markets from posing risk to the financial system.

2. Promote the efficiency and transparency of those markets.

3. Prevent market manipulation, fraud and other market abuses.

4. Ensure that OTC derivatives are not marketed inappropriately to unsophisticated parties. 

OTC Derivatives: Helping U.S. Companies Manage Risk in a Competitive 

Marketplace 

While 3M unequivocally supports these objectives, we have strong concerns about 

the potential impact on OTC derivatives and 3M’s ability to continue to use them 

to protect our operations from the risk of undue currency, commodity, and interest 

rate volatility. 

Derivative products are essential risk management tools used by American companies in managing foreign exchange, commodity, interest rate and credit risks. The 

ability of commercial users to continue to use over-the-counter (‘‘OTC’’) derivatives 

consistent with the requirements of hedge accounting rules is critical for mitigating 

risk and limiting damage to American businesses’ financial results in volatile market conditions. 

We urge policy makers to preserve commercial users’ access to existing 

derivative products as you design new regulations. We share the following 

comments with you in the spirit of working together to address the concerns about 

the stability of the financial system:

1. Preventing Activities Within OTC Markets From Posing Risk To Financial System:

» We agree that the recent economic crisis has exposed some areas in our financial regulatory system that should be addressed. However, not all OTC derivatives have put the financial system at risk and they should not all be 

treated the same. The OTC foreign exchange, commodity, and interest rate 

markets have operated uninterrupted throughout the economy’s financial difficulties. We urge policy makers to focus on the areas of highest concern, such 

as credit default swaps.

» We would like to work with policy makers to address oversight where warranted, but recommend that it be targeted and not applied to all segments and 

market participants.

2. Promoting Efficiency and Transparency within the OTC Markets:

» We understand the need for reporting and record-keeping. Publicly held companies are currently required by the SEC and FASB to make significant disclosures about their use of derivative instruments and hedging activities, including disclosures in their 10Ks and 10Qs.

» We would like to work with policy makers on ways to efficiently collect information and enhance transparency. Specifically, proposals have been made to 

establish a data repository for OTC derivatives to ensure transparency and 

disclosure. We understand and support this need for greater transparency 

and oversight and could support providing on a real-time basis the critical 

terms (amount, currency, counterparty, rate(s), maturity) for transactions 

over a specified minimum size (e.g., $250,000) for such a data repository. Proposals have also been made to establish regulatory supervision of the data, 

and we would look forward to working with the regulating entity to develop 

oversight parameters and participant practices that would meet the goals established by Congress.

» We oppose a mandate to move all derivatives into a clearing or exchange environment. One key characteristic of OTC derivatives for commercial users is the ability to customize the instrument to meet a company’s 

specific risk management needs. Provisions that would require the clearing of 

OTC derivatives would lead to standardization, thus impeding a company’s 

ability to comply with the requirements of Financial Accounting Standard 133 

(FAS 133). The inability to precisely hedge specific risks, whether currency, 

interest rates or commodities within the context of FAS 133, would expose 

62

corporate financial statements to unwanted volatility and uncertainty. Results could include lower valuations for companies as well as a reluctance to 

undertake as many growth investments because of the need to maintain some 

dry powder for adverse impacts from unhedged financial risks.

» While we are mindful of the reduction in credit risk inherent in a clearing 

or exchange environment, robust margin requirements would create substantial incremental liquidity and administrative burdens for commercial users, 

resulting in higher financing and operational costs. Capital currently deployed in growth opportunities would need to be maintained in a clearinghouse. This could result in slower job creation, lower capital expenditures, 

less R&D and/or higher costs to consumers. Hedging in the OTC market is 

customized to fit the actual underlying business risks being hedged. The 

clearinghouse concept relies upon high volumes of standardized products, a 

characteristic that does not exist in the customized hedging environment of 

the OTC market.

By imposing initial and variation margin requirements, clearinghouses will 

add significant capital requirements for end-users, adding significant costs, 

discouraging hedging, and diverting scarce capital that could otherwise be 

used in further growing American businesses.

3. Preventing Market Manipulation, Fraud, and Other Market Abuses.

» We support the appropriate regulatory agencies having the authority to police fraud, market manipulation and other market abuses. The CFTC is utilizing its existing statutory and regulatory authority to add significant transparency in the OTC market, receive a more complete picture of market information, and enforce position limits in related exchange-traded markets. The 

comment period remains open on the CFTC proposal and this work should 

be allowed to continue.

