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S. HRG. 112–8 

FEDERAL RESERVE’S FIRST MONETARY POLICY 

REPORT FOR 2011 

HEARING 

BEFORE THE

COMMITTEE ON 

BANKING, HOUSING, AND URBAN AFFAIRS 

UNITED STATES SENATE 

ONE HUNDRED TWELFTH CONGRESS 

FIRST SESSION 

ON 

OVERSIGHT ON THE MONETARY POLICY REPORT TO CONGRESS PURSUANT TO THE FULL EMPLOYMENT AND BALANCED GROWTH ACT OF 1978 

MARCH 1, 2011 

Printed for the use of the Committee on Banking, Housing, and Urban Affairs 

( 

Available at: http://www.fdsys.gov/ 
COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS 

TIM JOHNSON, South Dakota, Chairman 

JACK REED, Rhode Island 

CHARLES E. SCHUMER, New York 

ROBERT MENENDEZ, New Jersey 

DANIEL K. AKAKA, Hawaii 

SHERROD BROWN, Ohio 

JON TESTER, Montana 

HERB KOHL, Wisconsin 

MARK R. WARNER, Virginia 

JEFF MERKLEY, Oregon 

MICHAEL F. BENNET, Colorado 

KAY HAGAN, North Carolina 

RICHARD C. SHELBY, Alabama 

MIKE CRAPO, Idaho 

BOB CORKER, Tennessee 

JIM DEMINT, South Carolina 

DAVID VITTER, Louisiana 

MIKE JOHANNS, Nebraska 

PATRICK J. TOOMEY, Pennsylvania 

MARK KIRK, Illinois 

JERRY MORAN, Kansas 

ROGER F. WICKER, Mississippi 

DWIGHT FETTIG, Staff Director 

WILLIAM D. DUHNKE, Republican Staff Director 

LYNSEY GRAHAM REA, Chief Counsel 

LAURA SWANSON, Professional Staff Member 

ANDREW J. OLMEM, JR., Republican Senior Counsel 

MICHAEL PIWOWAR, Republican Senior Economist 

DAWN RATLIFF, Chief Clerk 

WILLIAM FIELDS, Hearing Clerk 

SHELVIN SIMMONS, IT Director 

JIM CROWELL, Editor 

(II)
C O N T E N T S 

TUESDAY, MARCH 1, 2011 

Page 

Opening statement of Chairman Johnson ............................................................. 1 

Opening statements, comments, or prepared statements of: 

Senator Shelby .................................................................................................. 2 

WITNESS 

Ben S. Bernanke, Chairman, Board of Governors of the Federal Reserve 

System ................................................................................................................... 3 

Prepared statement .......................................................................................... 43 

Responses to written questions of: 

Chairman Johnson .................................................................................... 48 

Senator Reed .............................................................................................. 50 

Senator Akaka ........................................................................................... 53 

Senator Merkley ........................................................................................ 56 

Senator Vitter ............................................................................................ 60 

Senator Wicker .......................................................................................... 69 

ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD

Monetary Policy Report to the Congress dated March 1, 2011 ............................ 75 

(III)

(1) 

FEDERAL RESERVE’S FIRST MONETARY 

POLICY REPORT FOR 2011 

TUESDAY, MARCH 1, 2011 

U.S. SENATE, COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, Washington, DC. 

The Committee met at 10:03 a.m., in room SH–216, Hart Senate 

Office Building, Hon. Tim Johnson, Chairman of the Committee, 

presiding. 

OPENING STATEMENT OF CHAIRMAN TIM JOHNSON 

Chairman JOHNSON. I would like to call this Committee to order. 

I want to thank Chairman Bernanke for being here today to deliver the Semiannual Monetary Policy Report to the Congress. 

Chairman Bernanke, your reports to this Committee are a reminder of how far we have come in just a few short years, but it 

is also the challenges our Nation continues to face. 

I am pleased that our economy continues to show positive signs 

of recovery. Two-point-eight percent growth in 2010 is a start. But 

I remain concerned about sustaining the recovery and being able 

to strike the right balance of positive growth, low inflation, increased employment, and long-term deficit reduction. 

As Chairman of the Fed, you have strived to strike that balance, 

but not without some controversy. The Fed has taken unprecedented steps to minimize the negative impact of the financial crisis 

and get us back on track, including a second round of quantitative 

easing. While some critics have been very vocal, even going so far 

as to call for an end to the Fed’s dual mandate, I believe that you 

should be commended for your work. As the economy continues to 

struggle to recover, we should be using every tool in the toolbox to 

create jobs and spur growth. Taking tools away from the Fed now 

is the wrong idea at the wrong time. 

Clearly, there are many challenges ahead and the Fed has an important role to play. American consumption continues to be depressed, and without increased demand, businesses will be reluctant to expand, increase output, or hire new employees. It was encouraging to see the unemployment rate drop to 9.0 percent in December, but the duration of the average unemployment period has 

increased. While subprime mortgages made up the initial wave of 

the foreclosure crisis, we are now also seeing millions of families 

facing foreclosure because of unemployment. Even optimistic forecasters say it will take several years before the unemployment rate 

returns to precrisis levels, but it is going to require effective policies to jump-start hiring, production, and exports. 
2 

Congress has taken steps to spur growth, including measures to 

increase small business lending and to provide needed certainty 

and protection in the financial system. There is certainly more we 

as Congress can do and must do to ensure our economy is on solid 

ground, and only then can we turn our focus entirely to deficit reduction. 

Chairman Bernanke, today, I am very interested in hearing your 

analysis of our current economic situation and what more Congress 

and the Fed can do to increase output, employment, and overall 

economic growth. I would also like to hear your thoughts on how 

we balance sustainable economic growth amid calls to cut Government spending and reduce the Nation’s deficit. As a Nation, we 

face significant challenges and I appreciate your thoughts on these 

challenges today. 

Ranking Member Shelby. 

STATEMENT OF SENATOR RICHARD C. SHELBY 

Senator SHELBY. Thank you. Thank you, Chairman Johnson. 

Chairman Bernanke, welcome again to the Committee. 

Over the past year, the Fed’s balance sheet has increased to $200 

billion and now stands at over $2.5 trillion. In the upcoming 

months, the Federal Reserve’s balance sheet is expected, Mr. 

Chairman, as I understand it, to balloon even further. 

Last November, the Federal Open Market Committee, FOMC, 

announced its intent to purchase an additional $600 billion of 

Treasuries by the middle of this year. The second round of so-called 

quantitative easing, commonly referred to as QE2, means that the 

Fed will be purchasing the equivalent of all Treasury debt issued 

through June. Chairman Bernanke has said that the QE2 is necessary because of the high unemployment rate, low inflation rate, 

and near zero Federal funds rate. 

QE2, however, has not been strongly embraced by all of the 

members of the Federal Open Market Committee. From the beginning, one Fed bank president has voted against QE2 because the 

purchase of additional securities could cause, he thinks, an increase in long-term inflationary expectations and thereby destabilize the economy. Three other members of the FOMC have publicly stated that an early end to QE2 may be required to help limit 

inflation pressures. And a fifth member has said that we are, 

quote, ‘‘pushing the envelope’’ with the QE2 purchases. 

In addition, several prominent economists have publicly urged 

the Fed to discontinue QE2, stating that it risks sparking inflation 

and it is not helpful in addressing our fundamental economic problems. 

These are serious questions, Mr. Chairman, of the QE2. After all, 

once price stability has been lost, as you well know, it is difficult 

and very costly to regain. I think we only need to remember the 

soaring interest rates and high unemployment that followed Chairman Volcker’s efforts in the early 1980s to regain control over inflation. 

In light of the risk that the Fed is taking with QE2, I believe it 

is appropriate that the Fed provide a more thorough explanation 

of what it hopes to accomplish with QE2. Is it an effort to reduce 

unemployment by tolerating a higher inflation rate? Is the purpose 
3 

to help the Administration out of its fiscal problems by monetizing 

Federal debt? Is the purpose to inflate our way out of our housing 

problems, or is it something else? 

Additionally, the Fed has not yet clearly articulated the basis on 

which QE2 should be judged. For example, if inflation rises to 3 

percent, is QE2 still deemed a success? If unemployment stays 

above 8 percent, is QE2 a success? If inflation falls to near zero, 

is QE2 a success? 

These basic questions cannot be answered without clearer guidance from the Federal Reserve. Today, Mr. Chairman, I hope that 

you explain how the Fed will determine if QE2 is working and how 

the Fed believes QE2 should be evaluated. I hope to hear what indicators the Fed will use to determine if QE2 needs to be scaled 

back or expanded. 

Make no mistake. We all know the Fed has had to respond to 

the worst economy in a generation. Unemployment stands at 9 percent. Home prices continue to decline. And the Federal deficit exceeds $1.3 trillion. Monetary policy is always a difficult task, but 

our fragile economy and perilous fiscal situation have presented 

new and difficult challenges for the Fed, Mr. Chairman, as you 

know. 

However, I believe that the public, the American taxpayer, deserves to have clear measures by which it can easily evaluate Fed 

policy, especially extraordinary actions like QE2. Without clear 

metrics, the public cannot determine if QE2 was a success, nor can 

it hold the Fed accountable for failure or success. 

Thank you, Mr. Chairman. 

Chairman JOHNSON. Thank you, Senator Shelby. 

I would like to briefly introduce our witness, the Honorable Ben 

S. Bernanke, Chairman of the Board of Governors of the Federal 

Reserve System, currently serving his second term, which began on 

February 1, 2010. Prior to becoming Chairman, Dr. Bernanke was 

Chairman of the President’s Council of Economic Advisors from 

2005 to 2006. In addition to serving the Federal Reserve System 

in a variety of roles, Dr. Bernanke was previously a Professor of 

Economics and Public Affairs at Princeton University. 

I want to thank you again for being here today. Chairman 

Bernanke, you may begin your testimony. 

STATEMENT OF BEN S. BERNANKE, CHAIRMAN, BOARD OF 

GOVERNORS OF THE FEDERAL RESERVE SYSTEM 

Mr. BERNANKE. Thank you, Mr. Chairman. Chairman Johnson, 

Ranking Member Shelby, and other Members of the Committee, I 

am pleased to present the Federal Reserve’s Semiannual Monetary 

Policy Report to the Congress. I will begin with a discussion of economic conditions and the outlook before turning to monetary policy. 

Following the stabilization of economic activity in mid-2009, the 

U.S. economy is now in its seventh quarter of growth. Last quarter, 

for the first time in this expansion, our Nation’s real GDP matched 

its precrisis peak. Nevertheless, job growth remains relatively 

weak and the unemployment rate is still high. 

In its early stages, the economic recovery was largely attributable to the stabilization of the financial system, the effects of expansionary, monetary, and fiscal policies, and a strong boost to pro-
4 

duction from businesses rebuilding their depleted inventories. Economic growth slowed significantly in the spring and early summer 

of 2010, as the impetus from inventory building and fiscal stimulus 

diminished and as Europe’s debt problems roiled global financial 

markets. 

More recently we have seen increased evidence that a self-sustaining recovery in consumer and business spending may be taking 

hold. Notably, real consumer spending has grown at a solid pace 

since last fall and business investment in new equipment and software has continued to expand. Stronger demand, both domestic 

and foreign, has supported steady gains in U.S. manufacturing output. 

The combination of rising household and business confidence, accommodative monetary policy, and improving credit conditions 

seems likely to lead to a somewhat more rapid pace of economic recovery in 2011 than we saw last year. The most recent economic 

projections by the Federal Reserve Board members and Reserve 

Bank presidents, prepared in conjunction with the FOMC meeting 

in late January, are for real GDP to increase 3.5 to 4 percent in 

2011, about one-half percentage point higher than our projections 

made in November. Private forecasters’ projections for 2011 are 

broadly consistent with those of FOMC participants and have also 

moved up in recent months. 

While indicators of spending and production have been encouraging on balance, the job market has improved only slowly. Following the loss of about eight-and-three-quarter million jobs from 

early 2008 through 2009, private sector employment expanded by 

only a little more than one million during 2010, a gain barely sufficient to accommodate the inflow of recent graduates and other entrants to the labor force. 

We do see some grounds for optimism about the job market over 

the next few quarters, including notable declines in the unemployment rate in December and January, a drop in new claims for unemployment insurance, and an improvement in firms’ hiring plans. 

Even so, if the rate of economic growth remains moderate, as projected, it could be several years before the unemployment rate has 

returned to a more normal level. Indeed, FOMC participants generally see the unemployment rate still in the range of 7.5 to 8 percent at the end of 2012. Until we see a sustained period of stronger 

job creation, we cannot consider the recovery to be truly established. 

Likewise, the housing sector remains exceptionally weak. The 

overhang of vacant and foreclosed houses is still weighing heavily 

on prices of new and existing homes, and sales and construction of 

new single-family homes remain depressed. Although mortgage 

rates are low and house prices have reached more affordable levels, 

many potential home buyers are still finding mortgages difficult to 

obtain and remain concerned about possible further declines in 

home values. 

Inflation has declined since the onset of the financial crisis, reflecting high levels of resource slack and stable longer-term inflation expectations. Indeed, over the 12 months ending in January, 

prices for all of the goods and services consumed by households, as 

measured by the Price Index or personal consumption expendi-
5 

tures, increased by only 1.2 percent, down from 2.5 percent in the 

year earlier period. 

Wage growth has slowed, as well, with average hourly earnings 

increasingly only 1.9 percent over the year ending in January. In 

combination with productivity increases, slow wage growth has implied very tight restraint on labor cost per unit of output. 

FOMC participants see inflation remaining low. Most project 

that overall inflation will be about 1.25 to 1.75 percent this year, 

and in the range of one to 2 percent next year and in 2013. Private 

sector forecasters generally also anticipate subdued inflation over 

the next few years. Measures of medium- and long-term inflation 

compensation derived from inflation indexed Treasury bonds appear broadly consistent with these forecasts. Surveys of households 

suggest that the public’s longer-term inflation expectations also remain stable. 

Although overall inflation is low, we have seen significant increases in some highly visible prices, including those of gasoline 

and other commodities. Notably, in the past few weeks, concerns 

about unrest in the Middle East and North Africa and the possible 

effects on global oil supplies have led oil and gasoline prices to rise 

further. More broadly, the increases in commodity prices in recent 

months have largely reflected rising global demand for raw materials, particularly in some fast-growing emerging market economies, coupled with constraints on global supply in some cases. 

Commodity prices have risen significantly in terms of all major currencies, suggesting that changes in the foreign exchange value of 

the dollar are unlikely to have been an important driver of the increases seen in recent months. 

The rate of pass through from commodity price increases to 

broad indexes of U.S. consumer prices has been quite low in recent 

decades, partly reflecting the relatively small weight of material inputs and total production costs, as well as the stability of longerterm inflation expectations. Currently, the cost pressures from 

higher commodity prices are also being offset by the stability in 

unit labor costs. Thus, the most likely outcome is that the recent 

rise in commodity prices will lead to a temporary and relatively 

modest increase in U.S. consumer price inflation, an outlook consistent with the projections of both FOMC participants and most 

private forecasters. 

That said, sustained rises in the prices of oil or other commodities would represent a threat both to economic growth and to overall price stability, particularly if they were to cause inflation expectations to become less well anchored. We will continue to monitor 

these developments closely and are prepared to respond as necessary to best support the ongoing recovery in a context of price 

stability. 

As I noted earlier, the pace of recovery slowed last spring to a 

rate that, if sustained, would have been insufficient to make meaningful progress against unemployment. With job creation stalling, 

concerns about the sustainability of the recovery increased. At the 

same time, inflation, already at low levels, continued to drift downward, and market-based measures of inflation compensation moved 

lower as investors appeared to become more concerned about the 

possibility of deflation, or falling prices. 
6 

Under such conditions, the Federal Reserve would normally ease 

monetary policy by reducing the target for its short-term policy interest rate, the Federal Funds Rate. However, the target range for 

the Federal Funds Rate has been near zero since December 2008 

and the Federal Reserve has indicated that economic conditions are 

likely to warrant an exceptionally low target for an extended period. 

Consequently, another means of providing monetary accommodation has been necessary since that time. In particular, over the 

past 2 years, the Federal Reserve has eased monetary conditions 

by purchasing longer-term Treasury securities, agency debt, and 

agency mortgage-backed securities on the open market. The largest 

program of purchases, which lasted from December 2008 through 

March 2010, appears to have contributed to an improvement in financial conditions and a strengthening of the recovery. Notably, 

the substantial expansion of the program announced in March 

2009 was followed by financial and economic stabilization and a 

significant pick-up in growth in economic activity in the second half 

of that year. 

In August 2010, in response to the already mentioned concerns 

about the sustainability of the recovery and the continuing declines 

in inflation to very low levels, the FOMC authorized a policy of reinvesting principal payments on our holdings of agency debt and 

agency MBS into longer-term Treasury securities. By reinvesting 

agency securities rather than allowing them to continue to run off, 

as our previous policy had dictated, the FOMC ensured that a high 

level of monetary policy accommodation would be maintained. 

Over subsequent weeks, Federal Reserve officials noted in public 

remarks that we were considering providing additional monetary 

accommodation through further asset purchases. In November, the 

Committee announced that it intended to purchase an additional 

$600 billion in longer-term Treasury securities by the middle of 

this year. Large-scale purchases of longer-term securities are a less 

familiar means of providing monetary policy stimulus than reducing the Federal Funds Rate, but the two approaches affect the 

economy in similar ways. 

Conventional monetary policy easing works by lowering market 

expectations for the future path of short-term interest rates, which 

in turn reduces the current level of longer-term interest rates and 

contributes to both lower borrowing costs and higher asset prices. 

This easing in financial conditions bolsters household and business 

spending and thus increases economic activity. 

By comparison, the Federal Reserve’s purchases of longer-term 

securities by lowering term premiums put downward pressure directly on longer-term interest rates. By easing conditions in credit 

and financial markets, these actions encourage spending by households and businesses through essentially the same channels as conventional monetary policy. 

A wide range of market indicators supports the view that the 

Federal Reserve’s recent actions have been effective. For example, 

since August, when we announced our policy of reinvesting principal payments and indicated that we were considering more securities purchases, equity prices have risen significantly, volatility in 

the equity market has fallen, corporate bond spreads have nar-
7 

rowed, and inflation compensation as measured in the market for 

inflation indexed securities, has risen to historically more normal 

levels. Yields on 5- to 10-year nominal Treasury securities initially 

declined markedly as markets priced with respect to Fed purchases. These yields subsequently rose, however, as investors became more optimistic about economic growth and as traders scaled 

back their expectations of future securities purchases. 

All of these developments are what one would expect to see when 

monetary policy becomes more accommodative, whether through 

conventional or less conventional means. Interestingly, these market responses are almost identical to those that occurred during the 

earlier episode of policy easing, notably in the months following our 

March 2009 announcement. 

In addition, as I already noted, most forecasters see the economic 

outlook as having improved since our actions in August. Downside 

risks to the recovery have receded and the risk of deflation has become negligible. Of course, it is too early to make any firm judgment of how much of the recent improvement in the outlook can 

be attributed to monetary policy, but these developments are consistent with it having had a beneficial effect. 

My colleagues and I continue to regularly review the asset purchase program in light of incoming information and we will adjust 

it, as needed, to promote the achievement of our mandate from the 

Congress of maximum employment and stable prices. We also continue to plan for the eventual exit from unusually accommodative 

monetary policies and the normalization of the Federal Reserve’s 

balance sheet. We have all the tools we need to achieve a smooth 

and effective exit at the appropriate time. 

Currently, because the Federal Reserve’s asset purchases are settled through the banking system, depository institutions hold a 

very high level of reserve balances with the Federal Reserve. But 

even if bank reserves remain high, our ability to pay interest on 

reserve balances will allow us to put upward pressure on shortterm market interest rates and thus to tighten monetary policy 

when required. 

Moreover, we have developed and tested additional tools that will 

allow us to drain or immobilize bank reserves to the extent needed 

to tighten the relationship between the interest paid on reserves 

and other short-term interest rates. If necessary, the Federal Reserve can also drain reserves by seizing the reinvestment of principal payments on the securities it holds by selling some of these 

securities on the open market. The FOMC remains unwaveringly 

committed to price stability, and in particular to achieving a rate 

of inflation in the medium term that is consistent with the Federal 

Reserve’s mandate. 

The Congress established the Federal Reserve and set its monetary policy objectives and provided it with operational independence to pursue those objectives. The Federal Reserve’s operational 

independence is critical, as it allows the FOMC to make monetary 

policy decisions based solely on the longer-term needs of the economy and not in response to short-term political pressures. Considerable evidence supports the view that countries with independent 

central banks enjoy better economic performance over time. 
8 

However, in our democratic society, the Federal Reserve’s independence brings with it an obligation to be accountable and transparent. The Congress and the public must have all the information 

needed to understand our decisions, to be assured of the integrity 

of our operations, and to be confident that our actions are consistent with the mandate given to us by the Congress. 

On matters related to the conduct of monetary policy, the Federal Reserve is one of the most transparent central banks in the 

world, making available extensive records and materials to explain 

its policy decisions. For example, beyond this Semiannual Monetary Policy Report that I am presenting today, the FOMC provides 

a postmeeting statement, a detailed set of minutes 3 weeks after 

each policy meeting, quarterly economic projections together with 

an accompanying narrative, and with a 5-year lag, a transcript of 

each meeting and its supporting materials. In addition, FOMC participants often discuss the economy and monetary policy in public 

forums, and Board members testify frequently before the Congress. 

In recent years, the Federal Reserve has also substantially increased the information it provides about its operations and its balance sheet. In particular, for some time, the Federal Reserve has 

been voluntarily providing extensive financial and operational information regarding the special credit and liquidity facilities put in 

place during the financial crisis, including full descriptions of the 

terms and conditions of each facility, monthly reports on, among 

other things, the types of collateral posted and the mix of participants using each facility, weekly updates about borrowings and repayments at each facility, and many other details. 

Further, on December 1, as provided by the Dodd-Frank Act, the 

Federal Reserve Board posted on its public Web site the details of 

more than 21,000 individual credit and other transactions conducted to stabilize markets and support the economic recovery during the crisis. This transaction-level information demonstrated the 

breadth of these operations and the care that was taken to protect 

the interest of the taxpayer. Indeed, despite the scope of these actions, the Federal Reserve has incurred no credit losses to date on 

any of the programs and expects no credit losses in any of the few 

programs that still have loans outstanding. 

Moreover, we are fully confident that independent assessments of 

these programs will show that they were highly effective in helping 

to stabilize financial markets, thus strengthening the economy. Indeed, the operational effectiveness of the programs was recently 

supported as part of a comprehensive review of six lending facilities by the Board’s independent Office of Inspector General. 

In addition, we have been working closely with the GAO, the Office of the SIGTARP, the Congressional Oversight Panel, the Congress, and private sector auditors on reviews of these facilities as 

well as a range of matters relating to the Federal Reserve’s operations and governance. We will continue to seek ways of enhancing 

our transparency without compromising our ability to conduct policy in the public interest. 

Thank you for your attention. I would be very pleased to take 

your questions. 

Chairman JOHNSON. Thank you, Mr. Chairman. 
9 

I will remind my colleagues that we will keep the record open for 

7 days for statements, questions, and any other material you would 

like to submit, and I will ask the Clerk to put 5 minutes on the 

clock for each Member’s questions. I will not cut you off 

midsentence, but I would appreciate it if you would begin winding 

down with the clock. 

Mr. Chairman, have the bipartisan tax cuts enacted last December been a boost to economic growth, and to what extent does it 

complement the Fed’s QE2 program short term? 

Mr. BERNANKE. Yes, Mr. Chairman. Everything else equal, the 

additional tax cuts, including the payroll tax cut and the business 

expensing provisions, should add to aggregate demand and contribute somewhat to growth in 2011 and 2012. And so in that respect, it is complementary to the Fed’s monetary policy actions. 

I should say that in our projections and forecasts, we try to make 

an assessment of what we think is most likely in terms of fiscal 

policy and we had anticipated, as of November, that many of these 

provisions, including the UI and most of the tax cuts, would be extended, and so we had taken that into account in our analysis. 

That being said, there was some additional stimulus coming from 

the payroll tax cut, which we had not anticipated when we were 

looking in our forecast in November. 

Chairman JOHNSON. What do you see as the impact of rising gasoline prices? 