4. Ensuring That OTC Derivatives Are Not Marketed Inappropriately to 

Unsophisticated Parties.

» We support modifications to current law that would improve efforts to protect 

unsophisticated parties from entering into inappropriate derivatives transactions. 

‘‘Clearing’’ in the OTC Market 

The obvious benefits of clearing are the elimination of counterparty risk and the 

facilitation of ‘‘data collection’’ for executed transactions. By requiring a greater 

swath of derivatives to be cleared, the ‘‘costs’’ of trading (for both dealers and endusers) will rise. Increased costs will come in the form of trading fees, margin/capital 

requirements, and administrative burden associated with management of the margin requirements. This will likely result in:

1. an increase in market concentration among dealers, as marginal players lose 

profitability, and

2. a decrease in hedging among end-users, as margin requirements will pressure their capital/liquidity.

The second impact will likely hasten the concentration effect mentioned above. 

Further, a clearing environment requires the use of standardized instruments. 

Standardized contracts are unusable to most end-users, as they do not permit companies to precisely hedge the risks of their business. Any ‘‘mismatch’’ between business exposure and hedge instrument could result in the end-user’s loss of hedge accounting treatment (FAS 133), thus creating additional income statement volatility. 

We believe that clearing should only apply to some of the products. The currency, 

interest rate, and most of the commodity markets operated well throughout the recent financial crisis. Clearing, however, may be appropriate in other areas where 

authorities believe there is a high degree of systemic risk present. Likewise, clearing 

may be appropriate in the case of standardized instruments. Customized derivatives, however, need to be tailored to meet end-users’ business risk management 

needs, making clearing problematic. 

It is also important to remember that, particularly with interest rate swaps and 

foreign exchange, these are global markets. According to the Bank for International 

Settlements Triennial Central Bank Survey (December 2007), just 15% of daily FX 

turnover occurred in the United States, while 24% was the corresponding figure in 

the interest rate (single currency) market. U.S. based companies could be put at a 

disadvantage versus their foreign competitors should OTC trading regulations 

change dramatically in the U.S. 

63

In addition, warehousing is not appropriate for all trades. For example, a large 

percentage of trades executed in the foreign exchange market (well over 50%) are 

of very short (1 week and under) duration. It would seem impractical to require 

warehousing for such transactions. Warehousing probably makes more sense for 

‘‘term’’ transactions of longer maturity. 

Conclusion 

We thank the Committees for the opportunity to submit our comments in writing 

as an employer interested in preserving and enhancing the global competitiveness 

of American businesses and workers. 3M looks forward to working with you as the 

Committees crafts legislation to strengthen the U.S. financial system. 

SUBMITTED QUESTIONS

Response from Hon. Timothy F. Geithner, Secretary, U.S. Department of 

the Treasury 

Question Submitted By Hon. Steve King, a Representative in Congress from Iowa 

Question. Over the past 12 to 18 months, American taxpayers have watched with 

great concern as their Federal Government has expanded its reach deeper and deeper into the inner workings of our free market economic system. As part of its efforts 

to stabilize our weakening economy, the government, led by the Department of the 

Treasury and the Federal Reserve, has injected billions of taxpayers’ dollars into 

various private entities. What’s more, the government has taken an ownership and/

or significant financial interest in a number of these entities. In my view, and in 

the view of many of the Americans, the positions that the Federal Government has 

taken in these entities amounts to de facto—and in some cases outright—nationalization. To illustrate this point, I draw your attention to the relationship that the 

Federal Government now shares with eight formerly private entities:

• GM—Treasury has loaned $50B in taxpayer funds to GM and has taken a 61% 

controlling interest in the company. Taxpayers have also loaned $13.5B to 

GMAC and have provided $3.5B to the GM auto supplier support program. The 

U.S. Treasury’s Warranty Support Program also backs GM’s warranties.

• Chrysler—Treasury has loaned $12B in taxpayer funds to Chrysler and has 

taken a 9.85% equity stake in the company with a right to appoint four directors. The U.S. Treasury’s Warranty Support Program also backs Chrysler’s warranties. Taxpayers have also extended a $1.5B loan to Chrysler Financial and 

have provided $1.5B to the Chrysler auto supplier support program.

• Fannie Mae—Fannie is currently under Treasury-directed conservatorship and 

has received $34.2 billion in funding from taxpayers. The Federal Reserve also 

holds $71.5 billion in Fannie and Freddie’s debt and holds $365.8 billion in 

mortgage-backed securities guaranteed by the firms.