Mr. BERNANKE. Well, this is something we have to pay very close 

attention to because it affects both sides of our mandate. On the 

one side, it obviously directly affects the inflation rate, and to the 

extent that it raises inflation expectations or reduces confidence in 

the public in the maintenance of low inflation, it can be an inflation risk. 

At the same time, higher gas prices take income out of the pockets of consumers and reduces their spending and their confidence, 

and so it can also be a problem for recovery, and so we have to look 

at it from both perspectives. 

My sense is that the increases that we have seen so far, while 

obviously a problem for a lot of people, do not yet pose a significant 

risk either to the recovery or to the maintenance of overall stable 

inflation. However, we will just have to continue to watch, and if 

we see any significant additional increases, we will obviously have 

to take that very seriously. 

Chairman JOHNSON. What is your perspective on how we can 

promote long-term growth in light of the need to reduce the size 

of the deficit? Are there particular policies or Government investments that will promote U.S. economic growth and our international competitiveness over the long term even as we work to reduce spending overall? 

Mr. BERNANKE. Mr. Chairman, I spoke about this a bit in testimony before the Senate Budget Committee. The fiscal situation is 

very challenging, so on the one hand, it is clearly important and 

indeed a positive thing for growth to achieve long-term fiscal sustainability. That will help keep interest rates down. That will increase confidence. That will mean that future taxes will be lower 

than they otherwise would be, and that will be beneficial for 

growth. 
10 

At the same time, to the extent possible, I hope that Congress 

will not just look at the inflow and outgo but will also think about 

the composition of spending and the structure of the tax code. On 

the tax side, I think there is a good bit that could be done to make 

the tax code more efficient and also more fair and less difficult to 

comply with. On the spending side, I think attention should be paid 

to important areas like research and development, education, infrastructure, and other things that help the economy grow and provide a framework that allows the private sector to bring the economy forward. 

So it is a double challenge. On the one hand, the need to control 

longer-term spending, on the other hand, not to lose sight of the 

importance of making sure that the money that is spent is spent 

effectively and with attention to long-term growth. 

Chairman JOHNSON. Senator Shelby. 

Senator SHELBY. Thank you. Thank you, Mr. Chairman. 

Chairman Bernanke, how did the Federal Reserve initially determine that $600 billion was the appropriate amount for QE2 and 

that 8 months was the appropriate timeframe? 

Mr. BERNANKE. Well, first, Senator, I want to emphasize that in 

last August or so when we were looking at this possibility, we were 

quite concerned about where the economy was. Inflation was declining and deflation risk was rising. Growth had slowed to a point 

where we were unsure that unemployment would even continue to 

decline. It might even begin to rise. And so there was a lot of talk 

about double-dip and that kind of thing. So we felt that we needed 

to take some action. 

In terms of the $600 billion, we have tried through a number of 

methods to establish a correspondence between these purchases 

and what our normal interest rate policies would be, and a rule of 

thumb is that $150 to $200 billion in purchases seems to be roughly equivalent to a 25 basis point cut in the Federal Funds Rate in 

terms of the stimulative power for the economy. So $600 billion is 

roughly a 75 basis point cut in the policy rate in terms of its broad 

impact. 

Seventy-five basis points in normal times would be considered a 

very strong statement, but not one outside of the range of historical 

experience. It would be one that would be taken at a period of concern and then we would observe the effect. So that was roughly the 

analysis that we did. 

Senator SHELBY. In your testimony, you state, and I will quote 

you today, ‘‘The Federal Reserve’s independence brings with it the 

obligation to be accountable and transparent.’’ As I mentioned in 

my opening statement here, I believe that there needs to be a clear 

basis for judging if QE2 is a success or a failure. What specific 

metrics should the public use to evaluate your performance in 

achieving the goals of QE2? In other words, on what basis should 

we judge the success or failure of QE2? 

Mr. BERNANKE. That is an excellent question, Senator, and a 

very fair question. First, there is the question of whether or not it 

actually works, whether it has effects—— 

Senator SHELBY. That is right. 

Mr. BERNANKE. ——and some have claimed that it does not. As 

I talked about in my testimony, as we look at financial markets, 
11 

which is the way all monetary policy is transmitted to the real side 

of the economy, the movement of the wide variety of financial 

prices and returns are quite consistent with what you would expect 

to see with that 75 basis point cut in interest rates, and I mentioned the stock market spreads, inflation expectations, interest 

rates, and the like. 

So our assessment of the effects of the policy are that it is providing stimulus through the usual mechanisms that monetary policy works and we can use our econometric tools to judge how important and how powerful that stimulus is. 

Now, for the public, what they want to see is results, and I would 

argue that we have basically two objectives corresponding to the 

two sides of our mandate. The first is to stabilize inflation at a 

long-run normal rate, which is about 2 percent, which is consistent 

with international standards of where inflation should be to appropriately trade off the benefits of low inflation against the risks of 

being too close to a deflationary zone, and we are moving in that 

directly, and clearly, deflation risk has greatly declined. 

On the other side, I think it is a little harder to be quantitatively 

specific, but I think the key here is that instead of unemployment 

stagnating or going up, that we see a sustainable recovery moving 

forward, and I think we are beginning to see that and over the next 

few months we will be able to make a judgment as to whether this 

economy now has enough momentum to move ahead on its own 

and, therefore, the additional support from policy can begin to be 

withdrawn. 

Senator SHELBY. Over the past year, the total amount of public 

debt outstanding increased by about $1.7 trillion under the financial spending policy of the Administration. Over that same time period, the Fed increased its holdings of U.S. Treasury securities by 

$337 billion. In other words, the Fed alone was responsible for financing almost 20 percent of the massive increase in Government 

spending. How has the lack, Mr. Chairman, of fiscal discipline complicated the Fed’s conduct of monetary policy, and when the Fed 

ends its large-scale purchases of Treasury debt, what impact will 

it have on the ability of the Treasury to finance our public debt? 

Mr. BERNANKE. Well, the intent of the program first was to hold 

down interest rates or term premium relative to where they otherwise would be—— 

Senator SHELBY. Has that worked? 

Mr. BERNANKE. That seems to be working, yes. 

Senator SHELBY. A lot of people dispute that, but go ahead. 

Mr. BERNANKE. Well, as I noted in my testimony, interest rates 

have gone up. The same thing happened in 2009 after our previous 

policy because interest rates depend on future expectations of 

growth as well as on policy actions. 

But that being said, we certainly want to be sure to remove that 

stimulus at the appropriate time, so I am at least as concerned as 

you, Senator, about inflation. We want to be sure we do not have 

an inflationary effect. So we must remove that at an appropriate 

time. 

We learned in the first quarter of last year when we ended our 

previous program that the markets had anticipated that adequately and we did not see any major impact on interest rates, and 
12 

so I do not expect, when the time comes for us to end the program, 

that we will see a big impact. I think it is really the total amount 

of holdings rather than the flow of new purchases that affects the 

level of interest rates. 

Now, all that being said, you asked whether the fiscal policy was 

a problem. I think the long-term unsustainability of our debt is a 

significant problem because it threatens higher interest rates, less 

confidence, and it could have impact on the current recovery. And 

so I had been urging Congress to address these problems, not just 

in the current fiscal year, but looking over a longer timeframe, because it is over the next 10 or 20 years that these problems are 

going to be extraordinarily pressing. 

Senator SHELBY. Is that our number one problem, as you see it, 

is our unsustained—I mean, our continued spending and our accumulation of the debt? 

Mr. BERNANKE. It is—yes, I would say it is—— 

Senator SHELBY. The number one economic problem facing this 

country? 

Mr. BERNANKE. Over the longer term, and it is certainly something that must be addressed to get us back on a sustainable path. 

Now, that cannot all be done next week, but we need to look over 

the next 5, 10, 15 years about how we are going to get back on a 

sustainable path. 

Senator SHELBY. Thank you. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Reed. 

Senator REED. Thank you very much, Mr. Chairman. 

Chairman Bernanke, I assume you are familiar with two recent 

reports by Moody’s Analytics and Goldman Sachs which talked 

about the proposed House Republican budget. Their conclusion is 

that, if passed without modification, there could be as much as a 

2-percent decrease in the growth next year going forward and as 

many as 700,000 jobs lost because of the contraction of spending 

at the Federal level. Do you agree with that analysis? 

Mr. BERNANKE. If that is referring to a $60 billion cut, obviously, 

that would be contractionary, to some extent. But our analysis does 

not give a number that high—— 

Senator REED. Well, the proposed cut—— 

Mr. BERNANKE. ——gives us a smaller number. 

Senator REED. ——this year is $100 billion in the House. 

Is that what you used for your projection report? 

Mr. BERNANKE. We are assuming 60 this year and 40 next year, 

which would be the $100 billion over the fiscal year. We also assume a normal spend-out. The impact is not immediate, but it is 

spent out over time. The reduction is effective over time. And we 

get a smaller impact than that. I am not quite sure where that 

number—— 

Senator REED. What is your impact? 

Mr. BERNANKE. Several tenths on GDP. 

Senator REED. And jobs? 

Mr. BERNANKE. I do not have that number, but it would be certainly much less than 700,000. 

Senator REED. And that is—I just want to understand what 

the—the assumed cut would be in this year, because some of the 
13 

things we have heard in the House proposal, it is a $100 billion cut 

for this year—— 

Mr. BERNANKE. This year. 

Senator REED. ——which would be $40 billion larger than you 

would—that you are using as a parameter? 

Mr. BERNANKE. Well, then I would multiply it by one time, twothirds greater. I am happy to send you our analysis, Senator, but 

I, 2 percent is an enormous effect. Two percent of the GDP is $300 

billion right there, so assuming a multiplier of one, $60 to $100 billion is not sufficient to get to that level. But it would have the effect of reducing growth on the margin, certainly. 

Senator REED. It would have the effect of reducing growth, which 

would—again, the question is how much, which would be contradicting or at least a countervailing force to your stimulus effect of 

QE2, is that—— 

Mr. BERNANKE. To some extent, that is right, and that is why I 

have been trying to emphasize, and I know that this Congress will 

be looking at this, the need to think about the budget issue not as 

a current year issue, because whatever can be done, $60 billion is 

not going to have much impact on the long-run imbalances in our 

economy in fiscal policy. I think it is much more effective both in 

terms of its short-term effects on the economy, but also in terms 

of longer-term sustainability and confidence to address the budget 

deficits over at least a 5- to 10-year window, not simply within—— 

Senator REED. Well, I agree with you—— 

Mr. BERNANKE. ——the next quarters. 

Senator REED. ——but the issue that confronts us is this year’s 

budget and next year’s budget. That is an issue du jour, literally. 

Mr. BERNANKE. Right. 

Senator REED. Again, my presumption is the last quarter of GDP 

was originally estimated about 3.2 percent, downgraded to about 

2.8 percent. Is that your rough understanding, Chairman? 

Mr. BERNANKE. That is what the Bureau of Economic Analysis 

said, yes. 

Senator REED. And their conclusion was a lot of that was a result 

of contraction and spending at the State and local governments. 

Mr. BERNANKE. That is correct. 

Senator REED. So I am just wondering here, if we contract spending at the Federal level, which has a ripple effect at the local level 

very quickly, because many of the programs that we support are 

really run by and delegated to and staffed by State and local employees, you do not anticipate a fall-off, a significant fall-off in 

growth? 

Mr. BERNANKE. It would have a negative impact, but again, I 

would like to see their analysis. It just seems like a somewhat big 

number relative to the size of the cut. 

Senator REED. And you are, again, just for the record, you are 

assuming in this year’s budget a reduction of $60 billion from the 

President’s proposal? 

Mr. BERNANKE. Yes, that is right. 

Senator REED. That is right? 

Mr. BERNANKE. Yes. 
14 

Senator REED. And we have heard from the Republican side, the 

House side, $100 billion. So there is a $40 billion which you have 

not factored into your estimates. 

Mr. BERNANKE. Is it $100 billion in calendar year 2011? 

Senator REED. It is the fiscal year 2011, I believe. 

Mr. BERNANKE. Well, that goes into next calendar year, so—— 

Senator REED. June 30. 

Mr. BERNANKE. So talking about—— 

Senator REED. Excuse me—— 

Mr. BERNANKE. Talking about calendar year 2011—— 

Senator REED. No, we are talking fiscal year 2011. 

Mr. BERNANKE. Well, in terms of growth numbers, it would be 

an effect this year of a tenth or two, and then it would be an additional effect in 2012, assuming that those cuts continued and also 

that the effects of them spread out over time beyond the fiscal year 

itself. 

Senator REED. Thank you. 

Chairman JOHNSON. Senator Crapo. 

Senator CRAPO. Thank you, Mr. Chairman, and Mr. Chairman, 

thank you for being with us. 

I would like to follow up on that line of questioning for just a 

minute because we get into these constant debates here whenever 

we try to reduce spending at the Federal level, about whether that 

is going to cost jobs or whether it is going to cause a decrease in 

the economy. But do you not believe that at some point, Congress 

has to start paring back the spending? 

Mr. BERNANKE. Certainly, and I have said so many times. But 

again, we do not have a single-year problem. We have a long-term 

problem and it needs to be addressed on a long-term basis. 

Senator CRAPO. Several economists talked to the President’s Fiscal Commission about this fact, and they were talking about the 

long-term commitment that is needed. They indicated that one of 

the best things we could do for our economy was to, as a Congress, 

adopt a long-term plan that made sense and that would show the 

world economies that we were committed to dealing with our fiscal 

problems. Would you agree with that? 

Mr. BERNANKE. Yes, Senator. I was the first witness for the Fiscal Commission and I made basically that point. And to the extent 

that we can address the longer-term trajectory, which currently is 

not sustainable, we could ensure lower interest rates, greater confidence, and it would, at a minimum, be helpful to the current recovery, but more importantly, it would protect us from fiscal or financial crisis down the road. 

Senator CRAPO. And I would just add as a comment—you do not 

need to comment on this unless you would like to—I would just add 

that Congress budgets on a 1-year at a time basis, and so, frankly, 

we have to look at the year we are dealing with as we move forward. And so although I agree that we have to look long term, we 

do not adopt long-term budgets here, at least historically, and some 

of us are going to try to get us to do that. Thank you very much 

for your involvement in that process. 

In the context of the transparency issues that you have discussed 

with us, I would like to focus for a minute on the GSE reform, 

Fannie Mae and Freddie Mac, in particular, because I am one who 
15 

believes that it is imperative that Congress grapple with the need 

to deal with Fannie Mae and Freddie Mac and to determine how 

we will proceed. And I have my opinions on how we should proceed 

in that context, but at least a start, I think it is important that we 

begin what I consider to be honest accounting with regard to the 

Federal obligations represented by Fannie Mae and Freddie Mac. 

In a January 2010 CBO report, it was concluded that Fannie 

Mae and Freddie Mac have effectively become Government entities 

in the way that they are now managed and their operations should 

be included in the Federal budget. Do you agree with that CBO report in that context, in the—in other words, whether the debt obligations of Fannie Mae and Freddie Mac should be included in our 

Federal budget? 

Mr. BERNANKE. Well, I am not an accountant. I defer to those 

with better knowledge on that point. But I would just say that if 

you do that you would add to the Federal debt, but you would also 

have to offset that, to some extent, with the assets that Fannie and 

Freddie hold. So whether you consolidate or whether you simply 

take as a charge the obligations that the Government has to support Fannie and Freddie, you would still have the same net effect 

on the Government’s fiscal position overall. 

Senator CRAPO. Yes. At a minimum, it seems to me that we 

ought to acknowledge the taxpayer is on the hook for the debt and 

we ought to let the American public know what that is, and I fully 

agree that if we also need to show the assets, so be it. But right 

now, the American public is on the hook for the debt, We are not 

necessarily going to be able to obtain access to the assets. It is 

going to be very interesting to see how Congress moves forward to 

deal with this. 

Another question, just shifting subjects for a minute, is do you 

believe that an explicit inflation target would help to promote the 

credibility of the Federal Reserve by being explicit about its objectives and help it to anchor inflation expectations? 

Mr. BERNANKE. Well, I have supported this idea for many, many 

years, and the subtlety is helping everyone understand that by giving a number which would help clarify what the Fed is trying to 

achieve and would help, we hope, anchor expectations more firmly, 

that we would not be abandoning in any sense the other part of 

the Congressional mandate to maximum employment. We have 

moved partway in that direction in that we provide information in 

our projections about what the Committee individually thinks is 

the best long-run inflation outcome, and that currently is somewhere between 1.5 and 2 percent on the PCE price index, but we 

have not gone all the way to a formal inflation target. Again, the 

communication issue here is to make people understand that this 

is a way of improving communication in general without necessarily abandoning the other side of our mandate. 

Senator CRAPO. Thank you. I see my time has expired. 

Chairman JOHNSON. Senator Menendez. 

Senator MENENDEZ. Thank you, Mr. Chairman. Thank you, 

Chairman Bernanke, for your service. 

You know, my main goal every day is how do we grow this economy and how do we get people back to work, certainly from my 

home State of New Jersey and, for that fact, every American. It 
16 

was my hope that the quantitative easing that the Fed was in the 

midst of would produce more jobs, more exports, more investments, 

and ultimately a smaller budget deficit by obviously generating 

profits that would go into the Treasury’s coffers. But as we expand 

this balance sheet and buy Treasuries and buy from entities like 

Goldman Sachs and expect that these ultimately get deposited in 

banks or that those banks would ultimately lend, I have to be honest with you, I am not quite sure—and this is where I am headed 

in terms of my question, I’d like to get a grasp from you—I do not 

see that lending still taking place, and I hear it all over my State. 

I see food prices rising. I see gas prices rising, even before what 

was happening in North Africa, although that certainly is an exacerbating reality. Tuition rates rising. And so while we are worried 

about deflation, I just see a combination of rising prices for the average family, of the lack of investment that I hoped would take 

place here, and so would you give me your view of how the first 

and second rounds of quantitative easing are working? 

Mr. BERNANKE. I think they are working well. The first round in 

March 2009 was almost the same day as the trough of the stock 

market, and since then, the market has virtually doubled. The 

economy was going from total collapse at the end of the first quarter of 2009 to pretty strong growth in the second half of 2009, and 

as I said, it is now in the seventh quarter of expansion. So I think 

that was clearly a positive. 

The current QE, as it is called, appears to have had the desired 

effects on markets in terms of creating stimulus for the economy, 

and I cited not just Federal Reserve forecasts, but private sector 

forecasts which have almost uniformly been upgraded since August, since November, suggesting that private sector forecasters are 

seeing more growth and more employment this year than they had 

previously expected. And so I think it is having benefits for growth 

and employment. 

On the inflation side, as I have said before, I think the bulk of 

the commodity price movements are not resulting from Federal Reserve policy but are resulting from global supply and demand factors. For example, in the case of food, there have been major crop 

failures and weather issues and things around the world which 

have affected supply. And on the demand side, you have emerging 

market economies which are growing very quickly and creating 

extra demand for raw materials, and that is what is happening 

there. 

Even with that increase in commodity prices, overall inflation, as 

I mentioned, still remains quite low in the United States and we 

are determined to make sure that higher gas prices and food prices 

do not become imbedded in the overall inflation—— 

Senator MENENDEZ. I appreciate the market going up. We are 

thrilled to see that. But to be honest with you, if you talk to an 

average family in New Jersey and you say, what is your food bill, 

what is your gas price, what is your tuition rising, they are not 

going to tell you there is deflation. And so in a real context, I am 

wondering how this macroeconomic policy is going to get to the average person in a way that changes their lives in a more positive 

way. Certainly, the market is a nice indicator in one sense, but it 

is not for everybody in their lives. 
17 

And that brings me to the question, how will you decide how to 

tighten monetary policy? How do you know when you have reached 

the point where that is wise, and what type of considerations are 

you going to take into account? 

Mr. BERNANKE. Well, monetary policy works with a lag, and 

therefore, we cannot wait until we get to full employment and the 

target inflation rate before we start to tighten. We have to think 

in advance, which means we have to use our models and our other 

forms of analysis and market indicators and so on to try to project 

where the economy is heading over the next 6 to 12 months. Once 

we see the economy is in a self-sustaining recovery and employment is beginning to improve and labor markets are improving, 

and meanwhile that inflation is stable at approaching roughly 2 

percent or so, which, I think, is where you want to be in the long 

term in inflation, at that point, we will need to begin withdrawing. 

I just want to emphasize, it is not at all different from the problem that central banks always face, which is when to take away 

the punch bowl, and the only way you can do that is by making 

projections of the economy and moving sufficiently in advance that 

you do not stay too easy too long. And we are quite aware of this 

issue and quite committed to price stability and we will continue 

to analyze our models and our forecasts and move well in advance 

of the time that the economy is completely back to full employment. 

Senator MENENDEZ. Well, thank you, Mr. Chairman. My time is 

up, and I look forward, maybe off of the hearing, to pursue some 

of this with you. 

Mr. BERNANKE. Certainly. 

Chairman JOHNSON. Senator Corker. 

Senator CORKER. Thank you, Mr. Chairman, and Mr. Chairman, 

thank you for your testimony and your service. 

I appreciate your comments regarding the Goldman report. I 

know a lot of people may not have seen it, but 47 economists came 

out quickly thereafter to basically say the Goldman report regarding cutting spending was way off base and the thing we can do to 

get our country moving ahead is to begin having some fiscal discipline. I agree with you, we need a long-term plan. It cannot all 

happen in 1 year. But we have to begin at some point, and we are 

working together, I hope, to put Congress in a straightjacket so 

that over the course of the next 10 years, we will have the discipline we need. 

You talked a little bit with Senator Crapo about inflation and an 

explicit target and you now have a dual mandate, unlike the European Central Banks, unlike the Bank of England. What policy rubs 

does that create internally or perception issues, having the dual 

mandate that you now have? 

Mr. BERNANKE. Well, it means that we have to look at both sides 

of the mandate in making our policy decisions. Sometimes that 

causes a conflict in a stagflationary situation where unemployment 

is too high but inflation is also too high. Currently, there is not 

really that much of a conflict because inflation and employment 

have been quite low, and so accommodative policy has been appropriate in any case. 
18 

Senator CORKER. I guess at rare times, you have high inflation 

and high unemployment, and I think that is what people are concerned about possibly happening now. That would create a conflict 

with that dual mandate, is that correct? 

Mr. BERNANKE. It would pose a very difficult situation. I think 

we have learned that there is no way to have sustained economic 

growth with high and variable inflation. So keeping inflation low 

and stable is, whatever your mandate, is absolutely essential and 

we are committed to doing that. 

Senator CORKER. Would it give the Fed greater credibility if you 

had the single mandate, since, in essence—I know we have had a 

lot of conversations—price stability, I think by most people, is the 

thing that helps create maximum employment more than anything 

else. Would it help if we clarified that for you? 

Mr. BERNANKE. Well, we have been functioning under the dual 

mandate. We think it is appropriate and we are not right now 

seeking any change. Congress can certainly discuss that issue and 

we will do whatever Congress tells us to do. 

Senator CORKER. But it does create a policy rub from time to 

time, or can, to have a bipolar mandate. 

Mr. BERNANKE. It can, but on the other hand, there may be circumstances when a monetary policy can be constructive on the employment side and would we want to ignore that. 

Senator CORKER. You are lauded for being a great student of the 

Great Depression. As we have gone through hopefully three-quarters of what it is we are dealing with—again, hopefully—what is 

it about that model that is relevant to what we have been dealing 

with over the last couple of years and what is not? 

Mr. BERNANKE. Well, I have done a lot of work on the Depression 

and thought about it quite a bit. There are two basic lessons that 

I personally took from my studies of the Depression. The first had 

to do with monetary policy. The Federal Reserve and other countries were very, very passive on monetary policy, and as a result 

permitted a deflation of actually about 10 percent a year for several 

years, which was highly destructive to the economy. This was a 

point that Milton Friedman made in his history of the monetary 

history of the United States, and he argued that that was the primary cause of the Great Depression. The Federal Reserve, in this 

particular episode, was more proactive and aggressive in terms of 

easing monetary policy to ensure that we did not have deflation 

risk and excessively tight monetary policy. 