• Freddie Mac—Freddie is currently under Treasury-directed conservatorship and 

has received $51.7 billion in funding from taxpayers. The Federal Reserve also 

holds $71.5 billion in Fannie and Freddie’s debt and holds $365.8 billion in 

mortgage-backed securities guaranteed by the firms.

• AIG—The Federal Government replaced the company’s CEO, has limited executive compensation, has provided $173.4 billion to AIG, and has taken a 79.9% 

stake in the company.

• Citigroup—The Federal Reserve has guaranteed losses on $306 billion of assets 

owned by Citigroup and Treasury has purchased $20B in Citigroup preferred 

shares.

• Bank of America—The Federal Reserve has guaranteed losses on $118 billion 

on assets owned by BOA and Treasury has purchased $20 billion of BOA preferred shares.

• Bear Stearns—As part of a government-structured deal for JPMorgan Chase to 

acquire Bear Stearns, the Federal Reserve purchased $30 billion of Bear 

Stearns’ assets through a new LLC that the Fed created and controls.

Please detail for me the plan the Federal Government is following to end its financial and/or ownership interest in each of these entities and every other private 

entity in which it currently holds some ownership or financial interest. What is the 

government’s exit strategy? What are the benchmarks that will be used to track the 

progress being made? I believe it is imperative that the American people be given 

a candid and thorough answer. 

64

Answer. In late 2008 and early 2009, our country was in the midst of one of the 

most severe financial crises of the past century, and the economy was in danger of 

even further deterioration or collapse. The initial actions taken by the Federal Reserve and the U.S. Government at the onset of the financial crisis and the comprehensive, forceful, and sustained commitment to fiscal stimulus and financial stability made under the Obama Administration represented the first stage of our policy response. Now, in part as a result of these actions, we are entering the next 

phase of our efforts: moving from rescue of our financial system to a period of stabilization, rehabilitation, and rebuilding. 

This next phase will focus on winding down those programs that were once necessary to prevent systemic failure. The use of those programs, by design, continues 

to decline as the financial system recovers, and the U.S. Government is being repaid 

for its investments. But this phase will also involve ensuring that those policies and 

programs that are still necessary for financial and economic recovery are maintained and well executed, making clear that the U.S. Government still stands ready 

to do whatever is needed to ensure a lasting recovery. 

The government’s exit strategy for each policy you identify is tied to its purpose. 

There are two basic categories. First, there are broad policies and programs designed to restore and sustain confidence in whole classes of financial institutions 

and the basic functioning of key financial markets. This includes capital injections 

for banks, bank liability guarantees, support for money market mutual funds and 

the commercial paper market, initiatives to encourage lending to consumers and 

businesses, and programs to stabilize the housing markets. Second, there are narrow initiatives designed to support key financial institutions. 

I. Stabilization Policies 

The broad policies aimed at stabilizing the financial system were designed to terminate naturally. In part, the programs were designed to protect taxpayers’ interests by being increasingly expensive for participants. Fees and other pricing aspects 

make them increasingly unattractive as time passes and financial conditions stabilize. Indeed, utilization of many of these programs has already declined substantially as the participants have succeeded in raising capital in private markets. Further, many of the programs have sunset provisions. Below, we discuss these aspects 

of each of the major programs. 

A. Troubled Asset Relief Program (TARP) 

Treasury has used TARP authority to make a little over $200 billion in capital 

injections in banks through the Capital Purchase Program (CPP). This program was 

designed to stabilize the banking system, because banks’ balance sheets had been 

severely impaired during the crisis due to losses on mortgage-related assets, increased borrowing costs, and collapsing share prices. CPP funds were disbursed as 

investments in which Treasury received preferred equity (or subordinated debentures in some cases) and warrants. The preferred equity provides dividends of five 

percent for the first 5 years of the investment and nine percent thereafter. 

Over $70 billion invested under the CPP has already been repaid. In other words, 

Treasury has recovered over a third of its CPP investment. In addition, Treasury 

has received roughly $10 billion in income from CPP investments, including dividends, interest, fees, and proceeds from the sale of warrants and some preferred equity. For the 23 institutions in which Treasury’s CPP investments have been fully 

repaid, Treasury earned an annualized average return of 17 percent. 

The Supervisory Capital Assessment Program (SCAP), more commonly known as 

the ‘‘stress test,’’ contributed to the repayments to date by helping to convince market participants that major banks could absorb the losses that might come with an 

adverse economic scenario. The enhanced market confidence enabled financial institutions to raise new capital which was used to repay Treasury. 

Treasury’s authority to make new commitments under the CPP and other programs authorized by the Emergency Economic Stabilization Act of 2008 (EESA) will 

expire on December 31, 2009, unless the Secretary of the Treasury decides to extend 

that authority to no later than October 3, 2010. Therefore, the ability to provide new 

assistance under EESA is limited to a time frame set by the law. 

B. Money Market Mutual Fund Guarantee Program 

At the height of the crisis last fall, Treasury established the Money Market Mutual Fund Guarantee Program to prevent a run on money market mutual funds in 

the wake of the failure of Lehman Brothers and the well-publicized troubles of several large funds. This program—which provided protection for about $2.5 trillion in 

investments—expired on September 18. Due to improved market confidence, Treasury has determined that it does not need to establish a successor program. Since 

65

inception, Treasury has had no losses under this program. In fact, it has earned the 

U.S. Government $1.2 billion in fees. 

C. FDIC Programs 

In response to the financial crisis, the FDIC’s role as guarantor of liabilities of 

depository institutions was expanded. Specifically, the FDIC began insuring noninterest-bearing transaction accounts and short- and medium-term senior unsecured 

debt issued under its Temporary Liquidity Guarantee Program (TLGP). 

Like the Treasury’s CPP program, TLGP was designed to be expensive for participants once market conditions improved. Early in the program, fees to issue debt 

under the TLGP ranged between 50 to 100 basis points, depending on maturity. The 

FDIC increased those fees on April 1, 2009, by 25 to 50 basis points. To date, the 

fees have generated roughly $9 billion in income. As markets have stabilized, the 

cost of borrowing in private markets has declined to levels that make TLGP fees 

unattractive, and utilization of the TLGP debt guarantee program has declined. 

Issuance peaked at $113 billion in December and was roughly $2 billion in August. 

In addition, the stock of guaranteed debt has fallen by nearly $50 billion since early 

June. 

These programs are also subject to ‘‘sunset’’ provisions. After receiving comments 

and determining that the program was still necessary for market stability, the FDIC 

recently extended the guarantee on transaction accounts under the TLGP to June 

30, 2010. However, in doing so it increased the fee from 10 basis points to 15–25 

basis points, depending on an institution’s risk category. This fee increase will help 

ensure that the program is self-funding and does not impose losses on the Deposit 

Insurance Fund. 

The last day for new issuance under the TLGP senior debt guarantee program is 

currently October 31, 2009. On September 9, 2009, the FDIC Board of Directors approved the phase out of this program as scheduled. In conjunction with this phase 

out, the FDIC is seeking comment on whether a temporary emergency facility 

should be put in place for 6 months after the expiration of the current program. 

Such a facility could provide additional guarantees for new issuance, at a substantially higher fee, in the event that participants are unable to access credit markets 

due to market disruption or other events beyond their control. 

D. Federal Reserve Programs 

The Federal Reserve has implemented a number of programs designed to stabilize 

financial markets since the onset of the crisis. One set of programs provides liquidity directly to borrowers and investors in key credit markets. Such programs include 

the Commercial Paper Funding Facility (CPFF), the Asset-Backed Commercial 

Paper Money Market Mutual Fund Liquidity Facility (AMLF), the Money Market 

Investor Funding Facility (MMIFF), and the Term Asset-Backed Securities Loan Facility (TALF). 

Utilization of these liquidity programs has declined as market conditions have improved. For example, credit extended under the CPFF has declined from a peak of 

$350 billion in January to $46 billion recently, and lending under the AMLF has 

fallen from $152 billion to $79 million. The Federal Reserve charges interest on 

loans under each of these programs. Further, the Federal Reserve announced that 

it will terminate the MMIFF on October 30, the CPFF and AMLF on February 1, 

2010, and the TALF on June 30, 2010. 

II. Policies to Support Systemically Significant Institutions 

The government’s interventions to support specific systemically significant companies during this crisis have been focused on the objective of stabilizing the financial 

sector and the economy while protecting the taxpayers’ investment. We have set 

clear principles to ensure that our investments in those companies are limited and 

temporary. We will not seek to participate in the management of their day-to-day 

operations. We will exit these investments as soon as practical, while protecting taxpayers and promoting financial stability. 