The other lesson I take is that financial instability can be extremely costly to the economy. We had in the fall of 2008 a financial crisis which was, in many ways, as big or bigger than anything 

they saw in the 1930s. But we know that in the 1930s, the collapse 

of a big Austrian bank and a number of other problems, including 

the failure of about a third of the banks in the United States, was 

a major blow to credit extension, to confidence, and to prices, and 

was a big source of the Depression. And so for that reason, we were 

very aggressive, working with the Treasury and others, to try to 

stabilize the financial system as quickly as possible. Even so, the 

impact on the economy was quite substantial. 

Senator CORKER. I see my time is up and I thank you for your 

testimony. 
19 

Chairman JOHNSON. Senator Bennet. 

Senator BENNET. Thank you, Mr. Chairman. 

Chairman Bernanke, it is nice to see you again. Thank you for 

your testimony. 

You talked a little bit in your remarks about the importance of 

not just talking about cutting, not just talking about what the composition of the spending looks like, what the comprehensive approach to taxation looks like, but your view, I think, is more 

nuanced than the headlines that come out of this place and I appreciate it very much. 

I wanted to ask you in that context how you evaluate the product 

of the Fiscal Commission. What do you think about their suggestions about their mixes of cuts versus—cuts to spending versus revenue? Do you think it should be weighted one way or another? I 

realize you are here to talk about monetary policy, not fiscal policy, 

but you testified there. Senator Crapo was on the Committee, took 

a courageous vote to support the Commission report. So I wonder 

if you would spend a few minutes sharing your views on it. 

Mr. BERNANKE. What I think is impressive about the Deficit 

Commission is that it highlighted the size of the problem. Second, 

it, made a set of proposals that, while obviously painful, would address the problem. I say that for the most part, because in some 

areas they kind of punted. Like on health care spending, which is 

really the biggest single issue, they just sort of assumed that cuts 

would be made and they did not give many details. 

So I appreciate that it was a bipartisan effort and I think it was 

very successful in the sense that it gave a sense of the magnitude 

of the response that is needed and showed at least one path forward to addressing the problem. And some other commissions, like 

the Rivlin Commission and others, have done similar things. 

I would not want to tie myself down too much to the details of 

that commission, I am sorry, because I think there are many different ways that you could address it. And ultimately, fiscal priorities are the Congressional prerogative, not the Federal Reserve’s. 

But certainly one element is the importance of addressing the 

long-term entitlement issues, which are going to become bigger and 

bigger and need somehow to be managed in a way that will provide 

essential services, but will be affordable to the country. 

Senator BENNET. I appreciate you not wanting to endorse the 

specifics of the plan. I guess, directionally—let me try it this way. 

We are at a place right now where we have a $1.5 trillion, roughly, 

deficit, $14 trillion of debt. The Fed’s balance sheet has expanded 

dramatically in order to deal with this crisis. And one of the things 

that I worry about is that if the capital markets decide 1 day that 

they do not want to buy our debt at the price that they are now 

buying it, that the result of that is going to be catastrophic, and 

because of the position we are in today with your balance sheet and 

with the Federal Government’s balance sheet, that there is no room 

for a policy response at that point. 

So while you talked about how painful some of the suggestions 

are from the Commission report, I wonder if you could tell the 

Committee a little bit how painless that would seem compared to 

the pain we would go through in the scenario that I just described. 
20 

Mr. BERNANKE. No, there, I am in complete agreement. I think 

the thing to understand is that the long-term imbalances are not 

just a long-term risk. They are a near and present danger. 

Senator BENNET. Right. 

Mr. BERNANKE. To the extent that markets lose confidence in the 

Congress’ ability to make tough choices, and they are going to be 

tough, there is the risk of an increase in interest rates, which 

would just make things worse because it would increase the deficit 

because of higher interest payments. 

So I think the sooner that a long-term plan is put in place to 

make significant and credible reductions in the path of the deficit, 

the better it will be and it would actually have benefits in the near 

term, not just 20 years from now. 

Senator BENNET. Right. I think that is very important, because 

earlier, there was some discussion about 10 years or 20 years. I 

just want to underscore and underline your observation that this 

is actually a near and present danger and that the sooner that we 

get after it, the less painful it is actually ultimately going to be, 

and the more likely we are to protect ourselves. You said financial 

instability is extremely costly to the economy. I would argue that 

the financial instability that would come in the scenario I was talking about actually would be more costly than what we have just 

been through. I wonder if you have got a view on that. 

Mr. BERNANKE. No. That is very possible. It would create both 

a fiscal crisis and require a scramble by the Congress to try to find 

any kind of cut or tax increase to address the problem. But a spike 

in interest rates would have also very adverse effects on a lot of 

institutions and portfolios and could create a financial panic, as 

well. So it is really a very worrisome situation. 

Now, fortunately, the markets to this point seem to have a lot 

of confidence that we will address the problem, and I hope we can 

make that confidence—that we can meet that expectation. 

Senator BENNET. Thank you. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Vitter. 

Senator VITTER. Thank you, Mr. Chairman. Thank you, Mr. 

Chairman, for your work and your testimony. 

I want to build on some of the discussion we have been having 

about the fiscal situation. I think you have said we are on—fiscally, 

we are on an unsustainable path. That challenge is a long-term 

challenge. However, it can have very immediate consequences. Who 

knows when it can break in terms of the consequences if we do not 

start to deal with it. Is that a fair summary of some of the things 

you have said? 

Mr. BERNANKE. Yes, Senator. 

Senator VITTER. In that context, I am wondering the following. 

We are coming up on a big deadline—several big deadlines. Probably the biggest is our reaching our debt limit as a Nation sometime between late March and May. What do you think it would do 

to the viewpoint on all of this, on our seriousness about correcting 

our fiscal situation, if Congress increased that debt limit without 

at the same time passing some meaningful budget reform? 

Mr. BERNANKE. Well, Senator, as I hope I have made clear, I 

think it is extremely important that you address this issue. So in 

no way am I disagreeing with your basic premise that you have to 
21 

address this long-term budget issue. I am just worried about using 

the debt limit as the vehicle. The reason being that if it were even 

a possibility that the Government would default on its existing 

debt, not pay the interest and principal on existing debt, some of 

the financial crisis issues that Senator Bennet mentioned would 

immediately happen because currently there is absolute confidence 

that the U.S. Government will pay its bills. If you do not do that, 

it would have very negative effects on financial markets and on our 

economy, and for a very long afterwards, the U.S. would have to 

pay higher interest rates in the market and that would make our 

deficit problems even more intractable. 

So again, I very strongly support efforts to address the long-term 

deficit problem, but I am a little nervous about taking the chance 

that we would not be paying the interest and principal on our debt. 

Senator VITTER. Let me ask the same question in a different 

way. Would it be better to increase the debt limit and go along our 

merry way on the present fiscal path, or would it be better to increase the debt limit and at the same time pass meaningful budget 

reform? 

Mr. BERNANKE. Well, clearly, the latter. You want to make sure 

that the debt is paid, interest is paid. Meaningful budget reform is 

highly desirable. I am just concerned that there be a significant 

probability that we would not raise the debt limit and that would 

cause real chaos. So I am completely with you, Senator, on the 

need for budget reform and I hope that Congress will be able to 

come together and make some tough decisions. 

Senator VITTER. Well, again, let me go back to my first point. I 

understand your concerns about the consequences of not raising the 

debt limit. However, that event is so big, it seems to me if we do 

it and do not do any meaningful budget reform, that is a very clear, 

very strong negative signal about how serious we are about correcting our fiscal path. That is my point. Would you disagree with 

that? 

Mr. BERNANKE. I guess I draw a distinction between not increasing the debt limit and maybe even shutting down the Government, 

those sorts of things. Not increasing the debt limit is like saying 

we are going to solve our family’s financial problems by refusing to 

pay our credit card bills. These are bills that have already been accrued, as opposed to cutting up the credit card and saying we are 

not going to do any more spending. But these are—this is money 

we have already borrowed. These are commitments we have already made to contractors, to senior citizens, and so on, and what 

we are saying here is we are not going to make these payments 

that we promised. So I would rather that we be forward-looking 

and say we are going to restrict new spending or new commitments 

until we have reform. 

Senator VITTER. Well, maybe you misunderstood me. I was not 

suggesting not acting on the first. I was just suggesting that we 

should act on both together, because if we do not, I think that is 

a very strong negative signal about our lack of commitment to 

changing our fiscal path. 

Mr. BERNANKE. I really support a program to improve the longterm fiscal sustainability. 

Senator VITTER. Thank you. 
22 

Chairman JOHNSON. Senator Merkley. 

Senator MERKLEY. Thank you, Mr. Chair, and thank you, Mr. 

Chairman. 

You commented that our deficit is not a single-year problem, but 

a long-term problem, our deficit, our debt. The Budget Committee 

plan from last year sought to essentially stop digging the hole any 

deeper after about 4 years, but to avoid driving us into a doubledip recession, a more serious recession, in the short term. When 

you are talking about a long-term problem, and as we wrestle with 

the short-term impacts, is that type of framework, where within a 

couple of years you are getting to a point you do not dig the hole 

any deeper, and then from that point you are reducing it, is that 

kind of the type of profile you are talking about in terms of the 

long-term, short-term tradeoffs? 

Mr. BERNANKE. Well, one criterion which is very useful is looking 

at the primary budget deficit, which is the deficit less interest payments, and you need to get the primary budget deficit down to zero 

in order to avoid increases in the debt-to-GDP ratio. Currently, 

under current CBO projections, the primary budget deficit is 2 percent in 2015 and 3 percent in 2020, of GDP. That gives a sense of 

the kind of cuts we would like to see over the next 10 years—that 

would help stabilize that debt-to-GDP ratio over that period, and 

so that is the kind of criterion I would be looking for, over the next 

5 to 10 years, reducing the structural deficit by 2 to 3 percent. 

Senator MERKLEY. Thank you. Now let me switch to energy policy. There is a lot of discussion now about the impact of foreign oil 

price shocks and the possibility that oil at $125 or higher might 

trigger a real challenge. Does it make sense for us to have a national strategy to radically reduce our dependence on foreign oil? 

Mr. BERNANKE. I think that anything we can do to diversify our 

energy sources is probably helpful. We want to make sure what we 

do is economic, but it is true that oil does bring with it geopolitical 

risks and uncertainties that other forms of energy might not have 

and that probably should be taken into account as we think about 

the range of energy sources. I think the recent developments in 

natural gas here in the United States and the increased supply of 

that is a very good development. It is going to be very helpful. I 

know that some people are supporting additional nuclear powered 

utilities, energy producing. So, yes, I think some attention to diversifying the energy sources that we use is a good idea to avoid some 

of these risks. 

Senator MERKLEY. I will keep jumping topics here, given the 

short time I have, but commercial lending has been in a real challenging position, with a lot of balloon mortgages, 7- to 10-year 

mortgages coming due and banks reluctant to relend because of the 

declining value of the buildings. The Fed was involved in the Term 

Asset-Based Securities Loan Facility, or TALF, which helped in the 

short term, and then they kind of pulled back from that. Where are 

we now in terms of commercial lending being a major structural 

challenge for our economy? 

Mr. BERNANKE. Well, the TALF was about stimulating the commercial mortgage-backed securities market, and there was a story 

in the paper this morning to the effect that the CMBS market, not 
23 

in a big way but in a modest way, is coming back, at least for the 

better properties. So that is a positive development. 

The Fed has also worked with banks, providing guidance about 

how to rework, restructure CRE loans, which seems to be having 

some beneficial effects, as well. 

We had a Fed testimony by Pat Parkinson recently on this topic 

and I would say, overall, that some of the worst fears about commercial real estate seem not to be coming true, that there is some 

stabilization of vacancy rates and prices and so on in this market. 

That being said, there is still a lot of properties that are going to 

have to be refinanced and probably some losses that banks are still 

going to have to take. So it is still certainly a risk to the financial 

system, but it does seem to be looking at least marginally better 

than we were fearing 6 months ago. 

Senator MERKLEY. Thank you. 

Chairman JOHNSON. Senator Johanns. 

Senator JOHANNS. Mr. Chairman, thank you, and Mr. Chairman, 

good to see you again. 

As I was listening to the discussion about QE2, which you know 

I have been a critic of that, I am not supportive of what you are 

doing, but having said that, it occurred to me that maybe we are 

focusing on consequences and not focusing enough on the reasons 

that maybe got you to that decision point. So let me, if I might, 

offer a thought about that, and I would like your reaction to it. 

Never in the history of this country has there been a greater 

need for people, foreign countries, whoever, to buy our debt than 

now. In fact, nothing comes close to it. It is kind of breathtaking 

in its magnitude. Just week after week after month after month, 

somebody has to be out there buying this massive amount of debt. 

I look at what has happened to commodity prices, which have 

been so very strong. I look at what has happened to the Dow and 

the NASDAQ, and that also has been strong. It has been quite a 

run. There is so much competition out there. So as the economy improves, there is more reason to be in those investments than getting less than a percent return on a 2-year Treasury or, I do not 

know, 2 percent-plus on a 10-year Treasury. 

So it just occurs to me, Mr. Chairman, that part of what is driving this is the real, genuine, bona fide worry that in order to attract people to buy Treasuries, the Government would have to entice them with higher yields. And eventually, heaven forbid, good 

Lord forbid, there is a day at which there just is not an appetite 

to buy more paper, because those who are in that marketplace look 

at the U.S. Government and say, you know, you have so detached 

the joy of spending from the pain of taxation that you do not have 

a fiscal plan. 

And then I look at the impact on real people, like there was talk, 

well, we do not have to do anything about Social Security. Well, 

that assumes that we can keep borrowing, because there is no trust 

fund. It is just paper, again. And if we are not able to borrow more 

money, we cannot even pay current beneficiaries. 

So it seems with those kinds of weighty issues, all of which I 

think are accurate, if I am reading this correctly, you almost had 

no choice. You have got to be in this marketplace to keep interest 

rates low to start out with. And you have become a big player in 
24 

buying our debt, and you must lay awake at night wondering, if I 

exit this marketplace, what happens? Tell me where I am wrong 

in that thinking. 

Mr. BERNANKE. Well, that was not our motivation for getting into 

this. Our motivation was the state of the economy, which as of last 

summer and fall, we had significant concerns that the recovery was 

going to stall, that growth was not sufficiently fast to bring down 

unemployment, and that inflation was moving down and down and 

down to where we were getting closer and closer to the deflation 

zone. So that was the reason we took the action and we felt, although there are admittedly risks with the QE2 program, that 

there were also very significant risks to not taking the action. So 

we did it for the same reasons that monetary policy is always used, 

which is to try to meet our dual mandate for employment and inflation. 

Our policies affect interest rates in two ways. One is as we promote growth, that is causing interest rates to rise for the reasons 

you were describing, because other investments become attractive, 

but also it is important for us to keep inflation low and well under 

control because inflation also affects the level of nominal interest 

rates. 

So we were not motivated by anything related to the deficit or 

the debt and I do not—and I would make two points. One is that 

when we stop buying, whenever that may be, our previous experience suggests that the market takes it in stride because the market 

anticipates at some point that the purchases will stop. And then we 

are not monetizing the debt because we will be returning our balance sheet to a more normal level ultimately. 

I think what it all comes down to is that what the markets are 

looking at is the long-term fiscal discipline of the U.S. Government, 

and whether or not interest rates will spike or whether they will 

remain reasonable depends far more on Congress’ decisions about 

long-term fiscal planning than anything the Fed is going to do. 

Senator JOHANNS. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Hagan. 

Senator HAGAN. Thank you, Mr. Chairman. I am honored to be 

on this Committee. Thank you so much. 

Chairman Bernanke, in your last Monetary Policy Report to Congress, you touched on housing finance when you noted that, on balance, interest rates on fixed-rate mortgages decreased over the first 

half of 2010. But you also acknowledged that despite falling mortgage rates, the availability of mortgage finance continued to be constrained. 

I hear time and time again from constituents throughout my 

State in North Carolina that they are having difficulty taking advantage of the low rates that are out there. As you know, one of 

my biggest priorities during the consideration of the Dodd-Frank 

Act was to include a qualified residential mortgage standard in the 

bill. I worked with Senator Landrieu and Senator Isakson and we 

worked to include a standard that would provide access to safe, stable, and affordable home loans for creditworthy borrowers. I understand that risk retention might serve as a deterrent to types of excessive risk taking, but I am concerned that risk retention could 

impose significant costs and reduce liquidity in the mortgage mar-
25 

ket. As a result, we tried to fashion an amendment that addressed 

the primary causes of the problem directly and yet also provided 

an incentive for lenders to originate safe, stable, and affordable 

mortgages. 

I was hoping you could speak a little bit more today about the 

state of the mortgage market and the impact that the qualified residential mortgage definition that is currently being written will 

have on housing finance. Are we going to continue to see constrained credits, and if regulators were to draw too narrow an exemption, for example, if they required a 20 percent down payment, 

as advocated by some, would credit further be constrained? I am 

really concerned that if loans do not meet the qualified residential 

mortgage standards and lenders have to set aside the extra capital 

to meet this risk retention requirement, we are going to see constrained credit going forward. 

Mr. BERNANKE. Well, Senator, we are working very hard on the 

QRM in conjunction with the FDIC and other agencies and we expect to have some rules available for comment very shortly. We 

have been discussing in particular to what extent servicing requirements should be attached to the QRM. So the goal there is to have 

a definition of mortgages that are of sufficiently high quality and 

meet sufficiently high underwriting standards that the risk retention is not necessary, and so that would reduce the cost of those 

mortgages. 

So on the one hand, I understand you do not want it to be too 

narrow or too tough, but on the other hand, you want this to be 

a good mortgage. You want it to be one that will be safe, well underwritten, and that investors will be happy to buy even without 

the risk retention. So we are trying to balance those two issues. 

Unfortunately, in terms of the mortgage market, most of the 

mortgage market is still Fannie and Freddie at this point, and so 

we know directly what is happening there, which is that they are 

continuing to keep pretty tight standards in terms of a de facto 20 

percent down, pretty high FICO scores. So terms and conditions for 

getting a mortgage are quite tight, particularly relative to the excessively loose terms that were in play before the crisis. 

My own guess is that improving the economy will cause lenders 

to be a little bit less restrictive, but on the other hand, as we move 

toward a fully privatized market, as the GSEs become less and less 

important, the private sector may decide to keep terms moderately 

tight. 

So currently, the terms are pretty tight. That is a problem for 

the housing market. I expect some modest improvement, but probably not anything dramatic in the near term. We continue to work 

on the QRM, and I think that will be a constructive addition to the 

housing finance programs that we have. 

Senator HAGAN. Well, I am sure you will continue to be hearing 

from us. We are really concerned about not making it so restrictive 

that we cannot have as many well-qualified loans as possible, obviously recognizing that there does need to be a good definition of 

that. 

Mr. BERNANKE. OK. Thank you. 

Senator HAGAN. Also, the FOMC has used unconventional monetary policy tools since late 2008 to promote economic recovery and 
26 

price stability. Most recently, as you have been talking about, 

quantitative easing and the purchase of Government bonds with 

the newly printed money has made monetary policy more complicated. We still do not know the long-term effects this policy may 

have, and more importantly, what effects unwinding these policies 

may have. 

I understand that these tools, especially the asset purchases, will 

take time to unwind and that economic conditions will dictate 

much of the decision making. A recent study by a group of Federal 

Reserve Board economists constructed a baseline scenario for 

unwinding the large-scale asset purchases that would see the Fed’s 

$2.6 trillion balance sheet normalize in size and composition by 

2017. Do you agree with this baseline trajectory? What are the factors that will influence this trajectory toward balance sheet normalization? Will the price stability or maximum employment drive 

the decision making? 

Mr. BERNANKE. Well, Senator, we had had earlier discussions 

about the pace of normalization and one concern we had was not 

to sell off our securities so quickly that it would disrupt the market. And so the sense was that it would be a relatively slow process 

and one that would be clearly announced in advance so that markets would be able to anticipate. 

What I need to emphasize here is that that does not mean that 

QE will continue until 2017 or easy money will continue until 2017. 

We have tools that will allow us to tighten monetary policy in more 

or less the normal way even if the balance sheet remains large. 

For example, we have the authority to pay interest on reserves. 

By raising the rate that we pay on reserves to banks, we can effectively raise the short-term money market rate and that will work 

through the financial system just pretty much the same way that 

a higher Federal funds rate target will work. 

So there are different ways for us to unwind. Obviously, as Senator Shelby has pointed out, it is important for us to get back to 

a more normal size of our balance sheet and we will do so, but the 

pace at which we do that does not constrain us from tightening 

monetary policy at the appropriate time. And as I was trying to explain also to Senator Shelby, we want to be sure that price stability 

is maintained, that inflation remains low and stable, and in doing 

that, we will have to look ahead to where inflation is going, not just 

where it has been, but also to the extent that is consistent with 

that, we want to make sure that recovery is self-sustaining, that 

the private sector is leading the recovery so that the artificial support from the Fed and from fiscal authorities and so on can be 

withdrawn and let the private economy lead the recovery. 

Senator HAGAN. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Wicker. 

Senator WICKER. Am I next? 

Chairman JOHNSON. Yes. 

Senator WICKER. Thank you. Let me see if I understand an answer that I believe you gave Senator Merkley. You said the commercial mortgage-backed security market is coming back to a small 

extent. 

Mr. BERNANKE. Correct. 

Senator WICKER. And I assume that is a good thing. 
27 

Mr. BERNANKE. Yes, because that is an important source of finance for commercial real estate, and given that banks are not expanding their balance sheets and we need alternative sources of finance. 

Senator WICKER. Right. And I got information from CRS yesterday that with regard to residential mortgage-backed securities, 

that market is virtually dead, is that correct? 

Mr. BERNANKE. Yes. 

Senator WICKER. Would it be a good thing if that came back? 

Mr. BERNANKE. Well, I would think so, although it is important 

to remember that a lot of bad lending took place through that market and helped contribute to the crisis. But conditional on underwriting standards or other oversight that makes the loans created 

through that process of sufficiently good quality, then again, it 

would be good to have multiple sources of financing for the housing 

market. 

Senator WICKER. OK, and that is what my question is sort of directed toward, as to what standards you might recommend in that 

regard. You know, most of us have had to go to school since 2008 

on this whole issue of mortgage-backed securities and what we 

learned is that as they were leading up to 2008, they were outside 

many of the SEC’s regulatory structures because they were privately placed transactions. And so with regard to the definition of 

delinquency or being in default or the classification of the mortgages or how those mortgages are worked out when they get in 

trouble, there were not those standards in place because generally 

they were considered transactions involving the big boys. 

So would it be helpful, and what suggestions would you have in 

this regard about having standards, greater disclosures, and structural reforms put in place to perhaps revive the private mortgagebacked security market and bring back more private mortgage capital into the residential market? 

Mr. BERNANKE. Well, there are a number of steps taken in the 

Dodd-Frank Act to try to address this. For example, one of the 

problems in the crisis was conflicts of interest or shopping around 

for credit ratings, and so there are some new regulations, regulatory authorities at SEC to reduce those conflicts of interest and 

the credit rating agencies have been reworking their models for 

securitized products. What we saw in the crisis, where firms would 

take a whole bunch of lousy mortgages and then use financial engineering to make them into triple-A securities, that should not be 

possible anymore if the credit rating agencies are forced to meet 

certain standards. 

Second, the—— 

Senator WICKER. Let me interject here. 

Mr. BERNANKE. Sure. 

Senator WICKER. Did we adequately address that issue in DoddFrank, or is there really a need to—— 

Mr. BERNANKE. Well, before I can answer that question, I would 

like to see the full panoply of steps that the SEC takes. But I know 

they are serious about trying to address particularly the shopping 

around problem, where a securitizer would try different agencies 

until they found one who gave them the rating they wanted. So 

more disclosures on that, for example, would be helpful. 
28 

Then I was just talking to Senator Hagan about the QRM, the 

qualified residential mortgage, which would set some standards for 

high-quality mortgages, and mortgages that did not meet that 

would have to have a skin-in-the-game credit risk retention element that is provided by Dodd-Frank. I think that supervisors will 

be paying more attention to this in the future and we should pay 

more attention to it. 

And finally, one thing that the Federal Reserve is very interested 

in, and we have been talking about this with Congress and with 

other agencies, is to have national servicing standards, because 

that turns out to be an important part of the process of making 

sure that people who do run into trouble are able to get restructured mortgages and a chance to keep their home. So there are a 

number of things in the bill, but I think as we go forward, we will 

want to make sure that we have sufficient oversight that we can 

assure that the mortgages are of good quality. 