A. Auto Industry 

The New General Motors and the New Chrysler recently emerged from expedited 

bankruptcies. The government’s support in that process has prevented substantial 

job losses, led to orderly restructurings, and helped stabilize economic and financial 

markets. In exchange, the taxpayer received a combination of debt, preferred equity 

and equity, along with a government commitment to manage those investments 

commercially and exit from the investments as quickly as is practicable. 

The government has been a reluctant shareholder in General Motors and Chrysler. It committed tax dollars on the strict condition that these companies and their 

stakeholders were willing to fundamentally transform, address prior bad business 

66

decisions, and chart a path toward long-term financial viability without ongoing government assistance. The government rejected the initial viability plans of both companies, and it was only after a lengthy process that acceptable plans were formulated and implemented, which involved sacrifices and commitments from all stakeholders. Throughout the restructuring process, the Auto Task Force has refrained 

from intervening in the day-to-day decisions of these companies. Such intervention 

could seriously undermine the companies’ long-term viability and, consequently, the 

government’s ability to maximize the recovery of taxpayer dollars. 

The termination of the Auto Warranty Commitment Program demonstrates the 

government’s prudent use of taxpayer funds and commitment to exit. The government invested $641 million in the Warranty Program to give confidence to GM’s and 

Chrysler’s customers during a period of substantial uncertainty. Following the companies’ emergence from bankruptcy, the money invested in the program has been 

returned, along with interest payments from New Chrysler. Similarly, Treasury has 

decreased the commitments under the Auto Supplier Support Program to $2.5 billion and $1 billion for GM and Chrysler, respectively. 

We also note that Chrysler Financial has fully repaid the investment made by the 

government. 

B. Government-Sponsored Enterprises 

Government-Sponsored Enterprises (GSEs) Fannie Mae and Freddie Mac experienced substantial losses from exposure to the housing market during the crisis. In 

September 2008, they were placed in Federal conservatorship. 

The government has invested directly and indirectly in the GSEs to maintain liquidity in the residential mortgage market. Treasury entered into Preferred Stock 

Purchase Agreements (PSPAs) with the GSEs, whereby Treasury purchased preferred equity in the companies and committed to provide funding to the companies 

to compensate for shortfalls in earnings, up to a maximum of $400 billion combined 

for both entities. The GSEs have received approximately $96 billion under these 

agreements and paid the government over $2 billion in dividends on the preferred 

equity. Treasury and the Federal Reserve also established credit lines for the GSEs. 

Neither has been used. Finally, Treasury and the Federal Reserve have been purchasing mortgage-backed securities (MBS) guaranteed by the GSEs, and the Federal 

Reserve has also purchased GSE-issued debt. 

The government’s exit strategy for the GSEs varies by program. Purchases under 

the PSPAs are limited to $400 billion in the aggregate. Treasury’s credit facility is 

scheduled to terminate at the end of this year. Treasury will also complete its purchases of GSE MBS by the end of 2009, while the Federal Reserve anticipates that 

it will complete its purchases of GSE MBS and direct obligations by the end of the 

first quarter of 2010. Treasury can hold its portfolio of GSE MBS to maturity, and, 

based on mortgage market conditions, Treasury may make adjustments to the portfolio. 

Improving market conditions have benefited the GSEs. Their cost of borrowing 

has come down dramatically since the peak of the crisis, and the Federal Reserve 

has slowed its purchases of GSE debt. Freddie Mac reported positive net income and 

net worth for the second quarter of 2009, while losses slowed at Fannie Mae. As 

a result, requested draws under the PSPAs fell to $11 billion in the past quarter. 

The government’s investments and the conservatorship process have helped keep 

mortgage rates at affordable levels for American families and we look forward to 

working with Congress on the long term structure of the GSEs. 

C. American International Group (AIG) 

Treasury and the Federal Reserve have provided credit to AIG in the form of equity purchases (Treasury) and secured lending (Federal Reserve). The Federal Reserve Bank of New York (FRBNY) provided a credit facility in September 2008, and 

in connection therewith it received convertible preferred shares. In November 2008, 

Treasury purchased $40 billion in cumulative preferred shares from AIG which was 

used to reduce some of the FRBNY’s credit facility. In April 2009, Treasury exchanged those cumulative preferred shares for $41.6 billion in non-cumulative preferred shares and also created an equity capital facility, which expires no later than 

April 17, 2014, under which AIG may draw up to $29.8 billion as needed. The preferred equity provides a ten percent dividend, and AIG has requested a little over 

$3 billion to date through the Treasury facility. 

It should be noted that the FRBNY contributed the convertible preferred shares 

to a trust for the benefit of the taxpayer. The trust is managed by independent 

trustees who are not government employees. These trustees have the discretion to 

vote the shares, which represent approximately 80% of the voting rights of the outVerDate 0ct 09 2002 16:18 Oct 28, 2009 Jkt 041481 PO 00000 Frm 00072 Fmt 6621 Sfmt 6621 I:\DOCS\111-23\53021.TXT AGR1 PsN: BRIAN
67

standing common stock. They have elected a new board of directors, and that board 

has chosen a new chief executive officer. 

AIG’s new management is working to unwind the complex financial transactions 

that have generated substantial losses for the firm, and they are working to improve 

the viability of the firm’s core businesses. Treasury will continue to work with the 

Fed and AIG to maximize the recovery of taxpayer dollars. 

D. Citigroup and Bank of America 

The government has invested in Citigroup and Bank of America through two programs: CPP and the Targeted Investment Program (TIP). The government also provided guarantees to Citigroup pursuant to the Asset Guarantee Program (AGP). Through the TIP, the government purchased $20 billion in preferred equity in 

each company. It also received warrants. The preferred equity pays eight percent 

in dividends. 

Only Citigroup has entered into an agreement with the government to participate in the AGP. It is structured as a loss-sharing agreement for $301 billion in residential and nonresidential assets. Citigroup is responsible for the first $39.5 billion of 

losses on the assets. Treasury covers $5 billion of the next loss, with Citi covering 

an additional $0.55 billion. The FDIC guarantees the next $10 billion in losses, and 

Citi covers an additional $1.1 billion. The Federal Reserve would then provide a secured loan equal to 90 percent of the remaining value in the pool collateralized by 

those assets, with Citi covering other losses. 

In return for their support under the AGP, Treasury and the FDIC have received roughly $7 billion in Citi preferred equity, which provides cumulative dividends of 

eight percent. There have been no claim payments to Citi under the guarantee. 

As part of an exchange offer to strengthen Citigroup’s tangible common equity 

capital, Treasury converted the preferred stock received under the CPP investment 

for common stock which has increased significantly in value. Treasury and the FDIC 

also converted the preferred stock received under the TIP and AGP transactions for 

trust preferred securities. 

On January 15, 2009, Treasury, the Federal Reserve, and the FDIC signed a term sheet with Bank of America to provide a guarantee of losses on $118 billion in assets. The parties never entered into a definitive agreement, and on September 21, 

2009, the parties entered into a termination agreement with respect to this arrangement, under which Bank of America paid the government a total of $425 million. 

The fee was paid because Bank of America received value from the agreed-to term 

sheet, including the representation that the government would guarantee losses 

from and after January 15, 2009 and the benefits that signing the term sheet had 

on market confidence in the company. The fee was equal to the fee that would have 

been payable had the definitive documentation been entered into, as adjusted for 

the shorter period and for certain changes to the asset pool that were discussed in 

the negotiations. 

We will continue to work with Citi, Bank of America, and their regulators to ensure that they can repay the taxpayer as soon as they are able. 

E. Bear Stearns/JPMorgan 

The Federal Reserve has not directly purchased any assets of Bear Stearns. It has provided approximately $29 billion in loans secured against former Bear Stearns assets in an entity called Maiden Lane LLC. The Federal Reserve is a senior creditor 

and receives interest payments for its senior loan. 

The Federal Reserve retained an outside financial advisor to manage the assets 

held in the Maiden Lane LLC portfolio. The advisor’s primary objective is to pay 

off the senior loan, including principal and interest, while refraining from investment actions that would disturb general financial market conditions. Financial 

statements for the LLC are available at http://www.newyorkfed.org/markets/

maidenlane.html.

III. Transparency and Oversight 

Treasury, FDIC, and the Federal Reserve all publish detailed information regarding their financial programs online and in printed publications. Treasury recently 

published a report entitled The Next Phase of Government Financial Stabilization 

and Rehabilitation Policies, which is available at: http://

www.financialstability.gov/latest/09142009lstatusReport.html.

In addition, details regarding Treasury programs authorized by EESA, including 

new investments and repayments, are reported on the Treasury’s website: http://

www.financialstability.gov/.