I think that as the GSEs begin to pull back, as they inevitably 

will, that we will see private label mortgage-backed securities coming back into the market, but it is pretty limited right now. 

Senator WICKER. OK. Well, my time has expired. Would you take 

for the record the question of some recommendations about how to 

go further on structural changes that might make the mortgagebacked security market more viable with regard to residences? 

Mr. BERNANKE. Certainly. 

Senator WICKER. Thank you, sir. 

Chairman JOHNSON. Senator Warner. 

Senator WARNER. Thank you, Mr. Chairman, and Mr. Chairman, 

it is good to see you again, as well. 

I think one of the comments you made earlier, we all need to 

bear in some level of mind. While you have had to take some extraordinary actions, when we reflect back on where we were in the 

spring of 2009 and how deep a ditch we were in and the prognostications at that point, while clearly employment numbers are not 

where we would like, some of the other recovery has been, frankly, 

more dramatic than I think many of us would have even predicted. 

One thing—I have got two issues I want to raise in my short 

time, and I will try to be quick about it because I want to follow 

up on Senator Bennet’s question. But before I get there, one of the 

things I think, and hopefully we will have a wise way to avoid a 

Government shutdown right now, but I do think at times within 

the public, there is some confusion between these issues around 

shutdown and an issue that we will have to address in the next few 

months around the debt ceiling limit. And as we have heard from 

your testimony, and I absolutely believe we need to put in place a 

long-term plan to deal with our debt and deficit and I am proud 

of the bipartisan work that is being done on that. 

But as we are still kind of in this hopefully strengthening recovery, can you, in as plain of language as a central banker can, make 

clear what the ramifications would be, maybe to an average American or to our economic recovery, if we were to default and not 

raise that debt ceiling limit and the ramifications that would have 

toward our recovery to an average American family, two or three 

examples. 
29 

Mr. BERNANKE. Well, it would be an extremely dangerous and 

very likely recovery-ending event. First, it would almost certainly 

create a new financial crisis as firms that rely on receiving their 

interest and principal do not receive it and they are unable to 

make payments, and so that problem would cascade through the financial markets. Then there would be a massive loss of confidence 

in the U.S. Treasury securities, which are the deepest, most liquid 

market in the world. Interest rates would spike, and that would, 

in turn, affect many other assets, as well as Treasuries. 

So the near-term effect would almost certainly be a very sharp 

resumption of the kinds of instabilities we saw in 2008. Even if we 

were able to avoid those kinds of effects, the interest rate that 

lenders would demand of the U.S. to finance our debt going forward would be higher, reflecting the greater riskiness and uncertainty associated with funding the U.S. Government, and that 

would make our fiscal problems all the more severe because interest payments are part of the deficit. So it means that cuts would 

have to be sharper and tax increases larger and those things themselves would also be a negative for the recovery. 

So, broadly speaking, it would be, a very, very bad outcome for 

the U.S. economy. 

Senator WARNER. So it would be safe to say that 2 years of extraordinary actions, many of them politically unpopular, could all 

be washed away and whatever recovery we have got could all be 

put in jeopardy if we, as Members of Congress and the American 

public, does not realize that there is a major distinction between 

the questions around the debt ceiling limit and equally important 

questions around Government shutdown. But Government shutdown compared to messing with the debt ceiling limit could have 

dramatically different ramifications. 

Mr. BERNANKE. We have never had a failure to raise the debt 

limit. We have had a number of Government shutdowns and they 

have created problems, but they have not been as destructive as a 

debt limit failure would be. 

Senator WARNER. All right. Well, being sensitive to those of us 

on the end who have been waiting a while, I will try to get my last 

question in and observe the time limit. One of the things I know, 

as much as Senator Bennet tried to pin you down on the Deficit 

Commission report, you will not go on the specifics, but I would 

like to ask, because there are many folks here who feel that we can 

solve this crisis simply on the spending side. There are some on our 

side that want to do it only on the revenue side, or revenue side 

with the exclusion of entitlements. 

But the nature and size of this challenge is so great, do you believe that we can really get there without having an open mind on 

both sides of the balance sheet? 

Mr. BERNANKE. Well, I hope there will be an open mind. I hope 

there will be plenty of discussion about all possible ways forward. 

So certainly, I cannot disagree with that. 

Senator WARNER. But both spending and revenues have to be 

part of this discussion if we are going to be able—— 

Mr. BERNANKE. I hope there will be an open mind and that there 

will be discussion of all options, including reforms of the tax code, 

including restructuring of spending and the like, yes. 
30 

Senator WARNER. I wish I had had another 30 seconds. 

Chairman JOHNSON. Senator Moran. 

Senator MORAN. Mr. Chairman, thank you very much. Chairman 

Bernanke, thank you for the opportunity to question and make 

comments. 

Mr. Menendez asked earlier about, I think, at least from my perspective, the crux of his point was that despite significant monetary policy changes designed to put additional dollars into the 

banking system, loans are not being made. Credit is not being extended to the degree that we need to increase the economy. And 

I am interested in knowing whether that is accurate. Are we still 

trying to—I assume our goal is still try to increase loan demand. 

And do you think that the regulatory environment that particularly 

community banks face has a consequence in the fact that credit is 

not being extended and is there something we should do? 

Mr. BERNANKE. Well, first, the QE2 is not intended to work primarily through banks. It is intended to work through broader markets and we have seen, very open corporate bond markets, in part 

because of the monetary policy actions we have taken. So that is 

not the direct object of the QE2 and what we have seen is easier, 

broader credit conditions as opposed to bank lending specifically. 

We have tried to address the bank lending issues in different 

ways from a supervisory perspective, and I do not want to take all 

your time, but we have a long list of steps we have taken in terms 

of guidance, in terms of examiner trading, in terms of outreach, to 

try to make banks appreciate and make our own examiners appreciate that what we are looking for here is an appropriate balance. 

On the one hand, we do not want banks making bad loans, but on 

the other hand, it is good for everybody if they make loans to creditworthy borrowers, and we are encouraging that and encouraging 

our examiners to encourage that. 

My sense is that although credit conditions are still tight, that 

they are improving. I mentioned that in my testimony. We have 

seen in our surveys of banks that terms and conditions have 

stopped tightening and in some cases have begun to loosen a bit. 

Many banks have introduced new programs like second-look programs for looking at small business loans. My sense is that this 

year will see some improvement, not anything like what we saw 

before the crisis, and that is, in fact, probably a good thing, but we 

will see some improvement in bank lending and we are going to 

continue to follow that carefully. It is a very high priority for us. 

Senator MORAN. I raised this topic in your last appearance with 

other regulators before our Committee and I again would tell you 

that bankers continue to suggest that the ability to make loans is 

significantly hampered by the regulatory environment, and in most 

instances, the suggestion, at least, is that those regulations are not 

keeping them from making bad loans. They are keeping them from 

making good loans. And so again, I would encourage the Fed to 

pursue what you outline as your current course of action in a more 

significant or strenuous way. 

Often, your policy is criticized on QE2, and in doing so, the comparison is made to Japan, and I would like to know your thoughts 

about the correlation between what has occurred in the Japanese 

economy and its central bank’s response and yours in our economy. 
31 

And then you indicated earlier that, long-term, our deficits are 

not sustainable, and you have had some conversation with my colleagues here on the Committee about not extending the debt ceiling, for example. What are the precipitating factors that you are 

concerned about? I know every central banker has got to portray 

confidence, but what are the things that are out there that may 

make this, when you say long term not sustainable, that long term 

becomes a significantly a shorter term? What are the things in the 

world economy that we ought to keep our eye on that may change 

the timeframe in which we have to operate? 

Mr. BERNANKE. First, let me say on your bank issue that we do 

have an ombudsman, and I would encourage any bank that has 

concerns about Federal Reserve examiners to get in touch with us 

and we will try to follow through on that. 

Senator MORAN. Thank you. 

Mr. BERNANKE. On Japan, the Japanese did a lot of things earlier because they had a bubble and a collapse earlier than we did, 

but, one important difference is that, instead of simply focusing on 

bank reserves, which have not been lent out very much, we do not 

want it to be excessively lent out in the sense that we want it to 

be controlled. Otherwise, it would tend to create higher money supply and pose an inflation risk. What we have done instead is focus 

on longer-term securities, taking duration out of the market, and 

that has the effect of pushing investors into other types of investments and, again, making the corporate bond market more attractive, making the stock market stronger, and the like. 

So our approach has been somewhat different than what the Japanese took, but we have faced the same concern that following a 

financial crisis, recovery can be quite slow and deflation can be a 

risk, and we saw those things happening last summer and that is 

why we decided to take additional steps as we have. 

On terms of what could bring the fiscal crisis into the present, 

it is very hard to know. There is no way, to judge when markets 

will change their mind. Currently, 10-year bonds are still 3.5 percent, and currently, they seem to still have the confidence of the 

bond markets. 

I think what would be a real problem would be if investors saw 

not so much the economic capacity, but the political capacity of the 

United States as being inadequate to address these problems. If it 

became clear that these problems were not going to be adequately 

addressed because we were just in a perpetual gridlock, I think 

that would raise significant concerns and would risk bringing these 

problems forward into the present. 

Senator MORAN. Mr. Chairman, thank you. I think we often in 

Congress tend to criticize the Fed when so much of this, as you 

said earlier, is determined by decisions made here on spending, 

deficits, and revenues. Thank you, Mr. Chairman. 

Mr. BERNANKE. Thank you. 

Chairman JOHNSON. Senator Schumer. 

Senator SCHUMER. Thank you, Mr. Chairman, and thank you, 

Mr. Chairman. 

My first question relates to concentration limits in competitive in 

your role as a member of the FSOC group. Section 622 prohibits 

any firms whose total liabilities are greater than 10 percent of all 
32 

financial firms’ liabilities from merging with or acquiring another 

company. I am concerned, the way those numbers are calculated 

could put U.S. companies at a competitive disadvantage. That is 

because for U.S. companies, the number in the numerator includes 

all their liabilities worldwide, but for non-U.S. companies, only 

their U.S. liabilities. That means if a U.S. company and a Swiss 

company simultaneously bought a Brazilian bank, the concentration ratio for the U.S. company would go up and the ratio for the 

Swiss company would go down. As I understand it, the FSOC committee has the ability to change that and make it fairer. What are 

your thoughts, and what should FSOC do? 

Mr. BERNANKE. Well, I fully agree with your concern. It is unfair 

in the sense that a foreign bank that has operations in the U.S. 

could purchase a domestic U.S. bank where a U.S. bank of the 

same size could not buy that bank, and that is an issue—— 

Senator SCHUMER. Or a foreign bank of the same size. 

Mr. BERNANKE. Or a foreign bank. I may be mistaken, but my 

understanding is that we did not have discretion—— 

Senator SCHUMER. You do. 

Mr. BERNANKE. Well, I will look at that—— 

Senator SCHUMER. OK. Good. 

Mr. BERNANKE. ——because I do think it is a problem. 

Senator SCHUMER. OK. The FSOC the statute says FSOC can, A, 

take competitiveness into account, and B, that any rules are subject to the recommendations of FSOC. So you have some discretion 

and I hope you will. 

Second issue, you have persistently, wisely, in my view, you defer 

to Congress on taxing and spending, but I want to ask you a more 

general question about the ‘‘when’’ of deficit reduction rather than 

the ‘‘how,’’ about the timing of our efforts to reduce the deficit. Last 

month when you were testifying before the House Budget Committee, you said the following, and I am quoting, ‘‘This very moment is not time to radically reduce our spending or raise our taxes 

because the economy is still in a recovery mode and needs that 

support.’’ 

Now, private economists seem to agree. Mark Zandi yesterday in 

his report said too much cutting too soon would be counterproductive and would be taking an unnecessary chance with recovery. Do you agree with those sentiments? 

Mr. BERNANKE. Yes, if I may add a small qualification, only 

that—— 

Senator SCHUMER. No, do not do that. 

[Laughter.] 

Mr. BERNANKE. Thank you, Senator. Only that it is important to 

be showing progress, and therefore, I hope that we will take a longterm perspective and do things that will be persuasive to the market, and that over time—— 

Senator SCHUMER. Yes. 

Mr. BERNANKE. ——we are committed to—— 

Senator SCHUMER. I do not disagree with that caveat, at all. I 

mean, that is a fair caveat. But in the short term, we had better 

be careful not to snuff out this nascent recovery by doing too much 

cutting, in the words of Zandi. That is correct, in your opinion? 

Mr. BERNANKE. Yes. 
33 

Senator SCHUMER. OK. Do you also agree—he said that cuts, significant cuts could cause job loss. Those cuts would create job loss. 

I do not mean overall job loss, macro, but those cuts could. Do you 

agree with that? 

Mr. BERNANKE. That cuts would presumably lower overall demand in the economy, would have some effect on growth and employment. 

Senator SCHUMER. Good. So the answer is yes? 

Mr. BERNANKE. Yes. 

Senator SCHUMER. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator Kirk. 

Senator KIRK. Thank you, Mr. Chairman. 

I would just like to briefly comment for you on the work, This 

Time is Different, by Reinhart and Rogoff. What do you think? 

Mr. BERNANKE. Well, Ken Rogoff is one of my long-term colleagues and friends and I have great respect for both him and for 

Ms. Reinhart and I think it is a very interesting piece of work. It 

is particularly instructive because it uses a lot of historical episodes, data, as opposed to a purely theoretical approach to the 

problem. 

Senator KIRK. I think it is an important piece of work. You were 

effusive in your praise, at least on Amazon, I saw, and I thought 

it was—the title is important, because every central banker or economic official says, this time is different, and yet the basic themes 

of debasing a currency, inflation, lack of spending discipline, 

Reinhart and Rogoff highlight the similarity of poor action by bankers and governments to destroy their economy through a lack of 

discipline, and it is an important lesson for us. 

We have a report from the National Council of State Legislators 

that talk about financial stress now in 12 American States. Just recently, the State of Illinois borrowed another $3.7 billion, paying 50 

basis points more to borrow than corporate debt at the lowest investment grade. 

You and I talked earlier about the potential of States posing a 

systemic risk to our economy. Do you feel that they could pose a 

systemic risk? 

Mr. BERNANKE. It is possible, but currently, while States are facing very tough financial conditions, at least as long as the recovery 

continues, they are seeing higher tax revenues and that will at 

least be helpful to some of them in trying to address these problems. But obviously this is something we have to watch carefully. 

Senator KIRK. Certainly a panic in the State and municipal bond 

market could trigger a systemic risk, in your view? 

Mr. BERNANKE. If it was sufficiently severe, yes. 

Senator KIRK. Yes. You have expressed opposition to any Federal 

bailout of the States, is that correct? 

Mr. BERNANKE. I think that it is a Congressional, Federal matter. It is not a Federal Reserve matter. The Federal Reserve is not 

going to be involved in that. If Congress wants to address it, that 

is—— 

Senator KIRK. What would your view be to accelerate Federal 

borrowing to give money to the States? 
34 

Mr. BERNANKE. Again, I think that is a Congressional decision. 

If you are going to be increasing borrowing, obviously, that bears 

its own risks. 

Senator KIRK. Right, I think tremendous. Would you regard the 

proposal to defer State payments of principal and debt on loans 

made from the Federal Government as a State bailout? 

Mr. BERNANKE. Well, to some extent, it has fiscal implications for 

the Federal Government. 

Senator KIRK. I would think so. Also, maybe we could use language that is more clear. In your testimony on page five, you 

talked about we are considering providing additional monetary accommodation through further asset purchases. In November, the 

committee announced that it intended to purchase an additional 

$600 billion in longer-term Treasury securities in the middle of this 

year. In more layman’s terms, you are talking about lending money 

to the U.S. Government, correct? 

Mr. BERNANKE. Well, not exactly, because we are buying these 

securities on the secondary market. So somebody has already lent 

the money directly, but yes, we are holding Government debt. 

Senator KIRK. Yes, my point exactly. Section 14 of the Federal 

Reserve Act legally prevents you from—well, this would say from 

buying newly issued securities, which in a more layman’s term 

would be lending directly to the U.S. Government. 

Mr. BERNANKE. And that is why we are not doing that. 

Senator KIRK. Right. But instead, what you do is others lend to 

the U.S. Government and then you buy their loans. 

Mr. BERNANKE. Well, we do that all the time, even in most normal conditions. 

Senator KIRK. Correct. The CRS says, in modern times, the Fed 

has always held Treasury securities as part of normal operations, 

but now under QE2, it is a $600 billion commitment. 

But the CRS goes on to say, nonetheless, the effect of the Fed’s 

purchase of Treasury securities on the Federal budget is similar to 

monetization, whether the Fed buys securities on the secondary 

market or directly from Treasury. When the Fed holds Treasury securities, Treasury must pay interest to the Fed as it would to any 

private investor. These interest payments after expenses become 

part of the profits of the Fed. The Fed, in turn, remits 95 percent 

of the profits to the Treasury, where it is added to the general revenues. CRS concludes, in essence, the Fed has made an interest-free 

loan to the Treasury because almost all of the interest paid by the 

Treasury to the Fed is subsequently sent back to the Treasury. 

Would you agree with that? 

Mr. BERNANKE. Yes, we have remitted $125 billion to the Treasury in the last 2 years. So it is important to understand that what 

we are doing is not fiscal spending. It is, in fact, purchasing securities which we will then sell back to the market. 

Senator KIRK. So because of Section 14 of the Act, maybe the 

simple way of saying it is others are lending money to the Federal 

Government. You are purchasing those loans, and then the interest 

payments being made to you because you are now the holder of 

the—or you are the official maker of the loan—are then remitted 

back to the Treasury. So maybe in layman’s terms, this is one part 

of the Government lending another part of the Government money, 
35 

which would not lead to long-term confidence once the American 

people understood the basics a little bit better. 

Mr. BERNANKE. Well, it should be added that we also have a 

funding cost, and as interest rates go up, we will have a liability 

cost as well as an asset cost. So it may or may not be a return to 

the Treasury. 

Monetary policy, even in most normal times, as the CRS says, involves buying and selling Treasury securities. We could not have 

currency outstanding if we did not have securities to back them up. 

Senator KIRK. Although I would say, we had a currency for many 

parts of our history without any Federal debt. 

Mr. BERNANKE. When was that? 

Senator KIRK. Under the Jackson administration. 

Mr. BERNANKE. So this was before the Civil War. This was during the period where individual banks issued currency. We did not 

have a national currency. 

Senator KIRK. I just might say that it is possible for a country 

to have a currency without a trillion-dollar debt. 

Mr. BERNANKE. Yes. 

Senator KIRK. Thank you. 

Chairman JOHNSON. Senator Kohl. 

Senator KOHL. Thank you, Mr. Chairman. 

Chairman Bernanke, I would like to ask you two questions. The 

first question will be about rising oil prices. The second question 

will be about interchange fees. First, Mr. Chairman, we all agree 

that the rising price of oil will slow the economic recovery. To me, 

one of the most anticompetitive forces in the world, which raises 

the price of oil, are the price-fixing activities of the 12 member nations of OPEC oil cartel. 

I have a bill, Mr. Chairman, called NOPEC that would, for the 

first time, make the actions of OPEC subject to U.S. antitrust law. 

This bipartisan bill passed the Senate 4 years ago with 70 votes. 

Mr. Chairman, if this price-fixing cartel did not exist, wouldn’t the 

market function better and wouldn’t oil prices be lower? I would 

like your comment after I make my second question to you. 

Interchange fees. The issue of interchange fees is very controversial, as you know. In the recent Wall Street Reform Bill, Congress 

exempted small banks and credit unions so that they would not be 

impacted by any attempt to regulate interchange fees. But small 

banks are still worried that they will be discriminated against. 

Now, you and your staff are smart people, so can you see that 

the interests of small banks and credit unions are protected when 

you write the interchange rule? 

Mr. BERNANKE. Senator, on the first one, on OPEC, it is difficult 

to tell how much impact on the price OPEC has. It is a global market and there are non-OPEC producers. What OPEC does try to do 

is set production quotas, that are restrictive, but they are violated 

to some extent, you know, because it is very hard to monitor them. 

So I do not honestly know how big an affect OPEC has on oil 

prices. 

On the interchange fees, we are following the law and we are 

certainly exempting the small banks and credit unions from the 

limits and other restrictions on the interchange fees that they can 
36 

charge. Whether or not there will be any effect on the interchange 

fees charged by small banks remains to be seem. 

There are really, two issues. One is whether the networks, which 

are not required to differentiate in their payments to small banks 

and to others, whether they do have a two-tier pricing system or 

whether they find it, for one reason or another, inconvenient or uneconomic to do so. 

The other factor which may affect the interchange fees for smaller institutions is the fact that with the route with the network 

competition that is required by the bill, there may be some general 

downward pressure on interchange fees just coming from the fact 

that there is more competition in the marketplace and that may affect small banks to some extent. 

So I think there are some things we cannot fully control. That 

being said, we are certainly trying to write the rule in a way that 

will achieve Congress’ intention and provide exemptions for banks 

under 10 billion and for the other kinds of debit cards that receive 

the exemption. 

Senator KOHL. Can you say to us that that goal that you are trying to hard to achieve when you write the rule is something that 

you are going to exert tremendous effort and energy on in order to 

see to it that you do meet that goal? 

Mr. BERNANKE. We will do everything we can, but there are certain areas where we do not have control. For example, we cannot 

dictate the pricing policies of the networks, and it was part of the 

goal of the bill to put competitive pressure on interchange fees in 

general, and Congress chose not to exempt smaller institutions 

from that particular provision. So they are still subject to the competitive pressures arising from multiple networks. 

But again, we understand the intent of Congress and we will do 

everything that has been given to us via the statute to try to 

achieve that objective. 

Senator KOHL. Thank you so much. Thank you, Mr. Chairman. 

Chairman JOHNSON. Senator DeMint. 

Senator DEMINT. Thank you, Mr. Chairman. 

Mr. Chairman, thank you for being here. Just a quick follow-up 

on Senator Kirk’s question. Can you tell us absolutely that there 

will be no quantitative easing for States and no buying of State 

debt by the Federal Reserve? 

Mr. BERNANKE. I can say that, yes. 

Senator DEMINT. OK, good. Thank you. There are a lot of different economic and political philosophies here in the Congress, 

and I think oftentimes, we may look to you to help provide some 

consensus, so I have got a couple of just general questions. 

Do you generally agree that the private sector is a more efficient 

allocator of resources than the Government? 

Mr. BERNANKE. In most spheres. There are a few areas where 

the Government plays an important role, like defense. 

Senator DEMINT. Sure. But so generally, a dollar left in the private sector provides a greater economic multiplier than a dollar 

taken by Government and spent? 

Mr. BERNANKE. Again, there are some areas where the Government plays an important role. 
37 

Senator DEMINT. Sure. But just generally, could we generally 

conclude that the Government taxing and spending is not as an effective stimulus to the economy as money that is kept and spent 

and invested in the private sector? 

Mr. BERNANKE. It sounds like the conclusion of your argument 

is that taxes should be zero and I would not argue that. 

Senator DEMINT. No, no, but generally, as far as—I mean, I am 

not talking about essential services like military, but as we are 

looking at raising taxes versus cutting spending in the debates we 

are going through now, I mean, I think a basic underlying economic philosophy is the private is the more efficient allocator of resources. Building a consensus here is very difficult and we are 

often talking about effects rather than true causes. But I will move 

on from there just to ask a couple of other questions. 

Government spending and debt and borrowing obviously tightens 

credit, and that brings about—forces your hand to some degree 

with the quantitative easing. Is that a simple way to explain it? If 

we were not in debt, you would not need to do the QE, right? 

Mr. BERNANKE. I am not sure about that. The recession was tied 

primarily to the financial crisis, which drove the economy into a 

deep recession, and that in turn led to inflation falling toward the 

deflation zone, and the weakness of the economy and the deflation 

risk were the things that motivated us. 

Senator DEMINT. But if there was no debt problem, then you 

would be looking at other ways to stimulate the economy than actually buying Federal Reserve notes; is that right? I mean, excuse 

me, Treasury notes. 

Mr. BERNANKE. Well, if there were no debt to buy, we would 

have to find some other way to do it. 

Senator DEMINT. Right. What I am trying to get at is, when is 

enough enough as far as what the Federal Reserve will do with 

quantitative easing in the future? If we continue on our path, or 

even cut the projected deficits in half, do you expect to continue to 

buy more and more Treasury notes? 

Mr. BERNANKE. Well, first, if you were able to do that, I think 

it would be helpful for the economy. It would probably lower interest rates. It would probably increase confidence. So I urge you to 

continue to address the fiscal issue. Our quantitative easing policy, 

which is just another form of monetary policy, is trying to address 

the recovery of the economy right now, which is still underway. 

As I said in my testimony, it looks like a self-sustaining recovery 

is beginning to take place, so that is encouraging. But what we will 

be looking at is the state of the economy. Our mandate from Congress is to look at inflation and employment, so those are the 

things that we will be looking at as we determine how to withdraw 

or maintain our policy. 

Senator DEMINT. The quantitative easing, monetizing of debt, or 

however we term that, has caused some concern about our currency, the long-term value of our currency, and it has caused a lot 

of us to look at ways to create a more substantial or more soundness and stability to our monetary policy. In 1981, former Chairman Greenspan, wrote in the Wall Street Journal about an idea of 

using 5-year notes payable in gold that the Federal Reserve would 

issue—excuse me—the Treasury Department, payable in gold or 
38 

dollars to create some standard, as just a test. A lot of folks are 

talking about some form of standard, some way to create some 

boundaries for our monetary policy. 

Have you given any thought to the idea of a gold standard or 

ways like that, issuing bonds payable in gold that would begin to 

create some standard for our currency? 

Mr. BERNANKE. Well, first, I would just say that the Federal Reserve is not debasing the currency; that the dollar’s value is roughly the same as it was before the crisis in foreign exchange markets; 

that inflation is low and that is the buying power of the dollar. So 

I think those concerns are somewhat overstated, in fact, way overstated. 

On the gold standard, I have done a lot of study of that and it 

did deliver price stability over very long periods of time, but over 

shorter periods of time, it caused wide swings in prices related to 

changes in demand or supply of gold. So I do not think it is a panacea. And there are also other practical problems like the fact that 

we do not have enough gold to support our money supply. 

Senator DEMINT. The question is about just the bond. That is 

what Greenspan was talking about. Is that something that you 

have given any thought to? 

Mr. BERNANKE. I really have not analyzed that, that particular 

point. I do not think that a full-fledged gold standard would be 

practical at this point. 

Senator DEMINT. OK. I realize I am out of time. I apologize, Mr. 

Chairman. Thank you. 

Chairman JOHNSON. Senator Toomey. 

Senator TOOMEY. Thank you, Mr. Chairman, and thank you, 

Chairman Bernanke, for your patience. I think I am last, so that 

must be a bit of a relief. 

I would like to very briefly, if we could, go back to this discussion 

that we had earlier about the debt limit, because I think it is a 

huge mistake and factually incorrect for some to suggest that failure to immediately raise the debt limit is equal to a default on our 

debt. I am not accusing you of saying that, but I know others have. 

I am sure that you are well aware that the total fraction of projected Government spending next year that would be necessary to 

service our debt is about 6 percent. Even if the debt limit were not 

raised, ongoing tax revenue amounts to nearly 70 percent of the 

projected spending. 

So as much as I acknowledge that it would be extremely disruptive, and so I am hoping that we will have an appropriate and 

timely increase in the debt limit, given that there is so vastly much 

more in revenue than what is necessary to honor our debt obligations, it seems to me that a Treasure Secretary would have to willfully choose to default on our bonds. It is unfathomable to me that 

any Treasury Secretary would make such an imprudent decision. 

And so, I guess my brief question, if I could—I’d like to get on 

to monetary policy is, would you acknowledge that markets understand the difference between an unfortunate and temporary delay 

in a payment to a vendor, which they have seen before, on the one 

hand, versus failure to make an interest or a principal payment on 

our Treasury securities, which we have never done before? 
39 

Mr. BERNANKE. My concern is not necessarily just a question of 

willful decision. There are technical problems associated with making payments, including the fact that notwithstanding the facts, 

the data that you gave, that on a day-to-day basis, the amount of 

principal and interest which is due might exceed the free cash that 

the Treasury has. So I am worried about this. I am worried about 

the assurance that we would not risk failing to pay the debt. 

Senator TOOMEY. Well, I want to get back to this point, but as 

a former bond trader who earned a living trading fixed income securities and derivatives, I have to tell you, the market knows the 

difference between delaying a payment to the guys who cut the 

grass on the Mall, and failure to make a bond payment. It is a 

huge difference and I really do not think we should be even pretending that there is any equivalence between those two. 

On the QE2, and let me just preface by saying, I thought that 

many of the extraordinary measures that you guys took in 2008, 

did not agree with all of them, but I felt that—I did agree with 

many and I recognize that they were decisions being made during 

a crisis. 

But we are not in a financial crisis now. We are in a subpar economic recovery, way subpar in terms of job growth, and we are all 

disappointed by it. But what concerns me is that the problems that 

I perceive affecting our economy are not fundamentally monetary 

in nature. It does not seem to me that we have a lack of money 

supply, that we have a lack of liquidity that is driving the biggest 

problems that we have. 

And when I look at some of the conventional ways of looking at 

monetary policy, whether you look at the Taylor Rule or whether 

you look at growth by some measures of money supply, or whether 

you look at commodity prices, the breadth and scope of which has 

been, I think, stunning, you look at all of these things and many 

of them suggest that at a minimum, we are planting the seeds of 

serious inflation down the road. 

I also worry that excessive expansion of the money supply creates the illusion of growth, but not real growth. So I guess my concern is, if the economy remains weak, are there any—you know, 

what measures of inflation? Are there any changes in asset prices 

that would cause you to decide that despite a weak economy, we 

need to pull back on this quantitative ease? 

Mr. BERNANKE. Well, first, I think that many of the monetary or 

nominal indicators that somebody like Milton Friedman would look 

at did suggest the need for more monetary stimulus. For example, 

nominal GDP has grown very slowly. I am not talking about the 

reserves held by banks, which are basically idle, but if you look at 

M–1 and M–2, those have grown pretty slowly. 

The Taylor Rule suggests that we should be, way below zero in 

our interest rate, and therefore, we need some method other than 

just normal interest rate changes to—— 

Senator TOOMEY. Do you know if Mr. Taylor believes that? 

Mr. BERNANKE. Well, there are different versions of the Taylor 

Rule, and there is no particular reason to pick the one he picked 

in 1993. In fact, he preferred a different one in 1999, which if you 

use that one, gives you a much different answer. 
40 

Senator TOOMEY. My understanding is that his view of his own 

rule is that it would call for a higher Fed funds rates than what 

we have now. 

Mr. BERNANKE. There are many ways of looking at that rule, and 

I think that ones that look at history, ones that are justified by 

modeling analysis, many of them suggest that we should be well 

below zero, and I just would disagree that that is the only way to 

look at it. But anyway, I think there is some basis for doing that. 

I am sorry. The last part of your question was? 

Senator TOOMEY. Whether there are—— 

Mr. BERNANKE. Yeah, I am sorry. 

Senator TOOMEY. What, in a context of even unfortunately slow 

economy growth should that persist? What kind of inflation indication would cause you to—— 

Mr. BERNANKE. Sir, we are committed. A few economists have 

suggested temporarily raising inflation above normal levels as a 

way of trying to stimulate the economy. We have rejected that approach and we are committed to not letting inflation go above sort 

of the normal level of around 2 percent in the medium term. 

So we are looking very carefully at indicators of inflation, including actual inflation, including commodity prices, including the 

spreads between nominal and index bonds, which is a measure of 

inflation compensation, looking at surveys, business pricing plans, 

household inflation expectations. We look at a whole variety of 

things and I just want to assure you, we take the inflation issue 

very, very seriously and we do not have the illusion that allowing 

inflation to get high is, in any way, a constructive thing to do and 

we are not going to do that. 

Senator TOOMEY. I see my time is expired. Thank you, Mr. 

Chairman. 

Chairman JOHNSON. Thank you. Senator Shelby has a couple additional questions. 

Senator SHELBY. Thank you for your indulgence, Mr. Chairman. 

In a recent article, Dr. Martin Feldstein, who is well known, 

former president of the National Bureau of Economic Research, 

asked an important question about QE. And he says, Does the artificial support for the bond market, inequities from QE2 mean that 

we are looking at asset price bubbles that may come to an end before the year is over? 

Chairman Bernanke, what data do you examine to calculate the 

risk of creating asset bubbles within QE2? Is that a real concern? 

Mr. BERNANKE. It is something, Senator, that we pay a great 

deal of attention to. We have created a new office called the Office 

of Financial Stability—— 

Senator SHELBY. OK. 

Mr. BERNANKE. ——which is providing regular reports and data 

to the FOMC as well as to the supervisors. If you look at most indicators of equity markets, bond markets, and the like, while of 

course nobody can know for sure, there seems little evidence of any 

significant bubbles. Where there have been concerns, a few people 

have noted the increase in farmland prices. 

We have been following that carefully and we have been in substantial contact with the agricultural banks that lend to the farmers to make sure that they are appropriately managing that risk. 
41 

So we are very attentive to that and I do not believe that there is 

a dangerous bubble in U.S. financial markets. 

Senator SHELBY. Shifting over to Basel 3 capital standards, your 

counterpart at the Bank of England, Governor Mervyn King, recently gave a speech in which he stated that the new Basel 3 capital standards are, quote, insufficient to prevent another crisis. He 

went on to say that capital requirements should be several orders 

of magnitude higher. 

Do you agree with Governor King’s view that the Basel 3 capital 

standards are insufficient to prevent another crisis, or do we not 

know yet? 

Mr. BERNANKE. Several orders of magnitude would mean 700 

percent capital. 

Senator SHELBY. It would be a lot. 

Mr. BERNANKE. The capital under Basel 3 is a multiple of what 

it was under Basel 2 and also of higher quality, because it is common equity. 

Senator SHELBY. It is a big improvement, isn’t it? 

Mr. BERNANKE. It is a substantial improvement. In addition, the 

risk weights against which capital is calculated on the assets held 

by the banks are much more sensitive to risk and less liberal than 

in the earlier version of Basel. 

So there has been a substantial improvement in the amount of 

capital and quality of capital that banks have. In addition, as required both by the Basel agreement and by Dodd-Frank, to have 

additional capital for systemically significant banks, and we are 

looking at how best to do that. 

We agreed with the consensus of about 7 percent high quality 

capital in Basel based on looking at worst case losses to banks over 

the last 50 years, and it was our assessment that that amount of 

capital would have prevented any banks from failing in the crisis 

that we just suffered through. 

So although there is more to be done in terms of adding some 

additional capital to the most systemically significant banks, I do 

think that we have made a lot of progress and I do not agree with 

the view that this is likely to lead to another crisis. 

Senator SHELBY. Do you believe that it is very important for— 

and you are a regulator, too—that any bank with strong regulators, 

strong capital, and good strong management will generally survive? 

Mr. BERNANKE. Yes, except in the worst economic conditions. We 

have also, I should add, we have added a leverage ratio which will 

now be international, not just for the United States. 

Senator SHELBY. How would that work? 

Mr. BERNANKE. Well, there is a leverage ratio which will apply 

to risk weighted assets and it is currently in an observation period. 

But the previous situation was one in which only United States 

banks were required to have a minimum amount of capital as a 

fraction of total assets, and now all banks, including European and 

other competitors, will have to have that. 

The other thing we are doing is adding liquidity requirements. 

In the crisis, a lot of the problems arose when banks that were 

technically solvent were unable to meet their short-term liquidity 

demands and we want to address that as well. So I think these will 

be much stronger than we had before overall. 
42 

Senator SHELBY. Thank you, Mr. Chairman. 

Chairman JOHNSON. Thanks again to my colleagues and Chairman Bernanke for being here today. Economic growth is one of this 

Committee’s top priorities and we will do all we can to formulate 

policies that help support us—— 

Senator Corker, do you have additional questions? 

Senator CORKER. Are you wrapping it up? I will submit it in 

writing. 

Chairman JOHNSON. ——that helps us support a sustainable economic recovery. I will remind my colleagues that we will leave the 

record open for the next 7 days for Members to submit their questions for Chairman Bernanke. This hearing is adjourned. 

Mr. BERNANKE. Thank you. 

[Whereupon, at 12:26 p.m., the hearing was adjourned.] 

[Prepared statements, responses to written questions, and additional material supplied for the record follow:] 
43 

1Forecast ranges here and below refer to the central tendencies of the projections of FOMC 

participants, as presented in the ‘‘Summary of Economic Projections’’ released with the minutes 

of the January FOMC meeting, available at www.federalreserve.gov/monetarypolicy/ 

fomcminutes20110126ep.htm. 2For example, both the Survey of Professional Forecasters (see, the first quarter 2011 survey 

released by the Federal Reserve Bank of Philadelphia on February 11, available at 

www.philadelphiafed.org/research-and-data/real-time-center/survey-of-professional-forecasters) 

and the Blue Chip forecasting panel (see, the February 10, 2010, issue of Blue Chip Economic 

Indicators (New York: Aspen Publishers)) now project real GDP growth of about 31⁄2 percent 

from the fourth quarter of 2010 to the fourth quarter of 2011, about one-half percentage point 

higher than the corresponding projections made in August. Looking further ahead, most FOMC 

participants project that economic growth will pick up a bit more in 2012 and 2013, whereas 

private forecasters tend to see the expansion proceeding fairly steadily over the next few years. 

(Note: Blue Chip Economic Indicators and Blue Chip Financial Forecasts are publications owned 

by Aspen Publishers. Copyright © 2009 by Aspen Publishers, Inc. All rights reserved; 

www.aspenpublishers.com.) 

PREPARED STATEMENT OF BEN S. BERNANKE 

CHAIRMAN, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM

MARCH 1, 2011 

Chairman Johnson, Ranking Member Shelby, and other Members of the Committee, I am pleased to present the Federal Reserve’s semiannual Monetary Policy 

Report to the Congress. I will begin with a discussion of economic conditions and 

the outlook before turning to monetary policy. 

The Economic Outlook 

Following the stabilization of economic activity in mid-2009, the U.S. economy is 

now in its seventh quarter of growth; last quarter, for the first time in this expansion, our Nation’s real gross domestic product (GDP) matched its precrisis peak. 

Nevertheless, job growth remains relatively weak and the unemployment rate is 

still high. 

In its early stages, the economic recovery was largely attributable to the stabilization of the financial system, the effects of expansionary monetary and fiscal policies, 

and a strong boost to production from businesses rebuilding their depleted inventories. Economic growth slowed significantly in the spring and early summer of 

2010, as the impetus from inventory building and fiscal stimulus diminished and 

as Europe’s debt problems roiled global financial markets. More recently, however, 

we have seen increased evidence that a self-sustaining recovery in consumer and 

business spending may be taking hold. Notably, real consumer spending has grown 

at a solid pace since last fall, and business investment in new equipment and software has continued to expand. Stronger demand, both domestic and foreign, has 

supported steady gains in U.S. manufacturing output. 

The combination of rising household and business confidence, accommodative 

monetary policy, and improving credit conditions seems likely to lead to a somewhat 

more rapid pace of economic recovery in 2011 than we saw last year. The most recent economic projections by Federal Reserve Board members and Reserve Bank 

presidents, prepared in conjunction with the Federal Open Market Committee 

(FOMC) meeting in late January, are for real GDP to increase 31⁄2 to 4 percent in 

2011, about one-half percentage point higher than our projections made in November. 1 Private forecasters’ projections for 2011 are broadly consistent with those of 

the FOMC participants and have also moved up in recent months. 2

While indicators of spending and production have been encouraging on balance, 

the job market has improved only slowly. Following the loss of about 83⁄4 million 

jobs from early 2008 through 2009, private-sector employment expanded by only a 

little more than 1 million during 2010, a gain barely sufficient to accommodate the 

inflow of recent graduates and other entrants to the labor force. We do see some 

grounds for optimism about the job market over the next few quarters, including 

notable declines in the unemployment rate in December and January, a drop in new 

claims for unemployment insurance, and an improvement in firms’ hiring plans. 

Even so, if the rate of economic growth remains moderate, as projected, it could be 

several years before the unemployment rate has returned to a more normal level. 

Indeed, FOMC participants generally see the unemployment rate still in the range 

of 71⁄2 to 8 percent at the end of 2012. Until we see a sustained period of stronger 

job creation, we cannot consider the recovery to be truly established. 

Likewise, the housing sector remains exceptionally weak. The overhang of vacant 

and foreclosed houses is still weighing heavily on prices of new and existing homes, 

and sales and construction of new single-family homes remain depressed. Although 
44 

3The Survey of Professional Forecasters projects PCE inflation to run at about 11⁄2 percent 

in 2011 and to subsequently rise gradually to nearly 2 percent by 2013. The corresponding projections from the Survey of Professional Forecasters for Consumer Price Index (CPI) inflation 

are about 13⁄4 percent this year and about 2 percent next year and in 2013. Blue Chip forecasts 

for CPI inflation stand at about 2 percent for both 2011 and 2012. 4For example, deflation probabilities inferred from prices of certain inflation-indexed bonds 

increased during this period. 

mortgage rates are low and house prices have reached more affordable levels, many 

potential homebuyers are still finding mortgages difficult to obtain and remain concerned about possible further declines in home values. 

Inflation has declined, on balance, since the onset of the financial crisis, reflecting 

high levels of resource slack and stable longer-term inflation expectations. Indeed, 

over the 12 months ending in January, prices for all of the goods and services consumed by households (as measured by the price index for personal consumption expenditures (PCE)) increased by only 1.2 percent, down from 2.5 percent in the yearearlier period. Wage growth has slowed as well, with average hourly earnings increasing only 1.9 percent over the year ending in January. In combination with productivity increases, slow wage growth has implied very tight restraint on labor costs 

per unit of output. 

FOMC participants see inflation remaining low; most project that overall inflation 

will be about 11⁄4 to 13⁄4 percent this year and in the range of 1 to 2 percent next 

year and in 2013. Private-sector forecasters generally also anticipate subdued inflation over the next few years. 3 Measures of medium- and long-term inflation compensation derived from inflation-indexed Treasury bonds appear broadly consistent 

with these forecasts. Surveys of households suggest that the public’s longer-term inflation expectations also remain stable. 

Although overall inflation is low, since summer we have seen significant increases 

in some highly visible prices, including those of gasoline and other commodities. Notably, in the past few weeks, concerns about unrest in the Middle East and North 

Africa and the possible effects on global oil supplies have led oil and gasoline prices 

to rise further. More broadly, the increases in commodity prices in recent months 

have largely reflected rising global demand for raw materials, particularly in some 

fast-growing emerging market economies, coupled with constraints on global supply 

in some cases. Commodity prices have risen significantly in terms of all major currencies, suggesting that changes in the foreign exchange value of the dollar are unlikely to have been an important driver of the increases seen in recent months. 

The rate of pass-through from commodity price increases to broad indexes of U.S. 

consumer prices has been quite low in recent decades, partly reflecting the relatively 

small weight of materials inputs in total production costs as well as the stability 

of longer-term inflation expectations. Currently, the cost pressures from higher commodity prices are also being offset by the stability in unit labor costs. Thus, the 

most likely outcome is that the recent rise in commodity prices will lead to, at most, 

a temporary and relatively modest increase in U.S. consumer price inflation—an 

outlook consistent with the projections of both FOMC participants and most private 

forecasters. That said, sustained rises in the prices of oil or other commodities would 

represent a threat both to economic growth and to overall price stability, particularly if they were to cause inflation expectations to become less well anchored. We 

will continue to monitor these developments closely and are prepared to respond as 

necessary to best support the ongoing recovery in a context of price stability. 

Monetary Policy 

As I noted earlier, the pace of recovery slowed last spring—to a rate that, if sustained, would have been insufficient to make meaningful progress against unemployment. With job creation stalling, concerns about the sustainability of the recovery increased. At the same time, inflation—already at very low levels—continued to 

drift downward, and market-based measures of inflation compensation moved lower 

as investors appeared to become more concerned about the possibility of deflation, 

or falling prices. 4

Under such conditions, the Federal Reserve would normally ease monetary policy 

by reducing the target for its short-term policy interest rate, the Federal funds rate. 

However, the target range for the Federal funds rate has been near zero since December 2008, and the Federal Reserve has indicated that economic conditions are 

likely to warrant an exceptionally low target rate for an extended period. Consequently, another means of providing monetary accommodation has been necessary 

since that time. In particular, over the past 2 years the Federal Reserve has eased 

monetary conditions by purchasing longer-term Treasury securities, agency debt, 

and agency mortgage-backed securities (MBS) on the open market. The largest program of purchases, which lasted from December 2008 through March 2010, appears 
45 

5These tools include the ability to execute term reverse repurchase agreements with the primary dealers and other counterparties, which drains reserves from the banking system; and the 

issuance of term deposits to depository institutions, which immobilizes bank reserves for the period of the deposit. 

to have contributed to an improvement in financial conditions and a strengthening 

of the recovery. Notably, the substantial expansion of the program announced in 

March 2009 was followed by financial and economic stabilization and a significant 

pickup in the growth of economic activity in the second half of that year. 

In August 2010, in response to the already-mentioned concerns about the sustainability of the recovery and the continuing declines in inflation to very low levels, 

the FOMC authorized a policy of reinvesting principal payments on our holdings of 

agency debt and agency MBS into longer-term Treasury securities. By reinvesting 

agency securities, rather than allowing them to continue to run off as our previous 

policy had dictated, the FOMC ensured that a high level of monetary accommodation would be maintained. Over subsequent weeks, Federal Reserve officials noted 

in public remarks that we were considering providing additional monetary accommodation through further asset purchases. In November, the Committee announced 

that it intended to purchase an additional $600 billion in longer-term Treasury securities by the middle of this year. 

Large-scale purchases of longer-term securities are a less familiar means of providing monetary policy stimulus than reducing the Federal funds rate, but the two 

approaches affect the economy in similar ways. Conventional monetary policy easing 

works by lowering market expectations for the future path of short-term interest 

rates, which, in turn, reduces the current level of longer-term interest rates and contributes to both lower borrowing costs and higher asset prices. This easing in financial conditions bolsters household and business spending and thus increases economic activity. By comparison, the Federal Reserve’s purchases of longer-term securities, by lowering term premiums, put downward pressure directly on longer-term 

interest rates. By easing conditions in credit and financial markets, these actions 

encourage spending by households and businesses through essentially the same 

channels as conventional monetary policy. 

A wide range of market indicators supports the view that the Federal Reserve’s 

recent actions have been effective. For example, since August, when we announced 

our policy of reinvesting principal payments on agency debt and agency MBS and 

indicated that we were considering more securities purchases, equity prices have 

risen significantly, volatility in the equity market has fallen, corporate bond spreads 

have narrowed, and inflation compensation as measured in the market for inflationindexed securities has risen to historically more normal levels. Yields on 5- to 10- 

year nominal Treasury securities initially declined markedly as markets priced in 

prospective Fed purchases; these yields subsequently rose, however, as investors became more optimistic about economic growth and as traders scaled back their expectations of future securities purchases. All of these developments are what one would 

expect to see when monetary policy becomes more accommodative, whether through 

conventional or less conventional means. Interestingly, these market responses are 

almost identical to those that occurred during the earlier episode of policy easing, 

notably in the months following our March 2009 announcement. In addition, as I 

already noted, most forecasters see the economic outlook as having improved since 

our actions in August; downside risks to the recovery have receded, and the risk 

of deflation has become negligible. Of course, it is too early to make any firm judgment about how much of the recent improvement in the outlook can be attributed 

to monetary policy, but these developments are consistent with it having had a beneficial effect. 