The FDIC publishes details of its programs, along with monthly and quarterly reports, at: http://www.fdic.gov/regulations/resources/TLGP/index.html and http://

www2.fdic.gov/QBP/index.asp.

68

* There was no response from the witnesses by the time this hearing went to press. 

The Federal Reserve provides details of its programs at http://

www.newyorkfed.org/ and in reports and testimony available at: http://

www.federalreserve.gov/monetarypolicy/bst.htm and http://www.federalreserve.gov/

monetarypolicy/mprldefault.htm.

Several entities provide oversight of the government’s financial programs. For example, Treasury continues to work with the Special Inspector General for TARP and 

the Congressional Oversight Panel to improve transparency and management of its 

programs. Publications and testimony from these oversight bodies can be found at: 

http://www.sigtarp.gov/ and http://cop.senate.gov/, respectively. 

The Office of Management and Budget and the Government Accountability Office 

(GAO) also provide oversight of Treasury and FDIC programs. The Federal Reserve 

is subject to oversight by Congress. Board governors and staff testify before Congress frequently to discuss issues within the Federal Reserve’s purview. The GAO 

also has broad authority to review and audit Federal Reserve activities. And the 

Board of Governors and Reserve Banks undergo internal and external audits. 

Question Submitted By Hon. Erik Paulsen, a Representative in Congress from Minnesota * 

Question. Some are proposing that all derivatives have to either go on an exchange or be cleared. There are obvious problems with trying to shoe-horn customized derivatives onto an exchange. There are also significant costs to end-users 

to forcing derivatives to be cleared. While many talk about the over 90% of Fortune 

500 companies that safely and prudently use customized OTC derivatives today, it 

is also true that half of the mid-sized firms and thousands of smaller U.S. companies also use these tools to manage specific financial risks. Do you agree that requiring all derivatives to be cleared will lead to margin requirements for all end-users? 

Do manufacturers have liquid collateral for these margins easily at hand right now? 

In response to concerns about the costs to clearing, I’ve heard some say that companies will either find the money, or maybe fewer derivatives will be used—and 

they are ok with that. But companies—big and small—use these derivatives to protect against risks they face. What happens to companies that can’t find the collateral to finance the use of derivatives? Would the company face more or less risk in 

their day to day business? And is it in the best interest of the economic growth of 

U.S. business to have capital tied up this way versus investing it in research, plants 

or jobs? 

The strict mandate for cash margin and collateral within the clearinghouse environment has been pointed to as a severe constraint on the end-users of OTC derivatives. End users say that they often use plants and equipment and even real estate 

as collateral in their current bilateral contracts. Clearing houses I understand have 

to require cash under their regulatory rules. What are your thoughts on the need 

to omit cash margin/collateral and provide broad flexibility? By allowing real estate 

and other seemingly illiquid sources for collateral/margin are we setting the stage 

for the next risk bucket or should cash be king in this arena in light of recent 

events? 

Banks currently use CLS (Continuous Linked Settlement Bank) for foreign exchange settlements. On average CLS settles up to $10 trillion each day in foreign 

exchange related payment obligations and has been recognized by G10 central 

banks as a significant mitigator of settlement risk in the foreign exchange market. 

Given that a platform like this already exists in the foreign exchange market, do 

you support significant modifications to the way the foreign exchange market works 

and if so, why? 

Question Submitted By Hon. Bill Cassidy, a Representative in Congress from Louisiana *

Hon. TIMOTHY F. GEITHNER,

Secretary,

U.S. Department of the Treasury.

Question. At the July 10, 2009 House Agriculture/Financial Services Committee 

joint hearing, we spoke regarding the effects of the Administration’s proposal on 

publicly-owned utilities. 

As follow up, not-for-profit public utilities have asked if prepayment transactions 

utilizing tax-exempt financing for the prepayment of contracts would be eliminated 

and are concerned that the imposition of cash-margin requirements would drive up 

costs to consumers. 

69

How does the Administration propose to mitigate cash-margin requirements for 

these public not-for-profit hedgers? In addition, has the Administration considered 

imposing additional reporting requirements for over-the-counter market transparency without the standardized clearing requirement? 

I appreciate your attention to these important questions as Congress continues to 

work with you on striking the appropriate balance between preserving stability in 

our markets and fostering innovative methods for market participants to manage 

risk. 

Sincerely,

Hon. BILL CASSIDY,

Member of Congress.

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