My colleagues and I continue to regularly review the asset purchase program in 

light of incoming information, and we will adjust it as needed to promote the 

achievement of our mandate from the Congress of maximum employment and stable 

prices. We also continue to plan for the eventual exit from unusually accommodative 

monetary policies and the normalization of the Federal Reserve’s balance sheet. We 

have all the tools we need to achieve a smooth and effective exit at the appropriate 

time. Currently, because the Federal Reserve’s asset purchases are settled through 

the banking system, depository institutions hold a very high level of reserve balances with the Federal Reserve. Even if bank reserves remain high, however, our 

ability to pay interest on reserve balances will allow us to put upward pressure on 

short-term market interest rates and thus to tighten monetary policy when required. Moreover, we have developed and tested additional tools that will allow us 

to drain or immobilize bank reserves to the extent needed to tighten the relationship between the interest rate paid on reserves and other short-term interest rates. 5
46 

6See, for example, Alberto Alesina and Lawrence H. Summers (1993), ‘‘Central Bank Independence and Macroeconomic Performance: Some Comparative Evidence’’, Journal of Money, 

Credit and Banking, vol. 25 (May), pp. 151–162; or, more recently, Christopher Crowe and Ellen 

E. Meade (2008), ‘‘Central Bank Independence and Transparency: Evolution and Effectiveness’’, 

European Journal of Political Economy, vol. 24 (December), pp. 763–777. See, Ben S. Bernanke 

(2010), ‘‘Central Bank Independence, Transparency, and Accountability’’, at the Institute for 

Monetary and Economic Studies International Conference, Bank of Japan, Tokyo (May 25), for 

further discussion and references. 7See, the reports available on the Board’s webpage, ‘‘Credit and Liquidity Programs and the 

Balance Sheet’’, at www.federalreserve.gov/monetarypolicy/bstlreports.htm. 8See, Board of Governors of the Federal Reserve System, Office of Inspector General (2010), 

‘‘The Federal Reserve’s Section 13(3) Lending Facilities To Support Overall Market Liquidity: 

Function, Status, and Risk Management’’ (Washington: Board of Governors OIG, November), 

www.federalreserve.gov/oig/files/FRSlLendinglFacilitieslReportlfinal-11-23-10lweb.pdf. 

If necessary, the Federal Reserve can also drain reserves by ceasing the reinvestment of principal payments on the securities it holds or by selling some of those 

securities in the open market. The FOMC remains unwaveringly committed to price 

stability and, in particular, to achieving a rate of inflation in the medium term that 

is consistent with the Federal Reserve’s mandate. 

Federal Reserve Transparency 

The Congress established the Federal Reserve, set its monetary policy objectives, 

and provided it with operational independence to pursue those objectives. The Federal Reserve’s operational independence is critical, as it allows the FOMC to make 

monetary policy decisions based solely on the longer-term needs of the economy, not 

in response to short-term political pressures. Considerable evidence supports the 

view that countries with independent central banks enjoy better economic performance over time. 6

However, in our democratic society, the Federal Reserve’s independence brings 

with it the obligation to be accountable and transparent. The Congress and the public must have all the information needed to understand our decisions, to be assured 

of the integrity of our operations, and to be confident that our actions are consistent 

with the mandate given to us by the Congress. 

On matters related to the conduct of monetary policy, the Federal Reserve is one 

of the most transparent central banks in the world, making available extensive 

records and materials to explain its policy decisions. For example, beyond the semiannual Monetary Policy Report I am presenting today, the FOMC provides a 

postmeeting statement, a detailed set of minutes 3 weeks after each policy meeting, 

quarterly economic projections together with an accompanying narrative, and, with 

a 5-year lag, a transcript of each meeting and its supporting materials. In addition, 

FOMC participants often discuss the economy and monetary policy in public forums, 

and Board members testify frequently before the Congress. 

In recent years the Federal Reserve has also substantially increased the information it provides about its operations and its balance sheet. In particular, for some 

time the Federal Reserve has been voluntarily providing extensive financial and 

operational information regarding the special credit and liquidity facilities put in 

place during the financial crisis, including full descriptions of the terms and conditions of each facility; monthly reports on, among other things, the types of collateral 

posted and the mix of participants using each facility; weekly updates about borrowings and repayments at each facility; and many other details. 7 Further, on December 1, as provided by the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, the Federal Reserve Board posted on its public Web site the details 

of more than 21,000 individual credit and other transactions conducted to stabilize 

markets and support the economic recovery during the crisis. This transaction-level 

information demonstrated the breadth of these operations and the care that was 

taken to protect the interests of the taxpayer; indeed, despite the scope of these actions, the Federal Reserve has incurred no credit losses to date on any of the programs and expects no credit losses in any of the few programs that still have loans 

outstanding. Moreover, we are fully confident that independent assessments of these 

programs will show that they were highly effective in helping to stabilize financial 

markets, thus strengthening the economy. Overall, the operational effectiveness of 

the programs was recently supported as part of a comprehensive review of six lending facilities by the Board’s independent Office of Inspector General. 8 In addition, 

we have been working closely with the Government Accountability Office, the Office 

of the Special Inspector General for the Troubled Asset Relief Program, the Congressional Oversight Panel, the Congress, and private-sector auditors on reviews of 

these facilities as well as a range of matters relating to the Federal Reserve’s oper-
47 

ations and governance. We will continue to seek ways of enhancing our transparency without compromising our ability to conduct policy in the public interest. 

Thank you. I would be pleased to take your questions. 
48 

RESPONSES TO WRITTEN QUESTIONS OF CHAIRMAN JOHNSON 

FROM BEN S. BERNANKE 

Q.1. Recognizing the critical need to reduce our structural deficit 

to avert the problems you were discussing with Senator Bennet, 

and given the importance of continuing to make selective investments in R&D, education and infrastructure, would defunding 

those areas now hurt the recovery and damage long term U.S. 

growth? 

A.1. The costs and risks to the U.S. economy will rise if the Federal 

budget persistently runs large structural deficits. If global financial 

market participants were to lose confidence in the United States’ 

ability to manage its fiscal policy, the historical experience of countries that have faced fiscal crises should warn us that interest rates 

could increase suddenly and quickly, which would impose substantial costs on our economy. The threat from our currently 

unsustainable fiscal policies is real and growing, which should be 

sufficient reason to put in place a credible plan to place fiscal policy 

on a sustainable path over the medium and longer term. Acting 

now to develop a credible program to reduce future structural deficits would not only enhance economic growth in the longer run, 

these policy actions would likely also yield near-term economic benefits from lower long-term interest rates and increased consumer 

and business confidence. Moreover, the sooner a credible fiscal plan 

is established, the more time affected individuals would have to adjust to the necessary policy changes, which would probably make 

those changes less painful and more politically feasible. 

That said, economic growth is affected not only by the levels of 

spending and taxes, but also by their composition and structure. 

Changes in the Government’s tax policies and spending priorities 

could be made that not only reduce the deficit but also enhance the 

long-term growth potential of the economy—for example, by reducing disincentives to work and to save, by encouraging investment 

in the skills of our workforce as well as new machinery and equipment, by promoting research and development, and by encouraging 

and providing necessary infrastructure. In the current fiscal environment, policy makers will want to intensively review the effectiveness of all spending and tax policies and be willing to make 

changes in order to provide necessary programs more efficiently 

and at lower cost. These policy choices will certainly be difficult 

and will require tradeoffs to be made, but a more productive economy will ease the tradeoffs that we face. 

Q.2. Following up on Senator Moran’s question to you at the hearing, what can the Federal Reserve do to help encourage, or direct 

banks to, increase lending to small businesses on Main Street that 

are responsible for so much job growth? 

A.2. During the past few years, we have frequently received reports 

that small businesses are facing difficulty in obtaining credit. We 

share the Senator’s concerns about the effect that tight credit conditions can have on Main Street and in response have taken several steps to foster access to loans by creditworthy businesses. 

Early in the crisis, the Federal Reserve and the other banking 

agencies recognized the possibility that bankers and examiners 

could overcorrect for underwriting standards that had become too 
49 

lax and issued guidance to instruct examiners to take a measured 

and balanced approach to reviews of banking organizations and to 

encourage efforts by these institutions to work constructively with 

existing borrowers that are experiencing financial difficulties. The 

Federal Reserve subsequently conducted significant training for its 

examiners on this guidance to ensure that it was carefully implemented. In addition, we continue to strongly reinforce the guidance 

with our examiners and are focusing on evaluating compliance with 

the guidance as part of our regular monitoring of the examination 

process, which includes local management vettings of examination 

findings in the district Reserve Banks, review of a sample of examination reports in Washington, and investigation of any specific instances of possible undue regulatory constraints reported by members of the public. 

Our monitoring to date suggests that examiners are appropriately considering the guidance in evaluating supervised institutions. However, to the extent that a banking organization is concerned about supervisory restrictions imposed by Federal Reserve 

examiners, we have encouraged them to discuss their concerns with 

Reserve Bank or Federal Reserve Board supervisory staff. Bankers 

also have been advised that they can confidentially discuss these 

concerns with the Federal Reserve Board’s Ombudsman, who 

works with bankers and supervisory staff to resolve such issues. 

In addition to our efforts to encourage careful implementation of 

the interagency guidance, the Federal Reserve last year also completed a series of more than 40 meetings with community leaders 

from across the country to gather information to help the Federal 

Reserve and others better respond to the credit needs of small businesses. Emerging themes, best practices, and common challenges 

identified by the meeting series were discussed and shared at a 

conference held at the Federal Reserve Board in Washington in 

early July and are described in a summary report posted on the 

Federal Reserve’s Web site at: http://www.federalreserve.gov/ 

events/conferences/12010/sbc/downloads/ 

smalllbusinesslsummary.pdf The agenda for this meeting and 

remarks that address our plans for following-up on our findings are 

also available on the Federal Reserve’s Web site. 

More recently, the Federal Reserve has been working with staff 

at the U.S. Treasury and the other banking agencies to implement 

the Small Business Lending Fund created by the Small Business 

Jobs Act of 2010. This fund is intended to facilitate lending to creditworthy borrowers by providing affordable capital support to community banks that lend to small businesses. 

Q.3. We also want to ensure that individuals have appropriate access to credit. Is the Federal Reserve considering how its policies 

(both regulatory and monetary) impact consumer access to credit? 

If there is a negative impact on access to credit, what steps will 

the Federal Reserve take? 

A.3. In the context of both monetary and regulatory or supervisory 

policy, the Federal Reserve regularly analyzes data and other information about the availability of credit to consumers. The availability of credit is a key factor pertaining to the outlook for consumer spending, which is, itself, a major component of aggregate 
50 

demand in the U.S. economy. Therefore, when determining the appropriate stance of monetary policy, the Federal Open Market 

Committee considers consumers’ access to credit along with many 

other factors that shape the macroeconomic outlook. 

The Federal Reserve also considers the potential effects of its 

regulatory or supervisory policies on the availability of consumer 

credit. A recent example of this is the Comprehensive Capital Analysis and Review (CCAR) that was completed by the Federal Reserve on March 18, 2011. One element of the study of the capital 

plans of the 19 largest bank holding companies in the CCAR was 

to ascertain each firm’s ability to hold sufficient capital to maintain 

access to funding, to continue to serve as credit intermediaries, to 

meet their obligations to creditors and counterparties, and to continue operations, even in an adverse macroeconomic environment. 

In other words, a key element of the review was to evaluate the 

capital plans of large bank holding companies in the context of 

their ability to support lending to consumers, even in an adverse 

macroeconomic environment. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR REED 

FROM BEN S. BERNANKE 

Q.1. In your testimony you described an apparent willingness on 

the part of banks to lend. However, we continue to hear that small 

businesses are still having trouble obtaining needed lending. Considering that small businesses take the leading role in job creation, 

what are you doing to ensure that creditworthy small businesses 

have access to lending? 

A.1. We are also aware of reports that some small businesses are 

facing difficulty in obtaining loans and are concerned about the impact on job creation. As a result, we have taken a number of steps 

to try to improve small businesses’ access to credit in the time 

since the recent financial crisis began. Initially, the Federal Reserve and the other banking agencies recognized the possibility 

that bankers and examiners could overcorrect for underwriting 

standards that had become too lax in the run-up to the crisis and 

unnecessarily constrain access to credit by creditworthy borrowers. 

In order to address this possibility, they issued guidance to instruct 

examiners to take a measured and balanced approach to reviews 

of banking organizations and to encourage efforts by these institutions to work constructively with existing borrowers that are experiencing financial difficulties. The Federal Reserve subsequently 

conducted significant training for its examiners on this guidance to 

ensure that it was carefully implemented. Currently, we continue 

to strongly reinforce the guidance with our examiners and are focusing on evaluating compliance with the guidance as part of our 

regular monitoring of the examination process. 

Our monitoring to date suggests that examiners have been appropriately considering the guidance in evaluating supervised institutions. However, to the extent that a banking organization is concerned about supervisory restrictions imposed by Federal Reserve 

examiners, we have encouraged them to discuss their concerns with 

Reserve Bank or Federal Reserve Board supervisory staff or, if they 

prefer to raise their concerns confidentially, to raise them with the 
51 

Board’s Ombudsman, who works with bankers and supervisory 

staff to resolve such issues. In addition, last year the Federal Reserve conducted a series of more than 40 meetings with community 

leaders from across the country to gather information to help the 

Federal Reserve and others better respond to the credit needs of 

small businesses. Emerging themes, best practices, and common 

challenges identified by the meeting series were discussed and 

shared at a conference held at the Federal Reserve Board in Washington in early July 2010 and are described in a summary report 

posted on the Federal Reserve’s Web site at: http:// 

www.federalreserve.gov/events/conferences/2010/sbc/downloads/ 

smalllbusinesslsummary.pdf. 

There are several initiatives currently underway to address 

issues identified through these meetings. Most recently, the Federal Reserve has been working with staff at the U.S. Treasury and 

the other banking agencies to implement the Small Business Lending Fund created by the Small Business Jobs Act of 2010. This 

fund is intended to facilitate lending to creditworthy borrowers by 

providing affordable capital support to community banks that lend 

to small businesses. 

Q.2. During this economic crisis the length of time workers have 

remained unemployed has increased substantially. The longer 

someone remains outside the workforce, the harder it becomes to 

find employment and contribute to economic growth. What can policy makers do to get people back to work as soon as possible? What 

actions can be taken to help the long-term unemployed so we can 

make sure they do not lose the ability to reenter the workforce? 

A.2. Although the economy recovery appears to be on firmer footing, unemployment remains a significant concern in the United 

States. The recent declines in the unemployment rate are encouraging, but the level of unemployment is still very high, and it is 

likely to be some time before the unemployment rate returns to a 

more normal level. In addition, more than 40 percent of the unemployed have been out of work for 6 months or more. As you indicate, long-term unemployment is a particularly serious problem because it erodes the skills of those workers and may cause lasting 

damage to their future employment and earnings prospects. 

Given the current situation in which unemployment is high and 

inflation is low, the Federal Open Market Committee has maintained the target range for the Federal funds rate at 0 to 1⁄4 percent. In addition, the Committee decided in November 2010 to expand its holdings of securities, with the intention of purchasing 

$600 billion of Treasury securities by the end of the second quarter 

of 2011. The Committee believes that its policies will promote a 

stronger pace of economic recovery and anticipates a gradual return to higher levels of resource utilization in a context of price stability. The Federal Reserve also continues to provide guidance to 

banks to ensure that creditworthy borrowers, including small businesses and other potential employers, have access to credit. Finally, as I indicated in my recent testimony, I believe that efforts 

to address the Nation’s longer-run fiscal challenges could also help 

to promote the economic recovery. In particular, the adoption of a 

credible program to reduce future deficits would not only enhance 
52 

economic growth and stability in the long run, but could also yield 

substantial near-term benefits in terms of lower long-term interest 

rates and increased consumer and business confidence. All of these 

policies should help to reduce unemployment over time. 

With regard to other actions that might be taken to help the 

long-term unemployed, it seems to me that policies targeted towards providing those workers with the resources they need to upgrade their skills and find new jobs as the economy continues to 

recovery can be helpful. For example, community college and other 

adult education programs have been effective in helping workers 

who have lost their jobs to obtain new skills that strengthen their 

qualifications for available jobs. Similarly, innovative workforce development programs can play an important role in anticipating future job market demands, and it might be fruitful to couple these 

programs with job search assistance that channeled search and 

training toward the most promising areas. Unfortunately, however, 

long-term unemployment is a complex problem and there are no 

simple or guaranteed solutions. 

Q.3. What steps is the Federal Reserve taking toward establishing 

macroprudential tools that will assist it in identifying and responding to future asset bubbles that have the potential of igniting another financial crisis? 

A.3. The Federal Reserve is taking steps to identify and respond 

to emerging asset bubbles. Macrostress tests of financial institutions—such as those recently performed by Federal Reserve as part 

of the Comprehensive Capital Analysis and Review (CCAR) of large 

bank holding companies (BHCs )—are an important 

macroprudential tool. The macro stress tests help to identify the 

threats to financial stability from BHCs that would be posed by adverse economic conditions and large falls in asset prices. In addition, enhanced supervision and prudential standards required 

under the Dodd-Frank Act will make large BHCs and nonbank institutions determined to be systemically important subject to more 

stringent requirements on capital, leverage, and liquidity, as well 

as tighter limitations on their single-counterparty credit exposures. 

These enhanced standards should help to make the financial sector 

more resilient to asset price adjustments and thus would diminish 

the cost to the real economy. Finally, the Federal Reserve is working closely with other member agencies of the Financial Stability 

Oversight Council (FSOC) to identify threats to the financial stability of the United States, which could include emerging asset bubbles, and, moreover, to respond preemptively to such threats. Because the FSOC’s mandate is to focus on the stability of the U.S. 

financial system as a whole, this focus should reduce the possibility 

of undetected regulatory gaps which could, left unmonitored, fuel 

asset bubbles. 

Q.4. In a recent speech you explained the role played by global imbalances in encouraging the asset bubbles that led to the financial 

crisis. If this was a contributing factor to the crisis, what actions 

should be taken to address these global imbalances so that they do 

not destabilize the global financial system again in the future? 

A.4. The primary cause of the boom and bust in the housing market was the poor performance of the financial system and financial 
53 

regulation, including misaligned incentives in mortgage origination, 

underwriting, and securitization; risk-management deficiencies 

among financial institutions; conflicts of interest at credit rating 

agencies; weaknesses in the capitalization and incentive structures 

of the Government-sponsored enterprises; gaps and weaknesses in 

the financial regulatory structure; and supervisory failures. Global 

imbalances and the capital flows associated with them likely 

played a role in helping to finance the housing bubble and thus setting the stage for its subsequent bust. But it was the interaction 

between strong capital inflows and weaknesses in the domestic financial system that proved so injurious to financial stability. 

The appropriate response to the concerns posed by global imbalances is not to try to reverse financial globalization, which has conferred considerable benefits overall. Rather, we need to pursue reforms that promote financial stability in the context of an increasingly globalized financial arena. First, countries must work together to create an international system that more effectively supports the pursuit of internal and external balance: Countries with 

excessive and unsustainable trade surpluses will need to allow 

their exchange rates to better reflect market fundamentals and increase their reliance on domestic demand, while countries with 

large trade deficits must encourage higher national saving, including by strengthening their fiscal positions. Second, the United 

States must continue to work with its international partners to increase the efficiency, transparency, and resiliency of our national financial systems and to strengthen financial regulation and oversight. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR AKAKA 

FROM BEN S. BERNANKE 

Q.1. Chairman Bernanke, as you know, I am most concerned with 

the well-being of consumers. In the current economic climate, consumers are confronted with difficult financial decisions. This is the 

case in Hawaii, where many homeowners face possible foreclosure 

and the average credit card debt of a resident is the second highest 

in the country. 

Last week was America Saves Week. We highlighted the importance of personal savings and teach consumers how to increase 

their financial security through better money management. By saving, individuals can help protect themselves during economic 

downturns and unforeseen life events. 

And yet, we also know that our slow economic recovery is partially due to low consumption or consumer spending. 

Chairman Bernanke, my question to you is about these two different motivations. How can we continue our efforts to promote economic recovery? And, how do we at the same time encourage responsible consumer behavior and financial decision making? 

A.1. The Federal Reserve System is strongly committed to promoting consumer financial education through research, community 

outreach and a wide range of information on issues related to personal finance that we make available to the public. One objective 

of our consumer and community activities is to foster informed and 

prudent financial decision making of the type promoted by the 
54 

1For ‘‘Addressing the Impact of the Foreclosure Crisis . . . ’’ report, see www.chicagofed.org/ 

digital assets/others/inlfocus/foreclosurelresourcelcenter/morelreportlfinal.pdf. 2For additional information about the Federal Reserve Consumer Help center, see 

www.federalreserveconsumerhelp.gov/index.cfm. 

America Saves campaign. Indeed, the Federal Reserve Board is a 

member of the America Saves National Advisory Committee. 

The exercise of sound judgment in personal financial affairs is 

not inconsistent with a healthy growing economy. Quite the contrary. As the events of the past several years have shown, outsized 

debt accumulation can leave many households vulnerable to great 

distress if collateral values drop sharply or income is disrupted, 

which leads to cutbacks in aggregate demand, production and employment. These cutbacks can lead to further financial distress and 

income disruptions and associated declines in production and employment. However, sound household decision making can lay the 

foundations for sustainable economic growth. Looking forward, a 

combination of rising business confidence, accommodative monetary 

policy, and improving credit conditions seems likely to lead to continued gains in production and employment. These gains, in turn, 

should boost incomes and provide the wherewithal for households 

to increase their spending without taking on excessive debt, which 

helps to further support increases in production and employment 

in a virtuous cycle. 

Q.2. Chairman Bernanke, because of the high number of recent 

foreclosures, an alarming number of Americans face the extremely 

difficult task of placing themselves back on sound financial footing. 

They are especially vulnerable to nontraditional and predatory financial products and services. 

What can be done to help these individuals overcome foreclosure 

and restore their financial well-being? 

A.2. The Federal Reserve has been working at various levels to 

support consumers and communities struggling with the impact of 

the foreclosure crisis since 2007. Through the 12 Federal Reserve 

Banks, the System works with financial institutions, local leaders, 

and community groups to provide relevant research, and data 

through a broad range of programs and activities. The Board of 

Governors provides guidance and support to the Reserve Banks’ efforts, offering a national perspective on various policy issues and 

programs that help provide further understanding of the mortgage 

market and the options available to stabilize neighborhoods and assist borrowers struggling with the impacts of foreclosure. A comprehensive overview of these efforts undertaken by the Federal Reserve in response to the foreclosure crisis is provided in ‘‘Addressing the Impact of the Foreclosure Crisis: Federal Reserve Mortgage 

Outreach and Research Efforts.’’ This report is available online. 1

The Federal Reserve also has a centralized call center, the Federal Reserve Consumer Help (FRCH), to accept consumer complaints against financial institutions, including consumers experiencing difficulty with their mortgages or who experience communication issues with the financial institution regarding their mortgage. Consumers can contact FRCH for assistance and information. 2 Complaint specialists are trained in responding to consumers’ mortgage and foreclosure issues and to direct them to addi-
55 

3 Board of Governors, Consumer Information web page, www.federalreserve.gov/ 

consumerinfo/foreclosure.htm. 4For additional information, see Federal Reserve Bank of St. Louis, Community Development, 

Foreclosure Resource Center at www.stlouisfed.org/communityl development/foreclosure/mitigation-l.cfm. 5Federal Reserve Board, Supervision, Consumer Affairs Letters, 2007, CA 07-01, ‘‘Working 

with Mortgage Borrowers’’, and ‘‘Statement on Loss Mitigation Strategies for Servicers of Residential Mortgages’’. In 2009, CA 09-05, ‘‘Information and Examination Procedures for the ‘Protecting Tenants at Foreclosure Act of 2009’ ’’ and CA-13,‘‘Mortgage Loan Modifications and Regulation B’s Adverse Action Requirement’’. 6For the Board of Governors’ enforcement actions and the report, ‘‘Interagency Review of 

Foreclosure Policies and Practices’’, see http://www.federalreserve.gov/newsevents/press/enforcement/20110413a.htm. 

tional assistance as their circumstances require. The FRCH Web 

site provides one-stop shopping for resources and links to Government and nonprofit organizations that offer foreclosure assistance. 

In addition, each of the Federal Reserve banks and the Board of 

Governors has established a Web site where consumers can access 

online Federal and local resources designed to help homeowners 

with foreclosure prevention and assist their efforts to recover from 

financial difficulties. 3 For example, the Federal Reserve Bank of 

St. Louis’ Foreclosure Resource Center includes a ‘‘Foreclosure 

Mitigation ToolKit’’ that identifies steps that community leaders 

can take to address foreclosures in their neighborhoods, including 

outreach to those consumers at risk of losing their homes and for 

developing postforeclosure support systems. 4

The Board has also issued a number of supervisory guidances to 

the banks on policies and procedures that are essential to ensuring 

they work with consumers struggling with their mortgages and 

comply with appropriate consumer protection laws and regulations 

that relate to foreclosure and loss mitigation. In 2007, the Board, 

in concert with other banking supervisory agencies, issued guidance letters specifically related to working with borrowers struggling with their mortgages, as well as guidance in 2009 on tenants’ 

rights when landlords fall into foreclosure. 5 Most recently, the 

Board announced formal enforcement actions requiring 10 banking 

organizations to address patterns of misconduct and negligence related to deficient practices in residential mortgage loan servicing 

and foreclosure processing. A copy of the press release and the accompanying publication that documents the supervisory agencies’ 

findings, Interagency Review of Foreclosure Policies and Practices, 

can be found online on the Board of Governors’ public Web site. 6

Q.3. Chairman Bernanke, I know that we share an interest in remittances. During difficult economic times, individuals who normally remit money to their relatives overseas are under greater financial pressure. At the same time, they also are under greater 

pressure to provide assistance to their families abroad. 

I know that the Federal Reserve is working hard to implement 

the remittance protection provisions of the Dodd-Frank Act. It requires more meaningful disclosures for remittance transactions. It 

also establishes an error resolution process for consumers. 

Please update us on what progress has been made to implement 

the remittance protections in the Dodd-Frank Act. 

A.3. On May 12, 2011, the Federal Reserve Board requested public 

comment on a proposed rule that would create new protections for 

consumers who send remittance transfers to recipients located in a 
56 

foreign country. The press release and related information can be 

found on the Board’s public Web site at: www.federalreserve.gov/ 

newsevents/press/bcreg/20110512a.htm. 

The proposed rule would require that remittance transfer providers make certain disclosures to senders of remittance transfers, 

including information about fees and the exchange rate, as applicable, and the amount of currency to be received by the recipient. In 

addition, the proposed rule would provide error resolution and cancellation rights for senders of remittance transfers. The proposed 

model disclosure forms were developed with the use of extensive 

consumer testing to ensure that they presented the information 

that consumers of remittance products need to make informed decisions regarding fees and features across providers. 

The public comment period will end on July 22, 2011, and all 

comment letters will be transferred to the Consumer Financial Protection Bureau which will have responsibility for issuing the final 

rules. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR MERKLEY 

FROM BEN S. BERNANKE 

Q.1. Federal Reserve Audit. During the debate over the Dodd-Frank 

Act, the Federal Reserve argued that revealing the names of borrowers from its emergency lending facilities would imperil the financial institutions and other borrowers and chill the use of those 

emergency facilities that may be necessary to stabilize the economy. Yet, as mandated by the Dodd-Frank Act, the Federal Reserve on December 1, 2010 revealed the names of many of the borrowers from its emergency lending facilities during the 2008 financial crisis. 

What lessons can be drawn from this experience? Does this experience suggest that the Federal Reserve can be more transparent 

regarding its borrowers during or soon after a crisis? 

A.1. As you note, the Federal Reserve published the names of the 

borrowers from its emergency lending facilities, as well as details 

on the loans extended, on December 1, 2010. The publications 

added to the large volume of information that the Federal Reserve 

had made available in weekly and monthly reports on its emergency lending throughout the financial crisis. In addition, as required by the Dodd-Frank Act, any borrowers at future emergency 

credit facilities would be identified 1 year after the emergency facility was closed, and borrowers at the Federal Reserve’s normal discount window would be identified 2 years after borrowing. It is difficult to assess the effect of these disclosures on the effectiveness 

of Federal Reserve lending programs that may put in place to address a future financial crisis and support credit availability to U.S. 

businesses and households. Financial firms may be less willing to 

participate in such programs because they will anticipate that their 

names will be disclosed and will remain concerned about the possible effects of that disclosure on the behavior of their creditors and 

counterparties in some circumstances. Indeed, some firms have 

publicly stated that they no longer intend to access the discount 

window. 
57 

We think that an effective discount window can be an important 

source of backup liquidity for the banking system, and we will 

monitor carefully the discount window borrowing of depository institutions. 

Q.2. Commodities. Financial experts have noted that speculative 

booms in commodities, especially oil, tend to immediately precede 

recessions in the U.S. Are you concerned at all that commodities 

are getting out of hand? If monetary policy ought to be focused on 

the big risks to the U.S., such as from housing, are there other 

tools that can be applied to the commodities markets to ensure we 

don’t have a speculative bubble and bust? For example, both the 

U.S. and European financial regulators have new authorities to impose position limits. Please share your views regarding the use of 

these. 

A.2. The prices of oil and other commodities can have important 

implications for U.S. economic growth and price stability. Accordingly, the Federal Reserve closely monitors developments in these 

markets. Broad movements in commodity prices have been in line 

with developments in the global economy. These prices rose 

throughout most of the past decade while global growth was strong 

and supply was constrained, they collapsed with the onset of the 

global recession, and they subsequently rebounded amid the economic recovery. The increases in commodity prices in recent 

months have largely reflected rising global demand, particularly in 

some fast-growing emerging market economies, coupled with constraints on global supply in some cases. In particular, political unrest in the Middle East and North Africa has led to further increases in oil prices, and adverse weather has boosted prices of 

some important food commodities. 

Some have argued that speculative activities on the part of financial investors have been responsible for the extreme swings in commodity prices. Notwithstanding considerable study, however, conclusive evidence of the role of speculators remains elusive. If conclusive evidence emerged that commodity markets were not performing their price discovery and allocative role effectively, changes 

in regulatory policies might be appropriate. Policy makers should 

be cautious and careful in proposing changes to the regulation of 

commodity markets, so as to not excessively shrink market liquidity, impede the price discovery process, or interfere with the ability 

of commodity producers and consumers to manage their risks. 

Q.3. Foreign Exchange. We have heard some argue that foreign exchange markets performed well during the crisis, that those markets did not need to be bailed out, and that as a result ‘‘foreign exchange swaps’’ ought to be exempt from Dodd-Frank swaps regulation (as permitted if the Secretary of the Treasury makes the finding required under Dodd-Frank Act). Please refresh the Committee 

on how the foreign exchange markets, especially the markets in 

these foreign exchange swaps, performed during the crisis. 

• Did they freeze up at any point such that firms would not 

enter into transactions with each other? 
58 

• Did some firms place trades betting that currencies would decline and then suffer losses when their counterparties were unable to repay? 

• What role did the Federal Reserve’s central bank foreign exchange swap lines—which in December of 2008 reached nearly 

$600 billion in outstanding lending, or 25 percent of the Fed’s 

assets—play in those ensuring the functioning of these ‘‘foreign 

exchange swap’’ markets? 

A.3. All financial markets experienced some stress during the crisis. However, foreign exchange markets were arguably more resilient than many other wholesale money markets. In particular, unlike some dollar funding markets—such as markets for commercial 

paper, asset-backed commercial paper, repurchase agreements, and 

Eurodollars—which essentially seized up during the crisis, the foreign exchange market continued to function. Liquidity in the market for spot foreign exchange was only slightly impaired. The market for dollar-related foreign exchange swaps, which is used by 

some financial institutions to acquire dollar funding, exhibited 

more strains because of its tighter links with dollar funding markets more generally. However, trading in the foreign exchange 

swap market for dollars was not affected as much as trading in 

some of the other market segments. And nondollar foreign exchange swap markets were relatively unaffected. 

Some firms may have taken directional positions in currencies 

during the crisis, as part of their standard business activity, but we 

did not hear of any significant troubles with failures to repay in the 

swap or forward market for foreign exchange. 

The Federal Reserve’s swap operations were not done in the private market with private-market counterparties. They were done 

with other central banks, so there was no direct support provided 

by these operations to the foreign exchange swap market. The Federal Reserve’s swap operations with other central banks provided 

the other central banks with dollar liquidity that they in turn could 

lend to private financial institutions in their jurisdictions. The dollar transactions of the foreign central banks in their local markets 

were nearly all in the form of repurchase agreements or other 

collateralized lending operations. Such operations were not in direct support of the market for foreign exchange swaps. Nonetheless, because the operations of the foreign central banks did help 

relieve pressures in dollar funding markets more generally, these 

operations had an indirect impact on the functioning of the dollar 

foreign exchange swap market, too. 

Q.4. Housing Risks. The Case-Schiller housing price index fell by 

3.9 percent from November to December 2010, and was down 4.1 

percent year on year. As you know, declining housing prices in the 

U.S. expose families and financial institutions to a great deal of 

hardship and risk. And while employment appears to be improving 

in some places, many people continue to be out of work, especially 

in my home State of Oregon. 

What risk to the economy do you see from falling or stagnant 

housing market, with an inventory of distressed properties constituting a large proportion of the homes for sale? What monetary or 
59 

supervisory tools does the Federal Reserve have to manage such 

risks? What role can fiscal and other Government policy play? 

A.4. In many markets across the country, housing activity remains 

weak and home prices remain depressed. Weakness in real estate 

markets is an important headwind for economic growth and represents a key risk to macroeconomic performance in the period 

ahead. 

Against this backdrop and in the context of low overall rates of 

resource utilization, subdued inflation trends, and stable inflation 

expectations, earlier this month, the Federal Open Market Committee has maintained the target range for the federal funds rate 

at the historically low level of 0 to 1⁄4 percent and continued its existing policy of reinvesting principal payments from its securities 

holdings and of purchasing additional longer-term Treasury securities through the end of the second quarter of 2011. Should the 

Committee determine it to be necessary, the overall size and pace 

of the Federal Reserve’s asset-purchase program can be adjusted as 

needed to best foster maximum employment and price stability. 

The Federal Reserve also has a variety of supervisory tools at its 

disposal to help manage risks stemming from weakness in real estate markets. Indeed, to improve both the Federal Reserve’s consolidated supervision and our ability to identify potential risks to 

the financial system, such as those posed by weakness in housing 

markets, we have made substantial changes to our supervisory 

framework. In particular, we have augmented our traditional approach to supervision, which focuses on examinations of individual 

firms in isolation, with greater use of horizontal reviews that simultaneously examine risks across a group of firms, to identify 

common sources of risks and best practices for managing those 

risks. To supplement information gathered by examiners in the 

field, we have also enhanced our quantitative surveillance program 

to use data analysis and modeling to help identify vulnerabilities 

at both the firm level and for the financial sector as a whole. 

A recent example of this improved supervisory framework is the 

Comprehensive Capital Analysis and Review (CCAR) that was completed by the Federal Reserve on March 18, 2011. One element of 

the forward-looking evaluation of the internal capital planning 

processes of the large, complex banking organizations in the CCAR 

was to ascertain each firm’s ability to hold sufficient capital to 

maintain access to funding, to continue to serve as credit intermediaries, to meet their obligations to creditors and counterparties, 

and to continue operations, even in an adverse macroeconomic environment. The ‘‘supervisory stress scenario’’ that was part of the 

CCAR included a deterioration in real estate markets resulting in 

a significant further decrease in home prices nationwide. 

Regarding fiscal policy and other governmental policy, the Congress could, in principle, decide to pursue a range of responses to 

weakness in housing markets. However, the Congress would, of 

course, have to weigh the potential benefits of such policy responses in the context of the overall Federal budget situation and 

a number of competing demands on scarce resources. 
60 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR VITTER 

FROM BEN S. BERNANKE 

Q.1. When are you going to get out of the ultra-low interest rates 

policies of near zero interest rates? What specific metrics will guide 

your decision? What will you look at in terms of factors that will 

influence your decision as to when to increase rates off of zero? 

A.1. The Federal Reserve conducts monetary policy to foster its 

statutory objectives of maximum employment and stable prices. 

Consistent with these objectives, the Federal Reserve eased monetary policy aggressively over the course of 2008 in response to the 

financial crisis and the associated steep economic downturn. By 

late 2008, the Federal Open Market Committee (FOMC) had reduced its target for the Federal funds rate to a range of 0 to 1⁄4

percent. It also had begun large-scale purchases of agency debt and 

agency-guaranteed mortgage-backed securities in order to provide 

additional monetary policy accommodation. Subsequently, the Federal Reserve also purchased longer-term Treasury securities with 

the same objective. As the FOMC noted in its most recent statement, recent data suggest that the economic recovery is proceeding 

at a moderate pace and labor market conditions are improving 

gradually. Nonetheless, the unemployment rate remains elevated, 

and measures of underlying inflation continue to be somewhat low, 

relative to levels that the FOMC judges to be consistent, over the 

longer run, with its dual mandate. Based on this outlook, the 

FOMC decided at its most recent meeting that it was appropriate 

to maintain its accommodative stance of monetary policy. 

As the economy recovers further, the FOMC will eventually need 

to remove the current degree of policy accommodation so that the 

stance of monetary policy remains consistent with the FOMC’s dual 

mandate. The FOMC monitors a wide range of indicators in order 

to assess progress toward its dual objectives and hence the appropriate stance of policy. In particular, the FOMC has noted factors 

that are important in its assessment of the appropriate level of the 

Federal funds rate in the current environment including low rates 

of resource utilization, subdued inflation trends, and stable inflation expectations. 

Q.2. Mr. Chairman, as you are well aware, since the Federal Reserve lowered the Federal Funds rate to ‘‘0 to 1⁄4 percent’’ the 

FOMC statement has included the following statement, the Fed 

‘‘continues to anticipate economic conditions . . . are likely to warrant exceptionally low levels of the federal funds rate for an extended period of time.’’ 

As I’m sure you are aware Kansas City Federal Reserve Bank 

President Hoenig cast dissenting votes on the Federal Open Market 

Committee 8 times throughout 2010 because he felt that ‘‘continuing to express the expectation of exceptionally low levels of the 

Federal funds rate for an extended period was no longer warranted 

because it could lead to the buildup of financial imbalances and increase risks to longer-runmacroeconomic and financial stability.’’ 

At what point, Mr. Chairman, would it be warranted not to increase the Federal funds rate, but to simply remove that phrase: 

‘‘likely to warrant exceptionally low levels of the Federal funds rate 

for an extended period of time?’’ Can you give this Committee a 
61 

time frame on when that might happen? If not, can you describe 

the metrics you will use to make that decision? 

A.2. The FOMC regularly evaluates all aspects of the current 

stance of policy and its statement in light of the evolution of the 

economic outlook. The phrase noted is intended to provide market 

participants with greater clarity about the FOMC’s expectations for 

the path of the Federal funds rate given its assessment of the economic outlook. Importantly, this so-called ‘‘forward guidance’’ for 

the funds rate is explicitly conditional on the economic outlook. As 

a result, any changes in the forward guidance will depend on the 

evolution of the outlook for economic activity and inflation. As the 

economy continues to recover, policy accommodation will eventually 

need to be removed so that the stance of monetary policy remains 

consistent with the Federal Reserve’s dual mandate to foster maximum employment and stable prices. The FOMC monitors a wide 

range of indicators in order to assess progress toward its dual objectives and hence the appropriate stance of policy. The FOMC has 

noted some of the important metrics that form the basis for its current forward guidance regarding the funds rate target. In particular, the FOMC statement notes that low rates of resource utilization, subdued inflation trends, and stable inflation expectations 

are some of the key factors supporting its judgment that exceptionally low levels of the funds rate are likely to be warranted for an 

extended period. 

Q.3. In a speech last year, Mr. Hoenig advocated a policy that remains accommodative but slowly firms as the economy itself expands and moves toward more balance. He advocated dropping the 

‘‘extended period’’ language from the FOMC’s statement and removing its guarantee of low rates. This tells the market that it 

must again accept risks and lend if it wishes to earn a return. The 

FOMC would announce that its policy rate will move to 1 percent 

by a certain date, subject to current conditions. At 1 percent, the 

FOMC would pause to give the economy time to adjust and to gain 

confidence that the recovery remains on a reasonable growth path. 

At the appropriate time, rates would be moved further up toward 

2 percent, after which the nominal Fed funds rate will depend on 

how well the economy is doing. Are you aware of this proposal? 

Have you considered it? 

A.3. The FOMC reviews its policy stance at every FOMC meeting, 

and meeting participants regularly offer their views about a range 

of policy options. President Hoenig expressed his views at FOMC 

meetings, and they were noted in the minutes of the meetings. 

(See, for example, the minutes to the September 2010 meeting at 

http://www.federalreserve.gov/monetarypolicy/ 

fomcminutes20100921.htm.) 

As noted above, the FOMC will eventually need to remove policy 

accommodation in order to maintain an overall stance of monetary 

policy that is consistent with the statutory objectives of maximum 

employment and stable prices. Currently, the unemployment rate 

remains elevated, and measures of underlying inflation continue to 

be somewhat low, relative to levels that the FOMC judges to be 

consistent, over the longer run, with its dual mandate. At its most 

recent meeting, the FOMC again judged that it was appropriate to 
62 

maintain the current 0 to 1⁄4 percent target range for the Federal 

funds rate to foster its dual mandate. In addition, the FOMC again 

continued to anticipate that economic conditions—including low 

rates of resource utilization, subdued inflation trends, and stable 

inflation expectations—were likely to warrant exceptionally low 

levels for the Federal funds rate for an extended period. 

Q.4. What specific metrics will guide your decision for ending QE2? 

A.4. The FOMC’s decision last fall to undertake a second round of 

large scale asset purchases reflected its judgment that, while the 

economic recovery was continuing, progress toward meeting the 

FOMC’s dual mandate of maximum employment and price stability 

had been disappointingly slow. Moreover, members generally 

thought that such progress was likely to remain slow. While incoming economic and financial data since that time has suggested some 

improvement in the economic outlook, that improvement has been 

fairly gradual, and the FOMC has judged that the current program 

of purchases remains appropriate. 

The FOMC regularly reviews the pace of its securities purchases 

and the overall size of the asset purchase program in light of incoming information and will adjust the program as needed to best 

foster its statutory goals of maximum employment and price stability. In considering the appropriate stance of policy, including the 

decision for ending the asset purchase program, the FOMC must 

be forward-looking because changes in monetary policy affect the 

economy with a lag. In making its assessment of the likely trajectory for the economy and the risks around that trajectory, the 

FOMC monitors a wide range of economic and financial indicators, 

including measures of spending and production in various sectors 

of the economy, labor market indicators across sectors and regions, 

measures of price and wage developments, and financial variables 

that shed light on the financing conditions faced by businesses and 

households, as well as overall conditions in the financial system. 

Q.5. Mr. Chairman, you and the Federal Reserve have said repeatedly that QE2 related purchase will end in June. Do you still plan 

for that to be the case—for QE2 to definitely end in June? What 

factors would dissuade you from pursuing that course? 

A.5. Yes, at its most recent meeting, the FOMC announced that the 

Federal Reserve will complete purchases of $600 billion of longerterm Treasury securities by the end of the current quarter. Of 

course, going forward, the FOMC will continue to monitor a wide 

range of economic and financial indicators and assess their likely 

implications for the achievement of its objectives. 

Q.6. There are long term risks and short term benefits associated 

with the policy of QE2. How do you appropriately balance the short 

term benefits the long term risk? 

A.6. The main benefit the FOMC saw to the new asset purchase 

program was that by providing additional monetary accommodation, the purchases would help to support the attainment of the 

Federal Reserve’s statutory goals of maximum employment and 

price stability. As I noted earlier, the FOMC’s decision last fall to 

undertake a second round of large scale asset purchases reflected 

its judgment that, while the economic recovery was continuing, 
63 

progress toward meeting the FOMC’s dual mandate of maximum 

employment and price stability had been disappointingly slow. 

Moreover, in the absence of additional policy stimulus, there was 

a risk that further adverse shocks to the economy could lead to deflation—that is, to falling prices and wages—and a protracted period of economic weakness. 

However, as you note, the benefits of the asset purchase program 

need to be weighed against the associated risks. One risk was that, 

given our relative lack of experience with this policy tool, we did 

not have very precise knowledge of the quantitative effect of 

changes in our holdings of longer-term securities on financial conditions and on the economy. This uncertainty about the quantitative 

effect of securities purchases increased the difficulty of calibrating 

and communicating the policy response, and it made a flexible, conditional approach to the new purchases attractive. As a result, the 

FOMC, while noting its intent to purchase $600 billion of Treasury 

securities by the end of the second quarter of 2011, emphasized 

that it would regularly review the pace of its securities purchases 

and the overall size of the asset purchase program in light of incoming information and adjust the program as needed to best foster its statutory goals of maximum employment and price stability. 

Ultimately, the FOMC decided to complete the program as originally announced. 

Another concern associated with our securities purchases is that 

substantial further expansion of the Federal Reserve’s balance 

sheet might reduce public confidence in the ability of the Federal 

Reserve to execute a smooth exit from its accommodative policies 

at the appropriate time. Even if unjustified, such a reduction in 

confidence might lead to an undesired increase in inflation expectations. However, the Federal Reserve has expended considerable effort in developing the tools needed to ensure that the exit from 

highly accommodative policies can be smoothly accomplished when 

appropriate, and I am confident that those tools are ready for use 

when needed. By providing clarity to the public about the methods 

by which the FOMC will exit its highly accommodative policy 

stance—which we have done through speeches and testimonies by 

FOMC members—the Federal Reserve can help to anchor inflation 

expectations and so help to foster our dual mandate. 

Q.7. One thing that I am deeply concerned about is how the Federal Reserve will deal with inflationary pressure. The Fed’s extraordinary response to the financial crisis has exposed itself to potential losses that would be exacerbated by any attempt of the Federal Reserve to fight inflation—with the average cost of gas already 

on the rise ($3.19/gallon last week)—is something you will have to 

address in the very short term. How do you, Mr. Chairman, plan 

to fight inflation without increasing the losses you would take on 

interest rate sensitive assets the Fed now owns because of your 

previous actions? 

A.7. The Federal Reserve is unwaveringly committed to carrying 

out its dual mandate to promote price stability and maximum employment. Although increases in energy prices over recent months 

have boosted headline inflation in the near term, inflation is likely 

to moderate substantially over the intermediate term given that 
64 

measures of underlying inflation are subdued and long-run inflation expectations remain stable. At the same time, the unemployment rate is quite high and seems likely to return to a more normal level at a very gradual pace. Based on this outlook, the FOMC 

decided at its most recent meeting that it was appropriate to maintain its very accommodative stance of monetary policy. However, if 

the inflation outlook were to worsen appreciably, the Federal Reserve has the will and the tools to remove monetary accommodation as needed on a timely basis. As discussed in more detail below 

in response to Question 10, the removal of policy accommodation 

could result in some losses on sales of securities. However, we expect that any such losses would be more than offset by interest income generated by the Federal Reserve’s securities portfolio. In all 

cases, the Federal Reserve’s monetary policy decisions will be guided solely by its statutory mandate to foster maximum employment 

and price stability. 

Q.8. On January 6, 2011, the Federal Reserve quietly announced 

a significant change to its accounting rules. Reuters reported that 

rule change ‘‘was tucked quietly into the Fed’s weekly report on its 

balance sheet and phrased in such technical terms that it was not 

even reported by the financial media when originally announced on 

January 6.’’ 

The change itself was buried in footnote 15 of supplemental table 

number 10. The footnote states: ‘‘15. Represents the estimated 

weekly remittances to the U.S. Treasury as interest on the Federal 

Reserve Notes or, in those cases where the Reserve Bank’s net 

earnings are not sufficient to equate surplus to capital paid-in, the 

deferred asset for interest on Federal Reserve notes. The amount 

of any deferred asset, which is presented as a negative amount in 

this line, represents the amount of the Federal Reserve Bank’s 

earnings that must be retained before remittances to the U.S. 

Treasury resume. The amounts on this line are calculated in accordance with the Board of Governors policy, which requires the 

Federal Reserve Banks to remit residual earnings to the U.S. 

Treasury as interest on Federal Reserve notes after providing for 

the costs of operations, payment of dividends, and the amount necessary to equate surplus with capital paid-in.’’ 

Does accounting change mean that Treasury, and therefore the 

U.S. taxpayer, is now in a first-loss position should the Fed become 

book-value insolvent as a result of potential losses that might be 

incurred on asset sales as part of its efforts to absorb the excess 

liquidity the Federal Reserve has injected into the financial system? 

A.8. The financial relationship between the Federal Reserve and 

U.S. Treasury was not affected by this accounting change. Instead, 

the accounting change was made to present that financial relationship in the weekly release more clearly and similarly to how it is 

presented in the Federal Reserve Banks’ annual audited financial 

statements. 

As noted in the footnote to which your question refers, the Board 

requires the Reserve Banks to remit excess earnings to the Treasury as interest on Federal Reserve notes after providing for the 

costs of operations, payment of dividends, and reservation of an 
65 

amount necessary to equate surplus with capital paid-in. This practice has been in effect since 1964 and has not changed. The Board 

requires these remittances to be made by each Reserve Bank weekly unless that Reserve Bank’s earnings are less than the total of 

these three elements. In those cases, remittances are suspended 

until earnings again exceed the three elements. The U.S. Treasury 

and the taxpayer have always been the beneficiaries of Reserve 

Bank earnings. 

The accounting change implemented in January essentially requires Reserve Banks to record their obligation to remit excess 

earnings to the U.S. Treasury as a liability each day, rather than 

only at year-end. This accounting treatment is consistent with generally accepted accounting principles and more clearly presents 

each Reserve Bank’s obligation to remit earnings to the Treasury. 

Previously, unremitted earnings were reflected on the Reserve 

Bank balance sheets as ‘‘other capital’’ pending ultimate reclassification at year-end to the appropriate surplus and liability accounts. The accounting change ensures that the Reserve Banks’ 

weekly balance sheets clearly reflect the capital position of each 

Reserve Bank and the amount of that ReserveBank’s earnings yet 

to be remitted to the Treasury. 

Your question related to the possibility that a Reserve Bank’s liability for remittances to the Treasury would be negative and represented as a deferred asset. This occurs when earnings are less 

than the three elements noted above and remittances have been 

suspended. Just as Reserve Bank earnings above those elements 

create a liability for the amount to be remitted, earnings less than 

those elements create a deferred asset for the amount of future 

earnings that will be retained before remittances will resume. 

Q.9. Do these accounting changes really prevent the Federal Reserve from being bankrupt? Is it appropriate that the Federal Reserve is allowed to make this sort of dramatic change to how it 

keeps its book without any oversight or approval from anyone? 

A.9. The accounting changes have no bearing on the fundamental 

financial condition or solvency of the Reserve Banks. As stated previously, the accounting change made in January aligned our weekly 

accounting practices with our year-end accounting practices and 

generally accepted accounting principles. The Reserve Banks continue to receive clean annual audit opinions from the external auditors. The accounting for the distribution of excess earnings is designed to be transparent and show clearly the economic substance 

of the distribution policy each week. The change has no impact on 

the financial operations of the Reserve Banks. 

Q.10. Mr. Chairman, were these changes made because of the increasingly significant exposure to interest rate risk, through the acquisition of mortgage-backed-securities and long-term Treasuries 

due to Fed actions during the financial crisis and QE2? 

A.10. No. The changes to Federal Reserve accounting policy were 

made to provide greater transparency regarding Federal Reserve 

income and remittances to the U.S. Treasury. Regarding the Federal Reserve’s interest rate risk, the Federal Reserve’s System 

Open Market Account (SOMA) portfolio currently has an overall 

unrealized gain position of about $70 billion. An increase in inter-
66 

est rates and a decline in the market value of the securities in the 

portfolio could result in unrealized losses for the portfolio. However, the Federal Reserve does not realize losses on its portfolio unless a security is sold. As a result, even if the securities in the 

SOMA portfolio were to decline in value, there would be no implication for Federal Reserve earnings unless the assets are sold. Moreover, we currently expect that any realized losses on any potential 

sales of securities would be more than offset by the substantial interest income that the Federal Reserve earns, and is expected to 

continue to earn, on the SOMA portfolio. If interest rates were to 

rise more than is implied by current market rates, or if the Federal 

Reserve were to sell assets relatively rapidly, realized losses would 

be higher than expected, reducing the Federal Reserve’s net income. While there may be scenarios in which asset sales could lead 

to realized losses that exceed net interest income, those scenarios 

seem very unlikely. Moreover, any reduction in Federal Reserve net 

income resulting from realized losses on securities holdings would 

most appropriately be viewed in the context of the very sizable Reserve Banks remittances to the Treasury over the past few years, 

much of which reflects the large-scale asset purchases that have 

been pursued by the FOMC to foster the goals of monetary policy. 

Q.11. Mr. Chairman, this time last year you were asked about your 

thoughts about the GSEs—Fannie Mae and Freddie Mac—and 

what sort of time frame we [Congress] should try to come up with 

a solution—6 months? 9 months? End of the year? 

In response, you said, ‘‘Well, the sooner you get some clarity 

about where the ultimate objective is, the better.’’ 

Here we are a year later and the administration has just released its plan—which is more of a menu of options than a plan. 

Do you think the lack of clarity from Congress on the future direction of the economy is having an adverse impact on the housing finance market? 

A.11. Greater clarity from the Congress on the direction of housing 

finance in the United States would have a positive effect on mortgage markets. Market participants would be better able to plan for 

the future if they knew what institutions and policies were likely 

to be important in coming years. 

Q.12. As you know between FHA and Fannie Mae and Freddie Mac 

the Government is originating roughly 95 percent of new loans in 

the market today. Do you think Congressional action on GSE reform could help reinvigorate the private mortgage lending sector? 

A.12. Congressional action on GSE reform could help reinvigorate 

the private mortgage lending sector. As described in the recent Department of the Treasury Report to the Congress on ‘‘Reforming 

America’s Housing Finance Market,’’ the Administration lays out 

three options for moving forward with the reform of Fannie Mae 

and Freddie Mac. These options are reasonable and feasible approaches for reforming mortgage finance. By presenting these options, the report appropriately leaves to Congress the question of 

the extent of Government involvement in mortgage markets. By 

settling on an approach for managing future Government involvement in mortgage markets, Congress would also provide the pri-
67 

vate mortgage sector with important information about its future 

role in housing finance. 

Q.13. Some have criticized the Obama administration for suggesting that the Government should be completely removed from 

the housing finance market. One industry group (the National Association of Realtors) has said, ‘‘The Obama administration and 

some members of Congress want to turn the clock back on the 

housing market to the 1930s, turning us into a Nation of renters 

and making home ownership something that only the rich can afford.’’ Do you think that is a fair criticism or is that hyperbole from 

people who are addicted to the current system of subsidy for housing? 

A.13. The Administration’s housing finance reform proposal rejects 

privatization of the housing markets. As its states, ‘‘Complete privatization would limit access to, and increase the cost of, mortgages 

for most Americans too dramatically and leave the Government 

with very little it can do to ensure liquidity during a crisis’’ (page 

26). Instead, the Administration proposes three options that have 

less Government involvement in mortgage markets than in the 

past, but still have a significant role for Government. The options 

presented in the Administration’s proposal strike a balance between access to mortgage credit, incentives for housing investment, 

taxpayer protection, and financial stability. 

Q.14. Given the fact that jumbo 30-year fixed-rate mortgages existed before the crisis, don’t you think it’s likely that a strictly private housing finance market would offer a 30-year fixed-rate product, though maybe at a slightly higher priced than in the past? 

A.14. A strictly private market is likely to offer a 30-year mortgage 

that is somewhat more costly than such mortgages in the past, but 

such mortgages may only be available during good economic times. 

Fannie Mae and Freddie Mac did not dominate the mortgage markets until the late 1980s, but the 30-year mortgage was offered to 

mortgage borrowers prior to that time. Moreover, the 30-year fixedrate mortgage is currently offered to borrowers in the jumbo mortgage market (without Fannie Mae or Freddie Mac guarantees). 

Therefore, some evidence strongly suggests that the 30-year mortgage is a product that can be provided by the private sector. However, it seems unlikely that the 30-year fixed-rate mortgages would 

be available even at somewhat higher prices under all economic 

conditions. The implicit Government backing of Fannie Mae and 

Freddie Mac likely provides them with some significant advantages 

in funding and in hedging the interest rate risks associated with 

such mortgages, particularly during times of financial market turmoil. Jumbo mortgages were not available during the worst times 

of the most recent financial crisis, and when they became available 

in the latter part of the crisis, such mortgages were priced at very 

high spreads relative to Treasury yields. Thus, as suggested by the 

Treasury’s recent white paper, some form of Government backing 

may be needed to maintain reasonable 30-year fixed-rate mortgage 

rates and a steady supply of mortgage credit during times of substantial financial stress. 

Q.15. First, does he support age discrimination? 
68 

A.15. No. The Board complies with the Age Discrimination in Employment Act of 1967 (ADEA). The ADEA and the implementing 

regulations of the EEOC authorize employers to impose mandatory 

retirement based on age in limited circumstances and the Board 

policy referred to below complies with the ADEA. (See 29 USC 

§631(c) and 29 CFR §1625.12.) 

Q.16. Why does the Board of Governors require the regional Feds 

to have a mandatory retirement age? 

A.16. The Reserve Banks are private entities for purposes of the 

ADEA. Accordingly, as is the case in many private firms, the Reserve Banks follow a policy of mandatory retirement of the type 

that is expressly permitted under the ADEA, as passed by Congress. (See 29 USC §631(c).) The ADEA permits private employers 

to require the retirement of any employee who has attained 65 

years of age, and who, for the 2-year period immediately before retirement, is employed in a bona fide executive or higher policymaking position, if such employee is entitled to an immediate nonforfeitable annual retirement benefit from a pension, profit-sharing, 

savings, or deferred compensation plan, or any combination of such 

plans, of the employer of such employee which equals, in the aggregate, at least $44,000. An employee within this exemption can lawfully be required to retire at age 65 or above. 

The mandatory retirement policy adopted by the Board applies 

only to the two most high level officers at the Federal Reserve 

Banks, the President and the First Vice President, and meets all 

of the conditions for mandatory retirement under the ADEA, as 

noted above. The Board’s mandatory retirement policy is intended 

to enable successors to move into these positions at an earlier age 

than might have been the case without the policy. Moreover, when 

successors have come from within the organization, earlier turnover at the top has meant earlier advancement, as well as the possibility of increased advancement opportunities for other officers 

whom the Federal Reserve needs to retain. On the other hand, a 

fixed mandatory retirement age without due regard for tenure may, 

on balance, require a frequency of turnover that may be more disruptive than beneficial, and may require an individual to retire 

when he or she is becoming able to make the greatest contribution. 

As a result, Board policy requires Reserve Bank presidents and 

first vice presidents to retire at age 65 or after 10 years in their 

positions, whichever is later, up to age 75. 

Q.17. Is there a similar age restriction on the Board of Governors? 

A.17. No. Tenure of service on the Board of Governors is governed 

by the terms set by Congress in the Federal Reserve Act. Members 

of the Board are limited in how long they may serve. Under the 

Federal Reserve Act, both the Chairman and Vice Chairman of the 

Board serve in this position for a term of 4 years and may only continue as Chairman/Vice Chairman if the then sitting President renominates them for office and the Senate confirms the appointment. All Members, including the Chairman and the Vice Chairman, are appointed to complete fixed terms of 14 years, which start 

and expire in staggered fashion. Upon the expiration of their terms, 

Members may continue to serve until their successors are appointed and have qualified. 
69 

Q.18. Do you support the mandatory retirement age for regional 

Feds? 

A.18. Yes. The Board’s mandatory retirement policy for Presidents 

and First Vice Presidents of Federal Reserve Banks has provided 

a beneficial balance between tenured policy makers and incoming 

executives with new perspectives, while providing for reasonable 

advancement opportunities for others within the organization. As 

noted above, the Board’s policy complies with the terms of the 

ADEA as enacted by Congress and the EEOC’s implementing regulations. 

Q.19. Do you support giving Federal Reserve Board of Governors 

their own staff? 

A.19. All staff of the Board of Governors report to, and perform 

work for, all members of the Board, and any Board staff may be 

called upon by any Member to perform work for them in furtherance of official Board functions. In addition, the Board has established delegations of authority which assign responsibility for 

Board operations to various Members of the Board. Staff who work 

within these areas of responsibility report directly to the Member 

who has oversight responsibility for the relevant Board function. 

Members determine the performance ratings of high level staff 

within their oversight area and are able to request additional resources for their areas of responsibility if they consider such resources necessary to carrying out the function. Final determinations on staffing and funding levels are voted on by the full Board, 

with each Member having an equal vote on the ultimate outcome. 

Q.20. How can other Governors exercise independent judgment 

when they have to rely on information fed to them by your staff? 

A.20. As noted above, Board staff do not work solely for the Chairman. Board staff report to, and perform work for, all members of 

the Board based on the duties the Board member performs for the 

Board. 

Q.21. Don’t you think, in a crisis such as the one the Federal Reserve just dealt with, that you would have been better served if the 

other Governors had additional resources with which to make their 

decisions? 

A.21. The Members of the Board worked collaboratively, creatively, 

and diligently, to address the issues raised by the financial crisis. 

In addition, staff of the board worked with all Board Members to 

identify and address concerns. The result, in my estimation, led to 

a very successful series of policy decisions. All Members of the 

Board have an equal vote on the Board’s budget, which is what determines the level of resources available to carry out the Board’s 

functions. 

RESPONSES TO WRITTEN QUESTIONS OF SENATOR WICKER 

FROM BEN S. BERNANKE 

Section 1 

Q.1. The Federal Reserve is the primary regulator for the largest 

U.S. banks and one of the regulators most concerned about 

securitization, which affects not only the health of those banks but 
70 

the U.S. financial system in general. I am very concerned that the 

mortgage backed securities (MBS) market has no standards and no 

real working structure, and these problems affect not just financial 

institutions’ ability to monitor and value the MBS they hold but 

also regulators’ ability to understand what is happening with the 

institutions they are regulating. 

In your earlier testimony, you mentioned the steps that regulators are taking to make sure that mortgages are better underwritten, such as the ‘‘qualified residential mortgage’’ definition, national servicing standards, and possible improvements to credit rating agencies’ performance. However, I would like you to focus on 

potential problems with the securities and not the underwriting of 

mortgages in response to my questions. 

Each set of securities has its own pooling and servicing agreements, its own definitions of such fundamental concepts of delinquency and default, and its own internal plumbing mechanisms as 

to how cash flows work. Can you describe the challenges banks 

have in placing values on their MBS holdings when it is difficult 

to compare to other MBS holdings that have different standards? 

A.1. MBS valuation has two important components: the projection 

of cash flows and the identification of appropriate discount rates 

based on portfolio and market information. Banks investing in 

MBS should analyze the terms and conditions of Pooling and Servicing Agreements (PSAs) governing the transactions in order to understand the cash flow waterfall and other factors that affect the 

value of these securities. While there is a greater degree of standardization in PSAs for securities issued by the Government sponsored entities (GSEs), thereby facilitating the valuation of these securities, there is less standardization in the private label MBS 

market, thereby making the valuation of private label MBS somewhat more complex. These differences include potential loss mitigation strategies and payment advance requirements for delinquent 

loans as well as other items that give the service some level of discretion in the private label MBS market. Additionally, the underlying representations and warranties and requirements for originators to repurchase mortgage loans not meeting the representations 

and warranties may vary widely among private label MBS deals. 

These differences are more acute in private label deals than in 

issuances involving the GSEs. Further, there can be significant 

structural differences between issuances of private label MBS that 

need to be considered such as the number of junior classes and the 

amount of subordination. 

There are a number of challenges in projecting cash flows, including but not limited to mortgage prepayment speeds, uncertainty about housing values, the willingness of borrowers without 

significant equity to continue to service their mortgage debt, resolution of documentation issues around the foreclosure process, and 

differences in the quality of servicer data and servicer practices. 

Q.2. When there are no standard classifications of mortgages into 

basic categories such as ‘‘prime,’’ ‘‘subprime,’’ and ‘‘alt-A,’’ how can 

banks, investors, and regulators be sure about what kind of mortgages are in these securities? Without standards, is it possible for 
71 

the underwriters to throw the poorest quality mortgages into securities with good marketing labels? 

A.2. The Federal Reserve Board staff agrees that these classifications for mortgages are often subject to interpretation and there is 

a lack of clear specifications for different mortgage credit classifications. MBS materials and transactional documents should contain 

clear definitions and detailed disclosures regarding the credit quality of underlying mortgage loans to help protect against potential 

abuses from mortgage underwriters and MBS issuers. In addition, 

loan data should be provided far enough in advance of offering 

dates to give investors adequate time to analyze the credit risk of 

the portfolio. (This issue has been partially addressed by the Securities and Exchange Commission (Commission) through, for example, its Regulation AB.) While the use of standardized classifications for mortgage credit quality may be a partial solution, additional disclosure regarding the credit quality of the underlying 

loans would enhance the ability of investors to make a more granular and independent assessment of risk. 

Q.3. Is it true that there is no loan-level data on MBS generally 

available to banks, investors, and regulators who purchase MBS? 

A.3. PSAs generally do not require servicers to provide monthly 

loan-level data to investors in MBS. Servicers usually provide a 

monthly cash flow report to investors that summarizes the performance of the underlying mortgage pools. These monthly investor 

reports include information on the total amount of principal and interest collected on the portfolio, delinquent loans, including the severity of delinquencies, servicing and other fees charged by the 

servicer, and other information. However, such reports may not always contain all relevant data, and investors often utilize information from third party data providers to analyze the performance of 

MBS. Implementation of revisions to Regulation AB by the Commission should also help improve the amount and standardization 

of performance data available to investors. 

Q.4. Is it true that most MBS are sold through private placements 

rather than public offerings, which means that important legal documents for MBS are not generally available to banks, investors, 

regulators, and the public, making it impossible for anyone except 

the underwriter and the original purchaser of the securities to completely understand the assets making up the MBS? 

A.4. Prior to the mortgage crisis, the vast majority of private label 

MBS were issued using publicly registered shelves. Very few issues 

were privately placed. However, the private placements issued during that time posed problems for investors. Most investors who initially purchased the offering did not receive the private placement 

memo until after the trade date. Also, monthly loan performance 

data is generally not available to new investors after a private 

placement. Under the terms of private placements, investors are 

not entitled to the data unless they own the securities, thereby 

complicating the purchase and sale of these securities in the secondary market. The Commission’s proposed enhancements to Regulation AB are designed to address this problem by requiring issuers 

to provide investors in both public deals and private placements 

with better access to monthly loan performance data. 
72 

Q.5. Without information and good analysis as to what these securities are worth, how can regulators have confidence that the banks 

with MBS holdings are able to value them correctly? 

A.5. A holder of actively traded MBS has access to market bid and 

ask prices to value these investments. As part of the examination 

process, regulators assess the processes and methods banks use to 

value their securities relative to the prices for these securities in 

the marketplace. The absence of adequate monthly data and the 

sometimes imprecise terms of PSAs create uncertainty in valuing 

less liquid assets, particularly where bid and ask prices are not 

readily available in the market. Banks and other investors employ 

cash flow models to estimate the expected cash flows from these securities in order to determine the present value and price of the securities. Examiners evaluate the assumptions and have the ability 

to challenge or change the assumptions, if necessary. 

Q.6. Is it true that Fannie Mae and Freddie Mac already have 

standard legal documents—like pooling and servicing agreements— 

for the MBS that they guarantee? Has this contributed to these entities sponsoring the only MBS that investors are buying right 

now? Should the private MBS market have similar standard legal 

documents and structures? 

A.6. Fannie Mae and Freddie Mac have standardized terms for the 

pooling and servicing agreements for the mortgages they guarantee. Minor variations exist among servicers. However, this standardization in the pooling and servicing agreements is not likely a 

rationale for investors to purchase GSE-issued MBS. Investors purchase GSE securities because of the Government guarantee as well 

as the absence of private label mortgage backed securities in the 

market currently. The private label market would benefit from 

standardized pooling and servicing agreements once that market 

restarts. 

Section 2 

Q.1. The banks and investors that buy MBS rely on the representations and warranties on the underlying mortgage loans being met 

and for servicers and trustees to enforce remedies for banks and investors if they are not met. 

Is it true that the servicers of MBS mortgage pools are responsible for detecting breaches of these representations and warranties 

and for putting loans that do not meet them back to originators, 

who often are the servicers’ affiliates? Is this a fundamental conflict of interest? 

A.1. Under most existing PSAs, servicers do not have the responsibility to review every loan file for violations of representations and 

warranties or to put the loans that violate representations and 

warranties back to the originator. However, servicers do have the 

responsibility to report loans found in violation of representations 

and warranties in the normal course of business to the bond trustee and the originator. When notified, the originator has the obligation to repurchase the loan or cure the violation. Investors in private label MBS have filed a number of lawsuits alleging, among 

other claims, that the underlying loans contain breaches of representations and warranties and that the servicers have breached 
73 

their fiduciary duty to require originators to repurchase these 

loans. Much of this litigation is still in its early stages, and at this 

time, it is difficult to predict its ultimate impact. 

Q.2. Is it true that the trustees of MBS mortgage pools provide little to no protection for the banks you regulate that invest in MBS, 

as the trustees are selected and paid by the underwriter, generally 

insist on being indemnified for everything, and are generally required to do very little when the mortgage pool is not being serviced properly? 

A.2. Federal Reserve Board staff understands that there have been 

complaints from MBS investors regarding trustees and the terms 

of trust agreements. Existing agreements can often provide broad 

indemnifications to trustees. Additionally, trustees are generally 

not obligated to initiate broad investigations of loan files for 

breaches of representations or warranties under these agreements, 

unless a substantial number of investors petition the trustee. The 

industry will need to come to agreement on any appropriate 

changes to trust and PSA agreements in order to address investors’ 

concerns. 

Q.3. Do you believe that Congress should consider requiring legally 

and financially meaningful protections for the banks you regulate, 

and for investors, when they buy MBS and the underlying mortgage quality is not as it was represented by the underwriter? 

A.3. The Federal financial industry regulators are discussing the 

content and extent of guidance on mortgage servicing standards 

that can help address issues that have arisen in the mortgage and 

MBS markets as a result of the recent financial crisis. The group 

may develop solutions that could be implemented through banking 

supervision and regulation. In circumstances where the scope of 

bank regulatory authority is limited, the agencies may make recommendations to Congress for further action, if appropriate. 

Q.4a. What do you believe the implications would be for the private 

mortgage finance market as the Government pulls back from its 

support? 

A.4a. Federal Reserve Board staff can see the benefit of standardized guidelines for certain types of mortgages eligible for 

securitizations. However, these guidelines would need to be one 

component of an overall housing finance strategy in the United 

States. The final determination of the role of Freddie Mac and 

Fannie Mae as well as FHA in the MBS market will determine the 

course of the private label MBS market. As you may know, a number of standardization efforts are under way. The American 

Securitization Forum (ASF), through its Project Restart, has a goal 

to standardize the PSA agreements. The Commission has proposed 

changes to Regulation AB as noted above. 

Q.4b. Mandated standardization of mortgage categories for 

securitization and of the legal documents that govern MBS. 

A.4b. Generally, transparency and disclosure about the financial 

contracts is helpful for improving the operation of markets for financial assets. However, mandating the details of contracts among 

private market participants may or may not be helpful depending 

on the circumstances. For example, standardization can at times be 
74 

helpful and improve the market liquidity of some financial assets. 

At other times, however, standardization may impede financial innovation and hinder market liquidity if the standards are too inflexible or not designed to meet new or evolving market changes. 

Thus, the details of any particular approach to financial market 

transactions or contracts have to be known and studied to know if 

such actions help or hurt financial market performance. Such details are also important for helping to define the appropriate role 

for GSEs in such markets. 

Q.4c. Better disclosure of MBS data and the legal documents. 

A.4c. The Federal Reserve Board supports greater transparency 

and disclosure of MBS data and legal documents. For example, investors need other avenues to access monthly mortgage loan data 

other than Bloomberg and Loan Performance. In addition, the Federal banking agencies, the Commission, the Federal Housing Finance Authority, and the Department of Housing and Urban Development are working together on issuing proposed rules to require 

that a securitizer retain an economic interest in a material portion 

of the credit risk for any asset that it transfers, sells, or conveys 

to a third party. These rules would require certain mandatory disclosure requirements in securitizations transactions involving MBS 

that are designed to enhance the information available to investors. 

Q.4d. Meaningful remedies for banks and investors of MBS if the 

underlying mortgage quality is worse than was originally as promised. 

A.4d. Securitization documents should provide a framework that 

permits investors to access loan files so that they can confirm completeness and compliance with the representations and warranties. 

The Federal Reserve Board supports a securitization framework 

that would ensure effective oversight of compliance with 

securitizers’ representations and warranties. 
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ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD
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